Thursday, February 26, 2009

We're from the government, and we're here to help

First off, I wasn't an Obama supporter.  In fact, I don't think that I've voted for a democratic presidential candidate since George McGovern.  But he's got a tough job, and I don't know anyone who doesn't hope that he's very successful.  We certainly need effective leadership from Washington.

I don't understand why the stock market has performed so badly.   Down about 25% since the election, and down about 12% since the day before he took office.  Sure, there are plenty of other factors driving the market.  But he gets high marks from the American people.  The NYT noted on Monday that "President Obama is benefiting from remarkably high levels of optimism and confidence among Americans about his leadership, providing him with substantial political clout as he confronts the nation’s economic challenges..."

I watched his address to Congress (really to the nation) on Tuesday and I was impressed.  He didn't pull any punches in his sobering assessment of the current state of affairs, yet he offered an optimistic view of the future.  Troubles?  Sure.  But we'll get through them.  We're Americans-- this is what we do and have always done.  

It's hard for me to believe that the stock market hasn't registered the slightest bit of optimism over the stimulus package.  Is it perfect? Certainly not.  But, as the Obama administration likes to say in paraphrase of Voltaire, let's not let perfect be the enemy of good.  They're pouring lots of money into the economy.  Some of it will wind up (indirectly) in the stock market.  Someday soon, the market will rally, and your favorite TV market expert will explain that the rally has been caused by favorable effect of the stimulus package.  

I was amused by the commentary about Sec. Geithner's plan to address the financial crisis.  "No details!" "A plan to have a plan".  A market pundit explained today that the markets need transparency regarding the government's plans, and those plans are currently quite vague.  But it's just not possible to set a detailed plan to cope with a crisis that's continually changing.  And if Geithner had offered a detailed plan, that plan would have undoubtedly been picked apart by critics and frontrun by traders.  If I were the Treasury Secretary and I did develop a good plan to attack the crisis, the last thing that I'd do would be to show all of my cards.  The US government can be very powerful.  Who knows whether their plans will ultimately succeed, but I'll bet that they can have a significant positive influence on the markets and the economy at least for some period of time.  And Obama's strong popular support will help to propel that influence.  I'm not saying that they've found the solution.  However, up to this point they haven't received any credit from the market, and they deserve and will get at least some.

Feel free to comment on my liberal bias or complete misunderstanding of basic principles of economics.

Portfolio Update

It takes courage to be a good investor.  The easiest time to buy stocks is when they're going up, and the higher they go, the easier it is to buy.  We all tell ourselves that we want to be contrarians, to buy the dips.  But bottoms are made when even the bulls are filled with self-doubt.  Could I just be plain wrong?  Maybe, but I'm hanging in there.

Monday, February 23, 2009


I'm not a big fan of technicians, particularly when it comes to calling short-term market moves.  And if you've followed my comments over the past 4 months or so, you know that I don't profess to have any expertise in predicting  overall market movements.  My outlook (reiterated below) is that truly long-term investors will ultimately find that today's market presents an extraordinary opportunity for high quality stocks.

All that said, I believe that the stock market is significantly oversold and is likely to rally in the near term.  My analysis isn't particularly sophisticated, but it's based on the observation (mine and others) that markets don't tend to move in the same direction for too many days without some kind of reversal-- even though the reversal frequently represents a countertrend in the context of an overall move.  So I'm not saying that the market won't go lower.  But the -15% move in the past nine trading days is unusual and unlikely to continue without an interruption.  

While I'm certainly not a technician, I do watch certain statistics, and I think that the Relative Strength Index (RSI) is pretty important.  Essentially, it attempts to identify stocks or indices that are short-term overbought or oversold.  Today, the 14 day RSI for the S&P 500 is about 29.  It rarely gets below 30, and the handful of times it's been there in the past ten years have generally produced some good buy opportunities.  

Don't get me wrong:  the market and the RSI could go a lot lower.  The fact that something has followed a certain pattern for the past 10 or 20 or 30 years doesn't mean that it will continue to follow that pattern-- see housing prices for a particularly good example.  But I suspect that even if we're headed to 600 or lower on the S&P, we won't go there in a straight line and won't go there without a decent near-term rally.

Portfolio update:

I started a position in WAG today as the stock traded down to my entry point.   They pay a 1.8% dividend (about the same as the yield on the 5 year US Treasury note).  At consensus estimates of  around $2.00/share this year,  12x earnings seems pretty cheap for a high quality company with a great long-term growth record.  What I like most about WAG is their new strategy of opening walk-in clinics staffed by Nurse Practitioners or Physician Assistants within their stores.  These clinics are open every day and evening.  While they don't attempt to treat serious illnesses, think about how much money could be saved for our overburdened health care system if patients with relatively minor symptoms opt for a visit to their local Walgreens rather than to the physician's office or the emergency room.  President Obama has identified escalating health care expenses as the number one problem in the soaring budget deficit.  WAG's Take Care Clinic sounds like a cost-effective and promising new health care delivery idea.

For those who have recently begun to read YAIO,  I'd like to summarize my overall investment outlook by providing this excerpt from a 12/01/2008 entry: today in high quality stocks will produce substantial returns-- doubles or triples-- in the next two or three years. This is a once in a generation opportunity to acquire stakes in truly world class corporations at deeply discounted prices. They may well get cheaper, maybe much cheaper, in the next year or so. But in 2011, you'll marvel at the fact that you could have bought these stocks at those prices in December 2008.

So what to buy? It's easy. Buy the blue chips. Buy the companies that are the clear worldwide industry leaders. The ones that have the impregnable balance sheets and the multi-decade records of outsized returns to shareholders. It's truly like shooting fish in a barrel. Forget about relative performance. There will certainly be others that outperform. But names like Intel, Boeing, Microsoft, Caterpillar, Coca-Cola, Cisco, and Pfizer (among others) will give you solid double-digit returns or better plus a good dividend over the next few years. They are franchise companies that are rarely available at today's valuations.

What not to buy? Themes. Tips. ETFs. Anything that represents a guess as to the next market tick. Top down ideas like infrastructure or global decoupling. Anything dependent on interest rates, or commodity prices, or the Baltic Dry Index. Don't buy sum-of-the-parts stories, or discounts to NAV. Don't buy it if you have to look up the symbol, or if you can't immediately describe exactly what business they're in. There are just too many exceptional and truly inexpensive companies with virtually zero risk of accounting fraud, or adverse patent rulings, or competitive threats. 

Wednesday, February 18, 2009

The Tail Wags the Dog

"Gold is going to $1000"
-- heard endlessly today on CNBC by many "experts"

"Holdings in SPDR Gold Shares, the largest exchange-traded fund backed by gold, reached 935.09 tons, climbing above 900 tons for the first time. That's up more than 40 tons from a day ago, and nearly 150 tons higher than a month ago."
--Wall Street Journal  2/12/09

What if Gold ETFs didn't exist?  Do you think that they're affecting the price of gold?  And what happens if gold prices reverse?  It's clearly a very crowded trade.  Hedge fund Greenlight Capital, the University of Notre Dame endowment, and the Teacher Retirement System of Texas all bought tens or hundreds of millions of dollars worth of GLD in the latest reporting period (Q4 2008) according to the WSJ.

By the way-- if you're long GLD, have you read the prospectus?  I have.  It seems that they do have roughly 1/10 of an ounce of gold for every GLD share according to the latest 10k.  But in this era of Madoff and Stanford, I'd sure rather have that gold in bars or coins in my basement rather than as an electronic entry for a fund held in my Schwab account.  

Here's some interesting quotes from the "Risk Factors"  section of the prospectus:

Investors should be aware that the gradual decline in the amount of gold represented by the Shares will occur regardless of whether the trading price of the Shares rises or falls in response to changes in the price of gold.

There is a risk that part or all of the Trust’s gold could be lost, damaged or stolen. Access to the Trust’s gold
could also be restricted by natural events (such as an earthquake) or human actions (such as a terrorist attack)....The Trust does not insure its gold.

In addition, the Custodian and the Trustee do not require any direct or indirect subcustodians to be
insured or bonded with respect to their custodial activities or in respect of the gold held by them on behalf of
the Trust. Consequently, a loss may be suffered with respect to the Trust’s gold which is not covered by
insurance and for which no person is liable in damages.

So if you're buying GLD as a hedge against the world coming to an end, you'd better hope that all of your gold doesn't get lost or stolen in the Apocalypse.

And Oil is no better.  Oil ETFs, particularly the USO, are also impacting their underlying markets. quotes an analyst who notes that "the extreme contango on the WTI contract is primarily due to market distortions created by the USO."  He calls the ETF "a cancer to the oil market."

And finally, let's talk about Credit Default Swaps.  CDSs are theoretically an instrument which provides insurance in the event of a default on an issuer's bonds.  They're relatively new, having come to prominence in the past five years or so. They're typically one-to-one agreements with a counterparty.  Although they allegedly provide "insurance", in fact they're almost entirely a way for hedge funds and other investors to make bets on changes in the market's perception of an issuer's credit standing.  In many ways, they're similar to a short stock position, but they have advantages like no need to borrow the stock and reduced price transparency.  Do CDS spreads widen because a company is in trouble, or does a company get in trouble because its CDS spreads have widened?

The height of absurdity is CDS on US Government bonds.  "Investors" can buy "protection" against default by the US Government.  The price has been increasing, making it a profitable trade for those who have been bearish.  But tell me this:  if the US Government defaults on its bonds, what are the chances that your counterparty will be able to pay off your bet?  

Remember, it was not very many years ago when CDOs were considered to be an innovative instrument for sophisticated investors.  CDS and ETFs aren't the market-- they're derivative instruments.  

Portfolio Update

It's easy to follow your discipline when it's working.  But the market's performance over the past two weeks has been difficult.  Keep the faith.  We've yet to see any positive market impact from the government stimulus plans, and that rally is on the horizon-- even if it's a bear market rally.  

Monday, February 16, 2009


I really like the comments by Sandler O'Neill's Chief Strategist Robert Albertson in this week's Barrons interview.

Many such articles consist of the subject reminding people that he predicted the present dire state, and warning that it will get much worse.  While Mr. Albertson also seems to have also made some early  and accurate calls,  I think his outlook is much more realistic and valuable than most.

His most important point is that the government's attempt to stimulate consumer spending is a misguided approach to the problem.  The economy needs to delever, and pumping money in an effort to "jump-start" consumer spending ultimately won't help the deleveraging process.  The solution is patience-- patience to work through the delevering process as consumers and institutions pay down debt and rebuild savings.  Albertson thinks that's a "two or three-year process."  

other interesting points:

Don't forget that the banking system earns money, so it can pay down some of the embedded losses through future earnings.  Also, while many assets were clearly overvalued in the past, some are just as mistakenly undervalued now (some securities that are current in payments and likely to remain so are being marked down to 30 0r 40 cents on the dollar).

Similarly, we run the risk of being just as wrong on the downside as we were on the upside.  Three years ago, few thought that housing prices would ever peak.  Now many believe that they'll never bottom.  

Don't count out the emerging market economies, particularly Brazil and China.  Their domestic markets are huge and growing, and while they have certainly been slowed by the worldwide recession, they are becoming increasingly independent of the United States.  We tend to view the world through the lens of our own experience, but it's possible that worldwide demand for commodities and raw materials could continue to grow despite significant weakness in our country.  

Bottom line:  we'll get through this, but it will take time.  

Portfolio update

I was able to start a position in PG at 50 (and a few pennies) last Thursday.  

Wednesday, February 11, 2009

All the News That's Fit to Print

My core stock portfolio consists of about a dozen names.  While I like them all, there are two that I could be said to be passionate about:  GOOG and NYT.  One of my core investment beliefs is that the internet is one of the most important developments in the history of mankind.  (I wrote that last sentence and immediately thought "now that really sounds stupid" but I left it unchanged because I really believe that.  It's all about the importance of communication in society, etc., a topic which I'll develop in later posts).

I had planned on writing today's article about the New York Times.  I noticed that NTY ranked #496 in Bloomberg's list of average analyst rating for the S&P 500.  I know you'll want to know the four that ranked even lower:  AIV, EK, GM, and #500 is SHLD Sears Holdings.  It's clearly an out-of-consensus long, in my view because it's very misunderstood.

  As long as we're on the topic, if you like Covidian, Thermo Fisher, Phillip Morris, Davita, or Baxter you've got plenty of company-- they're the top 5 most loved by analysts.  Full disclosure:  GOOG ranks 21st.

My thesis on NYT is that most investors only look at two things:  financial metrics and an overall view of the newspaper industry.  Both are ugly.  Newspapers as we know them will go out of business except for a small cult following.  They'll be like photographs:  before the advent of digital photography, everybody took, developed, and saved photos in a shoebox.  But the digital age made 4x6 glossies virtually obsolete.  When's the last time that you took in a roll of film and paid to have it developed?  If you're under 25 you don't even know what that means.  Newspapers are headed in the same direction.  

My thesis is that the New York Times is different.  Every other newspaper in the country could (will) go out of business and the Times will survive.  It's unique.  It's our country's national newspaper of record.  It's head and shoulders above any other paper in its coverage of national and international news (with the possible exception of the Washington Post). If you're a president, or king, or dictator, a leader in business or religion, and you want to make an official statement, you're not on record unless it appears in the New York Times.  It serves a function that's been vital to society since Gutenberg.  

It's possible that the Times will someday stop publishing a print edition and appear only on the 'net.  I have previously argued that they should get out of the distribution business altogether:  let some other company print and deliver the paper under an economic model that makes sense.  Most of the financial pressures on NYT stem not from the (profitable) content part but from the expensive distribution function .  

So where does Google fit into this?  Well, content is a critical part of the internet.  Virtually everything on the 'net is about content, and most of it is junk (not the part you look at, but... ).  Pageviews drive success (revenue) and content drives pageviews.  

I like GOOG because it's by far the dominant internet play.  If my earlier statement about the importance of the internet is even close to true, GOOG is the horse that you want to ride.  If you only know them as a search engine, you probably can't imagine the scope of their internet projects.  Most don't presently produce revenue, but they all serve to position the company as THE internet leader.

I've believed that, at just over $600mm in market cap and about $1.7b in enterprise value, NYT would be a certain takeout candidate.  Of course, they have a dual-share structure which gives the Sulzberger family (owners of the paper since 1896) control of the board of directors.  Nonetheless, as the stock has slipped from 50 to 5 in the past six years, I'm sure that some of the family members  might be more open to a conversation with a deep-pocketed prospective buyer.  I have often thought that Google could be that buyer.  They've got plenty of cash, they have a history of making acquisitions of content providers (YouTube, Blogger, etc.), and they presumably share the Times's liberal political views.

So that was my topic for today, until I came across this video:  The Road to 2014.
If you've read this far, you're probably interested in the topic, so take 8 minutes to watch it.  It imagines a world where, frankly, Google takes over.  Rather than buying NYT, they render it virtually irrelevant.  It's a moral tale, and I'll leave the conclusion to you.  It doesn't necessarily make me any less bullish on either stock, but it's a fascinating view of the future, all the more so considering that it's 3 or 4 years old.  (Full credit:  I found the video and other interesting information at Zoli's blog Resistance is Futile: Google is Unstoppable)

Bottom line:  an increasingly connected world will rely on those who can create content as well as those who can organize and deliver it.  NYT and GOOG both fit.

Portfolio update

It was tough to watch yesterday's big decline.  But I still believe Bob Farrell's thought that the Dow will trade in a range of 7800 to 9800 until people just get tired of thinking about the stock market.  I also believe that the government's stimulus package can't be a success unless it produces a big stock market rally.  I'm hoping for an opportunity to buy WAG at 25 and PG at 50.

Monday, February 9, 2009

Cisco taps the credit market

Today Cisco Systems borrowed $4 billion in a combination of 10 and 30 year maturities.  The issue was reported to be very well received by investors.  Interesting, because the company has a very strong balance sheet with $29 billion of cash and equivalents and only $6 billion in debt.  (note for nitpickers:  most of their cash is held outside the U.S., which creates tax issues, and $500mm of their debt matures later this month.)  Nonetheless, unlike many corporations, they had plenty of options besides today's offering.

So what does this mean?  It tells me two things:

This is an interest rate call.  The decision by CSCO to issue debt today, at these levels (4.95% for 10 years and 5.90% for 30 years) represents their opinion that present rates are attractively low and not likely to remain here or go significantly lower.  That's important because, unlike economists and strategists who freely and frequently offer predictions (see the semi-annual WSJ tables for the dismal record of the consensus), John Chambers & Co. have a significant economic stake in their decision:  they will either save or waste millions in interest payments over the life of the bonds.  

Some of the most bearish economists and strategists (who, it must be said, have made the most accurate economic forecasts since the onset of the current malaise) foresee continued and deepening recessionary forces and lower interest rates.  But while Chambers probably doesn't spend much time with demand curves or productivity functions, he is in a nearly unique position to view the global economy due to CSCO's vast global reach.  Doug MacKay at Broadleaf Partners LLC, a longtime CSCO follower, calls Chambers "the accidental economist from Main Street."

And higher interest rates are good.  They're good because they're usually a sign of improving economic activity.  They give banks and the Fed more room to maneuver.  With a bit of inflation, homeowners should see the value of their homes increase and be able to repay their mortgages with cheaper dollars.  In the oft-cited case of Japan and the "lost decade", that country was unable to engender inflation and suffered through years of economic weakness.  Up to a point, higher rates would be good for the stock market.  Of course, we could have too much of a good thing, but that's another topic for another time.

The Strong Get Stronger  Along with the interest rate call, this bond issuance is a sign of how much of an advantage strong companies have over competitors in a poor economy.  While CSCO easily sold this bond issue, most of their competitors would find it difficult or impossible to borrow even at much higher rates.  It's a huge advantage.  They can aggressively attack while others can only defend.  Customers will be more willing to make long-term commitments with vendors whose future is secure.  And CSCO's  financial flexibility gives it a tremendous opportunity to make acquisitions and other investments at very attractive prices.  This advantage of size and strength is common to the highest quality companies in most industries.

To review my investment philosophy, I believe that high quality, franchise companies are extremely attractively valued at present.  While I can't predict the near-term direction of the market, I think that dominant blue chips with bulletproof balance sheets and dominant market positions that have lost a third to a half or more of their market caps in the past six months will likely double or triple in the next three years or so.  Many pay unbelievable dividends (INTC at around 4%?).   Please see my prior posts including 12/1/08 for more details.  My current portfolio includes ABB, BA, CAT, CSCO, DD, GE, GOOG, GS, INTC, SLB, and SYY.  (I've also got some NYT, a special case which will be covered in a future post).  I have a number of stocks on my watch list waiting for the right entry price.  I'll probably miss most of them.

Portfolio Update  

I did add to GE position today, but it's still relatively small.  Decided not to sell the GOOG calls; as they say in the option markets, three things can happen to overwriters and two of them are bad.  

Sunday, February 8, 2009

A Better Day for America

I really like this article by Daniel Gross entitled Declining Declinism

His central point is that forecasters tend to extrapolate recent trends, and they frequently miss the turning points-- both up and down.

Has the recent economic news really got you scared?  Me too.  No doubt about it, things are bad.

But as Mr. Gross points out, four hundred years of American history has shown that we have faced adversity many times and in every case emerged a stronger and more prosperous nation.   

Portfolio update:

I'm probably going to buy more GE tomorrow.  Despite my earlier comment about waiting for a dividend cut or rating downgrade, I now think that both events are priced into the stock.  CEO Immelt acknowledged both possibilities last week.  I'm starting to think that everybody is waiting for the cut or downgrade.

Started a small position in GS last week.  They probably stand to gain the most if the US financial system ever recovers.  And the stock has been acting well.

Watching GOOG carefully.  I really like the company, but the stock is probably a bit ahead of itself.  Might think about selling some calls.  

Tuesday, February 3, 2009

Phoenix Rising

"All financial crises end-- and when they end, they end in ways that create spectacular opportunity" Lawrence Summers

I don't think it's much of a stretch to agree with Prof. Summers. Just as this is the worst financial crisis in our lifetimes, it will eventually produce some of the best money-making opportunities that we've ever seen. Of course, the trick is to find them and to get the timing right. But there will be plenty to be found. I've got some initial thoughts.

Obviously the public securities markets will offer some great chances to buy stocks and bonds at distressed prices. I've written quite a bit about the ability to buy franchise companies at incredibly cheap prices. Big returns if you catch the bottom, but most investors will do well to accumulate stock in high quality companies and hold on through the eventual recovery.

Some of the biggest fortunes have been made by investing in real estate during economic downturns. Certainly the Sam Zell types who get it right stand to make billions. But I've been approached by a few people with small deals that reflect the pervasive damage of the recession-- to make up an example, the guy who owns a small strip mall is unable to roll over his bank note and what was once thought to worth $5 million will be sold to a heavily discounted bid. These deals are out there, and there will be more. I'll bet that your local commercial real estate broker is in touch with lots of situations. In fact, they have started sending flyers (first-class mail) advertising local commercial buildings to
residences in my town. What makes them think that my neighbors and I would be interested in a local 60,000 square foot office building? Apparently all of the traditional buyers are out of the market. Sam Zell I'm not, but at the right price, I'd be interested as a part of a group.

Most interesting will be the cherry-picking breakups of big but wounded companies. Things will be very different coming out of this recession, and many traditional business models will no longer work. However, parts of businesses will still be attractive under different terms, with different management. Here's what you'll be seeing: displaced senior executives at large firms that have taken a beating will start companies to compete with their former employers. They'll successfully bring coworkers and customers, and they'll compete very effectively because they won't be saddled with the legacy issues. It's a perfect model for service companies: XYZ is in dire financial straits, so a former SVP recruits salespeople and starts ABC Corp. targeting the same client base. Think about it from several angles: the upside by joining ABC Corp, but also the downside if you're an XYZ shareholder.  And think about service companies broadly-- including financials.  I'm pretty confident that you'll be seeing lots more on this topic in coming months.

Portfolio Update:

Added to my CAT position as it touched 30. Also, I just couldn't help myself and I doubled up on NYT when it traded under 5.