Monthly Archives: August 2013

Facebook – It’s Time to Have Another Look!

Facebook’s second quarter earnings were a blowout.

In my last blog post on February 3, 2013 (here) I was hoping FB would trade down to EBV+5 – the $20 level – where I believed investors/traders would be presented with a good buying opportunity.  Facebook traded down to a low of $22.67 on June 6, 2013 then started to trend upward to a little over $26 a share before FB’s second quarter earnings release.  Subsequent to its earnings release FB shares blasted through EBV+6 and is trading around its IPO price of approximately $38 a share.

Model Price Chart

Facebook Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Facebook Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

 

It has been over a year since Facebook has been a public company and over this period of time it has been a rough ride for the company.  The birthing process from a private company to public entity has been a trail by fire with initial public investors, those who paid $38 a share, facing losses and probably tarnishing the Facebook brand in the eyes of many.  The big issue the company faced and the market demanded was the shifting of its presence from the web-based PC platform to mobile.  Facebook announced in their recent second quarter conference call that mobile-based active users, in just two years, exceed 100 million users much to the cheer of market participants.

However as you come to expect from this blog, let’s go a couple of steps further in terms of analysis – Model Price analysis.

I pulled from our database the usual charts. The first looking at our theoretical earnings (TE) calculation versus the published 12-month forecast of earnings per share (EPS) of Facebook.

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For simplicity sake, I chart the ratio of the two lines in my second chart below.

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From looking at the data, I can see why the market is very pleased with Facebook.  When the differential between TE and forward-looking earnings per share are increasing the market will add valuation – recognizing Facebook’s improving fundamentals.

But isn’t our calculation of model price below where the stock is trading?

Yes it is.  But look at the dynamic of our model price history over the last six months.  Our model price line has increased substantially especially over the last month.  (see chart above)  The market, through Facebook’s share price and valuation, is anticipating substantially better earnings in the future than what analysts are currently projecting.  This is what happens with very strong growth companies, market participants anticipate ever increasing earnings per share growth in the coming quarters.  In other words our model price calculation will be substantially higher as equity analysis further adjust earnings upward as new and hopefully increased earnings are forecasted.

If the market is disappointed anytime in the future market participants should expect a violent correction in that excess valuation is taken away from the company as bullish expectations are readjusted.

Conclusion

Since the IPO, Facebook has face many challenges and disappointments.  As at the writing FB is now trading in line with its IPO price and the mobile platform switchover seems to be underway.  Facebook’s baptism hijinks seem to have settled down and the fundamentals seem to indicate a stable environment of substantial earnings growth with stable to slowly upward growth in theoretical earnings.

Investors who are nervous about Facebook and its progress can wait for the positive transit of EBV+7 or $41.52.  If this positive transit were to occur before the third quarter results, this will be a market signal that good news will probably be announced.

Yahoo CEO – Marissa Mayer; Model Price Report Card

I’m a fan!

She is a fresh face.  She is 38.  She is a mother.

Marissa seems to be doing bold things strategically and financially speaking that keeps Yahoo, the company, in the news.  She was appointed CEO of Yahoo in July 2012 and had just completed her one-year anniversary on July 16, 2013.  Since her arrival Yahoo’s share price has soared 70%.

She is also controversial.  Her latest controversy, appearing in the September issue of Vogue, spread out in a lawn chair – with her clothes on – though her knee length royal blue dress is sleeveless!

“But how is she doing, really?” is the question I ask myself.

So I dig into our Model Price database and pull out the following charts.

Theoretical Earnings versus 12-Month Forecast of Earnings per Share

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For convenience sake I have computed a ratio of the two lines so you can better view the relationship.

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What is Theoretical Earnings (TE) Again?

Simply stated the calculation of TE of any public company yields what one can call benchmark earnings or what the company should be earning, again in theory, given the capital structure of the company and the capital employed in the business.

Once TE is calculated, you can compare the result to the actual earnings (AE) of the company.  If AE is greater – which it usually is – the market gives additional valuation in the public financial markets for this differential between TE and AE.  If a company is dynamically increasing its AE with TE staying the same or marginally increasing over time, equity markets usually signal its approval of this expanding ratio by increasing the valuation of the company.  The antithesis is also true if dynamically TE and AE as a ratio is contacting, the equity market will take away valuation.

This should make sense to a lot of people.  In essence we are comparing a public company to itself in terms of its own benchmark earnings or Theoretical Earnings.  I like to think of individual companies as unique as fingerprints, each being individually different even though they may compete in the same industry.  CEO’s have a large influence over their own TE calculation in the way they manage their business and can have a direct impact on their company’s valuation, again this should make sense.

If you think my line of logic is sensible – on the concept of TE – and wanted to seek out more information on the topic you will be disappointed.  Unfortunately this financial concept (TE) is NOT taught in any business class, MBA or CFA program.  So by reading this blog you‘re ahead of the other financial professionals in terms of equity analysis.  TE analysis is embedded in our calculation of Model Price in case you were wondering.

Marissa is Increasing Actual Earnings (AE) but also Theoretical Earnings (TE)

If a CEO increases the size of their balance sheet (TE), their earnings should follow (AE).  To me this is an equivalent to depositing more money into a bank account.  More money in a bank account the more interest income received or in Yahoo’s case the more earnings per share created.

Marissa has done a great job increasing EPS after a year on the job, unfortunately what income gains she has achieved have come at a cost in terms of theoretical earnings yielding a negligible tangible benefit for shareholders.

But Yahoo’s Stock is up 70%

Yes, but when Marissa was appointed CEO of Yahoo there was a positive valuation gap between where the stock was trading and our calculated model price.  As you can see from our model price chart below shares of Yahoo had a potential 64% upside to our calculated model price.

See model price chart below

Yahoo! Inc. with monthly price bars, EBV Lines (colored lines) and model price (dashed line)

Yahoo! Inc. with monthly price bars, EBV Lines (colored lines) and model price (dashed line)

Granted Marissa has closed this valuation gap over the last year however critics credit most of performance from perceived value of Yahoo’s equity stake in Alibaba Group Holdings Ltd., the China-based ecommerce giant that is planning an initial public offering.  Irrespective of what the critics say, the valuation gap was closed on her watch and she should get the credit – remember I said I was a fan.

What to make of Marissa’s performance over the last year?

Unfortunately, I would say mixed, maybe B minus.  Over my business career, especially watching and observing through the filter of Model Price Theory (MPT), I have seen many charismatic and press savvy CEO’s come and go.  Strangely I find myself rooting for Ms. Mayer.   Why?  Perhaps of my perception of her being an underdog in the male dominated world of Silicon Valley has something to do with it.

Unfortunately math is math and I have seen too many times where CEO’s jack up theoretical earnings (TE) to increase actual earnings (AE) only to see AE disappear because of bad acquisitions – Marissa has acquired 17 technology startups – and failed strategic maneuvers.  She needs to get lucky with some of these acquisitions or maybe hit a home run with one of them to justify the TE growth over the last year.

Ms. Mayer has only been CEO for a little over a year with still 36% upside differential to our calculated model price, as of last night, as you can see with the model price chart above.  The low hanging fruit has been picked in terms of valuation pickup over the last year but there is still easy upside to capture for shareholders.

Admittedly it’s not difficult to keep tabs on Ms. Mayer, the business press and now the fashion press keeps her visible to her audience.  Hopefully she can back up this show with something more substantial (and differential) in terms of model price math.

As always will be interesting to follow!

P.S. Hedge fund manager Daniel Loeb took a position in Yahoo back in 2011 when Yahoo was trading around $13.50 a share.  He helped recruit Ms. Mayer as CEO of the company.  He sold 2/3’s of his position back to the company for $29.11 in the latter part of July of this year.  Critics didn’t like that Mr. Loeb seemingly got preferential treatment on the sale of his shares and blamed Ms. Mayer for this corporate action.  Strangely and maybe counter-intuitively this share buy back helps reduce our theoretical earnings calculation.  Interesting.  Maybe I was too harsh in my grading of Ms. Mayer.  Time will tell.

Apple Rallies to EBV+5!

Investing can be about probabilities.

Often times I like to think of our model price charts as a probability machine.  When the odds are in your favour you make a bet…investment.  When the odds are not in your favour on a particular stock you move on to another situation.  Simple.

With Apple rallying up to EBV+5 the probability of making money is…not so great.  Again we are talking about probabilities here, not certainty.

Model Price Chart

Apple Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Apple Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

For those interested, a daily updated chart of AAPL subsequent to this post will be maintained on Facebook, here.

When to Purchase Apple Shares

Since January of this year there would have been two occasions where traders could have invested in Apple with good probabilities of success.  Each time Apple shares traded at EBV+4, first in the third week of April and the second was the last week in June… as per my arrows on the above chart.  (I know the price bar doesn’t look like it touched EBV+4 in the last week of June, but it was close.  When Apple’s earnings were released on July 23rd, and we updated Apple’s actual balance sheet for the end of June resulting in the dip of EBV+4, as you can see in the chart above, from the last actual quarterly release from Apple at the end of March of this year.)

I have indicated with arrows the optimal purchase of Apple shares.  The probability of success is greater when stocks are purchased at the bottom of the zone where the respective stock is trading than at the top of the zone.  Why? Stocks usually trade freely within their respective zones – between EBV levels, as time goes on.  Numerous stocks can trade in the same zone for years giving traders ample time for purchase and a higher probability of success at the bottom of the zone and selling the position at the top of the zone.

Will Apple Shares Have a Positive Transit of EBV+5?

I doubt it!

But we will have to see.  Again I talk in probabilities NOT certainty.  To me this is fun.  When watching my quote screen, on the handful of stocks I follow, I know the EBV levels.  The quotes mean something to me and over time they will mean something to you – if they don’t already.

As always we will see what happens!

P.S.  As you can see from the chart Apple had a negative transit down through EBV+5 back in January of this year.  I blogged about this at the time along with the importance of EBV+5 here, if interested.

Metlife (MET) – Coming Out of the Blue!

I have been a little tardy on several stocks having a positive transit of EBV-3 or as we say “Coming Out of the Blue”.  (No need to worry about timing, these are long-term trades that can take time to workout but very profitable for investors.)

If unfamiliar with our “Coming Out of the Blue” investment strategy please see my blog here, “Questions and Answers about “Coming Out of the Blue!”

Model Price Chart

Here is our model price chart of Metlife.

Metlife Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

Metlife Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)

For those interested, a daily updated chart of MET subsequent to this post will be maintained on Facebook, here.

As you can see MET had a positive transit some weeks ago.

Long-Term Model Price Chart

Metlife Inc. with monthly price bars, EBV Lines (colored lines) and model price (dashed line)

Metlife Inc. with monthly price bars, EBV Lines (colored lines) and model price (dashed line)

Metlife had a negative transit of EBV-3 back in the financial crisis of 2008.  From mid 2009 to mid 2011 Metlife tried to hang on to EBV-3 before letting go, negative transit of EBV-3, in mid 2011.  MET has spent 2 years under EBV-3 until the positive transit recently.

Having MET transit EBV-3 is a positive not only for Metlife but also a positive for the US market as a whole.  The insurance industry has had a brutal 5 years in the wake of the financial crisis of 2008 and the zero interest rate policy (ZIRP) of the Federal Reserve Board.  As with many insurance companies, in both US and Canada, this industry is finally showing some signs, with positive transits of EBV-3, of life.

For Canadians we had both Sun Life and Manulife transit above EBV-3 sometime ago as noted here and here in this blog with healthy returns since we noted their transits.

We can now add Metlife to this growing group of companies that finally have had a positive transit of EBV-3 or “Coming Out of the Blue”.

I’m on Market Call!

On Wednesday, August 7, 2013, I will be on Market Call Tonight on BNN (Canadian Business Show) 6:00 pm – 7:00 pm (eastern standard) with Mark Bunting.

Take this opportunity, open our Model Price Facebook application and follow along while I’m on the show answering viewer’s questions about individual stocks.

Would you say something different based on your interpretation of Model Price Theory and chart? You can make comments via Facebook.

Should be fun!

August 2013 – Monthly S&P 500 Market Strategy Update

As possible candidates for the Chair of the Federal Reserve Board are being vetted in the financial press as a replacement for the current Chair, Ben Bernanke, I have a suggestion.

Why not Howard Dean?

I suggest his name knowing there isn’t any possibility of consideration but he was the only sane voice in the ‘hyperbolic free for all’ known as the “Fiscal Cliff” back in December.

As I blogged back on December 30, 2012 “Fall Over the Fiscal Cliff, Please!

Howard Dean, six-term Governor of Vermont and unsuccessful 2004 Democratic presidential nominee said the following according to Ian Bremmer, “If you go over the cliff and stay over, Dow 15,000 in six months.” 

I couldn’t agree more with Mr. Dean.

Well, as we all know the US did fall over the “Fiscal Cliff” and as I look in the financial pages the Dow Jones is at 15,640 as at this writing.

Was anyone else saying this?  Other than myself of course!

I didn’t hear a soul.  And I was listening.  Listening carefully for any voice of economic reason.  Howard Dean was the only one, and I had to quote him indirectly because the financial press was probably not listening, especially to a Democrat.

Model Price Chart

Let’s have a look at our model price chart of the S&P 500 Index.

S&P 500 Index with weekly price bars, EBV Lines (colored lines).

S&P 500 Index with weekly price bars, EBV Lines (colored lines).

As a reminder we aggregate all companies in the S&P 500 Index into one chart on a market capitalized basis (like the S&P 500 Index itself), so we can see where the market – S&P 500 – is trading relative to its EBV lines.

As you can see from our above model price chart the S&P 500 Index since topping out in the third week of May gently touched down at EBV+3 and has rallied to new highs – as of this writing the S&P 500 Index is trading over 1700.  By observing our model price chart investors can clearly see the risk in the US market.  The US market could retreat back to EBV+3 or 1597, a 5.6% decrease at any time.  The upside in this market, that nobody focuses on in the business media, is EBV+4 or 1998, an 18.8% increase.  Considering the upside (18.8%) versus the downside (5.6%) where the S&P 500 Index closed on July 31st offering long only investors considering US large capitalized equities a good risk-reward ratio for profitable investing.

Doesn’t the US equity market seem different?

All publicly traded markets, including equities, have a feel.  Market veterans know what I’m talking about and it’s hard to describe but the US equity market has a different feel to it.  Thanks to a positive transit of EBV+3, back in May of 2013 – see blog, the US equity markets feel that they are functioning normally and with confidence.  It feels safer.  Don’t get me wrong equities are equities, they go up and down, but as the economy gets stronger this certainly gives valuation support to present and future equity valuation.

Another way to describe my market feeling is “boring”.  “Boring” with a positive bias.  Does that sound better?  Don’t you agree?

Tapering Anyone?

Equity market strategists are concerned about the steps the Federal Reserve Board (FED) will take in terms of reducing their monthly asset purchases in the near future.  Remember the ‘FED’ purchases $85 billion in US Treasuries and agency mortgage paper a month.  As the US economy becomes healthier it is only a matter of time, in my estimation, that the FED’s monthly purchases would start to decline – taper.

Instead of worrying about the ‘tapering’ per se let our model price chart on the S&P 500 be your guide.  In my opinion everything will be OK, just as long as the S&P 500 Index stays above EBV+3.    If there is a negative transit of this ‘red line’ then this would be a market signal that any ‘tapering’ maneuvering by the FED is wrong footed and runs the risk of the US economy potentially entering another slow down or recession.

Conclusion

Having the S&P 500 Index above EBV+3 is sending the signal to investors that US equities have a great risk reward balance for long only investors in US large capitalized companies.  The longer the S&P 500 stays above EBV+3, is giving market participants confidence that equity markets are functioning normally and that proper price discovery is occurring based on the fundamentals of individual companies underpinned by economic growth of the US economy.

“Tapering” can be a risk to equity investors.  Don’t let the business press and “market experts” steer you wrong.  The US market will send investors a signal if all is not well with any “Tapering” action if the S&P 500 Index has a negative transit of EBV+3.

As always we will see what happens.