2009; 2010 to 2019
Lessons learned from 2009:
1) When the Fed pours $1.2 trillion and the U.S. government pours $787 billion of financial booze into the economy, you get one heck of a party.
2) When banks can borrow from the government at below 0.5% and lend at 4+%, they can experience HUGE loan losses and still make TONS of money.
3) When you combine 1) & 2) above, you get a HUGE rally in bonds, stocks and commodities, even without fixing the underlying problems that caused the economic mess in the first place.
Educated guesses of what may happen between 2010 and 2019:
1) Bonds will turn out to be much less safe than most people think.
2) Stocks and commodities will climb, then crash, then rally, then crash. Commodities will do better than stocks during most of the upcoming decade. When everyone thinks commodities are the only smart investment and stocks are for idiots--which will happen before 2019--a new secular bull market in stocks will be born.
3) China's experiment in command "capitalism" (not just a ridiculous oxymoron, but an invalid concept) will go form boom to bust, then from boom to wipe-out. Unless things change dramatically in China, it will end up looking like Japan over the last 20 years, but with civil war/revolution in the mix.
4) Gold will become a fad investment that will end in tears, but not until after dramatically out-performing stocks, bonds and other commodities for most of the decade.
5) The Middle East and South Central Asia will be a mess (that seems obvious...). At some point over the decade, oil prices will rocket because of conflict there, most likely due to problems with or in Iran. The influence of this part of the world will diminish toward the end of the decade as the issues of commodity scarcity fade into the background.
6) Japan will wallow in freakish misery for half the decade, then finally get to work solving its governmental debt problem and demographic issues (after multiple crises). It will lead the global bull market that starts in the second half of the decade.
7) Europe will continue to play fiddle as Rome burns. Western Europe will continue its decline as Eastern Europe continues its ascendancy, but both will become less important to the rest of the world (accept as a wonderful tourist destinations!).
8) The U.S. dollar will do much better than most think, then much worse, then much better. It will continue to climb because "everyone" thinks it must decline, then tank when markets fully grasp the U.S. debt (& obligation) to GDP ratio, then rally as policy changes finally emerge after multiple crises (like Japan, but over less time).
9) Canada, Norway and Australia will become more rich and powerful as commodities out-perform and each government remains more prudent than most.
10) Latin American and Africa will thrive during the early part of the commodities boom, but will succumb to the corruption that must result from a boom without the right political structure.
Happy New Year!
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Thursday, December 31, 2009
Thursday, December 24, 2009
Roaring into 2010
Merry Christmas Eve from cold and snowy Colorado. My gift to readers this year: short term optimism.
Optimism, you say, from me? Not possible! Yes, it's true. I'm optimistic about short term stock market returns.
How accurate is this short term prediction? Perhaps as good as flipping a penny, and worth about as much.
The reasons for my optimism?
1) The tsunami of government stimulus from all corners of the globe.
2) Extremely positive year over year comparisons with dreadful numbers from last year at this time.
3) Mutual fund investors are buying bond funds as if the sky is going to fall, and retail investors are almost never right
4) Most of the smartest investors I know are skeptical about the recovery, and almost always wrong in the short term.
Over the next 6 years, I expect 0-10% returns from the stock market. But, in the short run, I'm guessing we'll see much better than that.
Short term positive (next several months), intermediate term negative (6 months to 5 years), long term positive (5 years plus).
Have a very Merry Christmas!
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Merry Christmas Eve from cold and snowy Colorado. My gift to readers this year: short term optimism.
Optimism, you say, from me? Not possible! Yes, it's true. I'm optimistic about short term stock market returns.
How accurate is this short term prediction? Perhaps as good as flipping a penny, and worth about as much.
The reasons for my optimism?
1) The tsunami of government stimulus from all corners of the globe.
2) Extremely positive year over year comparisons with dreadful numbers from last year at this time.
3) Mutual fund investors are buying bond funds as if the sky is going to fall, and retail investors are almost never right
4) Most of the smartest investors I know are skeptical about the recovery, and almost always wrong in the short term.
Over the next 6 years, I expect 0-10% returns from the stock market. But, in the short run, I'm guessing we'll see much better than that.
Short term positive (next several months), intermediate term negative (6 months to 5 years), long term positive (5 years plus).
Have a very Merry Christmas!
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, December 18, 2009
Sovereign subprime
In my opinion, the next default wave (other than commercial real estate, Alt-A residential, and option adjustable rate mortgage residential) will be public instead of private debt.
Greece is working hard to illustrate why I'm worried about this, as is Argentina, the Baltic states, Spain, Italy, Portugal...you get the picture.
But, it's not just smaller countries that are getting into the subprime spirit, it also includes (currently) prime credits like Japan, the United Kingdom, and (shock, horror!) the United States.
And, it's not just countries, it includes other public debtors like California, New York, Dubai World, Fannie Mae, etc.
How did this mess get so bad? The same way subprime borrowers and lenders got into trouble. Namely, public bodies are spending more than they are taking in, and lenders are doing a lousy job making sure borrowers can repay. This is not rocket science.
Whether it's California, the U.K., or Greece, the problem is incurring too many obligations while not taking in enough revenue to pay.
Japan is unique in that it's as much of a demographic time bomb as anything else. Their real estate, stock market and banks collapsed 20 years ago, but they decided not to face the music. Added to this, their population isn't having enough kids to replace the elderly, and they won't allow enough immigration to make up for that deficit. Finally, a big dash of inflexible labor markets and decreasing savings rates and you get a country most likely unable to pay its debts.
How do countries go into default? If they are small, they tend to get bailed out by bigger countries or the International Monetary Fund. Big countries, on the other hand, tend to inflate their way out of debt. The trouble there is that when lenders (bond buyers) realize inflation is the solution, interest rates take off. Not a pretty picture.
The financial crisis of the last two years has made this problem dramatically worse. Instead of letting bad borrowers and lenders face the music, governments of the world have bailed out uneconomic borrowers and uncritical lenders. We haven't eliminated the debt problem, we simply shifted it from private to public. But, the scale is so large, as are the promises governments have made to pay future benefits, that the end-game is much sooner than anyone thought.
When will these defaults come about? Probably not for several years in the case of prime credits, but much sooner for smaller sovereigns. This is likely to stir credit markets and cause a lot of volatility in commodities and stocks.
It used to be you could count on countries, or at least the right countries, to pay their debts. But now, it costs less money to insure against the default of IBM than it does the U.K. May you live in interesting times, indeed.
This is a good time to be very selective of investments (especially debt), to be prepared for very volatile markets, and to expect higher interest rates and inflation. It may take some time to arrive, but when it does, you won't want to own low interest debt or highly indebted companies.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
In my opinion, the next default wave (other than commercial real estate, Alt-A residential, and option adjustable rate mortgage residential) will be public instead of private debt.
Greece is working hard to illustrate why I'm worried about this, as is Argentina, the Baltic states, Spain, Italy, Portugal...you get the picture.
But, it's not just smaller countries that are getting into the subprime spirit, it also includes (currently) prime credits like Japan, the United Kingdom, and (shock, horror!) the United States.
And, it's not just countries, it includes other public debtors like California, New York, Dubai World, Fannie Mae, etc.
How did this mess get so bad? The same way subprime borrowers and lenders got into trouble. Namely, public bodies are spending more than they are taking in, and lenders are doing a lousy job making sure borrowers can repay. This is not rocket science.
Whether it's California, the U.K., or Greece, the problem is incurring too many obligations while not taking in enough revenue to pay.
Japan is unique in that it's as much of a demographic time bomb as anything else. Their real estate, stock market and banks collapsed 20 years ago, but they decided not to face the music. Added to this, their population isn't having enough kids to replace the elderly, and they won't allow enough immigration to make up for that deficit. Finally, a big dash of inflexible labor markets and decreasing savings rates and you get a country most likely unable to pay its debts.
How do countries go into default? If they are small, they tend to get bailed out by bigger countries or the International Monetary Fund. Big countries, on the other hand, tend to inflate their way out of debt. The trouble there is that when lenders (bond buyers) realize inflation is the solution, interest rates take off. Not a pretty picture.
The financial crisis of the last two years has made this problem dramatically worse. Instead of letting bad borrowers and lenders face the music, governments of the world have bailed out uneconomic borrowers and uncritical lenders. We haven't eliminated the debt problem, we simply shifted it from private to public. But, the scale is so large, as are the promises governments have made to pay future benefits, that the end-game is much sooner than anyone thought.
When will these defaults come about? Probably not for several years in the case of prime credits, but much sooner for smaller sovereigns. This is likely to stir credit markets and cause a lot of volatility in commodities and stocks.
It used to be you could count on countries, or at least the right countries, to pay their debts. But now, it costs less money to insure against the default of IBM than it does the U.K. May you live in interesting times, indeed.
This is a good time to be very selective of investments (especially debt), to be prepared for very volatile markets, and to expect higher interest rates and inflation. It may take some time to arrive, but when it does, you won't want to own low interest debt or highly indebted companies.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, December 11, 2009
Got Growth?
The U.S. economy has really taken it on the chin over the last 2 years.
U.S. Gross Domestic Product shrunk the most since the Great Depression. Unemployment hit double digits for the first time since the 1970's. Our housing market dropped like a stone.
Added to this, the world economy turned down pretty much because of the economic collapse in the U.S. This makes sense when you think about it; the U.S. economy is larger than the next 3 largest economies combined. How could the world keep growing when it depends so much on U.S. consumers and capital markets?
At the height of the crisis, many Europeans seemed to bask in the glow of American failure. They seemed to wag their fingers at us and say, "I told you so!"
In some ways they were right, but not in the most important ways.
You see, the U.S. economy returned to growth last quarter, a whopping 3.5% annualized growth rate. This was far faster than anyone, including yours truly, predicted 9 - 12 months ago. And, economic growth in the current quarter looks good, too, projected at around 2.5%.
Amusingly to me, the European Union grew in the third quarter, too, but at only 0.4%. I'm not surprised we aren't hearing as much from European know-it-alls.
Why such a big difference in growth? I'm sure every economist and armchair economist has an opinion, and I do too: I think it's mostly due to our more flexible labor markets.
America has its share of problems, but we still have one of the most flexible and adaptive economies in the world. One reason for this is that U.S. companies are relatively free to hire and fire when compared to places like Europe or Japan.
This is not a one-sided benefit for employers, it benefits employees, too, who can quit and find better employment when they want. I think not being able to quit is as bad a sin as not being able to fire.
Contrary to popular belief, what will get U.S. and world economies growing again will not be stimulus, but adjustments of the economy to new economic realities. And, it's unlikely bureaucrats in any government position will be able to see this before businesses and entrepreneurs.
The places where labor and business flexibility are stifled, like Europe and Japan, will be mired in slow growth until they change. The economies that are flexible and adaptive, like the United States, will return to growth more quickly and will re-establish high growth rates.
That doesn't mean the U.S. will grow faster than Brazil, China, India, Korea or a host of other emerging markets, but compared to any developed market, I'll place my bets on the good ole U.S. of A.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
The U.S. economy has really taken it on the chin over the last 2 years.
U.S. Gross Domestic Product shrunk the most since the Great Depression. Unemployment hit double digits for the first time since the 1970's. Our housing market dropped like a stone.
Added to this, the world economy turned down pretty much because of the economic collapse in the U.S. This makes sense when you think about it; the U.S. economy is larger than the next 3 largest economies combined. How could the world keep growing when it depends so much on U.S. consumers and capital markets?
At the height of the crisis, many Europeans seemed to bask in the glow of American failure. They seemed to wag their fingers at us and say, "I told you so!"
In some ways they were right, but not in the most important ways.
You see, the U.S. economy returned to growth last quarter, a whopping 3.5% annualized growth rate. This was far faster than anyone, including yours truly, predicted 9 - 12 months ago. And, economic growth in the current quarter looks good, too, projected at around 2.5%.
Amusingly to me, the European Union grew in the third quarter, too, but at only 0.4%. I'm not surprised we aren't hearing as much from European know-it-alls.
Why such a big difference in growth? I'm sure every economist and armchair economist has an opinion, and I do too: I think it's mostly due to our more flexible labor markets.
America has its share of problems, but we still have one of the most flexible and adaptive economies in the world. One reason for this is that U.S. companies are relatively free to hire and fire when compared to places like Europe or Japan.
This is not a one-sided benefit for employers, it benefits employees, too, who can quit and find better employment when they want. I think not being able to quit is as bad a sin as not being able to fire.
Contrary to popular belief, what will get U.S. and world economies growing again will not be stimulus, but adjustments of the economy to new economic realities. And, it's unlikely bureaucrats in any government position will be able to see this before businesses and entrepreneurs.
The places where labor and business flexibility are stifled, like Europe and Japan, will be mired in slow growth until they change. The economies that are flexible and adaptive, like the United States, will return to growth more quickly and will re-establish high growth rates.
That doesn't mean the U.S. will grow faster than Brazil, China, India, Korea or a host of other emerging markets, but compared to any developed market, I'll place my bets on the good ole U.S. of A.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, December 04, 2009
Dubai debacle
I don't know what surprised me more about the debacle in Dubai last week, the fact that such a big deal was made or that anyone was surprised it happened.
Dubai World, a Dubai government-backed development group, said they wanted a 6 month pause in paying back a $60 billion loan. This may seem like a lot of money to you and me, but its chump change in the big scheme of things.
The financial crises over the last 2 years tended to be focused on multiple trillions, not billions. Added to this, Dubai is the second largest of 7 United Arab Emirates (UAE), with Abu Dhabi being the largest. Abu Dhabi's sovereign wealth fund is over $300 billion in size, so bailing out little brother wouldn't cause it to even break a sweat.
So, what was the big deal that tanked global markets? It simply shows that the credit crisis is not truly over and everyone is still sitting on pins and needles, despite their protests that everything is A-okay.
Credit markets are not healed, and the tremendous bad debt burden has simply been shifted from the private sector to government. The market sold off, in my opinion, because many expect credit problems to happen in the fullness of time and they were worried this was the first of many tremors.
This raises my second point. Why was anyone surprised?
Dubai only gets 6% of their gross domestic product from the petrochemical business. It decided to borrow a ton of money to build islands (shaped like palm trees and the earth), the tallest building in the world, an indoor ski mountain in the desert (I wish I were making this up) and vast ports so that it could become the world's new Hong Kong. This was Field of Dreams writ large--build it and hope they will come.
Unfortunately, not enough people came.
What a startling surprise! Someone borrows to build a tremendous real estate project only to find there's no real end demand for it. Sound familiar?
What did surprise me is that anyone didn't expect this.
Just think what could happen if another entity, say commercial real estate in the U.S., has trouble rolling over debt and doesn't have a rich big brother to bail them out, or that rich big brother (Uncle Sam) is so saddled with debt he can't help without going into bankruptcy himself!
We saw what happened when a measly $60 billion defaulted for 6 months, what will happen if a bigger problem arises?
It is for this reason I'm de-risking my clients' and my portfolios. Things look calm on the surface, but underneath the earth is trembling. Taking risk now may work well for a short time, but not over the long run.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
I don't know what surprised me more about the debacle in Dubai last week, the fact that such a big deal was made or that anyone was surprised it happened.
Dubai World, a Dubai government-backed development group, said they wanted a 6 month pause in paying back a $60 billion loan. This may seem like a lot of money to you and me, but its chump change in the big scheme of things.
The financial crises over the last 2 years tended to be focused on multiple trillions, not billions. Added to this, Dubai is the second largest of 7 United Arab Emirates (UAE), with Abu Dhabi being the largest. Abu Dhabi's sovereign wealth fund is over $300 billion in size, so bailing out little brother wouldn't cause it to even break a sweat.
So, what was the big deal that tanked global markets? It simply shows that the credit crisis is not truly over and everyone is still sitting on pins and needles, despite their protests that everything is A-okay.
Credit markets are not healed, and the tremendous bad debt burden has simply been shifted from the private sector to government. The market sold off, in my opinion, because many expect credit problems to happen in the fullness of time and they were worried this was the first of many tremors.
This raises my second point. Why was anyone surprised?
Dubai only gets 6% of their gross domestic product from the petrochemical business. It decided to borrow a ton of money to build islands (shaped like palm trees and the earth), the tallest building in the world, an indoor ski mountain in the desert (I wish I were making this up) and vast ports so that it could become the world's new Hong Kong. This was Field of Dreams writ large--build it and hope they will come.
Unfortunately, not enough people came.
What a startling surprise! Someone borrows to build a tremendous real estate project only to find there's no real end demand for it. Sound familiar?
What did surprise me is that anyone didn't expect this.
Just think what could happen if another entity, say commercial real estate in the U.S., has trouble rolling over debt and doesn't have a rich big brother to bail them out, or that rich big brother (Uncle Sam) is so saddled with debt he can't help without going into bankruptcy himself!
We saw what happened when a measly $60 billion defaulted for 6 months, what will happen if a bigger problem arises?
It is for this reason I'm de-risking my clients' and my portfolios. Things look calm on the surface, but underneath the earth is trembling. Taking risk now may work well for a short time, but not over the long run.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, November 20, 2009
Appearance versus substance
One of the most frustrating parts of being a professional investor is being pleased with how an investment company is doing only to see Wall Street sell it off time after time.
It's bad enough to invest other people's money into investment companies that do poorly, but when the one's that are doing well get crushed, it's hard not to heave a big sigh.
I was reminded of this ever-present need for patience watching a couple portfolio companies report earnings this week.
In both cases, I was pleasantly surprised to see things were going better than expected only to find Wall Street selling the companies down to the tune of 5% and 10% one-day losses. Why, oh why?
The answer may be frustrating, but it is simple. 1) Wall Street doesn't focus on the same metrics as rational owners. 2) Wall Street is focused on 6-9 month results because that's its average holding period.
Wall Street is enamored with certain metrics that business owners care much less about. In retail, it's same store sales. In computers, it's market share. In telecommunications, it's new customer additions.
I don't mean to imply that such metrics would be unimportant to rational owners, but they wouldn't necessarily be the all-consuming focus that it is to Wall Street.
What matters most to owners? Cash flow. How much money came in and how much money did was spend to get it. That's it.
Warren Buffett calls it owners earnings--the earnings an owner could use to build the business, buy back stock, pay off debt or pay a fat dividend.
An easy way to think about this number is to look at a company's cash flow statement: subtract maintenance capital expenditures (capex required to keep the same level of sales and profits) from cash flow from operations.
Perhaps a couple of other adjustments may be necessary, but in general that's it.
Both of my portfolio companies reported strong free cash flows.
A retailer reported 12 month free cash flows that are a mere 5.6x current price, or a free cash flow yield of 17.9%. It's price was down 5% that day.
A computer company reported quarterly free cash flows that are a mere 5.7x current price (minus cash on the balance sheet), or a 17.5% free cash flow yield. It's price was down 10%.
Owners of such companies would be salivating to have such returns in a lousy economic environment like this. But, Wall Street is not full of stock owners. It's full of renters.
Renters don't care what will happen over the long term (even 3-5 years, it seems). They are just in it for the quick "kill." Does anyone wash a rented car?
With a time horizon of 6-9 months, Wall Street doesn't care about free cash flow yields. All they want is to beat "estimates." Estimates of what? You may have guessed: market share, incremental revenues, same-store sales, new customer adds, average revenue per user, etc.
What matters to owners? Free cash flows to price. That's the bottom line.
I know I'm whining, but I also know that patience is well-rewarded in the end. Eventually, Wall Street does wake up to free cash flow yields. Eventually they notice how much value resides in businesses that throw off a lot of cash relative to price.
It takes a lot of patience to wait for that fish to come in. But, when it does, my whining sighs turn into war-whoops of triumph.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
One of the most frustrating parts of being a professional investor is being pleased with how an investment company is doing only to see Wall Street sell it off time after time.
It's bad enough to invest other people's money into investment companies that do poorly, but when the one's that are doing well get crushed, it's hard not to heave a big sigh.
I was reminded of this ever-present need for patience watching a couple portfolio companies report earnings this week.
In both cases, I was pleasantly surprised to see things were going better than expected only to find Wall Street selling the companies down to the tune of 5% and 10% one-day losses. Why, oh why?
The answer may be frustrating, but it is simple. 1) Wall Street doesn't focus on the same metrics as rational owners. 2) Wall Street is focused on 6-9 month results because that's its average holding period.
Wall Street is enamored with certain metrics that business owners care much less about. In retail, it's same store sales. In computers, it's market share. In telecommunications, it's new customer additions.
I don't mean to imply that such metrics would be unimportant to rational owners, but they wouldn't necessarily be the all-consuming focus that it is to Wall Street.
What matters most to owners? Cash flow. How much money came in and how much money did was spend to get it. That's it.
Warren Buffett calls it owners earnings--the earnings an owner could use to build the business, buy back stock, pay off debt or pay a fat dividend.
An easy way to think about this number is to look at a company's cash flow statement: subtract maintenance capital expenditures (capex required to keep the same level of sales and profits) from cash flow from operations.
Perhaps a couple of other adjustments may be necessary, but in general that's it.
Both of my portfolio companies reported strong free cash flows.
A retailer reported 12 month free cash flows that are a mere 5.6x current price, or a free cash flow yield of 17.9%. It's price was down 5% that day.
A computer company reported quarterly free cash flows that are a mere 5.7x current price (minus cash on the balance sheet), or a 17.5% free cash flow yield. It's price was down 10%.
Owners of such companies would be salivating to have such returns in a lousy economic environment like this. But, Wall Street is not full of stock owners. It's full of renters.
Renters don't care what will happen over the long term (even 3-5 years, it seems). They are just in it for the quick "kill." Does anyone wash a rented car?
With a time horizon of 6-9 months, Wall Street doesn't care about free cash flow yields. All they want is to beat "estimates." Estimates of what? You may have guessed: market share, incremental revenues, same-store sales, new customer adds, average revenue per user, etc.
What matters to owners? Free cash flows to price. That's the bottom line.
I know I'm whining, but I also know that patience is well-rewarded in the end. Eventually, Wall Street does wake up to free cash flow yields. Eventually they notice how much value resides in businesses that throw off a lot of cash relative to price.
It takes a lot of patience to wait for that fish to come in. But, when it does, my whining sighs turn into war-whoops of triumph.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, November 13, 2009
The more attractive the package, the greater the chance of a scam
Ancient Egyptians were so fond of both pets and what specific animal breeds symbolized, they frequently mummified animals to be buried with them.
These mummifications were usually done with loving care because animals symbolized special earthly and other-worldly qualities in addition to an owner's personal feelings.
Unfortunately, like so many other things in life, some of these mummifications were not done honestly.
As a recent National Geographic article put it, "Despite the lofty purpose of the product, corruption crept into the assembly line." A researcher's x-rays "revealed a variety of ancient consumer rip-offs: cheaper animal substituted for a rarer, more expensive one; bones or feathers in place of a whole animal; beautiful wrappings around nothing but mud." In fact, a generalization emerged from this research, "The more attractive the package...the greater the chance of a scam."
That last sentence is worth it's weight in gold and worth repeating: the more attractive the package, the greater the chance of a scam.
I'm surprised how frequently I see this with investing or other parts of my life.
When I read an annual report that's super-glossy and makes it sound like the company and its management have never made a mistake in their life, there's almost always something wrong.
When a salesperson makes a pitch to me that sounds too good to be true, it almost always is.
When I read marketing material that highlights all the benefits but none of the risks, I start to become skeptical.
I was struck by the ancient Egyptian example, because it shows it's as old as man. If human beings exist, there's bound to be someone making the package look attractive and stuffing it with fluff.
Just because somethings looks and sounds good doesn't mean it is. It's easy to be taken in by flashy materials and a polished presentation, but that doesn't mean you have to buy into it.
Sometimes the right product or service doesn't look flashy and the presenter isn't terribly polished. One look at my website or one hearing of my "pitch" would convince you that I'm a heavily biased on this matter. I'll readily admit (or rationalize), flash and polish aren't my strong points.
But, I'm guessing that if the attractive package approach has been around for at least 5,000 years, it's probably not going to go away any time soon. The line to be ripped off will probably be around the block because it works as well today as it always has.
Or, perhaps I'm wrong, and people really do learn. That, too, is as old as man.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Ancient Egyptians were so fond of both pets and what specific animal breeds symbolized, they frequently mummified animals to be buried with them.
These mummifications were usually done with loving care because animals symbolized special earthly and other-worldly qualities in addition to an owner's personal feelings.
Unfortunately, like so many other things in life, some of these mummifications were not done honestly.
As a recent National Geographic article put it, "Despite the lofty purpose of the product, corruption crept into the assembly line." A researcher's x-rays "revealed a variety of ancient consumer rip-offs: cheaper animal substituted for a rarer, more expensive one; bones or feathers in place of a whole animal; beautiful wrappings around nothing but mud." In fact, a generalization emerged from this research, "The more attractive the package...the greater the chance of a scam."
That last sentence is worth it's weight in gold and worth repeating: the more attractive the package, the greater the chance of a scam.
I'm surprised how frequently I see this with investing or other parts of my life.
When I read an annual report that's super-glossy and makes it sound like the company and its management have never made a mistake in their life, there's almost always something wrong.
When a salesperson makes a pitch to me that sounds too good to be true, it almost always is.
When I read marketing material that highlights all the benefits but none of the risks, I start to become skeptical.
I was struck by the ancient Egyptian example, because it shows it's as old as man. If human beings exist, there's bound to be someone making the package look attractive and stuffing it with fluff.
Just because somethings looks and sounds good doesn't mean it is. It's easy to be taken in by flashy materials and a polished presentation, but that doesn't mean you have to buy into it.
Sometimes the right product or service doesn't look flashy and the presenter isn't terribly polished. One look at my website or one hearing of my "pitch" would convince you that I'm a heavily biased on this matter. I'll readily admit (or rationalize), flash and polish aren't my strong points.
But, I'm guessing that if the attractive package approach has been around for at least 5,000 years, it's probably not going to go away any time soon. The line to be ripped off will probably be around the block because it works as well today as it always has.
Or, perhaps I'm wrong, and people really do learn. That, too, is as old as man.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, November 06, 2009
The dash to trash
When the stock market climbs or falls, it's always interesting to see which segments are doing best or worst.
Not surprisingly, the stocks that have done best since the March bottom are some of the junkiest companies out there. This makes some sense because such companies were priced for bankruptcy last spring.
As early investors realized junky companies weren't going under, they jumped at the chance to bag 200%, 300% and higher returns.
The problem with staying with such an approach, now that the trash rally has had its day, is that it's hard to see how it can continue. Junky stocks have junky business models with weak competitive advantages, low margins, too much debt, etc. From here, there isn't a lot of upside, and the downside is becoming more perilous.
In contrast, the best-run companies have hardly participated in the rally since March. Granted, they didn't go down as far, but it's nonetheless surprising that investors haven't turned back to them now that the dash to trash has become stretched.
This is most likely due to the pervasive influence of momentum. Momentum investing is the process of buying what's moving. If it's climbing, buy it. If it's sinking, sell it or sell it short. This process can continue for quite some time...until it doesn't.
Predicting when is impossible, but predicting that it will end is a given. Or, as Herb Stein put it, "If something cannot go on forever, it will stop."
At some point in time, investors will realize that junky companies have problems and aren't delivering. That's when investors will fall over each other trying to buy franchise, high-quality businesses that make money regardless of how well or poorly the economy is doing.
It's no fun to be under-performing as the market makes a continued mad dash to trash. But, I'm not foolish enough to chase the heard, and I know it doesn't work over the long run anyway. Or, as our mothers rhetorically asked us, "if your friends jumped off a bridge, would you follow?"
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
When the stock market climbs or falls, it's always interesting to see which segments are doing best or worst.
Not surprisingly, the stocks that have done best since the March bottom are some of the junkiest companies out there. This makes some sense because such companies were priced for bankruptcy last spring.
As early investors realized junky companies weren't going under, they jumped at the chance to bag 200%, 300% and higher returns.
The problem with staying with such an approach, now that the trash rally has had its day, is that it's hard to see how it can continue. Junky stocks have junky business models with weak competitive advantages, low margins, too much debt, etc. From here, there isn't a lot of upside, and the downside is becoming more perilous.
In contrast, the best-run companies have hardly participated in the rally since March. Granted, they didn't go down as far, but it's nonetheless surprising that investors haven't turned back to them now that the dash to trash has become stretched.
This is most likely due to the pervasive influence of momentum. Momentum investing is the process of buying what's moving. If it's climbing, buy it. If it's sinking, sell it or sell it short. This process can continue for quite some time...until it doesn't.
Predicting when is impossible, but predicting that it will end is a given. Or, as Herb Stein put it, "If something cannot go on forever, it will stop."
At some point in time, investors will realize that junky companies have problems and aren't delivering. That's when investors will fall over each other trying to buy franchise, high-quality businesses that make money regardless of how well or poorly the economy is doing.
It's no fun to be under-performing as the market makes a continued mad dash to trash. But, I'm not foolish enough to chase the heard, and I know it doesn't work over the long run anyway. Or, as our mothers rhetorically asked us, "if your friends jumped off a bridge, would you follow?"
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, October 30, 2009
That sinking feeling
I wrote last week about central banks trying to figure out how to remove the "stimulus" they've injected to get economic growth going.
This week, the central banks of Australia and Norway started removing their stimulus by hiking interest rates.
Markets were not impressed.
Monday to Wednesday, the S&P 500 was down 3.4%. On Thursday, the market rallied 2.3% on a better than expected report of Gross Domestic Product (read here for my take on why GDP isn't the best measure of economic health), but then tanked on Friday (currently down 3.8% for the week).
This just goes to show that what the government can giveth, it can taketh away. Now that economic props are being removed, investors seem very worried about how well the economy can stand on its own.
This should not be a surprise.
And it seems like the worst is yet to come. If a Norway (population 5 million) and Australia (22 million) can tank markets, just think of what happens when Europe (500 million), the U.S. (310 million) and China (1.35 billion) raise rates. Ouch!
Don't get me wrong, I think central banks have to stop printing money or we'll have the much bigger problem of hyper-inflation. It's good that world governments are getting around to removing props.
But, you have to wonder about people that get overly excited about markets going up when it's clearly just due to government stimulus.
At some point in time, the props had to be removed. And, just like every other time in history, markets aren't happy when that happens.
Nor do I mean to indicate that markets can't keep going up. Governments can keep trying to prop things up. In fact, their props could lead to high inflation, in which case markets should be expected to go up (though perhaps not in real, inflation-adjusted terms).
This all comes back to the inflation/deflation concerns I've voiced in the past (here and here). If we get high inflation, you don't want to be sitting in cash. If we have deflation, you won't want to own commodities.
As the Chinese curse goes: may you live in interesting times. These are interesting times, and call for a sophisticated investment approach.
This is an amazing opportunity for investors.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
I wrote last week about central banks trying to figure out how to remove the "stimulus" they've injected to get economic growth going.
This week, the central banks of Australia and Norway started removing their stimulus by hiking interest rates.
Markets were not impressed.
Monday to Wednesday, the S&P 500 was down 3.4%. On Thursday, the market rallied 2.3% on a better than expected report of Gross Domestic Product (read here for my take on why GDP isn't the best measure of economic health), but then tanked on Friday (currently down 3.8% for the week).
This just goes to show that what the government can giveth, it can taketh away. Now that economic props are being removed, investors seem very worried about how well the economy can stand on its own.
This should not be a surprise.
And it seems like the worst is yet to come. If a Norway (population 5 million) and Australia (22 million) can tank markets, just think of what happens when Europe (500 million), the U.S. (310 million) and China (1.35 billion) raise rates. Ouch!
Don't get me wrong, I think central banks have to stop printing money or we'll have the much bigger problem of hyper-inflation. It's good that world governments are getting around to removing props.
But, you have to wonder about people that get overly excited about markets going up when it's clearly just due to government stimulus.
At some point in time, the props had to be removed. And, just like every other time in history, markets aren't happy when that happens.
Nor do I mean to indicate that markets can't keep going up. Governments can keep trying to prop things up. In fact, their props could lead to high inflation, in which case markets should be expected to go up (though perhaps not in real, inflation-adjusted terms).
This all comes back to the inflation/deflation concerns I've voiced in the past (here and here). If we get high inflation, you don't want to be sitting in cash. If we have deflation, you won't want to own commodities.
As the Chinese curse goes: may you live in interesting times. These are interesting times, and call for a sophisticated investment approach.
This is an amazing opportunity for investors.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, October 23, 2009
Exit strategy
It's no secret, the world economy was propped up last fall and winter by the governments of the United States, Europe and China. If it weren't for those props, we would probably still be on the way down.
The question now becomes, how will the governments of the world remove those props?
In ancient Rome, building an arch required props, too. Once construction was complete, the props were removed and the arch would stand firmly in place. It is rumored that the builder would stand underneath the arch as the props were removed to show how confident he was in his construction.
The reason why such a builder would confidently stand under his arch is that he knew the arch would hold when the props were removed. My question is: how confident is anyone that world economies will stand on their own without props?
I think current builders have demonstrated their confidence by both not removing the props and by only tentatively talking about their exit strategy, which is a euphemism for removing the props.
How can the central bankers of the world and various treasury departments know when to remove their props? This is a tricky question.
If they remove the props too early, the economy will go back into recession. If they wait too long, then high interest rates and high inflation may do the same thing. The governments of the world have a very difficult task ahead of them. I don't envy their position.
But, as an investor, I have to wonder what will happen.
Will the world economy stand on its own even though the fundamental underlying problems really haven't been addressed?
Are government bureaucrats aware that a huge number of mortgage loan resets are coming up and may send the housing and credit markets back into decline?
Have individuals and companies trimmed expenses enough to foster self-sustaining growth?
I don't have any answers to those questions, but I know I'm not going to be standing under this particular arch as the props are removed.
Instead, I'm repositioning my clients and my own money to prepare for the possibility of a wobbly arch. That means buying high quality companies and perhaps a little insurance against the downside. It means being prepared for the possibility of both deflation and inflation.
It will be interesting to see what happens, even more so a good distance away from the arch.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
It's no secret, the world economy was propped up last fall and winter by the governments of the United States, Europe and China. If it weren't for those props, we would probably still be on the way down.
The question now becomes, how will the governments of the world remove those props?
In ancient Rome, building an arch required props, too. Once construction was complete, the props were removed and the arch would stand firmly in place. It is rumored that the builder would stand underneath the arch as the props were removed to show how confident he was in his construction.
The reason why such a builder would confidently stand under his arch is that he knew the arch would hold when the props were removed. My question is: how confident is anyone that world economies will stand on their own without props?
I think current builders have demonstrated their confidence by both not removing the props and by only tentatively talking about their exit strategy, which is a euphemism for removing the props.
How can the central bankers of the world and various treasury departments know when to remove their props? This is a tricky question.
If they remove the props too early, the economy will go back into recession. If they wait too long, then high interest rates and high inflation may do the same thing. The governments of the world have a very difficult task ahead of them. I don't envy their position.
But, as an investor, I have to wonder what will happen.
Will the world economy stand on its own even though the fundamental underlying problems really haven't been addressed?
Are government bureaucrats aware that a huge number of mortgage loan resets are coming up and may send the housing and credit markets back into decline?
Have individuals and companies trimmed expenses enough to foster self-sustaining growth?
I don't have any answers to those questions, but I know I'm not going to be standing under this particular arch as the props are removed.
Instead, I'm repositioning my clients and my own money to prepare for the possibility of a wobbly arch. That means buying high quality companies and perhaps a little insurance against the downside. It means being prepared for the possibility of both deflation and inflation.
It will be interesting to see what happens, even more so a good distance away from the arch.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, October 16, 2009
(Innate) Talent is Overrated
I just finished reading a truly incredible book: Talent is Overrated by Geoff Colvin.
In it, Colvin highlights that world-class performance is not something you're born with, but the result of years of deliberate practice.
Academics have long studied what differentiates world-class performers from everyone else. They've looked at experience, inborn abilities, and intelligence and memory, among many other things. None of these sufficiently explain world-class performance.
What does? Deliberate practice.
After studying Berlin's best violinists in the early 1990's, and how they differ from good and mediocre violinists, researchers found that world-class performers had practiced much more, and much more intensely, than others. This research has since been confirmed in many other fields, including sports, chess, science, investing, business, music, fine art, etc. Deliberate practice is what made Jerry Rice, Mozart, Tiger Woods, Sir Isaac Newton, Yo Yo Ma, Benjamin Franklin, Warren Buffett and too many others to count great.
Let me be specific here. Deliberate practice isn't just practicing, but practicing in a very specific way. It's activity designed to improve performance (often with a teacher's help), it can be repeated a lot, feedback on results is continuously available, it's highly demanding mentally, and it isn't much fun.
Deliberate practice requires that you identify specific elements of performance that need to be improved and then work intently on them. That's not just going through the motions. That's figuring out exactly what's necessary to be good and then working hard on those areas. It's working at the edge of one's ability. Think of a violinist practicing a very complex passage of an exceedingly difficult work over and over again until they get it right. Think of them analyzing the way they play and what they must change to get better.
It must be repeated--a lot. Deliberate practice must be done for 4-5 hours a day for around 10 years, or around 10,000 hours, to reach true excellence. It's not enough to practice every now and again, but to practice at high intensity over many, many years. Imagine a violin player practicing 4-5 hours a day for 10 years, and that such repetition makes them better than someone who practices 2 hours a day for 5 years.
Feedback on results has to be continuously available. It's not enough just to practice, but to get objective feedback on your performance. This can come from a teacher or other expert. Or, it can come from simply analyzing your performance over and over again. Think of a violinist getting feedback from an experienced teacher, or recording their practice and listening to it over and over again to master a passage.
It's highly demanding mentally. The intensity of the practice is such that world-class performers break their 4-5 hours a day into 1 to 1 1/2 hour blocks. It frequently takes years to even work up to the point where 4-5 hours a day can be accomplished. Think of a violinist practicing 3 or more times a day to the point of utter exhaustion, and then doing that 5 days a week for years.
It isn't much fun. If my description so far hasn't convinced you, then perhaps the research will. The best violinists, as a group, consistently reported that deliberate practice "is not inherently enjoyable." It requires a lot of effort and self-discipline to practice at this level for years.
I found this research confirmed my own experience with investing. I started teaching myself investing around 14 years ago. Initially, it was a hobby, but within one year I was spending 20 hours a week analyzing investments, expanding my knowledge, learning from the masters, and analyzing my results.
I quickly learned I needed to know a lot more about accounting, valuing companies, analyzing industries and management, etc. I spend several hours a day analyzing new companies. It's especially easy to get feedback with investing because you can readily calculate your performance relative to the market and other investors. Researching particular companies is very demanding mentally and, although I find the work very rewarding and fulfilling, I don't necessarily find the process of intense investment analysis fun. As I like to tell my wife, it's not like drinking a beer and watching a sunset.
Talent is Overrated is a great read. It's almost a guidebook on how to achieve excellence in a chosen field. I would highly recommend it to anyone interested in achieving world-class performance or helping someone else get there.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
I just finished reading a truly incredible book: Talent is Overrated by Geoff Colvin.
In it, Colvin highlights that world-class performance is not something you're born with, but the result of years of deliberate practice.
Academics have long studied what differentiates world-class performers from everyone else. They've looked at experience, inborn abilities, and intelligence and memory, among many other things. None of these sufficiently explain world-class performance.
What does? Deliberate practice.
After studying Berlin's best violinists in the early 1990's, and how they differ from good and mediocre violinists, researchers found that world-class performers had practiced much more, and much more intensely, than others. This research has since been confirmed in many other fields, including sports, chess, science, investing, business, music, fine art, etc. Deliberate practice is what made Jerry Rice, Mozart, Tiger Woods, Sir Isaac Newton, Yo Yo Ma, Benjamin Franklin, Warren Buffett and too many others to count great.
Let me be specific here. Deliberate practice isn't just practicing, but practicing in a very specific way. It's activity designed to improve performance (often with a teacher's help), it can be repeated a lot, feedback on results is continuously available, it's highly demanding mentally, and it isn't much fun.
Deliberate practice requires that you identify specific elements of performance that need to be improved and then work intently on them. That's not just going through the motions. That's figuring out exactly what's necessary to be good and then working hard on those areas. It's working at the edge of one's ability. Think of a violinist practicing a very complex passage of an exceedingly difficult work over and over again until they get it right. Think of them analyzing the way they play and what they must change to get better.
It must be repeated--a lot. Deliberate practice must be done for 4-5 hours a day for around 10 years, or around 10,000 hours, to reach true excellence. It's not enough to practice every now and again, but to practice at high intensity over many, many years. Imagine a violin player practicing 4-5 hours a day for 10 years, and that such repetition makes them better than someone who practices 2 hours a day for 5 years.
Feedback on results has to be continuously available. It's not enough just to practice, but to get objective feedback on your performance. This can come from a teacher or other expert. Or, it can come from simply analyzing your performance over and over again. Think of a violinist getting feedback from an experienced teacher, or recording their practice and listening to it over and over again to master a passage.
It's highly demanding mentally. The intensity of the practice is such that world-class performers break their 4-5 hours a day into 1 to 1 1/2 hour blocks. It frequently takes years to even work up to the point where 4-5 hours a day can be accomplished. Think of a violinist practicing 3 or more times a day to the point of utter exhaustion, and then doing that 5 days a week for years.
It isn't much fun. If my description so far hasn't convinced you, then perhaps the research will. The best violinists, as a group, consistently reported that deliberate practice "is not inherently enjoyable." It requires a lot of effort and self-discipline to practice at this level for years.
I found this research confirmed my own experience with investing. I started teaching myself investing around 14 years ago. Initially, it was a hobby, but within one year I was spending 20 hours a week analyzing investments, expanding my knowledge, learning from the masters, and analyzing my results.
I quickly learned I needed to know a lot more about accounting, valuing companies, analyzing industries and management, etc. I spend several hours a day analyzing new companies. It's especially easy to get feedback with investing because you can readily calculate your performance relative to the market and other investors. Researching particular companies is very demanding mentally and, although I find the work very rewarding and fulfilling, I don't necessarily find the process of intense investment analysis fun. As I like to tell my wife, it's not like drinking a beer and watching a sunset.
Talent is Overrated is a great read. It's almost a guidebook on how to achieve excellence in a chosen field. I would highly recommend it to anyone interested in achieving world-class performance or helping someone else get there.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, October 09, 2009
Interesting indicators
I don't put a lot of faith into watching economic indicators. They seem to tell you more what has happened than what's going to happen.
On the other hand, I do watch a couple specific industry indicators that do, in general, give me a flavor of what may be going on economically.
For instance, the price of copper is an interesting indication of worldwide demand for basic materials. Copper goes into so many things that watching copper prices gives me an interesting view into overall economic growth. Copper prices peaked in late August and have been holding relatively steady below that peak.
I also watch the price of oil and natural gas. Oil and gas are also fundamental inputs to many types of production, so watching their prices is also informative. Oil prices, which reflect global demand, peaked in early August and have been trending down. In contrast, U.S. natural gas prices, which reflect local demand, bottomed in late August and have been trending up.
The Baltic dry index, which reflects worldwide dry bulk shipping rates, bottomed in late September and have since climbed over 20%. This indicator lets me know how much shippers are charging to move large amount of dry bulk materials, like wheat or iron ore. When shippers are charging higher rates, worldwide demand is up.
Each week, the Association of American Railroads reports rail traffic for the U.S. and Canada. This indicator shows how many rail cars of containers, coal, bulk materials, etc. are moving around North America each week. This indicator recently peaked in early September and has been trending down over the last 4 weeks.
Add it all up, and what do you get? A mixed picture.
Copper prices are down only slightly. That could be due to higher copper production, lower demand, or some combination. It's not a very bullish sign.
Oil prices are down, too, and this reflects global demand for a fundamental input to everything. This is also a bearish sign.
Natural gas is climbing again, which seems to be bullish for U.S. demand, but it could also reflect the huge slowdown in natural gas production that has occurred over the last year.
The Baltic dry index is up, which seems bullish for global demand. It could also reflect that global shippers are on the ropes with high debt loads.
Railroad traffic is down in the U.S., which seems a bit bearish, but seasonal factors may be impacting the numbers and traffic isn't down by a large amount.
Do you see why watching economic indicators can be problematic. There are no obvious blinking lights and ringing bells. That's part of the reason why economic forecasters and market strategists have such a lousy record of predicting even the direction, much less the magnitude, of markets.
One of my favorite jokes is that market strategists (who forecast market direction) are like diapers; they need frequent changing and for the same reason.
It looks like global demand may be doing better than U.S. demand. But, then again, maybe not.
That's why the smartest thing to do is buy great companies at good prices or good companies at great prices and just ride the market up and down. It works.
Market and economic forecasting? Not so much.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
I don't put a lot of faith into watching economic indicators. They seem to tell you more what has happened than what's going to happen.
On the other hand, I do watch a couple specific industry indicators that do, in general, give me a flavor of what may be going on economically.
For instance, the price of copper is an interesting indication of worldwide demand for basic materials. Copper goes into so many things that watching copper prices gives me an interesting view into overall economic growth. Copper prices peaked in late August and have been holding relatively steady below that peak.
I also watch the price of oil and natural gas. Oil and gas are also fundamental inputs to many types of production, so watching their prices is also informative. Oil prices, which reflect global demand, peaked in early August and have been trending down. In contrast, U.S. natural gas prices, which reflect local demand, bottomed in late August and have been trending up.
The Baltic dry index, which reflects worldwide dry bulk shipping rates, bottomed in late September and have since climbed over 20%. This indicator lets me know how much shippers are charging to move large amount of dry bulk materials, like wheat or iron ore. When shippers are charging higher rates, worldwide demand is up.
Each week, the Association of American Railroads reports rail traffic for the U.S. and Canada. This indicator shows how many rail cars of containers, coal, bulk materials, etc. are moving around North America each week. This indicator recently peaked in early September and has been trending down over the last 4 weeks.
Add it all up, and what do you get? A mixed picture.
Copper prices are down only slightly. That could be due to higher copper production, lower demand, or some combination. It's not a very bullish sign.
Oil prices are down, too, and this reflects global demand for a fundamental input to everything. This is also a bearish sign.
Natural gas is climbing again, which seems to be bullish for U.S. demand, but it could also reflect the huge slowdown in natural gas production that has occurred over the last year.
The Baltic dry index is up, which seems bullish for global demand. It could also reflect that global shippers are on the ropes with high debt loads.
Railroad traffic is down in the U.S., which seems a bit bearish, but seasonal factors may be impacting the numbers and traffic isn't down by a large amount.
Do you see why watching economic indicators can be problematic. There are no obvious blinking lights and ringing bells. That's part of the reason why economic forecasters and market strategists have such a lousy record of predicting even the direction, much less the magnitude, of markets.
One of my favorite jokes is that market strategists (who forecast market direction) are like diapers; they need frequent changing and for the same reason.
It looks like global demand may be doing better than U.S. demand. But, then again, maybe not.
That's why the smartest thing to do is buy great companies at good prices or good companies at great prices and just ride the market up and down. It works.
Market and economic forecasting? Not so much.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, September 25, 2009
Quality will rule
Now that financial Armageddon seems to have been avoided and the stock market is up over 55%, a lot of investors are wondering where to invest next. My answer: quality.
Quality is always a good place to invest, but it may be particularly important going forward. There are a couple of reasons I think this.
One is that quality companies have mostly been left behind in the rally since March. They haven't completely been left behind, mind you, but they aren't up 55% like the rest of the market. They're not up as much because...they were never down as much.
The companies that tanked most from September 2008 to March 2009 were those many thought faced significant bankruptcy risk. When investors realized they wouldn't go bankrupt (at least, not yet), their prices took off. In some cases, those companies doubled and tripled in price!
Looking forward, such low-quality companies are unlikely to continue out-performing. Significant economic and financial risks still exist, and such companies weren't exactly healthy to begin with. That's not the strongest vote of confidence for future returns.
The second reason I think quality companies will out-perform is because they hold all the cards. They weren't overly indebted to begin with, they had strong market share and superior products, they tend to have excellent growth opportunities due to international markets, they have the financial resources that allows for growth, and they have the management talent to execute.
Add those positives to prices that haven't really taken off, and you have an ideal situation. When you combine a quality company's excellent prospects with low historical prices relative to fundamentals, you have a recipe for excellent returns.
As Warren Buffett once said, "If a business does well, the stock eventually follows." I can't make any promises about when the quality stocks will follow fundamentals, but I'm very confident it will take place within a 3 - 5 year time horizon.
For those of you interested, I recently reworked my website. I tried to make it more straightforward and my value proposition clearer. Please visit and tell me what you think. I also added my business, Athena Capital, to facebook. Become a fan if you're so inclined.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Now that financial Armageddon seems to have been avoided and the stock market is up over 55%, a lot of investors are wondering where to invest next. My answer: quality.
Quality is always a good place to invest, but it may be particularly important going forward. There are a couple of reasons I think this.
One is that quality companies have mostly been left behind in the rally since March. They haven't completely been left behind, mind you, but they aren't up 55% like the rest of the market. They're not up as much because...they were never down as much.
The companies that tanked most from September 2008 to March 2009 were those many thought faced significant bankruptcy risk. When investors realized they wouldn't go bankrupt (at least, not yet), their prices took off. In some cases, those companies doubled and tripled in price!
Looking forward, such low-quality companies are unlikely to continue out-performing. Significant economic and financial risks still exist, and such companies weren't exactly healthy to begin with. That's not the strongest vote of confidence for future returns.
The second reason I think quality companies will out-perform is because they hold all the cards. They weren't overly indebted to begin with, they had strong market share and superior products, they tend to have excellent growth opportunities due to international markets, they have the financial resources that allows for growth, and they have the management talent to execute.
Add those positives to prices that haven't really taken off, and you have an ideal situation. When you combine a quality company's excellent prospects with low historical prices relative to fundamentals, you have a recipe for excellent returns.
As Warren Buffett once said, "If a business does well, the stock eventually follows." I can't make any promises about when the quality stocks will follow fundamentals, but I'm very confident it will take place within a 3 - 5 year time horizon.
For those of you interested, I recently reworked my website. I tried to make it more straightforward and my value proposition clearer. Please visit and tell me what you think. I also added my business, Athena Capital, to facebook. Become a fan if you're so inclined.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, September 18, 2009
The myth of the rational investor
One aspect of my job I love best is reading to broaden my horizons. I recently finished a book by Dan Arielly called Predictably Irrational: The Hidden Forces That Shape Our Decisions. It was an eye-opening look into how real humans make decisions and what traps to avoid.
This may sound like heady stuff, but it's quite useful to a professional investor like me. You see, I happen to be human, and knowing the errors that humans frequently make can help me avoid mistakes and become a more successful investor over time. Quite practical, really.
Arielly highlights that most economic theory, up until the pioneering research done by behavioral economists, tended to assume that humans make fully rational decisions, especially when it comes to spending money. On the contrary, research has shown that we humans make all kinds of silly mistakes.
For example, we tend to over-value what we own. Before we buy a car, say a VW bug, we want to pay as little as possible for it. But, once we've bought it, we suddenly value it much more than we did before ownership. We won't sell it unless we can get top-dollar, even though we didn't think it was worth top-dollar when we bought it. And, the longer we own it, the more attached we can become, especially if we put a lot of work into ownership. I'll think about that the next time I go to sell a stock. I may want a price no one's willing to pay simply because once I've owned it for a while. Using objective value measures like price to earnings or price to book value give me an objective reference point to avoid this trap.
Another problem for humans is we want to keep our options open. Keeping options open makes sense in many contexts, but not when economic costs outweigh benefits. Arielly and crew showed how people generally over-weigh the benefit of keeping options open, literally to the degree of putting a higher price on keeping options open than the benefit derived. By trying to keep our options open, we frequently get distracted from the true objective. I'll remember this the next time I go to make an investment decision. When considering investment options, I know that wanting to keep my options open may distract me from making a good decision. Instead, I'll make the best decision given the facts and move on.
We humans are also greatly impacted by our expectations, and we may never change our minds even when confronted with contrary evidence. Arielly and his colleagues demonstrated through several experiments how people's pre-conceived notions literally impact their experiences. This is easy to find with investing, too. Once we buy an investment with the vision of great wealth pouring down on us, we hold on to that vision long after the facts have shown the vision to be faulty. This is a great thing to keep in mind when making investment decisions. Am I ignoring evidence? Am I looking for opinions different than my own? Can I dig for dis-confirming evidence instead of just looking for proof that backs my pre-conceived notion?
Being human has many wonderful benefits, but being rational decision makers, in the economic sense, is not one of them. This doesn't mean we should throw in the towel, it just means we have to be very objective when making investment decisions. This book helps me ask myself: 1) am I over-valuing something simply because I own it? 2) am I losing economic benefits because I want to keep options open? 3) am I looking for dis-confirming evidence to contradict my pre-conceived notions? Such questions lead to better decision making and better investment results.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
One aspect of my job I love best is reading to broaden my horizons. I recently finished a book by Dan Arielly called Predictably Irrational: The Hidden Forces That Shape Our Decisions. It was an eye-opening look into how real humans make decisions and what traps to avoid.
This may sound like heady stuff, but it's quite useful to a professional investor like me. You see, I happen to be human, and knowing the errors that humans frequently make can help me avoid mistakes and become a more successful investor over time. Quite practical, really.
Arielly highlights that most economic theory, up until the pioneering research done by behavioral economists, tended to assume that humans make fully rational decisions, especially when it comes to spending money. On the contrary, research has shown that we humans make all kinds of silly mistakes.
For example, we tend to over-value what we own. Before we buy a car, say a VW bug, we want to pay as little as possible for it. But, once we've bought it, we suddenly value it much more than we did before ownership. We won't sell it unless we can get top-dollar, even though we didn't think it was worth top-dollar when we bought it. And, the longer we own it, the more attached we can become, especially if we put a lot of work into ownership. I'll think about that the next time I go to sell a stock. I may want a price no one's willing to pay simply because once I've owned it for a while. Using objective value measures like price to earnings or price to book value give me an objective reference point to avoid this trap.
Another problem for humans is we want to keep our options open. Keeping options open makes sense in many contexts, but not when economic costs outweigh benefits. Arielly and crew showed how people generally over-weigh the benefit of keeping options open, literally to the degree of putting a higher price on keeping options open than the benefit derived. By trying to keep our options open, we frequently get distracted from the true objective. I'll remember this the next time I go to make an investment decision. When considering investment options, I know that wanting to keep my options open may distract me from making a good decision. Instead, I'll make the best decision given the facts and move on.
We humans are also greatly impacted by our expectations, and we may never change our minds even when confronted with contrary evidence. Arielly and his colleagues demonstrated through several experiments how people's pre-conceived notions literally impact their experiences. This is easy to find with investing, too. Once we buy an investment with the vision of great wealth pouring down on us, we hold on to that vision long after the facts have shown the vision to be faulty. This is a great thing to keep in mind when making investment decisions. Am I ignoring evidence? Am I looking for opinions different than my own? Can I dig for dis-confirming evidence instead of just looking for proof that backs my pre-conceived notion?
Being human has many wonderful benefits, but being rational decision makers, in the economic sense, is not one of them. This doesn't mean we should throw in the towel, it just means we have to be very objective when making investment decisions. This book helps me ask myself: 1) am I over-valuing something simply because I own it? 2) am I losing economic benefits because I want to keep options open? 3) am I looking for dis-confirming evidence to contradict my pre-conceived notions? Such questions lead to better decision making and better investment results.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, September 11, 2009
The long road back
The stock market has rallied strongly since March, and this has a lot of investors feeling optimistic again.
A lot of the numbers touted by the press (with Wall Street's careful nudging) foster this cycle of optimism. For example, the S&P 500, on a price-only basis, is up 56% from its ominous intra-day bottom of $666.79 (March 6, 2009). 56% sounds very impressive, indeed!
But, the context of that 56% number is important. If you bought a company for $100 a share and it fell to $1 (99% decline), and then rallied to $1.56 (up 56% from the bottom, but down 98% from purchase price), you'd have a 56% "gain." Not as impressive when put that way.
The same context should be included in any analysis of the S&P's meteoric 56% increase.
The S&P 500 peaked on 10/9/2007 at $1,565.15. That means, on a price-only basis, the S&P 500 is down 34% even after it's 56% increase. It's not very impressive to have gained 56% when 1/3 of your wealth is still missing in action.
This is where most investors get confused because percentage changes aren't intuitively obvious (why, oh why, do teachers spend so much time on trigonometry and calculus and so little on the math of compounding!?). Percentage changes must be put in context and looked at over longer time periods, otherwise they can give an incomplete impression and perhaps even deceive.
Let me illustrate. My clients' growth accounts were down 24% from the end of October 2007 (the month when the market last peaked) through the end of August 2009 (including fees and dividends, consult my notes on performance for full disclosure). Down 24% sounds bad, but not when you compare it to the S&P 500 total return (includes dividends): down 31%.
Down 24% may not sound much more impressive than down 31% because they are both down a lot. But, when you're down 24%, it takes a 32% gain to get back to breakeven; when you're down 31%, it takes a 45% gain to get back to breakeven. It will likely take less time to climb 32% than 45%.
Stretching these number out over time illustrates why a broader context and longer time periods are important.
My clients' growth accounts are up 5.76% since inception (4/30/05) versus down 3.30% for the S&P 500. If "big-whoople-dee-doo" is your response, I don't blame you--it might not sound impressive at first glance.
But, from a broader context, that means my clients were 9% ahead of the S&P 500 after 4 years and 4 months, and that's worth a lot over the long run where even small out-performance adds up. 2% out-performance (which I am by no means promising) means 50% more wealth over a 20 year period. That can really make a difference.
Even with its recent climb, the market still has a long road back.
Another factor in thinking about the 56% climb is valuation--what is the market likely to do going forward? If the market were dramatically under-valued, then that 56% climb may keep going. But, what if that 56% climb started from fair value or over-valuation? Then expecting the dramatic rise to continue wouldn't make sense.
By my calculations, the S&P 500 is very close to fair value right now. Assuming underlying growth of 3%, inflation of 3%, and a 3% dividend yield, the expected return going forward is around 9% a year. At 9% a year, it would take the market another 5+ years to climb another 56%. Just because the market has risen a lot doesn't mean it will continue to do so.
I'm not making a market prediction. I'm just trying to illustrate that the market's recent rise must be kept in context, must be looked at over a broader time span, and must be looked at with respect to underlying fundamentals.
Given that, the market could rise, fall or remain flat. I have no idea what it'll do. But, it would not be reasonable to take the 56% rise and extrapolate that performance going forward.
It's a long road back, and it'll likely take some time to cover the distance.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
The stock market has rallied strongly since March, and this has a lot of investors feeling optimistic again.
A lot of the numbers touted by the press (with Wall Street's careful nudging) foster this cycle of optimism. For example, the S&P 500, on a price-only basis, is up 56% from its ominous intra-day bottom of $666.79 (March 6, 2009). 56% sounds very impressive, indeed!
But, the context of that 56% number is important. If you bought a company for $100 a share and it fell to $1 (99% decline), and then rallied to $1.56 (up 56% from the bottom, but down 98% from purchase price), you'd have a 56% "gain." Not as impressive when put that way.
The same context should be included in any analysis of the S&P's meteoric 56% increase.
The S&P 500 peaked on 10/9/2007 at $1,565.15. That means, on a price-only basis, the S&P 500 is down 34% even after it's 56% increase. It's not very impressive to have gained 56% when 1/3 of your wealth is still missing in action.
This is where most investors get confused because percentage changes aren't intuitively obvious (why, oh why, do teachers spend so much time on trigonometry and calculus and so little on the math of compounding!?). Percentage changes must be put in context and looked at over longer time periods, otherwise they can give an incomplete impression and perhaps even deceive.
Let me illustrate. My clients' growth accounts were down 24% from the end of October 2007 (the month when the market last peaked) through the end of August 2009 (including fees and dividends, consult my notes on performance for full disclosure). Down 24% sounds bad, but not when you compare it to the S&P 500 total return (includes dividends): down 31%.
Down 24% may not sound much more impressive than down 31% because they are both down a lot. But, when you're down 24%, it takes a 32% gain to get back to breakeven; when you're down 31%, it takes a 45% gain to get back to breakeven. It will likely take less time to climb 32% than 45%.
Stretching these number out over time illustrates why a broader context and longer time periods are important.
My clients' growth accounts are up 5.76% since inception (4/30/05) versus down 3.30% for the S&P 500. If "big-whoople-dee-doo" is your response, I don't blame you--it might not sound impressive at first glance.
But, from a broader context, that means my clients were 9% ahead of the S&P 500 after 4 years and 4 months, and that's worth a lot over the long run where even small out-performance adds up. 2% out-performance (which I am by no means promising) means 50% more wealth over a 20 year period. That can really make a difference.
Even with its recent climb, the market still has a long road back.
Another factor in thinking about the 56% climb is valuation--what is the market likely to do going forward? If the market were dramatically under-valued, then that 56% climb may keep going. But, what if that 56% climb started from fair value or over-valuation? Then expecting the dramatic rise to continue wouldn't make sense.
By my calculations, the S&P 500 is very close to fair value right now. Assuming underlying growth of 3%, inflation of 3%, and a 3% dividend yield, the expected return going forward is around 9% a year. At 9% a year, it would take the market another 5+ years to climb another 56%. Just because the market has risen a lot doesn't mean it will continue to do so.
I'm not making a market prediction. I'm just trying to illustrate that the market's recent rise must be kept in context, must be looked at over a broader time span, and must be looked at with respect to underlying fundamentals.
Given that, the market could rise, fall or remain flat. I have no idea what it'll do. But, it would not be reasonable to take the 56% rise and extrapolate that performance going forward.
It's a long road back, and it'll likely take some time to cover the distance.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, September 04, 2009
"Good" company versus good stock investment
One of the most difficult concepts to grasp in all investing is the difference between a "good" company and a good stock investment.
The intuitive take most people have is that a "good" company is a good stock investment. Seems to make sense, doesn't it?
But, this is rarely the case. Why? Because a company's stock price reflects how people in general think of it.
If everyone loves a company and buys its stock, then its stock price will rise to meet that growing demand. Popular stocks have high prices relative to their underlying value.
"Good" companies, as recognized by the vast majority of people, tend to be over-priced.
The opposite is true for "bad" companies. When the vast majority of people think a company is garbage, its stock price reflects that lack of demand. Unpopular companies tend to have low prices relative to fundamentals.
"Bad" companies, as recognized by most people, tend to be under-priced.
This is very counter-intuitive for most people and a bit hard to handle. It doesn't seem to make sense to buy something everyone hates and sell something everyone loves. After all, can the majority be consistently wrong?
Yes. The proof of the pudding is in the eating, and when you buy "bad" companies and sell "good" companies, you get better returns than if you sell "bad" companies and buy "good" companies. The statistical studies on this are too numerous to detail here, but the solid weight of statistical and anecdotal study is that "bad" companies' stocks out-perform "good" companies' stocks.
You can implement this strategy in a non-concentrated way by simply buying the hated and selling the loved. I recommend high diversification for this approach because some of those "bad" companies will actually turn out to be bad and some of those "good" companies will turn out to be good investments. You need the benefit of a large number of investments to get everything to average out and get good results.
Another approach, that I believe generates better results, is to work hard to figure out which companies are good and perceived "bad."
As you may have noticed, I've been using quotation marks around "good" and "bad" to indicate good or bad as seen by the majority. But, the majority isn't always right. Sometimes a "bad" company is a very good investment because it is actually good and everyone perceives it to be bad. Then, not only do you have the long run tailwind of a good company's underlying fundamentals that time will make clear, but you also get to buy it at a "bad" company discount to underlying value. Then, you can get some truly phenomenal long term investing results.
This is the approach that I use. I buy companies everyone seems to hate where I believe the crowd is wrong.
It's tough to implement this approach, though, because when you tell people what you're buying, they look at you like you're crazy (frequently a sure sign of good investment). It's hard to be on the extreme minority side of opinion, and with investments people can be very passionate about their views (people like to tell you how stupid you are and all the things you aren't paying attention to). Sometimes, the majority turns out to be right and you end up looking and feeling like a fool. That's the price you pay to get outstanding results, though, and it's well worth it.
Remember, a "good" company isn't necessarily a good investment. Knowing the difference can mean the difference between good and bad investing results.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
One of the most difficult concepts to grasp in all investing is the difference between a "good" company and a good stock investment.
The intuitive take most people have is that a "good" company is a good stock investment. Seems to make sense, doesn't it?
But, this is rarely the case. Why? Because a company's stock price reflects how people in general think of it.
If everyone loves a company and buys its stock, then its stock price will rise to meet that growing demand. Popular stocks have high prices relative to their underlying value.
"Good" companies, as recognized by the vast majority of people, tend to be over-priced.
The opposite is true for "bad" companies. When the vast majority of people think a company is garbage, its stock price reflects that lack of demand. Unpopular companies tend to have low prices relative to fundamentals.
"Bad" companies, as recognized by most people, tend to be under-priced.
This is very counter-intuitive for most people and a bit hard to handle. It doesn't seem to make sense to buy something everyone hates and sell something everyone loves. After all, can the majority be consistently wrong?
Yes. The proof of the pudding is in the eating, and when you buy "bad" companies and sell "good" companies, you get better returns than if you sell "bad" companies and buy "good" companies. The statistical studies on this are too numerous to detail here, but the solid weight of statistical and anecdotal study is that "bad" companies' stocks out-perform "good" companies' stocks.
You can implement this strategy in a non-concentrated way by simply buying the hated and selling the loved. I recommend high diversification for this approach because some of those "bad" companies will actually turn out to be bad and some of those "good" companies will turn out to be good investments. You need the benefit of a large number of investments to get everything to average out and get good results.
Another approach, that I believe generates better results, is to work hard to figure out which companies are good and perceived "bad."
As you may have noticed, I've been using quotation marks around "good" and "bad" to indicate good or bad as seen by the majority. But, the majority isn't always right. Sometimes a "bad" company is a very good investment because it is actually good and everyone perceives it to be bad. Then, not only do you have the long run tailwind of a good company's underlying fundamentals that time will make clear, but you also get to buy it at a "bad" company discount to underlying value. Then, you can get some truly phenomenal long term investing results.
This is the approach that I use. I buy companies everyone seems to hate where I believe the crowd is wrong.
It's tough to implement this approach, though, because when you tell people what you're buying, they look at you like you're crazy (frequently a sure sign of good investment). It's hard to be on the extreme minority side of opinion, and with investments people can be very passionate about their views (people like to tell you how stupid you are and all the things you aren't paying attention to). Sometimes, the majority turns out to be right and you end up looking and feeling like a fool. That's the price you pay to get outstanding results, though, and it's well worth it.
Remember, a "good" company isn't necessarily a good investment. Knowing the difference can mean the difference between good and bad investing results.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, August 28, 2009
The economy's white knight
There's been a lot of talk about what will pull the world economy out of the funk it entered a year ago.
Most of the focus has been on the U.S. consumer and what they can do to pull us out of our economic malaise. After all, consumer spending is usually 60%-70% of the economy.
Others, instead, focus on the governments of the world, whether U.S., Chinese or European. To this way of thinking, the economies of the world have come off the tracks, and only government can get them back on the again and moving forward.
But, I think this misses the most likely source of future economic growth: businesses.
Consumers are tapped out, they have to pay off debt and build up savings. Most governments are tapped out, too, they are simply borrowing from others in hopes that spending now will produce growth sooner rather than later. The financial sector, which can usually spur growth with lending and investment, is even more highly in debt than consumers or governments, so they don't seem likely to be the impetus for growth.
Businesses, on the other hand, are in relatively good shape. Businesses faced a very tough recession in 2000-2002, and they have since lowered their debt and learned to react quickly and decisively to tougher economic times. They tend to be leaner and more flexible than they were a decade ago, and many have large cash hordes they can put to work.
In my opinion, this is where growth will come from sooner than any other place. In fact, I believe it's already happening.
Now that demand seems to be stabilizing, businesses will start hiring again. The U.S. economy needs to shift from a consumption to a production focus. China needs to shift from a production to a consumption focus. Businesses will lead the way in this shift because they will see the most profitable ways to benefit from the new landscape. The smart businesses, the lean and flexible ones who see the future first, will expand production and meet business demand first. They will then have the profits to hire and expand more. And, thus, the upward cycle will grow and expand.
This will not happen quickly. Production won't go from 30% of the U.S. economy to 50% overnight. And, 30% of the economy will not make up for the 70% of consumption all at once. It will be a slow, steady growth that will build a more stable, more production focused economy.
This will be a good thing. For, as Jean-Baptiste Say said almost 200 years ago, supply creates its own demand. Production, after all, must precede consumption--you can't consume what hasn't been produced. Having an economy more focused on production than consumption will grow more steadily and resiliently.
The economy's white knight is riding to the rescue, and below the radar of almost everyone. Businesses will lead the way.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
There's been a lot of talk about what will pull the world economy out of the funk it entered a year ago.
Most of the focus has been on the U.S. consumer and what they can do to pull us out of our economic malaise. After all, consumer spending is usually 60%-70% of the economy.
Others, instead, focus on the governments of the world, whether U.S., Chinese or European. To this way of thinking, the economies of the world have come off the tracks, and only government can get them back on the again and moving forward.
But, I think this misses the most likely source of future economic growth: businesses.
Consumers are tapped out, they have to pay off debt and build up savings. Most governments are tapped out, too, they are simply borrowing from others in hopes that spending now will produce growth sooner rather than later. The financial sector, which can usually spur growth with lending and investment, is even more highly in debt than consumers or governments, so they don't seem likely to be the impetus for growth.
Businesses, on the other hand, are in relatively good shape. Businesses faced a very tough recession in 2000-2002, and they have since lowered their debt and learned to react quickly and decisively to tougher economic times. They tend to be leaner and more flexible than they were a decade ago, and many have large cash hordes they can put to work.
In my opinion, this is where growth will come from sooner than any other place. In fact, I believe it's already happening.
Now that demand seems to be stabilizing, businesses will start hiring again. The U.S. economy needs to shift from a consumption to a production focus. China needs to shift from a production to a consumption focus. Businesses will lead the way in this shift because they will see the most profitable ways to benefit from the new landscape. The smart businesses, the lean and flexible ones who see the future first, will expand production and meet business demand first. They will then have the profits to hire and expand more. And, thus, the upward cycle will grow and expand.
This will not happen quickly. Production won't go from 30% of the U.S. economy to 50% overnight. And, 30% of the economy will not make up for the 70% of consumption all at once. It will be a slow, steady growth that will build a more stable, more production focused economy.
This will be a good thing. For, as Jean-Baptiste Say said almost 200 years ago, supply creates its own demand. Production, after all, must precede consumption--you can't consume what hasn't been produced. Having an economy more focused on production than consumption will grow more steadily and resiliently.
The economy's white knight is riding to the rescue, and below the radar of almost everyone. Businesses will lead the way.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Wednesday, August 19, 2009
Focused investing
There are as many different ways to invest as there are stars in the sky.
And, this is why most investors are dumb-founded when trying to pick investments--the choices are limitless.
One of the key problems is that most investment managers are not terribly honest about what they do. They say they do in-depth research, they say they don't just invest in the market, they promise the moon and stars...
The reality is that the average mutual fund owns 172 stocks. That means their average position size is 0.6%. Even if a 0.6% position doubles, you won't feel the benefit much.
Added to this, with 172 positions, how on earth does an investment manager do in-depth research on individual companies? Just keeping track of quarterly announcements would utterly over-whelm them. They can't possibly follow 172 companies in-depth!
The average mutual fund charges their customers around 1% a year to manage money. But, with 172 holdings, it's almost impossible for them to beat the market after fees. Why not just buy an index fund and get charged 0.2%?
The alternative is to invest with a manager who focuses on only a few investments, let's say less than 25. Such investors at least have the possibility of beating the market, unlike someone who owns 172 stocks.
If you look at the records of managers who have strongly out-performed the market over the long term, you will almost certainly have found a focused investment manager.
There aren't that many managers who focus on fewer than 25 investments. Why? Because most invest managers lack the courage of their conviction. As Warren Buffett put it, "wide diversification is only required when investors do not understand what they are doing."
Added to this, being focused on only 25 investments frequently means higher short-term volatility and requires a lot of patience because short-term under-performance is inevitable.
But, the benefits can be huge. Focused investing can lead to out-performance that can have a huge impact on your long term wealth.
It may take time, it may take patience, it may take a stomach that can handle nerve-wracking ups and downs, but for some investors, it's well worth the effort.
Besides, what would you rather do with your time? 1) spend several hours picking a manager who knows what they're doing, or 2) spend the rest of your life diversifying, rebalancing your portfolio, and getting mediocre results anyway?
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
There are as many different ways to invest as there are stars in the sky.
And, this is why most investors are dumb-founded when trying to pick investments--the choices are limitless.
One of the key problems is that most investment managers are not terribly honest about what they do. They say they do in-depth research, they say they don't just invest in the market, they promise the moon and stars...
The reality is that the average mutual fund owns 172 stocks. That means their average position size is 0.6%. Even if a 0.6% position doubles, you won't feel the benefit much.
Added to this, with 172 positions, how on earth does an investment manager do in-depth research on individual companies? Just keeping track of quarterly announcements would utterly over-whelm them. They can't possibly follow 172 companies in-depth!
The average mutual fund charges their customers around 1% a year to manage money. But, with 172 holdings, it's almost impossible for them to beat the market after fees. Why not just buy an index fund and get charged 0.2%?
The alternative is to invest with a manager who focuses on only a few investments, let's say less than 25. Such investors at least have the possibility of beating the market, unlike someone who owns 172 stocks.
If you look at the records of managers who have strongly out-performed the market over the long term, you will almost certainly have found a focused investment manager.
There aren't that many managers who focus on fewer than 25 investments. Why? Because most invest managers lack the courage of their conviction. As Warren Buffett put it, "wide diversification is only required when investors do not understand what they are doing."
Added to this, being focused on only 25 investments frequently means higher short-term volatility and requires a lot of patience because short-term under-performance is inevitable.
But, the benefits can be huge. Focused investing can lead to out-performance that can have a huge impact on your long term wealth.
It may take time, it may take patience, it may take a stomach that can handle nerve-wracking ups and downs, but for some investors, it's well worth the effort.
Besides, what would you rather do with your time? 1) spend several hours picking a manager who knows what they're doing, or 2) spend the rest of your life diversifying, rebalancing your portfolio, and getting mediocre results anyway?
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
Friday, August 14, 2009
One clunker of an idea
I usually try to stay away from political commentary, but the "cash for clunkers" idea needs to be addressed from an economic standpoint.
If you haven't heard about it, the "cash for clunkers" program gives cash to people who trade in their low mile per gallon vehicles to purchase newer, higher mile per gallon vehicles. From the way I understand it, you get $3,500 to $4,500 (depending on the mileage of the vehicle you purchase) for "cashing in" your "clunker."
Now, let's trace this idea from beginning to end and understand what's going on. The government is paying people cash to throw away functioning cars. Where does the cash they are giving away come from? It comes from issuing government debt.
That means the government is raising money from someplace (China, Japan, Middle East, U.S. investors) that would otherwise have been invested in some other way, and using it to pay people to throw away functioning cars. Why?
(I'm sure it has nothing to do with the fact that the U.S. government has become a huge investor in Chrysler and GM. Note: I'm being sarcastic).
One reason is that most economists look at economic growth in terms of new things being sold instead of return on investment. Gross Domestic Product (GDP), which is the figure most economists and government employees watch, will show an increase because of the cash for clunkers program. GDP increases whenever things are sold, the government spends money, or we export more than we import.
Using this magical math, the economy grows any time consumers or the government spends, whether or not that's positive return on investment spending.
But, let's think further about this issue. Say you buy a car because of the cash for clunkers program. Because you are now making payments on a new car, and those payments are almost certainly higher than the payments on your clunker, then you have less money to spend on other things. In other words, spending has simply been taken from one place and put in another. GDP will show a spike because you spent a lot money today on a new car, but then you'll have payments plus interest in the future which you can't spend. Is that positive return on investment growth? Not likely.
Plus, the government has incurred debt to finance this spending. That won't show up in GDP figures, so everything seems peachy. But, borrowed money needs to be paid back, with interest, and where will that money come from? It's simply been borrowed from the future!
When I make an investment, the issue isn't just: does growth occur? I must get a return on investment more than what was put into it.
Suppose I bought a company for $100,000 and had to put $10,000 into it in the first year. Suppose I only netted $5,000 in earnings. No one would consider that a wise investment. Suppose I put $15,000 into the business the next year and made $7,500. That would be growth, right, from $5,000 to $7,500, but I don't think anyone would rejoice in putting in $25,000 and getting $$12,500 back over 2 years.
So, why would someone consider it a good investment to borrow money to pay people to buy something they don't need? I don't get it.
By such reasoning, it would make sense to burn down all the houses in my neighborhood so we could spend money to build new homes. If that's considered economic growth by someone, then cash for clunkers makes sense.
But, to me, it doesn't.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
I usually try to stay away from political commentary, but the "cash for clunkers" idea needs to be addressed from an economic standpoint.
If you haven't heard about it, the "cash for clunkers" program gives cash to people who trade in their low mile per gallon vehicles to purchase newer, higher mile per gallon vehicles. From the way I understand it, you get $3,500 to $4,500 (depending on the mileage of the vehicle you purchase) for "cashing in" your "clunker."
Now, let's trace this idea from beginning to end and understand what's going on. The government is paying people cash to throw away functioning cars. Where does the cash they are giving away come from? It comes from issuing government debt.
That means the government is raising money from someplace (China, Japan, Middle East, U.S. investors) that would otherwise have been invested in some other way, and using it to pay people to throw away functioning cars. Why?
(I'm sure it has nothing to do with the fact that the U.S. government has become a huge investor in Chrysler and GM. Note: I'm being sarcastic).
One reason is that most economists look at economic growth in terms of new things being sold instead of return on investment. Gross Domestic Product (GDP), which is the figure most economists and government employees watch, will show an increase because of the cash for clunkers program. GDP increases whenever things are sold, the government spends money, or we export more than we import.
Using this magical math, the economy grows any time consumers or the government spends, whether or not that's positive return on investment spending.
But, let's think further about this issue. Say you buy a car because of the cash for clunkers program. Because you are now making payments on a new car, and those payments are almost certainly higher than the payments on your clunker, then you have less money to spend on other things. In other words, spending has simply been taken from one place and put in another. GDP will show a spike because you spent a lot money today on a new car, but then you'll have payments plus interest in the future which you can't spend. Is that positive return on investment growth? Not likely.
Plus, the government has incurred debt to finance this spending. That won't show up in GDP figures, so everything seems peachy. But, borrowed money needs to be paid back, with interest, and where will that money come from? It's simply been borrowed from the future!
When I make an investment, the issue isn't just: does growth occur? I must get a return on investment more than what was put into it.
Suppose I bought a company for $100,000 and had to put $10,000 into it in the first year. Suppose I only netted $5,000 in earnings. No one would consider that a wise investment. Suppose I put $15,000 into the business the next year and made $7,500. That would be growth, right, from $5,000 to $7,500, but I don't think anyone would rejoice in putting in $25,000 and getting $$12,500 back over 2 years.
So, why would someone consider it a good investment to borrow money to pay people to buy something they don't need? I don't get it.
By such reasoning, it would make sense to burn down all the houses in my neighborhood so we could spend money to build new homes. If that's considered economic growth by someone, then cash for clunkers makes sense.
But, to me, it doesn't.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
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