Why Young Analysts Could Change the Investment Landscape

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Why Young Analysts Could Change the Investment Landscape

Yesterday I represented the Baltimore CFA Society at the kickoff meeting for the 2013 Global Investment Research Challenge.  As is the norm, the Washington, DC CFA Society (which is 2.5x larger than us) and Baltimore choose a local company for the students to analyze.  Last year, it was Under Armour [UA].  This year, it is Marriott [MAR].

Why Young Analysts Could Change the Investment Landscape

One quick aside.  Last year, the more bearish you were on Under Armour Inc (NYSE:UA) , the better a team scored.  But guess what?  Under Armor rose 15% in the last 7+ months — the team that finished last had the result that was the best, and the winner did the worst.  I know many of my readers don’t like Jim Cramer, but one thing that he said shines through here: “The bear case always sounds more intelligent.”  The same is true in the biases of judges for academic competitions.  That’s one reason it is good to have a mix of temperaments in an investment firm.  Personally, I believe that bulls and bears do better together than separately — they need to round each other out.

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Personally, I would prefer to analyze a growth stock like Under Armour Inc (NYSE:UA), to the “asset light” hotelier Marriott.  That said, Marriott International, Inc. (NYSE:MAR)’s  Investor Relations team was out in force for the six (maybe seven) colleges who showed up, and gave what I thought were credible answers to the students who asked them questions.  Near the end of the presentation, the senior Investor Relations person walked them through each line of the income statement — I thought that was a nice touch, but wondered what Marriott used as an internal measure of profitability.

(Note to any students reading me: take a look at what Moody’s, S&P, and Fitch use as their metrics on Marriott International, Inc. (NYSE:MAR)’.  The rating agencies are not dumb, and they get more data than stock analysts do. They are inside the wall.  They get material nonpublic information, and disclose the portion of it that is relevant to bond investors.  At the presentation, the Marriott International, Inc. (NYSE:MAR)’ IR folks stressed repeatedly that they want to maintain an investment grade credit rating.  That is a large constraint on what Marriott does, and should be considered in any good analysis.)

This will be an interesting competition, and five months from now, it will be fun to be a judge in the local version of the Investment Challenge.

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Two weeks ago, I was a judge in a competition among finance students for four colleges that met a McDaniel College.  I was the only judge that did not graduate from McDaniel, which was formerly Western Maryland College, named after the Western Maryland Railroad which funded the school in its early years.

The question at hand was whether the Texas Rangers should have acquired A-Rod in 2000.  This is a tough question, because it is a binary decision, and it faces the winner’s curse.  So, you hired A-Rod.  How badly did you overpay to get him?

I don’t think I am overstating the problem.  Anytime there are multiple bidders for a unique asset, the winning buyer tends to overpay.

The case study (from Harvard) had its own issues.  It overestimated how fast average player salaries would grow, and the econometrics behind the estimation of wins as a function of player salaries was decidedly poor.  More than the Harvard Business School case study would admit, it was a lousy decision to hire A-Rod.  Add in the social effect on other players when A-Rod is paid a huge amount relative to them, and even if he is a nice guy, you wonder if you are truly valuable to the franchise.

But when you are a judge in such a competition, your mind works this way: the first team sets the tone, and has an advantage until a team eclipses them.  Then that team sets the tone.

The judges were pretty neutral on whether A-Rod should be hired or not.  The vote depended more on the process they undertook.  How much research did they do?  How do they back up their assertions?  Did they believe the data in the case study blindly?

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Face it, the business world is unclear/dirty, and those that analyze it have to take account of what they don’t know, and make the best decision that they can.  This is the virtue of hard questions for young security analysts, and why we hold such competitions.

Toss them a hard problem.  Make them think outside the box.  Life is tough, and investment decisions are often unclear.  This is life.

Investment competitions are a far better way to train students than the raw academics.  Modern Portfolio Theory is garbage.  Most academic approaches to investing don’t work.  But try to understand a business like Marriott.  They make money off of selling their name.  They make money managing hotels.  How can they be sure to make money as they do so?  Those are the tough questions to analyze.

It’s a good thing to make young analysts face a hard question.  Whether they win or lose, they had to work hard, plan, compromise with team members, and come to a decision that would face criticism.  When we invest money, we don’t get criticism vocally, but we do see the gains and losses.  Thus the investment competitions are a very good way to prepare students for the eventual gains and losses they will face when they are making business decisions on their own.

By David Merkel, CFA of Aleph Blog

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David J. Merkel, CFA, FSA — 2010-present, I am working on setting up my own equity asset management shop, tentatively called Aleph Investments. It is possible that I might do a joint venture with someone else if we can do more together than separately. From 2008-2010, I was the Chief Economist and Director of Research of Finacorp Securities. I did a many things for Finacorp, mainly research and analysis on a wide variety of fixed income and equity securities, and trading strategies. Until 2007, I was a senior investment analyst at Hovde Capital, responsible for analysis and valuation of investment opportunities for the FIP funds, particularly of companies in the insurance industry. I also managed the internal profit sharing and charitable endowment monies of the firm. From 2003-2007, I was a leading commentator at the investment website RealMoney.com. Back in 2003, after several years of correspondence, James Cramer invited me to write for the site, and I wrote for RealMoney on equity and bond portfolio management, macroeconomics, derivatives, quantitative strategies, insurance issues, corporate governance, etc. My specialty is looking at the interlinkages in the markets in order to understand individual markets better. I no longer contribute to RealMoney; I scaled it back because my work duties have gotten larger, and I began this blog to develop a distinct voice with a wider distribution. After three-plus year of operation, I believe I have achieved that. Prior to joining Hovde in 2003, I managed corporate bonds for Dwight Asset Management. In 1998, I joined the Mount Washington Investment Group as the Mortgage Bond and Asset Liability manager after working with Provident Mutual, AIG and Pacific Standard Life. My background as a life actuary has given me a different perspective on investing. How do you earn money without taking undue risk? How do you convey ideas about investing while showing a proper level of uncertainty on the likelihood of success? How do the various markets fit together, telling us us a broader story than any single piece? These are the themes that I will deal with in this blog. I hold bachelor’s and master’s degrees from Johns Hopkins University. In my spare time, I take care of our eight children with my wonderful wife Ruth.
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