Pershing Square Make The Case

I have just finished reading Pershing Square's presentation at the Ira Sohn conference, when Bill Ackman began his PR assault in favour of a 7-year loan extension as the ideal solution for resolving the company's problems.

It summarises the entire analysis and case from start to finish for going long on GGP, and the company retaining common equity value out of bankruptcy. It provides a compelling argument and may well have been behind the significant rise in share price from around $1.20 to a peak of $2.40 on Friday before it fell back to close at $2.02.

I highly recommend anybody holding or interesting in General Growth takes the time to review it here.

Different Worlds, Different Priorities

I had an exhausting long weekend in Chicago for a Jewish wedding, so have spent this week jetlagged and wishing L would give me just 5mins respite from wedding planning. I swear, every evening it's something or other - yesterday selecting invitation designs for the UK reception, another time the cake design or colour of ribbons for the chairs.

It won't get any easier tonight, as L took it upon herself to invite two friends (of hers) over for dinner, leaving me to keep my eyes open into the early hours and feign interest.

As I walked over here to my lunchtime bolt hole to write an entry, on this glorious summers day here in London, I mulled over Bill Ackman's PR offensive yesterday, in which he effectively drew a line in the sand with respect to GGP's reorganisation plan, and how if this was put into place he could see a conservative cap rating lead to a 13-fold increase in his investment return upon emergence from Chapter 11.

The plan that Ackman has suggested is very simple: extending most of GGP's $27bn of debt for 7yrs, which he argues will solve all the company's problems without requiring asset sales.

It certainly sounds feasible, although would be highly unpopular with many creditors. However in principle if the court agreed to such a proposal then that is precisely what could happen. All indications to date are that Judge Gropper agrees that taking decisions that protect the wider CRE market are in the public interest. Widescale loan extensions will nonetheless be fully serviced by GGP due to its viable operating model, so this seems quite feasible.

I had envisaged widespread 2yr extensions with limited asset sales, but Ackman is clearly setting out the case with the ideal scenario for common shareholders.

Anyway, there was a certain irony that I was toying with how it would feel to bag over £1 million profit from a trade as I wandered down one of the City's many backroads, when I overheard a middle aged woman - presumably talking on the phone to her husband - arguing over whether it was him or her that was supposed to have paid the £1000 for the mortgage that month.

Different worlds, different priorities. It makes me realise how much of a bubble I live in sometimes when I overhear a conversation like that.

I think that it is fair to say that the market has started to consider GGP as a potential investment opportunity now, rather than after bankrupcty. This is part of the market reassessment after the Court's positive rulings in GGP's favour relating to the SPE inclusion in Chapter 11, amongst other things, earlier this month. I was disappointed by the lack of market response initially, but I think it took time for investors to digest the implications.. I forget most are not so close to the detail.

The end result on closing yesterday, is that the share price has now risen by exactly 200% since GGP filed for Chapter 11 and opened at 60 cents a share on April 17. Not a bad return in 6 weeks for anyone bold enough to buy that day. Although I am averaged in above $1 myself, I am already sitting on a significant unrealised profit, which feels rather better than a loss, however meaningless.

TALF Legacy Unveiled: Does It Impact GGP?

The eventual expansion of TALF criteria to include broader assets and older CMBS was discussed in government committees back in Jan/Feb, so this has been looking likely for some time. The TALF Legacy was finally announced last night, and the Terms and FAQ are worth taking the time to review.

On immediate reading, it would be easy to get carried away with the news, and assume this is overwhelmingly positive for GGP - it could potentially solve all of its refinancing problems!

Hold on, hold on dear. Certainly it is not negative, since it will benefit the wider credit markets: any thawing of those it to be welcomed, since it provides additional capital for refinancing other loans - the aim of the whole programme after all. In itself GGP's status in Chapter 11 is not the issue here; eligibility for TALF Legacy funding is made at an individual CMBS level, and that is what will impact GGP's ability to utilise this for refinancing of loans.

So how does GGP's CMBS portfolio stack up?

The criteria stipulated by the Fed is that: "Eligible collateral will not include a CMBS that obtains such credit ratings based on the benefit of a third-party guarantee or a CMBS that a TALF CMBS-eligible rating agency has placed on review or watch for downgrade."

Fitch has made several precautionary downgrades of GGP CMBS's since 20 April to reflect the increased potential risk. This Seeking Alpha article summarises without going into specifics, including the Fitch announcement that it downgraded the outlook from Stable to Negative on "63 properties [which] secure 58 loans in Fitch-rated U.S. CMBS transactions."

According to Fitch "the revised Rating Outlooks are in large part due to the Chapter 11 bankruptcy filing of General Growth Properties (GGP) and certain affiliates which are borrowers in CMBS transactions."

That means many are ruled out of eligibility for TALF Legacy at present, and due to the uncertainty at the time, includes all those commercial mortgage backed securities that transferred to special servicing after their inclusion in Chapter 11 - the list is too numerous, but means those collateralised by malls including:

• Boise Town Plaza and Square (Idaho)
• Newgate Mall (Utah)
• Northridge Fashion Center (California)
• Willowbrook Mall (New Jersey)

What is worth noting is that it was the uncertainty around the bankruptcy which was a key factor in the downgrades. The rating agencies may start to respond to the recent ruling for SPE's to remain within Chapter 11 with a reassessment. The primary risk factor cited was that GGP "could seek additional leverage secured by the mortgaged properties to help repay their corporate unsecured debt. The presence of additional debt would put substantial additional stress on the properties and impair the performance of the CMBS transactions."

Judge Gropper's ruling protects the integrity of CMBS pulled into Chapter 11, since the underlying collateral cannot be laden with further debt, so arguably this will require an offset upgrade in future - although rating agencies are frequently cautious, and that by no means implies they would be upgraded to the necessary AAA status required.

Fitch has stated that it "will continue to monitor the performance of the GGP assets in addition to the progress of the bankruptcy proceedings. As the developing situation becomesclearer and as property performance warrants, Fitch will take additional ratings actions as appropriate."

Meanwhile this post here includes an article with some detail around the credit industry reaction to the GGP ruling, and their presence at the ICSC conference.

Time will tell how beneficial this proves for GGP. If I were an agency, I think I would rate this development a Cautious-Positive.

Private Insolvency Management

Well I just got back from an amusing trip out to Zurich, where I gave a presentation to senior management in Private Wealth Management. I did a fine job of summoning faux enthusiasm as I ran through an unnecessarily lengthy presentation, explained how our absurd insolvency scheme could benefit them as well:

"And so, this scheme will enable you to provide your clients with full assurances that they will receive their money back, in the event of an insolvency at some point in the future," I pronounced confidently as I finished.

The PWM managers all looked keen, and agreed they would provide funding to have them added to my insolvency circus project, much to the delight of my Boss when I got back today. More funding equals more work for us - and a higher profile for him as he struggles to try and make MD.

As I packed up in the empty board room afterwards, a manager I used to work with came back in for a chat. He explained that the reason for this sudden interest from PWM is down to the exodus of clients in the last few months. As such, half of the room will be fearing for their own necks when this gets out, and have been looking desperately for anything that might give them an edge when trying to pick up more clients.

When I enquired why they had lost so many, he confessed that PWM have been so busy lying to them about portfolio performance for the last year, that when the bad news had to be finally reported at the year-end, it was the final straw for many.

"Look, the first casualty of a recession is honesty", he said seriously. "My problem with all this is that clients don't believe a word we tell them anymore, so I'm not sure this insolvency protection malarky is going to make any difference."

However bad I think my lot are, it was rather refreshing to get out to the most boring place to work in Europe and find out there is another group of bankers with even fewer morals.

Expenses Scandal Highlights Uncomfortable Parallels

Earlier I drafted up a mock client statement for this ridiculous post-insolvency initiative taking place here at the bank. It looks pretty good to me, but a particularly anal MD just replied back to take issue with my naming the example client 'Dodgy Hedgefund Ltd' (located at 1 Hedgefund Alley, Kensington, London).

Christ, if you can't have a sense of humour in this job then it's time to visit a clinic for some colonic irrigation, miserable old bastard.

On the subject of this initiative, to illustrate how absurd the work is - and current estimates are that it is set to cost over $30 million of the bank's resources to implement, and all the major banks are doing the same - the FT reported over the weekend that the Chancellor is preparing to change laws in this area. "Suggestions that the US operated more effectively than the UK are misconceived," a government official said.

In that case why is the US not rushing to change its bankruptcy laws as well? The problem with the government is that they seem incapable of admitting mistakes, even when they are obvious to all. It is rather like their attitude to MP's expenses, although it would be utterly hypocritical of me to criticise them, given what I have claimed over the years.  

A favourite has to be my generously volunteering to pilot a working from home scheme at a previous bank back in 2002. At the time colleagues smirked at my youthful enthusiasm, but I soon had the last laugh. Without any adequate controls, I went ahead and set-up a full 'home office'.  

That meant decking out my second bedroom (designated as my 'office') with an expensive, new PC of course. I also took the opportunity to furnish the room with a new bed, table, wardrobe and - my personal favourite - a 42" flat screen TV, which I categorised as an 'office presentation device'.  

In fact, there were even further parallels with politicians and their second home allowances now, remembering back. I became particularly ingenious at looking at ways of stretching the 'home office expenses' pot. My logic at the time was much like MP's I suspect, and demonstrates human nature: I treated as unacceptable anything that was refused, otherwise it was open game.  

My team quickly went from ridicule, to amusement, to envy, to applying to join the pilot scheme.

I finally reached the zenith when for 6mths (until they ended the scheme), I charged 40% of my rent as 'office rent'. The logic was infallible: apparently I only lived in a 2 bedroom place because I needed an 'office'. My pad at the time consisted of 2 bedrooms, 2 bathrooms and a main room. So 2 of the 5 rooms were 'office', since the en-suite toilet was also clearly an office expense and a necessity.

I know, all the morals of a politican. I was young.. underpaid.. naive.. how is it that they say it? I made several 'errors of judgement' that lead to 'clerical errors' and 'financial oversight'.  

To you, my internet audience of morality, I throw myself on the alter of judgement.. I have sinned!  Fortunately I couldn't care less about public opinion, so only promise not to pay any of it back.

Round 1 To GGP As CMBS Industry Overplays Its Hand

I will move off so many updates on GGP soon, not least as I am busy looking into other investment opportunities. However there was enough news late yesterday to warrant an update.

Firstly on DIP financing, after swinging between bidders (and worth noting that bidding for DIP financing is in itself a rarity), GGP turned down both Pershing Square and a consortium lead by Goldman Sachs, and instead opted for the group lead by hedge fund Farallon Capital Management.

Details seem largely unchanged from before at $400m of funding with a 12% interest rate and no warrants, apart from a lower exit fee and now a potential 8% equity repayment option - that is subject to GGP's equity value upon emerging from bankruptcy.

At present the exact details of the DIP financing are not available, although The Washington Post quotes Ackman as saying: "This is the best DIP loan that has been done since the beginning of the recession, and it could be the best DIP loan ever in terms of the structural features that are favorable to the company."

All indications had been that the Court hearing yesterday was going to rule in GGP's favour. So it proved, with both DIP Financing approved, and Judge Gropper, presiding over GGP's case, ruling for the SPE's inclusion in the Chapter 11 filing.

This brings the inital phase of proceedings to a conclusion, after much legal wrangling (and whinging) on both sides. Various lobby groups representing the CMBS industry, fearing the ramifications from investors if their products did not deliver on the promised bankruptcy protection, launched into the most hilarious claims.

The end result was that they stretched credibility and overplayed their hand.

"The GGP bankruptcy filing could - if passed - be disastrous for the CMBS [industry] in the US" warned Conor Downey, a partner at Paul Hastings. He then went on to claim that such a ruling would somehow lead to an enormous downgrade of CMBS debt and that none could attain triple-A rating again.

The highly impartial Mortgage Bankers Association also added their voice, stating grave concerns over the 'catastrophic' impact of such a precedent.

An official from the CMSA (Commercial Mortgage Securities Association) also over-exaggerated the situation by stating: "It is not an exaggeration to say that if a CMBS lender cannot get comfortable with the isolation of the real property asset to be financed and hence the cashflows derived from the operation of such asset, then no such financing will occur."

Yes, except that this does not mean CMBS lenders could not get comfortable with isolating the asset being financed. Fortunately the seasoned Judge Gropper was unimpressed with such overstatement. Even earlier in the week, such claims had been dismissed as "hyperbole".

Judge Gropper overruled the objections yesterday, rightly saying that lenders rights were protected and General Growth should have access to cash collected at its subsidiaries. The notion that commercial mortgage backed securites somehow mean lenders have a legal right to control the cashflow is clearly wrong. It would hinder a viable company, capable of fully servicing its debts to those creditors, from moving out of bankruptcy.

Where GGP had been out of line was an implicit suggestion in the bankruptcy loan that the underlying collateral for the existing CMBS loans (i.e. malls) could be used as collateral for the new DIP loan. That illustrates what CMBS do provide - a guarantee that the asset cannot be misused, and will always be there to enable repayment for the creditors, even in a bankruptcy.

Matt Reid, a senior financial analyst at DBRS made a telling observation, by stating that "the GGP bankruptcy is unique in that most of its CMBS loans are performing reasonably well with strong debt service coverage and likely equity value above the mortgage debt."

Additionally Reid concurs with my previous analysis into the motives for including SPE's: "After reviewing the bankruptcy filing documents, we think the motivation for the filing of the SPEs is to generate better negotiating leverage with the special servicer to extract the value above the CMBS mortgages, while keeping such debt current. The plan is to use this cashflow as working capital during the reorganisation process, which could be several years. Such a ruling would be positive for unsecured creditors."

Round 1 to GGP and unsecured creditors then. It will be interesting how (or if) this impacts the share price later today upon opening.

How Much Extra To Move Jobs?

That's the conundrum I have been faced with this morning, following another headhunter call. Of course, the salary levels they claim are usually best-case and designed to hook you into taking it further. This one dangled the prospect of an extra £50,000 increase in my base salary if I moved.

However after about 5mins deliberation, the answer is going to be 'no'. It is certainly tempting from one perspective, but one problem is that the bank in question is terrible: without naming names, one of those suffering from merger pains, combined with being incompetently run for years - hence is on government life support and has made huge losses.

Most of all though, there is more to this than just money. Let me just reassure you that there is no loyalty for the bank, or love for the 'unique team culture' - every bank spouts waffle about it being a giant family and that they are the best. Unfortunately the brutal culling of staff in the last year merely illustrated the fallacy to those corporate clones too stupid to see it before.

Working for yourself is the only place to aim for in life. So yes, an extra £50k now would be nice, but the cost is all of the hassle and risk of a new job. When I factor in work on my business ahead of the launch later this year, I realised what is much more important to me. At present I have got time to work on this almost daily, but that could easily change with a new boss on my shoulder, and needing to forge a reputation at a new place.

Anyway it's an interesting question, and highlights to me how my priorities have changed so significantly since I mentally made the jump towards my aspirations being out of the sector.

Although not yet announced, Pershing Square are about to submit a counter-offer on the DIP financing. It is unsurprising because without the innovative equity conversion option they had included as the DIP financier, they lose a valuable hedge against their significant existing holdings. This will be good news for GGP again, as any competition around terms of financing benefits the firm - I am just hoping to see the equity conversion option dropped, but matching the other loan terms with a lower interest rate is a more likely sweetener.

Otherwise Reuters reported last week that Simon Property Group have raised more capital in another significant stock offering. They cite the reason being for "general corporate purposes", but pointedly there is no longer a denial of interest in future acquisitions, just citing timing.

Due to the market saturation (in the US) of mall owners, all of the REIT's need to expand their market shares through acquisitions. As such, and despite denials, Westfield are also lining up to compete with Simon and Vornado (who have openly admitted interest) for any asset sales that GGP decide to put out there.

As with DIP financing, it is much better to have competition in a sale like this. On an unrelated rumour, the Court will reconvene tomorrow to review the DIP financing options and progress further. For now this is a side show to the bigger issue relating to creditors and the SPE inclusions discussed in my last post.

CMBS Industry Gets A Wake Up Call

I have been following recent events in the commercial mortgage backed security market with interest since General Growth Properties filed for Chapter 11 on April 16.

The headlines have recently been around an alternative DIP financier being announced.  This is good news for GGP, because it has improved terms - in particular relating to potential equity dilution, which is the primary threat to common shareholders. Pershing Square had both a 4.9% warrant and a 5% equity conversion clause linked to the DIP repayment.

By contrast the new DIP terms removes the warrant, although replaces the 5% equity conversion with 6% (and demotes DIP financing to a junior lien on cash collateral - in effect making repayment less prioritised versus other secure debt to appease creditors). The equity conversion is considerably less than previously however, and as I said before ought to have minimal impact on the firm, as this could only be exercised upon successful emergence from bankruptcy. By which time the firm capitalisation should be hugely higher.

Of more interest were the recent details around the degree of investigation and preparation that GGP put into their bankruptcy filing, designed to ensure they maximise leverage when negotiating with creditors further down the line.

Firstly, it should be said that the issue here all comes down to one of expectations. Those lenders who entered into the various credit products being sold by the banks over the last 5 years, such as commercial mortgage backed securites, were reassured during the sales pitch by the way they were structured.

I know because I work with credit sales people at the banks, and their oily schmooze would be enough to convince me that they know what they are talking about, were I not familiar with the legal grey area in the detail beneath the surface.  In the event, salesmen just regurgitate a well-honed sales pitch, whether they're selling CMBS's or used cars.

"Debt is tiered by risk and reward, so if you take out the higher grade debt in this product, you will be first in line for repayment in the event of a default" schmoozes the salesman.

"But what about if they go bankrupt, and take the whole thing down with them?" asks the nervous-but-greedy investor. "Surely then being first in line isn't going to be any use."

"Ah but that is all factored into the inherent design of this product", reassures the schmoozy salesman. "Commercial mortgage backed securities from DodgyBank Inc are structured with the issuer to be held through a 'special purpose vehicle'."

"What the hell is that?" asks the nervous-but-curious greedy investor.

"It's a clever legal structuring of the debt, that provides additional insurance. The holder of the security and underlying collateral is not the company that owns the malls, it's an independent legal entity which is bankruptcy remote. That means if they go under, your asset does not, so you are guaranteed to be first in line if they default as all the cash flows towards repaying you."

"Wow, that's awesome - I can't lose! Put me down for $10 million on one of the really big REIT's.. hmm, that fast growing one 'General Growth Properties' looks good."

Of course, had these idiots bothered to do some due diligence, they would have read the finer print and worked out that the companies had far more control over those special purpose vehicles (aka 'special purpose entities' or SPE's) than they realised.

In GGP's case, they had the power to hire or fire the directors of the SPE's for the underlying assets (malls) as they so chose. As such, they did just that in the weeks leading up to bankruptcy. Unsurprisingly all 166 SPE boards then subsequently backed having their malls enter Chapter 11 with GGP, so this was firstly quite legal.

In papers filed Wednesday in U.S. bankruptcy court in New York, General Growth argued the CMBS investors' objections to including the SPEs "appear grounded in the misperception that 'bankruptcy remote' means 'bankruptcy proof'."

Now the battle ground is set between GGP, which wants to strengthen its position, and outraged creditors that wish to prevent the malls which their loans are secured against being included in bankruptcy (and the cashflows going to elsewhere in the business).

Unfortunately for the creditors, as the Wall Street Journal reports yesterday, GGP have prepared a significant argument to the court by pledging "to continue paying interest on its mortgages, possibly making it more difficult for CMBS holders to argue they should be allowed to foreclose. It also pledged to provide its mortgage lenders 'adequate protection,' meaning they will have an administrative claim in any liquidation scenario to cash flow drawn from their properties by the parent company."

Whatever the court decides will have far-reaching implications for the wider credit markets, but the odds are strongly in favour of GGP persuading the courts to go ahead with this, as it is very difficult to argue this is not in the wider interest of the market and commercial real estate industry to allow this to happen.

Otherwise the only news today is that I snapped after nearly 5 hours of wedding related shopping on the Kings Road earlier.  After a row with L about how all she seems to want to do with time off is go shopping, and how I have better things to do (such as finish the functional spec), she has gone off for a hair appointment, and I'm contemplating whether this is what married life is going to be like.

Perhaps I ought to Google 'marriage pre-nup'...

Shorting For Dummies

With my lunchtime bolthole returning for the forseeable future, it felt rude of me to not pop out of the office and give a quick overview of how the average investor can short.

Of course, with all of the bad press around short selling in the last year - especially its supposed role in the credit crisis, one might reasonably ask why you would want to. One good reason is that a major market rise has now been underway for the past 5 weeks or so, and the apparent euphoria from some financials reporting better than expected results belies the wider economic downturn, and has the hallmarks of a house of cards built on sand.

Markets do typically reach the bottom 6-9mths before we emerge from each recession, so we ought to be there soon, but it is going to be an uneven ride that provides opportunity for profits both ways.

As every day of rises passes, so too does the potential for quick profits from shorting. Individual shorting is a process that the average investor cannot access easily - it requires access to the OTC markets, and additionally extreme caution when combined with leveraging instruments such as futures and derivatives.

In the same way as investing in gold and other commodities is now accessible to the wider market through exchange traded funds (ETF's), so the same principle has been applied for shorting through inverse ETF's. These essentially work by short selling a basket of stocks to mirror their underlying asset class or indices, and in doing so provide an inverse return. Through derivatives, versions even exist which provide a degree of leveraging - hence magnifying the ETF's rises or falls, with equivalent gain or loss for investors.

I recommend reading the Wikipedia article, as while it is simplistic, it provides a useful list of many inverse ETF's, as well as highlighting the higher fees required by an inverse ETF, which make this a strategy that should only be employed in the short-term (unlike conventional ETF's, which are more akin to tracker funds). Additionally this Trading Markets article gives further detail on how to use inverse ETF's, including for all-important hedging.

As with any investment, this is one to research before using and certainly requires caution - not least because the market direction will be upward over the coming years. Having said that, I have concluded that this particular market run is due a downward correction at some point soon, and so shorted the S&P 500 through ProShares Ultrashort yesterday.

A Change Of Perspective

"Woe betide thee, who has a desk move imposed upon them and loses a spectacular City window view and privacy, to face an office cupboard with a sign reading 'Restricted Access Area' while surrounded by irritating colleagues on all sides"  The Emerging Investor

Having been pulled onto this tedious Hedge Fund confidence-boosting initiative at the bank, I was duly forced to move desks to sit with the new team this week. Quite why is beyond me, as I was only sitting about 20 yards away from them before, and in this digital age we mostly communicate through email, communicator and conference calls anyway.

The bank being as tight as it is, rather than paying for the desk/equipment movers to come in, they left it to me to spend 1.5hrs crawling around on my hands and knees to unplug and switch PC's - all while avoiding the mouse traps down under the desks (we have a problem with rodents - both human and otherwise).

I'm mostly not pleased because I was happily working on my site on the quiet at work as I haven't been too busy recently, and the wireframes for the Functional Spec are rather too visible to pass as financial work.  Now I might even have to do some work for my money at this rate.

Anyway it's not all bad news, as the actual site design has been progressing very well, and I am confident that within the next week or so I will have it sufficiently completed to approach vendors.  They are in for a grilling given that part of my daily job is managing incompetence, and I expect nothing less from them with the build.

There is nothing of interest happening yet regarding GGP, besides Vornado being confirmed as a major potential front runner in buying any GGP assets put up for sale, and having raised sufficient capital to make reasonable offers.  Also following on from my last post regarding GGP including CMBS subsidiaries in its Chapter 11 filing, which has major ramifications for the credit markets; unsurprisingly a challenge is being mounted by one of the groups who would be adversely impacted.

The creditor meeting in a fortnight from now should prove interesting, but this is going to be a slow, lengthy process in which patience is the biggest strength any investor can show.

Next time I am going to move back to investing, which will be especially useful for those interested in shorting. It is a question I have been asked by several people recently, and is actually much easier than you would think. Anybody with a standard broker account can do it today, and I will outline how and some of the options.