Good News On The Cancer Front

Although it's not my usual choice of topics, this caught my eye from the Wall Street Journal. Dr. Steven Rosenberg of the National Cancer Institute has apparently figured out how to genetically alter a patient's own T-cells so that they attack cancer cells:

For the first time in the history of cancer treatment, gene therapy has apparently succeeded in shrinking and even eradicating large, metastatic tumors.

The therapy worked in only two of 17 patients who were treated. But many researchers are hailing the study, which was published yesterday in the online edition of Science, as groundbreaking because it provides compelling evidence in human patients that gene therapy can be effective against one of the toughest challenges in medicine: terminal cancer.

Moreover, the technique used in this pilot study -- genetically altering immune-system cells so that they target tumors -- could eventually be used against many different kinds of cancers, not just the cancer that afflicted patients in this trial, which was melanoma.

Read the whole thing here (note: online subscription required).

While it's only a first step, it's still pretty exciting. There are quite a few cancers that are extremely resistant to traditional therapies (including the Unknown Son's Neuroblastoma, although he's currently in remission). While there are some researchers that are working with antibody therapy (like those at Memorial Sloan Kettering), the therapies have been effective only in some cases. Likewise, Dr. Rosenberg's results were pretty weak (only 2 out of 17 patients). But it's still encouraging.

And now, back to your regularly scheduled commentary.

What Was Radio Shack Thinking?

This is a bit off the usual Financial Rounds beaten trail, but some things just deserve comment.

RadioShack (ticker: RSH) has had some hard times lately - sales have been down, and the price of their common stock has dropped from the $20 range in early April to a low of less than $14 in June (it's since rebounded to $18).

But they just informed some 400 employees (mostly in their home office) that they were to be laid off immediately - BY EMAIL!

What were they thinking? This has to be one of the crassest classless, and most tone-deaf corporate moves I've seen in a long time. And that says a lot, since as a finance professor, I'm staunchly pro-business.

HT: Captain's Quarters where Captain Ed pretty much nails it:

Consumers may want to rethink their loyalty to Radio Shack after this decision. If this is how they treat their employees, imagine what Radio Shack thinks of their customers.

It's an inexcusable business decision. Managers who lack the fortitude to communicate terminations directly should not serve in that capacity. I can tell you from long experience how upsetting a termination can be for the manager involved, but in well over a decade of management, I have never once been tempted to do it by mail, e-mail, or semaphore. Even the worst employees deserve to have their manager take the time to sit down with them and explain the decision to terminate employment.

I agree - RadioShack management should figure out how to grow some necessary "equipment" that they seem to be missing.

Insider Trading In Credit Default Swaps (from the WSJ)

The growth in market for credit default swaps (CDS) over the last 10 years or so has been nothing short of phenomenal. For the uninitiated, a CDS is a contract that allows parties the ability to transfer or trade the risk that a borrower may default on its obligations. They're usually traded "off exchange" (i.e. in the "over the counter" market) and are typically done as private deals between two parties. In a typical swap, Party A agrees to pay Party B an annual fee for a set period of time. In exchange, Party B agrees to pay Party A a lump sum in the event of a "credit event" (most typically, a default) during that time. So, it's more like an insurance policy that a typical derivative like a put or call option.

According to an article in today's Wall Street Journal, titled "Can Anyone Police the Swaps?", there's a good chance that informed traders are using this market to capitalize on their private information. However, there's some question as to who gets to regulate this market:

Unusual trading in a relatively new corner of the bond market illustrates how the rise of increasingly sophisticated financial instruments is potentially outpacing the ability of regulators to police them.

In recent months, there have been spikes in the prices of so-called credit-default swaps, which are a kind of default insurance on debt, popular among banks, hedge funds and other big investors. In some prominent cases recently -- including deals involving hospital operator HCA Inc. (ticker: HCA) and energy company Anadarko Petroleum Corp. (Ticker: APC) -- prices of the swaps climbed in the weeks before news of major acquisitions became public.

That raises the possibility that some traders might have acted on inside information.

...There is no evidence at this point that improper inside information was leaked. Proving insider trading has always been a challenge for regulators, even in traditional securities. But the recent activities raise questions as to which regulator, if any, is policing the market, and how they will go about it as these exotic instruments spread.

Here's an example of the price patterns of CDSs from the article (it goes with the graph above):

Prices on credit-default swaps for HCA rose by a third in the weeks before reports appeared saying the company was in talks to be sold to a group of private investors.

An investor who wanted to be sheltered from a default of $10 million in HCA bonds over five years had to pay around $130,000 annually for such coverage in June.

That price climbed to around $170,000 in the days before news of a possible deal, and then soared to more than $400,000 after one was unveiled.

A similar pattern occurred before Anadarko's $21 billion cash offer in June for two companies, Kerr-McGee Corp. and Western Gas Resources Inc. In both the HCA and Anadarko transactions, the deals increased the acquiring company's financial risk and thus made the swaps more valuable.

Read the whole thing here.

It's an interesting article for a couple of reasons. First, because it illustrates that markets develop much faster than regulators can follow. So, when there's a new financial innovation, it invariably takes regulators a while to figure out all the issues involved. In this case, although default swaps have been trading for 10 years, it's still unclear who the controlling regulatory body is. My guess is that there'll eventually be a turf war as the various potential overseers all claim jurisdiction over the contracts.

I wouldn't be surprised in the slightest if Eliot Spitzer tries to make a case out of it. After all, he is one of the great publicity whores of our times, and he's shown an amazing ability to shoehorn his way into cases where he has no right to play a part (as evidenced by his terrible record in cases where the defendants actually contested the claims rather than settle before trial).

It's also interesting because it's another example of how market prices reveal information. Since the payoffs to credit default are entirely determined by default probabilities, they're the preferred market for informed traders to use to capitalize on their information. If you want to see some academic research on this topic, there's a paper on SSRN by Acharya and Johnson titled "Insider Trading in Credit Derivatives." Here's the abstract:

Insider trading in the credit derivatives market has become a significant concern for regulators and participants. This paper attempts to quantify the problem. Using news reflected in the stock market as a benchmark for public information, we report evidence of significant incremental information revelation in the credit default swap (CDS) market under circumstances consistent with the use of non-public information by informed banks. Specifically, the information revelation occurs only for negative credit news and for entities that subsequently experience adverse shocks. Moreover the degree of advance information revelation increases with the number of banks that have lending/monitoring relations with a given firm, and this effect is robust to controls for non-informational trade. We find no evidence, however, that the degree of asymmetric information adversely affects prices or liquidity in either the equity or credit markets. If anything, with regard to liquidity, the reverse appears to be true

Read the whole thing here.

In short, they find that there's significant information about default risks that shows up in the CDS market before it does in the stock market.

That's why I love being an academic in this field - there's always more to learn, and new developments are always occurring. So even if I COULD learn everything there currently is to know (which is unlikely, since I'm a Bear of Very Little Brain), there would still be new things to learn tomorrow.

And believe it or not, they pay me for this. What a life.

Update: Larry Ribstein weighs in with his usual good commentary here. He points out (correctly) that the big problem with insider trading is the possible concern that it might drive out liquidity. And the Acharya and Johnson piece finds no evidence that insider trading in the CDS market adversely affects either prices or liquidity (in fact, it's just the opposite).

Once In a While I Get (Pleasantly) Surprised

One of the most frustrating parts of an academic's job is working with Ph.D. students. It's also one of the best parts. I have two projects in the works with doctoral students at my previous university. In fact, I'll likely sit on both students' dissertation committees.

One of them doesn't seem to work well without handholding. When faced with a problem, she'll try one (or at most, two) things, and then throw up her hands and come looking for help. In some ways, my leaving her school's faculty has been good for her, since it has forced her to work more independently. It's a bit of "sink or swim" therapy for her, and it might be just what she needs.

But the other student is a gem. I gave him a long term project for the summer - he'd have to code the governance information (board characteristics, compensation structures, etc...) for several hundred firms engaging in a particular type of corporate transaction (I can't say more about it without giving too much away).

For those of you who've done this kind of work, you know it's mind-numbing in its tediousness. Then he left the country in late June to spend time with family in Canada (and to take advantage of free medical care). I didn't hear anything from him for about 2 months, so I figured (based on past experiences) that the project wouldn't see much progress until fall.

Then I get an email with an excel spreadsheet attached. It contained data on 200+ firms, and contained data on each firm for both before and after the event in question. I am truly impressed. I may have found that rarest of creatures - a grad student who's both smart AND self- motivated.

I'm also excited because the topic we're working on (and the data set) are rich enough that we should be able to get a whole string of papers out of them. The data collection is only about half done, but we already have more than enough material to start analyzing things and putting together a preliminary write-up. And even better, it's in an area that I worked in a while back and have been wanting to get back to.

Insider Trading (and Options) Around Takeovers

Gretchen Morgenstern (of the NY Times) has written about suspicious trading patterns around mergers. She notes a study by conducted for the NYT by Measuredmarkets Inc., who looked at all $1 billion plus-sized mergers announced in the 12-month period that ended in early July. The study found:

the securities of 41 percent of the companies receiving buyout bids exhibited abnormal and suspicious trading in the days and weeks before those deals became public. For those who bought shares during these periods of unusual trading, quick gains of as much as 40 percent were possible.

Although any number of factors can lead to spikes in trading, deviations of the kind observed by Measuredmarkets are among the data used by regulators to spot insider trading. Of the 90 big mergers in the period, shares of 37 target companies exhibited abnormal trading in the days and weeks before the deals were disclosed.

MeasuredMarkets tried to make sure that the increased trading wasn't due to other factors like merger talk in the media or announcements by the companies involved.

You can read the NYT piece here.

But Morgenstern missed a much more interesting story about trading around mergers. If insiders had information they wanted to trade on, they'd be much better off trading in the options markets rather than the stock market.

Arnold, Erwin, Nail and Bos have a paper on this topic on SSRN titled "Speculation or Inside Information: Informed Trading in Options Markets Preceding Tender Offer Announcements." They find pretty good evidence that insiders do exactly that. Here's the abstract:

In our sample of 305 cash tender offers occurring between 1993 and 1998, we find evidence that the options market has become the preferred trading venue for informed traders. Given this result, we analyze individual call option contracts for those tender offer targets with traded options, identifying the one optimal insider contract which maximizes the returns to insiders with perfect knowledge of a pending tender offer. This analysis allows us to test the competing market anticipation and insider trading theories of pre-bid stock price and volume run-ups using the trading patterns of options which should be preferred by insiders and those preferred by speculators. Our individual contract analysis is consistent with both theories as we find trading in both insider-preferred and speculator-preferred contracts drives aggregate call option volume run-ups. However, heavy trading in the optimal insider contract occurs on heavy volume days for all contracts. These results support the notion of Easley, O'Hara, and Srinivas (1998) that a substitution effect exists whereby informed traders prefer to trade in options markets when possible and that insiders will hide their trades within those of speculators

You can read the whole thing here.

In her article, Morgenstern noted that "For those who bought shares during these periods of unusual trading, quick gains of as much as 40 percent were possible." As Crododile Dundee would have said, "that's not a return! -- THIS is a return!" In the Arnold et. al. paper, some of the options trades resulted in profits of over 3,000 percent.

All in all, and interesting topic and a very interesting paper.

Comverse Technologies CEO Kobi Alexander Caught In Sri Lanka

As I've previously written, the options backdating story has all the elements necessary to be the media's favorite scandal of 2006. It even has a "public face" - Kobi Alexander, the CEO of Comverse Technologies (CMVT), who transferred some $52 million of his money out of the country before being indicted by the feds for all kinds of financial trickery (including some very greasy moves he'd made with options awards).

Following the indictment, it looked like Alexander had pulled a D.B. Cooper and disappeared.

Now he's apparently been found. A private investigator hired by an unnamed venture capitalist firm tracked him down in Sri Lanka by tracing the location of a Skype phone call. I guess Alexander thought that Skype (a VOIP service) was more secure than a land line.

I have a friend who works for the NSA (which apparently stands for "No Such Agency) and another in military intelligence. They can't tell me what they do, but they do regularly remind me that NOTHING I do over the Internet is really private.

I just wish they'd stop making references to my bank account balances...

Investment Spam Works!

A couple of months ago I was on the train from New York City. Since I'm what my friends call a "flaming extrovert", I started talking with the guy across the table from me (I was in the dining car working on my laptop). It turns out he was a "stock tout" who pushed microcap stocks using messages sent over the internet and over cell phones, and he seemed like a cross between a used car salesman, a typical New York wise guy, and Kramer ( Cosmo, not Jim).

It turns out there's a whole network of stock touts that work in concert to pump up the prices of these stocks. For a finance professor, it was really fascinating to hear about the activities of this group of players in the market that we generally either don't hear about at all, or dismiss as a bunch of hucksters. I though at the time that examining the activities of this group would make for a very interesting study. But since I don't do market microstructure research, I just filed it away as background info (and anecdotes) for the next time I taught about the stock market.

Now someone else has done a study: "Spam Works: Evidence from Stock Touts and Corresponding Market Activity" by Laura Frieder and Jonathan Zittrain. It turns out that the activities of these touts actually have significant effects on stock prices and volume:

We assess the impact of stock touting via unsolicited email upon the stocks' trading activity, and sketch how profitable spamming might be for those who manipulate stocks via spam as well as how harmful it is to those who might heed advice in stock-touting e-mails. We suggest that the profitability of spammed stock touting calls for adjustments to securities regulation models that rely principally on the proper labeling of information and disclosure of conflicts of interest in order to protect consumers.

Based on a large sample of touted stocks listed on the Pink Sheets quotation system, we find that stocks experience a significantly positive return on days when they are heavily touted via spam, and on the day preceding such touting. Volume of trading also responds positively and significantly to heavy touting. Indeed, on a day when no tout has been detected in our database, the likelihood of a touted stock being the most actively traded stock that day is only 6%. On the other hand, on days when there is touting activity, the probability of a touted stock being the single most actively traded stock is 81%. Returns in the days following touting are significantly negative. The evidence accords with a hypothesis that spammers "buy low and spam high," purchasing penny stocks with comparatively low liquidity, then touting them - perhaps immediately after an independently occurring upward tick in price, or after having caused the uptick themselves by engaging in preparatory purchasing - in order to increase or maintain trading activity and price enough to unload their positions at a profit. Selling by the spammer then results in negative returns following touting. Investors who respond to touting are losing, on average, 5.25% in the two day period following touting. For the quintile of stocks in our sample that are touted most heavily, this 2-day loss approaches 8%. These estimates are conservative, as they do not account for transaction costs.

Read the whole thing here.

The main takeaway I get from this is that the pink sheet market is something to be avoided at all costs. There's a whole lot of "pump and dump" activity going on there.

But ironically, on the SSRN page for the abstract, there are Google ads for a stock recommendation services.

HT: Professor Bainbridge

A Surprise Hit For Small Investors (from the WSJ)

According to this article in Thursday's Wall Street Journal titled "A Surprise Hit For Small Investors", the pace of turnover among portfolio manager of mutual funds has increased significantly, and results in costs to the fund's investors:

For fund investors, new management can bring changes in investment strategy and the potential for improved performance. But it can also mean higher taxes for investors who hold a fund in a taxable account. That's because a new manager, eager to put his or her stamp on a fund, often will sell unwanted holdings inherited from a predecessor. Such sales can generate capital gains, which are then distributed to individual investors who are responsible for paying taxes on them.

Read the whole thing here (note: online subscription required).

This is a good example of how heavy turnover in a mutual fund portfolio can have negative tax consequences for investors. A mutual fund is a "pass through" security for tax purposes. This means that if the fund portfolio has capital gains on the sale of some of its securities (that aren't offset by other capital losses), those gains are passed along to the mutual fund holder as a taxable distribution. Mutual funds typically make distributions of capital gains and/or dividends a couple of times a year.

Here's an example of how distributions work. Let's assume that a mutual fund has a net asset value (NAV) of $10 per share, and an investor invested $10,000 in the fund (i.e. 1,000 shares) on September 1. The fund declares a $2 per share capital gains distribution on October 1. So, the investor has $2,000 of capital gains (i.e. $2 per share times 1,000 shares) to declare on his income taxes for that year. As soon as the distribution is declared, the NAV of the fund drops to $8 per share (the original $10 less the $2 distribution). If the investor chooses to reinvest the proceeds, it would buy 250 additional shares (i.e. $2,000/$8). So, the investor now has 1,250 shares valued at $8 each, for a value of $10,000.

From an "accounting" standpoint, dividend or capital gains distributions don't change the value of an investors portfolio - they merely end up in the investor having more shares with a smaller NAV. But they do cause a "taxable event".

When the portfolio of a mutual fund changes, it usually results in capital gains distributions (after all, if a fund sells its winners, it has profits, and they must be distributed). This is one good reason for investing in index funds. The portfolio in an index fund typically only changes when a stock is added or subtracted to an index (and this is a relatively rare event). So, even if the management of an index fund changes, the index doesn't, and there is no change in the portfolio.

Yet another reason to go with index funds.

Shareholders Fight Back Against Private Equity Firms (via the WSJ)

There was an interesting article in last Friday's Wall Street Journal about recent developments in the private equity market. It seems that firms that would formerly have been targets are now trying to keep more of the going-private gains for their own shareholders:

VNU's board recommended in March that shareholders accept the private-equity firms' bid, but the shareholders instead rose up in a rare and vociferous revolt. The shareholders questioned why they should sell for a small premium to VNU's share price -- leaving on the table the profits the private-equity firms were likely to reap from quickly restructuring the company. Instead, the shareholders wanted to force the company to fix itself so they could enjoy the fruits of the changes themselves.

The rebels -- including some of the world's largest mutual funds -- proposed their own business plan and new executives, and tried to force the chairman to quit. "We took the initiative to defend long-term shareholders' interests," says the group's leader, Eric Knight, head of New York-based Knight Vinke Asset Management.

Read the whole thing here (note: online subscription required).

It's an interesting phenomena - shareholders see the huge gains that successful LBOs make for PE firms, and are trying to do some of the restructuring themselves (or at least, try to bargain for some of the associated gains). Not surprisingly, it's being driven by large, well-informed shareholders (like activist investors).

The question that comes to mind is whether they can pull it off like a private-equity shop can. Part of what makes an LBO work is that the firm ends up imposing brutal discipline, shedding unproductive assets, and so on.

It's a painful process, and very politically unpopular. A big part of what makes it happen, however, is the realignment in incentives that comes with an LBO. In an LBO, the newly private firm takes on a great deal of debt (hence the "leveraged" in LBO) which result sin phenomenal increases in both the risk and potential rewards of the venture. In addition, the principals take HUGE equity stakes, which further increases both their personal risks of failure and their payoffs if the LBO works out. So, they're quite willing to take the unpopular actions necessary for success, because there's a lot of their own money at stake.

The WSJ article said that the activist shareholders are in many cases bringing in their own private equity specialists as advisors. That'll takes care of the technical expertise, but it doesn't change the incentive structure. So, KNOWING what to do may not be sufficient - actually having the will to do it is a different thing altogether.

I also wonder who the PE advisors are. If there's so much money to be made conducting a successful LBO, why are these people acting as advisors instead of running a large PE firm themselves? It could be that these are "second-tier" people, but we'll have to wait and see. So, their recommendations might not be as good as what a PE firm might themselves do. I have a suspicion that the distribution of talent in PE firms is highly skewed.

In any event, these transactions might make for a good academic study.

Any Ph.D. students out there looking for a topic?

Mark Cuban and Sharesleuth Linkfest

Mark Cuban and his Sharesleuth.com have been a hot topic in the Blogosphere lately. Whether you like or dislike Cuban (and most of the recent coverage has been pretty negative), he seems to inspire strong feelings in people. Here are some of the choicer pieces from the last two days for your reading pleasure:

From Jeff Jarvis' Buzzmachine:

The Online News Association just announced that Mark Cuban will be their keynoter this year. Yow. Now on the one hand, Cuban could be perfect, for he has been pushing back at reporters and making his interviews with them open, even over their wailing and whining. But on the other hand, Cuban is most decidedly imperfect, for his latest venture, Sharesleuth.com, raises no end of troubling ethical and journalistic, if not legal, questions about his media activities.

Jarvis has a lot to say about Cuban, and little of it is flattering. Read the whole thing here. And while you're at it, check out the comments.

Equity Private at Going Private has been a pretty vocal critic of Cuban for some time. But EP must have had an extra couple of shots of espresso today (possibly administered intravenously):

Presently, Cuban reminds me of Ununpentium. Both are entirely synthetic, highly dense elements that shouldn't really exist in the natural world, created almost by accident and only recently via the fusion of a series of other dense elements (isotopes of Calcium and Americium for Ununpentium, the shareholders and management at AOL and Yahoo for Cuban) through the judicious use of spin (a cyclotron, for instance- or perhaps a bloodless public relations firm and a penchant for controversy), require large amounts of expensive equipment to feed and maintain and that still have no use whatsoever other than for basic scientific research (chemistry or forensic psychology, depending which side of the metaphor you want to use) and to keep various wing-nuts chattering. So far no one has created a particularly stable isotope of Ununpentium (or Mark Cuban).

Hold all calls, we have a winner. Read the whole thing here here.

Mark Glaser writes a fairly evenhanded piece and gives us the good, the bad, and the ugly of Cuban and Sharesleuth.

Finally, Gary Weiss brings us this gem:

Jarvis points out that Cuban is keynote speaker at the Online News Association annual meeting-- which is something akin to Jeffrey Dahmer being guest speaker at the Culinary Institute of America.

All in all, much better writing than I could have done. But I think I'l intitute a new rule - no more reading about Cuban with a mouth full of coffee - replacing keyboards gets old real fast (but I have found out that coffee comes off a monitor pretty easily if you move fast enough)

What Incoming Freshman Know -The Beloit College Mindset List

Sometimes I get a room full of blank stares when I make a cultural reference. Then I remember why. Although I'm "only" 48 (which means that I have books that are older than many o my students), the world has changed in so many ways since I was in college.

Every year, Beloit College publishes their "mindset" list of "cultural touchstones" that have shaped the lives of the incoming freshman class (who were mostly born in 1988). Here are some of the items on this year's list struck me:

2. They have known only two presidents

9. A stained blue dress is as famous to their generation as a third-rate burglary was to their parents'.

11. A coffee has always taken longer to make than a milkshake

19. "“Google"” has always been a verb.

20. Text messaging is their e-mail.

31. They grew up in minivans.

34. They have always known that "“In the criminal justice system the people have been represented by two separate yet equally important groups."

38. Being techno-savvy has always been inversely proportional to age.

51. Michael Moore has always been showing up uninvited.

58. Bad behavior has always been getting captured on amateur videos.

64. LoJack transmitters have always been finding lost cars.

74. Ringo Starr has always been clean and sober (who?)

Read the whole list here. An in case you're interested, here are the previous mindset lists:

Class of 2002 Class of 2003 Class of 2004 Class of 2005 Class of 2006

Class of 2007 Class of 2008 Class of 2009

Making The Final Edits Always Stinks!

I've been trying to finish a paper before classes start. It's about 98% ready (and remember - studies show that 92% of all statistics are made up on the spot). But it still needs one last round of edits before it's ready. It's kind of frustrating - even with the multiple edits it's gone through so far, there are still a lot of silly, stupid mistakes (kind of like my blog posts).

But, since we're sending it to a good journal, that final polishing is what could make the difference - a poorly written paper is always easier to reject. And since it's with a former student, I get to do the final polishing. Oh boy.

At least it's almost done.

This Week's Carnival of The Capitalists

This week's COTC is up at Forty Media. There were only two that struck my fancy this time around (by Free the Drones and Free Money Finance):

In the first, Free The Drones tells us how to Get a Cheap Lease on a Car - or Get Out of Your Lease. He highlights a very interesting site that matches people wanting to bail on a lease with folks looking for a cheap lease.

In the other, FMF at Free Money Finance talks about customer service and warranties in Elliptical Wars: My On-Going Struggle with Sears.

Look around when you're done - there were quite a few other pieces, and your tastes are probably different from mine. After all, there's alwyas something interesting (and usually lots of things) at a Carnival

Another Academic Finance Blogger

Unlike Economics, there are relatively few Finance academicws currently blogging. But the number just increased by one: Welcome to Financial Musings, a site run by Karen Alpert. She's a Lecturer in Finance at the University of Queensland Business School in Australia.

Go check out her blog, and add her to your RSS reader.

Southern Hospitality and How To Be Charming

I grew up in the Northeast, spent almost 10 years in the South (spread over two trips), and have finally moved back to the NorthEast. So, while I'm not the first to notice the difference between the interpersonal styles in the two regions (i.e. the whole "Southern Hospitality" thing), it'is pretty obvious to me now. The biggest criticism about Southern Hospitality is that it's fake.

Duh! Of course it is.

A big part of good manners, graciousness, and hospitality is treating the other person nicely when you feel like choking the bejeezuss out of them. And southern children get trained by their mommas to be polite or there WILL be hell to pay. I know - my best friend in High School was a good southern boy, and his mother made sure he knew how to act.

Being charming is a lot the same. It comes naturally to some, but it can be trained. I just came across a quick guide titled How to Be Charming from BrianKim.net. While it has many other good nuggets of advice, it had a few that the ones that reminded me about living "down south":

5. Pretend you're the host and talk to everybody... Most people don't have the guts to approach strangers, so when you do it for them, they'll be extremely grateful.

6. You, not I. Charming people focus on the other person. Rarely are they themselves the topic of discussion. When you're out there schmoozing, listen to people when they talk to you and give them feedback to indicate that you are listening and that you understand.

7. Make them feel good. Give people genuine compliments. Everybody needs compliments like food and water because everybody's self esteem can always use a little boost. Don't go for the cliche compliments like everyone else. Remember, you're the charismatic one. You've got to step it up a notch. Think of a genuine killer compliment.

Also, don't forget to use the power of touch. Studies have shown that touching promotes bond and trust between people. A hormone called oxytocin is secreted when you touch someone. Oxytocin is a feel good hormone so when they get hit with it, they associate that good feeling with you. Obviously, use your better judgment here. Don't go up and start molesting people. Be tactful with your touch.

There's lots's more. Read the whole thing here.

The best comment I heard about the differences between Northerners and Southerners was "Up North, conversations are about information; Down South they're about making the other person feel good."

HT: Newmark's Door, who comes up with good stuff like this on a regular basis.

Is Your Fund Manager a "Closet Indexer"? (from the WSJ)

Is your mutual fund manager a "Closet Indexers? A "closet indexer" charges active management-level advisory fees, but invests more like an index fund. Today's Wall Street Journal highlights the practice, and discusses some academic research that measures the extent to which a fund is a "closet indexer":

A complaint lodged against many managers of funds that invest in stocks is that they collect big fees for doing little more than basing their stock picks on the market index -- say, the Standard & Poor's 500-stock index -- against which their fund's performance is measured. There's even a term for this behavior: closet indexing.

For investors, there hasn't been an easy way to tell if a fund falls into this category. Now a pair of Yale University professors have developed a simple way of measuring to what degree a fund's holdings are actively managed, as opposed to passively mirroring an index. It also turns out that -- at least according to the research -- this measure could be a useful predictor of fund performance.

The new measure, created by Antti Petajisto and Martijn Cremers from the Yale School of Management, takes a simple approach. Called the "active share" of a portfolio, it matches the holdings reported by a fund in Securities and Exchange Commission filings against the components of an index, and then measures the percentage of overlap. For example, if General Electric and Exxon Mobil each account for 4% of an index, and a fund had a portfolio exactly mirroring the index except it had 8% in GE and nothing in Exxon, its active share would be 4%. The more a portfolio differs from an index, the higher the active share percentage.

The study found that the average fund using the S&P 500 as a benchmark (generally, funds investing in large-company stocks) has an average active-share percentage of 66%. In other words, the average large-company stock fund had a portfolio that was 66% different than the benchmark and the rest essentially mirrored the index.

You can read the whole article here.

The article, titled "How Active is Your Fund Manager? A New Measure That Predicts Performance" can be downloaded from the SSRN here. In case you just want the abstract, here it is:

To quantify active portfolio management, we introduce a new measure we label Active Share. It describes the share of portfolio holdings that differ from the portfolio's benchmark index. We show that to determine the type of active management for a portfolio, we need to measure it in two dimensions using both Active Share and tracking error. We apply this approach to the universe of all-equity mutual funds to characterize how much and what type of active management they practice. We test how active management is related to characteristics such as fund size, expenses, and turnover in the cross-section, and we look at the evolution of active management over time. We also test how active management is related to fund performance. The funds with the highest Active Share significantly outperform their benchmark indexes both before and after expenses, while the non-index funds with the lowest Active Share underperform. The most active stock pickers tend to create value for investors while factor bets and closet indexing tend to destroy value.

So, the closet indexers tend to underperform the indexes even before expenses. Of course, after expenses, they're even further behind.

But interestingly, those who are most active (those who are least in the closet indexer camp) perform best. This is consistent with the notion that actively managed funds have better talent than the closet indexers.

A Couple of Quick Money Saving Tips

Today seems to be "clean out my saved pieces" day, where I either link to stuff I've saved or delete it. Here's one worth linking to

Sound Money Tips recently put up a couple of good money savings tips:

---When you purchase a Dunkin Donuts beverage until Sept. 2, you can receive a coupon for $10 off a $20 in-store purchase at Office Depot. That's a great deal. While this promo is really for parents to get their child's school supplies, anyone can use the coupon in a Office Depot store. NOTE: this is not announced anywhere on the DD website, and may be just a regional promotion.

---Are you a member of AAA? If so, you might qualify for savings at a lot of places you didn't even know about. According to AAA, members saved over $513 million on items such as computers, prescription drugs, shoes, and theme park tickets in 2005. With AAA's Show Your Card & Save® program "members can save on products and services when they show their card at thousands of locations across the country and throughout the world."

The unknown Wife and I just saved some money on new shoes for the Kids at Payless, so checking out AAA's website was worth our while (we're already members).

Loan Qualification Standards (via Searchlight Crusade)

Ever wonder just what standards lenders use in determining whether you qualify for a loan?

Dan Melson at Searchlight Crusade does his usual superb job in this piece titled Loan Qualifications - Loan to Value Ratio. But the title doesn't do the piece justice. He also does a great job of breaking down the other data lenders use linek Debt-To-Income and Credit Scores.
It's a quick and easy read. Dan should be on all your blogrolls, because he consistently writes some of the best-written and informative stuff on real estate that's out there.

Comverse CEO Goes Fugitive

I believe the options backdating scandal will be the big corporate scandal of this year. It has all the earmarks necesary to get a lot of press coverage: greed, lies, and application to a surprisingly large number of companies. Yesterday, it got another missing element: its very own fugitive from justice.

On Augist 10th, the Wall Street Journal reported that Comverse had been charged by the Feds. Today's Journal now tells us that Comverse Technologies' (CMVT) CEO, Kobi Alexander has (as the Aussies say) "gone walkabout".

Comverse Technology Inc.'s former chief executive is regarded as a fugitive by the U.S. government, which last week charged him with conspiracy related to backdated stock options, his attorney said.

Robert Morvillo, a high-profile criminal-defense lawyer who is representing Kobi Alexander, Comverse's former CEO, said he last spoke to his client about two weeks ago. At that point, Mr. Morvillo said, Mr. Alexander was in Israel. He said he has no idea of his client's whereabouts.

During the last two weeks of July, the federal government charges, Mr. Alexander transferred more than $57 million from the U.S. to accounts in Israel "to conceal the funds from U.S. authorities."

Read the whole thing here (note: online subscription required).

Let's see: Alexander has dual citizenship (US and Israeli), recently moved $57 million out of the country, and is under indictment by the Feds. I'd like to see a Tradesports contract based on his coming back to the US. Anybody care to put a price on the contract?

Ah, it's a good time to be a business-school professor (or a blogger).

This Week's Carnival of The Capitalists

This week's COTC is up at Barrymoltz.com. There were a lot of posts this week, but surprisingly few that tripped my trigger. They include pieces by Sox First, Bouncing Back, and HJL Money Blog:

Sox First has has a piece bemoaning the lack of transparent audits. In particular, the reasons for a company changing its auditor is often undisclosed.

As I've said many times, negotiating is one of the most important skills you can have. Bouncing Back discusses Negotiating to Win, but it's more about "win-win" than "win".

Penny stocks are terrible investments, but are often hyped by brokers and/or message boards. HJL Money Blog gives us the low-down.

There are a lot of other pieces, so definitely look around. There's always lots of interesting stuff at a Carnival.

Does Option Volume Predict Stock Movements?

Mark Hulburt of the New York Times highlights some interesting academic research in the New York Times. He reports on a paper by Jun Pan of the Sloan School of Management at the Massachusetts Institute of Technology and Allen M. Poteshman of the University of Illinois , titled at Urbana-Champaign. The study, titled “The Information in Option Volume for Future Stock Prices,” is forthcoming in the fall 2006 issue of the Review of Financial Studies.

Using a new database from the Chicago Board Options Exchange (CBOE), Pan and Poteshman calculated the relative volume of new call option (i.e. an option to buy a given stock) and put option (i.e. an option to sell a given stock) positions and related them to subsequent stock returns. They find that stocks with higher call-to-put-option ratios outperformed their low-ratio peers by about 1% per week.

Although the Journal is subscription only (and, since it's an NBER paper the SSRN version is also not free), the abstract is up at SSRN:

We present strong evidence that option trading volume contains information about future stock price movements. Taking advantage of a unique dataset from the Chicago Board Options Exchange, we construct put-call ratios from option volume initiated by buyers to open new positions. On a risk-adjusted basis, stocks with low put-call ratios outperform stocks with high put-call ratios by more than 40 basis points on the next day and more than 1% over the next week. Partitioning our option signals into components that are publicly and non-publicly observable, we find that the economic source of this predictability is non-public information possessed by option traders rather than market inefficiency. We also find greater predictability from option signals for stocks with higher concentrations of informed traders and from option contracts with greater leverage.

You can read Hulburt's piece here.

Pan and Poteshman's results make sense since options have what is known as "leverage": a small percentage change in a stock's price can cause a relatively large percentage change in the price of its associated options). So, informed traders would be much better off trading in the options market rather than in the stock market. Therefore, their trading pattens should provide information about future stock movements.

Until now, it was impossible to separate volume from new options positions from volume from other options trades. But, the new dataset made it possible.

Pan and Poteshman did caution, however, that the strategy might not be feasible for small investors - the strategy has high transaction costs , since it require frequent trading. So, it might not work except for institutional players, who can trade at extremely low costs (and the database also costs $600 per month, whih isn't cheap).

All in all, a very nice piece, and worth a read (if you have access to the Review of Financial Studies).

Update 10/14: Here's a link to a copy of the paper as presented at the University of Minnesota in 2oo4. I haven't seen the final published version yet, so there may be some differences betweeen this and the final version. But for those of you without access to the Review of Financial Studies, it will at least give you access. And a big thanks to reader Jake Wolf for the link (isn't the internet grand?)

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