Tuesday, November 30, 2010 7 comments ++[ CLICK TO COMMENT ]++

Measuring returns: Time-weighted vs Dollar-weighted

Writing for The Globe & Mail, Preet Banerjee has a good column pointing out how different ways of measuring returns produces different results:

Time-weighted returns v dollar-weighted returns

Let's assume that a portfolio has three years of 20-per-cent annual returns, followed by three years of 0-per-cent annual returns. The time-weighted return is 10 per cent on average for those six years. But this is not accurate if you only invested $1 at the beginning, and then added $100,000 at the start of year four.

The end value of this portfolio after six years would be less than $100,002, because while the $1 grew at 20 per cent per year for three years, the $100,000 didn't grow at all.

The dollar-weighted return in this case would be virtually nothing. That's in stark contrast to the time-weighted average return of 10 per cent a year.

Time-weighted returns can help you figure out whether the investment was a good one in hindsight, but dollar-weighted returns will help you figure out how well you are actually deploying your money in those investments.
Although a subtle point, I think it is worth tracking both, the time-weighted return and the dollar-weighted return. Most amateur investors, at least based on my observation on the Internet, only track the dollar-weighted return. Typically, many do this using a spreadsheet and computing the IRR (internal rate of return), or by using some online tool.

I personally think it may be helpful to track both, especially if you are a concentrated investor since a few large positions can dictate your true return but doesn't indicate how good you are—your strikeout ratio. For example, my time-weighted return over the last 5 years or so, is around 3.95% per year, while the dollar-weighted return is around 0.8%. Neither of these returns are going to impress anyone but the dollar-weighted return may imply a far worse skill level than it seems. The gap between the two is very large because I saved a lot of money in the last few years and I have mostly been in cash (spectacular concentrated bet disasters, such as Ambac, also matter but less so than it seems). However, the success ratio, although not that impressive, isn't too bad. Of 27 investments I have made since I started investing, around 70% generated a positive return, with around 40% generating above a 10% cumulative return (not sure about annual return).


CNNMoney interview: Jim Chanos and his bearish view of China

The scene is a cocktail party high above the Shanghai skyline on a summer night a few months ago. Our host is a Master of the Hedge Fund Universe, one who doesn't want to be identified in the press. We'll call him Pete. Pete comes to China at least twice a year to stay abreast of what's happening in the world's most dynamic economy. He has said, in fact, that if he didn't have kids in school in the U.S., he would consider moving here, so bright is the future. In attendance are other hedge fund investors, venture capitalists, and fund managers, China bulls all. If there is one sure-fire way to ruin the atmosphere on such a pleasant evening, it is this: Ask the crowd what they think of the legendary short-seller James Chanos, CEO of Manhattan-based Kynikos Associates.

So that's what I do.

"Hey," I say to a cluster of people surrounding Pete. "Did you guys see what Jim Chanos said about China on Charlie Rose the other night?"

"No," says an American venture capitalist working in Shanghai. "What did he say?"

"He said, 'China's on an economic treadmill to hell.' "

For over a year now Chanos -- the man who got Enron (among other things) right before anyone else -- has been on a rampage about China. The guy who became famous -- and rich -- shorting companies now says he is shorting the entire country.

When I mention the "treadmill to hell" line to the group in Shanghai, the reaction is the usual one when Chanos's name comes up here: "What does he know about China?" the American VC asks. "Has he ever lived here? Does he have staff here? Does he speak Chinese?"

The answers are no, no, and no. But our host, who counts Chanos as a friend, knows that is not the point. "He did get Enron right," Pete says. "And Tyco. And the whole mortgage bust." He concludes: "Look, he may be wrong, but you need to tell me why he's wrong, not point out that he doesn't live here."

Chanos smiles when I relate the story to him on a recent morning in New York. He knows what a lightning rod he has become. "The only time I have ever been heckled giving an investment presentation was earlier this year at Oxford," he says. "Some Chinese graduate students got so annoyed with me that they started to shout me down, saying the same sort of stuff: 'What do you know about China? How dare you say such things!' "

It's not, of course, just young Chinese people who get worked up on the subject. What Fortune Global 500 company isn't betting that China is the future? For many companies, the possibility that Jim Chanos could be right, that there could be a U.S.-or-Japanese-style bust in China, is beyond scary. It's unthinkable.

Sort of the same bearish China story that we have heard from Jim Chanos before, but if you are unfamiliar with the bearish story, check out the full story and/or the video below. The article is quite detailed and contains specific securities Chanos is shorting.

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Sunday, November 28, 2010 7 comments ++[ CLICK TO COMMENT ]++

Articles for a Sunday

It'll be interesting to see how the stock market finishes off the year. The US markets are hovering close to +10% right now. I don't find the stock market attractive and probably won't do anything for a while.

Anyway, here are some articles I ran across that you may be interested in...Still have to figure out a better way to quote long text in these link posts I do. If you have any suggestions, feel free to leave your thoughts. Anyway, hope you find some of the articles and essays useful...credit goes to the original authors.

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Sunday Spectacle XCVIII

(source: "Book Review: All the Devils Are Here," Ian McGugan. Bloomberg Businessweek, November 24, 2010.
Image credits: Andrew Harrer/Bloomberg; David Karp/Bloomberg; Karen Bleier/Afp/Getty Images; Steven Puetzer/Getty Images; Frances Twitty/Getty Images)

Friday, November 26, 2010 1 comments ++[ CLICK TO COMMENT ]++

Evaluating the cost of online coupon strategies

(This post is not related to investing)

I ran across an interesting article by Jay Goltz for New York Times' You're the Boss blog. It covers the emerging online coupon marketing channel and the author suggests that such schemes be considered as an advertising strategy rather than a sales strategy. The author covers Groupon but I like to generalize and think about his comments as they apply to any of the emerging coupon internet services. I'm only excerpting a small portion and leaving out some key assumptions so read the full article if you are interested in this topic. (I bolded some items I thought were important in the quote below.)

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Wednesday, November 24, 2010 3 comments ++[ CLICK TO COMMENT ]++

Thoughts from a commodity bull

I've bearish on commodities for years but as long time readers know, I like to cover dissenting views that contradict me. This post is one such case.

I ran across a Globe & Mail interview with the author of The Little Book of Commodity Investing, John Stephenson, covering commodities. I don't know anything about this author or how good his record is but sometimes it doesn't matter what the track record of someone is; what matters is their ideas.

Here is an excerpt of some of the key questions, along with my thoughts. Since I'm bearish I'll be challenging the author's points (most of you have heard my arguments before so skip to the article directly if you are not interested in that):

Sunday, November 21, 2010 4 comments ++[ CLICK TO COMMENT ]++

Articles of Interest - November 21, 2010

If you are already feeling information overload, let me make it worse and offer you the following articles ;) As usual, not in any particular order...

  • GM changes its logo on its HQ building (The New York Times): Subtle but changes like this are important to motivate the employees and project a new brand image. The IPO was successful; the company has reduced its costs; new leadership; betting big on the Volt... Let's see if it re-invent itself, a la IBM in the 90's, or if it will continue its long decline into oblivion.
  • Consulo Mack's Wealthtrack interview with David Einhorn (Wealthtrack; via Gurufocus): David Einhorn is a sharp, up-and-coming, value investor. If I'm not mistaken, he hails from the midwest and is kind of like a young Warren Buffett (less proven than Buffett though; also seems more shorter-term-oriented and doesn't employ strategies of 'Buffett Prime' i.e. 1970's+). He rarely gives interviews worth talking about but I thought I would link to this one. I still don't get Einhorn's bullish view of gold. I am bearish on gold and think Einhorn is going to be wrong in the medium to long term. But then again, I thought he was wrong on Lehman Brothers and he was the one with the right call. Einhorn also has taken a position opposite Bruce Berkhowitz on St. Joe, a real estate/land development company in Florida.
  • The Collapse of the Celtic Tiger (Bloomberg Businessweek): Used to be one of the poorest in Europe, but through low taxes, Ireland became one of the wealthiest. Unfortunately—this is where I think a lot of extreme capitalists like Austrian Econ supporters go wrong—few realized how unsustainable it is to run a low-tax country with lax regulation.
  • (Recommended) Does Quantitative Easing II necessarily lead to expansion of the money supply? Nope (Alea): IANAE and don't really understand the mechanics well but according to the scenario presented by Alea, it appears that money supply doesn't necessarily increase under QE II. This shouldn't really be surprising given how the original Quantitative Easing was a somewhat similar strategy and all that did was to increase bank reserves (i.e. lending didn't increase). Inflationists have obviously been betting on the expectation that the bank reserves would be lent out into the economy but, interestingly, as QE II gets underway, the US$ has strengthend and gold has weakened in the last few weeks. A few weeks don't make a trend but I still find it interesting how the market has been pricing stuff opposite what many were expecting.
  • Muni bond sell-off (Distressed Debt Investing): American municipal bonds have sold off sharply in the last few weeks and it does seem a bit strange. There are a lot of theories floating around but I think investors should remain cautious. During the financial crisis, some were expecting to see higher defaults by municipalities and states yet that story has dissapeared in the last year. I wonder if the risk is starting to show up. After all, has the balance sheets of the states and municipalities improved in the last two years? I suspect not.
  • Manulife's bet on China and emerging markets (The Globe & Mail): Manulife is a large Canadian insurer that has faced some problems due to guarantees of insurance products that almost-guarantee stock-market returns (as you know, the market collapsed in the last few years). This is a long in-depth story of how the company seeks to build a business in emerging markets such as China. Since the stock has been beaten-up of late, contrarian-type investors may find it worth checking out. But like all insurance companies, it's a black box and I doubt anyone can truly know of its risk exposure. In the case of markets like China, I also wonder about the regulatory environment and legal outcomes if something bad happens.
  • (highly recommended) What happens if China slows down? (China Financial Markets): As usual, a great blog entry by Michael Pettis. In this article, he speculates on what may happen if China slows down, and why it won't be as bad as some imagine (he compares it to Japan's slowdown over the last 20 years.) I agree with Pettis to some degree but I do think that (i) a slowdown in China would be negative for the world economy since, unlike the 90's, other regions aren't experiencing strong growth; and (ii) there is a risk (hopefully it doesn't happen) of political calamity in China during any slowdown because it is a totalitarian regime (whereas Japan was not). The advantage of true democracies is that, even though they are inefficient most of the time, they excel during crises (needless to say, this is completely opposite of totalitarian regimes, which are magnificently run during good times and turn into nightmares during crises).
  • Sony attemps to re-make itself (Bloomberg Businessweek): As the article suggests, Sony needs to be more customer-focused. The gap in hardware quality has narrowed to the point that any new entrant can produce a product that is close to Sony's. Reading this article, I get the feeling that Nokia is facing the same problems as Sony.
  • Gold mining and the impact on a small town (The Globe & Mail): The dificulties faced by gold mining companies like Gabriel Resources; and the citizens who are impacted by it.
  • Tussle over French hotel empire (The Economist): Good thing about reading seemingly irrelevant articles is that you learn something about business. Until reading this article, I never knew that many hotel chains were really franchising businesses... never would have realized how the hotels are run by franchisees.
  • China's food inflation problem (The Economist): It's really hard to tell if the food inflation in China is a temporary price inflation or there is an underlying increase in money supply. We have seen similar episodes in the past, including problems in gasoline a few years ago, but they usually dissipated on their own. The government is taking no chances and cracking down on so-called speculators. As The Economist says, this doesn't help the business environment in the long run: "Inflation undermines capitalism, according to Keynes, in part because it discredits entrepreneurs. They become “profiteers” in the eyes of those hurt by rising prices. China’s leaders promise to hunt down and punish hoarders and speculators."
  • Book review of Turbulence: Boeing and the State of American Workers and Managers by Edward S. Greenberg, Leon Grunberg, Sarah Moore, and Patricia B. Sikora (New York Times): Haven't read the book but those seeking to climb the corporate ladder should probably check it out. The review makes it sound like Peter Drucker's classic on GM, The Concept of the Corporation. Reviewer Harry Hurt says:
    "ONCE upon a time, major American companies and their employees treated each other as family. The companies provided job security and lifelong benefits; in general, workers were loyal and engaged in their jobs, the occasional strike notwithstanding. But that relative harmony ended with the advent of globalization, according to “Turbulence: Boeing and the State of American Workers and Managers” (Yale University Press, 238 pages), a meticulous and illuminating case study of the nation’s largest manufacturing exporter.

    The book has four authors with a combination of academic and private-sector backgrounds: Edward S. Greenberg, Leon Grunberg, Sarah Moore and Patricia B. Sikora. Based on their research and experience, they write: “The very innovations and changes Boeing introduced to remain a leading producer of airplanes — altered management strategies, pervasive technological changes, extensive outsourcing, broad global partnerships, massive layoffs, and drastically altered ways of working — produced stress and turbulence in the lives of workers and managers alike.”
  • (recommended) Meet New Jersey Nets' New Owner, Russia's Mikhail Prokhorov (New York Times Magazine): Hard to tell how clean some of these guys are—hard to get ahead in Russia without the support of the Sivoliki—but he certainly seems to have strong business acumen...
    YOU MIGHT THINK that Mikhail Prokhorov would have had a not-so-soft case of buyer’s remorse this past spring. Last year, a month before the start of the National Basketball Association season, the 45-year-old Russian billionaire struck a deal to buy the New Jersey Nets from the real estate developer Bruce C. Ratner, who had owned the team since 2004. The price was $200 million for 80 percent of the franchise and 45 percent of the long-delayed Barclays Center arena in Brooklyn, where the Nets will play beginning in 2012. Prokhorov also agreed to cover some $60 million in operational costs and 80 percent of $207 million in debt. When the league owners finally ratified the sale eight months later, in May of this year, the Nets record stood at 12 wins and 70 losses, and Prokhorov’s shiny new team was the laughingstock of the N.B.A.

    It was hard to count the low points. Coach Lawrence Frank was fired during the 0-for-18 start. At a snowy night game against the Milwaukee Bucks in February, when the Nets’ record stood at 4 and 47, there were nearly 19,000 empty seats in the Izod Center. By midseason, TV ratings had plunged 45 percent and were the lowest in the league. The franchise that once played to big crowds and made back-to-back trips to the N.B.A. finals in 2002 and 2003 had traded away its stars but was still bleeding $15 million a year. Management was downgrading to cheaper hotels; employees were forgoing pay on Friday furloughs. There wasn’t a budget for the normal complement of secretaries, scouts, videographers or even, at what would seem just the time the organization could have used one, a sports psychologist.

    What he does care about is food. He is old enough to remember the Soviet era of barren shelves, rotten vegetables and his mother waiting in long queues to buy whatever was available. After food come work, sports and women, more or less in that order.

    Prokhorov belongs, according to his sister, to a uniquely fortunate generation: the last educated under the old order and the first to capitalize on the opportunities of the post-Soviet system. “His generation was very lucky,” Irina said over supper one September night in Moscow. Nine years older than her brother, she had just enough distance to appreciate the history he and his cohort missed. “On one hand they received a good education from the Soviet system, and on the other they were generally ignorant of the repression; they never had a chance to become used to it. They were the beneficiaries of the atmosphere of joy and creativity that came with perestroika.”

    “Our father was a really brilliant man,” Irina said. “I think my brother inherited from him the faculties of memory, imagination and audacity — all virtues that were useless under the Soviet system. My father was more or less successful, but I remember his bitter remarks when he came back from trips abroad. He could see the difference between the life in the West and how we lived.”
  • (recommended) (non investment-related) The hacking world of Albert Gonzalez (New York Times Magazine): Nicely written, entertaining, article chronicling the story of Albert Gonzalez, a brilliant American hacker.
  • (non investment-related) Modern youth - Wired for distraction? (The New York Times): Old-timers may find the behaviour of modern youth—texting on mobile phones; posting on Facebook; wasting time on the Internet; etc—as harmful but the reality is that, like throughout history, humans change.
  • (non investment-related) Observations about Wikipedia (The New York Times Magzine): Throughout history, written documents, even those that are considered de-facto references, rarely changed. Even when they did change, it took years to update them. What is different in the modern world is that written documents can change in real-time. Wikipedia is an example of a reference work that keeps changing on the fly. The linked article observes how words in wikipedia change.
  • (recommended) What your shirt says about you! :) (Bloomberg Businessweek): ok... who wants to be Gordon Gekko?

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Sunday Spectacle XCVII

The Hope in America...

This measure is based on the Current Population Statistics survey, which among other things asks respondents the question "Do you have a business?" Dr. Fairlie matches this response with the response in the previous month to identify the number of new businesses created (subject to meeting criteria, such as devoting at least 15 hours per week to this business, and restrictions, such as the exclusion of adults over age 65). Importantly, Fairlie's measure of new businesses picks up new nonemployer businesses, many of which are not incorporated.

What is particularly interesting about Fairlie's research is that he shows not only that this measure of entrepreneurial activity has surged, but that it is closely related to movements in local unemployment rates. That is, he has potentially uncovered an "entrepreneur of necessity" effect caused by high unemployment. For many unemployed workers, the benefits of starting a business during a weak economic environment outweigh the costs. It is noteworthy that the largest proportionate increase in this measure of entrepreneurial activity is by people with less than a high school diploma. This group has been especially hard hit by the recession and weak recovery, and it appears that many have responded by starting their own business.

If entrepreneurial activity is a source of economic growth generally, then a surge in entrepreneurial activity is good news for the economic outlook, right? Indeed, Fairlie cites a 2009 Kauffman Foundation study by Dane Stangler that finds over half of the current Fortune 500 firms started during recessions or bear markets. Also, a 2010 Kauffman study by Michael Horrell and Robert Litan find that, on average, start-ups are not affected in the long term if they start in a recession. However, Horrell and Litan also find negative impacts when the recession is prolonged. To the extent that historical patterns are repeated, one implication of the latter finding is that cohorts starting businesses right before or at the start of the 2007–09 recession may have worse outcomes relative to firms starting more recently.

source: "Entrepreneurs of necessity," John Robertson, Federal Reserve Bank of Atlanta.
Macroblog, November 9, 2010.

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Thursday, November 18, 2010 1 comments ++[ CLICK TO COMMENT ]++

GM becomes a public company again

GM just re-emerged from bankruptcy and the IPO looks to have been quite successful. From The Globe & Mail (comments in square brackets by me):

They all contributed to what was perhaps the most successful sale in the 102-year history of the company as its new shares began trading Thursday. Investors snapped up 452.6 million shares in the reborn auto maker, none of which carried a rebate, an interest-free loan or even a set of floor mats.

The shares rose 4 per cent, or $1.19, to $34.19 on the New York exchange [IPO price was $33].


The U.S., Canadian and Ontario governments and the United Auto Workers will all retain a stake in GM for now, but the U.S. government reduced its ownership to a little more than one-third through IPO. The three governments bailed out GM with about $60-billion worth of taxpayers’ money in 2009, with Canada and Ontario providing $9.5-billion of that.

Chris Liddell, who was appointed GM’s chief financial officer after it emerged from Chapter 11 bankruptcy protection, summed up a couple of decades of the company’s prior history.

“We used to be [a] $100-billion finance company and $100-billion pension plan with a small car company attached,” Mr. Liddell told reporters during a conference call Thursday. “We have to get away from that business model. We have to get back to making cars and having that driving the economics of the business.”

Bankruptcy cleansed the auto maker of tens of billions of dollars in debt, helped eliminate tens of thousands of jobs and slashed hourly labour costs in both Canada and the United States to the same level as those of the Japan-based auto makers.

While those moves addressed the cost side of the ledger, the revenue side has also improved.

Each 2010 Buick LaCrosse GM sells generates about $7,800 more in revenue than the 2009 model, said analyst David Whiston, who follows the auto industry for Chicago-based Morningstar Inc.

“Simply put, GM makes products that consumers are willing to pay more for than they used to. GM no longer has to overproduce to attempt to cover high labour costs and then dump cars into rental fleets (which hurts residual values).”

Wednesday, November 17, 2010 5 comments ++[ CLICK TO COMMENT ]++

Warren Buffett receives presidential medal of freedom... plus thoughts on several other issues

I think he is deserving of it—some won't agree—but it looks like Warren Buffett will receive the Presidential Medal of Freedom. Although awards of any sort are always controversial, given questionable recipients in the past, this is an important one. This is the highest civilian honour in the United States of America (the highest civilian award in Canada is the Order of Canada, although some seem to suggest it is the Order of Merit). You can't get anything higher unless you are in the military. Warren Buffett will be receiving the medal along with several other prominent individuals such as Yo-Yo Ma (artist), Bill Russell (basketball player), George H. W. Bush (former president), Angela Merkel (German chancellor), and a few others.

Although some may disagree with awarding it to Warren Bufffett, I think it is an appropriate choice. If America represents capitalism, it is only fitting the greatest capitalist of modern times, Warren Buffett, receive the highest civilian honour bestowed by the US government.

Moving on to unrelated matters...

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Tuesday, November 16, 2010 6 comments ++[ CLICK TO COMMENT ]++

Gary Shilling's thoughts on the next decade

I lean towards deflation, although I don't expect outright deflation* in a country like USA, so I always pay attention to one of the few deflationists around: Gary Shilling. Writing for MarketWatch, Paul Farrell, summarizes Gary Shilling's thoughts in his new book, The Age of Deleveraging. I haven't read any of Shilling's books but I do plan to get to them eventually—at the rate I'm going, it might take 249 years ;)

Shilling has been somewhat of a deflationist for almost a decade and his call in the late 90's turned out to be wrong. Needless to say, no one can predict the future precisely. However, some of his correct calls were very significant calls, such as the bullish call on US Treasuries in the 80's.

With that said, you will find below a Farrell's summary of Shilling's key calls. Most of the calls are similar to what Shilling has said in the past and as should be expected with a deflationist, it goes against the consensus (big time!). As is usual, my comments are in square brackets.

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Sunday, November 14, 2010 0 comments ++[ CLICK TO COMMENT ]++

On-the-ground observations from China

I was browsing Advisor Perspectives and I ran across a very insightful, long, article by Christian Thwaithes of Sentinel Asset Management. The author presents some observations of what he sees on the ground in China. I highly recommend it for anyone interested in China.

What I find most useful about this article is that the author ties in basic observations into how business differs in China. Anecdotal stories can always be misleading but there are a lot of insightful tidbits in there. The author is clearly a China bull—reminds me of Jim Rogers or those fund managers you read in history books who were gushing over Japan in the 80's—but he does address some of the issues brought up by China bears.


Sunday Spectacle XCVI

source: "Citigroup Proclaims `Cult of Equity' Has Died: Chart of the Day," David Wilson for Bloomberg. September 3, 2010

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Friday, November 12, 2010 0 comments ++[ CLICK TO COMMENT ]++

Emerging dominant firms

I ran across an article at 24/7 Wall St predicting 7 emerging, American, monopolies. I don't necessarily think they are all monopolies; neither do I think they are worth investing in right now. However, it may be worth thinking about these companies and consider investing in them during a stock market crash or a hard sell-off.

Here are the companies they list along with some of author's comment. My thoughts are in square brackets in green:

  • Netflix (NFLX): "Netflix is expected to have more than 19 million subscribers at the end of 2010. Its growth may explode in the coming years Back in April, Trefis Research predicted that it would eventually reach as many as 47 million subscribers. That represents 39% of US households with DVD players. Where Netflix wins is with its library of more than 20,000 titles and its flexible business model that accommodates streaming or DVD by mail." [Mail-order movie rental company poised to dominate the online movie rental market. This company has a legitimate shot at becoming a dominant player but it is still a long way off. It needs to develop strong relations with content providers for it to maintain a leading position.]
  • Lululemon Athletica (LULU): [This is a yoga-oriented clothing retailer. Of all the monopolies-in-the-making, this is the one with the lowest probability of surviving. It's very difficult to say whether the trend towards yoga is a fad or something that is a generational trend. I'm not familiar with clothing/shopping so I'm not sure about its brand strength either.]
  • Sirius XM (SIRI): "...a monopoly in satellite radio, yet it represents a tiny part of the radio business. Radio was roughly $20 billion business a decade ago. A BIA/Kelsey report earlier this year forecasted that 2009 revenue was $13.7 billion and 2010 revenue would be about $13.9 billion. SIRIUS XM is expected to have 2010 revenues of $2.83 billion and nearly $3.1 billion in 2011 revenues." [This is definitely a monopoly, or at a minimum oligopoly, but its profitability is big question mark. Maintaining satellites is very expensive so I doubt it will ever be a high ROE business. I am also not sure if we are seeing the beginning of a long-term decline in radio listernership.]
  • American Water Works (AWK): "...Is the company a true monopoly in the United States? No. It does have a virtual monopoly is in its markets where it operates. There is competition in many markets for electricity, but that is not the case for water. The company is the largest public U.S. water and waste water utility. It has 16 million customers in 35 states and two Canadian provinces. Companies need the approval of regulators to hike rates. Still, how many water utilities can exist in a single geographic location? As far as the future, American Water Works can grow by acquiring adjacent water utilities. It just so happens that American Water is the best of the best. With a $4.3 billion market cap, it is the largest by market cap of its water utility brethren." [Problem with companies like these is that profit is capped by regulators. The type of businesses investors should be looking for are unregulated businesses with monopoly-like characteristics. I'm not saying water utilities are bad investments but it's not the type of monopoly I would be interested in.]
  • Fair Isaac (FICO): "Fair Issac is the developer of the industry-standard FICO score..." [Credit reporter used heavily for consumer lending (at least that's my understanding of it). This is a candidate for a monopoly-type company worth owning. I'm not sure how much permanent damage has been done from the real estate bust but chances are this company's services will remain near the top of the pack.]
  • Molycorp (MCP): [One of the few rare earth mining firms. As far as I'm concerned, this is driven by pure hype with weak understanding of long term economics by anyone. Mining rare earth elements is a poor business and that's why there are practically no mining companies around. To make matters worse, the upside is likely capped since the market size can never be big (it's sort of like how a platinum mining company is unlikely to ever have a market cap of $100 billion.)]
  • Monsanto (MON): "The world’s largest seed company produces around 90% of the world’s genetically engineered seeds. Outsiders and smaller players are the ones that consider Monsanto to be a monopoly Having the stock ticker “MON” had nothing to do with “Monopoly.”" [Controversial company, especially if you don't like genetically-modified foods, but it is a definite candidate to an oligopoly. I like Monsanto, as well as Syngenta (SYT), in the long run. They have great potential to become key players in agriculture. The problem, though, is that they are (likely) overvalued now.]

Thursday, November 11, 2010 0 comments ++[ CLICK TO COMMENT ]++

CNBC interview with Jeremy Grantham

Thanks to The Big Picture for bringing this Jeremy Grantham interview to my attention. For those not familiar, Grantham is the founder and key strategist at institutional fund advisor, GMO, and I consider him to be a macro-oriented value investor. Jeremy Grantham is the only value investor that I have run into who is also macro-oriented. A good interview, I would say.

You may want to read his quarterly letter released recently which is a good companion piece to this interview.

Grantham thinks the market is overvalued and urges caution. He is bullish on commodities in the long run (10 to 20 years) whereas I'm bearish on them. He favours high-quality blue-chip companies and prefers emerging markets over developed markets in the medium term (around 7 years).

He isn't a fan of the Quantitative Easing II that is being undertaken by the FedRes and thinks fiscal stimulus is the best solution right now. Unfortunately the US government is now likely to cancel any sort of stimulus program. I agree with Grantham on the stimulus suggestion but am not as negative of the FedRes.

Quantitative Easing II is a mystery to me. Recall how those with wild opinions like Marc Faber who expected Quantitative Easing an year ago said it would occur if the market is weak; yet the FedRes is pursuing this policy while most assets are reasonably priced or overvalued. I wonder if the FedRes is being directed by the US government (during the 1930's and 1940's, the FedRes was essentially taking orders from the government, especially when it came to buying the war bonds). Anyway, I just don't get it! What does the FedRes see that no one else does?

Sunday, November 7, 2010 6 comments ++[ CLICK TO COMMENT ]++

Sunday Spectacle XCV

Autozone Ascent

Edward Lampert hit a rough patch a few years ago but Autozone (AZO) seems to be doing well (I still don't understand their business strategy, especially their use of a high debtload in a cyclical business). I'm not sure if it is company share buybacks or accumulation by Lampert (or someone else) that is driving the price but it's an amazing sight. The price has continuously risen with barely any dip. It sort of reminds of Warren Buffett's Washington Post in the late-70's/early-80's.

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Saturday, November 6, 2010 2 comments ++[ CLICK TO COMMENT ]++

Are entrepreneurs risk-loving gamblers?

There is a popular perception that entrepreneurs need to take on a lot of risk. Many successful entrepreneurs are perceived as having succeeded due to bold gambits. Yet, even in seemingly obvious cases, the reality is anything but.

Richard Branson, the founder of Virgin Group, is often portrayed as one that takes a lot of risk. Perhaps that is true when it comes to his recreational activities but his business strategy is very risk averse. Writing for Entrepreneur, in "Art of Calculated Risk," he says (bolds by me):
But while, to all appearances, we do have an unusually high tolerance for risk, our actions always spring from another principle: Always protect the downside. I think it should be a guideline for every entrepreneur -- or anyone involved in business ventures. For example, when we made the bold move of expanding from the music industry to the airline business, I set myself one condition: in our negotiations with Boeing, I stipulated that we could hand the plane back at the end of the first 12 months if people didn't like our business. That meant that I could see whether people liked the airline, but if it didn't work out, it wasn't going to bring everything else crashing down. My colleagues at Virgin Records would still have their jobs and a company to run!

We've made other bold moves -- into mobile telecommunications, financial services and health clubs, in countries all over the world. We just make sure we always have a way out if things go wrong. You have to protect your people. It's people who make a company exceptional or average.

So, if things don't work out, don't hesitate: take that escape hatch. That way, when all's said and done, you will be able to gather your team, discuss what happened and then embark on your next venture together.
These words can just as easily be penned by someone like Warren Buffett. I find it remarkable how similarly it echoes some of the words of Buffett. Yet, Branson is perceived as a bold and risky individual whereas Buffett is thought of as a bookish, calculating, individual.
Investors will be well served by applying Branson's thoughts. Namely, always consider the potential loss; have an alterate option if something doesn't work out (Warren Buffett is extremely skilled in devising backup plans); and sell out at a loss if things don't work (I think I made at least two mistakes in not exiting mistakes.)
The debate over whether entrepreneurial success depends on risky gambits is not new. In January of 2010, Malcolm Gladwell wrote an article for The New Yorker tackling this exact topic. If you haven't read it, I highly recommend the article, "The Sure Thing," to everyone. As usual, excellent and insightful writing combined with commentary about strategic decisions made by some successful entrepreneurs. I take exception to calling John Paulson an entrepreneur—I don't consider fund managers as entrepreneurs per se—but overall an interesting essay. What follows is a short excerpt (doesn't do justice to the article so read the full thing).
...The equipment was falling apart. The staff was incompetent. It had no decent programming to speak of, and it was losing more than half a million dollars a year. Turner's lawyer, Tench Coxe, and his accountant, Irwin Mazo, were firmly opposed to the idea. "We tried to make it clear that—yes—this thing might work, but if it doesn't everything will collapse," Mazo said, years later. "Everything you've got will be gone. . . . It wasn't just us, either. Everybody told him not to do it."  

Turner didn't listen. He was Captain Courageous, the man with nerves of steel who went on to win the America's Cup, take on the networks, marry a movie star, and become a billionaire. He dressed like a cowboy. He gave the impression of signing contracts without looking at them. He was a drinker, a yeller, a man of unstoppable urges and impulses, the embodiment of the entrepreneur as risk-taker. He bought the station, and so began one of the great broadcasting empires of the twentieth century.
Williams writes that Turner was "attracted to the risk" of the deal, but it seems just as plausible to say that he was attracted by the deal's lack of risk. "We don't want to put it all on the line, because the result can't possibly be worth the risk," Mazo recalls warning Turner. Put it all on the line? The purchase price for WJRJ was $2.5 million. Similar properties in that era went for many times that, and Turner paid with a stock swap engineered in such a way that he didn't have to put a penny down. Within two years, the station was breaking even. By 1973, it was making a million dollars in profit.
The truly successful businessman, in Villette and Vuillermot's telling, is anything but a risk-taker. He is a predator, and predators seek to incur the least risk possible while hunting.
Giovanni Agnelli, the founder of Fiat, financed his young company with the money of investors—who were "subsequently excluded from the company by a maneuver by Agnelli," the authors point out. Bernard Arnault took over the Boussac group at a personal cost of forty million francs, which was a fraction of the "immediate resale value of the assets." The French industrialist Vincent BollorĂ© "took charge of the failing family company for almost nothing with other people's money." George Eastman, the founder of Kodak, shifted the financial risk of his new enterprise to his family and to his wealthy friend Henry Strong. IKEA's founder, Ingvar Kamprad, arranged to get his furniture made in Communist Poland for half of what it would cost him in Sweden. Marcel Dassault, the French aviation pioneer, did a study for the French Army that pointed out the value of propellers, and then took over a propeller manufacturer. When he started making planes for the military, he made sure he was paid in advance.

What Paulson's story makes clear is how different the predator is from our conventional notion of the successful businessman. The risk-taking model suggests that the entrepreneur's chief advantage is one of temperament—he's braver than the rest of us are. In the predator model, the entrepreneur's advantage is analytical—he's better at figuring out a sure thing than the rest of us.
This is exactly how Turner pulled off another of his legendary early deals—his 1976 acquisition of the Atlanta Braves baseball team.... First, he didn't pay ten million dollars. He talked the Braves into taking a million down, and the rest over eight or so years. Second, he didn't end up paying the million down. Somewhat mysteriously, Turner reports that he found a million dollars on the team's books—money the previous owners somehow didn't realize they had—and so, he says, "I bought it using its own money, which was quite a trick." He now owed nine million dollars. But Turner had already been paying the Braves six hundred thousand dollars a year for the rights to broadcast sixty of the team's games. What the deal consisted of, then, was his paying an additional six hundred thousand dollars or so a year, for eight years: in return, he would get the rights to all a hundred and sixty-two of the team's games, plus the team itself.


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