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Minyan Mailbag - How Important is GM?


But I like this era...


Note: Our goal in Minyanville is to remove intimidation from the financial markets and encourage an interactive dialogue among the Minyanship. We share this next column with that very intent.

Prof. Succo,

Do you remember when the pending LBO of United Airlines (UAL) failed just prior to the U.S. economy heading into the 1990 recession? It was THE pivot point for the end of that era's exuberance.

Is General Motors (GM) "that" significant?

And by the way, the flight to quality into U.S. treasuries...

Is this the proverbial "out of the frying pan and into the fire", or does Central Bank intervention have staying power?

Minyan JW


I can remember it like yesterday. August 1989 I was running index option trading at Morgan Stanley. I was on the phone with one of our biggest clients talking about things when the news hit that the LBO for UAL was failing. The customer without missing a beat told me to sell something. I asked him what and he said, "it doesn't matter, just sell anything now."

He understood how everything was tied together, mostly through psychology. This one event could/would change that psychology and change it quickly. Oh some would resist, just like I remember during the crash of 1987 when some would try to make a stand into a declining market only to be the last to finally sell.

Market declines are normally accompanied by a dramatic increase in correlation between stocks. This is partly due to the psychology change when markets begin to decline (investors begin to see the downside in even the stocks they love) and partly due to "compression" created by the psychology of rising markets: over time as markets rise investors forget about risk and begin to ever so slowly increase the size of their positions. When markets turn they quickly realize that they cannot afford the losses. They have no choice but to sell.

The UAL LBO failure tied many investment banks (risk-arbitrage was a big profit center during those times on the sell side) and large funds together to the stock price of UAL . They were all outsized in risk on this deal and the losses forced them to sell other things.

I do not think GM, which is of course widely held, is in the same catagory: I don't think shareholders of GM are levered themselves as holders of UAL were. But the bondholders, many of which are pension funds, may present a systematic problem. Many large pension funds are already underfunded and this episode will not help matters. The rating agencies, which in my opinion are too deep in conflict of interest to provide objective ratings on debt, may finally be forced to downgrade GM's debt to a point where pensions may be forced to sell the paper. This will incur losses for the plans and create even more difficulty for GM. Will pensions respond by becoming more consevative or more aggressive in trying to make up the added losses? In this world, I just don't know.

What I do notice about the current trading environment is that we seem to be having small disasters with widely held companies a little more than periodically. As one stock sells off, the fact that there is so much liquidity forces investors into other stocks until one of those becomes a problem. And so the shell game goes on.

But it does seem to be wearing thin. Leverage has been shifted through central bank policy from companies to governments. I may be wrong, but a sustained and crippling decline won't materialize until we see some damage to the bond market.

The economic situation through globalization and coordinated central bank fiat policy is unlike any this planet has ever experienced. The risk is high that "they" don't get it quite right.

Prof. Succo

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