June 29, 2009 Stock Market Recap

Today it certainly felt like a holiday week. Volume was on the light side and the market just drifted around. I think that the aftermath of Friday's Russell rebalancing had some effect as well. There were a lot of wacky moves in Russell stocks at the end of the day on Friday and many of those were unwound today. That's probably why the Russell 2000 was down today while the other indices were up a decent amount.

There's the possibility of month-end (and quarter-end) marking up (window dressing) tomorrow. That could make for an interesting session given the holiday-like volume we'll probably have.

Trend Table

no changes

TrendNasdaqS&P 500Russell 2000

(+) Indicates an upward reclassification today
(-) Indicates a downward reclassification today
Lat Indicates a Lateral trend

*** I'm simply using the indices' relations to their 200, 50 and 10-day moving averages to tell me the long, intermediate and short-term trends, respectively.

Clean vs. Not-So-Clean Energy

While I have not mentioned it much on the blog, one of my favorite sectors to invest in is the energy sector. When it comes to energy ETFs, the 800 pound gorilla is XLE, the energy select sector SPDR that trades over 20 million shares on a typical day. XLE’s holdings are heavily tilted toward the major integrated oil companies, with Exxon Mobil (XOM) and Chevron (CVX) accounting for slightly more the 1/3 of the ETFs holdings, followed by ConocoPhillips (COP), Schlumberger (SLB), Occidental Petroleum (OXY), etc.

With cap and trade legislation passing the House over the weekend, investing in the energy space is getting even more interesting. XLE is up this morning, as are the popular oil services ETF, OIH (the top five holdings favor drillers and include RIG, SLB, DO, BHI and NE) and the exploration and production ETF, XOP (top five holdings are XEC, PXD, EAC, INT and HK.)

There are a variety of ETFs out there in the clean/green space. Perhaps the best known of these and certainly the most popular is PowerShares WilderHill Clean Energy (PBW), whose largest holdings include a healthy dose of solar companies (top five holdings are FSYS, VLNC, SOLR, ESLR, SOL.) Among the more interesting alternatives is a sibling ETF, PowerShares WilderHill Progressive Energy (PUW), which places more emphasis on energy efficiency and nuclear power and has a list of top holdings which includes MX.TO, ES, PX, USU and CCO.TO. For a solar-only ETF play, Claymore/MAC Global Solar Energy (TAN) is an excellent bet. Note that many of the holdings of TAN are not traded on U.S. exchanges. The current top five holdings are MBTN.SW, FSLR, S92.BE, CTN.DU and SWV.BE. Also in the top ten holdings are two Chinese solar companies whose ADRs are available in the U.S.: STP and TSL.

In the chart below, I have highlighted my favorite all-purpose clean energy ETF, PBW and have included a ratio of PBW to XLE in order to get a sense of the relative performance of clean energy with respect to the broad energy sector. While PBW has pulled back with the broader market during the past three weeks, it has continued to perform strongly against the broad energy sector ETF. As the ratio chart hints at, pairs trades involving clean energy ETFs such as PBW, PUW and TAN vs. XLE, XOP and OIH are one way to play the Washington energy legislation game going forward.

[source: StockCharts]

Disclosure: Long OIH, DO, INT and TSL at time of writing.

Business Post mails it

In practice:

Business posts good results

BPG.jpg The conundrum at the heart of Business Post’s (BPG) story is inexorably rising sales and range-bound profits.

I think it explains why, judging  by the share price, investors have gradually tired of the company, even though it’s an innovator in a fairly solid sector: parcels, and mail.

From its recent annual report Business Post’s mostly business-to-business parcel service accounts for 45% of sales, mail accounts for 43% and specialist services like its courier service and pallet delivery account for 13%.

But the mail service has grown from a standing start in 2004 when Royal Mail gave up part of its monopoly. Then Business Post’s UK Mail division became the first company to collect and sort letters in competition with the Royal Mail, which still delivers them. Now Business Post collects 17% of the UK’s mail, 70% of which it describes as ‘statement’ mail, from just 1,000 companies.

By focussing on the really big mailers and using its parcel network to collect, UK Mail achieves economies of scale, but profit margins are not as generous as they are in the parcel division. Parcels earned Business Post £15.6m operating profit in the year ending 31 March 2009, while UK Mail earned £11.6m.

Overall Business Post’s profits haven’t kept up with sales, and ultimately its the profits investors are interested in.

The recession must also be weighing on BPG’s share price. Although Chairman and co-founder Peter Kane says UK Mail is more insulated than we might expect because companies keep sending out statements, the amount of junk mail it carries might fall as businesses try to cut costs. The parcel service depends on the levels of business between companies, and Business Post reported 10% lower revenues in the second half of the year.

Nevertheless, on a long-term price earnings ratio of 13 it’s drifting towards bargain territory and an F_Score of nine out of nine, reflecting improving profitability, falling indebtedness and rising liquidity, shows that so-far Business Post is doing well despite recession. The launch last year of imail, which prints, addresses and posts mail for business customers shows its still innovating.

Perversely there’s not  enough bad news stalking Business Post to make it attractive to a contrarian. With a market capitalisation of  about £150m, its big enough to attract press comment, and City coverage.  The Investors Chronicle likes Business Post, analysts like it, and the directors are upbeat too.

They’ve persistently bought on the dips, the latest being Guy Buswell, the chief executive who first joined the company back in 1989. He bought 15,000 shares at 285p earlier this month, taking his stake to over 127,000 shares.

The good vibes are almost enough to scare a contrarian off. But Business Post faces competition too, sometimes in slowly declining markets.

According to Postcomm, the industry regulator, there are now 25 licensed mail operators and the market for ‘transactional mail’ (bills and statements) is shrinking at a rate of 3% a year as companies and their customers switch to online billing.

The direct mail market has also shrunk since 2003, so, while the mail is opening up giving companies like UK Mail, DHL, Fed-Ex, TNT and others a new opportunity, the overall market, for mail at least, appears to be increasingly competitive and shrinking slowly.

This must have dampened the spirits of investors expecting a mail boom. The question is, are they too dismissive now? I think they underestimate Business Post, but I’d prefer to see the price even lower in relating to earnings, a long-term PE closer to 10, just to be sure.

In theory:

The next bubble

What do you get if you combine a good economic story, a sunny outlook for profits, and easy money? Answer: A bubble, says Citigroup’s Robert Buckland, and Where do you get it? Answer: Emerging markets, or…

…Maybe green energy technology, reports Alphaville,

Stephen Green, chairman of HSBC and Anglican priest, says “There is something about the market system which is inherently unstable.” His new book, Good Value, is a moral defence of capitalism and globalisation exploring how to navigate their weaknesses.

The Economist reviews five books on the financial crisis, and decides the definitive tome has yet to be written.

It’s all Goldman Sachs’ fault, says Rolling Stone.

Scientific American reveals a specific site within the brain’s prefrontal cortex that is among the suspects in the financial meltdown.

Graeme says active investing is a negative-sum game. So do Eugene Fama and Kenneth French.

I’ve had many barney with Graeme, but I agree with his response to the FSA’s consultation paper on the distribution of retail investments, aka financial advice.

What’s driving the Chinese to save? So their sons can find brides.

£1.3bn in cash may not be enough to see British Airways through the recession.


It's been a tough year for value stocks. Is that surprising? No, although it reminds that Mr. Market prices certain slices of the equity market differently throughout the business cycle.

For the year through June 26, the rebound in equities has been powered mostly by growth stocks, according to Russell indices. As the chart below relates, growth stocks in general have been the conspicuous leaders through the first half of 2009.

This is hardly surprising in light of the unfolding story in financial economics over the past generation. Return premiums are linked with macroeconomic risks, which means that investors are compensated over the long haul for taking certain risks. Some of those risks pay higher rates than others and if you wait long enough, you'll probably realize the higher returns. All the more so if you pay attention to the fluctuating price of risk in the short term.

Academia Beckons

I joined Boston University (BU) as a Lecturer and Executive-in-Residence in January 2008 and have been teaching courses on Entrepreneurship to MBA students. My academic career has expanded recently with two projects:

  • I am collaborating with a friend and colleague Vivek Wadhwa at Duke University (I now am an Adjunct Research Scientist at Duke Pratt School of Engineering) to expand on his study about the impact of entrepreneurs on technology startups in the U.S. We are researching the impact of skilled immigrants on other sectors such as academia, retail, hospitality, healthcare, etc.
  • I am launching the BU Kindle mentoring program to educate faculty, students, and alumni to facilitate early stage business formation. BU Kindle provides a unique opportunity for seasoned entrepreneurs and business executives to have direct and meaningful interaction with the BU community.
Boston University Kindle Mentoring Program MIT has several mentoring programs that have been instrumental in MIT's success at commercialization and company formation. The MIT Enterprise Forum, the MIT Venture Mentoring Service (VMS), the catalyst program at the Deshpande Center and the MIT-HST Biomatrix are providing mentoring services to different constituencies. BU has 3,900 faculty, 2000 laboratories, 13,000 graduate students and received $336M in external research funding in FY2008 (July 2007-June 2008). According to the Association of University Technology Managers 2006 licensing survey of US and Canadian institutions receiving >$250M in research funding, BU was at the bottom of the 3rd quartile for research dollars spent per license granted. BU Kindle is a step towards accelerating commercialization of BU intellectual property and to encourage BU faculty and students to launch commercial ventures. BU Kindle will connect BU faculty and students to seasoned entrepreneurs and business executives in Massachusetts by creating a custom mentoring model from the ones at MIT, including the MIT VMS. BU Kindle joins several other programs at BU that support and encourage commercialization:






Upto $250K investment in spin-off research.

Renamed five years ago, predecessor created in 1998.



Ignition awards are $50K for research with commercialization promise.

Renamed five years ago, predecessor created in 1998.

$350K annually


Commercialize biomedical research.

Coulter Foundation funding 6 centers across the US for commercializing biomedical research. Began 2-3 years ago.

$1M annually

Fraunhofer Alliance

Automation and manufacturing engineering projects pre-commercialization.

One of fifty Fraunhofer Institutes. Is on BU campus. Established in 2005. 50-50 shared royalties.

$1M annually for five years. 50% funded by BU.




Clinical and Translational Science (BU-BRIDGE) Institute.

2008 NIH grant.

$23M over 5 years

Business Incubator

Incubate BU technology-related companies, primarily for government-funded research.

Founded 2000.

Commercial lease


Incubator within Biosquare for life sciences research.

Founded 1994.

Commercial lease

Additionally, BU created ITEC in 2007 with the mandate to integrate entrepreneurial activities across the university.  ITEC has developed several innovative programs, including eSPRIT (Entrepreneurial Students Participating in Research and Innovative Technologies), and a $50K business plan competition for students. Furthermore, BU students run several entrepreneurial focused clubs where students gather to learn about opportunities and form teams to pursue opportunities.

There Will Be Work

We have a fenced in pen off of our deck for the dogs to have a little bit of room to explore and play. A couple of weeks ago our two smallest dogs got out after something (maybe a squirrel?) dug a small hole in from the outside of the pen. The two dogs were only gone for a few minutes but it was very scary for a little bit. We had lined most of the pen with rocks of varying sizes but it was not perfect.

So Sunday morning Joellyn and I embarked on a masonry project where we made up some concrete, moved rocks and then reset the rocks in the concrete while trying to work the little bit of chicken wire that runs along the bottom of the fence into the concrete. What does this have to do with investing you may ask?

On Sunday a reader left a comment in response to my writing about owning foreign equities asking "doesn't it depend on what foreign equities you own?" Well yes it does.

The work in the pen required heavy lifting of many bags of concrete and adding more heavy rocks to the fencing. The idea of gravitating toward more foreign exposure more narrowly than just owning iShares MSCI EAFE Index Fund (EFA) requires a different type of heavy lifting. As a quick note EFA blends away a lot of attributes of the smaller, healthier countries, provides a lot of exposure to Japan and big Western Europe and tends to correlate much closer to the US market than many single country funds.

The concrete needed to be mixed, the rocks that were already there needed to be moved, more rocks, where needed, had to be hauled in from elsewhere on our property, everything needed to be set and then everything needed to be properly cleaned up; there were no short cuts.

If you believe your portfolio needs to become progressively more foreign then you need to learn the dynamics of many other foreign countries, figure the role that these countries can play in your portfolio, figure out how to access those countries and then follow those countries effectively; there can be no short cuts.

I realize there are time considerations, that people in general just may not want to devote this much energy to this and of course I may be wrong about the need for more foreign but this is how I see it. Of course there will be the hard core (or maybe not so hard core) passive investors who say this is just speculation and not investing.

I doubt I will change anyone's mind on this subject if I have not already done so but for a similar view from a different voice check out this week's Connie Mack show, specifically the segment with Andrew Lo from MIT and a half dozen other places. The simplistic takeaway from the interview is that things like buy and hold and using broad based index funds are not wrong but they need updating.

This may be a tie in with my views about markets and investing evolving. I have been writing about this as long as I have been writing. Over reliance on well it's always worked before is a bad idea. The status quo might be comfortable but are you willing to bet your future that it will be correct?

The picture is from the fence's earliest days.

Nobel Freakonomics

We don’t read Paul Krugman much these days—not since the New York Times outsourced its newsroom to the White House press office—but we did catch his column, “Not Enough Audacity,” in which the Nobel Prize-winning economist frets that Obama’s health care efforts aren’t radical enough:

On one side there’s Barack the Policy Wonk, whose command of the issues — and ability to explain those issues in plain English — is a joy to behold.

But on the other side there’s Barack the Post-Partisan, who searches for common ground where none exists, and whose negotiations with himself lead to policies that are far too weak.

Now you’d think Obama’s masterful “command of issues” might have included the notion that the person nominated for Treasury Secretary should be a guy who paid his taxes on time. But leaving that aside, let’s look at the President’s “ability to explain those issues in plain English,” which skill leaves Krugman all weepy:

Mr. Obama offered a crystal-clear explanation of the case for health care reform, and especially of the case for a public option competing with private insurers. “If private insurers say that the marketplace provides the best quality health care, if they tell us that they’re offering a good deal,” he asked, “then why is it that the government, which they say can’t run anything, suddenly is going to drive them out of business? That’s not logical.”

This is very smooth, and it certainly seems “crystal-clear,” assuming you don't think about it for, oh, half a second.

But it is nothing like logical: Government has no profit motive. Private insurers do. So a government payer, even as badly run as it will be, will wreck the private insurers' business models.

Stock-market-wise, we couldn't care less how the health-care model gets resolved. In the investment business, you deal with facts as they are, not as how you wish them to be.

But we wonder: how did a Nobel Prize-winner like Krugman get fooled by a slick bit of rhetoric with no inherent basis in fact?

Well, the Times’ web site describes the economist thusly:

His professional reputation rests largely on work in international trade and finance; he is one of the founders of the "new trade theory," a major rethinking of the theory of international trade.

Let’s hope he’s not working on a major rethinking of the theory of human health care...

Jeff Matthews
I Am Not Making This Up

© 2009 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Australia – the lucky but unbalanced country

I get many emails asking for my opinion as to the Australian economy and the Australian banks in particular. That is not surprising because I am probably the best known Australian writing a global investment blog. Certainly I write the best known blog by any Australian fund manager.

Answering the question in one post makes about as much sense as answering the same question regarding say Canada or France. The country is too big for an easy answer. Moreover some of my correspondents are German or American and others are Australian and I can safely assume different levels of knowledge for each party. This is a post aimed at non-Australians. Nuance for locals is harder.

Australia’s macroeconomic miracle

You can’t understand why Australia works so well without a decent statement of the Australian macroeconomic miracle. Australia is one of the smallest and most indebted nations to be given the privilege of borrowing in their own currency and floating that currency. New Zealand (across the ditch) is the smallest country with the unlikely trifecta (has run large current account deficits for a very long time, borrows in its own currency, floats that currency).

This is incredibly useful. If you are highly indebted bad things can happen to you but they are far less severe if you are lucky enough to be able to borrow in your own currency and to float that currency.

Consider the situation when the macroeconomic environment moves sharply against a country – as might happen with a rapid terms of trade change – or also might happen with if people (say due to a global fear epidemic) think its possibly you can’t repay them.
  • If your currency is fixed you will get a classic monetary recession. People will speculate against the currency (or withdraw their lending to you) and (due the central bank being forced to defend the currency) the local monetary supply will crash. The extreme version is what is happening to Latvia. It’s why Latvia should float their currency.

  • If however your currency is floating and you are highly indebted in foreign currency then your currency collapse will bring into sharp relief and immediately the difficulty of repaying your debt. The lower currency increases the principal and interest repayment in domestic terms of your debt. In extrema it causes almost immediate default. This is what is stopping Latvia floating their currency.

  • The Argentine solution is float the Peso in a crisis – but to rejig all old debts to new pesos at some new exchange rate and formalise the default. If you do that nobody trusts you again. If you are South American you do it a few times and you wind up looking like South America rather than Australia or the United States. In 1900 the three richest countries in the world per capita were Argentina, New Zealand and Australia (in order). Look how that worked out.
Now the Australian miracle (the trifecta) means that an external crisis can hit Australia and all that happens is that the Australian currency drops until our terms of trade improve again. The classic example was the 1997-99 Asian Economic Crisis: as we export mainly to Asia this was potentially devastating to our economy. But instead it was just devastating to the currency – which fell by about 50%. I remember travelling to the New York (for work) when the AUD was trading at 48c US. It was so expensive in New York as to be completely comical. The business hotel in New York cost more than a week’s average wages per night (it was a business hotel in the height of the dot.com bubble). But the fallen currency worked. It meant local export industries ticked up – the tourist industry did not collapse despite the lesser numbers of Asian visitors. The lower currency bailed out plenty of other industries as well.

When the crisis disappeared the currency went up again - more than doubling. Then China slowed a little and the currency fell.

If we did not have a floating currency and the ability to borrow in our own currency this would not have happened. We would have been just another case of macroeconomic road-kill.

This is a deal afforded Australia only because of 100 years of fairly good management. If you stuff up you lose our trifecta ... it is worth preserving. Fiscal rectitude – especially in good times – is worthwhile because it protects this privilege. And the reason why you want to run tight budgets in good times is precisely so the world does not force you to run fiscally contractionary policy during bad times.

General observation: whilst these conditions persist (which could be a long time), Australia will have the least trouble of any major OECD economy in adjusting to external economic shocks. The United States is pegged to China (although not by their own volition). Most of Europe is pegged to each other. [It will not help so much with domestic economic shocks. But governments of both persuasions are pretty good by global standards and they don’t look like stuffing it up. I am not so cheery about New Zealand – a country I think is very badly run by comparison with Australia.]

Anyway with the recent shock (China slowing commodity demand due to global economic conditions) we had the usual currency correction (currently reversed). Again and it looks like we have avoided the shock. The Australian economy seems indecently strong.

The unbalanced Australia

Unfortunately it is not quite as simple as all that. The Australian economy is very unbalanced. It has Sydney – a huge financial city in three big rings. Inner Sydney is a financial city of very high wealth. By repute owners of almost half of the wealth of Australia reside East of the Sydney Harbour Bridge. And it is only 4 km (3 miles) to the ocean! [The entire city of Brisbane is east of the bridge too, but the wealth is in Sydney.]

The financial sector is hurt but not badly as credit markets never closed here for longer than a few hours.

Beyond this Sydney has a service ring – mostly people who service the financial city (cleaners, plumbers, school teachers).

Outer Sydney (fully an hour drive from my home) is a manufacturing centre and it is hurting – but not as badly as I thought. Indeed a falling currency seemed to keep it quite well adjusted.

Almost all of Sydney is NOT resource dependent. It is the least resource dependent city in Australia. (In order Perth, Darwin, Brisbane, Adelaide, Melbourne, Hobart, Sydney.) Hence the recession is nastiest in New South Wales – and even then it is not bad. [Sydney is the capital of the state New South Wales.]

China has taken off again – or at least Chinese commodity demand has resumed. Australia is going to have to have a big internal adjustment – which will downplay the role of Sydney. However as there has not been a financial system crash here that will be an adjustment which for the moment looks manageable. As long as the adjustment happens at less than say 80 thousand jobs per year it will happen without great financial stress. For that we need China to keep on demanding our commodities.

The insane Sydney Housing Market

I am long Sydney Housing. I own a nice house. I would prefer bet against the price of my house (a nice but not large house without beach views in the fashionable suburb of Bronte worth about AUD3 million). I assure you it is not quite as glamorous as Sheila Bair’s recently advertised palace. Really it is solid upper middle class suburbia but with a silly price tag.

Indeed I would generally prefer bet against Sydney generally as it makes no sense. Both of us at Bronte Capital live East of the Harbour Bridge. Both of us are owners of insane real estate. Australian housing is amongst the most expensive in the world relative to the incomes of the people who live in them (see this report from Demographia).

It is that insane real estate which is the risk to Australian banks – which are loaded with mortgages on overpriced housing and overpriced commercial property. Unlike in America though these mortgages are largely recourse to the other assets of individuals (there is no jingle mail in Australia).

And they are insane loans within a country that makes a lot of sense and which has a government which has been so fiscally responsible as to allow us to run deficits of 6-8% of GDP during a financial crisis without any real risk to long term solvency. [Contrast this to America which was running insane deficits in good times – and which thus runs some risk of impinging the ability to run necessary deficits in bad times…]

An adjustment path from here is easier for Australia (because of our macroeconomic miracle). But it would help a lot if Chinese commodity demand does not wane - and hence allows us time to adjust.

Anyway in summary:

I don’t like unbalanced economies. The global problems we are now having is because the economy globally had been so unbalanced for a decade before that. However we are and remain unbalanced within Australia. However a relatively mobile labour market (compared to Europe but not to the US), increasing internal migration and a common currency and language should fix that over time.

Australia – I like it. I do not like the price. As an investment we are far more likely to be short Sydney consumption – and short Australian stocks – but it is not a bet against Australia – it’s a bet against the unbalanced bits of Sydney. And none of that should be unmanageable.

As for Australian banks other than our insane housing market the biggest problems are on the other side of the ditch. New Zealand is Australia's Eastern Europe - the over-indebted place without the historical advantages and with which we are not quite politically and economically integrated. When it comes to the crunch Australia will not guarantee New Zealand's debts - but the Australian banks will - which as Europeans are discovering comes down to the same thing.


Disclosure: I have worked for both Australian and New Zealand Treasuries. I have very strong views – perhaps little jaundiced by personal experience – about which is run better. The voting system in New Zealand is insane – whereas Australia’s parliamentary democracy is amongst the finest in the world. The Treasury has an easier time in Australia and is far more talented. For macroeconomic management this matters. But not as much as the resources that Australia has and New Zealand does not.

PS. I should link to this - which makes a fair point about just how far Australian and New Zealand housing prices have run - but without the necessary observations about recourse.

Physics envy, History envy

Physics is in some ways the geekiest science. It's fundamental, it has hard maths in it, and it has had enormous success at explaining the phenomena it tries to study. What other subject can successfully predict something to twelve decimal places?

As a result, some practioners in other fields have physics envy. This is a notable problem for finance quants, many of whom didn't make it as academic physicists (or did make but didn't like the salaries). Indeed in retrospect one can make a case that one of the causes of the Credit Crunch was the collapse of the Soviet Union - the argument would go that the collapse freed up lots of highly trained mathematians and physicists, some of whom came to work for investment banks - no bulge bracket firm was without its Academy of Sciences prize winner; the geeks used used the maths that they knew, which was mostly stochastic calculus, to model things; these models were dangerous but not easy to falsify (because they were only really wrong in a crisis); so the industry used them and was subsequently screwed. In one way at least communism brought capitalism down with it.

Anyway, the desire to build highly mathematical models has in practice lead finance down a dangerous path. Perhaps the aspiration was good, but the implementation has been deeply flawed.

Let me instead propose a different aspiration. History envy. History is a lovely subject. There are lots of facts, but most historians ignore many of the relevant ones. They are interested in motivations, in causes, in the evolution of ideas. They want to understand the why as well as the what. A good history text is carefully argued and insightful. It provokes discussion, and casts fresh light on the present. It's not clearly wrong, given the evidence, but it can never be said to be right, either.

How much better would finance be if it took these desiderata? Abandon the spurious and misleading quest for quantification. Just try to make an interesting argument about why things happen.

Chart of the Week: Might Recent Volume Bottom Doom Stocks?

This week’s chart of the week chart of the week could easily chronicle the recent decline in volatility, but that’s a story many pundits have already flogged to within an inch of its life, so it’s time for something else. Like volume.

The volume story rarely gets the air (electron?) time it deserves, so I have plucked out a chart in hopes of being provocative.

In the StockCharts lexicon, $NYTV is one of several measures of NYSE volume. Specifically, it is the daily NYSE volume figure reported by the Wall Street Journal and the one I have chosen to standardize on for my own charts. The chart below uses the NYTV numbers to plot NYSE total volume (dotted black line) against the backdrop of a solid gray area chart for the SPX, with data going back to May 2008. To smooth out some of the fluctuations and holiday-induced dips in volume, I have added a 9-day exponential moving average (EMA) as a solid blue line. I have also included a 10-day rate of change (ROC) study below the main chart.

While readers will undoubtedly draw their own conclusions from the chart, I have chosen to highlight three bottoms in the 9-day volume EMA. The first one occurs in late August 2008, just before the Lehman-induced September swoon. The second bottom is from late December, just before the January top. With Friday’s late volume surge triggered by the Russell index reconstitution, the spike in volume is almost certain to confirm that the mid-June volume drought will now become another bottom. The dip in volume coincided with the most recent top in the SPX and it is possible that for the third time in 1 ½ years, the volume bottom could signal a multi-month drop in the SPX.

[source: StockCharts]

Breaking into the venture capital industry

While the topic of career counseling is not the focus of this blog, I get enough requests from people who want to break into the VC industry, I thought it was worthwhile to write a blog entry about it so I can refer people to my viewpoint. There are plenty of articles (Seth Levine has two posts on this topic that are relatively popular – first, second) on the web you can find through a quick search on tips and advice on this subject but I’ll add in my two cents. Just a note – this is specific for early stage tech VC which is my experience (not as relevant for later stage VC/private equity or healthcare VC). Before diving into some thoughts around how best to break into the industry, I will assume you have done your homework on exactly what being a VC entails and you still want in. I think plenty of people are attracted to VC for various reasons – many of which only scratch the surface of what being a VC is really all about. There is an aura around VC that doesn’t really reflect accurately what it can be like on the inside. Rather than trying to dissuade you or confirm whether you really know what you are getting into, I’ll spend most of this entry with just the practicalities of preparing yourself for trying to break into the industry. Some quick bits of information to start that will set the stage for this topic
  • VC is a small industry (and getting smaller). I believe there are on the order of 1000 venture capital firms with less than 10,000 total investment professionals in the entire industry. Just to put this in perspective, Microsoft alone has around 80,000-90,000 employees. Google has 20,000-30,000. Apple has 30,000-40,000.
  • Most VCs have educational degrees from very select schools – Harvard, Stanford, Wharton, MIT, Yale, Princeton, Berkeley, etc. Most have advanced degrees – MBA, JD, MD, Ph.D., MS.
  • Most VC firms are relatively small in terms of number of investment professions – 5-10 being the most common. Cultural fit is paramount as its often a small team.
So given this, what are my tips and why?
  • One question I get quite often from people what want to get into VC, don’t think they have an opportunity immediately, but want to know what job to take that would position them best for VC down the line – should they join a startup or join a larger “brand name” company or go into investment banking or go into consulting. My advice is there is no one perfect career path….but whatever you do, just do it REALLY WELL. To get evidence of this, do your homework. Take a look at the bios of as many VCs as you can on the web (almost everyone has a bio on their website or LinkedIn) and see if you see a trend. From my experience, there really isn’t one. Early stage
    Continue reading "Breaking into the venture capital industry"

M&A premiums: What’s happening?

Just last month, Liam Vaughan at Financial News wrote about increasing M&A premiums as ‘buyers in the M&A market are being forced to pay more over and above a takeover target’s share price than they have for nearly a decade.’  According to Dealogic, Liam said the average one-month premium last month was 29.5%, up from 24.1% the previous quarter and 24.3% for the same quarter last year.  He quoted me saying the following:  ‘Corporates don’t want uncertainty in today’s market which is why they go for a bear hug offer to ensure recommendation from the board…’

Now, one month does not a trend make, but this is certainly much higher than the 2007 average premium of 21.2%.

He also quoted me (sorry, their website is subscription only, but if you have a subscription, the link is here):

‘Scott Moeller, director of M&A research at the Cass Business School, said:  “Strategic buyers with cash are able to make acquisitions on a longer-time basis.  They also don’t want to enter into a protracted offer period so will go for a bear-hug [higher and pre-emptive] offer to ensure a recommendation from the board.”’

This is all the more interesting because of the relative lack of financial buyers in the current market competing for targets (and therefore driving up deal prices).  One would normally think that the disappearance of a substantial group of buyers (the private equity and venture capital firms) would cause premiums to decline.

Then, just last week, Liam again wrote about this topic (once more, if you have a subscription, the article is here), using data from a recently released JP Morgan M&A report which had also noted the increase in premiums recently.  The JP Morgan study found that the premium (offer price over share prices one month earlier) were 23.8% in 2007 (yes, different analysts come up with differnt figures, but at least this isn’t too far from the other figure for 2007 above) and notes that the 2009 year-to-date figure is 29.8% (fortunately, remarkably similar to the figure above for May 2009).

Interesting in the JP Morgan study, the one-day premium figure for 2009 year-to-date is 32.7%. This one-day figure for 2009 is higher than the one-month premium.  Usually, it is lower (or 2007, for example, the one-day premium was only 16.6%).  Why is it usually lower?  Two reasons are normally given:  1)  that there are leaks to the market either intentionally or not (including outside observers who are correctly ‘guessing’ that two companies are in talks with each other) and 2) that the markets in industries with a lot of M&A activity are normally on the upswing (as was certainly the case through much of 2007, the year of the last M&A market peak).

So why is the one-day premium in 2009 HIGHER than the 30-day premium and therefore different from the typical experience?  I believe this is a reflection of the declining stock markets for much of this period – as the deal prices are usually set well before announcement date, and at least by a week or two if not longer.  Therefore, in 2009, the price was set but then by announcement date the target’s share price had declined some more.

The declining market also offers another reason for higher premiums at a market low, such as we have now.  The relative bargains for such companies makes it easier for healthy companies to afford to buy the targets, and especially if the acquisition was part of a long-standing plan to make the purchase, and the buyer is opportunistically making the purchase now that it is available at a cheaper price than they ever had imagined possible.

I’d be interested in hearing any other ideas as to why premiums are up year-to-date, and whether anyone believes they will decline yet again in the next merger wave as the stock market comes back.

The second derivative is bad

I have been firmly in the “second derivative is good” camp for some time. Green shoots were few and far between – but the economy no longer appeared to be in free-fall. When the free-fall stopped it was time to buy equities – and whilst it was not time to ease up on the looser monetary and fiscal policies – it may have been sensible to limit them somewhere near the levels that they now are.

The data I considered most persuasive was the delinquency data at Fannie and Freddie. It gets worse every month, but until the last data point it was getting worse at a decreasing rate (especially if you adjusted for the foreclosure moratoriums they implemented).

Today I am more worried. My favourite data point (rate of increase of Freddie Mac delinquency) has deteriorated – especially in their insured portfolio. Its not sharp deterioration – and it is possible – even likely – that Freddie Mac will have end credit losses considerably lower than the bears anticipate. But as a second derivative bull I am feeling just that little bit less certain.

Contra: the usually bearish calculated risk has a fairly good data point here.


For the real masochists – here is the monthly data from Freddie Mac. The brilliant interest rate management I identified recently has continued albeit not with the panache of the previous month.

Finally BondInvestor has not contacted me as requested. I really would appreciate it.

VIX Convergence Zone in Mid-20s

Since Fridays are days in which recent VIX lows are often tested, I thought this might be a good time to step back from the typical VIX daily chart and look at a weekly chart. In the chart below, I have elected to go back to the beginning of 2006 to capture the details of what was arguably the lowest volatility year on record so it could be compared with the most volatile year we have witnessed, 2008.

While volatility first began to spike in February 2007, it was not until July 2007 that investors began to come to terms with the potential magnitude of the damage should the subprime mortgage crisis morph into a global financial contagion. From July 2007 to September 2008, volatility was elevated, but seemingly contained in the 16-35 range represented by the blue box in the chart. It just so happens that the midpoint of that range roughly coincides with the 2006 VIX high of 23.81 that is represented by the horizontal green line.

To complete the picture, I have added a dotted green trend line that connects the December 2006 low to the May 2008 low. Like the 2006 high and the median for the blue box, it projects to about the 24-25 range.

This is not to say that the VIX cannot go below 24-25, but given the 3.06% drop in the SPX on Monday and the 2.14% gain yesterday, the current 26.65 level in the VIX does seem inconsistent with recent single day volatility.

[source: StockCharts]

Disclosure: Long VIX at time of writing.


One day we'll look back on 2009 and wonder what all the confusion was about. All will become clear and we'll know when the recession ended, when the bull market began anew and how and why the cycle turned. Meanwhile, we're wondering if the data du jour can be trusted.

Judging by the numbers of late, clarity is upon us, or so it seems. Income and spending are up among consumers. What's not to like? If this keeps up, we'll be back to the good old days by, oh, let's say the third week of September.

As for what we know today, disposable personal income jumped 1.6% last month on a seasonally adjusted basis, the Bureau of Economic Analysis reports this morning. That's the biggest monthly gain in a year. Not bad for what we've repeatedly been told is the deepest recession since the Great Depression.

Thanks, Michael


“Now he’s gone and joined that stupid club.”

—Wendy O’Connor (Kurt Cobain’s mother) after her son killed himself, joining Jimi Hendrix, Janis Joplin and Jim Morrison, rock stars dead at 27.


Okay, so we’ve been in a thankful mood recently (see “Thanks, Google” from June 15), and we’re going give thanks once more on these virtual pages.


Not, however, to the Michael Jackson who married Elvis’ daughter, dangled his baby out a window, and re-jiggered his face into some sort of Dangers-of-Plastic-Surgery warning poster.


The Michael Jackson who deserves thanking here is the genius who, when he was all of 23 years old, created a groove—the foundation of “Billie Jean”—that was as good as anything laid down on a record.


That groove could put a crying baby to sleep—and in fact it did, many times.


No matter how out of sorts she was, no matter how loud she was crying from that uncomfortable baby seat in the back of that tiny car, she stopped crying the second “Billy Jean” and its hypnotic base-line started to pulse.


That crying baby is now a grown woman; Michael Jackson, dead and soon-to-be-buried—or whatever the hell his handlers decide to do. (Ashes buried on the moon? Body frozen alongside Ted Williams for a Second Coming? Corpse interred at a new Michael Jackson Morgue at Disneyland?)


And although he was 50 when he died, way past the age of 27 when the likes of Kurt Cobain, Jimi Hendrix, Janis Joplin and Jim Morrison had all killed themselves in one way or another—Cobain with a shotgun, all doped up on heroin and Valium—the reality is Michael Jackson joined “that stupid club” a long time ago.


But that’s how it seems to be for rock stars.


Elvis was done by 27, even though he lived to 42. In fact he never made a song John Lennon thought worth listening to after he hit the big-time on the Ed Sullivan Show at 21.


And Lennon’s first musical partner, Paul McCartney, wrote his last good song—“Maybe I’m Amazed”—when he was 27.


It was McCartney, of course, who helped plant the seeds of Michael Jackson’s own musical demise when the pair collaborated on two songs that deserve their own special category—what the Brits call “Cringe-Making”—on any list of all-time Bad Rock Songs: “Say Say Say” and The Girl is Mine.”


But we won’t remember Michael Jackson for his collaborations with a 40-year old ex-Beatle, or the tabloid stuff that came later.

We’ll remember him for a particular groove he created when he was 23 years old and the world was his.


Jeff Matthews

I Am Not Making This Up


© 2009 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.

Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

The price of everything 2009-06-26 03:30:45

What colour are your spectacles ?

“Bank failures are caused by depositors who don’t deposit enough money to cover losses due to mismanagement.”


-       Dan Quayle.


What a mess. Still only part way through one of the biggest banking crises in history, yet having suffered grievous losses across multiple asset classes, we don’t appear to have learned very much. Relations between the UK’s tripartite oversight authorities seem to be deteriorating into acrimony and turf warfare even as the regulatory pendulum gains in weight and momentum. The banking and financial services sector is fast becoming a political football. Taxpayers deserve better. Maybe they will get mildly less incompetent treatment from the next government. Meanwhile, Wall Street firms that are only in existence due to the unconsulted largesse of US taxpayers are planning to boost executive pay. Citigroup (current share price: circa $3, which makes it the equivalent of a penny stock), having received $45 billion in “government” bail-out funds, now wants to increase some of its banking salaries by up to 50%. Did the events of 2008, during which the taxpayer rescued Wall Street and the City, never actually happen ?

To read more,

Download What colour are your spectacles

Why Commercial RE May Not Crash

Many market commentators have been predicting that commercial real estate is the next shoe to drop in the credit crisis. I've seen a handful of presentations with whopping statistics on the amount of outstanding debt that will need to be revolved in the upcoming years. However, there has not been the massive apocalypse in commercial RE. At least not yet. And there actually may not be. At least for a long while. The reason is that early this year the IRS changed some rules to allow REITs to pay some or all of their dividends in the form of stock. Typically a REIT pays its dividend in 100% cash out of its funds from operations. Because it pays a certain percentage of all of its income as dividends, it gets favorable tax treatment as a REIT. Late last year when the credit crisis was in full swing, REITs suddenly had to reduce their dividends because their funds from operations were reduced. Additionally, the terms for renewing debt was highly unfavorable so many REITs were in a bind as to whether they could revolve the debt at all or even pay out a dividend. As you can imagine, failure to pay a dividend would cause investors to flee the REIT as the primary reason to even invest in one is for income. So the overall prediction was that as REITs would need to renew their debt in massive proportions, the credit markets would continue to be frozen and many would become insolvent. However, that has not happened. Fortunately, this single IRS change has allowed REITs to continue to pay large dividends to shareholders by issuing the dividend partially or fully in stock. Thus, there has been no massive exodus and crashing of these REITs. With their stock intact or even elevated due to the recent market bounce, many REITs have even been able to issue stock to repay debt. One potential side effect of this IRS change is that the current shareholder is diluted at each dividend payment. Essentially, by issuing more shares each quarter, the REIT is slowly diluting and watering down its own investors. This form of dividend payment reminds me of PIK toggle notes. These "Payment In Kind" notes allow a debtor to defer payment of the debt and allow it to accrue for a certain period. In the LBO world, PIK notes are very favorable for the debtor because it allows the debtor to essentially change the terms of his loan if his cash flow is thin. As you can imagine though, the use of PIK notes are a clear indication of potential financial distress and in general are only issued during frothy boom times. Thus, it is surprising that in this time of financial crisis the IRS would allow payment of dividends in stock.

This either means that commercial RE will never have its projected crash. Or it means that the death will be slow and it will be inevitable.