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AT LONG LAST, THE MISSING LINK HAS BEEN FOUND. As reported in the scientific journal Nature last week, fossil remains of a previously unknown fish with four legs have been found in Canada. These tetratods could crawl out of the water to become the first land-dwelling animals. Resembling a crocodile, the creature had the jaw, fins and scales of a fish and the skull, neck, ribs and pectoral fins of the earliest land dwellers. The existence of the fish-like tetrapod, dubbed Tiktaalik roseae, seems to answer the quibbles of creationists, who had cited the lack of such a missing link as disproving Darwin's theories.
But we've witnessed many creatures slither out of the primordial ooze and up the hill. Capitol Hill, to be exact. And it is a tribute to their infinite adaptability that they can survive in virtually any environment. All that's needed is an unending supply of green stuff to sustain a congressperson, which is raised in a manner similar to mushrooms. In a deep, dark place, away from any prying eyes, things called earmarks grow on bills, which can then be traded for more green stuff. The symbiotic system is an obvious result of the evolutionary process.
The ability to slide back to the backwaters from the hill also serves some of this genus well. One species in particular, Delayitus perfidious, last week took leave of his Washington environs to return briefly to the more salubrious surroundings of the Lone Star state before slithering to its permanent abode in Virginia.
Clearly, the environment in Texas is different from Washington, which may cause mutations of one kind or another. But evolutionary theory is hard-pressed to explain how a former governor of that state, who once espoused conservative economic principles and opposed nation-building, would metamorphose into a big-spending Keynesian with a Wilsonian foreign policy when he was in the White House.
Another species, once thought to be extinct, has reappeared: Auracous insectus, or the gold bug. This creature thrives in an environment that is hostile to other creatures, notably Bovinus optimus, or the bull. Gold has positively boomed of late, topping $600 an ounce last week for the first time since the Great Inflation of the early 'Eighties, for a gain of over 20% since last fall.
Of course, gold has been declared to be defunct many times, a barbarous relic of the Paleolithic Period of monetary systems. During those primitive times, money was supposed to be backed by something tangible, not the full faith and credit of a government, whatever that is. Since 1971, when the last vestiges of the dollar's gold backing were eliminated, the dollar's value has been exactly 100 cents. Or in the current vernacular, the dollar is worth...whatever.
The rise of gold, to be sure, hasn't been just a dollar story. The metal rose last year while the dollar was defying the conventional wisdom by rising. And gold is rising now that the dollar is rolling over. In other words, gold is rising in terms of all currencies, the euro, the yen and the Swiss franc. And, to be sure, it also has increased in terms of the Chinese yuan and Indian rupee, as the newly rich in those countries have more of a historical perspective on paper currencies. (As for the Chinese view of history, recall that when the late Chinese Premier Chou En-lai was asked about the impact of the French Revolution, his reply was that it was too early to tell.)
Gold bugs also are a suspicious lot, especially when it comes to central banks and their monetary manipulations. Which is sort of like saying, just because you're paranoid doesn't mean somebody's not out to get you. And the latest source of paranoia is that the Federal Reserve has stopped publishing M3, the broadest measure of the money supply. Now to formerly high-church (now low-church) monetarists, any fuss about M3 is a bit puzzling. Its link to the economy has been tenuous in recent years; other, less inclusive, measures seem to be more in sync. MZM (which stands for money of zero maturity, if you care) consists of cash plus any kind of account on which you can write a check, including money-market funds, and seems to represent spending money. M2, which also has savings and some CDs, has been the traditional money measure. But the Fed can't control the money stock and pays little, if any, attention to these measures. No matter, say the conspiracy theorists; if the Fed isn't publishing M3, it's because they've got something to hide. The truth is out there, with the UFOs in the Arizona desert.
There are lots of reasons not to have faith in the dollar or other paper currencies, but the lack of M3 data doesn't seem to rank as an important one. Rather than resorting to fantasies about nefarious intentions of central bankers, the reasons for gold's appreciation are out in the open for all to see. To be sure, the availability of exchange-traded funds, which afford a cheap and efficient way for anybody with a brokerage account to own an interest in the metal, is part of the reason for gold's ascent. Never before could anybody sit down at a PC, log onto his or her online broker, type GLD or IAU (the ticker symbols of the two gold ETFs) and buy an interest in bullion. Rather than boosting the metal, however, the ETFs may have drawn interest from gold- mining shares, which in many cases have uncharacteristically lagged behind bullion's advance.
The strength in gold seems more to reflect an evolving attenuation in investors' desire to take on risk, even for the potential of the slimmest reward. Friday's market action seemed most telling. Stocks opened higher following the release of March's employment data, which were on the strong side of a rounding error -- a 211,000 increase in nonfarm payrolls, about 20,000 more than forecast, but after an 18,000 downward revision in February's number, a wash. The jobless rate ticked down to 4.7% (4.65% before rounding, if you want to be exact) from 4.8%. But as Philippa Dunne and Doug Henwood of the Liscio Report point out, one out of six of the new jobs was at eating and drinking establishments. Judging from the strong sales reported Friday by Starbucks (ticker: SBUX), lots of them are probably baristas, a job that can't be done from Bangalore.
But for the markets, Friday qualified as an UDD -- universally down day -- to Woody Dorsey of Market Semiotics. Stocks and bonds fell as the jobs numbers, which have taken on even greater importance for Fed decisions, point to the federal-funds rate rising beyond 5%, from the current 4&frac34;;%, by summer. The 10-year Treasury note also was knock, knock, knockin' on 5%, ending the week at 4.98%. As noted here several weeks ago, the charts show 5% to be a key resistance point (support in price terms) for the benchmark 10-year rate.
Other technical mutations, none of them positive, could be seen in the stock market's internals. While the major averages shed only about 1% Friday, breadth was horrible, with four times as many losers as gainers on the Big Board, and more than twice as many declines as advances on Nasdaq. Especially worrying was an even bigger, 1.8% hit to utilities while financials, the biggest sector of the market, shed 1%. Both of those declines speak to the interest-rate concerns besetting the markets.
Amid the rate worries, the bulls can console themselves with the likelihood of another lively earnings season, with an 11.6% year-on-year gain penciled in for the first-quarter numbers set to start rolling in this week. And, according to Merrill Lynch, the following quarters should look even better. Let's see if the guidance that accompanies the profit reports is as optimistic.
All in all, it seems increasingly likely that the investment world is evolving into one that favors a different species, Ursa Major, the bear. And cash, which yields upwards of 4&frac34;;%, may be the missing link in many portfolios.
IS COKE'S PLAN THE REAL THING? Last week Coca-Cola (KO) announced that it wouldn't pay directors if the company doesn't hit earnings-per-share targets. Already, the moralists and editorialists are applauding, not the least among them, outgoing board member Warren Buffett, whose Berkshire Hathaway (BRK-A) is Coke's biggest shareholder.
Under the arcane scheme, directors no longer will receive cash for their efforts but something called "equity-share units" valued at $175,000. Directors can trade them in for real, hard cash in 2009 -- if earnings per share grow at a compounded annual rate of 8% in 2006, 2007 and 2008.
"This aligns the interests of shareholders and directors on both the upside and the downside," Buffett told The Wall Street Journal. "I've never seen a system as good as Coke has now."
Of course, Coke's plan is supposed to answer critics of boards of directors, which have paid themselves and executives handsomely, often while corporate earnings and the share price have gone down the tubes. No longer will Coke directors get paid for poor corporate performance.
The idea has undeniable appeal. Why should these folks collect a fat check for simply rubber-stamping a CEO's decisions and pay packet? Especially when shareholders are losing money?
As with so many simplistic solutions, there are drawbacks. Leave aside the problem of attracting directors who aren't plutocrats, such as academics, the clergy and officials of nonprofit organizations. While a billionaire won't miss 175 grand if the company on whose board he sits misses its numbers, it would mean a lot to many outside directors or the organizations for which they work.
But what about the biggest corporate scandals of recent years? Didn't those involve doing whatever it took to meet earnings numbers? Isn't that what happened at WorldCom, Tyco and Enron? And it's not just where outright criminality was involved. Fannie Mae still hasn't straightened out its books.
Even without such earnings manipulation, directors would have an incentive to maximize earnings per share in the short run, even if that were not in the long-run best interest of investors. A simple means would be through leverage. Borrow a few billion to buy back stock, something easy enough for any investment-grade company in the currently over-eager credit market. Presto, EPS looks better, even if long-term financial flexibility is compromised or the ability to make other investments is curtailed.
And if you think hitting EPS targets is the end all and be all of corporate performance, peruse the chart here, which is glommed from the incomparable Grant's Interest Rate Observer. An increasing number of companies are somehow able to report earnings despite having negative cash flow, as Barron's alum Jim Grant quotes Jeremy Mindich, co-founder of Scopia Capital, a long-short hedge fund, in the latest issue.
The key job of a CEO and the board of directors is to allocate the shareholders' capital. That has been what Buffett has done masterfully for Berkshire, and what he has helped companies in which he has invested to do. No set of incentives would have made him do better.
I t didn't take long after hitting the ground in atypically sun-washed Seattle to get a handle on who was having more fun these days, Bill Gates or his original running mate, Paul Allen.
Both men were battling for the center of attention late last week in the Emerald City as they found themselves throwing rival media events of international importance. Gates played host to hundreds of journalists and analysts as Microsoft outlined its strategy for life after Windows, very little of which addressed life after possible bust-up.
Meanwhile, Microsoft co-founder Allen, who left the company some years ago, was busy holding a rock-and-roll festival christening his long-awaited pop cathedral, the Experience Music Project. In the city that spawned rock guitarist Jimi Hendrix and grunge-god Kurt Cobain, it's fair to say the locals were invariably more psyched about Allen's citywide block party than Gates' geek-fest on his Redmond campus. Yet nary an inn had a vacant room from Vancouver to Portland, indicating that plenty of visitors were here to hear what Bill had to say about the future of his company at this most critical and historic juncture. Surprisingly, with divestiture being top of mind, very little was being said about what the company would do if it were split. In fact, the Microsoft event was sort of like attending a wedding where the bride was pregnant, but most guests were too polite to ask when the baby was due. Thus, it was a full four hours into the program before a Brazilian scribe finally asked the unspeakable. How will Gates execute his vision for the Internet if the company is sliced in two?
His answer: "We haven't modified [our] basic vision" of operating from a single platform. In other words, tell the judge we don't expect to break up anytime soon. The new strategy, dubbed Microsoft.net, is a vague plan tying many of Microsoft's various products to a Web-based platform that will spur a whole new generation of products and services. As it was described last week, it would seem rather difficult to carve the next generation of Microsoft into distinct parts. "We expect to prevail on the legal issue of one integrated company," Gates unblinkingly told the crowd.
At least you have to give him credit for not backing down. As to whether there is a Plan B for Microsoft.net under a court-ordered break-up, one would have to assume there is. Still, with the air thick with speculation and uncertainty, it was hard to assess the potential of Microsoft's grand plans for the future under the current dark cloud. One message repeatedly conveyed by Chief Executive Steve Ballmer was that Microsoft would need other technology companies to participate in its multi-pronged attack on the Web in order to succeed. Upon hearing that, sell-side analyst David Readerman of Thomas Weisel Partners in San Francisco wondered what companies would bet on Microsoft right now with its future so murky?
"You're leading a parade, and you are asking [software] developers to come with you, but what happens if no one joins?" Readerman asked.
Of course, it was a rhetorical question because such a result was unthinkable for the world's most powerful software company, regardless of its legal woes. Ballmer noted that the effort to sign up partners would not start in earnest for another six months at the earliest. The message: Microsoft has bought itself some time. The recent ruling by Judge Thomas Penfield Jackson suspended various behavioral restrictions during appeal. Plus, even if the Judge's break-up order sticks, it could be nearly two years before the company would split. Naturally, competitors and critics think that's ample time for Microsoft to flex its muscle and allow a good portion of its dot.net platform time to take root.
S peaking of dot.net, what is it exactly? Ballmer attempted to give a couple of answers. It's a "programming infrastructure" that supports the next generation of the Internet, he explained. And it's a "set of software that runs on client [servers], devices and [Web] servers," he added.
While sounding rather nonspecific, the strategy is driven by the new world order of software-one where the product is no longer licensed and shipped via disc but is rented or subscribed to via the Net. During their presentations, Gates' and Ballmer's field lieutenants demonstrated how a cadre of products and services that Microsoft already sells will interconnect in a wireless world linked by the World Wide Web to ever-portable "smart devices." "We are betting on the Windows 2000 platform" to integrate with a Web-based world, Ballmer said. To do so, a new, kinder, gentler Microsoft talks about embracing an open system that integrates with start-up dot.com service providers as well as the databases of Fortune 500 back offices. Microsoft at home, at work and at play is the overall game plan.
At the center of all of this is Microsoft's willingness to base many of its offerings on XML, the open software code already embraced by the industry that allows various computer-based systems to talk to each other over the Internet.
"The direction we outlined today is one that we think the industry will have to go down," Gates imparted. "Here you see us taking and creating open standards."
B allmer and Gates conceded that much of their vision will take years to implement, requiring "patience" from shareholders and consumers. More importantly, the transition from desktop computer dominance to a Web-based platform will require a drastic shift in how it gets paid, from collecting royalties upfront to receiving subscription payments after software and services are delivered. It won't be easy.
What impact the radical strategy shift will have on shares is difficult to discern through the omnipresent legal fog. The company's shares have recovered much of the ground they lost since the judge's initial finding of fact in March, closing Friday at 77 11/16 after trading as low as 60 3/8 on May 26. But much of that gain seemingly was lifted by Nasdaq's rebound and a prevailing perception that Microsoft is finally getting some favorable bounces in court.
After being criticized for fumbling its efforts on the Web to date, the company's new direction was mostly well received by analysts. But Microsoft.net will be little more than a buzz word until it is clear how Gates' latest vision for Windows on the Web might work if there are indeed two Microsofts that ultimately share that same vision.
W hen we first heard rumblings that Yahoo wanted to be a player in business-to-business electronic commerce, we, like many others, scoffed. Our initial reaction was that the ultimate name in free consumer portals was taking its eye off of the ball. But, as often is the case, the folks at Yahoo may be on to something big. Early this week, Yahoo is expected to announce a corporate initiative focused on linking its Website to enterprise software systems. You think we're kidding?
Consider that Yahoo reaches 68% of all workers on the World Wide Web and the logic becomes clearer. Yahoo is already the default page of choice on most office desktops across the land. Why not link that portal with various intranets and other corporate databases of the global 2000?
To make this happen, Yahoo has hooked up with its longtime partner Tibco , a maker of enterprise application integration software that stands to benefit greatly if this gambit works. We have touted the importance of EAI software before as companies race to knit their various computer systems together using the Internet. With Tibco powering the back end, one of the key benefits to Yahoo corporate portals is that they will automatically get updated in lockstep with every innovation added to the flagship consumer Website.
There are two basic options for obtaining B2B portals: build or buy. And Yahoo could very well become a popular option for those companies that want to buy their portals off the shelf.