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Prior Columns of Harry Newton's In Search of the Perfect Investment / Technology Investor

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8:30 AM Monday, October 24, 2005: It's confusing times. We're into earnings season. The results look bright. If companies continue to report as they have been doing, earnings should be up 15.8%. The stockmarket hasn't reacted with glee. The S&P 500 is down 2.7% this year; Nasdaq is off 4.3%. The stockmarket is a prediction machine, usually eyeing nine months into the future. Is it telling us that it expects things to be awful in 2006?

I don't know. Frankly, no one does. It's hard to be sanguine when factors such as rising interest rates, high energy costs and surging commodity prices are hurting earnings. I spent much time reading over the weekend. Mostly a lot of silly stories to fill space, like how much is Donald Trump really worth? (Answer: Who cares.)

This morning I'm feeling humble. I missed Google (GOOG) and SanDisk (SNDK) and fell for the "Triangle of Life" semi-BS by Doug Copp. This morning's mantras: "CHECK. CHECK, CHECK." and "When in doubt, stay out." (My RIMM short is a glimmer of sunshine.)

The big highlight of this week is The C. E. Unterberg, Towbin, Life Sciences Conference, which runs tomorrow through Thursday at New York's Palace Hotel (where rooms are a modest $385 a night!). Some of my favorite life science companies are presenting: Manhattan Pharma (MHTT), VioQuest (VQPH), InSite Vision (ISV), Novadel (NVD) and Ziopharm. I'll post a full schedule shortly. (It's not on their web site.) Meantime, I'm betting most of the presentations will be available via Webcast. Check the company's own web site.

Punishing Success at Harvard. This piece by Joseph Nocera in Saturday's New York Times was among the most interesting pieces I read this weekend:

THERE is a story - apocryphal, I suspect - that Boston-area hedge fund types like to tell about Jack R. Meyer's predecessor as head of the Harvard Management Company.

Harvard Management exists to do one thing: manage Harvard's assets. The head of the company in the 1970's and 1980's was a bearish sort who never warmed up to the bull market that began in August 1982. In late 1989, the story goes, Harvard's president, Derek Bok, began scribbling on a yellow notepad during a Harvard Management board meeting. When he was done, he ripped the sheet of paper out of his notepad, put it down in front of the man, and walked out of the room. It was the man's resignation letter.

What brings the story to mind, of course, was the news late last week that Harvard had named a successor to Mr. Meyer. During Mr. Meyer's storied 15-year tenure, Harvard's assets increased from $4.7 billion to $26 billion, with about $22 billion of that its endowment - making it the largest university endowment in the country. Posting average annual returns of almost 16 percent, Mr. Meyer consistently outperformed not only the market, but virtually every other institutional money manager in the country, with the sole exception of David Swensen, who runs Yale's endowment. Within the world of institutional investors, Mr. Meyer is a legend.

So it's not as if the current Harvard president, Lawrence H. Summers, was scribbling out Mr. Meyer's resignation letter. "Jack Meyer did a great job for Harvard," Mr. Summers said the other day. Although Mr. Meyer declined to comment for this column, he has told friends that he was leaving of his own volition; he plans to start - what else? - a hedge fund with two Harvard Management fixed-income managers who departed with him.

And yet to talk to people in both the Harvard and the Meyer camps, you come away with the feeling that Harvard is not all that terribly sorry to see him go - and that Mr. Meyer had come to feel that, if he wasn't exactly being pushed out the door, he was certainly not getting the deference or leeway he was used to. At a minimum, his successor, Mohamed A. El-Erian, an emerging markets specialist from the bond powerhouse Pimco, has his work cut out for him repairing the damage that has been done by the quiet rift between a great investor and a great university.

THERE are two models for managing endowment money: the Harvard way, and the way everybody else does it. Although virtually all endowments believe in the virtues of asset allocation, most search for talented outside fund managers who specialize in different asset classes, hedge funds very much included, and give them a small portion of the endowment to manage.

Harvard, by contrast, has historically managed its money itself. Especially in the 1990's, Harvard Management under Mr. Meyer had the feel of a big-time hedge fund, with a handful of its own talented fund managers who knew all of Wall Street's tricks. They employed complex derivative strategies, sold stocks short, searched for arbitrage opportunities, used leverage to bolster returns, and so on. They were a tight-knit group who operated out of an office in downtown Boston, several miles from the Harvard campus. They saw themselves not as Harvard employees but as Harvard Management employees.
Except they were Harvard employees, which created a problem. As a nonprofit, Harvard is required by law to publicly identify its most highly paid employees each year. Invariably, Jack Meyer's fund managers were at the top of the list.

In 2003, for instance, Maurice Samuels and David Mittleman, the two fund managers who are departing with Mr. Meyer, made $35.1 million and $34.1 million, respectively. (Mr. Meyer was paid in the millions as well, but not nearly as much as his top performers.) This in turn created an annual firestorm, led by a small group of alumni from the class of 1969. Their leader, William Strauss, believes that it's unseemly for Harvard employees to make that kind of money. "This is a nonprofit university," he told me recently. "It's just inappropriate."

Just about everybody in hedge fund land takes exactly the opposite view and thinks that the criticism is the height of foolishness. They point out, for starters, that Mr. Meyer saves the university money. After all, outside hedge fund managers who turn in investment performances like that of Mr. Mittleman and Mr. Samuels make far more than $35 million.

In addition, the compensation system Mr. Meyer set up included an extraordinary provision. When a fund manager outperformed his benchmark, he received only a certain percentage of his bonus. The rest was carried forward. If the fund manager beat his benchmark the next year, he got the rest of his "carry forward." But if he underperformed, he would have to give part - or all - of it back.

"I think Jack's compensation system was right on," said Scott C. Malpass, who manages Notre Dame's endowment, which has its own stellar record. "The incentives were aligned." That's what fund managers at Harvard Management believed as well.
Over the last half-dozen years, two things happened that began to change Harvard Management. First, the old gang broke up, as many of Mr. Meyer's protégés left to open their own hedge funds. Instead of replacing them, Mr. Meyer put Harvard endowment money in their funds, in amounts that started at $500 million. In return, he got special breaks for Harvard Management.

As a result, today about half of Harvard's money is managed by outside fund managers, though, of course, they are exactly the same people who once managed it internally. But now, the newspapers don't report their compensation.
And the second change? That would be the arrival, in 2001, of Mr. Summers, the former Treasury secretary, as president of Harvard. One of the raps on Mr. Summers is that he always has to be the smartest guy in any room, tossing off questions he means to be provocative, but which often have the effect of alienating the people he's questioning.

And so, at Harvard Management board meetings, Mr. Summers began questioning Mr. Meyer about everything from the positions in the portfolio to its level of risk. In addition, Mr. Summers's old boss, the former Treasury secretary Robert E. Rubin, became a fellow of the Harvard Corporation - the equivalent of a regent - and he began asking Mr. Meyer even tougher questions. (Mr. Rubin did not return my phone call.) For Mr. Meyer, the questioning felt like meddling, even if it wasn't meant that way.
But here was the real blow. For the last year or so, Harvard Management has been using a different compensation system - one that Mr. Summers strongly backed and the Harvard Management board approved. The carry-forward provision was eliminated. The compensation at the low end was raised. But at the high end, the pay for overachievers like Mr. Mittleman and Mr. Samuels was capped at somewhere between $20 million and $25 million.

It would be hard to imagine a more politically boneheaded move. On the one hand, a $20 million paycheck is still far too high to mollify the class of '69 critics. On the other hand, it was a crushing blow to the fund managers still left, who felt that Mr. Summers was running roughshod over Mr. Meyer's incentive system. I don't believe that Mr. Summers imposed the new system as a means of getting rid of Mr. Meyer - he simply thought it made more sense for a university endowment - but that was the inevitable result. Mr. Meyer must have thought: who needs the hassle?

So where does that leave Mr. El-Erian? He is replacing a legend with a performance record that will be nearly impossible to match. Much of the talent at Harvard Management is gone, and those who remain are demoralized. Although Mr. El-Erian is viewed as a brilliant bond guy, he has no experience dealing with hedge funds. Indeed, should he decide that the Harvard model no longer works, and wants to farm out more of the endowment, he will be starting from scratch. Unlike other universities, Harvard doesn't have the expertise to evaluate outside hedge fund managers - except Mr. Meyer's former Harvard Management colleagues.

When I spoke to him late last week, Mr. El-Erian sounded both aware of the challenges he faces, and undaunted. He insisted Harvard would continue to manage its own money. "A lot of hedge funds simply exploit inefficiencies," he told me. "If you can do that more cheaply on the inside, you should."

He liked the idea, he said, of connecting the management company more closely to the university, tapping into its brainpower for investing ideas and assistance. He noted that in the current difficult investing environment, returns were likely to be lower than they had been, that he would have to do a fair amount of "institutional rebuilding," and that he would be living, to some extent, in a "fishbowl." God bless him, he seemed pretty excited about the whole thing.

Bill Gross, the bond guru who has been Mr. El-Erian's boss at Pimco, told me that Mr. El-Erian was indefatigable, trustworthy, a great manager, a savvy investor and "very politically astute." From the looks of things, he's going to need all of those qualities.
American Red Cross response to "Triangle of Life" by Doug Copp (which I stupidly published bits of on Friday). Rocky Lopes, Manager, Community Disaster Education for the American Red Cross writes:

Recently it has been brought to my attention that an email from Doug Copp, titled "Triangle of Life," is making its rounds again on the Internet. Mr. Copp's assertions in his message that everyone is always crushed if they get under something is incorrect. ..

We contend that "Drop, Cover, and Hold On" indeed SAVED lives, not killed people. Because the research continues to demonstrate that, in the U.S., "Drop, Cover, and Hold On!" works, the American Red Cross remains behind that recommendation. It is the simplest, reliable, and easiest method to teach people. The American Red Cross has not recommended use of a doorway for earthquake protection for more than a decade. The problem is that many doorways are not built into the structural integrity of a building, and may not offer protection. Also, simply put, doorways are not suitable for more than one person at a time.

If you are in bed when an earthquake happens, remain there. Rolling out of bed may lead to being injured by debris on the floor next to the bed. If you have done a good job of earthquake mitigation (that is, removing pictures or mirrors that could fall on a bed; anchoring tall bedroom furniture to wall studs, and the like), then you are safer to stay in bed rather than roll out of it during the shaking of an earthquake.

The Red Cross strongly advises not try to move (that is, escape) during the shaking of an earthquake. The more and the longer distance that someone tries to move, the more likely they are to become injured by falling or flying debris, or by tripping, falling, or getting cut by damaged floors, walls, and items in the path of escape. Identifying potential "void areas" and planning on using them for earthquake protection is more difficult to teach, and hard to remember for people who are not educated in earthquake engineering principles. The Red Cross is not saying that identifying potential voids is wrong or inappropriate. What we are saying is that "Drop, Cover, and Hold On!" is NOT wrong -- in the United States. The American Red Cross, being a U.S.-based organization, does not extend its recommendations to apply in other countries. What works here may not work elsewhere, so there is no dispute that the "void identification method" or the "Triangle of Life" may indeed be the best thing to teach in other countries where the risk of building collapse, even in moderate earthquakes, is great.

In other words, fix your house up, so loose things are attached to walls and are glued down. Find a safe place -- perhaps your bed or a Triangle of Safety -- and pray like Hell. Don't do dumb things -- like sleep under a heavy chandelier.

Meg Whitman is totally sucked in by telecom: She will now devote her entire attentions to justifying her dumb purchase of phone company Skype. She will neglect eBay, which despite its surging revenues now becomes a great short.

Within several years, all telephone calls will be made for free using VoIP, eBay CEO Meg Whitman told analysts during the company's earnings call last week. "In the end, the price that anyone can provide for voice transmission on the 'Net will trend toward zero." She said that service providers would make money from the phone calls through advertising or transaction fees. (She's nuts.)

The eBay CEO was responding to criticism from analysts who questioned whether eBay had overpaid when it bought VoIP provider Skype Technologies for $4 billion. Whitman said that in the long run, VoIP providers with the "largest ecosystems" will thrive because their users can be sold on other services, such as PayPal which eBay also owns, or the highest-paying ads can be delivered to them. In the call, eBay said that Skype will bring in an estimated $60 million of revenue in 2005, and more than $200 million in 2006.

My take: Meg won't earn any profits on $60 million. If she gets to $200 million (which I seriously doubt), maybe she will. .. A final thought: If phone calls are meant to now be free, where the heck is the $200 million in phone charges going to come from?

She's smoking the same stuff Wall Street smoked in the late 1990s. Remember WorldCom, Global Crossing, etc.?

Children's answers - 1
A new teacher was trying to make use of her psychology courses. She started her class by saying, "Everyone who thinks they're stupid, stand up!"

After a few seconds, Little Davie stood up. The teacher said, "Do you think you're stupid, Little Davie?"

"No, ma'am, but I hate to see you standing there all by yourself!"

Children's answers - 2
Little Davie watched, fascinated, as his mother smoothed cold cream on her face. "Why do you do that, mommy?" he asked.

"To make myself beautiful," said his mother, who then began removing the cream with a tissue.

"What's the matter?" asked Little Davie. "Giving up?"

Children's answers - 3
A Sunday School teacher of preschoolers was concerned that his students might be a little confused about Jesus Christ because of the Christmas season emphasis on His birth. He wanted to make sure they understood that the birth of Jesus occurred a long time ago, that He grew up, etc. So he asked his class, "Where is Jesus today?"

Steven raised his hand and said, "He's in heaven."

Mary was called on and answered, "He's in my heart."

Little Davie, waving his hand furiously, blurted out, "I know! I know! He's in our bathroom!"

The teacher was completely at a loss for a few very long seconds. Finally, he gathered his wits and asked Little Davie how he knew this.

Little Davie said, "Well... every morning, my father gets up, bangs on the bathroom door, and yells, "Jesus Christ, are you still in there?!"

Recent column highlights:
+ Dumb reasons we hold losing stocks. Click here.
+ How my private equity fund is doing. Click here.
+ Blackstone private equity funds. Click here.
+ Manhattan Pharmaceuticals: Click here.
+ NovaDel Biosciences appeals. Click here.
+ Hana Biosciences appeals. Click here.
+ All turned on by biotech. Click here.
+ Steve Jobs Commencement Address. The text is available: Click here. The full audio is available. Click here.
+ The March of the Penguins, an exquisite movie. Click here.
+ When to sell stocks. Click here.

Harry Newton

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 . You can't click on my email address. You have to re-type it . This protects me from software scanning the Internet for email addresses to spam. I have no role in choosing the Google ads. Thus I cannot endorse any, though some look mighty interesting. If you click on a link, Google may send me money. That money will help pay Claire's law school tuition. Read more about Google AdSense, click here and here.
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