Thursday, 05 February 2009 23:00

Investment Advice in the MainStream Media: Hedge against Success???

This article ran in Barron's over weekend. It is interesting given my opinion of the subject matter. See "Anyone who subscribes to my blog should have earned their initial investment back several times over" then move on to Barrons:

The Hartford: Hedged Against Disaster

Hartford Financial is on firmer footing than investors might think, making the insurer's stock look like an ultracheap bet on recovery in the bond market. A chance to double your money in the next few years.

WANT TO MAKE A LEVERED BET on a recovery in the bond market? For those willing to take some risk, there are few better bets than buying the stock of Hartford Financial Services Group...


Even with all of this, the Hartford, as the company is known, seems to be a compelling buy. That is our conclusion after closely inspecting information released by company executives at the December Investor Day. (Hartford Financial officials were unavailable for comment last week because of a quiet period before this Thursday's scheduled profit report.) Among other things, the insurer's executives talked of a springback potential in book value once bond prices recover from current panic levels.

The Hartford's bond holdings are largely of high quality, with a negligible default risk. As for impairment risk, company officials have put that at less than 15% of its $11.6 billion unrealized loss portfolio, even under severe economic conditions. And if it were necessary to take charges on these securities, they would be incurred over several years.

A return to more normal conditions in the bond market won't boost Hartford's net worth back to year-end 2007's $61.20 a share. The company has had to take too many earnings write-downs in the past three quarters, including $3.5 billion in after-tax asset-impairment charges and a charge of nearly $1 billion resulting from a shortfall in the expected results of its variable-annuity business, owing to stock-market declines. Offsetting these negatives somewhat was a largely undilutive $2.5 billion infusion of new capital into Hartford by Allianz (ALV.Germany) in October. In return, the German insurer got debt and preferred shares.

Yet a return in book value to $50 a share in the next year or two is possible, particularly if Washington's push to boost the capital coursing through U.S. financial markets and bolster asset prices finally bears fruit. Likewise, earnings should stabilize after a horrid third-quarter loss of $2.6 billion, largely the result of bond- and stock-market losses hitting life-insurance results and Hurricane Ike hurting property-and-casualty earnings.

MORGAN STANLEY ANALYST NIGEL DAILY foresees Hartford Financial generating operating earnings of $5.40 a share in 2009 and $5.95 in 2010. His estimates are below the consensus forecasts, which contain a lot of stale assumptions. Nonetheless, Daily indicated in a recent report, the stock looks dirt cheap, and he later raised his one-year price target to 25. Based on his 2009 estimate, Hartford trades at a price-to-earnings ratio of just under 2.5 times. And the stock fetches less than half our conservative year-end book-value estimate of $30 a share.

The Morgan Stanley analyst further asserts that, when the equity and credit markets improve, Hartford's P/E multiple could jump. Historically, the Connecticut-based insurer has traded at an average of 10 times earnings and 1.4 times book value. If it gained back most of that valuation, shares could be changing hands in the 40s. In fact, that price could be attained in a year, assuming that the company incurs no more major earnings charges. A return of book value to 50 in the next year or two could send the shares even higher. One shouldn't forget that the Hartford traded at nearly 100 just 13 months ago.


Adding to the perceived weakness has been the company's rigor in taking permanent securities charge-offs, after subjecting its unrealized-loss portfolio to tough tests. Unlike unrealized losses, these hit not only GAAP book values, but also reported earnings.

For its structured securitizations, like those backed by commercial mortgages and other asset-backed securities, the company first makes draconian assumptions about the economy's future, against which it tests its portfolio's viability. Among them: a 10% jobless rate, a 30% drop in commercial real-estate values, a 40% drop in home prices and other economic misery.

As far as straight corporate and real- estate debt goes, the company permanently impairs any security that shows scant prospect of recovering over the next two years. This latter standard is more onerous than those followed by most of the Hartford's competitors, but it is being scrapped for fourth-quarter 2008 results


The Hartford led off an industry counterattack at its Dec. 5 Investor Day. No, the company maintained, it has no major capital issues that would stop it from honoring all claims or lead to a credit downgrade of its life-insurance operation. Its property-and-casualty unit had $1.1 billion in excess capital that could be infused into the life company. And the parent company has $2.4 billion in unused credit and contingent-capital facilities that could be downstreamed.

Perhaps most reassuring, executives said they had enjoyed better-than-projected performance on their hedges, thus reducing the impact of tumbling stock prices. Short of a slide in the Standard & Poor's 500 below 700 -- it is now around 800 -- no capital infusions would be necessary.

Certainly, the Hartford's shares aren't riskless. The insurer's normalized earnings power of around $10 a share will remain tantalizingly beyond reach for at least several years without a startling rally in both the U.S. stock and bond markets. But the battered shares could double or even triple in the interim.

Conclusion: Stock Broker and Newspaper financial advice can be hazardous to your networth! See Blog vs. Broker, whom do you trust! - a comparison of the blog's research model and the most prominent Wall Street bank's buy and sell recommendations over a comparable period - Goldman Sachs, Citibank, JP Morgan, and Morgan Stanley.

Last modified on Thursday, 05 February 2009 23:00


  • Comment Link nealthom Tuesday, 10 February 2009 18:21 posted by nealthom

    I sold my puts this morning for a nice profit (thanks reggie) I remembered your comment in the Costco article "I'm shorting them into oblivion" re PFG. Glad you came to your senses. lol

  • Comment Link phirang Tuesday, 10 February 2009 11:15 posted by phirang

    wow, earnings were a disaster. I covered after earnings, though: can't get greedy. Reggie, can we get an update?

  • Comment Link anil Saturday, 07 February 2009 08:55 posted by anil

    Please see this video on U Tube.Rep. Paul Kanjorski
    is discussing the seriousness of the problem.(Atleast I was not aware
    that there was an Electronic Run on the money market funds/banks, and that was the reason to pass the first bailout plan.

  • Comment Link jill Saturday, 07 February 2009 00:13 posted by jill


    My Mom is holding a large number of Bank of America Preferred shares. Do you think Lewis will cut the dividend to pay off the TARP money? Should my Mom sell the preferred shares?

  • Comment Link gjk313 Friday, 06 February 2009 21:38 posted by gjk313

    It seems like the easiest way realize what is happening to the banks now is just a continuous margin call. It just doesn't seem like there is anything that can be done to save the banks. The "bailouts" just seem like the govt (taxpayers)getting stuck paying a margin call. Paying a margin call doesn't stop your investment from falling further.

  • Comment Link shaunsnoll Friday, 06 February 2009 18:54 posted by shaunsnoll

    ran a wamu in california, he said right before JPM took them over their deposit base was down more than 30% and they were having a mini run on the bank. he said he had grandpa's coming in and pulling out 40K$+ in cash and putting it in a bag. he started as a mortgage broker and some of the fraud stories he told me were amazing, friends of his cutting and pasting pay stubs and using other peoples social security numbers to get homes to illegal aliens, etc. he said that if he had to guess he would say that right at the peak in 2006-2007 that ~20% of the wamu loans at the branch where he was were outright fraud. now this is all anecdotal and may not reflect what went on in the rest of the country but as far as their deposit base growing like crazy and NPAs being low, i think they are in some deep(er) doo doo then they were even in before. i think the wamu acquisition is and will be a total trainwreck, consequently this rally is BS.

  • Comment Link phirang Friday, 06 February 2009 17:14 posted by phirang

    come monday, we'll find out if Obama will dilute the SOB's or sell us out!

    Anyone here with an opinion on MAC's news today?

  • Comment Link NDbadger Friday, 06 February 2009 16:46 posted by NDbadger

    One other comment on whether 25% is the right amount to write off for JPM's purchased credit impaired assets. JPM's net charge-offs as a percent of NPA is about 25% for JPM's own NPAs. So then you just need to ask yourself if you believe WaMu's crap is worse than JPM's crap. My guess is that it is and that I think we could expect to see the rate go up to 50%. But this is just a guess. Maybe Reggie could chime in to see if this approach makes sense as a sensitivity test.

  • Comment Link NDbadger Friday, 06 February 2009 16:13 posted by NDbadger

    Well, it's not just a pool of mortgages from WaMu, it's a pool of NPAs. Also, they have a ton of bad loans (read C&I) in their books that haven't come out yet as these are only just now starting to deteriorate. My estimates (and I could be wrong of course) suggest they are going to have tremendous losses throughout the year and will ultimately need to be recapitalized.

    By the way, my belief that we still have tremendous losses still to come is why I think the government's insurance program, while interesting from a political standpoint, is ultimately doomed to fail. As the losses pile up, taxpayers will hit the roof and Congress/the Fed/Treasury will ultimately have to renegotiate and resolve.

    In this vain, while the bondholders are still whole in FNM & FRE, I think that will change as the losses on their books continue to unfold. But we'll see.

  • Comment Link phirang Friday, 06 February 2009 15:44 posted by phirang

    They marked down WaMu loans by 25%. It’s actually pretty hard to have a 25% realized losses (net of foreclosure sale proceeds) on a pool of mortgages. And their deposits are growing like crazy as they are the safe bank. On the institutional side, all the flow businesses (e.g. market making in treasury and corporate bonds) are doing outstanding – just being there to pick up the phone is worth a lot of money as bid-ask spreads are super wide. They are going to keep earning as they simultaneously grow loss reserves – I think they might be able to generate enough cash organically to pay divs etc. which is relatively low compared to other financial stocks (prior to recent div cuts). But this is my opinion only. MS seems a little messed today, can’t rally despite the market.

  • Comment Link jarret Friday, 06 February 2009 15:05 posted by jarret

    For the bold way Ken Lewis spoke today they wont need anymore help. Just like Merrill was a great buy....until it wasnt and Merril was a bad buy and they need more money.

    It is amazing to me that he said...if I had to do it all over again I would....who is he kidding. Obviously some people as the stock is up 25% today.

    Monday will be a big day all the way around if the market runs and is happy because of the bailout it means the tax payers and our kids should be sad.

    Interesting time where 600K in jobs losses gets offset by a "bailout" and a "stimulus" package to get a 2-3% gain in the market.

  • Comment Link NDbadger Friday, 06 February 2009 12:37 posted by NDbadger

    the market seems to be enthusiastic about the bail out announcement on Mon. While this sure has the feel of a buy on the rumor, sell on the news event, it sure seems misplaced. Everything I've read on the plan is that shareholders will be severely diluted for any banks that actually need help. Maybe this will be just another opportunity to take up positions?

  • Comment Link shaunsnoll Friday, 06 February 2009 10:45 posted by shaunsnoll

    this morning Barron's reports:

    "Sorry, our Bad!"

    "in reference to our earlier HIG article, we would like to first apologize about how easily manipulated we were and we're also sorry you had to pay for the worthless hype we feed the world. We do truly suck, and we now advise you to read while we scrape all this egg of our face.
    thank you,

    really surprising how well your other insurance company is holding up Reggie, especially given some of the similarities in their portfolios, i went over that again last night and had to dig through the financials to see it for myself, i just can't believe they have all that crap! all that chilean debt?! and privately held stuff?!? they are the next hartford for sure,

    keep up the good work, this is amazing to watch, its like instead of reading a book about someone becoming a millionaire, its watching it happen real time. awesome.

  • Comment Link NDbadger Friday, 06 February 2009 09:36 posted by NDbadger

    Barron's pulled the same sh@t with AIG before it crumbled. At least they're consistent.

  • Comment Link Specularbage Friday, 06 February 2009 08:27 posted by Specularbage

    "the current prices of commercial mortgage-backed securities imply a 70% decline in commercial real-estate values"

    is this true?

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