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The Friday Five

Jason Stipp
Jeremy Glaser

Jason Stipp: I'm Jason Stipp for Morningstar and welcome to The Friday Five: five stats from the market and the stories behind them.

Joining me as always with the Friday Five is Morningstar markets editor Jeremy Glaser.

Jeremy, thanks for being here.

Jeremy Glaser: You're welcome, Jason.

Stipp: What do you have for The Friday Five this week?

Glaser: We're going to talk about 100, $177, $9.99, 4, and finally, 2.

Stipp: 100 marks the 100th anniversary of the Federal Reserve. We heard from Bernanke this week. The Fed has obviously been very involved in the markets and the economy in recent times, and he said that that flexibility is likely to continue.

Glaser: Yes, I don't think it's going away anytime soon.

Bernanke looked back at a conference and in a speech this week over the last 100 years, and he remarked just how much flexibility there has been and how many changes there have been since 1913.

I think we are going to see the Fed continuing to be somewhat flexible in the face of these unusual market conditions we have right now. After all the fears of the Fed taper, they've really been trying to soothe those over the last couple of weeks--and in particular this week when Bernanke said that he expects monetary policy will remain very easy for a considerable amount of time, and that they are not really talking about tightening, just … taking their foot off the accelerator a little bit.

The Fed minutes from that June meeting that started to cause a lot of these worries showed that, yes, the governors are talking about a potential exit policy, but they are very conflicted about it. It doesn't look like something that maybe is as imminent as many had thought. I think it's a sign that the Fed is really reading the market leaves, is reading what's happening, and they are willing to be flexible as possible. They're not on a dogmatic policy route, like they are just going to do it because they think they have to. They are really going to look at those conditions before they make any changes. I think that's something that soothed the markets a bit this week.

Stipp: $177 million is the amount that Barnes & Noble lost in its Nook unit, and this is a bad story for a unit that they were hanging a lot of hopes on.

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Glaser: It really is. Last month when they had their fiscal fourth-quarter results and announced this big loss in the unit that is supposed to drive the future for them, it really raised a lot of questions about their future. Even more questions were raised this week when William Lynch, who has been the CEO since March 2010, stepped down. He really championed the idea of the Nook unit really powering the business forward. They gave it the good college try. They produced some decent hardware that was well reviewed, that consumer seemed to like. They had a store with a lot of selection, and they even brought in some big partners like Microsoft and Pearson, who made financial investments into the Nook business. They were trying to sell the Nook business at one point. I mean, they really were trying to make this work.

But it's very hard to compete against the likes of Amazon and Apple when you're just so much smaller. They have the legacy brick-and-mortar business that is probably in terminal decline; if you look at what happened to Borders and other booksellers, fewer people are out there buying those hardcopy books right now.

Whoever takes over Barnes & Noble is still going to have their plate really full with problems to figure out. Is Nook a viable business or does it make sense as part of a larger company, and how do you take Barnes & Noble forward?

Stipp: Speaking of eBooks, $9.99 was the cost for an eBook a little while ago. That cost has gone up, and courts pointed their finger at Apple as the reason why.

Glaser: They did. A federal judge ruled this week that Apple had colluded with the big book publishers in order to get prices higher after they entered the iBookstore market in 2010.

Amazon, before Apple had entered the market, was buying the books at whatever the wholesale price was from the publishers, and just selling them virtually all at $9.99 and taking a loss in order to build up their business, build up that network effect around the Kindle platform. But when Apple came in, they basically saw that all the publishers were afraid to potentially leave Amazon, leave that $9.99 pricing regime, because they didn't want to be left out of the platform.

But Apple basically got everyone together and said, if you essentially all threatened to leave at the same time, Amazon would be forced to concede and raise their prices and charge what you want them to charge, and that's going to be kind of better for everyone.

So Apple went through with this, as we all saw, in a matter of a couple of weeks from when the iBookstore was launched. Those prices did start to rise pretty considerably in some cases, and this has raised the ire of competition authorities, who could see that Apple in this collusion was acting outside the bounds of good behavior.

Now, there were no monetary judgments here, but they are going to have to really be on the lookout for when they are making these kind of negotiations in the future, make sure they don't run into these collusion problems again as they talk about potentially launching something like Apple TV and have to talk to those content providers or the music business, where they are obviously a big player. They're going to need to be extra cautious, and it just kind of limits their potential of being able to make those deals in the future.

Stipp: There will be four new engineering groups at Microsoft following news of a shakeup this week. You say don't underestimate the software giant.

Glaser: I think that could be a real danger.

Steve Ballmer, the CEO of Microsoft, unveiled a widely expected reorganization this week that takes Microsoft from being focused on product groups--so there is product for Office and a product for Windows, and some for other products--into one that's more functional. So you have a group that works on the engineering of operating systems or one that works in the engineering of cloud computing. And he thinks that this will help make it easier to do business with Microsoft, make it easier for products to get to market faster, and be able to … be on top of consumer trends in a more timely manner.

But this is something that's not going to be easy. It's a really major shakeup, one of the largest in the history of the company. A lot of senior executives are going to be moving into new roles, and it's probably going to have some bumps along the road. It's going to take a while. It's going to be expensive.

But just because that stuff happens doesn't mean you should count Microsoft out. They've shown time and time again, as our analyst Norm Young pointed out, that they are willing to spend a lot of money over a long time in order to reach their goals. They have a wide moat business around Windows, around Office. That's going to produce a lot of cash flow that helps make these things happen, and I think that even if there is some kind of short-term bumpiness because of this move, it would be a real mistake to count them out over the long term.

Stipp: Two new firms were added to the list of systemically important companies by the FSOC, and interestingly they were not banks.

Glaser: The Financial Stability Oversight Council, which was set up by the Dodd-Frank Financial Reform Bill in 2010, added the first two non-banks, AIG and GE Capital, to this list this week of companies that receive extra scrutiny from this board.

So, basically, it's for these companies that, if they were to fail, it could potentially threaten the health of the entire economy. They are getting an extra regulator that looks at everyone else who is looking at the company and making sure they are not missing some big issue, making sure they are not missing some potential tension point that the more narrowly focused regulators would miss.

I think it's not a huge surprise that these companies were added. They had been recommended for it. This was just the formalization of the process. But anyone who remembers 2008 knows that AIG and GE Capital were names that came up quite a bit, and it was clear just how important they were to the economy.

It also shows that the rule-making part of Dodd-Frank is really far from over--that that legislation had a lot of open boxes, where different types of regulators, different types of committees would have to come together and really actually write the rules and really decide exactly what they mean in practice. We're really just trying to get to the meat of that now. And exactly how financial regulation and financial reform looks like five, 10 years now, a lot of it's going to depend on the rules that are being made right now. So I think it's interesting to keep an eye on that. When you look at the Senate and potentially reintroducing the Glass-Steagall and these other regulatory issues out there, it's an interesting time to be following the financial sector.

Stipp: Jeremy, you are always on my list of most important new sources. Thanks for joining me again this week.

Glaser: You're welcome, Jason.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.