"Trust Me" Factor & Portfolio Management

I was working and listening to the news yesterday evening and suddenly a tag line popped up saying Breaking News. It was about David Sokol's resignation from Berkshire Hathaway Inc. Why was it breaking? Because this is the man who was considered as successor of Warren Buffet at the company. This is the man who made the Netjets story. Since yesterday, I have been hammered by these news "Sokol's shocking exit", "Buffet's surprised by David's resignation" and so on. Among all, a news about Berkshire Hathaway's stock valuation appeared and that caught my attention.

It is about "Trust Me" factor.

• Inherent in the stock value of companies like Berkshire Hathaway Inc.
• Such investment vehicles do not have manufacturing or retail operations and this is why they are able to deliver much needed transparency in their financial disclosures to the investors.
• Because of such business nature, they have minimal accruals and accrual based earnings. As we know, the lesser the accrual based earnings and the higher the cash earnings are, the greater the quality of earnings is. In other language, when the accrual component contributes the least in total earnings, we get the earnings of the greatest quality.
• Forecast of greater quality of company's earnings will always have positive correlation with stock price or its valuation and this is the reason why we cannot consider this factor as trivial.

Should some PhD in multi-factor analysis or in quantitative methods can substantiate a theory on this factor, then is it likely to be employed by portfolio managers in their multi-factor models? In such models, sensitivity to this theoretical factor should be higher for portfolio composed of securities from companies like Berkshire Hathaway like the same way in macroeconomic model where sensitivity to recession factor is higher for Ford Motors and lower for Walmart. 

Synergy, Strategic Buying and Anti-trust--- A Big Telecom Deal

Couple of weeks ago, I tweeted about Sprint's takeover of T-Mobile USA news. I could not understand the "synergy" behind that looking at the Sprint's market share. But during the weekend AT&T shook the wireless telecom industry by agreeing to buy T-Mobile from Deutsche Telekom for $39 billions- almost at 75% premium. This is the largest telecom deal since 2004. And with this, AT&T will lead the US wireless telecom market which is currently being led by Verizon.

Source: Bloomberg

  Big deals always bring the Department of Justice, anti-trust laws and FCC to the picture. So, regulatory approval is really imperative here.

• Per widely used theoretical concept of Herfindahl- Hirschman Index (HHI), anti-trust challenge is likely.
• AT&T has one of the biggest lobbying powers in the Washington DC to get this deal considered as "done deal", though regulatory approval may take really long time.
• Looking at the pre and post market shares of leading carriers, Verizon is not likely to be concerned about this deal unlike Sprint, who will still rank 3rd, but this time it will be by distant margin.
• Sprint may prefer to acquire Clearwire Corp to increase its market share since it has already some stakes in Clearwire. 

Source: Bloomberg

• In order to avoid potential anti-trust case, AT&T have to improve its services and to make some serious promises to please the Obama Administration. But T-Mobile is already the lowest rate carrier in the market and declining the rates any further will be a critical area to think upon for AT&T.

Customers of T-Mobile, please have patience. When I showed this news to my sister, the first reaction I got from her was "wow, we can get iphone now..." You will, certainly. There are some better phones and services are waiting in the backyard once AT&T gets green light from the Capitol.

                                                                                                                                                                        

Betting on Internet & Social Media...

A bullish social media industry

I tweet, visit Facebook on the go and network through LinkedIn almost every day. I often locate myself through Foursquare. But Groupon? I have never used it and am not planning to use it even though there is so much buzz around this 2 year old company which has given the new definition of "daily deal market". While there has been so much talk on the streets regarding social media companies going public, two of them- LinkedIn and Groupon have announced their potential IPOs in the 2011.



LinkedIn & Groupon both have different business models (please note that Groupon has not been able to explain their exact business model). LinkedIn specifically emphasizes on "professional networking" and the other is focusing on "discounted deals covering food, electronics, tickets, gifts and counting...". Though not accurate, but they have got vast difference in their valuations as well. On the personal front, I have been a big fan of LinkedIn and so I can be bias about my insight on Groupon. But certainly, Groupon's whopping valuation of $25 billions is eye-popping and dubious to me. Because:

• Daily deal market is pretty crude and fresh for valuation analysts. Immaturity of this industry is one of the impediments behind mighty valuation numbers.
• A new industry and particularly new company is often valued by venture capitalists and I believe that their perspectives are always overstating.

Here are few things I want to enunciate about Groupon's atypical growth story which is not new to anyone who knows what Groupon is:

• A year ago from now and a year after its inception, it was valued slightly over $1 billion and now it is valued as $25 billion company. 
• Hot off the press. They successfully drew around $950 millions last year in funding from venture capitalists.
• Recessionary environment and looking for discounted deals are positively correlated with each other. And that beautiful correlation helped Groupon to be a bull.
• It has been hiring employees and adding clients/ merchants all around the globe to its portfolio.
• Presence in 35 countries with immense competitive presence in China and South Korea, which is the most active daily deal market.
• Almost doubled their subscriber base in last 3-4 months.

......................... And there is "NO COUPON" for Groupon's IPO price or its valuation!!

8.9, Earthquake, Tsunami, Japan, Economy and the US

"Jasmine Revolution" began in Tunisia in the early 2011 and it rippled across the Egypt, Libya, Bahrain and the other middle east countries. I believe that's what we have been listening to and watching since last two and so months. And suddenly, a 8.9 magnitude quake and tsunami hit the Japan- the world's third largest economy. Though Japan is located on one of the most active geological fault lines, it experienced one of the biggest quake in its history and the most severe after the Kobe. The worst situation this quake followed by tsunami created is  "The Nuclear Explosion". And the country is trying hard to prevent its spreading along with other rescue efforts.

Looking at Japan's standing in the world economy, the ripple effects of this natural calamity are as horrified as expected. It may likely to impair nascent economic recovery in the developed markets. I have come across few areas where the US have some potential or immature impacts from this disaster.

• Borrowing cost of US Treasury securities: Japan needs handsome capital to trigger reconstruction and recovery efforts though Bank of Japan has recently infused cash in to the economy following the quake. As Japan is the second largest holder of US Treasury securities after China, it may sell those to get capital it needs. In that case, borrowing costs or rates may be increased to lure investors in the global markets. On the contrary, investors have responded by huge sell off globally and by dumping the risk assets. Their demand for safe haven- US Treasury securities seem to be increased.
• Money managers' holdings: Money managers across the globe will likely to face short term losses from their holdings in Toyota, Canon, Hitachi and other Japanese companies. These losses are strictly being considered as short term because of global presence of these companies.
• Pharmaceuticals: Japanese pharmaceutical market is the second largest market after the US and it is expected to grow at the highest rate among the developed markets. For example, Pfizer gets his $5-$10 billions of revenues from Japan alone. Such a high correlation could slow down the industry growth.
• High end retailers: Japan is one of the huge market for high end products. To name a few, US based retailers like Tiffany, Callaway Golf, Coach may be the worst hit high end retailers in the first two quarters of this year because of potential squeeze in consumer spendings in Japan.
• Tourism: Based on some news & research, Japanese travelers contribute approximately 20% to the tourism in Hawaii. Looking at the potential ebb in spending patterns in Japan following this disaster, Hawaii tourism may likely to see some fall.

I wish and pray for their safety and well-being.

Unforeseen rivalry for Netflix (NASDAQ:NFLX)

Since its inception in 1997, Netflix has risen phenomenally. I still remember the stock price of NFLX was around $50 in the summer of 2009- in the midst of the great recession when I joined Netflix community as one of their over 10 million subscribers. I like this concept of movie-watching and so do the Americans. Since then it has increased fourfold and is seen as one of the bullish stock on the Wall Street.

Netflix has seen many competitors in the American market like Blockbuster Video, Movie Gallery and Hollywood Video. It is solely considered responsible for bankruptcy and shrinkage of those ubiquitous DVD rental chains. And now a days, it is successfully dominating this sector of industry despite of some substantial competition provided by Coinstar's Redbox.

The most buzzed topic on the Wall Street in recent times is bubbling and bullying "Social Networking Industry". Star bankers from everywhere are following these private companies like Facebook, Twitter to help them go public and cash in billions for their banks like it happened during Google's IPO. Netflix's business model is nothing to do with social networking industry. As we studied in ECON 101, competition lures new entrants and squeezes the mature companies. And Netflix is not an exception. But the competition it is going to face, seems unforeseen and out of theory. It has deals with a number of studios like MGM, Paramount, Lionsgate, Warner Brothers etc. to stream or rent their movies after they release DVDs. Studios have earned handsome money from Netflix's expansion. But recent deal between Warner Brothers and Facebook is eye catching to me.  Why would someone take such a cannibalizing step?

• Buzzing atmosphere around social networking industry.
• Facebook has 500 millions subscribers; the way bigger than Netflix has.
• Impetus for linking yourself with social networking giants like Facebook is skyrocketing these days.

To me, it is not clear yet. But Netflix suffered immediately after this news and justified analysts' skeptical recommendations for NFLX. I have not made any valuation for NFLX, but based on my market insight I would love to HOLD for NFLX.