Once it invented the lightbulb, General Electric Co. (NYSE: GE) spent the better part of the next 105 years expanding everywhere into consumer and industrial electronics. If it had an 'ON' switch, chances are GE made it.
That's how the company became a solid investment. In fact, on Wall Street, GE was known as a "widows and orphans" stock – completely safe for regular investors to buy and hold. It was the bluest of the blue chips – a decent dividend-payer and a stock to pass on to your grandchildren.
The company continued to diversify into content creation and distribution, software, pharmaceuticals, healthcare, and even capital.
And then, in 2008, the company imploded – spectacularly. It was that capital division that did it in the end.
GE Capital was very nearly fatal to the company. The king of American industry had to go begging for emergency funding of $74 billion to cover its financing needs. Millions of hitherto confident shareholders got slaughtered and watched the stock drop from a high of $42 down to $5.73.
What's happened since is something every investor needs to know, whether you're considering picking up GE shares, selling them, or hanging onto them…
How GE Got into the Money Business (and Nearly Died There)
GE initially ventured into consumer finance during the Great Depression to facilitate sales of its appliances.
The company's zest for growth and genius for meeting unfulfilled customer needs soon sent the capital business skyrocketing. Why not help customers buy your own products – especially when you collect the interest?
For decades, a veritable army of capital-related businesses financed purchases of nearly everything GE made, from consumer products like their "Daylite" black and white televisions to commercial products like their GEnx turbofans for Boeing 747 jet airliners.
GE's Capital businesses did everything from issuing "white label" credit cards and providing mortgage money to financing the company's energy and capital markets trading operations.
By 2008, more than half of the company's $18 billion earnings that year were derived from its GE Capital-related businesses.
Things were getting "complicated"…
Technically, although the company owned only two small banks, which combined accounted for less than 3% of the company's assets, by 2008, GE was the nation's seventh-largest bank in terms of loan assets, putting it between Morgan Stanley and U.S. Bancorp.
And while GE Capital wasn't an FDIC-insured, Federal Reserve-regulated bank, in terms of "assets" it had in fact become the nation's largest "shadow bank."
Instead of relying on a huge deposit base, GE Capital's businesses financed loans and capital markets operations by issuing short-term commercial paper, which it constantly had to roll over. Because GE itself naturally sported a AAA rating, GE Capital's cost of money, or the interest it paid on its commercial paper and other borrowing facilities, was advantageously low, allowing it to grow and compete toe-to-toe with big banks and finance companies.
When the commercial paper market and other short-term funding sources came to a standstill in the autumn of 2008, GE very suddenly couldn't finance its ongoing capital, consumer or commercial loan, leasing, or lending businesses.
Because of its two small banks, GE turned to the FDIC for help. With a few twists and turns of existing banking regulations, GE got access to FDIC backing, which allowed the Federal Reserve to facilitate its capital needs.
The company's escape was a very near thing. While the company survived – barely – its future was uncertain.
GE's Daring Bid for Survival Hinged on Two Things
Its future as a viable concern, let alone a desirable stock, depended on the answers to two big questions:
- Would it continue its risky (but profitable) de facto banking operations in capital markets and consumer and commercial credit?
- Would it shed its industrial operations to raise much-needed cash?
The company went another way – and here's where it gets interesting.
About the Author
Shah Gilani boasts a financial pedigree unlike any other. He ran his first hedge fund in 1982 from his seat on the floor of the Chicago Board of Options Exchange. When options on the Standard & Poor's 100 began trading on March 11, 1983, Shah worked in "the pit" as a market maker.
The work he did laid the foundation for what would later become the VIX - to this day one of the most widely used indicators worldwide. After leaving Chicago to run the futures and options division of the British banking giant Lloyd's TSB, Shah moved up to Roosevelt & Cross Inc., an old-line New York boutique firm. There he originated and ran a packaged fixed-income trading desk, and established that company's "listed" and OTC trading desks.
Shah founded a second hedge fund in 1999, which he ran until 2003.
Shah's vast network of contacts includes the biggest players on Wall Street and in international finance. These contacts give him the real story - when others only get what the investment banks want them to see.
Today, as editor of Hyperdrive Portfolio, Shah presents his legion of subscribers with massive profit opportunities that result from paradigm shifts in the way we work, play, and live.
Shah is a frequent guest on CNBC, Forbes, and MarketWatch, and you can catch him every week on Fox Business's Varney & Co.