I have started reading this book mentioned here:
I can’t recommend the book yet, since I have a long way to crawl through it. The reading is dense with many statistical studies and numbers.
Herbalife is a Fraud, Right?
One set of tools we describe in our book Quantitative Value, is how to apply statistical tools to identify manipulators, frauds, and/or potential by I Want This”
“More money…has been stolen with the point of a pen than at the point of a gun.”
— Warren Buffett, Chairman’s Letter, 2000.
Three basic categories of risk for permanent impairment of capital
- Financial Statement Manipulation – financial statements fail to tell the whole truth about a company’s financial health/condition.
- Fraud – misrepresentation made that may result in unauthorized benefits to an individual, the firm, or a third party. Affected by opportunity and pressure.
- Financial Distress or Bankruptcy – when a firm has difficulty or cannot meet its obligations to creditors.
Tools actually applied:
- Accrual measures (2 versions)
- Accrual Anomaly: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2598
- Net Operating Asset Anomaly: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=404120
- Manipulation prediction model: http://myweb.ncku.edu.tw/~r16001205/w7.1_ProbM_Model.FAJ.1999.pdf
- We apply 1 statistical tool to identify when a firm may enter financial distress/bankruptcy: http://w4.stern.nyu.edu/salomon/docs/Credit2006/J_Hilscher.pdf
What do the quant models say?
As of December 31, 2012, the quant model recommended purchasing Herbalife. The firm is very high quality and became excessively cheap after Ackman came out with his “short news.” My guess is Loeb bought our book over the holidays, read it, and then was determined to by I Want This”
How did the Fraud/Manipulation/Bankrupty models stack up?
Accrual measures relative to universe of stocks
- Accrual Anomaly: 81 percentile
- Net Operating Asset Anomaly: 18 percentile
- Average: 49.5% percentile–basically, no issues
- Manipulation prediction model: Less than a 1% probability of manipulation; no red flags on any single manipulation metric
- Bankruptcy prediction model: The absolute probability of HLF going bust is low, but HLF scores at around the 89% percentile on this metric relative to the universe analyzed (stocks over $1.4B). This is something to watch, but the absolute probability of this occurring is very low (<1%)
Overall, the statistical results indicate that Loeb’s position is a better bet than Ackman’s position. Of course, this is in reference to the 12/31/2012 HLF stock price. As of yesterday, HLF is no longer included in the quantitative value screen because it has become too expensive.
I am not an expert on Apple (AAPL) but it makes a great case study on investor expectations. The price has fallen 38% from its all-time high in Sept. 2012 and now is at $450 or so. Apple has about 137 billion of cash equivalents with 69% of it overseas. Adjusted for taxes, cash works out to $110 per share. The dividend is $10.60 per shares. Assume a cost of capital of 10% (Apple trades at a 10 pe) with a growth rate of 2%, the NPV of those dividends –$10.60 divided by (10% – 2%) or $132. Add that to the $110 and you have almost half the current price. The market doesn’t expect much from Apple.
If you learn anything from this post, it is this–avoid glamour and high expectations and seek out low expectations within your circle of competence. A money manager on CNBC last Friday said he sold his Apple stock because the future product pipeline was uncertain. Whoa! And six months ago, it wasn’t? Yet, people like him are running billions. Are you surprised that there has been a $300 billion change in valuation despite no to slight fundamental change in the company over the past 4 months?
A Reader’s Question
Would it be possible for you to share ‘Grant Interest Rate Observer’ publications on the blog or by email?
Have already spent enough money on MBA and partly on CFA also, can’t afford to spent hefty amount once again at this point in time.
My reply: I must obey the wishes of Grant’s copyright, plus you have to have a special PDF viewer. I suggest that you sue your Graduate business school and the CFA Institute to get your money back. Why get a CFA AND an MBA?Good luck.
Look: Harvard Money Manager: