4. Leslie Scism, “Quarterly Mutual Funds Review: Closed-end Bond Funds Look Cheap,” Wall Street Journal, 7 January 1994.
5. Andrew Bary, “After Rout.”
6. Ibid.
7. Russ Wiles, “Mutual Funds: Your Money: Automatic Opening for a Closed-end Portfolio,” Los Angeles Times, 11 May 1997.
8. Deborah Lohse, “Small Stock Focus,” Wall Street Journal, 28 July 1997.
9. Peter C. DuBois, “Closed-end Mania Is Ba-a-a-ack,” Barron’s, 3 January 1994.
10. Michael Sesit, “Capital Floods into Germany at Frantic Pace,” Wall Street Journal, 8 January 1990.
11. Andrew Bary, “After Rout.”
12. The 150 percent comes from the 2-to-1 ratio of common to preferred: 150% = (2+1)/2.
13. Bary, “After Rout.”
Chapter 14
1. Eric Schine, “Interview with Robert Citron,” Los Angeles Times, 18 April 1988.
2. Downloaded from Dow Jones News Service. “Merrill Lynch Forecasts: Yld Curve May Invert Next Year,” 6 December 1994.
3. Sarah Lubman and John R. Emshwiller, “Hubris and Ambition in Orange County: Robert Citron’s Story,” Wall Street Journal, 18 January 1995.
4. David Lynch, “Orange County/How it happened/How golden touch turned into crisis,” USA Today, 23 December 1994.
5. Daniel Kadlec, “Some Warning Signs to Remember,” USA Today, 6 April 1994.
6. Lou Cannon, “The Great Orange County Bust,” The Washington Post, 28 December 1994.
7. Mark Platte and Jeff Brazil, “O. C. Treasurer Thrust into Spotlight over Risk Claims,” Los Angeles Times, 30 April 1994.
8. Los Angeles Times, same as footnote 7.
9. These events were documented in the Los Angeles Times. See Tracy Weber and Dexter Filkins, “Woes in Advance, Panel Told,” Los Angeles Times, 29 December 1995.
10. David J. Lynch, “Orange County: How It Happened,” USA Today, 23 December 1994.
11. Ronald D. Picur, “The $2 Billion Gamble: A Step-by-Step Guide on How to Prevent the Orange County Debacle from Occurring in Your Neighborhood,” Chicago Tribune, 19 December 1994.
12. See Chapter 9 for a more detailed discussion of this issue.
13. Lubman and Emshwiller, “Hubris and Ambition.”
14. Moreover, Citron did not make it a policy to hold all securities to maturity. The April 5, 1995, issue of the Wall Street Journal reports that his portfolio turned over at the rate of 250 percent a year between 1990 and 1993.
15. Dana Parsons, “The Wizard Himself Peels Back Layers of His Own Legend,” Los Angeles Times, 18 January 1995.
16. Self-attribution bias is the term used to describe conditional attribution. A positive outcome is attributed to the self, a negative outcome to bad luck or a scapegoat.
17. William Power, “Heard on the Street: Investment Strategists Rally to Defend Merrill Expert,” Wall Street Journal, 18 January 1995.
18. Brad Shaw from John R. Nuveen tells me that events such as those that occurred in Orange County lead to mispricing of otherwise sound municipal bonds because of “guilt by association.” In these circumstances, companies like Nuveen are able to purchase underpriced bonds, another instance of inefficient markets. Telephone interview, 22 February 1999.
19. Bernice Napach, “Orange County: Lessons in Risk Management,” Investor’s Business Daily, 30 December 1994.
20. I thank Kim Rupert and Louis Radovich of MMS for graciously providing me with data on interest-rate forecasts.
21. Actually, let me first ask a related question. Suppose we look at how frequently stories have appeared in English language publications since 1970. On the topics of sex, inflation, and unemployment, which topic appeared most frequently, and which topic appeared least frequently? Economist Robert Shiller (1995) reports that inflation topped the list, followed by sex and unemployment. Most people find that fact pretty striking.
22. Suzanne McGee and Gregory Zuckerman, “Stocks and Bonds Catch Fire as Inflation Cools,” Wall Street Journal, 17 September 1998.
Chapter 15
1. I thank Harry Fong, associate vice president for finance, and Robert Warren, vice president for finance, for their insights about the management of Santa Clara University’s endowment portfolio.
2. The committee also holds emergency meetings. For example, the university was invested with Barings Bank at the time it collapsed as a result of trading losses by Nicholas Leeson. By moving quickly the committee was able to liquidate the university’s position and reduce the magnitude of loss incurred.
3. This is a message committee members say they constantly hear: Be averse to risk and diversify. The general feeling of the committee is that both actions would reduce the impact of a severe decline in the market on the university’s portfolio.
4. In a recent incident, a money manager was replaced because the committee was concerned that he did not spend enough time visiting companies. They also noted that they were disappointed with the “service” he provided.
5. See chapters 1,6, and 7 in connection with other reference-point effects.
6. Personal interview with associate vice president for finance, 20 May 1998.
7. Although members of the investment committee focus their attention on which managers beat their benchmarks, Cambridge Associates does look at covariance (the extent to which the different managers’ performance covary with each other). They do so because they want to avoid managers performing in lockstep with each other.
8. At the end of1996, RJF had $66 million under management. This figure grew to $163 million at the end of1997, and to $428 million at the end of 1998.
9. Personal telephone interview, 17 February 1999.
10. SEI has since moved on to run a family of mutual funds.
11. Many of the reasons were covered in Chapter 12, which discussed open-ended mutual funds.
12. For example, the 1997 PBS television documentary series Beyond Wall Street: The Art of Investing, cohosted by Jane Bryant Quinn and Andrew Tobias, featured an episode titled “90% of the Game.”
Chapter 16
1. Garrison Keillor, of the radio show Prairie Home Companion, created Lake Wobegon.
2. The mean response is 57.2 percent, and the range has been 48.7 percent to 67.7 percent.
3. Carla Lazzareschi, “AT&T’s Allen Bets Legacy on Computer Deal,” Los Angeles Times, 14 May 1991.
4. Carla Lazzareschi, “High-Tech Hybrids: The Rocky Results of Such Mergers Raise Questions About AT&T’s Bid for NCR,” Los Angeles Times, 30 December 1990.
5. Carla Lazzareschi, “AT&T’s Allen Bets Legacy on Computer Deal,” Los Angeles Times, 14 May 1991.
6. Note that the Dow Jones industrial average rose by 5.94 that day, closing at 2,565.59.
7. Lazzareschi, “High-Tech Hybrids.”
8. AT&T felt able to meet NCR’s $110 price because the market had increased dramatically since it had first offered $90. But it also agreed to pay this price even if the market fell before the agreement was completed.
9. John J. Keller, “AT&T Sells Stake in Sun Microsystems, Which Buys Back Five Million Shares,” Wall Street Journal, 4 June 1991.
10. John J. Keller, “NCR ‘91 Talks to Be ‘Materially Below’ Forecasts Made to AT&T During Talks,” Wall Street Journal, 9 September 1991.
11. A fourth business, AT&T Capital Corporation, was sold to the public under a different name.
12. A financial market is strong-form efficient when prices correctly reflect all available information, both public and private.
13. There may be complicating factors that deal with information transmitted during the bidding process. Investors may learn something positive about the acquiring firm through the fact that it is bidding (e.g., it has money to spend on acquisitions), or negative if the bid is abandoned (e.g., it does not have the money).
14. This finding is from Klaczynski and Fauth (1996).
15. As I began work on this chapter in January 1998, Compaq Computer Corp. announce
d its intention to acquire Digital Equipment Corp. Journalist Raju Narisetti raised a host of red flags when he reviewed the history of similar attempts in an article titled “History Holds Some Hard Lessons for Compaq,” which appeared in the January 28, 1998, issue of the Wall Street Journal. The list of failed ventures that were similar now included AT&T’s takeover of NCR, IBM’s takeover of Rolm, Silicon Graphics’ takeover of the supercomputer firm Cray, and Hewlett-Packard’s takeover of workstation manufacturer Apollo.
Chapter 17
1. Aaron Lucchetti, “Marketwatch’s IPO Continues the Boom in Web Stocks,” Wall Street Journal, 15 January 1999.
2. I thank Jay Ritter for his very helpful comments on this chapter.
3. William Power, “Heard on the Street: Boston Chicken Soars 143% on Its First IPO Day,” Wall Street Journal, 10 November 1993.
4. See “IPO Focus-2: Hot Stocks, If You Can Get Them,” Dow Jones News Service—Ticker, 24 November 1993.
5. The author was Scott Reeves.
6. Reeves, “Market Sees Netscape.”
7. William Power, “Heard on the Street: Boston Chicken Soars 143% on Its First IPO Day,” Wall Street Journal, 10 November 1993.
8. Scott Reeves, “Netscape’s IPO: Brokers Say Demand Very High.” Dow Jones News Service, 9 August 1995.
9. David Einstein, “Netscape Slides 20%, Layoffs Loom,” San Francisco Chronicle, 6 January 1998.
10. Molly Baker and Joan E. Rigdon, “Netscape’s IPO Gets an Explosive Welcome,” Wall Street Journal, 8 August 1995.
11. Aaron Lucchetti, “EarthWeb and theglobe.com Defy IPO Gravity,” Wall Street Journal, 16 November 1998.
12. AOL’s takeover of Netscape also took place in the midst of a major antitrust trial against Microsoft. Attorneys for the Justice Department and twenty states charged Microsoft with inflicting harm on Netscape by employing anticompetitive practices in the browser market.
13. John Fitzgibbon, an editor at the newsletter IPO Reporter, describes these events as “insanity.com trading.”
14. Reeves, “Netscape’s IPO.”
15. Robert O’Brien, “Netscape’s Rise May Be Sign of Frothy Times in Market,” Dow Jones News Service, 9 August 1995.
16. By then Natale had moved on to become a portfolio manager at Bear Stearns.
17. Lucchetti, “Marketwatch’s IPO.”
18. This figure includes 750,000 overallotment shares.
19. 3.5 million shares at $12–$14 per share.
20. Described in a private presentation to Financial Executives Institute, Santa Clara Valley Chapter, 20 January 1998.
21. See Lisa Bransten and Nick Wingfield, “New Company Aims to Shift IPO Playing Field,” Wall Street Journal, 8 February 1999.
22. Deborah Lohse, “Tough Road Is Predicted for IPOs,” Wall Street Journal, 26 January 1998.
23. As with the IPOs, the comparison group involves nonissuing firms with the same market value of equity. Also, there may be an issue about size here: The effect may be absent for NYSE-traded stocks, which tend to be older and larger, but present for NASDAQ-traded stocks.
Chapter 18
1. I/B/E/S is the Institutional Brokers Estimate System. Keon has since left I/B/E/S and moved to Prudential Securities.
2. I am grateful to Kent Womack for kindly providing me with this example.
3. Anne Newman, “Biotech Stock Alteon Skyrockets in IPO,” Wall Street Journal, 4 November 1991.
4. In November 1993, Robertson, Stephens & Co. analyst Michael Walsh initiated coverage of Alteon with a “buy” rating, saying that the clinical trial delays had created “an exceptional buying opportunity.” He placed Alteon’s fair value at $16 per share. Was the motivation for this recommendation in the spirit of Prudential’s motivation for initiating coverage of Atmel? Alas, it took almost another two years before Alteon’s share price rose above $10, and it didn’t cross $16 until the last trading day of 1995.
5. These comparisons are made relevant to the stocks of similarly sized firms for which there has been no change in recommendation.
6. Is conflict of interest the only reason for the bias? Perhaps, but it may be that cognitive biases also play a role. Here are some possibilities: (1) Analysts who work for the underwriting firm may be focused on the initial positive information that led to the decision to go public. Recall the discussion on the illusion of validity in Chapter 6. People have a tendency to search for evidence that confirms their prior views, while downplaying or even ignoring evidence inconsistent with those views. (2) Analysts suffer from self-attribution bias. They may attribute past successes to their own efforts but blame their past failures on a combination of bad luck and the mistakes of others. Since their firm took the IPO public, they may be over-confident in their own abilities or their colleagues’ abilities. (3) Analysts who work for the underwriting firm tend to be especially close to the new IPO. Hence they may overweight the information specific to the IPO and underweight base rate information relating to the way things generally work out.
7. I am grateful to Rob Hansen and Atulya Sarin for providing me with the data for this figure.
8. Actually, below median.
9. Most companies are not in the advantageous position in which Microsoft finds itself. In his Fortune article, Fox lists some techniques currently in use: (1) Companies such as General Electric time asset sales or store openings to keep earnings rising smoothly. (2) For some assets such as software, there are no clear guidelines about the length of time the asset should be depreciated. America Online was known to depreciate software quite aggressively. (3) Some companies will take a restructuring cost today, with the intention of shifting earnings into the future. IBM is a case in point.
10. There have been times when executives at Intel have rolled their eyes after hearing the pronouncements of a security analyst who follows their company. On August 22, 1997, Thomas Kurlak of Merrill Lynch downgraded Intel from buy to neutral. Yet, on the same day, Edelstone upgraded Intel from neutral to outperform.
11. Not to take anything away from Tom Kurlak: In the October 27, 1997, issue of Fortune, Joseph Nocera points out that Kurlak appears to have consistently been more astute than his fellow analysts in tracking the semiconductor industry’s “inventory cycle.” See Chapter 8.
Chapter 19
1. Jerry Shapiro, professor of counseling psychology at Santa Clara University. I thank Jerry for his help in preparing the material on covered-call writing for this chapter, in a conversation held on 19 May 1998.
2. A call option confers on its owner the right, but not the obligation, to buy a stock at a particular price, the exercise price, on or before the expiration date. When an investor owns a stock and sells a call option on that stock, he is said to have written a covered call. The stock he holds covers the option he sells. The investor who writes a call receives a premium, the price paid by the buyer of the call option. If the price of the stock subsequently lies above the exercise price when the option expires, the investor who wrote the call will find that the stock gets called away. The writer of the call will then sell the call and receive the exercise price, not the current market price of the stock.
3. See the discussion about Boston Chicken in Chapter 17.
4. Jonathan Clements, “Abracadabra and a Putnam Fund Disappears,” Wall Street Journal, 5 May 1993.
5. Personal interview. Telephone interview, 25 May 1998.
6. For example, Natenberg describes delta risk as the “risk that the underlying contract will move in one direction rather than another.” He describes gamma risk as the “risk that the underlying contract will make a swift move, regardless of the direction.”
7. I have benefited from discussions with SPX traders Chris Bernard, Al Wilkenson, and Rick Angell about the subtleties involved in using implied volatility data. They stress that for exercise prices well below the price of the underlying asset, it is better to focus on put options rather than call options. Also, the underlying asset for SPX options is the S&P 500 futures
, as opposed to the cash.
8. Suzanne McGee, “Did the High Cost of Derivatives Spark Monday’s Stock Sell-Off?” Wall Street Journal, 2 September 1998.
9. SPX trader Chris Bernard indicates that from the perspective of the trading pit, the pattern is completely flat.
10. The 0.55 value may be somewhat high relative to the period following publication of his book, which was first published in 1989 and reprinted in 1994.
11. Statistically, the observations in figure 19-5 are daily. Hence, the observations overlap. If we restrict attention to nonoverlapping observations the strength of the effect is considerably weakened, but is still negative.
Beyond Greed and Fear Page 40