April 2008


I haven’t had a technical Goldman update for a little while, so here we are;

GS has been in a pretty sharp uptrend, and I believe this uptrend is safe for the near future. Corrections have been just recently through time, rather than price. Therefore we may well see further upside over the next couple of days.

Should GS rollover, plenty of warning should be given, with the opportunity to position short. This possibility, driven by the 200MA, is of course on a technical basis valid. What then remains to be seen is how price interacts with the 50MA

It would seem, unfortunately that the solution to one problem, that of returning vital nutrients to the soil [nitrogen] via fertlizer, creates another problem. In this case, the growth of algae that threaten the ocean eco-systems.

China and India are massive users. China already has an environmental crisis through various forms of pollution. It would seem that by creating the soil damage via pollution, they need to create further environmental damage to offset the former.

Inflation is the driver of both Equity and Bond yields. As inflation rises, so must the respective yields to compensate the loss of purchasing power.

Equity valuations are complicated by the fact that their coupons [dividends] are not fixed, and second, that their capital appreciation is in theory unlimited. Hence, we will in individual common stocks at almost all times, and within the index under rare occasions, decouple from the inflation anchor.

Start…………..End……………Duration……………Unemployment/Rate…………..Change/GDP
8/1929………..3/1933………….43………………………..24.9%……………………….[-28%]
4/1960………..2/1961………….10………………………..6.7%…………………………+2.3%
12/1969………11/1970………..11…………………………5.9%…………………………+0.1%
11/1973………3/1975………….16………………………..8.5%………………………….+1.1%
1/1980……….11/1982…………6………………………….7.6%…………………………[-0.3%]
6/1981……….11/1982………..16…………………………9.7%…………………………[-2.1%]
6/1990……….3/1991………….8………………………….7.5%…………………………[-0.9%]
3/2001……….11/2001………..8………………………….6.0%…………………………..+0.5%

The duration, and contraction of a recession is very much dependant upon the level of unemployment, which is due to consumer spending contributing some 70% of GDP. Thus, to get an idea of how deep the recession may be, examining unemployment will shed light on the subject.

Typically recessions originate within a “shock”…unexpected bad events, the prototypical Black Swan event that then morphs into the economy. We have had in the past, oil crisis, terrorist attacks, natural disasters etc.

The shock, that has triggered this recession will most likely be attributed to housing, sub-prime, and financial system melt-down.

The duration, depth and damage that a recession can cause are all tied to the ability of prices to adjust. If prices can adjust quickly, the recession will be shallow, if they cannot adjust, or adjust very slowly, the recession picks up momentum.

This is why stockmarkets tend to lead the economy, both up….and down. The pricing mechanism in financial markets is very transparent, the liquidity generally, is high, thus prices can, and do adjust very quickly.

House prices, by comparison, are less transparent, less liquid, and adjust by comparison, very slowly. Having said that, housing prices are adjusting very quickly to the downside. While people are certainly not happy about this, particularly if they purchased near the top, as far as housing remaining a recessionary driver, this is a very positive outcome that will shorten the recession.

Employment has very sticky prices, which is why unemployment becomes such a factor. Businesses that experience falling demand for product inventory, will, to sell the inventory, drop prices. Future inventory, to remain profitable, must cost less to produce. Cost of Goods, the line entry on Financial Statements accounts for usually some 70% of costs, much of this falls under wages.

Will workers accept pay cuts?

No, they tend not to…thus, rather than cutting wages, management cut workers, thus unemployment increases.

The second factor that affects product pricing are the inputs, raw materials. Currently, these are suffering high inflation, oil, foodstuffs, etc. Thus, again, to make a profit, producers cannot drop prices below their costs, due to high commodity costs.

Therefore, due to the stickyness of commodity prices, unemployment must rise, to allow inventory prices to fall. This outcome will be politically unpopular, and unacceptable, thus, once the financial crisis within the banks has been solved, which is underway, the next order of business will be once again to tackle inflation.

Commodities are responding to the below natural rate, interest rates, lowered due to the “shock” applied to the financial system. Only when rates again return to the natural rate, or slightly above, will we see a return to supply/demand equilibrium within the commodity markets.

With todays FOMC meeting, I suspect the reduction in rates will end, and signals will be sent that the future direction of rates will be upwards…thus we can expect in that scenario, sector rotations that will reflect the price of money.

This will need to be done carefully, as rising rates, will trigger a sell-off in the Bond market, as investors close out profitable positions. This sell-off will raise yields, making by comparison, stockmarket yields less attractive.

Thus, the Fed will need to maintain a delicate balance, as falling equity prices could re-threaten the banks and their capital ratio’s [again] if there is a particularly violent sell-off in equity markets. Volatility is not going to disappear just yet.

I’ve been looking at some of the auto-makers, General Motors, Ford, Toyota for a possible position, as the economy comes out of recession, but the fundamentals are pretty scary.

Auto dealerships, in particular, upper-end car dealerships. This particular stock, might have potential, in addition, it sports a 5.6% dividend.

VALUATION MEASURES

Market Cap (intraday)5: 552.67M
Enterprise Value (30-Apr-08)3: 1.66B
Trailing P/E (ttm, intraday): 9.35
Forward P/E (fye 31-Dec-09) 1: 8.32
PEG Ratio (5 yr expected): 0.98
Price/Sales (ttm): 0.10
Price/Book (mrq): 0.92
Enterprise Value/Revenue (ttm)3: 0.30
Enterprise Value/EBITDA (ttm)3: 7.919

From Brett Steenbarger;

A deadly pattern among some of the best traders is to channel achievement motivation into trading *more*.

The best traders do have a strong achievement motivation and work quite hard at their craft. That achievement drive makes them hate losing. Their impulse is to go for the jugular; they want to not only achieve, but achieve *more*.

This drive can be a trader’s greatest weakness, however. It can lead to stubborness in taking losses, leading to outsized losses. It can also lead to overtrading, as the driven trader attempts to *make* things happen. That is a particular recipe for disaster on slow, narrow days such as yesterday, when it’s easy to get chopped up jumping aboard seeming trending moves.

The net result is that *pressing* to achieve can take the trader out of his or her game. It subverts risk management by leading the trader to trade too large, without careful attention to stop loss points. It also interferes with decision-making by leading the trader to take trades without an objective edge.

A good analogy is the fighter who goes for the knockout on every punch, leaving himself wide open to jabs and punches from the opponent. When the boxer is *too* aggressive, defensive skills go out the window. So it is with the trader.

Another analogy is the soldier in the battlefield. Too hyped up and too aggressive, he may charge out of his foxhole and make himself an easy target for the enemy. Sometimes the best strategy is to maintain control and pick off the enemy sniper-style.

How can you know if this is a problem for you? If you keep metrics of your trading results, you’ll see that the average size of your losing trades exceeds the average size of the winners. You’ll see that your biggest losing days are ones in which you trade most often and with largest size, particularly when the market was showing no special opportunity. You’ll also know by your state of mind: traders who *press* to win typically experience high degrees of frustration when the profits don’t come quickly.

If these are concerns for you, self-control strategies such as meditation and biofeedback can be tremendously helpful. How to use such strategies will be the focus of my next post.

Since the St. Patrick’s Day inflection point, spreads on high yield corporate bonds are down over 20% from their high of 862 basis points (bps) versus US Treasuries (based on the Merrill Lynch Index of high yield debt). As long as spreads can continue to come in, the environment for equities should remain positive, but at a level of 685 bps, spreads remain over 180% off their lows last June

The spread twixt Treasury paper and Corporate paper, while on one hand a barometre of the risk the market is willing to assume, also has implications for corporate treasuries that need to raise financing. When the credit crisis was at it’s worst, even solvent corporations were potentially in trouble, should they have required finance for working capital.

Thus, with the easing, the outlook for equities [possibly excluding financial stocks, who might find capital ratio’s under threat again], at least from default and solvency issues, is definitely on the mend, which was the purpose of the emergency measures put in place by the Fed.

I am actually in the camp of “no cuts” with a signal of interest rate hikes in the future. Here is a supporting opinion;

In what may be the last great act of his presidency, George Bush is sending many Americans tax rebates. The checks began going out this week. Some households may get as much as $1,200.

What is not clear is how many citizens will go out and buy a new washer-dryer set and how many will simply stuff the money into their mattresses. One would cause inflation, while the other would only serve to hoard money as many families are beginning to hoard food.

The Fed has several reasons not to cut rates again.

First among those may be that inflation is rising much faster than government figures would show, at least for the goods and services that count most. Gas will probably hit $4 this summer. A bagel could cost $10. The price of corn is up 23% this year.

The governors at the central bank have also become concerned, quite rightly, that banks are passing none of the Fed’s cuts on to consumers or businesses. Mortgages are only given to the most credit-worthy. Financial institution would rather keep cheap money to help build reserves against the next set of write-downs which are likely to come in Q2. Many soothsayers claim that banks are out of the woods. Their stock prices and the worsening housing crisis would portend otherwise.

The cost of money for the man in the street is high and may go higher.

There are almost no reasons for the Fed to cut rates again now and plenty of reasons for it to stand pat. If Bush and Congress are right, they have done something to stimulate the economy. Doing two things at once as the price of everything from Cheerios to bug spray is going up does not increase the chance of inflation.

Inflation is already here. Fighting it has become the new priority

Douglas A. McIntyre

Interesting developments are afoot with regards to Federal Reserve policy;

From the Financial Times,

Fed looks to extend debate on liquidity
By Krishna Guha in Washington

Federal Reserve policymakers will discuss paying interest on bank reserves in a closed door meeting on Wednesday. Such a move could in theory allow the Fed to expand its liquidity support operations without limit.

The discussion will take place alongside the Fed’s regular meeting on monetary policy, at which officials are expected to agree to cut rates another quarter point (25 basis points) to 2 per cent and hint at a possible pause in June.

Under a law passed in 2006, the US central bank will gain the authority to pay interest on reserves in 2011.

The meeting on Wednesday is based on that timeframe and will not be followed by any announcements.

However, the meeting could spark an internal debate as to whether the Fed should consider asking Congress to bring forward this authority to help it deal with the current credit crisis.

Many experts think that would be a good idea. Vincent Reinhart, former chief monetary economist at the Fed, said paying interest on reserves would allow the Fed to “expand their liabilities to support more asset purchases”.

A number of other central banks already have the authority to pay interest on reserves, as well as the authority to lend banks money.

In normal times they can use these deposit and lending rates to put a corridor around the main policy rate, and prevent it from being buffeted too far away from the level they aim to set.

But at times of financial market stress, the ability to pay interest on reserves takes on added significance. Currently, the Fed cannot expand or contract its balance sheet without altering the overall supply of reserves and changing its main policy rate, the Fed funds rate.

All it can do is change the composition of its balance sheet – absorbing more duration risk, liquidity risk or credit risk from the private sector.

But if the Fed was able to pay interest on deposits, it could use that rate to put a floor under the Fed funds rate.

That would free the US central bank to conduct liquidity operations that were larger than the size of its current balance sheet – roughly $800bn.

“The point…would be to allow the Fed to expand its balance sheet without having to drive the fed funds rate to zero in the process,” said Goldman Sachs.

Though gold-focused mutual funds used to own mostly companies involved in mining gold, there are now funds that own bullion itself, including the popular StreetTracks Gold Shares

Gold’s meteoric rise is largely due to the popularity of an ETF, StreetTracks Gold Trust “GLD”. Launched a couple of years ago, by the beginning of this month it has attracted assets of more than $19.26 Billion.

Since shares in the trust represent ownership of one-tenth ounce of physical gold, the trust is sitting on 343 metric tons of the stuff, more than the Bank of England — indeed, more than all but 16 of the world’s central banks.

The ETF has more assets than the next five largest gold mutual funds combined, and is the world’s largest trove of gold in private hands. It dominates its marketplace more completely than any comparable investment portfolio. Among technology funds, for example, no single fund is bigger than even two of its biggest rivals.

It has consumed a big chunk of global demand — 13% or 14% of annual mine supply,” Singlehandedly the ETF shouldered aside typical factors affecting the gold market and became the big driver of gold’s price. Traditionally, jewelry demand and hedge-fund speculation were the culprits.

Bullion’s price also surged upward because gold producers decided six years ago to stop hedging their future production, or selling next year’s output at today’s price

With prices at current levels, and cost of extraction having consumed marginal profits due to high energy bills, it is quite likely that producers will start to lock in profits by selling future supply, and reinstating hedges.

If, energy prices were to fall, and remain low, the profitability of extraction would again swell margins, but, would there still be the demand?

Here is the current data;

From the data, we can readily see that the current [and recent past] high prices have curtailed demand within the jewelry and commercial fields.

Also, the high prices have elicited sales of investment gold holdings through coins/bars/etc. The smaller investor, is seemingly cashing out.

As in the initial run up, the Gold ETF’s account still for huge quantities of physical gold. Under the law, GLD will buy or sell the physical, as baskets are purchased or sold;

FUND SUMMARY
The investment seeks to strive to reflect the performance of the price of gold bullion, less the Trust’s expenses. The Trust holds gold, and is expected to issue baskets in exchange for deposits of gold, and to distribute gold in connection with redemption of baskets. The gold held by the trust will only be sold on an as-needed basis to pay trust expenses, in the event the Trust terminates and liquidates its assets, or as otherwise required by law or regulation. The Trust is not managed like an active investment vehicle, and it’s not registered as an investment company under the Investment Company Act of 1940.

Thus, should investors start selling the GLD ETF, the Fund, would liquidate physical gold, thus increasing the supply of physical gold on the market.

The only question that remains is; what would trigger the selling of ETF investment holdings?

*Speculation
*Reversal within US$
*Interest rates rise in US

The interest rates and US$ are really both tied to inflation, of which currently is/has driven the price of gold and other commodities. This inflation bulge was exacerbated via the near collapse of the US Financial system through poor, non-existent lending standards, via sub-prime, merger, share buybacks etc that is currently working through the excesses.

New search technology helps execs make sense of all that’s being said (good or bad) about a company in the blogosphere. Why everyone from hedgies to Motorola is signing on.

By Carleen Hawn
April 28, 2008

For finance executives, staying on tiop of market information has become a daily ritual. Check the Bloomberg terminal, check the wire services, check the stock price. CFOs who fall behind the curve can find themselves getting tripped up on conference calls by research analysts, or worse, misjudging how corporate news will play in the marketplace.

Wading through the daily dose of news, information and flat-out gossip can be remarkably time-consuming, however. Corporate managers have long had to cope with data from traditional sources such as stock exchanges and regulatory bodies, as well as news reports. Now they must also deal with the swell of opinions and rumors appearing daily on Internet discussion boards and blogs.

That’s no small task—but it’s a vital one given the growing influence exerted by Web commentators. To get a better sense of what’s being said in the blogo-sphere, some companies are turning to a new technology that sorts so-called “unstructured data”—that is, info that can’t be easily categorized by a traditional database (blogs, for instance). In most cases, the software relies on sophisticated algorithms and search tools to trawl the Web and aggregate hard-to-categorize information. The info is then packaged into e-mail feeds or sleek dashboards that display how corporate information is portrayed. In other cases, “user-generators” deliver a fresh financial perspective that isn’t available from traditional sources (see the story on Wikinvest on Page 13).

The result? Users—institutional investors, asset managers and corporate executives—receive organized financial information in a hurry, and in a format that can give them a qualitative edge.

Hedge funds and institutional investors have been the early buyers of the information. But the market appears poised for rapid expansion, with interest from corporate clients picking up. Said Penny Herscher, CEO at FirstRain, an unstructured data specialist: “If you’re a CFO, you have to see the same information that your investors are seeing.”

Sean O’Dowd, capital markets senior analyst at Financial Insights, a unit of IDC, puts total revenue from unstructured data research at $100 million right now. But over the next five years, O’Dowd thinks, the market will top $250 million. “It will mushroom,” he predicted.

Jay WatsonCOLOR-CODED CONTENT “Once it’s in the Wall Street Journal, it’s old news,” says Kevin Pomplun, founder of SkyGrid, which aggregates information and then analyzes its tone. Sentiment journey

If corporate customers and institutional investors are suddenly glomming on to the importance of unstructured data, so too are providers of more traditional research. Last year, Reuters bought Waltham, Mass.-based ClearForest, while Goldman Sachs made a minority investment in Connotate Technologies of New Brunswick, N.J. And Dow Jones agreed to distribute its news feed on the InfoNgen platform—owned by Instant Information—which monitors content from roughly 15,000 sources, including e-mail, blogs and search engines.

Venture capitalists appear to be picking up the scent as well. SkyGrid, an unstructured data search specialist launched in 2005, has raised $2.25 million in venture capital in two rounds, from Tim Draper of Draper Fisher Jurvetson, a VC firm in Menlo Park, Calif., and New York-based angel investor Esther Dyson. The company came out of stealth mode in February.

SkyGrid uses Web crawlers and search algorithms to amass thousands of financial news stories on a topic or company. But SkyGrid does something no other aggregator does: It applies another set of algorithms that filter for semantics and natural language, to quickly convey to clients the actual tone of the news. Most important for investors, SkyGrid also indicates how that mood is changing in real time.

The idea here is that corporate news alone doesn’t move a company’s share price. The investing community’s perception, as well as the media and Internet portrayal of that news, also drives the stock price. Thus it can be equally important for CFOs and institutional investors to track the sentiment about a news item and not just the item itself.

HOW IT WORKS: SkyGrid’s first column displays headlines from traditional news outlets. The center column culls from blogs and other Internet sources. All items are color-coded, indicating positive, negative or neutral stories. The fever chart below reflects the prevailing sentiment about the company. A screen shot of a SkyGrid dashboard (at left) shows how this works. The dashboard displays a list of items about Apple Computer. At first, the search results look a lot like what you might see on wire service terminals, including chronological lists of stories about the company.

But the similarity ends there. Besides mainstream news sources, which appear at left, SkyGrid’s center column displays content from blogs like Gizmodo. “We know from experience that news breaks faster in the blogosphere,” said SkyGrid’s 26-year-old founder, Kevin Pomplun. “Once it’s in the Wall Street Journal, it’s old, so for our clients the information we pull off blogs is more valuable.”

Look more closely and you’ll also see that the results are color-coded. Positive stories about the iPod maker are identified by a green icon. Negative stories are red; neutral news stories are coded white. SkyGrid breaks down the positive, negative and neutral news in percentages at the top left of the screen as well. So without even stopping to read the headlines, an investor or CFO can assess in seconds whether the overall sentiment on a company is bullish or bearish. SkyGrid also produces a fever chart showing the linear development of the mood on a company. Unlike similar graphs on Bloomberg or Yahoo Finance, SkyGrid’s charts are based on news items, not past stock price performance. Such a feature could prove beneficial to CFOs or IR chiefs, who might be able to arrest negative news sentiment before it hits a company’s stock price.

Greg Parsons of CP Capital, a SkyGrid client, said the sentiment tracker can prove invaluable. A number of times, he noted, “a shift in sentiment has preceded negative news” coming from companies.

SkyGrid clients pay $500 a month per user for the service, which isn’t much (by comparison, a Bloomberg terminal costs $1,800 a month). The company has less than $1 million in annualized revenue, but sales are growing. One signal: When the company launched the technology following its beta test in February, it had just 30 users. Now it has more than 100.

Mr. Pomplun feels confident that revenue will pick up dramatically. That belief, he says, stems from SkyGrid’s product—and the amount of unparsed information that bombards corporate managers and institutional investors every day. Said Mr. Pomplun: “We want to accelerate the wisdom of crowds.”

Fascinating algorithm

FirstRain, a Foster City, Calif., company, has a similar agenda. The company already boasts several corporate subscribers, including the finance departments at Motorola, E2open and Talecris Biotherapeutics. FirstRain also provides customized daily and weekly news feeds to more than 500 money managers and professional investors.

The company applies several patented algorithms to the data it pulls from blogs, wikis, discussion boards, industry trade publications, even far-flung international resources and very small regional newspapers. “It’s the obscure sources of information that investors need to make money on the margins,” explained Ms. Herscher. “For our clients, it’s not really about speed, but the fact that there is richer [qualitative] information on the Web.”

A feed can cover a host of subjects, including obscure information about supply chain vendors or corporate partners. To supply that, FirstRain relies on more than 100 research analysts in Gurgaon, India, whose sole mission is to review Web content for substantive value.

In January, First-Rain launched a new product, Management Monitor. One of the application’s strongest features is its management turn-over report, which pulls news about executive departures from around the Web, then represents it in a graph. Relevant Web items about companies in the turnover report give context to the numbers. Management Monitor also pulls together “comments” and “no comments” from executives, as well as topic-driven Web items.

The goal is to distill unstructured data into concise data points and trends, revealing competitive intelligence rivals don’t possess.

For example, FirstRain recently ran an item indicating that Netflix might be expanding its offerings. It culled the info from a blogger who had posted details about his experimentation with game downloads for Microsoft’s Xbox 360 that he’d pulled off Netflix. A large mutual fund manager in New York City who had a stake in Netflix read the piece in his FirstRain news feed—and immediately called Netflix CEO Reed Hastings. The investor hadn’t known that the movie rental service was developing a game console strategy.

In another example, FirstRain recently pulled a story from a regional Alabama paper about a local McDonald’s experimenting with a new test product. That bit of information came as news to some investors who follow the restaurant chain.

David Rosenfeld, the director of research at New York-based William Jones Investment Management, is a FirstRain client. “We try to get information from [a company’s] management, but they are…restricted on what they can actually say,” he said. “So that makes secondary information that much more important.”

FirstRain’s service is not cheap. Investors pay anywhere from $10,000 per person per year (for professional investors) to as much as $75,000 for organizations such as corporate finance departments.

It’s money well spent, said Mr. Rosenfeld. “There’s too much going on [on the Web], and it would be too hard to create an inventory of relevant potential information. It wouldn’t be realistic.”FW

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