Thursday, February 3, 2011
Why Can't IWM get over 80 (or 800 on the RUT)?
The Dow is over 12,000, the S&P is over 1300, why does the RUT have so much trouble getting over 800? On a psychological level, 800 seems like the next hurdle, but the if you look at the recent correlation between the Dow and the Russell index, it makes more sense.
Since the lows of March 2009, IWM has had a much better run than the Dow so while 800 is big round number, it seems that compared to a historical valuation, IWM is overvalued by close to 100 points (or the Dow undervalued - right!). In any case, IWM needed a breather to let the Dow catch up to more historical valuation. Do don't sweat the round numbers. It's in your head only!
Pair Trading - EWG and EWQ
Someone on Phil's Stock World suggested an interesting pair trade - EWG (the iShare Germany Index) and EWQ (the iShare France Index). I ran an analysis using ChaosHunter and found a very strong correlation betweent the 2 indices. But it seems that EWQ is now relatively undervalued compared to EWG.
The model suggests a predicted value for EWQ of over $30 but the ETF currently trades around $26. Here are the stats for the model as reference:
I tested from 2001 on to today, using the first 8 years to optimize and 2010 as an out of sample data set. Here is the graphs for all rows. The correlation is indeed pretty strong.
The model suggests a predicted value for EWQ of over $30 but the ETF currently trades around $26. Here are the stats for the model as reference:
I tested from 2001 on to today, using the first 8 years to optimize and 2010 as an out of sample data set. Here is the graphs for all rows. The correlation is indeed pretty strong.
Dollar Today - Real Bounce or Dead Cat Bounce?
I am really going to start believing these Fibonacci retracements. Here is an updated daily chart for the dollar future.
As you can see, the greenback is bouncing off the last retracement line - 78.6%. Uncanny to say the least. At the same time, the dollar bounced off previous support line only to slice through them a couple of days later! Which way his way?
Wednesday, February 2, 2011
Fundamentals - What to Screen For (Part 2)
In a previous post I outlined some fundamentals that you can screen for to look for quality stocks. That set of values was the one that stood out for me out of the 2 books that that mentioned. However, in his book (Your Next Great Stock
), Jack Hough outlines other factors that are sometimes ignored. Here are a couple more.
Accruals (from Free Cash Flow and Earnings)
Most investors are stuck on looking at earning, but as we saw in the last post, earning can be manipulated. In addition, earnings do not necessarily represent how much cash a company is adding to the kitty box due to the rules of accounting used by all businesses - accruals accounting. Under these rules, income is added as it is accrued (not when it is collected) and expenses are subtracted as they are incurred (not when they are paid). In his book, Hough uses the example of his barber who starts accepting credit cards - he might sell $2000 of services per week as usual, but if 1/2 his clients use credit cards to pay, he'll have only $1000 in his kitty box until he gets paid by the credit card company. But he can still count on $2000 of income. It gets trickier with large businesses depreciating and amortizing large equipment or software as payment are counted over many years even if made in one shot! Hough outlines ways that businesses can use accruals to boost their numbers. Obviously, something to always keep in mind. Next Hough outlines a strategy to look for something a bit counterintuitive - to look for companies with negative accruals. Accruals are calculated by subtracting free cash flow from earnings. His argument (supported by many studies) is that companies with negative accruals usually have hidden earnings while companies with positive accruals might actually be inflating earnings. He cites in particular a couple studies from Richard Sloan (an accounting professor at U. of Michigan) who found out that a portfolio which bought companies with negative accruals and shorted companies with positive accruals beat the broad market by 10% a year between 1962 and 1991. Sloan published another article supporting his research a couple years back and showed again that companies with high accruals showed poor earnings moving forward. Sloan's findings have been put to work by many institutional investors and hedge fund and they are now called the accrual anomaly. In 2006 Joshua Livnat (a professor at NYU) and Massimo Santicchia (of S&P Investment Services) found that the anomaly still yielded positives results despite the fact that large investors were actively trading using it. They also discovered that the accrual anomaly was stronger with smaller to mid-size companies. Now, accruals are not usually listed in most financial web site, but it can be calculated if your screener shows Free Cash Flow and Earnings. Hough suggests looking for companies whose trailing 12-month free cash flow minus trailing 12-month net income is greater than zero. In his screen he adds other factors, but feel free to add any of the factors described in the other post.
Insider Buying
Executives willing to eat their own cooking can be a decent predictor as long as you know what to look for. In his book, Hough goes to great length to explain insider buying. This is sometimes a tricky subject as the reasons for the buying are not always black and white - a canny executive might be accumulating shares to consolidate his position for example. But most often, they have a better understanding of their businesses than the public at large. Obviously, for them to trade on nonpublic information is illegal, but it is a gray area as to what is nonpublic! In any case, Hough outlines a study that was done by Citibank in 2006 on insider transactions done in the UK. The analysts were looking for factors that affected the stock price after that transactions took place. The factors were:
Interestingly enough, Hough does not elaborate on insider selling. I would be curious to see if it has the reverse effect on the stock price! Maybe someone has published a study on that.
), Jack Hough outlines other factors that are sometimes ignored. Here are a couple more.Accruals (from Free Cash Flow and Earnings)
Most investors are stuck on looking at earning, but as we saw in the last post, earning can be manipulated. In addition, earnings do not necessarily represent how much cash a company is adding to the kitty box due to the rules of accounting used by all businesses - accruals accounting. Under these rules, income is added as it is accrued (not when it is collected) and expenses are subtracted as they are incurred (not when they are paid). In his book, Hough uses the example of his barber who starts accepting credit cards - he might sell $2000 of services per week as usual, but if 1/2 his clients use credit cards to pay, he'll have only $1000 in his kitty box until he gets paid by the credit card company. But he can still count on $2000 of income. It gets trickier with large businesses depreciating and amortizing large equipment or software as payment are counted over many years even if made in one shot! Hough outlines ways that businesses can use accruals to boost their numbers. Obviously, something to always keep in mind. Next Hough outlines a strategy to look for something a bit counterintuitive - to look for companies with negative accruals. Accruals are calculated by subtracting free cash flow from earnings. His argument (supported by many studies) is that companies with negative accruals usually have hidden earnings while companies with positive accruals might actually be inflating earnings. He cites in particular a couple studies from Richard Sloan (an accounting professor at U. of Michigan) who found out that a portfolio which bought companies with negative accruals and shorted companies with positive accruals beat the broad market by 10% a year between 1962 and 1991. Sloan published another article supporting his research a couple years back and showed again that companies with high accruals showed poor earnings moving forward. Sloan's findings have been put to work by many institutional investors and hedge fund and they are now called the accrual anomaly. In 2006 Joshua Livnat (a professor at NYU) and Massimo Santicchia (of S&P Investment Services) found that the anomaly still yielded positives results despite the fact that large investors were actively trading using it. They also discovered that the accrual anomaly was stronger with smaller to mid-size companies. Now, accruals are not usually listed in most financial web site, but it can be calculated if your screener shows Free Cash Flow and Earnings. Hough suggests looking for companies whose trailing 12-month free cash flow minus trailing 12-month net income is greater than zero. In his screen he adds other factors, but feel free to add any of the factors described in the other post.
Insider Buying
Executives willing to eat their own cooking can be a decent predictor as long as you know what to look for. In his book, Hough goes to great length to explain insider buying. This is sometimes a tricky subject as the reasons for the buying are not always black and white - a canny executive might be accumulating shares to consolidate his position for example. But most often, they have a better understanding of their businesses than the public at large. Obviously, for them to trade on nonpublic information is illegal, but it is a gray area as to what is nonpublic! In any case, Hough outlines a study that was done by Citibank in 2006 on insider transactions done in the UK. The analysts were looking for factors that affected the stock price after that transactions took place. The factors were:
- Large stock purchases - Bigger purchases would predict better returns but purchases too large (as a percentage of the float) had actually the opposite effect.
- Who made the stock purchases - Executives has more impact than board members.
- Numbers of executives making a stock purchase
- Size of the companies - Stock purchases in smaller company with little analyst coverage did better.
- Timing - A stock purchase following an earning surprise was a good predictor. In addition, purchases made while a stock had a strong performance was usually a good sign.
Interestingly enough, Hough does not elaborate on insider selling. I would be curious to see if it has the reverse effect on the stock price! Maybe someone has published a study on that.
Tuesday, February 1, 2011
Amazon vs. Netflix
Well, it seems that Amazon (AMZN) is ready to enter into battle with Netflix (NFLX) in the streaming video arena. You can try to pick a winner, but in this book, they both seem expensive based on their fundamentals. I just wrote a post yesterday regarding the items to screen for when looking for stocks so let's put the research to work. Let's look at the numbers first:
NFLX is seen as having a bit more growth potential with a PEG of 1.69, but neither of them would show up in my screen as they are both over 1.5. Price/Sales and Price/Book are decidedly on AMZN side, but neither number would qualify them for my screen either! Price momentum on the other side would qualify only NFLX since I screen for 95% or over.
Looking at other 2 ratios not used in my screen, but still useful, you can see that both have P/E that will be hard to justify in the coming years. Price to Cash Flow is way out of whack for Amazon (?) and a tad expensive for Netflix but not overly for a growth stock.
Overall, not a great picture! Both are definitely overpriced. But don't go shorting either one of them. AMZN has killed many shorts and NFLX is not a fun one to short either...
Keep in mind that NFLX uses AMZN infrastructure for streaming its video so in a sense, Amazon is already collecting a dime from Netflix every time you watch a rerun of Lost trying to figure out what you have missed!
NFLX is seen as having a bit more growth potential with a PEG of 1.69, but neither of them would show up in my screen as they are both over 1.5. Price/Sales and Price/Book are decidedly on AMZN side, but neither number would qualify them for my screen either! Price momentum on the other side would qualify only NFLX since I screen for 95% or over.
Looking at other 2 ratios not used in my screen, but still useful, you can see that both have P/E that will be hard to justify in the coming years. Price to Cash Flow is way out of whack for Amazon (?) and a tad expensive for Netflix but not overly for a growth stock.
Overall, not a great picture! Both are definitely overpriced. But don't go shorting either one of them. AMZN has killed many shorts and NFLX is not a fun one to short either...
Keep in mind that NFLX uses AMZN infrastructure for streaming its video so in a sense, Amazon is already collecting a dime from Netflix every time you watch a rerun of Lost trying to figure out what you have missed!
Food Riots!
Want to know what people are in the streets rioting about food prices. Look at the futures for corn and wheat.
Corn
Making a 52 week high today and up 84% since last August.
Wheat
Not quite at the 52 week high (we made that 3 days ago) but also up close to 60%. Big bump last year on the Russian fires, but we are trading right around that price now.
No inflation, right!
Corn
Making a 52 week high today and up 84% since last August.
Wheat
Not quite at the 52 week high (we made that 3 days ago) but also up close to 60%. Big bump last year on the Russian fires, but we are trading right around that price now.
No inflation, right!
Fundamentals - Screen Results 2-1-2011
Just for fun, I ran a custom screen on Zacks using the criteria described in my previous post. I added the condition that the stock had to be optionable to be able to add leveraged plays. And cutoff the P/B criteria at 2.0 to limit the list. Here are the results:
This is by no means an endorsement to go out and buy all these stocks. I'll try to track the results over a a couple of months.
This is by no means an endorsement to go out and buy all these stocks. I'll try to track the results over a a couple of months.
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