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O. Young Kwon, NYU Ph.D. in Economics had worked in securities industry for ten years as a Registered Investment Adviser. He taught Macroeconomics and Statistics. Prior to his academic career, he was an Economist/Bank Supervisor at the Bank of Korea (the Fed's counterpart). In 2009 he set up the... More
  • The Perplexity of a Low Beta : The Case of Netflix
    In general, short-term traders follow volatile stocks. Option traders and short sellers, in particular, are more sensitive to the volatility of ETFs and equities because of their relatively short period of investing. Relatively longer-term investors also pay due attention on any historical price patterns of stocks.
     
    Betas for most securities are available so that we use them as a proxy of the expected volatility. The beta (0.48) of Netflix (NASDAQ:NFLX), however, is puzzled. The betas of nine securities – SPY (SPDR S&P as a proxy of the market), AMZN (Amazon.com), BIDU (Baidu.com), NFLX, IBM (International Business Machines), CMG (Chipotle Mexican Grill), KFT (Kraft Foods), MCD (McDonald’s), and YUM (Yum Brands) are:
     
    Security
    SPY
    AMZN
    BIDU
    IBM
    NFLX
    CMG
    KFT
    MCD
    YUM
    BETA
    1.00
    1.18
    1.72
    1.24
    0.48
    1.02
    0.58
    0.52
    1.01
     
    The questions are why NFLX has a low beta, which is less than one third of the BIDU‘s beta, and lower than MCD’s, and why the betas of technology stocks (except BIDU).are not much higher than food stocks,
     
    The beta (a) measures the volatility of a security relative to the market volatility, and (b) incorporates the correlation of returns between the security and the market. To get some empirical evidence, stock prices of nine securities (9/2/2010 to 1/14/2011) are used.
     
    First, to measure the volatility of securities, standard deviations are calculated, and were standardized, as shown in the following table. (Note: STDEV is standard deviation. MEAN is average. S/M is comparable)  
     
    Security
    SPY
    AMZN
    BIDU
    IBM
    NFLX
    CMG
    KFT
    MCD
    YUM
    STDEV(NYSE:S)
    5.10
    13.65
    8.08
    6.39
    16.69
    29.44
    0.56
    1.89
    1.99
    MEAN(NYSE:M)
    119.69
    166.76
    101.90
    140.95
    170.14
    208.45
    31.22
    76.78
    48.65
    S/M
    0.043
    0.082
    0.079
    0.045
    0.098
    0.141
    0.018
    0.025
    0.041
     
    CMG (0.141) is most volatile, following by NFLX (0.098), AMZN (0.082), and BIDU (0.079), as we expected. IBM (0.045) and YUM (0.041) are moderate. MCD (0.025) and KFT (0.018) are least volatile.
     
     
    Second, to capture the correlation components, the correlation coefficients and daily percentage changes are computed. Following two tables are the results (9/2/2010 – 1/14/2011).
       
    Security
    SPY
    AMZN
    BIDU
    IBM
    NFLX
    CMG
    KFT
    MCD
    YUM
    SPY
    1.00
    0.95
    0.59
    0.93
    0.79
    0.77
    0.18
    0.19
    0.73
    AMZN
    0.95
    1.00
    0.66
    0.91
    0.88
    0.82
    0.17
    0.25
    0.74
    BIDU
    0.59
    0.66
    1.00
    0.79
    0.72
    0.73
    0.02
    0.61
    0.85
    IBM
    0.93
    0.91
    0.79
    1.00
    0.80
    0.84
    0.10
    0.42
    0.88
    NFLX
    0.79
    0.88
    0.72
    0.80
    1.00
    0.90
    (0.10)
    0.40
    0.74
    CMG
    0.77
    0.82
    0.73
    0.84
    0.90
    1.00
    (0.22)
    0.60
    0.87
    KFT
    0.18
    0.17
    0.02
    0.10
    (0.10)
    0.40
    1.00
    (0.24)
    0.00
    MCD
    0.19
    0.25
    0.61
    0.42
    0.40
    0.74
    (0.24)
    1.00
    0.74
    YUM
    0.73
    0.74
    0.85
    0.88
    0.74
    0.00
    0.00
    0.74
    1.00
     
    Read the SPY line. AMZN (0.95) and IBM (0.93) are most correlated with the market, following by NFLX (0.79), CMG (0.77), YUM (0.73), and BIDU (0.59). KFT (0.18) and MCD (0.19) are least correlated. The technology stocks are more correlated than food stocks.
     
    The correlations among securities : (a) Top 4 – AMZN & IBM (0.91), NFLX & CMG (0.90), AMZN & NFLX (0.88), and NFLX & IBM (0.80). (b) No correlation – YUM & CMG (0.00) and YUM and KFT (0.00). (c) negative correlations – NFLX & KFT (-0.10), CMG & KFT (-0.22), and MCD & KFT (-0.24).
     
    Implications:
     
    (a)    The stock market is now in the second stage of a bull market. In the early stage, ETF trading was dominated, resulting that the correlations with the market tend to be higher. When a bull market has matured, individual security selections become more popular. As a result, the correlations either with the market or among securities become weaker.
     
    (b)   High flyers (NFLX, CMG, and BIDU) made, quite often, huge intraday swings last year. Therefore, the correlations calculated with the closing prices are not accurate for them.
     
     
     

     
                      The Scores of the Against-the-Market Run (12/13/2010 – 1/14/2011)
     
    SPY
    AMZN
    BIDU
    IBM
    NFLX
    CMG
    KFT
    MCD
    YUM
    12/13/2010
    0.1%
    -0.8%
    0.4%
    -0.4%
    -5.7%
    -5.2%
    0.4%
    -0.6%
    -1.6%
    12/14/2010
    0.1%
    -0.2%
    -1.6%
    1.1%
    -3.0%
    0.8%
    1.6%
    0.0%
    0.0%
    12/15/2010
    -0.5%
    0.9%
    -6.2%
    -0.8%
    0.0%
    -0.5%
    0.3%
    -0.2%
    -0.6%
    12/15/2010
    0.6%
    1.4%
    -2.0%
    -0.3%
    1.7%
    3.5%
    0.5%
    -0.4%
    1.8%
    12/17/2010
    -0.4%
    -0.3%
    0.4%
    0.4%
    -0.9%
    1.4%
    0.9%
    0.1%
    0.1%
    12/20/2010
    0.2%
    3.2%
    0.1%
    -0.3%
    -1.1%
    -0.8%
    -0.6%
    0.1%
    -0.9%
    12/21/2010
    0.6%
    0.8%
    2.5%
    0.8%
    4.5%
    -0.7%
    0.3%
    -0.6%
    0.8%
    12/22/2010
    0.3%
    0.0%
    -0.7%
    0.1%
    -0.5%
    -1.1%
    0.1%
    0.7%
    0.1%
    12/23/2010
    -0.1%
    -1.2%
    1.6%
    0.0%
    -0.4%
    -1.5%
    0.0%
    -0.1%
    -0.9%
    12/27/2010
    0.0%
    0.3%
    -2.0%
    -0.4%
    -2.5%
    -2.5%
    -0.9%
    -0.7%
    -0.3%
    12/28/2010
    0.1%
    -1.1%
    -1.4%
    0.3%
    2.0%
    -1.2%
    0.8%
    0.0%
    -0.6%
    12/29/2010
    0.1%
    1.3%
    0.4%
    0.6%
    -1.9%
    0.5%
    -0.9%
    0.7%
    0.7%
    12/30/2010
    -0.2%
    -0.3%
    -0.9%
    0.1%
    -0.3%
    -1.5%
    -0.2%
    -0.3%
    -0.6%
    12/31/2011
    0.0%
    -1.5%
    -1.7%
    0.1%
    -2.3%
    -2.3%
    0.0%
    0.0%
    -0.5%
    1/3/2011
    1.0%
    2.3%
    3.3%
    0.5%
    1.5%
    5.0%
    0.5%
    -0.2%
    0.1%
    1/4/2011
    -0.1%
    0.4%
    1.2%
    0.1%
    1.6%
    -0.6%
    -0.2%
    -3.0%
    -1.5%
    1/5/2011
    0.5%
    1.3%
    3.6%
    -0.4%
    -0.9%
    -0.6%
    -0.2%
    0.5%
    0.5%
    1/6/2011
    -0.2%
    -0.8%
    0.5%
    1.1%
    -1.0%
    2.5%
    -0.8%
    -0.6%
    0.7%
    1/7/2011
    -0.2%
    -0.2%
    1.7%
    -0.5%
    0.7%
    -1.0%
    -0.3%
    0.1%
    1.2%
    1/10/2011
    -0.1%
    -0.4%
    -0.9%
    -0.2%
    4.7%
    -0.3%
    0.1%
    -1.0%
    0.1%
    1/11/2011
    0.4%
    -0.2%
    0.3%
    -0.2%
    -0.7%
    -1.3%
    0.3%
    0.5%
    -0.6%
    1/12/2011
    0.9%
    -0.1%
    -0.3%
    1.2%
    1.2%
    -1.4%
    0.7%
    -0.4%
    -0.2%
    1/13/2011
    -0.2%
    0.8%
    0.3%
    -0.6%
    1.4%
    5.4%
    -0.2%
    -1.3%
    -0.5%
    1/14/2011
    0.7%
    1.7%
    1.4%
    1.2%
    0.0%
    2.3%
    -0.3%
    1.9%
    -2.2%
    Scores
    N/A
    8
    9
    8
    10
    11
    7
    7
    7
     
    This table shows on what day eight securities move to the opposite direction of the market (NYSEARCA:SPY) and how many times during Dec 13, 2010 to Jan. 14, 2011. The finding is that all stocks are showing a similar pattern, ranging 7 to 11 times. The trend, however, differs. AMZN, NFLX, CMG, and YUM become more often recently while IBM, KFT, and MCD become less frequent.
     
    Can we solve the puzzle of the low beta of NFLX, compared with BIDU? The answer is not conclusive.
     
    The correlation coefficient is directly and the standard deviation is indirectly related to the numerator (covariance) of beta. The denominator of beta is variance of returns of the market. The following table is a summary of the relationship between NFLX and BIDE, and the relationship between MCD and CMG.

     
                 Security
    SPY
    NFLX
    BIDU
    MCD
    CMG
    beta
    1.00
    0.48
    1.72
    0.52
    1.02
    correlation coefficient
    1.00
    0.79
    0.59
    0.19
    0.77
    standard deviation (S)
    5.10
    16.69
    6.39
    1.89
    29.44
    Average (M)
    119.69
    170.14
    140.95
    76.78
    208.45
    S/M
    0.043
    0.098
    0.045
    0.025
    0.141
     
    The betas of MCD (0.52) and CMG (1.02) can be roughly justified by their correlation coefficients (0.19 and 0.77.77)
    0.77) and the figures of S/M (0.025 and 0.141). The betas of NFLX and BIDU (0.48 and 1.72) can not be explained by their correlation coefficients (0.79 and 0.59) and the figures of S/M (0.098 and 0.045).
     
    Obviously the beta (0.48) of Netflix understates the volatility or risk of the security. I cannot explain why precisely. One plausible answer is the closing price effect, meaning that the intraday swings are not captured.
     
     
     
     
    Jan 22 5:09 AM | Link | 2 Comments
  • The Fed : A Lonesome Inflation Fighter
    Bad decision-making and bad legislation sometime follow any unexpected financial crisis. Any financial crisis is so complex that policymakers are not ready to fight it in the right direction and in a right sequence of employment among available measures. Lawmakers are also reviewing the current laws. They are revising current laws or are enacting new ones to prevent the recurrence of the same crisis in the future.
     
    The monetary policy and bank supervisory power of the Fed should not be blamed as a major cause of the unprecedented financial crisis (2007 to 2009). Therefore, it is not relevant to revise the law to beef up the regulatory power. The causes of the world wide financial turmoil are still controversial. The consensus view dwells on (a) global imbalance of spending and saving, (b) lax regulation for derivatives and hedge funds, (c) the Fed’s low interest policy, and (d) subsidies for home ownership. We still debate over which one is the primary one. At any rate, the Fed policy and supervision cannot be singled out as the major cause of the crisis. In a more deep-rooted sense, the Congress itself is responsible for the related laws to support tax benefits and home mortgages, which contributed fundamentally and steadily to the housing bubbles.
     
    The Fed actually deserves credit for saving the near collapse of the world financial market, which was frozen in 2008. The Fed also has engaged in mitigating the extremely severe downswing of the economy by pumping in liquidity. The Fed haters, however, simply insist that the Fed made this turmoil and bailed out banks with taxpayers’ money. This year (2010) aggressive anti-Fed movements prevailed in the Congress to strip the Fed power without a success. One Congressman even “favors abolishing the Fed.” (Fortune, 2/8/2010, p100). The mid-term election might reinforce the Fed Critic camp. We expect the much tougher blows on the face of the Fed in the coming Congress.
     
    A word about the nature of the financial market in general and the banking industry in particular is in order. This kind of financial services area is far much more delicate, innovation-oriented, and rapidly moving, compared to other industries. As a result, regulating financial services including banking is a very challenging job. Early this year the administration suddenly announced that it would rein in the risky practices of banks. It was the so-called Volker Rule. The misstep of this action is twofold. One is they did not consult with other countries. The other one is whether the Volker Rule is implementable. The commodity which the financial services industry is handling is money. Money affects inflation because money is a medium of exchange. Unfortunately, due mainly to globalization and financial-market innovation, money itself has become very hard to measure and less useful as a forecasting tool. As a consequence, interest rates are driving money supply out into the area of central banking and financial markets.
     
    Inflation affects every nation, every institution, and every individual and company. Inflation pressure is building up slowly at the beginning, but once it has momentum it accelerates all of sudden. At that stage, it is very hard to slow down. Historically the price control has been proved to be ineffective in many countries. We had a bad experience with Nixon. Do not worry about inflation now? Look back the Carter-Regan era. To prevent inflation, we need a loyal guard to watch any symptom of inflation on a full time basis, not by relatively short-term politically appointed policymakers. It's better to stop stoning the Fed. The Fed is just the lonesome inflation fighter for all of us, including you and me. Read Allan H. Meltzer (A History of the Federal Reserve). (December 29, 2010)

     
    Bad decision-making and bad legislation sometime follow any unexpected financial crisis. Any financial crisis is so complex that policymakers are not ready to fight it in the right direction and in a right sequence of employment among available measures. Lawmakers are also reviewing the current laws. They are revising current laws or are enacting new ones to prevent the recurrence of the same crisis in the future.
     
    The monetary policy and bank supervisory power of the Fed should not be blamed as a major cause of the unprecedented financial crisis (2007 to 2009). Therefore, it is not relevant to revise the law to beef up the regulatory power. The causes of the world wide financial turmoil are still controversial. The consensus view dwells on (a) global imbalance of spending and saving, (b) lax regulation for derivatives and hedge funds, (c) the Fed’s low interest policy, and (d) subsidies for home ownership. We still debate over which one is the primary one. At any rate, the Fed policy and supervision cannot be singled out as the major cause of the crisis. In a more deep-rooted sense, the Congress itself is responsible for the related laws to support tax benefits and home mortgages, which contributed fundamentally and steadily to the housing bubbles.
     
    The Fed actually deserves credit for saving the near collapse of the world financial market, which was frozen in 2008. The Fed also has engaged in mitigating the extremely severe downswing of the economy by pumping in liquidity. The Fed haters, however, simply insist that the Fed made this turmoil and bailed out banks with taxpayers’ money. This year (2010) aggressive anti-Fed movements prevailed in the Congress to strip the Fed power without a success. One Congressman even “favors abolishing the Fed.” (Fortune, 2/8/2010, p100). The mid-term election might reinforce the Fed Critic camp. We expect the much tougher blows on the face of the Fed in the coming Congress.
     
    A word about the nature of the financial market in general and the banking industry in particular is in order. This kind of financial services area is far much more delicate, innovation-oriented, and rapidly moving, compared to other industries. As a result, regulating financial services including banking is a very challenging job. Early this year the administration suddenly announced that it would rein in the risky practices of banks. It was the so-called Volker Rule. The misstep of this action is twofold. One is they did not consult with other countries. The other one is whether the Volker Rule is implementable. The commodity which the financial services industry is handling is money. Money affects inflation because money is a medium of exchange. Unfortunately, due mainly to globalization and financial-market innovation, money itself has become very hard to measure and less useful as a forecasting tool. As a consequence, interest rates are driving money supply out into the area of central banking and financial markets.
     
    Inflation affects every nation, every institution, and every individual and company. Inflation pressure is building up slowly at the beginning, but once it has momentum it accelerates all of sudden. At that stage, it is very hard to slow down. Historically the price control has been proved to be ineffective in many countries. We had a bad experience with Nixon. Do not worry about inflation now? Look back the Carter-Regan era. To prevent inflation, we need a loyal guard to watch any symptom of inflation on a full time basis, not by relatively short-term politically appointed policymakers. It's better to stop stoning the Fed. The Fed is just the lonesome inflation fighter for all of us, including you and me. Read Allan H. Meltzer (A History of the Federal Reserve). (December 29, 2010)
    Jan 12 9:46 AM | Link | Comment!
  • LON #3 (1/8/2011) The TANER farm
    You must give some "hands" ME to compete one of my most favorable guy, GRISHAM on the same ground. Remember Tiger's Golf games .... to know what handicaps mean, as a matter of fact. AND Grisham allowed no-money OLD FELLAHs <<<Sorry, I'm not an Arab peasant, but my-own-back-yard-organic-HDtopsoilONLY-special-farmer (am i right? it's too long? Forgive me, it is my bad habit to make a small brief word (i,e. fellah) to this kind of ugly word like long snakes which I met quite often, and say Hi each other. Believe me, I never harm ANY ANIMAL, even a fly or a mosquito, as animal lover. What kind of vegetables? Do you want to buy? No. they are not for sale. My farm is growing (a) several berries (Straw-, Blue-, and Raps-), which are per Harvard Medical Journal (HMJ), “Best fruits for human beings …,” and (b) tomatoes, which are, per HMJ again, “BEST VEGETABLE fruit ...," and (c) oriental pumpkins, which are thousand times sweeter than Halloween pumpkins.  Wait a minute, I'm must get out of this side routine, to come back to "OLD FELLAHs", please search this TWO WORDS, by using your SEARCH icon, please. Did you find? I know you DID ...>>> LIKE ME, to read his brand new thriller ON LINE chiefly. DISCLOSURE: I am neither LONG nor SHORT GRISHAM. I AM NOT HIS SALE AGENT. BUYING decision of HIS BOOK (I forgot the title. FOR more info, CALL your LOCAL LIBRARY) is completely yours, not mine. (END OF DISCLOSURE). ... (Time out... I have to come back to work. See you.) (From my old Bio)
     
    <<<…>>> is on the editing mode
    Jan 08 2:04 PM | Link | Comment!
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