Thursday, October 16, 2008

Politicians and Taxes

Since you can't trust anything you hear from any politician I decided to do the work myself. Here are the results. You can be the judge of what is "fair" and what is not.

Gross Income Tax Due
$16,250 -$4,710...that's right. A negative which means a refund from the
earned income tax credit. This assumes Social Security tax too.
$52,000 $4,399 Again, assumes the FICA (i.e. Social Security tax).
$99,000 $15,710 2 times the income, 3.5 times the taxes.
$300,000 $85,970 This is assuming a small business owner. Doesn't include the
amount of money she pays for her employee's FICA.
$1 Million $316,584 Again, small business owner, not including employee's FICA.
$1 Million $132,123 Only capital gain income. This is why Warren Buffett says he
pays less % than his secretary.

Is it fair if you make 3 times more than your neighbor, you pay 5.5 times more in taxes? Or if you make 10 times more, you pay 20 times more taxes? You can decide. But those are the real numbers.

I think what people are missing is the definition of "rich". If you just came out of school and you are a new family doctor making $150,000 and your spouse opened a small business making $100,000 you are "rich" according to one candidate. Even though you may have a small business loan for $100,000 and medical school loans for $100,000 and little to no net worth. These are the people trying to get rich. Should you penalize them? Warren Buffett takes little if any salary because he doesn't need it. So, what should the definition of "rich" be? Politicians have always used income. Do you think that is right?

I don't mind paying my "fair" share of taxes. I just want it to be fair.

So, if this redistribution of wealth works so well...hell, let's do it everywhere! Warren Buffett said himself the average American has a higher standard of living now than ever before and is living better than John D. Rockefeller. So let's have all those $52,000 income people give up $5,000 of that to give to people in third world countries since they're doing so much better. After all, according to, they are in the top 1% income earners on the planet.

Wednesday, October 1, 2008

I Couldn't Have Said It Better Myself

How to Start the Healing Now
Fix accounting rules and private money will come.

The most amazing paradox of 2008 is the continued growth of the U.S. economy and the sorry state of the U.S. financial markets. Despite major financial-market problems, real GDP has increased by 2.1% in the year ended in the second-quarter -- 3.1% if we exclude housing. Not everything is great, but we all must agree that the economy has remained remarkably resilient.
This paradox works both ways. Financial problems have not yet dragged down the economy, but it is also true that the economy is not the cause of financial-market problems. Most of the loans that have been going bad in recent months would have gone bad even if the economy had been growing twice as fast. So what is to blame for the "worst financial crisis since the Great Depression"?
The answer seems simple. Mark-to-market accounting rules have turned a large problem into a humongous one. A vast majority of mortgages, corporate bonds, and structured debts are still performing. But because the market is frozen, the prices of these assets have fallen below their true value. Firms that are otherwise solvent must price assets to fire-sale values. Not only does this make them ripe for forced liquidation, but it chases away capital and leads to a further decline in asset values.
For example, the prices of assets on the books of Washington Mutual, when it was bought by J.P. Morgan at a fire-sale price, were cited as a reason to mark-down the assets on the books of Wachovia. This, some say, forced the FDIC to arrange its sale to Citibank.
The same is true of what happened to Fannie Mae and Freddie Mac, which had positive cash flow when they were nationalized by the Treasury. Here's something you won't believe: Fannie Mae and Freddie Mac have not drawn a dime from the Treasury's $200 billion facility that was created to bail them out. It was the use of mark-to-market accounting that allowed Treasury to declare them bankrupt. On a cash flow basis, they were solvent.
Mark-to-market accounting causes so much mayhem because it forces financial firms to treat all potential losses as if they were cash losses. Even if the firm does not sell at the excessively low price, and even if the net present value of current cash flows of these assets is above the market price, the firm must run the loss through its capital account. If the loss is large enough, then the firm can find itself in violation of capital requirements. This, in turn, makes it vulnerable to closure, nationalization or forced sale.
Because the government has been so aggressive with the use of these capital regulations, private capital has been scared away. Just about the only transactions taking place in the subprime marketplace have been sales to private equity firms that do not have to mark assets to market prices. Their investors agree to commit capital for the long haul, and because they are able to bend the current holders of these assets over the knee of the accounting rules they get prices that virtually guarantee a huge profit.
Despite all this evidence, the government has yet to provide relief from mark-to-market accounting. However, the Financial Accounting Standards Board will meet today to discuss potential changes. One thing it ought to consider is that the Treasury plan tips its hat to the problem by acknowledging that its goal is to put a floor under distressed security prices. Warren Buffet understood this and invested in Goldman Sachs before the law had passed, but with full expectation that it would. Other investors will follow. There is no shortage of liquidity in the world.
Nor would relaxing mark-to-market rules temporarily in the U.S. -- let's say for three years, for troubled assets issued between 2003 and 2007 -- undermine our standing internationally, as some allege. If a $700 billion bailout fund and the takeover of Fannie Mae, Freddie Mac and AIG have not already undermined foreign confidence, then nothing will. On the same day the bailout bill failed in the U.S. House of Representatives, the dollar soared.
Another argument is that changing the accounting rules is like sweeping the problem under the rug, which could lead to a Japanese-style decade of lost growth. However, back in the 1990s, Japan took six years to get real overnight lending rates below zero. It also increased tax rates. This was what caused Japan's lost decade -- a policy-induced deflationary recession, not just an unwillingness to book losses.
But it took the Federal Reserve only six months to cut real rates below zero, starting last September, and U.S. tax rates are unlikely to be hiked anytime soon. Even Barack Obama says he would not raise taxes in tough economic times. As a result, the U.S. is not anywhere near the kind of environment that would allow that to happen. Nor will relaxing mark-to-market rules allow losses to be hidden or ignored. Basing prices for illiquid assets on cash flows would still reflect impairment, but not allow them to dip down to fire-sale levels.
Once private investors know they cannot be taken out by accounting rules and illiquid markets, their cash will flow freely. And if the real issue is to find a proposal that will help fix the problems in our financial markets urgently, then the current Treasury plan fails the test. Because of government bureaucracy and legal issues, the first purchases by the Treasury plan will not be made for at least two weeks and possibly four weeks. Mark-to-market accounting changes could start the healing overnight and prevent the U.S. from moving further away from free-market capitalism.

Mr. Wesbury is chief economist at First Trust Portfolios L.P.

Tuesday, September 30, 2008

I Would Never Say "I Told You So"

Look back at the April 23rd post. Then read the following from Yahoo:

The CRB Index, which measures a basket of 19 commodities, is down 26% due to concerns of a global slowdown and an unwinding of speculative positions during the recent turmoil. The hardest hit commodities include natural gas (-46.9%), soybean oil (-34.4%) and corn (-31.2%). The best performing commodities are lean hogs (+12.2%), sugar (-3.6%) and gold (-5.5%). Crude oil is down 29%.

Thursday, September 25, 2008

Bailout?!? What's Really Going On?

I've always been a supporter of free market capitalism, but lately I've had my values tested. Listening to many people much smarter than I am saying we need some sort of "bailout" or our economy will be in jeopardy. But I finally found someone with my same values to help me out and keep things in perspective. He's Brian Wesbury, chief economist for First Trust. You can read his stuff at . Since he is an economist, I'll try to put things in simple terms.

First, when you get a mortgage, a bank originates that loan. Nowadays, they usually don't hold the loan, they package those up and sell them to investors. In those packages, there are all sorts of mortgages bundled together, it's very hard to determine what the value is of those loans. There are people with excellent incomes and credit history and there are sub prime or liar loans in there. The thing I would like everyone to remember is 96%-97% of mortgages are being paid ON TIME! To me, value is what a buyer is willing and able to pay for something. Since this is a "crisis of confidence", nobody wants these loans and their prices are falling...really fast.

Second, OVER regulation by the government forces companies to use "mark to market" accounting. This means, if "the market" is currently valuing those assets at $0.22 on the $1 and you are an institution currently holding similar types of loans, you need to mark yours down to $0.22. Even though you may want to hold them forever! Again, because of over regulation, federal banking requirements force you to raise more money to shore up your balance sheet. It becomes a vicious cycle and snowballs...thus a "crisis of confidence". Mr. Wesbury uses the example if houses in your neighborhood were all worth $200,000 and you had a loan for $100,000. If one of your neighbors went bankrupt and sold their house for $75,000, your house would now be "valued" under mark to market at $75,000. The bank would come to you and say you need to raise an additional $25,000 and give it to us to even it out. Let's say you do that and then another neighbor went under and sold for $50,000. Now you need to mark yours down yet again and add another $25,000. But you may say, you never even want to sell your home. You'll stay in it forever. You couldn't do this for too long could you. Well neither can the banks.

Mr. Wesbury's idea is to temporarily stop the "mark to market" rules. Let things cool down and the panic to stop. 96%-97% are still paying their mortgages on time so maybe these investors WANT to hold their loans forever and not sell them. They certainly don't want to sell them at $0.22 on the $1.

This won't cost taxpayers one dime. This, along with strong language could prevent further panic.

Wednesday, September 24, 2008

Secrets of Investing

Benjamin Graham, author of The Intelligent Investor and Warren Buffett's teacher, said you need three things in order to become a successful investor:

1. Every time you buy a stock you need to think about it like you're buying the whole business and you're a business owner. Buying one share of Microsoft should be viewed the same as buying the corner pizza shop, let's call it Pizza Express. When you become a business OWNER, all you should care about is how much cash is in the cash register at the end of the day after all the bills have been paid. This is what the great investor Bruce Berkowitz says. That is all you can pocket as an owner.

2. Take advantage of Mr. Market whenever you can. Mr. Market was a man created by Benjamin Graham. He is completely crazy. It used to be every day, but now in the day of the internet it's every second, he is offering to buy you out of your Pizza Express business. He doesn't know what you paid for it. In fact, you paid $100,000 cash and have no debt on the business. He offers you $90,000 right now. Do you accept? Do you panic? You still have the same amount of cash in the cash register today. People are still buying pizzas. So you tell him to stick it where the sun don't shine. But he keeps coming back. $80,000...$75,000...$99,000...$105,000... So you have two choices. One, take advantage of him, buy more Pizza Express stores when the offering is low or two IGNORE HIM. There is no reason to watch the stock market daily, weekly, monthly, quarterly or even yearly. Warren Buffett said they could close the market for years and he wouldn't care.

3. Buy with a margin of safety. If your Pizza Express, which you paid $100,000 for, generates $10,000/year to you (and you don't work in it), that means after 10 years you'll have your investment back and start making money on your investment. This, of course, assumes no increase in your annual income nor any appreciation potential in the business. So buying with a margin of safety would say, I only want to pay $50,000 for this Pizza Express. That way, if people start buying less pizzas, or if costs of ingredients skyrocket or if "fill in your own" happens, then it won't take me so long to get my money back. Buying what you believe is a $100,000 business for $50,000 lowers your chances for a loss.

I think the main point of all of this is in trying to help investors control their behaviors, because controlling your behaviors is of utmost importance. As a business owner (stockholder), focus on the cash in the cash register. Stop listening to Mr. Market (watching stock prices) and buy or use managers who buy with a margin of safety. Then go golfing, fishing or hiking and enjoy your life. You'll only be following the advice of the greatest investor ever.

Signs of the Bottom Continued

1. Investors yanked more than $33 Billion out of stock mutual funds so far this year. This number surpasses the $27 Billion that investors took out in 2002...the year of the last bottom. The last year before 2002 with net redemptions was 1988 right after the crash of 1987. People love to buy high and sell low. They can't control their behaviors. That is why most people won't ever be rich.

2. Warren Buffett (the world's greatest investor if you didn't know) made a sizable investment($5 Billion) in Goldman Sachs. Warren loves to buy low. If these things aren't a buy signal from Heaven...I don't know what is.

3. There is a HUGE discrepancy in operating earnings for the S & P 500 (THE stock market). Top down is showing $58.87 for 2009. Top down takes a macro view of everything and the places a "guess" on what the economy is going to do as a whole. They have talked recession for over a year and we haven't been in one, but we may get there eventually. Bottom up earnings for 2009 are $104.63. This comes from individual analysts researching individual companies from the bottom up. Averaging analyst results for each company individually is showing a pretty darn cheap market right now. Could the media be producing so much misery?

Tuesday, July 29, 2008

Signs of the Bottom?

Is the market showing signs that it is bottoming? Let's take a closer look at the following interesting statistics:

The staggering balances in money market funds- The amount in money market funds (cash) has increased by almost 71% over the last two years. *Source: Investment Company Institute

Pimco Total Return (a bond fund) was the hottest selling mutual fund- The fund had net inflows of $14 billion just in the first six months of 2008.

9 out of the last 11 quarters had outflows of stock mutual funds- This means more people sold stock mutual funds than purchased stock mutual funds. Investors typically buy high and sell low. People typically give up on their stock investments when the “news” looks bad and that has historically been at the bottom.

The American Association of Individual Investors survey of bullish to bearish difference was more than 29 for the first time in years- In fact, only 13 times out of 1,040 times were investors this pessimistic. Average returns for the five years after each of these last 13 times were 81.3% for large cap stocks and 123.3% for small cap stocks. *Source: Al Frank and Morningstar

Investors Intelligence Sentiment Indicator hit a 14 year low- Subsequent average 12 month returns for similar readings were 15.82%. *Source: Dr. Jeremy Siegel “Stocks for the Long Run”

Be assured that all of this proves nothing-except that the mob is shunning equities as it rarely does and flocking to cash and bonds. The more (and the longer) it does so, the more bullish you should become.