I am keeping this epic cover. A top in Central Banking confidence.
Have a Good Weekend.
I am keeping this epic cover. A top in Central Banking confidence.
Have a Good Weekend.
Curiously, many people argue this would be a good time to abandon gold. We don’t think so – we rather think that faith in central banks will eventually crumble, and then it will be well and truly ‘game over’ for these perpetual bubble machines. As a friend of ours frequently remarks: at that point the question of how to price gold will be akin to asking what the last functioning parachute on an airplane that is going down should be worth. http://www.acting-man.com/?p=23082
Hedge fund “friend” upon hearing that I own gold, “If you were a lot smarter, we could call you stupid.”
No, I am not actually doing what I posted here:http://wp.me/p2OaYY-1Vv. I own gold bullion and several precious metals miners, so yesterday when the stock market is up 1/2% while my portfolio drops 1%+, I take comfort when I review why I own gold:
“In a speech in Rome, ECB President Mario Draghi said the bank would monitor incoming data closely and be ready to cut rates further, including the deposit rate currently at zero.
“For southern European countries, a euro above $1.30 would be too high for their economy. Among major central banks, the ECB has been the only bank that is not expanding its balance sheet. But It will likely consider such a step,” said Minori Uchida, chief FX analyst at the Bank of Tokyo-Mitsubishi UFJ.”
Meanwhile, sentiment in gold and precious metals miners is at historic (20 year) lows: http://thetsitrader.blogspot.com/2013/05/gold-and-silver-sentiment-reversal-is.html and Short Side of Long
I don’t buy the gold bugs premise that central banks will back their currencies with gold unless forced to by the market/the public. However, central bankers buying may indicate the lack of trust in their colleagues’ fiat currencies. Also, gold “flowing” East represents a wealth transfer from West to East.
In The Wilderness by Paul Singer
[T]he financial system (including the institutions themselves, products traded, and risks taken) has “gotten away from” the Fed’s ability to comprehend. The Fed is primarily responsible for that state of affairs, and it is out of its depth. Former Chairman Greenspan created — and reveled in — a cult of personality centered on himself, and in the process created a tremendous and growing moral hazard. By successive bailouts and purporting to understand (to a higher and higher level of expressed confidence) a quickly changing financial system of growing complexity and leverage, he cultivated an ever-increasing (but unjustified) faith in the Fed’s apparent ability to fine-tune the American (and, by extension, the world’s) economy. Ironically, this development was occurring at the very time that financial innovations and leverage were making the system more brittle and less safe. He extolled the virtues of derivatives and minimized the danger of leverage and risky securities and dot-com stocks, all while he should have been putting on the brakes. It was not just the disappearance of vast swaths of the American financial system into unregulated subsidiaries of financial institutions, nor was it just government policies that encouraged the creation and syndication of “no-documentation” mortgages to people who could not afford them. It was also the low interest rates from 2002 to 2005, the failure to see the expanding real estate bubble caused by an unprecedented increase in leverage and risk, and the general failure to understand the financial conditions of the world’s major institutions.
Under Chairman Bernanke, the combination of ZIRP and QE completed the passage of the Fed from sober protector of a fiat currency to ineffective collection of frantically-flailing, over-educated, posturing bureaucrats engaged in ever more-astounding experiments in monetary extremism.
If you look at the history of Fed policy from Greenspan to Bernanke,you see two broad and destructive paths quite clearly. One path is the cult of central banking, in which the central bank gradually acquired the mantle of all-knowing guru and maestro, capable of fine-tuning the global economy and financial system, despite their infinite complexity. On this path traveled arrogance, carelessness and a rigid and narrow orthodoxy substituting for an open-minded quest to understand exactly what the modern financial system actually is and how it really works. The second path is one of lower and lower discipline, less and less conservative stewardship of the precious confidence that is all that stands between fiat currency and monetary ruin.
Monetary debasement in its chronic form erodes people’s savings. In its acute and later stages, it can destroy the social cohesion of a society as wealth is stolen and/or created not by ideas, effort and leadership, but rather by the wild swings of asset prices engendered by the loss of any anchor to enduring value. In that phase, wealth and credit assets (debt) are confiscated or devalued by various means, including inflation and taxation, or by changes to laws relating to the rights of asset holders. Speculators win, savers are destroyed, and the ties that bind either fray or rip. We see no signs that our leaders possess the understanding, courage or discipline to avoid this.
It is true that the CEOs of the world’s major financial institutions lost their bearings and were mostly oblivious to their own risks in the years leading up to the crash. However, as the 2007 minutes make clear, the Fed was clueless about how vulnerable, interconnected and subject to contagion the system was. It is not the case that the Fed completely ignored risk; indeed, several Fed folks made “fig leaf” statements about the risks of the mortgage securitization markets, as well as other indications that they appreciated the possibility of multiple outcomes. But nobody at the Fed understood the big picture or had the courage to shift into emergency mode and make hard decisions. In the run-up to the crisis the Fed was a group of highly educated folks who lacked an understanding of modern finance. After convincing the nation for decades of their exquisite grasp of complexities and their wise stewardship of the financial system, they didn’t understand what was actually going on when it really counted.
Ultimately, of course, as the system was collapsing and on the verge of freezing up completely, the Fed shifted into the (more comfortable and much less difficult) role of emergency provider of liquidity and guarantees.
All this background presents an interesting framework in which to think about what the Fed is doing now. QE is a very high-risk policy, seemingly devoid of immediate negative consequences but ripe with real chances of causing severe inflation, sharp drops in stock and bond prices, the collapse of financial institutions and/or abrupt changes in currency rates and economic conditions at some point in the unpredictable future. However, the lack of large increases in consumer price inflation so far, plus the demonstrable “benefits” of rising stock and bond markets, have reinforced the merits of money-printing, which is now in full swing across the world. In the absence of meaningful reforms to tax, labor, regulatory, trade, educational and other policies that could generate sustainable growth, “money-printing growth” is unsound.We believe that the global central bankers, led by the Fed as “thought leader,” have no idea how much pain the world’s economy may endure when they begin the still-undetermined and never-before attempted process of ending this gigantic experimental policy. If they follow the paths of the worst central banks in history, they will adopt the “tiger by the tail” approach (keep printing even as inflation accelerates) and ultimately destroy the value of money and savings while uprooting the basic stability of their societies. Read the 2007 Fed minutes and you will understand how disquieting is the possibility of such outcomes and how prosaic and limited are the people in whom we have all put our trust regarding the management of the financial system and the plumbing of the world’s economy.
Printing money by the trillions of dollars has had the predictable effect of raising the prices of stocks and bonds and thus reducing the cost of servicing government debt. It also has produced second-order effects, such as inflating the prices of commodities, art and other high-end assets purchased by financiers and investors. But it is like an addictive drug, and we have a hard time imagining the slowing or stopping of QE without large adverse impacts on the prices of stocks and bonds and the performance of the economy. If the economy does not shift into sustainable high-growth mode as a result of QE, then the exit from QE is somewhere on the continuum between problematic and impossible.
Central banks facing high inflation and/or sluggish growth after sustained money-printing frequently are paralyzed by the enormity of their mistake, or they are deranged by the thought that the difficult and complicated conditions in a more advanced stage of a period of monetary debasement are due to just not printing enough. At some stage, central banks inevitably realize, regardless of whether they admit the catastrophic nature of their own failings, that the cessation of money-printing will cause an instant depression. Even though at that point the cessation of money-printing may be the only action capable of saving society, that becomes a secondary consideration compared to the desire to avoid immediate pain and blame. The world’s central banks are in very deep with QE at present, and the risks continue to build with every new purchase of stocks and bonds with newly-printed money.
* * *
[And, as an added bonus, here are Singer's views on gold:]
There are many current theories as to why the price of gold had been drifting down and then collapsed in mid-April. We are trying to sort out various possible explanations, but we urge investors to be cautious in their thinking about what circumstances would likely cause gold to rise or fall sharply. The correlations with other assets in various scenarios (risk on or off, economic normalization, inflation, the rise and fall of interest rates, euro collapse) may shift abruptly as the macro picture evolves. Many people think that if stock markets continue rising, and/or if the U.S. and Europe restore normal levels of growth and employment, then the rationale for owning gold is weakened or destroyed. This perception may be correct, and it is certainly a topic that is currently much discussed, but ultimately another set of considerations is likely to dominate.
The world is on a seemingly one-way trip to monetary debasement as the catchall economic policy, and there is only one store of value and medium of exchange that has stood the test of time as “real money”: gold. We expect this dynamic to assert itself in a large way at some point. In the meantime, it is quite frustrating to watch the price of gold fall as the conditions that should cause it to appreciate seem more and more prevalent. Gold may not exactly be a “safe haven” in the sense of an asset whose value is precisely known and stable. But it surely is an asset that, in a particular set of circumstances, becomes a unique and irreplaceable “must-have.” In those circumstances (loss of confidence in governments and paper money), there are no substitutes, and the price of gold may reflect that characteristic at some point.
Disprove Your Opinions on Gold
This review is from: Gold Bubble: Profiting From Gold’s Impending Collapse (Hardcover)
This book will no doubt go into the proverbial dustbin of history along with Dow 36,000. Ask yourself some honest questions and then compare your answers to this book’s entire premise.
Is gold in a bubble? Well, what do bubbles look like? Luckily, we have two recent examples, the housing bubble, and the tech stock bubble in the late 90′s. What did those look like?
To me, they looked like everyone was getting rich in techs stocks and flipping houses. Regular people were quitting their jobs and day trading or flipping houses full time. The average guy, the little guy, sometimes referred to as the ”dumb money” was making an easy fortune.
Now, how many of your friends own any gold and talk about it with you? How much do you own? The writer points to all the publicity around gold, like those ads telling people to sell their gold. And ever since gold hit $1,000, people were doing just that, selling their gold.
In a bubble, those people would be loading up, but they’re selling! The world’s central banks, the smartest people in the world when it comes to money, are the big buyers. This would be the first bubble in history that the dumb money was selling into and the smartest money on the planet was buying. Do you really think that the people with the least knowledge about money are getting this right?
It would also be the first bubble to happen with almost no participation from the general public. This could be the weakest analytical book written this year. Just because the price of something is up does not mean it’s in a bubble.
If you look at the average selling price of gold in the year it peaked for the last bull cycle, 1980, or $660 an ounce, and look at today’s price, the average annual gain for that 32 years is about 3%. If stocks had risen by 3% annually for that long, would anyone be calling it a bubble?
Then look at our trillion dollar deficits and the growth in the Fed’s balance sheet, total government debt of $18.5 trillion when you include state and local debt that as taxpayers, we’re all on the hook for, and there’s your bubble, and the best reason to defend yourself by owning gold.
Thanks to a reader’s contribution: Here is a good article attached on bureaucracy and leading to misguided incentives. http://www.nytimes.com/2013/05/12/magazine/the-food-truck-business-stinks.html?ref=magazine&pagewanted=print
I came across your website via your interview with Classic Value Investors. I like the way you try to help people learn the craft. Value investing is in principle not that difficult, as long as you have a good teacher. So well done!
On my own value investing blog (http://www.valuespreadsheet.com/value-investing-blog). I try to share my knowledge on the subject as well, but not per sé with case studies like you do. However, your approach is very informative for readers, so maybe I should try that some more.
I’ve also written a free eBook which explains three valuation models in simple words. Feel free to add it to your value investing resources if you like it:
Kind regards, Nick Kraakman, www.valuespreadsheet.com
Thanks for the above contributions.
Here is the Perhsing Square website on Herbalife. Sign up and learn:
Pershing has their HLF deck up on the website: http://factsaboutherbalife.com/
Verdict: This will get ugly but my money would be on Ackman since there is no competitive advantage, so I would place the value no more than tangible book value at best with no more than a 90 second look at the financials.
The purpose of this post is also to study a Ponzi scheme. The response of the company to Ackman’s research leads me to say this company’s days are numbered.
BOOM and BUST
Could Austrian Business Cycle Theory Dotcom Boom and Bust have helped you as an investor? Buffett’s presentation on the Dotcom Bubble in early 1999 (See page 64) A Study of Market History through Graham Babson Buffett and Others. Note how the market went into a speculative frenzy, rising more than 50% AFTER Buffett’s speech. Human action can’t be predicted like a physics experiment.
An excellent book that predicted the bust was the The Internet Bubble: Inside the overvalue World of High Tech Stocks–and What you Need to Know To Avoid The Coming Shakeout by Anthony Perkins and Michael Perkins (1999 and 2001 editions).
Burning up (cash) http://www.fool.com/news/foth/2002/foth020830.htm
A student’s overview: David Carr – THE TECHNOLOGY STOCK BUBBLE
Ackan presents on Herbalife: http://www.reuters.com/article/2012/12/20/us-ackman-herbalife-idUSBRE8BI1MZ20121220. He says that he will be setting up a website with all his research on Herbalife. If anyone FINDS IT, please send me the link to post. This could become a good case study on multi-level marketing.
Dec. 21 2012 Update: Thanks to a reader: www.businessinsider.com/bill-ackmans-herbalife-presentation-2012-12
See presentation here:Who-wants-to-be-a-Millionaire
Motivate thyself: Anthony Robbins http://www.youtube.com/watch?v=Cpc-t-Uwv1I&feature=share&list=PL70DEC2B0568B5469. Yes, he could be a huckster, but he is a great public speaker. Focus on HOW he presents.
Presentation on Brick
Gottfried_TheBrick_VICNY2011 (3) (Powerpoint)
Tap dancing to work (Buffett Interview on Charlie Rose) http://www.charlierose.com/view/interview/12672
Buffett Opines on Raising Taxes (Comments in Italics)
When taxes change, would-be investors will certainly change their decisions about where to direct capital, even “though the companies’ operating economics will not have changed adversely at all.” Buffett saw this clearly in 1986, with respect to Berkshire’s own investment decisions; it’s hard to believe that Buffett no longer believes that today, with respect to private investors.
November 25, 2012
A Minimum Tax for the Wealthy By WARREN E. BUFFETT
SUPPOSE that an investor you admire and trust comes to you with an investment idea. “This is a good one,” he says enthusiastically. “I’m in it, and I think you should be, too.”
Would your reply possibly be this? “Well, it all depends on what my tax rate will be on the gain you’re saying we’re going to make. If the taxes are too high, I would rather leave the money in my savings account, earning a quarter of 1 percent.” Only in Grover Norquist’s imagination does such a response exist.
It’s a catchy opener, attracting headlines and guffaws from the expected quarters. But I’m struck by his opener because I can think of at least one real-world example in which a rich investor nearly spiked a deal due to taxes: Warren Buffett himself, as recounted in Alice Schroeder’s terrific biography, The Snowball (pages 230-232).
Early in his career, Buffett invested heavily—almost one third of his early fund’s capital—in Sanborn Map, a company that mapped utility lines and such. But he soon grew frustrated with the company’s leadership, which “operated more like a club than a business,” and which refused to return greater dividends to investors. So Buffett amassed more and more stock, and with control of the company finally in hand he pressed the board of directors to split the company in two (one for the mapping business, and one to hold the company’s other outsized investments).
Finally, the board capitulated. But with victory finally at hand, Buffett nearly scuttled the deal because of … taxes. As Schroeder recounts, quoting Buffett, one director proposed that the company just cleanly break the company, despite the tax consequences—”let’s just swallow the tax,” he suggested.
To which Buffett replied (as he recounted to Schroeder): And I said, ‘Wait a minute. Let’s — “Let’s” is a contraction. It means “let us.” But who is this us? If everyone around the table wants to do it per capita, that’s fine, but if you want to do it in a ratio of shares owned, and you get ten shares’ worth of tax and I get twenty-four thousand shares’ worth, forget it.’
Buffett was willing to walk away from a deal because the taxes would have taken too much of a bite out of it.
Between 1951 and 1954, when the capital gains rate was 25 percent and marginal rates on dividends reached 91 percent in extreme cases, I sold securities and did pretty well. In the years from 1956 to 1969, the top marginal rate fell modestly, but was still a lofty 70 percent — and the tax rate on capital gains inched up to 27.5 percent. I was managing funds for investors then. Never did anyone mention taxes as a reason to forgo an investment opportunity that I offered.
Under those burdensome rates, moreover, both employment and the gross domestic product (a measure of the nation’s economic output) increased at a rapid clip. The middle class and the rich alike gained ground.
So let’s forget about the rich and ultrarich going on strike and stuffing their ample funds under their mattresses if — gasp — capital gains rates and ordinary income rates are increased. The ultrarich, including me, will forever pursue investment opportunities.
That’s not the only time that taxes played a major role on Buffett’s decisions, as recounted by Schroeder. Later in the book (pp. 533-534), she recounts how Buffett chose to structure his investments under Berkshire Hathaway’s corporate umbrella, rather than as part of his hedge fund’s general portfolio, precisely because of the tax advantages.
In fact, as he explained in his 1986 letter to investors, changes in the 1986 tax reform act posed a specific threat to certain investment decisions:
If Berkshire, for example, were to be liquidated – which it most certainly won’t be — shareholders would, under the new law, receive far less from the sales of our properties than they would have if the properties had been sold in the past, assuming identical prices in each sale. Though this outcome is theoretical in our case, the change in the law will very materially affect many companies. Therefore, it also affects our evaluations of prospective investments. Take, for example, producing oil and gas businesses, selected media companies, real estate companies, etc. that might wish to sell out. The values that their shareholders can realize are likely to be significantly reduced simply because the General Utilities Doctrine has been repealed – though the companies’ operating economics will not have changed adversely at all. My impression is that this important change in the law has not yet been fully comprehended by either investors or managers.
And, wow, do we have plenty to invest. The Forbes 400, the wealthiest individuals in America, hit a new group record for wealth this year: $1.7 trillion. That’s more than five times the $300 billion total in 1992. In recent years, my gang has been leaving the middle class in the dust.
A huge tail wind from tax cuts has pushed us along. In 1992, the tax paid by the 400 highest incomes in the United States (a different universe from the Forbes list) averaged 26.4 percent of adjusted gross income. In 2009, the most recent year reported, the rate was 19.9 percent. It’s nice to have friends in high places.
The group’s average income in 2009 was $202 million — which works out to a “wage” of $97,000 per hour, based on a 40-hour workweek. (I’m assuming they’re paid during lunch hours.) Yet more than a quarter of these ultrawealthy paid less than 15 percent of their take in combined federal income and payroll taxes. Half of this crew paid less than 20 percent. And — brace yourself — a few actually paid nothing.
This outrage points to the necessity for more than a simple revision in upper-end tax rates, though that’s the place to start. I support President Obama’s proposal to eliminate the Bush tax cuts for high-income taxpayers. However, I prefer a cutoff point somewhat above $250,000 — maybe $500,000 or so.
Additionally, we need Congress, right now, to enact a minimum tax on high incomes. I would suggest 30 percent of taxable income between $1 million and $10 million, and 35 percent on amounts above that. A plain and simple rule like that will block the efforts of lobbyists, lawyers and contribution-hungry legislators to keep the ultrarich paying rates well below those incurred by people with income just a tiny fraction of ours. Only a minimum tax on very high incomes will prevent the stated tax rate from being eviscerated by these warriors for the wealthy.
Above all, we should not postpone these changes in the name of “reforming” the tax code. True, changes are badly needed. We need to get rid of arrangements like “carried interest” that enable income from labor to be magically converted into capital gains. And it’s sickening that a Cayman Islands mail drop can be central to tax maneuvering by wealthy individuals and corporations.
But the reform of such complexities should not promote delay in our correcting simple and expensive inequities. We can’t let those who want to protect the privileged get away with insisting that we do nothing until we can do everything.
Our government’s goal should be to bring in revenues of 18.5 percent of G.D.P. and spend about 21 percent of G.D.P. — levels that have been attained over extended periods in the past and can clearly be reached again. As the math makes clear, this won’t stem our budget deficits; in fact, it will continue them. But assuming even conservative projections about inflation and economic growth, this ratio of revenue to spending will keep America’s debt stable in relation to the country’s economic output.
In the last fiscal year, we were far away from this fiscal balance — bringing in 15.5 percent of G.D.P. in revenue and spending 22.4 percent. Correcting our course will require major concessions by both Republicans and Democrats.
All of America is waiting for Congress to offer a realistic and concrete plan for getting back to this fiscally sound path. Nothing less is acceptable.
In the meantime, maybe you’ll run into someone with a terrific investment idea, who won’t go forward with it because of the tax he would owe when it succeeds. Send him my way. Let me unburden him.
Warren E. Buffett is the chairman and chief executive of Berkshire Hathaway.
Norquist hits back against Buffett op-ed, calls argument ‘silly’
By Daniel Strauss – 11/26/12 06:12 PM ET
Americans for Tax Reform President Grover Norquist responded to an op-ed by billionaire Warren Buffett Monday, saying Buffett’s argument was “silly.”
On Monday The New York Times published an op-ed by Buffett criticizing Norquist’s anti-tax pledge and urging Congress to pass legislation rolling back the Bush-era tax rates for incomes above $500,000 a year. Later on Monday Norquist appeared on Fox News and called Buffett’s argument silly, and said Buffett got rich by “gaming the system.”
“Warren Buffett has made a lot of money, some of it off of gaming the political system. He invests in insurance companies and then lobbies to raise the death tax, which drives people to buy insurance. You can get rich playing that game but it’s all corrupt,” Norquist said. “It’s not investing; it’s playing crony politics and economics. That’s a shame. He’s done the same thing with some green investing. Shame on him for gaming the system and giving money to politicians who write rules that make your assets go up.
“The real economy, the real economy, if he thinks that the government can take a dollar and then you go to an investor who doesn’t have that dollar and it doesn’t affect investment, I’m sorry that’s just silly unless he plans on going to Obama and getting money from a stimulus package and he considers that investment. When the government takes a dollar away from the American people or a trillion dollars, that’s a trillion dollars not available to be saved and invested. I’m sorry if Buffett can’t see that but that’s kind of silly on his part.”
The back-and-forth between Norquist and Buffett comes as legislators seek to come to an agreement on a deficit-reduction package to avoid the “fiscal cliff” of spending cuts and tax increases set to hit next year.
A number of Republicans have indicated that they could disregard supporting the Americans for Tax Reform pledge in order to reach a deal.
Buffett, an outspoken supporter of President Obama, published an op-ed in the Times in 2011 arguing that the tax rates on the wealthiest Americans should be higher. The Obama administration subsequently began pushing for a “Buffett Rule” that would raise the marginal tax rate for some of the wealthiest Americans. Obama has since called for increasing the tax rate on incomes above $250,000 a year. The Buffett Rule also introduces a base 30 percent tax rate for incomes between $1 million and $10 million and a 35 percent rate for incomes over $10 million.
WHAT DO YOU, THE READERS, THINK?
Don’t Confuse Growth With Sustainable Competitive Advantage
“The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage. The products or services that have wide, sustainable moats around them are the ones that deliver rewards to investors.”
–Warren Buffett, Fortune magazine, 11/22/99
Ryan Fusaro, winner of the Value Investing Challenge, shared his analysis of Jack in the Box and how the company’s refranchising efforts will unlock enormous value at the 8th Annual New York Value Investing Congress. Click here to watch a video of his presentation! http://bit.ly/PoQQLy
Long Jack in the Box (JACK)
Fusaro won and pitched Jack in the Box (JACK) in his talk entitled ‘Thinking Outside the Box.” He started with some history that JACK has refranchised from 25% in 2005 to 75% today.
- Incomplete financial reporting
- Potential margin improvement
- Great brands
- Cost structure hasn’t caught up with franchise model
He touched on how JACK owns Jack in the Box but also owns Qdoba, which has typically been too small to really matter but is now worth $580m by itself and value could be unlocked with a spin-off. Think McDonald’s (MCD) when it spun-off Chipotle (CMG). JACK also owns the real estate.
Fusaro says there’s a growth business embedded in a value business and also touched on unlocking real estate value.
Presentation:Fusaro-VIC-Presentation_Jack in the Box_JACK
Let me know if you think the above was worthy of a prize?
Dinner with Pabrai? Who will beat my bid?
Mohnish Pabrai is auctioning off two items: lunch with himself (plus a stock tip) and a life-size bronze bust of Charlie Munger. The proceeds of both will go to the Dakshana Foundation, which he established to help academically promising poor kids in India:
Do you have trading greatness? http://www.marketpsych.com/tradingedge.php
Your personality: http://www.marketpsych.com/personality_test.php
Youth has gone Austrian: http://mises.org/daily/6147/The-Future-of-the-Austrian-School
Have a good weekend.
Growth and value investing are joined at the hip. –Warren Buffett
The one and absolute truth I have learned about investing–and it is the only one–is that long-range success comes not from any simple rule or rules that can be followed by everyone but only from the most rigorous pursuit of disciplines designed to neutralize the emotional pressures that inevitably descent from time to time upon anyone who is responsible for investing other people’s money.
Those disciplines must be self-evolved because we all have different strengths and weaknesses. the things they have in common are (1) defining precisely what we are trying to do; (2) clearly understanding the reasons for the strategy; (3) recognizing in advance what problems will sooner or later accompany the strategy–for there will always be such problems’ and (4) developing the strength to “stay the course” given during troubled times. Successful investing requires constant inquisitiveness about the new and everlasting, open-minded re-examination of the old. The latter process is more difficult than the former. Not many of us are willing and able to accept the tough disciplines that are involved and not many achieve long-term investment success. –Robert R. Barker, an investor who compounded capital at about a 25% annual rate during the 1950s and 1960s. (1979 Speech)
A Journey to Learn Valuation
I will first focus on how to value growth stocks. There is no promise that we will discover an answer, but we will study the investing greats and their original comments to find our way. Many “great” or famous investors have floundered on the shoals of growth investing. Like Bill Miller: http://executivesuite.blogs.nytimes.com/2008/09/08/bill-millers-really-bad-bet/.
Humbly, we begin by studying the problem of using high and PERPETUAL growth rates when valuing a business. When g is = to r, the result is an absurdity.
The Dividend Discount Model
D1 (Estimate of next year’s dividend) = Current annual dividend * (1 + g)
r (Required Rate of Return for the Stock) = Real Risk Free Rate + (Market Return – Real Risk Free Rate) * Beta of Stock
Real Risk Free Rate = 52-Week T-Bill Yield**
Market Return = Estimate for the stock market’s return in the next year
g (Dividend Growth Rate) = Estimate for the stock’s dividend growth rate (you may calculate g by using the growth of the dividend in the past)
** 52-Week T-Bill Yield – You can find the yield by going to the U.S. Treasury Direct website, selecting the most recent year under auction date > 52-week bills > PDF of the latest auction results.
The Petersburg Complex
This paper by David Durand is a famous article that Ben Graham refers often to in his writings. Growth Stocks and the Petersburg Paradox. If you read only one article from this post, read that. To emphasize the importance of the above article, here is where others have analyzed the article St Petersburg Paradox and Tech Stocks 2000 and St Petersburg Paradox.
The Dangers of Applying Discounted Cash Flow Models
………….NEXT I will post Graham’s discussion on valuing growth stocks.
Just Show ME the Money
One of my favorite blogs: www.greenbackd.com
am was a serious chocaholic. After robbing a candy store, I tried to gobble down the evidence as the cops closed in. How was I ever going to stop my fixation on dark, rich, creamy chocolate and replace my bad habits with healthier ones?
“Chains of habit are too light to be felt until they are too heavy to be broken.” –Warren Buffett
To learn more about habits:http://charlesduhigg.com/
An excellent 3.5 minute video on the power of habits: http://www.youtube.com/watch?v=a6p3lG9EDXw&feature=related
The author’s words: What sparked your interest in habits? I first became interested in the science of habits eight years ago, as a newspaper reporter in Baghdad, when I heard about an army major conducting an experiment in a small town named Kufa.
The major had analyzed videotapes of riots and had found that violence was often preceded by a crowd of Iraqis gathering in a plaza and, over the course of hours, growing in size. Food vendors would show up, as well as spectators. Then, someone would throw a rock or a bottle.
When the major met with Kufa’s mayor, he made an odd request: Could they keep food vendors out of the plazas? Sure, the mayor said. A few weeks later, a small crowd gathered near the Great Mosque of Kufa. It grew in size. Some people started chanting angry slogans. At dusk, the crowd started getting restless and hungry. People looked for the kebab sellers normally filling the plaza, but there were none to be found. The spectators left. The chanters became dispirited. By 8 p.m., everyone was gone.
I asked the major how he had figured out that removing food vendors would change peoples’ behavior.
The U.S. military, he told me, is one of the biggest habit-formation experiments in history. “Understanding habits is the most important thing I’ve learned in the army,” he said. By the time I got back to the U.S., I was hooked on the topic.
How have your own habits changed as a result of writing this book? Since starting work on this book, I’ve lost about 30 pounds, I run every other morning (I’m training for the NY Marathon later this year), and I’m much more productive. And the reason why is because I’ve learned to diagnose my habits, and how to change them.
Take, for instance, a bad habit I had of eating a cookie every afternoon. By learning how to analyze my habit, I figured out that the reason I walked to the cafeteria each day wasn’t because I was craving a chocolate chip cookie. It was because I was craving socialization, the company of talking to my colleagues while munching. That was the habit’s real reward. And the cue for my behavior – the trigger that caused me to automatically stand up and wander to the cafeteria, was a certain time of day.
So, I reconstructed the habit: now, at about 3:30 each day, I absentmindedly stand up from my desk, look around for someone to talk with, and then gossip for about 10 minutes. I don’t even think about it at this point. It’s automatic. It’s a habit. I haven’t had a cookie in six months.
What was the most surprising use of habits that you uncovered? The most surprising thing I’ve learned is how companies use the science of habit formation to study – and influence – what we buy.
Take, for example, Target, the giant retailer. Target collects all kinds of data on every shopper it can, including whether you’re married and have kids, which part of town you live in, how much money you earn, if you’ve moved recently, the websites you visit. And with that information, it tries to diagnose each consumer’s unique, individual habits.
Why? Because Target knows that there are these certain moments when our habits become flexible. When we buy a new house, for instance, or get married or have a baby, our shopping habits are in flux. A well-timed coupon or advertisement can convince us to buy in a whole new way. But figuring out when someone is buying a house or getting married or having a baby is tough. And if you send the advertisement after the wedding or the baby arrives, it’s usually too late.
So Target studies our habits to see if they can predict major life events. And the company is very, very successful. Oftentimes, they know what is going on in someone’s life better than that person’s parents.
I recommend reading The Power of Habit : Why We Do What We Do in Life and Business by Charles Duhigg: http://www.amazon.com/The-Power-Habit-What-Business/dp/1400069289/ref=sr_1_1?ie=UTF8&qid=1340109798&sr=8-1&keywords=the+power+of+habit
Obviously we seek to learn from other great investors, but how to incorporate their habits as part of our own?
The power of mental habits for investing: http://marktier.com/Excerpts/chap01-01.php
I asked what we could do with $100 if held for 25 years. The best performing stock since 1987 is Fastenal (FAST), a nuts and bolts distributor. The high and low for FAST after its IPO in 1987 was 38 to 20 cents. FAST traded at 20 cents after the 1987 crash but let’s say we take a rough mid-point of 30 cents per share. NOT INCLUDING DIVIDENDS, you would have compounded your funds at a 22.2% rate or turned your $100 into $15,000 so far.
Look at the beautiful financials on the above compounding machine: FAST_VL and FAST_MORN. Read the President’s Letters to Shareholders: President’s Letters: http://investor.fastenal.com/letters.cfm. Read the past four letters in sequence 2008 – 2011. Are you clear about what the company does, its goals, strategies and how its management allocates capital?
What’s the point except for hindsight bias and to make us jealous. I was aware of Fastenal during the 2009 crisis but had always dismissed investing in Fastenal due to its “high” P/E multiple. Yet, during 2009, the company kept investing in its operations while the price dropped to 13xs to 14xs normalized non-growth cash flow per share. What would stop the company from growing or taking continuing market share due to its competitive advantages of scale, low-cost, and reach? I missed this opportunity in 2009. Investing is simple, but not easy.
Don’t YOU make the same error. Study great companies so you have an awareness of what greatness is and be ready when opportunity knocks on your door.
But what can you use now to help you find such companies? Buffett once said that compounding was the eighth wonder of the world. http://www.buffettsecrets.com/compound-interest.htm
Companies that can earn high returns on capital while also redeploying capital back into their businesses while continuing to earn high rates are indeed special. Buffett said he understood the chewing gum market (Wrigley) or the soda market (Coke) better than Microsoft (MSFT). Look for businesses doing extraordinary thing in prosaic industries where the need and demand won’t change much while the company can strengthen its competitive advantages through scale and customer captivity.
To Win Big, It Helps to Be a Little “Nuts”
Wednesday April 18, 2012 |
Here’s a simple question for all you students of business success and stock-market returns: What has been the best-performing stock in the United States since the “Black Monday” crash of 1987? If you said Apple or Microsoft or Walmart or Berkshire Hathaway, you’d get credit for a reasonable answer. But you’d be wrong. The best-performing stock in the United States over the last 25 years is a company that most of you, I’d be willing to guess, have never heard of — a company called Fastenal, based in the quiet town of Winona, Minnesota (population: 28,000), located on the banks of the Mississippi River 30 miles northwest of La Crosse, Wisconsin.
In what glamorous, high-margin, cutting-edge business has Fastenal made its mark? Not software, healthcare, or aerospace. Fastenal is the country’s dominant distributor of nuts and bolts. That’s right…If you’ve got the proverbial screw loose, if you’re a major construction company or a small contractor or individual homeowner desperate for an exotic nut or bolt to complete a job, Fastenal is where you turn.
According to a recent article in Bloomberg BusinessWeek, the company has more than 11,000 sales people in 2,600 stores along with an online catalogue that extends for 10,700 pages. It also has more than 5,500 “fully customized and automated Fastenal stores” on job sites and at customer locations — essentially, vending machines for nuts and bolts. The result of this overwhelming reach is truly overwhelming business performance. According to BusinessWeek, the company’s share price is up 38,565 percent since October 1987. Microsoft, by contrast, is up less than 10,000 percent over that same period (still not bad!), and Apple is up by 5,500 percent.
What’s the lesson to draw from Fastenal’s growth and prosperity? I suppose you could wax rhapsodic about the virtues of low-tech components in a high-tech age, and remind yourself that not every growth company is based in Silicon Valley or some other Internet hotspot. But the real lesson is more universal than that. The Fastenal story reminds all of us of the power of making big bets and staking out an “extreme” position in the market — in this case, offering a wider variety of products through more channels at a greater number of physical and virtual locations than anyone else in the business.
Fastenal has thrived because it has carved out a truly one-of-a-kind presence in its field. As its founder, Bob Kierlin, told BusinessWeek, “It was the craziest thing to ask people to invest in a company selling nuts and bolts” — especially one that aspired to sell anything to anyone virtually anywhere. But as it turns out, if you want to win big, it helps to be a little, ahem, nuts.
That’s a lesson I’ve learned over and over as I’ve studied hugely successful companies in brutally tough industries. It’s just not good anymore to be “pretty good” at everything. The most successful companies figure out how to become the most of something in their field — the most elegant, the most simple, the most exclusive, the most affordable, the most seamless global, the most intensely local. For decades, so many organizations and their leaders got comfortable with strategies and practices that kept them in the “middle of the road” — that’s, in theory, where the customers were, that’s what felt safe and secure. But today, with so much change, so much pressure, so many new ways to do just about everything, the middle of the road has become the road to nowhere.
Just to be clear, being the “most of something” doesn’t have to mean being the biggest or most dominant player in your field. It means being the most deeply committed to a one-of-a-kind strategy and a distinctive presence in a world in which most companies and their leaders are content with doing business more or less like everyone else. As Jim Hightower, the colorful Texas populist, is fond of saying, “There’s nothing in the middle of the road but yellow stripes and dead armadillos.” To which we might add companies and their leaders struggling to stand out from the crowd, even as they play by the same old rules in a crowded marketplace.
One of my favorite bankers in the world, Vernon Hill, who created the one-of-a-kind Commerce Back several decades ago (which he sold to Canada’s TD Bank for a cool $8.5 billion), and is now creating the truly unique Metro Bank in London (the first new bank launched in London in 138 years), has a simple reason for why he strives to become the most of something among banks — in his case, not the biggest, but the most colorful, the most entertaining, the most intensely focused on service and convenience. “Every great company,” he likes to say, “has redefined the business that it’s in. Even though I was trained as a banker, I don’t think like a banker. I do things that conventional bankers think are nutty.”
What goes for nutty bankers goes for retailers selling nuts and bolts. If you want to win big, you have to stand for something special — whether that’s the widest selection and most comprehensive reach, or the most focused offerings and most memorable service. There are countless ways to design the kind of unique profile and strategic presence that Fastenal has in its business and Vernon Hill has in his business. All it requires is a commitment to originality, a willingness to challenge convention and break from standard operating procedure, that remains all-too-rare in business today, precisely because it can look a little “nutty” to the powers-that-be.
If you do business the same way everyone else in your field does business, why would you expect to do any better? So ask yourself: What are you the most of in your business — and how do you become even more of that?
According to a recent article in Bloomberg BusinessWeek:
There’s no shame in not knowing the top-performing stock since the crash of ’87. It’s neither Apple (AAPL) nor Microsoft (MSFT), and deprived of the obvious candidates, most people draw a blank. That includes Bob Kierlin. When told that the answer is actually Kierlin’s own company, Winona (Minn.)-based hardware supplier Fastenal (FAST), the 72-year-old founder responds with typical Midwestern understatement: “Oh, wow. Gee. Well, thanks. That’s great news.”
Kierlin, 72, surely knows how well his stock has done: He owns 13.6 million shares, now worth almost $700 million. In the past quarter-century, Fastenal is the biggest gainer among about 400 stocks in the Russell 1000 index that have been trading for at least 25 years, surging 38,565 percent, not including dividends, according to data compiled by Bloomberg. Adjusting for splits, the stock has gone from 13¢ on Oct. 19, 1987, to $50.85. It gained 60 percent over the past year.
Fastenal edged out UnitedHealth Group (UNH), whose stock gained 37,178 percent and far outstripped Microsoft’s 9,906 percent, Apple’s 5,542 percent, and the Standard & Poor’s 500-stock index’s 506 percent. Not bad for a company that literally sells nuts and bolts. “I can understand the disbelief,” says Jonathan Chou, a vice president at mutual fund company T. Rowe Price Group (TROW), which started buying Fastenal stock many years ago and now owns a 12 percent stake in the company.
Chou attributes Fastenal’s success to its stranglehold on the fastener-supply business: There is simply no other distributor that offers so many products in so many locations. The company has 2,600 stores that serve retail and wholesale customers, while its biggest rival, W.W. Grainger (GWW), has 450. Fastenal’s 11,000-plus sales force is technically sophisticated and responsive to customers, Chou says. The company also boasts the kind of scale that allows it to buy hundreds of thousands of items at low-cost from suppliers around the globe.
Fastenal’s website lists 17 categories of fasteners spanning 10,701 pages. Click on bolts, and you’ll see 18 subcategories across 2,471 pages. The breadth of offerings is an almost insurmountable barrier to competitors. “It would be very difficult to replicate this type of product assortment,” says Chou. “The economic moat in this business grows as Fastenal grows.”
While Fastenal’s products may be mundane, companies can’t live without them. “What Fastenal stocks and sells is essential,” says Morningstar (MORN) analyst Basili Alukos. “If you don’t have enough or the right kind, your plant will shut down. Factories are willing to pay a huge convenience premium to a single distributor that can make sure their supply is safe.”
Kierlin says that the idea for a store that offered a vast variety of nuts and bolts—threaded fasteners, as they’re known in the trade—came from his childhood. His father’s auto parts shop was across the street from Winona’s main hardware store. Customers, Kierlin says, kept bouncing between the stores to order hex-cap screws, axle nuts, and cotter pins. In 1967, one year after he returned from a stint with the Peace Corps in Venezuela, that memory inspired him. “Here I’m thinking,” he recalls, “why can’t you have a store that sells everything?”
Originally he thought to sell the fasteners in cigarette pack-size boxes from vending machines placed around town. When he found that no machine could hold enough boxes, Kierlin resolved to raise money to start a conventional store. “It was the craziest thing to ask people to invest in a company selling nuts and bolts,” he says. Even so, Kierlin persuaded four high school friends to chip in a total of $30,000 to found Fastenal. “We didn’t have a lawyer,” he says. “We tried to do it on the cheap.” One of his pals vetoed Kierlin’s preferred name—Lightning Bolts.
Fastenal’s first delivery vehicle was a banged-up Cadillac Coupe de Ville that always veered to the right. The company’s first office desk was a wooden rolltop Kierlin bought for $25 from a laundry that had gone out of business. The original shop had 1,000 square feet on one floor, plus a similarly sized basement (rent was $50 a month) and was lined with kegs that each held 5,000 nuts or screws. When that store filled up, Kierlin rented seven residential garages around Winona and bought 30,000 surplus cardboard toothpaste cartons to hold hardware. “Had you visited our stores in that era,” says Kierlin, “you would have thought we were selling toothpaste rather than fasteners.”
By 1987, Fastenal had 45 stores, mostly in small and midsize towns, and the owners decided to take it public. The stock started trading in August 1987, two months before the market crashed. While the company’s shares fell about 20 percent in the rout, it made up most of that loss by the end of the year. Fastenal had 250 employees at its initial public offering and allocated 100,000 of the offering’s 1 million shares to its employees. Kierlin and his partners also earmarked proceeds to set up an educational foundation for their alma mater, Cotter High School. The company estimates that it provides about $100 million a year to Winona (population 28,000) in employee compensation and dividends paid to local shareholders.
Today, Fastenal has a market value of $15 billion. Net income grew to $358 million in 2011 from $6.4 million in 1990; revenue climbed to $2.77 billion from $52 million. It has stores in all 50 states and has also moved into Mexico, Canada, Central America, Asia, and Europe, often by setting up facilities near U.S. customers that are expanding in those markets. And it finally rolled out a version of that vending machine Kierlin dreamed up 45 years ago, pitching it as a “fully customized and automated Fastenal store within the customer’s location.” Fastenal installed nearly 5,505 of them last year.
None of this means that Fastenal’s stock will keep scorching the market. Charles Carnevale, chief investment officer of EDMP, a money manager in Lutz, Fla., calculates that Fastenal’s shares now trade at 42 times the previous 12 months’ earnings, more than double the company’s expected earnings growth of 19 percent. He also thinks Fastenal’s dividend yield of 1.3 percent is too low. “Fundamentals,” he says, “don’t compensate for the risk.”
That doesn’t bother Kierlin. He says that for all of its success, Fastenal has less than 3 percent of a $150 billion U.S. market, giving it plenty of room to boost sales. And he’s excited that demand for its vending machines is torrid. Fastenal is growing even faster overseas than it is domestically, he adds, so “the best years are still ahead.”
The bottom line: Launched with $30,000, Fastenal has grown into an industry giant with 2,600 stores and a $15 billion market value–over a 5,000 to 1 return so far.
How management affects moats: http://www.youtube.com/watch?v=bQkcT0hSzY0&feature=relmfu
It is better to invest in a great business. Common attributes of management teams that have built or destroyed competitive advantages. A view of businesses along the commoditization spectrum–Oil service businesses to Disney. Management has more influence on a commoditized business. Ask whether management understands what drives the moat.
Wal-Mart’s laser-focus on low price.
Strayer Education—has a focus on educational quality. Focus on key metrics of the business.
Always widen the moat. Don’t deworsify. ADP’s bad acquisitions.
Value or Value Trap: http://www.youtube.com/watch?v=kTw7by4Z8As&feature=related
Annual report forensics: http://www.youtube.com/watch?v=_hg1MEltp58&feature=relmfu
How Buffett identifies a good investment: http://www.youtube.com/watch?v=14SK4CX_KYY
Buffett says, “Throw at my head”: http://www.youtube.com/watch?v=2a9Lx9J8uSs&feature=related What Buffett looks for in an investment–the chewing gum market. I want to know about what the economics of the business will look like in ten years.
http://brooklyninvestor.blogspot.com/2011/09/directory-of-posts-on-ideas.html A value investor who seeks the nooks and crannies of the market. Some excellent articles found here.