Monday, December 26, 2016

How Green and Efficient is the Tesla?

             Much of the investment thesis behind Tesla, as well as a reason for the government subsidies, is based on the premise that its cars are more green and efficient.  Nonetheless virtually no one knows how much more green or efficient the cars actually are.  As the owner of a 2015 Tesla Model S 85D, I decided to find out by comparing my car to my son’s Prius.  Here are results of my experiments.
            Both my son and I drive similar distances daily around Pasadena, California (where Teslas are very popular).  Our trips are divided equally between freeways and surface streets.  He gets an average of 43 miles per gallon.  A gallon of gas contains the energy equivalent of 37.9 kilowatt hours (KWH) of electricity.  Therefore, my son’s Prius gets 1.14 miles per KWH.
            To compare, I charged my Tesla fully at which point it said I had a range of 238 miles and then ran it down to a range of about 30 miles several times.  The first piece of bad news for Tesla owners is that while my range dropped an average of 208 miles, the car only traveled an average of only 144 miles – less than 70% of the promised range.  To cover those 144 miles, I used 51.2 KWH of electricity which comes to 2.80 miles per KWH – more than 2.5 times better than the Prius.  An apparent smashing victory for the Tesla.  BUT, Edison, my electricity supplier, had to produce the power.  At the margin, Edison generates electricity by burning natural gas.  On average, only about 43% of the energy in the natural gas is converted to electricity, the rest being lost as heat.  The Prius has the same problem only more so.  For every gallon of gas burned only about 25% serves to move the car forward.  However, that fact is already accounted for in the miles per gallon number.  Therefore, to compare apples to apples, account must be taken of the energy loss at the power plant.  Doing so reduces the effective mileage for the Tesla to 1.21 miles per KWH - nearly identical to that of the Prius.
            From a green standpoint, the Tesla has another advantage.  To produce a KWH of energy from natural gas, Edison emits 190 grams of CO2.  To produce a KWH of energy from gasoline, the Prius emits 250 grams.  (Natural gas burns cleaner than gasoline.)  Consequently, the Tesla emits 154 grams per mile, compared to 220 grams for the Prius.  Furthermore, the Tesla does hold out the possibility of becoming greener as electricity generation moves to renewal sources like wind and solar.  On the other hand, it presents the problem of what to do with the used batteries.  Given the current scale of renewal generation and electric car use, these are both issues for the future.
            The bottom line is that from an efficiency standpoint the Tesla and the Prius ended up in pretty much of a dead heat.  To give the Tesla it due, it is larger and faster.  With respect to the green factor, the Tesla turned out to be 30% better in terms of CO2 emissions.  Whether that currently is enough to justify the Tesla’s snob appeal, its dramatically higher price, and its state and federal subsidies is another question.

Sunday, December 18, 2016

"Stationarity" and Investing: What Can We Learn from History?

            The best way to explain stationarity is with an example.  Suppose I want to estimate what the rainfall will be in Pasadena, California during the year 2020.  The annual rainfall can be thought of as a random process with a given, but unobservable, mean and random variance around that mean.  The process is stationary if that unobservable mean is constant.  In that case, the mean can be estimated by an historical average.  The longer the historical data period, the more accurately the mean is estimated.  But all that assumes stationarity.  What if the true mean is changing?  To answer that question, consider a related problem.  Suppose I want to estimate LeBron James’ scoring average during the 2020 NBA season.  Averaging his scoring average over this career thus far is likely to be an upward biased measure.  The true, unobservable mean for a player’s scoring average is not constant, particularly later in his career.  It declines with age and at some point, it goes to zero when the player retires.  The random process that generates the annual scoring average is not stationary.

            What does all this have to do with investing?  Much quantitative investing is based on compiling massive data records and then searching them for relationships that can be used to predict future returns.  Given the size of the data sets and the speed of modern computers, many significant historical correlations are invariably discovered.  But are they stationary?  The world is a highly nonstationary place.  Governments come and go.  Wars are won and lost.  Technology changes the way we live and work.  Economic policies are in constant political flux.  It is quite a stretch to think that in such a world historical correlations will be stationary.  In other words, the LeBron James example is probably more accurate than the rainfall example.  (Note even the rainfall process may not be stationary if there is climate change.)  If that is the case, it is hard to know which relationships that computers kick out can be trusted and which cannot.  In a non-stationary world, it is easy to exaggerate the benefits investors can derive from “big data analysis.”  It may simply uncover past relations that are no longer applicable.

            Warren Buffett once quipped, “All we have learned from history is that people don’t learn from history.”  But in a world characterized by significant non-stationarity, it is not clear what history has to teach.

Monday, November 7, 2016

Market Efficiency and the Impact of Passive Investing

            In recent weeks the Wall Street Journal has been reporting on the increasing move to passive index investing as opposed to active management.  As reason for the move, the Journal points to the inability of active managers to beat the market after taking account of the fees they charge.  The implication is that the market is simply too efficient to justify active management fees.  There are two, now somewhat ancient lines of academic research, that are still highly relevant to the issues investors face in the current environment.

            First, in the early 1980s, Richard Roll and I and Joseph Stiglitz and Sanford Grossman demonstrated that markets can never be fully efficient.  Market efficiency, after all, is not due to some natural phenomenon.  It is the result of careful research by fundamental investors.  If those fundamental investors cannot earn a fair rate of return on the resources they put into investment research they will cut back.  But as fundamental investors cut back and indexing becomes more common, prices will begin to diverge from fair value making investment research more profitable. As a result, economic theory predicts that the market must be sufficiently inefficient to allow at least sophisticated investors to earn a fair return on their efforts by identifying mispriced securities.

            Second, William Sharpe demonstrated that it is a mistake to equate market efficiency with the inability of active investors, as a group, to outperform passive indexes.  A simple example illustrates why this is so.  Divide investors into two groups: passive investors who hold the market index and active investors who engage in research in an attempt to beat the market.  Suppose that in a given year the return on the market index is 10%.  By definition passive investors who index the market will also earn 10%.  But that means that active investors, as a group must also earn 10%, before costs.  Given the costs of active investing, active investors as a group must always do worse than passive investors.  As Sharpe stresses, this result has nothing to do with market efficiency – it is an arithmetic identity.  Even in the most wildly inefficient market passive investors as a group would still outperform active investors as a group taking account of costs and fees.  What is true is that if the market is highly efficient, so that few securities are mispriced, there is likely to be little superior or inferior performance among the class of active investors.  Conversely, if the market is more inefficient then the more sophisticated investors, who can identify mispriced securities, will benefit at the expense of less informed active investors.  But in either case, Sharpe’s arithmetic shows that active investors as a group will underperform passive investors, net of fees.

            For investors who think they have the skill to identify mispriced securities, it would be nice to know if the current movement toward indexing has led to increased market inefficiency.  Ideally, there would be an index of market efficiency that investors could use to judge how likely it would be to find mispriced securities.  Unfortunately, there is no such index and there is not likely to be one in the foreseeable future.  Asset prices are so volatile and market conditions are so variable that a reasonable index of “inefficiency” cannot be constructed.  That is why, fifty years after Eugene Fama introduced the idea of market efficiency, scholars are still arguing about how efficient the market is.  There is no evidence that the debate is subsiding.  While conceptually it follows that the move toward passive investing will lead to greater inefficiency, whether there has been any material change in market efficiency thus far is unknown.

Sunday, November 6, 2016

Technology Valuation and Barriers to Entry - A retrospective

       A constant theme of this blog has been the importance of barriers to entry in value creation.  Designing a cool new product will not create value if others can easily copy it.  In that vein, there were four key posts on this site.  It is time for a retrospective.

      A post on September 25, 2014 was entitled "GoPro Investors Have Gone Crazy."  GoPro is a prime example of a company that introduces a cool new product for which there are no significant barriers to entry (in the case of GoPro an action camera).  The market apparently failed to appreciate this fact because on the day of post the stock was trading at $81.31 with a massive P/E ratio.  As competition arose, the stock price tumbled.  Friday it closed at 11.16 down over 86%.

      A similar example is Fitbit which markets watch-like fitness trackers.  Fitbit was trading at $37.09 on October 22, 2015 when I wrote my post, "Not So Fitbit" which argued that the market was wide open to competition including major companies like Apple.  Friday the stock closed at $8.71 down over 76%.

      Tesla has been a common focus of this blog.  The last post was on April 2016, entitled "Tesla is Over $250 - Again," argued that the auto industry is just too competitive for Tesla to traded at multiples an order of magnitude higher than the competition.  At the time of the post, Tesla was trading at $255.47.  Friday the stock closed at $190.56 down over 25%.

     Finally, on November 20, 2015, I posted an article entitled, "Don't Be Square."  The argument there was that payments technology was becoming a hotly competitive business with companies like Apple and Samsung, among others, entering the fray.  On that day Square opened at $13.92.  Friday the stock closed at $12.18 down a meager 12.5%.  In my view, however, this stock has further to fall.  The market has yet to appreciate how fierce the payments battle is likely to become.


Friday, November 4, 2016

Global Warming in the Miami Airport

       This week I took a business trip to San Juan Puerto Rico via Miami.  A check of the weather before I left showed 80 degrees in Miami and 84 in San Juan.  Nice warm tropical weather.  To be safe, I packed a light sweather in case of aggressive restuarant air conditioning.

        During the three days I was gone I was freezing the whole time, even with my cotton sweater.  Because I am interested in energy conservation, I carry a digital therometer.  Cooling is highly energy intensive, much more so than heating.  In both the San Juan and Miami airports, where I spent way too much time, my thermometer never got above 69.  I wanted to go outside to warm up, but security presented that.

         Ironically, President Obama was in Miami as well campaigning for Hillary Clinton and mentioned her dedication to addressing climate change.  A first step in that effort is getting the incentives right.  Both Mr. Obama and Ms. Clinton stress the importance of government policy as opposed to market incentives in addressing the issue.  But both airports are run by public authorities and neither seems to have any interest in energy conservation.  I asked several employees, all wearing coats, why it was so cold.  Nobody knew.  In fact, nobody had any idea who set the temperature guidelines.

Monday, October 31, 2016

Valuing Computing Technology - An Update

            It has been a big month for product announcements by major technology companies and I see some valuation implications.  First, Google has now introduced a first rate phone.  I have been using mine for about a week and consider it to be the hardware equivalent of the iPhone 7.  This finally gives Google the platform it needs to showcase its software and update it in a timely fashion.  Android 7 with the Google Assistant is a great combination, but it would fail if the phone were inferior.  For instance, I bought a top of the line Lumia phone when it came out to give Windows Phone 10 a try.  The phone was so bad in terms of both esthetics and build quality that it was on eBay the same day.  The software never had a chance with me because the hardware platform was so bad.  The Google Nexus while superior to the Lumia was not on a par with Apple products.  With the Pixel, Google has not that made that mistake.
            More generally, economic theory highlights the importance of software firms producing first rate hardware.  Michael Spence won the Nobel Prize for his theory of market signaling.  Signaling works because firms with superior technology can signal their superiority by producing products that are too expensive for inferior firms to match.  After Lumia, Microsoft seems to have learned this lesson.  The Surface Studio it introduced last week (and I ordered on the spot) is a ground breaking product.  Even if it is too expensive for most consumers, it signals to the market the Microsoft has the technological talent to compete with, or even surpass, Apple in producing innovative products.  The development of such products is, in my opinion, a critical step for Microsoft and the current news is clearly positive.
            Apple also introduced new MacBooks last week.  While not as innovative as the Microsoft Surface Studio, the new MacBooks have the quality one comes to expect from Apple and the touch bar is a nice added feature.  The big problem for Apple is price.  In the past few months, companies like Asus, Lenovo and HP have introduced innovative new machines with designs that rival Apple at lower price points.  But the real problem for Apple as is at the very low end.  Apple’s least expensive new MacBook is $1,349 even with the educational discount.  This means that Apple has basically handed the K-12 school market to Chromebooks, and to a lesser extent inexpensive Windows machines.  I see that as a huge threat.  Students who grow up with Chrome and Android (or more likely the forthcoming combination) accompanied by Google productivity software are likely to stay in the Google universe, particularly if Google matches Apple’s phone hardware.  If that occurs, Apple is likely to be relegated to the role of a high end backwater – a possibility that has massive implications for the iPhone which is the major source of Apple’s revenue.  In my view, Apple is a bit like the frog in the pot who fails to jump out when the heat is slowly increased.  Apple has been in an enviable position milking the incredibly innovative products introduced under Steve Jobs.  The company needs to take big risks going forward to maintain that position as the competition heats up. 
            The real battle will involve combining hardware and AI software in beautifully designed and functional packages that make it easier and more enjoyable to interact with computers.  In the past Apple was the front runner in that effort, but that lead has vanished.  The future race will be exciting.
            So what are the investment implications of all the foregoing?  While the technological gains by Google and Microsoft are impressive, those gains have not been lost on the market.  The unfortunate fact is that there is no technology so good it cannot be overpriced.  Although it may be going too far to say the Microsoft and Google are overpriced, they certainly are not cheap.  Neither in my view is a particularly good investment.  Apple with its huge hoard of cash and is far less expensive according to any standard valuation ratio such as P/E.  But there is a reason for that too.  Unless Apple can unleash new creativity, I would not recommend purchase of Apple at the current levels.  The bottom line?  Chalk one up for market efficiency.       

Thursday, August 18, 2016

Apple and Warren Buffett - Full Disclosure

       Back in May I was writing on this blog that the market was unduly pessimistic regarding Apple.  While Apple faced challenges, to rationalize the market price in a discounted flow model required projecting permanently falling earnings.  Like any good investor, I put my money where my mouth was and took what for my fund was a very large position in Apple.  I was so bullish then that  I even penned an email to Warren Buffett (I had his email because I had done consulting work for Berkshire) recommending that Berkshire consider the stock.  The email read as follows:

May 3, 2016


You might cast your eye on Apple.  If it can maintain its earnings, even in nominal terms, it is a long-term bargain.  As to Apple's "moat" it is not just around the iPhone but the entire ecosystem including the software, brand names and the stores.  Plus it is certainly an "elephant" so that Berkshire could buy as much as it wanted without significantly moving the market price.

Warren Bradford Cornell

PS.  I have what for me is a meaningful position in Apple.  Also my suggestion is only for prices below $100.

      A little over two weeks later, it became public that Berkshire had purchased $1 billion of Apple stock. Two months later it was announced that Bershire's holding had increased to $1.5 billion. To be fair, I doubt my email had any impact on either decision. In fact, it is very unlikely that Mr. Buffett ever read it. Nonetheless, I was thankful for Berkshires purchases both of which, on announcement, were associated with increases in the price of Apple stock.

     When I penned the email and wrote my posts on Apple, the stock was in the low 90s. Since then two things have happened. First, the stock has risen sharply - closing today at 109.08. Second, my forecast of future cash flows has actually fallen in the past two months. The reason for the drop in my forecast is the growing storm of speculation that the iPhone 7 will only be a modest upgrade. If this is true, it reflects both a short-term and a long-term problem. The short-term problem is that earnings for the next year may not bounce back as many analysts have projected. But it is the long-term problem that worries me. Does Apple have the management and the culture necessary for it to remain an innovative leader? This has been a constant concern that has ebbed and flowed since the passing of Steve Jobs. For me, the iPhone 7 issue is a bad sign. So bad that today I liquidated the entire Apple position I was holding. I may be kicking myself when new products are announced in the fall, but on a risk return basis I could no longer justify holding the stock at a price close to $110. I guess I owe Mr. Buffett another email.

Wednesday, July 13, 2016

Math Skills and Public Policy

         Math skills lie at the heart of understanding investments. If there is one thing I tell investment enthusiasts, it is to learn the mathematical models necessary to analyze an investment. Unfortunately, that advice is rarely followed. The aversion to "doing the numbers" is not confined to investing. It is a symptom of a more general problem that the media compounds by presenting public policy issues in terms of graphic images and flowery language while and leaving out the numbers. Such reporting may draw attention, just as splashy investment advice does, but as in the investment world it leads to muddled thinking.

         Consider, for instance, the Black Lives Matter movement. I doubt that anyone would quarrel with the basic sentiment. What is odd is tying the sentiment to police shootings. Whether or not police shootings are a problem with the police or a problem with a violent society is a complex issue and one in which I have no expertise. But I do know numbers. As Heater MacDonald noted in her Wall Street Journal editorial, "Through July 9, 2,090 people have been shot this year in Chicago, including a 3-year-old boy shot on Father’s Day who will be paralyzed for life, an 11-year-old boy wounded on the Fourth of July, and a 4-year-old boy wounded last week." A hugely disproportionate number of those victims and shooters were black. By comparison, there were 9 police shootings in the same time span. So if Black Lives Matter people are apparently protesting the wrong thing. But without the numbers who is to know. So when considering public policy, as when considering investments, start with the math. It may not give you the answer, but it will at least help you ask the right question.

Monday, July 11, 2016

Secrecy and Theranos

       My knowledge of Theranos and its dramatic fall from grace is limited pretty much to the popular media - a source of which I am typically skeptical.  One exception, at least some of the time, is the Wall Street Journal.  Today they ran an in depth article on Theranos that focused on secrecy which as you know is one of my hot buttons.  The article points to another problem related to secrecy that I overlooked in my posts on Apple.  It is internally corrosive.  If only a few select people are privy to the secrets, colloboration breaks down and the elite lose the critical feedback so necessary for refining their opinions.  If a company with a culture of secrecy starts down the wrong path they are much less likely to self-correct than one in which open discussion is encouraged.

Mr. Musk and Growth Options

        Repeatedly I have marvelled at Mr. Musk's ability to convince the market that Tesla has growth options with his words.  Well he did it again.  Tesla has been struggling with bad news in recent weeks.  Production was below expectations, the government announced an investigation involving an auto driving death, and there was widespread criticism of Tesla's offer for Solar City.  But at the opening today the stock was up over $1 billion in market capitalization to a relative high for the past month.  Why?  Because Mr. Musk announced he is going to reveal a new secret master plan.  Wow.

Monday, July 4, 2016

Growth Options and CEO Compensation

It is that time of year when CEO compensation is revealed and debated.  The Los Angeles Times just published its list of the 100 highest paid executives in California for 2015.  At the top of this list were co-CEOs Mark Hurd and Safra Catz of Oracle, each of whom received total compensation of $53.25 million.  A lot of money to be sure, but as most compensation analysts note, not unreasonable given the impact their decisions can have on Oracle shareholders.  But if shareholder benefits are to be the basis for evaluating CEO compensation, how are shareholder benefits to be measured?
It seems like an obvious benchmark would be the company’s stock price performance during the year in question in relation to the overall market to and to an industry index.  Unfortunately, such a comparison is highly misleading.  To see why remember that stock markets are forward looking.  Today’s stock price depends on investor expectations of a company’s future performance.  Suppose, therefore, that company X hires the LeBron James of management.  At the time of the hiring, the stock price will jump to reflect the increase in future performance associated with having LaBron as CEO.  Assuming that in the year ahead LeBron outperforms all his competing managers as expected, the stock price over the course of the year will not beat the market and industry indexes because it already jumped at the outset.
If stock performance is not an appropriate metric, does the stock market provide any other indication of the value of CEOs to investors?  In my view, the answer is yes – the distinction between assets in place and growth options.  (See my previous post on the value of growth options.)  If most of the value of a company is due to assets in place, it means that a majority of the company’s value comes from milking currently existing products and technology.  No doubt a difficult task at a huge company, but hardly as difficult as innovating and developing new products.  If most of a value of a company is due to growth options, it means that the market has faith in the ability of the company to innovate and create new products.  What greater kudo could there be for the CEO than such a market belief?  Viewed in that light, it becomes evident how valuable certain leaders can be.  The chart below compares Oracle, Amazon and Facebook.  It shows that the growth options of Amazon and Facebook both exceed the total market capitalization of Oracle most of which comes from assets in place.  This drives home how valuable Mr. Bezos and Mr. Zuckerberg are to their respective companies.  The innovations related to their leadership are assoicated with hundreds of billions of market value.  Nonetheless, compared to the $106.5 million paid the Mr. Hurd and Ms. Catz, Mr. Bezos, annual compensation is less than $2 million while Mr. Zuckerberg’s take home a lofty $1.  Talk about a bargain.

Saturday, July 2, 2016

What Mr. Buffett "Understands"

Warren Buffett frequently repeats that he only invests in businesses that he “understands.”  That is why he avoids technology companies.  What I have always found frustrating about Mr. Buffett’s statement is that he never clearly explains what it is he does not understand.  Surely he knows that the value of any company is determined by its expected future cash flows.  Technology companies are no different that way.
I think the last post on my blog contains the key.  What Mr. Buffett does not understand are growth options.  In this, he has a lot of company.  Growth options are by their nature vague and uncertain.  They depend on unknown future innovations.  This is in sharp distinction to the value generated by asset in place that is determined largely by the current earnings and the “moat,” to use Mr. Buffett’s term, that protects those earnings from competition.  These are things Mr. Buffett can see and “understand.”  However, for companies like Facebook, Amazon and Tesla such assets in place account for only a fraction of their value.  The rest comes from the markets expectations regarding the value of future innovations – the company’s growth options.

           Viewed in this light, it is not surprising that the two technology companies that Berkshire owns are Apple and IBM.  The value of both companies is based almost exclusive (in the case of Apple more than exclusively) on assets in place.

Friday, July 1, 2016

The Value of "Growth Options"

             Financial economists divide the value of a company’s equity into two components: the value of “assets in place” and the value of “growth options.”  Although unfamiliar to many investors, the division is a highly useful tool.  To see why, both components must be defined clearly.  The first component, assets in place, has two parts.  The first part of assets in place is the cash on a company’s balance sheet net of its debt.  The second part is value the company could derive from its current earnings stream if it milked that stream for as long as it could without introducing new products and services.  The second component, growth options, is everything else.  Growth options represent the value of all the innovative things the company will do in the future.  This includes the new products it will sell, the new services it will offer, and the new ideas it will develop.  As such, it incorporates the value of innovations that, as of the current time, are not even imagined but which the market believes the creative people at the company will hit upon in the future.
            To actually divide the value of a company’s stock into the value of assets in place and the value of growth options requires making a number of assumptions and doing some financial mathematics.  For those who are interested, the process is described in leading MBA level finance textbooks such as Brealey and Myers.  I applied those techniques to six major technology companies: IBM, Apple, Facebook, Google, Amazon and Tesla as of the end of April 2016.  The results are presented in the chart below.
            Several observations are worth making.  To begin, virtually all of IBM’s $145 billion market capitalization is accounted for by assets in place.  This is what you might expect for a mature company that is expected to grow and innovate slowly.  Apple is more surprising.  The value of the assets in place is greater than the stock market capitalization by $135 billion.  This means the market expects Apple will be unable to effectively maintain its current position.  In contrast, for Google and Facebook much of the market value is accounted for by growth options.  At Facebook, more than 60% of the stock market value is attributable to future innovations that the market expects Mr. Zuckerberg and his team to produce.  Finally, at Amazon and Tesla virtually all of the market value is attributable to growth options.  That means if the companies fail to deliver on expected innovations, the market values will fall dramatically.
            The bottom line for investors is be aware of what you are paying for.  If you buy Apple, you are paying for a current earnings stream that is expected to decline.  If you buy Amazon or Facebook, you are paying for, in the large part, future innovations that have not yet seen the light of day.

Immigration by the Numbers

             Brexit has added an exclamation point to the realization that immigration is a critical issue to a growing fraction of people in the developed world.  Despite the vast amount of commentary on the issue, there is almost a total dearth of numbers.  What makes immigration such a critical issue, and a very different issue than it was in the past, are the numbers.  In 1850, when American immigration was booming the world population was 1,262 and America’s was only 23 million.  The population of Europe was 276 million which was 21.9 percent of the global total.
            Today the situation is dramatically different.  By the end of 2015, the world population had jumped by factor of six to 7,243 million.  The European fraction of had fallen to less than 10 percent.  In the last 50 years, European population growth has been essentially zero while the population of the Middle East and Africa have grown at 2.6 percent per year.
The internet has shown poor people throughout the world how nice it would be to live in a country such as Austria.  But Austria currently has a population of less than 9 million.  Syria alone has a population of almost 22 million.  There are an additional 78 million in Iran and 35 million in Iraq.  In Africa, the populations of Nigeria, Ethiopia, the Congo, and Tanzania are 179 million, 97 million, 69 million and 51 million, respectively.  Most of those people are poor and hoping for a better life.  Many would choose to move if they had the chance.  The numbers are even larger in Asian countries like Pakistan at 185 million and Bangladesh at 159 million.  Finally, there is India whose population of 1,267 million is equal to the total world population of 1850.  If even a small fraction of India’s poor were to emigrate they would quickly overwhelm virtually any host country.  The entire population of the UK is only 63 million.
In light of these numbers, and there are hundreds of millions of other potential immigrants I have not accounted for, it is not hard to understand why public opinion in Austria and the rest of Europe and North America is being transformed.  To complicate things further, the math just gets worse over time.  Population growth remains highest where people are poorest and political unrest is greatest, particularly in the Middle East and Africa, and slowest in the developed countries that are potential hosts.  In another generation, the situation will be even less stable.  Furthermore, given the limited number of people that host countries can possibly absorb, how will the select be chosen?
            The bottom line is that it makes little sense to speak of the immigration problem generically - it depends on the numbers.  And the numbers today are qualitatively different than they were a century or two ago.  It is no longer feasible for a sizeable fraction of the world’s poor to move developed countries.  As more citizens in developed countries become aware of this, resistance to immigration will surely grow.  It is unfair to call this Xenophobia.  It is recognition that in light of the number of people involved there is no “solution” to the immigration problem other than improved governance, faster economic development and slower population growth in the developing world.

Thursday, June 30, 2016

Second Guessing

To close the loop on my Brexit posts you would think I would be very happy.  I thought that the market overreacted.  To attempt to profit from that belief, I took a large long position in US equities after the initial drop.  The market did in fact bounce back and I covered at a tidy profit.  So I should be very happy, right?  Here once again is where the insidious psychology of investing arises.  In fact, I turned out to be "righter" than I gave myself credit for. As the chart below shows within six days the market had rebounded almost fully from the Brexit collapse.  But I profited from only part of the bounce back because I covered early.  My rational side says you made a good choice be happy and forget it.  But my emotional side continues to second guess.  This second guessing is the final aspect of what makes investment decision making so psychologically difficult.  Even when things go well, they could have gone better.  So don't feel bad if you second guess.  Most everyone does.  Just try to prevent it from guiding your investment decision making.

Wednesday, June 29, 2016

Position is Profitable: What Now?

Well the hardest investment question just got harder.  The large position I took in the S&P 500 on the Brexit drop on Friday, over which I was ringing my hands and discussing in this blog, is now marginally profitable.  (See chart below.)  So what do I do, take the profit?  This position was designed as a short-term trade and now it has worked to a degree.  Even though the market is not back to where it was before the Brexit decision, it is above the level to which it fell after the announcement.  Furthermore, I would not expect it to come all the way back.  After all, Brexit was bad news even if the market overreacted.  On net, it looks like time to unwind but the decision is not easy.  This is why most rational scholars recommend against trying to time the market!

Postscript.  As the profit rose further I decided to cover.  The chart has been updated to reflect the level at which the position was closed.

Monday, June 27, 2016

The Hardest Investment Question

On Friday, I wrote that I thought the reaction to Brexit was excessive and took an additional long position in US stocks.  Today (Monday) the market is down over 2%.  The decision I made was a short-run trading choice based on what I thought was an oversold market.  Well if the the market was oversold Friday, it is more oversold now.  So do I buy more?  On the other hand, if it thought the market would recover from Friday's drop and I was wrong does that mean I don't know what I am doing and should abandon the decision?  That to me is the hardest investment question.  When do you double down on your convictions and when do you conclude that you are wrong and cut back.  Unfortunately, I have no answer to the question.

Saturday, June 25, 2016

Brexit and the US Stock Market

        To evaluate the reaction of the US stock market to Brexit remember that stock prices reflect the discounted present value of expected future cash flows at the proper risk adjusted discount rate.  When the market drops sharply, it must be because the marginal investor has either reduced expectations for future cash flow or increased the discount rate.  While stories can be told about how the British action will depress American business, they seem farfetched.  In fact, it is even possible that turmoil in Europe could help American companies.  It is hard, therefore, for me to see how Brexit reduces expected cash flow for US companies.  The discount rate is a more likely culprit.  The fact that credit spreads widened indicates that investors were demanding greater expected return in light of what they thought was the enhanced risk of holding US equities.  That would explain the drop.  However, it is also hard for me to see how Brexit makes US equities riskier on a long-term basis and it is the long-term risk that ultimately determines the value of equity securities.   The bottom line is that Friday I did what I consistently recommend one should not do – try to time the market.  Because I see the drop as short-term, I piled into US equities with the hope of profiting in the next few weeks.  Bad decision?  Quite possibly.  Stay tuned.

Friday, June 24, 2016

Tesla Offers to Buy Solar City

In light of the number of times that Tesla has appeared in this blog, I would be remiss if I failed to weigh in on one of the most interesting and important developments at the company – its decision to make an offer for Solar City.  The offer has attracted a lot of interest in the financial press and most of it has been negative in the large part because of the drop in price of Tesla on the announcement.  But was it a bad decision of Musk’s part?  That is a subtle, deep and multifaceted question that I hope to explore in several future posts but first to the most basic question – is the offer price too high?  To answer that question the best place to start is with the market data, so that is the focus of this post.

The actual price that Musk offered was a range 0.122 to 0.131 shares of Tesla for each share of Solar City.  Such stock for stock transactions are more difficult to analyze because the effective cash price being offered depends on the value of the currency (Tesla stock) in which the sellers will be paid.  For instance, the drop in the price of Tesla stock on announcement of the proposed deal (bad for Tesla shareholders) resulted in a reduction in the effective price that would be paid (good for Tesla shareholders).  As a starting point, nonetheless, there is no better initial gauge than a comparison of the market values over time of what Tesla would be paying versus what the company would be getting.   The results plotted below offer support for Mr. Musk.  For most of the last year and half Solar City has traded well above the range he offered (the red band).  More recently, of course, it was less because by definition Mr. Musk would have to offer a premium to convince a majority of shareholders to sell into the deal.  Nonetheless, the premium was not large.  Thus, although the deal may have other issues, from a valuation perspective it is reasonable, if not attractive.

Thursday, June 23, 2016

Milton Friedman at the Airport

            While virtually everyone complains about air travels these days, I have always been at the forefront.  My wife, colleagues and friends became sufficiently exasperated with my constant complaining that they ordered me to get off my duff and apply for Global Entry or stop griping.  Global Entry is the process by which you can effectively apply for TSA pre-check on an international basis.  So, with trepidation based on my past experience with the DMV, the IRS and the Franchise Tax Board, among others, I decided to start the process rather than further aggravating my wife and friends.
            At first, I was pleasantly surprised.  The online form took no more than ½ hour to complete.  At the end, I was told that after the form was submitted, it would be reviewed and if the review was successful I would be contacted by email for an in-person interview lasting about 15 minutes.  Fortunately, my wife who had applied earlier, warned me about the email contact.  It would come from which she suspected I would interpret to be a Russian hacker and delete the message without opening it.  Boy was she right about that.  Despite the warning, I still almost deleted it.
            When I opened the email it told me to log into my account to schedule my interview.  On doing so, I was informed there are two interview sites in the greater Los Angeles area where I live, the Long Beach cruise terminal and the Los Angeles airport, LAX.  This seemed a bit thin for a metropolitan area of 15 million, but I forged ahead.  Given all my bad experiences with LAX, I chose Long Beach, despite the fact that it is further from my home, and clicked for an appointment.  The computer responded that there were no available appointments in Long Beach.  I thought that meant today, or tomorrow, but further investigation revealed I was wrong.  The computer meant ever.  There were no appointments available in Long Beach period.
            The situation was a little better at LAX.  There was one (only one that day) three months hence at 10 am.  But I was going to be in trial then so that date would not work.  It turned out if I was willing to travel to San Diego, about 120 miles from my house, there were several appointments available starting six weeks from now.  I decided to take one on the grounds that maybe I would take a San Diego vacation and spend my 15 minutes with the Global Entry folks.  Of course, this assumes that even if I make the trip my appointment will be honored.  Given my experience with the DMV, I have grave doubts about that.  Currently, therefore, my future with air travel status remains fraught with uncertainty
            As I write this, I cannot help think of the inspiring speeches by Barack Obama calling for new government programs to deal with health care, education, and poverty.  Of course, as I write this I am sitting in an airport waiting for a delayed flight after witnessing a fight over line cutting in a security line that was about an hour long.  In comparison, I imagine what would happen if after clicking to buy a product from Amazon I was told that they could never deliver it to my house but if I drove 120 miles I could pick it up in six weeks.  But with Amazon, unlike Global Entry, I have a choice to go elsewhere.  Having a choice brings to mind Milton Friedman, so I get online and order a new copy of this old book, Free to Choose.  It will be delivered tomorrow.

Sunday, June 12, 2016

A Great Reader Comment on Apple

    In response to my recent Apple posts I got a very thoughtful email from a reader.  It was so good that I thought it was worth sharing.

I agree and would also add “improved cloud based products, icloud data/photo storage, Apple Music, etc” to the list.

However, I don’t think that these failures individually are the biggest issue Apple faces.

I believe Apple derived much of it’s strength (and ability to maintain profit margins) from having really good integration within an all Apple system. Personally speaking, I owned Apple products exclusively because they all worked very well together and they were great cutting edge products. I was reliant on and happy with Apple for everything. This was fine when they were aggressively innovating. The switching costs of moving outside an all Apple infrastructure for me was high, and a the few minor annoyances I had with certain products never warranted a change.

However by failing to innovate and keep up with competition, that has changed. I now use Spotify(vs Apple Music) for music, Amazon Echo for Home Auto/Voice commands, Google Drive (vs iCloud) for cloud services, Netgear (vs Apple) wireless routers, and would have gone with a non-Apple external display if I did not already have one.

Failing to innovate on these matters, really threatens the whole Apple “system” and business model. A couple years ago, I would have never even considered getting a non-Apple phone or tablet. Now since I use many non-Apple services and products, the added integration benefit of an iPhone is much less. I am much less inclined to pay a premium for Apple products, now that I no longer “tied” to an Apple system, and I don’t think I am alone.

Granted, it is extremely difficult to remain competitive and innovative in all these areas. However, by failing to do so they are not only losing out on individual services/products but more importantly their entire customer allegiance and relationship.

One more thing on Apple

      I know I am a broken record regarding Apple's policy of secret development followed by grand introductions  but I fear it has lead them to ignore small piecemeal upgrades.  I put the following in that category.

Failure to routinely upgrade Apple TV
Letting the MacPro die by not improving the data ports and not introducing a 5k external display
Ditto on the data ports for the iMac
Delaying 13 and 15 MacBook upgrades for too long
Going years without introducing new wireless routers
Letting Siri fall behind competing products

      I'll bet if you think for a while you can come up with other examples.  I can live with Apple working on secret products like a car for "grand introductions" if they feel they must.  But as a recurrent shareholder I cannot accept the slow process of basic innovation.  The company has too much talent to dwaddle like this.

Wednesday, June 1, 2016

The Apple Investment Thesis: Some Doubts

           Recently, this blog has focused on two aspects of the investment Apple story.  One is that by any reasonable standard the stock is extraordinarily cheap.  The other is that the Apple policy of tight secrecy followed by grand announcements is harming the company.  Going forward the two may become more closely related than I appreciated heretofore.
           In the days when the most rapid innovation in consumer electronics involved fundamentally new hardware, the Apple secrecy policy made more sense.  Develop a new hardware product in secret (iPod, iPhone and iPad) and then announce it to great fanfare.  While I still suspect that Apple may have succeeded in spite of this policy, not because of it, those days are over.  Looking ahead, it is hard not to believe that future innovation will in software more than hardware.  The fundamental issue is this.  Computers keep getting faster and smarter, but humans remain humans.  We keep bumbling along the way we always have except now we are asking computers to help us with our bumbling.  Future value creators will be firms the can harness artificial intelligence (AI) to help us bumble more effectively.  But the process of developing such AI is almost sure to be an interactive one.  Companies come up with initial products.  Customers interact with the products and complain.  Companies upgrade the product in response to which customers develop new complaints and so on ad infinitum.  The point is that to be successful AI developers will need constant feedback from their customers who become, in effect, part of the development team.  Keeping customers in the dark until some secret project makes a grand entrance is not going to work in this space.
           From an investment perspective, I fear that Apple has not embraced this new landscape as completely as competitors including Google, Amazon, Facebook and even Microsoft.  If so, there may be a good reason why Apple’s stock is so cheap.  If future AI turns out to be the driver of future devices sales, Apple better get on board quickly and invite its customers onto the ship as well.  As I have said in the past, Apple’s integrated combination of hardware and software gives it a leg up in solving future problems for its customers, but it will have to innovate aggressively in the AI space to take advantage of that.  The key investment question is whether Apple will do so.

Sunday, May 22, 2016

Go Pro - A Retrospective

In September 2014, I wrote the following.

        The most overlooked fundamental of valuation is that rapid growth in earnings over the long term requires a moat that provides a quasi-permanent barrier to entry.  Very few companies are surrounded by such moats.  Having a cool product today is not such a barrier unless it is the case that competitors cannot match the cool product tomorrow.  Rarely is that the case.
           With a P/E ratio approaching 250, Go Pro is priced as if it has a large, stable moat around its products.  This is almost certainly not the case.  Gadgets like cameras are inherently reproducible and there are many Chinese, Japanese and even American companies ready to jump into the action camera market.  Go Pro seems to realize this and is trying to become a type of social media company with its own sharing platform.  Good luck.  The competition in that space, including You Tube and Facebook, is even more intense.
           The bottom line is that Go Pro is a great, creative company but it is wildly overvalued.  Investors buying Go Pro at prices of $75 or more are either betting on momentum or have “gone crazy.”

         Today Go Pro is price at $9.15.  The price suggests an action camera make in a competitive market.  The interesting question is why it took the market 20 months to recognize this.  The even more interesting question is are there similar instances of mispricing out there.

Saturday, May 14, 2016

Apple Should Forget the Secrecy

           One of the hallmarks of Steve Jobs management policies at Apple was secrecy.  Products were never discussed prior to launch.  The focus on secrecy was so intense that the company even had ongoing fake programs to fool employees as to what might be introduced.  Leaking company secrets meant immediate termination.
           In my view, Apple succeeded under Jobs in spite of, not because of, his obsession with secrecy.  The flow of exciting new products that Jobs could unveil in is keynotes was sufficient to keep customers happy and employees satisfied despite the KGB atmosphere surrounding their development.  But as the backlog of innovation slows, Apple should open the door.  Note that Elon Musk pursues a strategy that is 180 degrees opposite to that of Jobs.  He introduces products years before they are ready to ship, builds hype, and uses customer and critic feedback to address issues that arise.  Apple should do the same.  Not only would that make customers feel closer to the company, but employees could share ideas openly and talk proudly about what they were working on, fostering collaboration and innovation.
           This does not mean that every detail should be released, so as to not allow copies to be made too quickly, only the concepts.  For instance, if Apple is indeed working on a car – say so.  Does Apple really hope to have a keynote and roll out a new automobile in 2020 with no customer feedback?  That would be nutty.
           What about failures you might ask.  If the company preannounces a product and then the products bombs isn’t that a disaster?  No.  Remember Google glass and the Amazon phone?  Bombs to be sure but they hardly slowed the companies.  As Linus Pauling once said when asked how he came up with such great ideas he observed, I come up with 10 times that many ideas and throw away the 90% that are bad.  Apples customers and critics could help the company throw away those aspects of its new ideas that are bad.  Google’s customers did exactly that.
           In short, it is time to forget the secrecy.  Innovation requires open exchange.  Freedom of expression also makes for a much more enjoyable work environment that promotes creative thinking.  And there is nothing Apple needs more now than creative thinking and innovation.

Thursday, May 5, 2016

The Market's Apple Pessimism

            The recent focus of this blog has been on how deeply pessimistic the market has become with respect to Apple.  Here is another take on the same theme.  The table below compares the four largest tech companies: Apple, Google, Amazon and Facebook.  Notice that although Apple still has the largest market value (equity plus debt) that is due in large part to its huge hoard of cash and investments.  With respect to operating value, Apple is now well behind Google with Facebook and Amazon nipping at its heels.  This is true in spite of the fact that over the last twelve months Apple had before-tax operating income more than 3 times that of Google, 9 times that of Facebook, and 20 times that of Amazon.  The market sees a bleak future for Apple indeed.  Particularly, when compared to its major competitors.

in billions Apple Google Amazon Facebook
Market Cap 510 488 312 340
Debt 80 5 8 0
Market Value 590 493 320 340
Cash & Investments 232 78 16 20
Operating Value 358 415 304 320
Op Income (LTM, BT) 66.8 20.3 3.1 7.3

Tuesday, May 3, 2016

Another Simple Calculation for Apple

           In the last 12 months, including the most recent quarter, Apple had a total net income of $50,678 million.  Taking this as a fair estimate of the cash flow available to equity holders, which in the case of Apple it is close, we can do a simple calculation.  The one other necessary input for the calculation is the cost of equity capital.  Here a reasonable estimate is 8.5%.  (See Aswath Damodaran’s blog on valuing Apple for details related to estimating this number).
           If we assume that Apple’s earnings will be stuck forever at this number, the value of the equity can be approximated by 50,678/0.085 = $596,211.  This translates into a per share value of $108.80.  But that leaves out the cash and Apple has more than $35 per share in cash!  Furthermore, it is important to recognize that the earnings calculation was done in nominal terms – that is there is no adjustment for inflation.  If we assume that the long-run inflation rate is 2%, it means that in real terms the calculation assumes that Apple’s earnings will fall by 2% each year.  That seems like a very low bar for Apple to get over.  Nonetheless, it leads to a valuation well in excess of the current market price.  The simple calculation shows how deeply pessimistic the market is regarding Apple’s future.

Sunday, May 1, 2016

The Most Important Number in Finance

     The most important number in finance is the equity risk premium - the return that investors can expect from holding the market portfolio of common stocks in excess of the return on 20-year government securities.  Unfortunately, the number is unknown.  As a result, hundreds of articles have been written on the subject offering estimates of what it might be.  Below I offer my take on what the literature has to say and what a reasonable estimate of the risk premium is likely to be.

           With regard to the equity risk premium, there is now widespread support for the view expressed that expected stock returns vary over time.  John Cochrane (2011), began his Presidential Address to the American Finance Association with the statement that “Discount rates (i.e. expected eturns) vary over time.”[1]  Recent finance Nobel Prize winner, Eugene Fama, citing various leading scholars as well as himself, stated as early as 1990 that, “There is also evidence that expected returns (and thus the discount rates that price expected cash flows) vary through time (for example, Fama and Schwert (1977), Keim and Stambaugh (1986), Campbell and Shiller (1998) and Fama and French (1988, 1989).”[2],[3]  In his Nobel lecture in 2013, Fama returned to this theme stating that, “As noted above, early work on market efficiency generally assumes that equilibrium expected stock returns are constant through time. This is unlikely to be true. The expected return on a stock contains compensation for bearing the risk of the return. Both the risk and the willingness of investors to bear the risk are likely to change over time, leading to a time-varying expected return.”[4]

           Given that expected stock returns (and, therefore, equity risk premiums) vary through time, it would be pure serendipity if a long-run historical average (currently about 6.7% measured with respect to 20-year Treasury securities over the period from 1926 to 2015) happened to be a good estimate of the risk premium at the end of 2015.  But the argument for using an historical average is even weaker than that because there are host of reasons why the equity risk premium is likely to have declined over time.  As discussed by Cornell (2013), those reasons include, in no particular order:[5]
1.      Increases in market liquidity along with improvements in trading technology and record keeping.
2.      Innovations in capital market regulation and oversight to protect investors including the establishment of the Securities Exchange Commission.

3.      Advances in economic theory and policy leading to increased stabilization of the economy.

4.      Advances in asset pricing and portfolio theory leading to improved risk measurement and investment management.

5.      The expansion of stock market participation via the invention of mutual funds and the creation of the modern retirement savings system.

6.      The collection and dispersion of data on the financial performance of equity investments leading to, among other things, investor appreciation that equities are not exotic investments with an unacceptable level of risk.

7.      A decline in the volatility of the return on the market portfolio.

8.      An aging of the U.S. population that will likely sell equities to fund retirement reducing expected market returns.

Assuming that the risk premium has declined over the last ninety years, an historical average will be an upward biased average of the current risk premium.  That bias can be reduced somewhat by using the so called supply side risk premium (currently about 6.1% measured with respect to 20-year Treasury securities) which deducts from the historical average the portion of the return attributable to expansion of price-earnings ratios on the grounds that such expansion will not be repeated.  There is no reason to assume, however, that this somewhat ad hoc deduction is sufficient to account for all the factors listed above.

           All of the foregoing consideration apply to U.S. data.  It is common for analysts to rely on U.S. because it is the most complete and the most accurate.  But that itself is a problem.  The U.S data is so clean because during the last century, the United States became the world’s leading economy, it was politically stable, it did not lose a war, and it had the most rapidly growing financial markets.  For all of those reasons, the historical U.S. data are likely to be biased.  From the perspective of 1900, investors would that the U.S. would be blessed over the next 115 years.  To overcome this bias, Dimson, Marsh and Staunton (2002) look at stock market returns on a global basis throughout the 20th century.[6]  They conclude that historical averages based on U.S. data likely overstate the forward looking equity risk premium.

           Aware of the potential biases inherent in the use of historical averages, particularly those based exclusively on U.S. data, academics and practitioners have turned to other approaches for estimating the equity risk premium.  One of the most widely accepted is the discounted cash flow model applied to the market as a whole.  Given the current observable price index for the market and predictions regarding either future cash flows to equity or future dividends, one can calculate the discount rate that equates the present value of the predicted cash flows (or dividends) to the index.  This discount rate is by definition the average future expected rate of return over the long run.[7]  Prof. Aswath Damodaran publishes on his website a monthly time series of the forward looking equity risk premiums calculated using his measure of expected future cash flow.  His most current estimate for November 2015 is approximately 5.6% calculated with respect to the yield on 20-year government bonds.  He also estimates the ERP using projected dividends instead of his measure of cash flow to equity.  In November, his dividend based model yielded an ERP of less than 4.0%.

           Another alternative is to survey experts including academics, financial officers, and investment managers as to what they expect the ERP to be in the futures.  The problem with surveys, of course, is that it depends on who you ask, when you ask them, and even how you phrase the question.  Nonetheless, most surveys result in ERPs below the long-run average and even below the supply side estimate.  An extensive survey of CFOs by Graham and Harvey reported an average risk premium of 3.11% - more than 3 percentage points below the historical average.[8]  Based on survey of 150 valuation and finance textbooks, Fernandez reports and an average ERP of 4.80%, well below the historical average and the supply side estimates.[9]

           Turning back to historical averages, Fama and French (2012) demonstrate that if dividend and earnings growth rates rather than stock price changes are used to measure the expected rate of capital gain more accurate estimates of the ERP can be produced.  Using this procedure, the authors conclude that “Our estimates for 1951 to 2000, 2.55 percent and 4.32 percent, are much lower than the equity premium produced by the average stock return, 7.43 percent. . . Our main conclusion is that the average stock return of the last half-century is a lot higher than expected.”[10]  Updates of the Fama-French study using more current data report similar results.[11]

           These findings are also consistent with very long-run historical data.  For example, Levi and Welch report, based on reconstruction of U.S. data over the last two centuries, that the average premium of equities over long-term government bonds has been on the order of 4%.[12]

           Finally, there is a conceptual question as to whether the historical arithmetic average is the proper number in the first place.  To begin, McKinsey & Company (2010) observes that the arithmetic average is the best predictor of the risk premium for next year if the data are stationary and not correlated over time.  But the McKinsey book goes on to note that “A one-period risk premium, however, can’t value a company with many years of cash flow.  Instead, long-dated cash flows must be discounted using a compound rate of return.”  This is not a problem for forward looking models that explicitly solve for a compound rate of return.  But it is as reason not to rely on the historical arithmetic average.  In light of this problem, and other considerations they discuss, McKinsey concludes that the appropriate equity risk premium is in a range of 4.5 to 5.5 percent.[13]

           The research cited here is a small subset of the papers that have been written on the equity risk premium.  The literature largely agrees on two propositions: 1) That risk premiums vary over time and 2) That past averages are unlikely to an appropriate estimate of the risk premium to use in the context of corporate valuation.  However, there is less agreement on precisely how to estimate the premium and on its current level.  Based on my reading of this extensive literature, and for the reasons discussed above, I conclude that a reasonable estimate of the equity risk premium is no more than 5.50 percent.

           As a final note of support for my conclusion, Duff & Phelps, the firm that has taken over the commercial task of producing data on the historical and supply side equity risk premiums also reports its own recommended equity risk premium.  In the most recent update to the firm’s Valuation Handbook, Duff & Phelps recommended an equity risk premium over 20-year Treasury securities of 5.0 percent.[14]  Like my choice, the Duff & Phelps recommendation is not based on any one piece of evidence, but instead on the firm’s review of what it believes are all the relevant materials.

[1] Cochrane, John H., 2011, Discount rates, Journal of Finance, 66, 1047-1108.
[2] Fama, Eugene F., 1990, Stock returns, expected returns and real activity, Journal of Finance, 45, 1089-1108. 
[3] Fama, Eugene F. and G. William Schwert, 1997, Asset returns and inflation, Journal of Financial Economics, 5, 115-146.  Campbell, John Y. and Robert Shiller, 1988, The dividend price ratio and expectations of future dividends and discount factors, Review of Financial Studies, 1, 195-228.  Fama, Eugene F. and Kenneth R. French, 1988, Dividend yields and expected stock returns, Journal of Financial Economics, 22, 3-25.  Fama, Eugene F. and Kenneth R. French, 1989, Business conditions and expected returns on stocks and bonds, Journal of Financial Economics, 25, 23-49.  Keim, Donald B. and Robert F. Stambaugh, 1986, Journal of Financial Economics, 17, 357-390.
[4] Fama, Eugene F., 2013, Two pillars of asset pricing, Nobel Prize Lecture.
[5] Cornell, Bradford, 2013, Dividend-price ratios and stock returns: Another look at the history,” Journal of Investing, 22, 2, 15–22.
[6] Dimson, Elroy, Paul Marsh and Mike Staunton, 2002, Triumph of the optimists: 101 years of global investment returns, Princeton University Press, Princeton, NJ.
[7] Damodaran, Aswath, 2015, Equity risk premiums (ERP): Determinants, estimation and implications – The 2015 edition,” unpublished working paper, New York University.
[8] Graham, John R. and Campbell R. Harvey, 2015, The equity risk premium in 2014, unpublished working paper, Fuqua School of Business, Duke University.
[9] Fernandez, Pablo, 2015, The equity premium in 150 textbooks, unpublished working paper, IESE Business School.
[10] Fama, Eugene F. and Kenneth R. French, 2002, The equity risk premium, Journal of Finance, 57, 637-659.
[11] Cornell, Bradford and Max Moroz, 2009, The equity risk premium revisited, unpublished working paper, Research Affiliates LLC.
[12] Levi, Yaron and Ivo Welch, 2015, Assessing cost-of-capital inputs, unpublished working paper, Anderson School of Management, UCLA.
[13] Koller, Tim, Marc Goedhart and David Wessels, 2010, Valuation: Measuring and managing the value of companies 5th edition, McKinsey & Company, New York,
[14] Duff & Phelps, 2015, Valuation Handbook: Quarterly update, New York.