A Year of M&A
12 October ~ Though it received no media attention, in August I found Lockheed was selling their IT division to Leidos in a very complex tax-advantaged arrangement known as a Reverse Morris Trust. Not only that, they were offering an odd-lot exemption, a rare event these days. If this sounds complicated, it’s because it is. Even my friends who are retired fund managers, with whom I talk with often, thought this was too complicated. I’d seen it before and knew it was a very good deal with low risk, so I bought for our accounts. Everything that could go right went right. The position gained +25% in a couple of weeks.
Coincidentally, I knew two founders of Lockheed. In 1932, in the depths of the Depression, Cyril and Pat Chappellet paid $10,000 to buy their quarter share of a defunct airplane maker from a bankruptcy judge. That company was Lockheed. The company prospered during World War II and became the largest government contractor. Their corporate history included a government bailout in 1971, which was dutifully repaid by 1977, as well as a $1.4 billion overfunded pension plan which attracted corporate raider Jim Simmons in 1980. Their hundreds of aircraft designs included the secretive Blackbird as well as conventional passenger jets. They built the Vesta, which Amelia Earhart successfully flew across the Atlantic.
This past summer I attended a private memorial in Napa Valley for Donn Chappellet, Cyril’s only son. Donn was also successful businessman, first in coffee vending, then as an early Napa Valley vintner. It was a touching celebration of his life, on a perfect California end-of-summer day, with church bells pealing in the distance and 350 assembled in a meadow to pay our respects. Among the guests were Robert Redford and Martha Stewart. Donn’s six children each spoke about their father, as did long-time friends and business partners. From the many stories emerged a nuanced portrait of a rare thing these days: a multi-generation family business, where all the generations work together farming, harvesting, production, bottling, marketing, legal, even label design.
Other activities so far this year: In our recent very profitable Niska merger, it felt good to be investing alongside the very smart partners of Riverstone, a private equity group of ex-Goldman folks who specialize in energy. We profited as they did, pari passu. Niska was the top of our list of completed merger deals this year. Here are others: British mega-pharma Shire bought our shares of Dyax. The famous Omaha Oracle bought our shares of Precision CastParts. Tiny Canadian pharma Tribute bought our shares of even tinier Pozen. Respected private equity Thomas Bravo gave us cash for our shares of Solar Winds. EIG bought our shares of Constant Contact. The heirs to the Motorola fortune gave us cash for our interest in Campus Crest Communities. The Reimann family increased their caffeine-based empire with their purchase of our Green Mountain Coffee interest. Suhail Rizvi, an early Facebook and Twitter backer, bought our shares of RealD. After two years of courting, CalAmp finally bought our shares of LoJack. Two suitors chased our shares of Affimetrix, which we eventually sold to Origin Technologies. Microchip quietly bought our shares of Atmel. Hong Kong-based BTG bought our shares of Chinese hotelier HomeInns. Two private equity groups bought our shares of 70-year old chain saw maker Blount International for cash. Eyal Waldman bought our shares of EZ Chip and although we have completed the required paperwork twice, we are still waiting for the Israeli tax authority to release proceeds from this deal; both companies are located near Mt. Carmel in northern Israel. The diciest one: Louisiana Power & Light was held up for months by the local utility board vote. Old National Bank bought our shares of Wisconsin-based Anchor Bank. After waiting almost as long as we did for Niska government approval, Southern Company bought our shares of AGL Resources. Caveat: Each position was preceded by in-depth analysis and was a small part of a diverse portfolio
28 September ~It's ironic that while the most systemically dangerous bank on the planet, Deutche Bank,is having huge problems, the US markets flirt with all-time highs. What's wrong with the bank? The most immediate issue is a proposed $14 billion fine by the US Department of Justice for mis-selling mortgage-backed securities. Add to that ongoing litigation over Russian money laundering and gold price-fixing. Read more here.
7 September ~ During the past 40 days the Dow's high-to-low range was only 2.27%. That is the narrowest 40-day range in at least 100 years. The next narrowest range, 2.5%, occurred from December 1922 to February 1923.
September 1st a Big Day for REITs
1 September ~ Click here for an extensive list of REITs in Elliott's second chapter.
28 August ~ Our newest intern, Elliott Froissart, debuts on Seeking Alpha, with news about REITs.
Brookfield Acquires Niska
29 July 2016 ~ A million birds call the nine acres of riparian forest and marsh in the Gray Lodge Wildlife Area home each winter, important because most of the great alluvial plain of California’s central valley has been drained or filled for farming. Across the road we owned the Wild Goose Storage plant through our shares of Niska Gas Storage Partners LLC, a small, $142 million market cap, gas storage company based in Houston, Texas, with operations in Calgary, Alberta and Wild Goose, an hour’s drive north of Sacramento near the town of Gridley. Niska was heavily indebted and not a normal candidate for our investment. However, last year I discovered some special circumstances which made Niska very interesting.
In June 2015 Brookfield Infrastructure Partners LP offered $4.225 cash to buy Niska. Niska was trading around $1.50 before this offer. After the offer, the price rose to $3.76. Brookfield and Niska each approved and signed the deal.. Their boards voted yes. Private equity Riverstone Investment Group LLC owned 53% of the LLC units. They delivered a written consent approving the transaction. No additional unitholder action was necessary for the deal to close. Since the buyout offer was announced, three Wall Street analysts upgraded the stock. The price drifted down to $3.03 in December, 2015. My channel checks told me the deal was still intact. We began acquiring shares.
We bought shares of Niska and tendered them last week to Brookfield for $4.225 per share cash when the deal closed on July 20, 2016, a +38% gain in six months. Years ago, when Warren Buffett bought Mid-America Energy, I did a similar thing. The shares traded at a discount to Buffett’s cash offer price, so I purchased, and we profited with almost no risk. We did it again in February when Buffett bought our shares of Precision Castparts
So, that was the profit side of the opportunity. What were the risks?
The sale was subject to the vote of the California Public Utilities Commission, because of the California asset. Even though they meet in San Francisco bi-monthly, they were not likely to vote for about six months, maybe longer. Niska submited the required official filing within three weeks but a delay in their vote, or a ‘no’ vote was one risk.
Another risk: the usual law firms which extort companies involved in buyouts made their usual noises with their usual press releases. So, they caused delays and extra expense.
We are on the lookout for another buyout opportunity with such a large profit potential.
7 July Who would’ve thought we would profit with blueberries grown on a small organic farm on the Skagit River? That’s Cascadian Farm, and they would love to have visitors this summer. Okay, Cheerios, Wheaties and Haagen Dazs also had something to do with it, because all these companies are part of General Mills, whose share price rocketed upwards after Brexit. We bought a basket of these good solid companies including Kellogg, Clorox, Church & Dwight, Procter & Gamble, Republic Services and Waste Management. They each rose after Brexit.
24 June Today the S&P500 closed down -4.2%. Banks worse: Citigroup down -8%. European banks much worse: Deutsche Bank -17%. Credit Suisse -16%. Royal Bank of Scotland -24%. Lloyd's -23%. That's in one day. Our accounts moved between -0.5% and -1% today, due to balanced allocations in bonds, US dollar, REITs and gold, which all rose. There will be great opportunities in the days ahead.
US Negative Rates: the first glimpse
23 June ~ For more than a year I've written about the coming of negative interest rates. They arrived in Japan. Then in Europe. Now there are trillions in sovereign bonds trading at negative rates. Today I saw the first hint of negative rates in the US in this announcement:
"TIAA will end the voluntary expense waiver for the CREF Money Market Account by April 14, 2017. After the waiver ends, unless interest rates rise sufficiently, the CREF Money Market Account may have negative yields." Source
Others see this as a sign of doom. As noted last year, instead of messy defaults or grinding inflation, this is simply the least painful way to begin to reduce the otherwise unpayable government debt. It's a by-product of too much central banks money creation. If this first announcement goes over reasonably well, expect an avalanche of money market fund announcements of negative yields.
A Real Estate Deal
20 June ~ A little company, Gyrodyne, has an interesting history. It was founded in 1946 to make specialized helicopters. That business is long gone. What remains is the prime real estate they own. I manage money for a SUNY anesthesology professor. His department holds their annual meetings in Flowerfield, a Gyrodyne property on Long Island. In 2005, SUNY Stony Brook used eminent domain to take 245.5 acres from GYRO for $26.3m. Gyrodyne argued that this payment was not enough and eventually won a huge trial award against the state of New York. You can read a bit more background on the company and trial history here. GYRO is in the process of liquidating and has already paid most of that cash to its shareholders, and the share price reflects that. The question for current investors is what is the remaining value? Liquidations tend to be overlooked opportunities given the lack of a natural buying constituency and their returns are relatively uncorrelated to the market. GYRO is no different: we bought around $27 per share, and the company's most recent estimate of liquidation value is $31.24/share (see p. 35 of its most recent 10-Q). A great milestone last week: from the sale proceeds of two properties, they announced a special $9.25 / share dividend to distribute the cash proceeds from those sales. I look at GYRO as a part of a long-term growth portfolio, a unique opportunity
Adam Smith's Birthday
5 June ~ Adam Smith was born on June 5, 1723 in County Fife, Scotland. He never married and in 1776 published what is still considered today, 240 years later, the great book on economics, An Inquiry into the Nature and Causes of the Wealth of Nations.
My father gave me the two-volume edition pictured here. His father gave it to him on Christmas Day, 1920.
The last line of the book reads "If any of the provinces of the British empire cannot be made to contribute to the support of the whole empire, it is surely time that Great Britain free itself of the expense of defending those provinces in time of war, and of supporting any part of their civil or military establishment in time of peace, and endeavor to accommodate her future views and designs to the real mediocrity of her circumstances."
Two Great Money Managers You've Never Heard Of
4 June ~ As clients, this week you will receive an invitation to the annual shareholders meeting of the Pimco High Income Fund, to be held on the 42nd floor in Paramount Plaza at 1633 Broadway in Manhattan on Thursday, June 30th at 9:30 am, where you can submit your ballot to elect directors in person. Of course, you can also mail them in. I recommend a 'yes' vote with management.
While you're on Broadway, catch a play. The same Paramount Plaza houses the Gershwin Theater where, for $234 a seat, you can sit front row center to see 'Wicked', a prequel to the Wizard of Oz.
But we're here to celebrate two great money managers you've never heard of: Alfred T. Murata and Mohit Mittal. Alfred is a Stanford PhD. Mohit is an ITT computer science and Wharton School graduate. Together they run Pimco bond funds including Pimco High Income Fund, which is where we often park cash, as it pays a monthly dividend yielding 15%.
Before you mortgage the farm to invest, be aware these managers themselves need managing. That is, the share price bounces around more than the dividend income. As of this writing, they are up +23% year-to-date, handily trouncing the general market, but we must trim, take profits, and manage the significant price trends. The fund is not without risk, as it is so perennially popular that it trades at a steep premium to NAV — 35% average premium over ten years. No other fund has ever done that. From time to time, analysts including Barron's, have attempted to explain how awful this premium was, not to mention the leverage, but each resulting down move has been a buying opportunity ‖
It's a Wonderful Bank
7 May ~ One addition to the portfolio in February was Anchor Bancorp of Wisconsin, merging with Old National Bancorp. This deal has been approved by each Board of Directors. According to the Form 8-K filed with the SEC on January 12th, we had the right to receive $48.50 in cash or 3.5505 shares of Old National common stock. I bought shares for $43.70. If we receive cash, that’s an 11% profit, a good gain in three months.
A real-life incarnation of the classic movie It’s a Wonderful Life building and loan, Anchor Bank was founded in 1919 and operates 46 branches, including 21 in Madison. As Clarence, the angel-second class, told Jimmy Stewart, “you see, George, you’ve had a wonderful life.” The buyer, Old National Bank, was the first bank in Evansville, Indiana, founded in 1834 and now operates 160 branches.
29 April ~ Since the trend change a few months ago, we have invested in precious metals and mining and exited the general market indexes.
Aside from the trend change in many commodities, recently Deutche Bank and Barclays admitted artificially holding the price of gold and silver down and were fined. These banks also agreed to cooperate to expose others who participated. During these settlment negotiations, the prices of gold and silver began rising.
Flying with Sir Richard Branson
7 April ~ When investing in merger deals, our goal is to make a few percent in a few months. Sometimes serendipity strikes. Last week after studying the news reports on Virgin America, we purchased shares, and were delighted when the following Monday the price leapt up +42% as Alaska Airlines announced their all-cash offer to buy our shares.
Sharpening the Chain Saw
21 March ~ Around the corner from Trump Tower, Claus Moller, chief of P2 Capital Partners looks out over the world from the 25th floor of 590 Madision Avenue for investments to put his hedge funds' $600 million to work. Last year he began a position in Blount, then offered to buy the company. For 70 years Blount has made and sold chain saws worldwide. As shareholders, this weekend we received proxy materials for the buyout. I recommend a 'yes' vote, as this will give us a reasonable profit with little risk. Read their 8-k here.
Cashing in our EZChips
11 March ~ Last week Eyal Waldman sent us cash for our shares of EZChip. Mr. Waldman runs Mellanox and has been trying to buy EZChip for over a year. Both companies are located in the Yokne'am High Tech Park near Mt. Carmel in northern Israel. Clients may have received a notice to complete a withholding exemption form for the Israel Tax Authority. We're taking care of that for you.
Today Motorola heirs sent us cash
2 March ~ Today Mike and Chris Galvin, heirs to the Motorola fortune, are sending our client group cash, our capital and profit for our shares of Campus Crest CommunitiesAfter a successful career running Motorola, Mike and Chris started a private equity fund called Harrison Capital, since their grandfather's original company began life as Galvin Manufacturing Company at 847 W. Harrison Street, Chicago in 1928. Today they need good deals to make partners happy and employ capital, so they needed this acquisition. I did this background research so I knew they were anxious and solvent. Campus Crest Communities owns 33 apartment buildings, comprised of 6,234 apartments, which it rents exclusively to college students. We are content with our brief, profitable ownership and short-term gain.
Bears and Corrections
20 February ~ The dark red on this world map marks countries whose stocks are in bear markets, defined as down 20% from a peak. The orange demarcates markets in correction, defined as 10% from a peak. We are content with specific bonds and our special situations while world markets descend.
Seeing Profits in 3D
5 February ~ Rizvi Traverse, a private firm, is buying our RealD for $11 a share, all cash. They expect to consummate the deal in Q1 2016. The company makes and sells cinema systems so viewers can watch movies in 3-D, a fad which peaked awhile ago, but still has a following. You can see Star Wars in 3-D at a properly equipped theatre. In any case we recommend tendering shares acquired for $10.36, a 5% profit in three months, which is like earning 20% a year. The buyer, Suhail Rizvi, was an early investor in Facebook and Twitter, where he made more profit than the founders from Twitter's IPO. He is said to be a very private person, who hired someone to do nothing else than erase internet references to him, so if this little notice is gone soon, you will know why.
Thank you, Mr. Buffett
1 February ~ Today Warren Buffett's payment of $235 per share for our Precision CastParts arrived in our accounts. Pictured above, he enjoys a comfortable seat in a Boeing Business 737, which uses more than a few titanium parts made by the company. A cousin who flies a Bombadier Challenger 600 corrected my previous description of the plane. It's not often we get cash from Omaha's Sage. In 1999 he sent us cash to buy our Mid-America Energy shares.
In addition to his long-term investments, it's not well-known that Mr. Buffett also engages in merger arbitrage, as we are doing now. In one of his famous Chairman's Letters he describes his profits in detail, which you can read here. It's a long letter, so search for 'arbitrage' to find the relevant section.
In a Safe Place During Market's Worst Days
16 January ~ These first two weeks were the market's worst January since the Great Depression. Due to this extraordinary event, we want to update the comparative charts published here last week. This chart below, updated through Friday, January 16, compares our average accounts (top line) with the Dow (green), Europe (yellow) and China (blue).
10 January update ~ Note received: "Thank you. Thank you. Thank you."
9 January ~ The markets went straight down this first week of the new year. We are generally invested in safe places. Where? Because of the niche aspects of some of the investments, I would do clients a disservice to disclose all, but bonds and inverse ETFs played a part.
Here is a graph comparing the percentage change in our accounts (top blue line) with the three main indices, Dow, S&P and Nasdaq, during these historic first five days of 2016. Historic? Yes: These first five days were the worst beginning to a year in the entire recorded history of the stock market.
Worst first five days ever. Read that a couple of times to let it sink in. Worse than 2008, 2000, 1987, 1974, 1969, 1929 or 1900. Market participants lost $1.5 trillion this week. The Dow was down -6.2%. Markets were down around the world as well. Shanghai finished down -10% for the week. Europe down -7%. As of this week, the indices are down -10% from their peaks in May 2015.
Banking stocks declined more than the indices. Why? Here's how the cars in that logic train are connected: the Fed raised rates in December and indicated they are likely to raise four times more this year depending on employment data. Friday employment data was positive, so that encourages them. However, with stock markets around the world declining, money has bid up long bonds, so long-term bond rates declined. Short rates up, long rates down, that's known as a flattening of the yield curve. The caboose? banks make less profit when the yield curve is flat.
Please do not tender your Fairchild shares
3 January ~ You may have received a notice of tender election from our custodial broker regarding Fairchild Semiconductor (FCS). I recommend you do not tender your shares for $20. Here is why.
Earlier this month ON Semiconductor offered $20 for each Fairchild Semiconductor share. Both boards approved. However, a consortium led by China Resources has now bid $21.70 per share. We believe the Fairchild board will carry out its fiduciary duty to accept this higher bid on our behalf.
Fairchild, founded in 1957, invented the silicon integrated circuit, which has changed the lives of billions. Pictured above is their early prototype. Many of the great leaders of Silicon Valley began at Fairchild, including Gordon Moore, Robert Noyce and Jean Hoerni. Before Fairchild, germanium transistors were standard. Fairchild made them from silicon, so the materials consisted of sand and a few fine wires. (Little-known factoid: In 1957 competitor Philco had just completed a $40 million plant to make now-totally obsolete germanium transistors.) Within a few years, every other transistor company copied or licensed the Fairchild process. The company grew from these eight original employees to over 12,000.
The new bidder is listed in SEC documents only as “Party G”, but revealed by Bloomberg as China Resources (華潤), a huge state-owned group of companies based in Hong Kong. Chinese private equity firm Hua Capital is part of the bidding consortium. This group has purchased other semiconductor companies this past year, so we don’t expect objections from the Committee on Foreign Investment in US.
Queen Mary's Hairdresser
11 December ~ The Steiner/Catterton deal closed earlier than expected and we realized the 5% profit within a few weeks of our investment.
9 December ~ Herman Steiner opened his first salon in 1901 in London. After 114 years of successful operation and much growth, a private equity group called Catterton is buying them for $65 a share. We bought Steiner Leisure at $62, so will realize a 5% profit in a month. The risk in all merger arbitrage deals is that they don’t close for one reason or another, so one must research, analyze and monitor carefully.
Life Insurance for Abraham Lincoln
6 December ~ The American Temperance Society was at its height in 1851. There were 8,000 chapters comprised of people who pledged to abstain from distilled alcohol. Civic, business and religious leaders who were members in Hartford, Connecticut formed the American Temperance Life Insurance Company, which only wrote policies for teetotalers. The company prospered. It insured Abraham Lincoln's life in 1865. Along the way, the name changed to Phoenix Life and eventually listed on the NY stock exchange, as well as eventually offering policies to everyone.
We like Phoenix because its Board accepted a bid from Nassau Reinsurance Group to acquire the company. As shareholders we received an invitation from the Chairman, John Forsgren, to attend the upcoming special meeting on December 17th at 10 am at their National Historic Registered Landmark headquarters (known as the 'boat building', the world's first office tower with only two sides) on Constitution Plaza in downtown Hartford to vote on the deal. We recommend you vote 'yes', since we bought at $33.88 per share and Nassau's bid is $37.50 cash, which will give us a realized 10.7% profit after our few months of holding. You can review the 188-page proxy statement here. They expect to close in early 2016.
We Invested in this 109-year old Louisiana Electric Company
1 December ~ It all started in 1906 with a 25-kilowatt Corliss steam-driven motor to make ice in a sultry central Louisiana town called Bunkie, named after the original landowner's daughter. This contraption also generated that new-fangled stuff called electricity, which citizens found useful. From there the utility grew and was named Louisiana Ice & Electric. After much growth, lighting up Alexandria, Natchitoses along with hundreds of other villages and hamlets for sixty years, they listed on the NY stock exchange in 1968, and shortened their name to CLEC, an acronym for Central Louisiana Electric Company.
Fast forward to today when yield-starved public pension funds and insurance companies are buying infrastructure — something solid that will generate the long-term returns they need to pay their beneficiaries. On October 20, 2014 a group of these investors announced they would like to buy CLEC. Utilities deals take a long time to close, because regulators need to approve. In February, shareholders voted to accept the offer. In July, the Federal Energy Regulatory Commission approved. The all-important Hart-Scott-Rodino Antitrust Improvement Act review period has passed, which means the government doesn't consider this a monopoly. This morning I called CLEC, and they told me they expect the deal to close in the first quarter of 2016.
The terms are $55.37 cash per share. We recently bought shares around $50, and plan to hold for the closing, hoping to realize a short-term gain of about 10% in a few months. Complete your due diligence before participating.
Expedited Fed Board of Governors Meeting
23 November ~ This morning I called the Federal Reserve and they said this was a regular meeting, and since they wouldn't have a quorum, no policy vote would take place.
22 November ~ The title of the Fed notice seems ironic: "Government in the Sunshine Meeting Notice" considering it's a closed door meeting and they've just lobbied strenuously to avoid an audit. Nevertheless, the Fed Board of Governors is holding an expedited meeting Monday, November 23rd, at 11:30 am In spite of market exuberance, there are a number of sobering data points in the economy, as I wrote about on October 17th (see below). Here is a current chart of shipping rates, at an all-time low. Is there an explanation? Maybe they just built too many ships. That's true, they did, but retail stocks have also crashed. Those who observe container terminals report volume is down.
Copper, which once was so predictive that investors called it Dr. Copper, is near multi-year lows, as is aluminum and iron. Oil has crashed.
We are prepared as possible to invest in alignment with the Fed's response to this mixed bag of indicators, as they've already said their decision will depend on ongoing data points, economic metrics, many of which will be released this week. It's not a matter of guessing what the Fed will do. They themselves don't know what they will do yet.
Buffett Wants to Buy Our Shares
19 November update ~ The motion was voted on by shareholders, and passed: 88,730,022 for, and 17,572,738 against.
7 November ~In today's mail I received an invitation to a special shareholder meeting on November 19th in the Bella Vista Room of the Aquariva Restaurant overlooking the Willamette River in Portland to vote on the sale of our Precision CastParts shares for $235 each to Warren Buffett.
After talking with CEO Mark Donegan for about 25 minutes, Mr. Buffett made the deal, subject to Board and shareholder approval. Mr. Buffett said he didn't do any due diligence, he just looked into Mr. Donegan's eyes — a $37 billion look — Mr. Buffett's biggest acquisition ever. Personally it will mean $53 million for Mark Donegan, who has run Precision CastParts since 2003. Before that he was a GE executive, after graduating with a BS in accounting from Villanova University.
Mr. Donegan cordially invites our clients and other shareholders to attend, and I recommend you vote 'yes'.
Mega Caps Pulled Nasdaq Index Up
1 November ~ In the quarterly reports we've learned that sales in many companies were not impressive, yet the indexes moved up most of October. The indexes are market cap weighted, so it is strength in five companies which caused the move: Apple, Amazon, Biogen, Gilead, Netflix. While our investment approach mitigated the effects of the moves down in the summer, it trailed this steep move in October. To sum it up, these Big Five did all the heavy lifting. The effect of the other 95 stocks in the Nasdaq 100 were slightly negative.
Speaking of negative, Bank of America reports there are $6.3 trillion of government bonds worldwide which trade at less than zero percent interest, negative yields. Another $20 trillion trades at less than 1% interest.
17 October ~ HSBC analysts published this chart, which indicates the world has experienced two consecutive quarters of year-over-year GDP deceleration. In their report: "Our leading indicators found a peak in June and have since declined gradually." The eoncomists who prepared this graph took world GDP and converted to US dollars, so some of the decline may be due to dollar strength. During the next few weeks, many companies will reveal Q3 earnings, so we will have a closer look. As of mid-month 18 of the 23 large corporations which have reported earnings cited the strong US dollar as a negative influence. Will this cause US investments to decline? Worldwide investors may decide the US is a safer place and invest more here. There is also the corporate strategy to encourage analysts to lower their earnings estimates, then crow when they beat those lower estimates, even though earnings are actually down from the year before.
9 October ~ We have moved back in to index funds, general and sector, to participate in the October bounce. We also acquired shares of the BioMed Realty Trust a week before they received a buyout offer from Blackstone for a quick +12% gain. The Trust owns 3 million square feet in the San Francisco Bay Area stretching from Hayward in the East Bay to Brisbane on the Peninsula. In addition to the San Francisco area, BioMed's other hotspot is Boston and Cambridge, where it has a total of 3.4 million square feet portfolio. Some 2.5 million square feet of BioMed’s Boston-area portfolio is located in Cambridge’s Kendall Square, home to Genzyme's current headquarters.
Biotech Trend Ends
28 September ~ We've been short a basket of biotechs, including Celgene, Amgen, Biogen, Vertex, all conveniently wrapped in the ProShares inverse biotech fund, for those accounts which allowed this. That mitigated the effects of the recent general market contraction. The healthcare sector prices have contracted the most in the recent selloff.
Rate Unchanged Makes REIT Sector Rise
18 September ~ The Fed left interest rates unchanged and the broad market is looking weaker. However, our focus on the REIT sector has paid off with our purchase of a single family rental home REIT, which is up 10% since we bought last month. Our thesis was that the Fed would not raise rates. The REIT sector has sold off all year anticipating higher rates. We bought near the low ---found one for less than book value---and now prices are rebounding.
It's Time to be Very Very Selective
2 September ~ This week world-respected Bill Gross advised "near cash", by which he means short-term treasuries. Chris Ailman announced his giant CalSTRS may sell $20 billion of stock and do something else. Newsletter writers haven't been this bearish since the market bottom in March 2009, which is often considered a contrary indicator, but not right away..
We are interested in bills, notes and leased single-family homes, and this week bought a few dividend-paying blue chips.
Biggest Down Week of the Year for the Market
21 August ~ But not us! Our accounts did well, thanks in part to a recent investment in the big bull market in cash (see article below), as well as inverse funds and what is known in the money world as 'long volatility'.
Both Sides Now
7 August ~ In 1969 folk singer Joni Mitchell recorded the song Both Sides Now which describes both sides of clouds, love and life. If she had been involved in finance, she would no doubt have observed that there are two sides to every price trend depending on our measuring unit. We usually measure in our own currency. It is useful to think of both sides. For instance there has been a 4-year bull market in cash when measured in gold. The value of cash has increased substantially by that measurement. Four years ago one needed 52 ounces of gold to buy USD $100,000. Now, one needs 91 ounces to buy USD $100,000. Said another way, the value of USD $100,000 has increased from 52 ounces to 91 ounces --- a big bull market in cash.
Imagine measuring wealth in Apple shares as a base unit. A few weeks ago USD $100,000 was worth 763 Apple shares. On Friday USD $100,000 of cash was worth 862 shares. In the past few weeks, the value of USD $100,000 cash went up from 763 to 862 --- another bull market in cash when measured in Apple. In the past few weeks we acquired more cash and 10-year bonds, as well as inverse funds.
There’s always a bull market somewhere. This way of looking at both sides of price trends lets us see that investing in the cash bull market when stocks are descending is prudent.
4 August ~ Since the July 19th market top we have increased our position in cash and inverse funds. Most large tech companies estimate their profits will shrink compared to last year, but even Apple, which predicted growth, has fallen in price, a sign of a weak market. There will be a dip to buy, perhaps mid-month.
California Wild Fires Too Close
24 July ~ Clients who live in a beautiful mountain-top villa estate near Napa Valley sent this photo yesterday. It is a 6,700 acre fire burning out of control. They evacuated soon after.
The Second Quarter
24 July ~ During the past quarter all bonds and interest-rate sensitive stocks like REITs had their prices reset in anticipation of the Fed raising interest rates some time this year. This included our shares of Build America Bond Fund. The stock market in general ended June on a down note, and has since bounced in July. Since the July 19th top, we have raised cash and bought inverse index funds.
Lull Between Crises
11 July ~ Greek news in the headlines, but a much bigger event equal to fifteen Greeces in China, where their stock market crashed over -30%. Their government has declared short selling illegal. Pension plans and insiders are not allowed to sell any shares for six months. Chinese brokerages are required to buy shares. As of Friday, both Europe and China were up as things went from worst to merely bad. Janet Yellen gave a long talk which boiled down to the possibiity of a rate raise unless something else unexpected happens. Meanwhile, this week companies begin reporting Q2 earnings. Goldman analysts predict S&P 500 earnings overall will drop -4.4% year-over-year and sales -2.2%. So, this summer a time to patiently await opportunity and choose non-correlated investments.
Greeks Vote 'Oxi'
5 July ~ ...which means 'no' but the word has historic emotions embedded, as there is a national Oxi Day to commemorate Greek refusal to admit an invading army during World War II. Today 61% of Greeks voted no to the referendum. They plan to not pay the IMF or live under its imposed austerity rules. This evening Greeks are dancing in Syntagma Square to celebrate. Greece is a small nation, so it is the reverberations throughout Europe that we are watching, since Ireleand, Spain and Portugal also owe the IMF money they don't have.
This is nothing new for Greece, which has announced five external defaults during the past 200 years and has spent 48 years since 1800 in default, the most of any developing nation.
Who Else is Buying?
15 July ~ In May I published a chart (you can scroll down to view) revealing who was buying shares at this high level: the companies themselves. Now estimates are in for Q3 and it looks like companies are buying more than ever. The latest hard evidence is Intel, who said this week that out of $5.5 billion in earnings, they used $2.1 billion to buy Intel shares, in addition to payint $1.1 billion in dividends. They don't plan to stop: the Board authorized an additional $20 billion for future buybacks.
Big Week Ahead
14 July ~ This week tech companies, Intel and Google, as well as big banks, Goldman, JP Morgan, Bank of America will report earnings, providing some extra inspiration for buyers and sellers.
Despite concerns about the bond market, investors submitted $3.4 trillion of bids for the $1.12 trillion of notes and bonds sold so far in 2014. That is a bid-to-cover ratio of 3.06, the second-highest on record and up from 2.88 last year.
The high stock market and great appetite for bonds are each signs there is too much money chasing too few investment opportunities.
Central Banks Worldwide buying Stocks
22 June ~ Central banks around the world have bought stocks and intend to buy more, according to a study released last week. This is important news. It could prolong the market move upward.
The report was issued by the Official Monetary and Financial Institutions Forum (OMFIF), a think tank for central bankers. Here is a quote: "A cluster of central banking investors has become major players in world equity markets." It was reported in London in the Financial Times, and discussed for a few minutes on CNBC. I'm surprised it hasn't received more attention.
This means the population of buyers has changed—it's unprecedented for central banks to become giant hedge funds. Worldwide, central banks have assets of about $11 trillion. So far, I estimate 25 banks have admitted allocating up to 10% of their reserves to equities. So, they have much more money to continue to prop up prices, dwarfing any other investor. I suggest we go along for the ride, but keep an eye on the eventual exit, because when this megatrend ends, our relatively small size will be a distinct advantage.
How did these bags of white powder cause a gold spike?
21 June ~ On the western shore of the Yellow Sea, in nondescript warehouses in the seaport of Qingdao, a city of 9 million souls, eighth busiest port in the world, investigators are looking for a hundred thousand tons of missing alumina, a white crystalline powder that is used for smelting aluminum. The missing alumina is collateral for a bank loan—maybe more than one bank loan—and therein is the tale.
Using commodities for loan collateral is common in China. Copper, iron ore, rebar, rubber, even cotton, is stored in bonded warehouses which are legally "offshore" and thus not subject to taxes and duties. Banks loan hundreds of millions with these commodities as collateral in every one of the thirty-four major seaports from Yingkou to Behai.
On Wednesday State-owned CITIC Resources admitted it could not locate 123,446 metric tons of missing alumina, which had been mortgaged and supposedly stored in a Qingdao bonded warehouse. News of the investigation sparked fear of a crackdown on commodities financing in other ports, causing skittish traders to unwind their financing deals and move their money elsewhere, selling iron ore, rebar, zinc, copper, cotton—any commodity where they stored value for the duration of their financing deals. They moved to gold and silver,which spiked to levels not seen since April. On June 19th alone, half a billion in gold futures were purchased. Meanwhile, nervous bankers are double-checking their collateral all over China. Some report warehouses haven't let them in, making them even more nervous.
Disclosure: Last week we purchased GDX and GLD.
From ZIRP to NIRP
6 June ~ As you probably know, ZIRP means 'zero interest rate policy'. As of Thursday , Europe now has NIRP, 'negative interest rate policy'. The European Central Bank announced negative interest rates. Depositors need to pay to keep money on deposit. This is an unprecedented event by a major Central Bank. It didn't bother the stock markets, as Europe and the US rose on the news. They also announced they are planning QE. The Fed QE buoyed US stocks for a long time, as I wrote here. Now it is time to buy European stocks for similar reasons. We own Total, Sanofi, Bayer, Santandar, Siemens, Daimler, Allianz, and may buy more.
Thinking ahead—I'm just brainstorming now—central banks could take more interest rates negative and solve the debt crisis. For example, if the average bond rate were -2%, debts would be extinguished in less than 50 years. Debt crisis solved.
Enough brainstorming for a Sunday afternoon.
Why is Gold down?
31 May ~ Gold prices posted their biggest weekly decline in eight months. We have not owned investment gold for a long while, but want to understand why it fell below a solid support level. When something moves in a big way, one looks first to the biggest traders. For gold, that’s China and India. With their new government, India has relaxed gold import restrictions, so there is less smuggling. Small-scale gold smuggling added up to big business for a few years. In one recent flight from Dubai to Mumbai, when authorities checked, every single passenger had some gold. My theory is that now Indian citizens know of the easing of gold import restrictions, and know they don’t have to pay the smuggled prices anymore, so aren’t buying much, while waiting for further easing. In addition, the Sensex is up, so investors are selling gold to buy stocks. On top of this, there is complacency, no fear, in any investment sector, as measured by the VIX, which is at a seven-year low. People buy gold when they fear other investments.
Who is Buying US Stocks?
27 May ~ In case you've been wondering who is buying stocks at these highs, the chart above reveals the answer: it is the companies themselves, purchasing their own shares. The bar on the far right represents $160 billion in company purchases during Q1, which is, as you can see, an all-time high.
By doing this, they shrink the number of outstanding shares, which helps the earnings per share number increase even if the absolute earnings number stays the same. This decreases the price/earnings ratio, so stocks are cheaper. This is why many of the companies we own are companies which not only pay dividends, but also buy their own shares.
Bonds still the place
14 May ~ Many stocks have retraced all of Monday's gain — especially small caps — while our bonds continue to move up in value. That's why I'm still smiling and so is California State Controller, John Chiang, as seen in this photo from a March event, which I wrote about earlier (scroll down).
This year most economists and analysts predicted interest rates would rise and bond prices would fall. The reverse happened. Interest rates are difficult to predict. The forecasts seemed logical, since the Fed has begun tapering, and US economic reports show improvement. Our approach of participating when price trends begin, whether they seem logical or not, helped us in this case.
Many fund managers shorted bonds, so they are in the midst of a slow-motion painful capitulation during these months, which usually ends in a big price spike up as the last of the shorts are forced by their margin desks to cover. Read more here.
5 May ~ Most of the profit we've made in April came from bonds. Bonds and indexes are each near highs. Usually they move in opposite directions. Who's right in this case? In the past, it has usually been bonds. Consequently, we are keeping an extra close watch on the stock market. Margin debt has declined from a record peak. Some sectors are down big: Social media stocks have crashed already. Biotechs have crashed already. The blue chips have been good, so we are in large cap, dividend-paying companies with enough profit to buy back their own shares, including Oracle, Time Warner Cable, Direct TV, AT&T. I think of buybacks like recycling money.
View from a European banker: The American Dream
30 April ~ "America’s GDP growth has ranged between 1.3% and 3.3% since its economy pulled out of recession in late 2009. Judging by the forecasts of our econometric model, this upbeat (if uneven) movement is likely to continue. US GDP should rise 3.0% this year before edging back down to about 2.3% in 2015 (see left-hand chart below). That is quite good compared with other developed countries.
The main reason for the American economy’s relative strength is that it can claim strong fundamentals. Growth in private consumption, accounting for 68% of overall GDP, has remained almost continuously above 2% a year for the past three decades. (By comparison, consumer spending in Euroland has ranged around zero growth for several years.) Actually, US consumption amply counterbalances the government’s recent budget cuts.
Some of the credit for the buoyant mood of US consumers is due to the corporate sector. Again in 2010, as in 2002, companies invested massively in equipment without waiting to be absolutely sure that the economy was bouncing back. They put their cash to work to upgrade and expand their production facilities, at a time when capacity utilisation was still running at less than 80%. This capital expenditure was followed, quite naturally, by hiring. That explains why job creation has been relatively high in the past four years."
from Banque Privée Edmond de Rothschild Macro Highlights
22 April ~ Wednesday Apple, Facebook, QualComm report earnings, and Thursday Amazon, Visa, Starbucks, Microsoft, Caterpillar report. These bellwethers provide a view of the economy, and so will likely move markets. Even after six days up, the trend continues until the market informs otherwise. We've seen two instances, one in February and one in March, where selloffs were met with a rip above the previous high, so that's our operating thesis for this current move too.
9 April ~ Billions are saved using this best of all savings accounts
California Municipal Bonds
24 March ~ On Friday I talked with California State Controller, John Chiang, about the state's municipal bonds. Very citizen-centric and articulate, I think he will be the next state Treasurer. The California Municipal Bond Advisor noted, "State Controller Chiang has been a hero of sorts to us during California’s recent distress because he did just what he was supposed to do to protect bondholders by conserving cash flow to make sure California could cover top-priority funding requirements such as education and debt service."
Municipal bonds, irrespective of tax bracket, and even for retirement accounts, now pay more than CDs or treasuries. One can assemble a decent portfolio with a minimum of $1 million. For smaller accounts, there are other folk who have already assembled portfolios of muni bonds. Those are known as closed-end funds. Some of these funds are trading at a 9% discount to the value of the bonds they hold, the Net Asset Value, (NAV). The interest yield is about 6%. Good in itself, and even more attractive for those in high tax brackets, as it is equivalent to a 10% pre-tax yield. Muni interest is exempt from Federal taxes, including the new 3.8% medicare tax. So we advocate buying these for conservative high interest and further capital appreciation.
The difference between bonds and CDs? Bond funds capital value and NAV fluctuate, whereas a CD capital value is set. (In my opinion, CD capital value really does fluctuate with inflation and purchasing power, but the numbers on the statements don't change, and that's another story.)
What to buy? I've researched the possibilities. Amazing, but there are still bond mutual funds with 5% commission loads being sold. I recommend avoiding those. A better choice are publicly-traded closed-end funds (CEF). Last year, 2013, they dropped double-digits to a deep discount after Bernanke hinted in June the Fed might taper. Now in 2014 the taper is old news, and with Yellen's recent statement of prolonged near-zero interest, the CEF's value has risen and may continue to narrow the discount. Some CEFs are up more than +5% so far in 2014 already.
Though the asset class is huge, the world of municipal bonds is murky and often illiquid. For many issues it is difficult to get a two-sided bid/ask, and when one does, it is often very wide. We have direct access to the most cutting-edge, state-of-the-art, bond trading desks and platforms, and can search for inventory and availability. We can compare the relative merits of individual bonds with closed-end bond funds.
Municipal bond owners are unheralded heroes of our society. Behind the scenes, those who buy these bonds help build the libraries, schools, highways, airports, seaports and other infrastructure of America.
Bank Rule Change Creates Opportunity in 2014
22 February ~ Before the Great Recession, Royal Bank of Scotland was briefly the largest company in the world. Now, after layoffs of 34,000 since then and another 30,000 announced today, the bank is much smaller. The UK government owns 81% of the bank, as a result of a $850 billion government bailout.
Fascinating, I'm sure, but what does all that have to do with us? We look for a decent reward with low risk, and believe we've found it in a part of RBS capital structure: their preferred stock. During the crisis, RBS bought ABN-Amro. To finance the purchase they issued several series of preferred stock, which now yield about 7% in dividends. The regulators allowed RBS to count the preferred stock as Tier 1 capital. However, as of January 1, 2014, regulators will phase out that allowance, which means RBS is likely to refinance these shares, and likely to do that at par, $25. We purchased shares at a discount around $21.
Generally, preferred shares aren't too interesting, because they don't have the upside potential of common stock. However, when there is a catalyst for change, such as we have with RBS, then we want to invest for that reward, implicitly backed by the English government, and collect 7% while waiting.
Rental Homes: Is it Time?
15 January ~ After the boom and bust where we saw prices drop a greater percentage than they did in the Depression, one can't be blamed if just the thought of rental property makes one ill, but of such feelings are cycle bottoms made. Have you thought this might be a good time to invest in rental homes, but don’t want the management headaches? I felt that way, so bought rental homes. Several REITs now specialize in single-family rental homes.
Forty-two percent of US homes purchased in December were all-cash deals, up from 18% a year before. In the chart below the jump in 2013 is clearly visible. The publicly-traded companies which own single-family homes bought most of theirs in 2012. Analyst speculate the buyers are from all over the world. The NAR successfully lobbied to have real estate purchases exempt from the Patriot Act's onerous money-laundering provisions. The French are buying certain parts of South Florida. Chinese are buying too. US stock markets are too high to buy now many think, so single-family real estate is attractive. It's a significant trend.
3 February update ~ The sellers got serious today and sold each rally attempt. The Dow closed Monday down -326 points. We remain in bonds, cash with a few inverse ETFs, so had another good day.
Those with shorter memories are calling this a buyable dip, and the emerging market currency woes transitory. Those with longer memories recall it was emerging market currency problems which eventually snowballed into the demise of the huge hedge fund, Long-Term Capital, in 1998 and one of the early Fed bailouts.
31 January update ~ The S&P ended January -3.5%; the Dow -5.2%. Our accounts fared much better, due to early increased allocations to bonds and cash.
24 January ~ We raised cash this week and early Friday morning allied with a relatively rare species in the investment jungle: the inverse exchange-traded fund. These investments rise in price when the market descends. So we didn't have a lot to worry about Friday as the Dow worked its way down -318 points, and don't have a lot to worry about this weekend.
Stock market analysts are worried about emerging countries economic weakness, specifically Argentina and Turkey, about growth slowing in China, about more Fed tapering announcements. There are also big earnings reports in the week ahead: Apple, Google, Facebook, Caterpillar, Pfizer, AT&T and 3M. We plan to let their worries play out, and watch for a time and place to buy again.
Yes, we are not perfect, but we are ferocious about protecting capital on days like this. As those with children of a certain age know, 'hakuna matata' is Swahili for 'no worries' popularized by the Lion King.
9 January ~ While US markets see-sawed all day again, Europe and emerging markets have descended this year so far. Last week we began a short position in emerging markets, prices of which have moved down faster than the US. That short position is up about 6% so far year-to-date. Investment capital is leaving Brazil and other emerging markets. We thought they might go up this year, but the market doesn't care what we think, so we go with the flow.
Allocation Allocation Allocation
10 December ~ Similar to the familiar real estate mantra, asset allocation is important to balance risk and reward long-term. The traditional formula is one hundred minus your age. That difference is the percent of investment which should be in stocks. The rest should be in bonds. It's one formula on which most ---from John Bogle to Jim Cramer--- agree. For older folks that wasn’t very profitable this year, as stocks went up and bonds went down. In hindsight, everyone now wishes they had more of their assets in stocks. So great is the mixture of euphoria and emotion now that risk is forgotten; allocation is forgotten.
A few weeks ago I read a paper suggesting planners use 120 instead of 100, which would increase stock market exposure. So, 120 is the new 100? Maybe it will get some traction, at least until the next bear market.
We have a doubly interesting situation due to the Fed-fueled economy: When they taper QE, it is likely both stocks and bonds will decline in value. Many investors have high allocations to cash anticipating this event. Others sought refuge in precious metals. This year gold has gone down about the same percentage the S&P has gone up. They were mirror images.
Asset allocation is an age-old issue which has perplexed the brightest of people. Below is a chart of Sir Isaac Newton's investment history. He struggled with the bubble of his time, the South Sea Company. In February 1720 Newton invested a little and cashed out at a profit. Then after enviously watching his friends get richer, risked his life savings and went broke by November. Newton later lamented, "I can calculate the movement of stars, but not the madness of men."
A lesser-known but wiser investor of the same era, Anton Fugger, advised "hold one quarter in each: stocks, bonds, gold, real estate, and expect one to go down each year." The Fugger family maintained their wealth for many generations.
GM is back
9 December ~ No longer Government Motors, as Treasury Secretary Jack Lew announced today the government has completed selling all its shares. Chairman Dan Akerson expressed gratitude for a second chance. We bought GM shares recently, so we’re profiting from Wall Street's positive reaction. GM, its subsidiaries and joint venture entities sell vehicles under the Chevrolet, Cadillac, Baojun, Buick, GMC, Holden, Isuzu, Jiefang, Opel, Vauxhall and Wuling brands. Car sales have increased to 2007 levels, helped by zero percent financing. Not often reported, but the Canadian government owns 7% of the venerable automaker. We're not making a public recommendation here, as our position is part of a diversified portfolio purchased at lower prices.
1 December ~ Recently I rescued someone trapped in a gold mine. Actually, it was his future, his retirement account, trapped in many gold mines. A month ago a friend said he needed help with his portfolio. I reviewed it and saw it was all in mining and precious metals on the advice of his former money manager. It was down -24%. From chart analysis I saw each investment remained in trends down, so I sold them all. Since then, gold has descended another -5% and mining another -7%. He was trapped by a confidence cave-in, by the fear if he sold he would miss the long-awaited rally. I expalined how to overcome the fear, how to participate in the rally if and when it happens, and how to stop the bleeding in the mean time.
The bullish case for gold is logical and makes sense, but the market trend hasn't agreed for the past two years. I do my best to never argue with the market trend. I'm not anti-gold; just waiting for it to start trending up.
About the art: In the 1930s, as America worked its way out of the Great Depression, the government held national contests for art to decorate public buildings. Fletcher Martin submitted this entry, “Mine Rescue”, for the post office of the mining town of Kellogg, Idaho. This mural study is now at the Smithsonian.
Going Forward, How Will the Fed Vote?
31 October ~ In the table below there are more blue dots than orange dots, so we should expect the Fed to purchase another $1 trillion of bonds and mortgages next year, as they have this year.
Central Bankers Gone Wild
27 October ~We are revisiting an historic era in the money world: the political necessity to create money to buy government debt. The Fed must keep buying bonds, because there is not enough demand otherwise to continue to fund the US spending. I’m not alone in this analysis. Socgen and Deutche Bank agree. Deutsche Bank now argues that there 'won't be any tapering at all', while SocGen as gone a step further and is now saying 'QE may be increased'.
Historic because money creation has many precedents. This time it’s not just one country, but the world, according to this article. Canada’s central bank has decided to continue 'easing', as has Norway, Japan and the EU, as well as emerging markets from Hungary to Chile.
Therefore the stock market may enter a hyper phase, as did historical German and Zimbabwe markets after relentless money creation. Yes, I know the US is not Zimbabwe, and I'm not predicting those extremes, but our stock market is beginning to act a bit as theirs did. So is Argentina’s stock market. Every dip was bought.
Historically these mega-trends don't happen overnight. They occur over years, with much denial along the way by most participants, especially bondholders, who have the most to lose.
Meanwhile, bonds are down for the year. Among older investors, there is a great yearning to abandon traditional stock/bond allocation, where one invests one's age in percent in bonds (ie, if one is 60 years of age, inveset 60% of one's assets in bonds and 40% in stocks). Those who allocated to metals are down, as gold, silver and copper are each down double digits year-to-date. Fundamental analysis doesn't seem to matter much in times like these, only the unbridled power of central bankers gone wild.
The Risk Reward Right Now
Update 23 October ~ That dotted line in the graph below, published on the 10th, has happened.
10 October ~ The most pressing risk is not a default. It is the treasury auction. Short-term treasury prices have dropped this week to levels not seen since the Lehman default. Fidelity has sold all its short-term treasuries. If the bid-to-cover ratio at the next t-bill auction is less than 1.0, then that loss of confidence will cause the equity market to drop precipitously.
On the other hand even the hint of a debt deal resolution and we will see a rally. How big? Since Fed POMO seems to correlate well, here is one view comparing their balance sheet with S&P 500:
Not a recommendation to buy or sell, of course, as personal financial considerations should be analyzed first.
7 October ~With each investment in equities and fixed income, I hope to hold forever, as long as the price trend continues upward. As you’ve seen over the years in your statements, often there are small buys. These are initial investments, which may turn into big trends to add to and hold for a long time. As the greatest mutual fund manager of all time, Peter Lynch, observed, about half of the stocks he bought didn’t continue up. So, we need a way to deal with this uncertainty in the market. I deal with it by starting small, and increasing as trends develop, and exiting if they don’t continue. The exit may be after a month, a week, or a day. The object is to not let small losses turn into big ones. It's like planting seeds in a garden, then weeding out the weak plants while the strong ones flourish. Sometimes that means buying the same investment again if a trend resumes. Of course, this requires daily vigilance, and gains are not automatic.
Day to Day Work with Exchange-Traded Funds
4 October ~ From that day in the '90s when I attended the London launch party for the first ETF 'til today, they've been part of our work. I use index ETFs to hedge and adjust equity exposure as news, economic data, and price trends develop. There are two useful ones with plenty of liqudity: the SSO and SDS. They aren’t designed for long-term holding, but to help manage risk and capture profits from the S&P index.
The Big Issue
19 September ~ This week is the second time this year Bernanke first gave strong indications 'taper' is about to happen, then didn't do anything at the FOMC meeting. Each time the market sold off first then zoomed up instantaneously (ok, it took 150 milliseconds this week) when tapering didn't materialize. Yesterday, an economist wrote, "Fed credibility and its communication strategy are in tatters."
The Fed can't end their bond buying because interest rates would rise and the US government can't afford to pay higher interest. As we've seen this year, if the market even suspects the Fed might stop buying, it begins to sell off.
Real Estate vs. Stock
9 September ~ Real estate vs. stock; two different worlds of investment. We’ve learned over the years there is a time and place for each, and a time and place to avoid each. Similarities? Each has dramatic price changes. Each can be leveraged, increasing risk and return.
Differences: Stock price trends and cycles are much shorter than real estate cycles. Real estate costs of buying and selling are much higher, and the purchase process much more time consuming and complicated. Stock shares are generic and commoditized. Real estate is usuallly site specific. Stocks can be sold in a few seconds; real estate needs months. One can instantly borrow secured by stocks up to 50% at 1.3% interest. One can borrow 80% secured by real estate but it is a complicated process involving tax returns, loan documents, title insurance. You’ll never have to fix a toilet with a stock, but you can’t live in the Dow Jones.
What if your house price was quoted each day like the Dow Jones Industrial Average? It would probably drive the homeowner to distraction. Zillow creates historical and current estimates, and displays the occasional ‘trade’. On a million dollar property the bid might be $900,000 and the ask $1.1 million, or $200,000 wide. In stocks the bid and ask is often a penny wide. Stock bids, ask and trades are quoted every second for six hours monday through friday. The bid and ask on real estate is very far apart on each and every day except the escrow closing.
Perhaps one could recreate the dynamics of the good parts of real estate in a brokerage account. Buy a high dividend REIT, leveraged as one would with a mortgage. Then hold through the daily barrage of quotes, news and analysis. Would we then have the best of both worlds?
After Many a Summer
1 September ~ Soon after British writer Aldous Huxley departed England to settle in California, he wrote a novel about an aging millionaire seeking immortality, perhaps somewhat like this aging US stock market rally. The novel didn't have the Fountain of Fed to provide the elixer of eternal life the way the US market does, so maybe the ending will be different.
The longevity of this US rally is unique, in that emerging markets of India, Russia, Brazil, China have already descended, as have REITs, and bonds. Often, the US market trend and volume pick up after Labor Day. So after many a summer, this week we shall curiously turn a page to begin the next chapter.
Income Investments More Stable in July
30 July ~ At the beginning of May the value of high-dividend stocks moved precipitously downward, due to fear of increasing interest rates. We exited a few days after that began, and have waited patiently for the buyers and sellers to find a balance. It looks like that is happening. After the FOMC meeting this week, one can more safely own those again. So many are looking for a return on capital these days, and some retired have most of their portfolio in fixed income.
Worst have been the municipals, which we don't buy, but I got a close-up look recently when someone sent me their muni portfolio to liquidate so they could buy a farm. It has been difficult to even get decent bids, in such disarry is the income market, even though we sent requests to many bond houses.
The retired worldwide look enviously at US equities compared to their own fixed income losses, and as the chart below revealed, are joining in to buy at these recent highs. With the Fed QE program injecting billions, the rally may continue.
Fed Chairman comments have caused US dollar volatility in June and July.
14 July ~ One can't help but notice the May-June selloff on the mere hint Ben might taper off Fed purchases sometime next year, and the big rally back when he assured the markets he will continue his spending spree, as yet another remarkable example of the power of the spoken word to move billions in stocks, bonds, and currencies. To exert that power, one needs to be holding the biggest credit card on the planet.
Those market reactions mean there is a massive, yet-unnamed asset bubblem which, after five years of Fed stimulus, perhaps not even a robust economy can replace. If the move at even the hint of tapering is any indication, then there is a chance asset prices are going to fall once the Fed stops injecting $85 billion each month.
Since the US government can't really afford to pay higher interest, the unwind of this bubble isn't likely to happen this summer or this year but some time in the long-term. In 1914, the first British acceptance of US dollar-denominated bonds was a tipping point as the world's reserve currency transitioned slowly from the Pound to the buck. Looking far ahead, when the US accepts Yuan-denominated bonds—which no-one is predicting now— will be another tipping point.
Long-term musing aside, this week Ben will speak to Congress again, and banks will report how they profited from him buying their toxic mortgages. Twenty or so other blue chips will report earnings as well.
Surprise: Ray Dalio's Fund
25 June ~One of the hedge fund world's most closely watched managers, Ray Dalio, runs the $70 billion All Weather Fund at Bridgewater Associates. He practices transcendental meditation, lives in Greenwich, and is the 44th richest person in America. In 2013, his All Weather Fund, widely held by major pensions, is down -$5 billion, or -8% year-to-date. Click here to read the Reuters press release. Click here for the CNBC video.
Ben Speaks, Market Squeaks
19 June ~ Today Fed chairman hinted he might stop propping up the bond market. Gold dropped -1.2%, the S&P -1.4% and the TLT bond fund -1.0% at market close, and more after hours. Our accounts, hedged, were -0.1% today.
Like London and Paris
2 June ~ If Charles Dickens had been an investor this year, he might have penned the same words he did in 1859 to describe London and Paris at the beginning of A Tale of Two Cities. If one put everything into S&P (+12%) or Nikkei(+9%) funds it was the best of times. If one put everything into gold (-18%) and mining (-37%), or Yen (-13%), it was the worst of times. Most of us are diversified somewhere between these extremes.
Fundamental analysis hasn't helped. Following the Fed and other central banks has been the principal correlation with market movements.
What's Happened to the Stock Market
16 May ~ This is no ordinary rally. This is what was supposed to happen to gold. According to some past year predictions, currencies and stocks were supposed to all collapse and gold soar to new heights. Instead, investors worldwide chose the US stock market, fueled by years of zero-interest rate handouts to financial institutions. I’m not saying “this time it’s different” because this rally will end as all do, but it is motivated by a perfect storm of forces which have already taken it farther than ordinary seasonal rallies. Some signs of the unusual strength: (1) IPOs which go up; (2) secondaries which go up; (3) shorts capitulating each day in the final hour; (4) eighteen consecutive up Tuesdays; (5) rising markets in spite of weak seasonal tendency; (6) markets rising in spite of negative economic figures — all indications of buying beyond ordinary.
Happy Arbor Day
26 April ~ Perhaps it is a coincidence that a company which grows 50 varieties of tree seedlings reports earnings on Arbor Day. In any case, we've enjoyed profits from our holding of Weyerhaeuser but needed to sell today, as the trend up appears to have ended.
This 112-year old REIT manages 20 million acres of forest and pays a 2.23% dividend. We will watch closely for an opportune time and price to invest again.
The Great Gold Crash... of 1869 !
22 April ~ In 1869 the US was on the gold standard and President Grant was in the White House. Two speculators, Jay Gould and James Fiske, attempted to trade gold using inside information. The Treasury Secretary, George Boutwell, retaliated by selling $4 million of the Treasuyr's gold to keep prices low, so the speculators' plan failed. More details here.
The civil war debt, the railway boom and bust (the high-tech investment fad of that era) led to a general depression by 1873. The lessons here are that the country on the gold standard still had severe economic ups and downs, and that government adjustments to gold prices are nothing new. Click here to read more.
Who is Behind the Gold Drama?
15 April ~ A year ago big hedge funds were sure quantitative easing would double, triple gold priced in US dollars. So they bought millions of ounces—Soros, Bass, Paulson, and others.
The severity and timing of this two-day plunge indicate some big hedge fund, possibly in India or China, may have had a big margin call. The first leg down in the morning below a significant quadruple bottom support triggered stop losses creating further selling, which triggered the call, then the hedge fund(s) needed to sell to meet the margin requirement before market close. Monday, the Shanghai Gold Exchange announced trading margins for the gold forward contract would be raised to 12 percent. Monday the CME raised gold margins to 18%. This causes more forced liquidation, and gold is drifting lower after hours.
Why India? Because there it is common to use gold holdings as collateral for business loans or investments. Lenders will have triggers in their documents that stipulate if the collateral value decines below a certain percentage of the loan, the agreements must be adjusted.
Worldwide, investors in general have become discouraged by the two-year decline from $1,900, and have sold: Holdings of gold in exchange-traded funds plunged 900,000 ounces over the past week. Holdings are now down 7.2 million ounces (223 metric tons) since the start of the year, nearly wiping out the 9-million-ounce increase during 2012.These are significant numbers. For context, 7.2 million ounces represents 5% of annual global gold demand. As prices continue to plummet, investors sell to preserve capital. It's a cycle: As investors liquidate, prices adjust for the extra supply. As prices decline, that spurs another round of liquidation.
My son is into rock climbing these days. He has a joke: "Where can you find lots of high-quality climbing equipment for free?" Answer: "At the bottom of Half Dome." The chart below depicts the number of ounces held by all gold-related ETFs in 2012 and 2013 ytd. You can see the mountain of buying ahead of the election and the fear of the fiscal cliff. This year the Half-Dome side of the mountain formed, as hedge funds and investors sold.
To preserve fingers, I don't want to catch a falling piton, not even a golden one. Before buying I would like to see the huge sell orders filled and out of the way, and see big buyers appear. That could be Monday or five years from now. I'm ready either way. The price and volume pattern will reveal them as the days go by. My job is to employ capital elsewhere until that time. These days the deep discount commissions, massive liquidity and penny spreads make such sector re-allocation easier than it's ever been. More importantly, this means I don't have to be caught in the many imaginary future predictions, both up and down. I can respond in the moment as events unfold. There is no time like the present.
I remember in 1975, when gold ownership became legal again, our family bought gold at $35 and higher prices. Contemplating the long-term chart, I now see that the run up from 1975 to 1978 was a result of other Americans reinvesting in gold as we did after so many years when it was forbidden. We bought from a local coin dealer who guaranteed to buy back gold at the price he sold in order to get customers to his shop rather than the competition. After the 1980 crash, we went to his shop one day, and he was gone. Shop closed. No forwarding address.
Somehow it's ironic that it's April 15th, the day when the Federal and state governments take 29% of all American's' income, on average. Though this is the biggest two-day drop in thirty years, on a long-term chart it is a minor pullback after the precious metal's long, long rally.
1 April ~ No April Fool's here, Stockton is officially bankrupt. GDP of Stockton is $19 billion. GDP of Cyprus is $24 billion. So, we have our own little Cyprus right here in central California.
The next big legal question: does Federal bankruptcy law trump California law regarding pension obligations? Stockton's biggest creditor is CalPERS. $900 million. Stockton's pension and health benefits are most generous: coverage for city retirees and spouses for life, even if they worked for only a month. The retirement age? Fifty. Even Cypriots had to wait until age sixty-five. Read more details here.
Just for some perspective
10 March ~ While taking in all the media's discussion of the government spending issues, keep this chart in mind. The blue is projected federal government spending. The thin red line is the amount of the dreaded Sequester. Note the blue line continues to ramp higher. There are no actual reductions in spending. Politicians, lobbyists, media---they all know this---so watching who complains is an education in itself.
13 September ~ Today the Fed announced it would buy MBS. What does this mean in practical terms? Buy from whom? The Fed will buy MBS from banks, who have hidden this trash on their books at face value, through the abdication of mark-to-market accounting, while their real value is much less. Presumably, the Fed will pay full price, and effectively hand the bankers more billions borrowed from taxpayers. What is an MBS? A mortgage security, so the Fed will end up owning the mortgages on millions of US citizens' homes.
All told, the Fed plans to spend $85 billion a month buying. To put this in perspective, with that same amount they could pay every unemployed person in the US an annual salary of $81,000.
The spike in gold and silver prices tell us this is a tipping point.
Contributing to your IRA
4 September ~ The question has come up "can I make current contributions to my Rollover IRA?" The answer is yes. To do that, log in to your account, select 'Funds Management' in the left blue menu, then select 'Fund Transfers'. In the page which appears, choose 'Deposit', then 'ACH from a US Bank', then 'Proceed...". Complete the form which appears. The broker will initiate two small transactions for a test, then you can start the regular monthly deposits to your IRA.
One caveat is that once you contribute to a rollover, then it can't be transferred to a 403b employer plan again. However, most have no intention to ever do that. Another is that deductibility of the IRA contributions depends on your income, so please ask your tax advisor about how an IRA contribution benefits you for 2012. Please email email@example.com or phone 1.530.231.5646 for further discussion on the topic.
31 August (update) ~ The last day of August was anything but slow. Gold +$33. Stocks down, then up. Bonds the same. It's an unusual day when stocks, bonds and gold are up together. The underlying reason: dollar down, fearing further money flooding by the Fed. We navigatred successfully, and look forward to a new month beginning Tuesday. Happy Labor Day!
28 August ~ Almost every day this month the S&P 500 index has moved less than 1% up or down. Trading volume is at historic lows. Not much happening. This often changes the day after Labor Day, so we are looking forward to next Tuesday, and have high cash positions until then, since Bernanke's speech from Jackson Hole this Friday may depress the market. I've always wondered why central bankers meet in Jackson Hole—a ski resort—in the summertime. Maybe there's a brochure somewhere which says "Things to do when visiting Jackson, Wyoming: 1) hike 2) climb 3) decide the fate of the world." Friday morning we will hear their plans, and respond accordingly.
Apple Wins High Tech Trial of the Century
26 August (update) ~ Apple wins a billion. Shares open gap up Monday.
22 August ~ One block east of leafy Plaza de Cesar Chavez in San Jose, inside the Bauhausian Robert F. Peckham Federal Building, the ‘High Tech Trial of the Century’ jury received hours of detailed instructions from the Honoroable Judge Koh before beginning deliberation following almost a month of testimony. Resting on their shoulders is the fate of Apple and Samsung. The dispute? 700+ patent issues. Since Samsung hardware uses Android, one could say this is really a dispute between Apple and Google. The jury’s decisions will move the share prices of all companies involved. In the synchronicity one sometimes notices in dates and numbers, this same week as the trial’s culmination, the Empire Steve Built became the most valuable company of all time. Apple is valued at almost two-thirds of a trillion dollars. To compare, the previous high watermark valuation for a public fortune was Microsoft in 1999 at $613 billion. We owned Apple during its recent run-up, though you might not have noticed because it was neatly gift-wrapped inside the QQQ shares along with Google and Qualcomm.
Paying to Lend Money :: G8 solves their debt crisis
19 July ~ Once upon a time, governments had to pay interest to borrow money. Not now. Now lenders pay them. This week, the US government borrowed money through TIPs bonds with a negative (-0.655%) interest rate. France, Denmark, Germany and Japan are also borrowing money at negative rates. Governments are deeply in debt, so it makes sense they would turn the tables and receive interest for borrowing more! The more they borrow, the more they receive in negative interest. Problems solved!
Governments already spend more than they collect from taxpayers, so as we all know, they borrow the difference. One has to admire this elegant further solution for the redistribution of wealth. At -0.655% interest, the world debt will be paid off in less than two hundred years.
Of course, this is not very good news for those who must invest in government debt: public and private pension plans and insurance companies. In the case of many state pension plans, taxpayer residents are legally obligated to make up the difference if their state pension doesn't earn 7.5% a year.
These great slow, seismic shifts in wealth will eventually affect us all.
A profit you won't see on your P&L (even though you got it)
July 6 ~ The chart above is the US dollar vs. the Swiss Franc yesterday on July 5th. Your account profited, but it won't change the P&L because the P&L is denominated in dollars. It means the dollar is now worth more than the Franc, the Euro, the Yen, the Yuan, and gold than it was a day before. What caused this spike? The Bank of England, the People's Bank of China, and the ECB—three of the planet's largest banks—each cut rates in an effort to make their own currencies cheaper. So our dollars' value benefits, even though it doesn't show up on our P&L.
We Invest in Communities
12 May ~ Student Transportation (STB) takes students from home to school and back again in those familiar yellow shool buses. In most school districts, the need for cost reductions and capital investments has never been more urgent and STB can help school districts immediately by putting real money in their hands for reinvestment in education as well as replacing worn-out buses with new ones.
STB is run by Denis J. Gallagher, and traces its roots to a bus service established in 1922 by Gallagher's grandfather.
This is a way one can invest capital in a helpful community service. The drivers are mothers and fathers, neighbors and friends with deep roots in each community. 70% of student transportation is still run by districts, so this is a niche destined for consolidation and growth. The only other large school bus operators are privately owned.
Investment income is scarce in this era. STB shareholders a check each month, annualizing at 8%. This simple, steady service delivers a needed ride to students and an attractive profit on our savings.
STB also environmentally-friendly. They converted more than 200 yellow school buses in Ontario, Canada, to biodiesel fuels. Their Parkview Transit division was the first school bus company in Ontario to run a biodiesel fuel blend in a large number of its buses and the program continues to expand replacing diesel fuel with fuels made from renewable resources like soybean, corn and canola oils. The resulting reduction in emissions is providing a healthier environment for our young passengers and cleaner air for employees and the community at large.
31 December updated ~ Looking at the overview, the big picture, thinking long-term, here are a few trends I've noticed. First: The end of the financial world is postponed until further notice due to unstoppable fiat currency creation. It's now obvious that money printing, disguised by many acronyms, is the central banks' solution for every problem. This may postpone any true reckoning for years. In the meantime a Hawaiian friend informs me the Kona airport private jet parking is maxed out this week with 70 jets, with overflow in Maui and Oahu. In Florida, the theme parks are so crowded, they temporarily shut the gates this week. Many Las Vegas hotels are sold out for New Year's Eve. Here in California restaurants and malls are filled. Last week someone even bought a house on our street. More US citizens will continue to suffer from too much food than too little. Americans make up half of the planet's wealthiest one percent.
Consider the Gallup poll results of the "World Giving Index" in which the US ranks number one in the world, with 66% of Americans giving money to charity, 43% volunteering time, and 73% helping a stranger within the past month. A local homeless shelter reports their population is down from last year. Yes, there are big problems and crises brewing. There are always potential crises. Some have been 'immanent' for years now. All considered in perspective, things aren't so bad.
Another trend: The internet has just begun to change everything as the world's tutor, communicator, even its conscience. Libraries, phone books, even classrooms, are fading in importance, as millions do all this online. We are entering the hyperweb era, defined as over half the internet nodes being non-PC devices. Yesterday evening at a holiday party I spoke with a young teenager who I've known since birth. I remembered him as taciturn, withdrawn, quiet. Now he is articulate, intelligent, brilliant. I asked him what had changed. He said talking every day with his gaming friends online changed him. We realized that browsing the internet now we learn more in a month than we would learn in a year before. Intelligence is ramping up, as is the development and sharing of ideas, plans, solutions. The transparency and immediacy of Youtube and Twitter news tends to inspire governments to improve. The internet has changed the investment world dramatically for the better too, and there is much more on the way. A big problem in the investment world is too much information and outright misinformation. Investment success these days depends on successfully blocking and filtering all but what makes money now.
A trend that wasn't: 2011 was a year without a big trend in the S&P 500, closer to unchanged than any year since 1947, as the 50-year chart below shows clearly. This chart is drawn in the Japanese style of analysis. Much like their intricate, precise joinery, tea ceremony, calligraphy and art, centuries ago investment analysts created charts which at a glance provide more information than the line charts one sees on financial tv. In the upper portion of the chart below, each vertical line represents one year's price movement. Red for down years, green for up years. The thick part shows where the market began and ended. The small lines above and below the thick portion trace the high and low prices during the year.
This is fifty years of S&P prices at a glance, so you can see in the 90's, five consecutive up years, where buy and hold worked well. You can see the up and down years in the 00's, where trend investing worked well. Finally, look at 2011, the single skinny line on the right, where the S&P traveled up and down 3240 points and ended virtually unchanged --- a very unusual year --- with only one other similar year, so one could conclude it is not likely to repeat in 2012. The Japanese analysts word for this type of line is 'doji' and they interpret it to mean 'indecision'. The bottom portion of the chart, by the way, is an annual volume histogram.
The investment opportunities have never been better than now. First, the cost of adapting to changing conditions is lower than it has ever been, and flexibility is the key to survival and success these days. If one of the many simmering crises boils, we can reshape our portfolio in a few minutes. Second, one can invest all around the world, in most commodities, and every industry, without ever leaving the US exchanges. I'm not recommending worldwide investing at the moment: India's Sensex was down -25%. Japan down -17%, China down -22%, to name a few of the emerging market disasters of 2011. Third, most investors are confused, indecisive and discouraged, a warm composting environment for growth of new trends. In our accounts we are endeavoring to take full advantage of improvements which will reduce investment costs, while broadening opportunities.
So, yes, the European banking system is teetering, yes, the middle east is a powder keg, yes, real estate markets are moribund, yes most emerging markets and value investors were down double-digits, and yes, most governments are spending too much and will consequently hyperinflate their fiat currencies. Bring it on! There are always problems. Things are never perfect. That's what creates the opportunities. Our goal is to generate absolute profits no matter what, and now we have better tools and a better environment than ever to accomplish this in 2012.
7 December ~ In the past four months the index has seen sixteen moves of 5% or more. To put this in perspective, there have been entire years in past markets without moves of 5%. Another factoid of note: Though this line chart makes the price changes look continuous, most of the percentage changes gapped overnight, while the US market was closed.
Recollection of Lunch with Steve Jobs
Once upon a time twenty other wealth managers and I gathered in a private dining room at the Savoy in London, invited by Steve Jobs to view an eight-minute clip from something called "Toy Story". Jobs was doing his road show for the Pixar IPO. After the vegetarian fare, he rolled the tape, and we were hooked. I bought Pixar shares, which did well. Up close he had a slightly unbusiness-like air, more like a friendly alien delivering new tech to this backward planet. In fact, in his last public appearance he unveiled the Mother Ship, a new HQ in Cupertino for twelve thousand people.
"Apple has lost a visionary and creative genius, and the world has lost an amazing human being," Apple CEO Tim Cook wrote in a letter to employees. "We will honor his memory by dedicating ourselves to continuing the work he loved so much."
During his more than three decade-long career, Mr. Jobs transformed Silicon Valley as he helped turn the once sleepy expanse of fruit orchards into the technology industry's innovation center. In addition to laying the groundwork for the high-tech industry alongside other pioneers like Microsoft Corp. co-founder Bill Gates and Oracle Corp. founder Larry Ellison, Mr. Jobs proved the appeal of well-designed products over the sheer power of technology itself and shifted the way consumers interact with technology in an increasingly digital world.
"The world rarely sees someone who has had the profound impact Steve has had, the effects of which will be felt for many generations to come," Mr. Gates said in a statement Wednesday.
The most productive chapter in Mr. Jobs's career occurred near the end of his life, when a nearly unbroken string of successful products like the iPod, iPhone and iPad changed the PC, electronics and digital media industries. The way he marketed and sold those products through savvy advertising campaigns and its retail stores, in the meanwhile, helped turn the company into a pop culture icon.
"Remembering that you are going to die is the best way I know to avoid the trap of thinking you have something to lose," Mr. Jobs said in a commencement speech at Stanford University in June 2005, almost a year after he was diagnosed with cancer.
I join millions in mourning the departure of the best CEO of the greatest company --- by any measure --- of our generation. Rest in peace, Steve P. Jobs. We will appreciate your creations for years to come. You truly made the world a better place.
Beware of Greeks bearing Gifts, Paying Taxes, Moving Markets
1 October ~ For the past six weeks the US stock market has moved according to the announcements and follow-up denouncements from Europe. Germans voted to help the Greeks pay their bankers ( if the Greeks will at least pay something in taxes) and the market went up. The Deputy PM in Greece said the taxable resources of his small islands are exhausted and the US market went down. This 9% up and 9% down S&P move has happened seven times in the past six weeks. Unprecedented! The most recent word, beyond the Greeks promising to promise to promise to someday try to collect taxes which were due in 1999, takes the cake. The word is that the Greek tax authorities can't collect taxes just now because you see --- I am not making this up --- they have run out of ink to print the tax forms, according to London's Financial Times. I don't know why the market gets so surprised about all this. After all it was Greeks who came up with the Trojan Horse. They've been fooling people since the Bronze Age.
20 September ~ One summer day in the ‘90s, my two dear children and I were walking along the Thames in London. We passed an ice cream cart and they clamored for an ice cream cone, for which the vendor wanted £ 1.25.
“No! We have to economize!” I blurted. My kids looked up at me, a bit stunned and confused. Then my inner brain asked itself “What are you doing?” During those years I was managing an emerging markets fund in the City, and although i handily outperformed my benchmark index, there were down days, and this had been one of them, with the fund down a healthy five figures, which was unusual for my style of management. Even though it was less than 1% of the fund, now, i realized, I was telling my dear children to economize on ice cream cones because of my bad day --- because I was thinking in dollars, not percentages.
From that day onward I vowed to train myself to think in percentages, for peace of mind, and because that is closer to reality. When responsible for wealth, no matter what it is invested in, the account balance can fluctuate daily by the value of an expensive car, the value of a house, or in extreme cases, billions. One needs to think in percentages to manage it correctly.
So, if one has newly acquired responsibility for wealth, my advice is to think in percentages, to stay in the realm of reason and out of emotions of elation or despair. A $5 million account, up 5%, is $250,000. That amount may be cause for elation. Down 5%, one might think of the small house they could have bought with that money. Realizing it is 5% of the ‘mother lode’ is the mature ‘old money’ way to look at it. Be kind to yourself and think in percentages.
... and yes, I did buy them each an ice cream cone. Then, to teach them about income taxes, I ate 38%.
Greece: Default Delayed is Debt Denied
18 September ~ This coming Tuesday, Greece owes a € 769 million coupon payment to bondholders, unless they agree to modify the bond terms, but why would they want to add another billion Euro on top of the already unpayable debt?
Several interesting voices have recently declared Greek debt unpayable: First, former UK Prime Minister, Gordon Brown, said the 2011 crisis is worse than 2008. Second, Dominique Strauss-Kahn, who five months ago ran the IMF, declared Greece can't repay its debts and bondholders must simply accept their losses. Funny, how people see things differently when they aren't part of the status quo anymore, isn't it?
Finally, a subplot to this tragedy of the absurd, it also appears banks may own more insurance, in the form of credit default swaps, than they sold, and more than the amount of bonds which Greeks owe, so the net benefit to the banks of a Greek default may actually be positive. As Europe agonizes over all this, our Fed meets on Tuesday. Almost a divertissement, Monday our President will announce an unpassible plan to raise taxes by $1.5 trillion to pay the US debt. Our financial seat belt is fastened this week.
Not even their famous army knife...
... can fix what the Swiss did to their franc. For thirty years a stable currency as solid as their granite Alps, the SNB decided to link their currency with the dubious Euro instead of gold. It is the end of an era. I recall in the 80's moving accounts into Swiss francs when the dollar was descending and profiting thereby. Now that the Swiss have joined the worldwide 'race to debase', literally the only measure of value is the price of gold. Like it or not --- and with it's current volatility there are those who find it hard to like --- that is the new reality.
A colleague pointed out that SNB governing board chairman, Philipp Hildebrand, was a former hedge fund partner with Moore Capital, and estimates the SNB made a $25 billion profit the day of their announcement. It is also rumored that much of UBS recently revealed $2.3 billion trading loss was due to the SNB revaluation.
6 September ~ In the wonderful world of the equity markets, we invest capital by determining risk/reward. One such event last week was Warren Buffet's deal with Bank of America [BAC]. Immediately the stock price began moving, and I invested. After a few days of careful monitoring, the price didn't act quite right, so I cashed in for a +2.5% profit on August 30th. As of today's close, BAC is -13.8% below our sale price. My goal was not to make a 2.5% profit, of course. My goal was to be positioned to make a large profit if the price continued up while protecting capital if the price didn't.
This is why our accounts have a number of investments which are around break-even. One doesn't know for certain when a big move will occur. My job is to get in position to profit when a big move is more likely to happen. This is a lot of work, but the best way I've found to preserve capital in down markets while profiting in up markets. It is not a new phenomenon either. Peter Lynch, famous past manager of Fidelity's flagship Magellan Fund noted the same thing: that account profits are generally made from several big moves during a year, while most investments in a portfolio muddle along, and he was never sure which ones would be the big winners. That's just how it is, he wrote in 1994.
This week's Bank of America share price movement is yet another example of price action preceding news, as I wrote about on August 6th, further down on this page: Today, four days after I saw a sign to get out, the FHFA announced it is suing BAC to recover billions in losses from bad mortgages. Someone knew this was coming earlier and sold. I saw the price action and joined them.
Earlier this week a dear client who lives in a beautiful home in a leafy, peaceful enclave wrote asking about BAC. I replied: In spite of Mr. Buffet's enthusiasm, the market's reaction to his buy tells us BAC still has problems. I bought some for your account, but had to exit with small profit as developments got murky. Price is now lower than when we sold. Probably can re-enter cheaper.
Twenty-eight years of managing wealth provides perspective on Buffet and banks: During the era when Buffet bought a big stake in Wells Fargo [WFC] at $80 I was managing the family money of a Wells Fargo Bank board member. He explained the rationale: The bank had over-reserved, and they would be bringing those reserves back into profits. Through the magic of corporate accounting, earnings growth was a sure thing. Earnings were literally already in the bank. Yet soon after Buffet bought at $80, the share price was cut in half to $40. So, i think we have time to wait for a better entry on BAC. Years afterward Wells Fargo went on to earn shareholders a handsome profit. All I'm saying is why not wait for a better entry price during this time when every bank stock in the world is going down due to massive lawsuits filed today by the FHFA. To read the official FHFA notice, click here.
To answer your question about buying dividend stocks now: When the market goes down and the growth outlook is gloomy the folks on tv say buy income stocks. I've analyzed this idea over the years, and it doesn't work well. They go down too in a market which is highly correlated, as it is now. To study this yourself, pick any ten high dividend stocks they recommend. Measure their percent decline in August. It will be a bigger loss than the entire year's dividend income. It does sometimes work to buy big macro-market dips in companies that are likely to recover, as long as one is prepared to exit and preserve capital if the dip is only the preface to a larger move down.
29 August ~ An analysis of this months sharp sell-off in equities reveals the S&P 500 three-month correlation is 0.73, the highest in at least 20 years, and up from just 0.44 at the start of August. This is bad news for the average long-only equity mutual fund, whose prices descended even more than the index. What is an investor to do? Our solution was to avoid picking individual stocks, because they were all moving together like a frightened flock of birds. Instead we held high cash positions and gold, then began edging back into the market using S&P ETFs near the end of the month, thus outperforming those whose mandates force them to grimly hold no matter what. Astute trend analysis is the new alpha.
Investors are asking "is this 2008?". The answer is no. In 2008 the US dollar appreciated and gold prices fell. This year the reverse happened: the dollar dropped and gold reached all-time record highs. What does that signify? It means that 2008 was a deflationary bear market, and 2011 is an inflationary one.
Other signs of a difference: in 2008 money market funds froze. The banks didn't have enough cash. This year, banks have too much. They don't want any more. So they charge customers for depositing too much of Ben's newly created paper. Read more here.
Worldwide Bear Markets
21 August ~ The definition of a 'bear' market is an index 20% below it's peak. Many of the world's markets have achieved that dubious distinction this month. The S&P 500 is 2% away, as of Friday's close.
Why we didn't wait for news announcements
6 August ~ The news of the S&P credit downgrade of the US, released only after hours Friday, after the market plunged all week, illustrates once again that as prudent investors we can't wait for news announcements to conserve capital, as those who have the inside information move the market before the news. Read here how the S&P was in meetings with US government officials this past week before announcing the downgrade. Our move to cash when the market first began to weaken saved our capital. Responding to price moves is mandatory. Knowing why is optional. The most important line in the article: "...further downgrades may lie ahead."
Five Famous Funds Fumble
18 June ~ This is a strange year in the markets. Many troubles wherever one looks, yet the market ignored them until May. Five famous fund managers have had trouble all year though. The ubiquitous Dennis Gartman's fund is down-12% year-to-date, yet he continues to reign on financial television, answering the hushed questions of genuflecting interviewers. Ken Heebner's CGM Focus Fund --- which was up +80% one year when we owned shares --- is down -13% this year. Bill Miller, the famous value investor is not faring any better, down -12%. Fourth, Bruce Berkowitz was sure enough banks would outperform that he loaded up his $14 billion portfolio, is down -13%. Finally the fifth: Warren Buffet's Berkshire is down -8% year-to-date.
Argentina: 25% Inflation
4 April ~ As noted in this space on 14 and 17 February (scroll down) hyperinflation has begun. One can read about the euphoric effects in Argentina in this article. Citizens of that country have seen it all before and recall how to deal with prices which rise daily.
As an advocate for those in or near retirement, I protest government policies which declare 'inflation is good' and 'a weak dollar is good'. Those policies are good for corporations, but very bad for citizens who have prudently saved. Governments won't change, so the way out, of course, is to exchange dollars for those items rising in price, as the Argentines do.
29 Jan ~ Investment profits are not usually linear. An account will drift along for a period of time, a little up and a little down. Then just about the time one questions the whole thing, there will be a big move in account equity. Historically, the stock market has trended for about 20% of the time, and consolidated for about 80% of the time. The work and vigilance necessary to manage a portfolio is to be ready for the trending periods, and participate in the moves up, yet guard against moves down.
This revaluation happens occasionally with most possessions, with one’s home, art and other assets. The difference is that one doesn’t get minute-by-minute quotes on one’s home. So, market quotes are two-edged: If one worries about each tick up and down, it can be nerve-wracking. Yet, it is a wonder of the modern world that there is such global liquidity that one can buy or sell when one wants, unlike many other types of investments.
In the tax information, clients will see a number of small profits and losses. This is a behind-the-scenes look at what happens in many mutual funds. The portfolio manager starts a position, and increases it if things remain positive, growing into large gains. However, keeping any loss small. Similar to planting seeds, then weeding out the weaker sprouts to leave the healthiest plants to grow.
Dec 23 ~ POMO is an acronym for the Fed's Permanent Open Market Operation, which has been buying billions in US debt almost every day recently. The Fed is kind enough to pre-announce the dates of their purchases, and often announces the exact debt they plan to buy. Coincidentally, the US stock market has closed up almost every day the POMO bought debt. Some economists theorize that large traders are front-running the Fed, buying low before the POMO date, then selling higher to the Fed when they buy, and investing the resultant liquidity in the stock market.
In Greek legend a golden apple, pomo d'oro, was awarded to a beauty contest winner who had bribed the judge. Discontent over this unfair act led to the Trojan War. Today's discontent over bankers receiving these continuing riskless profits is similar, though the bankers have won the war already, according to Marketwatch.
Did it ever seem annoying when you couldn't reach your wealth manager after hours or on weekends? It did to me years ago. Consequently, I've carried forward my father's policy of giving a number to clients where they can call day or night, 24/7/365. Though the old saying is "money isn't everything", in my opinion it is important enough to have the facility to talk at any time. You can read about our other policies here. One of our asset custodians, Interactive Brokers, also effectively has this facility, as one can call their London or Hong Kong office when their US office is closed.
Tipping Point: Fed owns $1t US treasuries
Updated Dec 23 ~ In September mainland China bought far less US government agency debt than ever before, as the chart below shows. In fact, they were net sellers of $26 billion. This includes Fannie Mae and Freddie Mac bonds. On November 22nd, the Federal Reserve passed the Chinese government as the largest holder of US debt. You can read that whole story here. In December, the Fed owned $1 trillion of US debt, a milestone, or perhaps a millstone. Taken together, this is a tipping point, where others are not buying as much US debt, so the Fed is buying it, under the fuzzy label of "quantitative easing".
This news is not mentioned by the major media, even though this gigantic milestone is arguably more important to America's future than even Bristol Palin's dance moves.
Although our accounts sometimes are up more than the S&P, our main goal is prudent capital growth and preservation. Because of this our accounts often have yields more like balanced mutual funds, comprised of stocks and bonds. In classic portfolio theory, the original point of stock/bond allocations was to mitigate the dramatic drawdowns which periodically overtake the S&P. We achieve similar goals by analyzing trends and entering when uptrends begin and exiting when they end. So our accounts are safer than 'buy-and-hold' S&P index accounts, whose theoretical risk is substantial. I feel ours is a responsible way to grow capital as our account beneficiaries approach retirement.
A Few Words about Income
Updated Dec 22 ~ The past few weeks I've received questions about income portfolios in 2010.
For those depending on their savings for income, now is the worst of times. T-bill interest is almost zero. Bond interest is low. High-yielding CDs don't exist. Most now are under 2% per year. Many of the old, tried-and-true investment maxims don't work anymore.
Not too many years ago we used to get 9% from a US treasury bond, and all was happy for income investors. Those days are gone. That's reality. There are too many dollars seeking a return, and their competition drives rates down. The Fed is keeping rates artificially low, which in effect transfers money from savers' pockets to banker's pockets.
So, as clients know, my solution is to invest in income stocks when they are trending up, and move to cash when they are trending down. Generally, January and February are weak months in the market, so I increased cash, and March often recovers, so I invested again in income stocks. The market looks more stable this year than during the past two years. This approach, of course, is more risky than CDs, but the choice is (1) earn almost zero and spend principal each month; or (2) risk some capital value fluctuation with the goal of higher returns.
This method requires constant daily vigilance monitoring price trends, and hours screening thousands of stocks, researching the ever-changing world of high dividend stocks and bonds.
This approach has two benefits: First, of course, collecting income from high-dividend stocks. As you may know, stock dividends are not like bond interest. When one owns a bond, one is paid interest pro-rata for the days one owns the bond. For dividend-paying stocks, one only needs to own the shares on the record date of the dividend. For example, with a stock paying quarterly, one technically only needs to own the shares four days out of the year. Practically speaking, it's a bit more complex, because the capital value often drops the approximate amount of the dividend on the ex-dividend date. So, in times like these, the arduous management work is to buy right, ramp into the dividend, and move to cash when a stock stops trending up.
Second, applying this trend analysis to our accounts moves us to cash before big moves downward take too much, thereby tending to protecting capital, as we did in 2008, though there is principal fluctuation, and the occasional market-moving surprise. It is not glamorous, but has worked well in the past, which of course is not a sure indication for the future. This is how I invest for current income.
Easan Katir is a fiduciary Registered Investment Advisor in California and Texas, providing fee-only planning, investment advisory and retirement services throughout California, including, but not limited to: San Diego, La Jolla, Newport Beach, Los Angeles, Santa Barbara, San Luis Obispo, Big Sur, Monterey, Carmel, Pebble Beach, Santa Cruz, Silicon Valley, Woodside, Atherton, Berkeley, San Francisco, Santa Rosa, Redding, Sacramento, Davis, Grass Valley, Nevada City, Roseville, Fresno, Bakersfield, Riverside, Lancaster, and in Texas including Midland, Odessa, Austin, Dallas, Ft. Worth, Houston. Please contact Easan Katir if there are any changes in your financial situation or investment objectives, or if you wish to modify investment account goals. Easan Katir transacts business per applicable state registration regulations and the "de minimis" exception. All information herein has been prepared solely for informational purposes, contains no guarantees of any kind and is not an offer of case specific advice. One is advised to carefully consider each idea only as part of a diversified portfolio suitable to one's circumstances. Investment views subject to change. We offer no legal or accounting advice. Charts should not be used exclusively for investment decisions. A list of the advisor's investment recommendations is available by request. Our state law requires us to offer our clients a copy of the Firm Brochure annually. Our state law also requires us to inform you if there were any material changes to our business since that last annual update to our Firm Brochure. Our last annual update was March 18, 2016 and we do not have any material changes to report since that update. If you are interested in receiving a copy of our Firm Brochure, we will provide one to you at no cost. Please call us at 530-231-5646. © 2010-16.
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29 December 2011
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