It Was Time for a Miss

In case you miss the rest of what I say below, I want to point out that I am calling this "time to buy".

No one is always right. I was very wrong on the Fannie preferred. I thought it was “money good” and it looks like it may well not be. As you are certainly aware the government socialized Fannie and Freddie over the past weekend and eliminated future dividends on the preferred stock. There may be some value in the securities at these prices [assuming 1) housing recovers 2) the government doesn’t run these into the ground and 3) congress doesn’t eliminate the outstanding equity in the future], however the risk is great enough that I would not recommend the preferred stock (and if you own Fannie or Freddie common and want to hold on for the potential gain if the above 3 points are true you should sell, take the tax loss and buy the preferred in the same sized investment rather than holding the common – there’s a far higher chance of the preferred being worth something than the common). At least the government gave us the Q3 dividend on the preferred.

Also I recommended two oil companies which did poorly as oil fell and hedge funds that owned the oil producers have been forced to sell.

My outlook is this: I think this is time to buy. I expect that the July lows will in fact hold for the market and with Fannie/Freddie resolved (and I expect Lehman will be resolved similarly by Monday) there should be a lot less uncertainty. Furthermore I believe that the government took over Fannie and Freddie for the purpose of lowering mortgage rates, which has in fact happened significantly this week. If financing rates are cheaper home prices don’t seem as high and I think this will aid the housing recovery which I see occurring sometime in late Q1 or Q2 of next year (as mentioned here previously). If housing can stabilize this is very good for the stock market. Generally I do not see a global recession in the offing, which most market participants are betting on. If I’m right performance should be good relative to the market for a while, while if I’m wrong it will be poor. Generally I like financials, industrials, and energy companies currently.

Since I now have so much credibility in recommending beaten down financial preferred shares, I am going to recommend WM-PK. This is a preferred stock issued by Washington Mutual. I believe that the rumors of WaMu’s demise have been greatly exaggerated. The stock is somewhat cheap, but I don’t think after the massively diluted capital raise earlier this year that there will be a terrific return for common shareholders anytime soon. However with capital levels that are some of the highest in the industry and fairly solid reserves against losses their current condition is not bad. The concern is that their holdings of option adjustable rate mortgages will sour in the future when those negative amortization minimum payments turn into fully amortizing regular payments (i.e. when people stop being allowed to make a token payment and have to pay their full mortgage principal and interest installments). However, as mentioned above the government is lowering interest rates for mortgages – this has the distinct possibility of causing a turning point in the housing market. And those option ARMs don’t convert to amortizing payments soon for the most part – so there’s plenty of time for recovery in housing. Finally WaMu could always renegotiate the loans and allow for smaller payments from the borrowers which could reduce defaults if markets remain bad.

Energy: OPEC seems to be saying that they will defend $100/barrel oil prices which should be good for oil companies as their shares seem to have priced in much lower levels. Also global demand for commodities has dried up in the recent past as China had loaded up prior to the Olympics and then stopped buying, but I see this reversing as the Chinese pollution controls are returned to normal and the Olympics inventory is burned through. Probably positive for coal, copper, and oil, but I’m not very good at predicting commodity price moves.

Since the last update the recommended stocks [MMM (-1.37%), UNH (-1.12%), PETS (13.62%), APA (-5.94%), OXY (-16.28%), SNY (0.60%), DPS (5.87%), AEO (19.64%), ADSK (-6.28%), AIB (-5.55%), and FNM-PS (-71.02%)] averaged a loss of 6.17%, underperforming the S&P 500 [-2.09%] by 4.07%. Since inception on 7/31/2007 the recommendations have gained 19.87%, outperforming the S&P 500 [-12.10%] by 31.97%.

I recommend at this time: MMM, UNH, PETS, APA, DPS, ADSK, AIB, PBR, TEX, and WM-PK.

Many happy returns.