Archive for October, 2006

• SEC To Ease Margin Rules
  Eddy Elfenbein, October 16th, 2006 at 10:27 pm

  It’s not often that the SEC does something I like, but this one is long overdue. The SEC is likely to approve the New York Stock Exchange’s request to alter its margin rule. Under current rules, the margin requirement is the same no matter what kind of asset you hold; stocks, options or futures. This is truly unnecessary, and what’s worse is that it put us far behind bourses in other countries.
  Margin has gotten a bad rap ever since John Kenneth Galbraith identified it as one of the major causes for the stock market crash in 1929. The market eventually dropped by nearly 90%, but even in those loose days, margin buying probably represented less than 10% of the market’s total value. If anything, the level of margin buying is actually negatively correlated with stock volatility.
  The Federal Reserve sets the margin rules under its Reg T. The Fed used to move the margin requirement around a lot. In fact, it completely banned margin during World War II. In 1974, the Fed set the margin requirement at 50%, and it hasn’t touched it since.
  I should also mention that investors who use margin should also consider how much leverage the stock itself is using. Most investors never think of this. Take a company like FactSet Research Systems (FDS). The company doesn’t have a nickel of long-term debt. I’m not advocating buying it on margin, but it’s balance sheet is something to consider.
  On the other hand, we can look at General Motors (GM). According to GM’s balance sheet, the company has $11.6 billion in equity and $457.7 billion in liabilities. Yikes! That’s about $800 a share in liabilities for a $32 stock. Call me crazy but I think that’s margined well enough.
  If we mathimaticate the Dow divisor, that means that $1 in share price is about eight Dow points, so GM’s liabilities are about 6400 points on the Dow.
  Talk about debt relief! Forget Africa; send Bono to Detroit.

• 300 Million Americans
  Eddy Elfenbein, October 16th, 2006 at 10:43 am

  We’re closing in on the Big Three Oh (oh, oh, oh, oh, oh, oh, oh).
  Here’s the Census count.
  The 300 millionth American should arrive sometime tomorrow morning. For reference, we crossed 200 million on November 20, 1967. We broke the 100 million mark in 1915.
  According to estimates, we should break 400 million in 2043.

• If the Economy Is In Such Rough Shape…
  Eddy Elfenbein, October 16th, 2006 at 9:58 am

  …how come cyclical stocks are leading the bull?
  
  Maybe the market sees something we don’t?

• Wachovia’s Earnings
  Eddy Elfenbein, October 16th, 2006 at 9:23 am

  Wachovia (WB) announced today that its earnings rose 13% to $1.06 a share. Excluding merger costs, the bank earned $1.19 a share which was in line with expectations.
  The other big news of this morning is that UnitedHealth (UNH) said that Bill McGuire will step down as CEO, apparently the latest victim of the options backdating scandal. Reuters has a timeline of key events in the scandal.

• The Hitch and I
  Eddy Elfenbein, October 15th, 2006 at 9:44 pm

  So I was walking down Connecticut Avenue today, and I spotted a man in a bookstore who looked strangely familiar.
  I went in and asked, “excuse me, sir, are you Christopher Hitchens?” The man said, coyly, “who wants to know?” I’m assuming that’s an answer generally given by correctly identified parties. Also, he had a British accent. Yep, it was Hitch. So I tried to mumble something clever about being with George Galloway’s office.
  We chatted for a bit, as I did my best not to come off as Crazed Stalker Guy. Let’s face it: Even when I try to look threatening, it doesn’t come off too well. My coolness must have worked because as Hitchens was leaving the store, he asked if I was going uphill. I wasn’t but said yes anyway, and we chatted a little more.
  I was I could say that we had some fancy highbrow conversation, but it wasn’t that impressive. I mentioned that I had just finished Mark Steyn’s book, America Alone. He thanked me for reminding him that he had been asked to review the book. Those Brits, they have such good manners.
  It turns out that we’re both fans of Steyn. Hitchens said that he’s impressed with the amount of writing Steyn does, which I could imagine most people saying of him. Funny, I thought all these guys knew each other, but Hitchens said he doesn’t recall ever meeting Steyn, although he said that Steyn claims that they had once met.
  I told him that I liked Steyn’s book, but found it a bit alarmist. He said that in the case of Islamism, alarmism is justified. Then we reached his building, said our “good days” and that was it.

• Updating CAPM
  Eddy Elfenbein, October 14th, 2006 at 12:23 pm

  William F. Sharpe says that his baby, the Capital Asset Pricing Model, is due for an extreme makeover. I think we ought to pay attention. This model is the bedrock of much of modern finance.
  Sharp’s new book, “Investors and Markets: Portfolio Choices, Asset Prices and Investment Advice,” argues in favor of a “state/preference” approach instead of the fancy math of his “mean-variance” method.
  Pensions and Investments has the details (Hat Tip: All About Alpha).

• Play the Ultimatum Game
  Eddy Elfenbein, October 14th, 2006 at 6:29 am

  Imagine that you are sitting next to a complete stranger who has been given £10 to share between the two of you. He must choose how much to keep for himself and how much to give to you.
  He can be as selfish or as generous as he likes, with one proviso: if you refuse his offer, neither of you gets any money at all. What would it take for you to turn him down?

  According to classical economics, people are supposed to be rational. But in the Ultimatum Game, they’re not.

  Indeed, if the sum is less than £2.50, four out of five of us tell the selfish so-and-so to get lost.

  Come to think of it, so would I. Why is this? Neuroeconomists say, it’s all in the brain.

• Two Articles of Note
  Eddy Elfenbein, October 13th, 2006 at 1:06 pm

  I saw two articles in the Wall Street Journal that I wanted to pass along. The first is from Susanne Craig who looks at how partners are selected at Goldman Sachs. This is Wall Street’s equivalent of being a “made man” in the mafia. Once you’re a PMD (partner managing directors), no one can mess with you. You’re even allowed to have three people killed. It’s one of the perks. Ok, I made that up, but still, it’s a sweet gig.

  For years since Goldman’s founding in 1869, anyone who joined the firm and showed promise had a good shot of becoming partner. Until a couple of decades ago, the firm was much smaller and kept the number of partners to a minimum; in 1982 there were just 70.
  The stakes for this year’s class are high. In recent quarters, Goldman has been posting impressive quarterly profits — $1.59 billion in the third quarter — and its stock is up 40% so far this year, eclipsing the 17% gain for the Dow Jones Wilshire U.S. Financial Services Index. As some other large securities firms have pushed to become global financial supermarkets, Goldman, the world’s No. 1 merger-advisory firm, has moved deeper into trading and investment banking. It has put more of its own money on the line both to trade and to invest in other companies, a move that has increased risk but beefed up profits.
  Goldman’s partners have always viewed their firm as a cut above the rest of Wall Street. Mr. Blankfein, a hard-driving former gold salesman who took the top job at Goldman in June, likes to refer to an intangible secret sauce that makes Goldman smarter and savvier than its competitors. Although Goldman is known for the fat pay partners receive, Mr. Blankfein bristles at the suggestion that money-making is all that drives his partners and the firm’s selection process.
  Successful partner candidates are expected to be “culture carriers,” he says. The firm encourages public service by partners, he says, and many partners have pursued that path, including former Chief Executive Officer Henry Paulson Jr., who is now Treasury Secretary. “Sure, Goldman partners make a lot,” Mr. Blankfein says. “But I can pay people a lot of money without going through this process.”

  The other article looks at Wachovia’s future with Golden West. As you may know, I’m rather skeptical of this merger, and I’m not a big fan of most large mergers. In December when I decide on next year’s Buy List, Wachovia will probably be gone.
  First, WB paid too much. I think the Sandlers wanted a way out, and they got the right deal from Wachoiva. The Golden West business model is extremely simple, yet I’m not sure how well it will be integrated into Wachovia. I still haven’t recovered from the Fifth Third/Old Kent deal, and that was six years ago.

  Frustrated Wachovia officials insist the payoff from the Golden West purchase looks as promising as ever. “We go in with a little bit of a chip on our shoulder because we’ve got something to prove,” says Bob McGee, leader of the Wachovia integration team at Golden West, the second-largest U.S. savings and loan behind Washington Mutual. Wachovia also points out that this is by far the biggest deal of Mr. Thompson’s tenure, and the bigger the deal, the more investors tend to fret.
  Supporters of the deal, including some institutional investors, argue Wachovia is being unfairly tarnished by comparisons with previous acquisitions that turned out to be disastrous, like the bank’s 1998 purchase of the Money Store, a lender to consumers with blemished credit histories, for $2.1 billion. The unit was shut down two years later. In contrast, Mr. Thompson has deftly handled the integrations of three major bank takeovers, most recently SouthTrust Corp., a Birmingham, Ala., bank acquired in 2004 for $13.7 billion, while improving customer service, supporters say.
  “We’ve got a lot of faith in Ken Thompson and his team that they know what they’re doing. That’s why we’re sticking with the stock,” says William Hackney III, managing partner of Atlanta Capital Management, an Atlanta firm with $8.9 billion in assets under management, including about 1.2 million Wachovia shares valued at $67 million.
  Softening in real estate is starting to show up in Golden West’s numbers. Through the end of August, loan originations declined 7.3% from a year earlier. While Golden West has a conservative record for underwriting loans, nonperforming assets and restructured debts rose to 0.41% of total assets from 0.28% in August 2005.

• Stock Market Report
  Eddy Elfenbein, October 12th, 2006 at 1:53 pm

  From Monty Python.

• Looking At Executive Pay
  Eddy Elfenbein, October 12th, 2006 at 12:26 pm

  
  The WSJ has a fascinating story today (sorry, but it’s a paid link) on the history of soaring executive pay:

  Amid the economic downturn and corporate restructurings of the early 1990s, complaints about such awards found receptive audiences. In 1992, Democratic presidential candidate Bill Clinton made executive pay a campaign issue. Washington responded.
  The SEC said it would require more disclosure about compensation, particularly stock options and executive perks. The following year, after Mr. Clinton was elected, Congress decided companies could no longer take tax deductions on executive compensation of more than $1 million, unless it was related to performance.
  Neither approach slowed the upward march of executive compensation. In fact, the disclosure rules allowed CEOs to see what others were getting, encouraging a competitive spiral. The tax law, meanwhile, drove up the compensation of CEOs who were making less than $1 million. Executives considered the cap a “minimum wage for CEOs,” says Mr. Koppes, the former Calpers official.
  SEC Chairman Christopher Cox recently said the 1993 law belongs in “the Museum of Unintended Consequences,” because it encouraged the growth of “less transparent forms” of pay, such as pensions and deferred compensation.