Monthly Archives: August 2009

Health Care Reform: Analysis of the For-Profit Hospital Industry

Posted on August 31, 2009 by | Leave a comment

Fitch Ratings reports that the U.S. for-profit hospital industry posted strong numbers in the second quarter of 2009 in its most recent quarterly analysis.  Volumes and free cash flow were at the highest levels recorded in several years.  Like most other industries, hospitals have benefited mainly from cost management efforts and reduced capital spending.

Capital expenditures as a percentage of revenues decreased below 5 percent for the second quarter of 2009.  The historical average is between 5 and 7 percent.  Again, like other industries, hospitals are hoarding cash.  Some analysts have speculated that companies are concerned about another credit crunch and do not want to be caught without significant cash reserves.  This may be true, but on the positive side, if the confidence that has returned to the banking and commercial paper system translates into sustained lending and access to short-term funds, the excess cash held by hospitals would put them in a position to deploy the cash for investment opportunities, including acquisitions.

Fitch Ratings has identified several key areas of potential health care reform that may have positive or negative implications for the hospital industry.  Congress is expected to turn its attention to health care reform shortly as it returns from the August recess.  However, with the debate raging, it is anyone’s guess as to what the final legislation will contain.  The following are the areas that Fitch Ratings is following:

  • Coverage:  Increased coverage of the uninsured wold be positive for the sector as a result of decreased bad debt expense and increased utilization;
  • Reimbursement: If coverage expansion is not sufficient to offset reimbursement declines or if reimbursement declines occur well before expansion is realized, this cold negatively impact profitability;
  • Changing Industry Dynamics:  Certain aspects of health care reform may reduce competition in the hospital industry; these include a ban on self-referrals to physician-owned hospitals (with limited exceptions) and the fact that reimbursement pressures would have a more negative effect on non-profit institutions, which typically have lower operating margins;
  • Increased Mergers and Acquisitions:  Hospitals with substantial scale and that are able to profitably treat both private and governmental patients will withstand the transition most successfully.  Thus, acquisitions may increase as a result of health-care reform.

The full Fitch Ratings report (registration and/or subscription may be required) is available here:  Fitch’s For-Profit Hospital Industry Quarterly Diagnosis.

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Posted in Heath Care Reform, Investing

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Personal Income Flat, Consumption Up 0.2 Percent in July 2009

Posted on August 29, 2009 by | Leave a comment

Personal income increased $3.8 billion, or less than 0.1 percent, and disposable personal income (DPI) decreased $4.6 billion, or less than 0.1 percent, in July, according to the Bureau of Economic Analysis.  Personal consumption expenditures (PCE) increased $25.0 billion, or 0.2 percent.  In June, personal income decreased $133.4 billion, or 1.1 percent, DPI decreased $119.9 billion, or 1.1 percent, and PCE increased $60.9 billion, or 0.6 percent, based on revised estimates.

Payrolls Increased

Reflecting the slight uptick in average hourly wages and average hours worked that showed up in the second quarter GDP figures, private wage and salary disbursements increased $6.7 billion in July, in contrast to a decrease of $24.5 billion in June. Goods-producing industries’ payrolls increased $1.4 billion, in contrast to a June decrease of $10.0 billion; manufacturing payrolls increased $5.0 billion, in contrast to a June decrease of $14.5 billion.

Real DPI, Real PCE and PCE Price Index

Real DPI—DPI adjusted to remove price changes—decreased 0.1 percent in July, compared with a decrease of 1.6 percent in June.

Real PCE—PCE adjusted to remove price changes—increased 0.2 percent in July, compared with an increase of 0.1 percent in June. The increase is largely attributable to motor vehicle purchases spurred by the federal CARS program, aka “cash for clunkers.”

According to a technical note released by the BEA, the following is a simplified example of how a transaction under the CARS program will be reflected in PCE: Suppose a household purchases a new car under the CARS program and pays a negotiated price of $20,000 less a rebate of $3,500, for a transaction price of $16,500.  The purchase of the new car will be included in PCE.  The valuation for current-dollar PCE is the net price paid by the household after the rebate—which is $16,500, the value of the transaction for current-dollar PCE. (The $3,500 will be reflected in the GDP statistics as a subsidy, which is like a negative sales tax).

For calculation of real PCE, BEA deflates the current-dollar value by the relevant price deflator, which in principle should reflect the decrease in the transaction price.  Thus, all else equal, the effect of the CARS program are reflected in increases in quantity and decreases in prices for the motor vehicle component of PCE.

Savings Rate

The Savings Rate fell to 4.2 percent in July from 4.5 percent in June. Over the past 30 years, the Savings Rate has averaged 5.6 percent and before 1995 it averaged 7.7 percent.  Although personal savings have improved dramatically from the negative rate that had been posted in the years prior to the Financial Crisis of 2008, there is still some distance to go before returning to normal.

Peter Boockvar, Equity Strategist at Miller Tabak & Co., LLC, sums it up best:  “Saving is the new cool and having credit card debt is so passe. This transition is not a multi Q process but multi year and it has implications for US economic growth for years to come. Our economy will be for the better though in time as exports and investment eventually pick up the slack as we can better finance our growth with savings and less on debt. Even if consumers wanted to pick up their spending in the face of weak income growth, they can’t as access to credit remains crimped. Credit drove our economy on high speed for 10 years. We’ll get a rebound but it won’t be sustainable until we save more and export more.”  Read Boockvar’s complete post here:  Income Spending Savings.

Investors jumping on the retail-stock-buying bandwagon had better be sure about the long-term value of the underlying company.  Many retailers are going to struggle to eke out a profit in the face of lower personal consumption over a multi-year period.  Competition for ever scarcer consumer spending will likely drive more than a few retailers out of business, and many more will suffer below-par earnings, thus reducing the value of the company.

Read the full BEA release here:  Personal Income and Outlays: July 2009.

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Posted in Economy, Market Commentary, Personal Finance, Personal Income, Savings Rate

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Worldwide Economic Recovery Underway, But Return to Prior Growth Trends Difficult: IMF’s Blanchard

Posted on August 28, 2009 by | Leave a comment

In a column posted on the International Monetary Fund’s (IMF’s) website, Economic Counsellor and Director of the IMF’s Research Department Olivier Blanchard describes why recessions caused by banking crises result in permanent damage to gross domestic product (GDP).  In a typical recession (which, by the way, is a natural part of the economic cycle and should not be feared or reviled as much as it is), growth declines as consumers, exhausted from spending during the economic expansion, put their wallets away and concentrate on saving and reducing debt, which generally becomes more expensive as an economic expansion advances.  Central banks react by lowering rates, which in turn lowers borrowing costs, to encourage spending.  Most consumers and businesses will take advantage of lower borrowing costs to make purchases and investments on big-ticket items.  This is why durable goods, such as cars and appliances, and major capital expenditure projects show major leaps as a recession ends.  Growth then typically spikes above the previous trend line before settling back to normal and a new economic expansion begins.

A recession caused by a banking crisis is different for many reasons.  But let’s begin with what the difference is before looking into the causes.  A soon-to-be-released World Economic Outlook from the IMF studies 88 banking crises in various countries over the past four decades.  Blanchard summarizes the study, “While there is large variation across countries, the conclusion is that, on average, output does not go back to its old trend path, but remains permanently below it.”  However, while output drops permanently, putting a damper on the likelihood of a spike in the growth rate, the good news is that growth rates tend to return to normal eventually.

Among the biggest concerns Blanchard raises with regard to the possible return to the prior economic growth rate are:

  • Supply-side:  A lack of capital due to the damage done to the banking system and the failure of firms that would generally not have gone insolvent in a typical recession;
  • Demand:  Fiscal stimulus and inventory rebuilding are driving the recovery, neither of which is sustainable.  There is some question as to whether private consumption and business investment return to levels necessary to sustain growth;
  • Risk premiums:  Higher risk premiums make borrowing and investing more costly, even with the federal funds rate and U.S. Treasury yields at historic lows;
  • China:  Would the country be willing to reduce is current account surplus, and thus the U.S.’s current account deficit, resulting in more U.S. imports?  This would be ideal for both a U.S. and worldwide sustained economic recovery;
  • U.S. dollar depreciation:  If large fiscal deficits or some other shock causes a disorderly depreciation of the dollar and large capital outflows from the U.S., the resulting uncertainty and instability would almost certainly derail the recovery.

Blanchard’s column raises many key issues and markers concerning the economic recovery.  Many, if not all, of these factors will be very important for investors to have an eye on as we continue to navigate a very challenging investment and economic environment for the next several years.

Here is a link to Blanchard’s column: Sustaining a Global Recovery

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Posted in Banking, Credit Crisis, Economy

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Bank Regulators in China Tighten Lending Policies

Posted on August 27, 2009 by | Leave a comment

Bloomberg News reports that Chinese banking regulators are “tweaking” lending policies to remove “froth” from the system.  In the first half of this year, Chinese financial institutions have loaned a record $1.1 trillion to support the country’s fiscal stimulus package.  The concern is that much of that money has gone into investing in A-shares in companies and real estate on the mainland.

Year-to-date, China’s stock market has risen more than 50 percent, and that is after a recent correction.  The correction was based mostly on concerns about how much tightening of lending standards would be forthcoming.  However, the financial regulators seems to be focused on reducing risk, not growth. “The current tweaking seems aimed at reducing froth, rather than slowing growth,” said Wendy Liu, Hong Kong-based head of China research at RBS ABN Amro, said in a report dated August 26, 2009. Stocks may resume their rally in the fourth quarter as investors gain “better clarity on earnings and policy priority,” she said, picking China Overseas Land & Investment Ltd., Shimao Property Holdings Ltd., Guangzhou R&F Properties Co. and Jiangxi Copper Co.  Premier Wen Jiabao this week said the government will maintain its fiscal and monetary policies as the economic recovery isn’t stable yet and faces many “uncertainties.”

Here is a link to the full story at Bloomberg:  China ‘Tweaking’ Lending to Reduce ‘Froth,’ RBS Says

Below is chart from Bespoke Investment Group LLC, showing countries’ stock market performance as of August 19, 2009:

Ytd

 

 

 

 

 

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Posted in Banking, China, Economy, Investing, Stocks

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New Pimco TIPS ETFs Offer Investors Targeted Inflation Protection

Posted on August 26, 2009 by | Leave a comment

Treasury Inflation-Protected Securities are designed to do exactly what the title suggests, offer investors inflation protection.  Investors can purchase TIPS directly from the Treasury.  There have also been a few exchange-traded funds (ETFs) specializing in TIPS.  Recently, a TIPS ETF launched by Pacific Investment Management Co. (Pimco) of Newport Beach, Calif., (ticker symbol: STPZ) focuses specifically on the short maturity segment of the TIPS market.

Before discussing the new ETF and Pimco’s plans for more, a primer on how the Treasury Department offers TIPS is helpful.  The Treasury usually holds auctions for new TIPS twice a year – early January and early July.  One can buy TIPS directly through the Treasury (http://www.treasurydirect.gov/indiv/myaccount/myaccount_treasurydirect.htm) or through a broker-dealer (for example, Fidelity Investments).  For many investors, the best way to go about it would be to open a Roth IRA (funded by after-tax dollars, but no tax on future gains) or a traditional IRA with a custodian that offers access to TIPS (Fidelity, again, is an example).  TIPS are best held in tax-advantaged accounts because of the way they work.  The investor receives interest payments based on a fixed interest rate.  What changes is the principal amount upon which the interest is paid.  The principal is adjusted by an inflation factor.  So, when inflation rises, the principal rises and the dollar amount of interest the investor receives goes up, even though the rate of interest is fixed.  The principal will also decline during periods of deflation or disinflation.  Here’s the tax issue:  when the principal rises, the holder is required to pay tax on the increase in that year, even if the holder does not sell the instrument.  Thus, if the instrument is held in a tax-advantaged account, no tax would be immediately due.

Before Pimco’s offering, one of the more popular TIPS ETFs is one sponsored by iShares (ticker symbol: TIP).  However, while bond funds for corporate bonds and traditional treasury bonds make sense, one concern about an ETF for TIPS is that it may take away some the purpose of holding TIPS because heavy trading in the fund due to inflation or deflation fears could cause such volatility that the fund will not track exactly movement in the TIPS market (this is also true of many ETFs—trading tends to distort the the funds ability to track the underlying index or instrument—note the current uproar with regard to leveraged ETFs and those covering commodities like natural gas).

Pimco’s newest offering, by focusing specifically on the short maturity segment of the TIPS market “really hits the sweet spot,” according to John Gabriel, an ETF analyst with Morningstar Inc. of Chicago (as quoted in InvestmentNews).

As opposed to the iShares Barclays TIPS Bond Fund (TIP) distributed by Barclays Global Investors of San Francisco, the SPDR Barclays Capital TIPS ETF (IPE) from State Street Global Investors of Boston, and the SPDR DB International Government Inflation-Protected Bond ETF (WIP), all of which skew to the intermediate maturity segment, the Pimco ETF offers investors a potentially higher degree of protection against the effects of inflation, Mr. Gabriel said.

In a sign that inflation is a growing worry, year-to-date through July 31, investors sent $5.8 billion into the three ETFs that invest in TIPS and a net of $9.6 billion into 40 inflation-protected bond mutual funds tracked by Morningstar (see the InvestmentNews article “Scared investors flock to TIPS as inflation hedge.”)

In early September, Pimco plans to launch two additional TIPS ETFs.

The Pimco 15+ Year U.S. TIPS Index Fund (LTPZ) will focus on long-dated TIPS that are intended to hedge long-term spending needs against interest rate and inflation risks, Pimco said in a statement.  In addition, the Pimco Broad U.S. TIPS Index Fund (TIPS) will offer investors TIPS exposure across the maturity spectrum.

“Inflation hedging should play a strategic role in investors’ asset allocation, particularly as we head toward a ‘new normal’ where lower growth, increasing U.S. government debt and unprecedented fiscal stimulus could over time raise the potential for higher price pressures than have been seen in recent decades,” Vineer Bhansali, a managing director and portfolio manager with Pimco, said in the statement.

Investors, however, should be cautious of any TIPS products, said Tom Lydon, president of Global Trends Investments, a Newport Beach, Calif.-based firm that manages $75 million in assets.  “Some experts say TIPS have never truly been tested in an environment of rampant inflation, so these are going to be closely watched in the coming months if inflation takes place,” he said. “Investors should be mindful of this.”  (quote courtesy of InvestmentNews)

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Posted in Fixed-Income, Investing, Market Commentary, Personal Finance, U.S. Treasury Inflation-Protected Securities

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