Interesting statistics from different sources

This month’s faculty is made up of some observations on various corporate finance texts that have passed over the ACT’s desk in recent weeks and which may illuminate an understanding of how life is moving in the world of corporate finance.

This graph shows that a trend in 2009 for falling spreads for all corporates had reversed in 2010 so that sub investment grade borrowers are hugely out of favour as far as bank lending is concerned and paying more for bank credit than ever before. Investment grade borrowers are back to 2003/2006 levels as they seem sought after by banks. Could competition be playing a part here as investment grade borrowers can also borrow easily in bond markets? However, high yield bond markets are also booming, but perhaps they are not so easy to access for all borrowers.

2 The Journal of Portfolio management

http://www.iijournals.com/doi/abs/10.3905/jpm.2010.36.4.001
This article was about the long held assumption that diversification is the first rule of investment. Indeed this has been held since ancient Greek times and we all do this, in our own investment portfolios, or we should, and in our businesses where managers will seek diversification of geography, product line, production etc. The article argues that our traditional approach of seeking non correlated assets has relied on the correlation of usually normally distributed returns. The problem with this is that correlations change and in a crisis, such as in 2008, all correlations tend to 1. The proposal in the article is that a diversification of trends is better, the relation between expectations of correlations. This is correlation at a higher level. This is worth bearing in mind for own decisions of diversification.

3 McKinsey on Finance

http://corporatefinance.mckinsey.com/knowledge/knowledgemanagement/mof.h...
This article, entitled “The myth of smooth earnings” tackles the long held view that smooth earnings growth is best for shareholders. Indeed many managers try to do this when publishing their results, often quarterly in the US, and perhaps massaging their numbers to ensure smooth growth with tricks such as bad debt provisions, other provisioning / release of reserves, depreciation policies and so on. The article argues that the world is not smooth and so earnings cannot expected also to be smooth. It also argues against diversification of corporate portfolios. It backs this up with empirical analysis of earnings variability and Total returns and discovers no meaningful relationship, but possibly even damage to firms.

By Will Spinney