The province of insurance is often a misunderstood and lightly inspected area of security analysis. It is, however, becoming increasingly important in cash flow and risk analysis in light of rising health care costs, growth in corporate assets, a seemingly higher incidence of natural disasters and lawsuits, and other specialized needs for which insurance is required. This has resulted in the rising use of self-insurance as a cash savings technique.
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Ken Hackel, president of institutional equity manager, CT Capital, and author of Security Valuation and Risk Analysis (McGraw-Hill, 2010), warned about six months ago, of the impending pension liability. Now, as expected, firms with large defined benefit plans are fessing up to the power of the discount rate on the ultimate liability, which is now resulting in stepped-up contributions. Hackel estimates that for many firms, with 10-year Treasury bonds at 2.5%, a further 1% reduction in current yields could very well have the same impact as a 20% reduction in the estimated long-term investment return assumption. When Kenneth first started writing of the liability, a 1% reduction was roughly equivalent to a 15% decline.
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Tell us what your new book is about?
Rarely does a does a book on finance and investments “break important new ground.” I believe Security Valuation and Risk Analysis, encompassing my four decades covering about every facet of security analysis and corporate finance, does so.
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Kenneth Hackel, president of institutional investment advisor, CT Capital LLC, submits that the lessons related to the crisis of the credit markets during 2007-2009, including effects on the economic and financial markets, have been well constructed. What he believes is not as well-known, is the equity market, as measured by the S&P 500, has lost much of its prowess as a forecaster of pending economic change, and therefore as a forecasting tool of pending recession and expansion.
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Given the rise in financial valuations the past 7 weeks without any obvious increase in economic strength also present in the “Main Street” economy, detailed security analysis is now taking on increased gravity. This is especially so with another earnings “season” upon us, and with it, an avalanche of references to cash flow and free cash flow. If only investors and financial reporters had greater clarity regarding cash flow analysis, stock volatility would be much reduced and investors’ financial results improved.
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I see the head economist at Goldman Sachs (GS) is now forecasting the US economy will either be “fairly bad” or “very bad.” If his forecast proves accurate, what does that say about equity investors in general, who have carried valuations and equity benchmarks to new yearly highs? Does it also tell you Goldman’s economists and research teams are not on speaking terms?
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During the height of the credit crises a short two years ago, the hint of a credit downgrade was sure to result in an outsized drop in the underlying stock. On the other hand, a confirmation of a rating pushed the impacted stock higher. Now, due to the considerable balance sheet re-liquefaction and built-up capital, the fear of a credit rating is not near as worrisome.
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