Friday, October 31, 2008

David Rubenstein Speaks from Seward's Folly

Funny what the horse's mouth can deliver. David Rubenstein, co-founder of the The Carlyle Group spoke to Alaskans on October 25. His talk is available on KSKA public radio. It aired on October 30. Some of his talk is summarized below.

The Carlyle Group averaged 30% annual returns since 1987. That's quite a record.

David Rubenstein brokered Alaskan Native Corporations losses. He helped them maximize ANC losses and sold them to businesses needing tax losses.

Five transitions:

1) Deleveraging of economy. Excess borrowing has come back to haunt us. More than just subprime crisis, a true problem in regions of the country. Nervousness spread to all loans. Credit dries up, stalling the economy.

2) Recession. This one will be deeper than usual. Unemployment to go from 6% to 9-10%. Growth will decline 2-3% each quarter for next 4-5 quarters. Federal deficit $500 billion, expected to double in 2009 to $1 trillion. Slowdown worldwide.

3) Lack of leadership as to what needs to be done. Uncertainty. U.S. government moved late. Transition to a new President won't be helpful. Hopes this is done quickly. Obama's economic leadership team needs to be named quickly.

4) U.S. no longer center of economic world. One quarter of world's GDP, used to be half. Middle East and Asia can develop without America. No longer world leader in auto, textiles, and manufacturing. U.S. goes from manufacturing to service to post service economy.

5) International economic structures are crumbling. Retool global economy, with U.S. getting less say.

Engines for economy:

1) Commercial banks became behemoths in global economy. Made bad deals. Four major banks left. JP Morgan/Chase, Citi, WellsFargo, & Bank of America.

2) Investment banks, now gone. Goldman Sachs and Merrill Lynch are now commercial banks. Levered 40 to one. Unsustainable in bad times.

3) Hedge funds. Professional management adds value post investment. In return get 20% of profits from investment operation. $3 trillion invested in hedge funds. They are going down between leverage and bad, unhedged bets. Withdrawals, end of 2009 expects less than $800 million in hedge funds

4) Pension funds. public and corporate pension funds are facing trouble due to stock market exposure.

5) Sovereign wealth funds, most in Middle East. Bigger than public pension funds. Bush formed largest one with TARP. UAE has one, Abu Dhabi Investment Corporation is $850 billion. Their assets are down with the financial turmoil. Invested $150 billion in U.S. financial sector and lost 65% of their money.

6) Private equity funds. Now a major player. Worldwide there are 15,000 funds, Carlyle is at $90 billion. Some deals from last few years are levered and may be in trouble. 30% equity, 70% debt. That has shifted to more equity and less debt. In the past, private equity got deals sweeten, with no covenants, no material out provision, interest only payments and equity conversions.


Private equity does well when people are nervous. Deal pricing becomes attractive.

Look at what you can do. Get in line with the federal government, the TARP package. A huge stimulus bill is coming in January, signed by new President. It will put enormous amounts of money into job creation programs, transportation, infrastructure, & alternative energy. Get your name out in Washington, D.C. for your share.

A $1 trillion deficit is not a shocker with the federal budget relative to GDP. The dollar is the worst form of currency, other than every other one. Safety, allows them to print without devaluation for the near future.

Alaska's image is a +/-. Most people don't know much about state. Opportunity to transform state from carbon energy to alternative energy center. Alaska can be global leader in alternative energy. Spend alot of time that Alaska should get large chunk of that money.

Transportation, ships will be able to travel Northwest Channel on permanent basis. Major port operations should be set up in Alaska.

Aerospace/defense, U.S. spends enormous amount on wars. Hard to get country out of wars. Won't happen overnight. Defense budget won't go down anytime soon. Spending on high tech defense will increase. Alaska can go after that new technology, get it stationed in state.

Q & A:

How can Alaska get alternative energy to the lower 48? U.S. has to change energy grid system. Part of energy money will go to that. Pricing of oil influences desirability of alternative energy. Believes it will happen due to global warming and desire to reduce import of foreign oil.

Building of Alaska natural gas pipeline. Will it happen? The need is there, some pipeline will be built. It needs planning and financing. It likely won't happen as fast as it needs to.

Should I hunker down or invest given a 1.5 to 2 year recession? Difficult to know the bottom, hard to take risks in abyss. Once in a lifetime opportunity to buy things. Capital may be difficult to come by. People in Washington are scared to death about economy. Will print all the dollars they can. Smart people would state their case for their share. Alaska should get in line.

What are some of the regulations impacting hedge funds and private equity? How have they contributed to our current mess? Hedge funds trade investments, private equity buy companies and improve them. Hedge funds will likely be regulated in the future, they may need to publish their amount of leverage and other information. After Enron collapsed, the solution was Sarbanes-Oxley. Possibility of over-regulation. Europe will regulate hedge funds and private equity together. David doesn't like it.

U.S. economy $14 trillion annual GDP. Credit default swaps total $53 trillion. It was a great fee generating business. No one expected them to become due. Going to central exchange. It will be painful unwinding that $53 trillion on the books.

How have rating agencies contributed to crisis? Credit rating agencies, not a destination for top grads. Problems with staff quality, but also conflict of interest. People paying fees are the ones wanting rating. That system will change.

Would Carlyle be interested in owning SeaLand? Made alot of money off a shipping company (Horizon Lines). Transportation and infrastructure are highly attractive to private equity.