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Wall Street

How to Protect Your Portfolio Against One of Wall Street's Greatest, Best Kept Secrets

"Can't anybody tell the truth anymore?" an exasperated Bob J. asked me at a recent cocktail reception.

"Evidently not" I told him.

Bob had seen me earlier that afternoon on Fox News. I appeared on the show to respond to a new study on corporate earnings by Professors Ilia Dichev, Shiva Rajgopal of Emory University and John Graham of Duke.

The study found that a full 20% of publicly traded companies lie about their earnings.

The shocking thing is that the figure wasn't much higher. Twenty percent strikes me as abnormally low. Earnings manipulation is one of Wall Street's greatest, best-kept secrets and has been for years.

In fact, CFOs I've met over the years have told me they could routinely swing things within 5-10% of the target earnings per share (EPS) if needed – a figure in line with the one cited in the study.

But lie is a big word.

As I noted during my interview, there are all kinds of reasons why companies manipulate the numbers, beginning with the terribly flawed system itself.

As appalling as this thought may be, the system actually encourages this kind of behavior.

Under the current system, the law requires quarterly performance reports when many publicly traded companies actually operate in business cycles that are 1, 3, 5, or even 7 years long.

This creates a disincentive to report what's actually happening and an incentive to "lie" about the numbers or at least "fudge" them, depending on your perspective. And, the longer the business cycle, the more a company must make estimates about quarterly results with the risk, of course, that things don't turn out as management expects.

So while some companies may have lost their ethical and moral compasses, what they are doing is entirely legal.

Why Companies Lie About Earnings

Having spent more than 20 years in the markets, I believe the reason for this comes down to three biggies, for lack of a better term. Companies may "lie" to boost stock prices, smooth earnings and jack up compensation packages.

Virtually every publicly traded company draws on reserves and engages in all kinds of financial hocus-pocus in an effort smooth things out.

Take Boeing Co. (NYSE: BA), for instance.

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Will a Weak Facebook Earnings Report Open Doors for these Competitors?

We know investors will want a few key details from today's Facebook earnings report, like how much more user growth the site expects, if it can increase ad sales and how it'll tackle mobile usage.

But something people haven't questioned as much is if there are any competitors lurking in the shadows that could eat away at Facebook's online presence.

Turns out Facebook has reason to be concerned.

MarketWatch's David Weidner last week addressed some competition creeping into Facebook's world. In his article "Here's the app that could kill Facebook," Weidner detailed how an up-and-coming app could actually threaten Facebook's hold on social networking.

Tack this on to the list of reasons to avoid Facebook stock – in case you needed any more.

Path: A Facebook Threat?

The app in question is called Path.

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What the Moody's U.S. Bank Downgrades Mean for Investors

Moody's ratings agency issued five U.S. bank downgrades Thursday and a total of 15 cuts for global institutions, but markets shook off the news.

The ratings agency cited concerns about the stability of the global systems. Moody's said the banks are not as sound now as they were before the recent global financial woes and contagion.

"All of the banks affected by today's actions have significant exposure to the volatility and risk of outsized losses inherent to capital markets activities," Greg Bauer, Moody's Global Managing Director, said in a statement Thursday.

Included in the ratings cuts were Citigroup (NYSE: C), Morgan Stanley (NYSE: MS), Goldman Sachs (NYSE: GS), Bank of America (NYSE: BAC) and JPMorgan Chase (NYSE: JPM).

Bank of America and Citi are now rated just two notches above junk status, while Morgan Stanley sits a hair higher at three notches above junk.

Moody's announcement came after the close Thursday, a rocky day for markets with the Dow Jones ending down 250 points and the Nasdaq lower by 71.

The cuts appeared to be a non-event in trading Friday. Shortly after the open, all three major indexes were modestly higher, with affected banks all in the green.

But Moody's U.S. bank downgrades could be a precursor to aggressive trading activity.

"It is a trading indicator that speaks to more volatility in the future for the banks as traders will be jumping all over earnings, derivatives moves, counterparty fears, correlation concerns, "negative watch" implications and regulatory impacts," said Money Morning Capital Waves Strategist Shah Gilani. "I expect the volume in financials to go higher as traders play them more and more."

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There's More to the IPO Market Than Facebook (Nasdaq: FB)

Admit it, you love the Facebook IPO (Nasdaq: FB).

Besides its $100 billion-plus stock valuation, the social media company has over 900 million active users worldwide.

Plus, at $16 billion, Facebook will go down as the second largest U.S. IPO ever, trailing only Visa's $17.9 billion deal in 2010.

But let's not forget, this isn't the first IPO that's gotten a ton of attention, and it won't be the last.

In fact, the hype surrounding Facebook stock is overshadowing the entire IPO market, clouding the big picture, and perhaps, some worthwhile investments.

So let's take a look at what else has been going on in the IPO market and what's coming up that deserves your attention.

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The JPMorgan (NYSE: JPM) Losses: Here’s What Happened

Yesterday's announcement by JPMorgan Chase & Co. (NYSE: JPM) that it lost $2 billion on a "hedge" position is not only surprising, it's frightening.

I'll try and make this short and easy to understand, but the truth is that it's complicated. If we have a decent idea about what happened (and I do), it's bad. And if it's a tip-of-the-iceberg thing (which I don't believe it is), it could be really, really bad.

Investors put on hedges all the time. In fact, in our investment services like the Capital Wave Forecast we put on essentially the same type of "economic" hedges that JPM CEO Jamie Dimon is saying blew up on them. The economic hedges we put on are essentially hedges against long positions we hold.

For example, if I see some potential danger ahead, then I recommend we buy some protection, like buying the VIX in anticipation of rising volatility, or buying puts on broad market indexes.

The broad protective measures we take are economic hedges because they are not specific hedges designed to hedge potential loss in any one position. For example, if we owned JPM stock and we wanted to hedge our position, we might buy puts on JPM, or sell calls, or employ another specific hedge against our long position.


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Berkshire’s Annual Meeting: Warren Buffett Talks Stocks and Successors

Billionaire investor Warren Buffett held court this weekend at Berkshire's annual meeting, fielding dozens of pressing questions about the company, investing strategies, and a new CEO.

Some 40,000 gathered to hear what the leader of the storied Berkshire Hathaway (NYSE: BRK A, BRK B) had to say about the state of the company and its fate following Buffett's recent diagnosis with prostate cancer. The Oracle of Omaha triggers such an enthusiastic investing response the event ends up more like a festival than a shareholders' meeting.

Buffett dismissed the health news as a mere non-event, barely touching on the subject.

The investing legend instead focused on the money.

Buffett on Berkshire

Berkshire posted first-quarter earnings Friday after the close that doubled compared to the same period a year ago, fueled by gains in its insurance, manufacturing, service and retail businesses.

The company reported earnings of $3.25 billion for first quarter 2012, translating to $1,966 per Class A share, versus $1.51 billon in the first quarter of 2011.

Operating income came in light at $1,615 a share. Analysts surveyed by Thomas Reuters had forecast $1,780.

The company also posted gains from its derivates holdings – investments that Buffett once referred to as "financial weapons of mass destruction."

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ExxonMobil (NYSE: XOM) Earnings Miss – But Investors Should Stay Put

ExxonMobil (NYSE: XOM) earnings came up short this morning. The oil giant missed analysts' expectations by about 9 cents.

Steve Schaefer at Forbes runs down the numbers:

"The energy giant recorded earnings of $9.5 billion, or $2.00 per share. Those figures were down 11% and 7%, respectively, from the first quarter of 2011, and earnings per share were below the $2.09 analyst consensus. Revenue of $124.1 billion was up 8.8% from a year ago, but just shy of the $124.8 billion expected.

Earnings in Exxon's upstream, or exploration and production, fell 10.1% from a year ago, to $7.8 billion, while downstream earning, which include refining, were up 44% from the prior year to $1.6 billion, thanks largely to gains from asset sales and improvements in volume and mix."

This earnings miss is the least of Exxon's short-term worries as we head into the summer months and the election heats up. There are a lot of problems for the company to overcome all at once – but it shouldn't send ExxonMobil investors headed for the exits.

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Earnings Fuel Stock Market Gains – Dow Jones Soared More than 100 Points Midday

Yes, Friday was all about the earnings.

The stock market rallied Friday thanks to a roaring round of positive earnings reports – with a little help from positive news out of Europe.

Just after noon, the Dow Jones Industrial Average climbed 113 points, the Standard & Poor's 500 jumped 9 points and the Nasdaq gained 22.

With little on the economic calendar to close out the week, and no major reports due, market participants focused on encouraging first-quarter results from a spate of several large and market-influencing firms.

"There's been a wrestling match all week long between strong earnings and weak economic data. At the moment earnings are winning," Lawrence Centura, portfolio manager at Federated Investors told the Associated Press.

Strong Earnings Push Stock Market Gains

To date, quarterly earning has been pleasantly strong.

"The number of companies reporting positive surprises is much higher than it typically is at this stage in the game," Fred Dickson, chief market strategist of D.A. Davidson & Co. told CNN Money. "They're only beating by a little, but it's still a significant number of companies and that's the wow factor."

Of the 212 companies in the S&P 500 that have reported, better than 80% have exceeded expectations, according to Thomson Reuters. During a typical quarter, the percentage of companies that top forecasts is 60%.

Here are some recent highlights:

  • Tech giant Microsoft (Nasdaq: MSFT) lead Friday's gains in the broad-based rally after beating expectations late Thursday, reporting sales growth of 6% thanks to its Window and Office products. MSFT gained 4.55% Friday to close at $32.42.
  • Investors also ate up better-than-expected numbers from fast-food king McDonald's Corp. (NYSE: MCD), which ended the day up. The company proved it remained a worldwide favorite with same-store sales up 8.9% in the U.S., 5% in Europe and 5.5% in Asia-Pacific, Middle East and Africa. Revenue rose 8% (excluding currency fluctuations).
  • Robust earnings from General Electric (NYSE: GE) pushed its stock up 1.15% to $19.36. GE narrowly beat expectations with quarterly profit of 34 cents a share, a penny higher than expected, and revenue of $35.18 billion compared to a forecast $34.7 billion.
  • Meanwhile, traders traded E*Trade (Nasdaq: ETFC) up some 6% on better-than-expected first-quarter results. E*Trade's first-quarter profit rose 38% from a year earlier.
  • Technology manufacturer Honeywell (NYSE: HON) beat on both earnings and revenue, sending the honey pot buzzing. First-quarter income climbed 17% from a year earlier, and the company raised its 2012 forecast.

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Why Wall Street Can't Escape the Eurozone

Despite all of its best hopes, Wall Street will never escape what's happening in the Eurozone.

The 1 trillion euro ($1.3 trillion) slush fund created to keep the chaos at bay is not big enough. And it never was.

Spanish banks are now up to their proverbial eyeballs in debt and the austerity everybody thinks is working so great in Greece will eventually push Spain over the edge.

Spanish unemployment is already at 23% and climbing while the official Spanish government projections call for an economic contraction of 1.7% this year. Spain appears to be falling into its second recession in three years.

I'm not trying to ruin your day with this. But ignore what is going on in Spain at your own risk.

Or else you could go buy a bridge from the parade of Spanish officials being trotted out to assure the world that the markets somehow have it all wrong.

But the truth is they don't.

EU banks are more vulnerable now than they were at the beginning of this crisis and risks are tremendously concentrated rather than diffused.

You will hear more about this in the weeks to come as the mainstream media begins to focus on what I am sharing with you today.

The Tyranny of Numbers in the Eurozone

Here is the cold hard truth about the Eurozone.

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2012 Financial Crisis: Wall Street's Latest Scheme Uses Your Bank Account to Create the Next Crash

In 2008, reckless credit default swaps nearly obliterated the global economy. Now comes the next crisis – rehypothecated assets.

It's a complicated, fancy term in the global banking complex. Yet it's one you need to know.

And if you understand it, you will get the scope of the risks we currently face – and it's way bigger than just Greece.

So follow with me on this one. I guarantee that you'll be outraged and amazed – and better educated. You'll also be in a better position to protect your assets at the end of this article, where I'll give you three important action steps to take. So follow along…

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