Wednesday, October 26, 2011


China's potential commitment to buying EFSF bonds is nothing more than a token gesture.

Does anyone really think that the ailing European countries will impose real change?

Just look at Italy!

The country and its government are collapsing, and Silvio Berlusconi finally has come up with a compromise pension solution.

That solution is to raise the retirement age by two years, to 67, and, get this, by the year 2026!

There will be no change as to the length of service that permits workers to retire at age 61 after 35 years of service.

My view is that our market will be hostage to Europe for some time. The Band-Aids will be value-deflating, as leadership (over there) will be timid, tame and largely ineffective.

Then there is our Super Committee!

Super, no! Ineffective, yes!

I expect that, of the $1.2 trillion deficit reduction target, as little as $500 billion will be agreed upon, with the balance coming from the automatic cuts to be effective in January 2013.

In summary, a lot of can-kicking, both here and over there!

I agree with Peter Boockvar of Miller Tabak on the story that the Chinese will participate in the purchase of bonds issued by EFSF:

The market is rallying on the story that China will buy bonds issued by the EFSF. This is not a surprise as they expressed interest back in January,, and China is not doing this out of the goodness of their heart. EFSF is AAA rated paper (assuming France keeps theirs) and the diversification it provides the Chinese away from US Treasuries is much different than China saying they will buy Italian, Spanish or Portuguese debt directly. Thus, this basically is the more conservative way of investing in Europe. Japan has been buying EFSF since they were first issued.

Europe is on an intractable course toward a recession (and possibly a deep one).

With regard to durable goods, September durable goods (excluding transports) was +1.7% (consensus was +0.4%), and orders for non-defense goods (excluding aircraft) were +2.4% (consensus was +0.5%).

It should be noted that goods orders (as well as automobile sales, especially light trucks) have importantly benefited from businesses taking advantage of full cash-expensing provisions that were part of the 2010 tax package -- the benefit retreats to only 50% in 2012.

So business capital spending is probably being pulled forward into 2011; my economic concerns are not in this year's final quarter but rather in the first half of 2012.

My conclusion, despite the better recent positive trends in retail sales, foreign trade and durable goods strength, is that the domestic economy is not yet out of danger.

George Costanza (Jason Alexander): [Soup Nazi gives him a look] Medium turkey chili.
[Instantly moves to the cashier]
Jerry Seinfeld: Medium crab bisque.
George Costanza: [Looks in his bag and notices no bread in it] I didn't get any bread.
Jerry Seinfeld: Just forget it. Let it go.
George Costanza: Um, excuse me, I - I think you forgot my bread.
Soup Nazi (Larry Thomas): Bread, $2 extra.
George Costanza: $2? But everyone in front of me got free bread.
Soup Nazi: You want bread?
George Costanza: Yes, please.
Soup Nazi: $3!
George Costanza: What?
[Snaps his fingers. The cashier instantly takes George's soup and gives him back his money]

-- “Seinfeld” (The Soup Nazi)

Although MET is in the process of trying to sell its bank (MetLife Bank), it is still regulated (as are all bank-holding companies) by the Fed, which must opine on all dividend increases and share buybacks.

It was the Street's understanding that the company intended (and requested permission of the Fed) to raise its dividend rate from $0.74 a share to at least $0.90 a share and to initiate a share buyback of $1.0 billion to $1.5 billion.

MetLife had already passed stress tests, so it was a big surprise when, after the close, the Fed turned down the company's requests. MetLife will now have to participate in the 2012 Comprehensive Capital Analysis and Review, delaying the company's ability to raise the dividend and buy back stock until a year from now -- at the earliest.

Even if Met Life sheds its bank (given changes in rules governing the Financial Stability Oversight Council under new rules contained in the Dodd-Frank Wall Street Reform and Consumer Protection Act), however, it is still unclear whether the company will be considered a systemically important institution and, as such, still under the Fed's supervision. If so, it might not be until 2013 when any capital management decisions will be permitted.

It is hard to understand this decision (which entails only about $1 billion to be returned to shareholders) in light of the $16 billion acquisition of AIG's Alico subsidiary less than a year ago, the company's strong excess capital position and given that MetLife never tapped TARP.

There could only be three reasons for this decision:

1. Overregulation (probable!);
2. MetLife's management dropped the ball in the presentation and defense of its strong capital position (not likely!); or
3. Authorities could be concerned about the company's rapid top-line variable annuity growth -- EPS are due to be reported on Oct. 27 -- and possible problems in hedging its growing book of assets (long shot reason!).

MetLife's fundamental picture is excellent, with return on equity likely to gradually rise to almost 13% by 2013.

Nevertheless, the Fed's decision last night will likely weigh on the company's shares and could also cause collateral damage in the shares of its insurance peers (which were already negatively impacted yesterday by a large fall in bond yields).