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The BAN Report: Supreme Court Rules on GSEs / Resurgent Gamestop / New Vegas Mega Casino / Lagging Business Travel / Shady Art Market-6/24/21

Supreme Court Rules on GSEs

In September 2008, Fannie Mae and Freddie Mac were placed into conservatorships, as the firms needed federal support to survive. In 2012, the government amended its bailout agreement to require that nearly all of their profits (the federal government held preferred shares) go to dividend payments on the preferred shares, thus undermining the bets hedge funds made on their common equity. Hedge funds were hoping that the GSEs would be re-privatized and their equity investments would then generate windfall profits.   This week, the Supreme Court resolved this dispute, as the hedge funds had sued the government for these actions.

The plaintiffs in Wednesday’s case, investors in corporate shares issued by Fannie and Freddie, argued the government profit sweep constituted an illegal end-run to prevent the firms from building capital that could eventually be available to private investors.

The federal government argued the FHFA enjoyed broad legal authority to ensure the mortgage giants’ solvency and protect the U.S. investment in them. Potential problems with the agency’s structure didn’t undermine that power, the government argued.

The Supreme Court, in a Wednesday opinion by Justice Samuel Alito, unanimously ruled the profit sweep didn’t exceed the agency’s statutory authority and ordered the dismissal of shareholder claims on that issue.

The FHFA’s authority is expansive, and the agency reasonably could have concluded that its approach “was in the best interests of members of the public who rely on a stable secondary mortgage market,” Justice Alito wrote.

The ruling wipes out the potential for the type of outsize gains some hedge funds had long been banking on. One shareholder on Wednesday described his holdings in Fannie and Freddie as a long-term “call option” he planned to hold should a future administration prove more amenable to the companies’ privatization.

On the question of the FHFA’s structure, the court said Congress made the agency too insulated from the White House because the president couldn’t easily remove a director whose policies were contrary to his own. That part of the decision, which splintered the court, frees a president to fire the agency’s director at will.

Under the prior arrangement, Mr. Calabria could only be fired for cause. The ruling follows a similar decision by the court a year ago that the Consumer Financial Protection Bureau was structured unconstitutionally because its director had too much power free from White House control.

The plaintiffs did make a strong argument. A conservatorship is supposed to be a temporary situation, in which the company is given its independence after it regains its financial footing. By the Federal Government siphoning off the vast majority of the profits of the GSEs (the Treasury loves the profits the GSEs have been generating), it made it harder for the GSEs to be released from this arrangement.However, the Supreme Court ruled otherwise and the GSEs will not be privatized anytime soon.

Resurgent GameStop

This week, GameStop leveraged its elevated market capitalization to raise additional stock, raising another $1.13 billion in the process.


The original Reddit-favorite meme stock jumped as much as 12.7% Tuesday after the company announced the completion of its at-the-market equity offering program that was initially disclosed on June 9. By afternoon, the daily gain was 10%. GameStop said it will use the proceeds for general corporate purposes as well as for investing in growth initiatives and maintaining a strong balance sheet.

This is the second stock sale that GameStop has conducted since the company became a star on Reddit’s WallStreetBets forum, where retail traders aimed to push stock prices higher and squeeze out short-selling hedge funds. GameStop sold 3.5 million additional shares in April and raised $551 million.

Earlier this month, GameStop named former Amazon executive Matt Furlong as its new CEO.  The company also hired several other former Amazon executives, including Jenna Owens, its new chief operating officer; Matt Francis, its first chief technology officer; and Elliott Wilke, its chief growth officer.

For its fiscal first quarter, GameStop reported narrower-than-expected losses per share and revenue that topped Wall Street estimates. As of May 1, GameStop said, it had paid off its long-term debt and no longer had any borrowings under its asset-based revolving credit facility.

As of 5/1/2021, GameStop has $700MM in cash, so this additional sale gives them over $1.8 billion in cash.The company has dramatically improved its balance sheet as it basically has no long-term debt and it is flush with cash.

The insane rally with the stock, which by any measure is dramatically overvalued, followed by the improvement in the company’s balance sheet and operating performance, is a good demonstration on the power of positive belief.If a group of committed investors unite in a committed long position in a stock with heavy short interest, they can cause the stock to appreciate significantly.The appreciation then allows the company to issue more stock and fix any balance sheet issues.


Additionally, the same investors and the positive PR generated by their belief, support and promote the product, thus improving the company’s performance.Of course, this belief may have been madness, but it certainly has been great for GameStop. And it has worked out for now.

I still chuckle at what precipitated the second rally in GME. After the initial surge and collapse, the stock closed at 44.97 on February 23. By March 10, it closed at 246.90. What caused it to jump so fast? Perhaps the most unusual catalyst ever…. GME fired the CFO. When has firing the CFO been a good thing? But, the firing was a sign that Ryan Cohen was going to shake up management, which he ultimately did. When stock prices go up, good things tend to happen to a company.

New Vegas Mega Casino

Las Vegas reinvents itself again this week as Resorts World Las Vegas opens today – a $4.3 billion casino with 3,506 rooms.

Resorts World Las Vegas is the first new casino-resort to be constructed on the Strip in more than a decade. At $4.3 billion, the 3,506-room Resorts World is the most expensive hotel-casino ever built in Nevada. Among its features are high-tech LED screens throughout the property, three hotels, nine pools, 117,000 square feet of gaming space, 70,000 square feet of dining and retail space and 250,000 square feet of meeting and banquet space. 


Three Hilton brands reside within the towers of Resorts World Las Vegas and each brand has its own entry and porte-cochere.

Guests can access their hotel without having to wend their way through a casino.

A notable piece at Resorts World is The Globe, comprising 8,640 triangular panels joined together to project dynamic and interactive imagery. The 50-foot diameter globe, situated in The District retail shopping complex, is expected to be built by the time the property opens Thursday, though the video content won’t be ready until early July. The resort is getting help from two Hollywood content producers with The Globe’s videos.

The entire façade of the structures is covered in LED Curtains, which allows the resort to have essentially the largest TV screens anyone has ever seen, to promote various events at the property. The property used to be the site of the Stardust Resort and Casino, and construction began in 2017. Resorts is located on the northwest side of the strip between Trump International and Circus Circus. It is the first new resort to be completed on the strip since 2010.

Lagging Business Travel

Last week, I attended the Tennessee Bankers Conference in Charleston, SC.   It was obvious how the attendees were anxious to attend in-person events, and a virtual option was not even offered by the organizers.    Next month, we are hosting a conference in southern California, and many other conferences are scheduled for later this year. However, overall corporate spending for business travel remains low.

Online domestic flight bookings totaled $5.1 billion in May, according to data released on Monday by Adobe Analytics. That’s off 4 percent from April and down 20 percent from the same month two years ago — and the big culprit is a stubborn lack of business travel, the firm said.

Only 11 percent of workers are planning on traveling for business in the next six months, according to the firm — and 29 percent of those surveyed still don’t feel safe traveling.

“An increase in vaccinations and consumer confidence have unleashed some pent-up demand, but the lack of business travel is beginning to slow the comeback,” the data firm said. “The lack of business travel (as companies take a careful approach to re-opening) and lingering consumer hesitation are prolonging the road to recovery.”

According to the Global Business Travel Association, this year spending on work travel will increase 21 percent in 2021 — especially toward the end of the year as vaccinations become more widespread. But the group doesn’t expect a full recovery until 2025.

JPMorgan notably has been pushing bankers to get back on the road. At the WSJ CEO Council in May, Jamie Dimon said, “There are a bunch of clients who gave business to somebody else because the bankers from the other guys visited and ours didn’t. OK, well, that’s a lesson.”

It's certainly disappointing that the industry doesn’t expect a full return of business travel until 2025.As in JP Morgan Chase’s example, competition may require employees to hit the road and visit their clients sooner. Nearly every person we have talked to recently is open to in-person meetings again, so it just may take a while before business travel picks up again.

Shady Art Market

US federal investigators are increasingly looking at the secretive art market as a place in which bad actors launder funds. The New York Times had a great story on how criminals use the art market.

Billions of dollars of art changes hands every year with little or no public scrutiny. Buyers typically have no idea where the work they are purchasing is coming from. Sellers are similarly in the dark about where a work is going. And none of the purchasing requires the filing of paperwork that would allow regulators to easily track art sales or profits, a distinct difference from the way the government can review the transfer of other substantial assets, like stocks or real estate.

But now authorities who fear the Belciano case is no longer an oddity, but a parable of how useful art has become as a tool for money launderers, are considering boosting oversight of the market and making it more transparent.

In January, Congress extended federal anti-money laundering regulations, designed to govern the banking industry, to antiquities dealers. The legislation required the Department of the Treasury to join with other agencies to study whether the stricter regulations should be imposed on the wider art market as well. The U.S. effort follows laws recently adopted in Europe, where dealers and auction houses must now determine the identity of their clients and check the source of their wealth.

“Secrecy, anonymity and a lack of regulation create an environment ripe for laundering money and evading sanctions,” the U.S. Senate’s Permanent Subcommittee on Investigations said in a report last July in support of increased scrutiny.

To art world veterans, who associate anonymity with discretion, tradition and class, not duplicity, this siege on secrecy is an overreaction that will damage the market. They worry about alienating customers with probing questions when they say there is scant evidence of abuse.

Self-policing by the auction houses has been insufficient to date, so its likely regulators will look to close these loopholes, just like they closed some of the money laundering that went on in residential real estate, via the sale of property to LLCs without knowing the identity of the beneficial owner.

The BAN Report: FDIC Quarterly Banking Profile / Out of Stock / Not Your Father's Recovery / The Industrial Southwest / Higher Taxes-6/3/21

FDIC Quarterly Banking Profile

The FDIC released its Quarterly Banking Profile last week, the most comprehensive report on the condition of the US banking industry. A few highlights:

  • The biggest takeaway is that net income increased by a whopping 315.3% from a year ago, driven mostly by a massive reversal on credit provisions. To wit, banks grew net income by $58 billion in the comparable period, but provisioning swung by $67 billion! Perhaps, it’s better to analyze banks without considering provisioning expenses, although asset quality certainly looks better today than a year ago.

  • Net interest margin is still brutal for banks. It just keeps getting worse unfortunately and now stands at 2.56% - a record low. Both the average yield on earning assets (2.76%) and the average funding cost (0.20%) are at record lows. NIM dropped by 12 basis points from the prior quarter and 57 basis points in a year. The good news is this can only get better.

  • Loan volume shrank in the first quarter. It contracted 0.4% from the previous quarter, and 1.2% from the prior year. Customers flush with cash from government stimulus have been using that money to pay down their outstanding credit. Moreover, banks heavy in PPP will have a really tough time growing loans in 2021, as they will see the vast majority of PPP loans forgiven this year. We do think that a growing economy will help turn the tide on loan growth.

  • There are now less than 5,000 banks in the US, dropping to 4,978 in the first quarter. 3 new charters were opened as well, which is a positive development.

Overall, year-over-year comparisons look more favorable on the surface as its entirely a function of changes in provisions. Banks should be able to finally grow margins in the second half of the year as loan growth picks up and the rate environment becomes more favorable.

Out of Stock

The New York Times had a great story on “How the World Ran out of Everything,” which shows how COVID upended delicate supply chains and busted the Just In Time inventory mindset. Nobody has any slack, especially when demand estimates plummet and then skyrocket in just a few months.

But the tumultuous events of the past year have challenged the merits of paring inventories, while reinvigorating concerns that some industries have gone too far, leaving them vulnerable to disruption. As the pandemic has hampered factory operations and sown chaos in global shipping, many economies around the world have been bedeviled by shortages of a vast range of goods — from electronics to lumber to clothing.

In a time of extraordinary upheaval in the global economy, Just In Time is running late.

“It’s sort of like supply chain run amok,” said Willy C. Shih, an international trade expert at Harvard Business School. “In a race to get to the lowest cost, I have concentrated my risk. We are at the logical conclusion of all that.”

The most prominent manifestation of too much reliance on Just In Time is found in the very industry that invented it: Automakers have been crippled by a shortage of computer chips — vital car components produced mostly in Asia. Without enough chips on hand, auto factories from India to the United States to Brazil have been forced to halt assembly lines.

But the breadth and persistence of the shortages reveal the extent to which the Just In Time idea has come to dominate commercial life. This helps explain why Nike and other apparel brands struggle to stock retail outlets with their wares. It’s one of the reasons construction companies are having trouble purchasing paints and sealants. It was a principal contributor to the tragic shortages of personal protective equipment early in the pandemic, which left frontline medical workers without adequate gear.

Will companies learn from this? We suspect not, as the cost savings in Just in Time are just irresistible and there will be a tendency to view COVID as a once-in-a-generation event unlikely to be repeated soon. Perhaps, governments could consider stockpiling certain items, but that just shifts the responsibility to the taxpayers. Toyota, which invented the concept, ironically has had less issues because its suppliers are close to its base in Japan.

Not Your Father’s Recovery

The supply chain shortages are a result of an unusual economic recovery with a dramatic slowdown followed by a boom with the economy expecting to pass its pre-pandemic size this quarter.

“We’ve never had anything like it—a collapse and then a boom-like pickup,” said Allen Sinai, chief global economist and strategist at Decision Economics, Inc. “It is without historical parallel.”

When Covid-19 pandemic restrictions sent the U.S. economy into free fall last spring, economists and policy makers worried it would take years for workers and businesses to heal. They now expect the economy’s size to surpass pre-pandemic levels this quarter. Analysts project that by the end of this year gross domestic product will reach the path it was projected to follow had the pandemic never happened, and then exceed it, at least temporarily.

The recoveries from the 1990-1991, 2001, and 2007-2009 recessions were “jobless”: Weak demand reduced employers’ need for labor, keeping unemployment stubbornly high for years. This time, however, the labor market appears increasingly tight. The employment cost index in the first quarter rose 0.9% from the previous quarter, the sharpest increase since 2007. That’s even though the unemployment rate, at 6.1%, remains far higher than before the pandemic.

Consider how the last year has been for a town likes Wilkes-Barre, Pennsylvania. The New York Times had a good illustration via photographs of its downtown.

In a survey in April 2020, more than half of the downtown Wilkes-Barre businesses that responded said they were at risk of closing permanently. In the end, only six did — most of them restaurants.

Low interest rates and falling rents have also aided entrepreneurship. A survey by the National Main Street Center of several hundred communities found that for every business that closed in a city the size of Wilkes-Barre, 1.4 new ones opened up. That ratio was lower in larger cities, at 1.1 new businesses for every one that closed.

Cameron English, the owner of a pet store called CDE Exotics, bought a five-story building at 95 South Main Street a few months before the pandemic and moved his business in. During the pandemic, the store offered curbside pet adoptions, with Mr. English saying ball pythons, bearded dragons and leopard geckos were especially popular.

The COVID-induced recession is similar to natural disasters, in which there is a big blow and then a strong recovery subsequently.

The Industrial Southwest

The Southwest region is seeing the most dramatic increase of manufacturing jobs as of late, as many companies are building new factories in the region.

The Southwest, comprising Arizona, New Mexico, Texas and Oklahoma, increased its manufacturing output more than any other region in the U.S. in the four years through 2020, according to an analysis by The Wall Street Journal of data from the Bureau of Economic Analysis.

Those states plus Nevada added more than 100,000 manufacturing jobs from January 2017 to January 2020, representing 30% of U.S. job growth in that sector and at roughly triple the national growth rate, according to data from the Bureau of Labor Statistics.

Executives say the region’s growing population makes for plenty of available labor, and its lower cost of living is a draw for new talent.

“I was surprised how straightforward a choice it was,” said Peter Rawlinson, chief executive for Lucid Motors Inc., an electric-vehicle startup that plans to open a $700 million vehicle factory this year in Arizona, where state officials rolled out the red carpet. “There was only one logical conclusion.”

Some growth in the Southwest has come at the expense of California, classified in U.S. statistics as part of the Far West. In 2019, nearly 2,000 manufacturing workers in Texas and more than 1,300 in Arizona arrived from California, the most in a decade, the most recent Census Bureau data show. More than 2,700 manufacturing workers have come to Nevada from California in 2017 through 2019.

Companies building factories in the Southwest include Intel, Lucid, TSMC, Steel Dynamics, and Haas Automation. The Southwest has huge tracts of open land, cheaper labor, and local governments eager to attractive manufacturing companies.

Higher Taxes

In order to fund domestic programs, President Biden is proposing to raise taxes on the highest earners, proposing to raise the top marginal tax rate from 37 to 39.6%.

President Joe Biden wants to raise the top income tax rate for wealthy households to 39.6%, from the current 37%, to help finance his legislative agenda.

That top rate would apply to single individuals with taxable income of more than $452,700 and married couples filing a joint tax return with income over $509,300, according to a budget proposal issued Friday by the Treasury Department.

It would also apply to heads of household with income exceeding $481,000 and married individuals filing separate tax returns with income over $254,650.

Additionally, there is a push to reduce deductions that benefit wealthier taxpayers. One of the targets is 1031 exchanges, which could be a big blow to the commercial real estate industry.

The so-called 1031 like-kind exchange rule, named after a section of the tax code, was created a century ago to aid family farmers. It has evolved into a beloved tool of property moguls, Fortune 500 companies and real estate trusts that can use it to create a daisy-chain of tax avoidance.

It works like this: An investor buys a building for $4 million and sells it later for $10 million. By redeploying the proceeds into a new property within six months, she can defer paying taxes on her gains. She can repeat that process indefinitely.

When coupled with another tax break that wipes out all capital gains at death, the 1031 provision can enable real estate investors to forgo capital gains taxes entirely, enabling family dynasties to pass on riches to heirs virtually tax-free. Some wealth managers call the strategy “swap ’til you drop.”

Critics say the 1031 break has strayed far from its original purpose and become a multibillion-dollar giveaway that would be better spent fueling infrastructure investment and social programs. Repealing it could add $19.6 billion in tax revenue over 10 years, according to a proposed budget published by the White House on Friday.

Real estate executives say that would decrease the number of transactions, squelch economic activity and reduce property values. The National Association of Realtors argues that 1031 exchanges are crucial to keeping the commercial real estate market humming and that they’re primarily used not by the super-rich, but by less affluent retirees, investors and landlords.

A higher marginal tax rate seems more likely than the elimination of popular deductions. The commercial real estate industry will be unified against ending 1031s, so there will be a fight ahead.

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