May 2014


Two arguments: one bull, one bear.

Bull Case. From Jerry

Steve Ballmer, former CEO of Microsoft ($MSFT), just reportedly paid $2 Billion to buy the Los Angeles Clipper of the National Basketball Association (NBA). To most, that sounds very pricey (especially when compared to the $575 million valuation Forbes gave them earlier this year).

In comparison, the Los Angeles Dodgers went for $2.1 billion in 2012, but that also included some TV rights and real estate. The Clippers deal is just one that includes a team; a team that has been one of the worst over the tenure of Donald Sterling’s ownership. So there’s no doubt Ballmer forked up quite a bit.

Now, I’m not going to show you why, from a basketball standpoint, Ballmer’s investment was wise (lots of things to do with TV deals and the NBA’s CBA). There are millions of basketball blogs that can and will do that. But I am going to show you why from an investment standpoint, buying the Clippers, even at a hefty price, kind of makes sense here for Ballmer.

1) The Stock Market is at all-time highs.

While valuations are not crazy, they are also not cheap or fair either. Europe, Japan no longer offer deep value plays either after multi-year runs (especially relative to their economic situations). China’s Stock Market has been dead money for the last 5 years and has crushed investors.

2) Bond yields are still stuck near historical lows.

The $FED (Federal Reserve), for now, is still keeping rates low. Even if they raise rates, you’re not going to see them go too much higher. Fixed-income investing is not too enticing right now.

3) Real Estate Is Not Super Cheap Anymore.

Here are nominal home prices (Via Calculated Risk). Not at all-time highs, but not cheap anymore. And I suspect high-end homes (ones that Ballmer would be interested in) are even more expensive relative to where they were after the financial crisis/housing crash in 2010-2011.

4) Commodities suck!

QE’s and unconventional monetary policies all around the world have failed to cause any significant and lasting spike in prices. In fact, deflation risk might be higher. Besides, commodities have rarely been good investments. Gold has sucked for the past 3 years and might be in a 10-year bear market as real rates slowly rise and demand falls.

5) Other Investments (Art, Wine)

Art is what I call “stupid-expensive“. I’m not an art-analyst so I have no idea what a Van Gogh painting might be worth. But the only way that brings any return to you is if some sucker bidder buys it higher. So unless you’re willing to pay insane prices for a pretty illiquid investment in a small market, no way do you touch art. As for wine (which is looking like gold’s rise and fall) and other alternative investments (like Stamps), similar concerns apply. Market’s are pricey, illiquid and/or not large enough.

6) Startups are pricey too!

There’s lots of “startups” or young companies these days. However, they are not cheap. Uber’s going for a massive valuation. And there are hundreds of startups that will likely fail. So to invest in a startup today is to pay a pricey number or to take a major risk.

Concluding thoughts

Now, I am generalizing. I’m sure there is some country that is worth investing in (For example, emerging markets, as measured by $EEM, have gone nowhere over the last few years). I’m sure there’s some fixed-income instrument that offers a reasonable yield. And I’m sure there’s a painting that will go for 30% more in a couple of years. But what I’m trying to get at is that it’s not easy to invest money these days as there is no “obvious” investment unlike the past few years (not that investing in anything is ever “obvious”, but at the moment, its “less obvious”). So why not go for something that is not available everyday, and go with a sports franchise in a sport that’s growing worldwide?

So congrats on your investment Mr. Ballmer, it was probably the correct one. However, do know one thing. The Lakers still run LA (and most of the US).

The Bear case. From Charles

If Steve Ballmer were still running Microsoft (MSFT) I would dump the stock, questioning his judgment and sanity.

Ballmer just agreed to pay a record $2 billion to the Sterling family for the LA Clippers franchise–a franchise that Forbes estimated to be worth $575 million just this past January.

Let’s take a look at the numbers here. The Clippers brought in about $128 million in revenues last season and generated $15 million in operating income. Calculating a “price/earnings” ratio on the purchase would give you a bubbly 133.

Remember, the Clippers are LA’s “other team.” And the Lakers–LA’s premier basketball team and one of the most storied franchises of any sport anywhere in the world–were estimated by Forbes to be worth “only” $1.4 billion. The New York Knicks were estimated to be worth about $50 million more than the Lakers.

I’ve been watching the sports bubble for a while now. As far back as 2010, I questioned whether the boom in sports stadium building were coming to an end. As I noted then, between 1992 and 2010, well over two thirds of ALL major North American sports venues were replaced: 67% of baseball teams, 69% of football teams, 77% of basketball teams, and a shocking 83.3% of hockey teams got new homes or had their old ones substantially renovated to the point of being virtually new. And the prices paid reached the levels of the absurd.

Someone has to pay for all of this, and much of it has been “financed” by lucrative TV deals. But this model seems to be reaching its limits. As I wrote recently, the cost of monthly cable bills have been increasing at a rate of about 6% annually. The average cable bill was $86 in 2011. By 2015, it is forecast to be $123 per month. Given that income growth has been stagnant for years, that’s not a sustainable trend. Ironically, Disney’s ESPN is the number-one culprit; the ESPN channels are alone responsible for about $5.50 per month.

The problem with calling the top of a bubble is that, because they are irrational to begin with, they can always get more irrational. But I’m taking the view that Ballmer’s $2 billion purchase of the Clippers will go down in history as one of the dumbest financial moves in history.

Is there a trade to be made here? If you think the bubble has longer to inflate, consider shares of Madison Square Garden (MSG), the owner of the New York Knicks and the New York Rangers hockey team. If the Clippers are “worth” $2 billion, then the Knicks are “worth” double or triple that amount. And MSG, trading at a P/E of 31, looks “cheap” relative to that of the Clippers.

Just be smart enough to know that you’re trading a bubble.

aQuantive. In August 2007, Microsoft acquired aQuantive, a online ad agency, for $6.3 billion cash, and 85% premium. At the time, it was Microsoft’s largest deal. “This deal takes our advertising business to a new level,” the company’s COO, Kevin Johnson, said at the time. How’d it work out? Microsoft took a $6.2 billion write-off on the business in 2012. “The acquisition did not accelerate growth to the degree anticipated,” the company said.

Skype. In May 2011, Microsoft acquired Skype for $8.5 billion in an unsolicited bid “even though there were no signs of other serious bidders,” as we wrote at the time. The price tag was three times what the company had gone for just 18 months prior, as the company was scrambling to catch up in the mobile and Internet markets. How’d it work out? Microsoft doesn’t break out Skype revenue, so it’s hard to really know. But the service is popular, and they just unveiled a gee-whiz “Star Trek” like universal translator service.

NokiaNOK1V.HE +2.16%. In September 2013, Microsoft acquired Nokia’s handset business, for $7.2 billion in cash. “It’s a bold step into the future – a win-win for employees, shareholders and consumers,” Mr. Ballmer said at the time. How’d it work out? You could argue, if you like, that it’s too soon to say; the deal closed only in April. But Microsoft controls less than 4% of the U.S. smartphone market. Moreover, whether it’s a win-win for employees, shareholders, and consumers, it was a definite loser for Mr. Ballmer: the Nokia deal was apparently the deal-breaker for him, and the internal fight over it led to his ouster.

Yahoo. Of all the deals Microsoft did do, it’s the one that it didn’t do that may be the most instructive. In February 2008, Microsoft offered $44.6 billion for Yahoo, a 62% premium to the company’s stock, in an attempt to merge two struggling search businesses. It was a huge deal in the high-tech world, and it was a huge, public, messy battle that Microsoft eventually lost in one way, and won in another. Yahoo ultimately rejected the deal, although angry shareholder would later boot founder Jerry Yang over it. Yahoo’s stock, which was in the $30 range when the deal was announced, would soon sink into the single digits, and would languish in the teens range for years after.

Not exactly a sterling record, no pun intended, and we didn’t even mention Microsoft’s stock, which went from $58 when Mr. Ballmer took over in 2000 to $40 and change today.

If the argument is an investment argument then the bear case on the numbers is the most cogent.

I have no idea what Mr Ballmer’s net worth is, but assume that $2B represents a fair proportion of his net worth and you have to ask about how concentrated this position is. Further, liquidity. Selling a basketball [or any sports team] can only happen to a fairly select group of investor[s]. If you need to sell fast…for whatever reason, that might be a problem.


Over the last few weeks I’ve been looking at possibilities for a second bike. This is the one that I’m most partial to [not this specific bike] but the type, viz, Ducati 800ss.



In his quarterly letter, Mr. Grantham estimates the market is currently overvalued by 65%, predominately because of the types of investors driving the market in the short-term.

“Purist value managers may try to block out the siren call because they don’t wish to be tempted, and some may hear it and do nothing because the gains are never certain and the lack of prudence is painfully obvious in the end,” he wrote. “Yet long-term value managers are outnumbered by momentum managers – always were and probably always will be – and momentum managers have no such qualms. Why this time, then, would they not play the game with even more enthusiasm, at least enough to drive the market to…2,250 and perhaps a fair bit beyond? And although nothing is certain in the market, this is exactly what I believe will happen.”

At some point, though, the party will stop. And that’s when a decline similar to what transpired in 2000 and 2008 could play out again, he says.

“The bull market may come to an end any time, indeed as I write it may already have happened,” Mr. Grantham said. “It could be derailed by disappointing global growth, profits sagging as deficits are cut, a Russian miscalculation, or, perhaps most dangerous and likely, an extreme Chinese slowdown. But I believe it probably (i.e., over 50%) will not end for at least a year or two and probably not before it reaches a level in excess of 2,250 on the S&P 500.”


We are in agreement on this.

I have to totally disagree with Dean Baker’s recent piece claiming the “sharing economy” is bad for the economy. Specifically, he argues that Airbnb and Uber are bad for the economy. He cites the fact that Airbnb and Uber are less regulated businesses that can not only evade regulatory requirements, but can also evade taxes. That’s probably true to some degree, but it’s not a sign of some flaw in our economy.

The growth of these businesses is just a sign of demand for better services because many of the businesses that currently provide those services aren’t providing what people expect. And so what we’ve seen is growth in competition because the competitors are simply providing a superior product that delivers the consumer a better overall experience.

Take the case of Uber for instance. Uber offers transportation on demand via Sedans (for a higher rate) as well as UberX which is privately owned vehicles operated by part-time drivers (read, anyone licensed as an Uber driver using their own vehicle).

Here in San Diego where the city is sprawling and rides are often 10+ miles this service is simply awesome. First, it’s less expensive than the cabs who essentially have a monopoly and gouge customers on any long ride. Second, the Ubers are cleaner and always nicer than the cabs, even if you use an UberX (the sedans are obviously much nicer though you pay a higher rate). And the drivers undergo a strict background check and in my experience are safer and nicer than most cabbies. They also tell me, universally, that they’re paid better than they would be working for the cab companies. And most importantly, the Uber technology makes getting a ride easy as a few clicks on your smart phone.

All in all, Uber beats the pants off the cab companies. Competition came in, wrecked the cabbie monopoly and improved the outcome in almost every single way. For consumers the growth of this business is a huge win in just about every way.

If you ask me, that’s not a flaw in the capitalist system. It’s precisely what we should be embracing. If the government is too incompetent or slow to evolve and adapt with the pace of changing industries, proper categorization of businesses and technological growth then that’s a problem with our government, not with businesses.


Interesting twist on the market at new highs:

According to the most recent CapitalIQ data, the single biggest buyer of stocks in the first quarter were none other than the companies of the S&P500 itself, which cumulatively repurchased a whopping $160 billion of their own stock in the first quarter!

Should the Q1 pace of buybacks persist into Q2 which has just one month left before it too enters the history books, the LTM period as of June 30, 2014 will be the greatest annual buyback tally in market history.

And now for the twist.

Unlike traditional investors who at least pretend to try to buy low and sell high, companies, who are simply buying back their own stock to reduce their outstanding stock float, have virtually zero cost considerations: if the corner office knows sales and Net Income (not EPS) will be weak in the quarter, they will tell their favorite broker to purchase $X billion of their shares with no regard for price: the only prerogative is to reduce the amount of shares outstanding and make the S in EPS lower, thus boosting the overall fraction in order to beat estimates for one more quarter.

Stock Buybacks quarterly_0


The market as defined by the S&P500 is at all-time highs. Stocks again seem to moving higher on some renewed optimism. As sentiment seems to be the predominant variable currently, that could change just as quickly the other way.

I remain market neutral, quite happy to let the market move which ever way it wants, while feeling no particular need to try and predict that move.

This essentially sideways action however is extremely frustrating and makes for the most difficult environment in which to make money. This is probably why frustration levels are rising. There is only one strategy: sit tight and wait for a trend to emerge. It will. It always does.


Small caps are on the radar.


The argument being that historically if small caps break-down, then, the larger caps have always followed in the past and are therefore likely to do so this time.

Assuming that in longer term portfolios you want to continue to hold stocks, then hopefully, as the market has risen, you have been taking some profits and have some cash on hand to buy if there is a significant dip.

If trading, then some form of market neutral position.

At the moment no-one really knows where the market is headed. There are good arguments for both sides. I’m going to sit still. Do nothing and be patient. At some point, the market will resolve, and you will know exactly what needs to be done.


Armo has a post out looking at the market relative to earnings.


The argument which relates to the earnings chart is this one:

And on top of that, the $FED is tapering with the expected plan of ending purchases near the end of the year. So unless the market is completely irrational and can’t price that information in, the argument that the Federal Reserve is blowing a bubble is just ludicrous.

The Fed, through a number of QE operations has significantly expanded its Balance Sheet. It is a question of causation, viz, did the expansion in money supply cause the increase in earnings? If the answer is yes, then, will a contraction in the money supply cause a decrease in earnings?

If the money supply increased by any arbitrary number, say 10% compounded per annum and the market share of a company remained constant, would revenues increase? Conversely, if the money supply growth was reduced, would revenue expansion slow?

Taking AMZN as an example.

chart (1)

Certainly the correlation looks strong on an annual basis during the expansionary years. With the contraction, the lag is apparent but can be seen more clearly in the quarterly data:


Of course one example is hardly conclusive of anything.

chart (2)

chart (3)

Of the more than 1,500 companies that have reported earnings so far [Q1 2014] this season, 60% have beaten earnings estimates and 56% have beaten revenue estimates. Below is a look at the earnings and revenue beat rates by sector.

beat rates 2014

eps revs

On the evidence, as QE expanded, so revenue growth expanded. Now with QE contraction, so revenue expansion is slowing. The market which anticipates and moves faster, is potentially ready to reprice…hence the sideways movement.

If the trend lower in revenue growth continues, and the market valuation is staying high, the repricing will likely be lower as the market reverts to lower earnings growth.

So in answer to his question can it get better? Yes, it could be a lot better. QE tapering is not bullish.


I have just added this bank to the portfolio. In addition I closed out my AAPL position. Not quite a swap, but 50% of the price came from the AAPL sale.



Well I would have said that BAC had no chance…but with only days left to trade, could it make $16 and close the gap?


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