Thursday, March 27, 2014

Candy Crush IPO

Everytime a company IPOs and the shareprice pops on the first day, the press has articles about how great the company is, and there are a slew of contrarian pieces saying how pops just mean the company was underpriced and leaving money on the table, and this amounts to a kickback to unscrupulus bankers who gave their favored clients a sweetheart deal.

Well, the King IPO tanked in that it closed down 15% or so from their IPO, and I suppose this may be a contrarian piece saying the King guys are geniuses because they didn't leave any money on the table, but my real question is why the company went public at all.

The Tech Bubble, if there is one, is certainly a Bubble 2.0 as it is primarily occurring in the private market via inflated seed rounds and extremely rich acquisitions, such as the recent Facebook purchase of Oculus, and you can add Nest, Instagram, and WhatsApp to that list. King is a curious inverse, as it's the perfect company to keep private as a cash cow with a limited time horizon, but instead they go to the public markets for even more liquidity?

The entertainment business and shareholders do not mix well, and I'm thrilled to see financing vehicles like Kickstarter for projects which are worthy, but would never get funded otherwise. I would love to learn the insider story for why King decided to IPO at all.

Wednesday, March 26, 2014

Has Facebook jumped the shark by buying Oculus?

Fred Wilson asks, in his usual politic manner, whether the Facebook Oculus deal makes any sense?
If you look at these big acquisitions like Nest and Oculus, you might scratch your head. What does a Apple-style proprietary closed thermostat have in common with Google’s mobile strategy? What does a Virtual Reality headset have to do with Facebook’s social graph? Nothing in both cases.
But the roadmap has been clear for the past seven years (maybe longer). The next thing was mobile. Mobile is now the last thing. And all of these big tech companies are looking for the next thing to make sure they don’t miss it. And they will pay real money (to you and me) for a call option on the next thing.
It isn’t clear if the next thing is virtual reality, the internet of things, drones, machine learning, or something else. Larry doesn’t know. Zuck doesn’t know. I don’t know. But the race is on to figure it out.
Nest. Oculus. Google Glass. All of these are toys geeks love, and they may be the next big thing, or they might be a slightly better thermostat in a stagnant market, with no moat, a gaming peripheral, and a Segway except it's worn on the face. Time will tell.

Wednesday, March 19, 2014

Odious war debt

I think the last time the notion of "odius war debt" came up was during the Iraq War where the question was, should the newly liberated Govt of Iraq be on the hook for debt incurred by the previous regime?

Please note, the only reason this was an issue was because the debt was denominated in a currency other than the Iraqi dinar, if it had been in Iraq's sovereign currency, then it would be easy for the Govt to keep it's obligation. Also note that, as an oil exporter, Iraq is better positioned than other countries to service US$ debt.

A similar situation seems to be in play in the Ukraine. From Felix Salmon:
Now that Russia seems to have formally annexed Crimea, no one can possibly expect Ukraine to repay Russia the $3 billion it borrowed back in December. The money was given directly to kleptocratic Ukrainian president Viktor Yanukovych in order to buy his fealty; now that Yanukovych is an international pariah and Russia has seized Crimea instead, in what you might call the geopolitical equivalent of a debt-for-equity swap, Ukraine has no legitimate reason to make its payments on the loan.
But there’s a problem here: the loan was not, technically, a bilateral loan from Russia to Ukraine. Instead, it was structured as a private-sector eurobond.
My understanding of this is that Ukraine borrowed in euros on the private market in a deal where Russia supplied the euros and now holds the receivable, and it seems that this debt is senior to other Ukrainian debt.

Ukraine cannot create euros, it is a currency user not a currency issuer, and so it either needs to trade for euros to settle the debt, or renege. If it reneges, it may not end up stiffing Russia, as Russia may sell the euros to a third party.

The ECB may print the euros Ukraine needs so it can settle the debt without taking on the burden itself, but then Russia gets paid. Salmon ends:
Gelpern adds — quite rightly — that now is also the perfect time to implement a general ban on countries selling their bilateral debt into the private markets. I’m unclear on what form such a ban would take, or how it would ever be enforced, but as a principle it’s a really good idea.
I would go further. First, a country, if it can avoid it, should not issue debt in a currency it cannot issue. Second, as a generate rule, debt should be held on the books of the party that made the original credit extension, and not traded.

Friday, March 14, 2014

Bank of England goes MMT

Article from Naked Capitalism about the Bank of England confirming, as we all should know by now, that banks do not lend out deposits or reserves, and that in fact, loans create deposits. Glad to have an official source we can point to that verifies what Mosler et al have been saying for a while.

However, they don't seem to be quite ready to release the monetary lever entirely:
The amount of money created in the economy ultimately depends on the monetary policy of the central bank. In normal times, this is carried out by setting interest rates.
There is some truth to the idea that interest rates have some impact on the amount of money created in an economy, but exactly what that impact may be at any given time is complicated and potentially context dependent as there are opposing effects -- there is a negative (fiscal) stimulus from lower interest rates, and there is a positive (credit) stimulus from lower rates. The overall impact may well depend on whether the economy is primarily being driven by weak balance sheets, and so is more fiscally sensitive, or weak cash flow, and so is more credit sensitive.

Either way, the amount of money created in a economy ultimately depends on credit decisions by the private sector, of which interest rates are but one factor, so I think the BofE places too much emphasis on their one lever (which is understandable).

More importantly, they miss out how Government spending also created money in the economy, and taxation un-creates it, thus missing out on the fiscal side of the equation entirely.

Regardless, a good first step.

Thursday, March 13, 2014

The VC Bubble

Fred Wilson says that the current sky high valuations are because of the low interest rate environment:
Since the financial crisis of 2008, policy makers in the developed world have kept interest rates at or near zero. They have flooded the market with cheap money in an attempt to heal the wounds (losses) of the financial crisis and incent business owners to invest and grow their businesses. That has not worked particularly well but it has worked a bit. Though their words have changed in recent years, their actions have not changed very much. We still are in a policy framework where money is cheap and interest rates are near zero.
If you go back and apply the formula [yield = earnings/purchase price] and use zero for yield/interest rate, then one would pay an infinite amount for an earning stream. Of course that doesn’t make sense and it has not happened. But valuations are at extreme levels because you cannot get a decent return on your money doing anything else.
Fred is correct on the logic of both valuation calculations and what the Fed may think they are trying to do, but I don't think I agree and I don't think Fred's own data supports his argument.

He has a graph of Treasury yields which show a steady decline from the 80s to present day. Note that the internet bubble of the late 90s happened in a higher yeild environment, so I don't find the argument persuasive that valuations are increasing since the denominator in a DCF calculation is getting smaller. And let's face it, the big VC exits that give rise to bubble talk are not for companies generating much cash, or in industries that seem to have many moats.

I would also argue that there is a big difference between credit bubbles and asset bubbles, and the VC industry, being primarily asset funded, is insensitive to interest rates.

I do believe a story where historically, VC returns have been too high because that market was small and inefficiency. As more capital discovers it, it will drive returns down by funding more marginal companies. This additional supply could fuel an asset bubble if immature acquirers are willing to overpay in some high profile ways while they remain glamor stocks (in the case of Facebook) or have an excellent moat (in the case of Google). Note that the more seasoned companies -- Apple, Amazon -- do not make big acquisitions.

As VC as an asset class gets normalized, there may be a private market bubble as expectations readjust. But ultimately, I think the new equilibrium will have more companies, and more marginal companies, being funded which is good for us all.