Sunday, March 28, 2010 3 comments ++[ CLICK TO COMMENT ]++

Quick update on the markets

The following is a graph, courtesy, of three key indicators I like to look at: stocks, US treasuries, and the US$.

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Opinion: EU and its hedge fund side show

The financial crisis clearly illustrates how greater regulation is required, but I have no idea why the EU is going after the shadow banking system (hedge funds, private equity, etc.) Yves Smith at Naked Capitalism seems to be in favour of such a move but as far as I'm concerned, it's a complete waste of time and detracts from the real reform that is required.

Some policymakers in the EU appear to believe that these players were the cause of the financial crisis and/or made it worse. Recent stories have even suggested the belief by some that countries like Greece wouldn't be in a crisis if hedge funds didn't bet against their bonds. If one sat back and thought about it, they would quickly realize that none of that is true.

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Sunday Spectacle LIII

(source: Eye on Asian Equities: Ten in 'ten, 1Q 2010, CLSA)

Thursday, March 25, 2010 0 comments ++[ CLICK TO COMMENT ]++

Commodity funds see big asset inflows

According to a report from Lipper quoted by MarketWatch, commodity-related funds have seen the biggest in-flows over the year. This is somewhat interesting given that money is flowing into sectors that aren't necessarily the top-perfomring sectors (often, money chases momentum and flows into the best-performing sectors.) It's clearly the sign that market participants, at least the retail investors, are betting heavily on inflation.

Commodities funds saw positive flows each month from the beginning of March 2009 through February, and swallowed two-thirds of all new money heading into sector stock funds, and more than a quarter of net inflows for all stock funds, according to fund tracker Lipper Inc. Commodities funds account for just 8% of all sector funds.
The bear remains in hibernationWhile the stock market is ripe for a pullback, ingredients for a more momentous market top are absent, reports Barron's Michael Santoli.

In those 12 months, the funds have seen total net inflow of $12.2 billion. The only other sector category that saw more than $1 billion in net inflows was gold-oriented funds.

Total net inflows into all stock funds for the period were $44 billion.

The inflows represent 23% of total assets among the 144 commodities funds -- a big uptick for a relatively small slice of the market.

This isn't a case of investors chasing hot returns: Among Lipper's 20 sector stock fund categories, commodities funds have lagged each month and, excepting utility funds, are the worst-performing category.

Tuesday, March 23, 2010 1 comments ++[ CLICK TO COMMENT ]++

Geoff Gannon audio podcasts

I think I figured out that I'm not really a listener; instead, I am really a reader. I don't know if I covered it in this blog but the great management thinker, Peter Drucker, suggested that some people learn by listening while others learn by reading. I think I know where I stand. I think I absorb way more information through reading than listening. I started commuting to work by car and I was investigating whether audio broadcasts in the car was something worth pursuing and I doesn't think I absorbed much. I was listening to the audio edition of The Economist (requires subscription) and the audio edition was great—highly recommended if you are a listener type and into macro-oriented stuff—but I just don't learn much through listening. My mind just doesn't concentrate on the speech, even if I'm in slow, stop & go, traffic.

Having said all that, I do listen to audio as a break from reading. Some of you may have already encountered it but for those that haven't, I want to recommend Geoff Gannon's audio podcasts. They are apparently being sponsored by GuruFocus and Gannon has 9 broadcasts so far.

Geoff Gannon is an investor who pretty much has the value investing framework nailed (another guy I'm impressed with is Saj Karsan.) This doesn't necessarily mean you will be successful in investing but it does mean that you are headed in the right direction (at least for value investors.) Staying true to his knitting, it is obvious that Gannon is pretty good at financial statement analysis.

There are 9 audio broadcasts that you can access from the GuruFocus site or from the iTunes site here. Some of the broadcasts and short and to the point, while others are more insightful and deeper. I think the broadcasts are likely to be helpful to anyone who is between a beginner to an intermdiate investor.


Public pension plans swing for the fence

Andrew Willis of The Globe & Mail picked an interesting report from an analyst, dealing with the behaviour of private/corporate pension plans and public pension plans. Apparently the public pensions decided to take on greater risk while the private ones have shed risk. The article points out that public pension plans tend to hold less riskier assets so the increase in risk-taking doesn't necessarily mean they are, all of a sudden, more risky than the private ones. All we know is that they appear to increase their risk tolerance.

Corporations that run pension plans for their employees are revisiting portfolio strategy with an eye to shedding risk and are “preparing for the inevitability of much higher cash contribution requirements,” according to a report released Tuesday from consulting firm Greenwich Associates.

Public sector funds, on the other hand, “are shifting money into riskier asset classes in what is looking like a swing-for-the-fences attempt to close shortfalls with future investment returns that far outpace those of the broad market,” said Greenwich pension experts.

“Corporate funds have traditionally invested much larger portions of their assets in equities, while public funds took a more conservative stance with bigger allocations to fixed income,” explains Greenwich Associates consultant Dev Clifford.

“As a result of their differing strategies in the wake of the crisis, public pension funds and corporate funds are approaching parity in their U.S. equity allocations, and public funds are making and planning meaningful investments in private equity, international stocks, hedge funds and real estate.”

Greenwich found the typical pension plan lost 19 per cent of assets between the start of 2008 and the market’s lowest levels in March, 2009. Those losses left most plans massively under-funded, with a pension promise to employees that cannot be paid with current assets.

Unfortunately this analyst report appears to rely on survey responses rather than hard data. In any case, given the huge rally in nearly all assets in the last year, I think we can safely say the public pension funds profitted hansomely with their 'swing for the fences' tactic. But it remains to be seen if their strategy will continue to pay off or if they will be stuck with big losses and illiquid assets that are hard to sell.

Monday, March 22, 2010 7 comments ++[ CLICK TO COMMENT ]++

The emerging problem for old media...this time, television

This blog has beaten to death the struggles of newspapers. It appears that, next in line, will be television. I ran across an article in The Globe & Mail reporting that Canadians, for the first time, spent more time on the Internet than with their television:

The average Canadian now spends more time on the Internet than watching television, according to a new survey from Ipsos Reid, a shift in digital habits that reflects the increasing prevalence of computers in our lives.

This survey, its author says, marks a closing of the gap between a younger generation that has always spent a significant amount of their leisure time on computers and an older generation that used to rely on “old” media. Canadians now spend more than 18 hours a week online, compared to just under 17 hours watching television.
Industry watchers, however, cautioned the Ipsos results should not be taken as some wholesale shift away from the type of content produced by “old media,” and that this survey's results simply trace an evolution of how we seek and receive information.

“It can be kind of confusing when we try and set these media up against each other,” said Sidney Eve Matrix, a media professor at Queen's University. “If you're trying to separate time spent on the Internet from time spent watching television, that's a bit misleading... The Internet is a multimedia world. We consume our newspapers on the Web.”

I kind of disagree with the professor's view. Yes, the two media aren't directly comparable; yes, the Internet is more of a multi-tasking world. But I would argue that we are indeed witnessing a major shift.

For investors, I think it is very important to realize that the Internet can be a substitute. Even if someone is consuming the same content, the structure of the industry would radically change.

For instance, a lot of people still read newspapers online yet the whole newspaper industry has been turned upside down. There are many reasons for this but let's look at one important element: advertising. One of the reasons newspapers have suffered is due to the shift of advertisers to online campaigns from print campaigns. The online advertising model—very low cost, targetted advertising, etc—has completely destroyed newspapers. The same thing could happen to television.

I hate making macro calls given my poor record ;) but I really wonder about some of the television and cable companies.


America passes sweeping healthcare reform

Today is a historic day in America. After many years of putting the problem aside, not to mention aborted attempts by previous administrations, the Obama administration has staked its legacy on reforing the US healthcare system. In what will go down in history as one of the largest government restructuring of an industry, the US government is finally attempting to tackle the spiralling healthcare cost problem. It is a huge gamble for Barack Obama—I would put the risk similar to that of George Bush's gamble on the Invasion of Iraq—and the pay-off can be an absolute disaster; or it can be one of the most important things the US government has carried out in several decades.

I am not a legal expert and haven't followed this issue closely but there is always a possibility of a future government undoing the proposed changes. However, given the highly-complex reform and the difficulty in getting many to agree on any point, I think the current law will largely remain for a long time—probably for my life.

Sunday, March 21, 2010 0 comments ++[ CLICK TO COMMENT ]++

Sunday Spectacle LII

Looming Crisis - Gender Imbalance

(source: "The worldwide war on baby girls," The Economist, Mar 4th 2010)

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Monday, March 15, 2010 8 comments ++[ CLICK TO COMMENT ]++

Opinion: In defense of Lehman Brothers

I don't like witch hunts—especially when one can't tell who the witch is, or even if they exist. Even worse is when you kill a human while witches are all around you.

Such is the case with Lehman Brothers.

Some may find this article a bit surprising and out of character for me. I'll state my position up front and say that I don't think the executives of Lehman Brothers have committed crimes anywhere near the degree that the mainstream media and the masses believe. It looks like very few share my view, other than Charlie Gasparino of all people (yikes, when Charlie and I are on similar pages, the world is probably coming to an end ;) ) Some of the blogs I read appear to believe they have found the witches who nearly caused the financial system in America to collapse, but I believe they are grossly mistaken.

The clueless masses are calling for the execution of someone—anyone!—and whoever is associated with Lehman Brothers seems like an easy target. Although I am critical of the Street at times, especially for their greed, I don't think the firms and their employes are as criminal as many claim. I certainly feel this way about Lehman Brothers. I have defended the company in the past—admittedly I was wrong about their financial condition—and I still have the feeling that they were not a total fraud like many claim. I also hate to see someone who has fallen being kicked and that's kind of what is happening.

As many of you are probably aware, the examiner hired by the Lehman Brothers Trustee released a report suggesting potential foul play and opening the door to lawsuits. Let's recap what the situation. I am neither a legal expert nor understand banking and finance so I'll be extensively quoting various sources below.

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Sunday, March 14, 2010 1 comments ++[ CLICK TO COMMENT ]++

When did the CEO title become more prominent than President/Managing Director/Etc?

Ever wonder when the most powerful employee started being called the CEO (chief executive officer)? Well this post is all about that. Totally useless for investing purposes but I like knowing little things like this. Hopefully I or one or more of you will end up with that title one day :)

I ran across the following audio clip from The Economist where an academic expert on Human Resources was interviewed on this topic. The CEO title was popularized by American corporate culture and it looks like IBM gets credit as the first company to use the title extensively. If you look outside America, you will still see countries using different tittles for the most-senior employee. According to audio interview, the most powerful employee in India is the Managing Director. From my experience researching Japanese stocks, it appears that the highest level position is the President.

Before I heard this audio chat, I also never realized that the COO (chief operating officer) is a vague title that indicated a CEO-in-waiting more than anything to do with the company's operations.


Sunday Spectacle LI

(source: Time)

History doesn't repeat but it sure does rhyme...
Guess the last time people thought USA was going broke...

Thursday, March 11, 2010 1 comments ++[ CLICK TO COMMENT ]++

Futures market for movies -- yay or nay?

Looks like we have a couple of futures markets being set up to handle bets on movies. At the rate that we are going, we will have a derivatives market for almost anything pretty soon ;) The Globe & Mail picks up a New York Times story detailing the futures markets for movies being set up:

Cantor Futures Exchange, a subsidiary of Cantor Fitzgerald, expects to open an online futures market next month that will allow studios, institutions and moviegoers to place bets on the box-office revenue of Hollywood's biggest releases. Last week, the company learned from regulators that customers could start putting money into their accounts on March 15.


Betting on the success of Hollywood releases has long been a parlor game for moviegoers. In 2001, Cantor Fitzgerald bought the Web site (for “Hollywood Stock Exchange“), where users can place bets with play money on a film's box-office success; smart traders win little more than satisfaction. Mr. Jaycobs said that he hoped to lure a sizable portion of that site's 200,000 active users to the real futures exchange


Veriana Networks, a privately owned media and technology company, plans to operate a competing trading exchange, called Trend Exchange, in Chicago after receiving regulatory approval, which the company expects later this month. Trend Exchange, however, will work only with professional and institutional investors and will build the market slowly...

The last thing we need in society is for more people to waste their money gambling. However, unlike a slots machine or Russian roulette in a casino, these futures markets should provide better insight into the underlying activity—price discovery for the movie business, if you will. Market participants involved in the actual underlying business will also be able to achieve limited hedging of their risk.


Smart Bankers + Dumb Politicians = Unhappy Taxpayer

I stole the title from a Globe & Mail reader, Marvin Android, in regards to a story speculating on potential losses by Italian governments from derivatives contracts:

In a test case, a judge in Milan will decide in coming weeks whether to try 13 people and four banks – UBS, Deutsche Bank, Germany's Depfa and JPMorgan Chase & Co – on aggravated fraud charges. The case stems from a derivatives swap over a €1.68-billion 30-year bond, the biggest issued by an Italian city.

Milan, Italy's financial capital, is facing a €100-million loss on the deal, city officials say. Milan is also suing the banks for €239-million in overall liabilities.

In the southern region of Puglia, prosecutors are seeking to bar Merrill Lynch, a unit of Bank of America Corp, from government contracts for two years. The move stems from derivatives losses from €870-million in regional bonds.

JPMorgan, UBS and Deutsche have denied wrongdoing, and Depfa has declined comment. Merrill has not commented.

Almost 500 small and large Italian cities are facing mark-to-market losses of €2.5-billion on the contracts, according to the Bank of Italy. Analysts say that figure will balloon when interest rates go up.

Most of the contracts involved switching fixed rates on loans to variable ones with banks.

Tuesday, March 9, 2010 0 comments ++[ CLICK TO COMMENT ]++

Thought about the Land of the Rising Sun

Reader craigatk, who apparently lives in Japan but hates investing there as much as any of us ;), was wondering about my thoughts on Japan. The excellent special-situation-oriented blog, Greenbackd, had a few posts on Japan that you may want to check out if you haven't already (post 1 & post 2.) I think classic value investors, who focus more on financial statement analysis, will probably have greater success in Japan than "modern" value investors who focus more on concepts like "moat."

I haven't looked at Japan very closely of late but even with all the crazy events of the last two years, I feel the same as I did when I wrote about Japan a couple of years ago (if you are interested, read the early posts tagged as "Japan.") Namely, it's one of the the most contrarian (major) markets in the world. Even Marc Faber has been bullish on Japan of late. As was the case a few years ago, many companies trade near book value, with many small companies trading below book value and sometimes below liquidation value. The change in government, to a more liberal one, is a positive in my eyes (although conservatives probably won't like it.)

The problem for Buffett-like investors, as always, is that the companies are not shareholder-friendly. ROE, return on equity, is terrible and there appears to be no way to raise it. Even foreign control investors appear to have serious problems because Japan is, I hate to say it, very xenophobic and possibly racist to some degree. Or maybe it's not an issue of ethnic discrimination but one of nationalism. But whatever it is, foreign investors have very little influence. Some, such as Martin Whitman, with Toyota Industries (JP: 6201), has had success in the past but I have seen very other cases of influence.

Without shareholder influence, you are pretty much stuck with a low ROE—in many cases, the ROE is due to high cash holdings or cross-holdings of unrelated businesses and shareholders can't unlock this—and take-over premium likely doesn't exist. As much as the 'barbarians at the gate' are hated in America in some quarters, stocks generally trade as if a barbarian will come and buy out the company if it's too cheap (for those not familiar, barbarians here refer to private equity, once known as LBOs or Leveraged Buyout funds. I am including hostile activist investors in this camp although I think 'green knights' is probably a better term for them :).)

Instead of reinvesting the wheel, let me quote an InvestmentU article written by Tony Daltorio (courtesy GuruFocus) that provides some examples backing my points above. To start off, Tony Daltorio references a Nomura research report (date not clear):

Japanese brokerage firm Nomura estimates a mere 4.7% return on equity for small caps this year, as compared to 6.6% for all Japanese companies and 13.4% for stocks in the developed world.

Fortunately, a projected earnings recovery over the next few years could push return on equity to 7%. That, in turn, could rally small-cap share prices up more than 50% just to keep up with other markets.


Opinion: One of Warren Buffett's management call mistakes - Jeff Immelt of GE

In fairness, we’ve seen plenty of successes as well, some truly outstanding. There are many giant-company managers whom I greatly admire...Jeff Immelt of G.E [and a few others]....come quickly to mind.

— Warren Buffett

Warren Buffett is one of the best investors at judging management—he has to be, given how he is a concentrated investor. But he does make mistakes and Jeff Immelt of GE is one of his mistakes. However, Jeff Immelt is an unusual example of a mistake for several reasons. Buffett, as well as many others, would probably disagree with me (that's why I consider this post strictly an opinion piece.)

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Sunday, March 7, 2010 0 comments ++[ CLICK TO COMMENT ]++

Sunday Spectacle L

Canadian Federal Government
Income & Expense Breakdown

The illustration is for Canada but most developed countries are similar. Note that this is just the federal government (the breakdown is different for provinces/states and municipalities.)

One thing that may surprise some is how businesses don't contribute all that much to the federal government. Personal income taxes contribute around 40% to 50%, with sales taxes (GST and duties) contributing another 20%, while corporate taxes amount to less than 20% of federal government income. Corporate income taxes have fallen due to the recession but even during good times, corporate taxes don't contribute that much.

However, note that corporate income is taxed twice. The corporation pays an income tax and the owner would pay an income tax on the dividends or capital gains from that corporation (assuming that person resided in Canada.)

The success of the Liberals in cutting debt charges is also evident the picture (most of the changes were in the late 90's but the results show up later.) Debt charges were around 25% of government income in the early 2000s but is less than 10% right now.

Debt charges was the main financial problem in the late 90's but going forward, given the ageing population, the issue will be the contributions to the elderly.

(source: "A 10-year timeline of revenues and spending," The Globe & Mail, undated (1st week of March of 2010))

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Saturday, March 6, 2010 0 comments ++[ CLICK TO COMMENT ]++

FCF vs Earnings

People who are lazy, like me, and rely on earnings numbers (such P/E ratios or EPS growth,) need to be always mindful that earnings may not accrue to the shareholder in the long run. This occurs when a company earns money (i.e. is highly profitable) but the money is squandered away in some manner.

Sometimes, it is not the fault of management per se (i.e. not entirely bad capital allocation); it can simply be the nature of the industry. One of the most common ways this can occur is if the profits need to be recycled into the business just to keep the business running.

What really matters for the long-term investor is something more along the lines of "owner earnings" or "free cash flow." Investors who lean more towards value investing tend to rely more on FCF (free cash flow) than on earnings. A good example of this is fund manager, Bruce Berkowitz, who appears to rely almost solely on FCF and rarely talks about EPS.

Like most on the Street, I primarily rely on EPS (earnings per share) but I do look at FCF if I'm contemplating a long-term investment. I have been evaluating Mega Brands (TSX: MB), a distressed toy company, and wanted to highlight how earnings can differ materially from FCF. I'll finish off by also presenting an example that is the opposite, where FCF is much higher than reported earnings.

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Thursday, March 4, 2010 3 comments ++[ CLICK TO COMMENT ]++

Never knew insider trading was legal in commodity markets

I never knew, until reading the following short blurb from a WSJ MarketBeat blog entry, that insider trading in commodity markets is legal (at least in USA.) As many are probably aware, trading on insider information is illegal in the stock market. WSJ's MarketBeat reports:

Under current regulations, the CFTC doesn’t ban trading on inside information. Here’s how the Journal [Wall Street Journal] explained it in a 2008 article:

Unlike most stock markets, insider trading isn’t generally illegal in commodities trading. An oil company can take advantage of inside information about its production outlook when it makes trades. However, if traders intentionally create an artificial price and use it to make money, charges of manipulation may arise.

I didn't know this until now. I am not really a commodity investor and am generally a long-term investor—insider information has little detrimental impact in these two scenarios—but it's still interesting from a theoretical point of view.
There are some who believe that trading on insider information should be allowed. They believe price discovery is improved if insider trading was allowed; and they generally argue that "shocks" will be less common (for instance, stock prices may not gap down or gap up as much when material information is released.) The author of the blog clearly falls into this camp since he is making fun of the government proposal to curtail insider trading in the commodity markets.
I personally find the view supporting insider trading ludicrous. I fall in the other camp that believes trading on insider information should be outlawed. Generally, but not always, insider trading provides a great advantage to insiders with the material information. If you value equality or some notion of fairness then I don't see how you can justify insider trading.
But do note that insider trading has very negligible impact on long-term investors. Fundamentals over the years will generally matter more than whether you "time" things properly (that's all insider trading generally provides, except in rare scenarios of corporate fraud or some grave outcome.)
On a side note, I wonder if the commodity markets more efficiently price assets better than the stock market. Yes, they are totally different things and cannot be compared directly, but in a rough sense, do they provide better price discovery? Those who argue in favour of allowing insider trading (usually academic types or corporate insiders) have always claimed that it will improve the markets. I wonder if that's actually true when it comes to the commodity markets... hmm... something to think about.

Conversely, are the anti-insider-trading types, like me, right? Do those insiders actually get a benefit? Would a firm that does a lot of trading, while having deep insight into the commodity markets, earn very high profits (an example would be an oil company with a big trading operation)? Would those "independent" trading firms (just a trading house without any knowledge of operations, pricing negotations between suppliers and customers, etc) earn less profits? I don't know but I wonder. I'm not too knowledgeable about commodity markets but my impression is that "independent" traders, including some big Wall Street firms like Goldman Sachs, earn hundreads of millions in profits while I haven't heard of oil companies or shipping companies or whatever else, making quite as much money. Maybe the investment banks and independent trading firms are more leveraged (i.e. profits are boosted) but whatever it is, the advantage to the insiders doesn't seem as big as critics like me would have you believe.

Monday, March 1, 2010 0 comments ++[ CLICK TO COMMENT ]++

Someone in Omaha won't be a happy camper if France wins the World Cup this year

Can France win the World Cup this year? For those in America, I'm talking about soccer. You know, people kicking round balls ;)

(Photographer unknown. Source:

The last time France won, in 1998, the player above scored two key goals in the final (one of them is the picture above.) Of course, they don't have that guy anymore.

Well, lack of confidence is the last thing many in the Les Bleus camp need right now yet it seems one of Berkshire Hathaway's insurance divisions is apparently set to lose as much as $30 million if France wins. Marketwatch reports, "'If France wins the World Cup, I think we’re going to lose about 30 million bucks or something like that,' he [Warren Buffett] said on an early cable news show. 'We get all kinds of risks that come into Berkshire.'" Apparently the bet is the idea of Ajit Jain, the insurance genius at Berkshire Hathaway. The article provides no details but I suspect Berkshire is insuring one of the sponsors against a world-wide prize or contest of some sort.

MarketWatch also reports the odds: "France is a 12-1 underdog, according to, an Irish online betting site. The shortest odds are on Spain, 4-1 while the longest odds are on North Korea, 1,000 to 1." What?? I'm truly dissapointed that North Korea only has odds of 1000-to-1. Even the contrarians who bet on contrarianism-for-the-sake-of-contrarianism wouldn't bet on North Korea given the likely, lowly, payout of those odds ;)