Saturday, September 26, 2009

A Look at Aetna's (AET) Q2 Income Statement

One of the primary pillars which underpin arguments in favor of health insurance reform is the idea that health insurance companies earn "fat" profits, and it is these profits which stand in the way of an equitable health care system in this country. I feel that this concept has not been properly examined to determine it's validity, a surprising state of affairs considering we are mere weeks away from a possible overhaul of the entire health care system. Below I'll briefly walk through Aetna's (AET) income statement for the three months ended June 30th, 2009. I chose Aetna because it is sufficiently large - it's membership is greater than 45M across the medical,dental, and pharmacy network - to provide a representative view of the industry. The Company also operates in each of the 50 states in the US.

For the three months ended June 30th, 2009, Aetna reported revenues totaling $8,657.6M. I'd like to focus on a top line number that's more applicable to it's core business though - Health Care Premium Revenue - which totaled $7,030.5M for the quarter. During the same period, Aetna incurred Health Care Costs of $6,102.4M. Health Care Costs are essentially what the Company paid out in claims throughout the quarter. Using this measure alone, one might conclude that the difference between what Aetna received in premiums and what it paid out in claims - $928.1M - represents a relatively "fat" 13.2% profit margin. This sort of analysis ignores the fact that Aetna must pay it's 35,500 employees to administer this entire operation; this expense shows up in the General and Administrative expenses line item, which totaled $1,160.2M for the quarter.

You might be saying "what a second, based upon Aetna's three most core measures of revenues and expenses, it appears that they are $232.1M to the negative." This observation would be correct: Aetna is spending more on health care costs and salaries etc. than it is bringing in via premium revenues. We know however, that Aetna reported net income of $346.6M for the quarter; how do we reconcile this?

When you really get down to it, Aetna is relying on fees and investment income to break into the positive. These two items totaled $1,151.2M for the quarter. Once you add in one more revenue item - Other Premiums ($475.9M) - and net out Selling Expenses ($303.8M), Current/Future Benefits ($503.8M), Interest Expense ($60.7M) and Income Taxes ($168.8M), you are left with only $346.6M in Net Income.

What this means is that Aetna's Net Income ($364.6M) represents just 3.997% of it's total revenue ($8670.8) for the quarter. That ratio for Exxon (XOM) during Q2 was 5.3%, for Microsoft (MSFT) it was 23.2%, for Nike (NKE) it was 7.24%, for McDonalds (MCD) it was 19.3%, and for General Electric (GE) it was 7.3%. These figures actually defy some conventional wisdom, as most of the comparison companies own significant amounts of depreciable assets. Depreciation is recorded as an expense against net income, but it is not an event which affects cash flows. This accounting rule often leads to reported net income which is substantially lower than cash flow from operating activities (CFFO). Aetna's business however, deals in the somewhat intangible realm of insurance; thus, they do not benefit - from a taxable income standpoint - from the depreciation charges enjoyed by firm's having large amounts of physical assets.

Let's be honest here. If the government somehow forced Aetna to operate as a non-profit corporation, it would only allow the company to pay out an additional $515.4M (net income before taxes assuming non-profit status) in claims. This would only represent a 7.8% increase in quarterly claim payouts. This calculation of course assumes that the "new" Aetna would have an identical cost of capital to the "old" Aetna. The money just isn't there.

*long GE Sphere: Related Content

Thursday, September 24, 2009

The Merits of HR 1207 (Audit the Fed)

A blast-out email I received this morning from Rep. Alan Grayson (D-Fl) confirmed that HR 1207 - the "Audit the Fed" bill - has gained significant traction in the House of Representatives, having gained over 290 co-sponsors. In anticipation of tomorrow morning's debate concerning HR 1207, to be heard before the House Financial Services Committee, I'd like to briefly share the fundamental reasoning which underlies my support of this bill.

First and foremost, I am a pragmatic libertarian; i.e. I understand that certain externalities are bound to occur when the universe of private transactions are allowed to take place in complete absence of regulation. In other words, I agree with preventing one man from polluting his own land (private property) if that pollution can flow down the river to another man's property. Similarly, I am of the opinion that the global financial system has grown sufficiently complex to warrant the existence of the Federal Reserve. True, the founders of this nation did not establish anything resembling a central bank. However, these men could never have envisioned the current scenario, whereby the dollar serves as the world's reserve currency, let alone that a financial instrument such as a "collateralized debt obligation" would even exist.

Having established the Federal Reserve's right to exist, I think we need to seriously consider the question: Under what conditions will the Federal Reserve be allowed to exist? Certainly, I see nothing wrong with a Federal Reserve capable of intervening during times of acute stress in the financial markets. However, accompanying this incredible power should be at least some modicum of transparency. To use a popular cliche, "Sunlight is the strongest disinfectant". This concept of transparency is the ultimate equalizer in a democratic society; conversely, a lack of transparency by the Government is the most necessary element of tyranny.

Some may argue that to audit the Federal Reserve is to deprive it of the independence necessary to conduct it's job. That argument might be relevant in the event that HR 1207 proposed some sort of Congressional oversight of the Fed. However, audit does not equal oversight or interference. The Supreme Court is an independent branch of the federal government that rules on the constitutionality of federal law. Members of Congress do not influence Supreme Court rulings; however, at the end of the day, the public is allowed to read a majority opinion stating the Court's reasoning behind the decision. Why is there no similar measure of transparency at the Fed?

Finally, the primary problem with the current state of the Federal Reserve is that this board of unelected officials is arguably more powerful than the President of the United States. At least show us how you are choosing to exercise that power. Sphere: Related Content

Housing Continues to Offer Mixed Signals

The National Association of Realtors released data on Existing Home Sales this morning which showed existing home sales declining 2.7% from July to a (SAAR) rate of 5,100,000 dwellings per year. The one year chart of existing home sales (blue line) above shows that we've spent the latter half of the past 12 months witnessing a rise in sales of existing homes. In fact, August's decrease was the first decline in activity since the March numbers were released; ironically, March also marked a low for US equity markets.

If you're looking for the silver lining, the number of months worth of housing inventory on the market is down 19.8% year over year. At 8.5 months of available housing inventory, we are still above the 6 month level which normally constitutes a "healthy" housing market. However, the inventory trend is headed in the right direction.

The risk I see going forward is that a) existing home sales moderate, or stagnate, around their current levels, and b) new housing starts continue to rise, possibly as a function of stimulus funds making their way into the economy. The government has already displayed a willingness to use stimulus funds to revive construction of politically advantageous housing projects; this sort of activity may be beneficial in the short term from a pure employment perspective, but it ultimately exacerbates the single largest fundamental drag on the US economy, i.e the anemic housing market. Housing starts and existing sales either need to both be trending positive, or starts need to be falling while sales are rising. The August trend - rising starts and falling sales - is a recipe for a continuation of housing's woes. Obviously, there is no use in over-analyzing each new data point; I'm merely pointing out the disadvantages the market faces if the current month's trend were to continue. Sphere: Related Content

Wednesday, September 23, 2009

Professional Sports As a Model For Bankers' Pay

Many commentators have, in the aftermath of the destruction wrought by reckless financial industry behavior, promulgated the view that restrictions should be placed on bankers' pay. The theory goes that there is a direct correlation between excessive risk taking and the expected monetary compensation derived from said risk taking. Most problematic is the reality that, contrary to the concept of risk - i.e it correlates with reward to the upside and loss to the downside - it appears that a downside never actually existed for some folks. Couple this perversion with the fact that Wall Streeter's annual compensation has reached a multiple of average US pay rivaled only by professional athletes, and it's easy to see why a lot of folks are outraged.

Watching ESPN last night, it occurred to me that professional sports has done a far superior job in structuring compensation for it's highest value added contributors - the actual athletes - than Wall Street has managed to do for it's upper echelons. A professional sports team is in fact a self-contained business, employing a wide range of individuals who are mostly paid standard, competitive salaries. The same holds true in the banking industry; a teller working at the deposit window is earning a modest wage, despite the handsome rewards that are doled out to those running the organization. The difference between the two industries however - besides the obvious variations in core business, is that professional sports leagues in America were able to foresee the adverse effects of ballooning salaries at the top of their member organizations, and implemented effective regulation of those salaries. Interestingly, each of the top three professional sports leagues in the US - NFL, NBA and MLB - have implemented differing strategies for tackling this problem. The three approaches can be likened to the respective league acting as the State, with varying degrees of interference. A brief description of each league's salary regulations follows:

National Football League
The most recent Collective Bargaining Agreement (CBA) between the League and the NFL Player's Association sets a salary cap for each team that is based upon the League's Projected Total Revenues (PTR). For 2008, the formula which determined the maximum amount each team could spend on player salaries was (PTR X 0.575 - League wide projected Benefits) / n , where n= the number of NFL teams for that year. Keep in mind that the CBA is a 361 page document, so in addition to knowing that attorneys had a field day with this one, we can infer that there are some exceptions to the above formula that can result in a higher or lower annual salary cap than the formula would imply. The point is though, each team has the exact same amount of money to spend on player's salaries each year.

National Basketball Association
The NBA's collective bargaining agreement is similar to the NFL's in that it's based upon a percentage of the League's annual revenue, and is allocated evenly across all teams. The NBA's system is more flexible however, evidenced by the fact that many teams "live" above the salary cap. There are specific portions of the CBA which allow for salary cap violations, most notably when a team wishes to re-sign a veteran player who has already spent at least 3 years with the team. There are also salary cap "taxes", meaning that for instance, if a team's salaries exceed a pre-specified amount, that team will be taxed by the league for it's excesses. By the way, those taxes are distributed evenly amongst those teams which did not disobey the salary cap.

Major League Baseball
MLB's Collective Bargaining agreement, the most free-market-like in professional sports, states that a player's salary is an amount to be determined between the player and the owner of the baseball team. There is no annual limit to the amount that a baseball team may spend on it's players salaries. There is however, a stipulation known as the Competitive Balance Tax; without getting into details, the Competitive Balance Tax is the theoretical equivalent of the progressive income tax system in the United States.

The three models above provide what I see as a relatively reasonable framework for the proper structuring of high level Wall Street pay. Salaries for each financial institution could be collectively based upon the trailing year's revenue. A substantial portion of that designated pay should be placed into an escrow account for around 5 years, and will be distributed accordingly assuming that certain performance measures have been met for the subsequent half-decade. In the event that the financial institution has significant losses for a given year, the escrow account will be used to shore up the bank's capital position. In the event of any sort of accounting scandal, the funds will immediately be distributed - in their entirety - to shareholders.

Could such a compensation model have prevented many of the problems we face today? My bet is yes.

*no positions Sphere: Related Content

Monday, September 21, 2009

A Hypothetical Interview With Barney Frank

The following represents an entirely hypothetical conversation. It did not happen; rather, I am suggesting it is what would happen under the circumstances.

Me: Senator Frank, I often hear you deride financial institutions for their stupidity over the past decade.

Barney Frank: yes, I do, because they did act stupidly; they should have all been arrested.

Me: Did you not know what was going on Sen. Frank? Because if you did, aren't you as much to blame as the perpetrators?

Barney Frank: No, well if you put it that way, I didn't know exactly what was going on.

Me: How did you not know?

Barney Frank: Because nobody told me about it.

Me: So, in your multiple decades of service as a United States Senator, nobody ever thought to give you an investment tip?

Barney Frank: Yes, I have been given investment tips. But it didn't matter than, because I - and everybody else - were making money too. Senators have money in the stock market too you know.

Me: So Barney. You are the chairman of the House Committee which is devoted to Finance. Presumably, you know a thing or two about the subject. You are also rather old; that is, you've seen a lot of economic cycles. Have you ever heard of the price of a house doubling in three years? Of no documentation loans?

Barney Frank: Yes, but all the economists said the housing rally was for real.

Me: So because you thought that housing was rising alongside your own personal wealth, you didn't necessarily care that something questionable was going on behind the scenes.

Barney Frank: This interview is over. Sphere: Related Content

Saturday, September 19, 2009

Free Markets Don't Exist in the US; Stop Pretending They Do

Americans cling tightly to their respect for the concept of "free markets", often citing this ideal as a principal reason behind opposition to numerous policy proposals. The concept of a free market typically extends into issues of taxation, where the free market crowd tends to excoriate any policy that contains the smallest element of the much-despised "redistribution of wealth". The problem I see with this way of thinking is that, realistically, free markets haven't existed in this country for a very long time. Furthermore, if you ever plan on enrolling in Medicare or accepting a Social Security check, you don't really have the right to criticize anything on the grounds that it is a government mandated redistribution of wealth.

Let's take the housing market for instance. I almost hesitate to use the word "market", because that would imply that real estate prices are determined via a discovery process between willing buyers and sellers. Some individuals ignorantly believe that this is the case, but it's just not true. The housing market of today has become a swollen, government supported beast that features Uncle Sam's involvement at literally every turn. Just think about it. Interest rates on home mortgages are currently being held at artificially low levels; the byproduct of the Federal Reserve's $Trillion+ experiment into purchasing Treasury bonds and Fannie/Freddie's repackaged filth. Of course, the Fannie/Freddie foray is also providing the housing market with mortgage fund availability by transferring risk from the private lender to the government entity. Next, as your mortgage goes through the origination process, it is increasingly more likely to be insured by the FHA. In 2006, less than 10% of new mortgage origination's were insured by the federal government; today, over 40% can be placed in that ignoble category. It doesn't end once you've purchased your American dream of a home though; the government has heavily subsidized housing through it's structuring of the tax code. The mortgage interest deduction effectively convinces millions of people that they can afford a more expensive house just by the virtue of top-of-napkin calculations and the perverted logic of "pay more to save more on interest". Thus is the intoxicating effect that home-ownership inspires in so many people.

Now let's talk about the federal government's entitlement programs: Medicare and Social Security. To make this a little more personal, let's talk about this issue in terms of the paycheck you bring home from your job, or to be more precise, the part of your paycheck that you don't get to bring home. These deductions are Ponzi-schemed away from every one of your paychecks, and direct-deposited into the bank account of a Social Security recipient. If we as Americans have decided that this little sleight of hand is an appropriate way to handle retirement funding, then so be it (Well actually, only "so be it" until the United States is forced, by it's creditors, to end it's profligate ways. At that point, we'll need to take machettes, not scalpels, to the federal budget. Line item #1, the biggest one by the way, is Social Security.). Nevertheless, I refuse to acknowledge Social Security as anything other than a modified version of communism. It's modified because, instead of everybody propping up everybody else (a collective sort of propping if you will) we have a situation whereby only one segment of the population is being propped up by all the rest. It's well established via civil rights legislation and Supreme Court case law that the federal government is prohibited from discrimination on the basis of - among other categories - age. Why then, is the federal government fundamentally structured to provide benefits to one age group at the expense of all the rest? If you're getting mad right now, you can go ahead and calm down; I'm not advocating that anybody be "cut off", and I understand that the circumstances surrounding aging in general merit special consideration from a societal point of view. The only thing that I would propose is that millionaires be barred from receiving social security benefits. When you look at the name of the damn entitlement - "Social Security" - you should understand that it's true purpose is to provide income to those who weren't dealt a hand which led to millions in the bank at retirement time; it shouldn't serve as a supplement for those who have already assured their personal "Social Security" through the massive accumulation of capital. In other words, if two men, we'll call them "A" and "B", pay fire insurance premiums on their home for 30 years. Let's say A's home burns down, and he receives a payout from the insurance company. B is more fortunate; his house doesn't burn down. In this case, it would make no sense for B to receive a refund for his year's worth of premiums paid; sure, he paid into the insurance pool, but in the end he didn't need it.

The most recent example of the complete lack of free markets in the US is the brewing controversy surrounding "net neutrality". The internet, at it's infancy, was kind of an un-regulated wild west of commerce. Now however, the government is gearing up to micromanage the way service providers are allowed to treat traffic that utilizes their bandwidth.

Bottom line, free markets don't exist, so let's not pretend that they do. Invoking the "free markets work best" line of reasoning is essentially a thinly veiled justification for opposing a policy which happens to not benefit you. Once you've disavowed buying a home, taking a Social Security check, and using the internet, then maybe you are qualified to preach about the merits of free marketeerism. If you haven't (and you won't) then such proselytizing amounts to little more than hypocrisy. Sphere: Related Content

Friday, September 18, 2009

How Much Does Experience Matter in Business?

When considering the true value of experience as it relates to the attractiveness of an employee, or more specifically a manager, we need to establish a competing attribute against which to weigh the relative importance of experience. The best attribute I can describe in terms of a competing quality is simply general intelligence, an attribute whose spectrum ranges from dull, to extremely mentally acute. To clarify, intelligence in the context of a manager should be loosely defined as the ability to effectively interpret constant streams of changing data, properly diagnose problems within an organization, and implement the "as-needed" adjustments necessary to solve the problem.

To begin with, the attributes of experience and intelligence are not mutually exclusive; experience can certainly lead to the advanced recognition of common problems and the formulation of effective solutions. Taken to it's extreme, it is not reasonable to assert that a brand new college graduate will possess superior management skills on his first day of work than the manager who has 30 years experience. However, I would like to focus on the more practical question of whether business experience ceases to add considerable management effectiveness after a given period of time. That is to say that, with each passing year, a manager gains sequentially less prowess than was accrued the year before. In other words, is the business experience v effectiveness function one which rises positively in the first 10 years on the job, only to flatten out in coming decades.

My primary argument is that, as the world's general pace of change increases, simple measurements of managerial worth such as "years of experience" become less and less relevant. Much more important, I believe, is a manager's ability to recognize the changing winds of business, and act accordingly. To that affect, I would argue that excessive years of industry experience (30+) has currently - and will increasingly going forward - serve to act as a detriment to that individual. I've found these "super-experienced" individuals to be overly fixated upon the way things "have been done for years". In today's market, I would much rather entrust the management of my company to an adaptable, mentally acute individual with 15 years of experience, rather than a similarly intelligent individual with 35 years of experience.

Lastly, managers with substantial amounts of experience are excessively prone to the Gambler's Fallacy - the idea that past events are a reliable indicator of what the future holds. Each year of experience seems to add a layer of mental callousness to an individual, whereby they become increasingly averse to the idea of processing new information, in favor of applying previous outcomes to a new situation. Fundamental facts may have changed that these individuals have become structurally unable to recognize.

I'm in no way disparaging the possession of business experience, however, my personal observation is that year's of service to a particular industry will more often hinder, rather than aid, an individual's ability to develop new solutions to new problems. Obviously, the old guard of business will resist this concept - selfishly in many cases - to the detriment of their organization's effectiveness and efficiency. Pass it on. Sphere: Related Content

Thursday, September 17, 2009

August Housing Starts Rise; May Delay Recovery

The US Census Bureau released August housing starts data this morning which showed a 598,000 (seasonally adjusted annualized rate) rate of starts. The August rate was 1.5% higher than July's 589,000 figure, but still 29.6% below the August 2008 rate of 849,000.

The current recession has decimated housing starts far more than has ever been witnessed during the modern era of data recording. Prior to the current state of malaise, analysts had viewed the 1,000,000/year rate as the level at which new starts could not remain below for any extended period of time. After all, history has shown that whenever starts slip below 1 million, they do not remain so for long, and quickly spring upwards. With US starts below that threshold for the past 13 months however, that conventional wisdom has been shattered.

In order for a sustainable recovery in housing to occur, starts must remain at these depressed levels for at least another year. Unless builder's plan on selling all newly constructed homes below their cost, they will not be able to compete with the massive foreclosure inventory that is bleeding onto the market.

August's numbers do not indicate that starts have raced ahead of a level conducive of a recovery, however, further "improvements" in the starts area will serve to hinder, rather than promote, a housing market recovery. Sphere: Related Content

Wednesday, September 16, 2009

Baucus Unveils America's Healthy Future Act

The Chairman of the Senate Finance Committee, Senator Max Baucus (D-Montana), today released his "marked up" version of proposed health care reform legislation. The legislation, entitled "America's Healthy Future Act", will likely spend the next couple of weeks running the political gauntlet prior to being voted on by the Senate Finance Committee. Below are selected highlights from the 223 page document; don't get too comfortable though, as the content is exceedingly subject to change.
  • Places a restriction upon which factors can be used by an insurance company to determine the price of your premium; additionally, relative weights are assigned to each of the permissible factors insofar as the extent to which they may affect premium price. Factors are: Tobacco Use (1.5:1) , Age (5:1) , Single (1:1), Adult w/child (1.8:1), Two adults (2:1), Family (3:1)
  • Allows any individual who has been denied health care coverage because of a pre-existing condition to enroll in a "high risk pool". Premiums within the high risk pool are subject to the restrictions outlined in my previous bullet point.
  • States have 24 months from the time of enactment to establish the much vaunted health insurance exchanges; if they don't HHS will contract with a non-governmental entity to see the creation of the exchange through. (If I were a State, I'd probably just purposefully neglect to set up the exchange, just to save the cost of planning such a thing. I also wonder whether some States - Texas comes to mind - will refuse to follow this mandate on purely ideological grounds)
  • Those with an existing policy will be permitted to renew that policy.
  • By the year 2015, and through a framework which will be developed by the National Association of Insurance Commissioners (NAIC), States may establish "health care choice compacts" which will essentially allow for the sale of health insurance policies across state lines. (A clever work-around the Commerce Clause issue?)
  • Establishes a classification system for health insurance policies that's strangely similar to the various plateau's one may reach by donating to a University's athletic program. The levels are Bronze,Silver,Gold and Platinum. I won't get into the specifics of the categories; it should be fairly obvious which plans offer the more comprehensive set of benefits.
  • Provides refundable tax credit for individuals and families who purchase health insurance through the state exchange systems.
  • Provides a tax credit for small businesses who make the correct moral, ethical, and talent retention strategy choice of providing employees with health insurance.
I think I've covered the major points here. Noticeably absent is the explicit establishment of a public insurance option. This was the politically smart thing to do; it leaves Republicans grasping for straws with which to criticize the nature of the reform package, and it doesn't alarm older voters by attempting to make a huge change to anything. Slow and incrementally wins the race. Sphere: Related Content

Tuesday, September 15, 2009

The Constitution and Health-Care Reform: Vague at Best

Judge Andrew Napolitano blasted a constitutional expose across the op-ed pages of the Wall Street Journal this morning, citing Supreme Court precedent which he believes has the effect of rendering unconstitutional any Congressional effort to legislate health care reform. Ultimately, the Judge failed to shed much of any light on how the Supreme Court might approach such an issue.

Napolitano takes the Commerce Clause route, which is to say that he questions the relationship between health insurance regulation and interstate commerce. On one hand, the Judge makes sense; all 50 states have established some sort of Insurance Commission and tasked it with the regulation of that State's particular insurance industry. Furthermore, the nature of competition within the health insurance industry is that it's fought on a state-by-state basis. The Judge's argument is flawed, I believe, in the assumption that "health insurance", as a commodity, does not already trade across state lines. For instance, the entire theory behind Medicaid is that the Government has an interest in providing health insurance to those who lack the means of affording it in the private marketplace. If private health insurance were priced around $20/month for a family of four, it would eliminate the need for government based systems.

Aside from my basic theoretical objections to the Judge's argument, I was a little disappointed with the sole Supreme Court precedent he used to justify his position. United States v. Lopez - the Judge's only supporting citation - dealt with the furthest outer-limits of the commerce clause. Basically, Lopez told Congress that it couldn't pass "no guns in school zones" Acts because they had nothing to do with the sale of goods and services across state lines. This was the first instance in several decades that the Supreme Court had reigned in Congress' broad interpretation of interstate commerce; however the facts of that case in no way resemble the facts in a hypothetical Constitutional challenge to a federal health insurance regulation.

In fact, I Shephardized the Lopez case just to see whether it was even still valid case law; in doing so, I came across Gonzales v Raich, a case that upheld the Government's right to enforce the Controlled Substances Act in the face of a Commerce Clause challenge. I found the following Supreme Court language particularly relevant to the question of health care regulation:

"The Supreme Court has never required Congress to legislate with scientific exactitude. When Congress decides that the total incidence of a practice poses a threat to a national market, it may regulate the entire class. In this vein, the Supreme Court has reiterated that when a general regulatory statute bears a substantial relation to Commerce, the de minimis character of individual instances arising under that statute is of no consequence"

With the absence of any Supreme Court precedent bearing similar facts, the outcome of a Constitutional showdown over health care reform remains debatable. The facts however, would seem to indicate that health insurance regulation would likely withstand a Commerce Clause challenge. Sphere: Related Content

Monday, September 14, 2009

A Closer Look at the FDIC's Deposit Insurance Fund

After falling victim to conventional wisdom last week, and speculating whether the FDIC had weeks or days remaining before it would need a Deposit Insurance Fund restoration bailout, I determined that the prudent course of action was to dig a little deeper into the issue. Specifically, I wanted to know the basics behind whatever accounting procedures took place at the FDIC in order to generate the headline "balance" of the Deposit Insurance Fund. In doing so, I came across several dissenting opinions (including an especially well-written article in American Banker) which, through a more precise look at the DIF, determined that the Fund has actually remained relatively stable despite there being nearly 100 bank failures in 2009 alone. Furthermore, I would argue that the Deposit Insurance Fund is not only far from depletion, but also unlikely to come under any considerable stress throughout the forthcoming year.

Most media representations of the DIF involve the reporting of the final line of the Deposit Insurance Fund's balance sheet, which is labeled "Fund Balance". While this may seem like the logical thing for journalists to do, the truth is that it is an inaccurate measure of the FDIC's funds available to absorb depositor losses.

Basically, the DIF's balance sheet is arranged much like any other corporation's would be, although the underlying "accounting equation" carries one distinct label; Assets = Liabilities + Fund Balance. To assume that the line labeled "Fund Balance" is inclusive of the FDIC's total deposit insurance resources at the moment is to ignore a line in the liabilities section labeled "Contingent Liabilities: future failures". This line item represents the FDIC's best estimation of the next four quarter's worth of failure related DIF losses, and is adjusted based upon the FDIC's assessment of troubled bank's balance sheets/loan losses/deposits etc. At the end of Q2'09, the FDIC had set aside $31.968B to cover losses it expects to occur over the next year. For the 12 months ended June '09, the DIF's headline "balance" has declined by $34.849B; however, Contingent Liabilities have risen by $21.378B. In other words, although the Fund's balance has declined 77% year over year, the FDIC's loss absorbing resources have only declined by 24% over the same period of time.

When you consider the substantial rise in Contingent Liabilities, along with the fact that the DIF has guaranteed revenue in the form of FDIC "assessments" on the banking industry, it becomes clear that the Deposit Insurance Fund is in a lot better shape than many give it credit.

*no positions

*InfoNgen was used to research this article Sphere: Related Content

Saturday, September 12, 2009

When Will the FDIC's Bailout Come to Fruition?

The slew of bank failures that typically accompany a Friday night have inspired many people to approach these bouts of creative destruction as if it were a sport - say college football - worthy of following, documenting, and parsing. I am one of those people. That being said, I think it's about time that I devote some attention to the arguably mythical creature known as the FDIC's Deposit Insurance Fund (DIF). This fund is theoretically used to bridge the gap between the value of the deposits recovered in a bank failure, and the total value of bank depositor's claims that are insured by the FDIC. The DIF is largely funded via an assessment (read: tax) on FDIC member banks. A couple years ago, nobody paid that much attention to the DIF; it's balance remained relatively stable throughout time, and was only affected by the occasional bank failure. Presently however, the FDIC is in the midst of a 92-bank-failure-year which has reduced the balance of the DIF from $45.217B at the end of June '08, to a mere $10.386B as of the quarter ended June 30th, 2009. It is this fact alone which most discredits comparisons between today and the S&L crisis; although the S&L fiasco saw a much longer list of bank failures, consolidation within the banking industry over the past 20 years has led to fewer - yet much larger - banks today. For instance, last night's failure of Chicago based Corus Bank will cost the FDIC's DIF $1.7B.

It's become clear that the FDIC will be unable to prevent the depletion of the Deposit Insurance Fund; the question is how long it will be before the FDIC officially receives it's "bailout" from Treasury, in the form of a "loan" from the taxpayers. Well, we know that the DIF's balance is still in the billions of dollars, although it is certainly in the single digits by now. I can also state that a reasonable number of monthly bank failures - for the next 6-8 months at least - is between 15 and 30 banks per month. However, the total number of bank failures doesn't offer a very predictable estimate of DIF losses; as we've observed over the past year, the range of failed banks total assets/deposits is very large. My most reasonable estimate is that monthly DIF losses will range between $100MM and $3B; this doesn't allow for any black swan events of course, but those are useless to attempt to forecast. That being said, the FDIC could require a Treasury bailout in as soon as 2 months, or in the best case scenario, as far into the future as May/June 2010. If I were a bookie, I would probably set the under/over date for an FDIC bailout at December 15th, 2009. It's probable that I could balance my books with a date like that, however, my personal bet is that the bailout will have to occur before the end of October 2009. Sphere: Related Content

Friday, September 11, 2009

Democrats Awash in Out-of-State Campaign Contributions

The symbiotic relationship between politics and money is well known; it almost seems that we as Americans are so dependent upon our television sets for information about the world, that simply airing more commercials than your political opponent is a sure fire prescription for victory. With campaign contribution limits in place though, this relationship initially sounds reasonable enough, largely because one might assume that there is a correlation between a candidate's support in his or her district, and the amount of money that he or she is able to raise from the district. The alarming truth however, is that some candidates hardly raise any money at all from their home district. Furthermore, it is Democrats who dominate the list of Representatives who have received the least amount of campaign funding from donors in their own state. In fact, on a list prepared by Congressional Quarterly which showed the members of the House with the highest proportion of out-of-state campaign contributions, you must go to the list's ninth position in order to find a Republican. For the 2010 election campaign, there are four Democrats whose out-of-state donations exceed 90% of their total campaign contributions. Below is a list of those four Democrats, the amount of out-of-state money they have raised, and the entities which so graciously donated to these folks. Keep in mind that when a corporation is listed, the headline donation amount is a cumulative number, indicative of many employees "choosing" to contribute to that specific campaign.

Rep. Chellie Pingree (D-Maine) - 98% Out-of-State
Top Donors:
  1. Paloma Partners, $52,800
  2. ActBlue, $20,200
  3. Prudential Connecticut, $4800
Rep. Patrick J. Kennedy (D-Rhode Island) - 93% Out-of-State
  1. Thornton & Naumes, $16,500
  2. Pepsiamericas Inc $11,200
  3. Lhc Group $8200
Rep. James L Oberstar (D-Minnesota) - 92% Out-of-State
  1. Livingston Group, $7800
  2. Naismith Engineering, $5500
  3. L&G Engineering, $4800
Rep. Howard L Berman (D-California) - 91% Out-of-State
  1. NorPAC, $13,400
  2. Akin, Grump et al, $6900
  3. Vivendi, $6400
Just to provide some perspective, the top Republican on this list is Rep.Don Young (R-Alaska), who logged 79% of his campaign contributions from out of state individuals; that number is still high, but at least it's not in the 90's.

My primary issue with this sort of data is that it suggests that the residents of a particular Congressional district have been subordinated - from an influence perspective - by out of state donors. When an individual is elected to Congress with the help of non-resident contributions, he or she will inevitably spend an undue amount of time answering to the interests of those donors. The devil's advocate would, at this point, assert that since a district's residents are the only individuals eligible to vote for their particular representative, they can easily vote a non-cooperative Rep out of office. Unfortunately, these sort of "power of the vote" arguments fail to acknowledge the fact that the vast majority of voters have absolutely zero influence over which men or women appear on the ballot. Candidates do not simply spontaneously appear on the ballot as a result of the citizens collective wishes; it takes money to even get on the ballot, and there is nothing preventing out-of-state money from asserting substantial control over a district. With that said, I think it would be completely reasonable to suggest amending campaign finance law, so that candidates may only receive donations from the residents of their particular district.

There is currently a picture perfect example of how out-of-state money can distort a Congressional race; it's so perfect in fact that prior to it's occurrence, I would only have considered describing the situation in hyperbolic fashion. Anyways, we all know that Joe Wilson had an outburst during the President's health care speech, screaming "you lie!" in the middle of it. Rep. Wilson is entitled to his opinion, although I don't necessarily agree with the way in which he chose to express himself, but that's beyond the scope of this article. As a result of Rep. Wilson's - in the grand scheme of things irrelevant - outburst, Democrats have launched a nationwide fund raising campaign, the proceeds from which will be used to fund the election campaign of Rob Miller - the Democrat who will be challenging Mr. Wilson in 2010. Since Wednesday, over $700,000 has been raised for Rob Miller by various Democratic groups, including ActBlue.

Recognize ActBlue? That's because they are listed as Rep. Pingree's 2nd largest contributor (above) raising over $20,000 for the Congresswoman from Maine. Organizations such as ActBlue have become too powerful, and are distorting elections which should be decided by the residents of that district, not out-of-state activists. Sphere: Related Content

Thursday, September 10, 2009

Will Illegal Immigrants Receive Health Care Under H.R.3200?

After Representative Joe Wilson's (R-SC) outburst last night, it's clear that there is a distinct concern amongst conservatives as to whether H.R.3200 - the health care bill that everyone has been roaring about - will effectively subsidize health care for illegal immigrants. The Right has long suspected that Democrats are willing to buy Hispanic votes at any cost; Rep. Wilson's outburst is merely a publicly displayed manifestation of that suspicion. What's the truth though? Will H.R.3200 provide free health care to non-citizens/illegal immigrants? Once again, I've decided the easiest way to answer this question is by reviewing the latest Congressional Research Service report, titled "Treatment of Noncitizens in H.R.3200". The report is encrypted, so I can't load it up to the site right now; I can email the report to anyone who thinks I might be misrepresenting it's content, but otherwise you'll need to trust me.

Coverage Requirements
First of all, H.R.3200 would require that all legal permanent residents, non immigrants, and unauthorized aliens (who meet certain requirements pertaining to amount of time spent in the country) obtain health insurance coverage. Well, actually H.R.3200 would only amend the Internal Revenue Code such that an additional tax would be levied upon any of the individuals listed above who do not obtain health insurance coverage; men in black suits will not be appearing at your doorstep to compel you to sign a health insurance policy. Clearly, unauthorized individuals could obviate this provision by simply not filing taxes; however, speaking for myself, I probably wouldn't file my taxes either if the government was unaware of my existence.

The Health Exchange
H.R.3200 would establish - effective 2013 - a health insurance exchange; the exchange isn't in and of itself an insurance provider, it is merely a uniform way of presenting the various private insurance options alongside the public option. H.R.3200 does not address whether or not an individual must be a legal US citizen in order to participate in the exchange, in theory making it completely possible that an illegal immigrant could participate. A bit of editorial here though: the alternative is emergency room visits that drive up the cost for everyone. Also, please read the "Credits" section below before you jump to conclusions.

Health Care Credits
Enough with the euphemisms, the portion of H.R.3200 that refers to "credits" is talking about a government subsidy of health insurance premiums for lower income individuals. For the purposes of this article, it's irrelevant how the government will calculate the amount of subsidy that an individual is eligible for. What is relevant though, is that in order to qualify for a health insurance subsidy of any sort, an individual must be lawfully present in the United States. There are a handful of exceptions, although they may have been added to the bill in an attempt to trick Republicans into opposing their inclusion. The following groups of people MAY receive subsidies, even if they are not lawfully present in the US: trafficking victims, crime victims, fiancees of US citizens, and those who have applied for US citizenship but whose application has been stalled in the bureaucracy for 3 years or more.

The CRS report - which was prepared by Alison Siskin (immigration policy expert) and Erika K. Lunder (legislative attorney) - makes an intriguing point that is nearly identical to my first impression of the immigration related provisions of H.R.3200. Specifically, the bill would require certain resident aliens to secure health care coverage, but would prohibit them from receiving credits towards it's purchase - even if they qualified from an income standpoint!. Thus, I don't think it's too much of a stretch to state that, in many instances, it will be foreigners/illegals/noncitizens (whatever your preference) who will be subsidizing health insurance credits for others! Sphere: Related Content

Wednesday, September 9, 2009

Parsing H.R.3200: End of Life Care Provisions

Typically, I've tried to tackle political issues on this site without the use of ideological talking points; besides the fact that I abhor the concise, pre-packaged way of thinking about the world that is advanced on cable TV networks, I find it much more constructive to 1) assess who is likely to win upcoming elections, and 2) point out blatant dishonesty when I see it. Now, because of the dishonest nature of politics, I was forced to insert the word "blatant" into the previous sentence. That is to say, I only feel like the most egregious acts of political dishonesty are worthy of discussion. That being said, on the eve of President Obama's Congressional address concerning health care reform - an effort that in my opinion will ultimately be viewed as a failure - I'd like to go head first into the topic of HR 3200 and End of Life Care Provisions. Depending upon your political disposition, you may prefer to use the term "death-panels"; I however, will refrain from using this sort of dishonest innuendo-laden terminology.

My assessment of HR 3200 and it's end of life care provisions is based upon a research report prepared by the Congressional Research Service. The CRS is sort of like the policy analysis equivalent of the Congressional Budget Office; it produces objective legislative and policy analysis that is relevant. For those who don't have time to consume the full report, I'll summarize the portions of HR 3200 that deal with end of life care below.

Advance Care Planning
HR 3200 would expand Medicare to cover an advanced care planning consultation with your physician. This consultation would be completely optional, and would allow adults to have a discussion with their doctor about the various stages involved in end of life care. It would also provide patients with the education they need concerning "health care proxy's", or the appointment of a spouse or other family member who can effectuate medical decisions in the event the beneficiary has become incapacitated. This provision would also standardize end-of-life-care preference statements across jurisdictions so as to avoid confusion.

Quality Measures
This provision would incentivize physicians to report on end of life treatments from a quality perspective; that is, whether the treatment rendered helped improve the quality of the patient's life. Since improving quality of life should be the underlying purpose behind any end of life treatment, it seems that a centralized Medicare data collection initiative would have the best chance of maximizing that goal. This provision does not in any way institute panels which would make end of life decisions; it simply gives physicians a 2% bonus for reporting the effectiveness of a procedure.

Educational Aspect
Finally, the bill would update the well-known Medicare handbook titled "Medicare and You" to include language about advanced care planning. A separate House Energy and Commerce Committee amendment would direct the HHS secretary to establish a toll-free national hot-line that would provide answers to questions about advanced care planning.

There you have it. The above provisions are the only ones included in HR 3200 that deal with end of life issues. There will no be no government bureaucrats deciding whether you live or die. The ironic thing about that argument is people pretend there isn't already somebody else making these decisions for them. Given that very few people can actually pay cash for medical procedures, they are always relying on either an insurance company or the government to pay for them. In the case of the elderly, they are on Medicare, so the government is already making judgments concerning their benefits. This is the sort of thing that gets fleshed out in an intelligent debate; however, I haven't seen very many of those occurring. Sphere: Related Content

Monday, September 7, 2009

Blockbuster Could Collapse in 2010

The corporate graveyard is littered with companies that were either unable to adapt to structural changes within an industry, or were - in the saddest of situations - unaware that these changes were even happening. Blockbuster Inc. (BBI) currently suffers from a combination of those two factors, a predicament exacerbated by the emergence of aggressive competition to it's core video rental business. This competition has intensified to the point that Blockbuster could be forced into either bankruptcy or irrelevancy within the next 12 to 18 months.

Most of us have stepped inside one of Blockbuster's brick and mortar video rental locations; at one time, getting in the car and heading to Blockbuster was actually an exciting event. Then Netflix (NFLX) came along, offering customers video rentals by mail, and immediately siphoning sales from Blockbuster. Presently, subscription based video-by-mail services account for 36% of all videos rented by consumers, compared with a 45% share for rentals purchased at physical store locations. Blockbuster has also attempted to offer a Netflix-like service, however, it has clearly been unable to compete in this arena. The Company's total revenue was nearly $700MM less in 2008 than in 2003; a sign that it has been woefully incapable of replacing lost brick and mortar sales with online and mail alternatives. As a comparison, Netflix logged 2008 revenue that was over $1B more than it recorded in 2003.

Recently, video rental kiosks have made an enormous splash by offering cheap $1/day rentals, in prime locations (WalMart, grocery stores). DVD's rented at these kiosk locations now account for 19% of all video rental activity. More importantly however, is the marketing research firm NPD Group's prediction that, in the year 2010, 30% of all video rental transactions will take place at kiosks! A market share shift of that magnitude, in such a short period of time, will likely destroy Blockbusters brick and mortar sales. The Company appears to understand the dying nature of a DVD rental physical storefront, and has plans to charge headfirst into the kiosk rental business. Blockbuster only has 500 such machines right now, but expects to roll out 7000 in the year 2010 alone. Alas, this effort may be a textbook example of "too little, too late"; the leading player in the kiosk game - Redbox - already has machines in over 15,000 locations. The traditional real-estate cliche - location, location, location - has distinct parallels in kiosk site selection; a kiosk must be located in a venue that is convenient for the consumer. With a 14,500 machine disadvantage, it's likely that Blockbuster will struggle to compete with Redbox in the battle to place kiosks in the most convenient spots. Over the next year, the largest threat to the kiosk distribution model will be licensing disputes with change-averse Hollywood studios. As far as Blockbuster is concerned however, the question of whether or not studios will succeed in stymieing kiosk sales is effectively the difference between a bad or worse outcome for the Company; they will either continue to make a push into the market - from an extremely disadvantaged position - or their only chance of survival will be squashed by the studios.

This rapid shift in the video rental business is occurring at a horrible time for Blockbuster. The Company's revenues are on pace to decline $1B, or almost 20%, in 2009 compared to 2008. Assuming that NPD Group's projections regarding kiosk market share are correct, Blockbuster's second half numbers will deteriorate even further from already depressed current levels. I wouldn't be surprised if the Company logs less than $4B in revenue for 2009, a greater than 33% decline in annual revenue since 2004's $6B year. Unfortunately for Blockbuster, that isn't even the bad news; the Company has $415MM worth of debt obligations due between now and the end of 2010. So how does a Company with less than $100MM in cash, rapidly declining sales, and gruesomely negative cash flow meet such an obligation? Well, Blockbuster's strategy is to do the only thing they can: slash G&A as rapidly and as deeply as possible, and sell assets like there's no tomorrow (because there might not be). This was a borderline-achievable goal prior to the rapid ascent of kiosk rentals; under present conditions however, it may be impossible. Simply put, sales may be declining faster than Blockbuster's ability to preserve cash via cost cuts and asset sales.

Many people still visit Blockbuster's physical locations, and may be disheartened in the event the Company is unable to meet it's looming debt obligations. My movie viewing habits will not be disrupted though; I've been streaming Netflix video content, on-demand, through my XBox for several months now.

*no position in any Companies mentioned in article Sphere: Related Content

Sunday, September 6, 2009

Will Health Care Reform Impact the 2010 Midterm Election?

Many political prognosticators - myself included - have speculated that conservative opposition to any sort of health care reform will strengthen the Republican party's base, allowing the GOP to gain Congressional seats in the upcoming 2010 midterm election. Historically, midterm elections have turned out favorably for the opposition/minority party, even in the absence of a catalyst issue such as health care. Furthermore, the current situation is reminiscent of 1994; a time when Republicans rallied against universal health care and government largess in general to command a large victory in that year's midterm election. The most recent polling data also provides empirical evidence that the public is growing increasingly dissatisfied with the President's push for health care reform. Recent Rasmussen polls indicate the following:
  • 40% of voters say deficit reduction should be the President's #1 priority, versus 21% who think health care should be #1.
  • 68% of voters say that health care reform legislation is likely to increase the federal budget deficit.
  • 54% of voters say that a tax cut for the middle class is more important than any health care reform spending.
The last decade has shown us that Republicans barely possess a modicum of fiscal discipline. The GOP has however, through it's criticisms of $10MM portions of $780B pieces of legislation, positioned itself as the Party of deficit warriors. I'm not exactly sure how the GOP can make this claim, given that Clinton is the only modern-era President to actually run budget surpluses; perhaps rhetoric is more important than the facts. This strange reality, combined with the fact that more Americans now disapprove of President Obama than approve of him ( 49% approval latest Rasmussen poll), should logically translate into a strong Republican showing in 2010. When you zoom into district-specific polling data however, it appears that Democrats may emerge from the midterm election with even wider majorities in both the Senate and House.

In the Senate, there are seven seats that could realistically go to either Party; five of those are currently occupied by Republicans. As we get closer to election time, I'd predict that Harry Reid (D-NV) and Arlen Specter (D-PA) will be added to the list of imperiled incumbents. Still though, Democrats are in a position to gain one, or possibly two Senate seats. The other "toss-up" seats, as determined by polling data collected by CQ, are:
  • Dodd (D-Connecticut)
  • Burris (D-Illinois)
  • Bunning (R-Kentucky)
  • Bond (R-Missouri)
  • Burr (R-North Carolina)
  • Gregg (R-New Hampshire)
  • Voinovich (R-Ohio)
In the House of Representatives, only three districts are presently legitimate "toss-ups"; Minnick (D-Idaho), Kratavil (D-Maryland), and McHugh (R-New York). On the cusp of being classified an at risk district however, are the seats occupied by Kirk (R-Illinois), Gerlach (R-Pennsylvania), and Melancon (D-Louisiana). That being said, the current calculus would indicate no net change in the political composition of the House.

The wild card for 2010 may still be based upon the final outcome of the health care debate; most importantly, the perceptions of swing-district voters with regards to whether their representative has cast a health care vote that is in their best interest. This dynamic may be exacerbated in the event Democrats resort to a budget reconciliation procedure to pass health reform legislation by a majority vote. Nevertheless, the current "furor" over health care reform has done little to change the potential outcome of the 2010 midterm election. Sphere: Related Content

Friday, September 4, 2009

First Bank of Kansas City - And Others - Fall Into the Government's Arms

I realize that today's bank failure - First Bank of Kansas City being the wilted financial institution- is a relatively insignificant event which shouldn't realistically be compared to the General Motors bankruptcy. However, I found the Wall Street Journal's headline on that day to be so humorous, that I've saved a copy to look at while at work. In case you're new to reading, the headline read "GM Collapses Into Government's Arms". Anyways, I've been looking for a chance to invoke the concept of a corporation's 1) knees buckling 2) falling towards the ground 3) caught and embraced by the benevolent arms of the federal government - into a post title. Because the First Bank of Kansas City has (had) assets totaling only $16MM, I would imagine that it's collapse did not cause any undue strain upon the government's arms. Technically, the cost to the FDIC's Deposit Insurance Fund (DIF) is estimated to be $6MM. Although I'll snidely point out that six million bucks represents a larger percentage of the DIF balance than it would have been if measured at any other time this year, it isn't very much money at all. For instance, Goldman Sachs could easily replenish this $6MM portion of the DIF by donating 23 minutes worth of trading profits to the FDIC (assumes $100MM daily trading profit generated at a constant per second rate ($4327/second) during the 6.5 hours of a standard trading day)

Update - before I could finish writing this post, the FDIC announced the 86th and 87th bank failures of the year, as Inbank and Vantus Bank have both apparently fallen into the increasingly crowded arms of the government. This development ruined the latter part of my post, as I had planned to comment on the fact that a 1 bank failure Friday is a rare thing indeed. Furthermore the failures of Inbank and Vantus Bank will cost the DIF an estimated $66MM and $168MM, respectively. On a $100MM trading day, it would take Goldman Sachs 2.34 days to replenish the DIF for the losses it has incurred as a result of the wilting of these two banks. Sphere: Related Content

Thursday, September 3, 2009

Assessing Natural Gas as an Investment

Natural Gas, an abundant yet integral component of US energy supply, has today reached a price of $2.52 per million British Thermal Units - a level not seen since 2002. I'm always intrigued when the price of an asset reaches a multi-year low (unless of course that "asset" is the common stock of Fannie Mae), especially when the asset is a commodity that is used for daily and essential functions such as heating homes and cooking food.

The catalyst for today's drop in natural gas prices, according to most media outlets, was the Energy Information Administration's report which showed a 17% year over year rise in the nation's underground gas inventories. As evidenced by the chart below however, there isn't a definitive relationship between the price of natural gas (as measured by the United States Natural Gas Fund) and the total volume of gas in underground storage.
While UNG may not be the most accurate measure of spot natural gas prices - the fund trades at a ~10% premium to it's net asset value - it's certainly reliable enough to illustrate the point. Additional concerns abound regarding the contango that's developed in the natural gas futures market; that is, near month contracts are trading at a steep discount relative to those further in the future. From my perspective, this is a concern that should only apply to individuals who are establishing short term trading positions. In other words, if you can stand to watch your brokerage account balance fluctuate over the next several months, it may be wise to base your investment decision on the potential future demand for natural gas.

I am of the opinion that, while the private sector fuels the lions share of economic growth in this country, large structural changes are most often effectuated via the federal government. Within the broad context of energy sources, this dynamic can be observed in the recent revival of nuclear power - an area where the US lags far behind many European countries. Similarly, legislation recently introduced in the Senate has the potential to spur investment in natural gas technology, specifically in areas beyond NG's traditional scope of use. S.1643 would provide a $3500 tax credit for homeowners who convert their heating system from an oil, to a natural gas based system. S.1350 proposes to substantially increase tax credits for the purchase of a vehicle fueled by natural gas, as well as expand the credits available to anyone who builds a natural gas fueling station. There are other similar bills in the House of Representatives whose objectives are essentially the same. The bottom line is that Congress has identified natural gas as a cleaner, viable alternative to crude oil. Clearly, the switch won't be made overnight, but I suspect that natural gas will eventually overtake crude oil as our nation's primary energy source.

*no position in UNG Sphere: Related Content

Tom Daschle's Poorly Conceived Op-Ed on Health Care

For anyone who missed it, Tom Daschle, Democrat and former Senate majority leader, wrote an extremely ill-conceived op-ed which appeared in today's Wall Street Journal. After Senator Daschle's embarrassing admission earlier this year that he had "overlooked" paying taxes on over $300,000 worth of income - an admission that ultimately forced him to decline his nomination as HHS secretary under the Obama Administration - I assumed that he would slip quietly into the political night. Apparently though, Daschle is intent on wreaking additional political havoc on the Democrats' health care reform agenda.

Daschle's politically tone deaf article begins with a glorified account of the late Senator Edward Kennedy's funeral, emphasizing a eulogy at that event which he found particularly moving. Under most circumstances this would have been entirely appropriate content for an op-ed piece; however, Daschle's ultimate purpose in writing the article was to advocate the need for health care reform. Apparently, the soft-spoken Senator from South Dakota is unaware that Republicans are laying in wait for any and every opportunity to accuse Democrats of over-politicizing the death of Senator Kennedy. Daschle's article reeks of just that, and will likely be hoisted atop the Republican flag pole as evidence that Democrats are unable to refrain from exploiting Kennedy's death for political gain. To make matters worse, Daschle chose the WSJ editorial pages - the epicenter of intelligent conservative thought - as his venue, ensuring dissemination amongst Republican strategists.

In further aggravation of his cause, Daschle presented a largely emotion-based argument that won't sway a single fact-seeking moderate voter. In summary, Daschle lived up to every expectation and stereotype that Democrats have ever been accused of. Sphere: Related Content

Wednesday, September 2, 2009

Democrats Ponder Budget Reconciliation on Health Care

Despite commanding a 60-40 majority in the U.S. Senate, Democrats have thus far struggled to push their health care reform agenda past the committee level. The threat of a Republican filibuster has served as the primary deterrent to this point, however, some Democrats have recently begun suggesting the use of the budget reconciliation process in order to bypass the need for a filibuster-proof majority.

The Budget Reconciliation Process has it's origins in the Congressional Budget Act of 1974, and was originally intended to allow Congress to pursue deficit reduction measures in an expedited fashion. In the years following 1974 though, reconciliation became somewhat bastardized, as it was commonly deployed to increase government spending in targeted portions of the budget - often in violation of committee jurisdictions, and without the usual time for debate. In reaction to widespread abuse of the reconciliation process, Senator Robert Byrd (D-WV) led an effort to reform the process with the introduction of what is now known as "The Byrd Rule". This rule essentially established a procedure whereby members of Congress could object to an "extraneous" element contained in a reconciled budget bill. There are however exceptions to what can be labeled "extraneous" for purposes of a Byrd Rule attack, most notably (if):
  • The provision will (or is likely to) reduce outlays or increase revenues: 1) in one or more fiscal years beyond those covered by the reconciliation measure; 2) on the basis of new regulations, court rulings on pending legislation, or relationships between economic indices and stipulated statutory triggers pertaining to the provision; or 3) but reliable estimates cannot be made due to insufficient data.
I've specifically pointed out this "exception" because it would seem to offer the Democrats a justification for avoiding the Byrd Rule, and forcing health care reform legislation through the reconciliation process; after all, the President has long argued that the purpose of health care reform is to save money. The real question however is not whether Democrats can use budget reconciliation to achieve their domestic agenda, but whether they will. It's safe to say that the political consequences would be enormous, eradicating even the appearance of Republican cooperation for the remainder of President Obama's term in office. Senator Lamar Alexander (R-Tennessee) even said that, if Democrats should choose to pass health care legislation through the reconciliation process: "There'll be a minor revolution in this country"

I'm not exactly sure what Senator Alexander meant by a "minor revolution", but I'm fairly certain that health care via reconciliation would arouse the Republican base in ways not seen since 1994. The election of that year was coined "The Republican Revolution", as the party assumed control of the House of Representatives for the first time in 40 years. Although these staunch conservatives represent a minority of the country, it's not about how strong your numbers are, but about how many in your ranks vote.

*Great primer on budget reconciliation process and the Byrd Rule Sphere: Related Content

Tuesday, September 1, 2009

CMBS Delinquency Report Improves on Aberration

Realpoint - the competition enhancing, transparency embracing, antithesis of the big three NRSRO's - has released it's monthly CMBS delinquency report covering the time period through July 2009. At first glance, my illustrative chart above would indicate that the month of July was a respite of sorts for the agglomeration of toxic underwriting, better known as commercial mortgage backed securities (CMBS). Thanks to Realpoint though, we know that July's decrease was the result of $4.8B worth of loans that have been conveniently returned to "current" status. Apparently, something "went wrong" with these loans in June, causing an insufficient stream of cash to flow down to apprehensive bondholders. We don't have any hard information as to what exactly happened to this $4.8B slug of debt, but it's likely that some sort of temporary workout/modification/capitulation occurred through the efforts of whatever entity is charged with servicing this sludge. I doubt that these loans will ultimately escape the grasp of delinquency, as the current US economy is extremely bifurcated in terms of businesses access to capital and general viability/solvency.

Basically, we've come to a fork in the road where, as a corporation, you are either reveling in the amount of capital that you have access too, or you are slowly burning cash as you drift into the abyss. Furthermore, you are either growing steadily more confident in your firm's top-line and new order prospects, or you are in denial that any economic improvement has occurred since January. My guess is that, at the heart of this $4B "hiccup", there are businesses which fit the latter description, and have become unable or unwilling to honor the terms of their lease agreement. Modifying these loans will not repair the deteriorating fundamentals of the businesses that are struggling to pay for the storefront. This dynamic will continue to characterize the US economy in the months to come. Sphere: Related Content