Give Me Some Credit Here!

So,

Lets re-cap what happened today:

1)Depositers of IndyMac lined up and are now learning that the FDIC only insures up to $100,000.

- At least IndyMac has been reimbursing 50% of non-insured deposits. Lesson : If you have more than 100,000 worth of deposits - SPLIT IT INTO 100,000 INCREMENTS AND PUT IT IN MULTIPLE BANKS!

2) Microsoft drops the price of its Xbox 360 "Premium Edition" and puts out a statement saying that its Xbox will continue to maintain its lead against the Playstation 3 and beat it.

- Now, dropping the price of the Xbox is interesting enough...but do you really need to make a random statement declaring your supremecy?

3) Another Microsoft offer for Yahoo.

I'm not even going to bother commenting on this one. I'm just waiting for the proxy fight on Aug. 1st. The Wall Street Journal has a very short piece which accurately describes my sentiments regarding this massive trainwreck called a negotiation.

4) Genentech Reports (Stock Symbol: DNA) an earnings miss...yet the stock price goes up in aftermarket trading.

- I just mentioned this was going to happen. Yesterday. Check the Pharma predictions.

5) Washington Mutual and First Horizon share plunge on mortage worries

- I haven't been tracking First Horizon...but I have no idea how Washington Mutual manages to stay solvent. Anyone want to bet it is a direct result of the Fed Discount Window?

Now getting onto why I'm writing today. The credit card industry. Right now, I'm pretty sure I am the only one left in the world that thinks that buying into a select credit card company is a good idea.

Let me throw two out there : Capital One (COF) and Discover Financial Services (DFS) .

Any one who is familar with the operations of the two companies will probably think that it would be crazy to pick both instead of just one or the other.

Now, if I recommended just CapitalOne, you might think that I'm banking (no pun intended) on CapitalOne's large customer base and the high amount of debt owed to capital one by its customers. In theory, the amount of cash they get in from all the interest on the debt owed to them by their credit card uses would keep them going strong. Their ownership of banks in Lousiana, with growing depositors as a direct result of the re-population of New Orleans, should allow them to keep their margins, even in the face of rising credit card defaults. Since they went public in 1995, they have yet to have a quarter where they lose money.

However, if I just recommended Discover Financial Services, you might think that I was going for the conservative approach. DFS has very strict requirements for credit cards and they have some good cash back benefits (I certainly enjoy the 5% cash back on my gas purchases). Even their default rate is lower than American Express!

So, why would I recommend CaptialOne, which everyone on the street is half-expecting to go under because of their exposure to auto loans and credit cards?! Why would I recommend DFS, which since it was spun off from Morgan Stanely, has only one of three quarters in the black?

I'll give you a hint:

It starts with a "V"

It ends with an "N"

It has a "aluatio" in the middle.

Thats right, VALUATION!

At CapitalOne's current stock price, the market believes that it is worth 13.4 Billion

CapitalOne currently has 24.6 Billion in equity. It has 10.6 Billion in TANGIBLE ASSETS. So, depending on how you slice inherent worth of a company - Capital one is trading at a 30% premium to its tangible assets and at a 55% DISCOUNT to its total equity. Remember, this is a company which has yet to lose money in the 13 years that has been public. When you are being discounted this much, I just can't see it going down further. If it does after this weeks earnings report...it will return to the pre-release value within one business week as a result of interest from value buyers. With nearly 20% of the shares sold short, I expect a short snap and a resulting violent skyrocket in price as a result of the earnings report.

Now, what about Discover?

Remember how I said that it only has 1 of 3 quarters in the black? In a sense, thats not true. The first quarter since its spin off from Morgan Stanely, it was in the red in every sense. However, the second quarter it was only in the red as result of a one time charge. Without this charge, the company would have been profitable. The third quarter and the most recent quarter, it made a profit...and it was HIGHER than the year before when it was a part of Morgan Stanely.

Thats right. Discover mad MORE money than during the credit crisis than before it!

By the way...Discovers share price values the company at 6.2 Billion. Its tangible assets? 5.2 Billion.

Let me be very clear right now.

The terms "Credit Crisis" refers to a CONSUMER PROBLEM. The businesses will always do just fine.

But wait, other banks are going under, why are COF and DFS different? Those were INVESTMENT banks. Bear Stearns didn't originate loans. They just bought them from shady lenders. CapitalOne and Discover Finanical are loan orginiators which don't sell their loans. That means their own practices are known to them. And therefore, they know which loans are going to default and which aren't and can manage accordingly. The other banks have no clue whether their loans are going to default. That's the key advantage. Furthermore, many of the subprime loans by the other banks were made without doing a credit check. Do you think either of these companies has EVER issued a credit card without doing a credit check? I'm willing to bet that the same is true for their auto loans. When you are the guy holding the bag, you want to know whether there is a bomb or a wad of cash in it. People have never defaulted en-mass on their mortgages like this. But with 4-5% default rates in good times, credit card companies have lots of nerds dedicated to finding out who is going to default and how to profit from them.

If you're interested in proving me wrong (or watching my predictions be validated) the earnings report hits the wire on thursday.

-Mansij Hans, E.I.T.
Member, Intigril Capital Mangement

Disclosure: Mansij Hans personally owns one call contract on COF for July 18th expiration at strike price $40 at the time of publication of the "Give Me Some Credit Here!" article. Intigril Capital Management is not short or long DFS or COF.

Additional Disclosure: Intigril Capital Management is long MSFT at the time of publication of the "Give Me Some Credit Here!" article.