Archive for September, 2007

• The Implied Electability Contract
  Eddy Elfenbein, September 25th, 2007 at 10:59 am

  One of the things I find fascinating about finance is how you can use markets for two items to create an “implied market” for a third. I’ve written about this before here, here and here. This idea is at the root of all the complex financial instruments that caused problems for so many hedge funds recently.
  I’ll give you a good example I recently discovered. At InTrade.com, the site where you can trade futures on real world events, you can buy contracts on which candidate will win his or her party’s nomination next year. There’s a separate contract for which candidate will win the presidency.
  So, if you divide the former by the latter, you get an “electability” contract. For example, according to recent prices, Rudy Giuliani has a 34.65% chance (I’m using the mid-point of the bid/ask spread) of getting the GOP nomination and a 15.95% of winning the presidency. So the market believes that if he gets the nomination, he has a 46.03% chance of winning (15.95% divided by 34.65%).
  (The only minor flaw is that could include a candidate winning but not getting the nomination, however, I’m content with dismissing that possibility as beyond remote.)
  What’s interesting is electability in the general election can have little impact on how well a candidate does in the primaries. Some people, myself included, think that Ronald Reagan would have had a better chance of beating Jimmy Carter in 1976 instead of Gerald Ford, even though Ford beat Reagan for the nomination.
  I should add that I don’t place a great deal of faith in these real world futures markets. I simply see them as fun games to enjoy, but not to take too seriously. Also, the markets aren’t very liquid. In the following table I took the mid-point of each contract’s bid/ask spread. A minor change could have a big impact on the smaller-priced contracts.
  Having said that, here’s a look at some candidate and the market’s take on their electability.
  Candidate………To Get Nomination……To Win………….Electability
  Giuliani……………………34.65……………….15.95………………46.03
  Romney…………………..22.95……………….8.85………………..38.56
  Thompson……………….24.85………………..9.60………………..38.63
  Paul…………………………5.50………………..1.95………………..35.45
  McCain…………………….4.65……………….. 2.35………………..50.54
  Hillary……………………..67.05……………….45.25………………67.49
  Obama……………………16.35………………..8.25……………….50.46
  Edwards…………………..6.95………………..3.75………………..53.96
  Gore………………………..8.05………………..5.25………………..65.21

• Shiller’s Real Track Record
  Eddy Elfenbein, September 25th, 2007 at 10:09 am

  At Deal Breaker, Bess Levin highlights Alan Greenspan’s predictive abilities. In the linked NY Post article, I was left speechless by Terry Keenan’s touting of Robert Shiller’s track record.

  No wonder the average homeowner is confused. That’s why when I want to really know about the real state of the real estate market, I want to hear from someone who has been predicting this whole debacle for years now – a spot-on observer like Robert Shiller of Yale University.
  Shiller is in no need of reputation repair. Not only did he warn of the housing mess, he also called the Internet bubble with remarkable precision in his book “Irrational Exuberance.”

  Sorry Terry, but Shiller hasn’t been spot on—he’s been way off the mark. Shiller is a perma-bear and investors who followed his advice lost out in a big way. In the last five years, the S&P 500 has doubled. Shiller missed that and every other rally. He was a bear long before the market nose-dived and he’s continued to be a bear ever since.
  For some reason, there seems to be a strong bias to celebrate people who warn of market crashes. Perhaps it’s more dramatic. If you’re always warnings of a market crash, guess what? Sooner or later you’re going to be right! You’re suddenly a wise market observer. No matter what you say after, your reputation can live off that forever. The people who make the undramatic prediction “no, don’t worry, everything’s ok” rarely get credit for being right.

• FactSet Follow-Up
  Eddy Elfenbein, September 25th, 2007 at 9:40 am

  About a month ago, I highlighted FactSet Research Systems (FDS) as a stock worth watching. The stock is up 13% since then.

  I wanted to follow up as several readers asked if recent hedge fund explosions were curtailing FactSet’s business. Good question. Earnings are out today and the short answer is no. For the quarter, FactSet had EPS growth of 30% and revenue growth of 23%.

  The CEO said: “Demand for FactSet’s services continued unabated. Users rose to 35,000, up from 33,300 at the beginning of the quarter. Client count was 1,953 as of August 31, a net increase of 39 clients during the quarter.”

• Earnings Preview: Bed Bath & Beyond
  Eddy Elfenbein, September 24th, 2007 at 4:30 pm

  From the AP:

  Home accessories retailer Bed Bath & Beyond Inc. reports earnings for the fiscal second quarter on Wednesday. The following is a summary of key developments and analyst opinion related to the period.
  OVERVIEW: Home furnishings and accessories retailers are being pressured as the housing market sags, and consumers curb discretionary spending due to widening credit problems and high energy costs.
  Bed Bath & Beyond Inc. is no exception. In June, the Union, N.J., company said its full-year profit would miss analyst expectations due to uncertain economic trends.
  BY THE NUMBERS: Analysts polled by Thomson Financial expect a profit for the fiscal second quarter of 52 cents per share on revenue of $1.77 billion.
  ANALYST TAKE: Bear Stearns analyst Christopher Horvers said in a note to investors on Monday that he remains cautious on the sector.
  “Home furnishings remains one of the most challenging spaces in retail given the difficulties in housing, the fragmentation of the market, the discretionary nature of the products and the inventory build that has occurred across the retail landscape,” he wrote.
  He said he believes Bed Bath & Beyond will continue to “encounter near-term headwinds” and said he expects a few more quarters of difficult trends.
  For the quarter, he expects its gross margin to fall less than 1 percent to 41.4 percent of sales, driven by an increase in inventory acquisitions costs, a shift in merchandise mix and a heightened promotional environment.
  WHATS AHEAD: In a note to investors on Monday, Deutsche Bank North America analyst Mike Baker said he is “concerned” about analyst estimates for fiscal 2008 in the home furnishings sector overall, including Bed Bath & Beyond. Analysts polled by Thomson Financial expect, on average, a profit of $2.47 per share.
  “The company will not give its 2008 guidance until December, but at that time, we would not be surprised if BBBY guides to a number below the current consensus,” Baker wrote.
  A profit of $2.47 per share in fiscal 2008 implies a same-store sales improvement of 3 percent and a slight increase in operating margins, Baker said.
  “But, with our concerns regarding high inventories industry wide, demand environment would need to improve considerably over the next year to drive that kind of recovery,” Baker wrote. “The recent Fed easing could help us get there, but that’s not without risk, in our view.”
  The Federal Reserve approved a half-point reduction in interest rates on Thursday, in an effort to ease concern about the economy.
  STOCK PERFORMANCE: Shares fell nearly 15 percent during the quarter.

• The Presidential Election Cycle
  Eddy Elfenbein, September 24th, 2007 at 2:35 pm

  Out of boredom, this weekend I looked at all the Dow daily closings for the last 111 years (about 28,000 points of data) for a closer examination of the Presidential Election Cycle’s impact on stock prices. (What the hell was I thinking?) I did this before, but that only for the data from 1930 to mid-2006. This time, I looked at the every day from 1896 to last Friday.

  I don’t put much faith in these types of trading rules, but there are some interesting results. Historically, the Dow has gained an average of 24.1% from September 30 of the mid-term election year to September 6 of the pre-election year, which we recently passed.

  This means that nearly two-thirds of the Dow’s four-year gain (24.1% of 36.7%) comes in less than one-quarter of the time. That’s a pretty stunning stat.

  After September 6 of the pre-election year, the Dow has historically pulled back 5.2% to May 29 of the election year. After that, it puts on a nice 23.2% climb to August 3 of the post election year. Then trouble starts. After August 3, the Dow then pulls back 5.6% and we’re back at our starting point, September 30 of the mid-term election year.
  
  Also, Leap Day is a positive day for the Dow, up an average of 0.1256%.

• Looking at Long-Term Credit Spreads
  Eddy Elfenbein, September 24th, 2007 at 10:06 am

  
  If you’re confused by the credit crunch that happened last summer, here’s a good graph showing you some of the details. This chart shows the spread between Moody’s AAA Corporate yield index and the 10-year Treasury yield.
  Since lending to the government is pretty low risk, they own the printing press after all, the lower the spread signifies greater confidence the free market has in corporations paying back their loans. When the difference widens, that signifies that investors have become much more afraid of loaning to corporations. In other words, they’ve become more afraid of taking risks.
  In mid-July, the spread was around 70 basis points, which was close to some of the lowest levels in the past 15 years. Then, very suddenly, the spread exploded to over 120 basis points in less than one month.
  While the spread is still wide compared with last summer, it’s still moderate compared with the long-term. Consider that after 9/11, it ballooned to over 260 basis points. Looking at last ten years, the current spread is within the lowest 37th percentile.

• Playmate of the Year Talks Investing
  Eddy Elfenbein, September 24th, 2007 at 8:45 am

• A Lesson on Data Mining
  Eddy Elfenbein, September 24th, 2007 at 8:42 am

  Here’s a cute stat I saw over at Motley Fool. Cal Tech professor David Leinweber crunched the numbers and found that the singe-best predictor of stock prices is butter production in Bangladesh. “When butter production was up 1%, the S&P 500 was up 2% the next year. Conversely, if butter production was down 10%, you could predict the S&P 500 would be down 20%.”
  Coincidence? Well, yes. But this isn’t too far from the kind of research that’s been driving many hedge funds.

• Beware the Emerging Hegemonic Canadian Superpower
  Eddy Elfenbein, September 21st, 2007 at 3:14 pm

  For the first time in three decades, the loonie reaches parity.

• Civics Quiz
  Eddy Elfenbein, September 21st, 2007 at 2:29 pm

  I pride myself on being a civics geek. I got 58 out of 60 on this quiz. (I missed #36 and #58.)
  How did you do?