The news surrounding Bear Stearns on Friday morning was not good! There are several important elements to this story.
The first element is the most important one: Bear Stearns appears to be out of cash. If you’ve ever traded on margin (or know someone that does), running out of cash happens from time to time. The problem is it usually happens at the worst time! This “credit squeeze” apparently sapped all the available cash Bear Stearns had at their disposal.
The Federal Reserve stepped in overnight and was able to provide 28 days of liquidity — through an arrangement with J.P. Morgan Chase. Bear Stearns will be able to function for the next four weeks, but beyond that is unclear.
No one knows what the outcome will be at this time.
The second important element in the Bear Stearns story is that subprime mortgages, problem loans and credit markets drying up — are a bigger problem than many people won’t accept. They are still in denial! It’s extremely unusual to see headlines like we saw with Bear Stearns. The long-term viability of the company is in question.
The third important element in the Bear Stearns story is credibility. Management at many of these financial institutions may not hold an accurate view/perspective of what’s really happening. Alan Schwartz, the chief executive of Bear Stearns, said the company was not facing liquidity problems — as recently as Monday. By the end of the week the firm was facing many calls for cash from their clients and other firms that they do business with on Wall Street.
That last point is crucial. Credibility of management. Most investors still use only fundamental analysis to determine whether they should buy or sell a stock. Company fundamentals: the history, their earnings, management, products, revenues, market share, etc.
The flaw in fundamental analysis is that it’s human driven — sometimes management changes, sometimes the direction of the firm changes, sometimes companies will go back and restate earnings (essentially rewriting the past!).
In a sense, fundamental analysis relies on what management of the company tells you (and tells the analysts that follow the company) what’s going on. As an investor, you rely on them to be honest and open…after all, you OWN the company when you own the stock.
Early on in my career, I’d been burned so many times by misleading statements, inaccurate earnings reports, and all sorts of problems. I learned to check out the charts — in addition to listening to the company. The point and figure chart for Bear Stearns shows sell signal after sell signal, and an important support line break months ago.
Clearly, there were many people who did not feel comfortable owning the stock over the past year and had decided to sell it — well before the news came out on Friday. There is only one thing that matters when it comes to stocks: the PRICE. Not the future, not the grand 85-year history, not their terrific market share or their wonderful products. The only thing that matters is price.
Today’s lesson: if you wait for the news, you are too late.