• Irrational Journalism
    Posted by on December 20th, 2005 at 1:25 pm

    During the palmy days of the tech bubble, countless gurus assured us that “it’s different this time.” All we had to do was load up on tech stocks or day-trade the latest dot-com and we’d be set for life. Then amidst all the ruckus stepped Yale professor Robert Shiller. His book “Irrational Exuberance” was a bold warning—stock prices were too high and bound to crash. He was right and we all should have listened to him.
    The basic outline of this story has been written a few other places. There’s just one problem.
    It’s wrong.
    Few people have gotten further on inaccurate market predictions than Robert Shiller. But still, the media keeps repeating the same urban myth. For the record, Dr. Shiller never called the top. He had been a bear for years (since at least 1996). And he’s never said to go back in the market—he’s still a bear today. That’s been his call and it’s been terribly wrong. Since no one else is saying it, I’ll say it. If investors had followed his advice, they would have missed out on a great profit opportunity.
    If you’re always screaming that the market is too high, you’re bound to be right one day. I’m sorry, that doesn’t impress me. I need more. You also have to tell me when to get back in again. Over the last 10 years, the S&P 500 with reinvested dividends is up over 140%.
    If you bought at almost any point before the market’s peak, and held on to today, you would have made money. The danger period was very brief—from November 1999 to November 2000. And we may soon top those numbers.
    By the way, that’s only counting the S&P 500. The S&P Mid-Cap and S&P Small-Cap Indexes have both hit all-time highs recently.
    Also, if someone continued to buy as the market fell, their returns would have been even greater. The market is up about 60% in the last three years.
    Here’s Fortune’s recent article on Shiller:

    One of the most important lessons you can ever learn about markets is also one of the easiest to forget: Just because prices are more reasonable than they were doesn’t mean they’re reasonable. I’m sorry to report that it’s absolutely the lesson to keep in mind now that the Dow has hit 42-year highs and crept back up near 11,000.
    The preeminent teacher of that lesson is Robert Shiller, a Yale professor with a strong record of thinking independently and being right. His book “Irrational Exuberance,” arguing that stock prices were insanely high, appeared almost precisely at their peak in March 2000. Now he has updated the book to reflect 2005 valuations and concludes that, believe it or not, the market is still irrationally exuberant.

    Forty-two year highs! I hope that’s just a misprint. The Dow is at a 4-1/2 year high.

    How does he come to this conclusion? After all, stocks are generally lower than back in the bubble days, and we’ve had four years of economic growth to rehabilitate corporate profits. His answer is simple. As he told me the other day, all the competing theories boil down to one easy-to-understand calculation: “The trailing P/E ratio for the S&P composite is still around 25, vs. a long-term average of 15.”
    That’s a huge difference, much greater than what you read about in the newspapers. The commonly cited figures — a current market multiple of 17, vs. a historical average of 15.2 — are based on the previous 12 months’ earnings. But, as Shiller points out, that’s foolish: “Twelve months is kind of short, only a fraction of one business cycle.”
    So he uses a ten-year earnings average, an approach advocated by Graham and Dodd in Security Analysis, the value investor’s bible. And while prices are clearly above the long-term trend any way you cut it, by that measure they are still mountainously beyond normal.

    By using 10-year data, we’re going to have the earnings bust of 2001 and 2002 stuck in our readings for years to come. According to data at Dr. Shiller’s Web site, the 10-year trailing P/E ratio was also over 25 in 1992. If we used that time the market, we would have missed another great bull market.
    Worst of all, the 10-year trailing P/E ratio soared over 25 in 1933. That was one of the best times to buy in history. The truth is that this analysis has not been an accurate predictor of market behavior. Are we the ones being told that it’s different this time?
    Update: Brad DeLong has more.

  • Morgan Stanley’s Profits Jump 49%
    Posted by on December 20th, 2005 at 10:43 am

    The profits continue for the brokerage firms. Today Morgan Stanley (MWD) reported a 49% increase in its third–quarter earnings.

    Net income for the three months ended Nov. 30 increased to $1.79 billion, or $1.68 a share, from $1.2 billion, or $1.09, a year earlier, Morgan Stanley said today in a statement. The firm repatriated $4 billion in foreign profit, boosting net income by 26 cents a share. Revenue climbed to $6.96 billion.
    “It’s been a very good environment for trading,” Jordan Posner, a money manager at Matrix Asset Advisors, said before the results were released. Posner helps oversee $1.9 billion, including shares of Morgan Stanley.
    Morgan Stanley is recovering from a corporate-governance battle that led to the June ouster of former Chief Executive Officer Philip Purcell. The new CEO, John Mack, urged Morgan Stanley traders to make bigger bets with the firm’s own capital and target more business from the booming hedge fund industry.
    Shares of Morgan Stanley rose $1.03 cents to 48.53 euros, or about $57.97, in German trading before U.S. stock markets opened. The stock closed down 21 cents at $56.67 on the New York Stock Exchange yesterday.
    Earnings Surprise
    Kenneth Worthington of CIBC World Markets, who’s considered one of the most accurate analysts following New York-based Morgan Stanley, expected net income to drop 8.5 percent to $1.1 billion, or $1.04 a share. The average estimate in a Thomson Financial poll of 17 analysts was $1.08 a share.
    Revenue at Morgan Stanley’s institutional securities unit, which includes stock and bond underwriting, sales and trading and merger advisory work, rose 47 percent to $4.15 billion, according to the statement. In fixed-income trading, Morgan Stanley had revenue of $1.6 billion, up 79 percent.
    Morgan Stanley’s retail brokerage, which caters to individual investors, increased revenue by 21 percent to $1.3 billion. The firm’s asset-management unit had revenue of $890 million, up 25 percent.
    Discover, the credit card business that Mack, 61, decided to keep after rejecting a spinoff plan proposed by Purcell, posted $694 million in revenue, down 24 percent. The firm cited a “spike” in bankruptcy filings in advance of a new federal law making it harder for consumers to cancel debts.

  • The Market Today
    Posted by on December 19th, 2005 at 6:13 pm

    Ugh! This was not a good day for the Buy List. Right now, I’m looking around for a red flag I can toss out onto the field for a video review. Upon further review, perhaps today didn’t happen. For the record, the S&P 500 fell 0.58% today, and our Buy List fell 1.15%. Youch! It was actually worse earlier in the day. We still have our slight lead over the market for December, but I’m far too competitive to settle for a slight lead.
    Only four of our 25 stocks went up. Oddly, we didn’t have any major individual losses. Our biggest dud was eBay (EBAY) which dropped 2.87%. That’s not so unusual for eBay. Frontier (FRNT) had an interesting day. I was curious to see if it could follow up its huge day on Friday. FRNT opened lower today, but rallied and finished just one penny lower. Not bad. The company also reported that it’s adding two more Mexican destinations. Also, IBD ran a bullish article on the airline sector today.
    On Wednesday, Biomet (BMET) will report its earnings. The current estimate is for 43 cents a share. The stock has been pretty flat lately. I’d like to see a nice rally there.
    On the overall market, decliners beat advancers by more than four-to-one, which is the broadest sell-off since October. Outside our Buy List, Pfizer (PFE) gained 7.7%. Merck (MRK) was up almost as much, rising 7.5%. Ford (F) had its debt downgraded to junk status. I guess American car-making was a 20th century event. The semiconductor sector was weak today and oil fell again. A barrel of crude is now below $58. Small-cap stocks were especially weak today. The Russell 2000 lost 1.59%.
    If today did indeed happen, then I’m eagerly looking forward to tomorrow. That’s what I love about Wall Street. An opening bell is never far away.

  • Rydex Funds
    Posted by on December 19th, 2005 at 2:53 pm

    The Rydex family of mutual funds offers some interesting mutual funds for investors. Generally I shy away from trading, but if you’ve got mad trading skillz the Rydex funds can leverage your returns (or losses).
    For example, the Rydex Titan 500 fund aims to double the daily move of the S&P 500. The Tempest 500 fund aims to double the opposite of the daily move of the S&P 500.
    This is what hedge fund managers try to do all the time. This is another example of the tools of Wall Street’s pros being brought to the masses.
    Here are some of Rydex’s other funds:

    Mekros aims to do 1.5 times the Russell 2000
    Nova aims for 1.5 times the S&P 500
    Titan 500 is 2.0 times the S&P 500
    Long Dynamic Dow 30 is 2.0 times the Dow
    Ursa goes for -1.0 of the S&P 500
    Tempest 500 is -2.0 times the S&P 500
    Venture 100 is -2.0 of the Nasdaq 100
    Strengthening Dollar is 2.0 of the U.S. Dollar Index
    Weakening Dollar goes for -2.0 of the U.S. Dollar Index

    Here’s some more info on Rydex.

  • Liftoff for Lipitor
    Posted by on December 19th, 2005 at 12:28 pm

    Our Buy List is having a rotten day so far. No one stock is getting killed, but everything seems to be down about 1%. The only plus is that Medtronic (MDT) hit a new 52-week high.
    The market is being thrown off balance today. The huge gainer is Pfizer (PFE) which is having its best day in 20 years. The company won its big Lipitor patent suit. This is a big, big victory for Pfizer. I’ve been very worried about the company lately. I had mentioned before that I was impressed by its big dividend increase. This is good news, but the stock still has a long way to go.
    Pfizer’s news is also helping Merck (MRK). Both Merck and Pfizer are Dow components, so the Dow 30 is outpacing the Nasdaq and S&P 500 today. Even the entire health care is moving up thanks to Pfizer. That makes me even more discouraged that our health care stocks like Biomet (BMET), St. Jude (STJ) and Stryker (SYK) aren’t responding.
    As I said, the market seems really off balance today. I can’t figure out what’s going on. For example, the three-month T-bill yield is trading higher while the 10- and 30-year bond yields are lower. That’s not so unusual but we haven’t seen anything like it recently. Due to the narrower yield curve, bank stocks are lagging the market. Health care stocks are leading the market higher and industrials and utilities are the poorest sectors. That’s a rather odd combo.
    Here’s a random thought I’m throwing in: Home Depot (HD) seems unusually cheap right. I have to confess that I’m not a big fan of the stores. Whenever I go there, the stores always have that Saigon ’75 feel to them. It’s complete mayhem. The aisles are jammed and the hoards of folks are carrying off anything not bolted down. I guess that’s good for business. Still, I’m always tempted to grab my purchase and bolt to a chopper liftoff from the roof.
    Wall Street currently expects HD to earn $3.03 a share next year (the fiscal year ends at the end of January ‘07). That’s just under 14 times earnings, which is fairly cheap. Last month, the stock had a great earnings report. HD earned 72 cents a share, four cents more than estimates. Lowe’s is probably the better company, but I’m skeptical that its P/E ratio should trade at a 25% premium to Home Depot’s.
    Here’s a three-year chart on Home Depot. You can see that the trailing P/E looks pretty reasonable.
    hd.bmp

  • Does the Weather Affect the Stock Market?
    Posted by on December 19th, 2005 at 5:58 am

    One professor says that there’s definitely a possibility that it may:

    Professor Ben Jacobsen’s paper “Is it the Weather?” confirms that there is definitely a strong seasonal effect in stock returns in many countries: stock market returns tend to be significantly lower during summer and autumn months than they are during winter and spring.
    However, says Professor Jacobsen, it is premature to conclude that weather affects stock returns by causing mood changes in investors. “While the effect on the markets is there, we still don’t know why.”

    Click here for the paper.

  • Albert Einstein: Physicist, Investor
    Posted by on December 18th, 2005 at 6:35 pm

    From the Independent:

    Albert Einstein and his scientific achievements are world-renowned. Less well-known are his successes as a stock market investor. But it turns out that, in less than 20 years, he and his adviser turned a few thousand dollars into more than $250,000.
    A share certificate signed by the world’s most famous physicist, discovered in the US, fetched €28,000 last week in Berlin. It reveals that Einstein’s 60 shares in May Department Stores alone doubled in value in six years.
    The image of Einstein as stock-market punter does not sit easily with that of Einstein the pacifist and idealist. “Money only appeals to selfishness and always irresistibly tempts its owner to abuse it,” he once said.
    Einstein pulled off the feat of being genuinely non-materialistic, while having more than enough money. On arrival in Princeton in the 1930s, he was asked to name his salary, and arrived at a figure of $3,000. This was turned down, to his surprise, as too low. His accountant, Samuel D Leidesdorf, persuaded him to settle for $17,000.
    Thereafter Leidesdorf advised Einstein, and the share certificate sold last week may indeed represent Leidesdorf’s, rather than Einstein’s, acumen.

  • The Colts Finally Fall
    Posted by on December 18th, 2005 at 4:23 pm

    The Colts are finally beaten! Thanks to Michael Turner’s 83-yard rumble, San Diego beat Indianapolis 26-17. Here’s the TradeSports contract for Indy to win. You can see that Turner’s run came shortly after 4 p.m.

  • The Undercover Economist
    Posted by on December 18th, 2005 at 1:11 pm

    “A funny thing seems to be happening to economics writing: it’s getting better.”

    Roger Lowenstein is always a good read. Here he is in today’s NYT on Tim Harford’s “The Undercover Economist.”

  • Accounting Footnotes
    Posted by on December 18th, 2005 at 1:03 pm

    Ellen Simon takes a closer look at accounting footnotes:

    One-time charges
    At some companies, one-time charges have become a way of life. Consider Eastman Kodak Co., which has taken one-time charges for each of the last 14 quarters. By treating the charges as extraordinary events, the company can say its earnings would be ever-so-much stronger without them. But, considering that the charges seem unrelenting, that argument looks wobbly.
    Bianco crunches 10 years’ worth of one-time charges across the S&P 500 to “normalize” them. In 2006, one-time charges will cost the aggregate S&P 500 $5 a share in earnings per share, he estimates.
    Pension accounting
    Under current pension accounting rules, a company can legally book a pension credit, even if its pension fund is losing money. How does this accounting magic work?
    Under a process called “smoothing,” the company can set an assumed return for its pension fund. Across the S&P 500, that assumed return is 8.22 percent, according to Howard Silverblatt, editor of quantitative services at S&P.
    That would be a stellar return in today’s market, especially because pension funds are almost always diversified. With interest rates near historic lows and equity returns anemic at best, it’s the rare fund manager who is getting the assumed return.
    But, thanks to smoothing, a company doesn’t actually have to see that return to act as if it did. It can add its expected return right into its net earnings, even if the actual return differs greatly.
    “You’ll see amounts on the balance sheet for the pension plan,” said David Zion, accounting analyst at Credit Suisse First Boston. “What I would counsel is to completely ignore that amount. It’s meaningless. In many cases, it’s completely misleading.”
    Instead, he said, look for pension information in the annual report. Read the footnotes, which will tell you what the fund’s actual return is. Then do the math yourself.
    A tiny change in one assumption in a pension plan can mean big bucks. For instance, Lucent Technologies Inc. changed the mortality assumptions for its plan. The change is expected to reduce its 2006 pension credit by approximately $50 million, according to the company’s filings with the Securities and Exchange Commission.
    How much do aggressive return-on-asset assumptions cost the stocks in the S&P 500? Bianco calculates the cost at $1 to $2 a share for 2006.
    Stock Options
    “Most companies will be required to expense employee stock options beginning in 2006, but earnings guidance and analyst estimates for many companies have yet to reflect this cost,” Zion said in an October research note. “In fact, there are only 96 companies in the S&P 500 where the analyst consensus earnings estimate includes the cost of stock options.”
    How much will options really cost? About $2 to $3 a share across the S&P 500, Bianco estimates.