Newton's In Search Of The Perfect Investment. Technology Investor.
8:30 AM Tuesday, March 29, 2005: What
do April showers bring? May flowers. What do Mayflowers bring? Pilgrims. It's
an old joke. I got reminded of it when I heard how lousy the weather was at home
in New York, contrasted to how great it is here in La Quinta, California. This
weekend I sadly return to rainy cold New York City.
For now, my In Search of the Perfect Investment story remains consistent:
the best returns lie in your own backyard -- your business or someone else's you
know well. Before I return to New York I'm visiting a California catfish farm,
a seller of trust deed financing and a real estate property or two. Since I'm
out here regularly, they're "in my own backyard."
As I've written
before (and too often), the biggest problem facing the investment business is
simply there's too much money sloshing around in search of too few opportunities.
I couldn't emphasize that more than pointing to today's news: The Carlyle Group
has raised the first $10 billion private equity fund. What's even more
incredible than the $10 billion is that Carlyle will be able to borrow an
additional $45 billion against that $10 billion. The Wall Street Journal
points out that that total is more than the combined market capitalizations
of Nike and Ford Motor, with plenty of change to spare.
Writes the Journal,
"Ego and hubris are an inevitable part of this world, and the race to
create the first $10 billion fund has become an industry parlor game. But the
sheer size of recent deals is forcing the firms to become ever-bigger pools
of capital. Finding the funding is no problem for the field's biggest names.
Cash is streaming in, offered by big pension funds, institutions and very wealthy
investors seeking returns that historically are touted as outpacing the overall
stock market. Carlyle, in fact, turned away about $2 billion in prospective
For the largest
deals, "You are at a competitive advantage to drive the transaction if
you can lead the equity with a $1 billion commitment," says Michael Klein,
head of global banking at Citigroup Inc. That became clear yesterday after SunGard
Data Systems announced that seven buyout firms were acquiring it for $10.8
billion, the second-largest private-equity deal in history behind Kohlberg
Kravis Roberts's $25 billion leveraged buyout of RJR Nabisco in the late 1980s."
In all, writes
the Journal, an estimated $1 trillion in capital is available to the
world's private-equity firms, which includes the debt banks are willing to lend
against the firms' raised equity.
The Journal continues:
"Such scale brings its own set of challenges. Private-equity firms are
relatively tiny organizations, often staffed by just a few dozen people. As
they do more -- and bigger -- deals, they will have to expand their infrastructure.
And pursuing bigger targets means they will have to stage more "club deals"
that bring in capital from a group of firms. That raises concerns about management
control and whether returns from these firms will begin to look the same."
How do private
equity firms do? Some deals go well. Some go awfully. Fact is since private
equity funds are private, you never know. The good deals you hear about. They
get leaked. They get lots of press. That helps raise the next bigger fund. The
bad deals you never hear about.
I'm not impressed with the track records of the ones I've seen, been offered
participation in, or actually participated in. You'd be better off with muni
bonds -- especially in the past five years.
Which brings me
to Floyd Norris' piece in the weekend's New York Times entitled, "Too
Much Capital: Why It Is Getting Harder to Find a Good Investment." I'm
quoting the article -- not because I want to brag that you read this theme here
long ago -- but because the piece is genuinely interesting:
is too much capital in the world. And that means that those who own the capital
- investors - are in for some unhappy times.
may sound inherently unlikely, but it explains a lot. Those with capital find
they must pay high prices for investments that are likely to produce only a
little income. The relative importance of things other than capital, like commodities
and cheap labor, has grown.
the capital glut can be seen in interest rates. Market rates are low, and even
when central banks set out to raise short-term rates, longer-term rates are
slow to move. Little additional yield is available to those who buy very risky
bonds. For the same reason, stock prices are high. Profit disappointments may
not cause the stock market to plunge, since the capital will have to go somewhere.
But the return on the underlying investments is likely to be below what investors
in a weakening position, returns that once would have gone to owners of capital
have gradually been redirected. That is one way to explain the surge in management
compensation in the last two decades. In the early 1980's, when interest rates
were high and stock prices low, the average chief executive received no stock
options in any given year. Now nearly all get sizable grants, and one study
found that chief executive pay rose faster than that of any group save for professional
athletes and movie stars. Those who provided the capital had less power to demand
the profits from the enterprises they financed.
of excess capital can be seen in what Argentina did to its creditors - and in
how they reacted. When Argentina defaulted on its debt in December 2001, many
thought it would eventually negotiate a deal with creditors that was similar
to previous arrangements made by countries in default. Instead, this year it
imposed far harsher terms and refused to talk about them. The vast majority
of the bondholders meekly went along and bonds of other emerging markets have
Argentina's government is sounding an uncompromising note regarding foreign-owned
utilities and oil companies. It is betting that it can get away with treating
the owners of capital badly and it may be right.
Why is there
too much capital? One answer is that central banks reacted to the bursting of
the technology bubble by cutting interest rates by too much for too long. The
resulting liquidity might in other times have sent inflation soaring, but now
China's emergence has placed offsetting deflationary pressures on consumer goods
prices. The excess liquidity is sloshing around world capital markets.
At the same
time, China's emergence is spurring investment that the world may not need.
The world automobile industry is plagued by overcapacity, but every car company
believes it must have plants in China.
We have seen
too much capital before, but not on a worldwide basis. It flooded into Japan
in the 1980's when money there was cheap and the success of the Japanese economy
obvious. Japanese business still suffers from excess capacity. Excessive investment
in telecommunications in the late 1990's left a lot of unused fiber optic cable.
of capital is bad news for wealthy economies, especially as it is happening
when aging populations in Japan, Europe and the United States need good investments
to finance retirement. But it should be good news for economies that need capital
not remain in excess forever. Money will be spent on consumption rather than
investment, and new technologies and rising demand will eventually create more
uses for a supply of capital that will have been depleted as low returns discourage
saving. But for those with capital, that could be a slow and painful process."
In short, few
opportunities from traditional sources -- your friendly stockbroker, your friendly
private equity fund, your friendly overseas bond, and maybe soon, your friendly
real estate market. Cash remains king. We will need the cash to snag the local
opportunities as they emerge in coming months.
The NASDAQ is on its 200-day moving average.
My friends who read stock charts (and tea leaves) tell me NASDAQ is sitting
right on its 200-day moving average. "If it doesn't hold, look out below,"
writes one friend. Personally, I'm not sanguine about the stockmarket short-term.
This year it may well be down.
west with Suburbans, Hummers and gigantic RVs.
No one drives around New York City. It's subways, buses, taxis and walking (and
in my case, bicycling). So, it's been a real eye opener here to see little old
ladies shopping in gigantic Suburbans, Expeditions and Mountaineers. It's been
an eye opener to drive on highways clogged by 40 foot long RVs towing SUVs.
I am aghast at the frivolous energy consumption and its horrible consequences.
Two days ago,
Thomas Friedman drove those consequences home. Add to this article my earlier
words that the world is running out of energy, and the faster we use it now,
the greater the consequences short-term -- for the economy, for politics, etc.
For now, read Friedman. The piece is called "Geo-Greening by Example."
future historians explain it? How will they possibly explain why President George
W. Bush decided to ignore the energy crisis staring us in the face and chose
instead to spend all his electoral capital on a futile effort to undo the New
Deal, by partially privatizing Social Security? We are, quite simply, witnessing
one of the greatest examples of misplaced priorities in the history of the U.S.
but you overstate the case." No, I understate it. Look at the opportunities
our country is missing - and the risks we are assuming - by having a president
and vice president who refuse to lift a finger to put together a "geo-green"
strategy that would marry geopolitics, energy policy and environmentalism.
By doing nothing
to lower U.S. oil consumption, we are financing both sides in the war on terrorism
and strengthening the worst governments in the world. That is, we are financing
the U.S. military with our tax dollars and we are financing the jihadists -
and the Saudi, Sudanese and Iranian mosques and charities that support them
- through our gasoline purchases. The oil boom is also entrenching the autocrats
in Russia and Venezuela, which is becoming Castro's Cuba with oil. By doing
nothing to reduce U.S. oil consumption we are also setting up a global competition
with China for energy resources, including right on our doorstep in Canada and
Venezuela. Don't kid yourself: China's foreign policy today is very simple -
holding on to Taiwan and looking for oil.
doing nothing to reduce U.S. oil consumption we are only hastening the climate
change crisis, and the Bush officials who scoff at the science around this should
hang their heads in shame. And it is only going to get worse the longer we do
nothing. Wired magazine did an excellent piece in its April issue about hybrid
cars, which get 40 to 50 miles to the gallon with very low emissions. One paragraph
jumped out at me: "Right now, there are about 800 million cars in active
use. By 2050, as cars become ubiquitous in China and India, it'll be 3.25 billion.
That increase represents ... an almost unimaginable threat to our environment.
Quadruple the cars means quadruple the carbon dioxide emissions - unless cleaner,
less gas-hungry vehicles become the norm."
All the elements
of what I like to call a geo-green strategy are known:
We need a gasoline
tax that would keep pump prices fixed at $4 a gallon, even if crude oil prices
go down. At $4 a gallon (premium gasoline averages about $6 a gallon in Europe),
we could change the car-buying habits of a large segment of the U.S. public,
which would make it profitable for the car companies to convert more of their
fleets to hybrid or ethanol engines, which over time could sharply reduce our
We need to
start building nuclear power plants again. The new nuclear technology is safer
and cleaner than ever. "The risks of climate change by continuing to rely
on hydrocarbons are much greater than the risks of nuclear power," said
Peter Schwartz, chairman of Global Business Network, a leading energy and strategy
consulting firm. "Climate change is real and it poses a civilizational
threat that [could] transform the carrying capacity of the entire planet."
And we need
some kind of carbon tax that would move more industries from coal to wind, hydro
and solar power, or other, cleaner fuels. The revenue from these taxes would
go to pay down the deficit and the reduction in oil imports would help to strengthen
the dollar and defuse competition for energy with China.
geopolitics. It's smart fiscal policy. It is smart climate policy. Most of all
- it's smart politics! Even evangelicals are speaking out about our need to
protect God's green earth. "The Republican Party is much greener than George
Bush or Dick Cheney," remarked Mr. Schwartz. "There is now a near
convergence of support on the environmental issue. Look at how popular [Arnold]
Schwarzenegger, a green Republican, is becoming because of what he has done
on the environment in California."
George Bush declared that he was getting rid of his limousine for an armor-plated
Ford Escape hybrid, adopting a geo-green strategy and building an alliance of
neocons, evangelicals and greens to sustain it. His popularity at home - and
abroad - would soar. The country is dying to be led on this. Instead, he prefers
to squander his personal energy trying to take apart the New Deal and throwing
red meat to right-to-life fanatics. What a waste of a presidency. How will future
historians explain it?"
time is approaching.
A woman walks into her accountant's office and tells him that she needs to file
says, "Before we begin, I'll need to ask a few questions." He gets
her name, address, social security number, etc., and then asks, "What is
The woman replies, "I'm a high-priced call girl." The accountant balks
and says, "No, no, no. That will never work. That is much too crass. Let's
try to rephrase that."
The woman says, "OK, I'm a high-end hooker." "No, that is still
too crude. Try again."
They both think
for a minute, then the woman states, "I'm an elite chicken farmer."
asks, "What does chicken farming have to do with being a hooker or a call
raised over 700 little peckers last year."
+ When I die, I want to die like my grandfather -- who died peacefully
in his sleep. Not screaming like all the passengers in his car. -- anon.
+ "The problem
with the designated driver program, it's not a desirable job, but if you ever
get sucked into doing it, have fun with it. At the end of the night, drop them
off at the wrong house." -- Jeff Foxworthy
+ "If a woman
has to choose between catching a fly ball and saving an infant's life, she will
choose to save the infant's life without even considering if there is a man
on base." -- Dave Barry
This column is about my personal search for the perfect investment. I don't
give investment advice. For that you have to be registered with regulatory authorities,
which I am not. I am a reporter and an investor. I make my daily column -- Monday
through Friday -- freely available for three reasons: Writing is good for sorting
things out in my brain. Second, the column is research for a book I'm writing
called "In Search of the Perfect Investment." Third, I encourage
my readers to send me their ideas, concerns and experiences. That way we can
all learn together. My email address is .
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