Thanks to a scathing report from Madoff whistleblower Harry Markopolis, General Electric (GE 5.74%) shares plunged 11% in a single day. Is this just market noise or something more? Plus, Federal Reserve Chair Jay Powell is set to deliver much-anticipated remarks on Thursday, and investors hope he gets aboard the rate-cutting train. And as always, host Jason Moser and Fool.com contributor Matt Frankel, CFP, share the stocks on the top of their watch lists this week. All of this and more on this week's Industry Focus: Financials show.
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This video was recorded on Aug. 19, 2019.
Jason Moser: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market each day. It's Monday, Aug. 19. I'm your host, Jason Moser. On today's Financials show, we're going to talk a little bit more about the recent trouble, I guess is the best way to put it, that GE is facing right now from a short report. We're going to talk a little bit about the Jackson Hole economic policy symposium that's coming up on Thursday. That's a mouthful. Mastercard (MA 1.39%) is placing some bigger bets on crypto apparently. We've got an interesting listener email question that piggybacks off that MasterCard news as well. And, as always, we've got a couple of stocks for you to watch for the coming week.
Joining me in the studio today as most always, sometimes he's out, and last week was one of those times, celebrating a little bit of a sayonara to summer, Certified Financial Planner Matt Frankel. Matt, how's everything?
Matt Frankel: Pretty good. I'm just getting back from my longest vacation in six years.
Moser: That's amazing to me! What have you been doing, man? Come on!
Frankel: Work. And, I mean, we had two babies, and I don't count the leave I took for those as vacation. I think any parent would agree with that.
Moser: That is more work than your actual job. There's no question.
Frankel: Yeah. So, this is the first time with no actual work at all, we figured it out, since our honeymoon. It was the longest vacation we've taken.
Moser: Well, that's good. Where did you go?
Frankel: We went to a place called Fripp Island, South Carolina.
Moser: Oh, yeah! I'm very familiar with it!
Frankel: It's kind of remote. To put a picture in your head, all the Vietnam scenes in the Forest Gump movie were shot there.
Moser: Oh, wow! I forgot about that part.
Frankel: Very remote. It's real quiet, great for families. A lot of good times.
Moser: Good deal. Good deal. Well, glad to have you back! We wanted to kick this week off with, I think this is the biggest story over the last week here. Pretty amazing to see. Last week, GE shares got hammered, falling 11% on a report out from Harry Markopolos claiming that their financials were a sham and that GE is a bigger fraud than Enron. Now, Mr. Markopolos is known for uncovering Bernie Madoff's scheme, so he has a level of credibility there. Matt, the thing that I can't get past with this, though, is that he wrote this at the behest of a hedge fund taking a short position on GE's stock, right?
Frankel: Yeah. This literally feels like the opposite of what he did in Madoff case. [laughs] That was on behalf of the general investing public. And that's why everyone took this so seriously, because he was the big Madoff whistleblower. But when you actually dig into it, like you said, he wrote this on behalf of a hedge fund, and the wording is convoluted in his disclosure statement. Basically, it's saying that this is a hedge fund that has a short position in GE, and Markopolos is getting compensated based on a percentage of the profits that this hedge fund makes from shorting the stock. That sounds like a pretty big conflict of interest.
Moser: Seemingly, seemingly.
Frankel: Right. It falls into the "how could this possibly be legal" category. I'm not totally convinced it is.
Moser: Maybe that's the case. If you look at market manipulation, according to the Internet -- and if it's on the internet, it's got to be true, right, Matt? But, this is actually a sourced definition of market manipulation -- it's a type of market abuse where there's a deliberate attempt to interfere with the free and fair operation of the market and create artificial, false, or misleading appearances with respect to the price of or market for a product security, commodity, or currency. Market manipulation, of course, is prohibited in most countries. In particular, it's prohibited in the United States under Section blah, blah, blah of the Securities Exchange Act of 1934. So, clearly, we know what market manipulation is, we know that it's illegal. On the surface, I agree with you, this really does look like it.
I'm not one to say, "Hey, I'm coming to the defense of GE," because GE's not a stock I want to own anyway -- not before this, not after it. I've got my eyes on other things here. But I feel like GE is getting the shaft here. There's almost nothing they can do to combat this.
Frankel: They've done pretty much all they could to combat this. The CEO spent $2 million on stock the day this happened. I probably would have spent more myself if I had my laptop with me at the time. I'm a GE shareholder, full disclosure. I think they're worth more than they're trading for right now. And board members were pointing out parts of the report that were based on outdated information. The only gray area in that definition that you just read is, did he mean to be misleading to the investing public? It was definitely an attack on the stock. It was, I'd say, a biased report in its wording, to put it mildly. It was definitely meant to drive the stock price down.
Moser: I feel like, right there, that is the intention to be misleading, almost. Bias is essentially the intention to lead in whatever direction he wants, and he knows whether it's leading or misleading, so to speak. I'm not trying to make any accusations here. But man, I tell you, when you look at the option, he could have gone to the SEC with this information as a whistleblower, and there would have been the potential for him to profit from that. There is whistleblower status with the SEC, where he would be able to share in some of those gains if there were any gains that were recovered based on the proof that there were fraudulent activities going on.
Frankel: Yeah, that sounds like something that was done primarily for the money. The proof that this report didn't have a whole lot to stand on is, what is it, two market days later, the stock's pretty much back where it was? All it took was the CEO doubling his investment and a few analysts coming out and saying, "This report isn't all it appears to be. Don't pay too much attention to the name of the person who wrote it. This is a completely different situation than when he investigated Madoff." It's a completely different situation. It's like using a brand name for a different reason. That's kind of what it feels like here.
Moser: It feels like, to me, he had a clear ethical choice here. Listen, we live in a world of right and wrong and a lot of in between. I saw one of his quotes, he said [something like], "I've got a family to support, a family to feed," like, so do I, dude. A lot of people do. I understand he probably had a very big paycheck coming from this. The hedge fund probably gave him a lot of money to do this based on what we understand. It also feels like there was a pretty clear ethical choice there. He's a smart guy, clearly. He knew going into this what was going to happen and the criticism that was going to be lobbed his way after it. So, yeah, I'm not one to sit here and immediately come up to the defense of GE. I think there have been a lot of things that they've done in regard to managing the company that they could have done better. Financial chicanery, manipulating those financials all the way back to 1995, is a really big accusation that spans a lot of leadership, really throws KPMG, their auditor, under the bus as well. Hey, listen, let's find out if there is something going on here. And if there is fraud to that extent, then thank you, Mr. Markopolos. But I suppose I feel like he could have gone about this a better way.
Frankel: It's also worth pointing out that generally in situations like this, the company that's under attack stays silent. That wasn't the case. GE immediately snapped to its defense. Said all this could have been cleared up if he would have just called them and asked them to verify certain figures and information, and it could have been cleared up that way. So, just the fact that GE's been so vocal about it shows how this is a lot different than other situations. Short sellers issue reports attacking companies all the time. The standard response is "no comment." And that wasn't the case here. It's also worth noting that GE said, "Wait, all of this is public information that was already known. All this is baked into the stock price already. We're putting our money where our mouth is by buying more." It's a unique situation. I don't want to rush the judgment one way or the other. As you said, there's a lot that GE should not be defended on, but I feel like this is just a rehash of old information with a big name person who's had success in the past exposing fraud, so everyone just assumed that must be the case here.
Moser: Yeah. We'll follow it and see how this all shakes out. But, yeah, tough week for GE last week. I'm feeling for them in this case. I'm not sure they got necessarily the fair shake. But we will keep on this story for our listeners.
Let's switch to something maybe a little bit more cheerful, I guess, cheerful in the sense that Jackson Hole is a really nice place. You can just imagine yourself in Jackson Hole. Now, imagine yourself in Jackson Hole, you're not skiing, but rather you're going to the Jackson Hole economic policy symposium. That sounds like a vacation right there, Matt.
On Thursday, the Federal Reserve chief Jerome Powell will deliver the opening remarks at the Jackson Hole economic policy symposium. The reason why we're talking about this today, there are some analysts out there that say that Powell needs to get out in front of the recent market volatility, the inverted yield curve, all of this stuff, and explicitly address these issues and how he plans to address and deal with them going forward. If he doesn't, then the markets are likely to react, more than likely overreact, in a very negative way.
Talk to our listeners about Jackson Hole and where you stand on how much he needs to be saying about this stuff anyway.
Frankel: Basically, what investors want to hear is that the rate cut that happened isn't just a one-time thing or a wait-and-see approach. They want to see that this is the first step in a series of rate cuts. To give you some of the figures, I just checked, CME has a thing called the Fed Watch Tool that is based on the futures markets and calculates the percentage chance of certain rate actions. Right now, the market is expecting one rate cut in September, another one in October, and yet another in December. The most popular estimate by the end of the year is three rate cuts from here. That's what the market wants. The reason the market reacted negatively after the recent rate cut, even though they got the cut they wanted, was because Powell essentially made it sound like this was going to be a mid-cycle correction. And what investors really want to see is, "No, this is not just a mid-cycle thing. This is starting a new cycle of rate cuts that's going to last for a little while and keep rates low for the foreseeable future in order to keep the expansion going." That's what it's all about. Investors want to see that the Fed is doing everything in its power to keep the economic expansion going. The market action of the past week or so, especially with the yield curve inverting the way it did, bond yields are just plunging, the two-year and 10-year inverted for the first time since 2007, and we all know what happened right after 2007. So, basically, the market wants him to address that, talk about the recent market volatility, and indicate that the Fed is going to do everything in their power to keep the expansion going.
Moser: So, just reassurance. They want reassurance. I guess that's fine. Everybody wants a little reassurance in their life. Maybe this is the opportunity for Powell to offer that. But it really feels like we're painting ourselves into a corner with this interest rate policy. You get those things as low as they are and you've got no other levers to pull if we run into a buzz saw. It feels like they can only cut rates so much. Is quantitative easing something we should be expecting here in the next couple of years? I know we said this is all wrapping up and we're getting ourselves out of this, but it seems like they could just decide at the drop of a hat to do it again.
Frankel: I mentioned a few weeks ago -- I have a very unpopular opinion on this. My opinion is that the Fed should never have cut rates at all. I don't think the economic data supported it as much as everyone else seems to think. I'm not panicking. If the market wants to panic because the Fed's not cutting rates, great. I want them to save as much ammo as they can for when things start to get bad.
Moser: Yeah. I mean, things seem pretty good right now. If you look at the general data, unemployment is obviously in a very good place. Consumers are definitely spending. Energy prices, low. Inflation, virtually nonexistent. It's actually a pretty great time to be a consumer.
Frankel: Yeah. The fact that inflation is nonexistent is really the only significant argument, in my mind, to be made for cutting rates. Usually, you raise rates when inflation starts getting out of control. That hasn't happened. So, inflation is really low. And I get that to some extent. I would understand a rate cut based on inflation if other economic signs were pointing toward a slowdown, a recession, unemployment was ticking up, anything like that. But we're just not seeing it. I personally am not a fan of them starting to cut rates. As you said, it reduces the ammo the Fed has in the case that they need to use it. That's where you get into quantitative easing and things like that. So, no, I don't think quantitative easing should be a part of the conversation right now, despite with the President seems to think. Shortly before we recorded this, he just said the Fed should cut by a full percentage point and implement some sort of quantitative easing.
Moser: [laughs] I saw that. That's just a bit much, isn't it?
Frankel: The stock market would love it. I would expect the market to soar by 1,000 points if that actually happened.
Moser: I think maybe his negotiating bent. He's thinking, cut by a full point, introduce quantitative easing, and then he's thinking, maybe if I say cut by a point, maybe I get a half a point, and maybe I get a little quantitative easing, as opposed to a lot. Maybe that's the negotiator in him. I don't know.
Frankel: Yeah, it just seems like a lofty starting point.
Moser: [laughs] Yeah. We'll be watching Thursday for any comments that come out of Jackson Hole. If it's anything material, we will certainly revisit next week.
Let's pivot over to one of our favorite companies out there, Matt, MasterCard. MasterCard, obviously, the big payments provider, one of the owners of the rails, so to speak, that help all of these payments get from point A to point B. We've been talking a lot about cryptocurrency and Bitcoin and stuff like that over the past couple of years. Digital currency, cryptocurrency, is gaining a little momentum, a little bit more credibility. We're seeing a lot of companies out there with big and respectable positions in the space start experimenting with cryptocurrency, Bitcoin, things like that a little bit more. It sounds like MasterCard is starting to place some more bets in this space, actually looking to establish its own digital currency team. Not necessarily to establish its own digital currency, but it looks like more how they're going to be a part of this digital currency world as it gains a little bit more share in our lives. I tell you, Matt, the first thing I thought of when I read this was that it adds to my skepticism that Facebook, whether directly or indirectly, is equipped to deal with a market like this. A lot of that goes back to two things. For all of the strengths that Facebook has, No. 1, it has a brand problem. I don't know that I look at Facebook and think that I'd trust them with my money. But then also, it goes to show you that there are companies out there that have been building themselves on this payments space for a very long time. This is stuff that MasterCard and Visa and other companies like this are equipped to deal with and build vs. something like a Facebook. So, when we see MasterCard partnering up with Libra and being a part of that network, that's a very small bet on MasterCard's part. That could evaporate tomorrow, and it's nothing. To see MasterCard wanting to get in there and take their ownership and build this space out a little bit, though, I think it is interesting.
Frankel: Yeah. MasterCard has said in the past that so-called stable coins, which means cryptocurrencies that are pegged to the U.S. dollar or some other currency, definitely will play a role in its future. It's not hard to see why. MoneyGram and Ripple is a big example. They just partnered. The idea is, how much does it cost you to wire money overseas right now? $30, $40 is about standard. So, the idea is, if you have these so-called stable coins, you can use them to transfer money internationally for a few pennies instead of $30 or $40. And the same technology could theoretically be applied to domestic money transfers as well, which is where a MasterCard would come in. If they could cut down fees, it can make them more competitive with, say, Visa and American Express when getting merchants to accept their card. There's a big war on fees going on, as we know. The payments company that can offer the cheapest services is going to win long-term. MasterCard, this is the first step in them doing that.
This ties in with the discussion we had last time I was on about the question of whether payments companies had something to worry about from cryptocurrencies. We mentioned that it's an error in thinking to consider them as two separate types of companies. Cryptocurrencies and blockchain are technologies that will eventually be incorporated into these companies, especially as they gain traction.
Moser: Sure. It's a new facet to this overall market as it evolves.
Frankel: Right. You can bet, if cryptocurrencies really start picking up traction, that MasterCard is not going to be the last one to do this. I wouldn't be surprised if Visa and American Express already had similar discussions. American Express partnered with Ripple, I already mentioned, a few years ago, in order to investigate the applications of that technology. That was Ripple's biggest name partnership until this point. It's definitely an interesting development. I don't think it'll be the last. They're definitely the first of the big payments companies to start hiring for their own cryptocurrency division. But I would be really surprised if we didn't see this coming from the other ones pretty soon.
Moser: OK, well, this segues nicely then into an email we got from a listener, Ronald. Thanks for the email, Ronald! Ronald writes, "Hey, Fools. On the Financials podcast the other day, Jason and Matt answered a question about cryptocurrency disrupting the payments sector. While I doubt this would ever happen, I am curious about blockchain or a similar type of technology disrupting the payments industry. Retailers are paying billions of dollars every year to all the companies involved in a card, mobile or online transaction. Retailers literally have billions of reasons to find a way to make this a cheaper process. I'm a happy cashless society shareholder, but I have to assume that somebody is trying to find a way to disrupt that business. Thanks, Fools. You're all awesome. P.S.," Matt, I've got to throw this P.S. in here, "Loving my AI and AR services." Matt, as the AR service lead, and I'll make sure Seth hears this, too, it's nice to know that Ronald is enjoying his AI and AR services. Thank you, Ronald! We'll keep working hard to make those services enjoyable and lucrative.
But, back to your question. Matt, we're not talking about crypto per se, but blockchain technology perhaps. How do you feel about that? Are these retailers looking at some way to disrupt the current payments environment to save a few pennies on every transaction?
Frankel: I'd say that companies like MasterCard are certainly trying to find a way to disrupt it. Generally, retailers pay 1% to 3%, depending on the situation, in credit card processing fees. If MasterCard can get their fees down to, say, 25 basis points, 50 basis points, then that disrupts the payments industry pretty good. That saves retailers billions of dollars a year. So, to answer that question, I think the big payments companies are going to end up incorporating this technology into their current systems in order to bring their fees down. As I mentioned, there's a big war on fees. I interviewed the American Express' team a few months ago. They were talking about how they've recently taken steps to lower their fees to become more competitive. I don't see Visa and MasterCard just accepting the fact that American Express is now competitive with them. There's going to be a constant war on fees between the big ones. I see blockchain and cryptocurrency technology having a big role in that. I don't think merchant processing fees are going to be in the 2% to 3% range forever. I can see that coming down. I see blockchain having a lot to do with it.
Moser: Yeah, you're right. We're seeing those fees continue to come down. I think that makes a lot of sense. You can ask any merchant, do you want to accept cash? Some would love to, some don't want to manage it. There's that trade-off there. I agree with you there. I think you're going to find these companies figuring out ways to incorporate any kind of technology that's going to make the transaction go more quickly, be less prone to fraud, and create value on both sides of the equation there. I look at companies like Square, for example. Beyond fees, you see companies like Square trying to say, we want to make sure that we're offering a lot of value in the way of services, whether that's software for restaurants or software for retailers, payroll management, whatever that may be, it's figuring out ways to be less dependent on the fees and more dependent on that long-term relationship.
That's a good question, Ronald. I appreciate you asking that. Appreciate the kind words, too.
OK, Matt, let's wrap it up this week as always with One to Watch. What stock have you got your eye on this week?
Frankel: I am turning the tide on this one. I'm putting Wells Fargo, WFC, back on my list.
Moser: No Bank of America?
Frankel: Well, they're still my favorite. They're still the biggest bank stock I actually own. But Wells Fargo is getting too cheap to ignore at the current price of around $45 a share. That means their buyback program alone is going to amount to about almost 12% of the outstanding shares this year alone. They're buying back stock hand over fist. The dividend yield's up to 4.5%, which is very high for a bank stock. What's really interesting, if you look at them on a price to book valuation, which is how I generally value bank stocks, you have to look all the way back to 2011 to find a price to book that is where it is now for Wells Fargo. If you look at, say, Bank of America, you only have to go back to 2017 to find the same valuation. In JPMorgan's case, they hit their current price to book back in 2018. Wells Fargo is trading at its lowest valuation in eight years. Sure, there's some reason for it with the scandals and everything. But does that mean it needs to be trading at the same valuation right as we were coming out of the crisis? Probably not. There's a point where most stocks become attractive, and Wells Fargo is reaching it in my mind.
Moser: Yeah, I like that. There's always tomorrow. Maybe they're getting their act together. And what's the ticker there?
Frankel: Sorry, the ticker is WFC.
Moser: OK, good. For me, this is a shout out to one of our listeners, Joseph Crebelli, who sent an email asking about this company, BGC Partners, BGCP. BGC Partners is a financial services business. It primarily focuses on trade execution and broker dealer services. The markets they serve primarily are wholesale financial energy insurance. Clients include many of the world's largest banks. Essentially, they're helping through this brokerage, moving a lot of money around. Most of their revenue is generated by commissions. That can be one of the challenges in these types of brokerage businesses, that commissions tend to come down unless you can offer some type of a specialized service there, a competitive advantage. It is worth noting, their commissions essentially doubled from 2014 to 2018. Total revenues, close to that, as well. Now, that adjusts for a few transactions along the way, spin-offs and whatnot. But they believe that their technology, they have a hybrid brokerage platform that can accommodate for some more complex and less liquid markets. That's what they consider to be one of their advantages. Now, there's some costs that come with that. But it's still a small-cap company, so there could be the potential there for some interesting growth. I think one of the things that maybe holds potential investors back, it does have a bit of a convoluted ownership structure. For example, Cantor Fitzgerald owns a bit more than 13% of the shares outstanding, and essentially owns the majority voting power of the company via class B shares. That's something at least to keep in mind there. But an interesting business in certainly a market that is not going to be going away. We've seen with some other businesses like this, it can be a very big market opportunity as well. So, one I'll learn a little bit more about in the coming weeks. Thanks for the push there, Joseph!
That's going to wrap it up for us this week! Matt, you guys back in school yet there?
Frankel: I think everyone went back to school today, actually.
Moser: Today! Wow, OK! We've got one week and counting. It's coming soon. We'll figure out how to make it work. It's time for these kids to go back to school, man!
Frankel: Yeah, definitely!
Moser: I appreciate you joining this week! It's always nice to talk with you! Glad you guys had a nice vacation. I look forward to getting back in here next week to talk about what's going on.
Frankel: All right, I will talk to you then!
Moser: OK. As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. Today's show was produced by Austin Morgan. For Matt Frankel, I'm Jason Moser. Thanks for listening! And we'll see you next week!
