The other day I passed by an HSBC bank that had a funny little ad in the window. It said "take advantage of our low $1.50 ATM fee." I'm not old, and even I remember when a $1.50 ATM fee was thought to be expensive. Nowadays most bank ATM fees are around $3. (If interested in articles about bank abuses, check out John Crenshaw's site.)
I try to use my bank's ATM, which is still free. (Banks haven't been audacious enough to charge their own customers yet, at least for withdrawals. Charges for checking one's balance are not uncommon, however.) Occasionally, I'm forced to use other banks' ATMs. When waiting in line, I sometimes look at the discarded withdrawal receipts people leave on the counter and floor.
It seems people like to withdraw $10 or $20, and they pay up to $3 to do so. That's 30% on a $10 withdrawal! Perhaps some of them needed just that much cash and no more, and needed it quickly. Others, however, are repeat customers. What's wrong with these people? Why not take out $60 right away, and save the extra $15 by not going back to the ATM for a while?
We don't notice small fees, but they add up quickly. Consider that if one uses an ATM to withdraw $10 for a $1.50 fee every week day, they're spending $7.50 a week, or $390 a year to get their own money. That can be the price of a decent daily lunch--that's what they're using the cash for anyway.
The ATM isn't the only place I see such foolishness. Various packaged products at supermarkets, such as beverages and yogurt, come in various sizes. For example, one product may come in 8oz and 16oz packages. The prices, if you notice, are often higher per ounce for the smaller package. For example, it might cost $1.10 while the 16oz sells for $2.00. I marvel when I see people get two of the smaller package instead of one large one. You might say it's for convenience that they're willing to pay more, but this happens with food that has relatively short expiration dates.
Another example, where I live in New York City, is transportation fares. We have MetroCards, manufactored by Cubic (CUB) (which also does defense contracting), which we use to get on buses and subways. The fare is $2. You can put as much money as you want on a regular fare MetroCard, from $4 to $80. For every $10 you put on your card, $2 extra are added for free--you get a free ride for every $10 on your card.
One would think that everyone would put at least $10 on their card. It's the rational thing to do. It's not at all the case. People put $4, or $6. But why? Yes, some people may only need two or three rides and will never use the transportation system again. I'm not concerned with these, who are mostly tourists anyway. What strikes me is that I see the same people at the subway station doing this on a regular basis. It could be that they're so poor that they can only afford to use $6 at a time, but they would benefit the most out of all income groups by diverting the $4 from their other expenses.
Nevertheless, it's people wearing professional clothing that do this the most. Using the subway five days a week, at 4 dollars a day, they're spending $20 a week, or $1040 a year. If they were to buy a $20 MetroCard every week instead, they'd get 2 free rides a week, which would add up to $208 in savings. That is, instead of spending $1040 a year, they'd spend $832 for the same exact thing. The savings could be invested or spent on Christmas gifts, etc.
Another example is people who use their credit cards to buy things on sale because they are on sale (to save money, apparently), and then pay the minimum amount on their bill. Where's the logic in that?
Consider a last example--brokerage fees. Are those people who pay $15.95 a trade really getting anything better than those paying $7, or better yet, $4.95 a trade or less? I've used Scottrade and TradeKing. I don't see why Scottrade is worth over 41% more per trade than TradeKing. (I'm thinking of trying SogoTrade, which has an even lower trading fee than TradeKing.)
The above are just some examples; there are plenty more. Most of us, some more often than not, commit silly errors. We overpay or don't take advantage of discounts (which is overpaying). Individually, our over payments may not seem like much, but they do add up. This is especially true for those of us who get paid by the hour.
Nothing above should be news to anyone. But it's helpful to be reminded of it once in a while.
2/25/08
Simply Investing Blog Carnival Feb 25, 2008
Welcome to the February 25, 2008 edition of Simply Investing Blog Carnival. There were many great submissions, and I had trouble picking the best three. So, I decided to have 11.
Editor's Top 11:
Raymond presents Qualifying For An Economic Stimulus Tax Rebate Check posted at Money Blue Book.
Brent Mashburn presents How to Estimate Earnings Growth with Excel posted at luminouslogic.com.
The Investor presents The secret to investing when stock markets are falling posted at Monevator.com, saying, "Controversial I know given the host blog this time, but the article respectfully makes a case for NOT focussing on your net worth if you want to be a successful investor even when markets are falling. Then the big numbers – the million - take care of themselves."
Ana presents Automatic Investment Plan: The Beginner Small Investors Way In posted at DebtFREE-Revolution, about a way for small investors to bypass the large minimum initial investment requirements of some mutual funds.
Alvaro Fernandez presents A $225m Market to Train Your Brain posted at SharpBrains: Your Window into the Brain Fitness Revolution, saying, "This past Tuesday, the MIT Club of Northern California and SmartSilvers sponsored an event on The Emerging Brain Fitness Software Market: Building Better Brains to explore the realities and myths of this growing field."
Dirk Masuch Oesterreich presents Water – the Commodity that’s not a Commodity posted at Nevada Gold Investor, saying, "Water investing is a much overlooked opportunity. This article looks at the global water business from a fundamental perspective."
Leo Dimilo presents Forex Trading | Forex Support and Resistance Tutorial posted at Forex Trading, saying, "This is a general overview on understanding how to graph support and resistance lines when doing chart analysis for forex trades. I also go over Trader's Remorse and how NOT to get caught in a bear or bull trap."
Erica Douglass presents The REAL American Dream (Hint: It?s NOT Owning A House!) posted at erica.biz - Erica Douglass challenges you to change your life! What is holding you back from your dreams?, saying, "How not owning a house can make you financially free at a young age. Includes extensively researched details (numbers as well as emotional reasoning.) One of the most popular recent posts on my blog...generating a ton of discussion!"
Sagar presents 10 Countries That Benefit from the Falling Dollar posted at Currency Trading.net.
Leon Gettler presents The brain: hard-wired for risky trades, saying, "In the wake of the Societe Generale meltdown, maybe we are all rogue traders at heart. Studies show that our brains are actually hard-wired to give us the thrill of taking big risks and making money," and Subprime explained - crunch time glossary posted at Sox First, saying, "Credit crunch? Credit default swaps? Honeymoon loans? NINJA loans? Negative pledge? The subprime crisis is upon us and investors are confronted with jargon designed to baffle and keep them in the dark. Here is a glossary of key terms you'll need to know to keep ahead of the game."
Nigel Swaby presents Pay Off Debt or Save? posted at Salt Lake Real Estate Blog.
Runners Up:
Bobby Handzhiev presents The Basics of Domain Investing posted at The Shark Investor, saying, "domain investing basics"
John Crenshaw presents The Biggest Scam Your Bank Gets Away With Everyday posted at Truthful Lending dot Com, saying, "This little known scam accounts for a huge portion of fees paid to banks every year and is going on right under your nose. The worst part is, it's completely legal."
Mark Butler presents What Does a Millionaire Sound Like? posted at The Butler Project.
Dorian Wales presents ETFs and Mutual Funds - Why the slowdown will teach us another lesson posted at Personal Financier.
Pinyo Bhulipongsanon presents Investment Strategy, Chasing Performance, or Market Timing? Help! posted at Moolanomy, saying, "If I change my asset allocation now, is it: good investment strategy, chasing performance, or market timing?"
Praveen presents The 62/70 Solution for Claiming Social Security Benefits posted at My Simple Trading System.
KCLau presents Don’t spend the money you don’t have, to buy the thing you don’t need, to please the people you don’t like! saying, "How one can avoid spending the money one does not have thereby reducing the incidences of overspending" and How Recession Happens? 8 Tips to Prepare for it! posted at KCLau's Money Tips, saying, "Article discussing how one can salvage himself during times of a recession."
Rob Best presents A Killer Forex Strategy: Three Ways to Turn Yourself Into a Profitable Forex Trading Machine! posted at Maverick Investor's Weblog.
Shamelle presents Thinking About Money The Rich Dad, Poor Dad Way posted at Enhance Life.
Jed Norwood presents Forex Tips | Forex Trading Rules posted at Forex Strategy Secrets, saying, "To succeed in the Forex market, (or any market) you have to set some trading rules and learn to play by them. Consistency is key to success in the forex market."
Alex M presents Now Find Out Tips For Buying A First House posted at Real estate: where? how much?.
stocks
Lisa Spinelli presents Stock Market Investing Tips 101: # 6- What Makes a Good Stock posted at Greener Pastures, saying, "Beginning things to look for when narrowing in on a good stock."
Jeffery A. Smith presents Step 4: How to Buy Index-Based Funds posted at YooperSmith.com, saying, "Discusses stock-based index funds and assest allocation with examples, links and wit."
Super Saver presents 2/18/08 Stock Purchase Update - Potash and Priceline Boost Portfolio posted at My Wealth Builder.
Dave presents High Dividend Yield Plus Capital Gain Potential posted at Cheapo Groovo.
That concludes this edition. Submit your blog article to the next edition of simply investing blog carnival using our carnival submission form. Past posts and future hosts can be found on our blog carnival index page.
Technorati tags: simply investing blog carnival, blog carnival.
2/23/08
Are Municipal Bonds Safe?
Update 1/31/09: I think the below is still valid, but munis are where Obama's investment. They have become a lot safer.
Previous post:
Since more and more people seem to be wondering whether municipal bonds are safe, I thought I would update this post, which I wrote in February. Despite Money and Morningstar (we can add USA Today to the list) urging people to head for the "safety" of municipal bonds earlier this year, I didn't think they were safe. Unfortunately, it looks like I was correct.
Now the Wall Street Journal is recommending munis. I think they're wrong.
Forget about the tax free yield. Yes, it's high. But there's a reason. Investors are taking their money out of muni funds because the current yield is not enough to compensate for the risk, which comes in two forms.
First, municipal bond funds, faced with redemptions, end up selling their assets for lower prices than they could have gotten in a more orderly sale. This lowers the price of muni bonds in general, so municipalities end up having to pay a higher interest rate than they might otherwise under better conditions.
Second, the default risk is higher. Funds that were considered low risk a year ago are now considered high risk.
The WSJ says municipal defaults are rare. I won't argue with that. But if there is a perceived danger of default (this will certainly rise as the economy worsens) municipal bond funds will fall in value. And while defaults are rare, they do happen. New York City defaulted in 1975. Cleveland defaulted in 1978. In 1873, during severe economic turmoil that some analysts are saying is most closely analogous to our current situation, around 24% of all outstanding municipal debt was in default.
Here are reasons to think municipal bond prices will continue to fall. Cities, townships, and states get their revenues in three basic ways: income taxes, sales taxes, and property taxes.
This is commonsense, but there's empirical evidence. According to a study by Enhance Reinsurance Co. in 1988, "municipal defaults usually follow downswings in business cycles." One may argue that things have changed since 1988. They have--for the worse.
It's true that municipalities can raise taxes, but this can only go so far. Moreover, tax raises often curb economic activity, which only weakens the tax base. And since cities and states can't print money, there's really nothing to be done once their coffers are empty.
As mentioned in the original post, municipal borrowing is becoming costlier. In late September 2008, the seven-day borrowing rate increased over three times in one week.
If you still want to buy muni bonds, I urge you to consider their holdings very carefully. Try to pick the ones with the most stable tax base. The higher the yield, the higher the risk. Don't rely too much on credit ratings. They're made by the same companies (Moody's, Fitch, etc) that rated securitized subprime mortgages AAA.
Financial newspapers and magazines always need something to write about. They'll keep repeating the message that municipal bonds are safe investments. Eventually this will prove true. How much money you'll lose between now and then will be another story.
You want safety? Buy short term treasuries. Their yields are low because that's where the safety is.
Updated: October 6, 2008.
Original post from February 2008 follows (note that some of the links, such as those directed toward Yahoo! finance are no longer working).
----
Some financial publications and newsletters, including Money, and Morningstar have recently started recommending Municipal Bonds, touting their safety and noting that depending on one's tax bracket, their yields are higher than those of federal bonds. The yield, after tax savings, is indeed better than what you can get on federal debt. The safety, however, I'm not so sure about.
Municipalities issue debt to pay for various things, like road repairs, public transportation, education, etc. They pay the debt mostly out of the tax dollars they receive from property taxes, sales taxes, and use taxes. All bond issuers are given ratings, and this includes municipalities. To sell their municipal bonds, townships, school districts, etc, need top ratings, like AAA or AA.
Many municipal bonds are sold as put bond derivatives, in which investors can tender the bonds back to the municipalities at face value if some condition triggers. One such condition is a credit rating downgrade, say from AAA to B. If a bunch of municipal credit ratings are downgraded, investors, such as money market managers and pension funds, who can only hold the highest quality debt, will start tendering the bonds back, and the municipalities will have to pay for them. A number of not so good things will result.
The muni bond market could freeze up, like this one which is starting to. If cities and towns don't have enough money to cover the put bonds, they may default, or may be forced to issue new debt at higher interest rates--all while the economy is slowing and their tax base is shrinking. Townships are already experiencing financial difficulties. One way they're shoring up funds is by over assessing property values. While housing prices continue their fall as the bubble deflates, property taxes continue to rise. One can fight city hall on this issue, but if enough people do, Money quotes one assessor, "the tax rate would just have to go up."
That is, townships' balance sheets are already stretched. If they have to buy back old debt and/or have trouble issuing new debt, muni bond prices will tumble, making them not very good--or safe--investments.
But why would munis have their credit ratings lowered? Townships get their credit ratings by buying wrap guaranties from bond insurers, like Ambac Financial (ABK), MBIA (MBI), and PMI (PMI). They pay the bond insurers a premium, and in return get the bond insurers' credit ratings. Unfortunately for the munis, the bond insurers have been up to no good recently, insuring junk like subprime mortgages way above the value of their assets. I wrote about it in January about why financial stocks should head lower.
There is a real danger that the bond insurers will have their credit ratings downgraded. If that happens, many municipal bond ratings will also be downgraded, and what's mentioned above will start to occur.
There are indications that the municipal bond market is already starting to freeze up. Recently, some large public borrowers, like the Port Authority of NY and NJ, were unable to sell most of their bonds. A low risk borrower like the University of Pittsburgh Medical Center saw its interest rates climbing from 3.5% to as high as 17%. Market makers for munis like Citibank, with their own balance sheets in trouble, are not buying the bonds either. Municipal bonds are turning toxic. More on this here.
There are talks of breaking the bond insurers up, with one half keeping all the good debt, like munis. Additionally, Warren Buffett has ventured into insuring and reinsuring municipal debt. Finally, the stock market went up in the last minutes of trading on this past Friday because of a rumor that the banks are working on a deal to bailout the bond insurers. More on that here.
Perhaps any of these things, or their combination, will make municipal bonds safer. But until then, they're not very safe.
Previous post:
Since more and more people seem to be wondering whether municipal bonds are safe, I thought I would update this post, which I wrote in February. Despite Money and Morningstar (we can add USA Today to the list) urging people to head for the "safety" of municipal bonds earlier this year, I didn't think they were safe. Unfortunately, it looks like I was correct.
Now the Wall Street Journal is recommending munis. I think they're wrong.
Forget about the tax free yield. Yes, it's high. But there's a reason. Investors are taking their money out of muni funds because the current yield is not enough to compensate for the risk, which comes in two forms.
First, municipal bond funds, faced with redemptions, end up selling their assets for lower prices than they could have gotten in a more orderly sale. This lowers the price of muni bonds in general, so municipalities end up having to pay a higher interest rate than they might otherwise under better conditions.
Second, the default risk is higher. Funds that were considered low risk a year ago are now considered high risk.
The WSJ says municipal defaults are rare. I won't argue with that. But if there is a perceived danger of default (this will certainly rise as the economy worsens) municipal bond funds will fall in value. And while defaults are rare, they do happen. New York City defaulted in 1975. Cleveland defaulted in 1978. In 1873, during severe economic turmoil that some analysts are saying is most closely analogous to our current situation, around 24% of all outstanding municipal debt was in default.
Here are reasons to think municipal bond prices will continue to fall. Cities, townships, and states get their revenues in three basic ways: income taxes, sales taxes, and property taxes.
- People are losing their jobs, and those being hired are settling for lower wages. That means less tax revenue from income taxes.
- With the credit lines turned off and jobs less available, consumers are spending less. That means less sales tax revenue. It also means less jobs, which takes us back to 1.
- Property values are continuing their plunge, and foreclosures are mounting. That means less property tax revenues.
This is commonsense, but there's empirical evidence. According to a study by Enhance Reinsurance Co. in 1988, "municipal defaults usually follow downswings in business cycles." One may argue that things have changed since 1988. They have--for the worse.
It's true that municipalities can raise taxes, but this can only go so far. Moreover, tax raises often curb economic activity, which only weakens the tax base. And since cities and states can't print money, there's really nothing to be done once their coffers are empty.
As mentioned in the original post, municipal borrowing is becoming costlier. In late September 2008, the seven-day borrowing rate increased over three times in one week.
If you still want to buy muni bonds, I urge you to consider their holdings very carefully. Try to pick the ones with the most stable tax base. The higher the yield, the higher the risk. Don't rely too much on credit ratings. They're made by the same companies (Moody's, Fitch, etc) that rated securitized subprime mortgages AAA.
Financial newspapers and magazines always need something to write about. They'll keep repeating the message that municipal bonds are safe investments. Eventually this will prove true. How much money you'll lose between now and then will be another story.
You want safety? Buy short term treasuries. Their yields are low because that's where the safety is.
Updated: October 6, 2008.
Original post from February 2008 follows (note that some of the links, such as those directed toward Yahoo! finance are no longer working).
----
Some financial publications and newsletters, including Money, and Morningstar have recently started recommending Municipal Bonds, touting their safety and noting that depending on one's tax bracket, their yields are higher than those of federal bonds. The yield, after tax savings, is indeed better than what you can get on federal debt. The safety, however, I'm not so sure about.
Municipalities issue debt to pay for various things, like road repairs, public transportation, education, etc. They pay the debt mostly out of the tax dollars they receive from property taxes, sales taxes, and use taxes. All bond issuers are given ratings, and this includes municipalities. To sell their municipal bonds, townships, school districts, etc, need top ratings, like AAA or AA.
Many municipal bonds are sold as put bond derivatives, in which investors can tender the bonds back to the municipalities at face value if some condition triggers. One such condition is a credit rating downgrade, say from AAA to B. If a bunch of municipal credit ratings are downgraded, investors, such as money market managers and pension funds, who can only hold the highest quality debt, will start tendering the bonds back, and the municipalities will have to pay for them. A number of not so good things will result.
The muni bond market could freeze up, like this one which is starting to. If cities and towns don't have enough money to cover the put bonds, they may default, or may be forced to issue new debt at higher interest rates--all while the economy is slowing and their tax base is shrinking. Townships are already experiencing financial difficulties. One way they're shoring up funds is by over assessing property values. While housing prices continue their fall as the bubble deflates, property taxes continue to rise. One can fight city hall on this issue, but if enough people do, Money quotes one assessor, "the tax rate would just have to go up."
That is, townships' balance sheets are already stretched. If they have to buy back old debt and/or have trouble issuing new debt, muni bond prices will tumble, making them not very good--or safe--investments.
But why would munis have their credit ratings lowered? Townships get their credit ratings by buying wrap guaranties from bond insurers, like Ambac Financial (ABK), MBIA (MBI), and PMI (PMI). They pay the bond insurers a premium, and in return get the bond insurers' credit ratings. Unfortunately for the munis, the bond insurers have been up to no good recently, insuring junk like subprime mortgages way above the value of their assets. I wrote about it in January about why financial stocks should head lower.
There is a real danger that the bond insurers will have their credit ratings downgraded. If that happens, many municipal bond ratings will also be downgraded, and what's mentioned above will start to occur.
There are indications that the municipal bond market is already starting to freeze up. Recently, some large public borrowers, like the Port Authority of NY and NJ, were unable to sell most of their bonds. A low risk borrower like the University of Pittsburgh Medical Center saw its interest rates climbing from 3.5% to as high as 17%. Market makers for munis like Citibank, with their own balance sheets in trouble, are not buying the bonds either. Municipal bonds are turning toxic. More on this here.
There are talks of breaking the bond insurers up, with one half keeping all the good debt, like munis. Additionally, Warren Buffett has ventured into insuring and reinsuring municipal debt. Finally, the stock market went up in the last minutes of trading on this past Friday because of a rumor that the banks are working on a deal to bailout the bond insurers. More on that here.
Perhaps any of these things, or their combination, will make municipal bonds safer. But until then, they're not very safe.
2/22/08
Random Stocks List for 2/22/08
Here's this week's random stock list with closing prices as of Friday 2/22/08. More about the experiment here.
1. VEOLIA ENVIRONN ADS (VE) $88.28
2. Tanzanian Royalty Exploration Corp. (TRE) $6.0499
3. Hitachi Ltd. (HIT) $72.40
4. PharmAthene, Inc. (PIP) $3.20
5. AEGON N.V. (AEF) $24.87
6. Lacrosse Footwear Inc. (BOOT) $16.90
7. Wet Seal Inc. (WTSLA) $2.87
8. Ralcorp Holdings Inc. (RAH) $56.04
9. Ford Motor Co. (F) $6.25
10. Boston Beer Co. Inc. (SAM) $36.12
1. VEOLIA ENVIRONN ADS (VE) $88.28
2. Tanzanian Royalty Exploration Corp. (TRE) $6.0499
3. Hitachi Ltd. (HIT) $72.40
4. PharmAthene, Inc. (PIP) $3.20
5. AEGON N.V. (AEF) $24.87
6. Lacrosse Footwear Inc. (BOOT) $16.90
7. Wet Seal Inc. (WTSLA) $2.87
8. Ralcorp Holdings Inc. (RAH) $56.04
9. Ford Motor Co. (F) $6.25
10. Boston Beer Co. Inc. (SAM) $36.12
2/19/08
What's So Good About Kraft?
In what should be old news by now, Warren Buffett bought a sizable position in Kraft (KFT) recently. Besides this stamp of approval, which is all most people need, really, what else has Kraft got going for it?
Headquartered in Illinois, Kraft makes and sells various food products around the world, from snacks to beverages to frozen dinners to diet foods to desserts. It is the largest packaged food company in North America, and second largest in the world. Pretty much any packaged supermarket category you can think of, Kraft has a product for it. You probably ate something it made today. If not, you will soon. Six of Kraft's brands generate over $1 billion in sales each year. You may have heard of them: Jacobs, Kraft, Nabisco, Oscar Mayer, Maxwell House, and Philadelphia. It's hard to avoid buying something manufactured by Kraft, which is likely one reason Buffet bought a ton of its stock. But why now?
Despite it being the ultimate consumer staples stock, the company, which before was a part of Altria (MO) (Philip Morris before the name change) faces some problems. Commodity prices are soaring. This includes agriculture products as well as energy and packaging costs. Kraft has trouble raising its prices to compensate because of private label competition, to which Kraft is losing market share. This has contributed to the company's weak stock price, hovering near 52 week lows before the announcement that Buffet bought the stock.
To counteract these headwinds, the company is trying to save on productivity. Moreover, it recently bought Groupe Donone's (GDNNY) biscuit unit for $7.8 billion, which should help it gain market share in overseas markets. Kraft plans to sell off its underperforming Post cereals, which include Shredded Wheat and Raisin Bran. Post will be sold for $1.7 billion to Ralcorp (RAH). As the transaction will be all stock, it will be tax free, and Kraft shareholders will own 54% of Ralcorp. The transaction will get rid of about $1 billion in debt off of Kraft's books.
Additionally Kraft will sell its Fruit2O and Veryfine beverage brands to Sunny Delight, which used to be part of Proctor & Gamble (PG). Analysts expect Kraft to divest some of its other non-core businesses, like Stove Top stuffing, A.1. Steak Sauce, and Grey Poupon. All this should increase Kraft's growth.
Analysts speculate that since Nestle (NSRGY), the world's largest packaged goods maker, recently authorized a $20 billion stock repurchase plan, Kraft might be pressured by shareholders to do the same. If it turns out true, this too should raise the stock's price.
Kraft's dividend yield, as of writing, is a solid 3.7%. It has raised its dividend every year since 2001.
In all, Kraft is a large transnational company with brands almost everybody buys, that has faced and will face some near term trouble. Its future, however, appears pretty bright. Given Buffett's endorsement, I'll consider buying it under $30.
Headquartered in Illinois, Kraft makes and sells various food products around the world, from snacks to beverages to frozen dinners to diet foods to desserts. It is the largest packaged food company in North America, and second largest in the world. Pretty much any packaged supermarket category you can think of, Kraft has a product for it. You probably ate something it made today. If not, you will soon. Six of Kraft's brands generate over $1 billion in sales each year. You may have heard of them: Jacobs, Kraft, Nabisco, Oscar Mayer, Maxwell House, and Philadelphia. It's hard to avoid buying something manufactured by Kraft, which is likely one reason Buffet bought a ton of its stock. But why now?
Despite it being the ultimate consumer staples stock, the company, which before was a part of Altria (MO) (Philip Morris before the name change) faces some problems. Commodity prices are soaring. This includes agriculture products as well as energy and packaging costs. Kraft has trouble raising its prices to compensate because of private label competition, to which Kraft is losing market share. This has contributed to the company's weak stock price, hovering near 52 week lows before the announcement that Buffet bought the stock.
To counteract these headwinds, the company is trying to save on productivity. Moreover, it recently bought Groupe Donone's (GDNNY) biscuit unit for $7.8 billion, which should help it gain market share in overseas markets. Kraft plans to sell off its underperforming Post cereals, which include Shredded Wheat and Raisin Bran. Post will be sold for $1.7 billion to Ralcorp (RAH). As the transaction will be all stock, it will be tax free, and Kraft shareholders will own 54% of Ralcorp. The transaction will get rid of about $1 billion in debt off of Kraft's books.
Additionally Kraft will sell its Fruit2O and Veryfine beverage brands to Sunny Delight, which used to be part of Proctor & Gamble (PG). Analysts expect Kraft to divest some of its other non-core businesses, like Stove Top stuffing, A.1. Steak Sauce, and Grey Poupon. All this should increase Kraft's growth.
Analysts speculate that since Nestle (NSRGY), the world's largest packaged goods maker, recently authorized a $20 billion stock repurchase plan, Kraft might be pressured by shareholders to do the same. If it turns out true, this too should raise the stock's price.
Kraft's dividend yield, as of writing, is a solid 3.7%. It has raised its dividend every year since 2001.
In all, Kraft is a large transnational company with brands almost everybody buys, that has faced and will face some near term trouble. Its future, however, appears pretty bright. Given Buffett's endorsement, I'll consider buying it under $30.
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