As we move toward the end of the 3rd month since most of the largest U.S. cities went on lock down, we are seeing the market hit an 11-week high and the fear of missing out kicking in with more and more investors. While the $2.9 trillion of fiscal relief and $4 trillion of liquidity along with an expectation for more fiscal stimulus has supported the market, we must recognize that the Fed policy has drawn a line in the sand for which companies will survive and which we are okay if they do not.
The distressed sector is diverging from the rest of the credit market. Central bank policy is driving the market. According to Mike Swell, Goldman Sachs Asset Management Co-Head of Global Fixed Income Portfolio Management: “Policy is easy and the Fed is buying corporate credit for the first time. Very very significant support for the market, which gives companies the ability to be able to access markets and to be able to term out their debt and that is the most critical factor to a company’s ability to be able to survive…People are comfortable that there is a backstop from the Fed…U.S. market is the high yielding market in the globe…People have to go somewhere and they’re going to the U.S. credit markets as that safe haven. And the Fed now is looking at credit as a very very important policy tool….Global demand for yield as well as support from the Fed is a very very supportive backdrop for credit.”
2008 amount of BBB rated bonds: ~$700 billion
2020 amount of BBB rated bonds: ~$3.4 trillion
We still do not know how everything will shake out as we do not know how the re-openings will do and no investor has ever been through a pandemic like this. What we do know is that the digital transformation of society just got accelerated these last three months.
At East Los Capital, eastloscap.com, we are watching our thesis play out in real-time. The pandemic environment reinforces our belief that companies optimizing their businesses around technology will be the most agile and best poised for growth in all market environments. We will continue to look for opportunities consistent with this thesis and at reasonable valuations.
Below are some quick updates from my portfolio companies, commentary on the markets and other ideas, and a summary of key facts and figures from COVID-19 related government actions. And before reading on, remember George Floyd and too many others: https://newsone.com/playlist/black-men-boy-who-were-killed-by-police/.
Learn about the payments layer cake from Richie Serna and the Finix team:
Passfolio’s mission is to democratize investment opportunities by creating a unified, global, and borderless investment market. Today people outside the United States often need hundreds of thousands of dollars to invest in the U.S. stock market. Passfolio reduces that minimum to $1 to invest in U.S. stocks such as Tesla (TSLA), Apple (APPL), and Amazon (AMZN). We are now building a unified global investment marketplace with the goal of offering investments from all over the world, to anyone in the world, through a fast, easy, and secure mobile app. See a note from Passfolio’s founder: https://www.passfolio.us/posts/o-compromisso-da-passfolio-com-voce-hoje-e-sempre
Article from my associate, Claudia Diaz: “Rethinking the value of higher education? Go from learning to earning, Harvard or Sabio coding bootcamp”
Sabio became 1 of about 7 total preferred training providers nationally for the VET TEC Program in the Summer of 2019. We enrolled our first students in September 2019, and graduated our first cohort in Dec 2019. Within a month, our first VET TEC Fellow secured a job in January 2020. Those are results and what is going to drive this country forward. Thank you Liliana Aide Monge and Gregorio Rojas for your leadership.
I’m excited for all my fellow veterans showing courage in taking the plunge to learn a new career. We show it through bootcamp and our military schoolhouses, we show it in combat zones and while training other countries, and we have no issue showing this economy how to move forward.
See Liliana’s informative post for U.S. Veterans, which is one of the reasons Sabio is a leader in technical training for Veterans: https://blog.sabio.la/vet-tec-status-update-all-the-details-military-veterans-need-to-know-5ee4e373f277
Harrison Tang, founder/CEO of Spokeo and our East Los Capital Advisor, on importance of attitude in crisis: https://www.starterstory.com/spokeo-people-information-search-tool
Hispanic Heritage Foundation
As Chairman of the Hispanic Heritage Foundation, I was thrilled to announce we were partnering with Northern Arizona University to promote academic cooperation and human capital development, through research and education. Thank you to Dr. Joseph Guzman and our President/CEO Antonio Tijerino for the leadership and vision.
As part of the cooperation, both orgs commit to:
- Exchange of materials in education, research, publications, and academic info
- Development of joint proposals to funding entities (federal, state, institutional) for projects of mutual interest
- Joint meetings/seminars for training, education, and research
- Technical assistance, to include strategic development and consulting
- Student exchange and liaison
- Conducting research on HHF programs across US including Code As a Second Language (CSL)
We are ready to put in the work with NAU, a world-class research institution, which will help us move our mission forward in ensuring Latinos and Native Americans have a stronger path to STEM. Research is critical to better programs, strategies and services in support of the underrepresented in the STEM fields, not because of talent but opportunity.
Recruiting, nurturing and graduating Hispanic and Native American students in the fields of STEM is a priority at NAU.
Got some of my own quotes in the press over the last few months:
The uncertainty in the market has also exposed which portfolio companies are better positioned to operate independently, and which tend to depend on capital markets as they burn through cash, GPs told me.
This has been especially relevant for lower middle-market and VC-backed companies, Emanuel Pleitez, co-founder of East Los Capital, a Los Angeles-based investment firm, told me.
“There are some PE- and VC-backed companies that are still comfortable burning a lot of cash. GPs are now telling them they may not [have] access to capital markets in the next two years,” Pleitez said.
According to Pleitez, those kinds of companies need to create a budget that is different from the one they had before to foster a new culture.
“Yes, the uncalled capital is unused by private equity firms at the moment, but it’s not unused by the limited partners (LPs) of the private equity firms. This “dry powder,” or uncalled capital, does not mean it’s actually cash just sitting there. LPs have this uncalled capital in other “like” securities, which means it’s likely invested in the stock market. That means it’s ~20% less available than it was on Feb 19, 2020. Yes, there will be private equity firms that will benefit greatly because they specialize in investing in this environment. And even the ones that don’t specialize will benefit from lower valuations. However, the uncalled capital:
1) Is not new cash that is uninvested. As LPs will likely have to sell stocks to finance the capital calls. Some less sophisticated LPs (usually LPs of smaller funds) are actually already missing capital calls because they don’t have the capital available. The more sophisticated ones are obviously more likely to hit their capital calls, but they still likely have to sell something to get cash and wire it to the GP. So all in all this will be closer to net neutral on the impact to capital markets and the economy
2) Could be used to make investments at lower valuations into portfolio companies of other PE firms, but it is usually not meant to save a failing portfolio company. PE/VC firms do have reserves to invest more into their portfolio companies, but an LP would want any new investment to be made at an appropriate valuation. That means the PE firm needs to at least run some sort of a process, otherwise there would be a conflict. The loss of value has to occur. LPs do not want “good money chasing bad,” they want better investment opportunities, which will likely be new investments.”
https://www.mergermarket.com/info/startups-ask-investors-waive-rights-turn-debt-stay-afloat (Nothing that insightful from my end in the article, but good article for how startups are dealing with the current environment.)
“Another option for VC-backed companies facing a cash crunch may be non-bank lenders or venture debt firms that offer minimally diluted loan products, said Emanuel Pleitez, co-founder of East Los Capital, a middle market private equity fund.”
Summary of fiscal relief/stimulus and Federal Reserve liquidity facilities – could not find this anywhere else, so decided to put it together as a reference for folks
To date: $2.9 trillion in fiscal support for households, businesses, health-care providers, and state and local governments—about 14% of GDP
Including $195 billion of Treasury liquidity for $2 trillion of liquidity; ~$4 to $4.5 trillion expected
1) Coronavirus Preparedness and Response Supplemental Appropriations Act: $8.3 billion
2) Families First Coronavirus Response Act: $192 billion
3) CARES Act: $2.2 trillion (initially reported as $2.3 trillion)
4) Paycheck Protection Program and Health Care Enhancement Act AKA COVID-19 3.5 bill: $484 billion
COVID 3.5 Act: $484 billion
– $310B for PPP
– $60B for SBA disaster assistance loans
– $75B for hospitals
– $25B for testing
$497 billion to large corporations, i.e. $454 to Treasury for lending
$377 billion to small businesses – i.e. $349B for PPP
$293 billion cost of $1,200 rebate
$268 billion cost for FPUC
$265 billion in tax incentives
$150 billion to state and local governments
$146 billion for public health
$31 billion for education
$150 billion for Federal departments and other discretionary
Organizations that employ 60% (small businesses 50% and non-profits 10%) of workforce got only ~17% ($377 billion) of funds from CARES Act.
Total CARES Act: $1.7 trillion total excluding Treasury equity; $2.2 trillion total
$454 billion in Treasury equity for $4 trillion of Federal Reserve potential liquidity through various facilities
Currently: $195 Treasury equity accounts for $1.95 trillion in Fed liquidity
- $75 billion Treasury equity levered to $600 billion in liquidity for 3 Main Street Facilities
- $75 billion Treasury equity levered to $750 billion in liquidity for 2 Corporate Credit Facilities ($50B equity for primary, $25B equity for secondary)
- $35 billion Treasury equity levered to $500 billion in liquidity for Municipal Liquidity Facility
- $10 billion Treasury equity levered to $100 billion in liquidity for TALF
$259 billion currently retained by Treasury to expand current facilities or support more Federal Reserve lending programs
Money Market Mutual Fund Liquidity Facility (MMLF): https://www.federalreserve.gov/monetarypolicy/mmlf.htm (Treasury’s Exchange Stabilization Fund will provide $10B of credit protection)
Primary Market Corporate Credit Facility (PMCCF): https://www.federalreserve.gov/monetarypolicy/pmccf.htm ($50B Treasury equity for ~$500B in liquidity)
Secondary Market Corporate Credit Facility (SMCCF): https://www.federalreserve.gov/monetarypolicy/smccf.htm ($25B Treasury equity for ~$250B in liquidity)
Term Asset-Backed Securities Loan Facility (TALF): https://www.federalreserve.gov/monetarypolicy/talf.htm ($10B Treasury equity for $100B in liquidity)
Municipal Liquidity Facility: https://www.federalreserve.gov/monetarypolicy/muni.htm ($35B Treasury equity for $500B in liquidity)
Main Street Lending Program: https://www.federalreserve.gov/monetarypolicy/mainstreetlending.htm ($75B Treasury equity for $600B in liquidity)
Main Street New Loan Facility (MSNLF)
Main Street Priority Loan Facility (MSPLF)
Main Street Expanded Loan Facility (MSELF)
Primary Dealer Credit Facility (PDCF): https://www.federalreserve.gov/monetarypolicy/pdcf.htm
Central Bank Liquidity Swaps: https://www.federalreserve.gov/monetarypolicy/central-bank-liquidity-swaps.htm
Temporary Foreign and International Monetary Authorities (FIMA) Repo Facility: https://www.federalreserve.gov/monetarypolicy/fima-repo-facility.htm
Municipal Liquidity Facility to issue Upskilling or Future-of-Work Bonds
The Fed expanded the Municipal Liquidity Facility on April 27 by lowering the population threshold to include
– counties with at least 500,000 residents and
– cities with at least 250,000 residents.
Also, the maturity of the notes could be up to 36 months. It was 24 months when they first announced it on April 9.
My idea is that municipalities and states should consider issuing something like Upskilling or Future-of-Work Bonds to provide funding for technical training. Use this crisis as an opportunity to support the transition of the workforce. As there are more unemployed folks out there, there might be more interest in career switching into more technical roles with higher longer-term potential income. Might as well use the Fed backing for good.
In case you’re wondering why more talking heads on financial news are calling on “animal spirits,” Keynes: spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities. I feel like “animal spirits” has replaced “bespoke” as a more common Wall Street term.
Hertz case study
HTZ is a great case study for any aspiring investor. HTZ was a Wall Street darling in 2006 through mid 2007, then went almost straight down over a year to bottom at under ~$5.50 in Nov 2008…then you could have made a over a 19x return in less than 6yrs (take that VCs) riding it up to over $105 in 2014. However, as investors smelled competition, impact of ridesharing services, some divestitures, and balance sheet deterioration, the stock went nowhere but down.
Lots of takeaways, including the impact to the auto industry as last year, car rental companies bought ~10% of the US auto industry production (1.7 million automobiles). “Smart” investors get it wrong sometimes — Carl Icahn owns almost 40% of HTZ and was buying through at least March. HTZ was not “essential” enough to get bailed out like Boeing and the airlines. Debt takes down brand. And, even all the Fed’s programs couldn’t save it. Oh and for the consumer looking for a car, get your discounted purchase at hertzcarsales dot com 🙂
Bankruptcy (Chapter 11-type) doesn’t mean liquidation, so the brand will still survive for now, but creditors will have to eat some as equity holders are almost (should be) at zero. Equity holders still in are holding out for some leniency from the bankruptcy process and the ability for Hertz to survive.