Archive for May, 2008

• Oil and the Price at the Pump
  Eddy Elfenbein, May 15th, 2008 at 12:05 pm

  This chart is courtesy of GasBuddy.com:
  
  It’s hard to believe that gas was around $2.15 only 16 months ago.

• Bernanke was Right
  Eddy Elfenbein, May 15th, 2008 at 11:30 am

  Before selling off in the afternoon yesterday, the stock market came close to finishing at its highest point since the very beginning of the year. Since March 17, the S&P 500 has gained over 10%. Not bad for two months’ work.
  I think this is a good opportunity to ask if Ben Bernanke’s policies were right, and his actions helped alleviate the worst of the recent credit crunch.
  Let me add that I don’t necessarily believe this, and it’s way too early to judge, but now is a good time to take a step back and look at the evidence. Let’s make the argument in his favor and see how well it stacks up. If Bernanke was correct, then his handling of this mess would be far superior to anything handle by the overrated maestro, Alan Greenspan.
  Most of the superficial evidence suggests that the financial outlook is much better than it was two months ago. Stock prices are up. Gold is down. Volatility is way down. The microscopic yields on short-term Treasuries have somewhat faded. Inflation is still moderate. Or I should say, the government’s inflation reports are still quite moderate. Best of all, the initial estimate for first-quarter GDP wasn’t nearly as bad as the worst that bears were expecting.
  None of these points, by itself, confirms Bernanke’s actions, but taken together, they do give the Fed a nice case to rest on. Let me again say that this isn’t an argument for an economic resurgence, but it’s looking at the worst that we had during the credit crunch. As for me, I don’t care too much for the arcana of monetary policy. If it works, I’m for it.
  The weekend of March 15-16 was when we learned that Bear Stearns had gone under and was sold to JPMorgan Chase for $2 a share. This was later bumped up to $10 a share. On Monday, March 17, the S&P 500 dropped to 1276.60, which was just above its closing low from the week before. Then on Tuesday, the Federal Reserve cut interest rates by 75 basis points, which brought the Fed Funds target down to 2.25%. That Dow soared over 420 on Tuesday.
  To understand Ben Bernanke is to realize that he’s a student of the Great Depression. For economists, the Depression has long been a puzzle. Why did everything go so badly all at once? According to theory, it wasn’t supposed to happen. That’s the difficulty is that to understand the Depression, you need to discard your textbooks.
  On the occasion of Milton Friedman’s 90th birthday, Bernanke said:

  Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.

  The reason why Bernanke was saluting Friedman and Anna Schwartz, was that they were the ones who pinpointed the role that the Fed played during the Great Depression. According to Friedman, the Depression started off as a garden variety recession, but the Fed allowed the money supply to contract by one-third. This turned the recession into a Great Depression. When their theory first appeared in the 1960s, it was quite controversial. The inflation of the 1970s gave monetarism much more credibility, and by 1976, Friedman had won the Nobel Prize.
  According to Milton Friedman, one of the key moments of the Depression came in late 1930. There was run on the Bank of United States. By the way, I didn’t leave out an article, that’s the correct name of the bank, the Bank of United States. It was named that way to fool immigrants into believing that the bank was backed by the government.
  The bank was allowed to fail, and bank runs then multiplied. As the banks failed, the money supply shrank. It’s as if the Fed raised rates, which is the opposite of what they should have done. According to Friedman, the Bank of United States was in bad shape, but it wasn’t that bad. Depositors eventually received 94 cents on the dollar. Bad, but not awful.
  Let’s jump ahead 78 years. You can see why Bernanke was so concerned about Bears’ failure. The idea of a bank run is perfectly analogous to the issue facing a collapse of bear, but there is the issue of counter-party risk. We should also discuss the issue of whether Bear was bailed out. We often hear about the socializing or risk and the privatization of profit. Let’s recall that in the United States, a great deal of profits, up to 35%, is already socialized. Also, selling a bank of $2 a share can hardly be called a bailout. Though I do have an issue with the Fed backing JPMorgan’s purchase of Bears’ more questionable assets. The environment between now and then speaks for itself.
  In March, gold reached an all-time high of $1,033 an ounce. Since then, the yellow metal has backed off to less than $890. At one point on March 20, the yield on the three-month Treasury bill got down to 0.2%. That’s not a misprint. That means that the government could borrow $200,000 for roughly $1 a day. So even though there were complaints of cutting rates too much, market forces were happy to go even lower.
  The Fed has for the time being, stopped at 2%. T-bill rates have now risen to roughly 1.8%.
  The VIX, which measures implied volatility, has recently dropped below 20. On March 17, it got to 35.6.
  I’m not ready to give Bernanke a passing grade just yet, but I happily concede that the worst of the storm has passed.

• Whole Foods Bombs Again
  Eddy Elfenbein, May 15th, 2008 at 10:15 am

  
  Whole Foods (WFMI) dropped 14% yesterday on lousy same-store sales results. The stock hit a four-year low.

  For the quarter ended April 13, Whole Foods reported comparable-store sales — or sales at stores open at least one year — increased 6.7% from a year-earlier.
  In a research note, Citigroup analyst Gregory Badishkanian said investors probably expected Whole Foods to report comparable-store sales growth of between 8% and 9%.
  In recent years, Whole Foods had grown its comparable-store sales at rates in the high single digits to low double digits. But analysts said it looks like that growth is easing as the company rebrands Wild Oats stores acquired last August and opens new stores.

  This latest bombshell comes less than a year after it was revealed that John Mackey was posting on the Yahoo message boards.
  In late 2005, I first called out Whole Foods’ outlandish valuation:

  I’m a big fan of Whole Food Market (WFMI), but this stock is way, WAY over-priced. Last quarter, the company missed earnings by a penny a share. In the past few weeks, Wall Street has lowered this fiscal year’s consensus earnings estimate to $2.86 a share, and the stock is still trading at 53 times that. That’s almost as much as Google (GOOG)!
  Look, I like organic kumquats as much as the next guy, but let’s be reasonable. Whole Foods’ earnings will probably grow by about 17%-20%. Not bad at all. The stock, however, is already up over 60% this year.
  A stock can’t go up faster than its earnings indefinitely. At some point, something’s gotta give. That’s not finance, it’s physics. Right now, the stock is going up because it’s going up. The price and fundamentals have politely parted company. On Friday, shares of Whole Foods closed at another all-time high.

• How Many Times Do I Have to Say it?
  Eddy Elfenbein, May 13th, 2008 at 2:02 pm

  The WSJ does it again. Every time someone comments on political markets, they have to say that these markets “fail” because the a contract going for over $0.50 didn’t pan out.

  John McCain’s presidential campaign is doomed — at least, if you still believe what political futures markets indicate.
  At the Irish electronic exchange Intrade, on which people bet on election outcomes and other events, the futures market suggests Mr. McCain has a 38% chance of becoming the 44th president. In the Iowa Electronic Markets, set up at the University of Iowa, Mr. McCain’s Republican Party gets a 41% chance of winning the popular vote for the White House.

  No. No. No.
  They’re NOT predictions markets, they’re odds-setting markets. That’s something quite different. A 38% chance of winning is not a doomed campaign. I think a baseball player who’s batting .380 would be doing pretty well.
  Google IPO’d at $85, today it’s at $585. That’s a $500 miss. Did the market fail? No, they adapted to new information.
  As I’ve said several times before, these market are really just for fun and should be seen as nothing more than that.
  Still, I don’t understand how people can so often miss this basic fact about the political markets. The markets move with new information. It doesn’t mean that a favored outcome is correct or incorrect. That’s not what the markets are trying to do. They’re trying to analyze new information as quickly as possible. They usually, but not always, do a pretty good job.

• The Dow/S&P 500 Ratio
  Eddy Elfenbein, May 13th, 2008 at 1:03 pm

  Imagine if the Dow was 3,000 points higher than it is today. That’s where it would be if it had merely kept pace with the S&P 500 over the last few decades.
  The Dow used to be about 10 or 11 times the S&P 500 (I’m referring to the index number, not market cap), but the ratio slowly sank for a long time.
  The Dow/S&P 500 hit its low point in 1985 when the Dow was less than seven times the S&P. Since then, the Dow has had a bit of a comeback. In 2002, the ratio broke 9.5 for the first time in over 25 years.
  After falling back some from 2002 to 2004, the Dow has outpaced the S&P 500 over the last two years.
  

• Is Open Source Good for a Companies Stock?
  Eddy Elfenbein, May 13th, 2008 at 11:02 am

  Oliver Alexy looks at the impact of open source on a company’s shares:

  But does giving ideas away help — or hurt — the company’s stock price? Will investors reward openness by driving up the company’s shares — or punish it by knocking the stock down?
  Looking for News
  To find out, I analyzed companies’ stock performance before and after they announced that they were making proprietary software open-source.
  First, I searched through news releases from January 1999, shortly after the start of the open-source movement, to April 2007, looking for announcements that fit the bill. I then weeded out a number of companies, mostly because their announcements contained other news that might affect the stock price. That left 38 announcements from 30 companies.
  Next, I analyzed the companies’ stock performance for 125 days prior to the announcement — to get a baseline for performance — and then watched the stock activity the day before the announcement and the day of the announcement. (I looked at the day before in case the markets had anticipated the news.)
  Make It Clear
  The results? Companies saw their stock price rise if they met one crucial condition: explaining how they expected their open strategy to bring in short-term revenue. Companies that clearly communicated a short-term revenue model saw an average stock-price increase of 1.6%. Companies that didn’t saw an average decline of 1.6%.

  That’s interesting though I’m a little uneasy about the robustness of that survey. It would be interesting to see if there could be more research done on a broader scale.

• Guess What Stock Market Is at a New High?
  Eddy Elfenbein, May 13th, 2008 at 1:08 am

  I’ll give you a hint.
  Toronto.
  Give up?

  Much of the momentum on the TSX has been caused by strength in resource stocks. The energy sector has climbed 40 per cent since January while the price for crude oil rose above US$125.
  Investors have been turning to commodities stocks as a reliable investment alternative to international financial institutions, whose results have been bruised by the credit crisis.
  “People were extremely nervous so they pulled in their horns, and they took their money out of risky investments,” said Bob Tebbutt, vice-president risk management at Peregrine Financial Group Canada.
  “When people are nervous they automatically flock to things that are real — for example they flock to gold. It’s a risk place that they can put their money in and know that they’re theoretically going to get it back fairly easily.”

• Gazprom Meets Deep Purple
  Eddy Elfenbein, May 12th, 2008 at 11:27 am

  The New York Times has an article about the influence that Gazprom has on the Russian government. It’s not too much of a leap to say that Gazprom is the Russian government. The company’s president Dmitri Medvedev became Russia’s president last week. Putin, the former president, is now prime minister. And Viktor Zubkov, the former prime minister, will become the new head of Gazprom.

  It’s hard to overemphasize Gazprom’s role in the Russian economy. It’s a sprawling company that raked in $91 billion last year; it employs 432,000 people, pays taxes equal to 20 percent of the Russian budget and has subsidiaries in industries as disparate as farming and aviation.

  But I was most impressed to find that at the company’s 15th birthday party, they invited Medvedev’s band to play, Deep Purple.

  “The gig at the Kremlin was fun, but it wasn’t wild,” Ian Gillan, Deep Purple’s frontman, wrote in an article for The Times of London after the show. “The young guys and more junior staff were all up on their feet, although they were looking nervously over at their bosses to see whether they could loosen their ties. It was as if they were asking, ‘How much fun are we allowed to have?’ ”

• Get Over The Gap
  Eddy Elfenbein, May 12th, 2008 at 10:31 am

  From IBD:

  Trade Deficit: We have long been told that when the dollar “corrects,” making our goods cheaper abroad, the trade deficit will begin to fall sharply. Well, it’s finally happening. Now that it is, do you feel any better?
  You shouldn’t. Because even though the trade gap narrowed by $3.5 billion, or 5.7%, to $58.2 billion in March from February, it was a sign of weakness rather than strength.
  Compared with a year earlier, March exports rose 15.5% — a good thing, we suppose. But imports increased just 7.9%, a gain that would have been a lot lower if not for oil.
  True enough, the deficit appears to be declining — after hitting repeated records in recent years. Exports are booming while import growth has slowed noticeably, due mainly to the slumping dollar.
  On the surface, this looks like a good thing. After all, don’t we want to buy less from abroad and more from our own country? The answer is no if it means that the U.S. economy has slowed and is no longer pulling its weight in the world.
  Journalists and pundits call the smaller deficit an “improvement,” or “good news.” It isn’t. We run a trade deficit not because we’re uncompetitive or others protect their markets, two great economic myths; we run deficits because we’re such an attractive place for investors from around the world to park their money. The deficit, in other words, is a sign of strength.
  As any economist can tell you, the flip side of our trade deficit is our capital surplus, which measures foreign investment flows into and out of the U.S. When we run a trade deficit, by definition we must run a capital surplus — and vice versa.
  Last year, for instance, we rang up a record $708.5 billion deficit for both goods and services. But we imported the equivalent of $738.6 billion in investment capital to offset that. This was used to buy Treasury notes, bonds and stocks, and to fund real estate, plants, equipment and worker training.
  That foreign capital created jobs and added to our ability to consume. It may even have helped keep us out of recession.
  So what does it say that our deficit is now shrinking?
  On the whole, it means foreign investors find the U.S. economy a less inviting place to be, maybe because of the housing meltdown and concern over the upcoming election. But if the trend continues, it means we’re all going to have to consume less and save more to make up for the decline in foreign capital.
  That might not be a bad thing, but don’t let anyone tell you it will be painless. In the short run, a falling trade deficit will boost GDP. Indeed, based on Friday’s data, it’s likely first-quarter GDP growth will be revised up from the first estimate of 0.6% to roughly 1.2%.
  But in the long term, having less foreign investment means our economy will grow more slowly. That’s the downside.
  Don’t believe it? Just look at Germany and Japan. They’ve run huge trade surpluses for years, yet their economies have grown slowly at best since at least 1990. They export lots of their capital, as all trade surplus nations do, so they have less to grow on. We import it — and grow faster.
  As such, should we root for a smaller deficit? Well, a smaller trade deficit doesn’t have to be a negative. If it got smaller because Congress wised up and created private investment accounts for Social Security — which would raise the U.S. private savings rate — that might be a good thing.
  But making the deficit smaller isn’t necessarily a laudable goal, since doing so often covers for other bad policies such as raising taxes, devaluing the dollar and reverting to protectionism.
  All these things, by the way, have been proposed as “remedies” for the trade deficit, mostly by wrongheaded Democratic candidates and talk-show hosts. What they’d do, in fact, is shrink the deficit by shrinking the U.S. economy. We’d rather keep the deficits.

• Schwarzman’s Subprime Analogy
  Eddy Elfenbein, May 10th, 2008 at 1:23 pm

  Oh Steve:

  [It’s like] being a noodle salesman in Nagasaki when they dropped the A-bomb – not a lot of noodles left, and not a lot of people either.

  My prediction: This will not end well.