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Resignations, Nursery School, globalization debate, Russian Oil, Reg FD,
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Jim Mahar
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Dec 03, 2002 01:57 PST
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SEC Resignations, Nursery School tied to corporate scandal!, United’s
troubles, the globalization debate, and the enforcement of Reg FD.
FinanceProfessor News December 3, 2002
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FinanceProfessor.com
Bringing the Real World to the Classroom and vice versa!
Sign up for the free Newsletter at www.FinanceProfessor.com
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Top Stories
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1. Pitt, Williams, and Herdman resign
2. Analyst independence: the problems even affect nursery school!
3. News on Adelphia, Enron, and WorldCom.
4. Media and water do not mix.
5. A United Bankruptcy?
6. Studying Event studies
7. Is your pension in trouble?
8. The globalization debate
9. US-Russia oil accord
10. Enforcement of Reg. FD
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Hello!
Welcome back! I had planned on sending this last week but because of
competition with on Football and Turkey, I figured it stood a better
chance of being read this week (For those of you outside of the US,
last week was Thanksgiving in the US. So a belated Happy Thanksgiving!
Even if you are not in the US, why not take some time to be thankful for
all you have. Sure things could be better, but all in all the good
dramatically outweighs the bad, so be thankful for that. And while I am
at it, Happy Hanukah and a Happy Al Eid (the end to Ramadan). (If I
left anyone out, sorry!)
I just reread the newsletter, and there are some really interesting
stories and links! I’ve said it before, but it bears repeating, if you
do not read the speeches of Fed Governors you really are missing out on
a great resource. Indeed I am positive one could teach a graduate level
course merely around the speeches of the past few years. This week we
have the luxury of looking at four such speeches. All of which are
excellent!
Well enough of the administrivia, let’s get to the news!
jim
JimM-@FinanceProfessor.com
BTW: I have been getting some complaints that the newsletter gets put in
the wrong file folder by various email systems. So here is how Topica
suggests you deal with the problem:
For subscribers using AOL 8.0, the best place for email to land is in
the "People I know" folder. For Hotmail, primary placement is achieved
when email gets to the inbox even when the setting is "exclusive." We
suggest that all AOL and Hotmail users put financep-@topica.com ,
or the domain topica.com, in their "Address Book" for AOL and in their
"Safe List" for Hotmail. This will ensure that your messages are always
seen directly in the inbox, even if they use the most restrictive folder
for AOL (People I know) or filter for Hotmail (Exclusive). While Topica
works with AOL and Hotmail to make sure the email gets through.
and now the news:
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Top Story
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SEC
Will the last one out please turn off the lights? Ok, so it only seems
like everyone is leaving the SEC. First Harvey Pitt, then Robert
Herdman the top accountant who helped devise the accounting oversight
board, and then William Webster as the head of the accounting board.
http://news.bbc.co.uk/1/hi/business/2423225.stm
http://money.cnn.com/2002/11/08/news/herdman/index.htm
http://money.cnn.com/2002/11/08/news/pitt.reut/index.htm
As mentioned above, William Webster did the right thing and removed
himself from the new Accounting Oversight board. If you remember from
the last newsletter, Webster was part of an audit committee that
reportedly fired BDO Seldman after it complained over an accounting
practice. Webster maintains that the firing revolved around pricing of
the audit and not their criticism. That said, Webster had to resign as
appearances matter a great deal and especially in his position, the
firing would always raise suspicion.
http://www.arizonarepublic.com/opinions/articles/1114quickhit-webster.html
http://www.nytimes.com/2002/11/08/business/08ACCO.html
The show must go on and in spite of the resignations; the board did meet
and set an agenda. Additionally it decided to require that loans to
company executives had to be disclosed. A good move!
http://www.nytimes.com/2002/11/14/business/14ACCO.html?ex=1037854800&en=4451896c04d71501&ei=5062&partner=GOOGLE
Analyst Independence
Yet another “smoking” email. This one directly ties CSFB’s Investment
banking to stock recommendations. Specifically a November 200 email
from analyst Frank Quattrone “asked: “what have we extracted from them
on banking side to get this coverage?”” The ironic thing? They got no
business from it. But it was the thought that counts. Right?
http://www.msnbc.com/news/840542.asp
LOL…I thought I had heard it all, but alas, not yet. More proof that
analysts were far far far from independent. Of course this lack of
independence has been known for a long time, what shocked people is the
extent. For example it had gone as far as to nursery school! Yes, it
is true. Jack Grubman is now accused of changing a stock recommendation
in order that his daughter be admitted into a "highly ranked” nursery
school.
http://www.washingtonpost.com/wp-dyn/articles/A57038-2002Nov14.html
http://www.guardian.co.uk/business/story/0,3604,839452,00.html
want more? Ok, one more. By failing to adhere to strict independence,
the investment banks (IB) have opened themselves to many more problems.
For example, there are many class action lawsuits against the firms for
poor stock advice, and now Morgan Stanley is being sued for $100 million
by LVMH Moët Hennessy Louis Vuitton for offering bad advice in a
takeover battle. While the case seems to be more personal in nature,
it could lead to more lawsuits against an industry that already has its
hands full. Moreover, it is reasonable to assume that more creditors of
firms that had underpriced IPOS will follow Mortgage.com’s and eToys’
creditors and try to regain some of their lost investment by going after
the firm’s investment banker on the grounds that the IPO was underpriced
as a means of helping the IB reward certain customers and woo future
business. (These IPO lawsuits are often discussed but quite rare so
far) http://www.forbes.com/2002/11/26/cx_aw_1126lvmh.html
Adelphia:
Quite a bit of news from Adelphia. First James Brown, the former
Adelphia CFO pled guilty and supposedly is willing to cooperate with
authorities. Then the firm laid off 57 employees and moved to freeze
the Rigas’ assets.
http://www.washingtonpost.com/wp-dyn/articles/A54055-2002Nov14.html
http://www.msnbc.com/news/834995.asp
http://money.cnn.com/2002/11/26/news/companies/adelphia.reut/
http://www.nytimes.com/2002/11/26/business/media/26CABL.html
For the whole Adelphia story, check out the case by Carol Fischer and
myself. It was presented at Bonaventure before Thanksgiving Break and
will be in New Orleans at the AAAF meeting. Both the paper and
PowerPoint slides are available.
http://www.financeprofessor.com/Jimspapers/adelphia/adelphia%20case%20november%2014,%202002.doc
http://www.financeprofessor.com/Jimspapers/adelphia/Adelphia%20Communications.ppt
WorldCom and the SEC have reportedly reached a partial settlement that
will penalize WorldCom for fraud. Although no fine is now set, there
will likely be a fine at a later date. As part of the current
settlement WorldCom promised not be bad again and to “train its
employees in proper financial reporting and ethical business practices.”
Mmm…ok.
http://smartmoney.com/bn/ON/index.cfm?story=ON-20021126-000608-1306http://news.bbc.co.uk/1/hi/business/2517043.stm
http://www.msnbc.com/news/840210.asp
Enron:
Can you believe it has been a year now? As the various trials drag on,
at least one more Enron employee pled guilty to tax evasion.
http://www.msnbc.com/news/840240.asp
http://www.chron.com/enron
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Corporate Finance
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If you read only one article from this entire newsletter, make it this
one: It is the summary of a paper by Graham and Campbell that looks at
how CFOs implement what we teach in class. Surprisingly, many of the
things we spend a great deal of time on, are not used that much. For
example, “maintaining financial flexibility” is seen as the most
important determinant in setting a firm’s capital structure. READ IT!
:-)
http://smr.mit.edu/past/2001/smr4221h.html
Who says shareholders have no voice? GlaxoSmithKline’s CEO Jean Pierre
Garnier was expected to get a pay raise that would be nearly a
doubling his current pay. However shareholder protests caused the board
to at least hold back his pay raise for a while. His new pay was
supposed to put him in line with others in the industry, but given the
firm’s stock was down 30%, it was a tough pill for investors to swallow.
(Especially noteworthy is the role institutional shareholders played in
blocking the pay raise months before any vote was to happen.)
http://news.bbc.co.uk/1/hi/business/2516491.stm
http://news.bbc.co.uk/1/hi/business/2504117.stm
Vivendi finally did something right. In spite of their poor earnings(or
maybe because of), the media firm who has become everyone’s whipping
post and has the interesting strategy of owning both entertainment
divisions and a 40% interest in a water and waste utility, has decided
to sell off the water and waste utility (and some of you said TV is
garbage). Not surprisingly, the market applauded the move sending stock
prices higher of each business. (lesson: do what you do well and
concentrate on that because firms rarely gain when they diversify.)
http://news.bbc.co.uk/1/hi/business/2419847.stm
http://www.washingtonpost.com/wp-dyn/articles/A40625-2002Nov26.html
http://news.bbc.co.uk/1/hi/business/2515393.stm
Junk bonds are low rated or non-rated bonds that typically carry high
interest rates because they are risky. This week bond rating agencies
cut El Paso Corp’s bonds to junk status. This downgrade provides a
great example of what rating agencies look at when rating bonds: cash
flows, asset quality, cash needs, leverage ratio comparisons, and
operations. In each area, El Paso lagged the competition or faced
serious risks in the future.
http://www.chron.com/cs/CDA/story.hts/business/1678071
http://www.smartmoney.com/bn/ON/index.cfm?story=ON-20021126-000652-1402
http://news.bbc.co.uk/2/hi/business/2536607.stm
United Airlines is inching closer towards bankruptcy. After mechanics
turned down an original pay cut, investors sold off shares in
anticipation of a possible bankruptcy. Now the mechanics have to vote
again over a new pay plan. Advice: vote for it. It looks like
bankruptcy if you do not. In class we often discuss costs of financial
distress. One is that people will only do business with the financially
troubled firms if a price concession is granted. Which may be why I
just purchased tickets on United that were significantly cheaper than
any other airline.
http://news.bbc.co.uk/1/hi/business/2523385.stm
http://news.bbc.co.uk/1/hi/business/2528903.stm
http://www.msnbc.com/news/841110.asp
If you can’t trust Mickey, who can you trust? In order to keep (or win
back as the case may be) that trust, Disney may be the next firm to
expand its board to include a presiding director who is to oversee board
meetings in the absence of management and act as a liaison between the
board and management. Good idea!
http://www.msnbc.com/news/842037.asp
Signals can be hard to interpret. This week the NY Times looked at
American Capital Strategies. The company seems to be a perfect
candidate for a financial case study. For example, while dividends
payments typically come from earnings, American Capital Strtegies pays a
much larger dividend than they earned. This can be done either because
the firm has lower earnings than cash flows (for example large
depreciation expense) or because they raise new money (be it by
borrowing or new equity sales). One reason that firms may do this is
that dividends are often seen as a signal of firm quality (i.e. good
firms pay dividends). Another explanation of this was provided by
Easterbrook (1984) that suggested that by opening their books up to an
investment banker, the SEC, and other investors, the firm is reducing
the information asymmetry problem. In the American Capital case, the
informational asymmetry problem is quite severe. Additionally the
managers of the firm borrowed to buy shares (again usually seen as a
good signal), but the stock price dropped and the shares were “reposed”
as part of a margin call. This will have to make its way to class.
http://www.nytimes.com/2002/11/29/business/29NORR.html
LBOs (Leveraged Buyouts) were very popular in the 1980s but are very
rare now. CFO.com looks at why and suggests that in spite of lower
stock prices, LBOS will not be back in vogue anytime soon.
http://www.cfo.com/article/1,5309,8285,00.html
The Microsoft trial just will not end. Now some states (Massachusetts
and West Virginia) are refusing to accept the terms of the original
settlement.
http://www.smartmoney.com/bn/ON/index.cfm?story=ON-20021202-000683-1710
http://news.bbc.co.uk/2/hi/business/2537031.stm
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Investments
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Rule#1. Market efficiency does not mean market perfection. Take the
case of event studies. An event study can be seen as a test of how
quickly and how accurately markets incorporate new information. (Fama
1991). By and large we have seen event studies show that the market
responds with great alacrity and usually gets things correct. However,
it is not perfect.
In an upcoming JFE article, Chan reports that event studies are not the
nice right angles that we would like to see. Using an incredible data
set (all news announcements for from 1980-2000) he finds that after the
announcement, stocks continue to exhibit abnormal behavior (If markets
were PERFECT there would be no drift after the initial price reaction).
This drift is particularly pronounced after bad news where the stock
continues to fall relative to various control “groups.” He also finds
that this is most concentrated in smaller stocks. This is somewhat
comforting as most agree small stocks are less efficient than large
(widely followed stocks).
http://jfe.rochester.edu/02207.pdf
BTW the previous (This is consistent with the paper by Bhattacharya that
I just summarized (but have not yet put online) for the FinanceProfessor
Summaries page. Essentially it deals with announcements in Mexico that
resulted in no reaction. Which is extremely curious. Is the information
already in the price (which probably says something about the presence
of insider trading) or do investors just now care about the news? )
So much for the sky is falling. For the eighth straight week, the Dow
Jones Industrial average rose. However, few people seem to be paying
attention. This in spite of a 17% jump!
The last couple of newsletters have urged mutual fund companies to adopt
public disclosure of proxy votes. This Friday marks end of the public
comment period and many still fear the new rule will not become law.
Why? Another conflict of interest seems to be the best explanation: by
voting against managers, funds may alienate managers who make many 401k
plan decisions.
http://www.nytimes.com/2002/12/01/business/yourmoney/01WATC.html
Due to the slow economy and poor corporate profits, most expect that
fewer bonuses will be paid this year.
http://www.cfo.com/article/1,5309,8336,00.html
Speaking of pay, PBS ran a great news segment on CFO pay. It would be
great for class! The transcript is available for free. It shows how
most firms aimed to be above average and how such a policy drove up CEO
pay. Very interesting!
http://www.pbs.org/newshour/bb/business/july-dec02/ceo1_12-02.html
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Financial Institutions and Markets
(also Money and Banking)
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Lots of news on financial markets this week! The American Stock
Exchange MAY finally be sold. The Nasdaq currently owns the AMEX
(formerly known as the Curb) and has been shopping it for over a year.
In other the Chicago Mercantile Exchange is reportedly ready for its
public sale this week. What brings the two stories together is a report
(unsubstantiated as of yet) that the Chicago Merc may be buying the
AMEX.
http://www.marketwatch.com/news/yhoo/story.asp?source=blq/yhoo&siteid=yhoo&dist=yhoo&guid=%7B8B6B975C%2D6ADC%2D4640%2DA30F%2D8FF2325742E8%7D
It came as little surprise, but a congtats is still in order to Mervyn
Kingwho was selected to succeed Sir Eddie George as head of the Bank of
England next year.
http://politics.guardian.co.uk/economics/story/0,11268,849021,00.html
Superstar investor George Soros is just one of those accused of insider
trading. The case deals with a 1988 takeover of the Societe Generale.
Soros is accused of knowing of the deal prior to its public
announcement. In fact he even admits to it, but says that it was
“common knowledge.” A verdict will not be announced until December 20.
Among the others accused of trading on the “inside info” is the late
Robert Maxwell.
http://news.bbc.co.uk/1/hi/world/europe/2477665.stm
http://thestar.com.my/news/story.asp?file=/2002/11/8/latest/8617Billionair&sec=latest
http://abcnews.go.com/wire/Business/ap20021115_1591.html
Given the rates are already low, the Bank of England said that future
interest rate cuts probably are not necessary and that the economy is
poised to rebound as is. Of course not everyone agrees and the economy
(aren’t all?) somewhat precarious.
http://news.bbc.co.uk/1/hi/business/2515061.stm
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International Finance
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The benefits of investing internationally are largely derived from lower
correlations between the assets (i.e. if they do not move together, the
benefit of diversification is greater.) But all international investing
is not the same. Some markets seem to naturally move with one another
based on shared economies and similar makeup together such as the US and
Canada. Others seem to move together but it is unclear why. For
example the US and the UK have shown a remarkably similar pattern for a
long time. Engsted and Tanggaard find that this pattern goes back at
least until 1918. Moreover they find that news about future excess
returns (the risk premia) is the “main determinant of stock market
volatility in the two nations and that this news component is highly
cross-country correlated which explains the comovement of the US and
the UK stock markets.
http://www.hha.dk/fin/finance/Research/D02_1.PDF
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=299660
You are forgiven if you say “I’ll believe it when I see it” but the US
is asking for the end to all tariffs between WTO members by 2015. Of
course this is the same nation that just enacted steel tariffs and
agricultural subsidiaries. (Cynics would suggest that it is now after
an election, and the votes were bought with the sanctions/subsidies
BEFORE the election, but I wouldn’t be that cynical.)
http://www.nytimes.com/2002/11/26/business/worldbusiness/26TRAD.html
http://www.msnbc.com/news/840058.asp
http://www.msnbc.com/news/840058.asp
http://www.chron.com/cs/CDA/story.hts/business/1677011
September 14, 2003. Mark your calendars. That is when Sweden is
planning to have a referendum on the adoption of the Euro as early as
2003. If early polls are correct, it is really going to be close.
Currently 43% favor adoption, and 43% do not. Stay tuned. One thing
going against Euro adoption is the economy is outperforming the rest of
the EU now.
http://news.bbc.co.uk/1/hi/world/europe/2527209.stm
Zimbabwe is cracking down on the black (underground) market in its
foreign currency. Amazingly the unofficial rate is 1500 per USD while
the official; rate is 55. Folks this economy is in deep trouble. I
have never seen an unemployment rate so high! 70%!!!! Wow. The
economy is expected to contract by over 10% this year. Some of this is
drought induced, but overall it is hard to feel sorry for them with
their corruption and after their seizing of white farmer’s land. Two
wrongs do not make a right.
http://news.bbc.co.uk/1/hi/business/2476563.stm
Argentina defaulted on &800 million owed the World Bank but on the
positive side it lifted restrictions that had been placed on bank
withdrawals. The restrictions were in place to prevent runs on the
banks but were hugely unpopular. The repeal of the restrictions is seen
by many as the government believes the worst is over and the banks are
strong enough to pay those who want the money. In other related news
Lula (the new president elect of Brazil, is meeting with Argentinean
officials over the future of their trading relations. My guess is that
they will continue strong and look for more free trade between the two.
http://news.bbc.co.uk/1/hi/business/2471617.stm
http://news.bbc.co.uk/1/hi/business/2535539.stm
http://www.tehrantimes.com/Description.asp?Da=12/3/02&Cat=9&Num=2
http://www.latineconomies.com/p/e2/de9d7ef031d3.html?id=104d2f7
Running out of money--literally (due to inflation Zimbabwe is running
out of bank notes!). That is when you know you have an inflation
problem! Of course the temptation is to print more, but this makes the
problem worse.
http://news.bbc.co.uk/1/hi/business/2420209.stm
This is encouraging. Jordan has been making reforms in the economic
system such as being more open to free trade and sure enough, the
economy is improving in spite of the economic and political (can you say
war) turmoil in much of the middle east. This is a great sign as others
will emulate Jordan’s success.
http://www.dailystar.com.lb/business/08_11_02_b.htm
Japanese banks in more trouble as the economy slows yet again.
Unemployment is up while spending and industrial production are both
down. I know I always preach that things are not as bad as the pundits
say, but in this case, it has dragged on for so long, I tend to agree
that something major needs to be done. One thing that it seems that
they are trying is to lower the value of the yen. This will help
Japanese exporters. Massively increasing the money supply may help as
well but it is difficult when banks are not making many new loans
http://www.nytimes.com/2002/11/26/business/worldbusiness/26YEN.html
http://news.bbc.co.uk/1/hi/business/2526431.stm
http://biz.thestar.com.my/news/story.asp?file=/2002/12/3/business/weakyen02&sec=business
Fed governor Kohn had a great speech on the current account deficit in
the US and whether it is a problem. His answer? Probably not, but the
current situation (pun intended) is unlikely to continue indefinitely.
The current account deficit is created when foreigners buy US dollars.
They do this to either buy US goods and services or to invest in the US
or to hold US dollars. Given the trade deficit we have, it is not the
first reason, but both the second and third reasons do seem to fit the
evidence.
http://www.federalreserve.gov/boarddocs/speeches/2002/20021122/default.htm
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The Globalization debate
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Gee, I can see this one being an essay on many upcoming finals:
Discuss the globalization issue. Is globalization good or bad. Discuss
each side and state your opinions.
First my favorite: globalization is good. In the argument,
globalization makes both sides (indeed all parties) better off. Of
course simply throwing the economy open may not be the optimal means of
getting free trade but as soon as possible is a good answer. That said
it will be painful and temporarily funds may be needed for additional
training to assure financial stability.
e/getstory_ssf.cgi?f0049_BC_WSJ--Globalization&&news&newsflash-financial
Note to my students: READ THIS it is from the WSJ and is very good!
http://www.nzherald.co.nz/business/businessstorydisplay.cfm?storyID=3002812&thesection=business&thesubsection=general&thesecondsubsection=&thetickercode=
Alan Greenspan recently chimed in on this issue in his “wealth of
nations revisited” speech. In it he laid out how increased trade has
made millions upon millions of people better off by reducing poverty.
Moreover he correctly points out that those nations who have been the
most aggressive in opening their doors to freer trade have led this
success. (very interesting speech!)
http://www.federalreserve.gov/BoardDocs/speeches/2002/20021112/default.htm
Alternatively, many others believe that globalization is bad. (Or at
least its present state is bad for the less developed nations. This is
because they are at a competitive disadvantage and the rules are often
stacked against them.) This view is well summarized by Zambia's first
Republican president Dr. Kenneth Kaunda. Dr. Kaunda , was recently on a
speaking tour of the US, and spoke out strongly against the current
state of globalization.
Speaking at the University of South Florida, he had the following to
say: “Global economic and trade conditions are definitely against
developing countries.” Citing the enormous competitive disadvantage
stemming from differing infrastructures and technology, he went on to
say that many of the IMF’s past policies have worsened the situation.
Rather than issuing a blanket statement against all forms of
globalization, Kaunda called for free trade, but with what sounds like a
helping hand to get started.
http://allafrica.com/stories/200211260477.html
Why is it important? Beyond the economics, globalization has made the
world more interdependent. As Anthony Lake in his book Six Nightmares
says: “Economically, Globalization brings consumers greater choices and
lower costs. It stimulates trade and fosters the worldwide growth on
which our rising prosperity depends. But the winds of globalization
carry clouds of danger as well. The electronic commerce that permits
small companies to expand their sales also helps organized criminal
gangs to launder dirty money. The same Internet that allows a doctor in
Bucharest to consult a hospital in Baltimore can also be used by
terrorists to hatch plans and hide tracks.” I would add to this that by
forcing change on people and often creating a sense of despair (how will
I ever find a job etc), globalization can make for fertile grounds for
social discontent, war, and terrorism. Things none of us want.
So is globalization good or bad? Yes. It is both. But in the long
run, the good outweighs the bad. However, sometimes long runs can be
painful. It is then when we have to remember that the end result is to
improve the quality of life, and not just to ram ahead with free trade
for the sake of free trade. It is almost a compassionate trade policy.
Free trade yes, but with safety nets at the start.
For more check out the BBC’s forum on globalization:
http://news.bbc.co.uk/1/hi/talking_point/forum/2412983.stm#1
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Economics
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With apologies to Dickens, “It is the best of times, it is the worst of
times.” In what may be a perfect example of information overload, there
is so much news on the economic front that it is hard to make sense of
it. On the plus side, the US GDP grew at a faster than expected at 4%
for the third quarter, consumer spending was again up, and construction
spending was up in October. But the Doubting Thomases of the world are
quick to point out that much of this was caused by inventory growth,
manufacturing is still down, and that since consumer confidence fell,
the next quarter will be worse than earlier projected. Coupled with
this news were a record number of bankruptcies (although some may have
been moved up from future quarters due to a more stringent bankruptcy
law).
http://www.washingtonpost.com/wp-dyn/articles/A40565-2002Nov26.html
http://news.bbc.co.uk/1/hi/business/2515351.stm
http://www.msnbc.com/news/840075.asp?0si=-
http://www.washingtonpost.com/wp-dyn/articles/A38811-2002Nov25.html
(bankruptcy)
http://www.smartmoney.com/bn/ON/index.cfm?story=ON-20021126-000404-0845
http://www.nytimes.com/aponline/business/AP-Economy.html
http://www.chron.com/cs/CDA/story.hts/business/1676961
http://www.msnbc.com/news/842110.asp
http://biz.yahoo.com/rf/021202/economy_2.html
Unemployment rates vary tremendously by nation. From a unreal high 70%
in Zambia (see above) to the low single digits. This week France’s
unemployment fell to 9.1% but most expect it to climb still higher. One
reason for the relatively high rate in France (as compared to the US and
Japan which are both in the 5.4 to 6% range, is that regulations make
firing very expensive in France and thus fewer jobs are created. .
http://news.bbc.co.uk/1/hi/business/2526735.stm
How big of risk is deflation (falling prices?) It has happened in Japan
and some fear it may happen globally. Will it? If you believe Fed
governor Ben S. Bernanke probably not. Why? Te economy is too strong
and the Fed will do everything in its power to prevent it.
http://www.federalreserve.gov/BoardDocs/speeches/2002/20021121/default.htm
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Personal Finance
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The way that most pension funds work is that the expected liabilities
are calculated and then the firms decides (based on expected returns)
how much must be set aside to cover the liabilities. In recent months
several firms (including IBM, GM, and Monsanto have conceded that in
part due to poor returns in recent years, their pension funds are in
need of more money. Many more firms are expected to have to pay in
during the coming months, but this comes after many years where few
long-established firms had to put money into the funds since the markets
(both equity and bonds) performed better than expected. Overall it may
use up firm’s cash flows (and drive down stock prices some) but from a
retiree’s perspective, MSNBC reports that most pension plans are in OK
shape and not to panic.
http://www.msnbc.com/news/840057.asp
http://www.washingtonpost.com/wp-dyn/articles/A1161-2002Dec2.html
http://www.cfo.com/article/1,5309,8334,00.html?f=features
That said there are cases where firms are knowingly under funded and are
doping little about it. For example recently in New Jersey regulators
brought suit against four firms. A better example however is with the
case of Global Crossing’s subsidiary (Frontier Corp). In the latter
case, Pension Benefit Guaranty Corp wants to take over management of the
pension fund to protect it from claims by creditors.
http://www.zwire.com/site/news.cfm?newsid=6188534&BRD=1697&PAG=461&dept_id=44551&rfi=6
http://www.washingtonpost.com/wp-dyn/articles/A34456-2002Nov24.html
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Energy Markets
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The US and Russia are trying to reach an agreement that would have
Russia supply more of the US’s oil. This will be a set-back for OPEC
and is aimed to reduce US energy dependence on the Middle East. As part
of the plans, Russia will further develop its Artic region operations.
http://www.msnbc.com/news/840541.asp
http://www.nytimes.com/2002/11/24/business/yourmoney/24RUSS.html
Here we go again. A new panel will look at US energy policy. I will
give you the findings now to save you from reading the eventual report:
we need to reduce oil dependence, increase US production, increase
conservation, and think more about “renewable” supplies.
http://www.msnbc.com/news/840036.asp
http://www.msnbc.com/news/840036.asp
The BBC provides a fascinating look at the oil business in Iran. (Gas
for 6 cents a liter! Why? It is subsidized. You figure it.
http://news.bbc.co.uk/1/hi/business/2512015.stm
In somewhat of a surprise move, BP pulled out of a group that is
lobbying for drilling in the arctic.
http://www.chron.com/cs/CDA/story.hts/business/1677150
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Financial Service Industry
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The NYSE is taking on a sticky issue. Already we have seen that the
NYSE is requiring analysts to disclose whether they own stock in the
firms they are recommending. Fine. But now the NYSE is also trying to
require newspapers to carry that disclosure or else risk being cut off
from future stories. Huh? Since when can the NYSE dictate the news
coverage?
http://www.nytimes.com/2002/11/22/business/22NORR.html
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Derivatives
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Single stock futures are now legal in the US. Why have them? Two big
reasons are To get around existing laws. For example, selling short is
not allowed when a stock is falling in value. And because futures have
lower margin requirements (and hence greater leverage) than do stocks.
http://www.nytimes.com/2002/11/08/business/08FUTU.html
Vice Chairman Roger Ferguson provides a great look at financial
engineering, risk management techniques and herding. Very interesting!
HIGHLY recommended!
http://www.federalreserve.gov/BoardDocs/speeches/2002/20021120/default.htm
Not to be outdone, Alan Greenspan shows how risk management helped to
contain the problems at Enron and other firms.
http://www.federalreserve.gov/boarddocs/speeches/2002/20021119/default.htm
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Real Estate
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Mmm, are we seeing a bubble in real estate prices in the UK? Prices
sure have been rising. Can they continue?
http://news.bbc.co.uk/1/hi/business/2419453.stm
http://news.bbc.co.uk/1/hi/business/2417613.stm
http://news.bbc.co.uk/1/hi/business/2512663.stm
A few bad apples can spoil things for everyone. England is now
considering a law that would force landlords to turn over all security
deposits to a third party to hold. Why is this bad? It adds
transactions costs (having to file with the bank, go to the bank etc).
Indeed I think I would be tempted to raise the rent slightly and then
forget about the security deposit.
http://news.bbc.co.uk/1/hi/business/2523677.stm
Looking to buy a house, but afraid you cannot afford it? One solution
is to buy a duplex. A duplex is a two or three family home. You live
in one apartment and rented out the others. Of course being a landlord
is not without its own headaches, but from a purely financial point of
view, duplexes often make sense. (Full disclosure here: this is what I
did and it works quite well.)
http://www.nytimes.com/2002/12/01/business/yourmoney/01HOME.html
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Accounting News
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Gee, from the first two you can probably figure what my next paper (with
Jonathan Godbey) is going to be on.
It is always cool when things work as financial theory (which I dare say
is just economic theory) suggest. Imagine you are an auditor and your
reputation is on the line when you perform an audit. Risky firms have a
greater chance of hurting your reputation, so you are reluctant to
perform the audit. What do you do? Charge more. (more risk, more
return). That is the finding of John Lyon and Mike Maher (no relation,
and he spells his name wrong ;-) ) who looked at foreign firms and
found where the risk was higher, so too were the audit fees. Now the
study is not conclusive (they look at risk of bribery in developing
nations), but it is consistent with previously published work by Bell,
Landsman and Shackelford.
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=316485
Ok, so do auditors matter? Yes. That is the conclusion of two recent
papers that have looked at the stock price reactions following the Enron
debacle. In each (Chaney and Philipich in the Journal of Accounting
Research) and Asthana, Balsam, and Krishnan found that Andersen audited
experienced a more pronounced negative stock price decline than firms
audited by other accounting firms.
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=320327
Since the adoption of Regulation FD (which requires that firms, if they
disclose to anyone, must disclose to everyone), there has been much
discussion of how it would be enforced and exactly what would be
allowed. Well wait no more. The SEC enforced Regulation FD for the
first time as it picked out four companies and told them to improve
their behavior. One, Siebel Systems, was fined $250,000 for its
transgressions. .
http://www.forbes.com/2002/11/26/cx_da_1126topnews.html
http://www.washingtonpost.com/wp-dyn/articles/A38774-2002Nov25.html
Will this prevent future Adelphias? Maybe, maybe not, but it is a step
in the right direction. The new accounting oversight board is requiring
all loan guarantees made to company executives to be on the books.
Prior to this, the loans were often hidden and not listed as
liabilities.
http://www.washingtonpost.com/wp-dyn/articles/A38761-2002Nov25.html
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FinanceProfessor.com Lesson of the week
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In class this past week we discussed Islamic Finance. We had the
wonderful opportunity to have Luma Zetani as a sort of guest lecturer.
She was in Syria at the time, but the wonders of the internet allowed
her to provide her PowerPoint presentation on what Islamic Finance means
and how is differs from traditional western Finance. In a nutshell, it
is the combination of socially responsible investing and no-interest
financing. In lieu of interest Islamic Financial Institutions rely on
leasing, equity, and repurchases.
(I left the PowerPoint notes at school, but will put them online (look
in the international finance section of class notes) as soon as I get a
chance.
However, as we saw in the last newsletter, this is a growing field. For
the best description of exactly how an Islamic mortgage works check out
the pop-up in this BBC article. Quick view: it is a “rent to own” type
system where the bank owns the property until it is paid off over time.
http://news.bbc.co.uk/2/hi/business/2525635.stm
That said, the issue of what is and is not allowed under Islamic Finance
is not perfectly settled yet. For example, in Egypt Al Azhar's Islamic
theological research committee voted almost unanimously to allow
“fixed-interest banking” which previously has been seen as a definite
no-no.
http://www.metimes.com/2K2/issue2002-47/bus/al_azhar_approves.htm
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FinanceProfessor.com Site of the Week
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While several people recommended some great sites, I am going with
finance-research.net I was really impressed. It is a new site but has
great promise. Check it out!
http://www.finance-research.net
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Teaching Ideas
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Let markets work. When giving an exam, make an announcement that you
will give roughly a 20% bonus to anyone who turns in someone cheating
(of course the cheating must be proved). I have been amazed how well it
works!
Remind students of the importance of finals not only for their grade
(remind them of the weight of the grade) but also as an opportunity to
tie everything together and increase their understanding.
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What I am reading
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I think I will have to drop some since I have been reading quite a few
of late, but a few of them are:
High Finance in the Euro Zone. It was originally for class
(international finance) but I got into it and decided I might as well
read the rest of it. (I confess I am skipping some sections, but
overall it highlights the changes that are happening in Europe. Great
for class!
http://www.amazon.com/exec/obidos/ASIN/0273637371/finpapers/104-9378365-5272442
I am listening to Lake Wobegone Days by Garrison Keillor. I was not
that excited about it but on the recommendation of a friend figured I
had little to lose. It is hilarious and at times it reminds me a little
of Bill Bryson’s writing. And talk about a history lesson! I cannot
imagine people being done eating by 6pm and then just sitting on the
porch. I guess the 50s and 60s lifestyle really is gone.
http://www.amazon.com/exec/obidos/ASIN/0942110080/finpapers/104-9378365-5272442
I am about half way done with Heart of a Soldier by James Stweart (yes
he wrote a Den of Thieves, and I doubt he wants to be called Jimmy). I
have been told it is the story of the head of Merrill Lynch’ Head of
Security Rescorla and his valor at WTC, but so far it is mostly a story
of his life before ML. Specifically his fighting in Vietnam. Very good
so far.
http://www.amazon.com/exec/obidos/ASIN/0743240987/finpapers/104-9378365-5272442
Six Nightmares by Anthony Lake (Clinton’s National Security Advisor).
It is a pre-911 look at terrorism. Interesting, no very interesting!
It keeps speaking of the bombing of the WTC and it took me a while to
understand they were talking about the first bombing of the WTC.
Nothing yet what I would call really new (given all the talk in the news
on a daily basis) but it is well written and Lake is obviously a bright
guy with some good ideas.
http://www.amazon.com/exec/obidos/ASIN/0316559768/finpapers/104-9378365-5272442
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Quotes of the week:
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An enthusiast may bore others, but he has never a dull moment
himself---John Kieran
Hope is the power of being cheerful in circumstances which we know to be
desperate---G.K. Chesterton.
You have to deal with the fact that your life is your life---Alex Hailey
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Wow, see I told you there were many many good articles this week!
If you want more news, I updated the FinanceProfessor.com News page.
Check it out. It is where I draw most of the material for the
newsletter.
http://www.financeprofessor.com/newslinks/newslinks.htm
Thanks for reading! I hope you liked it and learned something (or even
many things) from it! Also thank you to those of you who w=forwarded
me interesting stories and papers. I appreciate it. Even if I did not
include it I am sure I read it. Often you send me things that I cannot
include do to copyright problems. But thanks anyways!
If you have any ideas for the site or the newsletter please let me know.
I like the idea of one reader who suggested short newsletters every
week instead of 1-2 per month of the longer ones. I may start that next
year. It really all depends on how much time it takes. I absolutely
love doing these, but they do take quite a bit of time and that is
something I seem to run out of quite regularly (which is why I am
sending this out at 5 AM and have not gotten to bed yet). Oh well,
what’s sleep anyways?
Have a great week!
Jim
JimM-@FinanceProfessor.com
What a difference some sleep, a good run, and a hot shower make! If you
are ever tired and worn out, try it!
Where we have had quite a snow storm. I guess not that much snow (5-7
inches locally) but very slippery and windy and cold. It was 7 degrees
Fahrenheit when I got home!
Who is not yet getting his hopes up about the Bills, but the game
against the Dolphins was really a good game.
Who has been lifting much more regularly over the past month or so.
Running sort of takes a break during November for me. I dislike the
short days and the cold weather. So while I still get out every day,
the runs are just easy days.
Who just remembered I promised you looks at the papers I have been
working on. I will upload them to the website as soon as I can. Right
now I just want to get this out to you.
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Oh and a final favor…pass this on to someone you think would like it….a
fellow student, a past teacher, your current teacher, your parents,
anyone who it might help. Thanks!
Thanks for forwarding this so much. That is the only way I know this
newsletter is growing so fast. :-)
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copyright 2002 FinanceProfessor.com
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