Friday, September 26, 2008

WM preferred versus common

Washington Mutual Pref is wildly mispriced compared to the common. 

The common is behaving badly - but as if survival is a small possibility.  The common is down 24 percent but is still $1.70 giving it a market cap of 3 billion.

The preferred (K class) is down 28 percent and has a price of $1.64 - a price which compares highly unfavourably to my first purchase at about $6.

There are a few outcomes here:

(a).  The FDIC takes over.  In this case both the common and preferred is worth zero.  If I were looking at the common price I would think that was say 50 percent likely.  If I were looking at the preferred price I would say it is more than 90 percent likely.   My own analysis suggested that this was less than 30% likely when I purchased - but the market tells me I am wrong.  And the walk-out by Santander today is highly discouraging as Santander is often the buyer of last resort.

(b).  A solvent bank like JPM buys it for under the current price.  In this case the pref should be worth close to par - being an instrument of JPM.  The common will lose money.

(c).  There is an auction and the bank is purchased at a premium.  The market is telling me this is very unlikely - but the common will rise a little bit (say to $3) and the pref will rise a lot (to near par).

(d).  The bank muddles through - possibly with the help of the TARP - but it is hard to see how the common ever gets back to 25 (especially if they have to give warrants under the TARP), but the pref winds up fairly good.

(e).  They fail instantly and hand themselves to the FDIC - which has the same outcome as (a).

In every one of these circumstances the pref is a at least as good an investment as the common - althought they might both be awful.  So far they have both been awful - but I only own the pref.

This sort of mispricing wouldn't exist if it was really easy to short the common.  But for the moment anyone who owns the common should sell it and buy the pref.

I am holding my prefs to the bitter end - and the end may be bitter.  We find out this weekend.





John

1 comment:

Anonymous said...

15 minutes ago:

WSJ NEWS ALERT: J.P. Morgan to Acquire Washington Mutual Deposits

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