Category Archives: Portfolio Commentary

Q1 2017 Performance Update

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My Q1 2017 Performance: Down .11%

S&P 500 Q1 2017 Performance: Up 5.53%

My portfolio is regularly tracked here.

The S&P 500 had an amazing quarter and I had a lackluster one in relative terms. Overall I’m down 2% since I started tracking the portfolio in mid December 2016. At one point I was down 5% earlier this quarter.

Anti-Amazon Trade (GME, CATO, DDS, AEO)

Much of my under-performance is attributable to my anti-Amazon trade. As mentioned in the earlier post, the conventional wisdom is that Amazon is going to destroy conventional retail. I remain unconvinced that retail is going to die. People will always shop in physical stores. While retail may be in decline, it will not go away. For clothing in particular, people will always want to see the item and try it on. There is also the instant gratification aspect of conventional retail that will allow it to endure. Moreover, no matter how technologically sophisticated we become, people will always want to leave the house and occasionally go shopping. They are not going to hang out at home all day and never shop in a physical location again. Even Amazon realizes this truth, which is why I find it amusing that they are thinking about expanding into physical retail!

My unsophisticated thesis is simple: the retail stocks are all priced like retail is going to die soon and I don’t think it is going to happen. Simultaneously, the price of Amazon has been bid up to an extreme P/E ratio (180.98) and the momentum continues.

While I may be early to the anti-Amazon trade, I don’t think I am wrong. Predicting when the market will accurately value a stock is not possible. You can only buy when there is a mismatch between price and intrinsic value and wait.

IDT

IDT is my worst performer. During the week of March 6th after reporting disappointing earnings, the stock collapsed from $19.50 to $13.11, a decline of 33%. The stock plummeted further to $12.03. I was certainly wrong on this one, but I do not want to sell. $5.66 of that $12 price is cash. IDT has no debt. They also aren’t cutting their dividend and while the core business is struggling, it’s not dying. I’m sticking with it.

MN

Manning and Napier is also not doing well. Active management continues to be punished after the amazing track record of the indexes since 2009. Investors don’t want to pay high fees to asset managers when they can buy a low-cost index fund that will outperform them. Assets under management are declining, which is hurting the business. I don’t think this trend will last forever and in the meantime I am at least being paid a nice dividend yield to own Manning and Napier. The company currently has a negative enterprise value, with the current price less than the cash on hand, which currently stands at $9.19 per share. It’s a ridiculously cheap stock and the slightest glimmer of hope should allow me to take at least one free puff from this cigar butt.

Bubble Basket

David Einhorn refers to a “bubble basket” that he’s short on, which includes Amazon and Netflix. Q1 2017 was a good time for bubble basket. Tesla, a company with no earnings trading at 6.48 times revenue, is up 30% year to date. Amazon is up 18.23% and trades at 180 times earnings. Netflix, trading at 347 times earnings, is up 19.39%. Facebook, trading at 40 times earnings, is up 23.47% year to date. These are simply crazy valuations and I suspect they eventually they will go down in history with the Nifty Fifty.

Snapchat also debuted on the markets this quarter, as a symbolic representation of the frothy mood. The IPO felt like a flashback to the late ’90s, when an IPO and a dot com at the end of a name was a key to instant riches. SNAP has no earnings, $404 million in revenue. $27.11 billion market cap. This isn’t Pets.com crazy, but it’s still pretty crazy.

Einhorn is losing money shorting these stocks, but I still think he’s right. Therein lies the problem with shorting: there is no way to predict how long the market will be crazy and ignore reality. It will eventually happen, but there is no telling how long it will take.

If you’re short and the stock goes up 100%: you lost all of your money. This is why shorting technology stocks in the ’90s was a risky move even though there was a bubble and the shorts were vindicated. If you were early to the short (in, say, 1998), then you would have lost a tremendous amount of money even though the thesis was vindicated in the early 2000s. Take a look at the percentage returns for the NASDAQ 100 from 1998 through 2002:

1998: Up 85.30%

1999: Up 101.95%

2000: Down 36.84%

2001: Down 32.65%

2002: Down 37.58%

“The market can stay irrational longer than you can stay solvent.” – John Maynard Keynes

That is why I don’t short stocks or use leverage. Timing is hard, even if you’re a pro like Einhorn. If Einhorn can’t do it, then I certainly can’t do it!

Portfolio Value

On an EBITDA/Enterprise Value basis, many of the worst performing stocks in my portfolio are some of the most attractively valued. Why sell now?

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The frequent under-performance of value strategies is a key reason that they outperform over the long run.

If a fund manager delivered the kind of relative under performance that I delivered this quarter, they would probably be yelled at by their boss or at the very least forced to endure a healthy dose of corporate passive aggressiveness:

It’s moments like this (which can last years) during which there is a strong incentive to simply buy stocks that look like the S&P 500 or had some recent momentum. This strategy is a recipe for long term under-performance.

Behaviorally, it is easier to go with the crowd. If you’re right and the crowd is right, then you’re doing great! If you’re wrong and the crowd is wrong, then at least everybody else was wrong too!

If, however, you take a contrarian opinion and the crowd is right and you’re wrong (as I am with the anti-Amazon trade for now) then you lose your job. Contrarian opinions are eminently risky. Things are even more behaviorally difficult when you look at the companies in a value portfolio. Why am I even investing in this garbage? Everybody knows that retail is dead, Gamestop will be replaced by streaming video games, etc. This makes it all the easier to click that tempting “sell” button and end the pain.

This is why having one investor (me!) and no boss is advantageous and makes for better investing.

PLEASE NOTE: The information provided on this site is not financial advice and it is for informational and discussion purposes only. Do your own homework. Full disclosure: my current holdings.  Read the full disclaimer.

Greenbrier (GBX)

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Greenbrier, one of my holdings, is poised to benefit from a recovery in oil prices.  Greenbrier manufactures, leases and repairs rail cars.

Greenbrier was a beneficiary of the fracking boom and was negatively impacted by the bust in the last two years.  Much of the oil that is being drilled throughout the US must to be transported via rail.  Greenbrier’s stock peaked at $75 a share in mid 2014 around the same time that oil prices peaked above $100 and then began its decline to $50.

GBX’s Performance

Meanwhile, amid the decline in oil prices, Greenbrier has been humming along and generating profits while the stock has been disconnected from the actual performance of the company and slid to the current $41.85 price level.  Take a look at the operating income for the last few fiscal years:

2016: $408 million

2015: $386 million

2014: $239 million

They have also been paying down debt.  Long term debt has been reduced from $445 million to $303 million.

Saudi Arabia & Oil Prices

With that said, it appears that oil prices are bottoming.  Saudi Arabia engineered the decline in oil prices to kill their competition.  Their mission is now accomplished and they want to see oil prices go back up.  They are now organizing OPEC to cut production and raise oil prices again.

I suspect Saudi engineered higher oil prices will simply mean that US production will increase in response, which will benefit the train industry and companies like Greenbrier.  The only way that it wouldn’t benefit would be if the US invests in oil pipelines.  It appears unlikely that any pipelines will be built.  In addition to the environmentalists, there is a strong resistance from NIMBY citizens.  Any struggle to get these pipelines built will probably be akin to the Bush administration’s efforts to drill in ANWR, efforts that were abandoned because they were deemed to be too much of a political pain.

Personally, I don’t see how transporting all of this oil via train and truck is any better for the environment than putting it in a pipeline, but I don’t think it is good investing to think in terms of what should happen.  Even if the new administration fights the political pressure and gets a pipeline built, it will be years before it actually happens.  In the meantime, we will need a way to transport all of this oil and rail will benefit.

Margin of Safety

Greenbrier presents an excellent margin of safety at the current price.  Even without higher oil prices, Greenbrier has been performing well while the stock price has fallen amid speculation that ignores the fundamentals of the business.  My guess is that betting against rail while oil goes down has been fashionable on Wall Street, thereby creating attractive prices.  It is a great value even if my prediction about oil prices doesn’t come true.  I feel the same way about Valero, another stock I own as a play for an oil resurgence.

That’s the idea behind the margin of safety — even if I am wrong, the stock was purchased at a wide enough margin of safety that I should still do ok.  I can bet on higher oil prices in a safe way, as opposed to buying a leveraged ETF or oil futures.

PLEASE NOTE: The information provided on this site is not financial advice and I am not a financial professional. I am an amateur and the purpose of this site is to simply monitor my successes and failures.

Is Retail Dead?

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Value investing requires one to defy conventional thinking.  It requires independent thought.

Right now, the conventional wisdom is: brick and mortar retail is going to be dead soon.  Most physical retailers are going the way of Blockbuster Video and Borders books.  People are going to buy everything online.

You can see this conventional wisdom in the valuations that the market assigns to the following stocks:

Wal-Mart: 14.98 times earnings

Dillard’s: 11.38 times earnings (a stock I own)

Gamestop: 6.79 times earnings (a stock I own)

Amazon: 171.87 times earnings (!)

Clearly, investors are wildly optimistic on the prospects of Amazon and downbeat on the future of more conventional retail operations.  Like most things, I think that the market is getting ahead of itself.  They have taken a trend (the rise of online retail) and are getting carried away with it.  The amazing innovations that Amazon churns out definitely fuel the optimistic forecast.

For Gamestop, the logic is a bit more easy to understand.  Consumers are going to buy more of their video games online directly to their console rather than shop in the store.  Maybe.  When I look at Gamestop’s actual operating income for the last four fiscal years, I see a much different story:

FY ending 2016: $648 million

2015: $618.30 million

2014: $573.50 million

2013: -44.90 million

In other words, Gamestop has been delivering consistently better results while the market has been losing faith in its prospects as a result of speculation.  I do not see a business that is dying.

The point of value investing is to ignore the speculation and focus on what is actually happening and what the company is actually earning.  At 6.78 times earnings, Gamestop presents a tremendous margin of safety regardless of its future.  In other words, 6.78 years of earnings can pay for the entire company’s market capitalization.

Amazon is the sexiest of growth stocks with amazing prospects for the future.  But the stock offers no margin of safety.  Gamestop does.  That’s why I am taking the unconventional route and owning brick and mortar stores like Dillard’s and Gamestop that the market hates (or is ambivalent to) and passing on incredible story stocks that the market loves.

Keep in mind that Amazon is up 332% in the last five years.  Those are tantalizing returns that attract attention and investors.  However, following the crowd and chasing returns is not investing.  It is speculation.  Investing is considering what you, as the owner of the company, are paying for what the company is earning.  The logic is that Amazon will continue to grow and continue to be an amazing company.  Perhaps it will.

“Perhaps” and “maybe” have no place in an investment operation.  Those words are for the track, not for investing.  When it comes to my investments, I demand a margin of safety.

PLEASE NOTE: The information provided on this site is not financial advice and I am not a financial professional. I am an amateur and the purpose of this site is to simply monitor my successes and failures.

Portfolio Stats

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Above are the characteristics of the portfolio.  As there are no companies trading below liquidation value, this year’s portfolio sticks to Graham’s recommended mix of safe balance sheets and earnings yields that double the current AAA bond yield, which is 3.71%.

Graham recommended a minimum earnings yield of 10% regardless of how low interest rates are.  After the most recent run-up in the markets, there were not many bargain stocks to choose from and I had to loosen the standards and try to simply double the current AAA corporate bond yield.  I certainly stretched both rules with Valero.  However, when you factor in Valero’s current 3.48% dividend yield, the logic makes a bit more sense, particularly when it appears that oil prices are bottoming.  Regardless, the average still remains 10.95%, which is above Graham’s recommendation.

The average debt/equity ratio of the portfolio is currently 14.845%, which is safe.  This average rate does not include MSGN, which has negative equity, a phenomenon common among spin offs because parent companies normally like to unload debt on these entities.  I am comfortable with this debt because 19 out of the 20 securities in the portfolio have safe balance sheets and I can afford to have 1 security representing 5% of my portfolio with a risky capital structure.  Additionally, I am comfortable with this debt because the risk of recession is low based on the current household debt service ratio explained in an earlier blog post.

For each of the stocks in my portfolio, there is a reason to either yawn or be repulsed, which is the point.  All of these companies have problems but they are all earning money and have safe capital structures, implying that their problems will not be fatal.  If the company were perfect, everyone would own it and the bargain would disappear.  Beautiful companies aren’t cheap.  The beautiful cheap company is about as common as a unicorn and takes a genius like Warren Buffett to spot.

I’m not anywhere near Warren Buffett’s level of intelligence, so I’ll settle the diversified portfolio of deep bargains.  Besides, with the small sums that I am investing, I can indulge in deeply discounted small cap companies that larger investors cannot invest large sums in.  Over long stretches of time I believe that I can beat the indexes with this approach.

PLEASE NOTE: The information provided on this site is not financial advice and I am not a financial professional. I am an amateur and the purpose of this site is to simply monitor my successes and failures.