January 30, 2009

A new era...but ??

In euphoric or pessimistic markets always create the same type of proclamations of new era.

In the recent Tech bubble investors have piled on Warren Buffett and claimed that his old valuation metrics does not work in the Internet era and he is a "has been", as evidenced by Barron's cover "what's wrong Warren?". Also I submit to you the decoupling theorist and their new era for the Chinese stocks as it can maintain itself without the rest of the world.

Today is no different. Although the market conditions now is terrible and has not been witnessed by many investors, similar proclamations are being made. Lets review some of these claims:

  • Buy and Hold is dead. Many strategist and money managers have been repeating and promoting this mantra. It is very convenience that they do the self promotion is very obvious.
  • Index funds are dead.
  • Buffett strategy is stale. Similar to the Internet bubble many including Barron's are claiming the death of the Oracle of Omaha. Time will tell, yet again, if he will stand the test of this market.
  • Fear turns everyone into an economist. Many investors have diverted from what they do of finding investable businesses to making macro calls. Many investors are allocating their funds to gold, as the expectation that hyperinflation due to US spending will drop the dollar. For example, Einhorn's recent letter that has been making the rounds in the blog-sphere. He is good money manager analysing companies and picks loser from the winners. In his recent letter he made a bet on gold as fear from currency debasement. The gold trade is popular now as fear grips investors. Again you divert your energy from what you do best into something unrelated because of emotions. This is similar to the euphoria of investing in the internet money losing companies because you do not want to miss the boat.

In the extreme of market conditions emotions and claims like this surface in earnest. Maybe it is a sign that we are overdoing it on the downside. I will stick with what is tried and true there is never a new investing paradigm; It is always about business fundamentals and long term earning power.

January 23, 2009

BofA and Deal Making

When I decided to sell BofA because it acquired Merill Lynch, I anticipated some of the culture and tough integration issues. However I did not expect any of what have transpired so far.

I expected the flight of Merill's leadership coupled with complete incompetence of managing their exposure to risky assets, but what was shocking is Merill's executives accelerated bonus payments and hiding their losses. That is like pulling a fast one on BofA and the US tax payers. John Thain has ruined his career and in my opinion should be sued.

BofA will take it a long time to get this one right.

January 22, 2009

What does well in slow economy?

I have two ideas for slow economic times: prisons and schools.

If you think about it you have two choices when you are out of a job:
  1. go to school to upgrade your skills and get a better job, or
  2. commit crime
I hope the majority will pick the first choice. But the reality is both are growth industries in this economic climate.

Enrollments in both are growing. Schools like ITT and Devry are doing very well and recording record growth in revenues. The market seems to reward their shareholders as most of school companies are hitting 52 week highs. The performance of schools industry is on fire and the market does not seem to care that some are over leveraged.

As for prisons, it is also a growth industry. The government is running out of space in the federal prison system so they are contracting out this to companies like Prisons of America. That segment should see growth in its revenue as well.

I have better business proposition. Convert many of the hotel projects that have flooded the markets lately into prisons. The hotel industry have seen a flood of new hotels and over capacity in new rooms. What to do with them? Convert them into prisons. If you think about it prisons are just like hotels but you do not have the luxury of checking out when you want.

January 18, 2009

Are you feeling lucky?

The divergence of opinions of economists and strategists about market and economic issues is truly amazing. It is the first time that I have witnessed such an opposing camps on all issues from market direction, inflation situation, recovery prospects, and market valuation. There are extreme opposing camps with nothing in between; lets recap some of these issues:

  • inflation: there is the prospect of hyperinflation due to the unprecedented spending of governments or deflation as the complete collapse of all types of demand.

  • economy: some believe that recovery will be after 2009 others say it will take few years to recover out of a depression.

  • markets: some say very cheap other say very expensive as earnings will collapse completely.

  • emerging markets: is the future as it recovers due to increase consumption by its citizens while other expecting complete collapse of paper economies.

  • US dollar: some forecast its collapse others say it will hold up as all currencies are in no better shape.

  • gold: some think it worth $6000 while others think it will be worth 500 in few months.

  • Treasuries: it is a bubble while money still pours into it. This indication alone is very intriguing to me. The treasury market is worth trillions of dollars so capital owners are institutional and large. These investors, and it seems a lot of them, are saying that 2.3% is the best return they can find for the next few years, then you should listen up.

  • and the list goes on.

One camp is right and the other got extremely wrong. So are you feeling lucky?

So what to do?

Well I have few things I am doing right now:

  1. I am adjusting my time horizon to at least 10-15 years to see recovery in equity prices to the July 2007 peak. So you have to make sure that you do not need the capital for that long.
  2. Yes equities are becoming cheap but it will be cheaper, see my post here, so I will buy in small increments and not over-commit. I will commit fully when PE ratio becomes in single digits.
  3. Fixed income offers great value and great returns right now so I will take advantage of it before I overweight equities.

In the end all these strategists and analysts are purely guessing with no idea what is going on. Investing following their advice is a quick way to losing your capital.

January 14, 2009

Sold LOW for better bargains

I have sold Lowe's (LOW) @ $23, which accounts for %3.56 return not counting dividends. I have sold for the simple reason: I need the capital to allocate to investment opportunities that are becoming available at this time. When I made the LOW purchase, it was my best idea and now there are so many more compelling ideas that I think it is better to reallocate capital. I have limited US funds in my portfolio and I do not want to exchange additional cash so I will have to reallocate some of my capital to what I see as better businesses.

I still think LOW is an excellent company with great management. I think LOW will take market share from Home Depot and it can do it cheaply now. LOW is still expanding its store count in the US and Canada and it is doing so on the cheap in these times where retail space is plentiful and cheap. The one thing that hindered LOW in the past is the convenience of its locations compared to Home Depot, which have saturated the market and can't expand any further.

I think the valuation case for LOW is still somewhat intact, albeit the intrinsic value have gone down due to lower valuation of its real estate and reduced margins. Margins and sales will have to compress in the future compared to margins during the housing bubble years. Still the company trades at discount to intrinsic value.

Additional reasons for the sell decision:
  • Housing do not seem to be turning around soon. Foreclosures Inflating Housing Turnover - September housing turnover rose to (-3.6)%, up from (-13.5)% in August, driven largely by sales of foreclosed properties.
  • Retail as a business is an arbitrage play where the advantage is never lasting. Take a look at Walmart and other big chain stores offering to sell hardware and home improvement supplies.
  • I want to shift my portfolio away from large corporation to small to med size cap businesses where I have some information advantage.
  • The United States is in the early stages of a structural shift in which slower consumer spending will dramatically reduce its impact on gross domestic product. The consumption sector will decline from 2/3 of GDP to lower levels. Growth in consumer spending over the next several years will be about 1 to 1 1/2 percentage points less than the 3.5 percent clip during the decade ending 2007.