Can Turtles Fly?

After thinking about the previously mentioned merger-"arbitrage" situations, I decided to go with the Tribune (TRB) deal. This is the one that really interested me in the first place (the returns on the others weren't as attractive to me). The upside is around 25%. The downside is uncertain and can be very large. If the deal does not complete, Tribune will end up being a heavily leveraged business in a declining newspaper industry. I can see the stock price dropping quite a bit (more than 30%). In such a case, I will likely sell with a loss. However, one should consider whether new bidders may emerge if the Zell deal fails. There were a few bidders before so Tribune may still be of interest to some (although, with a large debt load the interest may be less than before). If the stock drops more and if I can save a few thousand more over the next month, I'll consider adding to this position. Right now the position is too small for my liking (it's around 5% of my por...

As I have remarked before, merger "arbitrage" looks like the most attractive strategy to a newbie like me right now (I put "arbitrage" in quotes because this is a speculation, as opposed to an arbitrage, since I don't hedge by shorting (not possible in some of these cases anyway)). I find the mergers attractive because they are not dependent on the broad market, which is heavily influenced by economic growth, profitability, sentiment, etc (there is a lot of uncertainty with these numbers right now). Furthermore, the merger discount is very large right now due to credit issues and, supposedly, some merger-arbitrage hedge funds leaving the market (due to liquidity problems in other strategies within their family of hedge funds). You don't see such discounts during a normal scenario (i.e. during a typical bull market or bear market). Of the announced mergers, the three I found attractive were ABN-Amro (ABN), BCE (BCE), and Tribune (TRB). You can read my prior w...

I came across a bunch of articles on China and thought I should talk about China. What is happening in China now can be best described by Charles Dickens' opening for A Tale of Two Cities : "It was the best of times, it was the worst of times..." Top Economic Power by 2100 China will become one of the top economic powers--likely #1--in about 100 years. In fact, some analysts expect China to play a bigger role in the world economy than any other country by 2050. The chart below is from an HSBC report, where they project China's (and India's) impact on the world. (source: From Hero to Zero and Back Again, by Robert Prior-Wandesforde and Garry Evans; India Watch (Issue 15), Macro - India Economics & Strategy, HSBC Global Research; August 17, 2007) The fact that some Asian countries like China and India will start playing a bigger role should not be a surprise from a super-long-term point of view. In 1700 of the of the last 2000 years, either China or India has ha...

John Hussman has an article on P/E valuations and how the general consensus may be misleading. Contrarians should permanently bookmark his site. It's worth reading the article but I'm going to quote the last part of his article which talks about some recession indicators. 1) The "credit spread" between corporate securities and default-free Treasury securities becomes wider than it was 6 months earlier. This spread is measured by the difference between 10-year corporate bond yields and 10-year U.S. Treasury bond yields (or alternatively, by 6-month commercial paper minus 6- month U.S. Treasury bill yields). This spread is primarily an indication of market perceptions regarding earnings risk and default risk, which generally rises during recessions. 2) The "maturity spread" between long-term and short-term interest rates falls to less than 2.5%, as measured by the difference between the 10-year Treasury bond yield and the 3-month Treasury bill yield. A narr...

John Mauldin has written one of his best articles ever on the current credit problems. He traces out the origins and explains what the problems are and suggests some solutions. I highly recommend that you check out the full article (quotes do no justice to the details behind this article). Here are some excerpts that I find insightful. Part of the problem is the shift towards more ARM mortgages... In the beginning, subprime loans were made the old-fashioned way. You had to have 80% loan to value and show you had a job and could actually pay back the money. And these loans were packaged up into a subprime Residential Mortgage Backed Security...But then in 2004 loan practices began to change and had got completely out of hand by 2006. In 2005-6, about 80% of subprime mortgages were adjustable-rate mortgages, or ARMs, also called "exploding ARMs." These loans are so-named because they carry low teaser rates that often reset dramatically higher, increasing the borrower's mon...

Bloomberg has a good summary on the current situation with Tribune. Billionaire Sam Zell has a knack for buying low and selling high -- which is why his $8.2 billion takeover of Tribune Co. may return 35 percent to anyone who now buys the shares and 11 percent for anyone purchasing the bonds. So you are looking at around 30% return in just under 6 months. A Lehman Brothers analyst supposedly thinks the chance of a close is only 50%, and has a price target of $5 if the deal falls. Lehman Brothers Holdings Inc. said this week the deal has no better than a 50-50 chance of being completed as scheduled, and credit markets indicate a 57 percent probability of insolvency if it is. I am sure the shareholders will vote for the deal and Sam Zell will be ok with the deal, but the question is with the financiers. Three big banks are supposed to raise debt and certain conditions have to be met: For lenders to renege, adjusted earnings would have to plunge further than a 22 percent decline in the f...

I placed a limit order to purchase Takefuji on the Tokyo Stock Exchange (symbol: 8564; PinkSheets: TAKAF). My broker, HSBC, is very slow to post transactions online so I'm not sure of exact purchase details. But I'm sure it went through given that the price dropped a lot more than my limit price. This is my first purchase on a foreign exchange (ignoring US exchanges (I'm in Canada)). This is a long-term purchase that is more characteristic of a value investing purchase (very little speculation in this one). You can read my original investment evaluation analysis here but do note that numbers will be slightly out of date. Since I posted that analysis, the stock has dropped around 20% more. The forward P/E ratio is around 11 with the p/bv around 1 right now. Purchase Price: Yen 3270 Investment Time Horizone: Long (2+ Years)

I purchased Harmony (HMY) this morning at US$9.11. Ok, I have to admit that this was a questionable move done without too much deep thinking. To make matters worse, the online website for CIBC World Markets (Canada) was very slow this morning so I didn't have time to track the price closely to see if I can pick the bottom. Having said all that, I think I would have gone into gold at some point over the next couple of weeks. So it isn't as impulsive of a decision as it seems. I came across a link to this week's Donald Coxe conference call where he was expressing his bullishness for gold (thanks to some poster on the message board at billcara.com for the URL link). If you have some time, check out Donald Coxe's comments. I personally don't like his convervative views (just like I'm sure he wouldn't like my liberal views :) ) but he is a thinker with insightful non-mainstream views. He has been very bullish on commodities over the years but now it looks like ...

Well, I guess the wild week ends on a wild note with the Federal Reserve lowering the discount rate . Note that this a weaker tool in the Federal Reserve's arsenal, with a cut in the Federal Funds Rate being the last action that has the biggest impact on the economy and financial assets. Some analysts think the FedRes is not going to cut the Fed Funds Rate. I suspect they are trying to avoid that since that is inflationary. This move was a surprise to me but it wasn't that out of the norm. The markets recouped some of their losses from yesterday but it wasn't really a strong rally. Most of the markets opened higher and then declined slowly through the day. The key things I observed today are: The Yen carry-trade unwinding still seems to be ongoing. The Yen index weakened a bit today but it gave back hardly any of its gains from yesterday. But the US$ index declined today, and gold was up a little bit (not quite as much as I would have thought given the decline in the US$ an...

Well, today was a wild day in the markets. Many of the markets were down more than 2% during the day, with the higher-beta emerging market or commodity-sensitive ones down a lot more, but there was a massive rally near the end of the day and the losses were pared. S&P 500 even finished in the positive (just barely). Here is a chart of the S&P/TSX Composite which finished with a loss of -1.53% but was down around -4% during lunch. (source: The Globe & Mail ) Almost everything sold off and ended up with losses. If it weren't for the big rally near the end, some sectors like materials and energy would have been down quite a bit. The S&P/TSX is close to negative, if it isn't negative already (same goes for the Dow and S&P500). The most important thing to note is that there was a massive rally in the Yen: (source: StockCharts.com) This is an amazing appreciation for a currency in one day. Things like this just doesn't happen often so one should pay attentio...

One of the big question marks for those like me who think the markets are overvalued is the seemingly low P/E ratio on stocks. Right now the P/E on S&P 500 is around 16. This is not expensive so why be cautious (bearish)? Well, one view is given by Marc Faber, who implied that there isn't a valuation bubble but there is an earnings bubble. If the 'E' part of the equation is "bubbly" then the P/E ratio will be low. That is a view that can be proven in hindsight (we just don't know if earnings are sustainable or not). How about P/E ratios from a historical point of view? I came across a very good article in the New York Times by David Leonhardt talking about measuring long-term P/E ratios. Graham & Dodd suggested that one should use a long-term P/E ratio to look at valuation. Instead of simply looking at one year's P/E ratio, a 10 year ratio would be better. Here is a chart of what the trailing 10 year P/E ratios produce: (source: Remembering a Clas...

I have commented that announced mergers are some of the most attractive in my eyes these days. Given all the market volatility, an announced merger presents good return (5% to 10% for the reasonably safe ones) regardless of market direction. The only thing is that the deal needs to close. I'm not comparing myself to the greatest investor of all time by any means but Warren Buffett just filed a report saying Berkshire Hathaway took a stake in Dow Jones . Recall that Buffett said he did not like investing in newspapers (they are glamour stocks trading at high valuations, similar to sports teams, fashion houses, etc) so this is purely an "arbitrage-type" situation. It isn't a true arbitrage because it isn't risk-free profits (that's the definition of arbitrage). There is no way to purely hedge your position here. In any case, Buffett was clearly confident that the deal will close. Buffett has done a lot of "arbitrage-type" investments in the past. If I ...

I consider the following two charts to be some of the most important charts to watch. They are the currency charts of the US$ index and the Yen index. If the stock market goes into a correction, I expect the Yen carry-trade to unwind. So that's something we should watch for. If the US$ rallies during a correction, it likely means capital flight to safety. Contrary to some people's opinion, the US$ is still the safest currency around. A sharp rally in the US$ will likely result in corrections in emerging markets as well. Not only will capital fly away from the unsafe emerging markets to the safe US$-denominated assets, but an impetus will also be provided by the fact that returns in foreign markets in US$-terms will not be so attractive. The decline in the US$ in the last few years has meant that American investors had an incentive to shift capital to foreign markets.

Delta Financial announced its earnings and mentioned that it received $70 million of additional capital. "First, we obtained a $60.0 million financing facility from an affiliate of Angelo, Gordon & Co., a leading alternative asset management firm. The financing is collateralized by all of our currently existing securitization cashflow certificates. As part of the transaction, Angelo, Gordon & Co. will receive warrants to purchase 10.0 million shares of our Common Stock with an initial exercise price of $5.00 per share, expiring February 2009, subject to extension if we do not obtain stockholder approval for the warrant issuance within 90 days of the closing date. The fair value of the warrants issued will be amortized to interest expense as a non-cash yield adjustment over the life of the associated financing facility." "At the same time, we have agreed to issue $10.0 million of convertible notes to funds managed by Mr. Mohnish Pabrai, one of our largest stockhol...

I don't know if it's greed or if it is the best area right now but I'm looking more and more at announced takeovers. The experts consider it arbitrage but since I don't short it is only speculation (on a side note, even having the ability to short won't help in the cases I'm looking at because it is next to impossible to hedge some of the cash deals with questionable debt offerings). Takeovers look attractive to me because: Market is selling off so even "safe" deals are being indiscriminately being sold (to raise capital I assume). It is hard to find the present situations at other times of the market cycle. One can pick up almost 10% from a "somewhat safe" announced deal. If the market has entered a correction (one is never sure--I have been wrong for at least an year on some key calls) then picking up 5% to 10% on reasonably "safe" deals is amazing. Yes, it is speculation but it is a different kind of speculation from betting on, ...

John Hussman has a good write-up talking about recent liquidity injections into the market. Contrary some people's opinion, the Federal Reserve did not bail out anyone. All they provided was very-short-term loans that need to be repaid. Good analysis of the situation by John Hussman. Here is his view on the present market: I noted a few weeks ago that increasing volatility at 5-10 minute intervals tends to be a precursor to significant market weakness. Indeed, a variety of systems, both in the physical world, and in networks, display a “signature” prior to chaotic instability, similar to how tremors precede earthquakes. These signatures are sometimes measured in terms of very arcane features, but in the stock market, you can observe it prior to other historical panics and crashes as a combination of surging trading volume coupled with rising volatility at increasingly short frequencies (so that the time dimension “collapses,” and you begin to observe fluctuations in 10-minute, 1-h...

Here are a couple of good interviews with Marc Faber. Both interviews are pretty similar so if you want to check out only one interview, listen to the Bloomberg interview. Marc Faber Interview at Business News Network (Canada) [scroll to around 1/3 of the way through] Marc Faber interview with Bloomberg In case you have never heard of Marc Faber, he has been superbearish on the markets for a while now. He has had a big influence on me, not so much with my investing methodologies but with his contrarian off-the-wall thinking and worldly views. If you want to hear the bear case, check the interviews above. If you don't have time, here are some key insights I picked up from his comments. Note that I'm paraphrasing a lot of his points and adding my own comments. Insights from Marc Faber (As of August 2007) Start of a bear market Marc Faber thinks this may be the start of a bear market. He points to some technical signs, such as the fact that 400+ stocks were hitting yearly lows eve...

I found a good website listing all the announced M&A from a posting by the user, MergerArb, on the WSJ blog . Obviously one needs to double-check the numbers that are posted and dig into the details to see the risk but it's a good site. You can find the M&A merger arbitrage site here . According to the numbers from that site, the top 10 potential profits as of today would be one of the following (note: these are not annualized profits): RDN....78.4% LEND...69.7% TONE...44.8% TRB....28.3% LEV....27.1% OATS...26.2% SLM....24.5% CMLS...21.6% PHH....21.4% XMSR...20.1% Note that the list doesn't seem to include announced foreign deals (such as the BCE or ABN-Amro deal) and the risk in these are very high. The risk in the BCE and ABM-Amro deal are likely low IMO but the ones above are very high (I can see many of them not going through).

Thinking about BCE led me to consider another proposed takeover: the ABN-Amro takeover. There are two competing offers, one from a consortium of RBS, Fortis, and Sander (RFS), and another from Barclays. Similar to the BCE situation, the market is thinking that Fortis may not be able to raise financing via debt. This is actually an attractive deal although although with much higher risk than the BCE deal in my opinion. I have laid out the information I can gather below (I can't guarantee 100% accuarcy with some figures so click here for actual information about the takeover from ABN-Amro). Also note that I am only taking about the offer for the ABN-Amro ADS trading on NYSE (the local shares trading in Netherlands have different conditions). Key Details RFS: EUR 35.60 + 0.296 newly issued ordinary shares of RBS Closing date of RFS offer: October 5, 2007 Barclays: 0.5325 Barclays ADSs + EUR 13.151 Closing date of Barclays offer: October 4, 2007 Vote by ABN-Amro shareholders: Septembe...

I am considering whether to invest in BCE (ticker: BCE). A takeover deal has been announced for C$42.75 (note: I'm looking at the Canadian info; the US numbers will be slightly different) but the stock is trading right now at $C38.84. The deal is expected to close early next year (Q1 2008), while shareholder vote will happen on September 21, 2007. Obviously the market is concerned that the deal won't go through since it involves raising a lot of debt. I think the chance of the deal failing is pretty low (BCE is a pretty solid telecom in Canada and if bond investors would want to finance anything, it'll be something like Bell Canada). You are basically looking at around 10% return in 9 months (excluding transaction costs and any potential dividends). The downside is that the deal won't go through and the stock price falls down back to whatever it was before the deal. There is also a risk that the deal may be delayed if financing can't be raised in time (I view this a...

The Globe & Mail has an interesting article on those spam e-mail touting stocks. Supposedly, the greatest promotion of a stock occurred recently with billions of e-mail being sent. Over the past two days, more than a half a billion e-mails have landed in inboxes around the world touting obscure little Prime Time Group Inc. of Branson, Mo., according to transmissions tracked by international Internet security consulting firm Sophos Inc. That makes Prime Time the subject of perhaps the most widespread Internet e-mail stock-pumping scam in history. The sad thing is that people actually fall for this. I have started to look at OTC, Pink Sheet, and TSX Venture stocks lately (I used to avoid them before) and this is something one needs to keep in mind. If you invest based on some fundamentals and check a long term chart of a stock, one should be able to weed out the bogus spikes. It also helps if one tracks these microcaps for months before actually purchasing them. That way, you can ge...

Delta Financial (DFC) filed a report with the SEC saying why their earnings were delayed: Delta Financial Corporation (the “Registrant”) was unable to complete and timely file its Form 10-Q (the “Form 10-Q”) for the three months ended June 30, 2007 without unreasonable effort or expense. While completing the proposed filing, the Company began to negotiate one or more arrangements to add new sources of capital , and the results of these negotiations would directly and materially impact the disclosures and financial condition of the Company to be set forth in the Form 10-Q. The Registrant expects to file the Form 10-Q within 5 days of the date hereof. So it looks like they were having problems raising capital for their loans. This was my guess and it remains to be seen what the impact of this will be. Since DFC, like most mortgage lenders, has very low equity relative to debt, issuing shares is very expensive--especially at the current depressed prices. I don't think the company is ...

When it comes to some ideas and thoughts running in my head, I'm not sure if I should post seperate, longer, blog entries or lump them into one post. For now, I'm going to post once a day with seemingly random thoughts. I'll mention whatever I find insightful. You won't find general market commentary here, unless I find it worthwhile (other sites can do a better job of providing the general picture). Market-neutral Hedge Funds Failing Another big sell-off today but it came off big rallies in the last two days. As is typically the case with these broad-market sell-offs, almost everything is in the red except the Japanese Yen . I have maintained for a while that gold (including bulliion) is not safe during a market sell-off. Today is an example of gold selling off sharply along with the broad markets. Historically gold has had negative correlation with equities but that hasn't been the case in the last few years. The central banks in Europe and Canada also injected li...

I had been tracking Delta Financial Corporation (DFC) for a few months now. Delta dropped around 40% today after delaying their earnings call. The way Delta Financial handled the situation seems bizarre. They didn't even release a formal press release, and instead just posted a brief note saying they are delaying the earnings call just before the earnings announcement before market open. The following analysts comments pretty much captures the shareholder's thoughts I imagine: Richard Eckert, who follows the mortgage-lending industry for Roth Capital Partners in Los Angeles, said the postponement came as a major surprise."I'm wondering what they know today that they didn't know yesterday or two days ago," Eckert said. "If they were planning to postpone the earnings report, why didn't they issue a press release? Why wait until this morning? Why leave it for people to find out by themselves?" ( source: Delta Financial, LI subprime lender, puts off ...

One of the most counter-intuitive things with gold mining companies is that, if you are bullish on the price of gold, high-cost producers can potentially result in greater increases in profits. High-cost producer leverage is somewhat similar to debt leverage for a typical business. The spreadsheet below shows an example of a high-cost producer (I picked Harmony's 2007 cash cost estimate from HSBC) versus a low-cost producer (Goldcorp's 2007 estimated cash costs). I am simply picking 1 million ounces of production (that's not the actual production by these companies). When gold goes from $600 to $700, it increases by 16.7%. GG's profit increases by 27.3%, while HMY's profit increases by 45.9%. Similarly from $700 to $800, gold increases by 14.3%, while GG is 21.5% and HMY is 31.4%. So, for the same amount of increase in the gold price, the profit on the high cost producer increases much more than with a low cost producer. The low cost producer will still make a high...

I decided to evaluate my investments and to see how I have evolved. I am a newbie and only started investing a few years ago. My record has been satisfactory in that period (nothing great, but not horrible either). My returns in 2004, 2005, 2006, and 2007 YTD are: 5%, 15%, 30%, -12% YTD. This year is turning out to be a disaster (mostly because the Canadian $ appreciated strongly against the US$ and most of my holdings are in US$; and because my short of the TSX has not gone well) but the verdict is still out. I started within a bull market so the returns are higher than what I would expect. Also, my portfolio is tiny (basically started with $0 so small positive returns have had a big effect). The tough part is yet to come as we enter, what I think will be, a bear market. After all, everyone is a genius during a bull market ... My strategies have changed over the years. Here is how my strategies have changed: Less speculation now Before I was more into speculative stuff--although not a...

I came across a two-week old article from TheStreet.com by Daniel Harrison talking about the Yen carry-trade. Apparently so-called "Japanese housewives" (BTW, this does not necessarily refer to stay-at-home women; It is a general term applied to retail investors it seems) are betting on foreign currencies and sectors like gold. They seem to be moving into the South African Rand, pushing it up and hurting export-oriented goldminers such as Harmony (HMY) and Gold Fields (GFI). Net income is down 50% in some of these companies because the Rand has appreciated much more than their their sales in US$. I have always known most of what was said in the article but I didn't realize how big the Yen carry-trade speculation was. It seems like the speculation on currencies has taken on some bubble-like proportions: In Japan, the carry trade is reminiscent of the dot-com bubble in 2000, he explains, in which foreign-exchange speculators include Japanese housewives, cab drivers and hai...

Credit Problems Impacting the Markets Finally the yields on low-quality bonds are rising. A lot of peole like me have felt that the yields were too low and didn't price risk properly. Bear Stearns, one of the 5 big Wall Street investment banks, is facing a series of problems due to the re-pricing of mortgage debt such as CDOs. Bear Stearns seems highly vulnerable since a big chunk of its dealings seem to be in the mortgage securities. The stock (ticker: BSC) is down more than 30% in the last few months and may drop more if further problems are revealed. The real question is who else is impacted by these problems. The Economist has a good article on the winners and losers in the credit meltdown. It looks like a lot of banks may be vulnerable to some losses due to bridge loans they are holding (bridge loans are temporary loans that banks loan out while trying to sell debt to investors--if they can't issue debt then the banks are left holding the bag). I wonder if any Canadian ba...