Sherron Watkins Is No Whistleblower
Posted by Eddy Elfenbein on March 15th, 2006 at 2:24 pm

Sharron Watkins is ready to take the stand at today’s Enron trial. She’s become a mini-celebrity due to her role as the brave whistleblower inside Enron. Watkins was even named one of Time’s “Persons of the Year,” along with two other female whistleblowers. We even had to endure articles asking us if women are really more honest than men.
Unlike the other two women (Cynthia Cooper and Coleen Rowley), Sherron Watkins is no whistleblower. All she did was write an anonymous letter to Ken Lay. She didn’t go to the media or regulators, and she never followed up.
You can read the memo here. In it, you can see that she’s not only not a whistleblower, she was actually concerned that others might blow the whistle. I’ll politely skip over the issue of Time, owned by what was once known as AOL Time Warner, pointing out the problems of creative accounting.
Dan Ackman sums up what Watkins really did:

A whistle-blower, literally speaking, is someone who spots a criminal robbing a bank and blows a whistle, alerting the police. That’s not Sherron Watkins.
What the Enron vice president did was write a memo to the bank robber, suggesting he stop robbing the bank and offering ways to avoid getting caught. Then she met with the robber, who said he didn’t believe he was robbing the bank, but said he’d investigate to find out for sure. Then, for all we know, Watkins did nothing, and her memo was not made public until congressional investigators released it six weeks after Enron filed for bankruptcy.

Don’t feel too bad for her. She already had her $500,000 book deal.

Cyclical Index Follow-up
Posted by Eddy Elfenbein on March 15th, 2006 at 12:33 pm

I wrote too soon about the Morgan Stanley Cyclical Index (^CYC) (see here). The cyclicals are having a huge day compared with the rest of the market. The CYC is up 1.04% while the S&P 500 is down 0.05%.

Harley Grows Up
Posted by Eddy Elfenbein on March 15th, 2006 at 11:22 am

Legendary hogmaker, Harley-Davidson (HDI), is facing a mid-life crisis. How do you market a plaything for older white guys to a mass audience?

As the Baby Boomers who transformed Harley’s rumbling, lumbering bikes from countercultural totems into American icons enter their senior years — the leading edge of the generation is turning 60 this year — they’re increasingly in the market for knee and hip replacements (Biomet!), not Harley’s notoriously bone-shaking bikes.
That’s forcing the Milwaukee, Wisconsin-based company to scramble to find new customers among women, blacks and Hispanics — groups that have not been traditional Harley-Davidson riders.
The quest has involved the development and rollout of new products, like the 883 Sportster Low, built for smaller, lighter riders, and new marketing efforts, like Harley’s TV ad campaign during the NCAA tournament this spring.
And the effort is showing some signs of success. Female ridership has quintupled in recent years. Today, women like Janeen Wingo, a 33-year-old resident of Calumet City, Illinois, who bought a Harley-Davidson 1200 Sportster last summer, account for 1 in 10 of the company’s sales — up from 1 in 50 just 15 years ago.

Here are Harley’s sales and earnings for the past ten years:
Year………..Sales (mil)………EPS
1996……….$1531.2…………$0.47
1997……….$1762.5…………$0.57
1998……….$2064.0…………$0.69
1999……….$2452.9…………$0.87
2000……….$2906.4…………$1.13
2001……….$3363.4…………$1.43
2002……….$4091.0…………$1.90
2003……….$4624.3…………$2.50
2004……….$5015.2…………$3.00
2005……….$5342.2…………$3.41
Not a bad trend. Wall Street is expecting 2006 EPS of $3.72 on sales of $5.6 billion. The stock is currently going for about 13 times this year’s estimate.

Fair Isaac Roundup
Posted by Eddy Elfenbein on March 15th, 2006 at 10:25 am

Yesterday, shares of Fair Isaac (FIC) were knocked down on the news that three credit-reporting companies are creating a rival credit scoring system to Fair Isaac’s FICO. So far, I’m far from convinced that this new system is a serious threat to Fair Isaac.
The Wall Street Journal quotes Fair Isaac’s CEO, Thomas Grudnowski, who summed up the situation nicely:

The new VantageScore system developed by the three bureaus competes with the FICO score system developed by market leader Fair Isaac Corp. of Minneapolis, whose proprietary credit-scoring system is used by 80% of the 50 largest banks in the U.S., according to Thomas Grudnowski, chief executive officer of Fair Isaac. About 75% of mortgage-loan originators use Fair Isaac’s FICO scores in their underwriting process, according to Doug Duncan, chief economist of the Mortgage Bankers Association.
“Because of our low price and high quality, there has got to be a burning platform for customers who want to switch, because there is going to be financial risk,” Mr. Grudnowski said.
Financial institutions and mortgage companies use credit scores, which are derived from information reported to local and national credit-reporting agencies, to determine which loan applicants are good risks. Your payment history, amount of debt owed, and how long you’ve used credit are some of the factors included in a credit score. Each of the three national reporting agencies currently markets its own credit score to lenders and consumers, as does Fair Isaac, which sells them directly to consumers at myfico.com. The credit bureaus also sell the FICO scores to consumers.
Fair Isaac’s system uses a scale from 300 to 850, with 850 being the highest score representing a stellar borrowing record. The VantageScore system uses a scale from 500 to 990, which corresponds to an academic letter-grading system from F to A. Therefore, scores higher than 900 earn an A, scores from 800 to 900 a B and so on.

I like the way the company is responding. MarketWatch quotes Ron Totaro, a Fair Isaac veep:

But Fair Isaac’s Totaro says lenders face significant hurdles in switching to new score models.
Some credit-granting firms “have been using a FICO score for 20 years in many cases. It’s embedded in lenders’ computer systems, lending processes…you can constantly go back and compare apples to apples on how a portfolio is performing or how you need to adjust your lending criteria,” he said.
While the credit-reporting agencies’ announcement today was a surprise, he doesn’t see the new product as a significant threat.
“We’ve been dealing with folks trying to come up with another type of credit score and it really hasn’t impacted us. We don’t see this particular item impacting our business in any way,” Totaro said.

Yes, it’s not so easy to kill the king. Here’s Grudnowski again, this time in Business Week:

Fair Isaac Chief Executive Tom Grudnowski said in an interview that FICO scores are deeply embedded in the way lenders evaluate loan applications. The biggest challenge for the credit bureaus, he says, will be to prove that their score is so much better that it justifies ripping up the way they do things now. Says Grudnowski: “There’s got to be a really compelling reason to convince an institution to change.”

There are also anti-trust concerns. I’m not so sure three companies can get together so easily to take on a market leader.
The stock is below $37 this morning. I’ll gladly buy more if it goes any lower.

The Middle East Markets Get Pummeled
Posted by Eddy Elfenbein on March 15th, 2006 at 7:32 am

Some people think the Middle East is living in another century. Well, the region apparently just arrived at 1929.
The stock markets across the Arab world dropped dramatically yesterday. The Dubai Financial Market dropped 11.71%, which is eerily similar to the 11.73% that the Dow lost on October 29, 1929. Since its January high, the Dubai index is now off over 44%. But the good news is, they don’t run our ports!
I don’t mean to say “I told you so,” but I did, in fact, tell you so four months ago. (Dubai: Do Sell).

This is a good time to remember that there’s an interesting correlation between market crashes and the largest buildings in the world. The Empire State Building went up just as our market crashed. The Petronas Towers were built as the Asian Tigers fell apart. The World Trade Center and Sears Tower accompanied the crash of the early 1970s. Even the Nasdaq’s shiny new office was opened just before its bubble burst.
The price of oil is already well below its high price. What’s good for consumers here isn’t good news for Dubai. I think Dubai is ready for a fall.

And it’s not just Dubai. The pain is being felt all across the region. Since February 25, the Saudi Index is down 28%. According to Bloomberg: “Finance Minister Ibrahim al-Assaf said his government won’t intervene to stop the slide, the Saudi-owned television station Al-Arabiya reported.” So the state-owned media is telling us that the state won’t intervene in the markets. Somehow, I’m not relieved.
In Egypt, the government is working to prop up shares. The main index there, the CASE 30 Index, has doubled in each of the last three years. The index dropped 5.9% yesterday.
The Kuwaiti index is down 17% since February 7, and there have been protests for the government to do something.
For all the pain of a market crash, I’d like to believe that a financial crisis is an important step towards democracy. I even found a very sensible editorial against government intervention here. I hope the authorities behave reponsibly like a mature democratic country would, and not do anything dumb or silly to play upon public anger.

Credit Derivatives Market Expands to $17.3 Trillion
Posted by Eddy Elfenbein on March 15th, 2006 at 6:13 am

From Bloomberg:

Credit-default swaps, which pay compensation in the event of borrowers defaulting on their debt, expanded 105 percent in the full year, leading an increase in the $236-trillion market for derivatives, or contracts based on underlying assets. The market’s growth was slower than 123 percent increase in 2004, ISDA said in a report today at its annual meeting in Singapore.
Regulators are worried that credit derivatives are increasing too quickly for banks to control. The Federal Reserve Bank of New York has demanded action to tackle a backlog of contracts left unsigned for weeks or months, and for banks to address a shortage of bonds to settle contracts.

Weeks or months?

57-Month High
Posted by Eddy Elfenbein on March 14th, 2006 at 4:02 pm

The S&P 500 closed at 1,297.44, it’s highest close since May 22, 2001. We just nipped out the January 11, 2006 high of 1,294.18.
The Russell 3000 (^RUA), which is an even broader index, closed at its highest level since January 30, 2001.
Going even broader, the Wilshire 5000 (^DWC) closed at its highest level since November 8, 2000.
All told, the S&P 500 was up 1.04% and it was led by the cyclicals. The Morgan Stanley Cyclcal Index (^CYC) was up 1.58%.
The Buy List was up 0.60% which badly lagged the overall market. The main culprit was Fair Isaac (FIC) which was down 6.6% on news of the new credit scoring system.

Jay Walker on Technical Analysis
Posted by Eddy Elfenbein on March 14th, 2006 at 3:35 pm

Jay Walker has a smart new investing blog at Confused Capitalist. Here he nails a well-known technician.

Here’s a recent prediction by a technical analyst with a national audience, relating to a security then priced by the market in the $69-$72 range for about two weeks … get ready … here it is ….
The share price has broken below the 10 and 20-day MA’s as is it retreats from an overbought condition. The daily MACD is issuing a sell signal thus consolidation of its recent gains may continue until the share price reaches the oversold lower Bollinger band at about $63, where it would offer a potential buying opportunity. It appears that the stock is in a corrective fourth wave of a five wave Elliot Wave advance. Once the correction is over it appears the stock’s technical target extends to $97, attainable over the next year.
So, I’ll try put that in English for you … it appears to be priced too high at $69-$72 currently – if it drops to $63, buy it, because it looks like it’s going to $97 within the next year.

Whenever I read technical analysis it always sounds like “this trend will continue what it’s doing until it stops what it’s doing…and that’s a reversal…unless, of course, it reverses again.”
When in doubt, I just follow the blue line.

Agencies Adopt New Credit Scoring System
Posted by Eddy Elfenbein on March 14th, 2006 at 2:59 pm

One of my favorite Buy List stock, Fair Isaac (FIC), is down sharply today on the news that the nation’s major credit bureaus have created a new credit-scoring system.

Equifax Inc., Experian and TransUnion LLC, a unit of Britain’s GUS Plc, in a statement said they adopted the “VantageScore” in response to “market demand for a more consistent and objective approach to credit scoring.”
In the past, the agencies used their own formulas to gauge credit-worthiness. This created the possibility of widely varying scores, which could complicate consumers’ ability to obtain credit cards, auto loans, mortgages or other financing.
Many lenders now use “FICO” scores, named for Fair Isaac Corp., which developed software used to generate them.
The VantageScores will range from 501 to 990, compared with the current 350 to 850 range. Higher scores will still indicate greater levels of credit-worthiness, possibly leading to lower interest rates and better borrowing terms.
“For consumers, it will create some confusion,” said Greg McBride, senior financial analyst at Bankrate.com, a provider of financial data and advice. “Saying you have a credit score of 750, for example, takes on a whole new meaning. It was a good score on the old system but is only fair in the new one.”
A spokesman for Minneapolis-based Fair Isaac did not immediately return a call for comment.

Shares of FIC are currently down about 8.6%.

Looking at Cyclical Stocks
Posted by Eddy Elfenbein on March 14th, 2006 at 2:28 pm

One of the market stats I like to keep an eye on is how well the Morgan Stanley Cyclical Index (^CYC) is doing relative to the S&P 500 (^SPX). The cyclical index is made up of stocks that are most sensitive to the business cycle.
It’s important for investors to know if their stocks are cyclical or non-cyclical businesses. Some businesses see their earnings soar or crumble solely due to where we are in the economy. Probably the best example of this is the homebuilders. Even the worst homebuilder makes money when times are good. But when the housing market dries up, it does so dramatically. In fact, the real key to these businesses is working your way through the rough patches. Energy is another good example.
To get my reading, I simply divide the cyclical index by the S&P 500 and this gives me a very rough gauge of how well the economy is doing. I also like this ratio because it follows very definite trends (see the chart below). For example, the cyclical index bottomed out at 0.308 on September 21, 2000 and hit its recent peak at 0.651 on December 28, 2004. That means that cyclical stocks did more than twice as well as the rest of the market.
I’m not bright enough to pick the tops of the bottom of this cycle (I’d be filthy rich if I knew how!), but I like to know where we are in the cycle. Since the ratio hasn’t made a new high in over a year, I’m inclined to think that we’re now in the downswing of the economy. The last such period lasted for nearly 6-1/2 years. I should add that following this index gives you lots of false tops and false bottoms. Cyclicals zoomed in April 1999, but it still wasn’t the bottom of the cycle. Also, cyclicals were hit hard when the market reopened after 9/11, but the cycle still has three years to go.
Cyclical stocks generally outperform the market when the market is rising, so you get a double whammy from owning cyclicals. To be honest, I’d rather know when the tops of bottoms of this cycle are rather than the tops and bottoms of the overall market.
The performance of small-cap stocks also closely follows the fate of cyclical stocks. The reason is that more small stocks are in economically sensitive areas than large-cap stocks.
Don’t count the cyclicals out just yet. Today, the cyclical index is having one of its best days of the year.