• The Language of Investing

    Do you know what it means for a stock to be overvalued or undervalued?


    In this Mad Money video, Jim Cramer explains the math behind the P/E ratio, also known as “the multiple.” He shows that when we buy a stock, we’re really buying a bit of the company’s future earnings. We are less interested in the actual share price and more interested in how the share price compares to expected earnings. As the P/E ratio fluctuates, stocks become overvalued or undervalued.


    For discussion:


    What is the P/E ratio for a sample firm like Ethan Allen (ticker: ETH)?


    How does this P/E ratio compare to the S&P 500 P/E ratio? How does it compare to Ethan Allen’s industry P/E ratio?


    Would you conclude that ETH is undervalued, correctly valued, or overvalued?


  • Detroit Seeks DIP Loan

    The city of Detroit has requested court approval for a $350 million loan, despite its Chapter 9 bankruptcy that was filed last July. The city plans to use $100 million of the proceeds to provide some liquidity for the city and the remaining $250 million to terminate an interest rate swap agreement with Merrill Lynch.


    The judge is expected to approve the loan, but that doesn’t mean lenders are eager to lend the bankrupt city money. This type of loan is called a debtor-in-possession (DIP) loan, and gives the lender the right to be repaid before all other creditors.


    According to a recent Reuters article published by CNBC


    But under Chapter 9 of the bankruptcy code, which covers the rare municipal bankruptcies, there is no real precedent for a DIP loan. As a result, there is no blueprint for determining the collateral the city can pledge, and how much power the judge has to enforce a lender's rights if Detroit defaults.


    The only example of a municipal bankruptcy loan that turned up in a search of court records by Reuters was Prichard, an Alabama city with about 30,000 residents, which received court approval for a loan in 2000 during the first of its two recent bankruptcies.


    The lack of precedent may make the loan a tough sale or may prompt lenders to demand control of the bank account receiving the casino revenue, lawyers told Reuters. DIP loans in corporate bankruptcies are often used to as a way to control a restructuring, and it was through a DIP loan that the U.S. Treasury guided the 2009 bankruptcies of GM and Chrysler.


    For discussion:


    Read this NY Times editorial and this counterpoint blog.  What are interest rate swaps and why did Detroit enter into them? What else could Detroit have done instead of entering an interest rate swap?



  • Currency Forensics

    Currency trading patterns reveal that traders may be manipulating exchange rates.  Just minutes before the last trading day of the month, currencies “spike” unexpectedly and then revert to their previous value, suggesting that traders are intentionally trying to move rates.


    According to Bloomberg (28 Aug 2013):


    The recurring spikes take place at the same time financial benchmarks known as the WM/Reuters (TRI) rates are set based on those trades. Now fund managers and scholars say the patterns look like an attempt by currency dealers to manipulate the rates, distorting the value of trillions of dollars of investments in funds that track global indexes. Bloomberg News reported in June that dealers shared information and used client orders to move the rates to boost trading profit. The U.K. Financial Conduct Authority is reviewing the allegations, a spokesman said.


    … Investors and consultants interviewed by Bloomberg News say dealers at banks, which dominate the $4.7 trillion-a-day currency market, may be executing a large number of trades over a short period to move the rate to their advantage, a practice known as banging the close. Because the 4 p.m. benchmark determines how much profit dealers make on the positions they’ve taken in the preceding hour, there’s an incentive to influence the rate, DuCharme said. Dealers say they have to trade during the window to meet client demand and minimize their own risk.


    For discussion:


    What does it mean that currency markets are “opaque?”


    How do distortions in foreign-exchange rates affect investors?


  • How Much To Save For Retirement



    According to this CNBC video, “When it comes to retirement, many people say they are planning to wing it.”

    The interview shows how much a 25-year old has to save per month compared with a 35-year old, a 45-year old, and even a 55-year old.


    For discussion:

    Why do people fail to save enough for retirement? What can they do to change that?


    How much would a 20-year old have to save per month if he or she wanted to retire with $1,000,000 at the age of 60, assuming an annual rate of 5%? What if this person waited until the age of 40 to start saving for retirement; how much would he or she have to save per month to reach $1,000,000 by retirement age?

  • The Cost of Computer Malfunctions

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    When trades are entered quickly and in large volumes, then errors can cost investment firms millions of dollars. They may also cost employees their jobs.


    This week, four employees at Goldman Sachs were blamed for a computer glitch that submitted erroneous trades.


    According to Bloomberg (Marcinek, 25 Aug 2013):


    Goldman Sachs Group Inc. (GS) put four senior technology specialists on administrative leave after a programming error caused the investment bank to send faulty stock-options orders last week, the Financial Times reported.


    …An internal system that Goldman Sachs uses to help prepare to meet market demand for equity options inadvertently produced orders with inaccurate price limits and sent them to exchanges, a person familiar with the situation told Bloomberg News after the Aug. 20 mishap


    For discussion:


    Read this article by BusinessInsider. How is this Goldman Sachs trading error similar to the Knight Capital error in 2012? How is it different?

  • What Happened to Nasdaq This Week?

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    If you know anyone who’s served as the audio/video tech for an event, then you know that the minute a microphone goes haywire, all heads turn and everyone stares at the sound man.


    Everyone turned and stared at Nasdaq this week. A computer glitch caused the exchange to halt trading for three hours, sparking commentaries calling for better technology and more oversight.


    But Nasdaq didn’t take the criticism lying down.


    From the NY Times (Popper, 23 Aug 2013):


    The chief executive of the Nasdaq stock exchange, Robert Greifeld, on Friday shot back at criticism of how his exchange handled a three-hour halt in trading on Thursday afternoon.


    Mr. Greifeld said in an interview on Friday morning that the breakdown on Thursday had been set off by another participant in the market, not something inside Nasdaq.


    “We had an external environment happen,” he said.


    That problem, which Mr. Greifeld declined to describe more fully, caused issues with the data system that provides prices for recent trades in Nasdaq stocks. Nasdaq operates that system.


    Mr. Greifeld, a longtime Nasdaq executive, said that the exchange needed to work on its “defensive driving” to deal better with mistakes by others.



  • College Savings 101

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    A recent survey by Fidelity Investments showed that more American families rely on the help of financial advisors when saving for college. According to Investment News (21 August 2013):


    One-third of parents use advisers to help with college savings decisions, a jump from only 21% seven years ago when Fidelity began its annual College Savings Indicator study.


    Those working with an adviser have accumulated 57% of their goal so far, compared with the average family, which has amassed 34% of their college savings goal, according to the survey, conducted by Research Data Technology Inc. in June.


    The issues discussed by advisors include:


    1.      Saving for college and 529 plans
    2.      Choosing an affordable college
    3.      The impact of student loans
    4.      The financial aid process


    For discussion:


    What do you think are some of the benefits of seeking financial advice when it comes to paying for college?

  • The DOJ Versus The Airlines

    The Department of Justice is trying to keep the friendly skies friendly. At least for consumers. For the airlines, not so much.


    This week, the DOJ filed a lawsuit to block the merger of US Airways and American Airline, claiming that recent consolidation in the airline industry has led to higher fares. What may be a major win for travelers could be a major setback for American Airlines which is facing bankruptcy without this merger.


    According to the NY Times (Mouawad, 13 Aug 2013):


    “Today’s action proves our determination to fight for the best interests of consumers by ensuring robust competition in the marketplace,” said Eric H. Holder Jr., the United States attorney general.

    The decision to file a civil antitrust lawsuit in the United States District Court for the District of Columbia brought an unusually strong reaction from the airlines. In a joint statement, American and US Airways said they would mount a “vigorous and strong defense” of their plan.

    (read the full article here)


    For discussion:

    What are the reasons for and against this merger? 


    The stock price for US Airways plunged on the announcement by the DOJ (see graph above). Do you think investors overreacted to the news, or is this news being correctly valued by the market? 

  • The End Of An Era


    Merrill Lynch, the household name of stock brokers, will be coming to an end. According to Bloomberg (Son, 16 Aug 2013), Bank of America will keep the name but is planning to dissolve subsidiary this year.


    From the article:


    Bank of America, the second-biggest U.S. lender by assets, is simplifying its structure after Chief Executive Officer Brian T. Moynihan’s predecessor bought Merrill Lynch in 2009. Merging the legal entity could help Moynihan hit his $8 billion-a-year cost-cutting target and comply with regulators who want to make the biggest banks easier to resolve in a crisis. 

    …Dissolving the legal entity also ends Merrill Lynch’s need to file separate regulatory disclosures. The move will have “no impact” on how the firm serves clients or on the Merrill Lynch brand, said Jerry Dubrowski, a Bank of America spokesman.

    For discussion:

    What is the difference between an “Investment Bank” and a “Commercial Bank?” In what ways has the line between the two blurred in the last two decades?


  • The Biggest Penny Stock Fraud Ever


    The FBI has called it the largest penny stock fraud in history. Nine people have
    been accused of selling fake stocks and charging “advance fees” to the tune of
    $140 million. So far, seven have been arrested.
    According to Bloomberg (13 Aug 2013):
    The scheme involved the creation of phony consulting
    businesses and law firms, the release of fake press releases in
    connection with the penny stocks, and operation of call centers
    in Vietnam, Thailand and Canada, according to the indictment.


  • The Economic Downside of Spectacularly Tall Buildings

    This CNN Money video tells the tale of economies that fell after the completion of a spectacular skyscraper. The Empire State Building prior to the Great Depression, The Dubai Burj Khalifa skyscraper before the Emirates goes “nearly bankrupt.”

    And now China is next with the tower in Shanghai.

    In the video, the creator of the Skyscraper Index describes the “coincidence” of rising skyscrapers prior to tumbling economies.  Perhaps the expectations of continued economic growth that motivate builders to launch such an expensive building project could be the hallmark of the peak in the business cycle.


    For discussion:

    What is the Skyscraper Index and what is it suggesting about China’s economy?

  • Should You Lease A New Car?

    photo of Fiat 500c courtesy of http://www.fiatusa.com/en/2013/500c/



    We may be in the market for a third car soon. With two teen-age drivers in the house, having only two cars is starting to interfere with our freedom—and by “our” I mean my husband’s and mine.


    The leased car ads on TV are looking kind of appealing. A couple thousand dollars upfront and low monthly payments puts us into a brand new car with very little maintenance. Safety is a consideration too. New car means fewer problems, especially for inexperienced drivers.


    For years now, we’ve purchased used cars because of the depreciation that new cars experience as soon as you bring them home. Problem is that used cars come with potential problems. After all, why did the previous owner sell the car? Was it sold because the he or she got bored and wanted a new one, or was it sold because something’s wrong with the car?


    This CBS Money Watch article lists some advantages and disadvantages of leasing. According to the author, “Leases do usually offer lower monthly payments than auto loans because you are paying only the difference between the new car value and the car's estimated value after two or three years at the end of the lease. And you might be able to lease a more expensive car than you can easily buy.”


    But the disadvantages may overshadow the benefits.


    For discussion:


    What are the advantages and disadvantages of leasing a car?


    Which drivers make the best leasing candidates?

    What are some other issues you might want to consider as you make the lease v. buy decision

  • Meet the Prosecutor of Wall Street

    Check out this Bloomberg BusinessWeek interview with U.S. Attorney for the Southern District of N.Y., Preet Bharara (Kohlhatkar, 8 Aug 2013). His office is responsible for the high-profile insider trading cases as well as cases involving other as well as cybercrime and gang activity.


    Here’s a sample from the article:


    The insider-trading cases have gotten a lot of attention. A disproportionate amount of attention, perhaps?

    I don’t know why the insider-trading cases get the amount of attention that they get. We’re not obsessed with them. At any given time in this office, which has about 250 assistant U.S. attorneys, no more than a handful of people are working on insider-trading cases. I have done just as many press conferences, I believe, with respect to gang takedowns, which are important because we are making communities safer. And the level of attention those cases get is much less than the attention to the insider-trading cases. That’s a function of the fact that there are multiple 24-hour financial news channels and there’s no 24-hour gang channel, so I understand that. But that work is probably more important than insider-trading cases.  


    For discussion


    What is insider trading, and why is trading on material non-public information illegal?


    In your opinion, why are insider trading cases getting so much attention? Do you think they should be the target of so much media attention?


  • Why The Wealthy Won't Retire

    When would you like to retire? Age 60, 65, or 70? Or never?


    According to this CNBC video, those who can most afford to retire early are the very ones who are choosing not to retire early. People who earn $750k or more are the least likely to retire before the age of 70.




    Because they don’t want to.


    For discussion:

    What are some of the reasons identified in this interview that the wealthy are choosing to work longer?


  • How To Run a Central Bank

    In this CNBC video, Danske Bank Chief Analyst Lars Christensen suggests that what the Fed should be doing is more important than who should be running the Fed. In other words, what rules should the Federal Reserve be following as it seeks to meet its target?


    He calls it the “Chuck Norris effect,” which is “the market determines monetary policy after the rule is defined.


    For discussion


    What are the arguments for and against rules-based monetary policy?



  • The Firm v. The Investor

    Any student of finance can tell you that one of the main differences between shares of stock and bonds is that shareholders can vote. Shareholders have a voice in how the company is managed.


    And the shareholders of Air Products and Chemicals are trying to be heard. On Wednesday, Pershing Square Capital Management led by William A. Ackman announced that it had acquired 9.8 percent of the shares of Air Products and asked to meet with company management.


    According to the NY Times (Davidoff, 31 July 2013):


    What will Mr. Ackman ask for at this meeting? Well, Air Products has lagged its peers in stock price performance in recent years. He is likely to use this underperformance to ask for some board seats and an overhaul of management. He is also likely to ask for tweaks in business direction and operations, but nothing significant.


    Though Air Products will meet with Mr. Ackman, the company executives are not likely to welcome a takeover, particularly a hostile one.


    For discussion:


    What is a hostile takeover? How can the firm’s management protect itself with a “poison pill?”