Category Archives: Vocabulary

my recent Pink Sheet experience

February 11, 2014 By in buying and selling, pink sheets, Trading Tags: , , , , , Leave a comment

what the Pink Sheets are

I’ve written about the Pink Sheets before, in much greater detail than here.

Basically they’re an electronic marketplace for trading equities not registered with the SEC.  Some are stocks of foreign issuers and the Pink Sheets is the main place they’re traded.  Others are domestic.  Some of the latter are small, illiquid and haven’t filed financials (if they have any) with the SEC.  This second group, and the rough-and-tumble trading that sometimes occurs with both, are the source of the Pink Sheets’ shady reputation.

In the pre-computer days, quotes for such stocks were delivered to traders in daily lists printed on long strips of pink paper.  That was to distinguish them from quotes for bonds of similar ilk, which were printed on blue paper.  Hence the name.

anyway, what happened–

About an hour before the close in Hong Kong last Wednesday, the Macau casino regulator issued its report of the total amount lost by gamblers in SAR in January.  The figure was a surprisingly weak +7%, year-on-year.  The Macau casino stocks sold off immediately, and were down at the close by about 10% from their pre-announcement levels.  At the New York open, WYNN and LVS sold off  by more than 5% as well.

As the New York morning progressed, reports began to circulate that the Macau market had actually been strong–that the apparently weakness was caused solely by the timing of the Lunar New Year.  The US stocks rallied.

During the afternoon, I checked the Pink Sheet quote for Sands China (SCHYY).  I noted that average daily volume is US$1.6 million vs. US$145 million for HK:  1928 in Hong Kong.  More important, the stock hadn’t budged an inch; it was still stuck at the Hong Kong close.   Weird.

So I bought 150 shares.  Yes, it was a risky thing to do.  It took maybe ten minutes for my (puny) limit order to be filled, another warning sign.  But I was curious.

The Macau gambling stocks rose on Thursday in Hong Kong by around 10%.

SCHYY mirrored the Hong Kong close.  I sold as fast as I could.

The following day, Friday, the Macau gambling stocks were flat to down in Hong Kong.

here’s the interesting part:

SCHYY opened down 3%, at $76.53, on 21, 952 shares.

After that one trade, the market became 200 shares bid at $74.29, 300 shares offered at $76.29.

In other words, liquidity dried up completely.

The stock traded about 10,000 shares during the rest of the day, at what the chart shows as prices below $75.

Monday, the stock traded only 6,866 shares, or about $500,000 worth of stock, all day.

what you should notice

–no mutual fund or pension plan portfolio manager is going to buy SCHYY.  It’s just too illiquid.  So there’s going to be no buying support for the stock from this quarter.  (Let’s say an average position size for one of these professionals is $10 million and that they thought they could be a a quarter of the daily volume without anyone figuring out they were in the market (fat chance).  Even if so, it would take a month+ to buy or liquidate.)

–after the big (for SCHYY) opening trade, market makers widened the bid-asked spread to almost 3% and pushed the market down.  They also committed themselves to only trading a tiny amount of stock at the price they showed–meaning the market would sink further if more stock followed the next trade.

All this is designed to signal they’re only willing to take more stock on their books at a heavily discounted price–that is, to stop the selling.  As the rest of the day showed, this tactic was successful.

–in most cases, the best course of action for a seller who thinks he must get out of the stock for some fundamental reason is to accept the discounted price and be the first out the door.  Yes, selling will be ugly.  But that’s better than having the market 10% lower, with you having sold nothing.

Welcome to the Pink Sheets!!

Shaping a portfolio for 2014 (i): a look back at 2013

December 10, 2013 By in Discounting, Shaping a portfolio for 2014, Strategy, trade finance, transfer pricing Tags: , , , , , Leave a comment

my take this time last year 

A few minutes ago I looked back at what I wrote in the “Putting the Pieces Together” section of my Strategy last year.

I was pretty accurate on the macroeconomic front, with my guess about how S&P 500 earnings would turn out being  a tad high.  But that’s typical optimistic me.  The stocks in the index now appear to be earning at around a $102 per share annual rate, which is a mere 5% better than twelve months ago.

From that analysis, I concluded that 2013 would be a good year for stocks–but that gains would probably fall short of +10%.

What I didn’t factor in was multiple expansion–the dissipation of the all-pervasive fear of risk that had gripped Wall Street during the stock meltdown of 2008-09, and the return of a soupçon of greed to the investor psyche.  I assumed (read: hoped and prayed) that this would happen eventually.  But I saw no reason to predict the timing of this sea change.  Better just to remain fully invested and therefore be there when liftoff happened.

Calling what happened in 2013 a pinch less risk aversion is probably an understatement.  A 5% increase in earnings per share–with perhaps another +8% in store for 2014–has yielded just shy of +30% (including dividends) so far in 2013 for the S&P.

the plusses for 2013

The biggest story line by far for 2013 has been the just-mentioned return of the market discounting mechanism to more or less normal after four years of extreme risk aversion.  But it wasn’t the only one.

Others include:

–the continuing resilience of the US economy despite periodic scares from Washington policy,

–the EU economy finally navigating the worst of the Great Recession and beginning to show the first signs of renewed growth,

–the amazing upward surge of the Japanese stock market on the hope that severe currency devaluation would deliver sustained real economic growth for the first time in a quarter-century, and

–the gradual reacceleration of the Chinese economic engine as the new administration has taken a firm hand on the controls.

good news, bad news

All these factors are good news, in that they indicate the world economy is on far firmer footing today than it was a year ago.  The bad news (for investors) about this is that all of these plusses are already in plain sight and already fully (in my view) factored into today’s stock prices.

What’s left, then, to go for in 2014?

…not a similar gain to the +30% that 2013 has produced.  Instead, my best guess is that we’ll have the kind of sedate +7% -+8% advance for the S&P that I envisioned for 2013.

If so, outperformance will hinge critically on good sector and individual stock selection.

More tomorrow.

the heavy half

October 22, 2013 By in heavy half Tags: , , , , Leave a comment

the heavy half

I Googled this marketing term before starting to write, just to see how current it still was.  I got a lot of nonsense about the rear ends of different kinds of trucks.  Nevertheless, I’m pressing on.   …a bit outdated, maybe; but still useful.

The heavy half isn’t about weight, and, strictly speaking, it isn’t about halves.  It’s an extension of the idea that consumption of a firm’s goods and services isn’t uniform across all customers.  Some use more, some use less.  But it may turn out–and very often does–that a relatively small number of customers represent a disproportionately large percentage of company profits.  Those customers are the heavy half.

examples

For instance, in its heyday Nokia sold cellphones encrusted in jewels and/or encased in precious metals, mostly through the Vertu brand.  As I understand it, these high-priced phones accounted for about 5% of unit volume for NOK, but over 20% of profits.

Until very recently, and although the full positive impact was disguised through transfer pricing (most analysts had no clue), a luxury goods customer in Japan might have been worth 2x-4x what an affluent American or European one was.  So sales to Japanese customers might have represented 10% of total revenues, but could have been 30% of profits.

Customers in the midwest drink twice as much Coke as those in California.  Supposedly, 20% of the beer drinkers in America consume 80% of the brew.  In these cases, the heavy half is probably also literally true.

The top 20% of US consumers by income buy about half the discretionary items sold here.  The bottom 20% buys almost nothing.

why it’s important

Any well-managed company knows who its heavy half is.  Most don’t want anyone else to know.  They don’t want to alert the competition, for one thing.  But the heavy half can also be a mixed blessing.  If 20% of your customers buy 60% of your products–and there are thousands of them, that’s great.  If one customer buys 90%, that’s potential trouble if it dawns on him how important he is.

For an investor, discovering a company’s customer/profit profile can be key, especially if you do so ahead of everyone else.  It gives you an inside track to forecasting earnings surprise.

why today

Why am I writing about this today?  I read a Wall Street Journal article about the gambling industry recently that asserted that it has a dramatically skewed profit profile.  According to the newspaper, almost all the income comes from about 10% of the customers.

I think that’s wrong. More tomorrow.

a J C Penney (JCP) stock issue post-mortem

October 3, 2013 By in green shoe, overallotment, Stock ideas Tags: , , , , , Leave a comment

More strangeness from JCP.

the final offering price (only mildly strange)

Last Friday, JCP filed a final prospectus with the SEC indicating that it had sold 84 million shares of its common stock to underwriter Goldman Sachs after the close the night before.  JCP received $9.36 for each.  Goldman intended to (and presumably did) sell the shares to the public for $9.65 before the market opened on Friday, netting a fee of $.29/ share.

Goldman retained a 30-day option to purchase another 12.6 million JCP shares on the same terms (the “overallotment” (or “green shoe”)–more about this below).

What’s strange?  The offering price is higher than initially thought–suggesting GS found eager buyers.

the stranger stuff

1.  Mike Ullman, the CEO of JCP was reported by CNBC a couple of days earlier to have assured investors that no fund raising was in the offing.  The stock rallied sharply on this.

Didn’t he know?  If the CNBC news is correct, apparently not.

JCP denies CNBC got the story right, however.

2.  Goldman was the underwriter even though the offering comes right on the heels of a GS report warning investors to be wary of JCP because of declining liquidity and lackluster sales.

Note:  in a separate SEC filing, JCP said its online business was up “double digits,” year over year.  It also stated it expected positive comp store sales for 3Q13 and 4Q13.  If the entire JCP business were growing in double digits, I presume JCP would have said so.  So I take the statement as meaning that the in-store business is up, but not by a lot.  In theory, but highly unlikely in my view, the online business could be going through the roof and in-store sales could be down.

3.  Goldman apparently was able to find institutions willing to buy all those JCP shares.

4.  post-issue trading  

There are two (related) aspects to this:

–hedge fund Perry Corp, which had just recently raised its stake in JCP dumped out 9 million shares on Friday.  Seems to me the issue took them by surprise, too–and they didn’t like it.

–the “overallotment.”  (Even though I stuck this in last place, it’s the real reason I wanted to write this post.)

The way the overallotment works is this:

JCP announced an offering of 84 million shares, with an overallotment of 12.6 million.  The underwriter has the right, but no obligation, to buy an extra 12.6 million shares of JCP within the 30 days following the offering.

In reality, GS sells all 96.6 million shares, including the overallotment, to the public.  In this case, that gets GS an extra $121.6 million.  It does so in order have money at hand to “stabilize” the price of the stock in the initial hours after the offering It does so by standing in the market and offering to buy JCP at $9.65.  Normally, trying to influence the stock price like this is illegal, but there’s an exception for a short post-issue stabilization period.

Stabilization is a no-lose situation for the underwriter, provided he doesn’t get carried away and start using his own money to do this (fat chance of that).  If the stock goes up, he buys nothing in the market.  He exercises his overallotment option with the issuing company and delivers those shares to the client.  If the stock is flat to down, he takes the shares he buys in the market at the issue price or lower and delivers them to the client.  The overallotment option lapses without being used.

Two points:

a.  Unless it’s completely clueless, Perry Corp was well aware of the stabilization period.  Its best exit strategy would have been to sell aggressively while GS was stabilizing the price.

b.  The $9.65 line didn’t hold for a nanosecond in regular trading.  Volume in JCP for the day was a whopping 256.3 million shares.  Yahoo Finance shows an open of $9.53 and a high of $9.67–but I don’t see anything on either Yahoo or Google charts to suggest the price got close to the $9.60s.  In any event, stabilization was a lost cause.

the strangest stuff

Many third-party analysts foresaw JCP’s need for extra cash a long time ago.  Like most things in business, the calculations are relatively simple.  It’s odd the JCP couldn’t make them.

I also find it very odd that JCP generously stepped aside and allowed former large holders Pershing Square and Vornado to sell their shares at much higher prices–and using up potential demand for JCP stock–over the past six weeks before testing the market itself.

Verizon (VZ), Vodafone (VOD) and flowback

September 10, 2013 By in flowback, hedge funds, index funds, internet, Stock ideas, Technology, Wireless Tags: , , , , , , , , , , , Leave a comment

VZ is buying the 45% of Verizon Wireless that VOD owns.

VZ, which owns 55$ of Verizon Wireless, recently agreed  to buy the other 45% from VOD for around $130 billion.

From what I can tell so far, the deal will be good for VZ.  And, at the very least, VOD gets a boatload of cash and stock.  In hindsight, VZ would have been a lot better off striking the same deal in March, before the Fed began hinting that it was thinking of ending the current post-recession period of extra-super-accommodative money policy in the US.  The interest rate VZ would have paid on newly issued bonds would have been lower.

More on this topic in future posts.

There may not be a great need to load up on VZ ( which I own) immediately, however–even if you think the deal is a spectacular coup for VZ (too enthusiastic for me).  The reason is flowback.

what flowback is

VZ is going to issue over a billion shares of new stock to VOD as part of the purchase price.  VOD has already announced it will distribute to its shareholders all of the VZ stock it receives.  That’s something like one VZ share for every 40 VOD shares held (the exact ratio isn’t important).

What is important is that VOD is a UK corporation whose stock is traded in London.  The bulk of its shares are held either by UK or Continental European institutions.  US institutions hold only about 15%.

Put another way, early next year almost everyone who owns VOD will receive shares in a foreign stock, VZ.

What will they do with it?

For index funds, the answer is clear.  If it’s not in the index, it has to be sold.

For institutional managers in the EU, the answer depends, in the first instance, on what their contracts with customers say.  They’ve presumably been hired for their expertise in EU equities.  Management agreements probably stipulate that they’re not allowed to hold non-European securities.

Even if they are permitted to hold VZ, why do it?  Why take the risk of holding a stock that’s outside your area of competence–and which will require considerable research effort to get a firm grasp on.  Selling is a much safer option.

For individuals, if form runs true, the first they’ll hear of the deal will be when their broker calls to tell them that shares of VZ have plopped into their accounts–and to urge them to get rid of this weird thing.

That’s flowback.

It happens in all cross-border deals that involve stock.  When shares of the issuing company leave the home country, some portion will be sold immediately by investors who are unable or unwilling to hold what is for them a foreign stock.

Where do these sales take place?   …ultimately in the home market of the issuer.

the VZ case

For VZ, average daily trading volume is around 10 million – 12 million shares.   Occasionally, volume can get as high as 30 million- 40 million shares without moving the stock too much.

Let’s make up a number and say that flowback will be 300 million shares.  That’s easily an entire month’s trading volume.  So this could be a serious issue for VZ’s price.

mitigating factors

There are three that I see:

–Verizon Wireless is the largest and most important asset for both VZ and for VOD.  Non-index investors in the EU must have wanted exposure to Verizon Wireless to be holding VOD shares.  Arguably, they will want to continue to have that exposure and will therefore be less inclined than normal to want to sell.  So maybe some will be able to wangle exceptions from their clients.

–trading volume in VZ over the past seven trading days (not including today) has averaged about 25 million, or–let’s say–12 million shares above normal.  If this is all merger-related short-selling, which it probably is, then this trading has already created demand for 80+ million shares of VZ when the shorts are covered.

–the stock has a current dividend yield of 4.6%.  At some point, this and other VZ fundamentals should provide price support.

my take

Worries about flowback are one reason large cross-world acquisitions involving stock aren’t that common.  This one was clearly too big for VZ to do any other way.

My guess is that anticipatory selling in advance of the acquisition will make it hard for VZ to go up for a while.  I also think, however, that downward pressure from potential flowback will abate long before the deal actually occurs.

At some point, an excellent buying opportunity for VZ will emerge from acquisition-related stock activity.  The trick is deciding exactly when.  The most prudent strategy, I think, is to establish a small position and await further developments.