Book review: Investing through the looking glass

Tags

, , ,

In this book, Tim Price starts by explaining the problems the investing world faces. The backdrop of these problems is diverse:

  • Banks failed in their traditional role of prudently accepting deposits and extending loans; we should let banks fail.
  • Central banks are compounding financial crises by implementing flawed monetary policies: QE, ZIRP, NIRP, etc.
  • Economists and financial theorists provide no useful scientific advice.
  • Fund managers are by and large asset gatherers and marketing machines.
  • The financial media exists to monetise airtime and column inches.
  • Bonds are uninvestible and you need an edge to do well with stocks.

Throughout the book, the author challenges a number of misconceptions and replaces them by more relevant alternatives.

Misconception Better alternative
Keynes’ metaphor of the economy as a machine The Austrian School sees entrepreneurial trial and error as essential; economic planning is virtually impossible
Risk = volatility Risk = permanent loss of capital
Markowitz’ Portfolio Selection Mandelbrot: markets are riskier, misleading and follow a power law
Asset gatherers, who aim to maximise assets by keeping funds open and constantly experimenting with new funds, represent smart money Look for boutique asset managers who limit their AuM to protect performance, invest their own money, and are owner managed
Financial media provide new, up-to-date, useful narrative in real time to explain the prevailing situation Jason Zweig: “My role is to write the exact same thing between 50 and 100 times a year in such a way that neither my editors nor my readers will ever think that I am repeating myself.”

In the second part of the book, Tim Price offers 3 solutions for private investors: value investing, trend-following strategies, and gold.

1. Value investing. The author builds on classic Graham metrics that work, as analysed by O’Shaughnessy. A look at the VT Price Value Portfolio shows that Price currently sees value in Japan and Vietnam (together they account for over 50% of the fund). A large part of the Japanese investments are done through Samarang Capital. Holdings like Fairfax (Prem Watsa) and Loews (Tisch family) are also well represented.

2. Trend-following strategies. Tim Price is fond of systematic trend-following, as it offers both performance (see page 182 for examples of successful firms) and de-correlation. The strategy has not performed well recently but the author remains confident in its merits. For more info, see here.

3. Gold. Given his criticism of monetary policies, it is not surprising that Tim Price likes gold and doesn’t view it as a “barbarous relic”. According to Price, “Gold is an insurance policy against both monetary and fiscal recklessness”.

In summary, the book gives a good overview of what’s wrong with the current state of investing, and offers 3 interesting solutions. As a lot of criticism is directed towards recent policies, I wonder how the views of the author are evolving in the era of Trumponomics.

 

Book review: Value Investing Makes Sense

Tags

,

Jean-Marie Eveillard is the legendary international value investor who managed the First Eagle Global fund from 1979 till 2009. He has a stellar track record, and avoided Japan in the late 1980s, TMT stocks in the late 1990s, and bank stocks prior to 2008. So I was excited when I found out that he’s sharing his thoughts in a new short book (available in English and in French here).

The book contains a mix of biographical episodes and investing wisdom, illustrated  by concrete stock examples (e.g., Shimano, Sodexo, Richemont, Essilor, Buderus, Kohler, Kuhne & Nagel). The key points that the author wants to make are simple: value investing makes sense and it works over time.

After explaining some classic value stuff – both the Graham and Buffett approaches – the author writes an interesting (unfortunately too short) chapter on special situations:

  • Preferred stock
  • Holding companies (to benefit from the double discount)
  • Spinoffs
  • Closed-end funds (again, the double discount)
  • High-yield bonds (when they offer equity type returns)

He also covers topics like Gold (in depth) and the Austrian School of economics.

A Frenchman who has been living in the U.S. for several decades, Eveillard’s style is direct (“nonsense”, “stupid”, “idiot”) but with a strong sense of humility. Indeed, he describes many mistakes he has made throughout his career (most of these “mistakes” like selling Richemont were still quite profitable…). His humility transpires especially when acknowledging the contributions of colleagues and other managers (e.g., Charles de Lardemelle, Omar Musa, the folks at Varenne Capital).

Some interesting quotes from the book:

  • On Swissair: “In general, I have tended to avoid investing in businesses run – directly or indirectly – by former or current consultants.”
  • On small, inexpensive in absolute terms, luxury goods: “How much Lindt chocolates or Champagne can one buy for the price of a BMW?”
  • “It’s best to stay away from investing in a company with too much debt, especially in a cyclical business.”

At times the book feels like a transcript of interviews (don’t expect the prose of a Howard Marks or Warren Buffett), which would benefit from further editing. Nevertheless, I’m happy to have Jean-Marie Eveillard as a new companion on my bookshelf.

<meta name="description" content="”/>

Book review: Misbehaving

Tags

,

I enjoyed Richard Thaler’s Misbehaving very much because (1) it’s a fun read, (2) it’s an interesting account of the development of economics, and (3) it includes deep investment insights.

A fun read

The book is full of anecdotes and funny stories. The author advised readers early on to stop reading the book when it is no longer fun (that would be misbehaving). I didn’t stop.

To illustrate the tone of the book, here is how Thaler explains the difference between the “sophisticated” rational models used by classical economists like Harvard’s Robert Barro, and his own “simple” models. “When Robert Barro and I where at a conference together years ago, I said that the difference between our models was that he assumed that the agents in his model were as smart as he was, and I assumed they were as dumb as I am. Barro agreed.”

Another one on the late Amos Tversky (the research partner of Daniel Kahneman), “who made possible a one-item IQ test: the sooner you realized Amos was smarter than you, the smarter you were.”

And on the “no trade theorem” or Groucho Marx theorem: “If everyone believes that every stock was correctly priced already – and always would be correctly priced – there would not be very much point in trading.”

Economics evolution

Thaler clearly explains the evolution in economic thinking, for instance with respect to the consumption function. Keynes used the marginal propensity to consume, Friedman proposed the permanent income hypothesis, Modigliani developed the life-cycle hypothesis, Barro established the Ricardian equivalence. Economists prefer “clever” models and hence adopted the most “sophisticated” versions, which assume that economic agents are extremely smart and fully conversant in economic theory and fiscal policy.

Through a variety of ingenious experiments and research, Thaler and other behavioral economists convincingly showed that Humans are not Econs (home economicus), that markets are not always efficient, and that nudging can be effective in public policy and elsewhere.

Investment insights

When behind, investors are more likely to gamble in an effort to break even.

The closed-end fund puzzle is perplexing, and creates interesting investment opportunities. See here for a paper Thaler co-authored on this anomaly.

Stockmarkets tend to overreact, as documented in a well-known paper by Thaler and De Bondt.

Arbitrage opportunities sometimes arise. In “Can the Market Add and Subtract” Lamont and Thaler document cases of equity carve-outs where the implied price of the “stub” is a large negative number (e.g., 3COM/Palm).

 

Brexit – selected resources after the vote

Tags

Brexit

Tags

The Economist: Divided we fall

Financial Times: Britain should vote to stay in the EU

Hugo Dixon: Why I’m voting for Remain

John Foley: Stay in, don’t stay still

Edward Chancellor: Why I vote for Brexit

The Times: Remaking Europe

Paul Krugman: Fear, loathing and Brexit

Anatole Kaletsky: Brexit’s impact on the world economy

Philippe Legrain: The economic consequences of Brexit

Brexit

 

10 highlights from the Berkshire Hathaway 2016 annual meeting

Tags

I always wanted to attend the Woodstock for Capitalists in Omaha but it never worked out. This year I could at least watch many hours of the event remotely, thanks to the webcast.

I summarize below my personal highlights, focusing on investments, and leaving aside other great pieces of wisdom on politics, science and broadly on life.

1. Investors are better off owning the S&P 500 than a portfolio of funds of hedge funds. The details of Buffett’s long-term bet can be found here. He’s happy to restart the bet today.

2. Beware of investing fads, the Wall Street marketing machine (e.g., IPOs). “You don’t want to play a stupid game just because it’s available”.

3. Stay away from flawed business models and from people with doubtful integrity. “If you’re looking for a manager, find someone who is intelligent, energetic and has integrity. If he doesn’t have the last, make sure he lacks the first two.”

4. Seek business with pricing power and little need for capital (e.g., See’s Candies, Moody’s) . I believe that some of the companies on my watchlist pass the test. Berkshire has been investing in capital-heavy business (railroads, utilities) because it needs to deploy huge amounts of capital.

5. Seek businesses with captive customers and exceptional managers (e.g., Precision Castparts).

6. Ask yourself how Amazon will disrupt your industry, especially if you’re a retailer. “You cannot out-Bezos Bezos”.

7. There is a potential floor in Berkshire’s share price as Buffett is ready to buy back a lot of shares if the price reaches 1.2x book value. Operationally, the reinsurance business is becoming tougher due to low yields and surplus capacity.

8. Berkshire sticks with its Big Four investments amid recent disappointments and criticism: Coca Cola has an enormous range of products; Wells Fargo is very well-managed and will benefit from rising rates; IBM has “certain strengths and certain weaknesses” ; American Express. “We can’t make a portfolio change every time something is a little less advantaged than it used to be.”

9. Buffett doesn’t have the faintest clue about long-term oil prices!!! Munger: “I’m even more ignorant than you are.”

10. Cash is an important asset but “a full wallet is like a full bladder, the urge is to very quickly pee it away.”

In praise of simplicity

Tags

,

I enjoyed reading the very good post “Simple vs Complex” by The Reformed Broker. It claims: “No one on earth will ever convince me that complexity is better than simplicity when it comes to investing”.

Indeed, it is striking to see how many investors, especially “sophisticated” ones, spend their time (and money) on complex investments.

Some of the favorite hedge funds stocks like Valeant definitely belong in my “too hard” pile. The same goes for leveraged commodity plays and unproven technologies.

Even though analyzing these companies is very intellectually stimulating, I prefer to put my money into simple businesses (look at how one investor has been successful with what he calls “boring value“).

I’ll check my watchlist to make sure that all the flagged ideas are simple enough.

Who said that simplicity is the ultimate sophistication?

 

Warren Buffett’s 2015 annual letter

Tags

,

I’m sharing below some notes I took while reading Warren Buffett’s latest annual letter.

On Berkshire’s listed holdings.

Berkshire increased its ownership interest last year in each of its “Big Four” investments – American Express, Coca-Cola, IBM and Wells Fargo. It purchased additional shares of IBM and Wells; the rest was achieved through buybacks. The letter does not include any reference the recent poor stock market performance of these stocks. “These four investees possess excellent businesses and are run by managers who are both talented and shareholder-oriented”.

Other notable purchases and increases: Phillips 66, U.S. Bancorp, Deere. Reductions / sales: Munich Re, DirecTV, Goldman Sachs.

On insurance.

In underwriting and more generally in investing, need to absolutely avoid the mindset of “The other guy is doing it, so we must as well”.

“GEICO’s cost advantage is the factor that has enabled the company to gobble up market share year after year.”

On the “Powerhouse Six”.

This group includes BNSF Railway, Berkshire Hathaway Energy, Marmon, Lubrizol, Iscar / IMC, and the latest entrant Precision Castparts. Some common traits include low cost (e.g., BNSF, Energy) and transforming very ordinary raw materials into extraordinary products (Iscar, Precision Castparts).

On 3G Capital.

“We share with them a passion to buy, build and hold large businesses that satisfy basic needs and desires. We follow different paths, however, in pursuing this goal. Their method, at which they have been extraordinarily successful, is to buy companies that offer an opportunity for eliminating many unnecessary costs and then – very promptly – to make the moves that will get the job done. […] We follow an approach emphasizing avoidance of bloat, buying businesses such as PCC that have long been run by cost-conscious and efficient managers.”

On accounting.

“When CEOs or investment bankers tout pre-depreciation figures such as EBITDA as a valuation guide, watch their noses lengthen while they speak”. Depreciation charges are almost always true costs.

“Our definition of coverage is the ratio of earnings before interest and taxes to interest, not EBITDA/ interest, a commonly used measure we view as seriously flawed.”

On the current stock market and the U.S. economy.

Don’t expect short term recommendations in these letters, but you can find a resolute confidence in American capitalism. “For 240 years it’s been a terrible mistake to bet against America, and now is no time to start. America’s golden goose of commerce and innovation will continue to lay more and larger eggs.”

 

 

Book review: Quality Investing

Tags

,

Quality Investing is a great guide for investing in wonderful companies for the long term.

The authors are portfolio managers at AKO Capital, supported by Prof. Lawrence Cunningham, who has compiled Warren Buffett’s letters and written Berkshire Beyond Buffett.

The authors identify three characteristics of quality companies: strong, predictable cash generation; sustainably high returns on capital; and attractive growth opportunities.

The main part of the book describes the features and patterns of quality investments, including an appealing industry structure, high-value customer benefits, competitive advantages like low-cost production.

The book contains around 20 helpful case studies of quality European companies. These include not only well-known consumer brands like Unilever, L’Oréal, Hermès, Diageo but also less obvious names, such as:

  • Svenska Handelsbanken, the only bank featured. This bank was already mentioned in the book Capital Returns reviewed here and analyzed in the Value and Opportunity blog.
  • Geberit, for its clever usage of “friendly middlemen” ie. plumbers (cfr. Legrand with electricians).
  • Assa Abloy, a successful bolt-on M&A dealmaker.
  • Ryanair, the low-cost champion.
  • Luxottica and Fielmann in the optical industry.

One of the four chapters is devoted to pitfalls, including technological innovation (Nokia), cyclicality (Saipem), good-enough goods (Nobel Biocare).

The text is well structured and very clear; the case studies bring the concepts to life.

According to Warren Buffett, investment students need only two well-taught courses: How to Value a Business, and How to Think about Market Prices. By providing the qualitative building blocks to identify great business, Quality Investing is a great book to support the first Buffett course. Highly recommended!