Tag Archives: Trading

what is a “technical bounce”?

June 7, 2012 By in tachnical bounce Tags: , , , , Leave a comment

I think that the more positive tone of world stock markets over the past few days is more than a technical bounce–which is what I’m hearing media pundits describe it as.  I’ll get to that tomorrow.  Today, I want to write about what a technical bounce is.

technical + bounce

The bounce part is pretty straightforward.  It’s an upward movement.  There’s also an underlying suggestion that its scope will be limited and its duration brief.

Technical analysis is the study of the patterns formed by the price movements of the little pieces of paper–or, in today’s world, electronic blips–that stock market participants trade among themselves.  (This is in contrast to fundamental analysis, the study of the relationship between the movement of  equity prices with the changes in the economic performance/prospects of the companies whose ownership the pieces of paper/blips represent.)

So a technical bounce is a brief, limited upward movement in stock prices that’s based solely or chiefly on stock charts–not on either company-specific or more general economic developments.

what are the signs a “bounce” is coming?

There are several:

–prices should be declining for at least a period of weeks.

–the stock or the market should have given up a significant portion of the most recent prior advance.  Technical analysts seem to like fractions, so 1/3 or 1/2 are the numbers I’ve seen most frequently used.

–volume should be increasing as the decline continues.  That’s probably a less important criterion than in the past, since so much of today’s trading is done by computers arbitraging small differences in price levels.

–daily price declines should be larger than normal–and getting progressively bigger.  This signals both that sellers are getting more anxious and that middlemen or buying investors are becoming increasingly reluctant to take on more stock.

–selling sometimes reaches a crescendo.  Stocks that typically move, say, 1% in either direction during a day fall at a 5% or 6% daily rate.  Buyers have stepped to the sidelines, but sellers still push prices down in a panicky desire to rid themselves of stock.  This sometimes also means that what’s going out the door is the tail-end of a position, where getting the trade completed is more important than the price achieved.

only a bounce

The strong implication of saying an upward movement is a bounce is that it is (merely) a counter-trend movement, not a fundamental change in market direction.  The suggestion is that it’s the speed and intensity of the decline that’s being reacted to, not the fact of falling prices.  The implicit expectation is that after a short period of time the decline will continue.

I think it was the colorful market commentator Barton Biggs who coined the term dead cat bounce to describe a market movement.  At least, he’s the first person I heard use it.  In dismissing the significance of an upward market movement, he once claimed that even a dead cat thrown out an open window will bounce when it hits the pavement.  What brought this analogy to his mind, I don’t know.  I suspect the statement isn’t even true.  But it has become part of Wall Street lore, nevertheless, as a designation of a thoroughly deceptive upward movement.

Why don’t I think this bounce is a dead cat?  …Germany, the ECB and the Beige Book.  More tomorrow.

Facebook (FB), looking back after three days of ugly trading

May 23, 2012 By in Facebook, internet, Private equity, Technical Analysis, Trading Tags: , , , , , , , , , 1 Comment

a failed IPO

The long-awaited IPO of FB has come and gone.

The stock opened late, due to a NASDAQ computer snafu.  It almost immediately gave up its initial gains.  It closed a mere 25¢ a share above its $38 offering price–and that only due to “stabilization” (read: price-fixing) efforts by the underwriters in the final hour of trading.

It’s been falling since.

a successful offering??

One interesting aspect of the fiasco is that many commentators–as well as many retail participants in the offering, and apparently also the CFO of Facebook–are basically clueless about how the IPO process is supposed to work.

In particular, I’ve heard media proponents of the tooth-and-claw school of capital markets trying to burnish their Darwinian credentials by claiming that Morgan Stanley actually did a good job with the offering.  Explicitly or implicitly, they point to the poor trading performance of FB as evidence that the bankers achieved the highest possible price for FB.

I think this is crazy talk.  When FB conjures up in investors minds words like “overpriced,” “disaster,” and “huge losses,” that’s not good.  Nor is it when retail investors feel they were tricked into buying more stock than they wanted   …or when the lead underwriter is being investigated for disclosing negative opinions about FB only to a few customers.  And, of course, none of the money from sales of extra shares went to FB itself.

An IPO is supposed to go up!  

Not necessarily by 100%, but maybe 20% or so.  Why?

Psychologically the company is associated with success when its stock rises.  Retail investors, who will buy/use the company’s products and loyally support management, feel good about themselves and the stock they own.  This positive association lays the groundwork for the market to absorb more stock when lockups expire and when employees want to cash in more of the stock that’s a key part of their compensation.

A failed IPO, in contrast, generates questions–well-founded or not–about the stability of the company and about the trustworthiness and competence of its management.

what went wrong?

As I see it, there were two separate problems:

1.  The main one is that FB issued too much stock all at once.  Up until a week ago, the plan had been to sell 388 million shares at a maximum price of $34 each.  That’s $13.2 billion.   Which is enough money to buy all of the stock of Sony or Omnicom or Applied Materials or Ralph Lauren or Limited Brands, at yesterday’s closing prices.

Last Wednesday the amount of stock was increased by 25% to 485 million shares and the offering price was upped to $38.  So the total take from the IPO went up by 40% to $18.4 billion.  That would be enough to buy Marathon Oil or Kellogg or Yahoo–or to pick up Whole Foods or Charles Schwab and have a couple of billion left over.

This decision had two negative effects:

–it took $5.2 billion out of investors’ pockets that might have gone into buying FB in the open market after the launch.

–worse, the underwriters were unable to find happy homes for all that extra stock.

In any “hot” IPO, institutions routinely place orders for many times the amount of stock they actually want, in the hope that this will influence the underwriters to give them larger allocations than they’d get otherwise.  You want 250,000 shares so you ask for a million.

I don’t think this tactic works, since the parties know one another very well.  But people do it anyway.  Maybe it makes them feel good.  Occasionally the move backfires and the institution gets more stock than it wants.  Maybe it gets 500,000 shares.

When this happens, the message is clear–the issue is in trouble.  The institution probably decides to stay on the sidelines rather than buy more.  Or it turns into a seller.

Lots of retail investors seem to have been playing the same game with FB.  Institutions have battle scars and regard being burned like this as a cost of doing business.  But for a retail investor, finding 5,000 share of FB in you account last Friday when you expected 500 must have come as an incredible shock.   That’s enough to turn you from a greedy buyer into a panicky seller.

2.  NASDAQ had a computer meltdown.  The details aren’t clear.  My broker, Fidelity says it still doesn’t have complete execution information on buy and sell orders it placed for clients during the first few hours of FB trading last Friday.  This doubtless raised the level of panic individuals have been feeling.

Just as important, I think the NASDAQ mess also had the effect of transferring some selling from last week into this–prolonging the period of trading turmoil.

who decided to up the offering size?

Normally it’s the underwriter, who, after all, is the one in continual contact with potential buyers.  If so, Morgan Stanley and the others had exceptionally tin ears.

In this case, my reading of stray media comments says that the Facebook CFO made the final decision.  At the very least, he seems to be the one being thrown under the bus.  I’ve never seen comments like this before.  My inclination is to say this means they’re true–and that the underwriters don’t like David Ebersman very much.  Let me amend that–they don’t think they’ll need to be doing business with him again.

who benefits from the pricing decision?

The underwriters, of course, whose fees are determined by the size of the offering.

Company officers other than Mark Zuckerberg are still listed as making no sales.  Mr. Zuckerberg remains as seller of 30 million chares, which he notes will go to pay taxes.

The largest chunk of extra stock, 54 million out of the 97 million added, is listed in a catch-all category of people who have given voting rights to Zuckerberg.  Their sales go from 71 million shares to 125 million.  The rest of the shares come from venture capital investors.

To me, this says the company FB had nothing to gain by raising the offering size.

what to do

This is still the same company, with the same prospects, as before.  If you liked it at $38, you’ve got to like it more at $32.  I don’t know the company well enough to have an investment opinion.  The stock does seem to be starting to trade more normally today, though.

Facebook’s first day

May 18, 2012 By in Recent Market Action, Stock ideas Tags: , , , , , , 1 Comment

I’m writing this at about 3pm, so the trading day isn’t over.  Several aspects to the FB IPO are already notable, though.

The stock opened at $43 and quickly reached a high of $45.  It then dropped to the IPO price of $38, where it met stiff resistance.  It now seems to be settling in at around $40 (note: I have a limit order in for today a tiny amount at $38.25).

1.  The day before yesterday the underwriters announced that the FB offering would be increased by 25% from an already hefty size.  This virtually always has the effect of tempering any first-day appreciation of the stock.

We should assume this was the main purpose of the move.

It isn’t clear if in this case the number two reason was:

–to accommodate holders chomping at the bit to sell or

–to ensure that the stock wouldn’t reach a crazy-high price in the first few days of trading and then collapse.

2.  The extra stock comes predominantly from selling shareholders, not from new shares issued by FB.  Normally that’s a bad thing, because the market argues (reasonably) that employees and venture capital investors know a lot more about the true worth of their firm than the rest of us do.

But the dynamics of this case aren’t so crystal clear.  The more new stock that’s issued by FB itself, the more Mark Zuckerberg’s margin of voting control over the company shrinks–and the less able he is to sell shares in the future and still maintain his voting majority.  This is not a worry for today or tomorrow, but Zuckerberg may have been quite happy to encourage employees or early investors to sell more.

3.  It’s not well-known, but underwriters have a short period of time in which they’re legally permitted to “stabilize” the price of a new issue (read:  step into the market and prop the stock up so it won’t fall below the IPO price).  That appears to have occurred with FB shortly before noon.

…not a great sign.  It raises the question of what will happen to FB next week, when the stabilization period expires and underwriters can’t stabilize anymore.

4.  The stock didn’t open until around 11am.  “So what,” you say.  That’s normal for a “hot” IPO.  Historically, that’s true.  But the brokerage industry trade association, FINRA, changed the IPO rules late last year so buyers can only place limit orders (that is, ones that specify a maximum price) before the first trade.  This eliminates market orders (ones where the buy price is open-ended) and should make the process of finding an initial market-clearing price much simpler. So a ninety-minute delay before opening is a lot.

5.  There are continuing reports of problems with trading in FB.  No one seems to know why.

TVIX: an expensive lesson about an exotic exchange traded note

March 30, 2012 By in Derivative instruments, ETFs Vs. Mutual Funds, Getting financial advice, short selling, Where are the customers' yachts? Tags: , , , , , , , , Leave a comment

TVIX

TVIX is the ticker symbol for “Velocity Shares Daily 2x VIX Short-Term” ETNs (exchange traded notes), sponsored by Credit Suisse.  What a mouthful!

They’ve been in the news recently because of very big losses some buyers of them have suffered.

what it is (hang onto your hat)

An ETN is something like an ETF, except that what the holder is buying is not an ownership interest in a collection of equity securities but rather a piece of a debt security issued by the investment bank that sponsors the ETN.

In the case of TVIX, the debt instrument in question is a promise by Credit Suisse to pay the holder an amount that’s tied to the performance of futures on the CBOE Volatility Index, or VIX.  Although in form the actual note issued by CS is a debt instrument, in function it’s very much like an OTC derivative contract.

The 2x in the name means the ETN is leveraged.  It’s designed to deliver 2x the return on the VIX.

Daily means it’s re-leveraged each day to deliver 2x the return on the VIX.  The significance of this daily recalibration is that the return over longer periods of time can be significantly different than 2x leverage over that span, depending on the sequence of daily gains and losses.

The VIX is a measure of expected volatility, or movement of the S&P 500 index away from the current level–up or down–over the coming 30 days.  It’s calculated based on the prices of near term puts and calls on the S&P.

what happened

ETFs and ETNs typically act like open-end mutual funds.  When new buyers want the securities, the sponsor satisfies demand by issuing more.  When sellers want to redeem, the sponsor cashes them in.

In the case of TVIX, Credit Suisse hedges the risk it takes in issuing the note by maintaining an offsetting position in the actual VIX futures contract. A month or so ago, however,  CS reached the maximum position size allowed by the Chicago Board of Exchange.  When it did, CS stopped issuing new ETN shares.  At that time the net asset value of TVIX was about $15/share.

Over the ensuing weeks, as the S&P 500 meandered, the VIX fell sharply and the NAV of TVIX plunged to about $7 a share.

And here’s the strange part…

…retail buyers didn’t notice. 

They continued to pay $14-$15 a share for TVIX, despite the plunge in value of the underlying note!.   At the worst point investors were paying over 2x NAV!!!   That’s like going to the bank to get change for $20 and being satisfied with $10 in coins.  Who would do that?  From looking at the charts it appears that at least a million shares or so traded at this level of misvaluation.

Then short sellers appeared and the bottom fell out. TVIX, which is trading a bit below $7.50 now, bottomed around $6.

the lesson(s)?

1.  Unlike mutual funds, ETFs and ETNs don’t trade at net asset value.  They trade at whatever price willing buyers and willing sellers meet.

2.  As far as I’m aware there’s no publicly available data on average bid-asked spreads for any ETFs or ETNs.  But the VIX price is available in real time, so it should have been easy to make a rough guess at NAV–and theefore the premium one would be paying.  It’s hard to believe that no buyer did any homework.  The broker acting as an agent in the transaction certainly knew what net asset value was.

3.  The broker you place the order with is an agent.  He has no obligation to tell you you’re doing something incredibly stupid.  (Caveat emptor.  Welcome to Wall Street.)

4.  I wonder who the short sellers were and how they got the idea to sell TVIX short.

5.  Where do you think the stock the short sellers borrowed to sell came from?   …from the accounts of the retail investors who held TVIX and whose brokerage agreements allowed their firms to led out their holdings, that’s where.  Translation:  from just about any retail holder.

According to the Wall Street Journal, which doesn’t seem to get the misvaluation–which I think is the most interesting part of the story–the SEC is investigating.  Why?   …because the shares plunged just before Credit Suisse announced it would begin to issue new TVIX shares.

developing competence as an equity investor

December 18, 2011 By in buying and selling, Constructing a Portfolio, developing competence as an investor, Trading Tags: , , , , , , , Leave a comment

Zen…

The teachers of many sports or craft skills use a Zen-like scale to rate students on their progress toward mastery of their specialty.  The scale typically has four levels, that are often expressed as:

–unconscious incompetence

–conscious incompetence

–conscious competence

–unconscious competence.

…and investing

I think these classifications have some relevance for us as individual investors.  Here’s my take on each–

1.  unconscious incompetence.  This is where everyone starts out.  You know you’re smart–certainly smarter than most of the people you see on stock market cable shows.  You’re successful at your career.  You’re informed about economics.  You read the financial press.  You look at stock prices every day.  You think that’s enough.

People at this stage misunderstand two related things (at the very least I did):

–investing is a craft skill.  Almost every concept is easy to understand.  Complexity comes from the way simple ideas are repeated and combined into intricate and less-than-obvious structures.  Here, experience is more important than having a stratospheric IQ.

–the person on the other side of the trade knows much more than you suspect.  Typically, it’s someone who has served a five-year apprenticeship under an experienced professional investor and has maybe ten years of experience working on this own.  That translates into 50 hours a week gathering information about stocks.  More than that, the person probably spends most of that time focusing on a single stock market sector–or even a single industry, or a subsection of that industry.  Yes, some of these professionals actually have two years experience 7.5 times (meaning they’ve been spinning their wheels for most of their careers–thank goodness for that).  But even so, that’s 5000 hours studying the stocks they tend to buy and sell.  How good is the hot tip from your buddy Charlie in comparison?

2.  conscious incompetence.   Some people remain in stage one forever.  They either don’t evaluate their investment performance vs. their objectives or a benchmark, or their underperformace doesn’t register because it doesn’t square with their self-image.

Others–here I’m much more familiar with what starting-out professionals do that with ordinary individuals–begin to understand that this activity, like almost any other where professionals are involved, is harder than it seems.  They react to the situation in two ways:

–they stop doing the things that lose them the most money, and

–they begin to work harder at learning the ropes.  If they can, they find a successful investor who is willing to teach and who will take them as an apprentice.

3.  conscious competence. At this stage, an investor knows:

–enough accounting to read company financial statements with ease and understands the important financial variables in a company’s success

–enough microeconomics (which is mostly common sense, in my view) to evaluate a firm’s competitive strengths and weaknesses

–how to create a detailed spreadsheet to estimate future earnings (or to forecast other relevant metrics)

–from reading 10-Ks or elsewhere, the financial history of the companies and industries he’s interested in

–that his research process, and his plan for monitoring the key variables his research has uncovered, generally lead to success.

4.  unconscious competence.  This is the Zen stuff.  In sports, it’s the idea that after you’ve done enough conscious practicing, you’ve engrained knowledge deeply enough that you can/should cultivate “the zone.”  You try to stop thinking out what you intend to do and let your unconscious run the show.

In the most literal sense, I don’t think there’s a place for this in investing.  The reason?  –the activity is much more complex than any sport, so accumulated experience isn’t enough to rely on.

Nevertheless, there is something analogous.  For example:  you may encounter a new investment idea.  You know it will easily take a month or more to do the research you need to make an informed decision to buy or not (for me, it usually takes me over a year to become completely comfortable with a stock).  On the other hand, you see that the stock is already beginning to outperform as others become aware of it.  What do you do?

At some point I think every seasoned professional develops a sense of what research tasks are crucial and which amount to crossing the ts and dotting the is, and can be done after buying a small position in the stock.  In effect, you develop a feeling of confidence that a stock has a chance to be an outstanding performer that’s based in part on unconscious processing of information that you aren’t yet able to articulate consciously.

Some veteran investors (me among them) consider this a competitive advantage.  They rarely, if ever, talk about this.  On the other hand, some use “hunches” as a substitute for doing basic research work.  That’s very bad.  If investors like this are not “managed” by their subordinates–analysts or portfolio managers–they threaten to bring down whole investing operations.  Still others shy away from the idea of unconscious thought completely, and remain at stage 3.  I think it’s foolish not to use all the tools at your disposal, but such investors may simply be recognizing their limitations and acting accordingly.