SharperDingaan

We're probally exceptionally unusual, but some things we've learned. (1) All boats sink in a crash, the quality of the boat is irrelevant. If you think there might be a material adverse macro event within 'X' months, why are you holding the boat at all? (2) At 100% cash, the worst that can happen is that you miss a run up and suffer an inflation loss. If you see the market rising, are you really going to do absolutely nothing for an entire year? And if inflation is maybe 1-2% at best, does it really matter? Were you a PM I'd fire you for doing this. As individual investor inflation is my, & not my PMs 'do nothing' cost. (3) When everyone owes money & needs cash to repay, shouldn't that demand make cash the pricey asset? I have it, you don't, & you have to sell your asset to avoid a default? And then why should I not use that opportunity? Dont be afraid of cash. SD

Keep in mind that a value investment 'buy & hold' is a long term strategy; & it's most profitable when the local economy is improving. Over time, inflation + GDP growth produce positive earnings growth that is magnified by P/E expansion. If there's a friendly business climate, even the dogs will make money. But what if the business climate is not friendly? and it goes on for 5-10 yrs? What if inflation + GDP only ranges from -2% to +2%? You will not make as much, but you'll own lots of quality at cheap to 'historic' prices. When the economy turns around you'll do well, but untill then? There is a lot to be said for liquidity, and the trading of liquidity as & when the opportunities present themselves. SD

Its actually a very good idea. Its virtually certain that a large number of US munis are going to default over the next 6-18 months. When they do, all munis will find financing very expensive or impossible to get - unless MBIA can actually cover the defaults. To realistically do so they would have to sell their investments in quantity, & the net buyer would effectively have to be the Fed. The alternative is a collapse in the US bond market, not unlike the Greek Sovereign crises (California alone is roughly the same size as Greece) . You're buying a future cash flow at a deeply distressed discount, & you have an implied fed backstop driving that discount even higher. If it gets nationalized you win as the CF discount drastically declines. Same thing if the implied backstop becomes explicit. Long term, Munis don't default & this is a very profitable business. Along the way its highly likely there will be debt/equity conversion, & an existing bond/equity holder will end up with a substantial chunk of the company. If you're patient you win, if you trade you win, but you're not necessarily the same investor. There's been growing talk of the need for a 2nd US fed intervention to keep the US economy going. Most would think that MBIA would be a highly likely recipient. SD

There was also an article entitled "Event Horizon" in this months CFA magazine. European PM's see Europe as high risk, & are indiscrimanently selling Europe to move into Emerging Markets. Despite EM valuation being highly leveraged to liquidity (currently high re the herd mentality) & quality differences between a German and Italian instrument are not being recognized. A sudden European liquidity demand could very quickly end in tears. SD

Not pumping, just mathematics. [(200,000 rqd - 95,000 bought)/(95,000 bought)] x 10% change per 100,000 bought (Fridays actual outcome) x Fridays close price. But because folks are now aware, to get the extra shares you'd have to increase your bid. Still profitable but this time around you'd have to work for it. We had suggested patience a day or so ago, & cited that something like this was a distinct possibility. Since arbitraging, our common cost base is 1.01. Same as everyone else. SD

Arbs are rolling out of CFX and into FBK. More interesting is that to get about 100K shares they had to bid the price up by roughly 10% - & the small lots indicate that those shares came primarily from individuals. To make a 100K gain on a 50c spread they'd need 200K+ shares; & to pay approx 1.15-1.20/share (weakest hands have allready sold) SD

Most people would suggest that the Q2 market valuation going forward should not be any less than the Q1 market valuation was, just before the Q1 earnings release. About 1.50/share with todays larger share base. Most people recognize that Q2 was probably an improvement, & that upcoming guidance should be pretty good (refinancing impact, etc.). Worth, maybe a 15% increase?, or 1.73/share. If nothing else happened & someone made an offer for the entire coy, there would be a buyout premium. Usually around 30%, or 2.24/share. Management is incentivised @ 3.50/share, or roughly 2.42 under todays larger share base. So what if Q2 is good? If you could trade it for 1.70 & buy it at 1.00 you'd have a 70% gain, but to get it you'd have to act quickly & be sure you wouldn't be stuck with it later. If you continued holding for a takeout/restructuring @ 2.25 there's an additional 32% gain. Most traders would wait for a trigger (CFX earnings?) to confirm the thesis, & then act very rapidly. Most institutions would have gone the rights route @ 1.01.share. Patience. SD

We're on the same page, but might add: Its highly like that the rights issue was related to the debt restructuring done last year. We said at the time that it was reasonably probable that others (FFH, Quebec Government) were also in the room, & all those players were present at this refinancing. Most would summise that the refinancing was simply deferred for a year, & that it was an advantageous decision. Worst case is FFH does a takeout for the entire company & breaks it up. The cycle is turning & its unlikely that we'll see much of a peak beyond the next 2-3 months; its highly likely that a modest premium following the digestion of Q2-2010 results would win the company. There is very clear value to a long term & patient investor, & institutions have had the opportunity to average down enough to be reasonably certain of a gain. SD

Missed the FFH notice - since arbing our common holding, we haven't paid much attention. We still think the re-engineering isn't done yet, but at this point it's going to be asset sales and/or fiber purchases to get security over feedstock. That said; FFH has increased its position 34%, the remaining institutions have collectively taken up additional shares (oversubscription), there was insider buying in Q2, & pulp prices moved up materially over the quarter. Q2 results/guidance should be interesting. SD

You might want to be a little cautious on Cdn RE. It can/will decline but you also have an active BOC with the balls & clout to both arrest the worst of the decline, & slow it down. Better to bet on those with weaker regulation. SD

Did anyone notice what this press release is actually saying ? May 19, 2010 Information Circular, p16. FFH held 17.443M shares, or 19.37% of the 90.473M shares o/s. The rights issue produced 39.604M new shares (40M/1.01). Total new shares are 130.077M (90.473+39.604). If FFH holds 25.85% they now have 33.625M shares, an extra 16.182M shares. They got 3.742M via the rights issue backstop (8.549M rights/2.2845 rights), & must have bought 12.44M out of the market. 7.635M of these shares was to replace the subscription they gave up. Of the 7.635M shares available for oversubscription, 2.996M (39.3%) got taken up by other than FFH (assume all institutional) In short: FFH increased its position by 34% ((25.85/19.37)-1), & the 'other' collective institutional holders increased their position as well. And all of this ahead of a Q2 earnings release due out in roughly 3-4 weeks (mid august). SD

You might want to keep in mind that risk management is very different for a personal personal portfolio. It is not textbook institutional management. 1) The cash equivalent component should hold a minimum 6 months of living expenses. If it is in T-Bills assume 95% recovery, 70% if you're holding it in high quality bank paper. 2) The equity component should be in options & stock; the options will be either long puts/short calls on your employers industry, & enough to offset whatever options your employer has given you. For most people that will be most of the equity position. 3) The FI should be almost entirely high quality prefs, & zero coupon sovereigns. Get laid off for insufficent work & it doesn't really matter. You have cash to cover you, & a portfolio hedge that retained the value of your employer granted options. Keep your job & the insurance cost is relatively small while the economy is essentially stagnant. If the economy takes off you have cash to deploy. What should be apparent is that there's a minimum size. If you're below the minimum you should be either repaying your debts (cards, mortgage, etc) or sitting in mutual funds. Of course, none of this is in the textbook ;) SD

This is a time bet - Deflation now, Inflation later. Most folks would agree it is a very smart bet. But how long 'now' is ? is anybodys guess. Demographics point to the US needing longterm external vs internal stimulus. US boomers are entering retirement & disinvestment, & much of their portfolios are in US securities.Who is going to buy those securities at higher prices? The economics also point to coming cultural change; it does happen (60's race riots, black/female president, etc), but some parts of the US feel it more than others. Make illegals, legal & much of the demographics will resolve itself. Apartheid systematically concentrated economic power in a small minority, & embedded the practice in the nations culture. If you were a beneficiary you just couldn't see how you benefited, same thing if you were a disenfranchisee - it was just 'how it is'. Mandela showed that apartheid is not sustainable. Versions of apartheid still exist in the US. Privilidge based on skin colour in still a reality in the 'south', as is priviledge based on wealth (how you got the wealth being irrelevant). Most folks recognize that this has to change, & that is why there's so much disquiet. SD

Keep in mind that its very desirable & extremely easy for the G8 (& US) to inflate. All that need do is globally relax the tax regimes that keep Euro $,Yen,Sterling, etc offshore. The offshore markets would immediately collapse onshore, producing a flood of new currency, & giving each central bank full control. Redistribute the inflation gain into debt write-offs & a whole lot of good will occurr very quickly. SD

The price drop was purely arbitrage. We, & I'm sure we're not the only ones, have been selling common & buying rights in quantity. Sell shares early @ >1.15, Buy rights as late as possible @< .02, Subscribe @ 1.01. For every 10,000 shares sold the gain was around 942 less commission [10000*1.15-22900@.02-10000@1.01]. FFH is not going to be taking up much via the backstop. If you rolled your entire position, you ended up with the same share count & a cash gain well over the theoretical value of the rights at issue. Using Fridays closing price, the arbitrage produces a loss. Bid up the rights, & watch what happens to the share price ;) SD

"I like SU, CNQ, Canadian Oil Sands but you are right they too may have environmental issues" Look at the Statoil ADR trading on the NYSE. Who your partners would be, & their track record. http://www.statoil.com/en/About/Worldwide/canada/Pages/default.aspx SD

The rub is that within 2-3 months FBK could easily go up to the $1.55 (35%) with a P(x) >60% - & not much else offers similar opportunity within the same timeframe. Add in only a small P(x) of a fall > 20%, & you have roughly 5:1 upside – IF you can tolerate the volatility. Because FBK has many options here, & most will become apparent over the 1-2 quarters, you really need to see FBK as a series of different potential market values related to specific events [P(specific event) x Expected Price]. The question should be, how much of FBK would you be comfortable holding at each of these specific events. The higher your risk tolerance, the bigger your holding. SD

A discount broker is only required to send you an election notice, and the SEDAR location of the rights prospectus, asap after record date. The election notice will require you to indicate 1) if you're going to subscribe & for how many shares 2) if you're going to oversubscribe & for how many shares. Choose to do nothing & the broker will automatically subscribe your rights holding as of close of trading on expiry date, & charge your account. It is your responsibility to make yourself aware of the prospectus terms, & buy/sell/oversubscribe as you wish. If you don't want to fully subscribe, it is your responsibility to sell your excess rights before expiry date. No if's/but's/maybe's. SD

Couple of points: Why do you think you have to maintain your position? you do not. Why do you think you have to stay in common? the rights are a 3 week option on the common. Why do you think FBK has to stay as they are? you don't make enough, your assets get sold. Why are you convinced that Q2 will be worse than Q1? because thats what Mr Market is saying. Yes the price is not 1.85, & it's highly unlikely it'll go over 2.00 on the Q2 release. There are 30%+ more shares out there; get over it! Yes you have to make a hold/sell decision on the rights within 3 weeks; get over it! SD

Some interesting things that weren't in Obama's speech. - At 60K bbl/day this is dumping an Exxon Valdez (250K bbl total) into the Gulf every 4 days; BP's roughly 40% recovery rate just means that it now takes 7 days versus 4. It's show, not substance. - $20B is only the first installment. The administration will decide who gets paid, how much, the timing of payments, etc; & they mean to use it as a stimulus package. Its implied that the 2nd, & future installments, will be funded through the seizure of US assets. - The administration expects hurricanes to bring up the sub-surface slick & materially add to the cost of insureds damage claims. The cash up front is in part to ensure that we don't get systemic illiquidity (paid claims waiting years for re-imbursement from BP) triggering widespread insurance failures. - The administration is effectively taking over the recovery. If a relief well isn't possible untill late August, the well will gush another 11 Valdez at the current rate. There is no certainty that the relief well will work, & there is evidence that engineers have run out of better ideas. You have to think that the nuke option is rising on the list, & that no president is going to want to have to authorize a US supplied nuke being deliberately set off on US soil. Game changer. Its hard to see how BP can possibly survive this. All they can really do is ring fence their assets against sovereign seizure as best they can, & run to the UK government for a 'too big to fail' bailout. SD

- What if I sell some of my rights, and subscribe in full to the rest? Am I still eligible? (I think the answer is NO?). You will receive 1 right for every share you beneficially owned on record day; sell your shares before record day & you get no rights. If you want additional rights via the oversubscription, you cannot sell any of your rights. If you want additional rights via market purchases, you can buy however many you want. - What if I buy some rights from others? Am I eligible to buy into the extra? (I think the answer is NO?) Rights bought in the market, do not come with oversubscription priviledges; you did own the underlying shares that generated those rights over the record date. - What constitutes beneficial ownership? If you subscribe in full to some in a registered account, but not to others that are in a cash account, and/or there are others that are in a spouse's account ... or are shares in different accounts treated wholly independently? (I think each will be treated separately?) If your shares are lodged with a broker, they are registered in your brokers name, but you have beneficial ownership as you own the economic rights attached to the shares. Your spouse becomes the beneficial owner if you transfer shares to your spousal account. - Then, if you do want to buy more ... how many more can you buy? (I think it's the lesser of as many as you ask for, or your pro-rata amount of those available, based on your pro-rata subscription to the basic shares that were subscribed.) SD

30% chance of 300K is 90K, for which you're paying 15K. Alternatively to recover the 15K the chance of the 300K occurrence must > 5%. The numbers say do it, the fact that you've asked - say no. When you're more concerned about the loss its usually a sign that you aren't yet ready. SD

Notable is that BP is now talking about suspending their dividend. Loss estimates have already topped 5B, and BP is now talking about (temporarily) suspending 3 dividends & essentially paying for the spill out of cash-flow. But how reliable can the BP estimate really be? - if they don’t know how much is gushing, when it will stop, what the recovery effort will look like, & there is conclusive evidence of BP continually trying to ‘spin’ numbers? Most would suggest the proposed dividend suspension is really an attempt to cap liability, & forestall further action. Putting assets into a trust means the administration chooses the assets, the assets are free of any debt obligations, & they will be borrowed against/sold to pay for cleanup. The administration would turn to US advisors (Exxon?) for advice on the asset selection; but if 40% of your (best) assets were suddenly put into trust, & your debt remained the same, wouldn’t you just be left with riskier assets & a debt/equity ratio & carry-costs that suddenly sky-rocket (reflecting the additional risk)? Most would suggest that BPs ‘strong BS argument’ is simply more ‘spin’ – they would actually NEED the div cut. It’s highly unlikely that recent media coverage on what happens after the ‘clean-up ’ (Exxon Valdez) is accidental. It would seem that the administration has seen BP’s litigation ‘push-back’ & shareholder ‘hostage’ (1/3 are US) threats as red flags, the CEO as ‘tone deaf/politically incompetent’, & that next week’s meeting will be tell – not discuss. You have to wonder how long until the entire recovery is put into government hands, & sufficient assets seized to ensure that the bill will actually be paid. The reality is that deep water drilling IS a bet-the-company proposition. You buy insurance to cover against a blow-out, you invest in the highest safety possible to minimize the premiums, & you farm out the opportunity among many parties – so that an accidental blow out will not kill you. If the drill was successful you buy out your partners interests. BP choose to ‘self-insure’ & lost; why should it not cost them the company – as they are NOT ‘special’. Next week should be interesting. SD

Keep in mind that most of 'standard of living', is not actually measurable. Today pretty much everyone has access to a porcelain toilet; 300 years ago even kings/queens had to use a 'long drop'. How do you measure that progress? All through the 1950-70's you moved out of the house & 'grew up'; pretty much as soon as possible. You could drive a car at 16 (for the most part), get killed at 18 (joined the army), & were mature & an adult at 21. You can still do those things, but now we have the returning 'adult kid' in their mid 20's. How do you measure that! SD

Keep in mind that many folks were expecting around $2.20/share ($1.84 in todays structure) just after Q1-2010 results were released. As we're quite a bit better this time around, a simple sanity check would suggest that we'll probably see it again. If it does go to $1.84, the common increases by 46% (((1.84-1.26)/1.26-1)*100); but the warrant increases by 227% (((.36-11)/.11-1)*100). And everytime the warrant goes up 1c, the common goes up 2.28c Pretty sure there's going to be market optimism ;) SD