Update: Hertz on Wednesday afternoon suspended plans to sell shares “pending further understanding of the nature and timing” of an SEC review, according to a filing
The endless tale of Hertz’s high-profile bankruptcy and its unlikely starring role in outsized returns logged by retail stock traders, took another turn for the absurd on Wednesday.
“In this particular situation we have let the company know that we have comments on their disclosure”, SEC Chairman Jay Clayton told CNBC.
He was referring to Hertz’s highly dubious plan to sell $500 million in stock, as disclosed in a Monday filing.
This is, to mind anyway, one of the silliest stories in recent market history. Hertz is bankrupt. And while a minority of the retail investors who are in part responsible for the tenfold increase in the stock shown in the figure may be aware of what that means, most of them likely aren’t.
Hertz was kind enough to spell it out this week — you know, on the off chance anyone with a Robinhood account knows what an 8-K is. To wit:
The price of our common stock has been volatile following the commencement of the Chapter 11 Cases and may decrease in value or become worthless. Accordingly, any trading in our common stock during the pendency of our Chapter 11 Cases is highly speculative and poses substantial risks to purchasers of our common stock. Recoveries in the Chapter 11 Cases for holders of common stock, if any, will depend upon our ability to negotiate and confirm a plan, the terms of such plan, the recovery of our business from the COVID-19 pandemic, if any, and the value of our assets. Although we cannot predict how our common stock will be treated under a plan, we expect that common stock holders would not receive a recovery through any plan unless the holders of more senior claims and interests, such as secured and unsecured indebtedness (which is currently trading at a significant discount), are paid in full, which would require a significant and rapid and currently unanticipated improvement in business conditions to pre-COVID-19 or close to pre-COVID-19 levels. We also expect our stockholders’ equity to decrease as we use cash on hand to support our operations in bankruptcy. Consequently, there is a significant risk that the holders of our common stock will receive no recovery under the Chapter 11 Cases and that our common stock will be worthless.
At the risk of employing excessive derision, the chances that anyone naive enough to be trading these shares bothered to read the filing are slim.
It’s also highly unlikely that the gullible souls involved in bidding up the stock in bankruptcy are apprised of the extent to which the planned share sale effectively represents the company taking advantage of retail investors’ stupidity to raise free money for people higher up in the capital structure. The NYSE was in the process of delisting the shares, even as Hertz planned to sell $500 million worth.
Again, this is so ridiculous that I hesitate to mention it, other than as an addendum to the longer discussion on the retail mania in “insolvency stocks”, which was itself a subject I hesitated to broach given how inherently ludicrous it all is.
SocGen covered this pretty well in a Monday note. Hertz has become the poster child for irrational behavior among retail traders, and the bank’s Andrew Lapthorne explained the psychology behind it as follows.
Let’s assume you have zero information on a stock apart from the price chart, which shows that it bottomed intraday at below 50c versus its 2020 peak of more than $20. So for a 50c outlay you could gain almost $20 — an incredible return approaching 4000%. These potential lottery ticket returns can generate a spike in volumes, which has occurred in the case of Hertz Group, but which in turn pushes the share price up to the extent that the lottery ticket pay-off drops away. So now you are now having to pay $5.50 to get a potential gain of $14.50, so the potential upside is now at “just” over 260% — the ‘option’ costs more but is worth less.
Of course, the problem is that this is an “option” on nothing, something SocGen underscored.
“Now of course this is all bizarre as there is no obvious reason to expect Hertz to regain its previous high — after all it has filed under Chapter XI”, Lapthorne wrote.
Right. And Hertz made that abundantly clear in their filing.
I suppose you can’t really blame the company for trying to milk this for all it’s worth, but then again, given how remote the prospects are for common stock owners in this scenario, one can’t help but want to chide the company.
As Bloomberg notes, “Hertz bonds alone are about $2.3 billion underwater, and that amount doesn’t even include what is owed to the banks and any lease payments, interest or depreciation that the courts could make the company return to owners of securities backed by its rental cars”.
In other words, buying common shares in Hertz is akin to lighting money on fire, something everyone with any sense about them knows.
“In most cases when you let a company know that the SEC has comments on their disclosure they do not go forward until those comments are resolved”, chair Clayton went on to tell CNBC, in the same Wednesday interview cited above.
Count me incredulous that Hertz is even allowed to consider this. In my opinion, somebody has to save retail investors from themselves in this situation, especially when the company is so obviously seeking to capitalize on what it has to know is widespread ignorance among a certain class of investors.
In a separate interview with CNBC Wednesday, former SEC chair Harvey Pitt was similarly dubious.
“To my way of thinking, an investment banking firm runs the risk of effectively selling a litigation claim, because at the end of the day, if this operates the way it ought to, it’s like musical chairs and someone is going to be left without a seat”, Pitt remarked.
He went on to note that while the SEC can’t stop this from going forward, the assumption has always been that nobody – not even the stupidest of the stupid – would be gullible enough to buy shares that come pre-packaged with a “worthless” label.
“As an intellectual proposition, most securities experts had always thought you could offer garbage for sale to the public as long as you said ‘we are offering you garbage, and you really shouldn’t buy this but you have a chance to buy it'”, Pitt said. “No one ever really anticipated that people would be gullible enough to do that”.
Welcome to 2020, Harvey.
Read more: Goodbye, Hertz. Don’t Come Back.