Ian Bremmer, founder of the Eurasia Group, is a political risk expert. Investors all over the world pay big bucks to hear his views on what various governments might or might not do. At the moment, he is in Japan--just one stop on a tour visiting clients. Bremmer says "Everywhere I turn on this Asia trip, folks have been pressing me with their concerns about the deterioration of the U.S.-China relationship...and what it means for them."
Indeed, the relationship between these two key countries appears to be deteriorating rapidly. I've written before about the looming trade war brewing between the U.S. and China. America is pressing China to revalue its currency and Google is threatening to leave China entirely. But the Chinese are also flexing their muscles against other nations. They have detained an Australian businessman who works for Rio Tinto, accusing him of taking bribes.
Bremmer is the author of several books. Three years ago, he wrote the "The J Curve: A New Way to Understand How Nations Rise and Fall." A year ago, he wrote "The Fat Tail: The Power of Political Knowledge for Strategic Investing." His newest book, which comes out in May, sports a title that is anything but subtle. It's called "The End of the Free Market: Who Wins the War Between States and Corporations?" No doubt, you can make a good guess at the answer to that question.
In the Introduction to his newest book, Bremmer begins with another question--one posed by a Chinese diplomat during a meeting that took place in the midst of the global financial crisis. The diplomat asked Bremmer, "Now that the free market has failed, what do you think is the proper role for the state in the economy?"
There is no denying that in almost every country, government is exploiting the recent crisis by assuming a bigger role in the economy. This is true even in the U.S.--once considered a bastion of free market capitalism. The U.S. government now owns substantial equity stakes in formerly blue chip companies, and it is getting involved in everything from strategic managerial decision making to executive compensation.
However, as Bremmer explains, the free market has not failed and we are not witnessing a resurgence of communism. Instead, what we are seeing is a new system called state capitalism. It is a system in which governments use capitalism and free markets to advance their own power and interests.
Bremmer's book does not focus on China or the U.S. alone. In fact, it provides an excellent around-the-world tour of almost every country that has an economy of any meaningful size. All investors, professional or novice, who are looking for global diversification, will benefit from a careful read of the insights provided in this book. Nonetheless, the most interesting and fascinating portions of the book focus on the world's largest and fastest growing economies.
That includes China. The book does an excellent job of explaining how the Chinese government uses state-controlled companies to advance its policies. It uses its power to make sure these companies have every possible advantage. In this way, the government is literally engineering China's development.
As communist governments collapsed all over the world, communists in China maintained power through brute force, best exemplified by the quashing of the Tiananmen Square protests. Yet China's communists also understood that command economies could not effectively compete against free markets. The trick, as far as they were concerned, was to grow the economy while maintaining political control. Their solution was state capitalism, an ideal that has spread around the globe--even to the U.S.
Monday, March 22, 2010
Friday, March 19, 2010
More Info Needed on Pay for Performance
James Reda, founder of James F. Reda & Associates, is a leading executive compensation expert. His firm just released a study of pay and performance metrics for senior executives at the 200 largest companies in the S&P 500 Index. The study is based on information submitted by corporations during the 2009 proxy season.
Of course, executive compensation has long been a hot button issue for corporate watchdogs. Investors often complain about compensation that appears excessive, especially compensation at the CEO level. This is a particularly serious problem when performance results are poor.
In addition to paying a salary, most large companies reward their top executives through short term and long term incentive plans. Short term plans are usually based on pre-determined fixed targets such as EPS or net income. Long term plans rely on relative performance measures such as total shareholder return relative to the average return for other companies in the same industry. The SEC requires corporations to disclose their compensation policies and performance targets for both short term and long term incentive performance measures.
Unfortunately, Reda concludes, "Reporting of performance metrics and related payouts has not improved at the largest companies in the U.S. In fact, the numbers have deteriorated over the last year." To a large extent, investors are not getting the information the SEC says corporations must give them. Reda says this is because companies believe that disclosing specific targets could result in competitive harm. They also do not want to be held to specific published targets. They would rather keep their performance goals flexible, adjusting them as they see fit.
When share prices are going up, stockholders do not get worked up about compensation issues. After all, they usually do not have a problem with the CEO and other executives making lots of money if they, too, are making good money. However, shareholders get very upset when the CEO rakes in millions of dollars of compensation when the company is reporting net losses and the share price is sinking. Pay for performance makes a lot of sense. However, as Reda's study shows, existing plans and practices leave a lot to be desired.
Of course, executive compensation has long been a hot button issue for corporate watchdogs. Investors often complain about compensation that appears excessive, especially compensation at the CEO level. This is a particularly serious problem when performance results are poor.
In addition to paying a salary, most large companies reward their top executives through short term and long term incentive plans. Short term plans are usually based on pre-determined fixed targets such as EPS or net income. Long term plans rely on relative performance measures such as total shareholder return relative to the average return for other companies in the same industry. The SEC requires corporations to disclose their compensation policies and performance targets for both short term and long term incentive performance measures.
Unfortunately, Reda concludes, "Reporting of performance metrics and related payouts has not improved at the largest companies in the U.S. In fact, the numbers have deteriorated over the last year." To a large extent, investors are not getting the information the SEC says corporations must give them. Reda says this is because companies believe that disclosing specific targets could result in competitive harm. They also do not want to be held to specific published targets. They would rather keep their performance goals flexible, adjusting them as they see fit.
When share prices are going up, stockholders do not get worked up about compensation issues. After all, they usually do not have a problem with the CEO and other executives making lots of money if they, too, are making good money. However, shareholders get very upset when the CEO rakes in millions of dollars of compensation when the company is reporting net losses and the share price is sinking. Pay for performance makes a lot of sense. However, as Reda's study shows, existing plans and practices leave a lot to be desired.
Wednesday, March 17, 2010
The Looming Trade War With China
In recent weeks, Chinese leaders have stepped up the verbal assault on the West by attacking U.S. policy as well as U.S. and European corporations.
Due to the global recession and falling demand, some Chinese factories had to lay off workers and close their doors. While there has been some talk of finding ways to boost domestic consumption, that's a tough sell with China's leaders. After all, consumption still has a bitter taste on a communist tongue. Chinese leaders would prefer instead to see the export ball rolling once again. Furthermore, they blame free market capitalism for the worldwide financial crisis and recession. They don't take kindly to U.S. politicians lecturing them about a weak currency. On the contrary, they say America is the one that is purposely debasing the value of its currency in order to boost its exports and raise the cost of China's goods for American consumers. For good measure, they have even complained about U.S. arms sales to Taiwan and President Obama's temerity for meeting with the Dalai Lama.
The Chinese have also gone on the offensive against Google, putting the company in a rather awkward position. Google executives are asking themselves if they should compromise their values and censor searches (especially searches on political speech) in order to maximize shareholder wealth, or if instead they should live up to the company's code of conduct, 'don't be evil,' even if doing so results in the loss of an estimated $600 million (according to JP Morgan) in revenue this year alone.
It seems that values are winning this debate. Now that Google appears set to pull out of China, its advertising partners are up in arms. They say Google's decision will put them out of business. They want compensation for their losses. Are lawsuits far behind?
Not long ago, Google and a number of other American companies were targeted by computer hackers who were operating from within China. Some experts suspect the Chinese government was actually behind those attacks.
On top of all this, Chinese officials are suddenly claiming that Western luxury goods makers are selling shoddy products in China. This seems like a thinly veiled attempt to urge Chinese consumers to buy only Chinese made goods.
The bottom line is that corporations are finding it much more difficult and costly to make a buck in China. Others may follow Google's lead and leave the country entirely. Or, they may complain to their governments to apply diplomatic pressure. The end result could be an ugly trade war, which would hurt all parties involved. That's an outcome that will make the Great Recession even greater.
Due to the global recession and falling demand, some Chinese factories had to lay off workers and close their doors. While there has been some talk of finding ways to boost domestic consumption, that's a tough sell with China's leaders. After all, consumption still has a bitter taste on a communist tongue. Chinese leaders would prefer instead to see the export ball rolling once again. Furthermore, they blame free market capitalism for the worldwide financial crisis and recession. They don't take kindly to U.S. politicians lecturing them about a weak currency. On the contrary, they say America is the one that is purposely debasing the value of its currency in order to boost its exports and raise the cost of China's goods for American consumers. For good measure, they have even complained about U.S. arms sales to Taiwan and President Obama's temerity for meeting with the Dalai Lama.
The Chinese have also gone on the offensive against Google, putting the company in a rather awkward position. Google executives are asking themselves if they should compromise their values and censor searches (especially searches on political speech) in order to maximize shareholder wealth, or if instead they should live up to the company's code of conduct, 'don't be evil,' even if doing so results in the loss of an estimated $600 million (according to JP Morgan) in revenue this year alone.
It seems that values are winning this debate. Now that Google appears set to pull out of China, its advertising partners are up in arms. They say Google's decision will put them out of business. They want compensation for their losses. Are lawsuits far behind?
Not long ago, Google and a number of other American companies were targeted by computer hackers who were operating from within China. Some experts suspect the Chinese government was actually behind those attacks.
On top of all this, Chinese officials are suddenly claiming that Western luxury goods makers are selling shoddy products in China. This seems like a thinly veiled attempt to urge Chinese consumers to buy only Chinese made goods.
The bottom line is that corporations are finding it much more difficult and costly to make a buck in China. Others may follow Google's lead and leave the country entirely. Or, they may complain to their governments to apply diplomatic pressure. The end result could be an ugly trade war, which would hurt all parties involved. That's an outcome that will make the Great Recession even greater.
Tuesday, March 16, 2010
Financial Engines is a Sharpe IPO
As an academic, William Sharpe was one of the most brilliant and prolific financial researchers. MBA students are familiar with his work on portfolio analysis and the capital asset pricing model. Portfolio managers often use the eponymous Sharpe ratio to determine how much excess return they are producing per unit of risk. Dr. Sharpe has received innumerable honors. In 1990 he was even named a co-recipient of the Nobel Prize in Economics.
This man, however, is no ivory-tower academic. His theories are used every day in the world of finance. Dr. Sharpe is also an entrepreneur. In 1998, he founded what is now Financial Engines (FNGN). The idea was to use the power of the Internet to deliver independent financial advice to investors.
Well, Financial Engines just went public. The company issued 10.6 million shares at $12 per share. That was above the indicated offering range of $9-11 per share. Since the underwriters, Goldman Sachs and UBS, have a 15% over-allotment option, the offering will raise about $146 million before fees. A little less than half the net proceeds is going to selling shareholders.
The stock immediately rallied higher as soon as it became available on the secondary market. At last look, it was trading around $17 per share. That's 42% above the offering price. That gives the company a $675 million market capitalization. FNGN is now selling for 7.9 times sales and more than 100 times trailing earnings. The stock ain't cheap.
Jay Ritter, another respected academician, is best known for his work on IPOs. According to Professor Ritter's work, IPOs tend to underperform the market over a rather long period of time. His research suggests that it would make little sense to buy into an IPO unless you can get it at the offering price and sell it soon after it runs up on the secondary market.
I gave Professor Ritter a call to ask what he thought about the Financial Engines IPO. He said he isn't too concerned about long-run underperformance in this case. He said, "Long-run underperformance is concentrated among companies with less than $50 million in sales in the year before going public." Because Financial Engines generated $85 million in revenues in 2009, it does not fall into that category. As a result, Professor Ritter isn't worried about Financial Engines being a long-run underperformer.
As a former academic myself, I am tempted to buy a few shares just to keep a close eye on the stock. However, I will probably wait until the stock falls back a bit before I get in. Of course, that was my plan with Google when it went public at $85 per share in 2004. I'm still waiting for my buy order to execute on that one.
This man, however, is no ivory-tower academic. His theories are used every day in the world of finance. Dr. Sharpe is also an entrepreneur. In 1998, he founded what is now Financial Engines (FNGN). The idea was to use the power of the Internet to deliver independent financial advice to investors.
Well, Financial Engines just went public. The company issued 10.6 million shares at $12 per share. That was above the indicated offering range of $9-11 per share. Since the underwriters, Goldman Sachs and UBS, have a 15% over-allotment option, the offering will raise about $146 million before fees. A little less than half the net proceeds is going to selling shareholders.
The stock immediately rallied higher as soon as it became available on the secondary market. At last look, it was trading around $17 per share. That's 42% above the offering price. That gives the company a $675 million market capitalization. FNGN is now selling for 7.9 times sales and more than 100 times trailing earnings. The stock ain't cheap.
Jay Ritter, another respected academician, is best known for his work on IPOs. According to Professor Ritter's work, IPOs tend to underperform the market over a rather long period of time. His research suggests that it would make little sense to buy into an IPO unless you can get it at the offering price and sell it soon after it runs up on the secondary market.
I gave Professor Ritter a call to ask what he thought about the Financial Engines IPO. He said he isn't too concerned about long-run underperformance in this case. He said, "Long-run underperformance is concentrated among companies with less than $50 million in sales in the year before going public." Because Financial Engines generated $85 million in revenues in 2009, it does not fall into that category. As a result, Professor Ritter isn't worried about Financial Engines being a long-run underperformer.
As a former academic myself, I am tempted to buy a few shares just to keep a close eye on the stock. However, I will probably wait until the stock falls back a bit before I get in. Of course, that was my plan with Google when it went public at $85 per share in 2004. I'm still waiting for my buy order to execute on that one.
Thursday, March 11, 2010
Get Rich by Investing Like The Rich
Every year at this time, we at Forbes magazine publish a list of the world's billionaires. This year, Carlos Slim of Mexico took the top honors, marking the first time in 16 years that the richest person in the world is not an American. In fact, there are only three Americans in the top 10 this year. The top 10 also include two Indians, a Brazilian, and three Europeans.
Those who made the list have demonstrated an uncanny ability to invest well, which brings up an interesting question. Can you, too, get rich by investing like the rich? The results of a research study out of Babson College suggest you can.
In a yet unpublished paper, Professor Joel Shulman examines the holdings of 1,125 entrepreneurs who made the Forbes billionaires list during the period April 1996 to March 2009. He identifies 495 publicly traded companies that represent major investments for these ultra-rich individuals. He was able to secure reliable data on 200 companies that trade on 41 different exchanges across 22 countries. His conclusion? Investing in these 200 companies during the period studied would have generated an annualized return of just over 20%. That compares to only a 1-2% annual return for relevant benchmarks.
Of course, what worked in the past may not work in the future. Yet entire hedge funds have been created to implement strategies based on much flimsier evidence. This one certainly seems worth a try.
Those who made the list have demonstrated an uncanny ability to invest well, which brings up an interesting question. Can you, too, get rich by investing like the rich? The results of a research study out of Babson College suggest you can.
In a yet unpublished paper, Professor Joel Shulman examines the holdings of 1,125 entrepreneurs who made the Forbes billionaires list during the period April 1996 to March 2009. He identifies 495 publicly traded companies that represent major investments for these ultra-rich individuals. He was able to secure reliable data on 200 companies that trade on 41 different exchanges across 22 countries. His conclusion? Investing in these 200 companies during the period studied would have generated an annualized return of just over 20%. That compares to only a 1-2% annual return for relevant benchmarks.
Of course, what worked in the past may not work in the future. Yet entire hedge funds have been created to implement strategies based on much flimsier evidence. This one certainly seems worth a try.
Tuesday, March 09, 2010
Who Has the Greatest Propensity to Spend Tax Rebates?
Economists sometimes argue that tax rebates can spur economic growth. Furthermore, they say that in order to get the biggest bang for the buck, the money should go to those most likely to spend it. According to conventional wisdom, that would be the poor.
Some argue that giving tax dollars to people who haven't actually paid taxes should not be called a tax rebate. Yet even they would agree that lower wealth, lower income individuals are more likely to put this money back into the economy by spending it. Richer people who don't really need the money would probably just end up saving it. That wouldn't do the economy much good in the short term.
Well, now there is a study that turns this conventional wisdom on its head. In "Household Spending Response to the 2008 Tax Rebate," authors Claudia R. Sahm, Matthew D. Shapiro, and Joel B. Slemrod argue that the $96 billion tax rebate resulted in only $32 billion of extra consumer spending. The majority of recipients either saved the extra money or used it to pay down debt.
What is even more startling is that the propensity to spend the money increased as one's age, wealth, and income increased. In other words, of those who were eligible to receive the payments, the ones who were older, wealthier, and had more income were the most likely to put the money back into the economy in the form of consumer spending. This result is completely contrary to the accepted wisdom.
If you are interested, you can get a copy of the paper from the National Bureau of Economic Research.
Some argue that giving tax dollars to people who haven't actually paid taxes should not be called a tax rebate. Yet even they would agree that lower wealth, lower income individuals are more likely to put this money back into the economy by spending it. Richer people who don't really need the money would probably just end up saving it. That wouldn't do the economy much good in the short term.
Well, now there is a study that turns this conventional wisdom on its head. In "Household Spending Response to the 2008 Tax Rebate," authors Claudia R. Sahm, Matthew D. Shapiro, and Joel B. Slemrod argue that the $96 billion tax rebate resulted in only $32 billion of extra consumer spending. The majority of recipients either saved the extra money or used it to pay down debt.
What is even more startling is that the propensity to spend the money increased as one's age, wealth, and income increased. In other words, of those who were eligible to receive the payments, the ones who were older, wealthier, and had more income were the most likely to put the money back into the economy in the form of consumer spending. This result is completely contrary to the accepted wisdom.
If you are interested, you can get a copy of the paper from the National Bureau of Economic Research.
Friday, February 26, 2010
Bernanke's Next Trick
Ben Bernanke says the Fed has an exit strategy, but it doesn't involve raising interest rates. Sounds like magic to me. One thing is for sure, the fed funds rate will not stay at zero forever.
Thursday, February 25, 2010
No Slave to Fashion
I tend to be a skeptic by nature. So at a time when the economy is weak, employment numbers are terrible, consumer credit is contracting, and foreclosures are rising, I am particularly skeptical of high flying stocks whose fortunes depend on spendthrift consumers.
True Religion Apparel (TRLG) comes to mind. This is a company that sells incredibly pricey jeans to both men and women. Because I can't bring myself to pay more than $25 or $30 for a pair of Levi's, I am particularly perplexed as to why anyone in their right mind would pay $250 for one pair of jeans. My daughters say this proves I am out of touch. I prefer to think instead that it proves there are a lot of consumers out there who are not in their right minds.
It's true that I am not a slave to fashion, but I do have some appreciation for the stuff. After all, my wife subscribes to Vogue, and her brother Serge Gandzumian is a professional designer who has achieved some success and fame with his Lithuanian company SwanPh. Thanks to capitalism, those who really care about fashion have lots of choices; unlike in this parody of Soviet fashion made famous by an old Wendy's television commercial.
Don't get me wrong. I actually liked TRLG back when it was selling for $11 per share. I even recommended the stock in March 2009 to subscribers of my newsletter, the Forbes Growth Investor. However, now I have to wonder if it still makes sense to own the stock.
My concern has nothing to do with fundamentals. TRLG is selling for about two times sales and 12 times the low end of expected 2010 earnings. Furthermore, the company has lots of cash on hand and no long-term debt. Its latest financial release was actually quite good. Revenues and profits are still growing nicely. Although sales are falling in the company's U.S. Wholesale segment, they are surging in the more profitable Consumer Direct segment. This segment includes the growing number of company-owned stores where TRLG commands the highest prices for its products. Yet at the same time, the overall operating profit margin is slowly declining. It will probably go lower in the near term as the company ramps up advertising expense.
The stock jumped higher immediately after the earnings announcement. Although I remain bewildered, I have to ask. Does anyone know where I can buy some True Religion jeans for my daughters at a big discount?
True Religion Apparel (TRLG) comes to mind. This is a company that sells incredibly pricey jeans to both men and women. Because I can't bring myself to pay more than $25 or $30 for a pair of Levi's, I am particularly perplexed as to why anyone in their right mind would pay $250 for one pair of jeans. My daughters say this proves I am out of touch. I prefer to think instead that it proves there are a lot of consumers out there who are not in their right minds.
It's true that I am not a slave to fashion, but I do have some appreciation for the stuff. After all, my wife subscribes to Vogue, and her brother Serge Gandzumian is a professional designer who has achieved some success and fame with his Lithuanian company SwanPh. Thanks to capitalism, those who really care about fashion have lots of choices; unlike in this parody of Soviet fashion made famous by an old Wendy's television commercial.
Don't get me wrong. I actually liked TRLG back when it was selling for $11 per share. I even recommended the stock in March 2009 to subscribers of my newsletter, the Forbes Growth Investor. However, now I have to wonder if it still makes sense to own the stock.
My concern has nothing to do with fundamentals. TRLG is selling for about two times sales and 12 times the low end of expected 2010 earnings. Furthermore, the company has lots of cash on hand and no long-term debt. Its latest financial release was actually quite good. Revenues and profits are still growing nicely. Although sales are falling in the company's U.S. Wholesale segment, they are surging in the more profitable Consumer Direct segment. This segment includes the growing number of company-owned stores where TRLG commands the highest prices for its products. Yet at the same time, the overall operating profit margin is slowly declining. It will probably go lower in the near term as the company ramps up advertising expense.
The stock jumped higher immediately after the earnings announcement. Although I remain bewildered, I have to ask. Does anyone know where I can buy some True Religion jeans for my daughters at a big discount?
Wednesday, February 24, 2010
Market Skeptic Needs Convincing
About three weeks ago, while many experts were growing more optimistic about economic growth and the stock market's prospects, Karen Gibbs asked why I was so skeptical. Click here to watch the interview.
Monday, February 22, 2010
Trying Too Hard to Assuage Investors
After last week's hike in the discount rate, a number of Fed officials have said that the fed funds rate will not be increased for a long time. It seems they are trying a bit too hard to convince skeptical investors.
The latest salvo came from Janet Yellen, San Francisco Federal Reserve President. Yellen said interest rates must be kept "extraordinarily low" because economic growth will fall short of its potential through 2011. Yellen and others believe interest rate hikes are not yet necessary, especially since the Fed is planning to take other measures to reduce liquidity. For example, it will stop buying mortgage-backed securities (which could result in another round of declines in housing sales and prices), and it may start reducing the size of its balance sheet by selling some of its assets, thus draining money from the economy.
While such tightening measures can be effective, an increase in the fed funds rate sends a much stronger signal. In my previous post, I argued that a modest increase in the fed funds rate should be welcome news. I continue to believe the Fed will raise the fed funds rate sooner than it is currently telegraphing. If it fails to do so, investors should worry that the economy is sicker than the Fed would like us to believe.
The latest salvo came from Janet Yellen, San Francisco Federal Reserve President. Yellen said interest rates must be kept "extraordinarily low" because economic growth will fall short of its potential through 2011. Yellen and others believe interest rate hikes are not yet necessary, especially since the Fed is planning to take other measures to reduce liquidity. For example, it will stop buying mortgage-backed securities (which could result in another round of declines in housing sales and prices), and it may start reducing the size of its balance sheet by selling some of its assets, thus draining money from the economy.
While such tightening measures can be effective, an increase in the fed funds rate sends a much stronger signal. In my previous post, I argued that a modest increase in the fed funds rate should be welcome news. I continue to believe the Fed will raise the fed funds rate sooner than it is currently telegraphing. If it fails to do so, investors should worry that the economy is sicker than the Fed would like us to believe.
Friday, February 19, 2010
Discount Rate Hike is no Surprise
The announcement late yesterday that the Federal Reserve was raising the discount rate by 25 basis points to 0.75% came as a surprise to many investors. It shouldn't have. The Fed has been broadcasting its intentions for several weeks. For example, in its Jan. 27 press release, the Fed said, "economic activity has continued to strengthen." This was the strongest statement yet from the Fed that the crisis is over. And just a week ago, Chairman Ben Bernanke actually said in a speech that the Fed might raise the discount rate. So yesterday's action should have been fully anticipated. It should also be seen as good news. Extremely low interest rates are not good for the economy. They signal a continuing crisis. Yet the Fed has been trying to convince investors for quite some time that the worse is over. It finally figured out that actions speak louder than words. By raising the discount rate, the Fed is signaling that it actually believes what it is saying. The Fed may deny it, but it will probably start raising the more important fed funds rate before long. Contrary to popular opinion, stocks will probably hold up well on the news. A modest increase in the fed funds rate should give investors confidence that the economy really is getting stronger.
Monday, February 08, 2010
Orlando MoneyShow
I gave a couple of talks last week at the World MoneyShow in Orlando. I have spoken at this event numerous times in the past. My impression is that attendance at the MoneyShow provides a good, albeit imperfect, indicator of investors' interest in the markets. To my untrained eye, attendance looked strong. In fact, I heard registrations were up about 12% from last year's event. There were also plenty of sponsors and exhibitors around. Of course, strong interest isn't too surprising given the double-digit gains in all stock market indexes last year.
Saturday, January 30, 2010
The Elephant in the Room
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I'm working on putting together the next issue of the Forbes Growth Investor. I still have President Obama's State of the Union speech on my mind, so I asked Mark Stivers to draw this cartoon.
Wednesday, January 27, 2010
Hank Greenberg's Take
While Timothy Geithner was being grilled on Capital Hill today, former AIG CEO Maurice "Hank" Greenberg was delivering a talk at the Union League Club. He made several important points.
He said the legal system needs to be fixed. A politically ambitious attorney general (i.e., Eliot Spitzer) should not be allowed to destroy companies and reputations in order to reach higher office. Greenberg said AIG has already spent approximately $700-800 million in legal fees. Greenberg has spent almost as much himself. He asked, "For what?"
He pointed out that government officials played favorites by forcing AIG to pay Goldman Sachs 100 cents on the dollar. He said it didn't pass the smell test when former Treasury Secretary Henry Paulson fired AIG's then CEO Robert Willumstad and replaced him with Edward Liddy, who was on the board of directors at Goldman Sachs.
He said that when the government took an 80% stake in AIG, it should have immediately stated that the government's AAA credit rating also applied to AIG. However, government officials claimed they didn't have the authority to do such a thing. Greenberg found this explanation odd since the government did many things it did not previously have the authority to do. Yet it always managed to get the authority quickly whenever it wanted.
It turns out that Hank Greenberg is writing a book about all this. I can't wait to read it.
He said the legal system needs to be fixed. A politically ambitious attorney general (i.e., Eliot Spitzer) should not be allowed to destroy companies and reputations in order to reach higher office. Greenberg said AIG has already spent approximately $700-800 million in legal fees. Greenberg has spent almost as much himself. He asked, "For what?"
He pointed out that government officials played favorites by forcing AIG to pay Goldman Sachs 100 cents on the dollar. He said it didn't pass the smell test when former Treasury Secretary Henry Paulson fired AIG's then CEO Robert Willumstad and replaced him with Edward Liddy, who was on the board of directors at Goldman Sachs.
He said that when the government took an 80% stake in AIG, it should have immediately stated that the government's AAA credit rating also applied to AIG. However, government officials claimed they didn't have the authority to do such a thing. Greenberg found this explanation odd since the government did many things it did not previously have the authority to do. Yet it always managed to get the authority quickly whenever it wanted.
It turns out that Hank Greenberg is writing a book about all this. I can't wait to read it.
Friday, January 22, 2010
An Oldie, But a Goodie
Scott Brown's U.S. Senate victory in Massachusetts on Tuesday has certainly gotten the attention of all Democrats. Barney Frank, long-time protector of Fannie Mae and Freddie Mac, suddenly said today that these entities should be abolished in their current form. More importantly, a growing number of Senate Democrats now oppose the renomination of Ben Bernanke as Fed Chairman. I thought this would be a good time to revisit a cartoon we published in the July 2009 issue of the Forbes Growth Investor. It was in response to what seemed to me as a very lukewarm endorsement at the time by President Obama.
Thursday, January 21, 2010
Pickens and Fracturing
When T. Boone Pickens tried to take over Phillips Petroleum in 1984, he was accused of not willing to make any concessions. He responded by saying he would move to Bartlesville, Oklahoma. Yesterday, I attended a luncheon at the Union League Club of New York City. Pickens was the guest speaker. Although he made his name as an oil man, more recently he has been trying to promote the use of natural gas in this country. During his talk, he was very critical of the failure of all presidential administrations to articulate a coherent energy plan.
Pickens says the United States is much too dependent on foreign oil--especially on oil imported from countries that are not particularly friendly to us. He pointed out that the U.S. has the world's largest natural gas reserves, and that we can easily decrease our reliance on imported oil by switching to natural gas for transportation purposes. He proposed mandating that all 18-wheelers (i.e., tractor-trailers) be forced to switch to natural gas over some period of time. His idea is to provide a $65,000 tax credit for the purchase of each of these vehicles. However, he did not address the safety concerns, how the trucks would be refueled, or if natural gas could even provide sufficient power to push a fully loaded semi up a mountain.
He also failed to make a strong case that drilling for natural gas would be environmentally friendly. While the available technology may be good enough to drill safely, the natural gas industry must do a better job of conveying this message. In fact, today's Wall Street Journal featured a front-page article about hydraulic fracturing, a process of using pressurized water mixed with certain chemicals to break rock formations in order to get at the gas. Opponents claim fracturing will pollute ground water. As the article pointed out, Exxon Mobil insisted on a clause that would allow it to back out of its proposed acquisition of XTO Energy if the government decides to outlaw fracturing.
How big a role natural gas plays in the future is uncertain, but one thing is becoming clear. Oil prices are too high. There is a big push to promote the use of alternative fuels. Society will remain dependent on oil for a long time, but natural gas, nuclear, wind, battery, and solar will all play bigger roles in the future. Unless global growth suddenly surges, demand for oil, which is already down, will continue to decline.
Pickens says the United States is much too dependent on foreign oil--especially on oil imported from countries that are not particularly friendly to us. He pointed out that the U.S. has the world's largest natural gas reserves, and that we can easily decrease our reliance on imported oil by switching to natural gas for transportation purposes. He proposed mandating that all 18-wheelers (i.e., tractor-trailers) be forced to switch to natural gas over some period of time. His idea is to provide a $65,000 tax credit for the purchase of each of these vehicles. However, he did not address the safety concerns, how the trucks would be refueled, or if natural gas could even provide sufficient power to push a fully loaded semi up a mountain.
He also failed to make a strong case that drilling for natural gas would be environmentally friendly. While the available technology may be good enough to drill safely, the natural gas industry must do a better job of conveying this message. In fact, today's Wall Street Journal featured a front-page article about hydraulic fracturing, a process of using pressurized water mixed with certain chemicals to break rock formations in order to get at the gas. Opponents claim fracturing will pollute ground water. As the article pointed out, Exxon Mobil insisted on a clause that would allow it to back out of its proposed acquisition of XTO Energy if the government decides to outlaw fracturing.
How big a role natural gas plays in the future is uncertain, but one thing is becoming clear. Oil prices are too high. There is a big push to promote the use of alternative fuels. Society will remain dependent on oil for a long time, but natural gas, nuclear, wind, battery, and solar will all play bigger roles in the future. Unless global growth suddenly surges, demand for oil, which is already down, will continue to decline.
Wednesday, January 20, 2010
Stocks Sell Off on Good News
For the most part, there was good news in the markets today, so the strength of the sell-off caught many investors by surprise.
Today's housing numbers from the Commerce Department bode well for the home building industry. Even though housing starts in December fell 4% from November on a seasonally adjusted and annualized basis, they were flat compared to a year ago. Furthermore, building permits, an indicator of future activity, jumped 10.9% from November to December. They were up 15.8% from a year ago. However, don't get too excited about housing. It is still a very sick industry. Almost one in four homeowners with a mortgage are believed to be underwater, and foreclosure rates are still sky high. This will keep housing prices from heating up any time soon.
Wholesale purchasing prices were up just 0.2%, and there was no change in core figure. Although I have argued that the Fed needs to begin its exit strategy, today's PPI data means it is more likely to stick to its policy of keeping rates low.
Finally, Scott Brown's victory in Massachusetts means Congress will have to take a more moderate approach to health care reform. In fact, Amedisys (AMED), a home health care stock we recommended back in September in the Forbes Special Situation Survey added to its gains today.
The sell-off in the overall market is being blamed on China's decision to reduce lending. This stoked fears that global growth might fall short of prior expectations. This kind of thinking could drive stock prices even lower.
Today's housing numbers from the Commerce Department bode well for the home building industry. Even though housing starts in December fell 4% from November on a seasonally adjusted and annualized basis, they were flat compared to a year ago. Furthermore, building permits, an indicator of future activity, jumped 10.9% from November to December. They were up 15.8% from a year ago. However, don't get too excited about housing. It is still a very sick industry. Almost one in four homeowners with a mortgage are believed to be underwater, and foreclosure rates are still sky high. This will keep housing prices from heating up any time soon.
Wholesale purchasing prices were up just 0.2%, and there was no change in core figure. Although I have argued that the Fed needs to begin its exit strategy, today's PPI data means it is more likely to stick to its policy of keeping rates low.
Finally, Scott Brown's victory in Massachusetts means Congress will have to take a more moderate approach to health care reform. In fact, Amedisys (AMED), a home health care stock we recommended back in September in the Forbes Special Situation Survey added to its gains today.
The sell-off in the overall market is being blamed on China's decision to reduce lending. This stoked fears that global growth might fall short of prior expectations. This kind of thinking could drive stock prices even lower.
Friday, January 08, 2010
Jobs Report Dampens Workers' Hopes
By Vahan Janjigian - Today's announcement by the Bureau of Labor Statistics that nonfarm payrolls dropped by 85,000 in December is a big disappointment, especially to the many investors who were betting that the economy was on the mend. While the headline number is bad enough, the figures down below are worse. For example, although the number of officially unemployed people fell slightly to 15.267 million, the number of employed people dropped by 589,000 because the labor force shrank. In fact, 2.5 million people are no longer considered a part of the labor force even though they want to work and they sought work during the past 12 months. They are excluded because they did not look for work during the past four weeks. In addition, 9.2 million people are working part time, not by choice, but because they can't find full time employment.
One bright spot of the labor report is that temporary jobs increased by 47,000. This is considered good news because corporations often hire temporary workers as business conditions improve before making a commitment to take on permanent employees. In fact, in recent months, at least a couple of equity analysts raised their outlook on Manpower (MAN), a leading temporary employment agency. The stock is up about 30% since November and has more than doubled since the March 9, 2009 low.
Disclosure: The author has an ownership interest in Manpower (MAN) shares.
One bright spot of the labor report is that temporary jobs increased by 47,000. This is considered good news because corporations often hire temporary workers as business conditions improve before making a commitment to take on permanent employees. In fact, in recent months, at least a couple of equity analysts raised their outlook on Manpower (MAN), a leading temporary employment agency. The stock is up about 30% since November and has more than doubled since the March 9, 2009 low.
Disclosure: The author has an ownership interest in Manpower (MAN) shares.
Thursday, January 07, 2010
FGI Gains 35% in 2009
The following commentary appeared in the January issue of the Forbes Growth Investor.
By Vahan Janjigian - When I was in graduate school, a marketing professor told me that investing was easy. He said,“All you need to do is buy low and sell high.” However, many investors did exactly the opposite last year. They threw in the towel at precisely the wrong time. As stocks sold off in March and the Dow dipped below 6,600, they decided stocks were too risky, so they got out of the market. They did not understand that stocks are actually less risky after that kind of selloff. Instead of selling in March, they should have been buying. Even if they had to wait a few years, chances are the returns they would have realized from stocks would have exceeded the returns generated from safer assets such as cash.
As it turns out, however, those who did buy in March did not have to wait long at all. Stocks went straight up after the selloff in the beginning of the year. The Dow finished 2009 with a 19% gain, the S&P 500 rallied 23%, and the Nasdaq Composite surged 44%. Our Forbes Growth Investor Top 40 climbed 35%. While it did not outpace the tech-laden Nasdaq, it did exhibit less volatility. Since inception (Oct. 6, 2000), our stock picks have gained 75%. The three major indexes lost ground during the same period. The Dow fell 2%, the S&P plunged 21%, and the Nasdaq plummeted 32%.
However, the higher stock prices go, the more cautious I become. Investor sentiment may drive stocks higher in the short term, but fundamentals are more important over the long term. As I see it, the fundamentals are not particularly good.
While the worst of the financial crisis is probably over, the economy is still troubled. The unemployment rate may have peaked, but it will probably remain elevated for years. Housing prices may have bottomed, but they will likely remain depressed for quite some time. Retail sales during the holiday season were better than expected, but that trend will probably fade in 2010. Corporations are producing profits not by selling more goods, but by cutting expenses. In addition to all this, capacity utilization is near all-time lows, new home sales are at a standstill, government debt has surged to almost unfathomable levels, consumer credit is falling, and savings rates are rising at precisely the wrong time. A particularly worrisome trend is the growing role government is playing in the economy. It is the nation’s largest employer, it has become the largest shareholder in a number of previously blue-chip companies, and it is about to take over the healthcare system.
Given this backdrop, there are a number of things to watch for in 2010. We may have emerged from the recession, but a double dip is possible. However, a second recession, if it does indeed occur, should be less severe than the first. Gold prices could fall significantly. They have not risen to current levels because of strong demand or a lack of supply. Gold prices have climbed because of the Fed’s easy monetary policy and the resulting weak dollar. Similarly, oil prices should go lower. The recession has reduced demand for gasoline and other refined products. The big push toward alternative energy is also having an impact on the demand for fossil fuels. As for stocks, they could sell off again. A retest of the March 2009 lows is unlikely, but the Dow could easily shed a thousand points or so. If that happens, it will be time to start thinking about buying once again.
By Vahan Janjigian - When I was in graduate school, a marketing professor told me that investing was easy. He said,“All you need to do is buy low and sell high.” However, many investors did exactly the opposite last year. They threw in the towel at precisely the wrong time. As stocks sold off in March and the Dow dipped below 6,600, they decided stocks were too risky, so they got out of the market. They did not understand that stocks are actually less risky after that kind of selloff. Instead of selling in March, they should have been buying. Even if they had to wait a few years, chances are the returns they would have realized from stocks would have exceeded the returns generated from safer assets such as cash.
As it turns out, however, those who did buy in March did not have to wait long at all. Stocks went straight up after the selloff in the beginning of the year. The Dow finished 2009 with a 19% gain, the S&P 500 rallied 23%, and the Nasdaq Composite surged 44%. Our Forbes Growth Investor Top 40 climbed 35%. While it did not outpace the tech-laden Nasdaq, it did exhibit less volatility. Since inception (Oct. 6, 2000), our stock picks have gained 75%. The three major indexes lost ground during the same period. The Dow fell 2%, the S&P plunged 21%, and the Nasdaq plummeted 32%.
However, the higher stock prices go, the more cautious I become. Investor sentiment may drive stocks higher in the short term, but fundamentals are more important over the long term. As I see it, the fundamentals are not particularly good.
While the worst of the financial crisis is probably over, the economy is still troubled. The unemployment rate may have peaked, but it will probably remain elevated for years. Housing prices may have bottomed, but they will likely remain depressed for quite some time. Retail sales during the holiday season were better than expected, but that trend will probably fade in 2010. Corporations are producing profits not by selling more goods, but by cutting expenses. In addition to all this, capacity utilization is near all-time lows, new home sales are at a standstill, government debt has surged to almost unfathomable levels, consumer credit is falling, and savings rates are rising at precisely the wrong time. A particularly worrisome trend is the growing role government is playing in the economy. It is the nation’s largest employer, it has become the largest shareholder in a number of previously blue-chip companies, and it is about to take over the healthcare system.
Given this backdrop, there are a number of things to watch for in 2010. We may have emerged from the recession, but a double dip is possible. However, a second recession, if it does indeed occur, should be less severe than the first. Gold prices could fall significantly. They have not risen to current levels because of strong demand or a lack of supply. Gold prices have climbed because of the Fed’s easy monetary policy and the resulting weak dollar. Similarly, oil prices should go lower. The recession has reduced demand for gasoline and other refined products. The big push toward alternative energy is also having an impact on the demand for fossil fuels. As for stocks, they could sell off again. A retest of the March 2009 lows is unlikely, but the Dow could easily shed a thousand points or so. If that happens, it will be time to start thinking about buying once again.
Tuesday, December 08, 2009
Home At Last
By Vahan Janjigian - I'm finally back from the 16th Forbes Cruise for Investors. I got off the ship in Aruba on Sunday and took a long flight home. The Internet connection on the ship was not always reliable, so I did not get a chance until now to post my comments about Jack Ablin's presentation.
Jack is the Chief Investment Officer at Harris Private Bank. We first met in 1996 when I was on the faculty at Northeastern University. I signed up for a course to prepare for the Level II Chartered Financial Analyst exam and Jack was one of my instructors. He was an excellent lecturer.
It was nice to see that he hasn't lost his presentation skills. Jack is a quantitative analyst. One of his comments should give college students majoring in business something to think about. He said he only hires people with strong quantitative skills. He especially likes engineering majors. This is because he finds it easier to teach an engineer how to do finance than to teach a business major how to do quantitative analysis.
Jack is fond of using a momentum approach to investing. There are plenty of investors who are skeptical of this approach, but it really does work. Sheridan Titman, now a professor at the University of Texas, was one of the first to document that stocks exhibit momentum. One approach Jack relies on is to compare an index or sector to its moving average. In general, he avoids buying stocks until they start moving up. He is happy to miss the opportunity to buy at the bottom until he is confident that an upward trend has begun.
Jack believes the market is currently at a fair to full valuation. He thinks inflation will eventually become a problem, but says we will have about two to three years to prepare for it. He expects the Fed to sit tight through much of 2010. He mentioned two ETFs he currently likes: The S&P International Small Cap (GWX) and the WisdomTree International Small Cap Dividend (DLS).
Jack recently authored a book: Reading Minds and Markets: Minimizing Risk and Maximizing Returns in a Volatile Global Marketplace. He gave a copy to all attendees. I am putting it on my reading list.
Jack is the Chief Investment Officer at Harris Private Bank. We first met in 1996 when I was on the faculty at Northeastern University. I signed up for a course to prepare for the Level II Chartered Financial Analyst exam and Jack was one of my instructors. He was an excellent lecturer.
It was nice to see that he hasn't lost his presentation skills. Jack is a quantitative analyst. One of his comments should give college students majoring in business something to think about. He said he only hires people with strong quantitative skills. He especially likes engineering majors. This is because he finds it easier to teach an engineer how to do finance than to teach a business major how to do quantitative analysis.
Jack is fond of using a momentum approach to investing. There are plenty of investors who are skeptical of this approach, but it really does work. Sheridan Titman, now a professor at the University of Texas, was one of the first to document that stocks exhibit momentum. One approach Jack relies on is to compare an index or sector to its moving average. In general, he avoids buying stocks until they start moving up. He is happy to miss the opportunity to buy at the bottom until he is confident that an upward trend has begun.
Jack believes the market is currently at a fair to full valuation. He thinks inflation will eventually become a problem, but says we will have about two to three years to prepare for it. He expects the Fed to sit tight through much of 2010. He mentioned two ETFs he currently likes: The S&P International Small Cap (GWX) and the WisdomTree International Small Cap Dividend (DLS).
Jack recently authored a book: Reading Minds and Markets: Minimizing Risk and Maximizing Returns in a Volatile Global Marketplace. He gave a copy to all attendees. I am putting it on my reading list.
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