Friday, June 5, 2009

The Ultimate Self-Dealing Government-- not US

So GM goes sort of bankrupt... finally (see this post from November 2008), and two coincidental and seemingly unrelated events happen.

Tim Geithner (Treasury Secretary) has a visit to China to talk about currency issues (maybe to apologize for calling them out in January for currency manipulation). Um, excuse me. But didn't he know before he took the job that their Yuan is pegged to our dollar? That means they have to use market intervention to keep them the same.

The Supreme Court, decides to give the cold shoulder (without even a hearing) to bond holders of GM (including the state of Indiana), who by long standing tradition and corporate law are first in line for any cash raised from the sale of assets.

So what is the connection of these three events?

The U.S. Government owns 60% of GM.

China owns 24% of the U.S. Government debt that is held by foreign governments, more than any other country. Since the U.S. Government doesn't have equity securities, and domestic held debt is immaterial (Peter and Paul), China is the majority external shareholder of the U.S.. In corporate terms this company, China LTD has a foreign subsidiary, U.S. Inc. which happens to own a dying subsidiary called General Motors. Equity ownership by U.S. Inc. in GM SHOULD put US Inc. behind holders of GM debt.

Convoluted yet incontroversial, there are two more senior holders of GM debt. PBGC (a subsidiary of US Inc.) and then by default China LTD with the majority stake in US Inc. GM pension and retirement benefits are $54 billion in the red. The PBGC subsidiary of US Inc (a company that is itself drowning in debt), is already $11 billion in the hole on current obligations not including any result from GM.

The CFO for U.S. Inc. Tim Geithner takes a trip to China LTD headquarters to speak with parent company executives (I assume about what can be done with this subsidiary holding that has at least 3 digits more liability than Enron moved off balance sheet and didn't accurately report). US Inc. decides to have GM file bankruptcy and sell assets. Likely Saab and Hummer (2 mostly profitable brands with little to no pension liability) will be bought by subsidiaries more directly owned by China LTD as opposed to the fractionally owned subsidiary US Inc. Hummer has been held up by regulatory approval (read: stall to research viability of Hummer and likely gas prices).

Penske plans to buy breakeven Saturn, with good reason that excludes China LTD from wanting it.

So Mr. Murdock (Indiana's Treasurer), I have a great respect for you, ever since meeting you and learning about your forward thinking ESOP initiative. But in this case, you have to know, this is how it was going to be. Unfortunately, those managing state funds may not have been insightful enough for anything but traditional credit research methods in managing bond portfolios.

All of us can learn something about investing in companies that are seen as a subsidiary to U.S. Inc. (a subsidiary of China LTD) even before receiving stimulus. Every debt holder in a company with a material underfunded pension should sell at the first sign of financial trouble. Or you may be likely to find you don't hold senior debt.

--update 6/15- news report now states that Geithner "traveled to Beijing earlier this month to assure the Chinese government that the Obama administration is determined to get control of an exploding U.S. budget deficit..."
-related to story that foreign demand for US financial assets falls.

Unfortunately with debt, it matures. Foreign investors have to make a constant and continuous decision to repurchase at maturity. And our country's finances are so tightly leveraged, that it is on the order of a pyramid scheme or bubble. In those situations everything falls apart not when people sell, but when people stop buying. Are we about to see that nightmare?