Occupy Wall Street, Hannah?

Hannah is one special person in my life who inspired this blog by asking "Occupy Wall Street:  your thoughts, Steve?" Well, that was enough to get this old geyser to blow some steam.

Having experienced first hand the ways of Wall Street exposed me to the unprecedented greed and relentless pursuit of financial gain, where ethics and morality remained a blurred consideration. Back in the  the mid-nineties I witnessed the power of that greed manifest itself in ways beyond my comprehension.

My assignment was within a publicly held company reporting directly to the CEO. We were a Wall Street darling growing exponentially with a young, aggressive, Wall Street savvy CEO who convinced the Street (investment banking community), that our model was kickass and something to sell to their clients.  Business to business ( B to B ) internet related companies were the buzz word and the investment bankers were hammering for start-ups to take  public.   It didn't make any difference if the start-up had revenue or profits as long as it could be labeled B to B.  The new company's initial public offering was slated to raise 100 million dollars for a company that had no revenue.  The prospectus, which is the document describing  the chief features of a new business, favored the parent company and our CEO who was to become its CEO also.

In fact, the document specifically gave the new company complete control over discretionary expenditures and the parent company would maintain a 51% majority holding.  After reading the prospectus in detail, my conclusion was that an investor from the public would have be crazy to give their  money away to this unproven company which had no sales, no building to speak of, no phone numbers, etc.

Here is where the fun begins.  You see, up until now it sounds like Wall Street as percieved by the "Occupy Wall Street" crowd, was the hideous beast of greed that would stop at nothing to line its pockets with the poor little guy's money.  What we all seem to forget is the blame needs to be shared by everyone including the little guy on the street.  Intitial public offerings (ipo's) were the talk of the town during that era.  If the individual was lucky enough to get some shares at the offering, they could double or triple in value overnight.  Demand from the Street, you and I, was so high the bankers couldn't meet it.  Wall Street was simply giving greedy people what they wanted.  Everyone gained and everyone was to blame including the guy on the street.  Similarly the real estate bust of the late 80's and our current boom and bust can't be blamed on any singular entity or process.  Banks specifically have always been the scapegoat for populist angst.  Currently, the same politicians that forced banks to lend to non-qualified borrowers publicly chastise these institutions, driving public sentiment away from their failed policies.  Now  the banks are no longer encouraged to weaken their underwriting standards but to strengthen them,and they are once again the popular scapecoat.

To the Occupy Wall Street crowd I say this:  Be careful what you wish for when casting these stones.  Capitalism, and banks as a purveryor of capital, allow us as individuals to make choices as to how our money is spent and invested.   The other choice is more taxes, believing goverment can decide where investments should be made..  Do you really want the goverment deciding how to spend and invest all your money?  I, for one, value my independence and freedom and hope this division of class perpetuated by our current adminstration reverses in the upcoming elections.

Later my friends,
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Twister Is Full Of Hot Air

For some time now the Tea Party activists have been calling for Ben Bernanke's head to roll.  I personally thought he was doing a decent job in pursuing the mandate assigned to the Fed, which is keeping inflation under control while increasing the prospects of jobs in the U.S. 

After yesterday's announced intervention called Twister, I'm beginning to have my doubts.  How is further lowering interest rates through manipulation of treasury markets going to put more people back to work, increase corporate spending, or build consumer confidence?  The answer, it will not. The Fed is only doing its job with what they have left for ammunition.  A water pistol does little against the gatling gun of economic issues facing our great country.  Twister just adds more instability to an already over stimulated economy.  Perhaps currency stability should be another mandated Fed watch?

May I suggest a few actions our government could take which would show us that our people in Washington have some understanding of simple economics?   Let's not forget housing and the devastating impact it has on confidence.  Many of my co-workers are upside down on thier mortgages and can't get re-financed at lower rates becasue they no longer qualify.  They are current on payments but unable to meet the current standards for a refi.  How about rewarding these people with new lower rate mortagages? Since there is no debt to forgive right now, let's just get them into a better cash flow situation and say thank you for paying what you owe instead of running away from the payback obligation.  STOP trying to save the delinquent holders and reward the current holders!!  This would encourage people to have faith in the system and build confidence.  An added benefit would be putting cash into the hands of people who have proven they can manage their own household's income.

Repatriate the 1.7 TRILLION dollars American companies have overseas because of tax reasons.  These dollars have already been taxed overseas and American companies can't bring the money back without being assesed the corporate 35% U.S. tax.  Allowing return of these dollars with reduced taxes or NO taxes could have a significant impact on our economy and jobs picture.  Currently, the funds are not subject to tax, as they linger in foreign banks.  They can be invested overseas in factories and jobs without any detrimental tax consequences.   With this huge amount of funds back here in the US, some companies will buy back stock, pay dividends, hire new workers, build new plants, and increase research and development spending.   In all these events, it would be a plus to the companies and citizens of the country to have this stockpile of dollars returned home.

Another easy action would be to take some pressure off the banks.  Some of the new regulations are overbearing, and as Jamie Dimon says "un-American".  Let's not continue to bash the banks!  Many short-sighted people had a part in the greedy landscape of the mid-2,000's, and constant slamming of the banks isn't helping the confidence indicator.  Wasn't it Dodd and Frank who insisted banks lend to those that could not afford a house as determined by traditional lending standards?    (Hello, Fannie Mae and Freddie Mac.).  Most banks were regulated into their current situation by the SAME people who are writing the NEW regulations.  Scary stuff.

See ya,
(Reminder:  Check this blog's archives for other artcles.)
Steve M

Fall is Apple picking season

Recently a friend of mine asked that I comment on an article's following statement:  "The stock is really cheap for the kind of operating fundamentals they are putting up."  The writer was referring the to stock of Apple corporation (AAPL), and most of us want to know how he came to this conclusion.  Is it justified?  Logical?

First we must understand what he means by operating fundamentals.  These fundamentals are the tools (see Lesson 1 Tool Box) referring to price earnings ratio or p/e.  There are many other operating fundamentals that have not been examined in this blog yet, but some we will explore in future blogs are cash on hand,  debt, book value, and free cash flow.

Anyway, let's look at what we learned in lesson one: price to earning ratio (p/e).  Apple is expected to earn $28.00 per share in 2011 and $32.00 per share in 2012.  Based on trailing earnings (2011), Apple has as p/e ratio of 13.57 (stock price of $380.00 divided by $28.00 earning per share) and 11.875 based on forward earnings (2012).  These ratios are considered very low for a company that grew 80% in 2011 and expected to grow greater than 20% over the next five years.  If we take into account the $100.00 per share in cash on hand and subtract that from the current stock price, we would have p/e ratios of 10 and 8.75.  If Apple actually beats the projections for earnings (which they have by 20% or more over the last six quarters), then these ratios would be insanely low by any measure historically.  Therefore, we can conclude that using a price earnings ratio as a tool,  Apple is a screaming buy at these levels!!!

Let's look at one other fundamental without exploring the details at how we arrive at the number.  Free cash flow.  Free cash flow is used as a tool because it examines in greater detail how a company is managing its profit or earnings.  Earnings can sometimes be manipulated with the pencil strike of a creative accountant or chief financial officer.  Manipulation does not neccesarily mean illegal, as there are general accepted accounting principles (gaap) which allow wide ranges of interpretation regarding inventories, asset value and liabilities.  Free cash flow takes much of the guess work out of anaylyzing earnings and simply computes the amount of net cash (cash less expenditures) a company earns or puts aside during a quarter.  Comparing free cash flow to earning per share (eps) can help us understand if the earnings number is real and not some accounting stretch to keep the investment community temporarily happy.

Interestingly, Apple is currently generating 38 billion dollars of free cash flow per year which is even greater than what they show as earnings per year.  Based on this metric or tool, Apple is a magnificiently operated cash flow machine that knows how to take earnings and make them into the real thing:  CASH!

I'm long Apple and suggest to all my readers that purchasing Apple under  $400.00 will be a rewarding experience over the next two years.

Time for some NFL... yeah baby, finally the football season is on!

(Reminder:  Check this blog's archives for other artcles.)



Steve M

Recession...so what?

OMG! In ten days we've gone from a slow growth economy to a possible recession! That frightening word RECESSION is harped continuously through media outlets worldwide. Scaring us!!!

So, okay, let's be precise:  A recession is defined as two or more negative gross domestic product growth (GDP) quarters in succession.   Gross domestic product growth measures goods and services that the United States sells during specific time frames and is used as an economic barometer for  government officials, as well as private sector economists.  This is  important because the United States currently has varied predictions ranging from one to two percent GDP growth for year 2011, and the mere thought of a negative percentage brings the world to it's knees!!  Does this reaction warrant such aggressive fear-mongering?

Last night, Toby, our new feline guest for the week, was in need of various paraphernalia to satisfy his instincts and entertain yours truly. The short trip to Walmart was an enlightening positive boost to the negative evening news headlines. All  of the parking lots were full on the one mile strip en route to my destination. That includes some well know restaurants like Carrabba's, Panera and Outback, all with long lines for dinner service. Walmart itself was very busy. Is this what it feels like when approaching a recession? I don't believe so.

Let's not forget that as the United States and Europe struggle under political regimes that favor socialism and unionism, the rest of the developed world (China, India, Brazil) is embracing capitalism and the "right to work" for all citizens. These three countries sport GDP growth rates in excess of six percent! Many of our international companies benefit from this growth.  Hello Apple, Microsoft, Intel, Proctor and Gamble, Kimberly Clark, Caterpillar and others.

If we are entering a "double dip recession",  so be it!  Let's get on with it and work harder to get more freedoms, less regulation, get federal expenditures under control and substantial reform to our welfare system, including medicare and social security!   It can all be done easily with some conviction from the top.  If that should happen, the incentive to grow, succeed and make a better future for all of us will take hold.  (Oh, whoops!  Did I say the "welfare" word back there? Sorry, I meant entitlement programs.  Let's not upset anyone, shall we?)

How's that for the glass being half full?

(Reminder:  Check this blog's archives for other artcles.)

Steve M

Lesson 1 The tool box

I think we all have the basic tool box at home. You know, the one with a screwdriver, hammer, and wrench that's stored in the kitchen drawer with all the other important stuff we almost never use.  I think my friend calls it Donna's drawer.  We call ours Gail's drawer.

The point is, from time to time, we all look for that tool box to maintain items in our household.  If we don't take on these periodic maintenance tasks, our household becomes less inviting and begins to lose value.  Stock investing requires its own set of tools to evaluate a potential buy (or, position, as it is called ) and to monitor or maintain existing positions (or, portfolios, as they are called ).

The earnings per share of a company is considered the most important statistic to comprehend before investing in a company's stock.  Before starting a position in a stock, you need to review current, past and future earnings projections.  Earnings are important to you because they tell you the relative profitability of the company.  Relative will become the key word when learning how to use tools.  Earnings per share is defined as the net income of a company ( after taxes ) divided by the number of outstanding shares of common stock.  These two statistics are readily available on Yahoo finance or Edgar on line.  Earnings per share measure is important because it's the amount of money left over for shareholders ( you ).  Companies then have a choice to distribute that cash in the form of a dividend, or keep the cash in retained earnings, allowing  an internal source of capital to support the growth of the company.  Both choices have obvious rewards to shareholders.

Now that you know how to arrive at earning per share you can engage the first tool used by investors to evaluate their potential stock picks or review their holdings ( portfolio ).  Price to earnings ratio (P/E) is the price of the stock divided by the earnings per share.  For instance, a stock price of $ 25.00 divided by earnings per share of $ 1.80 equals a P/E ( price to earnings ratio ) of 13.88.  This metric becomes important for multiple reasons.  It establishes how the company compares to competitors in the same sector of business.  It can also reflect the potential earnings growth over time.  If we believe a company will grow 20% + over the next five years, and the price to earnings ratio (sometime referred to as multiple), is only 10, then the growth is not being factored into the stock price.  In other words, the stock is undervalued by almost two times.

I wish it were all that simple and we could  pick winners and know when to buy and sell a stock.  Price earnings multiple is the first of many factors in making a decision.  Please feel free to ask me any questions to help understand this metric.

(Reminder:  Check this blog's archives for other artcles.)

Until next time,

Steve M

The Inverse Relationship

It's hard to believe that after four years of business school and ten years of practical experience, the meaning of bond inverse relationship finally dawned on me.  I was in my mid thirties.  Hopefully, you will not have the comprehension problem that plagued me and will quickly grasp the reasoning behind the "inverse relationship" of fixed assets; i.e., bonds, treasuries and bond funds.   As golf is a game of opposites, so it may be said of bonds.  We mistakenly think, as purveyed by some financial advisors, that our principal or equity is much safer in bonds as compared to other assets.  Perhaps that's true, but you damn well better understand what you're getting involved with before making that commitment.  Let me explain.

If you purchase a $1,000.00 ten-year treasury that is yielding 4%  you'd think the risk of principal erosion is minimal, or non-existent while you hold the bond.  The reality is quite the opposite, or inverse, depending on the current marketplace yields. 

For instance, if yields went up to  5% in the first year you owned the bond and you needed to cash it in, the equity or principal would most likely be 20% less than your $1,000.00 investment, or $800.00.   This is because the new investor (or buyer) doesn't want  to pay face value ($1,000.00) for a bond earning 4% when they can  purchase a $1,000.00 bond for today's 5% yield.  However, they will pay the lesser amount of $800.00 at 4% yield because if they own it for the full ten year maturity period, they will recoup the actual face value of  $1,000.00. The amplitude of the inversion increases with the length of the holding period.  If the holding period is short, then yield variations will not have such a great impact.

Does this clear up the meaning of inverse relationship as it relates to bond purchases?  Please feel free to question me if it does not.

Now, why am I writing  this?  Because many of you will be making investment decisions over the coming years and understanding these principles, and also some serious no-nos, are important.  Serious no-no number one is  NEVER, I mean NEVER invest in a mutual bond fund.  Mutual bond funds are relegated by their prospectus which outlines management's intentions (the word bias is commonly used), limitations and structure among other things.  Many managers have to trade bonds well before their maturation dates, forcing losses and tax consequences which would be avoided if you held the instrument directly.  If you held a bond directly and the yields move unfavorably, no principal would be lost if you held to maturity.

Most bond funds don't have that luxury because they have to liquidate when holders ask for cash back.  When interest rates start rising, people liquidate and reallocate their assets which negatively affects the principal or equity of  investment shares.  So please, there will be times and places for fixed asset allocation such as bonds, but none should be in the land of mutual bond funds.

I''ll be back soon.

(Reminder:  Check this blog's archives for other artcles.)

Steve M

Ignoring the Hype

It's hard to think of the future when so much excitement can be had today.  I understand and respect “living for the now” but am compelled to encourage all of you to SAVE some percentage of your earnings beyond 401K’s and Ira’s.  In fact, those of you haven’t already, need to start a separate investment account with one of the online brokerage firms.  Any of the major ones are acceptable.

As the market crumbles and the media exploits these events in the headline news, the opportunities to create lasting wealth, rewarding you with future income, grows exponentially! In the last three years the markets in general have sold off three times.  Each time, those that bought at or near the lows were rewarded significantly. My message is simple.  Don’t buy into all the hype.  Examine the real facts about certain stocks and not the market as a whole.  Below, I have outlined a conservative approach to income and capital gain and presented the actual results since March of 2009.

Stock                           Bought low 2009     Today’s price     Dividend yield
Dow Chemical                    $7.00                     $ 28.00               3.4%
Intel                                  $13.00                     $ 20.50               4.3%
Linn Energy                       $13.00                    $ 38.00                7.3%
Kinder Morgan                  $42.00                    $ 69.00                 6.5%
Verizon                             $25.00                    $ 35.00                 5.6%
Annaly                              $11.80                    $ 18.00                14.2%

Assuming we made equal investments in all these companies, we would have received an average dividend payout/year of 6.86%!!  Wow, try to match that anywhere?  Now, let’s add the 86% increase in the value of these equities, our capital gain, and we have a total return over three years that exceeds 100%!!  Yes we doubled our money in three years!  Sound good? Maybe we should all start taking a closer look at what’s real and what’s the headline news.

If you choose to do absolutely nothing, my love and understanding will always be with you.  Hope your days ahead treat you well.

(Reminder:  Check this blog's archives for other artcles.)

Steve M