By DAVID MOON, Moon Capital Management,
September 14, 2008
When Barack Obama
and John McCain selected their running mates, they knew the importance of a
partner. People are known, judged, influenced, inspired and limited by the
company they keep.
This also includes businesses. Just ask Fannie Mae or
When you take on the federal government as your partner,
it's like getting into bed with the Mafia, except usually (but not always)
without the possible threat of going to jail. You get access to wonderful
resources, including money, power and, if needed, guys with guns.
But you can never go back across that
It can work to your benefit, sometimes for years. When
the tobacco companies reached a master settlement with the attorneys general
from 46 states in 1998, many investors thought the annual cost would spell
financial doom for the cigarette manufacturers. Instead, Philip Morris and RJ
Reynolds took on 46 new partners ' the states ' each of which then had
a financial interest in protecting the profitability of the tobacco
So far, that's worked out wonderfully for the tobacco
companies, their shareholders, and the states.
The symbiotic relationship between the
government-sponsored housing enterprises (Fannie Mae and Freddie Mac) and the
federal government likewise worked wonderfully for years. From 1982 to 2003, the
earnings of Fannie Mae increased almost 1,000 percent.
When the housing market went into decline and the
enormously leveraged balance sheets of these mortgage giants went under
scrutiny, all sorts of people became nervous.
Had the companies been treated like any other bank, they
would not have been taken over by the feds last week. At the end of its most
recent quarter, Freddie Mac had less than half the level of nonperforming assets
(relative to total assets) as First Horizon, the parent company of First
Of course, had Freddie been treated like any other
bank, it would have never been leveraged with more than five times as much debt
as First Horizon.
Politics allowed these creatures to grow out of
hand. And politics ended the party.
This trap caught some mighty successful money managers.
The Growth Fund of America, the Washington Mutual Investors Fund and the
Investment Company of America, three of the market's
largest and most popular mutual funds, are among the four largest mutual fund
owners of Fannie Mae. Bill Miller, whose Legg Mason Value Trust beat the S&P
500 for 15 straight years, owned more than eight percent of Freddie Mac at the
end of June.
And in the interest of full disclosure, I also owned
Having the government as your business partner is a lot
like a redheaded woman. Most redheads are either quite attractive or they are'
well, let's just say that their strengths lie in areas other than physical
attractiveness. There aren't many average-looking redheads. The same is true
with a government-business relationship. It is usually either very, very
attractive, or something at the other end of the spectrum.
And sometimes it can change from one to the
David Moon is president of Moon Capital Management, a
Knoxville-based investment management firm. This article
originally appeared in the News Sentinel (Knoxville, TN).