Archive for August, 2010

• From 1985: What Will Shopping Be Like in 2010?
  Eddy Elfenbein, August 31st, 2010 at 12:05 am

  From 1985, peer into the distant future of 2010.

• The WSJ Takes on the P/E Ratio
  Eddy Elfenbein, August 30th, 2010 at 2:43 pm

  The Wall Street Journal has a rather unusual column today claiming that the Price/Earnings Ratio is not only declining, but the metric’s importance is declining as well. For supporting evidence, they offer up the fact that corporate earnings were strong this past earnings season but the stock market has since fallen.
  Sorry folks but that’s not a hard knot to entangle: The P/E Ratio looks backward while stock prices look forward. As a result, you can get some poor readings. I’m afraid to tell the WSJ that despite this minor conflict, the P/E Ratio remains very important (though we must be aware of its shortcomings).
  The WSJ goes on to say that the P/E Ratio has plunged about 36% in the past 12 months which is the biggest drop in seven years. Again, this shouldn’t be much of a surprise because, as I just mentioned, the P/E Ratio looks backward. Corporate earnings have improved very dramatically since the depths of the recession. A higher E with a flat-to-lower P means a lower P/E Ratio. Mystery solved.
  The WSJ also writes that the forward P/E Ratio has dropped from 14.4 in May to 12.2 currently. This probably means that stock prices are ahead of analysts’ forecast and that those projections may be headed lower soon.
  Because of the time discrepancy in the P/E Ratio we sometimes get “false readings.” For example, when stocks are cheapest, the earnings line is often still headed lower. As a result, the very first stages of a bull market often shows the P/E Ratio dramatically expanding. The opposite happens when the market begins to look rich, which may be happening right now. Stocks are sluggish while earnings have improved. As a result, you have stocks falling after good earnings combined with a subdued P/E Ratio.

  Three months ago, analysts expected the companies in the Standard & Poor’s 500-stock index to boost profits 18% in 2011. Now, they predict 15%. Mutual-fund, hedge-fund and other money managers put the increase at closer to 9%, according to a recent Citigroup survey, while Mr. Levkovich’s estimate is for 7% growth.
  “The sustainability of earnings is in doubt,” said Howard Silverblatt, an index analyst at S&P in New York. “Estimates are still optimistic.”

  The WSJ says that the P/E Ratio is plagued by the lack of certainty in future earnings, and on this point I agree. Think of it this way. Imagine we have two stocks that are similar in every way except for one difference. Stock A is projected to earn $1 a share next year, plus or minus 20 cents. Stock B is projected to earn $1 a share next year, plus or minus three cents. Which stock will be worth more? Outside of rare exceptions, we can assume that Stock B will be worth more. Why? Because the market rewards certainty.
  The WSJ also claims that the P/E Ratio has had earlier bouts of loss of importance — from the Great Depression to the early post-war period and again during the inflation struggles of the 1970s and early 80s. I agree on the former, but the latter was hardly a refutation of the P/E Ratio. It’s simply that the P/E is closely tied to interest rates. As rates head higher, P/E Ratios headed lower so stocks could actively compete with bonds.
  I can assure you that any obituary for the P/E Ratio is very premature.

• Genzyme Says No to Sanofi-Aventis
  Eddy Elfenbein, August 30th, 2010 at 12:53 pm

  The stock market is bucking the trend of 2010 as we’re currently heading lower on a Monday. The market, however, is still well above the lows from Friday morning. Most of the rally from Friday afternoon still holds. The cyclical stocks are leading the market lower today.
  One of the big stories today is that Genzyme (GENZ) has rejected the $18.5 billion offer from Sanofi-Aventis (SNY) believing the bid is too low. I don’t have a strong opinion about either company but I’m happy to see companies reject buy-out offers right now.
  As usual, the market had the right idea. GENZ’s had already been trading above SNY’s bid price of $69 a share. Sanofi’s CEO said they made a “compelling” offer and that Genzyme’s management “has a history of overpromising and under-delivering.” Ooooh, snap!
  On the Buy List, Intel (INTC) is still in a buying mood. This time, they’re picking up the wireless unit of Germany’s Infineon Technologies for $1.4 billion. This is an area where Intel hasn’t been particularly strong.

  “The acquisition of Infineon’s wireless business strengthens the second pillar of our computing strategy–Internet connectivity–and enables us to offer a portfolio of products that covers the full range of wireless options from WiFi and 3G to WiMAX and the long-term evolution,” a standard for the new faster fourth generation mobile networks,” Intel President and Chief Executive Paul Otellini said in a statement.
  Infineon will “now fully concentrate our resources towards strong growth in our core segments,” its CEO Peter Bauer said without elaborating. He added that the sale of its wireless operations “is a strategic decision to enhance Infineon’s value.”
  Bauer added that acquisitions are an element of Infineon’s further growth strategy, although he added that there are no concrete talks and he fells no time pressure to buy.
  Infineon got a “reasonable price” for its wireless unit “but might be below ambitious market expectations that failed to factor in upcoming investment” for fourth generation networks, said Commerzbank analyst Thomas Becker, who rates the shares buy, but cut his target price to EUR5.80 from EUR6.60 to reflect the divestment.

  Intel’s stock is currently hovering around $18 a share.

• Buffett Turns 80
  Eddy Elfenbein, August 30th, 2010 at 8:15 am

  Happy Birthday to Warren Buffett. Here’s to 80 more!
  

• Ave Maria!
  Eddy Elfenbein, August 28th, 2010 at 1:07 pm

  Maria Bartiromo singing!. Here’s Part 1:
  
  Part 2:
  

• Market Notes: August 27, 2010
  Eddy Elfenbein, August 27th, 2010 at 3:53 pm

  The Buy List had a very good day to close out August which was an ugly month for us.
  Here are a few notes on some of our stocks:
  Barron’s notes that First Global has downgraded Gilead Sciences (GILD).
  Eli Lilly (LLY) won a court battle which extended the blocking of generic versions of Strattera, an attention deficit disorder drug.
  Nicholas Financial (NICK) got as low as $8.06 today. The company’s book value is $8.59.
  Here’s Ben Bernanke’s speech today in Jackson Hole. I thought it didn’t say much at all, but the market bond dropped sharply and stocks rose.

• Altria Raises Dividend
  Eddy Elfenbein, August 27th, 2010 at 11:46 am

  Altria (MO) announced today that it’s increasing its quarterly dividend by 8.6% to 38 cents per share. Think of it this way: If you had bought the shares 25 years ago, the dividends alone are yielding you 192%.

• Krugman and Bond 36,000
  Eddy Elfenbein, August 27th, 2010 at 9:55 am

  Ten years, I criticized the Dow 36,000 thesis for its bad math. Now I very cautiously criticize Paul Krugman’s defense of the bond bulls.
  Professor Krugman had a post earlier this week saying that the low yield on the 10-year T-bond is justified. He backed up this claim by taking the CBO’s 10-year projections for unemployment and core inflation and ran that through Greg Mankiw’s Fed rate rule.
  The output was a projection for the Fed funds rate for the next 10 years. What’s interesting is that it shows that the Fed ought to keep rates near 0% for a few more years.
  The problem I have with Krugman is what he did next. He used the 10-year forecast of short-term rates to arrive at his estimate of what the 10-year yield ought to be—2.6%.
  The problem with this is that the yield on the 10-year bond is not solely the summation of 10 one-year bonds, or 40 three-month bills, or whatever time slice you like to use. There’s also an added “term premium.” This is what makes the yield curve, well…curve.
  I looked at the historic spread of the 10-year bond over the effective Fed funds rate since 1954 (chart below). The spread has average 92 basis points. Bear in mind that this is a premium that’s over and above what the market has already factored for future rate increases. This is simply the premium you get for holding longer term debt.
  
  Assuming a 10-year bond with a coupon of 2.6%, an increase in yield of 92 basis points translates to a drop in price of close to 8%. That may not sound like a lot but it’s a big move in the bond market and it’s especially large if you’re pricing in an historic bull market for bonds.
  This ends today’s portion of my day when I criticize Nobel Prize winners in their field.

• The Lost Decade
  Eddy Elfenbein, August 27th, 2010 at 9:03 am

  The government revised the GDP growth number for Q2 today and it wasn’t good. Instead of growing by 2.4% which the original report said, the economy grew by just 1.6% for the second three months of the year.
  As bad as that sounds, Wall Street was expecting even worse. The consensus was to expect 1.3%. Thanks to that “good news,” it looks like stocks are ready to open higher.
  The 1.6% growth rate also matches what the U.S. economy has done over the last ten years. There’s talk of us having a lost decade; we’ve already had one!
  Here’s a look at the annualized GDP growth rate over the preceding 10 years:
  
  Since Q2 of 2000, the economy has averaged 1.6% a year which is less than half the growth rate of the preceding 10 years.

• The Low Point in the Presidential Election Cycle
  Eddy Elfenbein, August 27th, 2010 at 6:30 am

  We’re coming up on an important day for investors. One month from now is the market’s historic low point during the Presidential Election Cycle. Historically, September 30 of the mid-term year is the best time to buy stocks.
  A few years ago, I crunched the entire history of the Dow from 1896 to 2007. Here’s what I found:
  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. 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 September 3, the Dow then pulls back 5.6% and we’re back at our starting point, September 30 of the mid-term election year.
  
  Warning: I don’t put much faith in this statistical oddities for gaining a trading advantage. I simply think they’re interesting in what they reveal about market history.