• Blacklight Power
    Posted by on January 9th, 2006 at 9:50 am

    The WSJ has an article this morning on the unusual story of Blacklight Power. The private company has raised $50 million to develop what could be a revolutionary scientific concept. Unfortunately, everyone else thinks it’s bunk:

    Blacklight Power is a Cranbury, N.J., company run by medical doctor Randell Mills, who claims to have discovered what he calls “hydrinos,” a previously unknown form of hydrogen in which electrons move to a lower state of energy than previously thought possible but still manage to kick off power. Dr. Mills says his discovery will end the reliance on fossil fuels and even “replace fire.”
    But hydrinos as described by Dr. Mills violate the laws of quantum physics — the rules of how atoms behave — and therefore can’t be, modern physics holds. And a number of prominent scientists, including Nobel laureates, have criticized Dr. Mills’s theory.
    Yet some financial firms, businesses and even notable names from the military community have given Blacklight a total of nearly $50 million. Their investment comes at a time when high oil and natural-gas prices have placed greater emphasis on alternative forms of energy. The company is closely held, but Dr. Mills says he would consider a public offering of stock.
    “The physics that he uses is utter nonsense,” Robert Park, a University of Maryland professor and spokesman for the American Physical Society, which represents more than 40,000 physicists, says of Dr. Mills.
    Dr. Mills counters that Mr. Park represents an entrenched physics establishment that fears losing billions in academic funding and having its work discredited.

    The Journal’s article is only for subscribers, but here’s another article on BlackLight. Also, here’s a blog on alternative energy investments run by the hoster of this site.
    I don’t know anything about BlackLight’s research, and it seems highly suspicious. Nevertheless, I’m going to raise my rating to “near-term outperform.” Just in case.

  • Value the Beloved Guru
    Posted by on January 8th, 2006 at 6:55 am

    The New York Times looks at Warren Buffett’s Berkshire Hathaway (BRKA) and asks: “How should one value it?” That’s always a good question to ask. I think investors get unnecessarily tangled up by categories like “value” or “growth.” All companies are trying to grow. And a company can offer a compelling value due to its growth potential. But what about a company worth $137 billion (slightly less than Google)?
    The problem I have with Berkshire is the “Warren Premium.” The company is almost always slightly overvalued due to the presence of Buffett. Investors have so much confidence in him that the stock is given that extra, say, 10% or 15%. The stock is currently going for slightly more than 20 times this year’s estimate. That’s fairly rich.
    Now that Buffett is moving on in years, what will happen when he’s no longer at the helm? Could Berkshire even exist? The difficulty is that Berkshire is Warren Buffett:

    In a parallel world, where a 55-year-old Mr. Buffett with a fondness for kale was running the show, Berkshire stock might be trading higher as investors gave more weight to his involvement with the company. Yet Mr. Buffett’s presence is still valued enough that a suddenly Buffett-less Berkshire would be a real shock to investors. “If there was a sudden announcement that Warren was going to go sit on the beach and not run Berkshire, it’s very possible the stock would go down a lot initially,” Mr. Weitz said. “But the board might then choose to buy back a lot of stock.”

    Yes, it could. But that’s not what will concern the market. Investors will be looking at the empty captain’s chair.
    Think of it this way. Berkshire is largely an insurance stock (Geico) along with a smattering of consumer businesses. But even that’s an overly broad generality. Last year, Buffett took a big loss in shorting the dollar. I highly doubt any post-Warren board would allow such a move. The backlash would be too great.
    Valuing an insurance company is hard enough, but how does one place a price tag on the investing whims of a genius? This is where the textbook meets the real world and it doesn’t come away looking so good. One of my problems with the field of finance is that it tries to rationalize things that are really very hard to rationalize. All we’re doing is estimating a guess of an assumption of something we’re not very sure of in the first place.
    The variables that affect a stock’s price are monumentally complex. That’s one of the reasons why I stress stable stocks so much. Once Mr. Buffett retires, I think the best move will be to divide up the company he took a lifetime to build.

  • Google to $2,000?
    Posted by on January 7th, 2006 at 7:13 pm

    Dagnabit. I lost my lead!
    There’s a new leader in the Google Price Target Sweepstakes. Mark Stahlman at Caris & Co. says that Google (GOOG) is headed to $2,000 a share.
    Update: OK, here’s goes. My new price target is…
    **Deep Breath**
    $2,000.36.
    Oh, and a sack of magic beans. Can’t forget that.

  • IBM Goes for 401K’s
    Posted by on January 7th, 2006 at 4:14 pm

    Last month, it was Verizon (VZ). Now it’s IBM’s (IBM) turn. The only surprise here is that it took them so long. I mean, pension plans are so last century:

    International Business Machines Corp. said today it will freeze the pension plans of some 120,000 employees in the United States, effective at the end of next year, and will offer instead a more generous 401(k) plan.
    IBM’s move is part of a corporate stampede away from traditional pension plans. IBM officials called the change essential to remain competitive with foreign and domestic information technology rivals.

    The pension crisis is also coming after corporate balance sheets.

  • End of Week One
    Posted by on January 7th, 2006 at 4:05 pm

    Yesterday capped off a great week for the market, but a mediocre one for our Buy List. Don’t get me wrong; I’m pleased with the market’s performance, but I’m a little suspicious of so much strength in tech, energy and gold. Bear in mind that those sectors can move quickly, but I’d much rather see “core” areas like finance and consumer stocks lead the way. That’s the foundation of a lasting rally.
    Yesterday, the S&P 500 was up 0.94% to another four-year high. Our Buy List gained 0.55%. So far, 2006 is looking very good. The S&P’s return this week, not including dividends, is roughly equal to what it did for all of 2005. For the week, the S&P gained 2.98% and our Buy List was up 1.54%. I’m not ready to panic just yet. The returns for the week were pretty uneven. Many tech and energy indexes were up over 6%.
    On our Buy List yesterday, AFLAC (AFL), of all stocks, had a good day. The insurer gained over 3.5% thanks to a bullish report from Deutsche Bank. However, our other insurance stock, Brown & Brown (BRO), had a weak day. Respironics (RESP) was also weak due to a downgrade from Harris Nesbitt. The earnings reports for the fourth-quarter will start coming out in about two weeks. On Monday, Alcoa will report its earnings. This will be the first Dow component to report for the fourth quarter.
    Yesterday, the Dow was finally able to break through the Fibonacci number of 10940 as it closed at 10959. I’m not a fan of technical analysis, but I have to concede that the market loves to toy around with these benchmarks. For example, the Russell 2000 (^RUT) broke out to a new all-time high yesterday. The index was briefly over 700, but it closed at 699.39. I don’t think that’s purely by chance. The Russell 2000 has been creaming the S&P 500 for nearly seven years now. Since April 8, 1999, the Russell 2000 has gained nearly 75%, while the S&P 500 is down 4%.

  • Dow 11K is Within Reach
    Posted by on January 6th, 2006 at 2:29 pm

    This could be the first close over 11,000 since June 7, 2001. It would also snap a 301-session streak of closes between 10,000 and 11,000.

  • Dell cuts estimate for fiscal 2007 options expense
    Posted by on January 6th, 2006 at 2:18 pm

    From Reuters:

    Computer maker Dell Inc. (DELL) on Friday cut its estimate of what it will cost the company to expense options awarded as employee compensation in fiscal year 2007 by 8 cents a share.
    Dell now expects to incur full-year after-tax stock-based compensation expenses of $250 million, or 10 cents a share, for fiscal 2007. That’s below its previous forecast of 18 cents.
    The company said it plans to accelerate the vesting of some “out of the money” stock options. That will reduce stock-based compensation expenses it would otherwise be required to recognize under reporting requirements from new accounting rule, FASB 123R, Dell said.
    The company is fully vesting previously granted stock options that have exercise prices higher than $30.75, Dell’s closing price on Thursday.
    The company’s options typically vest over a five-year period.

    Ironically, it’s one of the benefits of a sagging share price.

  • Share Buybacks
    Posted by on January 6th, 2006 at 11:58 am

    The big fad on Wall Street has been to buy back outstanding shares. I’m not a big fan of share repurchases. Personally, I’d rather get the cash. Too often, a company wastes good money on its own bad stock. As I see it, I pay corporate execs to run their businesses, not manage my money.
    According to USA Today:

    A record-breaking number of companies, 1,012, repurchased a record number of shares worth $456 billion last year, says TrimTabs. Buybacks for Standard & Poor’s 500 companies also hit a record at an estimated $315 billion.

    Those are pretty impressive numbers. The share buybacks are starting to have a major effect on earnings. Fewer shares means higher earnings-per-share. The fourth-quarter earnings are expected to grow (or have grown) by 14.9%. This marks the 15th straight quarter of double-digit earnings growth.

  • The Market Today
    Posted by on January 5th, 2006 at 5:01 pm

    The S&P 500 has risen every day this year. OK, that’s a little leading misleading, we’re just three-for-three and today’s gain was miniscule. For the record, the S&P 500 closed higher by 0.02 points. To put that in perspective, over an entire year that works out to about 0.4%.
    Still, it was better than our Buy List which is not having a good week. Our Buy List fell 0.39% today. Today’s problem child was FactSet (FDS) which fell nearly 5% because the founder’s estate already sold his shares. (Yep, I don’t understand it either.)
    The market started on a good note. Jobless claims fell to a five-year low. This was a bit of a strange day as technology lead the way, and energy was the laggard. Both the five-year and ten-year Treasuries were unchanged. And Google (GOOG) keeps on chugging along. Today, the stock closed above $450 a share for the first time. The company is now worth $130 billion. Not bad for a couple of kids.
    Lastly, Howard Stern will get 34 million shares of Sirius (SIRI) stock (about $220 million) for meeting subscriber targets. Baba Booey could not be reached for comment.

  • The Equity Premium Puzzle
    Posted by on January 5th, 2006 at 2:32 pm

    One of the great puzzles of finance is the “equity risk premium.” This refers to the fact that stocks have historically outperformed bonds. Not only that, they’ve outperformed them by a lot. Finance professors aren’t exactly sure why.
    According to Wikipedia:

    A large number of explanations for the puzzle have been proposed. These include a contention that the puzzle is a statistical illusion, modifications to the assumed preferences of investors and imperfections. Kocherlakota (1996) presents a detailed analysis of these explanation in financial markets and concludes that the puzzle is real and remains unexplained. Subsequent reviews of the literature have similarly found no agreed resolution.
    An alternative explanation for the puzzle has been proposed by Benartzi and Thaler (1995). Applying prospect theory they contend that myopic loss aversion provides a plausible solution to the puzzle. They assert that investors evaluate their portfolio in a relatively short sighted way and that, as loss aversion implies, they are highly sensitive to losses over this time period. The evaluation time period implied in their model by an equity premium of 6 percentage points and a 2x loss aversion multiplier (a general finding of loss aversion research) is approximately one year. This explanation does seem consistent with the data and has not, to date, been rebutted. However, in the absence of a general model of portfolio choice and asset valuation for prospect theory it has not received general acceptance.

    I believe the answer is really quite simple. Stocks have to perform better than bonds. If they didn’t, all of capitalism would come crashing down. A bond is a loan, and a stock is equity, meaning it’s what you do with the loan. In that relationship, there’s an implicit agreement that the borrower will make more money than the lender, otherwise the former wouldn’t borrow and the latter wouldn’t lend. The difference is the equity premium.
    Well, that’s my theory. Now Australian Professor Peter Swan has a new theory. He thinks the equity premium puzzle is due to liquidity:

    In a working paper titled, “Can Illiquidity Explain the Equity Premium Puzzle?”, Prof Swan said that equity markets are highly illiquid compared to government securities such as bonds.
    “My contribution to (the puzzle) is that we can’t just look at the direct impact of transaction costs on returns,” he said.
    “We have to look at the indirect impact in terms of interfering with our ability to achieve desirable risk minimising portfolios.”
    Prof Swan added: “When you take into account indirect effects it would appear that even in small transaction costs do seem explain much of the equity premium puzzle, and a variety of other puzzles as well.”
    His model illustrates that the equity premium is no more than compensation to equity holders for the adverse effects of illiquidity.
    Prof Swan’s work also helps account for the term “irrational exuberance”, a phrase coined by the US Federal Reserve chairman Alan Greenspan.
    According to Robert Shiller, of the Cowles Foundation for Research in Economics and International Center for Finance at Yale University, the term “irrational exuberance” is often used to describe a heightened state of speculative fever.
    “What this is referring to is the high volatility observed in asset prices … the big booms and the crashes we see in stock prices which are not nearly as prevalent in government securities,” said Prof Swan.
    “This is not easily explained within the standard finance paradigm, which states that the price of any stock depends on its expected dividends or earnings.”
    Prof Swan provides a theory for why stock prices are so volatile when dividends are stable and earnings are relatively stable.
    “The biggest benefit of all is from the security that is associated with volatility in the returns and prices for the stock,” he said.
    “We no longer need the new field of behavioural finance to explain excess volatility.”

    I’m not so sure we can ditch it just yet. Certainly, transactions costs play a role, and I think Professor Swan adds an important angle to the debate. However, I can’t help but notice that often the most volatile stocks are the most liquid ones. Who care about a penny spread on Google at $465? A modern investor can invest in something basically resembling “the market” pretty easily. Is it really that much more illiquid? I don’t know but I hope we’ll see more research on this issue.