It’s a bold headline to be sure, and perhaps exaggerated, though not by much. This is also not an original view, but it helps to be reminded of it from time to time. The recent government shutdown and debt ceiling farce (er, I mean, crisis) have reminded me of it. During the last month or so of our National Lampoon’s Rationality Vacation, I have bought and sold zero stocks, aside from my automated monthly DRIP purchases, 401k contributions, and 529 plan contributions to index ETFs for my two children. I am happy about that.
So what is the work actually involved in long term investing? For my own purposes I break it down into the following four categories.
A few words on each category:
The most important is Category One. If you succeed in purchasing companies that meet those two criteria (and the third preferable criteria), you basically never need to sell them. Go to the beach, play with your kids, do your job, be affectionate to your spouse, and take care of your health. When people talk about “evaluating free cash flow,” that is valuing the company now. When people talk about “moats” or “competitive advantage” or “return on equity” or “return on capital” or “brand,” or “patent protection,” those are all ways of evaluating whether the company is reasonably likely to grow faster than the universe of stocks over the long term, or at least whether it is likely to be sufficiently successful that you will not lose your money. This means don’t buy “turnaround” stocks like J.C. Penney or Blackberry these days. Too much risk that you will have to do lots of Category Two work, even if you are correct that they aren’t toast. I have owned a bunch of Phillip Morris stock since 1998, before the SAB Miller partial sale, before the Kraft split, before it split into two companies, Altria and Phillips Morris International. I have had wild gains in this stock, always reinvesting dividends, during one of the great secular bear markets. I sold the Kraft when that split off and reinvested it in Phillip Morris. I eventually sold the Altria after that split, and reinvested it in Phillip Morris International. I very well may never sell this stock. I only seriously even think about it about once every two years or when something happens in regard to it that is significant enough that it appears in the business section of a generalist newspaper. I seriously think about this stock about an hour per year. That, to me, is investing success.
Category Two could also be titled, “Don’t Be An Ostrich.” Technical traders look stupid when the change their minds by not sticking to a previous stop. If they violate their preset short-term buying and selling rules, they will eventually blow up. They are psychologically disassembling and turning into gut-motivated day-traders. Long term investors look stupid when they don’t change their minds or ever consider selling. If they never sell anything or even look at it, they will eventually blow up, too, at least in one or more positions. They have turned into ostriches. There is no such thing as “buy-and-forget.” If you really want to be a “buy-and-forget” investor, start buying index funds when you get your first job, and other than yearly rebalancing, set a timer to start thinking about them again when you are about 60. But if you must buy stocks, you do have to think about them occasionally, even if you think they are great companies. I aim for once per year. When I bought Phillip Morris in 1998, I also bought a much smaller amount of Eastman Kodak stock, literally only about $200 worth. (I was in college.) I totally ignored it and rode that $200 to zero. I didn’t need to gather news on Eastman Kodak daily to avoid that loss. I just needed to analyze it at least once within the first five years or so after I bought it. Unfortunately by that time I was out of college, making lots of money, busy with my wife and friends, and it was only $200 and I just did not care. Still, lesson learned.
Category Three only applies if you are buying index funds. Studies as far as I know show that rebalancing your index funds to their original percentages is beneficial to long term returns. This is because reversion-to-mean is a fact of life. It’s the investing equivalent of taxes and death.
Category Four is optional, and probably should be excluded by the vast, vast majority of people. But it’s important to talk about it, if only so you know why you should ignore it. You can get into trouble here. It’s also extra work. I hate extra work. If you are a fearful sort, there is always a reason to be all cash. If you an aggressive sort, there is always a reason be all in stocks. Know thyself. Here you have your biggest risk of massive psychological error, because decisions made in this category can impact your entire portfolio, not just one stock purchase or sale. Here is where you buy tons of Janus mutual funds in 1999, and where you panic-sell everything in March 2009. But here you can also have our highest possible impact. Here is where you either stop buying stocks in 2000, or you go all-in in 2009.
Notice I didn’t say “sell” stocks in 2000. If you have satisfied Categories One and Two, and particularly if you have been holding them for awhile (thus building psychological capital), you don’t really ever need to sell stocks, even at market peaks. You’ll survive the inevitable drop, you’ll have the fortitude not to panic-sell at the low, and you’ll benefit from the eventual rebound. Timing is hard. I think at a market high it’s generally best to simply chill out, maybe sell stocks if any that you bought on a flier or based solely on temporary undervaluation without much faith in the long term business (already a mistaken purchase), and build cash for the drop. If you sell, you are likely to sell way too early, then freak out when stocks rise, then buy way more at the top and consequently lose more, and then panic-sell after the drop because you hate yourself for buying back in so strongly at the true top. Then you are well and truly screwed, my friend. And even if you correctly sell at the top, you’re quite likely to buy back in way too late, after a sharp rise off the bottom. Satisfying Categories One and Two and riding the thing out is, in my view, the best way to preserve psychological capital. Satisfy your market-timing urges by reducing new purchases as you begin to perceive a market-related topping. Build cash. Pay down debts. Go to Disneyland.
If that all sounds like a lot work still, that’s because it is. It’s work, even if you only look at your stocks once per year. It’s work picking them in the first place. The true zen master probably just buys index funds and rebalances them for forty years.
My continuing fascination with common stocks as a non-professional with a full-time job probably is indicative of my egotism, and some cognitive bias. But I have done well enough, beating the S&P though only marginally across all of my accounts, not making huge mistakes, that I continue. Still it’s quite possible I’ll write a post one of these days throwing up my hands and saying I’m all in index funds.
Anything you do beyond these four categories is not investing, it is indulging in a hobby. Reading financial blogs all of the time, following finance people on Twitter, writing this blog: a lot of the things I do I do mainly for fun. Whether you are an long term investor or a trader, this is all perfectly fine, as long as you recognize it is totally separate from your actual investing/trading process, and as long as it doesn’t lead you to violate your rules.
Stay frosty out there.
The Ballmer departure (which I approve of) led me to run a quick-and-dirty on its free cash flow, and to some general thoughts on Ballmer’s departure.
First, as you can see here, even after today’s bump (to $34.75/share) Microsoft is priced never to grow free cash flow again, and in fact for it to gently decline. An alternative explanation of the pricing is that free cash flow may fluctuate somewhat, up and down, but ultimately decline. Note that the model simply deletes 35% of the value of Microsoft’s $77.022 billion in cash on hand. This is to account for taxation on eventual repatriation of foreign earnings, and/or inflation for holding the cash too long, and/or money wasted on things like Surface or Skype. Note that the model also assumes a constant future figure for diluted shares outstanding, even though that figure has been declining steadily, which is cash-flow-per-share accretive. (The figures are all from the June 2013 report.)
So the question really is whether you believe that is Microsoft’s future or not. In valuing a company, the numbers only are useful to help frame your qualitative and strategic thinking. The English Major side of investing is much more important than the mathematical side, unless you are writing trading algorithms. I continue to think Microsoft can manage some modest growth, and thus the stock is by definition undervalued. I may be wrong, and I’ll say it when I determine that I am. If it happens, it will be a judgmental error, not a math one. In any event my money is where my mouth is; it’s one of my top two stock positions, and is about 8% of my portfolio (much of which is admittedly invested in S&P, Emerging Markets, and European ETFs at the moment). But my desire to be in Emerging Markets and European ETF’s right now is a post for another day.
Now to Ballmer. Contrary to what some are saying, the initially euphoric market reaction to his departure has no relationship to a belief that someone else will be able to staunch the bleeding in Windows, for example. No one can. That is structural. Rather, this reaction is about Microsoft’s inability to innovate in new areas under Ballmer’s tenure. This is about his mockery of iPhones when they came out, his blundering with tablets, his statement that he wouldn’t even let his kids touch the products of “those” other companies. This is about the fact that a Surface tablet glitched up at its debut presentation, and that it was wildly overpriced from the get-go — and everyone knew it (except Microsoft, apparently).
The future of Microsoft, if there is one, is in new product and software categories. The company has to think of something new, like Xbox was new, and it has to make money (unlike with Surface). Microsoft has to take risks. The market simply thinks that such a future is more likely to exist without Ballmer: nothing more. There is good reason for such a conclusion, given Ballmer’s generally abysmal record of innovation, even if there are no guarantees as to the future CEO. A solid, diligent ‘caretaker’ CEO like Ballmer is never a recipe for strong growth, but it is a recipe for disaster in the tech industry. The world simply moves too quickly. IBM was selling its laptop business to Lenovo in 2004. Zuckerberg was creating Facebook. Apple expanded the iTunes music store internationally. Google had its IPO that year. Ballmer was working on Windows Vista. Enough said.
I’m a little late this year, but I try to review my market outlook at least two times per year in writing. In my head, I am revising it constantly, but it helps to set fingers to keyboard in order to hold oneself accountable.
As I’ll explain further below, I view the market as being in a period of lukewarm but solid optimism. We are nowhere near the euphoria of 1999. We are nowhere near doldrums of August/September 2011, let alone March 2009. For me, this is the hardest kind of market to navigate, what we have now.
I have made many mistakes along the way, but I was buying pretty consistently in 2009 and 2010, and when the market swooned in late 2011 I picked up sizeable chunks of BRK.B, UNP, LMT, and BDX, among others. 2010 in my mind was the perfect time to buy. It was clear we weren’t going down the toilet. But it was clear many people still thought we were, and that bargains were to be had. Gold bugs ran wild on civilized streets and Johnson & Johnson traded 50% below today’s price. The risk-reward seemed perfect to me.
Today we are up around 150% from the 2009 lows, the market is reasonably though not by any means cheaply priced, and profit margins remain at or near all-time highs (more on that in a later post). This makes the rewards seem less attractive, relative to the risk one is taking. Margin debt has also made a massive comeback, which I always view as a strong negative both substantively and procedurally.
Economically and monetarily speaking, there are positives and negatives:
Everyone can have different responses, and to some extent that is fair. A lot of retail investors sadly just started to get back into the stock market in 2013. I recall mocking BoA-Merrill Lynch in January when it issued a call that “now is the time to invest! It was so sad on so many levels. 2009 or 2010 or even 2011 was the time to invest.
For me, because I bought so much in 2009-2011, and have held it, I have felt comfortable scaling back on new purchases. I severely curtailed new contributions to my 401k, starting in June. I am not investing any new money outside of my 401k and IRA. This is, note, colored by the fact that I still have approximately $50,000 in student loan debt from law school. In 2010 it seemed fairly clear to me that I could beat my low interest rates (none are higher than 3.5%) by investing in the market. And I have, by a mile. That has become less clear with every year that has passed. It is possible I still could and I’m now wrong, but life is all about judgment calls. I am hedging my “bet” in that I’m not selling anything. We are not at 1999 or 2007 levels. I am fundamentally a long-only long-term investor, my average holding period is at least three years, and my ideal investment is one that is undervalued when I buy it and that I can hold forever.
What does the future hold? Oh seriously, do you think I or anyone knows? I think we have about a 60% probability that the U.S. recovery continues and strengthens for at least the next two-three years and the next recession and major (greater than 15 or 20%) stock market drop is at least three to four years out. But I think we have a 40% probability that we really stall out, particularly if there are additional policy errors like allowing the sequester to take effect this year. There is a non-negligible chance that the Republicans take control of the Senate next year, which given that party’s current attitudes I think would be a market- and economic-negative. Just as Romney’s election would have been. Note that I am not a partisan liberal. I think that Democrats are generally correct on short-term economic policy given the current situation, whereas Republicans have been living in Hoover-land (Bush, circa-Fall-2008 excepted, bless him). I think that Republicans have it right on Medicare, which (given what I know today) I think needs to be cut significantly in the longer-term.
So for these reasons, and to expand on my intro, my market outlook is this: today is not the time for an investor to be wildly investing new money. That time is past. If you missed it, suck it up, because you cannot overcome that error by wildly investing today. You will simply compound it, even if you are a “long term” investor. That is because if you invest today you will have less psychological capital (than I will) to help you refrain from selling during the next major downturn. This is all particularly true if you have any debt. While it is always hard to restrain one’s greed in regard to the stock market when it is going up, now is probably the time to: 1) review and relish one’s gains in lifetime holdings with satisfaction, 2) prune any overvalued stocks you bought without thinking you would hold them forever (for me, AT&T); 3) pay down debts so you can continue to increase your net worth; and 4) be very selective about new investment opportunities in stocks that seem particularly undervalued compared with the market as a whole, relative to their growth prospects.
If 1999 was a sell moment, and 2009 was a buy moment, today is a moment for prudent reflection, always keeping in mind there is never a bad time to buy a quality, growing company that for whatever reason is appraised by the market at less than your best estimate of its true worth.
Recently, Senator Warren announced plans with Senator McCain to reintroduce a 21st Century version of the Glass-Steagall Act, which in simple terms banned banks from combining with investment banks, and which was repealed by the Gramm-Leach-Blilely Act of 1999. The news of potential bipartisan support for this idea puts me in mind of an old saying (at least in my head): the worst ideas in Washington are usually the ones everybody agrees on.
Here is why it won’t solve anything, and basically signifies the disfunction of our political system. (Nobody seems to be saying it, so I will.) In short, the repeal of Glass-Steagall was not remotely as big a deal as the repeal of the much less famous Bank Holding Company Act. Ever heard of that one? Read on, dear friend.
First, the combining of traditional banking and investment banking does not seem to be what caused our problems. After all, Bear Stearns was a pure investment bank. Lehman was a pure investment bank. They failed and (particularly Lehman) were systemic risks even though they were not combined with any regular bank. By contrast, WaMu, IndyMac, Countrywide and countless others were pure banks, not combined with investment banks, which all failed. In fact, hundreds of pure banks/thrifts, without regard to size, have failed since the financial crisis. Meanwhile JPMorgan Chase, a combined bank and i-bank, rode through the storm far better than just about anybody else.
So pure banks fail. Pure investment banks fail. So why now focus on separating them?
Now let me tell you about the Bank Holding Company Act of 1956. This Act prohibited bank holding companies headquartered in one state from acquiring a bank in another state. In short, it prohibited Mega Banks like Bank of America and Chase that operated in all fifty states. This Act was repealed in the first Clinton Administration, in 1994, by the Riegle-Neal Interest Banking and Branching Efficiency Act of 1994. Here is a good rule of thumb about Congressional Acts: when their titles contain qualitative judgments of what they do, the actual Act probably does the opposite. It was in the wake of this 1994 repeal that banks such as Wells Fargo wildly expanded and truly became “too big to fail.” Wells Fargo, incidentally, is arguably not really “Wells Fargo.” Actually, it is Norwest, the Minnesota bank that was the apparent survivor of their 1998 post-Riegle-Neal merger, but which wisely adopted Wells Fargo’s name and ye oldey stage-coachey, stolid Old West image.
Many other things also contributed to our Crisis, as others have noted. By the by, Chairman Greespan kept rates wildly low after the 9/11 attacks, and early on the Bush Administration promulgated a regulation that preempted many state predatory lending laws (yay! won’t interest-only and negative-amortization loans be fun!?). In 2004 the Net Capital Rule was relaxed. From these actions, and many others, including individual greed and this horrible 2000 book, a hit which was in no small part about buying real estate, horror was born. (Incidentally, the genius who wrote Rich Dad Poor Dad was all over the place in 2011 as a prepper talking about impending economic collapse. That guy is a national emergency.)
What are the arguable lessons here? 1) it basically means squat whether banks and i-banks are combined; 2) it means a lot when one bank or investment bank gets so huge even independently that it can theoretically cause a systemic risk; 3) it means a lot when governments abdicate any responsibility to regulate the types of financial products consumers may be sold; 4) leverage is key — leverage, not the size the bank, is what kills a bank, and leverage combined with size may be what makes a bank “Too Big to Fail.” The general theme is that too little regulation especially in regard to lending standards and leverage is horrible in the long run (including for bank managers and shareholders who think for awhile that they are Ayn Randian geniuses, until the bottom falls out).
Many of the above issues have been fixed. 12 CFR 560.2 was basically repealed by Dodd-Frank from its effective date. We are implementing Basel III in large part (though it’s probably not stringent enough). Renting is chic. Etc.
But what hasn’t been fixed? Allowing huge banks, even pure banks, to form via merger, banks that have trillions of dollars in assets, operate all over the globe, and that do form a systemic risk even if they never, ever even utter the word “investment bank.”
The problem of course is that it is very hard to split Bank of America into twenty or thirty banks (which is what it basically is an amalgam of, via merger). It is very hard to split Chase into dozens of banks. It is messy. It looks like and is the heavy hand of government. It’s “anti-market.” It’s — you name it. Not only that, but there is a sense it makes it harder for “our” banks to compete internationally (an idea that assumes it’s a good idea for any bank in the whole world to be that large). The monkey is out of the bag and as a matter of political will we cannot put it back in again.
So we won’t. Instead Senators Warren and McCain have proposed a new Glass-Steagall, not a new Bank Holding Company Act. In this way they can cater to her supporters, who basically adhere to the cliche of “Too Big to Fail” without knowing what it really means, and to his supporters, who hate them-thar Wall Street Fat Cats who got a bailout, which they no doubt wrongly think Obama gave. But I digress. The long and short of it is, since almost everybody loves having fifty-state- and international-availability of ATMs, all from one bank (!!), we won’t solve the last best problem that got us into this fine mess. Instead we will focus now for a time on a piece of window dressing that is easy to implement, sounds nice, and like most such things, does virtually nothing.
It is important for me to try to practice what I preach about understanding why one owns certain holdings. To that end I’m going to set down in pixels what is in my head about my stock holdings, in my self-directed accounts. Like much of what I write, it is as much designed to clarify my own thinking and keep me honest as it is to be of any use to any of you. What follows below is a full basic summary of my self-directed stock accounts — which includes my IRA and my online brokerage accounts. In total, I am managing about $95,000 to $100,000 of my own money in this manner, constituting about 1/5 of my nuclear family’s net worth, of which $71,000 and change is in my IRA. (Hey, we’re all about openness here, except for the pseudonym.)
A brief preliminary note: I recently transferred two old 401ks totaling a bit over $50,000 to my IRA. That money was fully invested, albeit some in bond funds, in those old 401ks. The IRA to which that money was transferred is still about $25,000 in cash, meaning that my exposure to the market has actually gone down in the last two months. I have been slowly phasing back into investment in the market. This is for two reasons: 1) moving so much money to self-directed investment in ETFs and stocks and bonds reduced my psychological capital, so I am slowly phasing in to reduce the risk I will do something stupid (or do something stupid far down the road); and 2) as Tweeted repeatedly, I am very concerned about this market. More than at any time in the last four years, I think the probabilities favor things other than investing in bonds and stocks. Accordingly, I have reduced 401k contributions to my present-employer 401k as well, and am instead using that money to pay down student loan debt. My returns over the past few years have far exceeded my student loan interest rates, and the long and short of it is that I am far from convinced that will be true in the next three years or so. At the same time, I take a long view and am not really a market timer. I don’t do black and white. So I’m not selling out. I’m comfortable with my equity holdings (and keep in mind we also have 401ks in addition to my self-directed money) taking a 30% temporary dive. I would describe what I and doing as “recalibrating my emphasis.”
So here is a rough sketch of my holdings:
Hold Forever: The first category of stocks are companies I reasonably think at this time that I can hold forever. Some of them I have owned for a long, long time. I have no expectation that these are going to light the world on fire, but they are incredibly solid businesses that give nice dividends or other benefits, and they form a sort of anchor for my portfolios.
These are, alphabetically, which years of purchase: Berkshire Hathaway (2009, 2011 — $67/share yo!, 2013), Coke (2009), ExxonMobil (1998, 2010-Present), Johnson & Johnson (2009, 2011), McDonalds (2009, 2011), Philip Morris (1998, 2012) and Proctor & Gamble (2008). Of these, I have owned XOM and PM the longest — with original holdings dating to 1998 or so. I also purchased a lot of new XOM stock in 2010 at great prices, and that stock is the only one of these that is in a “DRIP” account with Computershare. On all but BRK-B, which pays no dividends, I also reinvest dividends. In Lynchian terms, these are Stalwarts. (Though some would argue P&G has become a “Slow Grower,” and I’m attuned to that, though I do think its problems have resulted from a disastrously-“integrated” Gillette acquisition, which I am hoping recent activism will help fix.)
DRIP “Forever” Holdings: XOM is a DRIP holding and could be put in this list. But to me it is true forever stock. I would sell the following stocks before I sold the above, though by the very nature of them being in DRIPS, they are long-term. All of these DRIPS were initiated in November 2011, with $50 monthly investments since that time.
These stocks are Becton Dickinson, Lockheed Martin, and Union Pacific. New monthly investments and dividend reinvestments in these stocks are essentially free, which is compelling. I also like the businesses of each a great deal: railroads have tremendous economies of scale and barriers to entry, Becton is a tremendously well run medical supply maker and dividend king (or whatever the present term is), and Lockheed, despite present concerns, is essentially a necessary phantom arm of the U.S. government, which optionality for when (not if) we get into our next likely-ill-advised war. None are going anywhere. In Lynchian terms, these are also Stalwarts, but excluding XOM, on a lower level than the above, because the in my view are on average more cyclical. (Note as to my UNP holding that I also owned Burlington Northern before Berkshire announced it was buying it, and I think UNP is the second-best option and best publicly-traded option in railroads. Some of my Berkshire shares are converted Burlington shares.)
Growth Investments in Which I have Tremendous Long Term Faith: Value does not mean a low P/E. Value means the stock is appraised for less in the auction stock market than the company is actually worth.
In this category I have: Google (Mid 2010, Mid 2011), Intuitive Surgical (Late Summer 2010), and Sodastream (Fall-2011). Google may be the best-run tech company (and as prior posts have urged, tech remains one of the few remaining values in the U.S. market), Intuitive Surgical is a disruptive surgical robot maker with tremendous growth (and concerns about lawsuits are overblown in my present view), and Sodastream is a disruptive DIY soda maker. I bought all at prices significantly lower than they trade at now. SODA in particular was interesting, because in addition to fad/growth-through-new-doors concerns, it reported in Euros during the Eurozone crisis, and so traded like a Euro stock even as the American business was plainly exploding if you just took ten minutes to look at each quarterly report.
While I have a great deal of long term faith in these companies, I look more closely at them, because their business models are less ironclad. I would not sell on temporary valuation concerns, but I would sell if I think my growth thesis is blown. So far, it has not been.
Index Investments: Approximately 30% of my self-directed funds are in Vanguard’s S&P index ETF, about 2.5% is in the Vanguard emerging markets ETF, and about 2% are in the Vanguard health ETF, VHT. The 30% represents part of my concern about my psychological capital and understanding of individual stocks. Accordingly, when I transferred 401ks to my IRA, instead of putting money into individual stocks right away, I put more than $20,000 into the Vanguard S%P ETF. This may be a permanent holding, or I may shift some to individual stocks as I perceive value and feel comfortable doing so. The emerging markets ETF and healthcare ETF are relics of when I was only managing a self-directed $30,000 on my own, when they constituted a higher percentage of my self-directed allocation. I can see myself upping the emerging market’s ETF, particularly if emerging markets continue to tank. The healthcare ETF is owned based on the continuing (though slowing) rise of healthcare costs in excess of inflation.
Value Investments: I continue to think the most undervalue investable sector of the U.S. stock market is Tech. (For example, I do not consider airlines to be anything other than “trading sardines,” as Doug Kass would put it, and since I’m not a short-timer, I have no interest in them.) My thesis here for at least three years has been as follows: 1) people are still not over the psychological damage of the tech bubble, and these companies have been growing into their valuations for more than ten years and are now valued beyond their price, but people still hate them because they are “dead money” and 2) the failure of Palm and Blackberry has scared the crap out of people and they consequently hate the tech industry and since they don’t know who is going to win, the treat every company and every tiny misstep as a prelude to doom. Not all are tech companies, however
Companies in this category, with years of purchases: Apple (2011, 2012), Cisco (2010), Intel (2009, 2011, 2013), Microsoft (2009-2013), United Health (2010, 2013). Microsoft has obviously (finally!) had a nice run lately, as has Intel and Cisco. United Health has been a 100%+ beast for me, because ideologues (of which the finance industry has many) were so down on Obamacare. (I love ideologues — they are like ATMs for people who can use their brains.)
Other/Dividend: This is a catchall category. In fact, doing this post has actually helped me see that the these may represent stocks I should consider selling. However, I’ll add some nuance below.
These are: Abbot Labs/AbbVie (2010, Early 2011), AT&T (Early 2010, July 2011), Walmart (2010, 2011), Parker Hannifin (2013).
AT&T has been nice for me, returning 72% or so with dividends and soundly beating the market, but its performance has deteriorated and I’m not convinced of it as a long-term holding. I think the drastic undervaluation from probably gone. I have been considering selling it for at least six months, but the dividend is still great, my cost-basis is spectacular, and in some sense I just haven’t been willing to upgrade it to forever status.
Abbott Labs was a value play. Remember back in 2010 when everybody had reversed their 2000-era euphoria about drug stocks? Yeah, that. I also also owned Pfizer, which I sold at a profit. AbbVie alone now trades at close to the $47 I paid for a lot of my Abbott Labs shares. I’m still letting this one play out in the wake of the split-up, but I’m not married to it.
Walmart, oh Walmart. Two years ago I would have categorized it as a Stalwart. Now, not so much. The stock price had a nice run over the last year, and I am way up given when I bought it (I hold shares purchased in the 40s, and many more in the 50s), but two things have me worried. First, the size of a company only matters insofar as it has filled its addressable market. Contrary to what people often say, size alone does not mean returns will be low: like most unwise things, it contains a kernel of truth, but has been taken out of context and oversimplified. The problem with Walmart is it has long-since picked all of the low-hanging fruit. I see any growth here as basically being population growth + inflation, with some undetermined bonus for international growth in countries most of which are even more hostile to Walmart than the U.S. is. Second, Amazon. Amazon is the kamikaze bomber of retail. It is the world’s greatest wealth-redistribution mechanism: from wealthy investors to middle-class consumers. But nobody seems to care as long as revenue keeps growing. It is killing many retailers, and it is and will continue to eat at least a portion of Walmart’s lunch. I have my eye on this situation.
Parker Hannifin is a wonderful motion and control company. This is a “starter position.” I think sometimes you take a small position in a company you love just to incentivize yourself to pay attention to it and learn more about it, while waiting for a time when you can truly hit that thing. PH makes all kinds of specialized stuff (pumps, valves, gears, fuel separatorts, etc.) you never see, but that goes inside larger systems that you or the government or defense contractors buy. It is very well-regarded. I only own a tiny position here, because the price is near an all-time high, but if the market tanks, you can expect me to back the truck up on this company, which I would describe as a small/mid-cap cyclical stalwart.
Hat tip to Scott Grannis of Calafia Beach Pundit. I’m posting this chart of unemployment claims to make the following point: Note how claims peak at the end of the year, and in the middle of the year, every year since 2010. The chart only goes back to mid-2008, but I suspect one finds similar patterns. In any even, this suggests a cyclical number. In other words, when people are discussing month-over-month, instead of year-over-year unemployment figures, you should take what they are saying with a grain of salt. Consider in particular whether they are motivated by politics, or perma-pessimism, or are Pollyannas. Avoid all of these things. Just look at the data. See the trend. Recognize that cyclical upticks haven’t yet disturbed it.
Doug Kass is a guy I admire a great deal. He graces my “quotes and wisdom" page and he is a must-follow on Twitter. But he just does not get QE, to be charitable.
Let me explain. Let’s start with yesterday’s “mea culpa,” about why he has been so wrong on the stock market in 2013. It is not actually a mea culpa at all. What he is actually saying is that he has been totally right about the fundamentals, but the market has not cared, because of Fed and other central bank QEs. It reminds one a lot of another rich man complaining about quantitative easing at the recent Ira Sohn conference, Paul Singer.
Of course, this is not Kass’ first mea culpa for being too bearish. Here he is from 2011. The reality is, aside from strategic decisions to get bullish because he is in part a technical (or at least very pragmatic) guy, he has been pretty bearish for a long time, and largely because he doesn’t like QE and doesn’t think it does anything good.
He is just wrong. A tweet today prompted this post, in which he echoed a recent theme that QE widens the gap between the haves and the have-nots. That is a new tactic or theme though, and immediately he laid bare the real concern, which is that Bernanke is screwing the savers. That’s what he is really upset about. And that is a class issue, and an age issue (Kass is twice my age). Because the reality is, even an old person living on a fixed income is not a have-not if he or she has money to invest in bonds for income! That person may be income poor, but income is not the same as wealth. And the real have-nots (and there are millions of them) are the elderly who rely only on social security, and have no other significant savings.
So essentially, Doug defines the “have-nots” as the poorest of the haves, and excludes the impact of QE on the real have-nots. QE helps debtors. And the poor are the debtors. The poor are those with revolving credit card debt they only pay the minimum on. The poor are those still in adjustable rate mortgages. The poor, more often than not, particularly as defined by net worth, are the young. The young, too, are those looking maybe to buy their first house, and who will benefit potentially for 30 years from epic low interest rates.
So let’s be clear what is going on here. A lot of rich, older people, who are otherwise very smart and very sophisticated, hate QE, and whether they know it or not, it is for ideological and/or class and/or age-related reasons. You can either choose to believe them because they are smart and have a big megaphone, or you can recognize their human biases for what they are.
In an era when federal taxes on the wealthy are at a long-term low, in an era when we are all worried that baby-boomers are going to bankrupt us all with their use of Medicare, in an era when inflation-adjusted spending on public-schools just fell for like the first time in thirty years, in an era of sequestration cutting services for the poor and the young, in an era when colleges are charging ever-more tuition, in an era when many Millennials can’t even find jobs and many still live with their parents…in such an era…, is it so f**king horrible that there is actually one policy out there that does, on balance disproportionately benefit the young and the actually poor, over the “savings class?” Is it, Paul? Is it, Doug?
Anonymous asked: leading the market. But they are number one in the retail segment there, same goes for insurance, and really only a small player in the cooperative/logistic segment while not acting at all in the satellite segment
I assume you are referring to my Ituran post and their position in Israel. Interesting points.
Hi folks, see my recent post on why I am selling out all of my Ituran Location & Control (ITRN) shares on Monday, just published on Seeking Alpha.
This is a stock I purchased in my IRA on September 1, 2010, when it was trading at $32.48/share. Today it trades at $58.92/share. Needless to say, it has been a big winner for me. However, it was always a small position, at a $617.12 original cost basis. I only bought 19 shares. By comparison, I own over $4,000 in XOM stock, and have similarly “large” (for me) positions in MSFT, INTC, and BRK.B.
The position has remained small because I have been guilty here of price anchoring. I think I got afraid of the increased nominal price, and have failed to pay attention to the underlying business.
It’s time for an update. In my update, I conclude that the company is not wildly undervalued. It would be a strong buy at $54.88, not far below where it is today. If it goes above $82.32/share, and the fundamentals have not changed, it is time to say adios. It is obviously nowhere near that level.
Here is my most recent sheet. As you can see, I keep things fairly simple.
I have used a WACC of 11% here, which is in-line with consensus. I assume no debt or cash. (The actual net cash/debt position is about $4 billion of debt, but I assume based on its cash generation it can basically maintain that in perpetuity.) For my free cash flow growth rate, I’m only assuming 3% growth over the next ten years, even though in last nine years it has averaged 9.67% annualized growth. The problem is in the last three years that stalled to 7.59%, and in the last year, the annualized growth was only 3.12%. I attribute most of this decline to recent regulatory changes, but I never assume higher growth than present growth. In fact, even my 3% growth assumption may prove too optimistic, and is the thing I’m most worried about in my analysis.
On the other hand, it matches Morningstar’s analysis closely, and even if you assume 1% growth, the stock is worth around $61/share. My pessimism is also tempered by the fact the company has reduced its diluted share count by 16.2% in the past four years, which is great, and future such reductions should prove accretive to the value of future free cash flows attributable to my shares.
Substantively, my thesis from 2010 has not been blown: Obamacare will not destroy this company, its scale confers massive advantages in such a highly-regulated industry, and it is well-run. Nothing since 9/2010 has changed these basic assumptions. I actually think Morningstar in evaluating United Health’s ”moat” is probably being too pessimistic in assigning the company only a narrow moat, given the regulatory environment in which it operates. They likely attribute the declining free cash flow growth to moat issues, whereas I attribute it to regulatory changes.
That said, I think the massive gains here are likely done. That is because these gains were to be had before the world had digested Obamacare as fully as it has now. I do think the stock remains somewhat artificially depressed because of lingering and overblown concerns about the full implementation of Obamacare, which is why opportunity remains.
Also, the dividend is quite low — 1.44%, even after it was increased from a quarterly $0.13 dividend to a $0.21 quarterly dividend, or a 61.5% increase, in the time I have owned it. That seems to be the level this company wants to be at, and it is not enough to attract all those seeking yield in a ZIRP environment, so I do not attribute its share appreciation to a hunt for yield. The fact that its P/E ratio has not really increased much at all since 2011 (in a time when the S&P P/E ratio has gone from under 14 to the 18 neighborhood) supports this view.
In short, I think this company remains highly investable. I should consider doubling my position notwithstanding the recent share price appreciation I have seen, particularly since the share price has basically been stalled for the past year. However, before doing so I should conduct a deeper analysis of Humana (HUM), which appears to be performing even better than UHN has been.