Thoughts on the Financial Media

Since it came up in discussions regarding my last post, I wanted to touch upon the issue of the financial media a bit more. I think it is important for investors to understand why media outfits like the NY Times (NYT) might not be the best resources to use when making investment decisions. Recent events involving a story the aforementioned paper published about Warren Buffett’s interest in buying a 20% stake in Bear Stearns (BSC) bring the issue to light even more.

For those that didn’t hear about it, shares of Bear Stearns rose more than 10% on Wednesday after the NY Times reported that Buffett was one of several parties discussing the purchase of a minority stake in the troubled investment bank. Within minutes other reporters were playing down the story after speaking with sources they have within the industry. The next morning, Bear even refuted the story itself on a call with investors. Lots of people have lost money due to what looks to be an erroneous report. Most likely someone leaked the story to a NY Times reporter, assuming they might publish it, causing a temporary jump in the stock price, allowing them to sell some stock at a nice profit right before the end of the quarter.

Now, yes, that explanation as to why it all happened is purely speculation on my part. However, based on what happens all the time on Wall Street, coupled with the fact that the story was immediately rebuffed by numerous sources, including Bear Stearns, leads me to be cynical and suspect that the Times did not check with many reliable sources before reporting Buffett’s supposed interest.

I bring this up because media outlets are not the most trustworthy of resources when trying to gauge the merit of a particular investment. The NY Times is often guilty of this because they are based in the financial capital of the world and have access to lots of Wall Street people, but many other media people make the same mistakes.

It shouldn’t really be all that surprising though, that is, the fact that newspapers and the media in general is often biased in their reporting. In recent months, the NY Times has published numerous stories, from numerous reporters, regarding many different financial corporations including student lending firms, credit card issuers, and mortgage companies. Some of these firms I am invested in, so although I don’t read the NY Times regularly, I have seen some of the “journalism” that has been published to the extent that it has caused stock price movements that interest me.

It is no secret that the Times has a liberal bias in many cases, and some of their attacks on large consumer lending companies makes it clear that some of their reporters are purposely trying to criticize large financial institutions for their lending practices, whether it be to college students, sub-prime home owners, or credit card dependent consumers. I guess it’s just the world we live in.

Now don’t get me wrong, I am all for throwing the book at companies that break the law or act in extremely unethical ways. By no means am I arguing that unlawful acts should not be punished to the fullest extent, and please don’t assume that I am writing strictly to make a political point. Most times I am successful in separating my political beliefs from my job as a stock picker, not only because it serves me and my clients best by doing so, but also because the views are often at opposite ends of the spectrum.

However, since consumer lending activities have become such a big issue lately, the media has started to really cross the line, in my view. It has, in part, I believe contributed to the fact that many Americans feel like they are constant victims of big business, whether it be the oil companies’ supposed price gauging (which there is no evidence of), or any type of consumer lending that has been called predatory in nature without any evidence to support the claim.

Stories in recent months from the likes of the NY Times have sharply criticized many financial institutions, and in some cases, have even gone as far as insinuated that they are breaking the law. Some examples of these horrible activities include student loan companies that factor in things like career path and which college you attend when determining your loan eligibility and interest rate, or mortgage companies that are offering wealthier white borrowers loans more often, and at more attractive terms, than minority, less wealthy borrowers. It turns out, in fact, that mortgage companies also offer their sales people higher commissions for more profitable adjustable rate mortgages than they do for fixed rate versions (much like stock brokers usually try to sell clients annuities — they have high fees and sales commissions of up to 8%!).

Now, if you read these stories without a cynical tilt you are more likely than not going to conclude that companies like Countrywide (CFC), Sallie Mae (SLM), and JP Morgan Chase (JPM) are crooks who are discriminating against anyone and everyone in the name of profitability. Those profits in the end wind up in the hands of wealthy executives and shareholders, which results in an ever-widening gap between the wealthy people making the loans and the less wealthy ones receiving them. This press coverage does result, at least in the short term, to lower stock prices and a general anger toward big business in general. In my view, these attacks are not only often unfair, but in some cases completely one-sided and oftentimes based on assumptions that are simply untrue.

For instance, is it fair to imply that it is at most illegal, and at least unethical, to factor in what degree you are seeking and what school you plan on attending when deciding whether or not to offer you a student loan and at what interest rate? Believe it or not, lenders offer loans to people based on what they think the odds are of being repaid. The better your credit, the more likely you are to not only get a loan, but also a low interest rate. Lenders need to consider this issue more than any other when deciding who to lend money to. The higher the risk, the less often you will qualify for a loan, and even when you do get approved, your increased credit risk results in higher interest rates.

Now, does anyone think that which college you attend and which career path you are pursuing might be relevant factors in determining a borrower’s creditworthiness? The fact is, there is a direct correlation between education, career, and annual income. It also stands to reason that the more money you end up making, the higher probability there is that you will be able to pay back your student loan. Therefore, is it unfair to accuse Sallie Mae of illegally discriminating based on school choice or career path? Most economists would say “yes.”

The same arguments can be made on any number of fronts. Do a smaller percentage of minority borrowers get low interest rate loans because of their skin color and ethnic background, or is it because of their credit worthiness? Most likely, the latter. That does not mean we should not strive to put in place policies that seek to get minority education levels and incomes on par with everyone else, it just means that accusing the banks of racism is probably crossing the line.

The current mortgage and housing industry downturn we are seeing is partly due to the fact that lenders actually abandoned these basic lending principles. Traditionally, the better your credit history, the better loan you were offered. Not surprisingly, the housing boom led companies to get greedy. The more loans they made, the more money they made (at least in the short term, as we are finding out now).

The result was that the lenders completely turned their lending practices on their head. If you couldn’t afford a standard 30 year fixed rate mortgage with 20% down, a new type of loan was created for you allowing little or no down payment and an attractive teaser interest rate. All of the sudden, people who couldn’t get loans were able to go out and buy houses they couldn’t normally afford. And that’s how we got ourselves in this mess.

Amazingly, we lived in a world where the better your credit, the worse your loan terms! High quality borrowers put 20% down on their house and paid 6% interest while sub-prime borrowers put less down and got low single digit introductory rates. How on earth does that make any sense?

It doesn’t, but people are paying for it now. Many lenders have either gone out of business or are losing money hand over fist now since they failed to align the credit worthiness of the borrower with the loans they were offered. And yet, some people want to criticize smart lenders for doing their due diligence and aligning credit histories with interest rates.

Consumers are also to blame since those facing possible foreclosure are constantly being quoted as saying they were so intent on getting their house that they didn’t read the loan agreement before signing it. Well, if you were about to be loaned hundreds of thousands of dollars and didn’t bother to take the time to read the paperwork to find out how much that loan was going to cost, maybe it’s your fault for taking the money just as much as it was the lender’s fault for offering it to you.

I’m getting a little sidetracked here, but the basic point is this. It is imperative that lenders size up the creditworthiness of borrowers to determine loan terms that are appropriate to compensate them for the repayment risk they are taking. Doing so is not illegal or unethical, although hundreds of biased press stories will try to convince you otherwise. These issues are all coming to a head in 2007 and due to the highly divided political landscape our country is facing, people are becoming more and more inherently biased. It’s a shame that this is the case, but it is simply reality. And it’s not just the Times, of course. Conservative papers will be coming from the exact opposite end of the spectrum. It’s just the world we live in today.

This is important from an investing standpoint because you need to consider these issues if you are going to allow the media to play a role in your investment decisions. I would recommend that you not base your investing on what you read in the media. Due to inherent biases, there is going to be information left out because it doesn’t prove a certain desired point, and other information is going to be embellished to make a certain case seem even stronger.

The best thing to do is to base your decision on the facts, not on opinions. In many cases that means taking what public companies say at face value. It is true that there will always be Enrons and WorldComs in this world. However, there are far more biased press reports that ignore facts than there are crooked companies and executives. If you are trying to research a company’s mortgage portfolio, for instance, and the company is willing to break out in agonizing detail exactly what loans they have made (what the delinquency rates are, what the credit scores of the borrowers are, etc.), then you are probably better off analyzing that data than the opinions expressed in the media.

If a company is unwilling to disclose the data you feel you need to make an appropriate investment decision, then find another company that will. In the world we live in today there are too many people with an agenda or a bias that colors what they feel, think, and publish. Heck, I’m guilty of it too. If I’m going to write about a stock that I am invested in, won’t I tend to be bullish? Of course.

However, the merit of my opinion can be greatly increased if I use facts to back up my assumptions. If someone offers up facts and you agree with their underlying assumptions, it is far more likely they will be right. If you read or hear something with a lot of opinion and speculation, but little in the way of facts (say, for instance, in the case of Warren Buffett’s supposed interest in buying Bear Stearns), perhaps it is prudent to be more skeptical.

Take the case of Bear Stearns, for example. On Wednesday the NY Times reported that Warren Buffett was discussing taking a 20% stake in the company. There was no evidence in the story that suggested the rumor had any merit. Within 24 hours numerous reporters were doubting the story after talking with their sources and Bear dismissed the rumors directly. We cannot know for sure if Buffett will wind up buying a 20% stake in Bear Stearns, but based on the factual information we have, I wouldn’t be willing to bet any money on it.

Full Disclosure: No positions in the companies mentioned at the time of writing