THE GREAT DISCONNECT ? : MIND THE GAP / BARRON´S ( HIGHLY RECOMMENDED READING )

MONDAY, NOVEMBER 16, 2009

UP AND DOWN WALL STREET

Mind the Gap

By ALAN ABELSON

The great disconnect between Wall Street and Main Street is sure to end in tears. Update on commercial real estate.


IF WE HAD ONLY KNOWN. ALL THIS TIME, we've been moaning about the great disconnect between the scintillating action in the stock market and the dour mood out there in the real world. While Wall Street remains gleefully focused on how much higher the stock market, already up 60% since the March low, will climb, Main Street continues to be plagued by existential fear that jobs, incomes, homes, all the things that go with the good life, are in jeopardy. We've spent countless hours fruitlessly attempting to unravel this mysterious discrepancy, but not until last week did we quite fortuitously stumble on a possible solution.

For it, we're indebted to a piece in the New York Times describing recent research that disclosed that, contrary to their epithetic reputation and bad table manners, hogs rank way up there on the animal cognition scale. At the very least, we'll be considerably more reverential when we next address a strip of bacon. Somehow, we must confess, it never dawned on us that pigs had such high IQs, perhaps because we've paid too much heed to the venerable Wall Street caution that bulls make money, even bears make money, but hogs never do.
That hallowed bit of Street sagacity has been turned on its head, since in this year's riotous market, investors with porcine appetites made out like bandits (which some of them probably were). Perhaps the new investment paradigm (gosh, we miss some of those catchy phrases that were so popular in previous euphoric episodes) is that more is always better, and it doesn't matter very much, more of what. One thing we did find a bit disturbing about the swine research is that hogs are very good at herding sheep, which suggests that once this current speculative binge runs its course, the Street will be filled with shorn sheep.

We're quite aware that metaphors aren't the real thing, and we readily concede that there are more tangible explanations for the great disconnect, although we suspect that none will dismiss the hoggish element completely. In any case, Friday provided a nifty example of the contrast between what the public is experiencing and Wall Street's perception. Equities bounded joyously ahead, despite a fresh and persuasive sign that the consumer was stuck in a deep funk.
The Reuters/University of Michigan preliminary survey of November consumer sentiment displayed a disconcerting sag to 66, from 70.6 in October and a good cut below the consensus guess of 71. More ominously, expectations of Jane and John Q. took a tumble as well, to 63.7, from 68.6 in the previous month, and when they looked out a full year, the decline was even more unsettling, to 67, from 81 in October, and the lowest reading since April.

Richard Curtin, director of the survey, somewhat ruefully noted that a mere one in 10 consumers polled reported an increase in income, the fewest recorded in data that stretch back to 1946.

None of which bespeaks an exactly merry Christmas ahead for retailers. Yet as Alan Newman, in the latest edition of his always informative CrossCurrents newsletter, points out, you'd never get a hint of it from the buoyant performance of the retail sector, a performance, he notes, that's sharply at odds with the rush by sector insiders to dump their own stocks.

In the six months ended Nov. 6, they sold 16 million shares, nearly nine times as many as they had unloaded in the spring. And, as he puts it, they're selling shares in droves only weeks before the start of the holiday season, when they traditionally garner 30% of their annual sales. That suggests to him at best a flat economy and at worst a double-dip recession.

Which, in turn, doesn't exactly suggest to us glad tidings for the market as well as the merchants.

ALTHOUGH, ALAS, WE HAVEN'T HAD THE PLEASURE of his company, Robert Benmosche strikes us as a man who knows what he wants, and woe be to anyone who stands in his way as he grasps for it. He also seems like the kind of man who insists his employees call him not "boss" but "Mr. Boss," and, in return, sees that their larders and stomachs are full. There's something, in other words, Dickensian about his persona.

Mr. Benmosche was brought in to resuscitate AIG, the ailing mammoth insurer brought low by its speculative folly and kept alive by the grace of Uncle Sam and the ever-generous taxpayer; today, it's an ailing ward of the government, which has a call on something like 80% of its downtrodden equity. Not surprisingly, like any ordinary proprietor or major creditor, the government has a stingy notion of how a corporate mendicant should compensate its workforce.

Indeed, Washington has quite autocratically deigned that taking the public's dough endows it with a veto if it doesn't cotton to how you're spreading the vital lucre around. What nerve, eh? It's enough to make a feisty chap like Mr. Benmosche tell Uncle to shove it. Which, supposedly, is just what he was prepared to do, when he had a change of heart.

We don't want to give you the impression that his fit of pique sprang from selfish pecuniary interest; his own modest pay package of $10 million wasn't at issue. What he was ticked off about was not being able to pay his loyal lieutenants the millions he believed they deserved.

Whatever AIG's faults, parsimony was never among them, even in the depths of its despair, late last year and early this, when it teetered on the precipice, threatening to drag with it into the abyss a large part of the financial system. Nonetheless, after receiving authorized life-saving assistance of $182.3 billion, the company chose to reward its workers with $168 million in "retention" bonuses. That was a heart-warming act, since at the time the job market was terrible and getting worse and especially forbidding for alumni of AIG.

The largest bonuses, ranging up to $4 million, were naturally paid to the very people who oversaw the deconstruction of AIG, on the compelling logic, we can only infer, that who better to get it out of the infernal mess than the ones who played such a critical role in putting it there.

But the honey pot wasn't restricted to the command corps. A kitchen assistant got $7,700; a filing clerk, $700. Even in the midst of a horrendous recession and widespread joblessness, a good man who could tell a knife from a fork was hard to find. Don't misunderstand us, please: We think the kitchen helper and filing clerk deserved every dollar they got. Too bad we can't say the same about their titular superiors.

All of this preceded Mr. Benmosche's arrival. But obviously, to judge by his ire at being prevented from endowing his aides with the big bucks that he deems their entitlement, he feels obliged to respect such a grand tradition. We should mention that AIG still is officially in hock to the government for $83.6 billion, and that tidy sum doesn't include $44 billion owed to a couple of financial entities created with loans from the Federal Reserve Bank of New York specifically to buy the insurer's risky assets and, more importantly perhaps, securities underlying its pesky credit-default swaps.

RANDY ZISLER RUNS THE EPONYMOUS investment fund Zisler Capital Associates, out of Marina del Rey, in what used to be called the Golden State, but which, it's no secret, has lost not a little of its financial luster. Zisler invests in real estate and was right on the money in calling the top in 2006 and is as savvy as they come about that once-bountiful and now very soggy field.

The firm put out a terrific report, sort of a slide show that runs some 67 pages and is chock full of simply presented, easily digested analysis and graphics, entitled "What Causes Bubbles and Crashes, and What Can We Do to Prevent Them?" (besides emigrate to the moon, that is). It also suggests how to profit when bubbles, as they inevitably do, burst.

A compressed and somewhat more somber version by Randy, dubbed an "overview," was included in a recent report on the state's finances issued by the California State Controller's Office. In the overview, he notes that familiar old pair of villains -- excessive and imprudent leverage -- fed the bubble, while deleveraging not only popped it, but, in the process, destroyed record amounts of equity and debt. Result: Most leveraged equity invested in real estate from 2005 has evaporated, as property prices, if marked to market, have fallen 30% to 50%.

He reckons that property values in sectors like office, retail and industrial are likely to decline further next year, but, we're happy to relate, envisions an upturn in 2011. Meanwhile, we're less than happy to report, he anticipates a massive repricing of all commercial real estate and warns, "a crisis of unprecedented proportions is approaching."

Of the $3 trillion of outstanding mortgage debt, Randy points out, $1.4 trillion is slated to mature in four years, and he estimates another $500 million to $750 million of defaults. Maturing debt will have a tough time finding lenders. Debt that has been or will be marked to market, he predicts, will render many banks, especially of the regional and community kind, insolvent, since much of the debt is worth half or even less of par value.

Even if you are given to wearing rose-colored glasses, as seems to be the high fashion in the Street these days, it's not a very pretty picture.