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“There’s a growing meme that the market and the economy are about to have a date with destiny.

The thinking is this: Markets have surged all year like there’s not a care in the world. On the other hand, the economy has already been buffeted by one major headwind (the end of the payroll tax holiday) and it could be hit by another (the upcoming sequestration spending cuts. As such, we’re about to know whether the economy can really justify the market rally, or whether risky assets will have to come floating back down to earth….”

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“The Justice Department decision to sue Standard & Poor’s has investors asking why Moody’s Investors Service and Fitch Ratings weren’t targeted for awarding the same top grades to troubled mortgage bonds and other debt securities.

The Financial Crisis Inquiry Commission and a Senate panel laid the blame on S&P, Moody’s and Fitch for inflated ratings on mortgage-backed securities and collateralized debt obligations that helped cause the worst financial crisis since the Great Depression. Together, they provided 96 percent of all ratings for governments and companies in the $42 trillion debt market in 2011.

The U.S., in a lawsuit filed Feb. 4 in federal court in Los Angeles, is alleging that the unit of New York-based McGraw-Hill Cos. defrauded investors by failing to adjust its analytical models or taking necessary steps to accurately reflect the risks of the securities because it was afraid of losing business.

The federal case was assigned to U.S. District Judge David O. Carter in Santa Ana, California.

S&P lowered the U.S. government’s credit rating one step to AA+ from the top AAA rank on Aug. 5, 2011, after months of wrangling between President Barack Obama and Congressional Republicans over whether to raise the federal debt limit. Bond investors repudiated the downgrade and U.S. borrowing costs fell to record lows as Treasuries gained the most since 2008.

S&P has used this as a defense. Floyd Abrams, the Cahill Gordon & Reindel LLP lawyer representing the company, said in a Feb. 5 appearance on Bloomberg Television that investors required two ratings on CDOs before they would buy, yet only S&P has been accused of acting in bad faith.

Ed Sweeney, an S&P spokesman, declined to elaborate on Abrams’s comments.

For more, click here.

For a timeline of the allegations by the U.S., click here.

S&P Case To Turn on Question of Fraud, Not First Amendment….”

“European finance chiefs will seek to win back crisis-management momentum to navigate through emerging political pitfalls after markets signaled last week that the three-year crisis is far from over.

Ministers from the 17-member euro area meet in Brussels today to discuss aid to Cyprus and Greece as a tightening election contest in Italy and a political scandal in Spain disrupt market calm. Group of 20 finance chiefs and central bankers will gather in Moscow Feb. 15-16.

“We don’t know yet how we’re going to get out of the crisis,”Wolfgang Franz, the chairman of Chancellor Angela Merkel’s council of economic advisers, told Welt am Sonntag. “If the crisis is a marathon, we’ve got two-thirds of the course behind us. But the last third is always the hardest.”

European Union leaders who last week reached a seven-year budget agreement that for the first time cuts spending will look ahead to Italy’s Feb. 24-25 elections as polls show the vote might fail to deliver a governing majority. European stocks last week posted a second weekly drop as investor concern about policy roadblocks in Italy and Spain revived.

Yields on Italian 10-year bonds climbed to a year-to-date high of more than 4.5 percent as former Premier Silvio Berlusconinarrowed the lead of front-runner Pier Luigi Bersani. The euro’s climb was broken last week, falling 2 percent against the U.S. dollar to $1.3365, after European Central Bank President Mario Draghi voiced concern that euro strength could hamper the recovery. The currency was at $1.3373 at 9:45 a.m. in Frankfurt.

‘Price Stability’…”

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“The Group of Seven nations are considering releasing a statement on exchange rates this week to calm concern the world is on the brink of a currency war, three officials from G-7 countries said.

Finance officials from the world’s major industrial economies have drafted a text now being reviewed by senior policy makers, one official said on condition of anonymity. The current wording, which still may be changed, contains a commitment to market-set exchange rates and an agreement that governments don’t use fiscal or monetary policy to drive currencies, the official said.

Japanese Prime Minister Shinzo Abe’s push for more aggressive monetary policy has raised concern abroad that his government is directly seeking to weaken the yen, something it denies. In the talks, Japan has questioned the statement’s contents because it doesn’t want to be singled out for criticism, another official from a G-7 nation said, also on the basis they not be named.

The G-7 is looking to release the statement before a Feb. 15-16 meeting in Moscow of finance ministers and central bankers from the Group of 20, which includes the G-7 and emerging markets such as Brazil, China and India. Any pledge not to target currencies when setting policy would mark a strengthening in stance from when the G-7’s finance chiefs last commented on currencies as a group in September 2011.

The Wall Street Journal reported yesterday that the G-7 was debating a statement.

Japan Contacts…”

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“Price volatility is an unavoidable aspect of investing in common stocks. During periods when emotions are dominating reason, price volatility can become more pronounced than is normal during calmer times. The insidious part of this fact is that the more volatile stock prices are, the more fear and stress they generate, which only feeds even greater volatility. Of course, the same can be said when greed raises its ugly head. The purpose of this article is to provide some logic and reason that can be applied to stock price volatility that simultaneously weakens its potential damage.

However, in order to accomplish my objective, it is imperative that the reader be willing to consider what I believe is the undeniable reality that stocks are often mispriced by Mr. Market. This concept flies directly in the face of the so-called “Efficient Market Hypothesis (EMH)” accepted by proponents and followers of Modern Portfolio Theory. According to the Efficient Market Hypothesis, stocks are always accurately priced because existing share prices always incorporate and reflect all relevant information. Therefore, stocks are always trading at their fair value. I consider this notion preposterous, and in the context of this article, I intend to offer evidence that clearly disproves it.

Stock Prices are Often Pathological Liars

In his famous work, the Picture of Dorian Gray, Oscar Wilde perhaps said it best when he said “nowadays people know the price of everything and the value of nothing.” Unfortunately, this famous quote may be more appropriately descriptive of stock market investing, than in any other aspect of life.  To make my case, all I have to do is direct people to look at most every stock chart, on any financial site or blog, and they will discover a picture solely graphing the company’s stock price movement over whatever time frame is being graphed.

For example, let’s look at a 10-year price only graph on Dun & Bradstreet Corp. (DNB), courtesy of Google Finance. From this picture, it would be very easy to assume that Dun & Bradstreet was a good stock for the first five years on this graph, and a bad stock for the last five years.  If you’re talking strictly about the stock’s price, then these assumptions would be rational and correct.  For the first five years the price generally trended up, and for the last five years it has generally trended down. Therefore, from this graph we know a lot about the “price” of Dun & Bradstreet the stock, but very little about the intrinsic “value” of Dun & Bradstreet, the business behind the stock. Consequently, I would argue that there is very little wisdom offered by this price graph.

In contrast, if we look at Dun & Bradstreet through the lens of FAST Graphs™, the fundamentals analyzer software tool, over approximately the same time frame, our perspective on Dun & Bradstreet the business and the stock is radically altered.  Here, in addition to price only, we have added some essential fundamental information on Dun & Bradstreet.  The orange line on the graph plots earnings-per-share at a fair value P/E multiple of 15.  The slope of the line, however, is 12%, which is the operating earnings growth rate that the company achieved since 2003. The light blue shaded area represents dividends paid out of the dark green shaded area (earnings).

There are several important facts that we can immediately ascertain and learn about Dun & Bradstreet the business once we have the perspective of price correlated to essential fundamentals (earnings).  First of all, we discover that Dun & Bradstreet’s stock was generally being overvalued by Mr. Market for the better part of the years 2003 to 2008. The black monthly closing stock price line was above the orange earnings justified valuation line. Next, we see that the great recession caused the stock price to revert to the mean, thereby, bringing price down into being more in alignment with the orange earnings justified valuation line (intrinsic value).

Furthermore, by focusing only on the orange earnings line, we discover that operating earnings growth was very strong up through 2008, before modestly falling during the recessionary years 2009 and 2010. Then, we discover that earnings rebounded strongly in 2011 and 2012, and are estimated to grow at double-digit rates in 2013.  Consequently, we also now discover that based on its recent strong earnings recovery that Dun & Bradstreet appears to be moderately undervalued….”

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[youtube://http://www.youtube.com/watch?v=eZo4hbGJjVI 450 300]

Link for iPhone users: http://www.youtube.com/watch?v=eZo4hbGJjVI

[youtube://http://www.youtube.com/watch?v=dOZz_VAb3eI 450 300]

Link for iPhone users: http://www.youtube.com/watch?v=dOZz_VAb3eI

“NYU finance professor Aswath Damodaran has posted an epic dismantling of David Einhorn’s recent plan to create value for Apple’s shareholders.

Quick recap: Yesterday, Einhorn, a major hedge fund manager, laid out a way for Apple to enrich its shareholders by offering preferred shares, a bond-like security that pays dividends into perpetuity.

Here’s the nut of Einhorn’s proposal:

…With this conservative action, Greenlight believes the Board could unlock hundreds of billions of dollars of latent shareholder value.

Assuming Apple retains its price to earnings multiple of 10x and the preferred stock yields 4%, our calculations show that every $50 billion of perpetual preferred stock that Apple distributes would unlock about $30 billion, or $32 per share in value.  Greenlight believes that Apple has the capacity to ultimately distribute several hundred billion dollars of preferred, which would unlock hundreds of dollars of value per share.

Damodaran sees a lot of problems with Einhorn’s proposal.

In the first part of his argument, he makes it very clear in big bold letters: “There will be NO value created.. none.. ”

This was a position taken yesterday by Business Insider’s Henry Blodget.

“Issuing preferred stock will not add value to the company, not one cent,” writes Damodaran.  The cost of capital won’t change, and the price-earnings ratio won’t be constant.  He explains fully in his post.

In the second part of his argument, Damodaran gives Einhorn a bit of a break and suggests that “he is trying to unlock the ‘price’, rather than the value.”  This suggests that investors are holding down the stock price for some other reason outside of intrinsic value.

Damodaran offers two reasons why investors might be holding down the price.  Here they are verbatim (emphasis ours):

1. There could a trust discount attached to the cash balance, because investors are worried that Apple might be tempted to do something stupid with the cash, and with this much cash, there is only one action that can do you significant damage and that is overpaying on a really large acquisition.
2. Investors may fear that while the cash builds up in Apple, they may never see the cash, because managers are so attached to it that they will not let go or because it is trapped and therefore unavailable for user, due to tax reasons.

“If investors are discounting cash for one or both of these reasons, the preferred stock may serve to increase the price,” he writes.

But preferred stock isn’t the only way to send cash back to shareholders.  Damodaran reminds us that….”

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“There is a case of good news and bad news in a survey of chief financial ffficers today, and it has what should likely be an economic overhang for 2013. The good news is that CFOs are at least more optimistic for 2013 than they were a year ago. The bad news is that they are still very concerned about growth prospects. The Bank of America Corp. (NYSE: BAC) 2013 CFO Outlook shows that only about two out of five respondents from its survey of 602 executives are expecting growth in 2013.

In the survey, the executive group gave the U.S. economy an average score of 49 out of 100 for 2013. That figure was 44 in the 2012 report. Executives gave the global economy a score of 45 out of 100, which was up from 43 in 2012. Only 39% of CFOs are predicting expansion in 2013, versus 38% in 2012. Also different from a year ago is that 24% of executives expect the economy to contract in 2013, more than twice the rate of 11% in 2012….”

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“A Canaccord Genuity study found that Apple took 72% of all handset profits worldwide while Samsung took 29%. While that is obviously a bit disconcerting, the thinking is that these are rounded-up numbers. What’s more troubling, however, is the fact that most other manufacturers – Nokia, BlackBerry, and HTC – are either losing money or making no profit at all.

The report is detailed over at Fortune by Mssr. Elmer-Dewitt but it points to the fact that we are living in a world where Apple takes the lion’s share of profit on 21.7% of sales while Samsung smothers the rest with another 21%.

That’s why BlackBerry is doomed: at this point in the game, there’s no room for third place let alone a distant contender coming up behind. In this horse race, Apple and Samsung are way ahead and BlackBerry is still on the farm.”

“Long-term shifts in the U.S. economy coupled with the recent recession means Americans are more likely to pack up and move for employment-related reasons. Although the total number of residential moves is down, new data shows a clear pattern of the states that people are fleeing the fastest.

Moving company United Van Lines released its 36th annual study of customer migration patterns, analyzing a total of 125,000 moves across the 48 continental states in 2012. The study provides an up-to-date, representative snapshot of overarching moving patterns in the U.S., and reveals a mass Exodus from the Northeast….”

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“….Galy says bonds are in a bubble, but the market isn’t collapsing as funds rotate into equities. He warns that “the pace of that rotation may be enough to create this collapse,” but he says the conditions for a collapse don’t appear to be set, at least in the short-term, with global economic data on an upswing.

“The difference with the last crisis is that the leverage is lower and different, writes Galy, “It is in fixed income and hence credit.”

The SocGen strategist expands a bit on just where the leverage may be hiding this time:

Leverage is now most probably at the level of retail investors or hidden in balance sheets (e.g. swaps of collateral done for pension funds and insurance companies on the balance sheet of banks). It seems that we are seeing investors reduce their concentration of positions in fixed income and credit.

Sovereign wealth funds first moved to very low durations to avoid the risk and are presumably in the process of rotating their credit risk away from areas that would be hit by a repricing of risk. That means a translation up in the quality spectrum and away from deep concentration of risks (e.g. U.S.). It suggests a demand for T-bills rather than financial paper in the U.S., for example.

Galy predicts that the “brutal reallocation” he foresees later this year “will be a strange event with some side casualties on the credit side,” but a supportive economic environment attractive valuations following a selloff should bring investors back to markets quickly once the dust settles.”

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“Brian Wong is the CEO of Kiip (pronounced “keep”), a category-creating mobile rewards network that is redefining mobile advertising through an innovative platform that leverages “moments of achievement” in games and apps to simultaneously benefit users, developers and advertisers. Backed by Hummer Winblad, Relay Ventures, True Ventures, Verizon Ventures, and others, the company has raised $15.4 million in funding to date. Kiip has been listed by Forbes as one of the 4 Hot Online Ad Companies to Put on Your Watch List, and been named to the Dow Jones FasTech50 List.

Called the youngest person to ever receive venture capital funding by TechCrunch and the Wall Street Journal, Brian received his Bachelors of Commerce degree from the University of British Columbia at age 18, after skipping four K-12 grades. He has been recognized with many awards for his accomplishments and leadership, including: Forbes’ 30 under 30; the Top 20 Under 20 awards for all of Canada; Business Insider’s Top 25 Under 25 in Silicon Valley and 18 Most Important People in Mobile Advertising; Mashable’s Top 5 Entrepreneurs to Watch; and the AdAge Creativity Top 50.

Before starting Kiip, Brian led key publisher and tech partnerships at the social news website Digg.com, where he accelerated the company’s mobile presence by launching the Digg Android mobile app.

Q: You have quite the extensive list of achievements. Not only have you raised $15.4M for your startup Kiip, but you’re also one of the youngest entrepreneurs to receive venture capital. What traits make you different then most people your age?

I think to understand what led to everything I’d have to look back on my upbringing. My childhood was full of sports (I know, surprising – but trust me I used to be super buff), speech arts & drama, FPS gaming (PC), and incessant amounts of graphic design. I also studied marketing & consumer behavior in university. It’s no accident that these things combined led to some level of contribution to my ability to succeed with Kiip. My design obsession led me to becoming frustrated with the state of mobile advertising in the frame of user experience. My gaming background helped me identify the components of gaming that were truly “moments” and potentially a trigger for a reward. My consumer behavior curiosity led to bringing in some innate psychological principles that are built into the Kiip model that has helped it preserve intrinsic motivation amongst users whilst rewarding at a frequency that is the most ideal for brand engagement overall. In hindsight everything is clear, but I’m hoping this explains some of it.

But to pinpoint a couple things that I use as principles that may be different from others my age:

• Generate Serendipity: this is more of a discussion of how your view your locus of control: is it internal or external? I truly believe that you have the ability to generate your own luck and serendipitous outcomes. A lot of this has to do with the environment you’re in. I chose to move to San Francisco because the people in the city and the socioeconomic traits of the region were the most conducive to my strengths: tech and design. I wouldn’t need to explain what I did three times to get my point across. People spoke the same language. Similar to how Einstein once said: you can’t judge a fish by how well it climbs a tree; you have to find the right environment to help you swim freely….”

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“European Central Bank President Mario Draghi has found his most effective weapon is the sound of his own voice.

Draghi yesterday caused the euro’s biggest drop in seven months by suggesting its recent appreciation could damp inflation, a signal that further interest-rate cuts remain a possibility. His pledge in July to buy government bonds precipitated a sea-change in sentiment that helped to shore up the 17-nation euro economy, yet the ECB hasn’t spent a cent so far in its so-called Outright Monetary Transactions program.

The ECB “is becoming a master of verbal intervention,” Danske Bank economists wrote in a research note. Draghi yesterday “managed to dampen recent de facto tightening without taking any action, much as was the case with the OMT program, which has so far managed to lower Spanish and Italian bond yields without buying a single bond,” they said.

Draghi’s oratory is helping the ECB navigate a path out of the sovereign-debt crisis for the economy, whose recovery from recession is being threatened by the stronger euro. The risk is he may eventually be forced to follow through on his promises and ramp up stimulus as looser monetary policies by the Federal Reserve and Bank of Japan weaken their currencies.

Not Convinced…”

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“The Reserve Bank of Australia reduced its economic growth and inflation forecasts as investment outside the mining industry remains elusive, the labor market softens and a high local currency contains prices.

“The soft outlook over the next year or so reflects a number of factors,” the RBA said in its quarterly monetary policy statement released in Sydney today. “Mining investment is expected to peak, both fiscal consolidation and the persistently high level of the Australian dollar will weigh on growth, and there is little sign of a near-term pick-up in non- mining business investment.”

The RBA noted that the global outlook has been “more positive in recent months” and China’s economy has stabilized. The RBA predicted “below trend” 2013 growth of about 2.5 percent, compared with around 2.75 percent forecast in November. Consumer prices will rise 3 percent in the year to June 2013, compared with the 3.25 percent increase it had forecast three months earlier, the central bank said.

Governor Glenn Stevens and his board reduced the overnight cash-rate target to 3 percent in December, matching a half- century low, as they try to revive industries including construction to rebalance economic growth and extend 21 recession-free years. The restrained outlook for prices gives scope for further rate cuts if needed to boost demand, the RBA reiterated in today’s statement after it paused this month.

‘Two Halves’….”

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“$AAPL has issued a statement on its massive pile of cash.

The press release is a response to David Einhorn, who earlier today outlined a proposal for Apple to issue preferred stock as a way of leveraging its cash. In Einhorn’s proposal, he urged Apple investors to vote NO on an Apple proposal to prevent the issuance of preferred stock.

Apple’s cash is a source of consternation to many investors, who feel that Apple is hoarding its pile, and that the market isn’t properly valuing all that cash.

In Apple’s release the company says: We’ll evaluate Greenlight Capital’s proposal (Editors note: ha!) and nothing in the Apple proxy would foreclose the possibility of doing what Greenlight wanted. The release notes that management and the board of directors are in discussions about ways to return more cash to shareholders. The Greenlight proposal will be considered as part of that overall discussion.

Below the dotted line is the full release.

———————————————————————————

By early last year, Apple’s cash balance had built to a point beyond what we needed to run our business and maintain flexibility to take advantage of strategic opportunities, so we announced a plan to return $45 billion to shareholders over three years. As of next week we will have executed $10 billion of that plan.

We find ourselves in the fortunate position of continuing to generate large amounts of cash, including $23 billion in cash flow from operations in the last quarter alone.

Apple’s management team and Board of Directors have been in active discussions…”

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“Federal Reserve Governor Jeremy Stein said some credit markets, such as corporate debt, are showing signs of potentially excessive risk-taking, while not posing a threat to financial stability.

“We are seeing a fairly significant pattern of reaching-for-yield behavior emerging in corporate credit,” Stein said Thursday in a speech in St. Louis.

Central bank officials, including Kansas City Fed President Esther George, are voicing increased concern that record-low interest rates are overheating markets for assets from farmland to junk bonds. Stein today cited leveraged loans and the junk bonds as areas that have been “very robust of late.”

The Fed should be open to using policy tools such as interest rates to safeguard stability, Stein said, while not suggesting the central bank take any such action now.

“I can imagine situations where it might make sense to enlist monetary policy tools in the pursuit of financial stability,” he said. “It will be important to keep an open mind” on using such tools, said Stein, a former Harvard University economist who specializes in banking and finance.

Chairman Ben S. Bernanke has argued for a clear separation between oversight and interest rate policy, saying regulation should be used to deal with asset-price bubbles. Last month he said he considers supervisory tools “the first line of defense” against such bubbles.

‘Not Enough’ …”

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“The Federal Reserve has the appropriate policies in place right now and will remain accommodative until the economy improves, Chicago Fed President Charles Evans told CNBC in an interview on Thursday.

Evan said on “Squawk Box” he’s optimistic that the economy is improving, but the unemployment rate probably won’t get to 6.5 percent until mid-2015. The 6.5 percent target is what the Fed set as a goal for winding down its low interest rate policy. The latest jobless rate reading was 7.9 percent last month.

(Read More: Economy Adds Another 157,000 Jobs; Rate Up to 7.9%)

The Fed has not set any targets for how long it will keep going with quantitative easing (CNBC Explains), but Evans said the bond-buying program may need to continue for another six months to a year until “we’re clear the job market outlook has improved.” ”

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