Sunday, February 17, 2013

A Behavioral Approach to Asset Pricing (1)

The recent onslaught of M&A announcements has tilted the economic conversation towards "positive" animal spirits. Corporations and investors have decided to listen to Ben Bernanke and engage in risk taking. As a sponsor, this is kind of good news for me. Why isn't it VERY good news for me? Well, fundamentally speaking, nothing quantitative has changed.

1. Rates have been low for 2+ years now. So what's changed? I think companies have decided that the political dysfunction is the new normal. Congress will say no to everything Obama proposes, which doesn't matter because Obama will be in office for the next four years.

2. Equity risk premiums (spell check doesn't recognize "premia") have been low. Which is counter-intuitive because you would assume that a lack of equity interest would drive up the cost of equity, but that hasn't been the case. In my opinion, I think the increase in investor sentiment has hurt Apple's stock price. Why? Risk aversion let most institutional investors out of the equity markets, however they kept one foot in equities (fake high beta) via Apple. Once they became more aggressive in the general equity market, they dumped a chunk of their Apple holdings.

3. Fair market value. Assets have been slightly overpriced due to low interest rates, but does it really matter? Assuming 0% growth and fairly constant FCF, you would assume that a back of the envelope equity payback of ~3 years would encourage sponsors. But this isn't the case. Why is that? In my opinion, "smart money" knows that assets are overpriced, and the only exit strategy they have is via a strategic acquirer or an IPO.

I've had a number of deals clogging up the pipeline because of equity investors waiting for other investors to pull the trigger first. Interesting times we live in. I think this is the last year for solid LBO's in the middle market space, as rates continue to quietly increase. Or decrease. Or remain flat. Meh.

Saturday, February 9, 2013

How Dell Tried to Avoid Potential Buyout Pitfalls -

I find this buyout compelling. Compelling in the sense that I applaud Michael Dell for taking his company private. In my opinion, not enough companies, especially large and mature techie companies, go private. Why?

1. Lazy management : There isn't any fanfare once you go private, and for some CEO's, they can't function without the attention. Some leaders/managers need to be in the spotlight, and the spotlight becomes part of the actual part of running the company. The constant bickering or cowering to Wall Street analysts, the Bloomberg and CNBC coverage and the addictive mega buyouts. Another issue is what's the point jumping off the cliff for a company? If you can meet or slight beat earnings estimates, why go the extra mile? And that's the reason why more companies should go private. Private companies have higher costs of capital, less scrutiny and less protection for investors and management.

2. Expensive : It's expensive going private. I mean more on the collateral damage side. Unless management is in good graces with institutional investors, there will always be some sort of disgruntled or pesky person or situation that could make a buyout impossible or bloody. Why go through the bs. Most CEO's would prefer to keep the status quo, make everyone happy and secure a nice golden parachute in the event of some scandal or consistent malaise.

3. Pressure : It's much harder succeeding as private company versus a public firm because of the brand value that being public comes with. I find this counter-intuitive because companies go public for various reasons, not always because they need the money; which would actually be the worst reason to go public. Being private means most people haven't heard of you, and most CEO's hate this. No more analysts fawning over your free cash flow and P/E multiple ( a really ridiculous metric in my opinion). Higher capital costs, perhaps a contraction in market share, talent exit (some employees like working for "big" companies) and other reasons can make it tough on a private company.

How Dell Tried to Avoid Potential Buyout Pitfalls -

Friday, February 1, 2013


Happy New Year!!! Greetings and salutations!!!!...and all of the et ceteras. My new years resolution resolution. My goal is to continue my path towards 100% clarity and good mental health.

So, here's a list of goals that I will attempt to achieve in the glorious new year -

1. Less News -
American news is terrible. It can be downright atrocious, resembling a sitcom. Try watching Fox News, CNBC or MSNBC, and compare it with Bloomberg, France 24 or Al Jazeera. With news and the ubiquitous data that accompanies news segments, there's an influx of noise, i.e., information that has no bearing on your day to day living. Case in point, the Bernanke spawned "fiscal cliff". As a businessman, I only care for clean information. Clean information is data that could bring me closer to making a binary decision. Decision making becomes precarious when there's an abundance of insignificant variables. Insignificant variables? Such as "taxes", regulation, budget deficits and monetary policy. The media and their "allegedly seriously smart pundits" use random data and doomsday theatrics to bombard viewers with useless information. Leave me alone...

2. Less Corporate Spending - 
I've learned during the last three years that living BELOW your means is better than living WITHIN your means. Why? It allows me to adapt quickly and take MORE risk in my business and life. After all, risk taking is the only way to achieve returns. Trying earning market returns from US treasuries or stabilized real estate...Good luck.

3. Lower Tolerance for Ignorance - 
There's nothing scarier than someone who believes his/her own ignorance. Like the i/banker who wanted me to offer his client an earnout for revenue from a non-existing line of business that the CEO had no plans for generating. My response to ignorant people will be either, "I believe you believe that", or, "You're right". Meh.

4. More Mixing Business + Pleasure -
Why not? Kill two birds with one stone...preferably one drink. More business (and even better, information) is taken care of during "non-working" hours, than the typical government agency office hours.

5. Buy when the Market Is Selling - 
Very simple thesis, but hard to sustain due to behavioral reactions, typical of human beings. We all want to blend in and feel among a peer group or even worse, make significant others approve of our decisions. However, such is never the case. When everyone is buying an asset, prices go up. So the person making money is the seller. At least theoretically.

6. Low Volatility - 
Hedge funds had a horrible 2012 thanks to the evaporation of volatility. We can thank the Federal Reserve, but more directly, market participants. Low volatility means lack of price differentials for hedge funds, i.e. less arbitrage opportunities. Hedge funds typically need wider price differentials to take advantage of volume and speculative short-term trading. Value investors, including investors of distressed assets have made a fortune since 2009-ish. The VIX (as of today) remains at ~14, and this is bad news for traders. So who is this good for? Good old fundamental investors smart enough to take advantage of interest rates-induced asset pricing. With rates so low, the artful investor should be able to take advantage of interest rate arbitrage - borrow money and buy an income-producing asset. For the deep-pocketed investor, distressed assets is where to make  pretty penny. One can borrow, for example, $10M at 12% (vulture money ;) ), buy a distressed asset, use equity to service the debt in the short term (let's assume 9 months), and divest the asset. Depending on the haircut at time 0, the astute investor should make a pretty penny...However, illiquid assets are enemies of investors with high costs of capital, and fear of being trapped without a favorable exit. Caveat...