This has been an year not to remember so far - not from a personal view point, but from what's transpiring globally.
What started off as a weak year with clear hints of a slowing global economy is winding down as one of the worst ever years in a life time (I sincerely hope this is the case!). The sub-prime lending fallout in US drastically led the global economy to a grinding halt - strung by a global credit crunch, gargantuan write-offs at financial firms, massive lay-offs, depressed consumer sentiment, a drastic fall in consumer spending and almost surely a global recessionary scenario...Japan, China, the US (by 4th quarter, even by technical definition) and many to come in the Euro region. What started off in the US has probably to be fixed here too - with firm central/federal steps, be it demand side or supply side! In the current scenario, it probably takes some strong demand-side measures by the new government post Jan 2009 (similar to the 30's when government-led infrastructure spending helped escape the rut)...there has been enough supply-side measures without much avail. Though quite uncommon in the free-market era, we would probably/surely see a strong switch to central regulation and state-led measures to pump-prime the economy back in to shape, but in a measured manner. The industry has little option, but to comply...but every one sincerely hopes this doesn't throw us back to a pre-free market state regime!
We didn't need anything more to spread further gloom to the year - but the terror attack which unreeled in Mumbai on Nov 26 did exactly the same. Its suprising to see 7-8 terror attacks in India over the course of 12 months (almost surely unprecedented due to nature of the attacks) pass by without any firm counter-steps. 9/11 in the US was replied by a strong counter-lash - though the direction and intent of the measures ever since then might be debatable, the nature and tone of the response delivered an equivocal message. Nov 26 probably delivers a repeated warning without any doubt...the world cannot sit and wait for more attacks to respond. India (and the world) needs a very pro-active and firm approach to tackle terrorism - we probably need a multi-pronged approach involving political means, economic means, advanced global warning systems and last but not least brute force! The right approach has to a) identify the funding means of terrorist groups and stifle funding sources (we can do this at least partly by strongly promoting green energy for what you know!) b) orchestrate political and diplomatic forces globally to isolate and target such forces and c) enforce counter-terrorism measures with complete conviction and force. This again calls for an approach which is unique to the times, driven centrally, but towards the right direction.
Thursday, November 27, 2008
Wednesday, September 17, 2008
Regulations, Risk Management & financial sector ails...
Its difficult to write anything on the economy or the market in the midst of such a horrendous week! However the very fact that 3 of the top 5 stand-alone investment banks cease to exist independently (and probably one more in the offing) - all with in a span of 3 months - shows how ridiculously leveraged and reckless most of these shops would have been. And seeing an insurer the stature of AIG in such massive trouble makes it even more dreadful.
Every one's now talking about regulation and the need for supervisory oversight - including the 2 presidential candidates - though more in populist terms! When the credit crisis unravelled (the early Citi and Merill write-offs), I had written about the need to regulate the credit rating agencies, to avoid conflict of interest situations and also to ensure a robust methodology for ensuring forward-looking ratings. This week proves beyond doubt that we need this and much more to lend some credibility back to the financial services sector.
I completely agree with experts who blame the Alan Greenspan era of deregulation and laissez-fare culture for creating this mess. Free market culture breeds unbridled capitalism, which in turn creates a business culture driven by short-term profit-taking...which leads to corporate decision-making power completely skewed to favor profit-generating functions. This is against the basic principle of risk management - a strong independent risk organization which mandates a firm-wide risk management policy, monitors and controls risk limits and promotes risk management-aligned business and compensation practices. It is apparent that none of this was happenning in most (if not all) of the broker dealers and investment banks. Financial innovation driven by exotic structured products and complex derivatives fueled an artificial boom whereby firms resorted to excessive leverage and focused on generating maximum returns on capital and thus maximum bonuses for revenue generating functions.
What is needed for financial services firms, especially investment banks, to win back the credibility that they have lost? Advanced modeling skills to price and value exotic products (like the so-called Level-3 'classified' assets)?? Even more efficient straight-through processing engines to avoid settlement risk and operational risk?? Multi-factor risk models to churn tons of data and help facilitate stress testing and scenario analysis? All of the above would probably help - but the root of the malaise is some thing more fundamental. Lack of corporate accountability and supervisory regulation are two very important factors; however the absence of a culture driven by risk-management principles is even more important. Look at some basic tenets - a) Independent and powerful risk management reporting to senior management, b) complete separation of duties between say, traders and back office folks, c) Defined risk exposure limits for lines of business and enforcement of the same. All of these were probably followed in letter, but not in spirit. There's absolutely no use having a compensation structure driven by risk-adjusted profits or for that matter trading policies controlled by VaR/Conditional VaR-driven exposure limits if fundamental principles on classifying assets by risk weights, defining sectoral or instrument-level exposure limits etc are not followed. For once, the focus has to shift away from unbridled financial 'innovation' to enforcement of basic risk management principles. But, having said all that, its difficult to blame the investment banks completely for the same - since a regulatory environment which promotes extreme free-market culture does not incentivize executive management to take any long-term decisions sacrificing short-term profits. The very fact that regulatory authorities gave a short-shrift to the level of enforcement/coverage and deadlines associated with applying Basel II norms shows how callous they have been!
As Basel II norms clearly stipulate, one pillar (capital adequacy norms - driven partly/wholly by internal risk models and subsequent capital allocation) cannot hold on its own without the other two - supervisory review and market discipline. There's a lot to be done - solve the issue of overlapping supervisory roles (SEC, FDIC, OCC etc), creation of regulatory bodies to monitor systemic risk and excessive risk concentration, formation of a regulatory body/SRO to supervise the risk monitoring and rating agencies etc. However, none of these would solve the problem in itself - we probably need strong compliance mandates for corporate accountability and oversight to ensure that internal management of firms are driven with a balanced risk-reward mindset. Because, with out it, we have enough ingenuity and brilliance in the system to thwart any regulatory oversight and exploit compliance loopholes!!
Every one's now talking about regulation and the need for supervisory oversight - including the 2 presidential candidates - though more in populist terms! When the credit crisis unravelled (the early Citi and Merill write-offs), I had written about the need to regulate the credit rating agencies, to avoid conflict of interest situations and also to ensure a robust methodology for ensuring forward-looking ratings. This week proves beyond doubt that we need this and much more to lend some credibility back to the financial services sector.
I completely agree with experts who blame the Alan Greenspan era of deregulation and laissez-fare culture for creating this mess. Free market culture breeds unbridled capitalism, which in turn creates a business culture driven by short-term profit-taking...which leads to corporate decision-making power completely skewed to favor profit-generating functions. This is against the basic principle of risk management - a strong independent risk organization which mandates a firm-wide risk management policy, monitors and controls risk limits and promotes risk management-aligned business and compensation practices. It is apparent that none of this was happenning in most (if not all) of the broker dealers and investment banks. Financial innovation driven by exotic structured products and complex derivatives fueled an artificial boom whereby firms resorted to excessive leverage and focused on generating maximum returns on capital and thus maximum bonuses for revenue generating functions.
What is needed for financial services firms, especially investment banks, to win back the credibility that they have lost? Advanced modeling skills to price and value exotic products (like the so-called Level-3 'classified' assets)?? Even more efficient straight-through processing engines to avoid settlement risk and operational risk?? Multi-factor risk models to churn tons of data and help facilitate stress testing and scenario analysis? All of the above would probably help - but the root of the malaise is some thing more fundamental. Lack of corporate accountability and supervisory regulation are two very important factors; however the absence of a culture driven by risk-management principles is even more important. Look at some basic tenets - a) Independent and powerful risk management reporting to senior management, b) complete separation of duties between say, traders and back office folks, c) Defined risk exposure limits for lines of business and enforcement of the same. All of these were probably followed in letter, but not in spirit. There's absolutely no use having a compensation structure driven by risk-adjusted profits or for that matter trading policies controlled by VaR/Conditional VaR-driven exposure limits if fundamental principles on classifying assets by risk weights, defining sectoral or instrument-level exposure limits etc are not followed. For once, the focus has to shift away from unbridled financial 'innovation' to enforcement of basic risk management principles. But, having said all that, its difficult to blame the investment banks completely for the same - since a regulatory environment which promotes extreme free-market culture does not incentivize executive management to take any long-term decisions sacrificing short-term profits. The very fact that regulatory authorities gave a short-shrift to the level of enforcement/coverage and deadlines associated with applying Basel II norms shows how callous they have been!
As Basel II norms clearly stipulate, one pillar (capital adequacy norms - driven partly/wholly by internal risk models and subsequent capital allocation) cannot hold on its own without the other two - supervisory review and market discipline. There's a lot to be done - solve the issue of overlapping supervisory roles (SEC, FDIC, OCC etc), creation of regulatory bodies to monitor systemic risk and excessive risk concentration, formation of a regulatory body/SRO to supervise the risk monitoring and rating agencies etc. However, none of these would solve the problem in itself - we probably need strong compliance mandates for corporate accountability and oversight to ensure that internal management of firms are driven with a balanced risk-reward mindset. Because, with out it, we have enough ingenuity and brilliance in the system to thwart any regulatory oversight and exploit compliance loopholes!!
Sunday, July 13, 2008
Paulson's rescue act & the need for better risk management regulations
The Treasury Secretary did what every one expected - step in and propose a unfettered vote of confidence on Fannie Mae and Freddie Mac. If the Fed could react with such promptness to save Bear Stearns (which i feel was right anyway), there's no way any one could expect the Fed/govt reaction to be muted for these behemoths which together buy/package almost 50% of the 12 trillion+ mortgage loans outstanding. Any delay would further depress already low markets and cause more trouble for the already-shattered housing market.
Having said that, I personally don't agree with the whole trend that such moves set - though given such a situation, there's pretty much nothing else that the Fed/govt could have done. The real trouble lies in the market mechanism which let things come to such a state. Of course, many questions remain on the role that risk management groups play in even mid and large tier investment banks - however in a quarterly-result driven market, little different could be expected in terms of market dynamics that force firms to sacrifice prudent risk managemenmt for profit-maxmimizing strategies backed by hollow VaR-backed 'risk management policies'. The real blame lies elsewhere though - as I probably have written multiple times over the past 6 months (!), one of the primary reasons has to be the lack of self regulatory (SRO-driven) or central regulatory supervision on credit rating agencies.
Moody's latest faux-pas related to rating errors on European constant proportion debt obligations is probably only the tip of the ice berg. In a scenario where rating agencies rate debt for the same investment banks which form their key client base for fee revenues, conflict of interest is the (only) name of the game. The other driving factor could lack of senior rating analysts to cover the vast volume of debt that gets issued in today's market. A small bunch of analysts using basic senior management interviews and review of the entity's internal VaR/other risk management limits cannot do justice given the ingenuity that exists in ths system. For example, as long as regulations allow hidden buckets like 'Level 3 assets' to park illiquid assets (no rule book can ANY WAY be fool proof), its very difficult to look at a balance sheet, conduct interviews, review adherence to firm-level exposure limits and decide on current solvency or credit worthiness. Forced adherence to stronger risk management policies leveraging tougher measures like Condition VaR or extreme scenario-based stress testing and modeling need to be made an industry norm - with penalties proposed for non-adhering members through higher capital requirements. The SEC should show some urgency to forge a strong SRO culture that would do multiple things:
a) define best practices w.r.t rating methodology for rating agencies, especially with respect to exotic and structured instruments,
b) code of busines guidelines for addressing the conflict of interest inherent in the model,
c) define guidelines address extreme/tail-end risks in internal risk managemnet frameworks
being some of the key.
We already have seen a good amount of laxness in interpreting and implementing capital allocation rules per Basel II rules in the US for example - unless this trend is reversed and a stronger SRO-driven risk management focus emerges, we would continue to see more systemic market crashes!
Having said that, I personally don't agree with the whole trend that such moves set - though given such a situation, there's pretty much nothing else that the Fed/govt could have done. The real trouble lies in the market mechanism which let things come to such a state. Of course, many questions remain on the role that risk management groups play in even mid and large tier investment banks - however in a quarterly-result driven market, little different could be expected in terms of market dynamics that force firms to sacrifice prudent risk managemenmt for profit-maxmimizing strategies backed by hollow VaR-backed 'risk management policies'. The real blame lies elsewhere though - as I probably have written multiple times over the past 6 months (!), one of the primary reasons has to be the lack of self regulatory (SRO-driven) or central regulatory supervision on credit rating agencies.
Moody's latest faux-pas related to rating errors on European constant proportion debt obligations is probably only the tip of the ice berg. In a scenario where rating agencies rate debt for the same investment banks which form their key client base for fee revenues, conflict of interest is the (only) name of the game. The other driving factor could lack of senior rating analysts to cover the vast volume of debt that gets issued in today's market. A small bunch of analysts using basic senior management interviews and review of the entity's internal VaR/other risk management limits cannot do justice given the ingenuity that exists in ths system. For example, as long as regulations allow hidden buckets like 'Level 3 assets' to park illiquid assets (no rule book can ANY WAY be fool proof), its very difficult to look at a balance sheet, conduct interviews, review adherence to firm-level exposure limits and decide on current solvency or credit worthiness. Forced adherence to stronger risk management policies leveraging tougher measures like Condition VaR or extreme scenario-based stress testing and modeling need to be made an industry norm - with penalties proposed for non-adhering members through higher capital requirements. The SEC should show some urgency to forge a strong SRO culture that would do multiple things:
a) define best practices w.r.t rating methodology for rating agencies, especially with respect to exotic and structured instruments,
b) code of busines guidelines for addressing the conflict of interest inherent in the model,
c) define guidelines address extreme/tail-end risks in internal risk managemnet frameworks
being some of the key.
We already have seen a good amount of laxness in interpreting and implementing capital allocation rules per Basel II rules in the US for example - unless this trend is reversed and a stronger SRO-driven risk management focus emerges, we would continue to see more systemic market crashes!
Saturday, June 28, 2008
Technically in Bear territory...
Market volatility could not be stressed more - after a brief positive upsurge to the 13K levels by early May, the markets swung back to sub-12K levels as early as June mid. With the Dow currently at 11,300+, we are technically close to bear territory, about 20% below the last high. As in the early year fall, Financials were the worst affected...you can rarely see C at 17, WB at 16! Some of the big names are now trading at close to 1/3rd of their highs! Though I am tempted to say these are buys, would resist doing so considering what happpenned after the last such prediction. However, like the housing market, we are probably closer to the bottom.
The same cannot probably be said about the US equity market as a whole - Q3 and Q4 should see tough results too, especially retail, industrials and feeder service industries which bear the brunt of depressed consumer spending & unemployment highs. Drastic down turn in global stock markets like in India and China (The Mumbai Sensex is at 13,000 levels as against 20,000+ levels early this year!), fall in consumer confidence in Germany, UK and the rest of the Euro territory all means there is not a global growth story to counter domestic ails either!
Summer should see some positive news on increased consumer spending though, in line with seasonal cycles. Housing stats should see some relief too, aided by the seasonal pattern - though an upturn is probably still a way off, a perk in activity this summer should bring us closer to the bottom. The biggest spoiler could be Oil...any rise above the current stratospheric levels would make it next to impossible for the Fed not to further tighten monetary policy, which would further squeeze the housing and consumer markets. We should hopefully see some concerted action by the G-30 and OPEC in order to bring some sanity to spot and future crude prices. It's difficult to imagine busines and political powers not acting together to prevent any thing that could seriously affect economies globally.
I would rather not jump in to any contra-investments at this point, and take a wait and watch approach. Near-month call options on Financials might look pretty attractive, but not without associated downside risks. A normal turn of events should see oil prices cooling down, Fed keeping interest rates flat and summer activity giving the needed positive dose to this drab market.
The same cannot probably be said about the US equity market as a whole - Q3 and Q4 should see tough results too, especially retail, industrials and feeder service industries which bear the brunt of depressed consumer spending & unemployment highs. Drastic down turn in global stock markets like in India and China (The Mumbai Sensex is at 13,000 levels as against 20,000+ levels early this year!), fall in consumer confidence in Germany, UK and the rest of the Euro territory all means there is not a global growth story to counter domestic ails either!
Summer should see some positive news on increased consumer spending though, in line with seasonal cycles. Housing stats should see some relief too, aided by the seasonal pattern - though an upturn is probably still a way off, a perk in activity this summer should bring us closer to the bottom. The biggest spoiler could be Oil...any rise above the current stratospheric levels would make it next to impossible for the Fed not to further tighten monetary policy, which would further squeeze the housing and consumer markets. We should hopefully see some concerted action by the G-30 and OPEC in order to bring some sanity to spot and future crude prices. It's difficult to imagine busines and political powers not acting together to prevent any thing that could seriously affect economies globally.
I would rather not jump in to any contra-investments at this point, and take a wait and watch approach. Near-month call options on Financials might look pretty attractive, but not without associated downside risks. A normal turn of events should see oil prices cooling down, Fed keeping interest rates flat and summer activity giving the needed positive dose to this drab market.
Sunday, May 25, 2008
The self-defeating oil surge
After a brief spell of (unwarranted) upward bounce, last week saw the market erase most of its gains and swing back down to 12,600 levels. Though this is still significantly above the low touched on March 10, during the Fed-JPM-Bear Stearns drama.
OIl continued it's non chalant upward climb, touching as high as USD 133/barrell. It's difficult not to say that OPEC and the other supply side players are strethching their luck. Though there is no refuting the fact that industrial/consumer growth results in increased demand for several gas-guzzling 'instruments' across both the developed and developing worlds, an unreasonable spurt in prices raise red alarms. It's like a fore-warning of future danger due to over-reliance on oil - this in turn shifts tremendous amount of attention on alternative energy - solar being the flavor of the day. The spike in interest in solar shares has been over an year old (at least) by now, but this is probably the turning point for co-ordinated industry-led investments in solar. An example of the latest news on JPM & Wells Fargo funding large banks of solar thermal fields in the west coast and large players like Google and Chevron funding research for the same. If any thing positive is to come by the recent spike in oil prices (apart from bloated tressuries in the Middle East!), its this increased attention and serious focus on alternative energy.
Apart from the above trend, continued upward pressure will feed inflationary pressures which has already shown from the US to Europe to Asia. Inflationary pressures amidst a cooling global economy causes unwanted strain and would further slow growth, especially consumer growth. As has been pointed by almost every one from now, this will eventually create a drop in demand for oil and downward pressure in prices.
So, while the oil economies reap immediate gains, this spike is in a sense the worst thing they could ahve done to themselves longer term. Prices are bound to come back to saner sub-100 levels at least in the next 6-9 months and the longer term focus on alternative anergy gets a tremendous boost. To every one's benefit, reducing over-dependence on one single source of energy!
As for the stock picks to cash in on this wave, i frankly haven't done enough research. My brother's (he does private equity research for an India-based shop) favourite pick has been First Solar...i ignored the pick way back in its 180's! Now that its up in high 200's, i am still wary due to my P/E-driven view of this stock world. He's probably correct since every one from Citi to Jm Cramer has upped their targets on FSLR! And we have another star on the horizon with Evergreen solar - last week saw news of this player winning 2 contracts (from Germany & US) worth almost USD 1 billion - and the shares spiking over 20%!
The next 5-10 years is definitely the time for GREEN. Thanks to OPEC and their greed for helping every one realize that without doubt!
OIl continued it's non chalant upward climb, touching as high as USD 133/barrell. It's difficult not to say that OPEC and the other supply side players are strethching their luck. Though there is no refuting the fact that industrial/consumer growth results in increased demand for several gas-guzzling 'instruments' across both the developed and developing worlds, an unreasonable spurt in prices raise red alarms. It's like a fore-warning of future danger due to over-reliance on oil - this in turn shifts tremendous amount of attention on alternative energy - solar being the flavor of the day. The spike in interest in solar shares has been over an year old (at least) by now, but this is probably the turning point for co-ordinated industry-led investments in solar. An example of the latest news on JPM & Wells Fargo funding large banks of solar thermal fields in the west coast and large players like Google and Chevron funding research for the same. If any thing positive is to come by the recent spike in oil prices (apart from bloated tressuries in the Middle East!), its this increased attention and serious focus on alternative energy.
Apart from the above trend, continued upward pressure will feed inflationary pressures which has already shown from the US to Europe to Asia. Inflationary pressures amidst a cooling global economy causes unwanted strain and would further slow growth, especially consumer growth. As has been pointed by almost every one from now, this will eventually create a drop in demand for oil and downward pressure in prices.
So, while the oil economies reap immediate gains, this spike is in a sense the worst thing they could ahve done to themselves longer term. Prices are bound to come back to saner sub-100 levels at least in the next 6-9 months and the longer term focus on alternative anergy gets a tremendous boost. To every one's benefit, reducing over-dependence on one single source of energy!
As for the stock picks to cash in on this wave, i frankly haven't done enough research. My brother's (he does private equity research for an India-based shop) favourite pick has been First Solar...i ignored the pick way back in its 180's! Now that its up in high 200's, i am still wary due to my P/E-driven view of this stock world. He's probably correct since every one from Citi to Jm Cramer has upped their targets on FSLR! And we have another star on the horizon with Evergreen solar - last week saw news of this player winning 2 contracts (from Germany & US) worth almost USD 1 billion - and the shares spiking over 20%!
The next 5-10 years is definitely the time for GREEN. Thanks to OPEC and their greed for helping every one realize that without doubt!
Sunday, May 11, 2008
Shift in focus away from Financials
The last 4 weeks saw a significant upward correction, with the market touching the 13K levels, albeit for a short while. Technology and Oil & gas led sectoral gains, with names like GOOG and AAPL recovering most of 2008 losses. Financials gained too - MER, LEH, GS etc have all recouped enough to say that there's not enough immediate upside left in them now, till the economy as a whole is back on the growth track. Citi (C) stands out though - it has been one of my perennial favourities in this recession cycle...Vikram Pandit's aggressive trim-down startegy across lines of business and asset segments should give it enough steam to demand far better valuations.
A quick look at S&P 500 sectoral swings the last 30 days:
- Technology up 10% [GOOG, AAPL up 25%; Intel, Cisco, HP, IBM up around 7-10%]
- Oil and gas up 8% [CHK up 20%; SLB up 15%]
- Industrials up 5% [CMI up 40%; BA, CAT up 10%]
- Consumer up 5% [DIS up 14%; TWX up 12%; MCD up 7%; WMT up 5%]
- Financials up 4% [GS, JPM, LEH, FRE, FNM up over 10%]
- Health care down [UNI, LLI down 8%; MRK, PFE down 5%]
...and a look at 3 month trends show an obvious trend - Oil & Gas and Commodities have gained the most [big ticket names like HAL, HLB, CVX, X, NUE, FCX have gained over 25%].
It is however very early in the economic cycle to be bullish on the whole market - we need to take a quick look at the macro picture to interpret the overall trend:
1)Real estate market hits peak in late 2006 and shows signs of buckling by mid 2007
2)#1 results in a bubble burst in the CDO/MBS market, with Bear's hedge funds leading the pack.
3) #2 in turn resulted in sustained panic on Financials...with higher foreclosures, more stress assets, depressed MBS/CDO values, failed auction rate markets, massive write-downs and tighter credit in general
4) Fed/govt responds to #3 with massive rate cuts (325 bps in 6+ months), fiscal stimulus packages and some dare-devil acts like the Bear Stearns rescue.
5) #4 results in some regaining of lost confidence in Financials and realization of the fact that its not the end of the world for any of the big financial firms. Also, Q1 results across most sectors did not show the level of weakness that analysts factored in. This is what probably played out the last few weeks.
However, while the above played out, there are a couple of core trends which stayed negative, to say the least:
- Housing market remains depressed (both new and resale)
- Oil pricess continue maddenning upward trend (125+/barrel as of last)
The above two has enough power to pull down consumer spending for quite some time...and considering that consumer spending accounts for 2/3rds of the economy, we should see sustained slowdown in most sectors as a result. It is just that the market focus will shift from Financials to Manufacturing and Service sectors. Depressed consumer spending would reduce demand for goods and services and this would reflect in earnings for these sectors over the next 2 quarters. What we have seen in Q1 earnings deceleration is probably just the start - in fact Q1 suprised many since probably the lag effect has not started kicking in to reflect in actual earnings for these sectors. Except for Healthcare, I am bearish on most sectors over the next 3 months...save some names in consumer and financials.
BULLISH: UNH, WLP, MRK, PFE, KO, PEP, PG, C
BEARISH: HAL, SLB, CVX, X, NUE, FCX, AA, AAPl, IBM, CSCO, ORCL, MER
NEUTRAL: JPM, GS, LEH
* I do not have positions in any of the stocks mentioned above.
The market as a whole will probably lose volatility in the coming months. Financials will remain flat to positive while heavy equipment, automobile, IT/networking will trend downwards. I would rather bet on a 12-12.5K range for the Dow than anything upwards of 13K!
A quick look at S&P 500 sectoral swings the last 30 days:
- Technology up 10% [GOOG, AAPL up 25%; Intel, Cisco, HP, IBM up around 7-10%]
- Oil and gas up 8% [CHK up 20%; SLB up 15%]
- Industrials up 5% [CMI up 40%; BA, CAT up 10%]
- Consumer up 5% [DIS up 14%; TWX up 12%; MCD up 7%; WMT up 5%]
- Financials up 4% [GS, JPM, LEH, FRE, FNM up over 10%]
- Health care down [UNI, LLI down 8%; MRK, PFE down 5%]
...and a look at 3 month trends show an obvious trend - Oil & Gas and Commodities have gained the most [big ticket names like HAL, HLB, CVX, X, NUE, FCX have gained over 25%].
It is however very early in the economic cycle to be bullish on the whole market - we need to take a quick look at the macro picture to interpret the overall trend:
1)Real estate market hits peak in late 2006 and shows signs of buckling by mid 2007
2)#1 results in a bubble burst in the CDO/MBS market, with Bear's hedge funds leading the pack.
3) #2 in turn resulted in sustained panic on Financials...with higher foreclosures, more stress assets, depressed MBS/CDO values, failed auction rate markets, massive write-downs and tighter credit in general
4) Fed/govt responds to #3 with massive rate cuts (325 bps in 6+ months), fiscal stimulus packages and some dare-devil acts like the Bear Stearns rescue.
5) #4 results in some regaining of lost confidence in Financials and realization of the fact that its not the end of the world for any of the big financial firms. Also, Q1 results across most sectors did not show the level of weakness that analysts factored in. This is what probably played out the last few weeks.
However, while the above played out, there are a couple of core trends which stayed negative, to say the least:
- Housing market remains depressed (both new and resale)
- Oil pricess continue maddenning upward trend (125+/barrel as of last)
The above two has enough power to pull down consumer spending for quite some time...and considering that consumer spending accounts for 2/3rds of the economy, we should see sustained slowdown in most sectors as a result. It is just that the market focus will shift from Financials to Manufacturing and Service sectors. Depressed consumer spending would reduce demand for goods and services and this would reflect in earnings for these sectors over the next 2 quarters. What we have seen in Q1 earnings deceleration is probably just the start - in fact Q1 suprised many since probably the lag effect has not started kicking in to reflect in actual earnings for these sectors. Except for Healthcare, I am bearish on most sectors over the next 3 months...save some names in consumer and financials.
BULLISH: UNH, WLP, MRK, PFE, KO, PEP, PG, C
BEARISH: HAL, SLB, CVX, X, NUE, FCX, AA, AAPl, IBM, CSCO, ORCL, MER
NEUTRAL: JPM, GS, LEH
* I do not have positions in any of the stocks mentioned above.
The market as a whole will probably lose volatility in the coming months. Financials will remain flat to positive while heavy equipment, automobile, IT/networking will trend downwards. I would rather bet on a 12-12.5K range for the Dow than anything upwards of 13K!
Monday, April 7, 2008
Have we bottomed yet?
That should be the question in every investor's mind now, after a fed-inspired run in the stock market over the past couple of weeks (post BSC).
Home stats showed there might be some perk up in activity aftre a prolonged slow down, though job loss indicators did not indicate any meaningful reversal of trends. Confidence indicators and economic stats across Europe (notably Germany) indicated that the situation is not as bad as it was thought - adding to selling pressure on the US dollar. Are we at a bottom yet?
I would presume no. There have been certain sectors like Financials and Home builders which have been beatee so badly that they were bound to bounce back a bit at least...especially after the beating Financials took around the $2-a-share-BSC playout. Stocks like C, LEH, JPM all had a pretty good run, and the overall DOW indicator is back to the 12,600+ levels. However, the current earnings season underway would probably confirm that growth has indeed slowed downand earnings momentum has been negatively affected across sectors. The after-effect of the financial squeeze/credit crunch is only starting to show on downstream sectors and it would take a few quarters to say we are out of the woods yet. This earnings season, Manufacturing would slowly start showing kinks in the armor and tech would re-affirm medium-term demand weakness. This would definitely cause a pull back to the 11,700-12,000 range in the next few weeks.
I am bearish on manufacturing and energy stocks at this point in the economic cycle. Stocks like CHK, for example, had a pretty good run...akin to the run heady commodity stocks like GG had in the commodities upswing rally. Demand weakness would slowly start to re-affirm very soon and valuations will take a beating. In Financials, there are stocks like MER which have not been punished fully yet - as the Wachovia analyst rightly ponted out, i think there's more downside to MER at this point since their exposure to this whole sub-prime thing is probably highest after C and BSC.
if you want to play short-term, the best play in this market is to bet against some Financials which have rallied heavy and bet for some retail (CROX?) and pharma stocks (SGP?) which have been relentlessly beaten up. Be long on Financials long-term though, getting in during down-turns in the market cycle. And, I would be positively short on energy stocks at this point.
Home stats showed there might be some perk up in activity aftre a prolonged slow down, though job loss indicators did not indicate any meaningful reversal of trends. Confidence indicators and economic stats across Europe (notably Germany) indicated that the situation is not as bad as it was thought - adding to selling pressure on the US dollar. Are we at a bottom yet?
I would presume no. There have been certain sectors like Financials and Home builders which have been beatee so badly that they were bound to bounce back a bit at least...especially after the beating Financials took around the $2-a-share-BSC playout. Stocks like C, LEH, JPM all had a pretty good run, and the overall DOW indicator is back to the 12,600+ levels. However, the current earnings season underway would probably confirm that growth has indeed slowed downand earnings momentum has been negatively affected across sectors. The after-effect of the financial squeeze/credit crunch is only starting to show on downstream sectors and it would take a few quarters to say we are out of the woods yet. This earnings season, Manufacturing would slowly start showing kinks in the armor and tech would re-affirm medium-term demand weakness. This would definitely cause a pull back to the 11,700-12,000 range in the next few weeks.
I am bearish on manufacturing and energy stocks at this point in the economic cycle. Stocks like CHK, for example, had a pretty good run...akin to the run heady commodity stocks like GG had in the commodities upswing rally. Demand weakness would slowly start to re-affirm very soon and valuations will take a beating. In Financials, there are stocks like MER which have not been punished fully yet - as the Wachovia analyst rightly ponted out, i think there's more downside to MER at this point since their exposure to this whole sub-prime thing is probably highest after C and BSC.
if you want to play short-term, the best play in this market is to bet against some Financials which have rallied heavy and bet for some retail (CROX?) and pharma stocks (SGP?) which have been relentlessly beaten up. Be long on Financials long-term though, getting in during down-turns in the market cycle. And, I would be positively short on energy stocks at this point.
Saturday, March 15, 2008
The Bear Stearns confidence saga and fed's dilemma
Bear Stearns covered the air waves all of Friday, with its 'significantly detriorated' liquidity position and the early morning announcement of a NY Fed-JPMC liquidity support package. The Fed has gone a step further now after its 200bn TSLF announced the past week - its taking a direct risk on MBS-heavy instruments that it will bank on as collateral for the indirect funding to Bear Stearns. Its indeed a daring step considering the state of the debt markets. However, nothing short of this would have helped either - BSC going bust would have caused irreparable damage to the financial world and probably cause a market freeze. Despite the Fed-JPMC intervention, apparently some capital market players found the liquidity situation so demanding that they couldn't even borrow money on Treasuries...how worser could it get?
Now that a significant part of market confidence over the short-term would depend on how the BSC saga will unfold, its important to have a view on this story.
BSC's 9bn+ revenues in 2006 came from a mix which included 4+bn from Fixed Income, 2+ bn from Equities trading & research, 1+bn investment banking underwriting and advisory, 1+ bn from Global clearing services/Prime brokerage and another 0.5bn each from Private Client services & asset management. The most seriously affected portion of the business is obviously the Fixed income division, which is heavily exposed to residential MBS (including a good component of securitized ARMs). Most of its securities and fund loans to hedge fund providers would probably be significanly impaired in terms of liquidity. It has over USD 350+bn in assets/liabilities riding on a shareholder capital of just over USD 12bn...this leverage of over 32:1 with about 15+bn of its debt maturing in the next 4 quarters exacerbates the short-to-medium term liquidity position. However, its prime brokerage infrastructure, equities trading & research depth and private client advisory business would still command good value despite current market conditions. Considering that the Friday EOD stock price of 30/share is just about 1/3rd of its 85/share+ book value, there's probably still enough value in this stock considering that there's still good potential in divisions that account for over 50% of its revenue stream. However, with its over-leveraged balance sheet, true value depends a lot on mark-to-market valuation of its huge MBS and CDO portfolios.
BSC would definitely have enough willing suitors, though valuation range is an unknown factor at this point. JP Morgan, being BSC's clearing and settlement service provider, would be at the best position to judge the true value of its debt portfolio. Its probably for the same reason that JPM was the conduit for the Fed-sponsored bailout package, architected between Lazard, NY Fed and JPM Thursday night. Interestingly, NY Times already mentions JC Flowers and RBS as being potential suitors too. There is already talk of some kind of a long-term deal in the next 48-72 hours. However, my personal feeling is that this might eventually take longer to play out - most likely the key players would want BSC to regain some confidence with its pre-poned Monday earnings conference. If Alan Schwartz and Sam Molinaro are able to manage the call focusing on key fundamental strengths of their global equities & prime brokerage business, and also articulate clear short-term and long-term revival strategies, we should see some revival of market confidence in Bear. To draw a comparison, Etrade's Jarrett Lilien did a reasonably good job at this - focusing on fundamentals stregnths of their trading platform. If the Monday call pans out well, we could see some rebound in the stock, followed by a possible long-term deal announcement over the next 3-4 weeks.
***
This whole analysis above seems irrelevant and out-of-the-whack considering the latest developments on this front - JPM supposedly acquiring BSC for just over USD 2 a share! Ths situation on the ground at BSC was obviosuly far more grave than any one could ever imagine!
***
The whole BSC development poses an even more tough situation for the Fed ahead of this week's FOMC meeting. Its 200bn package and sustained inflation would have given its enoygh reason to avoid a major (50 bps+) rate cut; but the situation's now changed back to panic mode now. I would now reduce my bets on a 50bps or lower rate cut....unless Modnay turns out to be unusually good for the market. This Fed has been reacting to market pressures so far and its difficult to imagine them takeing a longer-term balanced (inflation Vs growth) in this post-Friday market situation.
Now that a significant part of market confidence over the short-term would depend on how the BSC saga will unfold, its important to have a view on this story.
BSC's 9bn+ revenues in 2006 came from a mix which included 4+bn from Fixed Income, 2+ bn from Equities trading & research, 1+bn investment banking underwriting and advisory, 1+ bn from Global clearing services/Prime brokerage and another 0.5bn each from Private Client services & asset management. The most seriously affected portion of the business is obviously the Fixed income division, which is heavily exposed to residential MBS (including a good component of securitized ARMs). Most of its securities and fund loans to hedge fund providers would probably be significanly impaired in terms of liquidity. It has over USD 350+bn in assets/liabilities riding on a shareholder capital of just over USD 12bn...this leverage of over 32:1 with about 15+bn of its debt maturing in the next 4 quarters exacerbates the short-to-medium term liquidity position. However, its prime brokerage infrastructure, equities trading & research depth and private client advisory business would still command good value despite current market conditions. Considering that the Friday EOD stock price of 30/share is just about 1/3rd of its 85/share+ book value, there's probably still enough value in this stock considering that there's still good potential in divisions that account for over 50% of its revenue stream. However, with its over-leveraged balance sheet, true value depends a lot on mark-to-market valuation of its huge MBS and CDO portfolios.
BSC would definitely have enough willing suitors, though valuation range is an unknown factor at this point. JP Morgan, being BSC's clearing and settlement service provider, would be at the best position to judge the true value of its debt portfolio. Its probably for the same reason that JPM was the conduit for the Fed-sponsored bailout package, architected between Lazard, NY Fed and JPM Thursday night. Interestingly, NY Times already mentions JC Flowers and RBS as being potential suitors too. There is already talk of some kind of a long-term deal in the next 48-72 hours. However, my personal feeling is that this might eventually take longer to play out - most likely the key players would want BSC to regain some confidence with its pre-poned Monday earnings conference. If Alan Schwartz and Sam Molinaro are able to manage the call focusing on key fundamental strengths of their global equities & prime brokerage business, and also articulate clear short-term and long-term revival strategies, we should see some revival of market confidence in Bear. To draw a comparison, Etrade's Jarrett Lilien did a reasonably good job at this - focusing on fundamentals stregnths of their trading platform. If the Monday call pans out well, we could see some rebound in the stock, followed by a possible long-term deal announcement over the next 3-4 weeks.
***
This whole analysis above seems irrelevant and out-of-the-whack considering the latest developments on this front - JPM supposedly acquiring BSC for just over USD 2 a share! Ths situation on the ground at BSC was obviosuly far more grave than any one could ever imagine!
***
The whole BSC development poses an even more tough situation for the Fed ahead of this week's FOMC meeting. Its 200bn package and sustained inflation would have given its enoygh reason to avoid a major (50 bps+) rate cut; but the situation's now changed back to panic mode now. I would now reduce my bets on a 50bps or lower rate cut....unless Modnay turns out to be unusually good for the market. This Fed has been reacting to market pressures so far and its difficult to imagine them takeing a longer-term balanced (inflation Vs growth) in this post-Friday market situation.
Tuesday, March 11, 2008
Fed's refreshing move
How can i not blog today?
We had the best day of the year by far, with Dow up more than 400 points! In a refreshing move at unleashing much-needed liquidity to the system, the Fed announced a Term Securities Lending Facility (TLFS), which provides for a line of up to USD 200 bn in treasury securities against collateral from its 20 prime dealers (banks, agencies etc) in the form of MBS and other AAA paper. What does this mean?
1) For starters, this is literally a stamp of assurance from the Fed that it does not see the MBS/ABS securities go to zilch in value (which is what the market seemed to think apparently, given the run on Financial sector shares)
2) This also means big players like C, GS, MER and even smaller players (including troubled ones like Thornburg and Caryle) can loan treasury securities by providing AAA MBS paper (this includes paper sold by banks, Freddie Mae, Fannie Mac) as collateral. They in turn can loan these treasuries to investors in return for cash...thus providing much needed liquidity to these players.
This has been by far the best move by a central agency to address the situation in a sane manner. Rate cuts won't take us far and would in turn put us in danger of a staglation. Subsidies to in-difficulty borrowers would address part of the issue, but in a non-meritocratic way.This brilliant move by the Fed was even more powerful since it was coordinated with the ECB, Bank of England etc...each of them provding additional liquidity building measures totalling over USD 45 bn. There might be some feeling this Fed move is again reactive, but no one has been anyway good at predicting the depths to which the MBS and ABS markets have fallen...even the larger debt market in general. Who would have imagined economic confidence in US waning to such an extent that default swaps on German bunds start getting priced lower than that on US treasuries?? We are in an abnormal economic situation; and any balanced moves by the Fed to address the liquidity crunch will help stabilize the market and bring credit and lendign back on track. This would not remove credit issues, but would at least provide more breathing room for the large players.
Financials were up big time, with Citi leading with a 9%+ gain. Troubled players like Thornburg also saw big upside moves. I feel most of the financials have enough momentum now to erase the near-term decline they had over the past 2-3 weeks. However, the FOMC announcement on rate cut next week might provide a damper - I don't think a sane Fed would try to appease the market with a 50 bps+ cut. This might cause short term negative momentum. I just hope the Fed plays the move along with good forward looking commentary to ease market jitters.
In addition to the good news from the Fed, consumer confidence index measures from Germany and supply/ manufacturing indices from Germany and Japan provided enough hint that all's not bad. Europe and Japan still seem to keep enough momentum - meaning well for most of the large global US corporations and money center banks. Bad for the dollar perhaps, since stregnth in Europe means ECB or Bank of Engalnd would not be forced to come down form their hawkish rate stances. However, once the Fed controls unbridled rate cut expectations next week, the dollar should rally back to 1.45-1.48 levels against the Euro again.
On the micro-side, if you had locked on to January calls at strike 25 for C early today, its difficult to imagine you would lose money by year end!
We had the best day of the year by far, with Dow up more than 400 points! In a refreshing move at unleashing much-needed liquidity to the system, the Fed announced a Term Securities Lending Facility (TLFS), which provides for a line of up to USD 200 bn in treasury securities against collateral from its 20 prime dealers (banks, agencies etc) in the form of MBS and other AAA paper. What does this mean?
1) For starters, this is literally a stamp of assurance from the Fed that it does not see the MBS/ABS securities go to zilch in value (which is what the market seemed to think apparently, given the run on Financial sector shares)
2) This also means big players like C, GS, MER and even smaller players (including troubled ones like Thornburg and Caryle) can loan treasury securities by providing AAA MBS paper (this includes paper sold by banks, Freddie Mae, Fannie Mac) as collateral. They in turn can loan these treasuries to investors in return for cash...thus providing much needed liquidity to these players.
This has been by far the best move by a central agency to address the situation in a sane manner. Rate cuts won't take us far and would in turn put us in danger of a staglation. Subsidies to in-difficulty borrowers would address part of the issue, but in a non-meritocratic way.This brilliant move by the Fed was even more powerful since it was coordinated with the ECB, Bank of England etc...each of them provding additional liquidity building measures totalling over USD 45 bn. There might be some feeling this Fed move is again reactive, but no one has been anyway good at predicting the depths to which the MBS and ABS markets have fallen...even the larger debt market in general. Who would have imagined economic confidence in US waning to such an extent that default swaps on German bunds start getting priced lower than that on US treasuries?? We are in an abnormal economic situation; and any balanced moves by the Fed to address the liquidity crunch will help stabilize the market and bring credit and lendign back on track. This would not remove credit issues, but would at least provide more breathing room for the large players.
Financials were up big time, with Citi leading with a 9%+ gain. Troubled players like Thornburg also saw big upside moves. I feel most of the financials have enough momentum now to erase the near-term decline they had over the past 2-3 weeks. However, the FOMC announcement on rate cut next week might provide a damper - I don't think a sane Fed would try to appease the market with a 50 bps+ cut. This might cause short term negative momentum. I just hope the Fed plays the move along with good forward looking commentary to ease market jitters.
In addition to the good news from the Fed, consumer confidence index measures from Germany and supply/ manufacturing indices from Germany and Japan provided enough hint that all's not bad. Europe and Japan still seem to keep enough momentum - meaning well for most of the large global US corporations and money center banks. Bad for the dollar perhaps, since stregnth in Europe means ECB or Bank of Engalnd would not be forced to come down form their hawkish rate stances. However, once the Fed controls unbridled rate cut expectations next week, the dollar should rally back to 1.45-1.48 levels against the Euro again.
On the micro-side, if you had locked on to January calls at strike 25 for C early today, its difficult to imagine you would lose money by year end!
Monday, March 10, 2008
As we move to FOMC time again!
While the broad market, especially financials, continue to tread unchartered negative territory, crude rose to a new high - at over $108 a barrel! Personally, i feel both are extreme reactions to market scenarios and not backed by fundamentals.
Starting with Meredith Whitney (Oppenheimer), almost every analyst covering C, JPM, MER, BS, GS have been cutting earnings estimates for the year drastically. The continued turmoil in the MBS and ABS markets, along with sustained uncertainty over bond insurers future butress the analyst speak and add more gloom to the market. However, i feel the financials would move upwards in the medium term - i had the same view early January and have been proven wrong by the market so far; but i hold on to my views. Credit-related losses definitely pose significant short-to-medium term earnings impact, but not to the extent reflected in stock prices - especially those of C and GS. Citi's market value is just a wee bit over USD 100 bn - as against over 250 bn less than 12 months back.
However, there might be more downward pressure as we near the FOMC meeting next week - i for one would strongly believe the Fed's going to limit its rate move to a maximum of 25 bps. And the market would obvisouly not react positively to this. On another note, if the Fed does indeed cut rates by 50 bps or more, i would call it suicidal long-term...staglation risks are serious at this point.
Starting with Meredith Whitney (Oppenheimer), almost every analyst covering C, JPM, MER, BS, GS have been cutting earnings estimates for the year drastically. The continued turmoil in the MBS and ABS markets, along with sustained uncertainty over bond insurers future butress the analyst speak and add more gloom to the market. However, i feel the financials would move upwards in the medium term - i had the same view early January and have been proven wrong by the market so far; but i hold on to my views. Credit-related losses definitely pose significant short-to-medium term earnings impact, but not to the extent reflected in stock prices - especially those of C and GS. Citi's market value is just a wee bit over USD 100 bn - as against over 250 bn less than 12 months back.
However, there might be more downward pressure as we near the FOMC meeting next week - i for one would strongly believe the Fed's going to limit its rate move to a maximum of 25 bps. And the market would obvisouly not react positively to this. On another note, if the Fed does indeed cut rates by 50 bps or more, i would call it suicidal long-term...staglation risks are serious at this point.
Saturday, March 1, 2008
Inflation worries continue to persist...
Back in January when the Fed went ballistic by announcing a 75 bps cut & then a 50 bps rate cut within a span of 10 days, i thought it was over-reaction to the market-psychology.(http://invest4tomorrow.blogspot.com/2008/01/should-fed-get-as-aggressive-as-market.html)
A slew of recent economic developments indeed point to the risks associated with an over-liberal monetary policy. Per the latest price index releases, wholesale and consumer price indices continued to tread dangerous territory in January. Year-on-year, the January 2008 numbers are 4.6% over 2007 numbers! Oil continues to tread the 90-100 dollar range per barrel, and this does not create any room for inflationary pressures to ease. To add to the woes, the Euro broke a psychlogical barrier of 1.5 against the dollar last week (possibly accelerated by level-trigerred program trading by currency desks though!)...which means imported crude oil turns even more expensive.
Finally, after a slew of such signals, there seems to be some voices of dissent in the Fed against a liberal interest rate cut policy. Vice Chairamn Kohn and Chairman Bernanke continues to opine that growth is indeed the highest priority; but on Feb 29, Chicago Fed President Charles Evans mentioned that growth 'insurance' (read rate cuts) need to be possibly reversed if inflationary concerns persist.
For one, the massive rate cuts in January did not do much to either ease credit availability or bring down market rates. Auction-rate bond failures highlight the fact that credit remains scarce - most of the big banks, including Citi & UBS shied away from such auctions, forcing most issuers to abandon the effort. Mortgage rates haven't softened either - 30-year rates have fallen as little as 27 bps bpS (!) from 6.07 to 5.80 over the past 6 months & 1-year ARMs have only dropped by close to 90 bps.
Credit and the cost of credit in the current market environment is more being dictated by lender worries. The biggest worry for all the big lenders at this point are a) potential write-downs in CDOs, MBSs, ABSs and other instruments which are either backed by sub-prime mortgages, ALt-A mortgages, risky retail instalment/revolving debt etc & b) potential risk associated with bond insurer downgrades and resultant massive write-downs in sub-AAA debt insured by them. The only way to tackle this is to use a double-pronged strategy of multi-party financial support for bond-insurers & incentive-driven/regulatory-driven measures to ensure continued credit availability. Sustained Fed rate cuts in such an environment may not work as much as expected.
As we wait for the next FOMC session on March 14, most traders are betting another 50 or 75 bps cut. Chicago Borard of Trade numbers already indicate a 72% probability of a 75 bps cut in March! And if January was an inidcation of how well the traders predict the Fed, we might very well be seeing that. Hopefully not - a more balanced view would mean the Fed looks in to Feb CPI numbers (which get released by March 14) and then weigh inflation risks with growth risks. Continued inflationary pressures will then dictate a lower cut of say, 25 bps. The market might react negatively to such a step; but how should it matter? Has the market gained any stability after the last instalment of liberal rate cuts...defintely not. In the current economic situation, the Fed should continue to focus on long-term economic fundamentals and not play in to market-psyche by announcing another 50 or 75 bps rate cut. Because that might just put us in a bigger probleme of prolonged staglation - making Fed monetaryt policy toothless.
A slew of recent economic developments indeed point to the risks associated with an over-liberal monetary policy. Per the latest price index releases, wholesale and consumer price indices continued to tread dangerous territory in January. Year-on-year, the January 2008 numbers are 4.6% over 2007 numbers! Oil continues to tread the 90-100 dollar range per barrel, and this does not create any room for inflationary pressures to ease. To add to the woes, the Euro broke a psychlogical barrier of 1.5 against the dollar last week (possibly accelerated by level-trigerred program trading by currency desks though!)...which means imported crude oil turns even more expensive.
Finally, after a slew of such signals, there seems to be some voices of dissent in the Fed against a liberal interest rate cut policy. Vice Chairamn Kohn and Chairman Bernanke continues to opine that growth is indeed the highest priority; but on Feb 29, Chicago Fed President Charles Evans mentioned that growth 'insurance' (read rate cuts) need to be possibly reversed if inflationary concerns persist.
For one, the massive rate cuts in January did not do much to either ease credit availability or bring down market rates. Auction-rate bond failures highlight the fact that credit remains scarce - most of the big banks, including Citi & UBS shied away from such auctions, forcing most issuers to abandon the effort. Mortgage rates haven't softened either - 30-year rates have fallen as little as 27 bps bpS (!) from 6.07 to 5.80 over the past 6 months & 1-year ARMs have only dropped by close to 90 bps.
Credit and the cost of credit in the current market environment is more being dictated by lender worries. The biggest worry for all the big lenders at this point are a) potential write-downs in CDOs, MBSs, ABSs and other instruments which are either backed by sub-prime mortgages, ALt-A mortgages, risky retail instalment/revolving debt etc & b) potential risk associated with bond insurer downgrades and resultant massive write-downs in sub-AAA debt insured by them. The only way to tackle this is to use a double-pronged strategy of multi-party financial support for bond-insurers & incentive-driven/regulatory-driven measures to ensure continued credit availability. Sustained Fed rate cuts in such an environment may not work as much as expected.
As we wait for the next FOMC session on March 14, most traders are betting another 50 or 75 bps cut. Chicago Borard of Trade numbers already indicate a 72% probability of a 75 bps cut in March! And if January was an inidcation of how well the traders predict the Fed, we might very well be seeing that. Hopefully not - a more balanced view would mean the Fed looks in to Feb CPI numbers (which get released by March 14) and then weigh inflation risks with growth risks. Continued inflationary pressures will then dictate a lower cut of say, 25 bps. The market might react negatively to such a step; but how should it matter? Has the market gained any stability after the last instalment of liberal rate cuts...defintely not. In the current economic situation, the Fed should continue to focus on long-term economic fundamentals and not play in to market-psyche by announcing another 50 or 75 bps rate cut. Because that might just put us in a bigger probleme of prolonged staglation - making Fed monetaryt policy toothless.
Monday, February 25, 2008
Lesser bond insurer worries!
The market opened on a not-so-positive note despite some better than expected housing stats for Jan. It took the AAA rating affirmation on bond insurers to cheer the market and bring it back to significantly positive territory. With the Dow at 12,500+, I would say there's more downside than upside for the market indices at the current levels. Financials moved in pretty much the opposite direction most of the time during the last 2 weeks of market gain. A negative comment from analyst Meredith Whitney (Oppenheimer) on Citi, Goldman and other investment banks did not help it either. With 60-70% annual EPS impact estimated due to sub prime write-offs and other delinquency issues, you got to have nerves of steel to hold on. Medium term investors should remain on the sidelines; but long termers can keep chipping in at these levels.
DNA had soem good news today, with the FDA giving a go ahead on Avastin for breast cancer - i was always bullish on this one right from the beginning of the year. There's more positive news to come in the biotech and pharma sectors as the year unwinds. Big names like PFE, BMY, GENZ haven't really had a stellar ride this year so far!
GOOG dropped again - enter July or September calls at this point...it should give good gains and GOOG should see a rebound back to 520 levels sooner than later. I am happy i exited my MSFT March positions since the YHOO-MSFT saga seems to be posied for a long haul! Not too happy with my CROX or VDSI positions though - the wait is going to be longer, but these names should see some good action at least by next earnings call.
On the energy sector, i feel its time to be short on names like CHK - these are clearly in over bought terrirory!
DNA had soem good news today, with the FDA giving a go ahead on Avastin for breast cancer - i was always bullish on this one right from the beginning of the year. There's more positive news to come in the biotech and pharma sectors as the year unwinds. Big names like PFE, BMY, GENZ haven't really had a stellar ride this year so far!
GOOG dropped again - enter July or September calls at this point...it should give good gains and GOOG should see a rebound back to 520 levels sooner than later. I am happy i exited my MSFT March positions since the YHOO-MSFT saga seems to be posied for a long haul! Not too happy with my CROX or VDSI positions though - the wait is going to be longer, but these names should see some good action at least by next earnings call.
On the energy sector, i feel its time to be short on names like CHK - these are clearly in over bought terrirory!
Thursday, February 21, 2008
CROX (again)...and VDSI
VDSI
While the market picked back some volatility today (it was pretty flat and boring for the first few days of the week!), we saw a massive sell off in yet another good company which missed estimates - this time, it was VDSI. VDSI is a leading provider of information security solutions (read remote-token authentication). Due to delay in orders from 3 large customers (should be banking cistomers), the company missed Dec quarter estimates by a wide margin. Outlook for year 2008 was also not too rosy; coming in at USD 150-162 mn as against a street expectation of 163 mn. The market punished it with a 37% drop!!! - shares touching as low as 11.30 intra-day.
Stepping back and taking a broader view, the company has shown sustained revenue and profit growth over the past 3 years. 2005, 06, 07 revenues were 54.6, 76.1 and 120.0 mn repsectively and net profit was 7.7, 12.5 and 21.0 mn respectively. Even at a subdued 25-35% growth rate for '08 and '09, it is currently trading at a P/E of 15 to forward earnings. I see a clear upside here - lock in to Sep calls at $10 strike...which are trading at ~3 levels. This gives enough time for the stock to bounce back and absorb a couple of quarters of earnings reports! It should easily scale back to ~16 levels.
CROX
I was wrong on CROX for earnings day. Despite a great report, the market beat up CROX because of concern on high inventory levels...despite the fact that the company clarified its due to delays in European shipments. CROX definitely doesn't deserve the valuation it has in mid-2007, but its absurdly cheap at current levels. It is trading at a P/E of 10 while expected growth in EPS and revenues is easily over 30%! Again, i would lock in to Sep calls...and expect them to show reduced inventory levels in Q1 '08 and more notably Q2 '08. This should easily scale back to ~32 levels.
While the market picked back some volatility today (it was pretty flat and boring for the first few days of the week!), we saw a massive sell off in yet another good company which missed estimates - this time, it was VDSI. VDSI is a leading provider of information security solutions (read remote-token authentication). Due to delay in orders from 3 large customers (should be banking cistomers), the company missed Dec quarter estimates by a wide margin. Outlook for year 2008 was also not too rosy; coming in at USD 150-162 mn as against a street expectation of 163 mn. The market punished it with a 37% drop!!! - shares touching as low as 11.30 intra-day.
Stepping back and taking a broader view, the company has shown sustained revenue and profit growth over the past 3 years. 2005, 06, 07 revenues were 54.6, 76.1 and 120.0 mn repsectively and net profit was 7.7, 12.5 and 21.0 mn respectively. Even at a subdued 25-35% growth rate for '08 and '09, it is currently trading at a P/E of 15 to forward earnings. I see a clear upside here - lock in to Sep calls at $10 strike...which are trading at ~3 levels. This gives enough time for the stock to bounce back and absorb a couple of quarters of earnings reports! It should easily scale back to ~16 levels.
CROX
I was wrong on CROX for earnings day. Despite a great report, the market beat up CROX because of concern on high inventory levels...despite the fact that the company clarified its due to delays in European shipments. CROX definitely doesn't deserve the valuation it has in mid-2007, but its absurdly cheap at current levels. It is trading at a P/E of 10 while expected growth in EPS and revenues is easily over 30%! Again, i would lock in to Sep calls...and expect them to show reduced inventory levels in Q1 '08 and more notably Q2 '08. This should easily scale back to ~32 levels.
Monday, February 18, 2008
A couple of value picks - HANS & CROX
February has not been too bad so far for the markets, after what was a horrific start to the year! The market continues to show tremendous amount of volatility, some thing we could expect for probably the next 3-6 months at the minimum! On the macro side, i still stand by big-ticket financials. Citi has dropped back to the 25-26 range after reaching 29+ in the post-January rally - January options look attractive. GS at 175 looks interesting too. Considering the uncertainty associated with further write-offs triggered by potential bond insurer rating cuts, I would not be overly aggressive though – and not bet on mid-year calls.
Looking across the market in stocks I love to track, a couple of picks look interesting:
CROX
An interesting product line with a focus on the ‘young’ casual/beach/action foot wear market, Crocs has enough ongoing traction in US and European markets to continue its growth story for a while. They sell through over 11,000 retail stores in the US and ~2000 stores internationally (primarily in US) – a commendable distribution coverage. Its diversification in to extension product lines including t-shirts, sweat shirts, hats etc also potentially offers continued revenue expansion possibilities beyond footwear.
Currently trading at the 33 levels as compared to its 52-week high of 75. Despite increased 2007 revenue guidance provided in early November, the stock simply hasn’t picked up enough steam so far. The revised full-year 2007 EPS projection of 1.94-1.98 puts it at a current P/E of ~17; with a forward P/E of ~12 on estimated 2008 earnings. Revenue guidance for 2007 is at USD 820-820 mn while 2008 revenue projection is close to USD 1.1bn+. Add to that an Operating margin of over 29% and a net margin of 20%, there’s enough of a fundamental strength in this stock to warrant better valuations. On the Insider trading side, the last sale has been way back in November at 51 levels; there has been some consistent buying activity by the CEO over the past 3 months or so.
I would bet on this prior to earnings – which is post-market closing Feb 19!
HANS
With both Coke and Pepsi beating estimates this past quarter, there’s very little reason to expect HANS to do anything different. HANS has a product portfolio focusing on the sweet spot of the beverage business – energy drinks (MONSTER), fruit-based health drinks, vitamin/enriched water. This segment would continue to beat the traditional carbonated beverage segment by a wide margin in the near future.
HANS did have its share of irrational exuberance with its stock more than quadrupling to its 200s in a short span of 9-12 months prior to the last stock split. However, the stock has taken a major beating and has tumbled from high 60s to the high 30s over the past 3 months. It did for a reason – 2 earnings misses in Q1 and Q3 2007. At a current P/E of ~31 and a forward P/E of low 20 based on 2008 estimates, the stock looks pretty attractive now – considering earnings growth of over 50% in the next few quarters. HANS’ operating margins at 25% and net margins at 16% are also above-par with industry average. Again, enough fundamental strength in this stock to demand a higher valuation! Interestingly, HANS was added to the NASDAQ 100 on Feb. 15. With Q4 earnings (estimated at 0.38) expected the week of Feb 25, it’s an interesting bet. If not too bullish on Q4 numbers, you could do September calls which also look reasonably attractive at current levels.
Looking across the market in stocks I love to track, a couple of picks look interesting:
CROX
An interesting product line with a focus on the ‘young’ casual/beach/action foot wear market, Crocs has enough ongoing traction in US and European markets to continue its growth story for a while. They sell through over 11,000 retail stores in the US and ~2000 stores internationally (primarily in US) – a commendable distribution coverage. Its diversification in to extension product lines including t-shirts, sweat shirts, hats etc also potentially offers continued revenue expansion possibilities beyond footwear.
Currently trading at the 33 levels as compared to its 52-week high of 75. Despite increased 2007 revenue guidance provided in early November, the stock simply hasn’t picked up enough steam so far. The revised full-year 2007 EPS projection of 1.94-1.98 puts it at a current P/E of ~17; with a forward P/E of ~12 on estimated 2008 earnings. Revenue guidance for 2007 is at USD 820-820 mn while 2008 revenue projection is close to USD 1.1bn+. Add to that an Operating margin of over 29% and a net margin of 20%, there’s enough of a fundamental strength in this stock to warrant better valuations. On the Insider trading side, the last sale has been way back in November at 51 levels; there has been some consistent buying activity by the CEO over the past 3 months or so.
I would bet on this prior to earnings – which is post-market closing Feb 19!
HANS
With both Coke and Pepsi beating estimates this past quarter, there’s very little reason to expect HANS to do anything different. HANS has a product portfolio focusing on the sweet spot of the beverage business – energy drinks (MONSTER), fruit-based health drinks, vitamin/enriched water. This segment would continue to beat the traditional carbonated beverage segment by a wide margin in the near future.
HANS did have its share of irrational exuberance with its stock more than quadrupling to its 200s in a short span of 9-12 months prior to the last stock split. However, the stock has taken a major beating and has tumbled from high 60s to the high 30s over the past 3 months. It did for a reason – 2 earnings misses in Q1 and Q3 2007. At a current P/E of ~31 and a forward P/E of low 20 based on 2008 estimates, the stock looks pretty attractive now – considering earnings growth of over 50% in the next few quarters. HANS’ operating margins at 25% and net margins at 16% are also above-par with industry average. Again, enough fundamental strength in this stock to demand a higher valuation! Interestingly, HANS was added to the NASDAQ 100 on Feb. 15. With Q4 earnings (estimated at 0.38) expected the week of Feb 25, it’s an interesting bet. If not too bullish on Q4 numbers, you could do September calls which also look reasonably attractive at current levels.
Tuesday, February 12, 2008
Buffet's offer, Project lifeline add some optimism
Warren Buffet added some optimism to the market by proposing to re-insure the muncipal bond portfolios of bond insurers like MBIA, AMBAC and FGIC. Bond insurer stocks didn't react positively - which is perhaps obvious since the re-insurance offer covers only the least risky part of their portfolio...if you look at it from another angle, the offer can be judged as showing how desperate the insurers have become for capital-saving options. However, on the whole, Buffet's offer signals that it's not after all going to be a prolonged recession. Munis carry their own share of risk in prolonged recessions and Buffet's offer means he doesn't see as much of a risk as others do! The broader market did respond positively to this bit of news.
Meanwhile, Henry Paulson got the big 6 of the mortgage market - Citi, Bank Am, Wachovia, Wells Fargo, JPM & Country wide - to come together for 'Hope Now'...and roll out Project Lifeline. This would mean a 30-day moratorium for foreclosures while lenders re-jig loan terms for the borrower...meaning we will see the crisis managed better and soften the landing (to whatever extent we could at this point!). On a broader note, this is another whiff of positive news for a beaten market.
With the above, i re-iterate my earlier position on Financials. Bigger banks and many large investment banks dont probably hold much promise for shorts the rest of teh year. Pick of the lot - Citi. After some interim correction to reach 29+, its back in to the low 26. Don't expect a secular rise to 30+, but be patient and you will get rewarded!
Techs continued to tread tough ground - GOOG, AAPL both trudged down after an early rally. Not sure how long the tech crunch is going to last, but these are good buys for patient investors... i mean those with more than a 3-month horizon.
Meanwhile, Henry Paulson got the big 6 of the mortgage market - Citi, Bank Am, Wachovia, Wells Fargo, JPM & Country wide - to come together for 'Hope Now'...and roll out Project Lifeline. This would mean a 30-day moratorium for foreclosures while lenders re-jig loan terms for the borrower...meaning we will see the crisis managed better and soften the landing (to whatever extent we could at this point!). On a broader note, this is another whiff of positive news for a beaten market.
With the above, i re-iterate my earlier position on Financials. Bigger banks and many large investment banks dont probably hold much promise for shorts the rest of teh year. Pick of the lot - Citi. After some interim correction to reach 29+, its back in to the low 26. Don't expect a secular rise to 30+, but be patient and you will get rewarded!
Techs continued to tread tough ground - GOOG, AAPL both trudged down after an early rally. Not sure how long the tech crunch is going to last, but these are good buys for patient investors... i mean those with more than a 3-month horizon.
Sunday, February 10, 2008
Regulating the Rating & Analyst community
This is a continuation of the thoughts expressed in an earlier blog (IN DIRE NEED FOR ‘POSITIVE’ ECONOMICS dated Saturday, January 19, 2008).
As continued losses unwind in the mortgage sector, the resultant spillover has affected consumer loan portfolios, credit card portfolios and caused overall damage to the retail consumer psyche. It’s once again imperative that we at least reactively think of what could have help avoid this credit avalanche – and what can help in future.
One of the points discussed in the Jan 19 blog was the role played by credit rating agencies and equity research houses in the whole mess. With this context, it is interesting to analyze a recent Feb 8 news article related to potential SEC monitoring on credit rating agencies – “SEC May Propose New Rules for Credit-Rating”. The article mentions “The rules would increase disclosure about ‘past ratings' to help determine whether rankings successfully predicted the risk of default, SEC Chairman Christopher Cox said at a securities conference in Washington today. The regulations may also address the differences between ratings on structured debt and rankings for corporate and municipal bonds.” Even more interesting, the report states “Investors could then use the enhanced disclosure to ‘punish chronically poor and unreliable ratings,’ Cox told reporters after his speech. ‘The rules that we may consider would provide information to the markets in a way that facilitates comparisons’, he said.”
It’s heartening to see this finally taking shape, though it has been pretty late already – way back during the 1997 South East Asian crisis, there was already intense criticism of the lack of fore-warnings provided by the rating agencies. There is obviously a classic case of conflict of interest, with rating fees being paid by the borrowers and not investors. We probably need a combination of 2 drivers – One, an incentive mechanism that rewards agencies based on past performance & Two, regulatory disclosures like the above mentioned which would help monitor this industry. One interesting approach:
· Set up an “Investors’ Rating Fund”, with oversight by either a market consortium or by a rating ombudsman. This would be funded by a 0.1 bps charge on any rated debt floated in the market – this can be paid for partly from rating agency fees and partly from borrower money. This would build a significant pool of money, considering that high-grade corporate debt issuance a year in US totals over USD 900 billion per year. This could be used to ‘reward’ best performing rating agencies based on rating performance comparisons as indicated by debt performance within 12 months immediately following lat rating.
The above idea is clearly indicative, with the need to flush out a lot of details related to performance comparison model, Rating Fund administration and ownership etc. Though there would be significant opposition by many market participants, it would help foster safer debt markets in the future and to a certain extent balance inherent conflicts of interest in the industry model.
If rating agencies can be regulated (either by an ombudsman or by a market-driven fund like that mentioned above), why not apply the same to equity rating agencies? Apart from the overall inability of equity rating agencies to predict the sub-prime bust and potential bank stock revaluations, we have had several close-to-irresponsible analyst comments recently, including the controversial ‘potential bankruptcy’ call on E*Trade. There is an urgent need to evolve a regulatory or market driven mechanism to monitor and publish prediction-ability of rating models. Agreed that credit ratings and equity ratings differ widely in their inherent ability to predict the marker, however, it should be possible to evolve a model which would evaluate equity rating effectiveness based on a quarterly performance indicator, excluding effect of (unpredictable) significant political and natural events which might impact stock performance. There could even be a similar fund sent up for Equity Investor protection, though the very act of monitoring and publishing rating effectiveness indicators would have a salutary effect on the overall market.
Again, I am not an advocate of central regulatory policing of free-market agencies; however, its high time that industry forces joined hands with regulators, as needed, to imbibe discipline to credit rating and equity rating industries.
As continued losses unwind in the mortgage sector, the resultant spillover has affected consumer loan portfolios, credit card portfolios and caused overall damage to the retail consumer psyche. It’s once again imperative that we at least reactively think of what could have help avoid this credit avalanche – and what can help in future.
One of the points discussed in the Jan 19 blog was the role played by credit rating agencies and equity research houses in the whole mess. With this context, it is interesting to analyze a recent Feb 8 news article related to potential SEC monitoring on credit rating agencies – “SEC May Propose New Rules for Credit-Rating”. The article mentions “The rules would increase disclosure about ‘past ratings' to help determine whether rankings successfully predicted the risk of default, SEC Chairman Christopher Cox said at a securities conference in Washington today. The regulations may also address the differences between ratings on structured debt and rankings for corporate and municipal bonds.” Even more interesting, the report states “Investors could then use the enhanced disclosure to ‘punish chronically poor and unreliable ratings,’ Cox told reporters after his speech. ‘The rules that we may consider would provide information to the markets in a way that facilitates comparisons’, he said.”
It’s heartening to see this finally taking shape, though it has been pretty late already – way back during the 1997 South East Asian crisis, there was already intense criticism of the lack of fore-warnings provided by the rating agencies. There is obviously a classic case of conflict of interest, with rating fees being paid by the borrowers and not investors. We probably need a combination of 2 drivers – One, an incentive mechanism that rewards agencies based on past performance & Two, regulatory disclosures like the above mentioned which would help monitor this industry. One interesting approach:
· Set up an “Investors’ Rating Fund”, with oversight by either a market consortium or by a rating ombudsman. This would be funded by a 0.1 bps charge on any rated debt floated in the market – this can be paid for partly from rating agency fees and partly from borrower money. This would build a significant pool of money, considering that high-grade corporate debt issuance a year in US totals over USD 900 billion per year. This could be used to ‘reward’ best performing rating agencies based on rating performance comparisons as indicated by debt performance within 12 months immediately following lat rating.
The above idea is clearly indicative, with the need to flush out a lot of details related to performance comparison model, Rating Fund administration and ownership etc. Though there would be significant opposition by many market participants, it would help foster safer debt markets in the future and to a certain extent balance inherent conflicts of interest in the industry model.
If rating agencies can be regulated (either by an ombudsman or by a market-driven fund like that mentioned above), why not apply the same to equity rating agencies? Apart from the overall inability of equity rating agencies to predict the sub-prime bust and potential bank stock revaluations, we have had several close-to-irresponsible analyst comments recently, including the controversial ‘potential bankruptcy’ call on E*Trade. There is an urgent need to evolve a regulatory or market driven mechanism to monitor and publish prediction-ability of rating models. Agreed that credit ratings and equity ratings differ widely in their inherent ability to predict the marker, however, it should be possible to evolve a model which would evaluate equity rating effectiveness based on a quarterly performance indicator, excluding effect of (unpredictable) significant political and natural events which might impact stock performance. There could even be a similar fund sent up for Equity Investor protection, though the very act of monitoring and publishing rating effectiveness indicators would have a salutary effect on the overall market.
Again, I am not an advocate of central regulatory policing of free-market agencies; however, its high time that industry forces joined hands with regulators, as needed, to imbibe discipline to credit rating and equity rating industries.
Monday, February 4, 2008
Rare buying opportunity in the Tech sector
We had some big action last week in the tech sector - bad results from GOOG and MSFT proposing an acquisiton for YHOO.
I do repent for not picking on the relentless runours on a YHOO M&A upside...in fact Pete Najarian or Guy Adami (don't remember who...these folks from Fast Money, CNBC) re-iterated this prior to YHOO earnings day! The market reacted negatively to MSFT and pummelled it over 6% on Feb 1. YHOO is not cheap at a multiple of 40+ even at the pre-acquisition price, but the potential strength within the company is not small either! 500 million unique users - just imagine what wonders it could do to ad and content revenue if chanelled the right way! Also, look at it this way: In absolute terms, MSFT's offer is approx USD 16 bn over YHOO's market value of USD 25 bn prior to the acuqusition. As compared to this, MSFT's market value has dropped over USD 26 bn compared to pre-offer levels (which was already low at a multiple of 19-20). Also, the market's completely discounting the benefits that could accrue from a massive web audience that a MSN + Yahoo combination would have. A good way to play - MSFT March 27.5 options at 3 looks cheap. MSFT has to correct on the upside after probably a few more days of market jitter. Also, if anti-trust factors or competitor offers come in the way of the offer, MSFT would bounce back anyway! I dont see too much of a downside from this level - MSFT closed at 30.19 today.
GOOG - again, market over-reaction to a perceived threat from the MSFT-YHOO announcement. GOOG simply has too massive a search market % (57%+) and near-dominance in online ad revenues (over 75% market share) to get seriously impacted by an MSFT-YHOO combination. With its aggressive diversification (including the latest bid on wireless spectrum) and ubiquitous brand name, its difficult to pull them down any time soon. GOOG at 38.8 looks very attractive - again March options look good. I dont see too much of a downside here too - GOOG closed at 495.43 today as compared to its highs of over 700 as late as last December.
I also like AAPL at the low 130s - at a multiple of below 30!
Financials got a deserved pull back today - wait for a while more, and you might again have good buying opportunities at C, WB etc.
I do repent for not picking on the relentless runours on a YHOO M&A upside...in fact Pete Najarian or Guy Adami (don't remember who...these folks from Fast Money, CNBC) re-iterated this prior to YHOO earnings day! The market reacted negatively to MSFT and pummelled it over 6% on Feb 1. YHOO is not cheap at a multiple of 40+ even at the pre-acquisition price, but the potential strength within the company is not small either! 500 million unique users - just imagine what wonders it could do to ad and content revenue if chanelled the right way! Also, look at it this way: In absolute terms, MSFT's offer is approx USD 16 bn over YHOO's market value of USD 25 bn prior to the acuqusition. As compared to this, MSFT's market value has dropped over USD 26 bn compared to pre-offer levels (which was already low at a multiple of 19-20). Also, the market's completely discounting the benefits that could accrue from a massive web audience that a MSN + Yahoo combination would have. A good way to play - MSFT March 27.5 options at 3 looks cheap. MSFT has to correct on the upside after probably a few more days of market jitter. Also, if anti-trust factors or competitor offers come in the way of the offer, MSFT would bounce back anyway! I dont see too much of a downside from this level - MSFT closed at 30.19 today.
GOOG - again, market over-reaction to a perceived threat from the MSFT-YHOO announcement. GOOG simply has too massive a search market % (57%+) and near-dominance in online ad revenues (over 75% market share) to get seriously impacted by an MSFT-YHOO combination. With its aggressive diversification (including the latest bid on wireless spectrum) and ubiquitous brand name, its difficult to pull them down any time soon. GOOG at 38.8 looks very attractive - again March options look good. I dont see too much of a downside here too - GOOG closed at 495.43 today as compared to its highs of over 700 as late as last December.
I also like AAPL at the low 130s - at a multiple of below 30!
Financials got a deserved pull back today - wait for a while more, and you might again have good buying opportunities at C, WB etc.
Thursday, January 31, 2008
Should the Fed get as aggressive as the market?
You know my answer - NO.
Fed acted rightly by doing an emergency 75 bps cut last week when global markets were in turmoil. Market reaction to the emergency cut was neutral to positive. However, most market pundits wanted another 50 bps or more during the planned FOMC meeting on Jan 30. It was suprising to see the Fed act in tandem, doing a massive 50 bps cut. We sure do need swift action to avoid a looming slowdown or recession, however Fed actions need to be viewed from a larger macro-economic perspective.
In an economy where most experts do not yet have a full idea of distressed debt in danger of being written off, its always safer to plan/space out/time monetary policy changes. One too many changes reduce the leeway available later to manage difficult situations that may come up later. Also, its is very dangerous to do drastic rate cuts in an environment where oil prices still hover at over USD 90 a barrell. Rate cuts would potentially cause further dollar depreciation (unless European and Asian economies see reduce rates at a similar rate, which seems unlikely), which in turn would further increase effective oil prices and flare up inflation. This poses some thing which would be most dangerous - stagflation.
Again, the beauty of a central banking authority is to a certain extent in being a bit 'enigmatic' and 'non-predictable' ...i mean on a lighter note. The markets never drove Alan Greenspan; Greenspan drove markets and the economy. The moment we have a Fed which is completely driven by short-term market conditions, we run the risk of monetary policy losing its effectiveness in times of greater crisis.
I for one am not advocating a stubborn monetary policy which ignores market signals. However, at the same time, if risks of inflation and potential stagflation are ignored, we might face tougher situations where monetary policy loses its effectiveness as a economic tool.
The market's moved upwards of 12,500; however we should be seeing heavy volatility in the months to come. Hold on to Financials though, assuming you have a 12 month horizon - we will see interim profit-taking moves though.
Fed acted rightly by doing an emergency 75 bps cut last week when global markets were in turmoil. Market reaction to the emergency cut was neutral to positive. However, most market pundits wanted another 50 bps or more during the planned FOMC meeting on Jan 30. It was suprising to see the Fed act in tandem, doing a massive 50 bps cut. We sure do need swift action to avoid a looming slowdown or recession, however Fed actions need to be viewed from a larger macro-economic perspective.
In an economy where most experts do not yet have a full idea of distressed debt in danger of being written off, its always safer to plan/space out/time monetary policy changes. One too many changes reduce the leeway available later to manage difficult situations that may come up later. Also, its is very dangerous to do drastic rate cuts in an environment where oil prices still hover at over USD 90 a barrell. Rate cuts would potentially cause further dollar depreciation (unless European and Asian economies see reduce rates at a similar rate, which seems unlikely), which in turn would further increase effective oil prices and flare up inflation. This poses some thing which would be most dangerous - stagflation.
Again, the beauty of a central banking authority is to a certain extent in being a bit 'enigmatic' and 'non-predictable' ...i mean on a lighter note. The markets never drove Alan Greenspan; Greenspan drove markets and the economy. The moment we have a Fed which is completely driven by short-term market conditions, we run the risk of monetary policy losing its effectiveness in times of greater crisis.
I for one am not advocating a stubborn monetary policy which ignores market signals. However, at the same time, if risks of inflation and potential stagflation are ignored, we might face tougher situations where monetary policy loses its effectiveness as a economic tool.
The market's moved upwards of 12,500; however we should be seeing heavy volatility in the months to come. Hold on to Financials though, assuming you have a 12 month horizon - we will see interim profit-taking moves though.
Tuesday, January 29, 2008
Trading on the Jan 30 FOMC meeting?
The market continued its 2-week rally today, with financials and oil companies leading the rise. With, most large cap financials are over 25-30% up over the past 15 days - and that signals its time to cool down. All of us know the recession is not in the rear view mirror yet.
The market rally over the past 2 days has been factoring in a 50 bps cut from the Fed tomorrow. It is difficult to imagine the Fed doing another 50 bps cut after it did a 75 bps cut just about 1 week back. Unemployment numbers are not that bad yet, and durable goods numbers threw a positive surprise today. With that, I would bet a 0 bps to 25 bps cut tomorrow, most probably a 25 bps cut. Personally, i believe another 50 bps cut is an overkill and throws the door open for inflation and even potential stagflation! Fed needs to look after the economy first, then the stock market!
So, if you haven't booked your short term gains yet, tomorrow mornign is a good time to do that - Fed is going to make an announcement tomorrow afternoon and it will almost surely be taken negative to neutral for the market.
The market rally over the past 2 days has been factoring in a 50 bps cut from the Fed tomorrow. It is difficult to imagine the Fed doing another 50 bps cut after it did a 75 bps cut just about 1 week back. Unemployment numbers are not that bad yet, and durable goods numbers threw a positive surprise today. With that, I would bet a 0 bps to 25 bps cut tomorrow, most probably a 25 bps cut. Personally, i believe another 50 bps cut is an overkill and throws the door open for inflation and even potential stagflation! Fed needs to look after the economy first, then the stock market!
So, if you haven't booked your short term gains yet, tomorrow mornign is a good time to do that - Fed is going to make an announcement tomorrow afternoon and it will almost surely be taken negative to neutral for the market.
Saturday, January 26, 2008
How does the market look like for the next 30 days?
Helped by an emergency Fed rate cut of 75 bps, interim solace of bank and regulatory support for bond insurers & good news on an imminent fiscal package, markets rebounded albeit with high volatility in the week of Jan 21. Financials, Home builders and Retail did well on the equity front - a reminder to the shorts that many of these names are under valued at this point, but probably not indicating a bottom, especially in Retail.
How does the next 30 days look like? Neutral-to-Negative I would say. Do not expect much from the State of the Union address on Jan 28 - the market would probably pick any thing announced with a huge chunk of salt. Dont bet too much on the FOMC meeting on Jan 30th too. Its unlikely that the Fed would agree with the traders (who are betting with 100% probability) and give another 50 bps cut - a measured 25 bps cut seems most likely.
This would mean no immediate boosts to take the Dow beyond 12,500. It would probably trade in a 11,700-12,500 range with significant volatility.
Sector-wise strategy:
How does the next 30 days look like? Neutral-to-Negative I would say. Do not expect much from the State of the Union address on Jan 28 - the market would probably pick any thing announced with a huge chunk of salt. Dont bet too much on the FOMC meeting on Jan 30th too. Its unlikely that the Fed would agree with the traders (who are betting with 100% probability) and give another 50 bps cut - a measured 25 bps cut seems most likely.
This would mean no immediate boosts to take the Dow beyond 12,500. It would probably trade in a 11,700-12,500 range with significant volatility.
Sector-wise strategy:
- Bullish on Financials, though there would be some profit-taking after last week's gains. Mid-year '08 and Jan '09 call options for many Financial names still look interesting: C June call (25) at 3.40, GS July call (190) at 22.2, MBI Aug call (12.5) at 6.2, ETFC July call (4) at 0.95 all look interesting if you beleive we can avoid a recession (like i do)
- Stay away from Retail/Consumer - its is too early yet for the retail party to kick back. Stay out from SKS, M and others which saw significant gains last week.
- Accumulate healthcare, pharma, non-cyclicals: PFE, AMGN, DNA, GENZ, KO, MO
On the whole, expect a market with a lack of direction, trading with high volatility. Try accumulating Financials and non-cyclicals on low days. This would help if you agree we are slated for a 2-4 quarter slowdown and then a bounce back.
Wednesday, January 23, 2008
A day to smile...after long.
The market finally shook some of the intense pessimism and bounced up on news that the bond insurers may not go bust after all. The NY state insurance regulatory agency facilitated a meeting between banks and the bond insurers to ensure some stop-gap funding to keep them floating. It didn't need extra-ordinary intelligence to realize that having MBIA or ABK go bust was as bad as having one of the big 5 banks declare risk of bankruptcy! The Fed, regulatory agencies, banks and insurance companies cannot simply let that happen.
With that good news, C was up 8%, WB up 10%, ABK up 70%+ and MBI up 30%+!! If you think whoa! its time to load up these stocks, please wait. As mentioned in one of the earlier blogs, you STILL need to have guts to hold on to this sector this year - but if you can hold on and not let be swayed by needless pessimism or optimism, you will reap rich gains. I mean a minimum of 25% upside on any of the big fin stocks by Q1-Q2 2009. Use some of the plunges to play in options on these stocks to add that flavor!
Merrill tried to add to the overall pessimism by reporting that home market prices will plunge 15% this year and 10% in 2009. That's way too pessimistic - it'd be good if MER has some thing in the middle ground - between loading up on sub prime one year & dumping mortgage altogether for the next 2 yrs!
With that good news, C was up 8%, WB up 10%, ABK up 70%+ and MBI up 30%+!! If you think whoa! its time to load up these stocks, please wait. As mentioned in one of the earlier blogs, you STILL need to have guts to hold on to this sector this year - but if you can hold on and not let be swayed by needless pessimism or optimism, you will reap rich gains. I mean a minimum of 25% upside on any of the big fin stocks by Q1-Q2 2009. Use some of the plunges to play in options on these stocks to add that flavor!
Merrill tried to add to the overall pessimism by reporting that home market prices will plunge 15% this year and 10% in 2009. That's way too pessimistic - it'd be good if MER has some thing in the middle ground - between loading up on sub prime one year & dumping mortgage altogether for the next 2 yrs!
Saturday, January 19, 2008
IN DIRE NEED FOR ‘POSITIVE’ ECONOMICS
The wild down turn in financial markets in the first 2 weeks this year has added fuel to talks of recession and has significantly dented already weakened consumer confidence. While almost none forecast a recession as late as Q2 2007, we have every one now, from Goldman Sachs to Alan Greenspan, talking about an inevitable recession in 2008. To understand the meaning and need for positive economics, its imperative that we take a quick look at how each of the market stake holders have acted/reacted in the recent past.
The Fed can be right…
Though many would argue, the Fed has been remarkably agile in responding to recent recessions. Back in 2000-01, Fed cut the funds rate from as high as 6.5% in early 2001 to 1.75% by December 2001, with as many as 6 rate cuts in the first half of the year. Similarly, we saw rate cuts in September, October and December last year. Its is important to note that the Fed faces the onerous task of balancing economic growth with inflation risks - fuel prices still stay at 90+ levels, and inflation remains relatively high at 3%+. Despite this, Ben Bernanke, in his recent testimony before the House Budget Committee, quite openly stressed on the need to expedite a fiscal stimulus package to counter the economic slow down. How does the market react to most of this – utter disdain! I, for one, am at a loss to understand why the market would cry foul when the Fed chairman speaks of the need for a fiscal stimulus package. In the current economic situation, what is needed is an all-out effort to contain the slow down and prevent a true recession. It’s really not the right time to speak true-capitalist lingo and paint this as a case of the government or the Fed trying to tamper with market dynamics!
Who’s to blame?
Let’s rewind a bit to get some perspective - who was responsible for the current mess in the first place? As real estate prices artificially rose through most of 2005, ’06 and ’07 from Nevada to California to Florida, market forces were truly responsible for an almost irresponsible build-up in home equity loan portfolios, predatory mortgage lending & heavy fund investments in MBS & mortgage-backed CDO instruments. Almost any asset management entity worth its name peddled ‘active’ Fixed Income funds, a nice-sounding pseudonym for funds focusing on current-flavor-of-the-market instruments – heavily on CDOs and MBS in this case. None of the rating agencies even barely raised concerns of credit quality or attempted down grades in this exuberant market that continued as late as Q2 2007. Fast forward to Jan 2008 and we now have every market participant hating sub-prime and writing off CDO and MBS portfolios like no one’s business. Some key questions come to mind:
· Despite all the data-driven analysis and risk simulation and modeling infrastructure available, why does it take one or multiple quarters of economic slow down before rating agencies raise caution signs and start rating mark downs? There definitely is scope for further improvements in forecasting and simulation technology, but there should be more to it than that! I don’t know the answer to this, except for potential conflict of interest situations and resultant sub-optimal rating calls.
· Along the same lines, none of the equity market researchers did as much as lower targets for the Citis and Merrills of the world till as late as Q3 2007. And when they started doing this AFTER the market showed clear signs of strain in Q4 2007, why was it over-the-board in many cases – take the infamous analyst comments on the ETFC downgrade in Q4 2007, for example. Shouldn’t there be an un-written code of conduct for analyst announcements?
· When every one’s aware of the importance of consumer sentiment and confidence indexes, why is there always a fight for one-upmanship to announce the slow down/recession – AFTER a slow down has started? Except for NBER, almost every other entity has ‘confirmed’ a recession in the last 4-6 weeks! NBER has a history of being very slow in ‘acknowledging’ recession, but at times this might be better than shouting from the roof top and hastening the slow-down process.
· Except for Larry Kudlow (notably), what role is the business media playing in this case? Akin to kicking the fallen opponent in a boxing ring, you have expert after expert predicting drastic market corrections and worser mortgage market conditions in 2008 – AFTER seeing the economy slowing down.
· Why does the market necessarily be on collision course with the Fed/government? When ever Ben Bernanke speaks, the market loves to hate him. If he announced (quite reasonably) that this economy needs a fiscal stimulus Viagra, why does the market cringe and crib?
The need for responsibility…
The key point is – doesn’t every true market participant have the right to temper market gyrations and at least strive for market sanity? The danger of self-fulfilling prophecies and the importance of market sanity are best apparent in the below case:
Thanks to a high level of integration (and hence, inter-dependence) of markets across asset classes and geographies, one (or was it two from Bear Stearns?) sub-prime fund bust causes the global high-yield debt market to panic. Financial institutions react with drastic cuts in non-prime lending and aggravate the already weakened mortgage market. This in turn caused increased defaults, and thus further depressed CDO and MBS papers backed by sub-prime debt…causing massive write-offs by major financial firms, lead by C & MER. With the potential defaults and losses on mortgage-related portfolios clearer, panic sets in on bond insurers and you see MBIA and AMBAC tumbling 70%+ plus in a span of weeks. This in turn triggers further write-downs in both CDO/MBS and mortgage loan portfolios of multiple financial entities. And the story continues – or does it?
We need to know that most of these write-offs can in fact reverse to profit bookings once some of the mortgage market fundamentals start picking up again and bad paper suddenly turns not-so-bad as collateral values inch back and LGD values decline. Now, how does the market rise back? Only through more mortgage market activity and hence, increased consumer confidence; this can be driven significantly by fiscal stimulus packages to aid delay/prevention of fore closures. I do agree that it’s wrong in principle to reward people who have been reckless in the first place by going for unaffordable loans and endangering their financial standing. But are they more at fault than sophisticated market players who willingly aided/led them in this path – that’s a difficult question indeed to answer for many market analysts.
‘Positive’ economics…
So, what’s the whole point? Simple – we need to embrace ‘positive’ (as against normative) economics and react with root-cause correction instead of following a throw-the-baby-with-the-bath-water approach. It would be a saner market if researchers (and analysts, if possible) focus on root cause analysis and highlighting risk factors, and hence risk mitigants, instead of making market-driven first-to-the-table judgement calls. Along the same lines, credit and capital market participants need to have self-governing code of conduct and ethics in analyst announcements and research publications that affect the broader market. The media needs to play a more constructive role by focusing on positive steps being taken by the Fed, government and market forces in facilitating a smoother landing (and a quicker take-off). The market needs to be more flexible to Fed and government tactics to counter recessions – and not stick to a stubborn ‘no-fiscal-policy’ stand. I am NOT a proponent of governmental control, but neither do I believe that a free market can always be self-correcting!
We all know the US market can really NEVER be on a firm footing with out correcting fundamental problems related to low consumer savings and high fiscal deficits – but that’s an altogether different discussion in itself! While our leaders strategize for that big battle, why not market and legislative forces work constructively to react to this slow down?
Quick note: The word ‘Positive economics’ is a bit loosely used here, not necessarily matching with Milton Friedman’s classic economic theory advocating free-market economy with high focus on monetary policy and low governmental influence
Thursday, January 17, 2008
And the market tumbles again!
Merrill posted one of the worst quarterly results you could ever imagine. On a much smaller asset base, it posted a write-off and loss as bad as Citi. I agree the fed shouldn't guide CEO salaries, but its ridiculous to have Stan O'Neal walk away with 140 mn (or was it 160 mn?!!) after such a pathetic mess! Corporate America needs to find a way to tie contract provisions on CEO/COO severance packages to current firm profits/performance at the time of severance!
Ben Bernanke talked about a fiscal stimulus package - a probable USD 150 bn rescue package consisting of financial support to the sub-prime mortgage market (to prevent / reduce foreclosures), tax cuts etc. Why the hell did the market react the way it did?? When you are facing a slow down with more than 80% of market pundits betting on recession, what else would Ben do - not come with any stimulus package and sit tight?...have the market to figure out a way to manage itself??? As expected, you had all the experts in CNBC bitching Bernanke again - what do these guys want? Stubborn adherence to a pure monetary policy strategy will NOT yield results in such a market scenario. More on this whole thing in my Saturday blog - i need more time to vent my anger!
Meanwhile, i keep my view - th market is over sold! If you have guts, enter now and hold for 6-12 months. Else, wait till Jan end and plunge in.
Ben Bernanke talked about a fiscal stimulus package - a probable USD 150 bn rescue package consisting of financial support to the sub-prime mortgage market (to prevent / reduce foreclosures), tax cuts etc. Why the hell did the market react the way it did?? When you are facing a slow down with more than 80% of market pundits betting on recession, what else would Ben do - not come with any stimulus package and sit tight?...have the market to figure out a way to manage itself??? As expected, you had all the experts in CNBC bitching Bernanke again - what do these guys want? Stubborn adherence to a pure monetary policy strategy will NOT yield results in such a market scenario. More on this whole thing in my Saturday blog - i need more time to vent my anger!
Meanwhile, i keep my view - th market is over sold! If you have guts, enter now and hold for 6-12 months. Else, wait till Jan end and plunge in.
Wednesday, January 16, 2008
Back to lower grounds for AAPL
Despite all the hype about Macworld on Tuesday, AAPL lacked enough punch to stay afloat at the ethereal levels it reached last year. As guessed earlier in the year, these technology darlings will find it difficult to meet sky-high expectations and retain sky-high valuations in such a pessimistic market. AAPL might look attractive considering its 21% off its highs, but take a look at the P/E - 43! With a 24 bn revenue on high-end consumer electronics and a revenue CAGR of 33% over the last 5 years, it has sutained its run based on the huge margins from ipods, iphones and such stellar hits. Hats off to Steve Jobs for his audacity, vision and zeal. However, you cannot have an ipod or an iphone every year - the wafer thin PC does look pretty, but probably that's not enough to keep driving current valuations in these market conditions.
Same applies to GOOG....even MSFT, ORCL. My guess is we will see some corrections in these stellar names over the coming year. Meanwhile, ORCL's acquisition of BEAS is indeed notable. With its portfolio of acquisitions including Peoplesoft & JD Edwards (ERP/SCM) , Siebel (CRM), Hyperion (BI/Reporting), IFlex (Fin Serv solutions), BEAS (middleware/app servers), Larry has a very well rounded set of assets for ORCL, fitting it firmly against MSFT and IBM.
The above trend also means we would probably see more acquisitions of meaty stand-alone players in other areas too - like TIBX, WBSN, CTXS etc. Why not JAVA? In a beaten market, the Larrys of the world with big money will still look for value plays and acquisitions. Which means 'there's always a bull market some where out there'! (Trade mark rights for that with Jim Cramer of course!)
Same applies to GOOG....even MSFT, ORCL. My guess is we will see some corrections in these stellar names over the coming year. Meanwhile, ORCL's acquisition of BEAS is indeed notable. With its portfolio of acquisitions including Peoplesoft & JD Edwards (ERP/SCM) , Siebel (CRM), Hyperion (BI/Reporting), IFlex (Fin Serv solutions), BEAS (middleware/app servers), Larry has a very well rounded set of assets for ORCL, fitting it firmly against MSFT and IBM.
The above trend also means we would probably see more acquisitions of meaty stand-alone players in other areas too - like TIBX, WBSN, CTXS etc. Why not JAVA? In a beaten market, the Larrys of the world with big money will still look for value plays and acquisitions. Which means 'there's always a bull market some where out there'! (Trade mark rights for that with Jim Cramer of course!)
Monday, January 14, 2008
A random pick of 6 value and take-over plays
The market's got another boost today, this time from the big old blue (IBM). There is a heightened sense of antiticipation in the markets this period with multiple plays expected:
1) Fed's rate drop announcement, expected for Jan 30 or earlier. Market's giving a 50% chance for a 75 bp cut, I wld stick with 25-50 bp only. Bernanke would not go ballistic on the rate cut considering oil is still in the high 90s (meaning inflation is not dead yet).
2) The government is expected to announce specific measures to contain the mortgage plunge and the slowing economy (possibly in the State of the Union address on Jan 28)
3) A slew of big financial plays, starting with C, would be announcing earnings starting Tuesday. I still bet on an upside for the big financial sector plays.
4) Steve Jobs speaks at the Macworld conference, with possible announcements on ultra-thin laptops or new service offerings leveraging its ipod/itunes legacy. I dont see much of an upside in this stock medium term, even if some thing spectacular is announced tomorrow...i mean apart from the customary blip in such case!
Meanwhile, a quick peek at some stocks across sectors - either value of take-over plays:
1) Fed's rate drop announcement, expected for Jan 30 or earlier. Market's giving a 50% chance for a 75 bp cut, I wld stick with 25-50 bp only. Bernanke would not go ballistic on the rate cut considering oil is still in the high 90s (meaning inflation is not dead yet).
2) The government is expected to announce specific measures to contain the mortgage plunge and the slowing economy (possibly in the State of the Union address on Jan 28)
3) A slew of big financial plays, starting with C, would be announcing earnings starting Tuesday. I still bet on an upside for the big financial sector plays.
4) Steve Jobs speaks at the Macworld conference, with possible announcements on ultra-thin laptops or new service offerings leveraging its ipod/itunes legacy. I dont see much of an upside in this stock medium term, even if some thing spectacular is announced tomorrow...i mean apart from the customary blip in such case!
Meanwhile, a quick peek at some stocks across sectors - either value of take-over plays:
- WBSN (at 17.19) - A leading provider of web security solutions. Trading at a 52-week low, near June 2004 levels. Steady positive upside on earnings estimates. Probably not a very cheap PE still, but its a good merger/take-over play - its hard to imagine this staying as a stand alone company for long.
- CTSH (at 28.35) - Leading offshore service provider. Trading near 52-week lows, near Feb 2006 levels. Steady earnings surprises - only the subdued guidance in the last earnings call did the stock in. Attractive at PE of 28, with a historical profit CAGR of over 50%. Despite the dollar devaluation vis-a-vis the rupee and market slow down in some client sectors, a 30-35% CAGR should be achievable over the next 2 years.
- AMGN (at 47.9) - Biotech therapeutics play with a focus on cancer care. Trading at 52-week lows, with an attractive PE of 17. This is a large sustianable play, and it could very well trade in the 60s in a short period from now.
- VDSI (at 21.68) - Information security solution provider, focus on token-base user authentication. PE of 35 is not cheap; but trading off over 50% from its highs. Strong position in the market, i feel its a distinct take-over target considering what happenned with RSA last year.
- WM (at 14.32) - WaMu cannot be that cheap. At a PE of just 5.57, it is trading at a 10-year low! Despite its high mortgage exposure, this is a definite value pick. Could evenm be a take over target for 2008, with its attractive West Coast coverage (JP Morgan? Wachovia?).
- MBI (at 17.05) - Another one at a 10-year low, with a PE of 4. Credit insurers defintely will not have a smooth ride through 2008, but this one has been beaten up too hard, like many other financial plays. Could even see some private equity investment here.
As mentioned earlier, I am still bullish on many big-ticket financial plays which have been beaten up over the past 3-6 months; but would not mention any of these here, to avoid sounding repetitive!
Happy trading through 2008, and through a volatile January!
Friday, January 11, 2008
30 day mark sheets - Financials, Healthcare
Did i not tell you that January's going to be volatile? This week proved that beyond any doubt... bad week for the market, with almost every sector treading 1-2% down. With good news from Genzyme, Celgene, ISIS and others, Healthcare did repay our trust amidst this troubled economy. And, the winner among all losers? - Financials! Though they have not seen any siginifcant correction given the beating they have taken over the past 2 months, Financials did bounce back. Despite good gains today for MBIA & Ambac (bond insurers), C, WB, MER, ETFC and others, this sector has still take way too much a beating in the last 30 days.
FINANCIALS
Let's see how Financials did in the last 30 days:
MBIA (MBI) down 48% - market over-reaction to bond insurers
ETrade (ETFC) down 25% - short sellers galore; last past 3 days did see some counter-action!
American Express (AXP) down 18% - Isn't lower guidance natural in this market?
JPMorgan (JPM), Ban Am (BAC), Citi (C), Wachovia (WB) all down 9%-11%!
Goldman Sachs (GS) down 7% - Why on earth punish GS?
Notable exceptions:
State Street (STT) up 6% - diversified business model with strong custodial services business
Fannie Mae (FNM) - more of a correction; its still down 44% past 3 months!
Though there would be more volatility this month, hold on to Financials and note entry opportunities! Its hard to believe any market crash can take out 26% of value from Bank Am and 40% from Citi!
HEALTHCARE
As expected, Healthcare beat the market tide. Let's see how some marquee names did over the past 30 days:
Humana (HUM) up 10% - Healthcare services will hold against the slow down
Genzyme (GENZ) up 7% - biotech holds strong. Not very sensitive to economic cycles
Pfizer (PFE) up 1% - Note this one - its going to go a long way. Still down 5% over past 90 days!
Notable 30 days losers are Amgen (AMGN) down 5% & United Healthcare down 3%
Hold on to big pharma names, load up PFE.
Among others, beware of Commodities (like GG, NEM), Oil (like XOM, CVX). Stay away unless you want a wild ride!
And, remember to hold tight through the January roller coaster!
FINANCIALS
Let's see how Financials did in the last 30 days:
MBIA (MBI) down 48% - market over-reaction to bond insurers
ETrade (ETFC) down 25% - short sellers galore; last past 3 days did see some counter-action!
American Express (AXP) down 18% - Isn't lower guidance natural in this market?
JPMorgan (JPM), Ban Am (BAC), Citi (C), Wachovia (WB) all down 9%-11%!
Goldman Sachs (GS) down 7% - Why on earth punish GS?
Notable exceptions:
State Street (STT) up 6% - diversified business model with strong custodial services business
Fannie Mae (FNM) - more of a correction; its still down 44% past 3 months!
Though there would be more volatility this month, hold on to Financials and note entry opportunities! Its hard to believe any market crash can take out 26% of value from Bank Am and 40% from Citi!
HEALTHCARE
As expected, Healthcare beat the market tide. Let's see how some marquee names did over the past 30 days:
Humana (HUM) up 10% - Healthcare services will hold against the slow down
Genzyme (GENZ) up 7% - biotech holds strong. Not very sensitive to economic cycles
Pfizer (PFE) up 1% - Note this one - its going to go a long way. Still down 5% over past 90 days!
Notable 30 days losers are Amgen (AMGN) down 5% & United Healthcare down 3%
Hold on to big pharma names, load up PFE.
Among others, beware of Commodities (like GG, NEM), Oil (like XOM, CVX). Stay away unless you want a wild ride!
And, remember to hold tight through the January roller coaster!
Wednesday, January 9, 2008
Waiting for Bernanke...
Dow up 140+ points, NASDAQ gets some releife too. Nothing much to write about in today's market. Sokme sanity returned with select reports indicating its not a recssion after all! This meant financial stocks got some reprive; but that didnt even remotely compensate for what has happenned over the past 2 months!
Now, get ready for earnings season. A lot of reports expected from behemoth financial firms. Bernanke speaking tomorrow - just hope he sends some clear soothing signals! The Fed is expected to meet on Jan 15...and its a question of 0.25 Vs 0.50 in terms of rate cut. I bet its 0.25, since oil prices and inflation are refusing to budge.
Back to picks for this tough year...apart from the ones mentioned earlier:
- PFE (Pfizer). Pharma's good in this down turn, P/E of 10 looks very attractive
- BMY (Briston Myers Squib). Pharma again, but at a higher P/E. Not as attractive as PFE though
- BUD (Anheuser Bush, of Budlight fame). Drink your way through the recession :-)
Some risky medium-term shorts: GG (Goldcorp), XOM (Exxon). I am still long on low-risk bonds, mainly of the longer tenure.
PS: And interestingly, E Trade management did wake up with their announcement of the USD 3 bn MBS sale and closing down of their institutioinal sales division!
Now, get ready for earnings season. A lot of reports expected from behemoth financial firms. Bernanke speaking tomorrow - just hope he sends some clear soothing signals! The Fed is expected to meet on Jan 15...and its a question of 0.25 Vs 0.50 in terms of rate cut. I bet its 0.25, since oil prices and inflation are refusing to budge.
Back to picks for this tough year...apart from the ones mentioned earlier:
- PFE (Pfizer). Pharma's good in this down turn, P/E of 10 looks very attractive
- BMY (Briston Myers Squib). Pharma again, but at a higher P/E. Not as attractive as PFE though
- BUD (Anheuser Bush, of Budlight fame). Drink your way through the recession :-)
Some risky medium-term shorts: GG (Goldcorp), XOM (Exxon). I am still long on low-risk bonds, mainly of the longer tenure.
PS: And interestingly, E Trade management did wake up with their announcement of the USD 3 bn MBS sale and closing down of their institutioinal sales division!
Tuesday, January 8, 2008
The slide continues...while the primaries flourish!
Another bad day at the market, with existing home sale numbers further pulling the market down. Added bad news on write-offs, CEO resignations and rumours of Countrywide's bankruptcy meant doom for the market.
Pharma stocks seem clearly poised to be one of the safe havens in this troubled market (apart from staple consumers like KO, MO etc i.e.)
Bad news still at the markets, but it's good to see massive turn outs for the New Hampshire primaries! The sheer enthusiam of the voting public (helped by unusually mild winter weather) is to be applauded. The betting market, which gave a 98% chance for a Barrack victory, might be proved wrong with Hillary leading numbers as of now...too close to predict though! I just wish there's more of a focus on the economy & global competitiveness as against Pakistan & Iraq in candidate debates. The media needs to do a better job at guiding public focus too!
Pharma stocks seem clearly poised to be one of the safe havens in this troubled market (apart from staple consumers like KO, MO etc i.e.)
Bad news still at the markets, but it's good to see massive turn outs for the New Hampshire primaries! The sheer enthusiam of the voting public (helped by unusually mild winter weather) is to be applauded. The betting market, which gave a 98% chance for a Barrack victory, might be proved wrong with Hillary leading numbers as of now...too close to predict though! I just wish there's more of a focus on the economy & global competitiveness as against Pakistan & Iraq in candidate debates. The media needs to do a better job at guiding public focus too!
Monday, January 7, 2008
Bigger worries?
Unfortunately, good news takes longer to travel around - and bad news does spread like fire!
"Banks could lose as much as $242 billion from the mortgage crisis, leaving the industry in need of more capital, analysts at Friedman, Billings, Ramsey & Co. warned on Monday". Most of the losses posted so far by financial services firms relate to lack of liquidity in (high-risk) securities backed by loans and resultant lower mark-to-market valuation. Their analysis predicts another category - actual credit losses on book loans - to rise its head in 2008 and may be 2009...which means higher-than-expected write-downs.
My personal reaction (Disclaimer - I honestly dont have the data & analysis that these guys do, though!) - its a classic case of bad news designed to chase bad news. Like the S&Ps and Moodys of the world lowering ratings AFTER every market collapse, while they are supposed to do that BEFORE (if they are truly doing what they are supposed to do)!. The bad news has been factored in already & its now the turn of shorts in the market to depress things further. It just takes a whiff of positive news from a C, JPM or for that matter any of the biggies to turn the tide and have the shorts run for cover!
Now, let me touch on one of my earlier picks - ETFC. Its been pummelled from the 25s to 15s, from 15s to 8s and from 8s to 3s...and it ended at 2.83 today. It does take some courage to stand for this stock now; but i hold on to my view.
Look at this:
- USD 30 bn in mortgage and home equity loan assets and another USD 12 bn in MBS.
- Only USD 5 bn of the loan assets is with LTV > 80%
- Of the USD 16 bn in ABS and MBS, the Citadel deal has removed USD 3 bn of the worst ABS
This leaves us with a worst-case loss of USD 400 mn for the year. Assuming some revenue loss on the brokerage side due to bad press, we should still approx an EPS of 0.50. Even a price of 5 makes a P/E of hardly 10, pretty lean! Obviosuly there are a lot of variants here - but that's like a good guess. Wait for Jan 24 (earnings) and you should by all means see them doing better than what this market expects! They need to immediately do further to stop the negative press though. However, i do repeat - you got to have a 12 month holding period and closely watch the earnings announcement on the 24th to ensure there's nothing turning fundamentally weak there!
"Banks could lose as much as $242 billion from the mortgage crisis, leaving the industry in need of more capital, analysts at Friedman, Billings, Ramsey & Co. warned on Monday". Most of the losses posted so far by financial services firms relate to lack of liquidity in (high-risk) securities backed by loans and resultant lower mark-to-market valuation. Their analysis predicts another category - actual credit losses on book loans - to rise its head in 2008 and may be 2009...which means higher-than-expected write-downs.
My personal reaction (Disclaimer - I honestly dont have the data & analysis that these guys do, though!) - its a classic case of bad news designed to chase bad news. Like the S&Ps and Moodys of the world lowering ratings AFTER every market collapse, while they are supposed to do that BEFORE (if they are truly doing what they are supposed to do)!. The bad news has been factored in already & its now the turn of shorts in the market to depress things further. It just takes a whiff of positive news from a C, JPM or for that matter any of the biggies to turn the tide and have the shorts run for cover!
Now, let me touch on one of my earlier picks - ETFC. Its been pummelled from the 25s to 15s, from 15s to 8s and from 8s to 3s...and it ended at 2.83 today. It does take some courage to stand for this stock now; but i hold on to my view.
Look at this:
- USD 30 bn in mortgage and home equity loan assets and another USD 12 bn in MBS.
- Only USD 5 bn of the loan assets is with LTV > 80%
- Of the USD 16 bn in ABS and MBS, the Citadel deal has removed USD 3 bn of the worst ABS
This leaves us with a worst-case loss of USD 400 mn for the year. Assuming some revenue loss on the brokerage side due to bad press, we should still approx an EPS of 0.50. Even a price of 5 makes a P/E of hardly 10, pretty lean! Obviosuly there are a lot of variants here - but that's like a good guess. Wait for Jan 24 (earnings) and you should by all means see them doing better than what this market expects! They need to immediately do further to stop the negative press though. However, i do repeat - you got to have a 12 month holding period and closely watch the earnings announcement on the 24th to ensure there's nothing turning fundamentally weak there!
Saturday, January 5, 2008
Uh...bad start for the year.
I was travelling - in the East Coast, in frigid winter - hence couldn't pen down my thoughts after Thursday market close.
This week has been as bad as it could be! On top of the ISM data and oil price shock early this week, job data which came in on Friday confirmed every one's worst fears. 5% joblessness rates and a mere 18,000 addition in December (as against an average 110,000+ in normal times!) REALLY confirms economic slow down. On top of this, we had bad news from every end - National City cutting 800 more jobs, another prominent CEO quitting (State Street Global Advisors), Retail layoffs, projected lay offs in MER and C.
Enough is enough (was that Mike Huckabee's or John Edwards's - both speak the same hardline tone anyway!). C'mon, it cannot be that bad. It's hard to think that en economy cruising at 4.9% annual growth rate in 1 quarter falls to deep recession the next. It's the market over-racting, typical of a period when people realize growth wont be as rosy as it was for the past 10 or 12 quarters. Biggest losers...the usual suspects - Retail, Home construction, automobiles & worst of all, Financial Services.
C, WB, JPM, MER, GS (!) all pummelled. I would say it's time to ENTER some of these stocks provided you're patient to wait. This sector is set for serious rebound once the market gets its bearings right.
As a hedge, keep equal bets on a mix of the following: Quasi-sovereign income/bond funds, Large-cap pharma, Staple consumer (KO, MO, JNJ).
Always remember - rain or shine, you place your bets right and smart!
This week has been as bad as it could be! On top of the ISM data and oil price shock early this week, job data which came in on Friday confirmed every one's worst fears. 5% joblessness rates and a mere 18,000 addition in December (as against an average 110,000+ in normal times!) REALLY confirms economic slow down. On top of this, we had bad news from every end - National City cutting 800 more jobs, another prominent CEO quitting (State Street Global Advisors), Retail layoffs, projected lay offs in MER and C.
Enough is enough (was that Mike Huckabee's or John Edwards's - both speak the same hardline tone anyway!). C'mon, it cannot be that bad. It's hard to think that en economy cruising at 4.9% annual growth rate in 1 quarter falls to deep recession the next. It's the market over-racting, typical of a period when people realize growth wont be as rosy as it was for the past 10 or 12 quarters. Biggest losers...the usual suspects - Retail, Home construction, automobiles & worst of all, Financial Services.
C, WB, JPM, MER, GS (!) all pummelled. I would say it's time to ENTER some of these stocks provided you're patient to wait. This sector is set for serious rebound once the market gets its bearings right.
As a hedge, keep equal bets on a mix of the following: Quasi-sovereign income/bond funds, Large-cap pharma, Staple consumer (KO, MO, JNJ).
Always remember - rain or shine, you place your bets right and smart!
Wednesday, January 2, 2008
Bloodbath on Day 1 - does not mean immediate recession
- ISM's manufacturing index at 47.7
- Downgrade on the chip sector by Bank Am
- Oil (artificially) touches 100 a barrel!
- Gold and commodities rally - Gold crosses the '80s high of 850/ounce!
- Net result - Dow loses 220 points on day 1 of the new year! (worst opening ever)
If that does not worry an average investor, what else will?
But, I hold on to my view - the economy is NOT headed for a major recession. It will be a sustained slow down with ~1% growth rates for 4+ quarters. And for the financial sector, i still hold them (if you are in) & stay put - you won't repent! Don't expect 4 week gains, but hold tight for 6-12 months and you will be in for surprise.
Commodities - may look good. But dont tread in unless you are the proverbial fool - we WILL see a significant (read 15%+) correction in gold over the next 2-3 months. Gold will do good medium term, but get in after the next correction!
January is going to be a VOLATILE month (Capitals intended!). If you are in to sectors like Financials, hold on. But if you are trying to enter, cool down and wait till January end.
Tuesday, January 1, 2008
Where to Invest in 2008?
Consider this - the US economy has slowed down from a quarterly annualized growth rate of 3-4% to about 1% in Q4 2007. With all my due respects to Larry Kudlow & company, I would bet safely that we are clearly facing the start of a period of economic slowdown in the US. If markets behave the way they usually do, here's my prognosis for 2008:
- The US housing market would face prolonged slowdown atleast till end of Q3 2008. With more ARMs resetting over the next few quarters, subsequent delinquencies and further write-downs of bank Level 3/sub-prime assets as home prices continue to fall, there's enough negative momentum left for another 2-3 quarters.
- Negative fall-out from the housing market will impact consumer spending in a bigger way in Q1 and Q2 2008. Consumer spending (accounts for 2/3rd of Gross GDP) slowdown will eventually affect corporate spending and capex, and the job market by Q2 2008. We should expect to see job market contraction around late Q1-mid Q2 2008.
- Despite the magnified effect of the housing market on th eeconomy, global economic factors (continued growth in Europe, Asia & Japan) would help the US to avoid a recession next year. This would mean sustained 1-2% growth numbers for most of 2008.
- Emerging markets, primarily India & China, would face significant stock market corrections around Q3 2008. Slow down in US growth will eventually affect certain sectors in these economies, forcing corrections in market valuations. Market PE in India, for example, would drop from ~22s to ~18-19 in the medium term.
What does this all mean - where to invest & where NOT to invest in 2008? [Stocks, Bonds, Real Estate....]
US STOCKS
- Contrary to perception, the US financial services sector will infact MODERATELY OUTPERFORM the market in 2008. Most of the negative news has already been factored in, and any positive news would create significant upsides. Stocks to watch for significant gains: Citigroup (C - far more resilient due to global presence. Sub-prime write-down impact has been over-played by the market. Expect Vikram Pandit to take some drastic steps to address operational efficiency issues), E*Trade (ETFC - Inherent strength of the original business model will help hold customers. It's fire-sale of high-risk assets to Citadel will cushion earnings impact for the next 2-3 quarters and help ride over the current crisis). However, in this sector, you need to have a 6-12 month time horizon for Q1 investments!
- Oil, Heavy Engineering, Automobile stocks will face significant pressure as the slow-down spreads to the broader economy. Avoid CAT, XOM.
- Technology stocks including darlings like AAPL, MSFT will face pressure by Q2 2008 due to broader economy slow down - their continued strength in Q4 2007 is more due to lag effects associated with a slow down than anything else!
- Commodity stocks (notable - Goldcorp:GG) MIGHT see significant gains over the next 4-8 quarters. However, the recent bull run in these segments will force near-term corrections. So, get in only after a significant correction - and only if you thrive in volatility!
- As in any slowdown scenario, staple-consumer and pharma stocks will hold strong. Notables - JNJ, BMY, KO, PG.
OTHER INVESTMENTS
- As you would have figured by now, stay OUT of the US housing market (from an investment perspective) till end of Q3 2008. We should see the bottom by late 2008, though it will be a slow climb up from there!
- Avoid increased exposure to emerging market stocks and funds. As mentioned above, these markets would be negative-to-neutral on an annual basis in 2008, and will face significant medium term corrections. An interesting pick - Indian offshore providers (INFY, WIT, CTSH) will have positive momentum as rupee appreciation is contained in 2008 (~5%) and US economic slowdown pushes more offshoring to India and China.
- The real estate sector correction in US & ripple effects on the global economy will force corrections to real estate market in emerging market economies (India being a notable example). However, we will see continued growth in Tier II/III business centers in these economies, as businesses relocate and overall demand remains stable/upward.
- As the US economy slows down and its ripple effect on the global economy starts felt by Q3-Q4 2008, there will be a continued flight of money to safer quasi-sovereign investments. Expect to see abnormal returns on high-grade bond investments (treasuries, high-grade munis, AAA corporate etc) over the second half of 2008 and extending well in to 2009, as even emerging market and European economies are forced to cut benchmark rates to push continued growth. Try parking some money in income funds with a heavy focus on high-grade paper.
"As in everything, investing is an art & we learn more as we know more."
More to follow....stay with me to track markets as we step in to a brand new year!
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