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The Future of Investing, Startups, and the $11,000,000,000,000 Question

Online finance lags

The news of personal finance tool Wesabe shutting down last year made it pretty clear that Mint.com is on its way to fully owning the online personal finance space.  The company’s port-mortem pretty much capitulates that.  But personal finance is just a small part of a much larger, overarching problem that affects all of us: planning for a financial future.  While this certainly includes managing household cash flows, it also involves buying a home, choosing 401(k) plans, putting money into the stock market and fixed income investments, and planning for retirement.

This begs the question: with so much money at stake, why does online finance continue to trail other industries like travel? When planning an international trip online, I know exactly whom to trust for advice and why they’re trustworthy, where to look to compare similar products, and have transactional platforms into which to submit my order.  But in finance, most people still don’t even know where to begin.

Hedge fund traders are using supercomputing high-frequency trading tools to make money in good markets and bad while we still can’t even decide which mutual funds are right for us. We require truly comprehensive solutions instead the current piecemeal, silo-based approach in online finance.  At stake is our future and over $11 trillion of mutual fund assets in the U.S.

Current Players

You can look at the way competition is shaping up online in various silos:
  • Personal Finance: Startups in this space are focused on developing value-added services to help users track and manage money flows.
    • Tracking/Tweaking: Mint.com has done really well capturing new users to adopt web/mobile tools, just as Quicken was a similarly powerful force on the PC.  Intuit, which now owns both products, is positioned really well for future expansion.   Personal finance is a huge problem to tackle and it’s really early in the game.
  • Investing: The investing process involves researching various options, transacting, and ongoing portfolio management with analytic tools.
    • Researching: Investors begin the investment process with idea discovery, bubbling up ideas to populate their portfolios.
      • Piggybacking investment ideas: New services like AlphaClone not only make easier tracking of the investment activities of storied investors like Warren Buffett but also provide portfolio development tools to backtest and manage entire portfolios made up of piggybacked ideas.
      • Long tail of financial content: As the costs of publishing have been pushed to zero, we’re enjoying a bull market in investment content.  Sites like Seeking Alpha and StockTwits provide great tools to plug into the collective tradestream. Wikinvest has taken more of a collaborative approach with its content and data.
      • Screening 2.0: Smarter tools like Validea help investors filter through large numbers of stocks using algorithms and artificial intelligence to identify worthy portfolio prospects.
      • Crowdsourcing stock picks: Sites like Piqqem allow investors to tap the wisdom of the investment crowds.
      • Expert networks: SumZero is an online investing club of super-smart people sharing really good analysis on stocks.  Other Q&A tools like those at LinkedIn and Quora and even Facebook are enabling the sourcing of ideas from domain experts.  With the FBI/SEC’s crackdown on offline expert networks, investors will look more towards these tools for help in sourcing and validating investment ideas.
    • Transacting: Once an investor knows what action he would like to take, execution comes next.
      • Online Brokers: E*Trade, TDAmeritrade, and Schwab still dominate the online brokerage space (with recent news that Merrill Lynch is getting back into the game).  It’s interesting to watch as online brokers woo existing traditional brokerage clients with automated, professional-grade services delivered online, blurring the line between full-service and DIY investing.
      • Hybrids: Covestor and kaChing (now Wealthfront) are the eBays of investment advisory services — marketplaces of investment services.  Users synch their online brokerage accounts to mirror the portfolio models managed by advisors on these platforms.  In a move to the mainstream, Covestor’s tradestream now includes the real time audited trades from participating investment managers.  This is a big fuckin’ deal and it’s freely available through Yahoo Finance’s Market Pulse.  Newer entrants like Tech Crunch Disrupt finalist Betterment provide automated investment services.  Other investment advisors like Formula Investing provide a mixture of full service and DIY tools.
    • Managing:
      • Ongoing monitoring:  As markets undulate and investors’ financial health changes, tools help automate changes that should be made in portfolios.  A number of new professional-grade, automated tools are helping head this cause.  Firms like MarketRiders help with ongoing changes in asset allocation and services like Goalgami help address life’s incessant barrage of financial goals that need planning.
      • New asset managers: Fusing the low-cost distribution model that social media affords with new methodologies to manage funds for clients, both old and new asset managers are launching all kinds of new securities in an attempt to capture part of a huge pie.  With actively managed ETFs in the infancy and good comps for successful exits, new asset managers like GlobalX are growing AUM and positioning themselves well for future growth.
      • Analytics:  Like Google’s Urchin/Analytics acquisition, analytics are core to the effective management of any platform.  TC Tear Down star, Steve Carpenter founded and sold Cake Financial to E*Trade earlier in 2010.  Cake helped investors make more sense of the activities in their portfolios. With Cake Financial bowing out, the market is wide open.  Look to Wikinvest’s recently launched Portfolio tool to take off where Cake left off.

Why there is still a huge window of opportunity

In spite of the flurry of activity, most of these startups haven’t even begun to dent the market for financial services.  Some of these verticals are so narrow that participants need to expand horizontally  into other silos, which both incumbents and startups are racing to do.

Some firms have advanced product-based approaches, trying to build better mutual fund mousetraps and have enjoyed a modicum of success. Next-generation mutual funds, exchange traded funds (ETFs) have almost $800 billion in assets, an increase of 34% over 2009 levels, but that’s still only 7% of all invested assets in the U.S.  In spite of all the high quality content, investors still struggle with basic financial concepts, portfolio management, and continue to make bad decisions.  The flurry of activity has unleashed a bull market in financial content; We’ve gone from scarcity to too much content.  We now require tools to cut through the data smog and help us with comprehensive solutions to make better decisions.

The $11,000,000,000,000 Grand Prize goes to…

The market size of the investment industry is so big that there is room for multiple players to establish hugely profitable businesses.  Look for large incumbent players, most specifically Bloomberg, to expand their businesses through acquisition in an attempt to capture more marketshare.  Bloomberg’s multi-billion dollar empire of financial hardware and data recently purchased BusinessWeek in an attempt to move downstream toward retail investors.  The giant investment expert network, Gerson Lehrman Group, may get deeper into online expert Q&A sourcing as the firm continues to enable person-to-person expert research for professional investors.

Real-time transparency is making  its way to the online brokers.  E*Trade joined TDAmeritrade in recently announcing upgrades to its own API to allow 3rd party software developers and services to reach investors through their brokerage logins – the holy grail for the entire value chain.  Investors get access to new apps, software developers can finally tap online brokerage clients through trading platforms, and the online brokers can provide value-added services without having to develop them.

The fact that we’re beginning to seeing ivory-tower asset managers make their way onto Twitter is, in fact, a good sign of things to come in the future.  But the field is still wide open for comprehensive solutions.

photo courtesy of frankblacknoir
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Insider Trading Roundup: January 5, 2011

Insider Buying

Two good articles over on the Motley Fool:

  1. high momentum stock seeing significant insider buying.
    1. “To compile the list, we created a universe of 140 stocks that have seen strong gains over the last quarter. Additionally, all of these companies have had positive earnings and sales growth over the last five years. We then narrowed down the list by only focusing on those stocks that have seen insider buying over the last three months.”
  2. income stocks being bought up by insiders
    1. “It’s fair to assume that a firm’s management has a lot more access to intel than we do — so if they’re snapping up company stock, it’s a pretty good sign of things to come.”

Both these articles were written by Kapitall.  Check out their tools and the company is fresh off a significant funding round.

Insider Selling

Interesting article about CFO and CTO selling at First Solar ($FSLR)

Insider Trading Strategy

CXO Advisory has a great piece on the evolving informativeness of insider trading (sub required) from a paper entitled “Has the Informativeness of Insider Filing Changed Post Sox? Has the Latest Credit Crunch Improved this Informativeness?” (Ashrafee Hossain).

Evidence indicates that implementation of the Sarbanes-Oxley Act and the credit crisis have both enhanced the informativeness of insider trading data as reported via SEC Form 4.

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Tradestream pair trade: long Broadway, short concerts

While 2010 was a really down year for the music industry in terms of tickets/revenues for live shows, Broadway seems to be enjoying a bull market of sorts.

Fewer concert tickets were sold for less money — about 15% down.
Year End Top Worldwide Concert Tours

From Pollstar

The Top 50 Tours Worldwide grossed a combined $2.93 billion which was

down about 12% from last year’s $3.34 billion. Total tickets sold was 38.3 million which was down about 15% or 7 million from 2009’s 45.3 million. Total show count was down about 8% to 2,650. The only number to increase was the average ticket price which went up $2.86 or about 4%.

While Bon Jovi enjoyed his success as top concert music attraction, his peers suffered.  I have to believe Facebook, reality TV, a crappy economy, and the rise of heavily produced/autotuned bubble gum performers have all inhibited couch potatoes from getting out there and partying like it’s 1999.

While this is bad for the industry, there is a silver lining for concert-goers:

If your idea of happiness is seeing a band that tours constantly in a slightly smaller venue than it played in the last time it came through town, for significantly less money, 2011 could plaster a perma-smile onto your face. If you want to see Bon Jovi or Roger Waters or Dave Matthews or The Eagles or any of the other artists in Pollstar‘s Top 50, who routinely sell out large venues at high premiums — or if you tend to steer clear of the big arenas in favor of smaller bands in cozier rooms — 2011 might seem like more of the same.

Broadway bucks bad economy, couch potatoes

The same can’t be said about Broadway, though. According to the NY Times, Broadway

enjoyed a Boffo year in 2010 (although sales were up merely 3%).

Shows grossed a total of $1.037 billion in the 2010 calendar year compared to $1.004 billion in 2009, according to statistics compiled by the Broadway League, the trade group of theater owners and producers. Roughly 12.11 million people saw a Broadway show in 2010, while 11.95 million went in 2009.

This could just be another case of the different realities Wall Street and Main Street are occupying now.  Theater ticket prices routinely hit $250-$350 a pop for premium seating (which makes taking the wife and 5 kids out, well, prohibitively expensive).

Investors in concerts

LiveNation ($LYV) is the the world’s largest live concert producer, by market capitalization, having merged with Ticketmaster in early 2010.  It produced nearly 22,000 concerts for 2,000 artists in 42 countries during 2009.  It had a rocky 2010 but ended up about 30% for the year.

Source:

Top Tours 2010 (Pollstar)

How the Disasterous 2010 Concert Season Could Work in Your Favor (NPR)

A Boffo Year for Broadway (NY Times)

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What the fat IPO pipeline means for investors

The size of the opportunity

We’re gearing up for some really interesting activity in the IPO market in 2010.  To put things in perspective, in 2010, IPOs returned 72% more money than the companies that exited in 2009 (although at $40B, that’s still about 40% less than peak levels in 2007).

According to Sarah Lacy’s recent article in TechCrunch, Exits Lag in the 4th Quarter, but IPO Hype Boils for 2011:

There is a lot of hype swirling that 2011 is going to be the big comeback year for the venture-backed IPO. And we’re talking about big, gaudy IPOs, not small ones that essentially function as another funding round. And interestingly, pundits and investors expect some new $1 billion companies to debut in both cleantech and Internet sectors.

Certainly firms like LinkedIn, Groupon, Facebook, Pandora, and Zynga have raised lots of VC money from investors who would welcome public liquidity.

Private Equity also benefits from IPO window

Venture backed firms — those started from scratch and basically birthed into existence for large splashy IPOs — aren’t the only ones benefiting from the opening of the IPO window for increased investor demand in new offerings.  Companies that received funding/buyouts from private equity firms are also gearing up for an exciting 2011.

According to Renaissance Capital

The past year has seen an modest uptick in offerings of companies backed by buyout firms – 37 in total, more than the two previous years combined

Big firms like HCA, TXU, and Harrah’s Entertainment are poised, waiting for the right opening to go public and make their PE-backed investors richer.

But…

It’s not all clear sailing for a couple of reasons

  1. time and money to exit:  In spite of the rah-rah of VCs saying how easy and quick it is for companies to prosper in the social media era, the inverse is actually true — successful companies may require more money and time to prepare for public markets.  According to TechCrunch’s Lacy, “The venture-backed economy is rapidly becoming polarized between quick flips or a long, hard-fought slogs even for the hottest companies.”
  2. fuzzy pricing for private firms: Investors in pre-public firms frequently talk their books, inflating performance and valuation of their portfolio companies.  Without a public mechanism to discover pricing, it’s hard to line up institutional investors for a large offering. The NYT has an article today about energy company, TXU and how pricing analysis by KKR and TPG has differed wildly.
  3. rise of secondary markets: Companies like SharesPost have provided necessarily outlets for founders and investors to cash out.  With the ability to take some money off the table and enrich themselves, certain companies would rather persist as private firms without the necessary headaches and scrutiny of running publicly-traded firms. Xpert Financial, recently launched, will play into this dynamic as well.  It’s possible that Facebook doesn’t go public for a loooong time.

Performance into 2011

While total IPO numbers still haven’t returned to 2007 levels in the US, performance is best since 2006, as average IPO rose by 23% this year.  Renaissance Capital is predicting a big year in small cap tech, consumer, and health care sectors.

Given last year’s result and if we see continued momentum, Asia Pac and Latin America look poised to not only float more new firms but good firms, with nice sized returns.

And this makes sense.  Many of the hottest Internet firms continue to find willing and able investors in the venture capital world (and out, as witnessed by Goldman’s interest in Facebook).  Other firms that have spent the past few years developing great products and even more interesting business models will tap the markets because they’re ready to grow into being real firms.

Source:

Exits Lag in the 4th Quarter, but IPO Hype Boils for 2011 (TechCrunch)

Buyout Firms Look for Easier Exits in New Year (Dealbook)

A Portfolio’s Price (NY Times)

DowJones data on 2010 transactions (DowJones)

Xpert Financial Offers Start-Ups an IPO Alternative (gigaOM)

Why Facebook won’t go public (Felix Salmon/Reuters)

2010: The Year in IPO Dealflow and Performance (The Reformed Broker)

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Tradestream Radio #2: hedge fund replication, insider trading, more

tradestream radio, discussing investing and technology

This week’s episode of Tradestreaming Radio is up and ready for listen. Let me know what you think and if you have ideas for future shows. You can listen below, find the transcript below or download directly to you iPod/iPhone via iTunes — search for Tradestream or go here.

This episode includes

  • the huge insider trading probe into many of the largest US hedge funds
  • research networks (expert networks) and how they play a role in the investing process
  • interview with hedge fund replication research provider, AlphaClone CEO and founder
  • Ivory Tower Report: Smart investors think like economists (is that a good thing?)
  • Trend Watch: Seeking Alpha continues to grow and introduces its own investing app store

Transcript Continue reading “Tradestream Radio #2: hedge fund replication, insider trading, more”

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Insider Trading Dashboard: Everything you need to know

With the daily news of hedge funds being raided and expert networks being investigated, I wanted to put together a resource sheet for those looking to delve a bit further into the insider trading game.

Research

Decoding Insider Trading (Cohen): This new paper looks at a methodology to isolate insider traders acting on good information from noisy trades.  By looking at individual trades — versus looking at all insider activity — investors can mimic better-performing trades, boosting performance of insider trading strategies.

Law and Economics of Insider Trading: A Comprehesive Primer (Bainbridge) 84 pages of insider trading awesomeness.  This 2001 paper deals with everything from the origins of current laws prohibiting insider trading to defining an insider to making a case for and against regulating insider trading. For a smaller, more concise paper on insider trading, see Bainbridge’s Insider Trading: An Overview

Stock Market Anomalies: What can we learn from repurchases and insider trading (Core, Guay, Richardson, Verdi)

How Informative are Analyst Recommendations and Insider Trading (Hsieh, Ng, and Wang) Evidence points to insider trading and analyst recommendations giving conflicting signals.  This paper documents that and provides theory why this may be the case.

What Insiders Know about Future Earnings and How They Use It: Evidence from Insider Trades (Ke, Huddart, Petroni) Insiders do trade on this stuff up to 2 years before public release.

Do Insider Trades Reflect Superior Knowledge About Future Cash Flow Realizations (Piotroski, Roulstone) Short answer: yes.

Insider Trade Disclosure, Market Efficiency, and Liquidity (Buffa): Policy implications after finding that informational efficiency and liquidity are lower in more transparent markets

Institutional Investors and Insider Trading Profitability (Markarian, Bricker) Insider profits are inversely related to presence of institutional ownership.  Hedge funds/mutual funds may provide monitoring effect.

MSM (Mainstream Media) on Insider Trading

WSJ on Insider Trading (sub. req’d)

Bloomberg.com: Insider Trading

Google fastflip on Insider Trading

Tradestreaming on Insider Trading

Dealbreaker’s Insider Trading Fest(ivus)

NYT on Insider Trading

Dealbook on Insider Trading

Books on Insider Trading Strategies

Investment Intelligence from Insider Trading: If this book is the bible of insider trading strategies and research, its author, Professor Seyhun is Moses.  Great research into strategies for following insiders.

Profit from Legal Insider Trading: Invest Today on Tomorrow’s News

The Vital Few vs. the Trivial Many : Invest with the Insiders, Not the Masses

Videos on Insider Trading

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Seeking Alpha ramping up

Financial opinion aggregator Seeing Alpha is ramping up its traffic and overall site activity according to a blog post by the company’s founder and CEO, David Jackson.

Jackson’s November Update included a variety of data points, all accentuating the site’s growth:

  • Seeking Alpha’s new App Store has scored over 20k installs
  • new section launched targeting income investing
  • launch of a mobile site
  • site traffic hits all-time high

According to SA’s Jackson

During the week starting the 7th of November, Seeking Alpha had the strongest traffic in the history of our site — 7% more traffic that the second strongest week in the history of the site and 40% more than we saw in the same week in 2009

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New insider trading case could alter buy-side research

Tradestreaming and Screening 2.0

Unless you’ve been living in a cave last week (i hear it’s nice there this time of year), you’ve probably seen/heard/felt the aftereffects of the WSJ article U.S. in Vast Insider Trading Probe.

What’s going on

The short of it is:

  • the U.S. suspects the existence of multiple insider trading rings
  • the size of the impact of this net would vast eclipse previous insider trading networks
  • ensnared are consultants, investment bankers, hedge-fund and mutual-fund traders, and analysts
  • holy mackerel, batman

Interesting for readers of Tradestreaming and my book is the focus on expert networks. As per the WSJ

One focus of the criminal investigation is examining whether nonpublic information was passed along by independent analysts and consultants who work for companies that provide “expert network” services to hedge funds and mutual funds. These companies set up meetings and calls with current and former managers from hundreds of companies for traders seeking an investing edge.

These expert networks are de facto for most large investment funds.  As I wrote, expert networks like Gerson Lehrman provide unique research experiences, connecting fund analyst with industry experts for one-off interviews.

Not all bad

Unlike traditional sell-side research that is distributed to many investors and loses its value with greater distribution, expert networks provide extremely valuable interactions.  My book includes an interview with a senior GLG executive.  Much of our time spent together was spent dissecting the compliance engine the leading network had put together and I believe this was as much for PR purposes as much as it was for legal purposes.

It is clear that expert networks have been cited numerous times in the past few years as potentially being involved in facilitating investors’ access to material nonpublic information.  However, we are convinced that the financial markets are better off using “best of breed” expert networks than without them — Integrity Research

Other insider trading rings busted recently (like Galleon) were their own creations.  I have to agree with Integrity Research‘s opinion — this wasn’t by chance.  If Galleon’s vast web of insider information had existed on GLG’s platform, there would have been a clear audit trail of who was involved and to what level.  That didn’t occur — instead, by using individual contacts, Galleon was able to obfuscate its activities for years.

That wouldn’t have happened using a professional expert network and markets are better off by having these.  That said, it’s clear why GLG isn’t able to go public and we’re probably looking at increased regulation of these platforms (which would push more investors to skirt their use).

Heavier hand add more carrying costs

What might happen, regardless of the outcome of this particular probe, is

  • increased scrutiny into the investment research space
  • some type of oversight/regulation of expert networks
  • more distrust of Wall Street by people on Main Street
  • employers continuing to crack down on employee participation in expert networks
  • formation of ad hoc expert networks (LinkedIn + phone)
  • prices going up on expert networks because of increased oversight
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Stock-bond correlation falling, bullish for stocks?

Bloomberg out with a piece on the falling correlation between bonds and stocks.

Pioneer Investments, Security Global Investors and Citigroup Inc. say the broken connection is bullish as the greatest number of S&P 500 companies in a decade post earnings growth. During the bull market from 2002 to 2007 when the S&P 500’s price and profits doubled, the correlation averaged 0.15, data compiled by Bloomberg show.

The article believes that this change derives from a change in investor behavior — no longer are investors buying and selling based on macroeconomic factors but instead are returning to invest based upon profits and prospects.

Could be — the truth though — like everything in life — is probably somewhere in the middle.  The story of a change in correlation here is probably more about the dislodging of the bond market than about a return to proper pricing of equities.

Source: Greed beats fear with stock-bond correlation falling (Bloomberg)