Friday, December 10, 2010

More Idiocy On CNBC

I try to refrain from commenting on some of the lunacy I see on CNBC, but every so often, the level and frequency of the idiocy simply demands it.

A few days ago, Maria Bartiromo was interviewing Byron Wien. Wien was advocating that people buy equity in Indian companies and some other developing/developed country. Bartiromo confirmed that he did not mean mutual funds, and Wien confirmed this.

Then Bartiromo responded, with a clear tone of confusion,

'So you mean investing directly in the companies?'

Wien replied, with a sort of air of slight impatience, that, yes, that is what he had meant.

'So viewers should buy these firms on the local Indian and (other country) exchange?'

Wien, by now getting a little exasperated, confirmed this, and added that some were listed on the NYSE, so people could buy them there, too.

Then Bartiromo moved to Wien's apparently well-known annual list of his unexpected developments for the next year. She noted how three of last year's had widely missed the mark, and Wien tried to cover his errors by saying something like,

'Yes, I was early on those calls.'

Bartiromo then earnestly intoned,

'So do you think they'll come true in 2011?'

Now, at this point, you have to be brain dead not to realize that Wien devises a new list every year, right? So what do you think he would say about last year's predictions, relative to the coming year? Of course he told the hapless CNBC anchor that he makes up a new list, so those old predictions weren't relevant now.

Ever unflappable by her obvious misunderstanding of Wien's annual list, she babbled something inane, then finished by saying, to closely paraphrase,

'Thanks Byron. We'll be waiting for your 2011 list, as you're always so often on the mark with those predictions.'

You can't make that sort of remark up, can you? The combination of qualifiers is, on their face, ludicrous. Further, Bartiromo began the topic by pointing up three of Wien's recent big misses, giving a viewer the sense that Wien's hunches are typically way off the mark.

She can't get basic interview questions and replies straight. She manages to give viewers opposite senses of what she then tries to assert about a topic or guest. Then Bartiromo can't manage to use the English language properly on air.

Why the hell is she still on CNBC? Sadly, the fact that she is marks the network as having low standards for most of its reporting and on-air staff.

Then, this morning, I watched Mark Haines beat up a very sensible conservative guest, who commented on the current tax rate debate in Washington, using completely nonsensical logic.

Anyone with a brain knows that tax rate changes provoke behavioral changes in businesses, consumers and savers. It's known as dynamic scoring, and the CBO still doesn't use it. That's why you can read so many articles in the Wall Street Journal by eminent economists such as Alan Reynolds, Robert Barro, Brian Westbury,, cataloging the CBO's large predictive errors when forecasting revenues to be raised by tax rate hikes, or lost by rate cuts.

But Mark Haines will have none of it. Instead, he pilloried the guest, saying that if he decried Congressional spending, then he had no right to argue for a tax cut, because 'that's just like spending.'

Haines is evidently too dense to understand that Congress really spends what it says it will, whereas forecasts of government revenue gains from personal rate hikes on the wealthy never meet expectations. It's simply not a zero sum game, as explained by economists who calculate the total income of some top percentile, such as 5%, and compare it to annual federal spending. It's never enough. It never comes even close to making a difference.

What government forecasters continue to ignore is the change in the amount of economic activity due to tax rate changes, on which incomes are earned and taxes paid. When rates are cut, economic activity surges, incomes rise, and taxes do, as well.

It's not about higher rates, but lower rates which bring forth more economic activity.

You'd think that after, what, two decades on air at CNBC, listening to this debate, Haines would have learned the facts?

But you'd be wrong to think that. Instead, like Bartiromo, CNBC leaves in place an also-ran on-air personality.

Which is why I neglect what most of the CNBC staff say, excepting Rick Santelli, Trish Regan, Joe Kernen,  and Michelle Caruso Cabrera. I just listen and watch mostly for the news.

Low-Rate Environments & Bank Profitability

Yesterday's Wall Street Journal finally published an article detailing how low interest rate environments hurt bank profitability.

My banking education dates from my first days at Chase Manhattan Bank in the early 1980s. Schooled on asset-liability management and repricing, I recall quite clearly that low-rate environments are worse for bank lending and asset management profitability than higher-rate environments.

Evidently, that hasn't changed in thirty years.

Thus, since 2008, banks already pressured by bad mortgage-related loans, securities and derivatives began to be squeezed by the Fed's lower interest rate policy.

The Journal story provides details of various banks and asset managers coping with slimmer margins. What the piece doesn't discuss is two other important phenomena which add to lower overall profitability of this environment.

One is, obviously, the greater probability of asset bubbles, against which loans may be made, in low-rate environments. We just saw this over the last seven years. Now rates continue to hover at record lows.

The second aspect involves risks versus rates. At ultra-low rates, projects of marginal merit appear to be worthwhile and may be funded. Yet they are precisely the most vulnerable loans, once rates begin to move upwards towards more normal, sustainable levels.

This will leave banks holding more problem delinquent and/or defaulted loans. It's a major reason why so many banks reportedly aren't lending now in the first place.

Of course, idle capital which is unlent is employed in money markets, which now is about the same as cash, i.e., the classic Keynesian liquidity trap.

Welcome to the world of low-profit banking so long as Helicopter Ben continues to hold rates near zero.

Thursday, December 09, 2010

Barnes & Noble + Borders: William Ackman Plays Modern-Day JP Morgan

Tuesday's Wall Street Journal featured an article describing hedge fund manager William Ackman's bid to reprise J.P. Morgan's historic industrial reorganization role with his bid, as an owner of Borders, to merge that firm with Barnes & Noble. The story noted,

"The threats posed to the big store chains were underscored Monday, when Google Inc. unveiled its new online bookstore, a retailing venture that adds a major player to a crowd of digital sellers that includes Inc. and Apple Inc.

A hedge fund managed by Borders investor William Ackman is now offering to finance a bid of $960 million in cash, or $16 per share, for Borders to buy the much bigger Barnes & Noble, which put itself up for sale in August. Mr. Ackman, whose Pershing Square Capital Management LP holds 37.3% of Borders shares, made his offer in a regulatory filing that became public Monday.

The past year has been rocky for Barnes & Noble. In November 2009, the company adopted a "poison pill" antitakeover defense after activist investor Ronald Burkle and his Yucaipa Cos. purchased nearly 20% of its stock. In August, the retailer put itself up for sale. Mr. Burkle launched a nasty proxy fight for board representation, a bid that was defeated in late September.

A marriage of the two book behemoths could lead to some significant cost savings through economies of scale. Barnes & Noble also has proven to be a more adept operator, with skills that it could be applied throughout a single, combined chain. But a combination of the No. 1 and No. 2 bookstore chains in the U.S. would face headwinds, including antitrust scrutiny and Borders' own shaky finances."

I guess since Ackman already has such a large stake in Borders, conventional concerns regarding whether the merger's cost savings can really offset changing consumer behaviors with respect to bricks and mortar book retailing may be moot. He has to minimize damage to his existing investment, short of simply bailing out.

The Journal article went on to identify the most likely reason that Ackman wants Borders unified with its large competitor,

"Mr. Ackman's proposal may be a bet on Barnes & Noble's rapid investment in digital bookselling, built on its Nook e-reader device and e-book offerings. Recently, the retailer introduced a Nook Color reader, and claims to have captured about 20% of the digital book market, which Forrester Research says could more than triple to $966 million in revenue this year. Borders sells e-books through a bookstore powered by Kobo Inc., a Toronto-based e-retailer in which it is an investor.

Observers say Mr. Ackman's bid for Barnes & Noble may be an attempt to help Borders survive. But because Borders is facing even bigger challenges than Barnes & Noble, it may not be seen favorably as an acquirer."

This makes sense, of course, for Ackman and Borders. But why would Barnes & Noble allow itself to be low-balled for its more valuable asset, its burgeoning online reader business? Won't other bidders keep a realistic, market-based value on that which will prevent Ackman from stealing it on the cheap?

The story provided some detail on past merger ideas for the two firms, explaining,

"The idea of joining the two companies has been floated before. In May 2008, Barnes & Noble assembled a team of executives and advisers to study the possibility of acquiring Borders, which had put itself up for sale. But in August of that year, Barnes & Noble decided against making an offer.

Mr. Ackman had also pursued the idea. In November 2008, Mr. Ackman, then the second largest investor in Barnes & Noble, with a bit more than 10% of the stock, tried to get the book giant to buy Borders, arguing that the combined business would be stronger than either operating independently. He also owned more than 11% of Borders at the time.

His efforts were rebuffed by Barnes & Noble, however, which was concerned about inheriting Borders' real estate portfolio and lengthy store leases. Mr. Ackman later sold his Barnes & Noble stock. It is unclear whether he owns any shares today."

It's unclear to me why Ackman has so diligently and doggedly pursued either physical book retailer over the past few years. With Amazon and Google targeting the space, and Apple's recent iPad adding to the mix, it wouldn't seem to be an easy product/market in which to earn substantial gains by maneuvering with the remaining two, damaged retailers, would it?

Ackman has a track record as a smart investor. But, then, so did Ed Lampert before his plunge into owning retailers K-Mart and Sears.

Nearby is a price chart for Borders (BGP), Barnes & Noble (BKS), and the S&P500 Index for the past five years.

Why on earth would anyone have bought into these turkeys even as long as three years ago? Their underperformance has only increased since then.

I suppose Ackman has a very short-term, 'turnaround' sort of mentality that seeks a quick, abrupt rise in share price from an unexpected reorganization, followed by a hasty exit from his positions.

Somehow, though, JP Morgan's steel-sector integrations of a century ago seem to have involved an industry with much more growth and opportunity ahead of it than Ackman's book retailers have.

I'm just not seeing the logic to this situation for Ackman, other than desperation to rescue some value from his 1/3+ ownership of the worse-performing, lesser-sized turkey in the sector. Is Ackman hoping, if successful, to sell the Nook business and eventually realize real estate gains from the resulting moribund combined bookselling business? He tried that when he approached Target, but was rebuffed. Here, he is already heavily invested, and the prospects are dimmer, so his motivations might be heightened.

Jeffrey Kindler Leaves Pfizer

Jeffrey Kindler's recent departure from the CEO position at Pfizer has drawn fresh attention to the company's recent performance.

As the nearby chart comparing Pfizer's, Merck's and the S&P500 Index's prices indicates, the story hasn't been a good one for Pfizer shareholders.

Kindler took over as CEO roughly 4 1/2 years ago. Back then, based on initially-equal notional starting points in January of 2006, the firms' share prices were comparable.

Not anymore. Merck has handily outperformed Pfizer, and the S&P. So it's not as if Kindler's firm is in a sector where such performance is impossible.

The Pfizer CEO was described as under immense pressure and unable to cope. Given that even the S&P500 has outperformed it, Pfizer's board is taking reasonable action.

One wonders why Kindler was the choice for CEO back in 2006 and why, as Merck pulled away by early 2008, the company's board wasn't responding with more alacrity?

Now, the board not only has a senior-level vacancy to fill, but its record in filling it for the past half-decade should give investors pause concerning whether the next CEO will be any better.

Wednesday, December 08, 2010

Dick Parsons' Misleading Remarks In This Morning's CNBC Interview

I caught some of Citigroup chairman Dick Parsons' interview with Becky Quick this morning on CNBC. The interview seemed like an exercise in futility, as Quick lobbed softballs at Parsons, and he replied with some misleading and almost delusional responses.

Parsons' off the cuff numbers on Citi's TARP bailout made light of the real risk undertaken by taxpayers. Of course, now, it looks like a great profit- something like $12B on $48B. But this obscures the capital flows and sources of the profit. That is, existing shareholders were just about wiped out, while subsequent "profit" to the government came from the markets. It's very difficult to assess a proper risk-adjusted return for the deal, since the government has unique characteristics as an investor, including the ability to rig market and economic conditions to favor its investments.

Further, Parsons delusionally claimed that the government never interfered with the firm's operation. What was the special compensation czar's job? Did I miss something over the past few years when Ken Feinberg  was fighting with commercial banks over compensation levels? Does anyone really believe there wasn't behind-the-scenes arm twisting of banks which had taken TARP funds?

Then, in a completely surreal moment, Parsons began to lecture Quick on how banking works. How banks intermediate savers and borrowers. I guess this stuff is news to Dick, and he assumes nobody else watching CNBC knew these important details, either. But he then went on to claim, on that basis, that banks were 'special,' at the 'heart of the economy,' and could not be allowed to fail!

Wow. How convenient, Dick. Your predecessor, Bob Rubin, helped leverage and direct Citi into the mortgage-backed mess, it should have gone bankrupt, its parts sold to other banks, and you claim that your, and, by extension, all large, globally-connected banks must be saved.

Anna Kagan Schwartz correctly noted over two years ago that the problems with the US financial sector in late 2008 were solvency-based, not liquidity-based. Closing losers like Citi would have improved counterparty trust throughout the sector. Propping it up with printed government liquidity simply prolonged and rewarded incompetent bank managements and their boards.

So now, we have faulty, inept managements continuing to function along with better banks, when we had an opportunity to weed out the bad managers and allocate, by market mechanisms, their salvageable businesses to better-managed competitors.

But, of course, Parsons is in a delusional, self-serving mode now. As chairman of Citigroup, he has to distort and misrepresent that bank's and the meltdown's realities, in order to justify the firm's current existence.

J Crew Goes Private: More Self-Dealing & Unethical Corporate Governance

The story emerging around J. Crew Group's sale of itself to private equity groups TPG Capital and Leonard Green & Partners, and CEO Mickey Drexler, is distinctly unpleasant. How it portrays corporate governance and unethical behavior of certain parties is another black eye for corporate America.

According to the latest Wall Street Journal piece on the subject,

"The details of the J. Crew deal show how top management kept a number of key details from the company's board, while a TPG executive serving on that board eventually engaged in direct purchase negotiations with the company.

TPG, Leonard Green and J. Crew declined to comment."

As if this wasn't bad enough, Goldman Sachs, which originally advised J. Crew on,

"management's review of strategic alternatives other than a sale....had switched sides, working as a financial adviser for the TPG group that included Mr. Drexler. Goldeman declined to comment."

The private equity groups and Drexler discussed a buyout "for about seven weeks" before notifying J. Crew's board. During that time, the Journal article states that senior managers were brought in to make board presentations about the company's condition. This means the private equity bidders for the company were essentially being given all of the company's confidential information, unbeknownst to the directors not involved in the buyout.

Upon reading, in the Journal, and hearing, on CNBC, these various details, I immediately thought of the similar case of Kinder Morgan's buyout a few years ago. And at least one other pundit made the same connection.

The Journal article provided further details of how Drexler wouldn't work with any other buyer, and the buyout group's intimate knowledge of J. Crew's situation allowed it to make an offer calculated to satisfy the board, meaning, that the offer wouldn't be unnecessarily high.

Obviously, the big losers in this situation are the shareholders.

The nearby chart shows J. Crew's recent performance versus that of the S&P500 Index. The retailer has done better than the index over the period. It isn't completely clear why the firm's management or board would consider it to be so in need of a private equity rescue.

But what is pretty clear is that the private equity groups who ultimately agreed on a $43.50/share deal felt they were getting a bargain. So shareholders were implicitly being roughly handled.

Why? It seems that, with Drexler unwilling to work for other buyers, and having allied himself with the TPG-Green  bid, he was acting against the interests of the shareholders in whose interest he allegedly served as CEO and a board member of J. Crew. Depriving shareholders of his services, after having been compensated for learning the details of the firm, seems unethical. If Drexler did such a bad job that the firm had to be sold to a private buyout group, why was he necessary if the firm wished to remain public? If he was so key and successful, why was it being sold to a private group?

The logic is neither clear, nor sensible. Instead, about the only way it seems plausible is because Drexler and the TPG representative on J. Crew's board gained sufficient knowledge of the firm's operation and prospects, coupled with Drexler's alliance with that buyout group, to give them leverage over future prospects of the firm as a publicly-held entity.

Like the Kinder Morgan deal, it smacks of insider, self-interested dealing at the expense of shareholders. This undermines long term faith by investors in the publicly-held firm model. Perhaps investors would be wise to note whether private equity firms have representatives on boards.

One also wonders why and how the board of J. Crew let itself be put in this position? And if there were not other remedies available, such as removing the TPG-affiliated board member, and Drexler. Instead, they were evidently rewarded for their questionable ethics and behavior by being awarded a buyout price based on insider knowledge and unique leverage over the firm.

Tuesday, December 07, 2010

The Fed's Rescue Details

Many pundits and media personalities are expressing outrage after reading details of the Fed's assistance to various private entities during the 2008-09 financial meltdown.

Of particular mention in a Wall Street Journal article was the Fed's aid to money-market funds, while a CNBC discussion highlighted the otherwise-frozen commercial paper market.

It's disconcerting to read of Goldman Sachs borrowing a total of $600B from the Fed. Obviously, loan totals over the period would be staggering.

Since, as the Journal article notes, "it is tough to see how the Fed will ever convince investors it won't again ride to the rescue when required," can we not at least expect the Fed, Treasury, and perhaps Congress, in concert with financial sector players, to devise better ways of providing said insurance during financial crises?

Is it not feasible for the Fed to sell insurance, rather than simply lend trillions? Can't some market-oriented solution utilize risk-pricing so that institutions may acquire protection, but at prices related to their risk and in consequence of their mistakes?

Or perhaps, through significant rewriting of the deeply-flawed Dodd-Frank bill, provide clear, objective, quantitative tests, failing which will send a firm immediately into Chapter 11, while passing would allow it access to temporary federal aid, though priced according to risks measured in said tests?

Anna Kagan Schwartz went on record first, back in 2008, noting that the crisis was, in reality, one of solvency, not liquidity. But Paulson and Bernanke provided a solution to a liquidity crisis.

What would the proper solution have been for a solvency crisis? Wouldn't it have been, as Schwartz suggested, more orderly closing of insolvent institutions, thereby relieving counterparty pressure on the remaining institutions, which then would be judged safe and solvent? Wouldn't that take far less capital from the Fed, and create far less panic in the first place?

Given the immense scale of the Fed's bailouts of 2008, and the increasing indebtedness of the US, and possible pushback by global investors the next time the Fed tries to blithely expand its balance sheet so quickly and to such a large extent, it seems prudent to develop less capital-intensive, more discerning methods of avoiding financial panic and complete breakdowns short of simply lending out hundreds of billions, to trillions of dollars to one and all without any regard to the riskiness of the situation at each institution.

We have some time, hopefully, before the next incident of such widespread financial catastrophe. Surely there are suitably-capable minds available. Can't we expect our government's institutions to engineer better financial crisis solutions pre-emptively, rather than simply repeat the awkward and questionable practices of the Fed and Treasury during the recent financial crisis?

Monday, December 06, 2010

New Directions In Econometric Modeling

Last Tuesday's Wall Street Journal featured a lengthy news story discussing the work of many new arrivals to the econometric modeling scene. Some of the recent entrants into the field use distinctly atypical approaches.

At first, some of what I read struck me as silly. Indeed, the story quotes NYU economics professor Mark Gertler as saying,

"It strikes me as not productive to say that all we have done is a complete waste. The profession is extremely competitive. If you have a better idea, it's going to win out."

Well, yes, but only over other equally-flawed and potentially limited-in-scope approaches which are all developed by economists who studied the same historic approaches.

One of the things I found distasteful about the prospect of taking a PhD in Marketing at Penn years ago was the requirement to take various econometric modeling courses. The Journal piece notes one of the new modelers, one Mr. Farmer, observing that modern "dynamic stochastic general equilibrium" models have become so complex and over-specified that convergent solutions are often impossible to satisfy all conditions and variables.

One engaging newer approach is that of using 'agents' to describe economic activity, rather than reduce all economic activity to equations of various Keynesian-era variables. Other ideas borrow from psychology and lean toward the work of Amos Tversky and Daniel Kahneman, a Nobel Laureate for his work on risk.

Another suggests approaches used for weather, traffic and epidemics, focusing on many discrete inputs, rather than a few simplifying equations and variables.

Gertler's comment brings to mind the entire question of what such models are built to do, and how they perform in terms of prediction errors. So long as one can explain a logical trail from inputs to predictions, does it really matter, other than to Gertler's sensibilities, and those of his kind, that the models aren't conventional econometrics?

I should think not. Speaking from experience, taking a fresh approach to a problem, using tools and perspectives from another field, can allow one to capture aspects of a the problem that conventional, existing approaches simply miss, out of ignorance. I've found this to be the case in my equity strategy work. Coming from a marketing and strategy background, my modeling approach to equity performance and selection is quite different than those of typical finance-trained people. And has resulted in better performance than most similar, publicly-tracked funds.

Reading the Journal story provides some shocking insights regarding what isn't included in many of the current models, e.g., central bank actions and the finance sector, generally.

After rereading the piece and reflecting on it, I think I'm more inclined to be welcoming and excited by the arrival of a group of new and varied modeling techniques onto the econometric scene.

Certainly the past several years of ineffective retreaded Keynesian-type models have produced nothing impressive.