What follows First Exec?

Herb Greenberg

May 24, 1991|By Herb Greenberg | Herb Greenberg,Chronicle Features

Now that life insurer First Executive is a basket case, having filed for Chapter 11 bankruptcy reorganization, what are the next insurance nightmares that short-sellers are dreaming up? I checked with a short who specializes in financial scams -- he had been screaming for years that First Exec was headed for trouble because of its junk-bond holdings and his message is: "Junk bonds are going to seem like Sunday School compared with commercial real estate."

This short, who doesn't want to be identified, isn't the only one talking about a looming commercial real-estate debacle in the insurance industry. It's even been discussed by First Exec CEO Fred Carr, as he tried to divert attention from his company. What makes my source's observations so compelling is his track record. Besides being an excellent, early source on First Exec, he has been consistently right on such companies as Texas Air, Prime Motor Inns, and -- years ago -- Baldwin United, an insurer that, much like First Exec, had a following on Wall Street until it unraveled.

"I try to find something that is so on-fire that the regulators will no longer be able to look the other way," he says. "If you use junk bonds as a radioactive indicator, you come up with companies -- maybe four or five in the entire insurance industry in which junk is way out of bounds in terms of their entire assets. If you do the same with commercial real estate, it will curl your hair."

Insurers have been among the largest investors in commercial real-estate projects during the 1980s. Flush with premium payments from policy holders, many insurance companies provided financing to developers whose projects, in some cases, already had been turned down by banks. Since the insurance companies were willing to take higher risks, they demanded higher returns. In that sense, a number of commercial real-estate deals might not be much different from junk bonds. The insurers "have to have a certain yield from real estate, because they promised policy holders a certain yield," the short-seller says. But if the commercial real-estate glut continues or worsens, and if building vacancies rise, existing tenants could renegotiate at lower rents when their current leases expire. That would cause investment returns to fall, affecting the ability of insurers to meet some of their obligations.

My short-selling source isn't yet citing specific names. He adds that it may be two or three years before there's a public outcry over insurance-industry exposure to commercial real estate, or before he initiates his first short sale. But he's willing to be patient. He watched First Exec for eight years before he started shorting it two years ago when it was in the high teens. It now sells for a few cents, and no longer actively trades on a major exchange.

FEAR AND LOATHING: Fed-watcher Adrian Van Eck, editor of the Holliston, Mass.-based Money-Forecast Letter, is telling subscribers to fasten their seat belts. He says, "America's economic and financial troubles are just beginning. They'll get worse. Within a few months, perhaps within just a few weeks, events will become so obvious that Wall Street 'spin control' experts will not be able to explain them away any longer." Van Eck, who last raised his red flag in August 1987, has been saying that the recession will be deeper and last longer than most economists predict.

UPDATE: A few weeks ago I made a big deal about the likelihood that Del Monte Foods would take advantage of the hot market for new-stock issues and soon go public. So far, no Del Monte. The reason, I am told, is that Del Monte's investment banker, Merrill Lynch -- one of the most active investment bankers during the current frenzy -- has too many other deals on the burner.

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