May 26 Linkfest

Links to some interesting articles I read this week. My comments are in italics.

Economy

A commodities boom makes itself felt in the supermarket: Agricultural commodity prices are often volatile, in part due to weather fluctuations that affect crops. But what is unusual about recent price increases is that so many prices - everything from grains to ground nut oil - are rising simultaneously. Economists worry that the sudden increase in the cost of such a basic good as food will fuel inflation.

Meanwhile, humanitarian agencies are worried that a sustained rise in prices will make it more difficult to feed people in the poorest countries. Greg Barrow, spokesman for the UN's World Food Programme, says rising demand for raw materials from China, as well as a weaker US dollar and higher transportation costs, are making its food purchases more expensive.

Economists worry that the sudden increase in the cost of such a basic good as food will fuel inflation. James Paulsen, chief investment strategist at US financial advisor Wells Capital Management, says the rise in non-energy commodity prices could presage an increase in core consumer inflation later this year. (wsj)

Lots of China Stories this Week:

China to Diversify Foreign Currency Reserves: Authorities have said the country will diversify part of its foreign exchange reserves, which amounted to 1.02 trillion dollars by the end of March and are believed to be invested mainly in dollar bonds. (Xinhua)

Hmm…where to put the money??? Aha! Private Equity!!
China Puts Cash to Work in Deal With Blackstone: The landmark deal signals China's determination to earn higher returns on its reserves and gives Blackstone a potential advantage in doing deals in China. (WSJ)

Investing:

Marc Faber Says Financial Markets in “Final Stages of a Bubble”: Not if, but when: global markets are in a bubble and will crash one of these days. The only asset he would buy now: farmland in Argentina, Brazil, Africa, New Zealand, Australia (Bloomberg)

Dividends or Share Buybacks?
Essentially, companies have four things they can do with their free cash flow: 1) reinvest in the business; 2) pay back debt; 3) issue dividends; 4) buy back stock.

The relative merits of each option vary widely. Lately, share buybacks are in vogue. While this has undoubtedly (in my opinion) contributed to rising stock prices, I don’t think it’s necessarily a good thing for long-run oriented shareholders.

In a May 8 article, my favorite financial journalist Jim Jubak, makes a compelling argument that cheap debt is the fuel for the share buybacks:

How Cheap Debt Overinflates Stocks: Take the practice of using borrowed money to buy back shares. Bet you thought all those buybacks that companies are announcing were funded out of current cash flow. Think again. Even big players such as IBM Corp. are piling on debt to repurchase their own shares.

Since 2003, IBM has purchased 203 million of its own shares at a total cost of $30.7 billion. That's a huge percentage -- about 52% -- of the company's total operating cash flow of $59.5 billion during the period. It looms even larger if you add in the $17 billion IBM spent during this period on capital expenditures, the $8.8 billion it spent acquiring businesses and the $5.3 billion it spent paying dividends to investors. All that -- added to the spending on buying its own shares -- comes to 104% of operating revenue.

Or look at it another way. In 2006, IBM used the equivalent of 67% of its total net income to buy back shares. In 2005, the percentage was 82%. In the two years before that, 64% and 42%, respectively.

If you add in dividends, 2006 payouts to investors came to 85% of total net income at IBM. (Jubak’s Journal – MSN Money)

As a follow-up article, Jubak lays out sectors where there are fewer and fewer shares available due to share buy backs and buyouts:
3 Sectors Where Shares are Scarce: The supply crunch in the overall market is astounding. First, thanks to buyouts that take public companies private and acquisitions that merge one company with another, the number of publicly traded stocks is shrinking. Second, even when companies stay public, they're buying back their own shares, reducing the number of shares trading in the public markets. Add stock buybacks to buyouts and acquisitions and, Standard & Poor's estimates, a total of $1 trillion in stock will exit the public stock markets in 2007. (Jubak’s Journal – MSN Money)

The Dividend Dearth: Still Too Stingy: The waning importance of dividends in the States reflects the rise in the past two decades of institutional investors, who tend to see stocks as vehicles for capital gains, not income. Historically, however, dividends have been crucial to investors. Since 1928, stocks have returned 10.4% annually, with 40% of that generated by dividends. (WSJ)


Personal Finance:

Get More Miles for Your Money: Tips for reducing gas costs. (Yahoo! Finance)

Taxes:

Supreme Court to Address State Tax Breaks for Bonds: In a case with the potential to rattle, if not reshape, the market for state and municipal bonds, the Supreme Court agreed on Monday to decide whether states can continue to exempt interest on their own bonds from their residents' taxable income, while taxing the interest on bonds issued by other states.

The preferential tax treatment for in-state bonds is longstanding and very common, offered by nearly all the states that have an income tax. State and local governments issued more than $350 billion worth of bonds a year from 2002 to 2006.