​Financial Myths: A Billion Here, a Billion There, and Pretty Soon You're Talking About Real Money - Part II

Michael McTague  |

Defaults shake up the markets and national economies. While Greece has had its financial strength upgraded through its Euro Zone neighbors, Brazil and Russia from the fallen BRICS group and Turkey, a Euro Zone hopeful, risk defaulting on massive bonds outstanding. Russia has stockpiled US dollars to shore up its economy. Turkey and Brazil plunged into a financial whirlpool of possible defaults on corporate and government bonds because of sour economies and political turmoil. In terms of the myth, we are talking about “real money.”

Turkey is now the patient etherized upon a table, surrounded by a team of financial surgeons. Compounded by the Premier leaving office, its sluggish business climate tells why its bond yield hit 9.73% in mid-June. Moody’s ranks Turkish debt at Baa3, one step above junk. More than $400 billion of external debt stands at risk. Brazil, which also suffers from political turmoil, holds a bond rating and outstanding debt at risk similar to Turkey’s. A small uptick in the global economy or the price of oil or the attractiveness of commodities would reduce sharply the risk of default.

Consumers Outperform Central Banks

The actions of central banks in Europe, Japan and the US (until recently) aim to stimulate economic growth through extremely low interest rates. Last month, we reported good reasons for the Federal Reserve to raise interest rates. Then a weak employment report caused the Fed to back off. The good news is that the Federal Reserve is sensitive to the health of the economy. The bad news is that their efforts do not play as dramatic a role as they would like in stimulating growth. Sluggish growth everywhere with a few bright spots strongly suggests that consumer behavior, spurred by pent up demand, outperforms regulatory activity.

Last month, we noted Apple’s (AAPL) massive market capitalization drop. Yes, we admitted that Apple’s stock woes might be too easy a target. But we dug deeper and looked at the ripple effect of a decline in the iPhone creator’s market capitalization. Exxon Mobil (XOM), the long-standing superstar of profit and revenue, deserves a similar look.

Exxon’s decline in market cap reached $64 billion over a two year stretch (June 2014 – June 2016); revenue and profit down $135 billion year end 2014 to year end 2015. As was the case with Apple, Exxon’s biggest holders are in a world of hurt. Again, among the mutual fund families Vanguard is the biggest holder with over $22 billion worth of Exxon shares. The largest single fund is Vanguard Total Stock Market Index Fund with nearly $6 billion in shares according to Yahoo Finance (YHOO). We will see if money shifts away from the fund. Exxon’s recent slide is the tip of the iceberg compared to the rest of the industry.

Cheap oil should bring good news to other industries. Ford is selling a huge number of F150s and pounds its major competitors: General Motors (GM), Fiat Chrysler (FCAU), Honda (HMC) and Toyota (TM) at least in light truck sales. A huge number of television ad’s try everything possible to topple Ford’s lead in this lucrative market segment. The mighty F150 runs at a 750,000 vehicles a year pace. Consumers are enjoying the drop in oil prices, which has kept inflation very low and given drivers the inspiration to really enjoy driving expensive gas guzzlers.

Airlines Turn a Profit

In the massive oil price drop, the major airlines won the Irish Sweepstakes: profits surge or expenses fall. From 2014 to 2015, American Airlines’ (AAL) revenue dropped by $1.7 billion, but its gross profit rose $2.7 billion. Despite this profit benefit, the company’s financial prospects are dragging. Let’s look deeper. They sold older airplanes following their merger with US Airways and undertook a widescale upgrade plan, reinforcing its fleet with 300 planes from Boeing (BA) and Airbus (EADSY). This strategic move will surely cement their image as the largest airline in the world. If an airline is going for a gigantic uplift, this is the right time for it!

Almost as big as American, Delta’s (DAL) revenue did not change much from 2014 to 2015, but gross profit rose more than $6 billion and net income was up sevenfold. Retained earnings doubled in a year. United Continental (UAL) moved its Retained Earnings from negative to positive in the same time period.

Smart investors will notice a reversal of the oil industry pattern. Cheap money allowed many smaller and newer oil companies to explore and produce. But the drop in the cost of oil, which has certainly cut ExxonMobil’s (XOM) profit, has also made it difficult for smaller and newer companies to pay off their debt. These companies assumed that oil prices would remain higher for at least the near-term future. American Airlines seized the day and took on a larger debt burden thanks in part to a huge drop in expenses.

This myth allows us to look at sweeping instances of policies and practices that move billions of dollars one way or the other. From Apple to the Federal Reserve, from Exxon to Turkey, we are talking about real money. Thanks to Senator Everett McKinley Dirksen for a witticism that strikes at the heart of many financial decisions. Next month, the Myth Buster will pursue more business and government actions that need careful analysis.

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Michael McTague, Ph.D. is Executive Vice President at Able Global Partners in New York, a private equity firm.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer.

Companies

Symbol Name Price Change % Volume
UAL United Airlines Holdings Inc. 90.54 1.08 1.21 1,578,705 Trade
TM Toyota Motor Corporation 135.54 -0.41 -0.30 63,798 Trade
HMC Honda Motor Company Ltd. 26.73 -0.08 -0.28 206,045 Trade
DAL Delta Air Lines Inc. 53.87 0.50 0.94 2,718,635 Trade
GM General Motors Company 36.30 0.11 0.30 3,554,189 Trade
AAL American Airlines Group Inc. 28.28 0.35 1.24 2,846,474 Trade
YHOO Yahoo! Inc. n/a n/a n/a 0 Trade
EADSY Airbus SE ADR 33.73 0.36 1.07 64,193
FCAU Fiat Chrysler Automobiles N.V. 13.22 0.08 0.57 6,550,345 Trade
AAPL Apple Inc. 236.25 0.97 0.41 17,511,201 Trade
XOM Exxon Mobil Corporation 67.76 -0.38 -0.56 7,197,183 Trade
BA The Boeing Company 348.76 -20.30 -5.50 7,710,548 Trade

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