Saturday, March 29, 2008

Where did it all start and can the Fed deal with it ?

Fed's responsibility is to promote maximum employment and to maintain stable purchasing power. Thus, it is responsible for maintaining the balance between inflationary and recessionary forces in the economy. Practically speaking, in these times of liquidity crunch, Fed is serving as a banker of last resort, widening the discount window for troubled banks further and further.

Back to basics, Feds do have very limited control on the economy, in terms of factors like improvements in productivity, growth in education level, industrial, scientific and agricultural development etc. so, all the fed can do is to control the supply of money via increasing or decreasing the fed funds rate. Being more creative in bad times can arrange for bailouts and financial insurance (The BSC example).

What is making the job difficult for the Feds these days is the mist created by financial engineering (like structured products); and the diminishing line between the financial asset and money. They have led lead to a difficult count of money supply in the economy.

It seems it all started in 2001, when Alan Greenspan had cut the interest rates 11 times, to its lowest level in decades, in an attempt to revive the economy from the dot-com burst. This 1% fed funds rate led to another housing bubble, specially because of the ARM’s(adjustable rate mortgages), which were dependent on short-term interest rates. The increased demand in mortgages made banks lend money without giving due-diligence for the income of the borrower. This also artificially stimulated the housing market and the real estate prices rocketed up, not in sync with the developing GDP’s.

Also, these mortgages further created false-liquidity and money supply using structured products like MBS and CDO’s and CDO-squares and all. It isn’t clear but the slowdown in housing market started somewhere, and this made individuals to default as the remaining loan/mortgage values exceeded the real-estate prices. The effect was exponential because of the structured markets. It isn’t just the real estate that is affected, but the credit crunch took slowed the merger/acquisition activity, the industrial production and consumer spending.
The NYTimes - The Decider
Picture taken from image search google

Thursday, May 31, 2007

The Sixth Merger Wave – Who’s Next?

As predicted in my previous post, US is undergoing an aggressive phase of consolidation specially within the financial and technical(IT) and auto industries। A record of 25 deals with a value of $10 billion or more have been announced so tar in 2006, up from 15 such deals in the same period of 2005. Unlike the fifth merger wave, this seems to be a phase of acquisition where the firms, more than realizing synergies, are prompt in achieving economies of scale and scope. The conditions seem similar to the First Period of merger waves– 1893 to 1904, although at much larger scale. The characteristics and trends of this wave are as follows:

Financial Industry: The exchanges are going through a consolidation phase, where the trend seems to be towards forming oligopolies at an international level. The antitrust, isn’t a problem as it is not recognized internationally (For example, UK has a blocking statute within their jurisdiction). Interestingly, the group of IB’s had a frail attempt to achieve economies of scope by taking advantage of stock market frenzy.

The most recent trend seems to be in the acquisition of the brokerage firms, again to achieve economies of scale and creating strategic adjacencies (mostly geographic in nature).
Technical industry(IT): An acqusition would seem quite obvious for Google who has more than 30% cash(3.544 billion) sitting on the balance sheet against a net income of 3.2 billion and a whooping RE of 5.1 B. Plus no dividends to shareholders EVER! Google recently bought Youtube, GreenBorder Technologies, which focuses on protecting e-mail and Web users from malicious or unwanted computer code, and Panoramio, a community Web site that allows people to “map” their photos on Google Earth.(I wonder what else can they do with that money, to satisfice the high growth expectations by shareholders (see A comparable here would be a much-talked-about cash-rich MSFT, who recently bought aquantive for cheap. MSFT has a 6.1B in cash against a NI of 12.5B . Any creative/interactive website like Technorati make a hot deal for the future.
Manufacturing-Industry: The airlines and the auto companies struggling with bankrupsy, are looking for consolidation fro rescue.

NYSE Euronext Deutsche Boerse (Germany) CME CBOT ISE LSE NASDAQ OMX sweden Instinet Archipelago WACHOVIA Bank of America Raymond James Financial Stifel Financial, Business per agent A.G. Edwards Golden West Western Financial MBNA Credit Card Bank’s parent company RACE IN BROKERAGE ACQUISITIONS ]


Monday, April 02, 2007


In valuating firms for the purpose of stock buy/sell or for the purpose of acquisitions, the focus is more on statistical/stochastic analysis based on historical data OR a DCF, based on a more futuristic estimate built upon free cash flows (other valuations like market multiples are less reliable). But the analysts and past academic research undermines the implication and effect on trade volumes per day. The implications of volumes to a trader, risk manager, acquisition consultant, and analyst are different

The Trader

The market still believes that the trade volume in terms of number of shares traded in a given time is a fair estimated of liquidity risk for the stock in question, but I believe that for comparing various stocks at same level, number of shares traded per unit market capitalization would be a more accurate measure. Still in most of the analytics in bloomberg, reuters etc the analysis tables are based on the volume, which doesn't accurately measure the intensity of the trend. For example: (

Two ratio's which accurately capture the essence of the trade-volume characteristics would be:
(1)Trade-Volume per unit Market Capitalization
This would present a fair comparative against various stocks in the portfolio or market, and hence determine the intensity of the trend in case of a high value
(2)Trade-Volume per unit market trade-volume
To get a fair idea about a comparison with market in terms of significance of the trend

Risk Manager
The risk manager should be concerned about the trade volume-volatility during the day. A medium trade-volume with high trade volume-volatility enhances the liquidity risk, and thus affecting the VaR. The VaR value can be(and should be) modified to adjust for the effect of changed in trade-volume volatility in the Future.Thus,
VARactual=f(VARbased on historical returns) + f(VARvolume)
The VARvolume may be calculated as the least dollar amount you can lose if the returns on share remains constant, in case of liquidation of the position.
A more practical way of doing this is to get quotes for the stock from block traders of the total investment in the stock.

Acquisition Consultant/Analyst
A valuation should be based on a short term growth rates and the terminal value should be calculated after a shorter number of years, when the trade volumes are very high. High trade volumes indicate that the shareholders are expecting a short term, higher rate of return of the stock and hence the analyst should base his valuation in coherence with the market sentiments.Inverse applies when trade volumes are low.

A low trade-volume does not always indicate a weak market position, but a possibility of future potential growth.

Useful Extract:
"Increasing volume on increasing price indicates increasing buying pressure and a possible price advance.
Increasing volume on decreasing price indicates increasing selling pressure and a possible price decrease.
Decreasing volume on increasing price indicates easing buying pressure and a possible price plateau or reversal.
Decreasing volume on decreasing price indicates a slowing of selling pressure and a possible price plateau or reversal.
Higher-than-normal volume (spikes) at price highs indicates selling into strength and a price ceiling.
Higher than normal volume (spikes) at price lows indicates buying on weakness and price support. "1

Pic from
*From discussions with Sumeet Sablok
**All the views are from understanding of the issues by the author and suggestions to improve methodologies in finance, and may not reflect the standard theories in practice.


Saturday, March 24, 2007

The Fifth Element

The element of 'International trade and investments' can't be ignored in this fast shrinking world of business. The corporations sustain and improve their profitability through overseas expansion by exploiting the ever-shrinking global arbitrages. In recent months, series of change is being pushed by the regulatory authorities to realize the global oppportunities. One of the significant efforts being done by securities regulators to ease thr reporting requirement for foreign listed companies by the SEC . The Securities and Exchange Commission, a few days back said that " it would abandon the law's cumbersome rules that made overseas companies skittish about listing here because of onerous hurdles that would need to be cleared if they ever wanted to pull out of the U.S. stock market."1Targeted Deregulation at this point of time may transform the "roach motel " back to "hotel california". Also, this may be a good time for loosening the clasp of SOX for small firms.

Tuesday, November 21, 2006

The dogfight for change(delta)

In the prevailing indications for a merger wave in US, in an industry which is struggling with bankrupcy and high exit barriers, the only means of upliftment seems to be to acheive cost synergies through consolidation. The key is to sleep with the enemy, which means alliance with companies competing for common infrastructure and customers. One more thing here is to realize that most of the past hostile takovers, which constitute 3% of total M&A activity, were not successful in acheiving the synergies because of numerous reasons.

With his $8.67 billion hostile bid last week for Delta, the CEO Doug Parker is proposing to add yet another company to the two he's already having as a consequence of his America West Airlines acquiring US Airways late last year. By merging with the much-larger Atlanta carrier Delta as it emerges from bankruptcy court, US Airways, would become the largest U.S. airline in terms of passenger traffic, a huge leap from its No. 6 ranking right now.

The offered premium to buy Delta is around the magic figure of 25%, which is expected to go over 40%, if the bid turns out to be successful. The main weapon for the acquirer US airways money. On US airways part, it will be more like bargaining for a second hand car. But the defence by the target can much more sophisticated like greenmail, financial defensive measures, Pacman defence, white knight, white squire, supermajority amendments, poison put & pills, silver and tin parachutes etc etc....afterall hunting a duck is different from hunting a rhino.

Wednesday, November 08, 2006

Are companies worried about their credit scores?

The first question is do companies have credit ratings 0ut of 800?. Yes but not out of 800. It generally ranges from AAA to Junk, varying by the denomination used by the rating agencies. The credit rating of a corporation is a financial indicator to potential investors of debt securities such as bonds.

In general when we borrow money from banks/ credit cards, the return they expect is very optimal as they are efficient due to prevailing competition in the market. But if we are able to get a partner for the project we are investing in, the partner would/may expect a return more than he would have expected from a similar investment in a bank( a bond, saving account etc), because he thinks you can default but the bank cannot. Also, the debt reduces your Income Tax liability.

The same logic applies to the corporations as well. The corpoartion wish to borrow as much as possible for funding their operations or new projects . But this can be done untill some optimal debt ratio is acheived. Beyond that point the additional agency costs, the bankrupcy risk etc increses you cost of capital required by the shareholders, hence the higher average weighted average cost of capital and hance the lower value of the firm.

According to a director at HVB, in financial distressed situation the operations of the company is to an extent is controlled by a credit agency as well. The negotiation is in best interest for both as creditors receive minimum returns from their claim on assets during divestitures.

Wednesday, October 11, 2006

Newton's Laws

The first law states that the bodies remain at rest or in uniform motion untill and unless any external force is applied to it. Professor Aswath Damodaran of the Stern School of Business at NYU has different opinions altogether. According to him momentum shopping in stocks is much more riskier. He explains "Momentum stocks have an average beta almost twice that of the rest of the market ... and are much more volatile." In 1990's stockholder believed in this momemtum, which was like having a lucky charm etc. The consistent, sustained growth was considered to last uptill eternity. But the times are changing, with people realizing the concept of life-cycle in industry as well as companies.

Coming back to Newton, the second law states that the force needed to change the state of rest or of uniform motion, is equal to the rate of change of momentum. In these term I guess the news and all are like blows to the change in momentum.

In terms of acquisitions, following the same logic as buying of stock.( For the newcomers on the train, whether you buy companies or stocks, your objective is to buy underpriced stock with high intrinsic values and higher short term return..mostly) .

Tuesday, October 10, 2006

The M&A in death!

SCI - corp is a pioneer in consolidation of Funeral Services through a series of acquisitions. Although the funeral Service business looks very local in nature, this company, at the end of its acqusition phase, where synergies just equalled the premium paid, started to make international acquisitions. It made acquisitions in Australia(where the incineration was more common), France (where cost of funeral services was fixed) and Britain. But the question is were they successful?

The IBy League is BORN TODAY!

A student of Baruch College, New York City, proclaims and dedicates this league for the extraordinary professionals in and around the North-East region, indulged in the business of making businesses work . With an aim of putting in insider information on the realities of the business "from the trenches" accesible to everybody, this blog aims at individuals coming from strong diverse backgrounds like engineering(non-IT), pharmacy, psychlogy.

The site would help these people to apply the skills they have learned to life. Since this site aims to attract traffic from employers as well, so healthy and competitive inputs would result in a general concept of "all boats rise". Also, the critical understanding should be reflected in words as few as possible..
More blogs about investment banking.

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