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Merger Mania
Dear American Capitalist Reader,
The merger wave continues on Wall Street with Bank of New York agreeing to purchase Mellon Financial for a whopping $16.5 billion and LSI buying Agere Systems for $4 billion. As the old saying goes, a billion here and a billion there, and pretty soon you are talking real money.
As you know, we have been concerned that the frantic pace of mergers bodes ill for the stock market. Historically, a quick rise in the number and size of mergers and acquisitions signals a top in the market. A friend of mine who began trading while in the U.S. Air Force back in the early 1960s is calling the wave of mergers the canary in the coalmine. Since he has been active in the stock market, there have been several merger waves occurring while stocks were either at or near record levels; in each case, the market was down six months later.
Moreover, the two deals this morning share an increasingly common characteristic – they are being paid for entirely in stock. In other words, both BNY and LSI are not using any real money to make these purchases – they are literally printing it, in the form of stock certificates. This has the effect of massively diluting existing shareholders – LSI Logic will issue 378 million shares to buy Agere, nearly doubling the total outstanding and it is another sign of market excess that typically precedes a correction.
These two mergers are just the latest in a string of all-stock deals that have been made at questionable premiums and for murky reasons. LSI is apparently buying Agere to simply get bigger, not better. And while the BNY deal does create a dominating firm in the financial custody and assets business, the real advantage seems to be in “synergies” and “cost savings” that can be wrung out of the combined operation. Sounds good, but what do you do afterwards?
The bottom line is that pace, style and structure of mergers these days can be interpreted no other way than as a sign the market may be topping. There is plenty of other data out there to support the position that the direction of least resistance for the stock market is down, not up – leading economic numbers are weak, housing has fallen off a cliff, the dollar is a multi-year lows and the yield curve remains inverted. While we think the economy may yet navigate through the shoals with nothing worse than a soft landing, we are increasingly seeing signs that signal rough waters ahead. The good news is a correction in the broad averages between now and the end of the year would set the stage for a continuation of the bull trend by the early spring. Stay in, but stay alert.
Sincerely,
Steven Lord
Editor, GRESSOR
