Tag Archives: accountability

Where the Vultures Gather

Where the Vultures Gather

What is vulture investing?

Turkey Vulture landing. Photo: Don DeBold. Source: Wikipedia

Vulture investing is a way to profit from poor management. A vulture fund typically invests the debt of troubled firms, then seeks to convert that debt into equity. They can also invest in distressed sovereign debt, then use the courts to bring actions against the issuer to force some kind of recovery.

The phrase “vulture capital” was originally coined as a derogatory term, meant to criticize investors who profit from someone else’s financial difficulties – in the same way that vultures live off dead bodies. But the legal actions that these firms bring also bring accountability into the financial system. Often they unveil corruption or other financial shenanigans. In this way, they are like their real-life counterparts.

Scavengers serve an important role in every ecosystem. They clean up carcasses and animal remains, and appear immune to the pathogens that multiply in dead bodies. Without their strong digestive systems, carrion would become a breeding ground for all kinds of diseases. Their strong sense of smell – rare among birds – allows them to locate and dispose of corpses that would otherwise generate problems. Not surprisingly, they have few predators.

In the same way, vulture funds have an important economic function, sniffing out and cleaning up financial pathogens. Recently, vulture funds have been in the news because they’ve invested in the sovereign debt of Argentina and Puerto Rico. Without their activities, investors would be at the mercy of managers and elected leaders who often take advantage of the fact that most people don’t have the resources to force a creditor to pay.

Photo: Dori. Source: Wikipedia

Turkey vultures and vulture investors each serve a critical role: cleansing the system of pathogens that might otherwise infect healthy members of their communities. They’re not my cup of tea, but in their own way, they can be quite attractive.

Douglas R. Tengdin, CFA

Pennies from Dividends

What good are dividends?

Public Domain. Source: PD Photo

It’s a good question. Dividends can limit a company’s options, forcing them to cough up cash that could be used to run the business. If they money flows out of the company, they might have to increase their borrowings. Ford paid a big special dividend in 2000—they called it their “Value Enhancement Plan.” Management probably wished they still had that cash a few years later during the financial crisis.

You’d expect that paying dividends would make those companies more risky. But in fact, the opposite is the case. It turns out that the stocks of dividend-payers are less volatile than non-dividend payers. Why?

Part of the reason is the accountability. When a company pays a dividend, they have to come up with cash every quarter. This keeps them from doing anything too foolish. Investment bankers can cook up some awfully creative structures. Dividends require a certain amount of management discipline. Second, dividends are totally transparent. You’ll never hear about an accounting scandal where dividends were misstated. Earnings, cash flow, and even revenues can be fudged, but if a company says it’s paying a 50-cent dividend, there better be a check for 50 cents per share in the mail.

Finally, dividends are an admission by management that the shareholders—not the managers—own the company. If a company generates free cash flow—the cash from operations that remains after capital expenditures—it can do three things with the money that directly benefit investors: pay down debt, buy back shares, or pay dividends. Because boards are reluctant to cut them, dividends represent a concrete statement of faith—by those in a position to know—in the company’s stability and potential for growth.

Photo: Emmanuel Douzery. Source: Wikipedia

It’s easy to get distracted by PE ratios, Sharpe ratios, cash flow yield, and other metrics. These are important, but we should never forget that a stock represents a real company making real business decisions. When companies decide to give consideration to their shareholders, that’s always a good thing. After all: ultimately, it’s our money.

Douglas R. Tengdin, CFA

Chief Investment Officer

Central Banker to the World

What is the Fed’s role?

F15s and F16s over Kuwait, 1991. Photo: USAF. Source Wikipedia

Yesterday the Fed decided to keep interest rates near zero. It was a tough call. Employment has improved by more than the Fed expected, but inflation has moved away from the Fed’s target. Economists were evenly divided as to whether they would or even should raise rates this meeting.

In their statement, they comment that “recent global economic and financial issues may restrain economic activity.” Janet Yellen reinforced this in her press conference, where she said that they focused particularly on China and emerging markets. In other words, global markets spooked the Fed. They really are in a box: volatility rose and stocks fell because the Fed was expected to raise rates. With policy unchanged, volatility will fall and markets rise. And the next time the FOMC is ready to raise rates, markets will sell off again, spooking the central bank—lather, rinse, repeat.

VIX Volatility Index. Source: Bloomberg

It’s particularly notable that the FOMC chose to focus on global issues. The Fed is really acting as if they are central banker to the world. The market recent correction began in China, where concerns about their slowdown have led to a 40% pullback. China accounts for an increasing share of the world’s economy. But they have their own currency and their own central bank.

It’s hard for the Fed to be the world’s central banker. No one elected them; The UN didn’t appoint them; domestic citizens won’t understand; foreign folks will resent what seems like US hegemony. It’s a thankless task—like when King Arthur rides up to a peasant in Monty Python and the Holy Grail: she says, “You’re King? I didn’t vote for you.” But nature abhors a vacuum. Having stepped into the role, the Fed will find it hard to walk away.

It’s like being the world’s policeman—all you have is force, and there’s nothing to legitimize your power. But once you’ve begun, the alternative is chaos.

Douglas R. Tengdin, CFA

Chief Investment Officer

Being There

Being There

Why do business owners work so hard?

Photo Credit: Vladimir Kudinov. Source: Unsplash

One reason is to prevent fraud. Restaurants or gas stations or convenience stores do a lot of cash business. It can be pretty easy for an employee to skim a little “off-the-top” when ringing up receipts. Modern cash registers make this more difficult—even more significant has been the shift to debit and credit cards for even minor transactions.

More common is when employees give merchandise away: waiters and waitresses who don’t charge for refills; gas station operators who hand out items—usually to their friends. One young man in high school got a job working at a frozen yogurt shop precisely because he was unpopular. The owner was tired of losing inventory every time the cool kids came by. His un-cool employee was less likely to give free scoops for his un-friends.

It’s estimated that employee theft costs business owners over $20 billion per year. Before source-tagging and video monitoring, the best way for business owners to prevent theft and fraud was for them to be on-site, keeping an eye on things.

Because people do what you inspect far more than what you expect. It’s human nature for folks to try to work the system and get a little more for themselves—so we have detailed systems of accounting and audits. But the best defense against fraud is being there. As Yogi Berra once noted, “You can observe a lot just by watching.”

Douglas R. Tengdin, CFA

Chief Investment Officer

A Dividend Polaris

Why do dividends matter?

Photo: Ashley Dace. Source: Wikipedia

Dividends have become quite popular in recent years. With interest rates so low, many income-oriented investors have used dividend-paying stocks as substitutes for bonds in their portfolios. And dividends have a lot to recommend them. They usually pay cash quarterly, they can grow with inflation, and taxable investors may owe less to the government if the dividends are qualified.

Continue reading A Dividend Polaris

The Road To Where?

Why do good intentions so often fail?

It happens all-too-often. A new approach to poverty is announced, there’s excitement, there’s publicity, tens—no, hundreds of millions of dollars are raised, and it’s declared that the end of poverty is in sight. Such hope! Such vision! But when plans hit the ground, things are more complicated, systems collide with systems, and often people end up worse than they were before any of this help ever arrived.

Some development experts went to Africa looking for “quick wins”: innovations that could dramatically improve people’s lives. One idea was to give people fertilizer so they could produce more food on their farms to reduce malnutrition. Bang, the villages they worked with grew so much corn they had a surplus—yields tripled. But then a funny thing happened. The roads were so poor the surplus couldn’t be marketed. So some farmers discarded their surplus, but then rats arrived. In the end, most of the growers sold their corn for less than it cost to produce it.

This is the tragedy of development. Plans look good on paper, but the world is more complex than we think. People resist change, sometimes for bad reasons, but sometimes for good ones. Self-help, micro-enterprise, and small, sustainable solutions are possible, but we need to be humble. Africa’s landscape is littered with rusted tractors, broken water pumps, and neonatal incubators that can’t be plugged in because there’s no power.

Good intentions fail when big money funds grandiose plans with no accountability. Small initiatives grown little-by-little do better.

Douglas R. Tengdin, CFA

Chief Investment Officer

Alma Matters

Why are US colleges and universities so successful?

In a recent study of global universities, institutions from the United States occupied 17 of the top 20 spots, based on academic reputation, graduate accomplishments, and academic journal citations. While the US has a large and relatively wealthy population capable of supporting its universities, this kind of dominance is striking. What can explain it?

One possible reason is alumni involvement, control, and generosity. Continue reading Alma Matters