Forecasting the future is a risky endeavor.
Sometimes, the people and places are different from what you anticipated, but the causes and consequences are on target. Sometimes, it just takes a lot longer than expected for the economic forces to emerge and for the events to unfold. Plus, there are also those situations when youre flat wrong.
For example, on April 1, 2003, in a bold, 20-point headline, I warned my Safe Money subscribers that AOL would go south. It did precisely the opposite.
But in that same headline, I also announced that the then-mighty Delta Airlines would go bankrupt. Its doing precisely that now two years and five months later.
The place: The United States Bankruptcy Court for the Southern District of New York.
The causes: The same ones I named back in 2003 its enormous fixed expenses [including] pilot salaries, wages for ground crews, maintenance of idle aircraft, insurance, rent, and interest … [plus a] fuel price spike.
Wall Street gurus think Deltas bankruptcy doesnt matter much. They figure its just one company in one industry. But lets put this event into its proper context …
The Historical Context of
Delta Airlines Bankruptcy
We go to Bowling Green Park at the tip of Manhattan, the place where George Washington’s troops belatedly celebrated the Declaration of Independence on July 9, 1776.
Washingtons troops felled the statue of King George III. They chopped it up, shipped it to a Connecticut foundry and made it into some 40,000 Patriot bullets.
A few blocks to the North is a great cavity where the twin towers used to stand.
And far to the East 6,009 miles to be exact is downtown Baghdad, where another statue, of another hated dictator was also toppled and smashed to pieces, coincidentally, around the time I was publishing my Safe Money Report with my forecast of failure for Delta.
Right now, though, we turn our attention to the majestic building directly ahead of us the old U.S. Custom House. Senator Moynihan saved it from demolition in 1979, and the United States Bankruptcy Court for the Southern District of New York moved in eight years later, about a month before Black Monday, the worst stock market crash of all time.
Sculptures of four of the continents
America
, Europe, Africa, and Asia flank the entrance. If you arch your neck and look up to the sixth story, you can see more sculptures, representing the great commercial and seafaring powers of world history who criss-crossed the globe with their wares.
Suddenly, a black sedan pulls up and three men in dark suits get out. They walk into the interior of the building, and we follow.
We’re now in a huge rotunda, one of the largest public spaces in New York City. We stop momentarily to gaze at the large mural displaying eight views of the port of New York, with eight smaller panels depicting figures of famous explorers, painted in grisaille.
But the men seem to be in a hurry. Something has happened. And you can tell from their body language that they want to get it over with quickly: They’re here today to file bankruptcy for Delta Airlines, once the most stable and profitable airline in
America
.
Just a couple of months ago, Wall Street analysis said that the stock was a bargain. They implied it was so low it couldnt possibly go any lower. Following their advice, many investors continued to buy or hold the stock.
I warned you otherwise, and just in case youre wooed by other brokers recommending other, financially shaky companies, I warn you again now: When a company goes bankrupt, its shares fall to virtually ZERO.
Creditors wait on line for their money. Shareholders get nothing. Theyre wiped out.
So while I may risk being wrong when I forecast a failure, you risk losing all your money if Im right. Thats why Im willing to take the risk so that you dont have to.
Todays failure of Delta Airlines is not an accident of history. It has broad and far-reaching implications:
FIRST, its one of MANY in its industry. Northwest is joining Delta in bankruptcy court; and these two airlines are joining United Airlines and US Airways. Thats four out of seven of
America
s major carriers BROKE.
SECOND, as Ive documented here repeatedly, this isnt the only large, core American industry thats in trouble.
General Motors and Ford are reeling, losing hundreds of millions of dollars every quarter. Theyre slashing thousands of dollars off the price of their trucks and SUVs to keep moving metal, but customers are balking. No one wants the gas-guzzling behemoths.
Other industries are also being hurt. Just in the past 48 hours, youve seen earnings warnings pouring in from Chuck E. Cheese, Western Marine, Best Buy,
Temple
Inland
and others.
THIRD, the two primary trends that are eroding and corroding their earnings surging fuel costs and rising borrowing costs can reach nearly every company, with the exception of those that benefit directly from the higher prices.
FOURTH, there is no end in sight to either trend.
The price of crude oil, after a brief correction, is already finding support and starting to edge higher. A key reason: The very same countries that released some of their strategic oil reserves in the wake of Hurricane Katrina will soon have to start replacing those reserves, generating new demand for oil on the world market.
The cost of borrowing is also going up. Next Tuesday, the Fed is likely to announce still another, quarter-point hike in its Fed funds rate. This, in turn, will promptly trigger a rise in borrowing costs for thousands of corporations with short-term debt and for millions of Americans with adjustable-rate mortgages.
FIFTH, none of this is driven solely by financial factors or economic events. Its also happening in the context of powerful, geopolitical and environmental pressure-points the destruction of the World Trade Center … the toppling of Saddam Hussein … and
America
s worst natural disaster since its birth in 1776.
Among the nations largest carriers, Deltas and Uniteds filings for Chapter 11 leave only American, Continental and Southwest to have escaped bankruptcy since the terrorist attacks of 2001. Smaller carriers, such as ATA Airlines and Hawaiian Airlines have also filed in the past few years.
I repeat: This is not merely a historical fluke. It has widespread implications and repercussions.
Yesterday, fears that the bankruptcy filings were imminent caused a 7% plunge in the Amex Airline Index, which closed at just 42.80. Northwest stock lost over HALF of its value to $1.57. Delta was down ANOTHER 8.2% percent, closing at just 78 cents per share.
Theyre hoping that Chapter 11 protection will give them a chance to recoup. But that assumes fuel costs will decline, borrowing costs wont go up and the economy will stay strong assumptions that, like any forecast, can easily be proven wrong.
Your Response Should
Be Swift and Deliberate …
1. Keep a sizable chunk of your money safely tucked away in Treasury bills or a money market fund dedicated to short-term Treasuries.
2. Sell the stocks that will be negatively impacted by surging fuel costs and rising interest rates. Ive told you which sectors theyre in. Heres the list again:
- Airlines and trucking
- Automobile and auto parts makes
- Banking and other financial sectors
- Mortgage lending
- Real estate brokerage
- Home construction
- Companies loaded with debt
- Companies dependent on debt financing to sell their products
3. Buy the sectors that are being positively impacted, such as energy and other natural resources. Here in Money and Markets, I have been recommending Enerplus (ERF) for yield-oriented investors and Oil Service HOLDRs (OIH) for investors seeking primarily capital appreciation. But there are also many other, similar opportunities.
For the details, see Larrys Real Wealth Report, dedicated to natural resource investments.
4. If you have money you can afford to risk, seriously consider call options on selected energy shares. With the purchase of stock options, you can never lose more than you invest, plus the minor commissions you pay your broker. But the profit potential is virtually unlimited.
The Broadening Impact of
Cost Inflation
by Tony Sagami
Martin has focused on one aspect of todays energy crisis. Let me broaden the discussion.
Yesterday, the Producer Price Index showed a continuing surge in price inflation.
Prices at the wholesale level jumped by 0.6% in August. On an annualized basis, that amounts to over a 7% inflation rate! And as our Managing Editor Mike Larson points out, year-over-year, the August PPI increase is the worst since December 1990!
Sure, a big chunk of this is energy related. But how long can the head-in-the-sand Wall Street pundits continue to excuse higher energy prices month after month, year after year?
I thought the whole purpose of pulling energy and food out of the price indexes was to avoid being fooled by temporary, month-to-month gyrations in those two components. But this is far from temporary. And the rise in those prices is not just gyrations. Theyre well-established, long-term trends that are spreading into every nook and cranny of the economy.
Here are some more facts that the pundits are downplaying:
- The 0.6% increase in August follows the 1.0% increase in July. Those are some very, very ugly inflation numbers.
- These are August numbers and dont reflect the impact of Hurricane Katrina. Energy prices have jumped and the September numbers will be even worse.
Well get the CPI (consumer price index) numbers tomorrow. Regardless of what they show, its going to be awfully hard for the Fed NOT to raise rates when they meet next week.
DuPont Forecasts
Higher Fuel Costs
There are hundreds of stories behind that 0.6% PPI increase.
DuPont announced price increases for ALL 35,000 of its products because of rising commodity prices especially energy and feedstocks.
The company predicts that 2006 oil prices will be higher than the $59 average so far in 2005, which is 44% higher than the 2004 average of $41 a barrel.
Clearly, the people that run DuPont dont expect the energy situation to get any better: This is real, and it’s here to stay, they say, echoing the words of
Venezuela
s president that Martin shared with you yesterday. It goes beyond Katrina. Katrina certainly exacerbated a bad situation.
Sure, the forecast from the people who run DuPont could also be wrong. But I doubt it.
Best Buy Confirms
Spending Slowdown
Retail star Best Buy coughed up a big hairball when it reported worse-than-expected quarterly results and told Wall Street to tone down its euphoric expectations.
Wall Street was expecting Best Buy to report 38 cents a share on sales of $6.75 billion. Nope! They got 37 cents a share on $6.70 billion of sales.
As always, the devil is in the details, and there were lots of them:
- 36% of Best Buys sales are home office products – computers, printers, telephones. These suffered a same-store sales decline of 0.7%. You should, by the way, be connecting this dot to everybody in the PC food chain, such as Dell and Intel.
- Same-store sales of entertainment products – mainly music CDs, video games, and movie DVDs dropped by a worrisome 7.2%. In their own words: Continued softness in the performance of new releases in music and movies drove the decline in this product group.
- Same-store appliances sales increased by 10.9%, but that was primarily from very strong sales of air conditioners. Since Best Buy isnt going to be selling many air conditioners during the holiday shopping season, you can expect this good news to disappear next quarter. (To be fair, I do need to tell you what IS selling well. The best sellers were MP3 players, flat-panel TVs, notebook computers and digital cameras.)
- In the last 990 days, Best Buy repurchased 1.1 million of its own shares at an average price of $49.56. Too bad for them. Best Buy closed at $44.79 yesterday.
- One of the biggest warning signs is increases in accounts receivables and inventory. In the last year, Best Buys accounts receivables increased from $328 million to $389 million, and inventory grew from $2.98 billion to $3.25 billion.
Looking ahead, Best Buy expects to make 28 to 32 cents this quarter. The Jack-and-the-beanstalk crowd was expecting 34 cents.
This is a pretty serious warning. Were not talking about some small, trendy retailer were talking about one of the brightest and biggest stars in the retail world. When Best Buy coughs up a hairball, you had better pay attention.
Best wishes,
Martin Weiss and
Tony Sagami
About MONEY AND MARKETS
MONEY AND MARKETS (MAM) is published by Weiss Research, Inc. and written by Martin D. Weiss along with Larry Edelson, Tony Sagami and other contributors. To avoid conflicts of interest, Weiss Research and its staff do not hold positions in companies recommended in MAM. Nor do we accept any compensation for such recommendations. The comments, graphs, forecasts, and indices published in MAM are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical inasmuch as we do not track the actual prices investors pay or receive. Contributors include Marie Albin, John Burke, Michael Burnick, Beth Cain, Amber Dakar, Scot Galvin, Michael Larson, Monica Lewman-Garcia, Julie Trudeau and others.
2005 by Weiss Research, Inc. All rights reserved.
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