Enron chief accountant expected to plead guilty - report - Forbes.com

Well you knew someone would talk (first mover advantage--LOL)..

From Forbes:

Enron chief accountant expected to plead guilty - report - Forbes.com: "he former chief accountant at Enron Corp is expected to plead guilty to one or more criminal charges related to the collapse of the energy company, the Wall Street Journal reported.

In its online edition, the newspaper cited sources familiar with the situation as saying attorneys for accountant Richard Causey have spoken to prosecutors in recent days about a plea agreement.

A plea agreement could have a major impact on the cases against his co-defendants, former chairman Kenneth Lay and former president Jeffrey Skilling.

The three men face fraud, conspiracy and other charges in relation to the alleged financial and accounting practices at the company. "

Text book prices too high? Hope is either here or coming soon!

Just had another of those "The World is Flat" moments.

I started working on my syllabi for the spring semester today and while cleaning off my desk I found an advertisement for FreeLoadPress. Have you heard of them? It is a very cool idea. I have not used their books, but am very tempted.

The basic idea is that they offer text books for free or next to free in return for sponsorship. For instance, a quick look shows that the online version of the text books are free and a printed copies costs less than $30. Sure the text does not have all the bells and whistles, but at first glance, it looks to have all of the important topics.

Has anyone used it? Any suggestions would be greatly appreciated.

This got me thinking "are there any open source finance textbooks?" So far, the answer appears to be "not yet" but they are coming.

USATODAY.com - More funds lower fees after scandal in 2003

YEAH!!! Fees and expenses eat away large portions of your "nest egg" over the long haul, so every cut is a good thing!

USATODAY.com - More funds lower fees after scandal in 2003: "Fund-tracker Lipper says 2,830 funds reduced their management fees in 2004, compared with 622 that did so in 2003.

Those fee reductions were not one-time cuts but contractual agreements with the funds' investment advisers, which manage the funds' assets.

The median stock fund charged investors 1.45% of assets for expenses in 2004, Lipper says, down from 1.50% in 2003"

USATODAY.com - Pension funds pin target on CEO pay

USATODAY.com - Pension funds pin target on CEO pay:

"Runaway CEO pay, a longtime pet peeve of shareholder activists and corporate governance experts, is about to take center stage in Washington, D.C.

At least that's the hope of 10 pension funds from the USA, Canada and Europe. In a confidential letter sent to the Securities and Exchange Commission on Nov. 30, representatives of the funds, which together manage almost $1 trillion, urged the SEC to look more closely at the pay for performance among top executives"

Interesting factoid:

"At 60 of the worst-performing companies in that group, which lost $769 billion in market value over the past five years, the aggregate pay for the top five executives of those 60 companies over the same period was $12 billion."

Which even after adjusting for risk seems a tad inconsistent with pay for performance.

What's the Return on Education? - New York Times

Want to include education in the "market portfolio"? It is not as easy as you would hope!

What's the Return on Education? - New York Times: "Economists have tried for decades to quantify the impact of education. They still don't have all the answers, but their work can shed some light on what Americans are getting for their investment."

Thought provoking article!

Taking a View: Corporate Speculation, Governance and Compensation by Christopher Geczy, Bernadette Minton, Catherine Schrand

SSRN-Taking a View: Corporate Speculation, Governance and Compensation

You know the standard class spiel:

"... identify your core business exposure, then find ways to hedge it by taking a derivatives position that moves in the opposite direction. In this way derivatives are not bets on market movements, but as an insurance policy against things outside the firm's control (i.e. macro risk factors."

The problem is that firms regularly ignore this advice and speculate by making bets as to which way the asset price will move beleiving that they have an ability to "beat the market".

Geczy, Minton, and Schrand examine this "market view" of derivative use and find that it can be tied to the poor governance and option based executive pay. Moreover, they report that current accounting standards do not allow outsiders to correctly judge how derivatives are being used.

A few "look-ins"

* "Taken together, these characteristics of speculators are consistent with the following scenario. Firms are motivated to use derivative instruments to hedge. Once the fixed costs of a derivatives operation are in place, however, some firms extend their derivatives program to include speculation. The firms that start speculating have (or believe they have) a comparative information advantage relative to the market such that they view speculation as a positive NPV activity."

* "The firm characteristics that measure incentives to increase convexity, however, are significantly associated with other proxies for potential risk-seeking activities of the sample firms –lower diversification and higher stock return volatility. Thus, while the sample firms that we identify as risk-seekers engage in other risk-seeking activities, they do not seem to consider actively taking positions in derivatives based on a market view as similarly risk-seeking."

* "Greater managerial power measured by the Gompers, Ishii, and Metrick (GIM, 2003) governance index is positively associated with frequent speculation. These results are particularly strong for firms that rely less on the market for corporate control as an ex post monitoring mechanism to prevent excessive risk-taking."

HOWEVER, these firms do not give managers' totally free reign:

"The speculating firms, however, have more frequent and scheduled reports of their activities to the Board of Directors, more sophisticated methods of and more frequent valuation, and stated policies that limit counterparty risk"

* "we show that market participants could not have discerned the activities of the frequent speculators from publicly available documents (e.g., 10-K filings). This result is not necessarily evidence of accounting fraud because speculation, as we have defined it, may not meet the requirements for reporting under generally accepted accounting principles (GAAP). Nonetheless, irrespective of whether we do not observe disclosure because the accounting rules do not require it or because firms are not implementing the rules properly, the end result is that the financial statements do not provide an accurate picture of the firm’s speculative activities."

Caveat: As the authors readily acknowledge, this is based on survey data, but the data has been used before AND the questions appear innocuous in the sense they do not readily "lead" the response. Morever, given the finding that accounting numbers are insufficient to find the usage, survey data may be all there is.

Wharton's Knowledge has a great summary of the article with interviews! "One quote from this article:

"Executives in charge of derivatives speculation tend to feel they have some unique insight into currency and interest-rate markets, even though their firm's main business may be entirely different, Geczy says. "They really believe they can make money. They feel like they can identify opportunities and/or trade with the advantage of low costs of leverage."

VERY Cool article! It will definitely be used in class!


Cites:

The Role of Derivatvs in Corporate Finances: Are Firms Betting the Ranch?

Geczy, Christopher Charles, Minton, Bernadette A. and Schrand, Catherine M., "Taking a View: Corporate Speculation, Governance and Compensation" (November 2005). http://ssrn.com/abstract=633081

Dilbert Comic Strip Archive - Dilbert.com - The Official Dilbert Website by Scott Adams - Dilbert, Dogbert and Coworkers!

Yesterday's Dilbert comic strip acknowledges the importance of incentives and brings up the question of whether we should rewrite underwater options.

Which just happens to be a topic we will be covering this Friday in class.

The Bonds That Fight the Monster Called Inflation - New York Times

Another interesting article NY Times article that is useful for introductory investment (or money and banking) classes.

The Bonds That Fight the Monster Called Inflation - New York Times:

"The I Bonds offer a two-part interest-rate mechanism. The first is a fixed rate for the life of the bond. That rate is now 1 percent, applying to all I Bonds issued in the six months that started Nov. 1. The second rate is linked to the Consumer Price Index for urban consumers. This rate is reset twice a year - on Nov. 1 and May 1 - according to changes in the C.P.I.-U. It is this feature that has made the I Bond especially attractive to many fixed-income investors....On Nov. 1, the Treasury Department increased the variable I Bond rate to 5.70 percent - based on the climb in the inflation index from March to September - giving it a total annualized earnings rate of 6.73 percent.

"....And the rate looks even better when you consider that many observers...think that the C.P.I. overstates the real level of inflation in the economy."

Giving Yourself a Tax Cut on Investments - New York Times

The NY Times has several good tips on lowering tax bite on your investments.

Giving Yourself a Tax Cut on Investments - New York Times: For instance:

"Every year in late November or December, mutual funds distribute to their shareholders the gains they realized by selling stocks that year."

and

"So-called tax-efficient funds, which manage money with taxes in mind, are also considered a relatively safe bet. But be sure to hold these investments outside a tax-advantaged account because they are already tax-efficient."

USATODAY.com - 'Consensus estimate' may be from one analyst

USA Today ran an interesting look at analyst coverage. Many stocks have a surprisingly small analyst following.

USATODAY.com - 'Consensus estimate' may be from one analyst: "Currently, more than half the 8,416 public companies have no analyst coverage, says Ashwani Kaul, chief spokesman for Reuters Estimates. An additional 7% of publicly traded companies are covered by just one analyst.

Most of the single-covered stocks are small, with an average market value of $284 million, Kaul says. But the ranks still include some well-known companies such as 1-800-Contacts, A.T. Cross and Rocky Mountain Chocolate Factory."

As analysts play roles in reducing information asymmetries and even in control agency costs, the relative scarcity of analysts brings up interesting questions: how do returns vary with coverage? How about agency costs?

Wow has it been a while

I don't know whether to beg forgiveness or put up a white flag. It has so long. This semester has been very hard: much traveling, classes every day, plus helping to plan a large trip to the Gulf for the spring. But the semester is winding down, tonight's hotel has wireless internet, and I have had more than my share of planning for now, so I will turn my attention to finance. :)

Hands On USA : Thanksgiving video

Oops, this was supposed to go on My Randomtopics2 blog, sorry!!!

A Thanksgiving video is up. VERY good!!!

So many familiar faces!

But since I have you attention, why not consider coming down with us when we go back? Check out our plans here. It will be a GREAT trip!

Most corporate fraud found by luck: study - Yahoo! News

Most corporate fraud found by luck: study - Yahoo! News: "Despite tough regulations aimed at improving corporate governance, financial fraud is still on the rise around the world, and most is still detected by chance, a study from auditing firm PriceWaterhouseCoopers (PWC) showed on Tuesday"

"For the roughly one-third which said they could quantify the cost of the fraud, the total losses exceeded $2 billion, or an average of $1.7 million per company.

"Economic crime remains difficult to detect, despite everybody's best efforts to invest in internal controls," said Steven Skalak, Global Investigations Leader at PWC.

The survey showed that the most common methods of finding out about financial fraud were still accidental, like calls to hotlines or tips from whistle-blower employees."


Why am I not surprised? Because if people want to hide their dishonesty, it is often easy to do. In class I occassionally use the Adelphia case where I hand out the footnotes that let to the Rigas' downfall.

Knowing that there was a problem, most people (myself included)could not tell for sure which footnote was the "smoking gun."

Is Stock Picking Declining Around the World? by Utpal Bhattacharya, Neal Galpin

SSRN-Is Stock Picking Declining Around the World? by Utpal Bhattacharya, Neal Galpin:

Short version: Bhattacharya and Galpin examine the relative use of indexing vs. stock picking in various equity markets around the world. They find that indexing is increasing pretty much everywhere but especially in more developed markets. They also estimate that the "long run steady state" fraction of stock picking in US markets is 11% (it is now 24% down from 60% in the 1960s."

Longer version:
Bhattacharya and Galpin use an innovative method to measure the degree to which stock picking is used in an equity market. Based on this model, they then compare the relative percentage of stock picking (vs. Indexing) both using a cross sectional analysis as well as time series analysis.

The key idea behind the paper model is that if everyone indexes, then volume should be proportional to size of firm. In their words:

"The idea behind this measure is inspired by a theoretical insight in Lo and Wang (2000). They proved that, if the two-fund separation theorem holds, dollar turnover of a stock, which is defined as the dollar volume of shares traded divided by the dollar market capitalization of the stock, should be identical for all stocks.

An empirical implication of the above theoretical insight is that if every person in the world indexes between a risk-free portfolio and the market portfolio (or a value-weighted portfolio that is a proxy for the market portfolio), trading volume in stock i should be explained completely by the market capitalization of stock i."

Given this, the authors the essentially regress actual volume on capitalization (more technically they run the

"regression of log monthly stock volume (measured by number of shares traded in that month for stock i in a country) against the log of monthly shares outstanding (measured by number of shares outstanding in the beginning of the month for stock i). We run this regression for 43 countries, of which 21 are classified as developed markets and 22 are classified as emerging markets."

Most of the analysis begins in 1995, but for US stocks they go back into the early 1960s to yield valuable insights as to how markets have changed.

Findings:

* "The first big result.... is that there is more stock picking in emerging markets than in developed markets." This is shown in figure 1 and table 1.

* "The second big result that Figure 1(a) illustrates is that, on an average, stock picking is declining around the world. The declines in stock picking are quite dramatic, especially in the emerging markets."

In their examination of US stocks, they find that there has been a dramatic decrease in stock picking:

"In the United States, the maximum fraction of volume explained by stock picking has secularly declined from a high of 60% in the 1960s to a low of 24% in the 2000s"

Additionally, stock picking is relatively more popular where theory would predict--
namely where information asymmetries are highest. Thus stock picking is more common in young firms, in industries where there is lower asymmetries, and (only somewhat surprisingly) where there are fewer analysts.


VERY cool!! I^3. Indeed their finding that stock picking is negatively related to analyst coverage is worth the price of admission!


Cite:

Bhattacharya , Utpal and Galpin, Neal E., "Is Stock Picking Declining Around the World?" (November 2005). http://ssrn.com/abstract=849627

By the way, Neal is a SBU grad, so I could be a tad biased ;) I tried not to be, but you can be the judge.

Class Classification: Investments