Archive for January, 2006

• The Media Turns Against Whole Foods
  Eddy Elfenbein, January 13th, 2006 at 5:38 am

  The WSJ questions Whole Foods‘ (WFMI) valuation. You heard it here first.

  Whole Foods’ shares are up nearly 60% since the start of last year and trade at 54 times estimates of their per-share earnings for this fiscal year, according to Thomson Financial. That is about three times the valuation of its peers and for the average stock in the Standard & Poor’s 500-stock Index, to which the stock was added this year.
  Pricey stocks can remain aloft for a long time, but Whole Foods’ price/earnings ratio has analysts worried because they see possible banana peels. Other grocers are beginning to copy the Whole Foods approach and could undercut the company. Despite store openings in Canada and the United Kingdom, the company eventually will run out of consumers willing to shop at high-end stores that some jokingly call “Whole Paycheck,” the bears argue.

• NYT on Gazprom
  Eddy Elfenbein, January 13th, 2006 at 5:31 am

  From this morning’s NYT:

  Gazprom’s surge comes as a remarkable advance for Russian capitalism. Though 51 percent of the company is still owned by the government, its revenues in a few days dwarf the sums involved in the country’s financial implosion of the 1990’s. On Aug. 14, 1998, Russia’s economy collapsed after it defaulted on $13.5 billion in Treasury bonds – less than the rise in Gazprom’s market value on Thursday.

  Wow.

• Welcome
  Eddy Elfenbein, January 13th, 2006 at 5:15 am

  I’ve had a lot of new visitors to the blog, so I thought I’d do a little more formal greeting.
  (trumpets!)
  Welcome to Crossing Wall Street. Please have a look around. You can see my Buy List for 2006. This is a list of 20 stocks that I recommend (and track my performance). The list won’t change all year.
  Here are a few recent posts that you might enjoy.
  This is me railing against General Motors.
  More ranting, this time Google.
  Me defending Dell against the media.
  Plus, you can scan the archives. I hope you become a frequent guest. Welcome!

• The Market Today
  Eddy Elfenbein, January 12th, 2006 at 11:49 pm

  Not much to say today. In today’s market, the S&P 500 gave back 0.63%, and our Buy List dropped 0.77%. This snapped our three-day winning streak. Of our 20 stocks, only Bed Bath & Beyond (BBBY) and UnitedHealth Group (UNH) posted gains. BBBY was upgraded by CS First Boston. On the downside, Harley-Davidson (HDI) was downgrade by Citigroup.
  Incidentally, I went to my local Bed Bath & Beyond to buy linen: $200! No wonder they’ve never missed earnings.

• It’s Not Over
  Eddy Elfenbein, January 12th, 2006 at 11:13 pm

  The drama continues….
  Every time I think the battle for Guidant (GDT) is over, it jumps to life again. This is getting to be like That 70’s Show—it just doesn’t know when to end.
  The latest is that Boston Scientific (BSX) just made a counteroffer. They’re now bidding $73 a share for GDT, one dollar a share more than Johnson & Johnson (JNJ).
  I have to give BSX points for bravery, if not fiscal prudence. Let’s be clear: They simply can’t afford Guidant. JNJ is an enormous company. It’s roughly ten times larger than BSX. Boston Scientific is desperate, and it’s beginning to show. Even though Boston Scientific is offering more, they’re using more stock. They have to. But JNJ has a bottomless bank account.
  It’s clear to me that the Guidant folks want to go with JNJ, but the hedge funds are in BSX’s corner (or rather, vice versa). The board can accept a lower offer if it think the offer in the shareholders’ best interest. Personally, I think Guidant is going to be trouble at any price.
  The ball’s now in JNJ’s court. (Just between you and me, isn’t this getting kinda fun?)

• A PDA for Pain
  Eddy Elfenbein, January 12th, 2006 at 10:49 pm

  Business Week on the latest technology from Medtronic (MDT):

  You might use the alarm on your watch (if you still wear one) or your Treo as a reminder to take your medicine. Now you can go one step further by using a personal digital assistant (PDA) to wirelessly control an internal pump that streams medication directly to its target inside your body.
  It’s an early but significant advancement in the convergence of consumer gadgets and patient-controlled medical tools. Health-device giant Medtronic—known for its pioneering pacemakers and insulin pumps for diabetics—recently released a device in the U.S. called the Personal Therapy Manager (PTM), a retooled version of a Palm handheld. A first for the market, it’s a patient-controlled device with a screen interface that can sync with the company’s programmable implanted pumps to deliver medicine, via catheter, to the fluid near the spinal cord—a process known as intrathecal drug delivery.

• Reader Feedback
  Eddy Elfenbein, January 12th, 2006 at 12:18 pm

  One of the many benefits of this blog is the feedback I get from my readers. Here are a few interesting e-mails that I received over the past week. If you have any questions or comments, please drop me a line.
  The first e-mail is in response to one of my many rants against share buybacks:

  Share buybacks give an investor the option to receive cash (by selling some portion of their shares) or to own a larger portion of the company. Pre-tax considerations, it seems that an option to receive cash is superior to just getting the cash, no?

  In theory, yes. But keep in the mind an important factor: the shareholder must take on some risk. Money used to buyback a stock will not always have the same effect as getting cash. Over time, it will. But in the short-term, there’s a risk factor that’s not present with a cash payout.
  The ROE of a stock will in theory match the stock’s return after awhile. But even the least volatile stocks are volatile, so we have to shoulder some risk in the process. (Of course, sometimes the volatility works in our favor.)
  Ideally, I’d prefer to not have to deal with taxes, and get a cash payment. Then I could decide if and when I reinvested the funds in management. I think that would be best for the shareholders, and accountability.
  The is in response to my post on valuing Berkshire Hathaway (BRKA):

  Berkshire’s non-insurance businesses are much larger than most people realize (e.g. your comment that BRKA is mostly an insurance company). In fact, in 2005, nearly 2/3 of Berkshire’s revenues were non-insurance (~65% thru 9/30/05). The profit contribution varies due to the cat losses on the insurance side, but less than half of BRKA’s recent earnings come from insurance.
  If Berkshire’s non-insurance businesses were publicly traded, they would be one of the largest companies in the SP500. One issue the NYT article and yours didn’t mention is that BRKA’s disclosure on these large business – which are now a majority of revenues and earnings – is poor. That, along with the Buffett issue, weigh on the stock’s valuation, in my view.

  That’s an excellent point.
  In resonse to Mark Stahlman giving Google (GOOG) a $2,000 price target:

  I think the most compelling reason behind Stahlman suggesting a target price is also the most compelling reason to sit on the sidelines of Google. It was written in the last paragraph of the article.
  “Stahlman said his prediction was designed in part to comfort investors concerned by Google’s rapid ascent.”
  Hmmmmm. Will he be there to comfort investors during Google’s rapid decent?

  Exactly! Wall Street doesn’t turn to analysts for comfort. That’s been alcohol’s job for over 200 years.
  And lastly, here are some comments on the news of the Dow passing 11000:

  Could there be any more irrelevant index than the Dow? Made up of basically of 30 behemoths that were yesterdays news. They put stocks like Intel and Microsoft in at the very top of the bubble and have done little sense. They keep companies like GM until it will likely goes bankrupt. A very mismanaged group of 30 stocks that tell you little about where the growth of America is. It does a worse job every year.
  I really wish people would stop quoting it.

  Agreed!
  Here’s my rant on that very subject.

• Shares of Gazprom Soar
  Eddy Elfenbein, January 12th, 2006 at 9:21 am

  The Times of London reports on the Russian energy giant:

  SHARES in Gazprom, the Russian energy company in which the Kremlin owns a 51 per cent stake, have soared 17 per cent in the past three days after Western investors were given the green light to purchase as much as 29 per cent of the business.
  From this week foreign investors can trade in Gazprom’s locally listed shares, giving them access to 49 per cent of the company, after President Putin finally unveiled his long-awaited liberalisation of Gazprom’s equity structure. Previously, foreign investors could have legally traded only in the small amount of Gazprom shares listed abroad. Braver investors could have bought and sold locally listed shares through “grey trading schemes”, but big Western investors steered clear of these.
  At a stroke, the liberalisation of Gazprom’s equity has created the biggest and most liquid stock in emerging market indices, meaning that billions of dollars from index-tracking institutional investors will now flow into the company. The stock rose 160 per cent last year in anticipation of the move, and has risen a further 17 per cent this week.
  Bob Foresman, head of investment banking at Dresdner Kleinwort Wasserstein in Moscow, said: “It’s no surprise (that) foreign investors find the stock so attractive. It’s the biggest hydrocarbon company in the world and, as of this week, foreign investors can finally get proper exposure to it.”

  Here’s a three-year price chart for Gazprom.

• SEC opens informal probe into Home Depot
  Eddy Elfenbein, January 12th, 2006 at 9:15 am

  From Reuters:

  The U.S. Securities and Exchange Commission has opened an informal investigation into charges that Home Depot Inc. (HD) inflated profits through supplier payments meant to cover the cost of damaged merchandise, the New York Post reported on Thursday.
  The top home improvement retail chain is accused of inappropriately using so-called “return-to-vendor charges” by overbilling suppliers for goods damaged during shipping, the newspaper said.

  Update: HD says that it’s “simply not true.”

• The Alito Volatility Index
  Eddy Elfenbein, January 12th, 2006 at 5:43 am

  Time for a really geeky post! Feel free to skip if you’re a mathphobe.
  As I’ve mentioned before, I’m a fan of TradeSports.com. This Web site let’s investors buy “futures contracts” on real world events. In addition to many sports and political events, they also have contracts on the nomination of Judge Samuel Alito to the Supreme Court.
  There are currently two sets of contracts on Alito. One is simply “Will Alito Be Confirmed?” That contract is currently running at 94.5%. So the market seems pretty confident that he’ll pass.
  The other is a set of six contracts asking how many votes will he get (over 40, 50, 60, 70, 80 and 90).
  What I find interesting in these markets is that you can look at two different contracts and find an “implied contract” for a separate event.
  For example, Donald Luskin and I discovered that during the (brief) Meirs nomination, the contract for her getting more than 50 votes was trading much higher than the contract for her passing. The reason is that the number-of-votes contract was only if she came up for a vote. That means that there was an “implied withdrawal contract.” (Details here.) And withdraw she did.
  These sorts of number games are actually quite common on Wall Street. That’s exactly what the volatility index (or VIX) is. It tells us the implied volatility of the S&P 500. In options pricing, volatility is a key variable. So we can look at the price an option and work backward to the volatility number that traders are using.
  Personally, I don’t take these futures markets too seriously. Mostly, I think they’re just for fun. Real markets need to be much more liquid. Also, there’s too great a temptation for partisan interference.
  Having said that, we can look at the futures for how many votes the market believes that Judge Alito will get. Plus, we can find some interesting observations.
  Let’s look at two of the contracts: Alito receiving over 60 votes, and Alito receiving over 70 votes. The contract that Alito will get over 60 votes is priced at yesterday’s close at 74, meaning that the market believes that there’s a 74% chance the Judge Alito will get 60 or more votes. The 70+ vote contract is currently priced at 16.
  Using these two numbers we can find the market’s mean and standard deviation for Judge Alito’s final confirmation vote. (Warning: math ahead!)
  Here’s what we do:
  Since there’s a 74% chance the Alitio will get 60 or more, the normal distribution tells us that a 74% chance is equal to the mean plus 0.64 standard deviations. A 16% chance works out to the mean minus 0.99 standard deviations. So the 10 votes between 60 and 70 is equal to 1.63 standard deviations. Ten divided by 1.63 equals 6.1 senators which is the standard deviation. That’s our Alitio Volatility Index, or ALIX (copyright, me!).
  The mean number of votes is 60 + (0.64*6.1) or 63.9. So the market believes that Judge Alito will get 63.9 “aye” votes with a standard deviation of 6.1 senators. Assuming a normal distribution, this means that there’s a 68.3% chance that Alito’s vote total will fall between 57.8 and 70 votes.
  Here’s a chart of the implied standard deviation of the Alito vote. This line will probably fall as senators gradually make up their minds:
  
  Here’s the mean vote (black line). The red lines represent plus and minus one standard deviation:
  
  I downloaded the price data off TradeSports’ Web site. You can download my excel file here.
  Since the vote on Judge Alito will eventually come (assuming these windbags finally stop talking), the standard deviation number should gradually fall. This can happen even though the mean doesn’t change much. Every day on Wall Street, billions of dollars is invested in volatility. There are investors who don’t give a fig where the market goes, but they’re passionate that it does it smoothly (or erratically).
  (Technical note: The real VIX is a weighted-average of several options contracts. I’m only using the 60+ and 70+ contracts.)
  It seems that there’s a fairly solid bloc of about 35 votes dead set against Judge Alitio. However, the one-standard-deviation-below-the-mean line has nudged up a little since the hearings started. This may indicate that a few “maybe” votes have drifted over to the “aye” camp.
  See, I told you this was a geeky post.
  Update: Thanks, Ramesh! The 60+ contract moved up to 75 (a recent high), and the 60+ contract is now up to 22. That moves the mean vote total up to 64.7 with a standard deviation of 6.9 votes.