Debt Rattle, June 17 2008: Friends in Need

John Vachon The Farmer’s Wife October 1938.
Farm wife and baby waiting in the car while her husband attends the auction. Oskaloosa, Kansas.

Ilargi: I often get the feeling that Joe and Jill Ultra Light Six Pack are the only ones left speaking the truth these days. And they, once you break them down to nothing but the moniker of "consumers", don’t have a lot of rosy stories left.

Yes, there is still a slight possibility that Angelo Mozilo and all the people in Washington who received illegal favors from him will be held against the light. But who really believes that will happen? After all, who still owns a pitchfork?


German - American Sentiment

Economic confidence is plunging to multi-year lows. The latest reading for the University of Michigan/Reuters index of consumer sentiment dropped to the lowest level in 27 years.

Data: St. Louis Fed/Bloomberg
Things are no better in Germany, the world's third largest economy (or fourth, depending on who's counting). The ZEW indicator of German economic sentiment just hit the lowest level in 16 years at -52.4, versus an average reading of +29.2 since 1991 (red line in the chart below).

Data: ZEW
What is interesting about both low readings is that they are occurring not because of some transient negative event (e.g. war, natural catastrophe, etc.) but are due to real, fundamental economic reasons (credit and real estate crisis, high and rising food and fuel prices). They are thus unlikely to reverse in a meaningful way any time soon.

So far, the negative sentiment has not spilled over to consumer spending in a major way. But how long can this relatively benign situation last, on both sides of the Atlantic, if sentiment continues to remain so negative?

---

Ilargi: Yeah, governments badly need to encourage -and pay for- the construction of more houses that no-one can afford. What could possible be more beneficial to society?

Home Builders Confidence Touches Record Low; Calls for Congressional Action Mount

Home builders continued to call for Congressional action to bolster the faltering U.S. housing market Monday afternoon, as builder confidence in the market for newly-built single-family homes during June matched a record low seen last December. According to the National Association of Home Builders/Wells Fargo Housing Market Index (HMI), the index slipped to 18 in June; that’s off from 19 one month earlier.

The HMI series began in January of 1985, and a reading over 50 indicates perceived strength in the newly-built housing market; obviously, we’re a ways off from that watermark currently. The renewed lows in builder confidence spurred renewed calls for housing legislation from NAHB officials, including CEO Jerry Howard, who argued that “targeted housing stimulus legislation” was needed to keep builders afloat.

“Each week that goes by, another 15,000 workers are losing their jobs and 47,000 families are entering foreclosure. Home equity has fallen by $879 billion during the past year alone,” said Howard, in remarks at a press conference. “How many more Americans have to suffer before Congress will act?” NAHB economist David Seiders said that “downside risks” were considerable for home builders right now, and that Congressional action could help mitigate some of those risks.

“Clearly, conditions in the housing market remain very weak, and our builder members are not seeing any signs of improvement,” he said. “A targeted stimulus such as a temporary home-buyer tax credit would help turn this situation around and restore housing as an engine of economic growth.”

It might be a bit Pollyanna-ish for anyone to expect that any single legislative act — for example, the temporary home-buyer tax credit — would be enough to “restore housing.” After all, we heard similar rhetoric in the days leading up to the passing of the Economic Stimulus Bill of 2008, in which housing pundits including the NAHB argued that boosting the conforming lending limit in certain high cost areas would most certainly “unleash pent up housing demand.”

Since that time, the nation’s housing mess has proved to be a bit more multi-faceted than that, and the NAHB has since moved on to call for further legislative boosts. “Today’s numbers are a reflection of how much our members are hurting as this downturn in housing markets continues,” said NAHB President Sandy Dunn, a home builder from Point Pleasant, W.Va. “Many are small-business owners who are the backbone of their local economies, and in some cases they are having to lay off family members and friends just to stay afloat. “Congress can’t act too quickly to help reverse this trend.”

---

Ilargi: The funniest thing of all is that these folks, re: Congress, will, whenever it’s pig-feeding time, refer to themselves as "public servants".

A Friend in Need

Seeking to refinance his Delaware beach house in 2004, Sen. Kent Conrad (D-N.D.) did what any ordinary property owner in his position would have done. On the advice of his friend James A. Johnson, who also happened to be the former chief executive officer of mortgage giant Fannie Mae, he called Angelo Mozilo, the CEO of Countrywide Financial.

Soon Mr. Conrad had a $1.07 million loan -- at a discount, personally ordered for him by Mr. Mozilo, of $10,500 in fees. A few weeks later, Mr. Conrad was back in touch with Countrywide, this time to refinance his eight-unit apartment building in Bismarck, N.D. Countrywide normally does not lend on properties with more than four units, but, on Mr. Mozilo's orders, Mr. Conrad got $96,000.

Clearly, it's good to be a senator, and it's good to be a "Friend of Angelo" -- as favored VIP borrowers were known at Countrywide. Of course, it's even better to be a Friend of Angelo if the public doesn't know about it.

Now that Mr. Conrad's status is known, along with that of other FOAs -- including Mr. Johnson, Mr. Conrad's Senate colleague Christopher J. Dodd (D-Conn.), former Clinton administration Cabinet officials Donna E. Shalala and Richard C. Holbrooke, former Bush housing secretary Alphonso Jackson, and ex-Fannie Mae CEO Franklin D. Raines -- it's worth figuring out exactly what is, and is not, wrong with this kind of help.

It's not shocking that Mr. Mozilo passed out favors in pursuit of business from the well-connected, nor that they accepted said favors. The ethical calculus starts looking different when the FOAs work for the government or are sitting members of Congress who ultimately make the rules by which Countrywide, whose notoriously lax underwriting of subprime loans contributed to the current credit crunch, must play.

The Senate's ethics rules quite wisely forbid members from soliciting gifts or knowingly accepting gifts worth more than $100 from entities, such as Countrywide, that employ lobbyists. One question is whether the FOA treatment counts as a gift or fits into an exception for loans at terms generally available to the public.

In this case, does "the public" mean everyone, all Countrywide customers or just all FOAs (of whom there were apparently hundreds)? And how should the senators' economic circumstances (credit scores, net worth, etc.) figure in? Mr. Dodd says that he never spoke to Mr. Mozilo and never knew that the CEO had arranged a pair of behind-the-scenes rate cuts for him on properties in the District and Connecticut.

Mr. Conrad says that he was in the dark, too. Yet he spoke with Mr. Mozilo; what did he think the conversation was going to get him? The loan on the Bismarck apartment was quite unusual for Countrywide, which normally did not make loans on apartment buildings because they are difficult to securitize.

Did Mr. Conrad, who not only invests in real estate but also chairs the Budget Committee and sits on the tax-writing Finance Committee, not realize that? Mr. Conrad has offered to refinance the Bismarck building and to donate $10,500 to charity to make up for the discount he got on the Bethany place. He obviously hopes that will put the matter to rest and that everyone will move on. We'd like to see all the questions answered first.

---

‘Friends of Angelo’ were Everywhere at Every Bank

Take it from this 20-year mortgage vet that what Mozillo gave his ‘insiders’ was nothing more than most mortgage and investment banks gave their top retail, wholesale or correspondent customers. This just goes to show you how lax everything was over the past 5-years.

The investment banks were so hungry for parts (loans) for their Frankenstein securities that they bought almost anything. Heck, why not when 80% of what was produced was going to be bundled up and sold anyway? This is why I firmly believe that originating banks and/or original investors will ultimately end up responsible for all of this.

Forced buybacks for early payment defaults (first 12-months), ‘white-lie’ fraud (liar loans), unauthorized ‘exceptions’ (outside of investor guidelines without investor approval) and lender ‘negligence’ (sloppy underwriting/quality control) are already being demanded by whole loan and securities owners if a default audit unveils any of these deficiencies.

If you are diligent enough, I am willing to bet an auditor can find one of the above mentioned deficiencies in 80% of all Prime, Alt-A and subprime loans made over the past five-years. I have written about this many times and the WSJ recently published an article, confirming many of my views: ‘Investors Press Lenders on bad Loans’ .

The article cites a lawsuit filed in LA Superior Court where units of the mortgage insurer, PMI Group, alleged WMC Mortgage Corp breached it’s ‘reps and warrants’ on a pool of subprime loans insured by PMI in 2007. Within eight months, the delinquency rate was at 30%. The suit also alleges that a detailed audit of 120 loans that PMI asked WMC to repurchase found evidence of ‘fraud, errors and misrepresentations’. WMC was owned by GE by the way.

The auditing of defaulted loans looking for fraud or lender negligence is escalating at a feverish pace. This is being spearheaded in many cases by the mortgage and bond insurers, but even Fannie, Freddie, banks and the investment banks are picking up the pace. At this point in time considering the damage that has been done to the insurers, they have nothing and everything to lose. The biggest finger-pointing contest of all time is commencing and the prize may be the firm’s very existence.

Perhaps soon one of the insurers will release detailed reports on the amount of fraud and negligence on the defaulted prime, ALT-A, subprime and home equity loans that they insure in an attempt to make themselves look good. When this news breaks it will shock the world.

Most think they have a handle on how pervasive outright fraud was. But few have a handle on the ‘white-lie’ fraud and broader negligence, such as increasing income and/or asset levels on stated income/asset loans and making unauthorized investor guideline ‘exceptions’ on large percentages of loans. Unauthorized ‘exceptions’ were made in many cases, unilaterally, by someone as low down the totem pole and a document drawing clerk.

The following is another recent article that does a great job summarizing lending malpractice even at the investor level. NPR ran a great story recently as well regarding Wall Street investment banks looking the other way . The writer adds, “it suggests that auditors for Wall Street investment bankers knew how preposterous these loans were, and that could mean Wall Street liability for aiding and abetting fraud”.

Ultimately, I believe that outright fraud, ‘white’lie’ fraud, unauthorized ‘exceptions’ and lender ‘negligence’ will be major factors in the ownership of loans and the accompanying losses. Especially fraud and negligence surrounding inflated income and assets used on limited documentation loans, which were a large percentage of all loans across all paper types.

---

U.S. Housing Starts Drop to Lowest Level in 17 Years

Builders in the U.S. broke ground in May on the fewest houses in 17 years, signaling declines in construction still represent the biggest risk to the economy. Housing starts fell 3.3 percent to a 975,000 pace from a revised 1.008 million in April, the Commerce Department said today in Washington. The reading was below economists' forecasts and the lowest since March 1991. Building permits, a sign of future construction, fell 1.3 percent to a 969,000 rate.

Rising foreclosures, higher mortgage rates and declining property values threaten to keep home sales depressed in coming months, discouraging builders from starting new projects. Spending on residential projects may continue to be a drag on growth the rest of this year as builders try to work off excess inventories.

"Homebuilder inventories are still very high and prices are continuing to fall," Dana Saporta, an economist at Dresdner Kleinwort in New York, said before the report. "The fundamentals for residential construction remain weak." A separate report today showed that U.S. producer prices climbed more than forecast as fuel and food costs jumped. The producer-price index rose 1.4 percent in May from April, the biggest increase since November.

The Labor Department's figures also showed that prices rose 0.2 percent excluding food and energy. Economists forecast the pace of starts would decline to 980,000, from a previously reported 1.032 million for April, according to the median projection of 72 economists surveyed by Bloomberg News. Estimates ranged from 875,000 to 1.06 million. Building permits were forecast to fall to 960,000 from 982,000. Starts were down 32 percent compared with May 2007.

Work on single-family homes decreased 1 percent to a 674,000 pace, also the fewest since 1991, Commerce said. Construction of multifamily homes, such as townhouses and apartment buildings, dropped 8 percent to an annual rate of 301,000 in May. Starts decreased in three of four regions, led by a 25 percent drop in the Midwest. Construction fell 10 percent in the West and 4.4 percent in the South.

Starts increased 62 percent in the Northeast, led by a rebound in multifamily projects. Residential construction has subtracted from economic growth every quarter since the first three months of 2006, culminating in a 25.5 percent drop in the first quarter that was the largest since 1981.

Builders' confidence matched a record low in June. The National Association of Home Builders/Wells Fargo sentiment index fell to 18 from 19 in May, the group said yesterday. While gauges of present and future sales held at May's pace, the measure of buyer traffic dropped. As property values have fallen, some homeowners have become trapped in mortgages they can't afford and that is leading to an increase in foreclosures.

Banks repossessed twice as many homes in May and foreclosure filings rose 48 percent from a year ago, RealtyTrac Inc. said last week. One in every 483 U.S. households either lost a home to foreclosure, received a default notice or was warned of a pending auction, RealtyTrac said. The five largest homebuilders have reported a combined $3.4 billion in losses in their most recent quarters as new-home sales fell. Stricter lending standards and rising foreclosures are reducing demand for homes.

---

Industrial Production in U.S. Decreased 0.2% in May

Industrial production in the U.S. unexpectedly fell in May as shrinking output by utilities and consumer-goods makers overshadowed a gain in auto manufacturing.

Production in factories, mines and utilities declined 0.2 percent last month after dropping 0.7 percent in April, the Federal Reserve reported today in Washington. Capacity utilization, which measures the proportion of plants in use, fell to 79.4, the lowest since September 2005, when Hurricane Katrina disrupted manufacturing and oil production along the U.S. Gulf Coast.

Factories are trimming output as the housing slump deepens, food and fuel prices climb and credit restrictions make borrowing tougher. The report indicates that gains in foreign demand alone may no longer be enough to prevent a deeper contracting in manufacturing.

"Manufacturing is contracting and the second quarter will be the third in a row of decline, and the largest one so far," said Nigel Gault, chief U.S. economist at Global Insight Inc. in Lexington, Massachusetts. "It's a very, very mixed bag. There are sectors of manufacturing linked to export, which are doing well, and there are other areas linked to U.S. housing that are being hurt."

---

U.S. Producer Prices Rise 1.4% in May; Core Rate Increases 0.2%

Prices paid to U.S. producers rose more than forecast in May as higher fuel and food costs heightened the threat of inflation. The 1.4 percent jump was the biggest gain since November and followed a 0.2 percent increase in April, the Labor Department said today in Washington. So-called core producer prices that exclude fuel and food increased 0.2 percent, matching economists' projections.

Companies are paying more for energy and raw materials, which erodes profits and makes it more likely they'll be forced to raise prices. The report reinforces Federal Reserve policy makers' concern that price pressures are picking up. "Inflation is clearly more of a concern and the Fed needs to be alert to it," Stephen Gallagher, chief U.S. economist at Societe Generale in New York, said before the report.

Prices paid to factories, farmers and other producers were forecast to rise 1 percent, according to the median of 73 forecasts in a Bloomberg News survey. Estimates ranged from gains of 0.6 percent to 1.6 percent. Core prices were projected to rise 0.2 percent, according to the survey median.

Producers paid 7.2 percent more for goods from May 2007, compared with a 6.5 percent gain in the 12 months ended in April. Excluding food and energy, the increase was 3 percent from a year earlier, the same as in the prior month. Food was 0.8 percent more costly, after no change the previous month. Pork prices increased by the most since 1999.

Producers paid 9.3 percent more for gasoline, the biggest increase since November, and diesel fuel gained 11.2 percent, the report showed. Natural gas costs were up 5.7 percent from the previous month.

---

Morgan Stanley warns of 'catastrophic event' as ECB fights Federal Reserve

The clash between the European Central Bank and the US Federal Reserve over monetary strategy is causing serious strains in the global financial system and could lead to a replay of Europe's exchange rate crisis in the 1990s, a team of bankers has warned.

"We see striking similarities between the transatlantic tensions that built up in the early 1990s and those that are accumulating again today. The outcome of the 1992 deadlock was a major currency crisis and a recession in Europe," said a report by Morgan Stanley's European experts.
 
Just as then, Washington has slashed rates to bail out the banks and prevent an economic hard-landing, while Frankfurt has stuck to its hawkish line - ignoring angry protests from politicians and squeals of pain from Europe's export industry. Indeed, the ECB has let the de facto interest rate - Euribor - rise by over 100 basis points since the credit crisis began.

Just as then, the dollar has plummeted far enough to cause worldwide alarm. In August 1992 it fell to 1.35 against the Deutsche Mark: this time it has fallen even further to the equivalent of 1.25. It is potentially worse for Europe this time because the yen and yuan have also fallen to near record lows. So has sterling.

Morgan Stanley doubts that Europe's monetary union will break up under pressure, but it warns that corked pressures will have to find release one way or another. This will most likely occur through property slumps and banking purges in the vulnerable countries of the Club Med region and the euro-satellite states of Eastern Europe.

"The tensions will not disappear into thin air. They will find fault lines on the periphery of Europe. Painful macro adjustments are likely to take place. Pegs to the euro could be questioned," said the report, written by Eric Chaney, Carlos Caceres, and Pasquale Diana.

The point of maximum stress could occur in coming months if the ECB carries out the threat this month by Jean-Claude Trichet to raise rates. It will be worse yet - for Europe - if the Fed backs away from expected tightening. "This could trigger another 'catastrophic' event," warned Morgan Stanley.

The markets have priced in two US rates rises later this year following a series of "hawkish" comments by Fed chief Ben Bernanke and other US officials, but this may have been a misjudgment. An article in the Washington Post by veteran columnist Robert Novak suggested that Mr Bernanke is concerned that runaway oil costs will cause a slump in growth, viewing inflation as the lesser threat. He is irked by the ECB's talk of further monetary tightening at such a dangerous juncture.

The contrasting approaches in Washington and Frankfurt make some sense. America's flexible structure allows it to adjust quickly to shocks. Europe's more rigid system leaves it with "sticky" prices that take longer to fall back as growth slows. Morgan Stanley says the current account deficits of Spain (10.5pc of GDP), Portugal (10.5pc), and Greece (14pc) would never have been able to reach such extreme levels before the launch of the euro.

EMU has shielded them from punishment by the markets, but this has allowed them to store up serious trouble. By contrast, Germany now has a huge surplus of 7.7pc of GDP. The imbalances appear to be getting worse. The latest food and oil spike has pushed eurozone inflation to a record 3.7pc, with big variations by country.

Spanish inflation is rising at 4.7pc even though the country is now in the grip of a full-blown property crash. It is still falling further behind Germany. The squeeze required to claw back lost competitiveness will be "politically unpalatable". Morgan Stanley said the biggest risk lies in the arc of countries from the Baltics to the Black Sea where credit growth has been roaring at 40pc to 50pc a year.

Current account deficits have reached 23pc of GDP in Latvia, and 22pc in Bulgaria. In Hungary and Romania, over 55pc of household debt is in euros or Swiss francs. Swedish, Austrian, Greek and Italian banks have provided much of the funding for the credit booms. A crunch is looming in 2009 when a wave of maturities fall due. "Could the funding dry up? We think it could," said the bank.

---

Ilargi: As we saw yesterday, Goldman holds up its head through hedging and betting, aka derivatives. And that can still lift the Dow. Which tells us that there are tons of suckers left, and they need to lose thier assets.

Goldman Sachs Net Income Beats Analysts' Estimates on Gains in Commodities

Goldman Sachs Group Inc., the world's biggest securities firm, said second-quarter profit fell a less-than-estimated 11 percent as gains in commodities, prime brokerage and asset management offset fixed-income losses. Net income declined to $2.09 billion, or $4.58 a share, in the three months ended May 30 from $2.33 billion, or $4.93, a year earlier, the New York-based company said in a statement today.

The earnings, which beat the highest estimate of 19 analysts surveyed by Bloomberg, are the lowest second-quarter result since 2005. Chief Executive Officer Lloyd Blankfein reported Goldman's second straight quarterly profit drop as losses on mortgage- related securities spread to other debt. Goldman has fared better than most of its rivals in the credit crunch.

Lehman Brothers Holdings Inc., the fourth-biggest U.S. securities firm by market value, reported a $2.8 billion second-quarter loss yesterday, its first as a public company. "The magnitude of the beat is pretty astounding," Peter Sorrentino, a senior portfolio manager at Huntington Asset Advisors in Cincinnati, which manages $16.5 billion and holds Goldman shares, said in a Bloomberg Radio interview. "They had enough of an arm's length distance so that when the stuff blew up it didn't splash back on them the way it did on others."

Goldman rose $4.17, or 2.3 percent, to $186.26 in New York trading. The stock was the only one of the world's 10 biggest investment banks to advance in 2007, when the company reported a fourth consecutive year of record profits. So far in 2008 the stock is down 15 percent, compared with the 20 percent drop of the 11-member Amex Securities Broker/Dealer Index. Goldman's earnings exceeded analysts' estimates for the 12th consecutive quarter.

Goldman's second-quarter revenue decreased 7.5 percent to $9.42 billion from $10.2 billion a year earlier. The annualized return on average common shareholders' equity, a measure of how well the firm reinvests stockholders' money, was 20.4 percent, compared with 14.8 percent in the first quarter and 26.7 percent in the second quarter of 2007.

The company benefited from a lower tax rate, which declined to 27.7 percent for the first half of the year from 34.1 percent from the firm's 2007 fiscal year. The 29 percent drop in fixed-income revenue was affected by $775 million of writedowns and credit market losses, Goldman said in the statement. Lehman said yesterday it had negative fixed-income revenue of $3 billion in the second quarter as the New York-based firm marked down the value of debt securities and lost money on investments designed to help hedge the losses.

Goldman, which dominates the business of commodities trading along with Morgan Stanley, said revenue from commodities was higher in the second quarter. The firm doesn't provide any separate figures for the business, instead reporting it under the broader category of fixed-income, currencies and commodities.

Crude oil futures doubled in the past year, and the price of products from gold to corn soared to record highs. Finance ministers from the Group of Eight nations said June 15 that surging food and fuel prices replaced the credit squeeze as the biggest threat to the world economy.

"For 20 years inflation was in the financial asset world and so we had great bond returns in the '80s, great stock returns in the '90s," said Huntington's Sorrentino. "Now inflation is moved back into hard assets, it's gone out of real estate and it's into commodities."

Goldman's revenue from asset management rose 10 percent from a year earlier as funds under management jumped to a record $895 billion, the company said. Securities services, which contains Goldman's prime brokerage for hedge fund clients, reported a 30 percent increase in revenue to $985 million in the quarter.

---

Ilargi: Sure, restructured sounds better than liquidated. I can’t find anywhere what Goldman will sell the assets for. And if it were a good number, I would find it.

Goldman close to $7 bln SIV restructure

Goldman Sachs Group Inc. has nearly completed a long-awaited rescue of a $7 billion structured investment vehicle, sources said, just as it adjusts to the credit crunch by laying off hundreds of bankers. The deal to restructure the SIV, formerly run by British hedge fund Cheyne Capital, comes as Wall Street's biggest investment bank is expected to report a 33 percent drop in second-quarter earnings on Tuesday, hurt by a fall in activity in key markets.

"We are delighted ... we are in a position to sign a restructuring agreement in respect of the Cheyne Finance portfolio today," said Neville Kahn, a receiver at Deloitte. Other SIVs, including Golden Key, Whistlejacket and Rhinebridge, are expected to follow Cheyne's model, being restructured by Goldman, said Stephen Peppiatt, at Bingham McCutchen, a legal advisor to a Cheyne senior creditor.

"We thought that Cheyne would be restructured some time ago, it has taken longer, but now there is a template that others will follow," he said. Under the restructuring, accountancy firm and Cheyne receivers Deloitte will price the assets in the market, Peppiatt said. They would sell a minority part of the portfolio through an auction, corresponding to the group of creditors who want cash, he said, which would put a price on the assets.

That would allow Deloitte to sell the rest of the assets to the rest of the creditors -- who have already agreed to reinvest that money in a newly established vehicle set up by Goldman Sachs -- which will hold the rest of the portfolio. The structured investment vehicle or SIV formerly run by hedge fund Cheyne Capital collapsed last year as the credit crunch hurt the value of its investments in asset-backed securities and collateralized debt obligations (CDOs).

---

More big bank dividend cuts lie ahead

Falling bank stock prices are a warning to investors not to get too attached to those fat dividend checks.
The latest struggling lender to sock shareholders is Cleveland-based KeyCorp, whose shares tumbled 24% Thursday after the bank said it would slash its quarterly dividend in half to conserve $200 million annually.

But with inflation worries driving up interest rates and house prices still tumbling, the market is betting Key won't be the last bank to cut its dividend. Unusually high dividend yields could point to coming dividend cuts at banks ranging from giants Bank of America and Wachovia to regionals such as Fifth Third and Regions Financial.

The yield is the result of dividing the annual stated dividend payout by the current stock price. A higher number is typically better for investors, of course, because it means a bigger income stream relative to how much they've invested. But in a credit crunch-obsessed market, a high dividend yield can actually be a warning signal. That's because an increase in the bank's dividend isn't the only factor that can cause the dividend yield to rise. So can a decrease in its stock price.

And with banks facing sharply reduced earnings prospects due to rising credit losses and tightening lending standards, a high yield can spell trouble ahead. Gary Townsend, CEO of Hill-Townsend Capital in Chevy Chase, Md., says bank stocks historically have yielded in the range of 3% to 4%. So any stock with a yield in the high single digits can be viewed as a candidate for a future dividend cutback.

"When you get to about 8%, that speculation becomes quite pronounced," says Townsend, a former Wall Street bank analyst. Some of the big banks with yields around that level include Bank of America, which as a yield of almost 9% and Wachovia, whose recent price swoon has left the stock yielding more than 8% even after a dividend cut in April.

Other candidates for dividend cuts include double-digit yielders Fifth Third of Cincinnati, which yields 14% after Friday's double-digit selloff; Regions of Birmingham, Ala., which yields 11%; and U.K.-based Barclays, which recently yielded 13%. For now, the banks aren't signaling any intention to cut their dividends.

---

Ilargi: Lehman stock rises 5% because Fuld says he’s responsible for the quarterly report? Anything goes these days, but more likely it’s the promise of a 15% return. He’ll be gone soon, when that promise proves to be mere nonsense.

Lehman CEO Fuld Makes A Case

Lehman Brothers' faltering reputation received a shot in the arm yesterday as CEO Dick Fuld made a rare appearance and sought to dispel balance sheet questions leveled against the firm by hedge fund manager David Einhorn.

Speaking in a deliberate tone and pausing for emphasis, Fuld's comments, which came as Lehman posted its first-ever quarterly loss, attempted to address Einhorn's criticism that the investment bank was not appropriately accounting for losses on its balance sheet. "Understand I am the one who signs the quarterly documents," Fuld repeatedly said during the roughly two-hour call. "I believe in the model and I believe in the value we have created for shareholders."

He added that he hoped to repair Lehman's badly damaged image for managing risk in tough times. Fuld's comments came in the wake of the firm officially announcing a $2.8 billion loss, which was pre-announced last week and led to the demotions of COO Joseph Gregory as well as CFO Erin Callan. The rare appearance during an earnings conference call also helped bolster Lehman's shares, which have been battered over the past few weeks.

Lehman's stock yesterday closed up 5.4 percent, or $1.39, to $27.20. To be sure, some of the positive stock action was tied to Lehman not revealing any additional surprises in its second-quarter numbers. However, Lehman's earnings also highlighted that some its main areas for generating profits, such as mortgage securitization, are badly broken. Oppenheimer & Co. financial analyst Meredith Whitney noted that Lehman may be looking at single-digit returns on its investments rather than the mid-teen ROEs that newly installed CFO Ian Lowitt said the firm is striving toward.

Though Lehman noted that just 10 percent of its business relied on mortgage securitization, CreditSights' David Hendler said that the rest of Lehman's businesses might not be able to offset its losses. Hendler went on to say he could not rule out "that the company could have further writedowns in the next several quarters."

What's more, if push came to shove, Lehman might ultimately find that it cannot go it alone. Fuld noted as much, saying that seeking a merger partner was not out of the question. "We are a public company and I've also said that if someone comes forward who we believe can create more shareholder value than our model can create I clearly have the obligation to take that to the board to be considered," he said.

---

Rape Me Please Tuesday

So Lehman's Fuld says he's "confident" in the firm's outlook:

"Lehman rose in New York trading after Fuld, in his first public appearance since April, said the company had fairly gauged the market value of the assets, as his finance chief laid out more details on the stakes than previously disclosed. Lehman, the fourth-largest U.S. securities firm, today reaffirmed that it lost $2.8 billion in the quarter. "

Yeah, right.  We should believe this because?  Did you tell the truth the last two times?  Three? More importantly, however, is "how do you make money going forward Mr. Fuld?"  Proprietary trading?  Not exactly a core business, right?  Lending?  To whom and based on what collateral?  SIVing and Slice-n-Dice?  Is that part of the market ever going to return?  I wouldn't take that bet.  Advising on LBO deals?  How many of those will there be?

Oh, and as to that "takedown" of your leverage ratio.  How, exactly, was that accomplished?  There are rumors floating around that Lehman may have self-financed yet more SIV-style games, effectively shifting "assets" over to subsidiaries that they ultimately are supporting and controller, while owning as much of it as they possibly can without triggering "consolidation" rules.  True?  No idea, but absolutely nothing surprises me any more.

This is the problem with "earnings releases" as things stand today, you see - the 10Q is not available when the "earnings" are released, so analysts (and investors) can't try to suss this sort of thing out.  And, surprise-surprise, no questions on this sort of thing were asked in the conference call.

---

Lehman's Fuld comes out swinging

Lehman Brothers chief Richard Fuld reasserted himself Monday, but fully reviving the struggling investment bank will test even his steely resolve. Lehman shares rose more than 5% Monday after Fuld took responsibility for the firm's $2.8 billion second-quarter loss.

More importantly, the firm also offered vastly expanded detail on its mortgage portfolio and the mark-to-market losses it has taken, in a bid to silence critics of its accounting and ease worries that Lehman is heading for a Bear Stearns-like collapse. Execs said Lehman's liquidity is as good as it has ever been, and Fuld said repeatedly that he stands by the portfolio values Lehman has assigned to its assets.

"I'm comfortable with our valuations at the end of the second quarter," Fuld said on a conference call with analysts and investors. Referring to the Sarbanes-Oxley law that holds executives responsible for their firm's accounting, he added, "I am the one who ultimately signs off." Fuld's strong comments mark a sharp change from his previous reticence during the credit crunch.

He is revered at Lehman for having led the firm out of the 1998 maelstrom that saw Russia default on its debt and the Long Term Capital Management hedge fund collapse. This year, though, Fuld had been content to let Erin Callan, Lehman's finance chief, take the lead in communicating with shareholders - even as the housing bust threw the firm's profits into a nosedive and numerous execs at rival firms were cashiered.

That changed last week, when Fuld demoted Callan and another longtime Lehman exec, president Joseph Gregory, after a sustained selloff in Lehman shares made it apparent that investors had lost confidence in the firm. Now, Fuld is the executive who will be held responsible if Lehman continues to founder. "We've made a number of changes," Fuld said Monday. "Now it's now my job to make sure we execute."

Despite Fuld's confident tone, it's clear that executing a recovery at Lehman won't be easy. Fuld noted that Lehman has a "track record of taking market share coming out of difficult cycles," and finance chief Ian Lowitt and operating chief Bart McDade - the officers who replaced Callan and Gregory - promised the firm would deploy recently raised capital to boost revenue and bring profitability back into line with investors' expectations.

But analysts noted during the question-and-answer session that Lehman has a long way to go before its results match up with those promises. Oppenheimer analyst Meredith Whitney asked how the firm could produce a projected 15%-or-so return on equity, reflecting annual profits as a proportion of the firm's net worth, with its quarterly revenue at a recent level of around $4.2 billion.

Lowitt conceded that Lehman wouldn't be able to hit that return-on-equity target with revenue at current levels. He said Lehman hopes to get its quarterly revenue up into the $5 billion range, reflecting nearly 20% growth. How does Lehman expect to produce this sort of growth in such a difficult market? Lowitt wouldn't say, noting that "markets continue to be challenging." He also declined to offer a timeline for bringing the ROE figure up to par, though "we're very confident we can get there," he said.

The news was generally better on Lehman's balance sheet. Explaining the firm's expanded documentation of its residential and commercial mortgage positions, Lowitt said, "We recognize we need to make these things more apparent to investors" and promised to provide further detail in coming quarters. The greater volume of information on Lehman's portfolios should help investors make more informed judgments about the prospect of future writedowns.

Even so, some analysts said there was a need for even greater transparency. Deutsche Bank analyst Mike Mayo questioned whether Lehman would stand by its portfolio marks, noting that in the past execs at other firms had pronounced themselves comfortable with their books, only to see huge writedowns later. AIG, which on Sunday replaced CEO Martin Sullivan after three years atop the insurance giant, is the latest offender on that score. Fuld insisted that he stands firmly behind Lehman's numbers. "When I say I'm comfortable," he told Mayo, "understand I am the one who signs the quarterly document."

---

China's Factory, Property Investment Climbs 25.6%

China's spending on factories and real estate grew 25.6 percent through May, led by property development and boosted by reconstruction work after snowstorms in January and February. Urban fixed-asset investment rose to 4.03 trillion yuan ($585 billion) in the first five months from a year earlier, the statistics bureau said, after gaining 25.7 percent in the four months through April.

Today's figure matched the median estimate of 20 economists surveyed by Bloomberg News. Spending was more than the combined value of the economies of Thailand, Singapore and New Zealand. Economists are split on whether three extra working days in May, inflation and reconstruction have disguised signs of a slowdown in the world's fourth-biggest economy.

"Factoring in the extra working days, the Chinese economy has actually slowed," said Qu Hongbin, chief China economist at HSBC Holdings Plc in Hong Kong. "Growth will keep slowing gradually because of weaker global demand for exports and monetary-policy tightening; inflation is the major risk." The yuan rose 0.1 percent to 6.8915 versus the dollar as of 3:14 p.m. in Shanghai. The currency has gained 20 percent since a peg to the U.S. currency was scrapped in 2005.

Investment in real-estate development rose 31.9 percent in the first five months from a year earlier. Spending on non- ferrous metals jumped 41.5 percent and that on coal surged 47 percent. China is rebuilding roads, power lines, factories and homes after the worst snowstorms in half a century and the May 12 earthquake that killed more than 69,000 people.

Investment growth was "sluggish" given that the government shortened a holiday from a year earlier, Liang Hong and Song Yu, economists at Goldman Sachs Group Inc. in Hong Kong, said in a note. Restrictions on bank lending and pre-Olympic Games construction may be the cause, they said. The government uses so-called "window guidance" to tell banks how much to lend and has also ordered lenders to set aside more deposits as reserves, pushing the requirement to a record 17.5 percent from June 25.

In contrast, Wang Qian, an economist at JPMorgan Chase & Co. in Hong Kong, said fixed-asset spending growth was "solid" and this month's data indicated a "decent expansion in real economic activities." "By any standards, this is still a very strong pace of investment," said David Cohen, director of Asian economic forecasting at Action Economics in Singapore.

---

U.K. Inflation at Decade-High, King Sees Acceleration

U.K. inflation reached the highest since at least 1997 in May, and Bank of England Governor Mervyn King predicted it will exceed 4 percent later this year, adding to speculation that the economy will fall into a recession.

The Monetary Policy Committee "is concerned about the present and prospective period of above-target inflation," King wrote in a letter to the government, after the Office for National Statistics said consumer prices climbed 3.3 percent from a year earlier last month. "The path of bank rate that will be necessary to meet the 2 percent target is uncertain."

The pound fell after the inflation data, which fueled speculation that rising prices will curb growth and push the economy closer to a recession. The Labour government decreed in 1997 when it came to power that the central bank governor must write to explain if inflation strays more than a point from the target, which has only happened once before.

Policy makers "are going to sit on their hands for the time being since there's not really much they can do for the moment," said George Buckley, chief U.K. economist at Deutsche Bank AG in London. "They need to see what the economy does first."

The pound dropped against the dollar and the euro. Britain's currency fell as much as 0.8 percent to $1.9506 as of 12 p.m. in London. Against the euro, it dropped 0.8 percent and traded at 79.46 pence. The yield on two-year government bonds also fell 18 basis points to 5.339 percent.

The inflation rate reached the highest since the index began 11 years ago, the statistics office said today in London. Economists predicted 3.2 percent, according to the median of 39 forecasts in a Bloomberg News survey. Inflation "is likely to remain markedly above the target until well into 2009," King said in the letter, released by the bank today in London. "The committee will maintain price stability by ensuring that the rise in inflation is temporary.'

---

UK government's measure of inflation might as well stand for Chinese Prices Index

Inflation is rising so rapidly that, contrary to what most experts predicted just a few months ago, interest rates may soon have to go up - not down. The Government's favoured measure of how fast prices are rising - the Consumer Price Index (CPI) - has today registered inflation hit 3.3 pc last month.
 
But that is so far removed from most people's experience of prices in the shops and at the petrol pump that CPI might as well stand for the Chinese Prices Index. This is why The Daily Telegraph has launched the Real Cost of Living Index (RCLI). Using the Office for National Statistics' weighted averages for household expenditure - or what people spend money on - the price comparison website moneysupermarket.com set out to provide a more realistic picture of costs faced by hard-working families.

Unlike the CPI, which inexplicably excludes mortgage costs - which is the biggest single outgoing in many household budgets - the RCLI measures how rising monthly bills for homeloans are hitting millions of people in the pocket. Similarly, the CPI excludes council tax from its estimate of the cost of living as if this impost were an optional extra.

If only it were. Sadly, it is nothing of the kind. Indeed, this is one of the few items in any realistic assessment of the cost of living where, if you refuse to pay it, you will end up in court. Given the way council tax has soared since 1997, it is difficult to avoid the suspicion that it has been kept out of the CPI for reasons of political expediency. That is no comfort to pensioners and others on fixed incomes who struggle to keep pace with rising tax demands, backed up with the threat of prison.

So we have included council tax in our assessment of inflation - and hope to add other taxes, including National Insurance contributions, as soon as our number crunchers can cope with them. The reasoning remains that we want an accurate picture of the rising demands on family budgets. As it stands, the RCLI shows a mixed basket of household bills, food and transport costs have risen by an average of 9.5 per cent over the last year. That is more than treble the official measure of inflation and more than double the Retail Price Index (RPI).

Of course, these are only averages and they contain wide variations for individual spending patterns.
For example, younger consumers buying electronic goods are seeing real reductions in prices - because you get more gigabytes for your bucks today than were available for any sum of money a few years ago. But that is small comfort to people who must drive to work and suffer diesel prices that have soared by 36pc over the last year - or petrol up 24pc.

Worse still, spare a thought for the dwindling band of those who are still buying a home - perhaps because work dictates relocation. When Stamp Duty is added to all the other taxes they must pay, more than half of homebuyers' annual income is now absorbed by tax. Hard to believe?

Government officials defend the CPI and RPI on the basis that they measure price changes in hundreds of items, rather than an illustrative 30 or so that commercial reality dictates feasible in the private sector.
But opinion polls can often predict the voting intentions of millions by asking 1,000 people. Which reflects your experience of rising prices most accurately; the CPI, RPI or RCLI?

---

UK housing starts set to hit the lowest since 1945

Housing starts in the UK will this year fall to their lowest level since the end of the Second World War as the industry is hit by a severe downturn, experts have warned. The Construction Products Association, whose forecasts are watched by the Government, said that the Prime Minister's own housing targets for 240,000 new homes a year in England alone by 2016 were now at risk.
 
In its summer forecast, the CPA said that UK housing starts - where construction physically starts on site - were likely to be around 147,000 this year, the lowest annual number since 1945, and 27pc lower than 2007.
Michael Ankers, chief executive of the CPA, said: "The impact on the new build housing market has been more severe than any of us anticipated. To be starting fewer new homes than at any time over the last 60 years illustrates the scale of the problem we now face."

He called on the Government to respond urgently to the housing "crisis" by helping first-time buyers, investigating ways in which the recent interest rate cuts could be passed on to mortgage payers, and by increasing their social housing ownership scheme.

The CPA slashed its forecasts for construction output in 2008. It now expects a 1.3pc decline, compared with its earlier prediction of 1.1pc growth, as housing drags the rest of the industry down, and does not expect the construction industry to recover until 2010.

In response to the CPA's forecast, Stewart Baseley, Executive Chairman at the HBF, said: "We have been warning for months of the dangers of allowing this downturn to continue. Today's report is further evidence of the urgent need to get some confidence and fluidity back into the housing market. "If the Government wants to deliver the homes the country needs, and to avoid the housing market dragging the wider economy into recession, it must act now."

---

Gordon Brown is preparing to break the law over Ireland’s EU vote

By their bullying treatment of Ireland, the powers that be in the European Union are openly threatening to breach the Vienna Convention on the Law of Treaties. The British government is openly threatening to breach our own European Communities Act, which would prohibit ratification of any Treaty unless it was ratified by all other member states. Gordon Brown is preparing to break British law.

What does one do with a rogue regime that behaves in this fashion? Yes, you can make all kinds of arguments that the European Project has been broadly positive. It steered Eastern Europe safely into port after the fall of Communism, when there could have been a drift into soft-fascist tendencies. It has made Russia think twice about leaning on the Baltics too hard.

You could credit Europe with breaking down economic barriers, although these barriers have come down all over the world, and they came down in Europe in the 19th century without need for anything like the Brussels apparatus. Even if the all the claims made on behalf of EU are true, where does one stop and say a line cannot be crossed?

Reading the European press over the last couple of days has been revealing. The debate is in essence over whether or not Ireland should be a) required to vote a second time with some minor protocol attached b) be shunted aside into a second tier or c) be more or less kicked out of the Union altogether. Every one of these suggestions is either outrageous, or illegal.
The German foreign minister Steinmeier said Ireland should "temporarily" withdraw from the EU integration process.

If that is not an expulsion threat, I don't know what it is. Presumably Mr Steinmeier knows that Ireland is an integral part of the monetary union, so one can only conclude that he is willing to contemplate a partial disintegration of the euro. You can see very quickly that this is a dangerous game. The next time anybody tells you that Germany would never let Spain, say, be forced out of the euro because Berlin has made such a huge political investment in European unity, tell them to read Mr Steinmeier comments.

They reveal no such reflex of solidarity. I am pro-German, but not this evening. The last three years have shown that the Lisbon Treaty is not necessary to carry out EU business. The machine has kept going just as before. It copes fine with 27 states.

(This is of course no surprise to those of us who witnessed the original drafting of this treaty - then the Constitution - and know perfectly well that it has almost nothing to do with "streamlining" the EU institutions, let alone removing the EU from the "nooks and crannies" of national life as originally proclaimed in the Laeken Declaration.

It was an attempt to lock in the structure of a European state - giving the Court of Justice vastly increased powers - before the new countries arrived from Eastern Europe, making any such gambit impossible. The Brussels integrationist knew it was their last chance. They rolled the dice and lost when the French and the Dutch said no. They rolled again with Lisbon, and lost again last week. Now they are playing seriously dirty).

If the intentions were honest, the EU could simply accept the Irish verdict, recognise that this is not a useful exercise, and ditch the treaty. Almost none of the 500m million citizens would shed a tear. Life would go on. Instead, Brussels, Paris, Berlin - and London, I am ashamed to say - are pressing ahead with reckless arrogance and stupidity.

The markets may not have reacted yet to Ireland's NO but the actions of the EU-elite are opening the way for a political showdown that will indeed have financial consequences. As Italy's finance minister said over the weekend, Europe risks degenerating into "fascism" in the next economic downturn. Indeed it does. Its actions over Ireland already smack of fascism.

---

Big problems in store for small businesses

"I have never run a small, struggling enterprise - unless you count my presidential campaign last year," Senator John McCain joked to a group of business owners last week. "But I do know that, more than anything else, small businesses are what make the American economy run. You're the ones who take the risks, often with little start-up money and nothing to fall back on."

Quite so. Small and medium-sized enterprises also keep the British economy afloat, accounting for nearly 60 per cent of employment and more than 50 per cent of turnover. Their ability to invest in their businesses is vital to economic growth. And growth is, after all, precisely what is needed at the moment: the CBI predicted yesterday that economic expansion is about to slow to its lowest level for 17 years.

The "nothing to fall back on" element of the small business picture painted by Mr McCain is particularly pertinent when economic troubles follow a credit crunch. According to the latest British Bankers' Association figures, corporate lending in April continued to rise strongly, despite banks' reluctance to extend financing in other areas such as mortgages.

But this positive attitude to companies isn't, in my opinion, sustainable, given the pressures on bank capital. Small businesses are bound to bear the brunt of any further retrenchment in lending. After all, it is in banks' interest to be freer with their cash when dealing with their big corporate clients, the failure of which might force them to take yet another painful hit on their balance sheet.

Large companies also tend to have lending facilities in place that they can draw on when they need to - a further inducement for banks to keep a firm grip on funds they will need to have handy when the economy worsens, as the Bank of England warned in its Quarterly Bulletin yesterday.

When banks do agree to lend to small businesses, they are increasingly likely to require assets as collateral. In most cases, the main asset available - whether the company's own or its directors' - is property. But sliding commercial and retail property values may leave businesses with little room for manoeuvre. And if a bank does actually say yes, financing costs have, of course, gone through the roof.

Small businesses are also under pressure as a result of higher raw material prices, which are almost impossible to pass on. The biggest problem for many is the surge in the price of fuel. As a result, more than 80 per cent of business owners think it will be more difficult to expand and 40 per cent said they are likely to have to cut staff in the coming year, according to a poll by the Federation of Small Businesses (FSB).

---

Iran withdraws $75 billion from Europe

Iran has withdrawn around $75 billion from Europe to prevent the assets from being blocked under threatened new sanctions over Tehran's disputed nuclear ambitions, an Iranian weekly said.

Western powers are warning the Islamic Republic of more punitive measures if it rejects an incentives offer and presses on with sensitive nuclear work, but the world's fourth-largest oil exporter is showing no sign of backing down.

"Part of Iran's assets in European banks have been converted to gold and shares and another part has been transferred to Asian banks," Mohsen Talaie, deputy foreign minister in charge of economic affairs, was quoted as saying. Iranian officials were not immediately available to comment on the report in Shahrvand-e Emrouz, a moderate weekly, which did not specify the time period for the withdrawals which it said were ordered by President Mahmoud Ahmadinejad.

"About $75 billion of Iran's foreign assets which were under threat of being blocked were wired back to Iran based on Ahmadinejad's order," the weekly said. Iran's Etemad-e Melli newspaper, also quoting Talai, last week also reported the country was withdrawing assets from European banks but did not give any figures.

On Saturday, Iran again ruled out suspending uranium enrichment despite the offer by six world powers of help in developing a civilian nuclear program if it stopped activities the United States and others suspect are designed to make bombs. The offer -- agreed last month by the United States, Britain, Russia, China, Germany and France -- is a revised version of one rejected by Tehran two years ago.

Iran's refusal to suspend nuclear enrichment, which can provide fuel for power plants or material for weapons if refined much more, has drawn three rounds of U.N. sanctions since 2006. Tehran says it aims only to generate electricity. EU diplomats have said the bloc is preparing an asset and funds freeze on Iran's biggest bank, state-owned Bank Melli, but that it first wants to see how Tehran responds to the new offer.

Iran is making windfall gains from record global oil prices and said in April its foreign exchange reserves stood at more than $80 billion. Iran's foreign reserves figure has been climbing steadily. Some analysts say that, alongside rising oil revenues, Iran has been helped by its decision to shift away from the U.S. dollar into other currencies as the dollar has weakened.

Iran has made the shift as Washington has tried to isolate the Islamic state, including imposing sanctions on Iranian banks. That has pushed many Western banks to scrap dollar dealings with Iran or even end business completely. Western countries suspect Iran is seeking the ability to make nuclear weapons. Tehran insists its secretive program is purely aimed at generating energy.

---

Teachers ready to push Plan B at BCE

The Ontario Teachers' Pension Plan will attempt to push through its planned overhaul of BCE Inc. even if the Supreme Court of Canada foils its bid to take the company private, according to people familiar with the matter. Sources said Teachers, BCE's largest shareholder with a 6.3-per-cent stake, will meet with BCE directors and ask them to implement some version of the pension fund's makeover strategy if the record $35-billion takeover fails.

This strategy, known in private equity circles as a “100-day plan,” is a closely guarded road map of how Teachers and its buyout partners intend to operate the company once they gain control. Even the BCE board has not been briefed on details of the plan.

Mere weeks ago, such a recourse would have seemed far-fetched. But a surprise ruling from the Quebec Court of Appeals in late May has threatened to derail the largest corporate acquisition in Canadian history. The court ruled that BCE did not give proper consideration to its bondholders when it agreed to sell to a syndicate of buyers led by Teachers and New Jersey-based Providence Equity Partners. If the Supreme Court does not overrule that decision when it begins hearing BCE's appeal, Teachers will have to adopt a different tack: Imposing its agenda as a minority shareholder.

Teachers has already proved effective in that regard. It thrust BCE into play last spring after growing frustrated by the company's lagging stock price and what it perceived to be a glacial pace of change under chief executive officer Michael Sabia and his team. Even if the pension fund fails to buy the company, it has already won some significant concessions.

Mr. Sabia will bow out regardless, according to people close to the company, and George Cope – whom Teachers and Providence handpicked as their CEO – is almost certain to replace him, regardless of whether the deal succeeds. Mr. Cope is also one of the few people at BCE who is intimately familiar with the 100-day plan, having worked on it with Teachers and Providence for the past several months.

Relations between Teachers and BCE became testy at several points of the company's auction last year, not least because the pension fund incited the process. While there is no guarantee the BCE board would agree to adopt Teachers' recommendations if the deal dies, the fund does have some powerful leverage. For one thing, it has a ready ally in Mr. Cope, who will doubtless be running the operation soon.

And it will likely command the support of several other deep-pocketed investors who were hoping to cash in on a sale of the company. The Caisse de dépôt et placement du Québec, for instance, almost doubled its stake to 5.3 million shares in the first quarter, and it is doubtful that it and other investors will exhibit much patience for sluggish performance.

“If this deal doesn't go through, there will be institutions out there that will be disappointed,” one large shareholder said. “If there isn't a transaction, I think the [board] will be more inclined to listen.”

---

BCE court challenge by the numbers

On the eve of BCE Inc.' s  challenge before the Supreme Court of Canada, Neeraj Monga and Dharmesh Samji, two analysts with Veritas Investment Research, have taken a fundamental look at the company. And they don't like what they see.

Without a successful result from the Supreme Court, BCE's equity value will stabilize around $29 a share, they say. And they have placed a sell on the stock with the comment that "we wouldn't bet our money on BCE." In their 16-page report, the two analysts presented three scenarios the proposed $52-billion leveraged buyout may end, and their odds for each:

-A 49% chance of winning. The analysts chose 49% because that's the percentage of all cases which were successful on appeal to the SCC over the past 10 years. Under that scenario, BCE's expected value is $34.32.

-A 40% chance of success. That percentage was chosen because over the period Jan. 1, 1997 to May 28, 2008, it represented the chance of winning an appeal judgement based on commercial and tort law cases. Under this scenario, BCE's expected value is $33.64.

-A 20% chance of negotiating a settlement agreement with the bondholders. That scenario generated an expected value of $34.31 a share.

The analysts also have a dim view on whether shareholders should expect to receive the current offer of $42.75 a share, saying the probability of getting full price "even under the most optimistic of scenarios is bleak," they wrote. The two argue that if BCE is successful in its litigation against the bondholders, "then a realistic expectation, given the Clear Channel settlement, should be a 10% re-price or approximately $38.50 per share."

Under a negotiated scenario, the two analysts believe that shareholders will receive a price in the range of $35.35-$37.49.

---