By Bob Wood
Given the inherent bias that most investors feel toward U.S. stock and bond markets, I am often asked why I continue to avoid investing in domestic stocks. Typically, those asking this question wonder if there arenâ€™t at least a few worthy stocks, considering the steady stream of recommendations coming from the financial media. And still I say there is little reason to consider any of them!
Itâ€™s not just the shameless promoters on CNBC who tout fortunes to those following their lead and buying whichever stocks they have a vested interest in selling. Print publications, such as Barrons, also feature predominantly domestic stocks as â€œbest buying opportunities.â€ I may need to visit my eye doctor, because I still see no good reason to buy domestic stocks.
Hopefully, I am not the only Bear whose information and advice you consider. (I do hate to be the only Bear in the woods!) But not only Bears see arguments forming against domestic investors. Even articles in local newspapers offer evidence that supports my strong aversion to domestic markets.
One example appearing in my local paper on June 3, 2006 describes the pay package bestowed upon the Yahoo CEO. When he saw what his compliant board was awarding him, Terry Semel must have shouted â€œYahoo!â€ â€” several times. And yet he is a man who invested and risked nothing to build the company, as opposed to early investors who provided working capital to grow the company.
But Semel made the shareholder-friendly decision to forgo any salary, taking a token $1 for this yearâ€™s compensation. Of course, since heâ€™s not about to work for nothing, his board of directors awarded him stock options based on the May 31, 2006 closing share priceâ€” $31.59. And how many options did he get?
The article reports that he received options, at no cost to him, to buy six million shares at that closing price. Certainly, the potential exists that Semelâ€™s compensation may constitute a bad risk if share prices should fall. But his track record appears most successful, since, the article says, in the three years Semel has occupied the big chair at Yahoo, he has earned $429 million!
Youâ€™ll note that I refer to Yahooâ€™s board of directors as â€œSemelâ€™s board.â€ It seems to me that company owners are terribly ill served with the pay awarded to a man who has done far less for themâ€”the people he supposedly works forâ€”than for himself. Yahooâ€™s share price has gone nowhere in two full years, trailing both the S&P 500 and a more relevant benchmark, the NASDAQ 100.
Semel has been paid far in excess of investors who have taken risks from which he is insulated. But apologists abound, calling his pay â€œjust rewardsâ€ that a capitalist system bestows upon a CEO, who earns whatever he is paid, if only because he had the nerve to ask for it. Yet shareholders might well have vetoed any such pay package, if consulted prior to its granting.
But, of course, no one was asking. Nor was anyone asking G.E. owners the amount of pay Jack Welch should receive. Now, for sure, G.E did wonderfully well under Welchâ€™s leadership. But allowing that any level of compensationâ€”no matter how largeâ€”is therefore justified, seems overly generous and downright disrespectful to shareholders whose savings were at risk during his tenure.
Is any CEO good and special enough, considering the companyâ€™s alternative choices for the position, to amass a fortune of over $1 billion, with retirement benefits including an annual pension of $9 million. Add to that this partial list of perks including unlimited use of a corporate jet, golf membership at Augusta National, court-side tickets to Knicks games, box seats at Yankee games and a skybox at Fenway Park for all Red Sox games?
Defenders of Welchâ€™s indefensible compensation and retirement benefits say he was a uniquely qualified man with the best available management abilities. So for what he was paid, investors couldnâ€™t have gotten a better deal? Oh, really? Does that mean Welchâ€™s successor, Jeff Immelt could not do a better job for only $4 million yearly and with a much shorter list of perks? What about Robert Nardelli, who left G.E. after losing out to Immelt in succeeding Welch? Could he have done a similar job at much lower pay? Would he have accepted the job paying only $5 million annuallyâ€”or held out for a better deal elsewhere?
In Nardelliâ€™s case, he could haveâ€”and apparently did! Now the CEO of Home Depot, he earned over $10 million last year and has reportedly taken home over $200 million in shareholder cash during his short time at the helm. And an article posted on Jim Cramerâ€™s web site (thestreet.com) says, yes, Nardelli is worth what he is paid. Odd then, that Home Depot shareholders have lost money over the past five years, isnâ€™t it? He earned his pay? How does anyone know that another top manager would not have done better for much less?
We donâ€™t know, since the gameâ€™s results are rigged in favor of top employees, regardless of the ownersâ€™, i.e., shareholdersâ€™, best interests. Another classic example, Lee Raymond at ExxonMobil, is getting a platinum parachute of over $400 million from his recent retirement. Yes, Exxon has done very well of late, but so has virtually every company in the energy sector. But Exxonâ€™s share price badly lagged that of industry rivals for the past five years. How much was that performance worth to shareholders?
Managers at Enron, Worldcom and Adelphia were also very handsomely paid, but does Cramerâ€™s web site suggest that they should have been paid less, based on their utterly destroying all company value plus the investments of the owners who paid these people? What about generous pay checks awarded to John Chambers at Cisco, Scott McNealy at Sun Micro or people running JDS Uniphase?
Chambers, much like Yahooâ€™s Semel, appears to be taking a risk of sorts by forgoing salary in exchange for stock options. Is he aligning his best interest with that of his shareholder employers? Well, any pay earned from stock options is taxed at the lower capital gains rate as opposed to income tax rates. How would you like your entire income taxed at 15%?
Adding considerable insult to the injuries inflicted upon shareholders in these and other companies is the recent uncovering of a particularly nasty compensation practiceâ€”the back-dating of options awarded at no cost to these corporate charlatans. So Semel and Chambers took risks by accepting only option-based compensation, right?
In a practice recently uncovered by University of Iowa finance professor Erik Lie, companies apparently have been awarding stock options for managers then re-dating the effective date of vesting to one when stock prices rose suddenly, making the stocks guaranteed winners.
Neither is it an uncommon practice for technology companies to award options at prices so high that they may never vest, and then awarding a new set of options to the same holdersâ€”at substantially lower prices.
What I describe here is not the same practice as when Bill Gates sells shares of Microsoft.
Gates took the risks, built the company from nothing and assumes the risk associated with a falling share priceâ€”just like his shareholders. What aggravates meâ€”and should infuriate investors everywhereâ€”is when someone like Terry Semel or Bob Nardelli suddenly shows up in the big office and drains millions in company cash, while producing little if any real value for shareholders.
Remember Carly Fiorina at Hewlett Packard? She failed miserably, and shareholders suffered badly lagging returns on their HP shares. Yes, Fiorina was fired for her poor performance. But she was also awarded a retirement send-off of over $21 million! Gee, what is todayâ€™s price for failure? Or are CEOs guaranteed winners, regardless of performance?
Of course, when I recommend buying shares in foreign markets, a typical question asked is whether the same kind of shameless stealing of investor cash goes on there, too. Is this just part of the investment game, a fact of life for investors? Well, I canâ€™t be certain, but one sure thing is that what goes on in U.S. companies has to top the list in terms of blatantly robbing money from company owners. And this level of pay for non-performance shows how little regard todayâ€™s CEOs have for the owners/shareholders.
With investorsâ€™ best interest apparent no where in the near-criminal behavior of CEOs at our largest corporations, where is the case showing merit in investing in U.S. markets? Even with apologists like Cramer, always quick to defend these modern day robber barons, why bother at all with domestic stock markets? To me, they are not of investment quality. Our home market is simply not what you think it is. CEOs receive pay while at no risk, yet all risks are borne by owners!
Domestic markets are so full of risk that a bond-rating agency going through the books would quickly slap a â€œjunkâ€ rating on them. They just do not offer what investors should bank on for financial security. The domestic markets are a game of sortsâ€”a game rigged so thoroughly against investors that the best investing decision you may ever make is simply avoiding them!
I am totally at peace with my decision: Iâ€™ll buy international stocks and bondsâ€”and for the long term, too.
Have a great week,
Bob Wood ChFC, CLU Yusuf Kadiwala. Registered Investment Advisors, KMA, Inc.