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The Stingy News Quarterly (Q1/2005)
New @ StingyInvestor High Performance Graham Stocks "Over the past four years I've used Benjamin Graham's time-tested strategy for defensive investors to uncover undervalued U.S. stocks. In many ways my series on Graham stocks was well timed because, after years of underperformance in the late 1990s, value stocks staged a strong comeback in the early 2000s. Graham's approach has certainly benefited from changed market sentiment and I'm happy to report another year of stellar returns." The top 200: rating every major Canadian stock "Our Top 200 caters to both the value and growth camps. We began by finding Canada's 200 largest companies on the basis of revenue. Using data supplied from the Thomson Baseline database, we then evaluated each of these big firms using two screens - one to test its attractiveness as a value investment; the other to evaluate its appeal as a growth investment." A Season for Money Market Funds "Many investors suffer from procrastination and leave their RRSP decisions to the last possible moment. If you're part of this group then I'm right there with you. Although I don't leave things to the last possible moment, I have been known to top up my RRSP with only a few days to spare." 4 Stingy Stocks for 2005 "I look for two qualities when searching for qbargain stocks; they must be cheap and they must be safe. Not surprisingly, it is often difficult to find stocks that are both cheap and safe. Indeed, the popularity of value investing has increased and good deals are becoming rare." The Best of Stingy Links Stingy Links: Academia Why logic often takes a backseat "Until recently, economists contented themselves with observing people from the outside. Now, Camerer and others, teaming up with psychologists and neuroscientists, are using a technique called functional magnetic resonance imaging to look inside the skull. It's like watching Congress debate instead of inferring what's going on by reading the laws that get passed." Who gambles in the stock market? "The average economic cost of gambling motivated investments is roughly 5% (range is 2-32%) of investors' annual household income. Collectively, these results indicate that people's attitudes toward gambling are reflected in their stock investments." Reputation and asset prices "What are the equilibrium features of a dynamic financial market where traders care about their reputation for ability? We modify a standard sequential trading model to study a financial market with career concerns. We show that this market cannot be informationally efficient: there is no equilibrium in which prices converge to the true value, even after an infinite sequence of trades. This finding, which stands in sharp contrast with the results for standard financial markets, is due to the fact that our traders face an endogenous incentive to behave in a conformist manner. We show that there exist equilibria where career-concerned agents trade in a conformist manner when prices have risen or fallen sharply. We also show that each asset carries an endogenous reputational benefit or cost, which may lead to systematic mispricing if traders without career concerns possess market power." Bad for business? "Business schools stand accused of being responsible for much that is wrong with corporate management today" Smart people choke under pressure "A new study finds that individuals with high working-memory capacity, which normally allows them to excel, crack under pressure and do worse on simple exams than when allowed to work with no constraints. Those with less capacity score low, too, but they tend not to be affected by pressure." CEO overconfidence and corporate investment "Specifically, standard incentives such as stock- and option-based compensation are unlikely to mitigate the detrimental effects of managerial overconfidence. As a result, the board of directors may need to employ alternative disciplinary measures, such as debt overhang, which can suffice to constrain overconfident CEOs. In addition, the results confirm the need for independent and vigilant directors." Stingy Links: Accounting After Sarbanes-Oxley, XBRL? "Financial execs may not appreciate it yet, but this new data-tagging system should speed the flow of info and create new ways to analyze it" Investors beware: Earnings quality slips "Standard & Poor's says the difference between reported and operating earnings is growing, as companies book more special charges." Artful figures "Canadian Business, however, canvassed a number of independent experts for examples of companies that aren't giving investors sufficient information on which to base decisions. Not surprisingly, forensic accountant Al Rosen was all too eager to help. One of Canada's most vocal critics of lousy reporting and accounting shenanigans--not to mention a regular contributor to this magazine--Rosen was characteristically caustic when he heard our idea. "So this is going to be a 1,000-page issue?"" Earnings reports - PR tool? "While publicly held companies strive to put their best foot forward, too often they're disguising information that investors need to have" Sarbanes seeks rent control "Dozens of companies have had to restate, adjust or delay earnings reports in recent months because of problems they've had in accounting for leases. Now some experts are warning that the restatements could be a sign of deeper problems." All together now "From 2005, more than 90 countries will either permit or require their quoted companies to present their accounts according to international financial reporting standards. This is a bigger step than many firms, or their shareholders, seem to realise" Stingy Links: Bonds Stalling again "General Motors' latest profits warning is terrible news for the giant carmaker. Is it also terrible news for the credit markets?" Stingy Links: Brokers Death of a stock salesman "With discount outfits eroding profit margins, only wealthy clients get face-to-face attention, making stockbrokers an almost extinct breed" Stingy Links: Buffett Fuzzy math and stock options "Until now the record for mathematical lunacy by a legislative body has been held by the Indiana House of Representatives, which in 1897 decreed by a vote of 67 to 0 that pi - the ratio of the circumference of a circle to its diameter - would no longer be 3.14159 but instead be 3.2. Indiana schoolchildren momentarily rejoiced over this simplification of their lives. But the Indiana Senate, composed of cooler heads, referred the bill to the Committee for Temperance, and it eventually died." Selling the nation "An ominous fact: The rest of the world owns a staggering $2.5 trillion more of the U.S. than we own of other countries." Berkshire Hathaway 2004 annual report "Over the 35 years, American business has delivered terrific results. It should therefore have been easy for investors to earn juicy returns: All they had to do was piggyback Corporate America in a diversified, low-expense way. An index fund that they never touched would have done the job. Instead many investors have had experiences ranging from mediocre to disastrous. There have been three primary causes: first, high costs, usually because investors traded excessively or spent far too much on investment management; second, portfolio decisions based on tips and fads rather than on thoughtful, quantified evaluation of businesses; and third, a start-and-stop approach to the market marked by untimely entries (after an advance has been long underway) and exits (after periods of stagnation or decline). Investors should remember that excitement and expenses are their enemies. And if they insist on trying to time their participation in equities, they should try to be fearful when others are greedy and greedy only when others are fearful." Meeting with Warren Buffett "The first question I ask is: "Does the owner love the business or does he/she love the money?" It's very easy to tell the difference." Tuck's Buffett trip "Q: When you consider an acquisition, what are the first things you look for in a management team? A: Well, what do you look for in a girl? Seriously, you look for the logical things - passion, an interest in running the business, honesty. Such as, do they love the business, or do they love the money? This is the first filter. I mean real passion; Mrs. B ran Nebraska Furniture Mart until she died at the age of 103 - that's passion. If temperament is the most important personal asset in managing money, in business, it's passion. Secondarily, if you've been doing it a while, you get to know how to do it. But obviously no management team is perfect, so you're often stuck making a judgment call. You don't want to wait forever to find the perfect team. Incidentally, a friend of mine spent twenty years looking for the perfect woman; unfortunately, when he found her he discovered that she was looking for the perfect man." Thinking like Warren Buffett "For all his skill at picking stocks, the Oracle of Omaha's approach to taxes is even more astute, as the P&G-Gillette deal proves" P&G to buy Gillette for $57B ""It's a dream deal," Buffett said, adding that he would increase his holdings so that he would end up with 100 million shares of P&G by the time the deal closes." Buffett shows a taste for Budweiser "Anheuser-Busch Cos. Inc., the largest U.S. brewer, said Thursday Berkshire Hathaway Inc., the holding company run by billionaire Warren Buffett, has acquired a significant stake in the company." Buffett warns that U.S. trade gap undermines dollar "The prairie-born genius also confessed he's having a "hard time" identifying stocks to buy, and isn't purchasing commodities. His cash swelled to $43 billion in the third quarter, by one account, because he couldn't find many investment opportunities." Buffett firm helps with SEC probe "The SEC is seeking information from General Re, Berkshire's reinsurance unit, as part of a wider inquiry into the legality of "non-traditional" policies, also known in the industry as "loss mitigation" or "retroactive" products. The regulator is investigating claims that some companies have used these products to hide losses from investors. The accounting rules governing these products are unclear." Nobody's fool "Is Warren Buffett lazy? Or foolish? Why else would he allow more than $40 billion dollars to pile up on the balance sheet of Berkshire Hathaway? Why else would he refuse to buy any of the stocks that Wall Street's finest minds recommend?" Is Buffett in trouble? "the AIG transactions plainly failed what Buffett himself had referred to as the "New York Times test" (and which should perhaps be relabeled the Wall Street Journal test). When considering an action, executives and managers should think about how it would look if it were splashed on the front page of the New York Times. So far, this is one test the Sage of Omaha is failing." Buffett isn't investing; why should you? "Since 1965, Buffet has delivered an average annual gain of 21.9 percent (which averages 11.5 points more than the S&P 500's average annual 10.4 percent gain over the same period). With a track record like that, most investors should want to learn why today is different enough to keep Buffett on the sidelines." Learn to think Like Warren Buffett "Commentary on Buffett's annual letters is now somewhat ubiquitous, so we'd like to take a different tack and share three less-obvious insights we gleaned." Whom to believe -- Buffett or Greenspan? "The Oracle of Omaha foresees dire consequences for our debt-ridden ways. The Fed chairman predicts a soft landing and says the debt is no big deal. Who's right?" Even Buffet times it wrong "In Britain, this company would have been laughed off the City stage, ostracised by fund managers, pilloried by governance watchdogs and sold for break-up. Across the Atlantic, Berkshire Hathaway is seen as the living corporate embodiment of successful, sensible investment and American business values." 4 tough questions for Warren Buffett "It's called the Woodstock of capitalism, when 20,000 Berkshire Hathaway shareholders converge on Omaha, Neb., to down a few Dairy Queen Blizzards, eat a few Gorat's steaks and, mostly, worship Warren Buffett. It's Berkshire's annual meeting and it starts Saturday." Steel man forges slot among super-rich "Once again, Warren Buffett comes in at second, but the Sage of Omaha is closing the gap with $44 billion. At one stage last year, the relative stock prices of Microsoft and Berkshire Hathaway led Forbes to draft a press release proclaiming that Buffett had overtaken Gates at the top, only for the stocks to drift the other way." Lessons from Buffett's Annual Letter "No investor is going to succeed without some discipline, and as Buffett points out, a large number fail to beat the indexes because they lack discipline. A good starting point, in his view (and one that we've long advocated), is a long-term commitment to a low-cost approach. To be effective at such an approach, trading on tips or sentiment (buying things after they've gotten hot and selling them after they've cooled) is best avoided. Moreover, limiting costs, particularly those associated with high management fees or excessive trading, is an important factor in getting the better of broad market indexes." Trade like Warren Buffett "He divided his hedge fund transactions into three categories: Workouts, Generals, and Controls." Stingy Links: Crime Hey, buddy, want a share? "Stockholders of collapsed companies get calls from purported brokers they don't know offering to exchange the now-worthless shares for stock in a promising or even blue-chip company, or for cash. According to regulators, a surprising number of call recipients bite at these overtures. The result: a second loss for investors. That's because the callers never deliver anything of value--they often cough up nothing at all--but always insist on some kind of upfront payment before they effectuate the swap. Trying to find the broker becomes near impossible after the investor pays the fee." Stingy Links: Dividends Income and the long view "Raver points out that, on average, after ten years the percentage of income attributable to income and its reinvestment is greater than 50%; the value of the income at that point exceeds the value of changes in the asset price of equities. After 78 years - the period covered by Ibbotson - the proportion rises to 96.2% of total return attributable to the dividend portion!" Dividends count most in the long run "Statistically, the capital gains element in returns ultimately depends on dividends, or more precisely on the rate at which dividends grow. In a comparison of 17 countries, ABN-AMRO finds a close correlation between real returns (net of inflation) and the market average dividend yield plus the rate of dividend growth." The delights of dividend stocks "They're doing well in the current market, fall more slowly if things turn bearish, and some beat money-market returns. What's not to like?" Thinking small over dividends "An analysis by Columbia University professors Doron Nissim and Amir Ziv of dividend-paying stocks between 1963 and 1998 showed that boosts to the payouts are linked to future profitability. The business school professors published their conclusion in a December 2001 article in the Journal of Finance. Another study, published last year by Robert D. Arnott and Clifford S. Asness in the Financial Analysts Journal, shows that future profit growth is fastest when current dividend payouts are highest." Nurture your dividend nest eggs "It pays to be somewhat contrarian and to buy those companies that are lowly rated and hence relatively unloved by the market. Similarly, it pays to buy smaller companies that are likely to be less well known by investors." Stingy Links: Dreman Strategy for a weak market "I'd continue to keep most of my chips in value stocks, which, because of their modest pricing relative to the rest of the market, are likely to outperform again in 2005, inflation shock or no. Value stocks also provide above-market dividends, normally taxed at a maximum 15% rate." Tobacco industry ends up good bet "David Dreman scored big when cigarette makers won a court ruling blocking the U.S. government's claim to $280 billion of past profits. His $6.1 billion Scudder-Dreman High Return Equity Fund has 10 percent of its assets invested in Altria Group, whose Philip Morris USA unit is the world's largest maker of cigarettes." Dreman finds value in stocks tainted by litigation "David Dreman was among the biggest beneficiaries when cigarette makers won a court ruling blocking the U.S. government's claim to $280 billion of past profits." Stingy Links: Economy Consumer-confidence data useless "Consumer confidence indexes help move stock markets, influence corporate decisions and alter governments' economic outlooks. But a study says they're essentially useless for forecasting Americans' spending patterns." The economics of sharing "Technology increases the ability of people to share, but will they share more than just technology?" Corporate profits: Breaking records "Most analysts still expect American profits to grow by an annual 10% over the next couple of years. With nominal GDP growth of around 5%, that implies the proportion of GDP going to profits growing still larger. But this looks unlikely, and if so, share prices are overvalued. Both economic theory and historical experience argue that, in the long run, profits grow at the same pace as GDP. Such long-standing rules deserve more respect." Extreme commuting "More workers are willing to travel three hours a day. But what is the long-term cost?" I am woman, hear me shop "Rising female consumer power is changing the way companies design, make, and market products -- and it's about more than adding pastels" Stingy Links: Fun Throwing for the gold "At the annual Rock, Paper, Scissors championships, strategy beats luck hands down. Or is it the other way around?" Stingy Links: Funds The new money men "A clever mutual-fund manager could, of course, pursue this approach in the new environment. But it has become much more sensible to start a hedge fund. Why? Because, to cite a phrase of the moment, a hedge fund is "a compensation scheme masquerading as an asset class". Whereas the average mutual fund charges 1% or 2% of assets, and smart buyers can pay a fraction of that, hedge funds charge 1% or 2% plus a big slug of profits, typically 20%, but often more. One well-known, but secretive, fund based on Long Island is reputed to charge 5% of assets plus 44% of profits. Another leading fund charges no maintenance fee but 50% of profits. An industry consultant says he has seen a new fund that will receive 80% of any excess above a guaranteed return linked to a well-known index. Even these huge costs do not really reflect what investors pay, since most hedge funds agree to conduct business through a prime broker, which extracts fees through stock- and bond-lending charges, as well as trading costs based on the fund's net asset value." Stingy Links: Government Social Security flunks the fairness test "When Social Security is put to a common ethical test, it fails on all four measures, including the inherent unfairness of increasing future generations' tax burden by raising benefits now." The regulators' best friend? "According to one of the European Commission's pettifogging regulations, cucumbers sold in the single market cannot be too curvy. According to another proposal, packets of coffee and chicory must conform to weights specified in Brussels." Stingy Links: Graham Benjamin Graham on value investing "In 1968, the stock market was floundering badly and Omaha investor Warren Buffett was baffled and worried because he could not find worthy securities to buy. Over the 12 years that it operated, the Buffett Partnership had compounded funds at an average annual rate of 29.5 percent and he wanted to maintain the returns that his investors had come to expect. "The market wasn't very good," said Walter Schloss, a New York money manager and a longtime friend of Buffett's, "and Warren said let's go out and see Ben and ask him what he would do" Five stocks Ben Graham might buy "Nearly 30 years have elapsed since the securities analysis profession lost Ben Graham. While we wish Graham were still among us, his ideas live on--and retain their potency. And in the current market environment, we think that today's investors will find his ideas more useful than ever, and undoubtedly enriching. As the 111th anniversary of Graham's birthday approaches (May 9), we thought it would be appropriate to revisit our intellectual forebear's stock strategies." Stingy Links: Gross Sizing up social security "Where Social Security and privatization supporters err is with their assumption that retirees' goods and services can somehow magically be generated or even multiplied by the existence of a certain amount of government or private IOUs. They cannot, at least within the U.S. borders. Production can only come from employed workers and so the basic solution is to produce more workers, either through immigration or postponed retirement for the existing workforce. Productivity gains are often advanced as a solution but employed workers cannot be expected to hand over future advances to retirees without a fight." Stingy Links: Growth Investing 7 small stocks look like undiscovered gems "Big stocks often do better in adverse markets, because large companies usually have staying power, and assets they can sell in a pinch. This year, the dollar is weak and that favors exporters, which are mainly big companies. I plan to stick primarily with small stocks, nevertheless. They have more room for explosive earnings growth, are covered by fewer analysts, and can benefit from being 'discovered' by institutional investors." Stingy Links: Indexing Halfway there "The biggest change to hit the S&P 500 Index in modern history got underway at the close of trading on March 18, when Standard and Poor's (S&P) took the first of two steps in transitioning its broad U.S. index family to the free float weighting system." The relentless rules of humble arithmetic "Warren Buffett's crusty but wise partner, Charlie Munger, is disturbed by the commitment of so many exceptional people to the field of investment management: "Most money-making activity contains profoundly antisocial effects. (As high-cost modalities become ever more popular), the activity exacerbates the current harmful trend in which ever more of the nation's ethical young brain-power is attracted into lucrative money-management and its attendant modern frictions, as distinguished from work providing much more value to others." As Mr. Munger recognizes in the field of money-making, as far as the interests of clients go, there can be no net value added, only value subtracted." Stingy Links: Law King Nothing "Judges appoint Mark Dottore to stabilize troubled companies. Critics say he's cleaning them out." Stingy Links: Management A simple way to make boards behave "With majority voting, that wouldn't be a problem. Directors would continue to control board nominations, but candidates would be required to win a majority of votes cast. If they don't, the board, under one version, would be required to put up a new nominee subject to investor approval. Another option would permit boards to decide the fate of rejected directors; alternatively, boards that allow them to stay on would be subject to onerous disclosure requirements." Test of good corporate citizenship "Notice that, as the professors put it, "the lowest average stock price during the period of 180 days straddling the grant date occurs exactly on the grant date." If you think this pattern is attributable to mere chance, then I have a bridge I want to sell you." Obliquity "If you want to go in one direction, the best route may involve going in the other. Paradoxical as it sounds, goals are more likely to be achieved when pursued indirectly. So the most profitable companies are not the most profit-oriented, and the happiest people are not those who make happiness their main aim. The name of this idea? Obliquity" Stingy Links: Markets Growth stocks, stunted gains? "In the first part of his book, titled, "Uncovering the Growth Trap," Siegel painstakingly shows, using reams of data, that a negative correlation exists between growth and investment results. Exhibit No. 1: He found that anyone who had bought and held the original 500 stocks comprising the Standard & Poor's 500 Index when it was created in 1957 would have made more money than someone who owned the updated index over that time. (The S&P 500 is reformulated by committee periodically to make sure it encompasses the 500 leading companies.)" The Shiller interview "Robert Shiller argues that housing in many cities is undergoing the same irrational exuberance as stocks did in their bubble days." Don't dismiss short side on commodities "Unlike other assets, such as debt or equity, he says commodities have no "long bias" that would make an index a buy-and-hold asset. While stocks move up and down, the overall long-term trend is higher. Investors can always hold a bond for its coupon." Buy the numbers "Over the long run, a majority of a portfolio's performance is driven by its strategic allocation between stocks, bonds, real estate, cash, and other asset classes. As such, the greater understanding an investor has about asset class selection and how different investments blend together in an efficient portfolio, the better prepared they will be to allocate capital today and in the future to match their financial needs." The Economist's commodity-price index "First published in 1864, with figures stretching back to 1845, The Economist's commodity-price index is probably the world's oldest regularly published price index." Cracking the street's new math "Algorithmic trades are sweeping the stock market. But how secure are they?" Finding value in spin-offs "The relative dearth of slam-dunk ideas led me to recently revisit a long-standing interest of mine--corporate spin-offs, which I regard as one of the few market inefficiencies still out there." The acquirer's albatross "the results were unambiguous: according to the historical data, acquiring banks have tended to underperform the market almost from the moment their deals close. And the longer time goes by, the worse the relative performance is." Piercing the stereotypes -- hard work but worth it "To keep up your credentials as a hard-nosed value investor nowadays, you're almost obliged to say bad things about the stock market. Prices too high! Bargains too few! Low returns, at best, as far as the eye can see! The only prudent choice is to let cash reserves build up to 30 or 40 percent of the portfolio. The most interesting things about this stereotype, as with most stereotypes, are the exceptions -- the people, in this case some very prominent people, who don't fit the formula." The costly myth of dollar-cost averaging "Popular wisdom says scheduling your investments is the best way to make money. But it's actually a sales gimmick to wheedle over time what you won't commit up front." Venture capital: aftershock "Meanwhile, many veteran venture capitalists are fretting, especially now that pension funds and endowments are racing to place money in venture capital (partly because they cannot get decent returns elsewhere)." A valuable alternative to empire-building "Companies are buying back their own shares in record quantities. In many cases, their shareholders should thank them for it" Legg Mason Value Trust Q4 "Who would park their money in cash at 2% and pay taxes when you could get 3.7% in tax-advantaged dividends in Citigroup stock, and own a piece of the world's largest financial services firm, one that is perfectly well-positioned to be the banker to the developing world's burgeoning consumers, at 11x earnings?" Stingy Links: Munger Munger's wisdoms "Warren Buffet's eldest son once paid high tribute to his father by saying Buffett is the "second-smartest man" that he knows. When asked who the smartest man he knows is, the younger Buffett said, "Charles Munger," his father's long-time friend and partner. While relatively unknown and overshadowed in the public eye by the legendary Buffett, Charlie Munger has nonetheless carved out an important career and considerable personal wealth of his own, and has proven well worth listening to." Dueling views of reform "When it comes to outspoken bluntness, Berkshire Hathaway Chairman and CEO Warren Buffett has nothing on his No. 2 man, Charlie Munger." Wesco's letter "In fact, the one thing that should interest Wesco shareholders most with respect to 2004 is that, as in 2003, 2002 and 2001, Wesco found no new common stocks for our insurance companies to buy." Stingy Links: Stocks How to recognize wide-moat firms "People often think that analyzing moats is as simple as looking for strong historical profitability. Ah, if only it were that easy. In truth, history is an imperfect guide, since the value a company will create for shareholders is dependent on how well it fends off competition in the future. High returns on capital attract competitors, and those great historical numbers will fade fast if a firm doesn't have a strong competitive advantage. Oftentimes, that competitive advantage isn't obvious--you have to do some digging into the firm's business model to figure it out." Something wicker this way comes? "Chukumba suspects that a primary reason Pier 1's stock isn't yet trading even lower in the mid-single digits is because of Buffett's interest in the company. "Wall Street is not as bothered as it should be because of Buffett. He's legendary for investing in undervalued companies for the long haul. Absent Buffett and Pier 1 would be in more trouble," Chukumba said, although he did admit to Pier 1's low-debt, significant free cash-flow generation and consistent dividend returns as a few other positives cushioning the stock." Food porn "Whole Foods founder John Mackey built a retail powerhouse peddling food as sensual, succulent succor. His stores preach organic virtue and profit from culinary vice." Stingy Links: Tilson A cautious 2005 outlook "This year is off to a rocky start, with the major indexes already down 3% to 6%. Is this a bad omen for the rest of the year, or will the markets rally for a third consecutive year? I wish I knew. But like most value investors, I tend to worry a lot -- it helps to avoid losing money -- and these days I find plenty to worry about." Stingy Links: Trusts Running with the trust zombies "I remember when investing in income trusts was so much fun. There were only a limited number of names, so the sector was easy to follow. It was like remembering the names of Canadian sitcoms. Few people cared about income product, so you never felt like a victim of the herd mentality. Around the same time, a friend of mine had a financial advisor loading her up with biotech and semiconductor plays and he dismissed trusts as quickly as an invitation to a leprosy festival. Trusts were deemed to be a retail investor thing, not suitable for "real" investors who knew what they were doing. Meanwhile, all I had to do was stay invested, sit back and make money. It was a wonderfully intimate party and the gains were comfortably-paced. Unfortunately, the party has since been crashed by investors of virtually every stripe. And these party-crashers have an insatiable appetite. They want yield product and they want it bad. They'll devour just about anything, even if it's crap. Call them trust zombies. This has led to valuations becoming strained, especially among the larger trusts, making it harder to find true value." Stingy Links: Value Investing Schloss archives for value investing "The Walter Schloss Investing Archive provides historical resources for scholars and showcases the unique history of the value approach." Whither the value investors? "It's been popular to say lately that is now a stock pickers market. It probably is to a large extent; in fact, most of the time it is. Your success will primarily depend on what you pick. Don't forget that the best value managers don't always get the fundamentals right, just be wary of sweeping generalizations about them." Requiem for a brewer "In this View from Burgundy, we will examine the latest pratfall in Molson's history. While it is modestly instructive on a stand-alone basis, we would also like to draw some broader conclusions about diversification from this sad tale. We will conclude by giving a shareholder's view of how management should invest the cash flow from a superior business." Legg Mason Forum "I'd like to turn it over to the panel now. But first, here's a picture taken last week of Bill Miller with Paul Samuelson, the Nobel Prize winner from 1970, who is still active at Harvard at the impressive age of 90. Bill had the honor to be the keynote speaker at Harvard's annual Behavioral Finance Conference. Bill went to the first one about a decade ago, at which Charlie Munger was one of the speakers. Samuelson gave the keynote that night. He got up in front of the audience and told them that he had studied a lot of investors and they don't do what they say they do. He didn't doubt that they were good investors; but he argued that what they say they do is not what they're actually doing. So Bill got up to talk with a bit of trepidation, knowing that Samuelson was in the audience." Century Management Q4 "The scope of this publication is greater than any we have written in our 30-year history. The purpose in writing this report is to point out that financially speaking, we are living in historic times. It is extremely unusual for all major asset classes (stocks, bonds, and real estate) to have been bid up to what appears to us as unsustainable levels, all at the same time." Interview with Tim McElvaine "I think most people can come up with 10 reasons to own a stock. The key is instead to come up with the 2 or 3 key reasons to own a stock. Less equals more." Clipper Q4 Lightning strikes twice at Marsh & McLennan Sequoia Fund Q4 "We're less concerned with the annual movement in share prices than we are with the earnings progress exhibited by our holdings. If earnings grow, the stock price eventually follows." - 75% of the fund is in only 6 stocks The nature of risk "We've come a long way these seven decades since Ben Graham first emphasized the margin of safety in Security Analysis. Unfortunately, the wrong direction." Big stocks could have big year "Large caps tend to be more stable, to have greater international exposure (a good thing when the dollar is weak, as it is now), to pay higher dividends and to hold up better than small caps during market declines." Dull, but worthy "There's an important lesson here for investors in stocks. As a shareholder, you should always think of yourself as an owner, or a partner, in a business. "Focus on companies, not stocks," writes one of my favorite sages, H. Bradlee Perry of Babson Capital Management. The businesses that produce American millionaires deserve your attention. Dull, in other words, is good." Conoco and Merck join the Cheapskate Portfolio "The notion behind this portfolio is simple, and was adapted from a scholarly paper by money manager David Dreman, for whom I once worked. I start with the 500 stocks in the index, eliminate those with negative earnings or debt greater than equity, and then take the stock with the lowest price-earnings ratio in each sector." The hunt for intrinsic value "An investor, like a gambler doesn't know in advance whether a specific investment will make or lose money. But, unlike gambling, investing has expected returns that are positive. Unlike the average gambler, give an average investor enough time, and he or she will usually make a profit. One of the challenges in investing is to prevent acting emotionally and reducing those expected gains." Bargain hunter "Several findings are apparent from examining the table. First (and of foremost importance to me) is that buying cheap stocks did indeed outperform. Simply buying an equal weighted basket (assuming equal distribution of stocks across portfolios) of the lowest 20% of PEs within the MSCI World index generated significant outperformance (9.7% p.a. on average). Such a strategy would have only resulted in absolute losses in only five out of the thirty years in our sample." Market phobia? Try value investing "Some value managers just shrug and buy stocks that are cheap compared with all the others. Others load up on cash. When that happens, it's worth noting." Tastes, distress, and jocks "Decades of empirical research using almost any balance-sheet metric you care to shake a CRSP shtick at yield the same monotonous result: value stocks have higher returns than growth stocks. It doesn't matter when-pre-Compustat or post-Compustat-and it doesn't matter where, whether in the U.S., other developed nations, or in emerging markets. While this concept was a tough sell in the late 1990s, anyone arguing against it now will wind up buried under a mountain of affirmative data, to say nothing of recent returns." Chou's annual "In general, we have done well with retail companies such as BMTC Group. But with retailing and restaurant companies it is difficult to get a handle on how the future will pan out, regardless of how well they may have done in the past. Retailing concepts that work well can be easily duplicated by competitors. Also, if consumer tastes change, the retailing companies are faced with serious financial and operational issues. Liabilities such as operating and capitalized leases suddenly become real short-term debt, much needed cash is used up in severance and closure costs, and a host of other problems crop up. In short, these consequences can quickly put a financially sound retailer into a serious short-term liquidity crisis." Sir John Templeton reveals the future "Templeton sought out the best opportunities anywhere in the world he could find them. When he began investing globally in the 1930s, Templeton was truly a pioneer. Many Americans thought it unwise to invest outside the United States and therefore forfeited a world of opportunities. John Templeton's results, however, are the stuff of legend." Jeremy Siegel's buy list "Siegel suggests investors pursue what he calls "corporate El Dorados"--firms that maintain attractive growth and returns over very long periods. In Siegel's words, "persistence of good earnings growth is better than a transience of superb growth." Altria (NYSE:MO), Tootsie Roll (NYSE:TR), Colgate-Palmolive (NYSE:CL), and Royal Dutch Petroleum (NYSE:RD) would earn that label." A worthy successor's worldly views "Statistically, the best values today are in South Korea, but because South Korea is next to North Korea and has some corporate-governance issues, we don't want to have too much there. The net cash per share of some of the smaller companies there is equal or higher than the market capitalization, so you get the business for free. There is also pretty good value in Japan, which on average trades at 8.2 times after-tax cash flow. What Europe has going for it is that there's still somewhat of a valuation gap between small and big stocks. Small stocks in Europe often are ignored by local institutional investors, which provides opportunity for us." Here are the cheapest and most expensive stocks "Once a year, mostly for fun and partly for profit, I try to identify the three cheapest stocks in the U.S. market and the three most expensive. This year, the three cheapest stocks are USG Corp. (USG), Calpine Corp. (CPN) and AMR Corp. (AMR). The three most expensive are Lamar Advertising Co. (LAMR), R.H. Donnelley Corp. (RHD) and Raser Technologies Inc. (RSTG)." Omaha's other star "My idea is to figure out how much money an owner could take out of the business if he wanted to" Find your investing edge "Investing is competitive. There is a seller for every buyer, and transactions often reflect a difference of opinion. Buyers believe the prospective return on an investment is attractive relative to the risk entailed. Sellers usually disagree. One party will fare better than the other, and in my opinion the winners aren't random. How are they determined?" Small-cap contender "Manager Curtis Jensen, 42, is a disciple of firm founder Marty Whitman's "safe and cheap" school of investing. That means he looks for companies with low debt, plenty of cash and lots of high-quality assets -- to ensure they can get through the tough times. What's more, Jensen won't buy a company unless its stock is selling for a fraction of what he estimates as its real worth." Finding bargains in the market's dark corners "If you want to achieve truly market-crushing returns, concentrate your research on the universe of small-capitalization stocks. Furthermore, as my colleague Curt Morrison pointed out in a recent article, illiquid stocks have outperformed liquid stocks by 2.1% annually over the past 40 years. These results, of course, make perfect sense. For various reasons, large investors cannot invest in small, illiquid stocks, and with fewer smart people looking at a stock there's a greater chance for mispricings." Contrarian with a cause "Olstein points out that his fund has very strict disciplines for buying and selling, based not just on value but also on a company's cash flow and accounting. The most critical point, he says, is comparing free cash flow with reported earnings." Emotion, neuroscience and investing "It is the long-term investor, he who most promotes the public interest, who will in practice come in for the most criticism... For it is in the essence of his behaviour that he should be eccentric, unconventional and rash in the eyes of average opinion -- John Maynard Keynes" Fund manager focuses on worn stocks with potential "A bargain hunter, Rodriguez looks for beaten-up stocks with potential to turn around. At the heart of his philosophy is the question, "Am I being compensated for the risks I perceive in this investment?" If the answer isn't "yes," he looks elsewhere - even if that means parking money in cash or money market securities." If past bubbles are any indication... "We're going to talk about bear markets. ... And while everybody thinks they're short term, they last somewhere between 15 and 20 years once they get going." Stingy Links: Whitman The fortress that marty "When buying stocks, Whitman's mantra is "safe and cheap." Whitman was an expert in bankruptcy investing before entering the fund business, and he favors companies that have the strength to pay off their debts. "First and foremost, we look for stocks with fortresslike balance sheets," says Curtis Jensen, 42, manager of Small-Cap Value and Whitman's heir apparent. The funds are filled with shares of banks, insurers, energy companies, real estate developers and other asset-rich firms whose values are easily quantified." Third Avenue Q4 "The underlying characteristic of these superior managements, in my opinion, is that they seem to focus on the same things TAVF focuses on as a buy-and-hold investor, i.e., long-term wealth creation. Unlike most stock market participants, the primary focus of these managements is not on what periodic reported earnings per share, or periodic EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization), might be. In creating wealth, these opportunistic managements realize that there tend to be many ways to create wealth besides enjoying operating earnings. These other methods of creating wealth include enjoying super attractive access to capital markets, both credit markets and equity markets; being able to make opportunistic acquisitions of other companies and other assets; being able to opportunistically launch new businesses; and being able to take advantage of basic mispricings in securities markets in order to, inter alia, repurchase outstanding common stock, spin-off glamorous subsidiaries, or liquidate assets in whole or in part." Third Avenue Q1 "Judged by TAVF's record, the Fund does not seem to participate too much in markets characterized by instantaneous efficiency. On its record, Third Avenue has outperformed relevant indexes on average, most of the time, and over the long term. Believers in the EMH seem to believe that these results are not good enough - TAVF ought to outperform indexes consistently, i.e., all the time. I demur; and I think most investors, or in any event Third Avenue shareholders, would agree with me." It's what he doesn't do that seems to pay off "Another quirk that distinguishes Mr. Wadhwaney and the analysts who work with him - Jakub S. Rehor and Matthew P. Fine - is that they are acolytes in what Mr. Rocco called the "Church of Marty." Marty, as he is known to the staff at Third Avenue Management, is the founder, Martin J. Whitman, 80, who started the flagship Third Avenue Value fund in 1990. Since then, the company has added three funds, including International Value." Stingy Links: World Meritocracy in America "Thirty years ago the average real annual compensation of the top 100 chief executives was $1.3m: 39 times the pay of the average worker. Today it is $37.5m: over 1,000 times the pay of the average worker. In 2001 the top 1% of households earned 20% of all income and held 33.4% of all net worth. Not since pre-Depression days has the top 1% taken such a big whack." Shaking up corporate Japan "Takafumi Horie, a 32-year-old internet entrepreneur, has shocked Japan's business establishment by positioning himself to gain control of Fuji TV, a big broadcaster. As takeover fever grips the country, will regulators come to the aid of the status quo?" Will the walls come falling down? "House prices have been growing at a breakneck pace in many developed countries. This has encouraged householders to keep spending even during the global slowdown. But now that housing markets are looking soft, consumers may be forced to retrench" Is there fraud in the house of Saud? "Never mind Saudi Arabia's recent promises and reassurances about oil production. A hidden danger lurks in the murky world of Saudi oil: depletion." Where's my $58 million, Madame Wu? "So the lesson, perhaps, is that success in Chinese direct investment requires decades of commitment, deep government relationships, and superhuman effort. New regulations allow total foreign ownership in some industries, thus reducing the use of joint ventures, which Clissold describes as "incredibly difficult to manage because Chinese and Westerners don't think in the same way." The structural advantage of total ownership, however, is probably offset by the fact that, after 15 years and billions of dollars of capital, the low-hanging fruit is probably gone. There's no easy money left, and it wasn't that easy to begin with." Global house prices: Still want to buy? "The unusual divergence between house prices and rents does not just affect investors; it also undermines the conventional wisdom that it is always better to buy a house, because "rent is money down the drain". Today in many countries it is much cheaper to rent than to buy." Starkers "But what will happen if a significant portion of countries decided not to add to their dollar holdings? More than the dollar would weaken. Big foreign buyers of bonds have been keeping interest rates down, perhaps by one percentage point, as Alan Greenspan suggests. That would change, for a start. Without this support, the yield on the ten-year benchmark Treasury bond could rise to more than 5%, pushing up interest rates on mortgages. That, in turn, could prick America's house-price bubble and prompt a general deleveraging, with implications for economic growth both in America and elsewhere. Standard & Poor's, a rating agency, warned on Monday that a weak dollar would substantially increase concerns about credit quality." Frugally Yours, Norman Rothery ISSN 1499-2787 | ||||
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