Michael Covel

Here is an excerpt from an email newsletter that arrived in my in box:

With the beautiful benefit of hindsight we know what happened to Starbucks - it grew too fast, opened too many stores, and sacrificed its own standards to meet unrealistic targets. The company first claimed that it only had a few hundred stores that it needed to close, and then the few hundred spilled into six hundred. Weak consumer spending will likely push Starbucks to re-examine its store count again, doubling or tripling the store closures. Starbucks percentage of new stores growth in 2007 was only slightly lower than it was in 1999. But in 1999 it had 2,000 stores; in 2007 it was pushing a 10,000 company owned stores mark. Let’s put this in perspective: in 1999 Starbucks opened 447 stores - 1.8 stores per working day; in 2007 that number more than tripled to 1,403 stores a year - 5.5 stores per working day. At this level of growth physical limitations come in: there is only so much real estate that fits a company’s criteria at a certain point in time. Management started sacrificing on the quality of their decisions, compromises were made that were unthinkable several years before. Stores were opened too close to each other or on the wrong side of the street, expensive leases were signed, they even hired baristas that would have fit in better at McDonalds - you get the idea. Unfortunately the present and the future will pay for the decisions of the past: stores will need to be closed, long-term leases terminated, charges taken, corporate costs created in hopes of high growth eliminated, and corporate culture of partnership strained by barista layoffs. Starbucks needs to go on a permanent growth diet (at least in the US), and realize that it has the metabolism of a 37 year old and can digest fewer new stores. By tightening its standards for opening new stores the company will be on the way to recovery, though at slower growth.

Isn’t their chart easier to follow than that explanation? Instead of waiting for management to turn the company around, why not wait for the chart to turn around?

I am sure the pay is good, but these CEO gigs can’t be much fun.

From the wires:

Jerry Webman, chief economist at Oppenheimer Funds Inc., said the swift pullback in stocks after the day’s economic readings illustrates the fragility of investor sentiment. He said the market’s volatility reflects an undercurrent of uncertainty and efforts by some traders to capitalize on shifts in the mood. “We react very strongly to bits of news,” he said. “The whipsaw danger is pretty high here.”

I don’t believe that any analyst can accurately predict when whipsaw danger is highest…whatever than means exactly!

Oh the joy that comes with being a fundamental analyst! That’s harsh! However, anyone taking an honest look at this chart knows damn well that the trend was straight down already. Whether or not some one analyst said something of consequence is irrelevant with THAT chart.

From John Mauldin comes analysis many don’t want to accept:

You are told that you should invest for the long run. Twenty years for a lot of people is the long run. However, what they do not tell you is that you can see negative real stock market returns over 20 years. It’s happened four or five times. So when you’re reading in somebody’s book that says, “Hey stocks are going to compound at 11 percent a year” or whatever la-la number can be seduced from the data, think twice. In secular bear markets, you can have returns for long periods of time from zero to 3 percent, every 15 to 30 years. We’re kind of starting one here again.

I don’t know if John’s last sentence plays out, but the overall logic is on target.

Nice research huh?

This excerpt from the wires today is interesting:

A stock bounce was hardly unexpected, though, after the Dow lost nearly 240 points Monday on worries about the sagging financial sector. Wall Street is torn: Energy prices, if they continue on their downward path, could provide big relief to consumers and in turn help the economy, but credit losses keep mounting at the nation’s major banks. The result is big swings in the market but little consistent direction. “We’re living from one piece of news to the next,” said Alan Gayle, senior investment strategist for RidgeWorth Capital Management. The market’s volatility is likely to continue unless it gets further evidence that oil prices are, indeed, on their way down, and that banks have already seen the bulk of their losses.

That poor reporter. He has to write something. He has to try and paint word pictures to explain volatility, but it is clearly a struggle for him. I am not sure how a reporter can wake up excited each day to go to a job that requires him to literally make stuff up to justify random price movements.

Even if you did not know this about Indymac their chart told you all you needed to know. Same deal as with Enron the chart was ahead of the “oh we were so shocked at the fraud after the fact revelations” curve. You can only trust the price. I know that is an un-sexy message, sorry.

From FT.com comes this excerpt:

Oil prices continued their correction this week as the debate about the influence of speculators in energy markets reached a new pitch. The US Senate yesterday failed to agree on proposals to limit excessive speculation in energy markets and, with oil prices becoming a huge political issue in a presidential election year, attention turns to the House of Representatives, which will debate the issue next week

How does one define “excessive”? Do tell. Where does this nonsense end? With this type of logic isn’t the wealth of Buffett, Gates, Soros, etc. excessive?

Some of the best one liners around.

Banning short sales? What next? I especially like this excerpt

Cox and the SEC are taking away profit — and creating new problems. First among those, is this any kind of a list that a bank wants to be on? Even if it does, the new rules unfairly protect a limited number of financial firms and leave others — Washington Mutual Inc. and Wachovia Corp. , to name a couple — exposed. “This naked short selling has been a pervasive problem for a number of years,” said Jane Storero, a partner and securities attorney at Blank Rome. The move to curb naked shorts for a limited group of firms “raises the question [of whether the move is] going to protect them or hurt them? Or is it going to hurt the next tier of banks?”

Here are the securities identified in the Commission’s order:

BNP Paribas Securities Corp. BNPQF or BNPQY
Bank of America Corporation BAC
Barclays PLC BCS
Citigroup Inc. C
Credit Suisse Group CS
Daiwa Securities Group Inc. DSECY
Deutsche Bank Group AG DB
Allianz SE AZ
Goldman, Sachs Group Inc GS
Royal Bank ADS RBS
HSBC Holdings PLC ADS HBC and HSI
J. P. Morgan Chase & Co. JPM
Lehman Brothers Holdings Inc. LEH
Merrill Lynch & Co., Inc. MER
Mizuho Financial Group, Inc. MFG
Morgan Stanley MS
UBS AG UBS
Freddie Mac FRE
Fannie Mae FNM

People wonder sometimes why trend traders have drawdowns? Well, this is a great example. When the rules of the game are changed midstream by a government seeking to protect some one group for squishy reasons, trends can change.

The SEC wants to ban false information spread about companies. What a great idea! I am sure they will have great success….not:

SEC Chairman Christopher Cox said the investigation is aimed at “ensuring that investors continue to get reliable, accurate information about public companies in the marketplace.

Chris, guess what? We already have that - it is called the market price. You can’t fake that. This is just another plan to increase the size of government. It will result in absolutely nothing except wasted tax dollars, but I am sure someone will feel better now.

Note: If some knucklehead wants to write misleading information on a chat board (and how do we define “misleading”?) and some bigger knucklehead wants to believe it and then act on it, I say that is a marriage made in heaven, not an opportunity for the government to step in.

Financial Times recently ran an article by John Train titled ‘The heresies and swamis that can hurt your portfolio’. In it Train states:

There are several heresies in the investment business that can harm you if you believe them. One is astrology. Probably almost no Financial Times reader will be troubled by that one, but you would be surprised how many readers of fashion magazines and the like give it attention. Another is technical analysis the idea that by studying the shape of the markets wiggly lines you can predict the future. Famous swamis have arisen, such as Joe Granville and James Dines whose pronouncements would move markets. Yet it has been only a matter of time before they crash and burn.

If he is talking predictive technical analysis I agree. If he is talking rective technical analysis - he is dead wrong. I paint this picture in my book “Trend Following”. Train also states:

Todays heresy which I find particularly annoying because it is so lazy intellectually is claiming that volatility equals risk. What rubbish! Risk is when a company goes belly-up, a currency goes against you, or a country turns sour, such as Cuba; that is, the possibility of permanent loss of capital which has nothing to do with inevitable fluctuations of the market. Here is an example. Suppose you like living in your house, hope to live in it for 20 years, and do not want to sell it. It will get more valuable over time, and is thus a good investment. But suppose you constantly priced it in a thin market, and one year it was up, and another down. Does that make it risky? No. As Buffett says, better a lumpy 14 per cent than a smooth 12 per cent.

I agree here - bumpy is reality and smooth is for dreamers not connected to the real world. Train then offers a conclusion which is problematic:

So what should you do? Buy a stock that, like your house, you know all about and would happily own at that price, in the absence of any market.

This is pie in the sky. Buy one stock? How do you “know” about it? At any price? His article is very odd. Some nice analogies and comments, then a conclusion that simply doesn’t pass the smell test.

This article paints a tough picture for Las Vegas and casinos, but the charts of Las Vegas Sands Corp. (LVS) and Wynn Resorts (WYNN) showed a problem long before the article hit the wires.

I caught the article today that Starbucks is closing 600 stores. Looks like the chart was saying there was a problem long before the news today?

As I look at major stock markets spiral down I feel little. Do I know why stocks are down? No. Does anyone else really know? Not in my opinion. Are there explanations everywhere attempting to explain the downward trend? You bet. Are any of those explanations remotely plausible in a measurable way? You tell me.

This is a comment from a recent post:

Yes, I have read Rand and my bet here is she would agree with me, to a large degree, for no other reason than I am doing independent thinking and disregarding her and all other novelists and philosophers. I doubt what I have written here is perceived only by me and if that is true then my subjective thinking and reality may be way ahead of the curve. I doubt that is true. In fact, I have a hunch ninety percent of the working people in this country would agree with what I have written here. By definition, that would classify my observations and perceptions as powerfully objective. The fact is energy prices are plunging a dagger into the American and world economy. That’s the issue. That fact can be backed up with plenty of data. Yes, speculators were in the market at $30 per barrel and now in at $130 per barrel. Looks like about a 60 percent rise in trading volume since $30 per barrel. Yes, $30 dollars was good because there were no visible disruptions to the economy. $130 is extremely bad because the negative ramifications to the economy are huge and growing. This is a big price to pay for “free market” speculation. That said, this issue won’t get decided on this or any other webpage. If the price continues to rise, this mess will eventually be viewed as a national security risk to the country and then the Federal Government will step in. JFK was on top of the steel companies in the 60’s, while unfortunately, George Bush is missing in action in 2008.

My response:

The market doesn’t care what the term “working people” means - whatever it means to whoever. The market doesn’t care about you or me. If you can accept reality, then you can deal with it. Or you can wait for a handout or government subsidy or just whine.

Adding to my comment, in my experience people who talk with phrases like “working man” are either very rich politicians or people who have no money who believe the very rich politicians will actually deliver on a promise of giving them money in some form. Here’s a tip: ignore politicians and figure out how the great traders make their money. They don’t make it by whining about “working people” - whatever that means!

Cool comic.

From a reader:

Dear Michael, I’m a keen listener of your podcasts and have both of your trading books. I wondered if youd come across the quote below and if you had any view or could offer any insight into the statement. I’ve assumed rightly or wrongly that Elder is steering the reader (beginner) away from the drawdowns associated with trend following, but Im merely guessing. The subject isn’t explored in the book. The statement has put me off trend following for the time being and was hoping you could enlighten me. For information, I am a beginner trader, mostly trading indices and stocks on a spread betting platform (so far without success!). I’m also not entirely sure what he means by a later stage of development: “A beginning trader is better off learning to catch short swings, while leaving long-term trend trading for a later stage of development (Ref. Dr. Alex Elders Come into my Trading Room).” Apologies for asking you direct, rather than Dr. Elder, but given your passion for trend following I thought I would ask your advice. It kind of raises the debate, Is trend following for beginners? The Turtle story seems to contradict this theory. Best regards, Tony

Yes, the Turtles do contradict that view. My view? I view it as one sentence by one man - who is not of the caliber of the traders I write about.

Are many of the new investors in China learning the lessons Americans learned during the Dot Com bubble? Well, that depends. What did the average American learn from the Dot Com bubble?

From Barry Ritholtz some interest rate comedic relief.

Michael Marchese of Marchese Capital Management, LLC had a well written piece that caught my attention:

This past week there was an article in the Financial Times denouncing price as a proper indicator for determining entry and exit triggers in trading, touting ‘value’ as a true measure of when trading should begin and end. There are many perspectives on the street and just as many ways to make and lose money. At Marchese Capital we recognize that there is no one ‘right’ way to trade. In fact, our belief is that the trading strategy must suit the personality of the particular trader. If you can find a strategy that suits you and your circumstances then you have a chance at succeeding. If you pigeon hole yourself into someone else’s perspectives you are destined to fail.

Price happens to be my choice for exit and entry indication. I am partial to price because there is no truer value of a liquid security than price itself. My faith is also in the theory of ‘now’. For me there is no future, it simply doesn’t exist, there is only now, and the current price represents the only value that anyone can know with any true sense of reality. ‘Future value’ is a phrase used throughout history by charlatans. Whether they are dressed in turban and cape, gazing into a crystal ball or wearing gray pinstripes, looking you straight in the eye and working on Wall Street, they are no more than soothsayers trying to sell you on their ability to predict the future, a future which frankly does not exist.

Value means different things to different people. In the market there is a number in front of you, one party just bought there and another sold, it represents the current market value, and traders call it ‘price’. Let’s not confuse the issue with a newspaper writer’s smoke and mirror ratios, historically based statistics, and conceptual view of the books and records of a corporation, they all lead to one thing - predictions. Great for your ego when you are ‘right’, great for cocktail party conversation, but when you are trading with real money and trying to turn a profit;

…cut your losses, let your winners run, leave your ego at the door.

At Marchese Capital the focus is not on fruitless prediction, the focus is on bringing true value to our clientele, in the form of absolute returns, gained through the management of downside risk and the disciplined trading of market price.

Marchese of course was writing for his firm, but in his comments are nuggets for everyone whether his client or not.

From Barry Ritholtz.

An ad I pulled from the net:

Someone must have a nice critique of this?

An academic using his connections to pass money around is supposed to be a surprise? Why is that?