Get Out of GM Now

“This is the end, da, da, dum. Beautiful friend the end,” sang Jim Morrison in the Door’s classic elegy “The End.” Morrison named his band in honor of The Doors of Perception, a 1954 book by Aldous Huxley, describing Huxley’s trips on mescaline.

As the General Motors we know nears its end and the doors shut on some classic car brands, we have to reorient our perceptions about the company and its stock and its value.

Can you picture what will be
So limitless and free
Desperately in need…of some…strangers hand
In a…desperate land

All too often, investors who don’t understand the bankruptcy process buy shares of a company expected to go bankrupt in the misconception that if they buy now at a low price they can capture the upside when the company comes out of bankruptcy.

This is not the case. While General Motors may come back in some new form under the same name, the General Motors we know will soon be dead.

If a company doesn’t completely go out of business, it enters Chapter 11 bankruptcy. In this case the business is reorganized, instead of shutting down entirely. Still, in all forms of bankruptcy, the holders of common stock lose their entire investment in the company.

Everything.

Bond holders are creditors. They’ve lent capital to the company, so the company owes them money. The bankruptcy changes those obligations, but often creditors receive something for their loans, even if it’s just pennies on the dollar. Sometimes bondholders are given stock in the new company to give them a chance to make back some of their money. But current shareholders hardly ever get new stock.

Common stock holders are the company’s owners. They hold equity. Because their surrogates, the board of directors and executives, did a poor job of running their company, they lose their ownership stake completely. To make it clearer, if you hold common stock the day before the company emerges from bankruptcy you lose everything. While holding the stock to the bitter end may give you a better tax write off, if you sell now, you will at least pocket some cash.

So, please, please, don’t buy GM thinking you can hold it through the bankruptcy. All the current common shares will disappear the moment they emerge from bankruptcy. Can you make some day trades with GM and try to capture the spread? Sure, but since this is so close to the end, the risk is very high that they could call it a day on the day you are holding it and they you would lose your investment. If you haven’t already, get out of GM.

ETF Trends has an interesting piece on which ETFs will be affected by Obama’s Auto and Fuel Efficiency Plan.

United States Oil (USO) and United States Gasoline (UGS) would be the ETFs most likely hurt from new fuel efficiency in cars. The PowerShares Wilderhill Clean Energy (PBW) would be a clear way to get in on the clean energy band wagon. ETFTrends also likes Vanguard Consumer Discretionary (VCR) saying consumers could do well if fuel efficiency lowers their gas bills. Finally, the E-TRACS UBS Long Platinum ETN (PTM) seems counter-intuitive. Platinum is used on catalytic converters. There should be fewer of these if the auto business goes through a contraction. However, the launch of a platinum ETF might spur heavy buying to fill the fund’s vaults. The ETN doesn’t actually hold platinum.

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How Did ETFs Fare in Market Turmoil

 

With cries of financial Armageddon and headlines screaming “heaven help us,” it shouldn’t have surprised anyone that the stock market took a head dive today.  The refusal of the House of Representatives to pass the $700 billion Wall Street bailout sent shivers through Wall Street. Everyone realizing the golden days are over made a mad dash for the exits.

 

“The first problem is the administration gave it the wrong name,” says Jerry Slusiewicz, president of Pacific Financial Planners of Newport Beach, Calif. “They should have called it the ‘economic stabilization plan’ or ‘liquidation enhancement plan,” instead they called it a ‘bailout’ and that was bad news. No one wants to bail out Wall Street.”

 

So, how did exchange-traded funds hold up amid the market turmoil?

 

“The ETFs followed the market,” says Kevin Mahn, chief investment officer of SmartGrowth Mutual Funds, which runs funds of ETFs. “The SPDR Gold Shares (GLD) was up as well as a lot of the short products from ProShares.” 

 

The truth of the matter is the ETF is only as good as the assets it’s holding. And if your ETF tracks the Dow Jones Industrial Average the day it plunges 777 points, like it did Monday in the largest one-day decline in history, you’re going to feel some pain, $6.40, or 5.76%, to be exact. Surprisingly, the Diamonds Trust, the ETF which holds every stock in the Dow, actually performed better than the index itself, which sank 6.98%. Who knew tracking error could work in your favor?

 

The same thing happened with the SPDR (SPY), the most heavily traded ETF on the market today, with 460 million shares trading hands. While its tracking index, the S&P 500 plummeted 8.79%, the SPDR tumbled just 7.84%, or $9.47.

 

The iShares S&P 500 Value Index Fund (IVE) beat the broader benchmark, and the growth sector, falling 6.76% to $57.85, on volume of 3.6 million shares, while the iShares S&P 500 Growth Index Fund (IVW) also beat it, sliding 7.1% to $54.66. And both closed at a premium to their net asset value, which was $56.34 for the value fund and $53.93 for growth, according to iShares.

 

And what of the fundamentally-focused ETFs which claim to do better than market-cap ETFs? How did they perform? PowerShares FTSE RAFI 1000 Portfolio (PRF) narrowly beat the S&P 500, with a decline of 7.46% to $44.02 on volume of 251,884 shares. The WisdomTree LargeCap Dividend Fund (DLN) slid 6.4% to $45.13 on 38,000 shares and the Spa MarketGrader LargeCap 100 (SZG) dropped just 5.34% to $17.55, with only 400 shares traded. All the fundamental ETFs also closed significantly higher than their NAVs.

 

“The House vote was basically a vote of no confidence for the credit markets,” says Slusiewicz. “Credit is drying up for short-term cash for the economy. We’ve backed ourselves into a corner.”

 

Overall the flight to quality led to an interesting divergence in the bond ETFs.

 

“The 0.4% move in the BIL was a hefty move,” says Jim Porter, the portfolio manager of Aston/New Century Absolute Return ETF Fund (ANENX).  “It broke out four days ago as there was definitely a sign of movement into the T-Bill ETFs. Meanwhile the Vanguard Intermediate Term Bond was actually down today. It’s obvious that no one wants to own the Intermediates. But the T-Bills and the long bonds are OK.”

 

n      The SPDR Lehman 1-3 Month T-Bill ETF (BIL) gained 20 cents, or 0.43%, to $46.24. This sent the yield down to 1.46% from 2.73% on Aug. 31.

 

n      The iShares Lehman 1-3 year Treasury Bond ETF (SHY) edged up 0.6% to $83.89, yielding 3.69%, up from 3.48% on Aug. 31.

 

n      The iShares Lehman 20+ year Treasury Bond ETF (TLT) climbed 2.9% to yield 4.68%, up from 4.53% on Aug. 31.

 

n      Meanwhile the Vanguard Intermediate Term Bond (BIV) fell 31 cents, or 0.42%, to 74.37. Since Aug. 31, when it yielded 4.63%, the BIV’s yield has plunged to a negative 1.64%.

 

So, what can we expect for the rest of the week? With the Jewish New Year occurring Tuesday and Wednesday, Congress won’t tackle any business until Thursday. In addition, with many market participants out, volume will probably be low, but that could create large price moves. The third quarter ends on Tuesday, so it should be an interesting day for mutual fund managers who need to shore up their portfolios for end-of-quarter reports.

 

“A lot of what we saw erased today will come back when the bill gets passed,” says SmartGrowth’s Mahn. “But there will be a lot of trepidation over the next few weeks to see if another bank fails and if this bailout works and how quickly it works.”   

 

Slusiewicz of Pacific Financial Planners thinks Congress will try to revive the deal because everyday that passes without one will see more market declines. He says the CBOE Volatility Index, or VIX, posting on Monday was “one of the top ten days for the fear index. The big fear number is an indication of a bottom. And the bottom will come with the passing of a new bailout bill.”

 

But, if there’s no bill Slusiewicz expects more days like Monday. With no bill, he predicts potential declines of 100 points on the S&P 500, 200 points on the NASDAQ and 700 points on the Dow.