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Programming note - Shaun is running the rumblings today
Good morning, here are some Royals and baseball related links below.
The newest mock from Baseball America has quite a surprise: the Royals take Vanderbilt shortstop Austin Martin. Martin is one of the consensus top two players in the draft, so him falling to #4 overall would be about a big of a “fall” as dropping two spots can be.
This turns into a fantastic opportunity for Kansas City, as there are plenty in the industry who believe Martin is the top overall player in the class. It would be hard to see Martin falling past this point if Veen was an underslot option in front of them.
Sam Mellinger of the Kansas City Star writes that Dayton Moore and John Sherman are showing baseball what the ‘new’ Royals will be about in which Sam unpacks a phone call between Scott Boras and Dayton Moore
The Royals pulled themselves from punchline to 2015 World Series champions with payrolls that consistently ranked in the bottom half of MLB. They did it with strong drafts and productive player acquisitions, sure, but they also did it with a mantra of personal love and support that was overwhelming inside the organization and bordered on corny to some outside.
Moore has always led with his heart. He’s being supported to continue.
Mike Podhorzer of FanGraphs looks at the opportunities for some Royals prospects in 2020
Jackson Kowar is the team’s sixth best prospect, and really the only upper minors starting pitcher who seemingly has any fantasy potential right now. He hasn’t pitched at Triple-A yet, though, so he’s unlikely to make the rotation when/if the season begins, and assuming no minor league season, it means we wouldn’t see him until 2021 the earliest.
Ken Davidoff of the New York Post spoke with newly signed Royals player Alex Katz about well-attended Zoom conference call with Dayton Moore and JJ Picollo. Katz mentions how he wasn’t surprised by Moore’s payroll stance
“I knew right away that this organization really cares for its players. It didn’t catch me by surprise that (Moore) said that,” said Katz, who signed with the Royals in February as a minor-league free agent. “They told us a few weeks ago that they’re one of a couple of teams that doesn’t believe in contraction. I knew from there they were on a different page than a lot of different organizations.”
Robbie Stratakos of Baseball Essentials looks at how the Royals offense overshadows their pitching issues
You can win without every aspect of your roster being stellar. That said, your lineup and rotation can’t be polar opposites of each other; it offsets itself and takes the franchise nowhere.
In other baseball stuff...
Miller Park suffered minor damage after a break in that might not be related to the nation wide protests
Baseball’s Beetlejuice Dan Szymborski ponders if one giant tournament is better than a 50-game season
Baseball America finalizes their 2020 draft top 500
And also breaks down those prospects by the numbers
Chris Archer is out until 2021 recovering from thoracic outlet syndrome
Finally, over at the “Worldwide Leader in Sports” (and ads/autoplay videos that crank my Chrome browser memory up to eleven)
Tim Kurkjian writes about the legendary reach and fear Randy Johnson imposed on batters
Kiley McDaniel gets his hands on advanced data for one of the drafts best pitching prospects
And also Kiley updates his top prospects for said draft
Hedge Funds have done fairly poorly over basically the past 10 years and it’s probably not a coincidence that that has coincided with the race to the bottom on fees for ETFs and trading. Hedge funds notoriously charged what is called 2 & 20 - 2% management fee and 20% of returns. Meanwhile, you or I could go to Charles Schwab and pay $0 to get into a Vanguard S&P 500 ETF and pay only a couple basis points (1bps = 0.01%) a year. One famous hedge fund lost ~45% in March through April and that is without considering the redemptions that will be coming after the 6-month required advanced noticed for withdrawal.
I mentioned in our most recent podcast that I was reading a book called The Fix about how one banker (well, many bankers really) colluded to manipulate of LIBOR, the most important number in the world. LIBOR has been set to go away for some time, so soon we won’t ever have to worry about that again (it was never created with the intent to be a numbers $300+ trillion is being measured with). In it’s place will be a new rate called Secured Overnight Financing Rate, or SOFR. You can listen to the folks at Bloomberg talk about life after LIBOR.
Here is the weird thing about bonds: no one really knows what one is worth at any moment and then, funds made up of bonds in turn don’t know what their fund is worth either. Stocks trade on an exchange, they are typically liquid and active, and at any given moment I could tell you what Joe Trader is going to pay for XYZ Stock down to about the penny. Bonds on the other hand still require two parties who have opposing interests to connect for a price to be found. With stocks, there are market makers who genuinely don’t care what the price of a stock is going for because they are going to buy it at $1 and sell it at $1.02 and collect the difference (called the “bid/ask spread”). They get that spread because of that very willingness to buy or sell at any moment you want to sell to them or buy from them.
Bonds on the other hand aren’t nearly as active of a market, so their prices are a bit stickier. The bid/ask spreads are wider and there aren’t traditional market makers for them. There are brokers that connect sides, but the buyer of XYZ Stock doesn’t care what price the seller of XYZ Stock sold at - they aren’t ever interacting directly. The market maker stands between them. Joe Trader of ABC Bond does care what Jane Trader buys ABC Bond for because Joe and Jane are interacting directly with each other (essentially the same too if they use a broker). Joe will call up Jane and say “Jane, I have 20 ABC Bonds I’d like to buy, do you have them?” Jane will say “Yes I do, I’ll sell them to you for $105 each”. Joe says “I think they are really worth $102” and then Joe and Jane will go back and forth trying to squeeze every last penny out of each other.
When you judge a stock you are looking mostly at a few things: current price relative to a few fundamental metrics, the sustainability of revenue, the moat of their product, etc... You could have 20 different analysts come up with 20 different valuations for a stock but they all are getting the same price for it if they chose to buy it.
Stocks don’t mature (okay, preferred stock does) and they don’t pay a set payout semi-annually (again, yes preferred stock does). Fixed income does, so all it takes is a little math and you can value a bond. You just need to know:
- How many years until it matures
- What interest rates look like
- What par value is at maturity
- What the coupon is
A simple discount model will give you an exact return on what you’d get for the bond if you bought it and held it to maturity. There are of course adjustments for credit quality and if there are embedded options on it, but for a “vanilla” bond, the math is incredibly straight forward.
Obviously, people aren’t doing that math manually. They just go look the CUSIP (the ticker symbol for bonds) up on their Bloomberg terminal, it tells them what the price of the bond should be, and then Joe is supposed to go ask Jane for that price (*see a funny story below). But it’s not quite that easy in reality because bonds are essentially only as good as the company that issued them. Investors would be willing to pay more money for a bond from a company like Johnson and Johnson than from ZYX Company that is this close to going bankrupt.
30 years from now Johnson and Johnson will probably be around, so I’ll buy their bond because I know I’ll get my $100 in par value and all my coupons along the way. But if ZYX Company has a 25% of going bankrupt in the next five years, then there is a 25% chance my bonds are never going to mature and they’ll be worth squat (let’s not argue about the liquidation preferences here). So you don’t just care about the math only, you also have to care about the credit quality of the issuer (and ratings agencies like S&P and Moody’s exist for this very reason).
The other thing that helps set the price of bonds is what a process called linear interpolation. Bonds from ZYX might not trade every day. This is really bad for pricing because what Joe Trader bought it for two weeks ago isn’t an accurate reflection of what Jane Trader should buy it for today. Two weeks is a long time in finance! So what happens is Jane Trader (well, her Bloomberg terminal does) goes out and compares ZYX Company’s bond to other similar bonds based on credit quality, yield, maturity, etc... and then interpolates the price for ZYX. That’s all fine and good but the danger is that you are assuming those other bonds are priced right too. There is a company that does this for 2.8 million products a day called ICE Data Services and you can pay them money and they do a good job. However during the pandemic caused bear market in March, they stopped doing this.
Anyways, like I said, no one knows what their bond fund is worth.
I’m running out of space here but I’d be remiss if I didn’t at least mention the thing that has been stuck in my head the past week since I read it. 14 years ago Cliff Asness (a wildly popular money manager who isn’t your prototypical Wall Street sleazeball) wrote a paper called “Why Not 100% Equities?” when he was working for JP Morgan. It’s not a read I think you need to be a finance expert to get but it boils down to
A long-term investment in 60/40 may, or may not, take enough risk. An investment in 100% equities almost guarantees an inefficient portfolio.
So two years ago off the back of that paper (12 years later) Wisdom Tree launched a 90/60 portfolio ETF (yes - that doesn’t add up to 100%) that essentially did what Asnes’s paper described. They backed it up with updated numbers and updated the study which showed that it has actually done better since the original study.
Anyways, long story short it’s done well because if you can manage the downside better and still go for most of the ride on the upside, you’ve got a winning strategy. That’s what hedge funds were supposed to do and no longer aren’t. Now there is an ETF that has done that (over a short two year track record mind you), so why do we need hedge funds?
*The story goes one newly hired bond trader called up an old vet to buy a bond, the old vet quoted him one price and our new guy looks up the price on his Bloomberg and says “that’s not what my computer says...the computer says it would pay ___” The old vet says “oh yeah...well go sell it to your computer then” and hangs up. This is how practical trading is done.