Today's unexpectedly low GDP figure caught many economists by surprise. The "advance" estimate for second quarter growth was only 2.5%. The figure didn't surprise me, however. After all, just a few weeks ago on Kudlow & Co., I predicted 2.5-3.0% growth.
I am surprised, however, by the stock market's reaction. We have slowing economic growth and rising inflation. Yet the market responds with a strong rally. Why? Because the latest GDP data increases the odds that the Fed will pause at its August 8 meeting.
Investors are being myopic. The end of interest rate increases is good news, but not in the face of slowing growth and rising inflation. The Fed may pause, but it's also likely to continue hiking rates in the near future if inflation keeps rising. I'll have more to say about this in the August issue of the Forbes Growth Investor. In the meantime, you can read Beware The Stagflation Set Up, which I wrote for Forbes.com.
Friday, July 28, 2006
Sunday, July 23, 2006
One Reyes Leads to Another
Greg Reyes, former CEO of Brocade, is the first executive to be charged for options backdating by the SEC. Although this story was in the news for several days, I was surprised that no one mentioned that there is another high-ranking executive named Reyes in Silicon Valley. His name is George Reyes, the current CFO of Google. A little research on the Internet indicates that George and Greg are related. I pointed this out on Kudlow & Company last Friday and said we could see a huge sell-off in stocks if the backdating scandal were to spread to a company as prominent as Google.
Do I think Google is guilty of backdating options? It's possible, but I doubt it. So far, the companies being investigated appear to have engaged in this practice prior to the enactment of the Sarbanes-Oxley Act in June 2002. Google wasn't a publicly-traded company until 2004. The required Sarbanes-Oxley controls make it more difficult for companies to get away with backdating today.
Yet even if it's more difficult to do it now, that doesn't mean that no one is doing it. After all, it isn't even clear yet if backdating is illegal. Almost everyone agrees it is unfair and perhaps unethical, but until someone is actually convicted, it won't be clear if it is illegal. After all, there is no law on the books that explicitly bans backdating. So the SEC has to argue that backdating is equivalent to fraud. That may be the case, but it's up to the courts to make the decision.
Do I think Google is guilty of backdating options? It's possible, but I doubt it. So far, the companies being investigated appear to have engaged in this practice prior to the enactment of the Sarbanes-Oxley Act in June 2002. Google wasn't a publicly-traded company until 2004. The required Sarbanes-Oxley controls make it more difficult for companies to get away with backdating today.
Yet even if it's more difficult to do it now, that doesn't mean that no one is doing it. After all, it isn't even clear yet if backdating is illegal. Almost everyone agrees it is unfair and perhaps unethical, but until someone is actually convicted, it won't be clear if it is illegal. After all, there is no law on the books that explicitly bans backdating. So the SEC has to argue that backdating is equivalent to fraud. That may be the case, but it's up to the courts to make the decision.
Friday, July 21, 2006
What's Up With Dell?
Obviously, not much. In fact, the stock is down about 20% since I warned investors to stay away from it on May 18. (See Earnings Guidance Revisited.)
Even though the stock had already lost about half its value during the prior year, I was convinced it would move lower because on May 18 Dell announced that it would no longer provide earnings guidance. Here is Dell's exact statement:
"Dell ended its practice of providing specific quarterly guidance for revenue and earnings per share and said it would focus forward-looking statements on long-term specific company and industry factors influencing performance. Dell does expect financial results for the second fiscal quarter of fiscal 2007 to be similar to its first quarter results."
Eliminating guidance is an ominous sign. Even though some individuals such as Warren Buffet claim that eliminating guidance is good for investors, the truth is that the refusal to provide guidance almost always coincides with a period of slowing growth. Coca-Cola's shares, for example, have barely budged since Warren Buffett convinced its management to stop providing guidance more than three years ago.
Yet today Dell came out with a warning. It gave explicit guidance for second quarter revenue and earnings. Both figures fell short of analysts' expectations. At one point, the stock was down more than $3 per share in reaction.
So is Dell providing guidance or not? Perhaps it just wanted to clarify that results would not "be similar to" the first quarter. Instead, it has created more confusion.
Some companies have a policy of providing guidance. Other companies have a policy of not providing guidance. Dell's policy seems to be that it won't provide guidance, except when it does.
Even though the stock had already lost about half its value during the prior year, I was convinced it would move lower because on May 18 Dell announced that it would no longer provide earnings guidance. Here is Dell's exact statement:
"Dell ended its practice of providing specific quarterly guidance for revenue and earnings per share and said it would focus forward-looking statements on long-term specific company and industry factors influencing performance. Dell does expect financial results for the second fiscal quarter of fiscal 2007 to be similar to its first quarter results."
Eliminating guidance is an ominous sign. Even though some individuals such as Warren Buffet claim that eliminating guidance is good for investors, the truth is that the refusal to provide guidance almost always coincides with a period of slowing growth. Coca-Cola's shares, for example, have barely budged since Warren Buffett convinced its management to stop providing guidance more than three years ago.
Yet today Dell came out with a warning. It gave explicit guidance for second quarter revenue and earnings. Both figures fell short of analysts' expectations. At one point, the stock was down more than $3 per share in reaction.
So is Dell providing guidance or not? Perhaps it just wanted to clarify that results would not "be similar to" the first quarter. Instead, it has created more confusion.
Some companies have a policy of providing guidance. Other companies have a policy of not providing guidance. Dell's policy seems to be that it won't provide guidance, except when it does.
Friday, July 14, 2006
Middle East Hostilities May Cause Fed to Pause in August
The Dow is down more than 400 points thus far this month. No doubt, the selling was precipitated by the "new" war in the Middle East as Israel takes aggressive action to end Hamas and Hezbollah attacks.
In my view, the surprise is not that investors are selling, but that stocks are not doing worse. Even oil prices haven't really jumped as much I'd expect given the circumstances--at least not yet. The current level of violence, and the real potential to draw Syria and Iran into the conflict, could cause a much stronger sell-off in the markets. Oil could also go much higher. After all, Iran has often threatened in the past to close the Straits of Hormuz in the event of hostilities. Because so much of the world's oil must pass through the Straits, if Iran makes good on this threat, $100 per barrel or more would be a real possibility.
Readers of this blog know that I've been bearish on stocks for quite some time. My concerns have centered around high energy prices, rising interest rates, and the end of the housing boom. I remain bearish today. But if there is any good news, it's that I believe there is now a good chance that the Fed will forgo another interest rate hike at its August 8 meeting. Higher energy prices and further evidence of a slowing housing market may be enough to cause the Fed to worry more about an economic slowdown and less about rising inflation.
In my view, the surprise is not that investors are selling, but that stocks are not doing worse. Even oil prices haven't really jumped as much I'd expect given the circumstances--at least not yet. The current level of violence, and the real potential to draw Syria and Iran into the conflict, could cause a much stronger sell-off in the markets. Oil could also go much higher. After all, Iran has often threatened in the past to close the Straits of Hormuz in the event of hostilities. Because so much of the world's oil must pass through the Straits, if Iran makes good on this threat, $100 per barrel or more would be a real possibility.
Readers of this blog know that I've been bearish on stocks for quite some time. My concerns have centered around high energy prices, rising interest rates, and the end of the housing boom. I remain bearish today. But if there is any good news, it's that I believe there is now a good chance that the Fed will forgo another interest rate hike at its August 8 meeting. Higher energy prices and further evidence of a slowing housing market may be enough to cause the Fed to worry more about an economic slowdown and less about rising inflation.
Wednesday, July 12, 2006
Estate Planning
Investors are focused on making money. Unfortunately, many ignore the need to properly plan for how their estate will be distributed after death. Fortunately, Warren Buffett's plan to donate approximately $31 billion to the Bill & Melinda Gates Foundation has suddenly made estate planning an issue of keen interest.
Yet some continue to believe that estate planning is of concern only to the very wealthy. They think the primary purpose of estate planning is tax minimization. As long as the value of their estate is below a certain level, they believe there isn't anything to worry about. And since it looks like Congress will raise the tax-free limitation on estates, such thinking is likely to become even more entrenched.
However, tax considerations are not the only reason to have an estate plan. For example, an estate plan includes a will. If you were to die without a will, your survivors would have to deal with probate. Not having a will means that you are choosing to allow the courts to decide who gets what. What's worse, probate can take a substantial amount of time, and it could end up costing more than a good estate plan would have cost in the first place. Furthermore, while an estate is in probate, the heirs don't have access to the assets.
Yesterday, I had an interesting discussion with Anthony Barsamian, Managing Partner of Hutchings Barsamian, a Wellesley, Massachusetts law firm. Anthony specializes in estate planning. We talked about revocable living trusts, the House bill to raise the tax-free limitations on estates to $5 million, how much it costs to create an estate plan, etc. This MoneyMasters interview will be available for viewing tomorrow, July 13.
Yet some continue to believe that estate planning is of concern only to the very wealthy. They think the primary purpose of estate planning is tax minimization. As long as the value of their estate is below a certain level, they believe there isn't anything to worry about. And since it looks like Congress will raise the tax-free limitation on estates, such thinking is likely to become even more entrenched.
However, tax considerations are not the only reason to have an estate plan. For example, an estate plan includes a will. If you were to die without a will, your survivors would have to deal with probate. Not having a will means that you are choosing to allow the courts to decide who gets what. What's worse, probate can take a substantial amount of time, and it could end up costing more than a good estate plan would have cost in the first place. Furthermore, while an estate is in probate, the heirs don't have access to the assets.
Yesterday, I had an interesting discussion with Anthony Barsamian, Managing Partner of Hutchings Barsamian, a Wellesley, Massachusetts law firm. Anthony specializes in estate planning. We talked about revocable living trusts, the House bill to raise the tax-free limitations on estates to $5 million, how much it costs to create an estate plan, etc. This MoneyMasters interview will be available for viewing tomorrow, July 13.
Thursday, July 06, 2006
More Evidence of a Housing Slowdown
The National Association of Realtors (NAR) puts out an interesting index, which until recently, received little notice. It's called the Pending Home Sales Index (PHSI), which the NAR has been publishing only since 2001. A pending sale is defined as one where a contract has been signed, but the transaction hasn't yet closed. Most analysts pay closer attention to existing home sales, which are also published by the NAR, than they do to pending home sales. Yet pending sales are a good indicator of what existing sales will look like one or two months later. This is because pending sales typically close within that period.
Today, the NAR released the preliminary PHSI for May. There was good news and bad news. The good news is that the index was up 1.3% from the revised April figure. April was down 3.6% from March, so it appears that activity stabilized. In fact, today's report puts an end to three consecutive monthly declines in the index. The bad news, however, is that the May figure is down 10.1% from a year ago. That's a little better than the 11.7% year-over-year decline in April, but that's no consolation. The index is closely approaching levels not seen since 2003.
While existing home sales are still healthy, they are well off their 2005 peaks. Indeed, full-year sales for 2006 are likely to fall below 2004 levels. Furthermore, inventories are growing rapidly. There were 3.6 million homes available for sale in May, 41% more than in May 2005. We also know that new home sales are slowing. Several homebuilders are now offering incentives in a rapidly slowing market. So far, home prices are holding up fairly well, yet I have no doubt that prices will be the next shoe to drop.
Shares of many homebuilders look extremely cheap. They are off about 50% from a year ago, and they're selling for very low multiples. Nonetheless, I would still avoid this sector. A cheap stock can get a whole lot cheaper when growth is falling. In this case, growth is actually turning negative.
Today, the NAR released the preliminary PHSI for May. There was good news and bad news. The good news is that the index was up 1.3% from the revised April figure. April was down 3.6% from March, so it appears that activity stabilized. In fact, today's report puts an end to three consecutive monthly declines in the index. The bad news, however, is that the May figure is down 10.1% from a year ago. That's a little better than the 11.7% year-over-year decline in April, but that's no consolation. The index is closely approaching levels not seen since 2003.
While existing home sales are still healthy, they are well off their 2005 peaks. Indeed, full-year sales for 2006 are likely to fall below 2004 levels. Furthermore, inventories are growing rapidly. There were 3.6 million homes available for sale in May, 41% more than in May 2005. We also know that new home sales are slowing. Several homebuilders are now offering incentives in a rapidly slowing market. So far, home prices are holding up fairly well, yet I have no doubt that prices will be the next shoe to drop.
Shares of many homebuilders look extremely cheap. They are off about 50% from a year ago, and they're selling for very low multiples. Nonetheless, I would still avoid this sector. A cheap stock can get a whole lot cheaper when growth is falling. In this case, growth is actually turning negative.
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