• Insider Selling: A Bearish Signal

    (Watch the Marketwatch.com video here)

    Corporate insiders are selling more shares than they are buying. Last week that ratio reached 6.43 sells to 1 buy, which is higher than 95% of all previous weeks in the last decade.

    Insiders are people too. They need cash to finance house purchases and college tuition just like anyone else. So typically, insiders sell more shares than they buy. When markets trend upwards, insiders tend to sell more shares, and when markets trend downwards, insiders postpone their sales and tend to sell less. So selling is not necessarily newsworthy, but selling in down or volatile markets may be a bearish signal.

    Who is an insider? For filing purposes, the SEC defines an insider as "a company's officers and directors, and any beneficial owners of more than ten percent of a class of the company's equity securities registered under Section 12 of the Securities Exchange Act of 1934." These individuals must file the Ownership Reports and Trading by Officers, Directors and Principal Security Holders.

    Of course, this doesn't mean that officers, directors and principal security holders are the only people who can be caught for insider trading. Anyone who trades on material non-public information is guilty of that crime. This report is just one tool in the SEC fight against insider trading. This report is also a tool for investors to figure out what these knowledgeable investors must be thinking.

    Trying to decipher information gleaned from this report is not all that easy. Though a higher than usual sell-to-buy ratio is noteworthy, not everyone will agree that it is clearly bearish. According to Mark Hulbert of MarketWatch.com:

    Perhaps the strongest counterargument the bulls can muster at this point is that the insiders are not infallible. That indeed is true. Still, researchers report that they have been more right than wrong.

    At a minimum, I think we can all agree it can't be good news that insiders recently have been selling at such a fast pace.

    Discussion Questions:

    1. According to the MarketWatch.com article, why is this sell-to-buy ratio important? How might bearish investors interpret this information? How might bullish investors interpret this information?
    2. Go to www.sec.gov and search for "insider trading." What is insider trading and who is considered an insider?
  • Coffee Anyone?

     (Watch the NY Times Dealbook video here)

    Dunkin Donuts is my favorite. Krispy Kreme has its followers for donuts and Starbucks for coffee. Me, I prefer Dunkin Donuts for both.

    Investors are betting that I'm not alone in my tastes. Dunkin Donuts went public yesterday at $19/share, a higher price than the estimated $16-18/share that was expected. Apparently, this is a brand with room for growth. Already popular in the Northeast, the company is looking to double the number of stores as it seeks to expand its market share in Philadelphia, Chicago, and South Florida.

    Though Dunkin Brands has fewer stores than its competition, growth opportunities are promising.  According to the Reuters report on CNBC:

    Where it lags Starbucks and McDonald's in store numbers, Dunkin' Donuts wins when it comes to customer loyalty.  Brand Keys Inc, a consumer and brand loyalty consulting firm, says Dunkin' Donuts has ranked No. 1 for customer loyalty and engagement in coffee over the past five years.

    I guess I'm the loyal customer they were describing. I don't mind Starbucks, especially when it comes to in-store atmosphere, but for a good cup of coffee, I'll choose Dunkin Donuts every day.

    Discussion Questions:

    1. Read the Dunkin Brands press release here. What is the market capitalization of the firm now that it has gone public?
    2. How does this market capitalization compare with Starbucks (ticker SBUX) and McDonalds (ticker MCD)?
    3. Do you think Dunkin Brands has opportunity for growth or do you think that the competition from its rivals will be a difficult hurdle to overcome?
  • Good as Gold

    (Photo by BullionVault)

    If you thought diamonds are a girl's best friend, think again.   At over $1,600 per ounce, gold is the big winner. The precious metal hit a record high of $1,624 per ounce on Monday and has remained strong ever since.  Fears over the U.S. debt and global economic conditions have pushed gold into the stratosphere. If the U.S. gets downgraded, then U.S. bonds and the U.S. dollar won't be the safe havens they've always been.  That leaves gold.

    But can the price continue to rise? The word on the street is mixed. Some investors remain bearish on the world economies and are consequently bullish on gold. Others see upcoming weakness.  In her Bloomberg interview, Suki Cooper, precious metals analyst at Barclays indicated that the price of gold could face pressure for the following reasons: (Watch the Bloomberg interview here.)

    • Supply of gold. At these prices, suppliers of scrap metal may begin to release added supply of gold which would cause weakness in the price of gold.
    • Profit taking. Investors may see these prices as a good opportunity to sell holdings and realize their profits now.
    • Weak demand. Gold is not just used for investment purposes, it has industrial purposes as well. Apparently, weak physical demand in the coming weeks may prevent prices from increasing further.

    On the other hand, fear is a big motivator. Investor fears may be driving demand for gold, and that may not go away any time soon. Though an agreement on the U.S. debt may alleviate some investor fears and cause the price of gold to decline, others believe the price can still go higher.  

    So if you're in the market for an engagement ring or wedding band, perhaps prices will soften a bit, that is if investors become a little less jittery.

    Discussion Questions:

    1. What is the current price of gold according to www.cmegroup.com?
    2. What happens to the price of gold during times of economic distress? What is the explanation for this?
  • Hulu's Allure

    Hulu is up for sale, and everyone seems interested. Hulu is the web service that provides streaming video content of TV shows and movies, and everyone-Yahoo, Google, Amazon, AT&T, Verizon, even Apple-wants a slice of the online video market.

    In the history of mergers and acquisitions, acquirers have not always fared well. Acquirers have overpaid in the past and ended up with negative abnormal returns. Targets, on the other hand, have won. Investors who owned shares of takeover targets have often benefitted when the stock price rose during the merger.

    Looks like history may be repeating itself. Whoever buys Hulu will gain access to the online video market, but will likely be inheriting some problems as well. One of the big problems that this acquirer may face will be the cost of programming content once Disney and News Corp's Fox networks are no longer the parent companies. As the current owners of Hulu, these networks provide cheap programming and have helped Hulu make a name for itself. Once that relationship is over, the new owner of Hulu runs the risk that it may not be able to access the same content at the same low cost.

    According to CNNMoney,

    "Hulu is highly dependent on a continuing stream of new content from the current owners," says eMarketer analyst David Hallerman. "Fox and Disney are not going to hand low-cost content contracts to whoever buys Hulu."

    Instead, Disney and Fox "could just start playing in another sandbox," Hallerman says, because they wield a lot of power as the content owners.

    A loss of content could dent Hulu's impressive number of users -- which is key to drawing in advertisers.

    Hulu attracted 26.7 million unique U.S. users last month, according to data that comScore released last week. Those viewers watched nearly 160 million TV programs or movies on Hulu in June, and they spent more than 3 hours each watching, on average. That time spent watching is second only to YouTube and other Google-owned sites.

    We'll have to wait and see whether the research on mergers and acquisitions will hold true in the case of Hulu.  If the buzz continues, the current owners of Hulu could walk away with a windfall profit. Time will tell whether the acquirer will win as well.

  • Quality Matters

    Accrding to Pankaj Patel, Managing Director at Credit Suisse, now is the time for investors to “derisk” their portfolios. When asked in his CNBC interview with Maria Bartiromo what he means by derisking, he replied that high-quality, low risk companies have started outperforming low-quality, high risk companies. This seems to be true for large cap, mid cap, and even small cap firms. 

    In these current market conditions, when we don’t quite know what to expect, investing in companies that are highly rated sounds like good advice. He listed some rules of thumb to follow when investing: 

    • High-quality stocks outperform during market uncertainties
    • Add low-earnings risk stocks
    • Avoid high-earnings risk companies

    At the end of the day, quality matters.

    Discussion Question:

    1. How would an investor determine the riskiness or quality of a potential investment? 

  • Lessons From a Prior U.S. Default

    photo: Ace Clipart

    Apparently, the U.S. has defaulted before. So this current scare of an "unprecedented default" is not our first rodeo.

    Back in 1979, when the U.S. debt was $800 billion, the Treasury faced a back office glitch and failed to send out $120 million worth of payments on its Treasury bills. The default was blamed on a bookkeeping error, but it was a default nonetheless. And as unintended as it was, it cost taxpayers, according to an academic study that was published in 1989

    More than 20 years ago, Zivney and Marcus reported that the 1979 default was expensive. Their research revealed an increase of 60 basis points in the cost of the U.S. debt as a penalty for the default. This was a 60 basis point increase on the full $800 billion, not just on the $120 million the government failed to pay. (See Zivney, T. L. and Marcus, R. D. 1989. The Day the United States Defaulted on Treasury Bills. Financial Review, 24: 475-489.)

    This increased cost of debt had a lasting effect. According to the interview on NPR with Professor Zivney, the market remembered the default for several months following the event and penalized the U.S. for its mistake. (Listen the interview on NPR below or read the full transcript here.)

    Does it seem rational that the market would insist on higher interest rates over such a "small" and temporary default? After all, we're talking about the U.S. government. Surely, investors would understand.

    Consider your own debt for a moment. Would your bank let you off the hook if you failed to make your car payments? Would the bank be satisfied that you had a "back office glitch?" Probably not. Intended or not, default costs the borrower. Default was costly for taxpayers back in 1979 and it will be costly for taxpayers again today.

    Discussion Questions:

    1. What is the dollar cost to taxpayers of 60 basis points on $800 billion for 6 months?
    2. According to this Wall Street Journal article, what is "financial repression" and what are its effects?
  • What Will Become of Our Risk-Free Rate?


      (source: http://www.aoc.gov/cc/capitol/flags.cfm)

    Although we always knew that no rate is truly risk-free, financial models and investors have relied on the U.S. Treasury bill yield as their best estimate of the risk-free rate. Now what will we use if the U.S. government is no longer risk free?

    On July 14, 2011, S&P announced:

    Standard & Poor's has placed its 'AAA' long-term and 'A-1+' short-term sovereign credit ratings on the United States of America on CreditWatch with negative implications.

    We may lower the long-term rating on the U.S. by one or more notches into the 'AA' category in the next three months, if we conclude that Congress and the Administration have not achieved a credible solution to the rising U.S. government debt burden and are not likely to achieve one in the foreseeable future. (source: Standard & Poor's RatingsDirect on the Global Credit Portal, July 14, 2011)

    This action follows S&P's April 18 announcement where the ratings outlook was changed from 'stable' to 'negative.' In this video, S&P Managing Director explains that a negative ratings outlook indicates a six month to one year horizon for possible credit downgrade, whereas a negative CreditWatch is a three month or shorter time frame.  In other words, time is running out.

    On July 13, Moody's made a similar announcement:

    Moody's Investors Service has placed the Aaa bond rating of the government of the United States on review for possible downgrade given the rising possibility that the statutory debt limit will not be raised on a timely basis, leading to a default on US Treasury debt obligations. On June 2, Moody's had announced that a rating review would be likely in mid July unless there was meaningful progress in negotiations to raise the debt limit.

    In conjunction with this action, Moody's has placed on review for possible downgrade the Aaa ratings of financial institutions directly linked to the US government: Fannie Mae, Freddie Mac, the Federal Home Loan Banks, and the Federal Farm Credit Banks. We have also placed on review for possible downgrade securities either guaranteed by, backed by collateral securities issued by, or otherwise directly linked to the US government or the affected financial institutions. (source: Moody's Investor Services, Global Credit Research, 13 July 2011)

    With the August 2 deadline just around the corner, the government will have to come to a resolution very soon to avoid default.

    Discussion Questions:

    1. According to this Washington Post article, what are the implications of a lower credit rating on the U.S. government?
    2. According to the ratings listed by S&P, what proportion of governments are rated AAA?


  • RIM: Research in Motion...or Standstill?

    Blackberry’s Smartphone is facing serious competition and investors are blaming management. Apple’s iPhone (ticker:AAPL) and phones based on Google’s (ticker: GOOG) Android software have gained market share while Blackberry (ticker: RIMM) has lost significant ground.  The solution? New management.

    Investors are claiming that the board is not sufficiently independent. The two founders of the company, Jim Balsillie and Mike Lazaridis, serve as Co-Chairmen of the Board and Co-CEOs. They are facing pressure to split these functions, but have not yet taken action.

    Can shareholders influence a company to change its leadership structure? Maybe. This story is an interesting case of shareholder activism. The investors who are calling for splitting the top job at RIM are institutional investors such as Northwest & Ethical Investments LP (NEI). After calling for a vote on the issue, they have softened their demands for the time being while RIM studies the issue. Now that the vote will not take place, the shareholder’s meeting will not be as contentious as it might have been.  According to the Bloomberg article on 12 July 2011:

    RIM managed to avoid a public showdown by persuading NEI to drop its proposal with an agreement the company would form a committee to study its leadership. The move has frustrated investors who want RIM to shake up management and respond more quickly to its competitive threats.

    With the institutional investors placated, the smaller individual shareholders will probably not shake things up.

    “I expect a lot of grumpy senior citizens rather than fund managers,” who hold the larger stakes, said Jackson. “Even if it’s a placid event, no one should be fooled that shareholders are happy.”

    So for now, we wait to see what happens. I’m considering buying a smart phone myself. I thought I wanted a blackberry, but I’m considering the competition.

    Discussion Questions:

    1. Read this related article on Bloomberg. Why do investors want to split the roles of CEO and Chairman of the Board at RIM?
    2. How can investors influence managers to make changes at a firm?
  • Investing in a Home

    Homeownership has always been touted as the path to financial independence, but that is not what Robert Bridges is saying in his Wall Street Journal article entitled, "A Home is a Lousy Investment."

    For years, young couples saved money to buy a home. They paid 20 percent of the price as the down payment and financed the rest over 30 years. Thirty years later, they would be able to live in the house rent free, which would be necessary once they entered retirement and stopped earning an annual salary. Hence, financial freedom.

    But there is more to the story.

    First, living in any house is not exactly rent free, even without a mortgage payment. Roofs need repair, carpets need to be replaced, broken windows need to be fixed.  All of these expenses are absent when renting, since they are the responsibility of the landlord.

    Second, homes have not proven to be very good investments over the long term. This article reports that the median price of a single-family home in California was $99,550 in 1980 and $296,820 in 2010, a measly 3.6% growth per year. In contrast, had the young couple in 1980 invested their down payment plus homeownership expenses in an investment earning the same return as the Dow Jones Industrial Average, they would have had over $1.8 million by 2010.

    So from a purely financial perspective, perhaps homeownership is not the path the financial freedom that it was cracked up to be. However, there may be some intangible benefits that (in my opinion) make homeownership part of the American dream. After all, there’s something to be said for painting the walls your favorite color and growing your own vegetables.  Whether that is worth the financial tradeoff is for each homeowner to decide.

    Discussion Questions:

    1. What was the value of the Dow Jones Industrial Index in 1980? In 2010? What is the annual compound rate of return on $1 invested in the DJIA over that time period?

    2. Do you consider homeownership to be one of your financial goals? Why or why not?

  • The Double Eagle Has Landed

    Imagine finding some old coins that belonged to your grandfather tucked away in your attic.  Now imagine discovering that each one is worth millions of dollars.

    The heirs of Israel Switt, a gold dealer who died 21 years ago, discovered 10 gold “double eagle” $20 coins in a safe deposit box in 2003. But when they asked the government to authenticate them, they discovered they’ll have to fight Uncle Sam for rightful ownership. In a case that began Thursday, the Assistant United States Attorney is arguing that the coins were stolen and therefore should be returned to the people of the United States. The Langbord family, heirs of Mr. Switt, claims that the gold coins belong to them legitimately and are suing the government for wrongfully seizing private property. In a NY Times article on July 8, 2011, John Schwartz describes both sides of a fascinating story:

    How did the coins get out? Gloriously designed by Augustus Saint-Gaudens, the 1933 double eagles were never officially distributed. President Franklin D. Roosevelt, trying to stop a bank panic and to stem hoarding, issued an executive order that made owning large amounts of gold bullion and coins illegal. So while nearly a half million were made, all but two, sent to the Smithsonian, were supposed to have been reduced to bullion.

    But in 2004, Joan Langbord, Mr. Switt’s daughter, and her sons contacted the United States Mint to say they had discovered the 10 coins tucked away in a safe deposit box, within a folded Wanamaker’s department store bag, and asked for help in authenticating them. Instead, the government seized the double eagles—an eagle was a $10 piece, a half eagle a $5—saying that since they had never been circulated, they must have been stolen. The Langbords sued to get them back.

    From a finance perspective, what an amazing investment. And what a windfall to discover such value in your family safety deposit box.  CNN reported in 2002 that a double eagle coin had sold for $6.6 million, a record price. From a historical perspective, what an interesting lesson on depression-era financial markets. And from a legal perspective, what an important story about the burden of proof and the reach of government.

    Discussion Questions:

    1. What rate of return did the Langbords earn if one coin was worth $20 in 1933 and $6.6 million in 2003?


  • Introducing the Finance Blog

    Greetings! Welcome to the finance blog for Cengage. I want to introduce myself and welcome you to this site. I've posted a few blogs this week to give you a taste of what to expect. You should find three posts per week through the rest of the summer and then five per week throughout the academic year. For most posts, I'll try to provide some discussion questions to encourage you to consider issues in finance. Professors might want to use them in class assignments, and students might find them food for thought. Whether or not you're a student of finance, I hope these blogs will be relevant to you. After all, finance touches all of us one way or another.

    I'm an Associate Professor of Finance at the University of North Carolina Wilmington where I teach courses in Corporate Finance, Derivatives, Banking, and Fixed Income. I look forward to a great year ahead.

    Nivine Richie, Ph.D., CFA

  • The Dream of a Small Business

    Many people dream of starting and running their own businesses. Despite tough economic times, the entrepreneurial spirit is alive and well.

    When a new business is started, the owners face a number of big decisions—one of which is the type of business organization to chose. For folks considering sole proprietorships or small partnerships, the Small Business Administration has helpful information to get started.


    Another big decision is the type of financing that will get the business off the ground. Venture capital is a type of equity investment where wealthy investors called “angel investors” or venture capital firms give the firm cash in exchange for shares. The alternative is to use bank loans or loans from other sources. Each of these funding sources comes with its own opportunities and threats, of course. In the end, though, they make the dream of owning a small business a reality for many Americans.  

    Discussion Questions:

    1. What are the benefits and limitations of sole proprieterships? What about partnerships? What about corporations?
    2. What are the different sources of funding available to a new small business? What are the benefits and limitations of each funding source?


  • Shares and Shareholders


    CNNMoney.com reported that Netflix shares jumped on news that Netflix plans to expand internationally. The announcement that Netflix will begin to expand beyond the U.S. and Canadian market caused the share price to rise from $267 to $289 on July 5th.

    The announcement of expansion plans caused the price to rise, but the expansion hasn’t happened yet. Clearly, the market believes that Netflix will benefit by gaining customers outside the U.S. and Canada. Revenues and profits will increase, leading to positive cash flows for the company owners, i.e. the shareholders. And since we’ve been taught that the goal of the firm is to maximize shareholder wealth, this future project for Netflix seems to be good news for the owners of the firm. 

    Discussion Question:

    1. What are some other potential goals for a firm? If a firm chose to follow some of these other goals, what kinds of actions might the firm managers choose in order to meet these goals?
    2. How might “maximizing shareholder wealth” lead to positive choices by firm managers? How might this goal lead to negative choices?



  • Skunked by Debt


    Photo by Hannah Foslien/Getty Images

    What goes around comes around. Borrowed money must be repaid, and that is the lesson that Frank McCourt, owner of the Los Angeles Dodgers, is learning-the hard way. Bloomberg reported that the baseball team filed for Chapter 11 bankruptcy this week after years of "lavish" spending and debt by team owners. Read the full article here.                                              

    U.S. consumers (like baseball team owners) can fund their lifestyles with debt or equity. For generations, folks chose to pay for most everything using cash. Credit cards were rarely used; mortgages were hard to come by. Then things changed. Students were offered credit card applications on campus. Graduates bought their first cars on credit, and decided that they wouldn't notice an extra $5,000 in the price tag spread out over monthly payments. Mortgages were easy to get. Buy now pay later.

    Reducing debt is like losing weight-one must eat less and move more. Solving a debt problem requires reduced spending or increased income. And just as the extra pounds take time to disappear, reducing debt won't happen overnight.

    Consumers can take a lesson from the L.A. Dodgers. Lesson #5 in the Bloomberg article by Jack Hough is to go easy on debt.

    Debt has made plenty of real estate developers rich, but it provides little room for flexibility when the economy tanks. True, finance nerds will argue that debt makes mathematical sense when used strategically, but it also has a way of tempting buyers to overpay. For deeply indebted consumers, the terms can worsen at just the wrong time. Before you know it you're looking at Chase MasterCard advance offers with 4% service fees. Or in McCourt's case, you're having your lawyers ask a bankruptcy judge to approve $150 million in financing from a JP Morgan Chase hedge fund at 10% interest plus a $4.5 million fee.

    Discussion Questions:

    • 1. Consider a 5-year loan on a new car that costs $21,000. What are the monthly payments if the interest rate is 5% per year? What if the new car costs $26,000? Over the life of the loan, what is the total interest paid in both cases?


    • 2. What are some potential solutions to the debt problem currently facing consumers and governments?