• Volcker Rule Draws European Criticism

    The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 was signed in to law “To promote the financial stability of the United States by improving accountability and transparency in the financial system, to end ‘too big to fail’, to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices, and for other purposes” (see Public Law 111-203).


    One particular provision of the law, the Volcker Rule, has European governments joining American bankers in protest.


    According to Andrew Ross Sorkin of the NY Times Dealbook:


    …The Volcker Rule, that part of last year’s Dodd-Frank financial regulation law that says that banks are not allowed to participate in “proprietary trading.” Translation: Banks can’t make risky bets with their own money. The idea, rooted in ending the too-big-to-fail phenomenon, is to separate the risky casino element of Wall Street from the utility role of helping finance the economy.


    Yet finance ministers from around the world lined up to whisper in the ear of Timothy Geithner, the Treasury secretary…about a specific element of the Volcker Rule that has them apoplectic: The rule says that United States banks—and possibly certain foreign banks that do business in America—would be restricted in trading foreign government bonds. Yet the rule, conveniently, provides an exemption for United States government securities. Every other country is out of luck.


    European officials claim that this rule will lead to unintended consequences for European governments as they borrow money.

    Discussion Questions:


    ·       What is “proprietary trading” and what risks does it pose to a bank?


    ·       What are some potential “unintended consequences” for Europe that may be caused by the Volcker Rule?


  • Investing in Facebook

    Facebook is preparing to go public and the effects are rippling through the technology stock sector. Related stocks like Zynga (ticker ZNGA), the online game developer, experienced gains over the last couple of days as investors expect these stocks to benefit from Facebook’s IPO.


    One ETF in particular, the Global X Social Media International EFT (ticker SOCL) is expected to be an investor in Facebook once the stock is launched. According to Barrons, “The ETF tracks 28 names—including some of the most widely followed IPOs such as Groupon (GRPN), LinkedIn (LNKD) and Zynga (ZNGA).” (read the Barron's article here)


    Investors have a required return, so how do the potential investors in Facebook expect to make money? They make money when Facebook makes money.


    According to CNN Money:


    The vast majority of Facebook's revenue comes from advertising: a combination of search and display ads. And the sales growth is incredibly robust.


    Research firm eMarketer estimated last September that Facebook's ad revenue would more than double in 2011 to $3.8 billion and increase another 52% to $5.78 billion in 2012.


    …Facebook's other revenue stream is its payment system for purchases within apps and games: Facebook Credits. Facebook keeps 30% of the revenue from those payments, and passes the remaining 70% on to the app developer.


    Facebook Credits now comprises 10% of the company's total revenue, up from 5% in early 2010, Pyykkonen estimates.


    Discussion Questions:


    ·       Describe the process of an initial public offering (IPO). How will the investment bankers, the firm, and investors arrive at the correct initial price per share?


    ·       What does the academic research say about the performance of stocks following the initial public offering?


  • More High Frequency Trading On the Horizon

    According to Institutional Investor (25 January 2012)

    High frequency traders tripled their share of the U.S. equity market from 20 percent in 2005 to 60 percent in 2008, although that share has since fallen to about 53 percent, according to RBC Capital Markets. Using high-speed, fiber-optic networks and sophisticated computer algorithms, traders can execute orders at speeds that were unthinkable just a few years ago. “We have found that anything north of 500 microseconds just isn’t fast enough,” says Rich Steiner, head of market structure strategy at RBC.

    (read the full article here)

    According to the author, electronic trading is partially driven by the regulators themselves.  High frequency trading (HFT) in equities grew out of a movement to provide investors with the best execution possible. In swap and fixed-income markets, electronic trading is likely to be motivated by a desire for greater transparency and controlled systemic risk. 

    Some suggest that HFT is a good thing as it leads to greater market liquidity and lower transaction costs.  Others feel that it leads to chaos and can be responsible for disruptions like the May 2011 “flash crash.”  Still others suggest that “resistance to electronic trading is economic and reflects the anxiety over publicly displayed prices.”

    Discussion Questions

    ·       According to the article cited above, what are some other benefits of electronic trading? How have equity markets benefited from electronic trading?

    ·       What are some of the forces that may lead to increased electronic trading in derivatives and fixed income securities?


  • Super Bowl Tickets


    Super Bowl tickets are selling for more than $2,500 on the secondary market this year.  Of course the face value of the tickets is a lot lower than that, but regular fans can’t touch them at the lower prices.

    According to CNN Money:


    The face value of Super Bowl tickets run from $800 to $1,200, but they are never made available at that price to the average fan. Instead, they are reserved for season ticket holders, league sponsors and other favored groups.


    But the growth of the secondary ticket market means tickets to the Feb. 5 game between the New York Giants and New England Patriots are only a few clicks away—at a hefty price, of course.


    Discussion Questions:


    ·       What is the “primary market” for Super Bowl tickets? What about the “secondary market?”


    ·       Are there any arbitrage opportunities in the Super Bowl ticket market? Who would be able to exploit such an arbitrage?


  • US Air Explores Merger with American Airlines

    Photo courtesy of http://www.usairways.com/en-US/aboutus/pressroom/photos.html


    Further consolidation may be coming in the airline industry.  US Air confirmed that it is exploring the possibility of merging with American Airlines (AMR).  According to Bloomberg Jan 25, 2012, “US Airways is preparing a merger plan that would boost revenue and fix a weak domestic route system at American, the people familiar with the matter said last week.”

    From the Bloomberg article:

     A US Airways-American combination would hold about a 20 percent domestic market share, according to Jeff Straebler, an independent airline analyst based in Stamford, Connecticut. That would put the blended carrier on roughly equal footing with United Continental Holdings Inc., Delta and Southwest Airlines Co. (LUV), Straebler said last week.

    US Air (ticker LCC) shares are up $1.44 to $7.85 per share.  American Airlines parent corporation AMR Corp (ticker AAMRQ) shares are trading at $0.595 per share.  AMR Corp filed for Chapter 11 bankruptcy on November 29.

    Discussion Question:

    As a capital budgeting case study, what relevant cash flows would US Air need to forecast before it can prepare its merger bid?


  • The New JC Penney

    Ron Johnson, JC Penney CEO, may be putting a stop to the endless stream of advertisements I get in the mail announcing another “one-day sale.”  As former SVP of Retailing at Apple, Mr. Johnson is hoping to revitalize JC Penney by adopting a new pricing strategy.  One that is simpler and more predictable. 

    Does that mean it is time to buy JC Penney shares?  I don’t know if folks are quite convinced yet.  The video below suggests mixed feelings about the future of the company. According to one interviewee, investors may want to bet on Ron Johnson or sit on the sidelines.  But it might be risky to bet against him. 


  • Research (back) In Motion


     Can the new CEO fix Research In Motion, the maker of Blackberry?  Maybe.

    The company announced Sunday that the two co-CEOs are stepping down and are being replaced by Mr. Thorsten Heins, former COO.  No one knows yet what will happen to the firm, whether it will be saved, sold, or split up.  The road ahead is a challenging one as RIM faces competition from Apple and the makers of other smartphones.  But it is not “game over” for Research in Motion, as the video above indicates.  The company does have its valuable patents, so in spite of the 75 percent decline in the value of the stock, there is still hope.


    Discussion Questions:


    ·       According to this article by Business Insider on Yahoo Finance, what is the author’s impression of the future of RIM under the new CEO?


    ·       According to this article in the Montreal Gazette, what are the company’s strengths identified by Mr. Heins?


  • What Started the Financial Crisis?

    Fannie Mae and Freddie Mac were a cause of the financial crisis.  Not the cause of the financial crisis. 


    That is the argument presented by Bloomberg’s Jonathan Weil in response to a recent critique of the government sponsored enterprises (GSEs) written by Edward Pinto for RealClearMarkets.com. 


    From the Bloomberg article:


    Fannie Mae was a cause of the financial crisis. So was Freddie Mac. U.S. government housing policies, which often encouraged people to take out loans they couldn’t repay to buy homes they couldn’t afford, were also a cause. None of these was “the” cause of the crisis, because there was no single cause. What we can say is this: But for the actions of a vast number of actors, including Fannie and Freddie, the crisis wouldn’t have happened the way that it did.


    That seems straightforward enough. Yet this silly debate—over whether the government-backed housing financiers and their enablers were a cause or the cause—keeps raging anyway.


    Discussion Questions:


    ·       What are some other potential causes of the financial crisis?


    ·       In your opinion, should Fannie Mae and Freddie Mac be shut down or should they be allowed to continue on?


  • Do You Know When to Hold 'Em and When to Fold 'Em?

    Afraid of a government “default Armageddon?” Then you may find yourself in the same boat with Pat Regnier, Assistant Managing Editor of Money Magazine. 


    In this video, Mr. Regnier describes his “panicked trade” where he sold the stocks and bonds in his retirement account and moved all the money into cash.  Though he admits that he’s not a believer in market timing, he found himself doing just that—trying to time the market and get out just in time.  Now he’s faced with a new dilemma.  He must choose when to time the market and get back in.


    Discussion Questions:


    ·       Why does Mr. Regnier suspect that his trade decision may cost him money in the long run?


    ·       How does he suggest investors decide when to get back in the market?


    ·       In your opinion, should investors try to time the market?


  • A Nation of Renters


    In recent years, the U.S. has shifted from a nation of homeowners to a nation of renters.  However, with improving signs of life in the single-family home market, perhaps that trend will change.


    Rents have been rising steadily as apartment vacancies drop and "rental nation" pervades consumer sentiment, but 2012 will likely not see as robust rent growth as 2011; housing affordability continues to improve and renting is becoming ever more expensive than owning.


    "A stretched consumer is beginning to push back harder against rental increases, and new supply and a slowly healing single-family market will begin to equalize what has been a lopsided, renter-dominated housing market for over 5 years," say analysts at Green Street Advisors.


    (read the full CNBC article here)


    While some renters have chosen to escape the risk of homeownership, others are renting because they still can’t buy homes.  Though some would probably buy homes if they could, many are still suffering from poor credit histories and reduced incomes. 


    Discussion Questions:


    ·       What is a real estate investment trust (REIT) and how would it be affected by rental trends in the U.S.?


    ·       According to this CNBC article http://www.cnbc.com/id/45887201/ , what has happened to rents recently?


  • The New Way to Pay

    “Right now, when you open a bank account, you get a debit card, a credit card, and a check book.  But in the future, we think you’ll just access your money instantly through your cell phone.”                 ~ Ben Milne, Founder and CEO of Dwolla



    Ben Milne’s vision is Dwolla, a new service that allows customers to transfer cash through their cell phones.  He hopes to replace high-cost credit card transactions with a flat-fee, low cost cell phone money transfer. 


    Dwolla currently has 6,000 merchants and 75,000 customers.  But Mr. Milne is looking to make this a universal payment system someday.


    Discussion Questions:


    ·       What are the benefits of a cell-phone based payment system?


    ·       What are the risks involved in such a system?


  • The London (Financial) Bridge

     (Photo of London, by N. Richie)



    Chinese currency accounts for only 0.9 percent of the global foreign exchange market but China itself accounts for 11 percent of worldwide trade.  London recognizes the potential and is hoping to become the center of Chinese currency trading.


    According to the NY Times Dealbook (16 January 2012):


    “London is perfectly placed to act as a gateway for Asian banking and investment in Europe, and a bridge to the United States,” Mr. Osborne said in a speech to the Asian Financial Forum in Hong Kong. “This is not just an accident of time zone, or our language, although both are important. It reflects London’s strength in product development, its regulatory structure, and the depth, breadth and international reach of its financial markets.”


    George Osborne is the chancellor of the Exchequer and is “working with Chinese and British banks to establish London as the new hub for the renminbi market.”


    Discussion Questions:


    1.      Why does Mr. Osborne believe that London is uniquely qualified to be the center of Chinese currency trading?


    2.      What factors are likely to slow down the development of Chinese currency markets?


  • The London Metal Exchange Courts Potential Acquirers

    The 135-year old London Metals Exchange will begin reviewing takeover bids next month. 


    From the NY Times Dealbook, 12 January 2012:

    The firm’s chief executive, Martin Abbott, declined to comment on how many bidders there might be for the 135-year-old company, which allows market participants to trade industrial metals like copper and nickel. A person briefed on the matter, however, said there were at least 10 interested parties.

    Financial data on the company was sent to potential bidders earlier this year.


    The takeover contest for the London Metal Exchange, whose price tag may reach £1 billion ($1.5 billion), is expected to last well into 2012. Analysts say potential bidders could include the CME Group or IntercontinentalExchange.


    JPMorgan Chase is the exchange’s largest shareholder, after acquiring a 4.7 stake for $38.9 million from the bankrupt brokerage MF Global in November, and it now owns 10.9 percent of the London firm.

    Discussion Questions:


    ·       What purposes does a derivatives exchange serve?


    ·       How did the market for tin contribute to the birth of the LME?


  • New Bond Exchange-Traded Fund

    Investors seeking to benefit from the bond management expertise of Bill Gross will have a new opportunity in March.  Mr. Gross, the co-CIO of PIMCO, manages the PIMCO Total Return Fund which is the world’s largest bond fund with $240 billion in assets.  Come March 1, PIMCO will be launching a new “twin” bond fund that will be managed the same way the Total Return Fund is managed.  But this fund will be offered as an exchange-traded fund (ETF).


    What are the benefits of the ETF versus the traditional bond fund?  According to this interview, ETF fees are lower than typical mutual fund fees.  Also, investors in ETFs are able to buy and sell their shares anytime that the markets are open, which means they have the advantage of liquidity.  And finally, ETFs offer more transparency than typical mutual funds because investors can identify the components of the fund more easily. 


    All told, the PIMCO Total Return ETF may be a way for the smaller investor to participate in a market that has traditionally only been available to institutions or wealthy investors. 


    Discussion Questions:


    ·       According to the video interview, what can bond investors expect going forward?


    ·       Go to the NYSE ETF website at https://etp.nyx.com/en/etps/etfs and identify the benefits of ETFs.  Why are ETFs considered more transparent than a typical mutual fund?


  • German Bonds at a Negative Yield

    What is the price of money? For Germany, the price is zero.


    According to Spiegel Online (Jan 9, 2012):


    While many euro-zone nations are struggling to obtain credit, investors are practically throwing money at Germany. The country on Monday raised almost 4 billion euros in six-month debt at a negative interest rate. In effect, investors paid Germany to be able to lend it money.


    Even the Germans are surprised at the degree of risk-aversion.  From the article:


    Investors in Europe are so worried about the euro crisis and so desperate to find a safe haven for their cash that they decided to forego an interest rate, and even paid a premium, for the privilege of lending Germany money on Monday.


    The auction of six-month German government bills on Monday produced a negative interest rate. Even the Federal Finance Agency, which manages Germany's debt, was astonished. "That has never happened before," said a spokesman.


    The average rate amounted to minus 0.01 percent. The auction generated €3.9 billion ($4.9 billion). Demand for the securities was so high that the sale was 1.8 times oversubscribed.


    Discussion Question:


    According to this Bloomberg article, why would the yield on the new six-month German bonds trade at such a low or negative yield?


  • Social Media and Safe Investing

    Financial advisors can’t say just anything. They have anti-fraud and record-keeping rules to follow. But in this modern world of social media, communicating with clients can lead to unforeseen problems for advisors and for the clients.


    That’s why the SEC has published guidelines for registered investment advisors (RIAs) and for investors. From the recent SEC staff alert:


    Social media is landscape-shifting. It converts the traditional two-party, adviser-to-client communication into an interactive, multi-party dialogue among advisers, clients, and prospects, within an open architecture accessible to third-party observers. It also converts a static medium, such as a website, where viewers passively receive content, into a medium where users actively create content.


    …Firms’ use of social media must comply with various provisions of the federal securities laws, including, but not limited to, the antifraud provisions, compliance provisions, and recordkeeping provisions.


    The SEC concedes that the internet can provide opportunity for investors but can also introduce fraud. What can investors do to protect themselves? According to the SEC Investor Alert Social Media and Investing: Avoiding Fraud, “The key to avoiding Investment fraud on the Internet is to be an educated consumer.”


    Discussion Questions:


    1.      According to Social Media and Investing: Avoiding Fraud, what are some ways investors can avoid fraud on the Internet?


    2.      According to Social Media and Investing: Understanding Your Accounts, what are some tips you should consider when establishing an account on a social media website?


  • The Good Ol' Days of 1930s-Style Banking

    A recent NY Times opinion piece by Professor Amar Bhide at Tuft’s Fletcher School of Law and Diplomacy calls for a return to bank regulation a la 1930s.

    From the article:

    Banks must therefore be restricted to those activities, like making traditional loans and simple hedging operations, that a regulator of average education and intelligence can monitor. If the average examiner can’t understand it, it shouldn’t be allowed. Giant banks that are mega-receptacles for hot deposits would have to cease opaque activities that regulators cannot realistically examine and that top executives cannot control. Tighter regulation would drastically reduce the assets in money-market mutual funds and even put many out of business. Other, more mysterious denizens of the shadow banking world, from tender option bonds to asset-backed commercial paper, would also shrivel.

    The author describes certificates of deposits (or CDs) and repurchase agreements (repos or RPs) as  “quick cash” and says that they are “prone to manic-depressive behavior, swinging unpredictably from thoughtless yield-chasing to extreme risk aversion.”

    One of the ideas behind the Glass Steagall Act was that banks should be restricted from competing for funds because competition leads to excessive risk-taking.  Another idea is that government guarantee of deposits will prevent bank “runs,” hence the creation of the FDIC.

    The bottom line of the argument set forth by Professor Bhide and others who favor a return to restrictive bank ragulations:

    Governments should fully guarantee all bank deposits — and impose much tighter restrictions on risk-taking by banks. Banks should be forced to shed activities like derivatives trading that regulators cannot easily examine.


    Discussion Questions:

    1.      Go to this summary of the Glass Steagall act.  What are some of the restrictions imposed by the Glass Steagall Act of 1933?

    2.      Go to this OCC document and describe the Gramm-Leach-Bliley Act of 1999.

    3.      In your opinion, should the government return to the restrictions of the Glass-Steagall Act of 1933? Why or why not?


  • January Optimism

    Are you planning to eat less and exercise more this year? Do you have a list of books you intend to read in 2012? Any unfinished projects to complete?


    If you have a New Year’s resolution, you’re in good company. According to this 2006 survey by DayTimers, many Americans have successfully kept at least one of their resolutions.  However, according to the Washington Post article by Stephen Ciccone, Dec 30 2011, more people fail to keep their resolutions than succeed.


    Why make resolutions at all? The answer is optimism.  Especially in January, when all things begin anew.


    The stock market seems to experience a similar boost in January.  The “January Effect” is a phenomenon where stock prices rise in January after having declined in December.  According to this Washington Post article:


    Two popular hypotheses try to explain these unusual returns. One is “tax-loss selling” —the notion that investors sell stocks in December to generate capital losses for their tax returns, then buy them back in January, pushing up prices temporarily. The other, “window-dressing,” contends that money managers sell risky holdings in December to make portfolios look safer when reporting to clients. After the ball drops, they buy back what they sold, pushing January prices up.


    A forthcoming article in the Journal of Behavioral Finance by Professor Ciccone suggests another explanation.  From the abstract of the paper (available by subscription):


    The turn-of-the-year is hypothesized to be a time of renewed optimism. Indeed, investor sentiment, as measured by the University of Michigan's Index of Consumer Confidence, peaks in January. Thus, optimists are expected to bid up the stock prices of firms with higher levels of uncertainty in January. These firms will subsequently underperform as they disappoint investors during the remainder of the year. Despite the disappointment, the January pattern persists due to the “false hope syndrome” described in the psychology literature.


    Discussion Questions:


    1.     According to the research, which stocks are most likely to experience this optimism-based January effect?


    2.     Why do many academic researchers reject “sentiment” based arguments such as January optimism?