Tag Archives: GMO

Reading for this weekend


Bubble Watch



Momentum Stocks Crushed

Momentum Crush


Buffett Notes


http://covestreetcapital.com/Blog/?p=1173    Icahn slams Buffett on his cowardice.

Warren-Buffett-Katharine-Graham-Letter on Pensions 1975


Buffett1984Retail Stores and Clean Surplus






And in case of Buffett overdoseCrony Capitalist

Resource StocksRules of Thumb for Junior Mining Speculators and A Light at the End of the Tunnel

LBO List Search Strategy

Highlight Reel

All corporate growth has to funnel through return on equity. The problem with growth companies and growth countries is that they so often outrun the capital with which to grow and must raise more capital. Investors grow rich not on earnings growth, but on growth in earnings per share. There is almost no evidence that faster-growing countries have higher margins. In fact, it is slightly the reverse.  (CHINA!)

For there to be a stable equilibrium, assets, including entire corporations in the stock market, must sell at replacement cost. If they were to sell below that, no one would invest and instead would merely buy assets in the marketplace cheaper than they could build themselves until shortages developed and prices rose, eventually back to replacement cost, at which price a corporation would make a fair return on a new investment, etc.

The history of market returns completely supports this replacement cost view. The fact that growth companies historically have underperformed the market – probably because too much was expected of them and because they were more appealing to clients – was not accepted for decades, but by about the mid-1990s the historical data in favor of “value” stocks began to overwhelm the earlier logically appealing idea that growth should win out. It was clear that “value” or low growth stocks had won for the prior 50 years at least. This was unfortunate because the market’s faulty intuition had made it very easy for value managers or contrarians to outperform. Ah, the good old days! But now the same faulty intuition applies to fast-growing countries. (www.gmo.com  4th qtr. 2012 letter)

Value Investing News and Links

Don’t forget to go to www.grahamanddoddesville.com and www.santangelsreview.com for their FREE value investing news emails. I would immediately go on a suicide watch if they ever stopped sending me their great links. SIGN UP! Oh, and visit their blogs as well. Both writers are thoughtful observers of the investment world.

10,000 hours: https://www.santangelsreview.com/2013/02/03/10000-hours-of-deliberate-practice/


Charlie Munger: http://www.marketfolly.com/2013/02/notes-from-charlie-mungers-daily.html

Baupost Letter Summary: http://www.institutionalinvestorsalpha.com/Article/3152364/Baupost-Navigates-a-Tough-Yet-Still-Profitable-2012.html

Where Are We Now?  Ebullient

Shall We Dance Now: http://www.hussmanfunds.com/wmc/wmc130211.htm



Don’t forget the trade cycle: http://www.forbes.com/sites/michaelpollaro/2012/04/27/the-bernanke-bust-the-why-how-and-when/

An Excellent Book on the Trade Cycle (Prepare for the Bernanke Bust to Be….could be a month or years?) Austrian Trade Cycle

Why the real economy is so feeble: An economy built on an illusion is hardly a sound structure



Note what Einhorn says about Apple’s excess cash.  Note also that the junk bond market is ebullient, so as night follows day, expect some buyouts–LBOs or MBOs (Dell). One search strategy might be to find companies with steady free cash flows and strong (underleveraged) balance sheet and wait ahead of the buy out announcements–owning a group of 5 to ten names.

Grant’s Feb. 8, 2013 issue quotes Bloomberg on Jan. 31:

With exclusive brands that help build customer loyalty and a FCF yield that is higher than the median of its peers, Kohl’s could be an attractive buyout candidate for a private equity firm…..The company’s real estate also adds to its appeal…. Kohl: KSS_VL 2013

But I think Coach (COH) is an even better candidate: COH_VL_Feb 2013 with its higher, more consistent returns and excess cash.

Build your list because Mr. Ben Bernanke wants the $360 billion in committed unspent capital dedicated to buyout funds (Bloomberg estimate) to be spent.  Source: www.grantspub.com

Then sit back and ….lobster or the cracked crab?





Value Investors’ Second Quarter Commentaries; Letter to Buffett

Second Quarter Manager Commentaries



Weitz Annual Leter 2012

Weitz Value on Valeant Unique Pharmaceutical Company; owned also by Sequoia

Tweedy BrowneTweedy_Fund_CommentaryQ_2

FPA: crescent-2012-q2-final

Davis Funds: Davis Funds 2011 Annual Report

Third Avenue Funds: TAF 2012 Semi Annual Report and Shareholder Letters  A good read for those interested in asset based investing. Marty discusses corporate finance.

Letter to Buffett

Reisman letter to Buffett  An interesting rebuke to Buffett’s demand to raise taxes on the rich (the result being a punishing loss for poor people due to less capital in the hands of private enterprise to raise productivity) and Buffett’s misunderstanding of his role as an investor in society.

Reisman’s main work: http://mises.org/document/1006/ Capitalism is also in the VALUE VAULT under Austrian Economics

You may disagree but interesting nonetheless.

Affirming the Case for Quality (GMO White Paper); Share Repurchases

Quality Companies are often under appreciated by investors

I hope my wretched scribbling will help your investing journey. We want to learn from the lessons all around us. Study failure so as not to pay a high tuition for knowledge and study success so as to develop your own investment method.  Yes, it is fun to point out the disasters like Sunpeak Ventures (SNPK)—nothing but a “pump and dump”—yet focusing on great companies is more valuable, yet less popular than you might think. Your time is best spent understanding and investing in great companies—either hidden champions that are emerging or dominate hidden niches or great franchises with dominant moats.  This is why I try to write often about competitive advantage, franchises, and quality businesses.

Here is a GMO White Paper (June 2012) that affirms the case for quality. Companies with high and stable profits (KO, PEP, EXPD, M, and GOOG) tend to have lower bankruptcy risk, lower leverage and generally higher returns compared to risk of loss. Please read carefully: GMO_WP_-_2012_06_-_Profits_for_the_Long_Run_-_Affirming_Quality

Ben Graham argued that real risk was “the danger of a loss of quality and earning power through economic changes or deterioration in management.”

The returns earned by stock investors are entirely a function of the underlying corporate profits of the stocks held in a portfolio.  Note the focus that Buffett has placed on knowing where a business will be in five to ten years—a chewing gum company versus a high tech start-up). As he says, “We favor businesses and industries unlikely to experience major change…operations that….are virtually certain to possess enormous competitive strength ten or twenty years from now. A fast changing industry environment may offer the chance for huge wins, but it precludes the certainty we seek.”

Oligopolies tend not to revert—note the persistence of corporate profitability of companies that operate within corporate barriers.

Look at the stability of companies like Tootsie Roll and WD-40. Tootsie Roll (Tootsie Roll_VL) has slowly declining returns on capital but it is shrinking its capital structure. Note the low price variability. Everyone knows about WD-40 (WDFC) (lubricant oil) and Tootsie Roll (candy)—the products will not disappear in the customers’ minds nor become obsolete.

Note on page 4 of the GMO White Paper: While it has become conventional wisdom that the market misprices price-based risk factors like low beta outperforms high beta, we find that it also misprices fundamental risk. . Companies that report negative net income underperform the market by a whopping 8% per annum. The market overpays for risk at the corporate level in much the same way that it overvalues the risk of high beta stocks. Conversely investors had historically underpaid for the low risk attributes of high quality companies.  To us (GMO), investing in Quality companies simply exploits the long-term opportunity offered by the predictability of profits in conjunction with the market’s lack of interest in the anomaly. Their predictability higher profits are not quite high enough to command the attention of a market in thrall to the possibility of the next big jackpot. 

Lesson: focus on quality companies to find better returns for lower risk.

Radio Show on Quality Stocks

For beginners and (those who are willing to sit through or skip the commercials), there are discussions about high clean-surplus ROE companies here: http://www.buffettandbeyond.com/radio.html

More on corporate buybacks

Assessing Buybacks from all Angles_Mauboussin


Tomorow I will post the prize to all those who lent their wisdom to: http://wp.me/p1PgpH-Qw

Whatever Happened to the “Peak Oil” Headlines?

Perhaps the law of supply and demand got in the way……….The Myth of Peak Oil (2005 Article) http://mises.org/daily/1717

But we need to remember a few things.

First, whatever ends up replacing petroleum will come in its own good time, later than we’d like but probably sooner than we expect. It will come because it stores energy and power better than gasoline does and more cheaply to boot. It will come with some tremendous benefits and some unfortunate drawbacks. Consider as you lament the evils of crude oil: the fairly accidental discovery of kerosene and expansion of the refining process in the second half of the 19th century saved whales from an early mass extinction while at same time making nighttime light and winter heat affordable to even the most impoverished parts of Asia, Africa and Latin America. Gasoline itself was originally a waste product, largely unused until the invention of the internal combustion engine, and automobiles made for cleaner streets (no more manure) and safer farm equipment, given that farmers no longer had to wrestle with motors that had minds of their own. Kerosene itself languished as an unloved byproduct of refining for several decades until the invention of the jet engine.

Second, that new fuel will probably not come as the result of government-sponsored research. Government efforts to target new development – whether hydrogen fuel cells, hybrid engines, coal gasification, ethanol subsidies – may contribute some, but the kind of thinking and investing needed to find or make that new fuel probably cannot be done by government bureaucrats, scientists or regulators, who can only think incrementally and usually only consider efficiency and conservation, rather than entirely new ways of doing things.

I don’t necessarily trust technology, but I do trust human ingenuity. Civilization as we know it will grind to a halt without the energy we derive today from crude oil, and that’s in and of itself is motivation enough to make sure that future energy is widely available at prices people can afford.

Warnings from the recent past:


“Peak oil is now.” German Energy Watch Group 2008

“By 2012, surplus oil production capacity could entirely disappear.” U.S. Department of Defense 2008 & 2010.

“A global peak is inevitable. The timing is uncertain, but the window is rapidly narrowing.” UK Energy Research Centre -2009

“The next five years will see us face the oil crunch.” UK Industry Taskforce on Peak Oil and Energy Security 2009

Natural gas is a diminishing resource as well and cannot satisfy the growing demand for energy. US Gas supplies were so low in 2003 after a harsh winter that to preserve life and property supplies were close to being cut off to manufacturers, electric plants and lastly homes.

Julian Simon Debunked the Peak Energy Hogwash


As resource economist Julian Simon taught us years ago, we never have, and never will, run out of scarce resources like oil because as a resource becomes more scarce, its price will rise, which will set in motion a series of actions that will counteract the scarcity. For example, higher prices for oil will increase the incentives to: a) find more oil, b) conserve on the use of oil, and c) find more substitutes. And that’s exactly what’s happened recently in response to higher oil prices – domestic crude oil production reached a 14-year high in March, and the share of rigs drilling for oil (vs. natural gas) set a new record high of 70% last week.

From a blog: Peak Idiocy

Of all the idiotic things that people believe, the whole “peak oil” thing has to be right up there. It is literally impossible for us to run out of oil. We have never run out of anything, and we never will.

If we did start to use up the oil we have…(though, counting shale oil, we still haven’t used even 10% of the total KNOWN reserves on earth, and there are lots of places we haven’t looked)…but suppose we were on our way to using it up. Three things would happen.

1. Prices would rise, causing people to cut back on use. More fuel efficient cars, better insulation on houses, etc. Quantity demanded goes down.

2. Prices would rise, causing people to look for more. And they would find more oil, and more ways to get at it. Quantity supplied goes up.

3. Prices of oil would rise, making the search for substitutes more profitable. At that point (though not now!) alternative fuels and energy sources would be economical, and would not require gubmint subsidies, because they would pay for themselves. The supply curve for substitutes shifts downward and to the right.

This is econ 101. Even Paul (“I sold my soul to become a wanker”) Krugman would credit this scenario.

But we ignore econ 101. And so we get this debacle. Ethanol was bad enough when it was just inefficient to produce and wasting more energy than it created. But we actually went further and bought too much of the stuff.


….and today North Dakota is in an energy boom as energy supply grows: http://mjperry.blogspot.com/2012/06/dakota-model-booming-north-dakota-led.html

Even Investment Gurus like J. Grantham of GMO Fall Prey to the “Peak” Resources Theory


Whenever you hear “Peak” this or that just listen to this:http://www.youtube.com/watch?v=ix62PttEfhU 

Don’t Believe the hype; never ignore the laws of economics

Corporate Profits and Reversion to the Mean

Stein was the formulator of “Herbert Stein’s Law,” which he expressed as “If something cannot go on forever, it will stop,” by which he meant that if a trend (balance of payments deficits in his example) cannot go on forever, there is no need for action or a program to make it stop, much less to make it stop immediately; it will stop of its own accord.[2] It is often rephrased as: “Trends that can’t continue, won’t.”






Go read the full post on corporate profits here: http://scottgrannis.blogspot.com/2012/03/corporate-profits-continue-to-impress.html

Perhaps the market is already anticipating a reversion to the mean:






James Montier of GMO emphatically says reversion is inevitable. However, does that mean stocks will decline?




Efficient Market Theory

Does anyone think EMT–say it fast five times as loud as you can, what do you hear–is like the BLACK KNIGHT?http://www.youtube.com/watch?v=dhRUe-gz690

No matter what the evidence or facts against the theory, it is only a flesh wound?

Economics: Synopsis of Euro Crisis; Growth in US Money and Banking Reserves…Interesting Reading

The most expressive market is the one the one that the Fed isn’t overtly manipulating. Though Treasury yields might as well be frozen, the gold price is soaring. Why has it taken flight–not on account of an inflation problem. Gold is appreciating in terms of all paper currencies–or, alternatively paper currencies are depreciating in terms of gold–because the world is losing faith in the tenets of modern central banking. …..Gold is hard to find and costly to produce. You can materialize dollars with the tap of a computer key.–James Grant (Wall Street Journal, Dec. 5, 2009)

Monetary Policy seems extremely accommodating

Check here for the latest Federal Reserve monetary statistics: http://www.federalreserve.gov/releases/h3/current/

Fed reserves are rising across the board, excess reserves, required reserves, non-borrowed reserves, total reserves and the monetary base are increasing. Last month required reserves are up 5%–an annualized rate of 60%.

Watch what Mr. Bernanke does. This data indicates that the rising prices in the commodities market and in the U.S. stock market are going to continue. The manipulated (nominal prices) economy will be strong as well.

The developing price-inflation is going to surprise everyone traditional economists and Wall Street pundits but not YOU. www.economicpolicyjournal.com


A good synopsis of the cause and effects of the Euro Crisis.


The problems of the eurozone are ultimately malinvestments. In Greece these days the struggle continues about who will ultimately foot the bill for these investments. During the early 2000s an expansionary monetary policy lowered interest rates artificially. Entrepreneurs financed investment projects that only looked profitable due to the low interest rates but were not sustained by real savings. Housing bubbles and consumption booms developed in the periphery.

In 2007 the bubbles began to burst. Housing prices started to stagnate and even to fall. Homeowners and builders started to default on their loans. As banks had financed and invested into these malinvestments, they suffered losses. After the collapse of the investment bank Lehman Brothers interbank lending collapsed and governments intervened. They bailed out banks and, thereby, assumed the losses of the banking system resulting from the malinvestments.

As malinvestments were socialized, public debts soared in the eurozone. Furthermore, tax revenues collapsed due to the crisis. At the same time, governments started to subsidize industrial sectors and unemployment.

Moreover, even before the crisis, governments had accumulated malinvestments due to their excessive welfare spending. Two causes had incentivized social spending in the periphery. The first cause is low interest rates. These low interest rates were caused by an expansionary monetary policy by the European Central Bank (ECB) and the single currency in itself. The euro came with an implicit bailout guarantee. Market participants expected stronger governments to bail out weaker ones in order to save the political project of the euro if worse came to worst. The interest rates that the Italian, Spanish, Portuguese, and Greek governments had to pay came down drastically when these countries were admitted into the euro. The low interest rates gave these countries leeway for deficit spending.

The second cause is that the euro is a tragedy of the commons, as I explain in my (Philipp Bagus) book The Tragedy of the Euro.

Of Interest

A fair bet? http://www.youtube.com/watch?v=mhXJcfczNIc

Jeremy Grantham pontificates: http://www.gmo.com/websitecontent/JGLetter_LongestLetterEver_4Q11.pdf

Postscript: I will work on answering readers’ questions this weekend. Thanks for your infinite patience.