This week the International Monetary Fund issued a free updated pamphlet providing an explanation of the key principles underlying macroeconomic statistics when viewed as an integrated system.
Designed to meet the basic needs of economists and statisticians, the 116-page pamphlet (hard-copy only) highlights the interrelationships between the various sectors and provides a bridge linking the various macroeconomic accounts statistics-national accounts, balance of payments, government finance statistics, and monetary and financial statistics-to assist the reader in understanding the main concepts underlying these statistics.
The pamphlet simplifies many of the concepts, explaining common features and differences, showing how the four key statistical areas harmonize, and providing examples to demonstrate the practical application and uses of the concepts within the conceptual framework. The System of Macroeconomic Accounts Statistics: An Overview, completely updates Pamphlet No. 29 published in 1985. It can be ordered at no charge here.
Spending on oil and gas projects rose 45% last year but resulted in only a minimal increase in reserves, according to a new study from oil and gas research firm John S. Herold, Inc (recently acquired by IHS) and advisory firm Harrison Lovegrove & Co. Ltd.
The worldwide upstream investment of 228 oil and gas companies reached $401 billion in 2006, more than $1 billion per day, according to the 2007 Global Upstream Performance Review, (abridged version available for free download here). This record capital spending generated just a 2% increase in reserve volumes to 263 billion barrels of oil equivalent (boe), while reserve replacement costs climbed 33 % to $13.60/boe.
“Revenue growth more than offset higher operating expenses and increased taxes, allowing the industry to report $243 billion in net income, the fourth consecutive record,” said Robert Gillon, Herold senior vice president and co-director of Equity Research. “But rising costs are pressuring investment returns, as net income as a percentage of the book value of oil and gas assets declined in 2006 following three years of gains.”
Harrison Lovegrove Chief Executive Martin Lovegrove commented, “The key challenge facing the petroleum industry continued to be replacing reserves and growing production due to the combination of maturing basins and reduced accessibility to new acreage. With opportunities scarce, proved and unproved acquisition costs increased 85 %, while the implied costs for the acquisition of proved reserves soared 55 %, more than twice the increase in oil prices.”
The Herold/Harrison Lovegrove study found returns to oil industry shareholders during 2006 were robust: dividends reached a record $83 billion (up $7 billion), while share repurchases increased 37% to $88 billion. Combined, these returns to shareholders accounted for 55 % of net income.
Over the last two years, the industry has laid out more to repurchase its own shares than it has to acquire proved reserves.
Key regional findings of the 2007 Global Upstream Performance Review include:
- The U.S. was the only region in which profitability declined as finding and development costs nearly tripled and reserve replacement costs soared 83%.
- Oil reserves and production in Canada continued to climb, but natural gas has languished as investment has been directed at oil sands development.
- Oil and gas reserves in Europe are dropping sharply as cash flow exceeds capital spending, but new North Sea projects should help stem the decline.
- Capital investment in the Africa & Middle East region is being redirected toward exploration and acquisitions as proved reserves continue to decline.
- Asia-Pacific is the most profitable region due to relatively lower costs and tax rates, but lower rates of reinvestment indicate opportunities are constrained.
- Oil and gas reserves in South & Central America continue to fall as production flattens, but profitability more than doubled as costs have been contained.
- Government take in the Russia & Caspian region is high and rising, limiting profitability, but the resource potential is so substantial that capital investment is growing rapidly.
Standard & Poor’s says it is possible that continued stock market turmoil could cause a greater decline in revenues at major securities firms than after the stock market drip of 1998. However, most firms should be able to manage such a drop with no impact on their credit ratings.
In the second half of 1998, overall net revenues for investment banking and trading fell 31% from the highs of the first half of that year, S&P says. Fixed income, currencies, and commodities revenues were practically zero or even negative for some broker-dealers in the final six months of 1998. Equity and investment banking revenues suffered much less, but were still down.
S&P conducted a “harsh, but plausible,” stress test for investment banks’ earnings based on a similar environment. The results show aggregate investment banking and trading revenues for the largest firms down 47%. This is more severe than in 1998, reflecting in particular potential mark-downs on leveraged finance exposures and structured credit.
In such a scenario, S&P would expect flexible cost bases to limit the decline in pretax profits from investment banking and trading to about 70%, resulting in a pretax margin of 21% compared with 36% in the first half of 2007.
This stress test is neither our central expectation nor a forecast but is indicative of the ability of investment banking businesses to withstand such scenarios.
S&P would regard a scenario like this as testing, but manageable, within current ratings on the large securities firms. Many capital markets businesses are part of broad diverse financial groups, cushioning the impact of a decline. S&P estimates that the aggregate 70% decline in pretax profit at the divisional level would be diluted to 40% at the consolidated group level.
Given the still-favorable economic fundamentals, an extended downturn seems unlikely at present, S&P says, and late 1998 was followed by a strong bounce back. S&P also notes that it made few downgrades to securities firms even during the bear market of 2001-2003.
The full S&P report is available for purchase here.
Mounting US credit market problems will have a greater ripple effect in Europe than in Asia, according to H&R Block Financial Advisors.
Writing in Barron’s Online (subscription required), Block says US credit impacts have translated most directly to UK and European capital markets. Both regions may see market and economic impacts similar to those found in the US. Credit exposure in the Asia/Pacific region is expected to be minimal.
However, potentially slower consumer demand from US consumers could impact these markets in the months ahead, Block says. The growing importance of the Chinese economy to other Asia/Pacific economies may mitigate the negative impacts to some degree.
Should US consumer demand slow dramatically, Block expects the Asia/Pacific region and Japan to come under material, ongoing pressure.
Block is instituting an Overweight recommendation on Asia/Pacific (up from Equalweight) and reducing its outlook on Europe to Equalweight (from Overweight).
Meanwhile Oxford Analytica sees the spillover of US subprime problems having mainly an indirect effect in the United Kingdom. Due to the different structure of the UK market, Oxford does not anticipate a surge in mortgage delinquencies. Rather the concern is that lenders will become more conservative, making less credit available, especially to less well-qualified buyers.
Since most loans are backed by investor deposits and are not securitized, banks and other lenders have less exposure to mortgage problems in the UK. Exceptions are Bradford & Bingley and Northern Rock. The latter follows the US practice of packaging and securitizing its loans, and is under pressure to raise interest rates to cover the rising costs of borrowing, Oxford says in “UNITED KINGDOM: Credit crisis set to limit lending,” available for purchase here. This has harmed its competitiveness, causing a 50% fall in its share price over the last six months. The bank has been subject to short sales by hedge funds, and is now seen as a takeover target.
Recognizing that Northern Rock is an “obvious target for market concerns,” CreditSights says it “thinks the fears are overdone,” in a report available for purchase here.
The recent flap over Morgan Stanley analyst Mary Meeker’s latest report on Google raises questions about market research produced by investment banks.
The issue blew up when Meeker published a report on the impact on Google’s new overlay ads placed on its YouTube video site, estimating a potential net revenue boost to Google of $720 million per year. Henry Blodget, a former Meeker rival during his time at Merrill Lynch, immediately pointed out on SiliconAlleyInsider.com that due to a calculation error, Meeker had overestimated the revenue gain by a factor of 1,000.
Meeker quickly corrected the calculation in her report. However, rather than adjusting the total revenue impact figure down proportionately to $750,000, she bumped up a few of the assumptions, coming up with a new revenue estimate range of $75-$189 million.
Blodget, who was barred from the securities industry in 2003 after being charged by the SEC with providing tainted research on companies to win investment banking business, points out this is hardly the first time an analyst has “backed into” the numbers they are projecting. But it’s rare that the public gets visibility into the process.
ResearchRecap recently featured research supporting the view that analysts asociated with investment banks often offer overly optimistic recommendations on companies underwritten by related investment banking units. However, the research also shows that the market has properly discounted these recommendations, even during the bubble period of the late 1990’s.
These were the findings of a new research report “Do Analyst Conflicts Matter? Evidence from Stock Valuations” by Anup Agrawal of the University of Alabama’s Culverhouse College and Mark Chen of Georgia State University.
Another academic study indicates that a reluctance to downgrade stocks has resulted in the buy recommendations of investment bank analysts lagging the performance of independent analysts’ picks.
Four years after the SEC’s historic Global Research Analyst Settlement agreement with ten investment banks this month’s Journal of Financial Economics includes a paper examing how Wall Street research compares with that of the independent research firms. The authors, Brad Barber, of Cal-Davis, Reuven Lehavy of University of Michigan, and Brett Trueman of the UCLA Anderson School, looked at the average investment return on buy recommendations from independent firms, as compared to those from investment banks.
During the period January, 1996 through June, 2003 (prior to the Settlement agreement), the researchers found that buy recommendations from independent firms outperformed those of investment banks by 3.1 basis points per year (nearly 8% annualized). The performance gap was most pronounced during the dot-com boom period of 1999-2000, and was based in part on investment banks’ reluctance to downgrade stocks during the bear market.
Taken as a whole, these results suggest that at least part of the underperformance of investment bank buy recommendations is due to a reluctance to downgrade stocks whose prospects dimmed during the early 2000’s bear market, as claimed in the SEC’s Global Research Analyst Settlement.
Additional analyses find that the underperformance of investment bank buy recommendations extends not only to the ten investment banks sanctioned in the research settlement but to the nonsanctioned investment banks as well.
The paper, Comparing the stock recommendation performance of investment banks and independent research firms, is available for free download.
Praised for helping save the markets from meltdown, Bank of America’s investment in Countrywide Financial may be a low risk bet for BofA’s shareholders, but is not as altruistic as it might seem, breakingviews.com suggests.
Writing in today’s Wall Street Journal (subscription required), breakingviews notes that if the California-based mortgage lender recovers and prospers again, BofA can convert its investment into stock at $18 a share — or less than 80% of book value.
Yet the agreement states that the conversion price “may be adjusted upon the occurrence of certain events,” possibly giving BofA enormous wriggle room should Countrywide’s predicament deteriorate.
BofA may have struck a heads-I-win, tails-you-lose agreement.
That should please shareholders, breakingviews says, but investors shouldn’t mistake this for an act of altruism.
CreditSights seems to concur. In its analysis of BoFA’s 8K filing (available for purchase here) CreditSights sees BofA’s move as “renting with the option to own coupled with a broader liquidity confidence play.”
While much of the focus on the subprime mortgage failures has been on lenders and the real estate industry, the collateral damage may be spreading to the internet advertising market.
Two of the five largest Internet advertisers in July, 2007 were Countrywide Financial and Low Rate Source, according to the latest Nielsen/NetRatings report. Online display advertising by mortgage companies grew to $222 million in 2006, according to TNS Global. That comes as no surprise to anyone who has seen the LowerMyBills.com dancing cowboys ads, which were ubiquitous earlier this year. According to the Internet Advertising Bureau, Financial Services were the second largest Internet advertisers in 2006, trailing only the retail industry.
So, where’s the greatest exposure?
Google (GOOG) and Yahoo (YHOO) are the names that come to mind when one thinks of Internet advertising. Google seems fairly immune to a downturn in a single sector; while the keyword price for mortgage-related terms may drop (as might searches for mortgages), that’s not likely to have significant impact on the search engine provider. Yahoo, with more of its revenues coming from display advertising, may have more sensitivity to a pullback in financial services advertising on the web.
Bankrate (RATE) is more of a pure play in online financial services advertising. Nearly 50% of their revenues come from mortgage advertising. Their second quarter numbers were solid, however, and SunTrust Robinson Humphrey analyst Andrew Jeffrey is maintaining a Buy and a $60 target on the stock.
While RATE may trade sideways in the near-term as investors await evidence of the company’s sustainable earnings power through a deep mortgage industry downturn, we contend that the stock offers a compelling risk/reward for those with conviction regarding the company’s superior competitive position, high barriers to entry, increasingly diversified advertiser base, pricing power and operating leverage.
The full SunTrust Robinson Humphrey report, entitled “RATE: It’s Not All About Mortgages. Reiterate Buy” is available for purchase here.
US consumers are defaulting on credit-card payments at a significantly higher rate than last year, the Financial Times reports today (subscription required), raising the prospect of problems in the stricken US subprime mortgage market spreading to other types of consumer debt.
Credit-card companies were forced to write off 4.58 % of payments as uncollectible in the first half of 2007, almost 30% higher year-on-year. Late payments also rose, and the quarterly payment rate – a measure of cardholders’ willingness and ability to repay their debt – fell for the first time in more than four years.
Still, the FT quotes Moody’s as saying the rate of losses remained well below the 6.29% average seen in 2004, before the change in US law that made it more onerous to file for personal bankruptcy.
Earlier this month, CreditSights assessed the systemic risks of the Asset-Backed Commercial Paper (ABCP market) that includes credit-card receivables, among other assets.
Recent turmoil in the ABCP market has exposed a serious Achilles heel in the global credit markets.
In a report available for purchase here CreditSights says the banking sector appears to be on the hook, at least to some degree, in the event of a shutdown in the ABCP market, which in turn presents another layer of risk in a market where access to leverage finance has been so critical.
(contributed by Brian Hill, Research Director, Revere Research)
Revere Research Note to Clients: Better Visibility into Energy Sectors
Hurricane Dean provided another reminder of the susceptibility of Energy infrastructure, particularly in areas like the Gulf of Mexico, to climate change and natural disasters. Revere’s research team would like to remind our clients of the unique view of the Energy industry available through Revere Research™. Revere associates all publicly-traded Oil/Gas companies with the geographic regions where they operate. We also identify the region where each company derives the majority of its business.
While the broader Revere Oil and Natural Gas Exploration/Production group is up about 4% over the past year, companies focused in the Gulf of Mexico region are down 15%. Over the same time period, companies focused in the smaller, less well known Appalachian Basin region are up over 35%.
Participating companies focused on the Appalachian Basin include:
Atlas America, Inc. (Nasdaq GM: ATLS)
Linn Energy, LLC. (Nasdaq GM: LINE)
CNX Gas Corp. (NYSE: CXG)
EV Energy Partners, L.P. (EVEP)
The story appears to be quite different in the Support Activities for Oil and Gas Operations group. The Revere Offshore Drilling Services sector is up nearly 29% over the past year, slightly outperforming the broader index. A total of 15 companies comprise this sector. 8 of them are Focused on this sector, including 5 Pure-Plays. Meanwhile Onshore Drilling Services companies have declined over 17%. This is easily the worst performing group of companies providing equipment and services to the energy industry.
While August has been a tumultuous month for the markets, the most significant hits have been limited to those in or around the mortgage markets.
Will the rough ride lead to layoffs on the Street? That’s the question posed by the latest BreakingViews column.
While investment banking firms like Bear and Lehman have seen their mortgage units impacted, bankers have so far escaped collateral damage. BreakingViews expects that, provided the worst of the market turmoil has passed, the damage will be limited to those closest to the subprime mortgage market.
Aside from those directly involved in subprime mortgages, the alchemists responsible for collateralised debt obligations and other bafflingly complicated structures must be particularly fretful. The rug has been pulled out from under their business, and confidence in the instruments and their credit ratings has evaporated.