Two Bail Out Specials May Get a Boost from Paulson’s Bazooka

By Michael Brush
Exclusively for InvestorIdeas.com
September 30, 2008

Insider buying has virtually dried up in the past two weeks. That sounds pretty dire, but it might not be as bad as it seems.

We’re at the end of a quarter -- so many insiders are barred from activity in their stocks. The inactivity of insiders who are restricted from buying, of course, isn’t necessarily saying they expect more downside.

The 5 Stocks to Own in 2010 -- Free Report!

If the above interpretation doesn’t fully explain the buyer’s strike – and insiders really are just plain scared -- then whatever buying we do see in these bleak times must be even more of a bullish signal than usual. So it’s worth paying attention to.

Especially because a government bail-out plan might just make this a great time to buy cyclical stocks at least for the long term – as stupid as that sounds. No, the U.S. Treasury won’t save the market overnight. Expect a lot more volatility. But little by little, this could be the beginning of the end for the gloom and doom crowd.

Despite all the fear and panic in the market, many responsible analysts remain in the camp that says much of the current problem has everything to do with negative psychology, and little to do with fundamentals and reality. After all, the economy grew at 2.8% in the most recent quarter. Exports offset weakness in the housing sector and autos, thanks to the weak dollar.

Where’s the recession so many have been predicting for a year now?

True, economic indicators like unemployment have worsened significantly since the latest GDP read. But many economists are still predicting positive growth for the third quarter.

That won’t play out, of course, if enough people remain too negative and suspicious about players the financial sector so that they stop dealing with Wall Street firms and banks. Credit and lending will dry up and there will be more bank failures, making all the negativity a self-fulfilling prophecy.

Consider the following.

• The proximate cause of the failure of Washington Mutual (WM) was that in the ten days before it went under, the gloom and doom crowed had frightened depositors into pulling $17 billion in deposits from Washington Mutual, or 9% of its deposit base. Given the impact of that bank run, regulators determined it was no longer a viable bank. Yes, Washington Mutual did have other problems, and it needed funding. But if the gloom and doom crowed hadn’t sparked the stampede, there was a chance it might have made it. Instead, a run on the bank inspired by the gloom and doomers pushed Washington Mutual over the edge.
• When excessive fear leads to sharp declines in the stocks of financial companies like Lehman Brothers (LBHGP.PK), then those companies lose one of their main currencies for raising capital. Their stock. It’s tough to raise money without huge dilution when your shares are trading under $5. When they can’t raise capital to solve their problems, they have to go out of business or get taken over by the government. It’s another self-fulfilling prophesy.

To stop the cycle, Treasury Secretary Hank Paulson’s new multi-billion dollar arsenal of bazookas will have to eradicate the excessive fear and panic that now grips the market. If it succeeds, then now is the time to buy cyclical names that have been severely hammered on the fears that we were headed into “the worst economic pullback since the Great Depression.”

If you want to bet that Paulson will win out over the gloom and doom crowed, for the next few columns I will be highlighting hammered cyclical stocks where insiders have been buying the most significant amounts recently.

I’m carefully selecting companies so that insiders who are buying also have a record of seeing their stocks go up a good 10%-50% in the six months after purchases, according to Thomson Financial.

As always, that’s not an indicator it will happen again. But it is a signal that may give you an edge if you decide to join these insiders and go long too, after doing your own research on these companies and determining if they are a suitable fit in your own mix of investments.

Now let’s take a look at two beaten down cyclical names where insiders with good records are going against the current of negativity.

Landry’s Restaurant (LNY)

Landry’s Restaurant (LNY) chairman and CEO Tilman Fertitta -- who controls 41% of the outstanding stock -- has an offer on the table to take the company private at $21 a share.

The market clearly has doubts about this deal, given that Landry’s stock trades for around $15. But recently, and less than two months before the November 3 shareholder vote on the deal, Fertitta plunked down $4.9 million to buy another 400,000 shares at about $12.30 each.

Could this mean that Fertitta expects to get enough shareholders to vote along with him to approve the takeover at $21? And so he’s buying what he thinks are cheap shares ahead of the deal?

That’s probably a good guess. The Landry’s board, by the way, voted to advise shareholders to accept the deal, with Fertitta abstaining.

Of course, there are unknowns in this equation. Financiers behind Fertitta could back out now that credit market conditions have worsened so much in the time since they signed on earlier this year.

And a weakening economy could hit Landry’s so hard that the stock falls even more –making it worthwhile for Fertitta to pay the $24 million it would cost him to back out of the deal and put in a lower offer. Each dollar move down in the stock makes the company $17 million cheaper.

But there are some positives in this story, too.

• Though revenue growth ground to a near halt, advancing 1% in the second quarter, the company was able to cut costs enough so that operating income advanced 7%. Much is being made about the impact of Hurricane Ike, which significantly damaged two restaurants in Texas and had many others closed as of the end of September. As tragic as Hurricane Ike was, it is a one-off event from which the company will recover.
• Fertitta is a smart buyer. On average, the stock has advanced 21% in the six months after he purchases.

Landry’s owns and operates about 180 restaurants in 28 states. They include both upscale and casual restaurants operating under names like Rainforest Cafe, Saltgrass Steak House, Landry’s Seafood House, The Crab House, Charley’s Crab and The Chart House. The company also has a hospitality business that manages dining and entertainment services – including at the Golden Nugget Hotel & Casino in Nevada.

Perini (PCR)

The shares of the construction company and contractor Perini (PCR) are off over 61% in the past year to trade recently at $25. Down around these levels, insiders have purchased over $1 million worth of stock. Buyers included director William Brittain, who has a record of seeing the stock go up 53% in the six months after he buys, according to Thomson Financial.

Perini stock has been hit for two reasons.

First, investors have been concerned that a global economic slowdown will hurt business.

Second, Perini agreed to pay what critics say is way too much for another construction company called Tutor-Saliba – which happens to be mostly owned by Perini chairman and CEO Ronald Tutor.

Tutor had announced plans to leave Perini for Tutor-Saliba earlier this year. Then Perini agreed to buy the Tutor-Saliba as a way to avoid losing him. In the process, Perini overpaid for Tutor-Saliba to the benefit of its CEO who owns most of Tutor-Saliba stock, say critics. They have filed several lawsuits protesting the merger, to try to either call it off or do it at a better price.

With their recent purchases, insiders seem to be saying Perini stock has been punished enough – and may advance from here. Plus if the government bail-out plan eases fears about a global economic slow down, Perini shares could get a lift as the outlook for business brightens.

The bottom line: As cyclical businesses, Landry’s and Perini should get a boost if the government bail-out plan reduces fears that the credit markets are toast and we are headed for a severe economic slowdown.

Disclaimer
At the time of publication, Michael Brush did not own or control shares in any of the companies listed in this column. Mr. Brush is an independent columnist for this web site. For more on Insiders Corner disclosure, see the disclosure section in About Insiders Corner: http://www.investorideas.com/insiderscorner/. InvestorIdeas.com Disclaimer: www.InvestorIdeas.com/About/Disclaimer.asp. InvestorIdeas is not affiliated or compensated by the companies mentioned in this article.

TOP