GLG’s reverse merger path towards becoming a publicly listed entity caught a lot of people offguard. If Blackstone got targeted by Congress because they were too flashy, then I wonder what the excuse will be if GLG gets some heat because this was a pretty subtle way of doing things. And unfortunately, I expect Washington will find numerous ways to question and pressure this deal. After all, I don’t think they like getting surprised so much that they look unprepared for the fight. At least BX gave the politicians a ton of time to soak up the publicity they seek. So prepare yourself to hear about a lack of regulatory oversight on “blank check” companies and reverse mergers. Oh and by the way, the protectionists will have a chance to rile up the troops over the fact that a Dubai company will have a 3% stake in GLG. Unfortunately, the political targeting of Hedge Funds and Private Equity is not over whether that means taxation, regulation, or whatever other means they plan to employ.

The market cap of Nintendo passed Sony’s and Matsushita’s this week. The Wii console has been a fantastic success and so has the DS handheld game player. There’s no doubt that Nintendo is the king of video game equipment but life is not all about games. I don’t cover NTDOY at HEDGEfolios because it doesn’t meet my requirements but when I saw this market cap story, I decided to check out what I have been missing.

Even though I don’t play video games, I am impressed with Nintendo’s increasing dominance but not their stock at this point. My biggest issue is that NTDOY is a pureplay in an industry that people want and do not need. I am not going to call them a fad, but there are similar risk elements in buying a stock that is so narrowly focused and subject to competition from the next new hot thing. Nintendo is at the pinnacle of its industry and given my value orientation, I just don’t get too excited about buying a risky stock at a peak. A good entry would have been last June at $22, not now that NTDOY is trading 100% higher. Obviously, I am not giving a recommendation to buy or sell this or any stock, but the valuation is concerning to me.  SNE has diversified products and revenues 8 times greater than NTDOY with a forward PE about 50% less expensive.  Note that I have a DOWN signal on SNE since June 11, so I am not overly excited about that one either.  If you like playing video games or like playing games with momentum stocks, NTDOY seems about as attractive as its products.  Believing that its market cap will stay above SNE in the long term - that is not such a good game strategy.

The major media and financial journalists seem to unanimously agree that BX had a first day gain of 13%. That’s certainly one way of looking at it, but not mine. I tend to evaluate an IPO based upon its first day trading performance, not the percentage underpricing of the issue. In this case, the first BX trades went off at $36.45 which was 17.6% above the offering price. This is not excessive and was consistent with historical underpricing of about 12-15% in the years preceding and following the bubble of 1999/2000 when the average first day return was about 65% (ahhh the good old days.)

There’s a lot of great research on the pluses and minuses of underpricing, but I’ll spare you my lecture on finance theory and stick to the real world of what happened yesterday. There was almost an impossible chance that people as smart as Schwarzman, Peterson et al would leave too much money on the table by a ridiculous underpricing. It’s kinda tough for the investment banks to misprice such a high profile client in the same industry. Don’t you think?

But here’s the reality…unless you were part of the underwriting group and a few other lucky investors, you weren’t calculating your basis at $31 and the resulting 13% gain. Given that the bulging crowd surrounding the floor trading post started off the shares at $36.45 and only a few sold at a high of $38 during the day - it wasn’t an outrageous profit for anyone trading in the secondary market.

I know the tough environment in financials and almost every other stock during the day didn’t exactly spur it to huge gains, but I think the BX action was great in one respect - POLITICAL. We already know the absurd targeting on Schwarzman’s back from Washington with “national security concerns” over China’s stake and the threat of increasing taxes on Private Equity, Hedge Funds and all the other less exciting entities that will get similarly screwed in the process. So when I saw BX didn’t go through the roof, I felt a little relieved that the politicians wouldn’t have extra ammunition to stir the populist envy.

As I said, I don’t look at the first day of BX as a gain. I calculate it as a 3.8% loss - the difference between the first floor trade and the close of $35.06. The VWAP for the first day was $36.27 and I expect that most investors who bought yesterday are holding this stock at prices beneath their cost basis. It was a well-priced and well-supported offering but one day is not a scorecard whether its a gazillion % return for Schwarzman, a 13% return for underwriters, or a loss for most of the crowd. BX has a long way to go before it can be adequately measured and during that journey investors will have to value it based upon the same fundamental metrics that Blackstone uses.  Let’s give the market some time to figure out the right price before we judge this IPO.

BusinessWeek’s Justin Bachman wrote a great summary of Blackstone Friday on Wall Street yesterday and quoted some of my thoughts.  Bachman’s article was “great” because it presented a multi-faceted and balanced look at both the media circus and the possible investing implications.   Now that we got the “IPO of the Year” out of the way, investors will have a better chance to contemplate the other positions in their portfolio.  At least I hope so.

Did Bear Stearns draw the short straw? That’s what a group does to pick the unlucky guy that needs to sacrifice himself for the good of the team. I keep looking at this BSC hedge funds / CDO / subprime fiasco and feel like they either were the only ones to make a mistake or they drew a short one.

What’s curious to me is the odd way this got exposed. I seriously doubt that Merrill didn’t contemplate the consequences of their actions before telling the market of their plans to pressure BSC and more importantly, the entire CDO market. Wednesday’s afternoon drop gave a very quick measure of letting this Pandora all the way out of the box. It should surprise no one that Merrill backed off. It was much better for the team when “CDO” were just three letters that other investors heard and tried to use in a sentence at cocktail parties.

When no one ever really liquidates an asset and all we see is a product category that has expanded past $1 trillion, it’s easy to just assume lofty pricing that will only head higher. Now that we had this little episode, the players in this crowd and anyone who is giving this some thought will know the risk of trying to sell it. And that is a scary point - if a small group is getting nervous about products that they can only sell to each other, what do you do? Somehow a CDO ETF doesn’t sound so good. So it looks like the guys that created these products will have to find a way to deal with them on their own.

If the CDO market is entirely stable other than this one problem at BSC and with subprime mortgage risk, everything is okay. If not, I’d hate to have to draw straws and be the next member of the team to take a hit.

So pre-opening electronic trades for BX in the $40’s were taken off the tape and canceled because the NYSE floor trades had not yet opened. Nice! In auctions there are “shills” that are used to hype prices and run them up. These pre-opening BX bids look like shills to me or if nothing else, free options. CNBC was hyping those trades with their indications being “reported” by Bob Pisani at Knight’s offices. When the floor opened up did they think that we would all just forget about those higher electronic bids? I don’t know the solution but this conflict between the electronic and floor systems really should be handled better.

CDOs have been the exclusive territory of large institutional investors to cover the risk of using debt to fuel the equity boom. It fueled subprime and the effect that mortgage debt had to push the consumer. It fueled Private Equity and the LBO debt to push the speculative premium in M&A.

By repackaging and bundling these individual obligations, it’s a very sophisticated way to reduce risk spreads and keep defaults in identifiable tranches from signaling weakness. In the subprime example, it allowed the risk and default of lower tier borrowers to be hidden for a while. All that time, the liquidity was permitted to continue running towards these deals. That’s one example but it is unwise and unfair to extrapolate that all CDOs are in as much trouble as the mortgage ones (subprime/Alt-A). Only time will tell whether we have similar problems with other derivatives.

The oft-mentioned “conundrum” associated with debt pricing has earned its definition because it was so hard to explain why yield curves and risk premiums were so hard to explain. It was inconceivable that we could be piling on so much debt to almost every asset class and not see the normal effects. I suggest that CDOs have something to do with the conundrum.

The probability Blackstone’s IPO will go poorly is almost zero. With a ten times oversubscription and a strong pricing, the first hurdle has been achieved with the level of success that team has consistently delivered. Following the open, there is enough momentum in the market and demand from everyone shut out from participating will keep this rolling for a while. There will be so much institutional support for this transaction because a poor showing for BX will be seen as an indictment of Private Equity’s future.  The big players have way too much to lose by allowing BX to ruin their momentum…….

Oh hell - who cares about all this crap. You can and will hear that from every media outlet on the planet so I am going to concentrate on other stuff. It’s going to be a very distracting story and investors will need to make sure they don’t get caught up in it.  There are many other important things going on today and while the BX trading will likely give it some positive buzz, 1 stock is never enough to overshadow thousands of others.

CDO is a term that sophisticated investors talked about but I doubt many really understood. If you had asked 100 retail investors a few weeks ago if they had heard about CDOs, I am guessing about 10% might have said yes. But if you asked any of those ten if they knew what CDOs are, I suspect only one or two would come close. When we are not aware of something, we are not capable of being afraid of it. When we become aware of something that we do not understand - that is when fear sets in.

Now the situation is changing and everyone is hearing about these financial instruments and yet, I am not so sure investors are benefiting from trying to get out of their ignorance. CDOs are extremely complex pools of risk that have been like a giant junk drawer for credit risk that no one wanted to price. Some estimates have the CDO market at about $1 trillion dollars, but given that they are derivatives, the real impact on the underlying assets they are tied to is much higher. And remember that there are many forms of CDOs, not just mortgage backed. So I am extremely concerned that the lack of previous familiarity and the complexity of CDOs will cause investors to overreact to what they do not understand.

As I expected, Bear Stearns and Merrill found a way to temporarily avoid a huge meltdown from the marking to market of these products. But what has been exposed in the process is extremely threatening to almost every aspect of the markets and now that the genie is out of the bottle, it will be tough to shove CDOs back into the junk drawer or under the rug. CDOs are too complex for people that are not investing in them and the majority of investors don’t play in this game. So when they hear that CDOs are a threat to their assets, it’s a dangerous situation.

When first we practice to deceive.  On Monday, I suggested that the Blackstone tax proposal was Rushed Legislation and asked the question, “What is different between the Fortress IPO and Blackstone’s?”  Except for a few people used to hearing my conspiracy theories, I decided to keep my suspicion of the real reason to myself.  What I was hinting with my previous question was - CHINA.  It’s the main difference between the Fortress deal and Blackstone’s.  Sadly, I had hoped that it would not turn out to be true but Sen. Webb (D-VA) came out with his protectionist claim spun as a national security concern.  We did it with Unocal and Dubai Ports World - now it’s Blackstone.   The tax proposal was more than a ruse, but make no mistake - protectionism is a big theme for our Congress.  Sen. Clinton (D-NY) wants to limit China’s investment in US debt assets and Sen. Webb wants to prevent China’s investment in US equity assets.  It’s another sad day for America and capitalism.