Racine Journal Times, WorkLife Section, January 20, 2008

Déjà vu

The Chinese New Year is just around the corner.  We’re winding down the year of the pig and about to usher in the year of the rat.  How appropriate.

Consider Angelo Mozilo, CEO of Countrywide Financial Corp.  Mr. Mozilo pulled a fast one on Wall Street, convincing most that all was well in mortgage land while simultaneously selling more than $265 million of his company’s stock over the last two years.  His average selling price?  $36.90.  Today, the stock is worth $6 and change, which would probably be lower if Bank of America didn’t come to the rescue.  How convenient.

Mozilo’s day in the sun, which can be described as “Kenneth Lay, Enron Debacle, Part II,” creates a healthy, cynical dose of heartburn for those interested in protecting their capital.  Cynicism, when applied in the right amount to investment decisions, is quite valuable as it causes one to take notice when the top dog of XYZ Public Co. says, “Do as I say, not as I do.”

As Groucho Marx said, “Who are you going to believe, me or your own eyes?” 

Is it possible to be cynical and optimistic at the same time?  Courageous short sellers would probably say, “Yeah!”  Their cynicism creates optimism (at least for them) in a unique way for they have the opportunity to capitalize on situations like Countrywide’s downward spiral.  But short sellers (expecting the stock price to decline) are reviled by the long-only crowd (expecting the price to rise), creating a tug of war between opposing forces resembling partisan tactics in our political arenas.  And this is exactly as it should be.

Debates are healthy.  An exchange of ideas between those with open minds, the courage to speak their minds and the willingness to learn is what fosters progress.  Those who fit the opposite of this description have been dubbed sheeple.  As you probably guessed, this funny word is a cross between sheep and people.  It’s used to describe those who accept what they’re told at face value, without contemplating whether the information makes sense to them, or if it accurately reflects their view of the world.

Many in a position of power love sheeple.  Naturally, life is so much easier without all those questions and accountability, but rarely better – especially in the long run.  That’s why I’m leery of any CEO who is visibly uncomfortable or evasive when anyone boldly peppers them with good questions.  Who’s the best known polar opposite of such a CEO?  Warren Buffett.  Mr. Buffett is so welcoming of questions during Berkshire Hathaway’s annual meeting that he spends countless hours answering as many questions as he can.  That, along with making them lots of dough, is one of many reasons Berkshire shareholders adore him so.

Heads of state are largely responsible for the success of the business they manage, but it’s also shareholders’ responsibility to keep them in check.  That’s why I’m even more leery when there aren’t enough shareholders asking those questions begging to be asked.

For example, stock analysts are so obsessed with the minutia of quarterly revenue and earnings projections that they often overlook the fact that it makes no sense to blindly accept a CEO’s word on the condition of the business he has been entrusted with while he’s liquidating the majority of his interest in that business.

This happened with Enron, and once again with Countrywide.  Investors blindly accepted the analysts’ recommendations to buy or hold the stock while chastising short sellers for being so un-American.  Did I say this happened with Enron, and once again with Countrywide?

Mon Dieu, we could call it déjà vu, but this scenario doesn’t quite qualify.  It didn’t just feel like it happened before.  It actually did happen before.

The same can be said of those who blindly accepted triple AAA bond ratings stamped on asset backed securities such as collateralized debt obligations (CDOs).  I suppose a simple question like, “I’m basing my decision on their information and analysis, so what are the ramifications if they’re wrong?” never occurred to those entrusted with shareholder capital.  Oops.

Apparently, investors enjoy learning lessons again and again – especially when the Fed keeps rescuing financial markets and consumers addicted to debt and low interest rates.  Those other, minor details such as debasing our currency, stoking inflation and a negative real rate of return on U.S. Treasury securities just aren’t that important.  How unfortunate.

One of the best outcomes of economic contractions is they correct excesses created by those like Mr. Mozilo, and bring to light their true character, which invariably (and thankfully) weeds them out of the system.

The other good thing about the current weak economic environment is that more buying opportunities are finally popping up for those who have waited patiently to buy good investments at a decent price.

What’s built up over the last five years won’t correct overnight, so the next year or so will offer even more buying opportunities, depending upon the severity of the recession.  Investors who are cynical when it makes sense to be cynical; optimistic when it makes sense to be optimistic; who wait patiently and refuse to join the flocks of sheeple do best whether or not the financial markets are wrestling with bulls, bears, pigs or rats.  Those ready to swing with gusto when they get their fat pitch will be rewarded handsomely.

Michelle Ouzounian, CMFC, is the founder and President of Verity Investment Counsel, Inc. (www.verityinvcounsel.com), a fee-only, independent registered investment advisory firm in Racine. Michelle can be reached at 262-898-8400, or m.ouzounian@verityinvcounsel.com.

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