Alexander Hamilton's B-day bash?

Alexander Hamilton's Bday party:

"The Museum of American Finance, in association with the Smithsonian Institution, will commemorate the 250th (or, some scholars say, 252nd) birthday of Alexander Hamilton, the first U.S. Secretary of the Treasury, with a symposium and reception on January 11, 2007. The event will be held in the Museum's new home at 48 Wall Street - appropriately the former headquarters of the Bank of New York, which Hamilton founded in 1784."

Hamilton played a very critical role in the estabilishment of the US economic prosperity. If you are in NY, it might be worth stopping by to the "symposium".

Toll of the stock options scandal heavy in 2006

Trying to catch up on finance news before I leave for Mississippi for another rebuilding effort.

Toll of the stock options scandal heavy in 2006:

"Eighteen chief executives swept out. More than 100 public companies under
federal investigation and more than $5 billion in profits erased by
restatements. Indictments so far: five former top executives at two companies,
Brocade Communications Systems Inc. and Comverse Technology Inc.
The toll of the stock options timing affair -- corporate America's scandal of the year --
has been heavy. Federal officials say more prosecutions will be brought in 2007
over manipulation of the timing of stock option grants to enrich top company
executives."

Is your fund manager deceiving you? Read on | TheNewsTribune.com | Tacoma, WA

Is your fund manager deceiving you? Read on TheNewsTribune.com Tacoma, WA:

"The final week of every quarter is known as “window dressing week.” It’s when
portfolio managers sell stocks that have done poorly during the quarter and
replace them with ones that did well.

The idea is to make themselves look good: Reports to investors include snapshots of major fund holdings at the end of the quarter. So packing the big winners into the fund makes the manager look like a great stock picker.

But if those winners were added to the fund at only the last minute, it was too late. Most of the gains came earlier – so your fund didn’t benefit. Moreover, the winners often are sold soon after the reporting period ends"

Firms cook the books to set executive pay

From the St. Petersburg Times Opinion: Firms cook the books to set executive pay:

"Grasso was a poster child for the abuse. His $140-million compensation package was rationalized, in part, by comparing his job to those at companies with median revenues 25 times the size of the exchange, assets 125 times and employee bases 30 times the size.

Grasso was hardly alone. Executives have learned that the path to personal riches is paved by 'peer groups' that include big and profitable companies"

This is not real news. At least since 2000, the idea has been documented in academic literature. For instance, see Bizjak, Lemmon, and Naveen. The NY Times article that is referenced is here.

Grades are in so I can get back blogging

Finals, correcting projects, and all-around chaos have kept me from writing much of late, but I think things are settling down so I will try to catch up.

Hope everyone is doing well. Happy Holidays!!

jim

Google Gives Employees Another Option

Google Gives Employees Another Option:

"Google (GOOG) plans to give employees a novel method of cashing in their options starting next April. The search giant will let employees sell their vested stock options, which give the holder the right to reap the difference between the initial price and the current price, to selected financial institutions in an auction marketplace it's setting up with Morgan Stanley"

Home Depot may see fallout over options backdating | Reuters Recommends | Reuters.com

Home Depot may see fallout over options backdating | Reuters Recommends | Reuters.com:

"On Wednesday, Home Depot said a review by outside counsel found that, for certain stock option grants from 1981 through November 2000, the stated grant date was earlier than the actual time the grants were approved. Errors tied to the grants resulted in unrecorded expenses of about $200 million.

'The most dramatic take-away is how distressing it is to see how long these practices have been going on in some major companies,' said James Owers, a finance professor at Georgia State University"

Wow..that is a long standing practice!!! Shows how little we really know about inner workings of firms!

Andrew Metrick: Governance Index Data

I was recently asked where a reader could find the corporate governance index, so I figured others might like to know that it is available through Andrew Metrick's website.

Andrew Metrick: Governance Index Data: "Governance Index Data by Firm, 1990-2006

"For details on the construction of the Governance Index, see Gompers, Paul A., Joy L. Ishii, and Andrew Metrick, 'Corporate Governance and Equity Prices', The Quarterly Journal of Economics 118(1), February 2003, 107-155."

TownOnline.com - Local News: BC’s Barry Is best prof on campus

TownOnline.com - Local News: BC’s Barry Is best prof on campus: " Corny jokes and tough tests are the hallmark of the B.C. finance professor, voted as one of the nation’s 'favorite professors' in a recent Business Week magazine student poll. Barry was one of only 22 management faculty members in the country to earn the A+ grade from his students. "

Econbrowser: The yield curve and foreign purchases of U.S. debt

Econbrowser: The yield curve and foreign purchases of U.S. debt:

"Some new research that suggests that the current negative spread between long-term and short-term yields may be a little less worrisome than earlier studies had led us to conclude, to the extent that the negative spread in part results from an unusually low term premium on U.S. bonds rather than an expectation of future declines in short-term yields. One factor that may be depressing that term premium is foreign holdings of U.S. securities."

Pretty interesting stuff! Thanks to Financial Rounds for pointing this one out!

A look at Amaranth's Brian Hunter

Sounds much like Nick Leeson at Barings back in 1995.

Bloomberg.com: Canada:

"Hunter, within 17 months, would be responsible for $6.6 billion in losses, detonating the biggest hedge fund implosion ever. Since Amaranth's sudden collapse, investors have questioned the unusual trust Maounis put in his star trader, now 32. They say Maounis gave Hunter too much latitude and that Hunter, trading more than half the firm's assets, was blinded by a bet that had worked like a charm for two straight years.

``Amaranth's demise is not due to some complicated quantitative reason -- it's about human failing and frailty,'' says Hank Higdon, who runs New York-based Higdon Partners LLC, a recruiter for hedge funds and other money-management firms."

Billy Beane comes to Wall Street

Thanks to the SportsEconomist for pointing this one out!

FT.com / Markets / Wealth - Faith in figures proves to be a big hit:

"Beane’s great contribution to baseball – he is quick to admit – has been to apply to it techniques that were first honed by investors on Wall Street. Now, to his evident enjoyment, Wall Street is interested by the lessons it can learn from the world of professional sports. "

and later:

"By the time he took over as a general manager, baseball statisticians had worked out that on-base percentage – measuring the amount of the time a hitter avoids making an out and gets on base, including walks – was much more relevant to the number of runs that would be scored.

Hence, there was a mispricing in the market. Players with a gaudy batting average, who hit strongly for power, were over-priced. Patient hitters who walked a lot were undervalued. So he filled his team with under-priced patient hitters. Rather than trust the observations of scouts sent out to watch youngsters playing, he would trust the numbers."

Interestingly last year (i.e. 2005) the SBU financeClub met Beane on a trip to NYC when he was presenting at Bear Stearns.

If you want to keep up on Business news, try DealBook

I know I have mentioned DEALBOOK many times before, but it is just so good and recently when I mentioned it in class no one was using it. So I figured I would give it another plug.

Mergers, Acquisitions, Venture Capital, Hedge Funds -- DealBook - New York Times:

"DealBook is a financial news service produced by The New York Times. It is published daily, Monday-Friday, except on U.S. Market holidays and during the last week of the year. A daily digest of DealBook is also available via email, delivered before the market opens."

Buffalo News - Despite convictions, Rigases live in the lap of luxury

Buffalo News - Despite convictions, Rigases live in the lap of luxury:

"Nearly two and a half years after being convicted of bank fraud and other corporate crimes, former Buffalo Sabres owner John J. Rigas and his son Timothy remain comfortably at home in Coudersport, Pa., awaiting the results of their appeal.

Meanwhile, many other executives who found themselves on the government's rap sheet in recent years - Andrew Fastow of Enron, Bernard Ebbers of WorldCom, Dennis Kozlowski of Tyco are all behind bars.

What's more, lawyers close to the Rigas case and independent experts are now entertaining a possibility that, to trial-watchers, seemed laughable at the time of the Rigases' conviction in July 2004: that they could win their appeal and thus face a retrial."

Wow, talk about timing! On Wed my MBA class is covering the Adelphia case and one of their assignments was to give an update on where everyone is now. I guess the students' lives just got easier!

Incentives and the timing of takeovers

I reader brought this cookl article to my attention:

From the NY Times:

"...8 of the 20 largest deals in the last four years have taken place in November and December, according to Thomson Financial.

How to account for this? ....The urge to merge may be influenced by bonuses for all involved in the deal, especially the bankers. Corporate America’s biggest cheerleaders and boosters need to get paid.:

"In the byzantine office politics that decides how to dole Wall Street bonuses — expected to be a cash pile of more than $100 billion across the Street this year — a banker can receive a little extra bonus money for a deal announced this year, and get paid a little extra again next year when the deal closes."

Interesting!!

I'd also add if you think you may be switching companies next year, you may push for deal now in order to get the bonus.


Thanks JH

Cost of Nymex trading seat falls as screen trading surges

Don't think electronic market is changing the market landscape? Think again! case in point, the price of a seat on the NYMEX fell by a staggering 75%!

Cost of Nymex trading seat falls as screen trading surges:

"THE cost to lease one of the 816 seats on the New York Mercantile Exchange, the world's largest energy market, has plunged 75 percent as electronic trading overtakes the traditional open-outcry system.

Three new seat leases, which give the holder the right to trade on the Nymex floor in Manhattan, were issued starting on Friday at US$5,000 a month, and several renewals were also signed at that price. Last month, seats were leased for as much as US$20,000 a month, according to data on Nymex's Website."

and later:

"The shift to electronic trading is drying up liquidity on the floor," said Robert Webb, a finance professor at the University of Virginia and a former trader on the Chicago Mercantile Exchange. "It's totally a reflection of a lack of potential profit opportunity by trading on the floor.""

And from Bloomberg:

"As part of the IPO process, seatholders were issued 90,000 shares in Nymex for each seat they owned. Those shares are now worth about $11 million. Prior to the IPO, Nymex members traded the shares among themselves, often for about $45 each, valuing a seat at about $4 million just a month ago.

The trading right component of a Nymex seat yesterday sold for $500,000, according to Nymex's Web site."

So while trading is still taking place, it is migrating more and more to electronic markets and not the floor.

The mergers continue

The mergers continue! The last few months have been very busy for the takeover (err- Market for corporate control market). And today is no different:

Bank of New York to Buy Mellon for .5 Billion - Mergers, Acquisitions, Venture Capital, Hedge Funds -- DealBook - New York Times:

"Bank of New York plans to acquire Mellon Financial of Pittsburgh in a $16.5 billion stock transaction that would create the world’s largest securities-servicing firm, the companies said early Monday. The combined entity would be called Bank of New York Mellon and have annual revenue of more than $12 billion, according to a joint press release on the two banks’ Web sites.

The boards of both banks have approved the deal, which is expected to close early in the third quarter of 2007, the companies said."

A few M&A links that might be beneficial/fun:

* Gregg Jarrell's into piece on takeovers (virtually required reading for my class!)
BTW I took Jerrell for a class, it was one of my favorite all time classes!
* A classic look at takeovers from Michael Jensen
* A more recent look at the takeover literature by Burkart and Panunzi that also has more of an international flavor.
* A look at some cartoons that focus on takeovers

Accounting Snags Push Dresser to Restate - - CFO.com

Some local ties to this one. Dresser is a major employer in the Olean NY area.

Accounting Snags Push Dresser to Restate - - CFO.com:

"Dresser Inc. said it will restate its financial statements for 2001 through 2003 based on a host of accounting errors. In May, the industrial engineering company had warned that it would restate its 2004 annual filing, its 2004 and 2005 quarterly financial statements, and would be evaluating the potential need to restate prior periods.

The accounting errors relate to inventory valuation and derivative transactions under the Financial Accounting Standards Board's FAS 133. Other accounting errors relate to the company's businesses which were sold in November 2005."

While I do not know the root cause of the Dresser restatements, In a at least somewhat related article, CFO.com reports on the causes of accounting restatememts. A quick quote:

"Scott Taub, deputy chief accountant of the Securities and Exchange Commission. Taub...lays the abundance of problems squarely at the door of simple human bungling....Taub said that 55 percent to 60 percent of the errors triggering recent misstatements were "simple misapplications of [generally accepted accounting principles] or books and records problems."

Study says index fund investors pay more with broker - Nov. 30, 2006

While not exactly ground breaking (I am sure every finance professor in the country has been saying this for years), it is an interesting article and good for introductory investment classes etc.

From CNN: Study says index fund investors pay more with broker - Nov. 30, 2006:

"Investors who rely on a broker to recommend an index mutual fund could be paying a whole lot more that they have to, according to a study released Thursday.

The study, produced by the Zero Alpha Group, a network of financial advisory firms, and Fund Democracy, an advocacy group for mutual fund shareholders, contends that investors that use a broker are typically sold index funds with higher operating expenses, without necessarily offering a performance premium....

"Brokers are supposed to work for their clients, but when recommending a generic product such as an index fund, they refer their clients to more expensive funds and then collect sales charges to boot," said Mercer Bullard, president of Fund Democracy and a professor at the University of Mississippi School of Law."

What can investors do? One solution is to buy your funds directly from the fund company (eg. Vanguard, Fidelity, etc).

Top 25 Web 2.0 Apps for Money, Finance, and Investment

What a useful site! It has apps that help you do everything to find out good deals if you are renting an apartment to how much you should expect for a salary, to find real estate values to personal budgeting tools.


Top 25 Web 2.0 Apps for Money, Finance, and Investment:

"This guide to the top 25 web 2.0 applications should help you with the above will come in handy when it comes to managing all your money concerns. [If you're not familiar with 'web 2.0', read: what is web 2.0, or the compact definition.] Many of these apps have a community nature to them, so if you need some friendly advice from members, or wish to give it, you can."

(Be forewarned some of the sites are a too commerical for my tastes, but there are enough really cool sites to check it out!)--

Thanks JimmyA for the tip!

SSRN-Are Elite Universities Losing Their Competitive Edge? by E. Han Kim, Adair Morse, Luigi Zingales

More evidence that the world is getting more flat. I don't have time to discuss it, but will provide the part of the abstract and a link:

SSRN-Are Elite Universities Losing Their Competitive Edge? by E. Han Kim, Adair Morse, Luigi Zingales: "

"Abstract:
We study the location-specific component in research productivity of economics and finance faculty who have ever been affiliated with the top 25 universities in the last three decades. We find that there was a positive effect of being affiliated with an elite university in the 1970s; this effect weakened in the 1980s and disappeared in the 1990s. We decompose this university fixed effect and find that its decline is due to the reduced importance of physical access to productive research colleagues....Our results shed some light on the potential effects of the internet revolution on knowledge-based industries."

I stumbled upon this one while trying to find Zingales' cross listing paper. While not as exciting as some pure finance papers, it is interesting and fits well with what most would have predicted, namely that location no longer matters for much.
(I say that writing from the center of the Universe: Olean NY! ;))

Costs and Benefits of Regulation

As part of a study on the impact of regulation on market, the Committee on Capital Markets Regulation provides the SEC with several sudies today that try to guage the costs and benefits of regulation.

Particularly interesting is Zingales' look at whether regulations following the Governance Crisis of 2002 had a detrimental impact on the relative advantages of a US listing.

From the WLS (via Pittsburgh Post Gazette) Is a U.S. listing worth the effort?:

"The premium for listing on both U.S. and foreign markets averaged 51 percentage points from 1997 to 2001. It dropped to 31 percentage points between 2002 and 2005, Mr. Zingales found.

'We raised the cost of being public in the U.S.,' said Glenn Hubbard, dean of the Columbia University business school and co-chairman of the capital-markets committee. 'These things have long-term consequences."

later:

"Others aren't so sure. Andrei Shleifer, an economics professor at Harvard University, called the decline in the foreign-listing premium "fascinating" but whether it is due to "improvements in corporate governance and the quality of stock markets abroad, or from the reduced benefits of U.S. listing, is still an open question."

Another possibility is that rather than the costs rising, it could be that the percieved benefit of a US listing declined. This was not as a result of the regulations, but because the governance crisis (which brought about the regulations) demonstrated that US markets were not as minority investor friendly as might have been percieved prior to the problems. For instance, again in the WSJ/Post-Gazette piece:

"Andrew Karolyi, a finance professor at Ohio State University who has also studied the cross-listing premium said Mr. Zingales's conclusion is "reasonable," but advised caution. Mr. Karolyi said in his own research he had been unable to relate a change in the cross-listing premium to corporate governance."

Over at IdeaBlog Larry Ribstein does a GREAT job discussing both sides and concludes that

"if you raise the price of something without also raising the value, the demand will fall, and that applies to bonding. I hypothesize that SOX, by meddling in the internal governance as well as disclosures of foreign firms, raised price more than value. The result would be declining cross-listings in the U.S., a phenomenon we have observed."

The NY Times also has an article on the findings and the committee that is speaking to the SEC today about regulation. A look-in:

"The committee...said the S.E.C. should be required to perform cost-benefit analyses on all rules before they were adopted. It said the S.E.C. should also take steps to rein in private securities litigation and adopt policies to shield corporate directors and auditors from some lawsuits....The report also calls for relatively modest changes in the enforcement of the Sarbanes-Oxley Act and supports greater shareholder democracy by limiting antitakeover defenses of companies"

Interesting and important stuff!!

Skirt lengths and Stock prices

A few weeks ago I mentioned this in class and I got many weird looks (even more than normal). I'll admit that the idea that hemlines and fashion could be linked to stock prices does seem quite ridiculous, but there may be some ties. The theory is that as hemlines rise (be it for less risk aversion or some other reason) so too do stock prices. Thus the best time to buy stocks is when hemlines are long.




Socionomics.net has a longer version of the video documentary available for free that has other similar fun examples. For instance, according to the video, most famous horror films come from times when bear markets dominate. Is it

The piece is definitely thought-provoking even though I am not totally convinced. For instance I would love to know if the apparent link is merely a spurious correlation or if there is some mass socio psychology (a behavioral finance) story at play, or if there is there a direct link (not quite cause and effect) such as each factor being driven by some other socio-economic variable that shows itself through culture).

But definitely fun and interesting! And besides...uh, no I better not. ;)

Grade inflation from HS to Grad school

Three related stories that are not strictly speaking finance but that should be of interest to most in academia.

In the first article, which is from the Ottawa Citizen, accelerated and executive MBA programs come under attack for their supposed detrimantal impact on learning in favor of revenue.

MBAs dumbed down for profit:

"An increasing number of Canada's business schools are literally selling MBAs to generate revenue for their ravenous budgets, according to veteran Concordia University finance professor Alan Hochstein.

That apparent trend to make master of business administration degrees easier to achieve at a premium cost is leading to 'sub-standard education for enormous fees,' the self-proclaimed whistleblower said yesterday"

The second article is a widely reported AP article that that centers on High School grade inflation. This high school issue not only makes the admissions process more difficult but it also influences the behavior of the students ("complaining works") and their their grade expectations ("I have always gotten A's and therefore I deserve on here").

A few look-ins from Boston Globe's version:

"Extra credit for AP courses, parental lobbying and genuine hard work by the most competitive students have combined to shatter any semblance of a Bell curve, one in which 'A's are reserved only for the very best. For example, of the 47,317 applications the University of California, Los Angeles, received for this fall's freshman class, nearly 21,000 had GPAs of 4.0 or above."

or consider this:

""We're seeing 30, 40 valedictorians at a high school because they don't want to create these distinctions between students...."

and

"The average high school GPA increased from 2.68 to 2.94 between 1990 and 2000, according to a federal study."

This is not just a High School problem. In part because of an agency cost problem (professors have incentives to grade leniently even if it is to the detriment of students), the same issues are regular discussions topics at all colleges as well. For instance consider this story from the Denver Post.

"A proposal to disclose class rank on student transcripts has ignited a debate among University of Colorado professors with starkly different views on whether grade inflation is a problem....

[some] professors who say their colleagues are so afraid of bad student evaluations that they are placating students with A's and B's.

The few professors who grade honestly end up with dismal scores on student evaluations, which affect their salaries, professor Paul Levitt said. There is also the "endless parade of malcontents" in their offices."

I would love to wrap this up with my own solution, but obviously it is a tough problem to which there are no easy solutions. That said, maybe it is time that I personally look back at my past years' class grades to make sure I am not getting too soft. If we all did that, we'd at least make a dent in the problem.

Marketplace: Was Grasso worth it?

Marketplace: Was Grasso worth it?:

"Dick Grasso's critics have long said he was paid too much, particularly for heading what was at the time a nonprofit institution. And that the compensation process was flawed. But the Wall Street Journal reports today that he just didn't do a very good job, at least according to a report commissioned by New York Attorney General Eliot Spitzer.

A University of Utah finance professor concluded that during Grasso's highest-paid years new listings on the Exchange declined. So did its market share. Its overall trading volume soared, but so did that of every other stock exchange. The report says Grasso was just riding the wave, says Charles Jones who teaches finance at Columbia University."

While it is true that the market share and new listings were down, his performance is not as clear cut. For instance to say Grasso did a poor job is a little like saying that network television executives have done a poor job since the ratings have dropped in the age of cable and internet (which may or may not be true). What we don't know is whether the decline would have been worse under alternative management/strategies.

Google’s Shares Climb Above $500 - New York Times

The New York Times has an interesting look at Google's meteoric rise.

Google’s Shares Climb Above $500 - New York Times:

"Google’s shares gained $14.60, or 3 percent to close at $509.65, passing the $500 mark for the first time....Not bad for a company that was forced to reduce its initial share price to $85 barely two years ago because of lackluster demand. It quickly confounded the skeptics, rising to $100 on the first day of trading, and hitting closes of $200, $300 and $400 all within the course of 2005.

Google now has a total value of more than $150 billion, exceeding all but 13 American companies — icons of commerce "

Newswise | Average Investors Shouldn’t be So Confident

Newswise | Average Investors Shouldn’t be So Confident:

"An increase in the stock market’s overall performance, like the one that took place in October, can turn inexperienced investors into trade-happy amateurs, according to Brigham Young University business professors in a study published in The Review of Financial Studies.

“When investors start off in the market, they tend to trade pretty conservatively,” said Steven Thorley, the H. Taylor Peery professor of finance at BYU’s Marriott School of Management. “In periods where the overall stock market performs well, they see a good return on their portfolio and figure they are good at picking stocks, so they start to trade more frequently.”

Thorley and co-researchers Keith Vorkink and Meir Statman tested the proposition that investors trade their stock more frequently after increases in the general market return cause them to have higher confidence in their stock picking abilities. Behavioral economists refer to these beliefs as “investor overconfidence” and “biased self-attribution.” Vorkink is the Richard E. Cook associate professor of finance at the Marriott School, and Statman is the Glenn Klimek professor of finance at the Leavey School of Business at Santa Clara University."

The academic version (working copy) of this paper is available through SSRN.

SSRN-Payout Policy in the 21th Century: The Data by Alon Brav, John Graham, Campbell Harvey, Roni Michaely

What a cool paper!! By Brav, Graham, Harvey, and Michaely on Dividend payout rations. They essentially redo Lintners' clasic 1956 paper but also provide the data!

SSRN-Payout Policy in the 21th Century: The Data by Alon Brav, John Graham, Campbell Harvey, Roni Michaely:

"Our findings indicate that maintaining the dividend level is on par with investment decisions, while repurchases are made out of the residual cash flow after investment spending. Perceived stability of future earnings still affects dividend policy as in Lintner (1956). However, 50 years later, we find that the link between dividends and earnings has weakened. Many managers now favor repurchases because they are viewed as being more flexible than dividends and can be used in an attempt to time the equity market or to increase earnings per share. Executives believe that institutions are indifferent between dividends and repurchases and that payout policies have little impact on their investor clientele. In general, management views provide little support for agency, signaling, and clientele hypotheses of payout policy. Tax considerations play a secondary role"

Is it time to rethink accounting?

While I doubt a major overhaul is forthcoming, the fact that accounting firms are calling for the changes is telling and a good step.

Institutional Shareholder Services -- Corporate Governance Blog: Accounting Firms Seek Overhaul Submitted by: Tad Kopinski, Staff Writer:

"The six biggest international audit firms have called for a complete overhaul of corporate financial reporting as the U.S. and Europe move toward convergence of international audit standards.

In a Nov. 8 report, the accounting firms propose to replace static quarterly financial statements with real-time, Internet-based reporting that encompasses a wider range of performance measures, including non-financial ones. The report was signed by the chiefs of PricewaterhouseCoopers International, Grant Thornton International, Deloitte, KPMG International, BDO International, and Ernst & Young. The report can be downloaded here.

'We all believe the current model is broken,' Mike D. Rake, KPMG's chairman, told the Financial Times....

Rake noted that quarterly reporting and the short-term focus on companies' ability to meet Wall Street earnings expectations helped foster accounting scandals....The large discrepancy between the 'book' and 'market' values of many listed companies is clear evidence that the conten"

FMA Online

This has to be one of the most underrated sites in finance!

FMA Online:

"Feature Presentations (video)

2006 FMA European Conference Keynote Addresses

Michael Brennan, UCLA and London Business Schoool
'Rational (and Irrational) Prices, Returns, and Strategies'

Michael Brennan is a professor of finance at both UCLA Anderson and London Business School. His research interests include asset pricing, corporate finance, the pricing and role of derivative securities, market microstructure, and the role of information in capital markets. He has published extensively in all of these areas. He is currently working on several issues, including: the problem of asset allocation when investors face time-varying opportunity sets, initial public offerings and the allocation of control rights in the corporation, the determinants of international flows of portfolio investment, the role of convertible securities in corporate finance, and corporate hedging strategies."

Rewriting the Rules for Buyouts - New York Times

Ironically my Depattment chair said this exact thing to me last week too!

Rewriting the Rules for Buyouts - New York Times:

"MANAGEMENT-LED buyouts, by their very nature, are meant to benefit management and their private equity backers,” Stephen Lowey, a lawyer who often represents institutional investors, said to me last week. He contended that public investors almost always get cheated, and it’s not hard to see what he’s talking about."

The article goes on to give some prescriptions that might level the playing field some. These include having more minority say in deals, more independenet advisors. Which are nice ideas, but undoubtedly difficult (impossible?) to enact.

Red Hat seeks NYSE listing | CNET News.com

In class the other week I was asked why firms choose on market over another. Here is why RedHot is changing from the Nasdaq to the NYSE:

Red Hat seeks NYSE listing | CNET News.com:

"'We believe that listing on the New York Stock Exchange will increase Red Hat's visibility among investors, reduce trading volatility and offer more efficient pricing,” said CFO Charlie Peters said"

College football contracts are dotted with extras and provisions - USATODAY.com

Not strictly corporate finance, but a very interesting look at some contracts of college football coaches

College football contracts are dotted with extras and provisions - USATODAY.com: "Head football coaches' contracts with NCAA Division I-A schools can be more than a matter of money."

a few examples (for more read the article):

*"Cincinnati's Mark Dantonio and Florida's Urban Meyer can be suspended or fired for "commission of a crime ... whether prosecuted or not." Not counting minor traffic offenses."

* "Air Force's Fisher DeBerry will get a lifetime monthly annuity after he steps down — $7,000 a month if he coaches through the 2006 season, a figure that rises to $9,000 a month if he coaches through the 2010 season. His wife would collect two-thirds of the monthly amount if he dies before she does."


From a companion piece maybe CEOs are that highly paid afterall. The average NCAA Div 1 football coach makes $950,000 before benefits, bonuses, and otehr incentives.

Study Charts Broad Manipulation of Options - New York Times

Study Charts Broad Manipulation of Options - New York Times:

"Abuses of stock option grants are perceived to have spread like a virus among high-technology companies. But a new study suggests that hundreds of old-economy companies may also have caught the backdating bug.

In a paper to be released today, researchers estimate that 590 nontechnology companies appear to have manipulated options so their chief executives received them at the lowest price of the month. That compares with 130 technology companies that appear to have backdated their chief executives’ options to a monthly low."

A quick look-in to the paper by Bebchuck, Grinstein, and Peyer that the NY Times mentioned:

"*Lucky grants were more likely when the company did not have a majority of independent directors on the board and/or the CEO had longer tenure -- factors that are both associated with increased influence of the CEO on pay-setting and board decision-making.
• Lucky grants were more likely to occur when the potential payoffs from such luck were high; indeed, even for the same CEO, grants were more likely to be lucky when granted in months in which the potential payoffs from manipulation were relatively higher.
• Luck was persistent: a CEO's chance of getting a lucky grant increases when a preceding grant was lucky as well.
• We find no evidence that firms providing backdated options reduced the compensation paid through other sources"

Economist Milton Friedman dies at 94 - Yahoo! News

Economist Milton Friedman dies at 94 - Yahoo! News:

"Milton Friedman, the Nobel Prize-winning economist who advocated an unfettered free market and had the ear of three U.S. presidents, died Thursday at age 94.
Friedman died in San Francisco, said Robert Fanger, a spokesman for the Milton and Rose D. Friedman Foundation in Indianapolis. He did not know the cause of death."

Compensation Special Report, Parts I & II -- CFO.com

CFO.com hhas a great series of articles in their spoecial report on CFO pay. HIGHLY RECOMMENDED!!

Compensation Special Report, Parts I & II -- CFO.com:

"Thanks to a growing battle for finance talent, CFOs are making more. Those at big companies saw their pay surge as much as 25 percent. Many firms are seeking to upgrade their finance talent, and the dwindling of the chief operating officer has also contributed to the boost, since CFOs often are asked to take on many of the former COO's duties....But with the Securities and Exchange Commission shining a new spotlight on compensation, boards are also making CFOs work harder to achieve the mega-pay levels that became common in the 1990s."

FRB: Speech, Kroszner--The Conquest of Worldwide Inflation: Currency Competition and Its Implications for Interest Rates and the Yield Curve--November

Great read: It is from today's speech by Fed GOvernor Randall Kroszner. PERFECT for a money and banking class!

FRB: Speech, Kroszner--The Conquest of Worldwide Inflation: Currency Competition and Its Implications for Interest Rates and the Yield Curve--November 16, 2006:

"I will begin by providing a few facts about the substantial improvement of inflation during roughly the past decade compared with the quarter century that preceded it. I will then try to understand why this remarkable decline in inflation has taken place. In particular, I argue that globalization, deregulation, and financial innovation, in part spurred by experiences of high inflation in the 1980s, have fostered currency competition that has led to improved central bank performance and, hence, the recent conquest of worldwide inflation. Friedrich Hayek had long ago advocated permitting greater competition among currencies, arguing that there would be a race to the top rather than a race to the bottom."

Utah finance conference

What a cool thing to do if you want to know what is is going on in the field of finance!

SSRN :

"The Utah 2006 Sixteenth Annual Winter Conference has partnered with the Social Science Research Network (SSRN) to provide electronic journal distribution and online subscription management services.

Registration is required to receive the E-mail abstracting journal and free access to the issue’s full text articles.

"

Hedge Manager Is Almost Famous - New York Times

An interesting look at how Hedge funds have become the profit centers for Investment Banks.

Hedge Manager Is Almost Famous - New York Times:

"More than any other investment bank, Goldman Sachs relies on trading gains to drive its profits. Mr. Agus had a very good year in 2005 — he is estimated to have made $10 million to $20 million — and he will surely get a raise in 2006. His year is further evidence that on Wall Street, the real money is being made not by investment bankers cutting high-profile deals, but by anonymous traders making risky, profitable bets with their firm’s capital."

An interesting question is what the success of hedge funds says about market efficiency.

Risk and Reward Column: The Invisible Problem of Risk Blindness

As the semester begins to wind down, many classes (mine included) take a look at various financial cases and what events led to the problems. Thus the timing of the FENews article on " The Invisible Problem of Risk Blindness is especially good:

A few look-ins:

"There is an old saying that everything changes, but everything remains the same. This is especially true with financial disasters. The precise circumstances – the people, amounts lost, etc. – always vary, but underneath these superficial differences there are remarkable similarities....Their risk models turn out to have been blind to the risks the firm was actually taking and no one realized until too late."

"So what are the causes of this “risk blindness?” One cause is false assumptions.... Another example is when VaR models rely on historical correlations and fail to allow for correlations polarizing in crises....." A second cause is estimation error.

And later:

"So what can be done to reduce these problems? Part of the answer is for risk managers to pay more attention to qualitative factors, to focus less on the models and more on the judgmental questions surrounding them."

And finally:

"agency problems go right the way up the corporate hierarchy. So how do we ensure that senior managers and directors take their responsibilities seriously? Again, the answer is simple, but won’t be popular – at least with senior management....to abolish limited liability."

Wow! Good article! Highly recommending reading the entire thing!

Small cos problem clouds US Sarbanes-Oxley revamp | Reuters.com

Small cos problem clouds US Sarbanes-Oxley revamp | Reuters.com:

"Work on revising 2002's post-Enron Sarbanes-Oxley (SOX) corporate audit reforms is hung up on the question of how small companies should be treated, with U.S. regulators expected to meet on the issue on Sunday.

The chairmen of the Securities and Exchange Commission and the Public Company Accounting Oversight Board are expected to meet to discuss how SOX Section 404 should apply to companies with $75 million to $700 million in market capitalization."

Too Many Regulators For Wall Street? - Forbes.com

We always talk in class, that when the environment changes, so too do the various contracts and relationships that affect the firm. Here is a good case in point:

Too Many Regulators For Wall Street? - Forbes.com:

"With two pending trans-Atlantic stock exchange mergers, the world's largest futures exchange forming in Chicago and rumors of more consolidation in the markets to come, there is the sense that the multiple federal securities regulators, state regulators and self-regulated entities like the NYSE Group (nyse: NYX - news - people ) and NASD will have to come to some sort of consensus for dealing with the shifting landscape."

VC Deals More Company-Friendly - - CFO.com

VC Deals More Company-Friendly - - CFO.com:

"Venture capital backers are getting friendlier. In the past four years, the deal terms they've been handing start-up companies have shifted in favor of fledgling companies, says a new survey released by Dow Jones VentureOne's. Indeed, new deal terms offer improved liquidation preferences and decreased percentages of investor ownership, noted the study, which surveyed 350 executives.

The data provider attributes the shift to increased competition among VCs that are vying for the most promising entrepreneurs."

NYSE Group to cut more than 500 jobs - MarketWatch

I am fascinated at the way the NYSE-Archipelago merger is having concrete results in reducing costs. It will continue to interesteing to see how they mesh the electronic with the floor trading. Stay tuned.

NYSE Group to cut more than 500 jobs - MarketWatch:

"Since March 2005 -- when the NYSE, Archipelago Holding and Securities Industry Automation Corp. had 3,484 employees on a combined adjusted basis -- there has been a reduction of 35% of its total workforce or more than 950 employees, the NYSE said.

'We estimate that the headcount reduction will save NYSE roughly $60 milllion per year in costs and that the reduction in consultants will reduce professional fees by roughly $20 million year,' Prudential analysts said in a research report Wednesday."

Financial page: PBS Frontline: Can You Afford to Retire

Barry over at Financial Page points to an interesting article on the state of retirement planning in the US.

Financial page: PBS Frontline: Can You Afford to Retire

A quick look-in:

" Half of America's private sector workforce are not covered by any retirement savings plan; their retirement will be anchored only by Social Security and whatever they have managed to save on their own.

The other 50 percent have one of the two main employer-sponsored retirement savings strategies: a traditional lifetime pension or a 401(k)-style investment plan. Today, twice as many workers have 401(k)s than have lifetime pensions, a complete reversal from 25 years ago, according to David Wray of the Profit Sharing/401(k) Council of America."

Good coverage!

SSRN-A Comparison of Five Federal Reserve Chairmen: Was Greenspan the Best? by Ray Fair

SSRN-A Comparison of Five Federal Reserve Chairmen: Was Greenspan the Best? by Ray Fair:

"Abstract:
This paper examines the performance of the past five Federal Reserve chairmen using optimal control techniques and a macroeconometric model. Each chairman is judged by the actual performance of the economy under his term relative to what the performance would have been had he behaved optimally. Comparing chairmen only on the bases of actual performance of the economy is not appropriate because it does not control for different exogenous-variable values and shocks that the Fed has no control over. The results suggest that Greenspan was indeed the best, but followed closely by Martin. Volcker also does well, but probably not quite as well as Greenspan and Martin."

Free Money Finance: Paying Off Your House Early

This topic came up in class recently so FreeMoneyFinance had impeccable timing:

Free Money Finance: Free Money Finance Top 10 Most Hated Posts/Themes: #8 Paying Off Your House Early:

"Most financial authors, writers, and bloggers would say NOT to pre-pay your mortgage if the interest rate (adjusted downward for the tax savings from having a mortgage) is below what you could earn investing the money instead. They say you'll be better off in the long run doing this, and technically, they're right. If a person has a mortgage at 5% and if they earn 6% on their investments and if they do actually invest the money they would otherwise be using to pay the mortgage (rather than spending it) then they will be better off financially. But to me, that's a lot of ifs."

Which is very well said. Like debt in a corporate setting, committing to paying down a mortgage can reduce the Free Cash flow problem.

I would add that there is also some reduction of risk since it does free up money for other uses AND also some increase in utility from the feeling of having it paid ahead of schedule.

That said, from a risk and return perspective, it does not make much sense in most cases and I would definitely not encourage it in the case of investment property.


If you would like more in this, check out the MortgageProfessor's Paying Early Page.

Update and where in the world have I been

Hi everyone.

What a few weeks. LOL. As Burns would say "the best laid plans of mice and men often go astray." And that is exactly what has happened since the Friday Lunch at the FMAs in Salt Lake City.

While in the luncheon my phone vibrated a few times but I did not take the calls. In Hotel's atrium afterwards I did. The most important call was from Josh one of the BonaRespond leaders. He told of the terrible storm that had crushed Buffalo and asked whether we could do anything about it. That phone call set in motion a series of events that have taken up every free moment of my time.

BonaResponds has been up in Buffalo (about 70 miles N of the Bonaventure Campus) twice already (with more planned), we have had chainsaw trainings, been interviewed about a dozen times, and much more. Coupled with a preplanned trip to NYC with the Finance Club, correcting tests in 5 different classes (and for those of you who know my tests, they tend to be 20 pages each), registration meetings, and of course classes, the blogs simply had to take back burner.

I apologize, but I had no choice if I wanted to save any sanity that I have (which of course is arguably present even under ideal conditions).

While BonaResponds is still very busy, much of the hectic planning has been finished and the correcting is 98.6% done, so I think I can get back on more normal schedule of posting and writing.

Also if you have sent me an email in the past three weeks and I have not yet replied, please be patient. I will get to them.

jim

Online NewsHour: Experts Examine How Brain Makes Economic Decisions -- May 10, 2005

Online NewsHour: Experts Examine How Brain Makes Economic Decisions -- May 10, 2005:

"...as it happens, even economists are getting in on the action, asking how and where we humans think economically by seeing which parts of the brain are most active when we're deciding what we want and how to get it. One lesson thus far: The brain isn't quite as rational as the discipline of economics has long assumed, a finding that could have major implications"

SSRN-Corruption and International Valuation: Does Virtue Pay? by Charles Lee, David Ng

SSRN-Corruption and International Valuation: Does Virtue Pay? by Charles Lee, David Ng:

"Abstract: Using firm-level data from 44 countries, we investigate the relation between corruption and international corporate values. Our analysis shows that firms from more corrupt countries trade at significantly lower market multiples. The effect is both economically and statistically significant. "

Live from Salt Lake City

Hi from Salt Lake City!

I am here attending the Financial Management Association (FMA) meetings. I figured that if I could blog from Biloxi weeks after Katrina, I could make some time to do so from a conference.

Finance conferences are pretty much all day events. Today’s started at 8:00 AM and papers went until after 5:00 at which time there was a reception. (I confess I skipped the reception to run—WOW what a beautiful area!)

The day is broken into 90 minute segments during which time various financial research papers are presented. These 90 minute blocks repeat all day except for an hour break for lunch.

During a block upwards of 30 different “sessions” are held. These take place in various conference rooms in the conference hotels. Each session is further broken down into 3 thirty minute intervals in which a paper is presented and then discussed. The exact timing varies somewhat by conference but the norm at the FMAs (usually my favorite conference) is that the author has 20 minutes to explain the paper (motivation, data, methodology, and findings) and the discussant has about 10 minutes to comment on the paper and suggest possible improvements and extensions that would make the paper even better.

Those not presenting make up the fairly transient audience at the presentations. With up to 90 papers (30 sessions times 3 papers per session) are being presented in any time block, it is obviously impossible to see them all and those in attendance must pick and chose what to see. Thus, popular papers may be filled to capacity while others have only a handful in attendance.

Between each 90 minute presentation block, there is a 15 minute break time. This allows people to get from one presentation to the next (or at least try to make it, today’s wait for elevators was pretty bad!). This time also allows presenters to set up for their presentation and others to mingle while discussing what papers they will see next.

Additionally, throughout the entire day text book publishers and others selling items of interest to finance professors have set up displays in what amounts to a “trade show.” This allows professors to see the newest text books and to also see new class tools.

Oh, and I almost forgot, while all of this is happening, there are also many job interviews being conducted. Most of these occur in the hotel rooms but some schools opt to share a large open room for interviews.

So there you have it, a typical day at a finance conference.

It is sort of easy to see why people complain about conferences: they are quite expensive; they are a lot of work; they involve too much travel.

However, any analysis must also include the benefits. Today I saw 17 papers presented. Think about that for a second. Seventeen papers, it does not get much better than that!

On top of that where but a conference can you meet some of the best and brightest in the field from around the globe, get exposed to new ideas, and learn a great deal on virtually every aspect of finance all in a single day. And then wake up and do it all over again the next day!

To put it another way, conferences are definitely positive NPV projects!

Slow and steady still wins the investing race - MarketWatch

Thanks to the Unknown Professor over at Financial Rounds for pointing this one out.

Short version: Morningstar is going to report the dollar-weighted returns! And shock of all shocks, these are lower than the time weighted returns.

Slow and steady still wins the investing race - MarketWatch:

"...Morningstar, Inc...announced that it was going to start reporting mutual funds' returns in a new way, in addition to all the traditional ways for which Morningstar is already famous. The firm is referring to this new performance metric as the 'Morningstar Investor Return,' and it directly measures the price investors have paid for failing to be patient and disciplined. A fund's Morningstar Investor Return is what statisticians refer to as a dollar-weighted return...."

What is the difference? The dollar-weighted return is closer to what the average investor actually earned than what the fund earned over time. So if a fund is up in one year and attracts much new money, then is down the next year, the simple average will overstate the return investors actually earned (i.e. the dollar-weighted average will be lower than the time average).

The article has a great example to understand the difference between this and what is largely reported. It also makes a strong point against "chasing returns".

Yale's Money Guru Shares Wisdom with Masses

This one is really good! It is an NPR piece on David Swensen who manages Yale's Endowment fund. While Swenson has done remarkably well, his basic strategy is easily replicated and fits very well with the idea of market efficiency and diversification taught in almost every finance class, although not as well as Swenson does it!

NPR : Yale's Money Guru Shares Wisdom with Masses:

On his relative success:

" Yale University recently announced a 23 percent return on its investments, swelling its endowment to a whopping $18 billion. The man behind that investment success is David Swensen, one of the most gifted investors in the world. He's made an average 16 percent annual return over 21 years..."

On market efficiency:

"He says for-profit mutual funds have an inherent conflict of interest. They make money by charging fees that suck profits away from investors in the funds. In fact, over time -- when you factor in the fees, taxes and other costs -- he says your odds of beating the market in an actively managed fund are less than one in 100."

On diversification:

"Swensen teaches a course at Yale in which he airs his unorthodox view of the basics of a well-diversified portfolio. He argues that, by owning not only stocks and bonds but also holdings in real estate, timber, oil and gas, and other investments, you can get strong returns with less overall risk."

Interesting piece with good advice that has the added benefit of audio as well!

A cool way to protect property rights

Ok, this might not strictly speaking be finance, but property rights are always an interesting topic that has financial ramifications (we usually cover them in International finance classes) and htis is just so cool that I had to share it.

It deals with how YouTube is satisfying the Music companies.

YouTube’s Video Poker - New York Times:

"Potentially most significant, Mr. Hurley pointed to a deal signed recently with Warner Music that he hopes will be a model for dealing with Hollywood and record companies from now on. YouTube is developing technology that will identify Warner music used in a video that is uploaded. When the site plays those videos, it will share some of its advertising revenue with Warner and others with copyrighted material that is used."

That is really cool! The copyrighted material is at once both protected and allowed to be used. A win win!

Of course, many do not think it goes far enough (and indeed it may not), but the use of technology to share ad revenue is a step in the right direction and bears more attention.

FRB: Speech, Bernanke--The Coming Demographic Transition: Will We Treat Future Generations Fairly?--October 4, 2006

More on the changes that may be brought about by the retiring of the baby boom generation. This is from Fed Chairman Ben Bernanke.


FRB: Speech, Bernanke--The Coming Demographic Transition: Will We Treat Future Generations Fairly?--October 4, 2006:

Short version: increase savings to increase productivity. And rely on FinanceProfessors to save the day ;) Ok, so maybe that was added.

Some highlights:

"In coming decades, many forces will shape our economy and our society, but in all likelihood no single factor will have as pervasive an effect as the aging of our population."

"The fiscal consequences of these trends are large and unavoidable. As the population ages, the nation will have to choose among higher taxes, less non-entitlement spending, a reduction in outlays for entitlement programs, a sharply higher budget deficit, or some combination thereof."

* Because there will be fewer workers, it is widely expected that Real GDP will decline. Bernanke suggest this problem can be lessened with higher investment now:

"Although some adverse effect of population aging on future per capita output and consumption is probably inevitable, actions that we take today....have the potential to mitigate those effects. One such action would be to find ways to increase our national saving rate. If the extra savings were used to increase the nation's capital stock--the quantity of plant and equipment available for use by workers--then future workers would be more productive, ameliorating the anticipated effects on per capita output and consumption."

This could be done by lowering deficits:

"If, as a nation, we were to accept the premise that the baby-boom generation should share at least some of the burden of population aging, what policy steps might be implied? As I have already noted, from a broad economic perspective, the most useful actions are likely to be those that promote national saving. Perhaps the most straightforward way to raise national saving--although not a politically easy one--is to reduce the government's current and projected budget deficits. "

* This would almost assuredly involve reducing entitlement programs:

"Reform of our unsustainable entitlement programs should also be a priority. "

* And convincing consumers to save more now:

"Increasing private saving, which is the saving of both the corporate sector and the household sector, is likewise desirable.... Unfortunately, many years of concentrated attention on this issue by policymakers and economists have failed to uncover a silver bullet for increasing household saving. One promising area that deserves more attention is financial education.... which may be useful in helping people understand the importance of saving and to learn about alternative saving vehicles. "

See I told you that FinanceProfessors would come to the rescue!!!!

Save early, save often! Pass it on.

Will stocks go Boom?

Canada's National Post gives us all something to worry about it its series on the impact of an aging labor force. In the second part of the series, the paper examines whether as baby boomers retire if they will drive down stock prices.

Will stocks go Boom?:

"In the United States, for example, the ratio of workers to retirees is expected to fall to just 2.6 in 30 years, from 4.9 today. In Japan, the ratio of retirees to active workers is expected to fall even further, to one to one by about 2050.

In other words, the number of potential stock buyers will soon begin a steep decline....No less an authority than Jeremy Siegel, the famous Wharton finance professor and author of Stocks For The Long Run, has sounded the alarm, calling the ageing population the most critical issue facing the developed world."

What about the impact on finance? Not only will the changing workforce impact pension funds, social security, and health care costs, but it will likely drive down the stock market as the boomers end saving and begin to draw down their portfolios.

Now before you panic, the coming tidal wave of retirees in the developed world may be offset by other factors (notably foreign investment as more lesser developed countries develop and formerly impoverished people become investors) but it is something to consider and "gameplan".

Most likely outcome? As baby boomers age they will shift money out of stocks and this will be a factor that keeps returns lower than their historical averages. Which means we should all lower our projected returns. This unfortunately means we will have to save more for a comfortable retirement be it personally, in corporate pension funds, or in government sponsored "social security" accounts.

And if this analysis is wrong and the market continues to earn higher than historical norms? We will have set aside more than needed and you will have more money in your portfolio than expected, which is not the worst thing in the world!

Some past articles on this topic:
Will bomers drive down markets? (October 2004)

Porterba on impact of Boomers (November 2004)

USATODAY.com - Easy credit can mean long-term hardship for college students

I am torn on this one. On one hand it is inarguable that many people (including no doubt a higher percentage of college students) do get into financial difficulty stemming from excessive use of credit cards. However, the ban on marketing of the credit cards on campus does seem a tad much. Credit cards do have their upsides as well: they help build credit and lower transaction costs.

On the other hand, many 18 year olds are not ready for credit cards and do succumb to overspending.
From USATODAY.com :

Easy credit can mean long-term hardship for college students: "College students tend to have less financial experience than older adults, making them more susceptible to these pitches....Nearly a dozen states, including New York and California, have made it harder for card companies to market on public campuses. And a growing number of colleges, on their own, have begun to impose restrictions."

Of course the credit card companies do not want to lose this market.

So what to do? If you are a college student who is mature enough to use (and not misuse) a credit card, I would recommend highly getting one to build credit and for ease of use. However, get one with no fee and pay off the bill completely every month. If you find this progressively more difficult to do, stop using it until it is paid off.

Financial Rounds: Who are My Picks For the Nobel Prize in Economics

It's that time of year again: time to bet on who will be the next Nobel Prize winner in Economics. The Unknown professor over at Financial Rounds does a good job with his two picks.

Who are My Picks For the Nobel Prize in Economics:

"....speculation seems to be heating up for who will get the next Nobel Prize in economics. I'll cast my vote for Eugene Fama of the University of Chicago for his earlier work on market efficiency (and later work on size and market-book effects which seem to contradict his earlier work). If he gets the nod, there's a good chance that his coauthor Kenneth French would share it with him.

A second choice would be The U of Chicago's Richard Thaler"

I would add Michael Jensen although I would say he is more of a long-shot. In reality, and economics (as opposed to finance) person more regulalry wins it. Stay tuned.

BTW does anyone know if there is still a decision market for this prize? I did not see one at Tradesports.com does not have one and the Nobelpreisborse seems to be out of business .

But I do see at Tradesports that the Buffalo Bills are the biggest up mover on the over/under wins market. (yeah, I know it is only 6.5 wins, but still, they are up and playing well, so I will take it!)

Amaranth update

Interesting. Things could have been worse.

Bloomberg.com: U.S.: "The New York Mercantile Exchange told Amaranth Advisors LLC that the hedge fund's natural gas bets were too big a month before the trades led to a $6 billion loss, said two people with knowledge of the meeting.

Amaranth unwound some of its natural gas positions after the warnings, according to the people, who asked not to be named because the communications were confidential."

Also from the same Bloomberg story:
First the predictable politcal intervention:

"Members of Congress .... want greater authority for the Commodity Futures Trading Commission to monitor energy trading, especially on the all-electronic Intercontinental Exchange Inc.

And then an update on Brian Hunter the Amaranth trader responsible fo "the biggest-ever hedge fund loss" ....is "no longer works at Amaranth, the Financial Times reported earlier today, citing unidentified people close to the matter.""

Time to throw a penalty flag

First, the good part: Tuesday Morning QB does a great job of laying out the issue and demonstating one problem with boards setting pay .

From last week's TMQ which appeared on ESPN.com: Page 2 : The five-month NFL forecast:

"Much news and sports commentary focuses on the ever-larger paychecks of professional athletes. But even Peyton Manning is a day laborer compared to the modern Fortune 500 CEO....Over his last five years at the helm, he got $162 million, even as Pfizer earnings faltered. Carol Hymowitz of the Wall Street Journal reported that the head of Pfizer's "compensation committee" defended McKinnell's windfall on grounds of market forces in executive pay -- which in this context appears to mean, "CEOs at other companies are picking shareholders' pockets, too."....McKinnell's pay for his tenure atop Pfizer equates to $130,000 per work day."

and slightly later:

"...consider that executive income usually is rubber-stamped by boards of directors whose members may be engaged in self-dealings with the firm, or who have a self-interest in rising CEO pay. As Julie Creswell noted in the New York Times, "Five of the six active Home Depot board members are current or former chief executives of public corporations … CEOs benefit from one another's pay increases, because compensation packages are often based on surveys detailing what their peers are making....The board members know the more they inflate CEO pay, the more they themselves will be able to pilfer from their own shareholders"

Ignoring the use of the word 'pilfer', this is a well-presented valid point. However, Easterbrook's next point deserves a yellow penalty flag and further review:

"Recently the Business Roundtable released a study purporting to show that CEO pay rose 9.6 percent annually from 1995-2005, while stockholder returns rose 9.9 percent in the same period. So things aren't so bad, eh? The Business Roundtable said the study 'sets the record straight.' The Business Roundtable is, by its own description, 'an association of chief executive officers of leading U.S. companies.' As Gretchen Morgenson, dean of Wall Street journalists, laid it out in the New York Times, the study systematically understated the income of CEOs... 'The study counts only the value of the options and restricted stock received by executives on the dates the awards were made.'"

Uh, wait, isn't that what we should be doing?

True, we should take into account the non normality of the stock distribution (induced both by rewriting underwater options and by the now famous back dating of options) which causes the Black-Scholes formula to understate the true value of the grant, BUT the value at grant is what we should consider. We can debate whether the Black-Scholes formula is correct or not, but theoretically the value at grant (again presuming a fair grant) is what matters.

Moreover, while it is true that the Business Roundtable is made up of CEOs, that should not be grounds for dismissal. The actual study does have several valid, and overlooked points. Notably that medians should be used, that the media "sometimes summarizes the pay practices for all CEOs from only the very largest companies", and the seemingly inarguable point that "pay statistics should be referenced accurately and applied responsibly".

Like other things, I will take the bad with the good. Overall
Tuesday Morning QB is still my favorite sports article. Its author is Gregg Easterbrook who is a former Buffalo School teacher and who wrote the Progress Paradox, does a great job weaving many topics together in a funny, witty manner. That said, I guess I can no longer count TMQ as "finance reading". LOL.

Continuing the inflation theme

Continuing the inflation theme:

While inflation can obviously lead to many problems, there is an important bias that must be considered (especially when you think of inflation measured by government statisticians.) As the NY Times so aptly points out, this problem can be illustrated with the humble snow-blower.

Life Is Better; It Isn't Better. Which Is It? - New York Times:

"...the benefits of the snow blower, namely more free time and less health risk, are largely missing from the government'’s attempts to determine Americans'’ economic well-being. The same goes for dozens of other inventions, be they air-conditioners, cellphones or medical devices...."

Why? In part because new inventions, or improvements of existing items, can take years to show up in official indicies.

Again from the NY Times:

"The cellphone and the air-conditioner also improved middle-class life, and also took years to get into the inflation numbers, by which point their prices had plummeted. Wal-Mart’s effect on prices is another blind spot in the index, which considers something sold at a discount to be lower quality (and, therefore, not truly a bargain) than something sold at full price...."

The result? Official inflation numbers are overstated. Not only does it enter our mental math on whether we are better off or not than past generations (we are contrary to what some will tell you), it has become a campaign issue, and can have major implications to cost of living adjustments (COLAs).

Best advice, realize CPI and other government inflation indicies overstate the actual inflation rate.

BTW be sure to look at the NY Times Graphic that shows how large of impact the inflation bias can have on "real" income.

And you think the Fed has it tough?

Post WW I Germany often is the example of hyperinflation used in Money and Banking texts, but for a more timely example you may want to consider Zimbabwe.

BBC NEWS | Business | Zimbabwe's inflation tops 1,200%:

"Zimbabwe's annual inflation rate continues its upward surge, reaching a record high of 1,204.6% in August, and adding greater strain to the economy."

Why is hyperinflation such a problem? Ignoring the impact it has on debt holders (they would get paid back with money that is next to worthless), try to imagine how inflation like that would affect your own behavior.

No longer would you hold any cash, you would want to spend any check immediately, you would want to be paid on a daily basis, etc. You forgo money and the economy falls back in to a barter system. All of this is inefficient and takes a toll on the economy.

More importantly, those who had saved money (especially in fixed income investments), will see their savings evaporate. This creates a sense of panic and increased risk premiums.

As people take their money out of banks, that source of capital disappears. This too hurts the economy and often leads to further government borrowing (which gives the central bank the incentive to monetize the debt).

Further, the sense of uncertainty and decline in value of the currency leads to hoarding of supplies (and accompanying shortages).

Which is a long winded way of saying that hyper-inflation is not merely "moving the decimal place" but that it does have serious economic repercussions.

The sleuth who exposed backdating scandal

I always like to see finance professors in the news!

Philadelphia Inquirer | 09/21/2006 | Sleuth who exposed backdating scandal:

A few "look-ins":

"From his second-floor office at Iowa's Tippie College of Business, [Erik] Lie spent months analyzing data to demonstrate how companies were illegally and retroactively timing, or backdating, stock option grants to fatten bonuses paid to top executives.

"He's uncovered a scandal that has just mushroomed," said Adam C. Pritchard, a former attorney at the Securities and Exchange Commission and now a law professor at the University of Michigan.

and later in the article:

"'The Enron stuff is very sexy, but that type of fraud was not pervasive,' said Andrew Metrick, a professor of finance and corporate governance at the Wharton School in Philadelphia. 'This is widespread, pervasive. I think when this is all said and done, the total amount of dollars that we'll find have been stolen from the corporate till is larger here than any other case we've seen.'"

Read the entire article here.

Basketball superstar meets superstar investor

I'd guess it was a pretty big tip for the waitress!

LeBron shoots the breeze with Letterman, Buffett - NBA - Yahoo! Sports:

"A few days earlier, James had lunch in Omaha, Neb., with billionaire Warren Buffett. ...James, who signed a three-year, $60 million contract extension with the Cavaliers in July, may have been seeking some off-the-court business advice from Buffett, the self-made billionaire investor.

Last year, in an interview with The Associated Press, James said one of his primary goals was to 'be the richest man in the world.' James, who will turn 22 in December, already has endorsement deals worth an estimated $150 million.

Buffett sported a full Cavaliers uniform, complete with a jersey bearing his name, during his lunch with James....James ordered a bacon cheeseburger, french fries and an Arnold Palmer, a drink concocted of lemonade and iced tea. Bubarek said he topped off his meal with an Oreo cookie milkshake delivered by a Buffett staffer."

HP Spy Scandal Hits New Weirdness Level: Financial News - Yahoo! Finance

This just keeps getting more bizzarre! Like I said two weeks ago, I want movie rights!

HP Spy Scandal Hits New Weirdness Level: Financial News - Yahoo! Finance:

"Not only did investigators impersonate board members, employees and journalists to obtain their phone records, but according to multiple reports, they also surveilled an HP director and a reporter for CNet Networks Inc....

They even snooped on the phone records of former CEO and Chairwoman Carly Fiorina....

And in a twist that might seem preposterous if it happened in a movie, The New York Times reported that HP consultants considered hiring spies to pose as clerical or custodial workers at CNet and The Wall Street Journal"

Breaking Down Silos at Yale

While curriculum discussions generally bore me, this one is the exception for the size of the changes and the potential ramifications. Yale's business school has done a major facelift to its offerings. Some look-ins thanks to Business Week:

Breaking Down Silos at Yale:

"...not just at Yale, but at any of the curricula that you would look at any of the major business schools, they were broken down by functional silos: a course in marketing, a course in accounting, a course in organizational behavior. But if you talk to any leader of a major corporation, they will tell you that the real value to be added is in working across those silos, and the disciplinary delivery got in the way of educating students in a way that could maximize their ability to add value to the organizations of which they are a part."

and also:

"We now offer a course on the customer rather than a course in marketing, a course on the investor rather than a course in finance. All of them are multidisciplinary in both their design and their delivery. And then we have a course called the integrated leadership perspective at the end which sort of brings together all the different perspectives."

While I am not taking any position on the new design, I will say that even in a traditional finance class it is important to understand the other functional areas. Indeed, every class I teach starts with that discussion AND it is yet another reason why no matter what your major is, there really are no "blow off" classes. You just never know when the material from a class is going to be valuable later in life.

Deja vu all over again? Hedge Fund Shifts to Salvage Mode - New York Times

As Yogi Berra would say "Deja vu all over again." Amaranth's troubles may be more serious than previously thought. Indeed, they have the potential of being the next Long Term Capital Management.

Hedge Fund Shifts to Salvage Mode - New York Times:

"Last night, as it had been since the weekend, Amaranth was locked in negotiations...in an effort to sell its energy portfolio to try to keep the fund company afloat.

At the same time, it was working with commodity exchange officials to reassign trades to try to minimize disruptions to the market.

The fund’s investors, locked into their holdings by Amaranth’s stringent liquidation terms, awaited further word on the status of the fund’s holdings, while regulators and traders watched for signs that the hedge fund’s losses might disrupt markets beyond those relating to energy"

Sound familiar? Hedge fund does well, then bets go bad, and suddenly the fund (and possibly market) is in trouble. Sure sounds like we've seen this one before.

Another similarity? Among the reported causes is the fact that it looks like El Nino is returning which keeps temperatures lower and hence leads to less demand. Once again, something that many people would have left out of their models.

FRB: Testimony, Braunstein--Non-traditional mortgage products--September 20, 2006

Sandra Braunstein is the Fed's Director of Consumer and Community Affairs. She spoke before a Senate Subcommittee today. The comments largely focued on the truth in lending law, but also discussed various "non traditional morgtage instruments and the Fed's efforts to assure that borrowers know what they are getting into.

FRB: Testimony, Braunstein--Non-traditional mortgage products--September 20, 2006:

"Nontraditional mortgage products have increased the range of financing options available to consumers and have grown in popularity over the past few years. With traditional thirty-year fixed-rate loans, consumers have equal monthly payments that are sufficient to cover the accrued interest and pay down the principal. In contrast, interest-only loans allow consumers to defer the payment of principal and make only interest payments for an initial period. Option-ARMs allow consumers to make 'minimum payments' of less than the accrued interest, which causes the loan balance to increase ('negative amortization').

Some consumers may benefit from these products and the more flexible payment options, for example, consumers with seasonal or irregular income. For consumers who expect their incomes to increase, the initially lower monthly payment with these loans may enable them to purchase homes that they otherwise might not be able to afford. But these loan products are not appropriate for everyone, depending on their individual circumstances. When monthly payments increase, sometimes substantially, consumers may face 'payment shock.' Thus, it is important for consumers to have the information necessary to understand the features and risks associated with these types of mortgages...."

Later:

"The Federal Reserve plays several roles and engages in various activities to ensure that consumers understand credit terms and the options available to them when they are shopping for mortgage credit."

She concludes:

"The Federal Reserve is actively engaged in efforts to ensure that consumers understand the terms and features of nontraditional mortgage products. Improving federally required disclosures under TILA is one aspect of this endeavor. We are also pursuing other opportunities, such as consumer education publications and interagency regulatory guidance that will include recommended best practices for depository institutions. We expect the Board will continue these efforts over time as mortgage products evolve in response to consumers' changing needs."

Teaching note: this would be a great fit for an institutions, money and banking, or commerical banking class. Or even a real estate class.

Hedge Funds Flirt With Heresy: Going Public - New York Times

Going public allows a firm access to more funding. However, this funding comes at the cost of required SEC filings aimed at reducing transparency and secrecy.

Hedge funds are famous for their desire for secrecy which makes the fact that Fortress Investment Group was considering an IPO al the more interesting. It must be that the desire to access capital trumps the desire for secrecy.

From the NY Times:

Hedge Funds Flirt With Heresy: Going Public - New York Times:

"Hedge funds...— are known for their secrecy....being private and secretive also enables them to develop investment strategies and manage their business, big fees included, without [outsiders]...criticizing their outsize pay. So it is not without some irony that a hedge fund named the Fortress Investment Group may be the first to tear down those walls of secrecy. Fortress is considering an initial public offering this fall in a deal that could value the company from $5 billion to $7 billion...."

An interesting research question that arises from this if in fact the IPO occurs is who will buy these shares. I would not be surprised if, like closed end funds, these are held largely by individuals. In fact, in this case likely owners would be small investors who are forbidden from investing in hedge funds themselves.

Ironically the news comes on the same day that the transparency issue was also in the news as volatile energy markets create huge losses at some hedge funds rasing the possibility of a fund going being unable to meet its obligations. From the BBC:

"Amaranth Advisors, said it was now "aggressively reducing" its exposure to natural gas to protect its investors...US natural gas prices, called futures, have slipped 40% since August. They had risen sharply after hurricanes disrupted supplies last year....Amaranth made around $1bn on the surging energy prices last year but lost more than $3bn in the recent downturn, the New York Times reported.

"Last week Amaranth multi-strategy funds experienced significant losses in their energy-related investments following a dramatic move in natural gas prices," the fund said in a letter to investors that has been seen by the Reuters news agency."

SSRN-102 Errors in Company Valuations (102 Errores en Valoraciones de Empresas) by Pablo Fernández

Want to practice your Spanish while studying Finance as well? This paper provides you the opportunity! It examines common mistakes that we tend to make in valuation.

I won't try to translate it for you (I actually suprised myself as I could read most of it!) but fortunately the abstract is in English.

SSRN-102 Errors in Company Valuations (102 Errores en Valoraciones de Empresas) by Pablo Fernández:

"This paper contains a collection and classification of 96 errors seen in company valuations performed by financial analysts, investment banks and financial consultants. The author had access to most of the valuations referred to in this paper in his capacity as a consultant in company acquisitions, sales, mergers, and arbitrage processes.

We classify the errors in six main categories: 1) Errors in the discount rate calculation and concerning the riskiness of the company; 2) Errors when calculating or forecasting the expected cash flows; 3) Errors in the calculation of the residual value; 4) Inconsistencies and conceptual errors; 5) Errors when interpreting the valuation; and 6) Organizational errors"

Guardian Unlimited Technology | Technology | Google to appeal, as court rules news site is illegal

Copyright protections are always a touchy topic. On one hand the creators of the information deserve to rewarded for their work. On the other hand, too strict of protections limits sharing and reduces the impact.

This is playing out with Google now.

Guardian Unlimited Technology | Technology | Google to appeal, as court rules news site is illegal:

"The case was brought by Copiepress, an organisation that manages copyright for the French and German-speaking Belgian press, including La Derniére Heure, La Libre Belgique and Le Soir.

In its judgment...the court said Google would be liable for a fine of €1m (£675,000) for every day it did not remove the offending content from the recently-launched Belgian site....

While many media groups have welcomed Google News as a means of boosting traffic, others believe they are benefiting the Google brand and boosting its user figures without any recompense.

Last year Agence France-Presse (AFP) sued Google in France over a similar dispute, claiming that it had removed photo credits and copyright notices. Google subsequently removed all of the agency's con"

While the potential damage is quite small now, currently the case is isolated to a few sources from Beligium, but could set a precident that would change the way articles, papers, and pictures are shared.

A look at the AMEX

The american Stock Exchange came up in class last week. Thus this article from Fortune, via NY Times is pretty relevant for my classes!

"...the Amex has shrunk to 427 domestic companies, 9 percent of all listed U.S. stocks. Its $565 billion in total market cap disappears in the shadows of the N.Y.S.E. ($22.6 trillion) and the Nasdaq ($3.8 trillion). An average day’s worth of trading on the Amex — 90 million shares — can be handled in half an hour at its bigger and more technically savvy rivals. It costs only $211,000 to buy a seat on the exchange, a 65 percent plunge since 2001.

Which is about what we saw last year when the finance club toured the AMEX.