Sunday, November 30, 2008
- Plaxico Burress: Why the NY Giants will probably trade him in the off-season, due to his off-field antics.
- A concern about Aaron Edelheit: why a couple of his recent blog posts raise questions about his investment process.
- U.S. Energy Corp.'s Q3 conference call: A few weeks late, but I neglected to write a post on this.
- David Brooks's column in Thursday's New York Times: What he misses; contrasting it with Paul Sedan's column in the Christian Science Monitor from earlier in the week.
- Regulation T: A commenter requested a post on this a few weeks ago, and I've been meaning to write it.
Friday, November 28, 2008
Destiny Media Technologies (OTC BB: DSNY.OB), an Aaron Edelheit pick, closed up about 56% today, on more than three times average volume, with no news released. The most recent news from the company was this November 4th press release: "Universal Music Australia Chooses Play MPE® To Digitally Deliver Pre-release Music".
The image above is of an ad for Destiny Media's Play MPE® secure media delivery system.
Update -- Destiny Media announced its year-end results just after midnight: "Destiny Media Announces Record Year End Results". Revenues up 80% year-over-year, and up 33% sequentially; net loss dropped 56% over previous quarter; profits anticipated "imminently1"
1As we noted in an earlier post, last quarter the company predicted it would be profitable in its fiscal first quarter, i.e., its next quarter. We'll see in a few months.
Broadly speaking, Obama supporters have fallen into two groups: those who voted for him because they thought he was an orthodox liberal (as some of his earlier statements, his background, and his voting record might suggest) and those who voted for him because they thought he was more of a pragmatic centrist (as some of his statements during the campaign, and some of the advisers he surrounded himself with -- e.g., Robert Rubin, Paul Volcker -- might suggest). We'll find out which group was right soon enough.
So far, at least, those who voted for President-elect Obama because they thought he was a centrist should be encouraged by his cabinet and staff picks so far. Even the editors of Investor's Business Daily are encouraged by these picks. In an editorial earlier this week ("A Reassuring Start"), they wrote,
Given Obama's public pronouncements and past associations, Americans had every right to worry that his election would signal a great lurch leftward in Washington. And once Congress reconvenes, that may yet happen.
So far, however, most of the signals the president-elect has given suggest he will — as we hoped almost against hope — govern from the center. His appointments, Cabinet and otherwise, look like he's putting effectiveness first and saving ideology for later, if then.
Wednesday, November 26, 2008
It's striking to consider how much has changed in nine years. In the wake of the financial meltdown, Alan Greenspan's reputation has taken a beating, Robert Rubin's reputation is starting to take one too, and Larry Summers -- three years after losing his job as Harvard president following some politically incorrect speculations about standard deviations -- is on his way back to Washington, to head the incoming Obama Administration's Council of Economic Advisers.
In his profile of Robert Rubin in the Financial Times last year ("Man in the News: Robert Rubin"), John Gapper noted that a framed copy of this Time Magazine cover adorned a wall in Rubin's office at Citigroup.
Tuesday, November 25, 2008
"Citi never sleeps," says the bank's advertising slogan. But its directors apparently do. While CEO Vikram Pandit can argue that many of Citi's problems were created before he arrived in 2007, most board members have no such excuse. Former Treasury Secretary Robert Rubin has served on the Citi board for a decade. For much of that time he was chairman of the executive committee, collecting tens of millions to massage the Beltway crowd, though apparently not for asking tough questions about risk management.
The writers at the Deal Journal blog remind us of one particularly egregious massaging, when Mr. Rubin tried to use political muscle to prop up Enron, a valued Citi client. Mr. Rubin asked a Treasury official to lean on credit-rating agencies to maintain a more positive rating than Enron deserved. What signal will President-elect Barack Obama send if his Administration, populated with Mr. Rubin's protégés, allows this uberfixer to continue flying hither and yon on the corporate jet while taxpayers foot the bill?
Monday, November 24, 2008
As Milton Friedman and Anna Jacobson Schwartz argued in a classic book, “A Monetary History of the United States,” the single biggest cause of the Great Depression was that the Federal Reserve let the money supply fall by one-third, causing deflation. Furthermore, banks were allowed to fail, causing a credit crisis. Roosevelt’s best policies were those designed to increase the money supply, get the banking system back on its feet and restore trust in financial institutions.
A study of the 1930s by Christina D. Romer, a professor at the University of California, Berkeley (“What Ended the Great Depression?,” Journal of Economic History, 1992), confirmed that expansionary monetary policy was the key to the partial recovery of the 1930s. The worst years of the New Deal were 1937 and 1938, right after the Fed increased reserve requirements for banks, thereby curbing lending and moving the economy back to dangerous deflationary pressures.
The rest of the short column is worth reading. Incidentally, President-elect Obama has chosen Christina Romer to head his Council of Economic Advisers.
Here is Dr. Hussman's latest market commentary: "The Cornerstone of Capitalism". Below are a few excerpts.
On the government's response to the financial crisis:
The two most important actions that government can take to address this crisis are: 1) continue to provide capital directly to the banks, rather than purchasing troubled assets, and 2) reduce the mortgage principal of distressed homeowners in return for a claim on future price appreciation.
...Treasury was absolutely correct to abandon the awful idea of buying up distressed assets directly from the banks. As I noted in September (9/29/08 – You Can't Rescue the Financial System if You Can't Read a Balance Sheet), if you buy the bad assets off the balance sheet at their market value, nothing changes on the liability side. The only way buying questionable assets would increase capital (particularly “Tier 1” capital, which is what gives depositors confidence) would be for the Treasury to overpay for those assets.
Secretary Paulson has repeatedly said that the Treasury abandoned the plan to buy distressed assets because “the facts changed.” The only fact that changed is that the Treasury realized that this was a really bad idea.
I don't believe that the U.S. economy needs any massive “stimulus” targeted toward consumers. The force of this economic downturn is coming from mortgage losses, and the interventions we require must be targeted at 1) bank capital and 2) mortgage principal reductions in return for property appreciation rights.
Boost bank capital and restructure the payment obligations of distressed mortgages, and credit, confidence and consumption will quickly be restored.
On investment returns:
Investment returns aren't “free money.” Over the long-term, they are compensation for providing scarce, useful resources – liquidity, information, and risk-bearing – to other market participants. No useful services are provided to the market by a speculator who follows the crowd and chases glamour stocks higher late in an extended bull market run.
In contrast, the market compensates investors – not over the short-term, but predictably over the long-term – for the willingness to bear risk when other investors are unwilling; for the willingness to provide liquidity by holding out bids (gradually and at depressed prices) to panicked holders stampeding to get out; and for improving the information content of market prices by reducing the pressure for undervalued stocks to become even more distorted in relation to their probable cash slows. Long-term returns in a market economy are always compensation for providing scarce, useful resources to other participants in that market. If the activity is not scarce, and is not useful to others, there is no reason to expect it to to be profitable.
Sunday, November 23, 2008
Morgan Stanley economist Joachim Fels explains why he believes the global economy is not facing a multi-year deflationary contraction along the lines of the Great Depression or Japan's 'lost decade' in the 1990s in this essay: "Neither the Great Depression nor Japan". Below are few excerpts.
On the policy mistakes that lead to the Great Depression:
- First, the Fed (and other central banks) stood by watching as one bank after another collapsed, and allowed a major contraction of the money supply.
- Second, fiscal policy was passive as governments tried to adhere to the balanced budget doctrine. Falling tax receipts thus led to cuts in government spending, aggravating the downturn in private sector demand. This only ended when Franklin Roosevelt took office as US President in 1933 and created the New Deal.
- Third, starting with the US Smoot-Hawley Tariff Act in 1930, a trade war began between the US and Europe, with governments raising import tariffs and thus choking off world trade.
On why the current situation is different:
Today, policymakers are acting very differently, thanks to the lessons drawn from the Great Depression. Following the collapse of Lehman Brothers, the regulators have made it clear that no systematically important banks will be allowed to fail. Central banks have resorted to major monetary easing, consisting of a combination of much lower official rates and massive quantitative easing [...]. Governments around the world are busy devising and enacting large fiscal stimulus packages. And, it appears unlikely that the world will see another trade war.
On the policy mistakes made in Japan:
- After the equity and real estate bubble burst in 1989-90 and the economy entered recession, for many years banks were allowed to carry bad loans on their books without having to write them down.
- The government only started to inject capital into banks in 1997, seven years into the lost decade.
- Fiscal policy was stimulative, but the direct impact on effective demand was relatively small (less than 1% of GDP in most years), according to our Japan team.
- The Bank of Japan only resorted to quantitative easing (QE) in 2001, more than 10 years after the crisis started.
Why the current situation is different:
By contrast, US and European banks over the past year have been busy writing down bad assets, governments have started to recapitalise banks, major fiscal stimulus is on its way and central banks are not only cutting interest rates but have started QE. The monetary base (consisting of cash in circulation and banks’ reserves at the central bank) is currently growing at rates of 30-40% in the US, the euro area and the UK, and thus faster than in Japan in summer 2001 when the Bank of Japan started QE. And importantly, as David Greenlaw explains in the note that follows1, M1 growth (cash and sight deposits held by the public) has been surging in the US recently. We take this as an early sign that the monetary policy transmission process is starting to work again.
Fels's bottom line:
Again, it is important to emphasise that the G3 are in a severe recession that will last at least until mid-2009, possibly longer, and headline inflation will likely become negative at some stage next year in the US and Japan and drop below target in the euro area. However, the early and massive policy reaction will, in our view, prevent a replay of Japan in the 1990s or, worse, another Great Depression.
1The link above takes you to both Fels's essay and Greenlaw's.
The image above, of a comic book cover featuring Japanese Manga character Kosaku Shima, was borrowed from John Richardson's Asian Chemical Connections blog.
Saturday, November 22, 2008
[T]he genius of banking, if you want to call it that, is simple: a bank can take more risk on the asset side of its balance sheet than the liability side can notionally support, because a goodly portion of the liability side, notably deposits, is de facto of perpetual maturity, although it is notionally of finite maturity, as short as one day in the case of demand deposits.
It’s the same alchemy that permits mutual funds to commit to next-day redemption at tonight’s NAV, even though all reasonable people know that a mutual fund – with the possible exception of a money market fund – could not possibly liquidate all assets on the wire tomorrow at tonight’s NAV marks. Systemically, it’s the illusion of liquidity [...]
Yes, liquidity for all at last night’s marks is an illusion. But for banks, unlike mutual funds, it’s not so much an illusion after all, for two simple reasons: banks have access to deposit insurance underwritten by fiscal authorities and to a discount window underwritten by the monetary authority (and one step removed, the fiscal authority). Thus, banks are unique institutions, providing a “public good:”
I could regale you yet again about the power of the analytical thinking of Hyman Minsky, complete with his Forward Journey turning into his Moment, followed by his Reverse Journey. But I don’t need to do that any more: we’ve collectively lived it and are now caught in the debt-deflationary pathologies of “the paradox of deleveraging.” Not everybody in the private sector can delever at the same time without creating a depression. Accordingly, the sovereign must go the other way, levering up the public balance sheet. And Washington has finally started to do so with appropriate vigor and enthusiasm.
It’s not a pretty picture. In fact, it’s repugnant, giving proof to the proposition that breaking the paradox of deleveraging does involve socializing the downside of previously profitable private sector activities. In a recent speech, I called it “creeping socialism” and was interrupted by an irate, older man in the back of the room bellowing, “It ain’t creeping socialism, it’s galloping socialism!” I really didn’t have a soothing come back, noting that many things are what they are only in the eye of the beholder. But his point wasn’t lost on me or anybody else in the room.
Fortunately, the sovereign is currently able to borrow money for thirty years at about 3.7%.
In a recent post ("Iraq, the Automakers, and the Limitations of Technology") we noted New York Times columnist Tom Friedman's glib suggestion that if Steve Jobs were hired as the CEO of GM, he could turn out a successful "iCar" in a year. On Wednesday, Bloomberg Columnist Mark Gilbert expanded on Friedman's suggestion, and recommended Bill Gates for the top job at Ford and Warren Buffett for the top job at Chrysler ("Jobs, Gates, Buffett Should Run U.S. Automakers").
Aren't there are more qualified candidates to run an automaker than Jobs, Gates, and Buffett -- three men with no experience in the auto industry? How about someone who worked his way up the executive ranks of arguably the best automaker in the world, becoming the president of its North American division? Someone like James Press, the first non-Japanese executive appointed to the board of directors of Toyota Motor Company. You might think a business journalist such as Mark Gilbert might have heard of him. Granted, Tom Friedman isn't a business journalist, but he needn't have been one to have heard of Jim Press. All he would have had to do is read his own paper's New York Times Magazine, which featured a laudatory article on Press last year ("From 0 to 60 to World Domination"1).
Jim Press has been co-president of Chrysler since September of 2007. The combination of unsustainable labor costs, excess capacity, and CAFE standards has been the main impediment to profitability for the domestic automakers; neither Jobs, Gates, nor Buffett would be able run any of the companies profitably under the current conditions.
1The comic strip image above comes from this article.
Friday, November 21, 2008
Yesterday, the Financial Times reported that South Korea's Daewoo Logistics had leased half the arable land on Madagascar ("Daewoo to cultivate Madagascar land for free"). From the article:
Daewoo Logistics of South Korea said it expected to pay nothing to farm maize and palm oil in an area of Madagascar half the size of Belgium, increasing concerns about the largest farmland investment of this kind.
The Indian Ocean island will simply gain employment opportunities from Daewoo’s 99-year lease of 1.3m hectares, officials at the company said. They emphasised that the aim of the investment was to boost Seoul’s food security.
“We want to plant corn there to ensure our food security. Food can be a weapon in this world,” said Hong Jong-wan, a manager at Daewoo. “We can either export the harvests to other countries or ship them back to Korea in case of a food crisis.”
The editors of the paper criticized the terms of the deal as "neocolonial" in a related editorial, "Food security deal should not stand".
Hopefully, someone from the precision agriculture company Hemisphere GPS (TSX: HEM.TO) has arranged a sales call with Daewoo.
The graphic above is from the FT article.
Thursday, November 20, 2008
Holman Jenkins in Wednesday's Wall Street Journal, "Obama Hears a Giant Sucking Sound". Excerpt:
His friends advise Barack Obama to launch a "New" New Deal. Maybe that's because the old New Deal is sinking fast.
Mr. Obama's one deeply false note during the campaign was his harping on "deregulation" as if that were the source of current troubles. His real problem is the crack-up of the world FDR built.
Fannie Mae was a New Deal creation, subsidizing the securitization of mortgage debt. FDR's successors piled on the subsidies for housing debt and incentives directed at low-income borrowers. Kaboom.
Then there's the UAW, born in 1935. For decades the UAW steadily traded away domestic auto market-share to imports and transplants to keep its aging membership toiling away toward their golden pensions and collecting wages and benefits twice those of their competitors. It worked for a while . . .
Mr. Obama must be looking around and beginning to suspect he will be pouring his political capital, along with considerable taxpayer capital, down bottomless holes for the next four years. He won't be building a legacy as the new FDR, but cleaning up after the last one.
Jenkins mentions AIG in this column too, and makes a point that most in the mainstream media seem to have missed: the notorious lavish retreat for independent insurance agents is part of how insurance companies get those agents to sell their products. Similar events are held all the time by mutual fund companies wholesaling their funds to financial planners or pharmaceutical companies marketing their drugs to physicians. It's how business is done, and now that the U.S. government essentially owns AIG, it is in the taxpayers' interest for AIG to get agents to sell its insurance policies.
The photo above, of Obama touring an auto plant, ran alongside the Jenkins's column.
Wednesday, November 19, 2008
Venezuelan stocks, according to Financial Times (Ratios*) have an average dividend yield of 20.2% and an average P/E of 2x. By contrast, the stocks in neighboring Colombia average 1% yields and P/E ratios of 19.9x. Much of the Venezuelan discount, of course, is due to the threat of expropriation from the Chavez government. Might some ambitious hedge fund decide to buy up Venezuelan stocks and then try to finance the replacement of Chavez with a capitalist?
The photo above, from Flickr, is of Dayana Mendoza, Miss Venezuela 2008, posing on a boat in Vietnam, where she competed in (and won) the 2008 Miss Universe competition last summer.
Tuesday, November 18, 2008
As the security situation in Iraq has stabilized, and economic issues have dominated the news, Iraq has gotten less attention recently in the media. Yesterday was an exception, as the New York Times reported that the Iraqi government's cabinet had approved a status of forces agreement with the U.S. ("Pact, Approved in Iraq, Sets Time for U.S. Pullout"). The photo above, of Iraqi policemen celebrating with an American soldier, is from the article. According to iCasualties.org, U.S. military casualties, Iraqi security force casualties, and Iraqi civilian casualties have all dropped significantly over the last year.
Before the security situation in Iraq had stabilized to this level, casualties across the board were much higher and most of the U.S. casualties were caused by improvised explosive devices (IEDs). The Defense Department formed an anti-IED task force and threw money, resources, and personnel into it to deal with the problem. Last year, the Washington Post published an excellent four-part series on this effort ("Left of Boom: The Struggle to Defeat Roadside Bombs"). The phrase "Left of the boom" refers to efforts to disrupt the IED enterprise before the bombs were planted -- tracking down IED makers, ambushing IED planters, etc. No short summary will do that series justice, but one point it made dealt with the limitations of technology in dealing the problem. New technologies did help ameliorate the situation, but there were no panaceas, and many of the more effective approaches weren't technological in nature. For example, the last article in the series noted,
The "Mark 1 Human Eyeball," as troops sardonically call it, is more adept at finding IEDs than any machine. Studies to determine which soldiers made the best bomb spotters found that "it's those who hunted and fished and were much closer to their environment," an Army scientist reported.
Other unconventional initiatives include "human terrain teams," made up of anthropologists, social scientists and sundry experts who advise brigade commanders on tribal structure, local customs and cultural nuances. A preliminary assessment last month of an HTT in eastern Afghanistan concluded that the team had "a profound effect" in reducing "kinetic operations" -- gunplay -- and had even discerned that a local village would help stop Taliban rocket attacks against U.S. troops in exchange for a volleyball net.
More broadly, the successful (so far) counterinsurgency efforts in Iraq, although aided by technology (e.g., hand held fingerprint scanners, reconnaissance drones, etc.) have relied more on 'left of boom' approaches that are attuned to local politics (for detail and insight on this, see, for example, David Kilcullen's posts on the Small Wars Journal blog. Dr. Kilcullen, a retired Australian army officer and counterinsurgency scholar, has served as a counterinsurgency adviser to the U.S. in Iraq and Afghanistan).
What brought this to mind recently -- the frequent lack of technological panaceas to complex real world problems -- was a column by Thomas Friedman last week about Detroit in the New York Times ("How to Fix a Flat"). In that column, Friedman wrote,
Any car company that gets taxpayer money must demonstrate a plan for transforming every vehicle in its fleet to a hybrid-electric engine with flex-fuel capability, so its entire fleet can also run on next generation cellulosic ethanol.
Lastly, somebody ought to call Steve Jobs, who doesn’t need to be bribed to do innovation, and ask him if he’d like to do national service and run a car company for a year. I’d bet it wouldn’t take him much longer than that to come up with the G.M. iCar.
Friedman, before he became sought after as an expert on energy policy, was better known as an expert on the Middle East (he was for the war in Iraq before he was against it). Here though he seems to underestimate the technological challenges in designing an innovative new car (see, for example, "Tesla's Wild Ride"), and not acknowledge the extent to which Detroit's problems are political and not technological, i.e., being trapped between the Scylla of UAW labor costs of $73 per hour and the Charybdis of federal CAFE regulations that require automakers to build small cars that don't have the profit margins to make up for the high labor costs1.
1Friedman does note in passing the Big Three's high labor and health care costs but quotes an environmental lobbyist asking why GM didn't lobby for Hillary Clinton's proposal for nationalized health care. How that would have assuaged GM's retirees, who were already eligible for a national health program (Medicare) when they reached age 65, but preferred the more generous plan their union had negotiated, he doesn't ask.
Monday, November 17, 2008
Hat tip to Dr. Paul Price, who occasionally comments here under various pseudonyms, for pointing out how far the share price of Sears (Nasdaq: SHLD) had fallen; it closed at $33.82 per share today. The last time I wrote a post about Sears, on August 28th ("The Mystery of Sears"), the stock had closed at $90.62. In that post, I wrote that I didn't understand the long investment thesis for Sears, but was wary of betting against the stock since so many well-respected value investors were bullish on it. Maybe they saw something in Sears lesser investors didn't? The mystery remains.
The photo above, from the original post, is of the Sears building in Hackensack.
Sunday, November 16, 2008
Hat tip to reader N.L. for alerting me to Aaron Edelheit's recent comment on PhotoChannel Networks (OTC BB: PNWIF.OB) on the Value Investors Club. Edelheit notes that PhotoChannel is moving into business printing:
Very quietly, PNWIF is getting into business printing. Check out the following link for Walmart Canada:
PNWIF gets a percentage of everything uploaded through the site. This is a huge market, that all of their customers could tap including Costco and Sam`s Club especially due to the small business nature of their customers.
This is very positive. But shhh, don`t tell the stock price, it`s too busy going down.
The image above is from PhotoChannel's website.
A general thought on Edelheit's investing modus operandi: with so many currently profitable stocks (including micro caps) trading at low single-digit earnings multiples after the October crash, it would probably make sense for an investor looking to buy now to focus on those companies with current earnings. The idea behind the modus operandi of Edelheit (and other professional investors), that you can get a better price by buying a company before it starts generating profits, makes sense, but given the discounts some profitable companies are trading at, there's probably a better balance of risk versus reward now in focusing on currently profitable companies.
Saturday, November 15, 2008
Today's Financial Times features an essay by a British journalist named Robert Jackson, who has lived in Iceland for the last five years, on the financial meltdown there ("Letter from Iceland"). In it, Jackson quotes the Icelandic singer Bjork (pictured above1):
Bjork, Iceland’s ambassadress of cool, summed it up in The Times on October 28: “Young families are threatened with losing their houses and elderly people their pensions. This is catastrophic. There is also a lot of anger. The six biggest venture capitalists in Iceland are being booed in public places and on TV and radio shows; furious voices insist that they sell all their belongings and give the proceeds to the nation. Gigantic loans, it has been revealed, were taken out abroad by a few individuals and without the full knowledge of the Icelandic people. Now the nation seems to be responsible for having to pay them back.”
1This photo comes from the Sydney Morning Herald, and was taken at a performance in Japan two years ago.
In a recent post ("The Election") we speculated on some investment implications of Obama's victory and noted the conventional wisdom that this was bullish for green tech. In Barnes & Noble yesterday, I leafed through the book pictured above, by Van Jones1. Van Jones sees green tech as a jobs program for blue collar workers, who can be employed building windmills, putting up solar panels, retrofitting buildings, etc.
I'm skeptical of how much of America's energy needs can be filled by solar and wind, but Jones seems to have a handle on the zeitgeist of today's progressives (i.e., liberals). Below is a short video of Jones giving the elevator pitch for his idea.
1Van Jones is an attorney by profession, as is Robert Kennedy Jr., who wrote the forward to Jones's book (Kennedy became an environmentalist after he was busted for heroin possession in the early 1980s, and did community service for Riverkeeper as part of his plea bargain). In fact, most of the blurbs praising Jones's book come from those without science backgrounds. The tendency of environmental advocacy groups to be run by non-scientists was one noted by Michael Crichton in his novel State of Fear.
Friday, November 14, 2008
Last month, the CEO of Alloy Steel International, Inc. (OTC BB: AYSI.OB) gave us a brief update on the company and mentioned they were planning to issue a release after they finished their accounting for the quarter ("E-Mail from the CEO of Alloy Steel International, Inc."). Having not seen any update, I followed up with the company again yesterday, to ask if they were planning to file an 8-k or issue a press release before they filed their 10-k at the end of the year. Today I got the following response from the company's CFO, Alan Windus,
The auditors are currently reviewing end of year figures; we should be in a position to lodge a preliminary profit advice late next week.
Alloy Steel shares closed at 72 cents per share today, trading at less than 5x the company's earnings over the trailing twelve months. I have a limit order in to buy a few more shares at a slightly lower price. I don't have a lot of visibility on this one in the near term. The recent strengthening of the U.S. dollar versus the Australian dollar should negatively impact earnings as reported in U.S. dollars, and the global economic slowdown is of course impacting the company's customers in the mining industry. On the plus side, Alloy Steel sells a product that can increase efficiency and reduce costs, and increased efficiency and reduced costs should continue to be a compelling proposition for mining companies. Plus, Alloy Steel is starting from such a small base and has such limited exposure outside of Australia, that it might still be able to grow its business during a slowdown. We'll see. Longer term, if the company makes it through this period, I am bullish about its prospects.
The photo above, of a truck bed outfitted with Alloy Steel's Arcoplate wear plates, is from the company's website.
Thursday, November 13, 2008
Crichton also uses analogies to investing that he also used in his "Aliens Cause Global Warming" speech, about the need for doing due diligence and of being skeptical of long range projections.
Wednesday, November 12, 2008
Hat tip to Aaron Edelheit for linking to this essay in Portfolio by Michael Lewis, "The End of Wall Street's Boom". The essay is worth reading in full, and is an entertaining read, as Lewis's essays usually are, but below are a couple of brief excerpts. To set the stage: Lewis had asked the ubiquitous analyst Meredith Whitney if she knew of anyone that anticipated the subprime collapse and managed to profit from it; the first name Whitney gave him was that of her former mentor, Steve Eisman.
Lewis on Eisman as a securities analyst in the early 1990s:
The second company for which Eisman was given sole responsibility was Lomas Financial, which had just emerged from bankruptcy. “I put a sell rating on the thing because it was a piece of shit,” Eisman says. “I didn’t know that you weren’t supposed to put a sell rating on companies. I thought there were three boxes—buy, hold, sell—and you could pick the one you thought you should.” He was pressured generally to be a bit more upbeat, but upbeat wasn’t Steve Eisman’s style.
In 2007, Eisman was managing a hedge fund called FrontPoint. Lewis on Eisman's decision to short Merrill Lynch then:
...FrontPoint had a visit from Sanford C. Bernstein’s Brad Hintz, a prominent analyst who covered Wall Street firms. Hintz wanted to know what Eisman was up to. “We just shorted Merrill Lynch,” Eisman told him.
“Why?” asked Hintz.
“We have a simple thesis,” Eisman explained. “There is going to be a calamity, and whenever there is a calamity, Merrill is there.” When it came time to bankrupt Orange County with bad advice, Merrill was there. When the internet went bust, Merrill was there. Way back in the 1980s, when the first bond trader was let off his leash and lost hundreds of millions of dollars, Merrill was there to take the hit. That was Eisman’s logic—the logic of Wall Street’s pecking order. Goldman Sachs was the big kid who ran the games in this neighborhood. Merrill Lynch was the little fat kid assigned the least pleasant roles, just happy to be a part of things. The game, as Eisman saw it, was Crack the Whip. He assumed Merrill Lynch had taken its assigned place at the end of the chain.
The clever photo illustration above is from the article and was credited to Ji Lee. It is of course based on the iconic statue on Lower Broadway in Manhattan's Financial District.
Tuesday, November 11, 2008
For the 90th anniversary of the armistice that ended the first World War, below is a poem by the poet and soldier Wilfred Owen (pictured above1), who was killed in action a week before the armistice.
Happy are men who yet before they are killed
Can let their veins run cold.
Whom no compassion fleers
Or makes their feet
Sore on the alleys cobbled with their brothers.
The front line withers,
But they are troops who fade, not flowers
For poets' tearful fooling:
Men, gaps for filling
Losses who might have fought
Longer; but no one bothers.
And some cease feeling
Even themselves or for themselves.
Dullness best solves
The tease and doubt of shelling,
And Chance's strange arithmetic
Comes simpler than the reckoning of their shilling.
They keep no check on Armies' decimation.
Happy are these who lose imagination:
They have enough to carry with ammunition.
Their spirit drags no pack.
Their old wounds save with cold can not more ache.
Having seen all things red,
Their eyes are rid
Of the hurt of the colour of blood for ever.
And terror's first constriction over,
Their hearts remain small drawn.
Their senses in some scorching cautery of battle
Now long since ironed,
Can laugh among the dying, unconcerned.
Happy the soldier home, with not a notion
How somewhere, every dawn, some men attack,
And many sighs are drained.
Happy the lad whose mind was never trained:
His days are worth forgetting more than not.
He sings along the march
Which we march taciturn, because of dusk,
The long, forlorn, relentless trend
From larger day to huger night.
We wise, who with a thought besmirch
Blood over all our soul,
How should we see our task
But through his blunt and lashless eyes?
Alive, he is not vital overmuch;
Dying, not mortal overmuch;
Nor sad, nor proud,
Nor curious at all.
He cannot tell
Old men's placidity from his.
But cursed are dullards whom no cannon stuns,
That they should be as stones.
Wretched are they, and mean
With paucity that never was simplicity.
By choice they made themselves immune
To pity and whatever mourns in man
Before the last sea and the hapless stars;
Whatever mourns when many leave these shores;
The eternal reciprocity of tears.
1Photo of Owen above is from the Oxford University website.
A lot of ink has been spilled recently on the proposed bailout of the automakers by the federal government, including a sensible editorial in today's Los Angeles Times ("Kick the automakers' tires first"), John Tamny's column today on RealClearMarkets ("Time to Pull the Plug on General Motors"), and Frank Ryan's column in today's Investor's Business Daily ("Bailouts Merely Institutionalize U.S. Mediocrity"). All make good points about the mistakes made by the domestic auto industry, but none of these address the need for the U.S. to have at least one viable domestic automaker for national security purposes: the world's superpower ought not have to rely on foreign manufacturers to build its tanks. Clearly, there is overcapacity in the domestic auto industry. The Lex column in last Thursday's Financial Times ("American Cars"1) underlined that point:
America’s love affair with the automobile has reached such a level that there is now one car on the road for every person old enough to drive.
Suburban sprawl and improved car quality have allowed many families to amass not just two but three, four or even five roadworthy vehicles. The median American car is now 9.3 years old, 50 per cent older than in 1990, which is an odd statistic given how easy it has been to buy a new one – until recently that is. The rate at which cars are scrapped should track sales in the long run but car sales have managed to exceed vehicles being retired by a third on average since 1990.
In a pinch, many Americans no longer need to buy a new car as their old one just keeps on running. And, even if their clunker dies, there is a surplus of used vehicles.
Political considerations aside, this would seem to be a perfect opportunity for private equity. A private equity firm could buy GM's senior debt as GM slid into bankruptcy, bring in new management (there's still no shortage of manufacturing expertise in this country -- think Boeing, John Deere, etc.), use bankruptcy to get out of labor contracts and cut costs, cut capacity, and rebuild GM as smaller, profitable company. A slimmed-down, profitable GM could then merge with what was left of the other two domestic automakers as the industry consolidated.
Of course, in the real world, there are plenty of political considerations. There's the politically powerful UAW, well-connected auto dealers, the prospect of hundreds of thousands of job losses in auto-related businesses, politicians who want to be seen as being pro-labor, etc. Perhaps the politically palatable solution might be to provide some sort of temporary financial assistance to the automakers, and give them a couple of years to work out a modus operandi with each other (i.e., mergers), their union and their dealers to reduce capacity and costs. That might allow the inevitable layoffs to be phased in after the economy recovers. If President Bush is smart, he'll do as the WSJ editors suggested yesterday ("Nationalizing Detroit") and let the Obama Administration and Congress handle this after January 20th.
1The graphic comes from this column.
Monday, November 10, 2008
HOUSTON, Nov, 10 /PRNewswire-FirstCall/ -- VAALCO Energy, Inc. (NYSE: EGY - News) announced that for the third quarter of 2008, net income was $22.3 million or $0.38 per diluted share compared to $8.8 million or $0.15 per diluted share for the comparable period in 2007. Third quarter 2008 revenues were $55.5 million compared to $34.8 million in the third quarter of 2007. Discretionary cash flow was up 85% to $66.2 million for the nine months ended September 30, 2008 compared to $35.7 million in the same period of 2007. For the nine months ended September 30, 2008, net income was $37.2 million or $0.63 per diluted share compared to $17.1 million or $0.28 per diluted share in the nine months ended September 30, 2007.
"VAALCO's strong third quarter results reflect higher oil prices and crude volumes, as well as the expected benefit from a lower tax rate, attributable to increased capital expenditures during the quarter," said Robert L. Gerry, III, Chairman and CEO. "Our drilling and exploration program is continuing at one of the strongest rates in our history, with prospects in place to grow reserves and production. VAALCO's capital position remains strong, enabling us to capitalize on these opportunities."
As previously announced, VAALCO is planning seven additional development and exploration wells including a development well in the Ebouri field, three exploratory wells in the Etame block, two exploratory wells onshore Gabon in the Mutamba concession, one exploratory well in Angola, and a 25% interest in a gas prospect in the British North Sea. Together, these wells expose the Company to over 50 million net barrels, or an 8-fold potential increase to VAALCO's current 6.2 million barrels of proved reserves.
Earnings will of course be down significantly from here in Q4, as oil prices have had a steep drop, but if the company's current exploration program is even partially successful, it will be well-positioned when oil prices eventually resume their climb upward.
This will be old news for those of you who follow mixed martial arts, but the rest of you might see some parallels between the story of Kimbo Slice (né Kevin Ferguson -- the formidable-looking fellow pictured above) and the fall of some formerly formidable-looking businesses this year.
The heavy-handed Kimbo Slice became famous as videos of his street fights, such as the one below, circulated on the internet.
Capitalizing on Kimbo Slice's notoriety, the mixed martial arts league Elite Xtreme Combat ("Elite XC"), operated by ProElite, Inc. (Pink Sheets: PELE.PK) signed him up as its marquee heavyweight fighter. ProElite signed a deal with the Showtime Networks, Inc. subsidiary of CBS (NYSE: CBS) to show fights on Showtime and CBS. Elite XC brought Kimbo Slice along deliberately, attempting to match him with beatable opponents. Kimbo's first Elite XC fight, with a 10-10 MMA fighter named Bo Cantrell -- who had lost his previous 4 fights -- ended in seconds, with Cantrell seemingly giving up after barely being hit. Next, Elite XC matched Slice with the 43 year-old David "Tank" Abbot, who had a 9-13 MMA record going into the fight. Another knock out for Kimbo.
Elite XC did step up the level of competition for Kimbo's third fight, against the 14-8 James Thompson (although Thompson was coming off two back-to-back knockout losses). Kimbo won in the third round, after a controversial stoppage. After that close call, Elite XC picked the 44 year-old Ken Shamrock as Kimbo's fourth opponent, in a fight it would broadcast in prime time on CBS on Saturday Night, October 4th. Shamrock had a 26-13-2 record going into the fight and a storied reputation in mixed martial arts, but he had also lost his last five fights. At the last minute though, Ken Shamrock backed out of the match due to a training injury. Elite XC replaced him with a light heavyweight named Seth Petruzelli had been scheduled to fight on an un-televised undercard. Petruzelli was a part-time MMA fighter whose day job was running his Smoothie King franchise. Below is a video of the fight.
Two weeks later, ProElite, Inc. received a notice of default from Showtime Networks and the Los Angeles Times reported that ProElite was considering filing for bankruptcy.
- Net cash and Treasuries totaled $58.2 million1, so given the company's current market cap of $53 million, its shares are still trading for less than its net cash and Treasuries.
- Rental revenues from the company's Gillette, WY real estate development increased $497,100 from $288,600 in the previous quarter.
- No revenues appear from the oil and gas projects yet, as the well with PetroQuest hadn't gone into production by the end of the quarter.
1The company had a total of $74.6 million in cash and Treasuries including $4.9 million in restricted Treasuries pledged as collateral on a construction loan for the Gillette project of about $16.4 million.
Sunday, November 9, 2008
Some pundits and politicians have called for aid to states to be part of the next stimulus package, since this would fill holes in state budgets and help finance local infrastructure projects that may have been delayed by a lack of funds. At the same time, others have raised concerns that the resulting increases in the federal deficit could spook investors and lead to higher interest rates in the next few years.
If aid to the states is part of the next stimulus package, instead of simply writing checks to the states, the federal government ought to offer to buy an equivalent amount of new general obligation bonds issued by the states. These bonds could be structured with low coupon rates for the first few years, say, 1% above the rate on the U.S. Treasury bonds, with a reset to higher rates after three years. That ought to give the states the funds to cover their budgets and complete infrastructure projects, and give them an incentive to refinance the debt by issuing new bonds to the usual municipal bond investors after the economic downturn ends (with taxes likely higher in a few years, there would be more demand from affluent investors for tax-free municipal bonds). Knowing that the federal government would be repaid in a few years ought to assuage the market for U.S. Treasuries.
The photo above, from the NJ Department of Transportation website, is of part of a recently completed, federally funded $68 million local infrastructure project, the replacement of the Essex Street bridge and the reconstruction of the Route 17/Essex Street interchange.
Saturday, November 8, 2008
Reading James Fallows's post on Michael Crichton, I was reminded of an article Fallows wrote about an air taxi company called DayJet last spring in the Atlantic, "Taxis in the Sky". One of the fascinating aspects of DayJet that Fallows covered was the way the company decided what routes to fly and how much to charge. Below are a couple of brief excerpts.
Their computer models resemble a much more complex version of an “artificial life” computerized game like SimCity or SimLife—or, to explain the nickname they gave themselves, programs that simulate the paths a colony of ants will take across a floor as they discover and retrieve pieces of food. This process is also known as “agent-based modeling.”
Fallows writes that the company's computer programmers are called "ant farmers" because of this. The photo above, from the article, shows some of the ant farmers' equations.
While the ant farmers tried to determine where the company should start its service, the mathematicians from Russia were devising the software on which the company would run. In the end, they came up with plans that, in their view, made DayJet conceptually closer to Google or eBay than to existing airline companies. Before I explain what I heard from Alex Khmelnitsky, a note: most of the time I spend reporting, I spend listening to people describe what they do. It’s the payoff of the job—and through years of transcribing notes, I’ve learned that the typical minute or two or 10 of conversation boils down to a sentence or so of usable thought.
Not so with Alex! He and his colleague Eugene Taits worked for Iacobucci at Citrix and joined DayJet in its early days; another Russian veteran of Citrix, Oleg Kuzedub, joined DayJet recently. During the hour I spent with Alex and Oleg (Taits was out of town), Oleg said only a few words. But Alex more than made up—and I have never listened so hard trying to comprehend.
To spare readers, not to mention myself, undue exertion, I’ll simply say that in the view of everyone I spoke with at the company, the Russian-designed mathematical backbone of the company was its crucial advantage over any competitors, and would mean the difference between the company’s making a profit and not.
In the car this afternoon I turned on the radio and heard a news report ending ".... Crichton was 66." Was? That Michael Crichton has died in his 60s shocked me not simply because I'm now concentrating on the mortality of my father, in his 80s, but also because he always looked at least 20 years younger than his chronological age. I'd corresponded with him recently and didn't know he was sick.
Crichton had his enemies, especially after his recent anti-global-warming book (which I chose not to read). That he was married five times suggests that his personal life was not entirely tranquil. And he was hyper, hyper aware that in America he was regarded as a "genre" writer whereas in Italy, for example, he would be listed among the big names of Quality Lit.
But I was honored to have met him 20 years age, when I was living in Japan, and to have been a friend since then. He seemed unassuming, funny, charming in every way -- the unusual famous person who was genuinely considerate of one's spouse and kids. Very earnest about his political causes, including a very prescient argument fifteen years ago about the impending decline of the "Mediasaurus," now known as MSM. And, there is no way around it, incredibly talented. At one point in the 1990s, he was responsible for the #1-rated TV show (ER), the #1 box office movie (Jurassic Park), and the #1 best selling-novel -- and I'm not even sure now which of his novels it was. He must have been the only person in history to have paid his way through medical school by writing successful novels.
He will be missed.
1Sadly, Fallows wrote two days later that his father passed away this week as well.
Friday, November 7, 2008
Leafing through James O'Shaughnessy's book What Works on Wall Street last night in Barnes & Noble, I came across this:
Almost all the superior returns offered by small stocks come from microcap stocks with market capitalizations below $25 million
The microcap returns absolutely dwarf their nearest competitor, the $25 million to $100 million group.
O'Shaughnessy also writes that the sub-$25 million market cap stocks outperform all other market caps on a risk-adjusted basis as well. This is consistent with the research by Athanasios Bolmatis and Evangelos Sekeris we referred to in a post a few months ago ("Why Worry about Small, Thinly-Traded Stocks"). Bolmatis and Sekeris conducted a study that found that,
Stocks that have no-trade days outperform other stocks by a wide margin, even after correcting for their higher risk as captured by their larger betas.
Even though sub-$25 million market cap stocks have the highest risk-adjusted returns as a group, O'Shaughnessy writes that they are almost impossible to buy, and cites a liquidity study conducted by Lehman Brothers in the 1990s in support of this. This conclusion seems a little dated. Professional value investors such as Paul Sonkin of Hummingbird Value and Aaron Edelheit of Sabre Value have successfully invested in sub-$25 million market cap stocks, and individual investors can buy them as well, if they have patience and use limit orders.
Thursday, November 6, 2008
I just came across it today, but on October 23rd, Forbes published an article with a similar thesis, "The Coming College Bubble?".
Wednesday, November 5, 2008
President-Elect Obama announced today that Rep. Rahm Emanuel would be his chief of staff. Eleven years ago, Elizabeth Bumiller of the New York Times profiled Rahm Emanuel and his two brothers in this article, "The Brothers Emanuel". Excerpt:
Today [in 1997], Rahm Emanuel is, at 37, one of the most powerful people at the White House. He is also the middle brother of two similar tank commanders: Ariel Emanuel, 36, a relentless Hollwyood television agent who left International Creative Management under cover of darkness to create a rival firm, and Ezekiel Emanuel, 39, an oncologist (with a doctorate in political theory) who is a nationally known medical ethicist at Harvard and a leading opponent of assisted suicide.
''We were cloned, full grown,'' says Ezekiel.
Of the three brothers, Rahm is the most famous, Ari is the richest and Zeke, over time, will probably be the most important. Zeke is also, according to his brothers, the smartest. Rahm, naturally, gets the most press attention. Last erm he managed the President's campaigns to pass the crime bill and the North American Free Trade Agreement, but this term he has taken over the job and close-to-the-Oval-Office cubbyhole of his friend Stephanopoulos. Now chief promoter of Clinton's small-bore issues like stopping teen-age smoking and requiring trigger locks on guns, Rahm has been singled out in recent profiles as the centrist, hyperactive counterreaction to the Stephanopoulos liberal cool.
Together, Emanuel Freres are a triumvirate for the 90's. All are rising stars in three of America's most high-profile and combative professions. All understand and enjoy power, and know how using it behind the scenes can change the way people think, live and die.
Rahm's brother Ari, the Hollywood agent, is said to be the inspiration for the character Ari Gold, played by Jeremy Piven (pictured above), on the HBO series Entourage.
The photo above is from Wikipedia.
Why Obama Won
In two words: The economy.
According to The Political ("Exit polls: Economy top issue"),
The economy dominated voters’ concerns at historical levels in the presidential election Tuesday, according to preliminary exit polls conducted by The Associated Press and the major television networks.
Fully 62 percent of voters said the economy was the most important issue, six times more than cited the war in Iraq (10 percent), health care (9 percent) or terrorism (9 percent).
In a few posts last month (e.g., "Contingency and Causation" and "More from 'The Irrational Electorate'"), we referred to an article by Larry Bartels in The Wilson Quarterly, "The Irrational Electorate". In that article Bartels noted,
...studies of economy-driven voting almost invariably find that voters are strongly influenced by economic conditions during the election year, or even some fraction of it, but mostly ignore how the economy performed over the rest of the incumbent’s term.
The acute worsening of the financial crisis in mid-September erased Senator McCain's small lead in the polls and Senator Obama never looked back.
What sort of economic policies will President Obama pursue?
Broadly speaking, Obama supporters have fallen into two groups: those who voted for him because they thought he was an orthodox liberal (as some of his earlier statements, his background, and his voting record might suggest) and those who voted for him because they thought he was more of a pragmatic centrist (as some of his statements during the campaign, and some of the advisers he surrounded himself with -- e.g., Robert Rubin, Paul Volcker -- might suggest). We'll find out which group was right soon enough.
Is this a historic realignment?
Some pundits have claimed this, but I'm skeptical. Clearly, the Republican brand has been damaged, but the bursting of the credit bubble won't leave Democrats unscathed either. Democrats have benefited from invidious comparisons between the economy and budget under President George W. Bush and President Clinton (e.g., a budget surplus under Clinton and deficits under Bush), but going forward the basis for comparison is going to be a lot different. The deficits during the first years of the Obama administration are going to be easily more than twice as large as the largest deficit during the Bush years. Unemployment rates, and eventually, inflation and interest rates, will probably look significantly worse too. Granted, this will be due largely to the continuing effects of the credit bust, but then the surpluses under Clinton were largely due to the dot-com bubble. Presidents, and their parties, get the blame or the credit for economic conditions when they are in power.
The conventional wisdom is that green energy and, perhaps to a lesser extent, infrastructure will be beneficiaries of President Obama's policies. That sounds reasonable. A big winner will probably be the venture capital firm Kleiner Perkins1, which has been savvy enough to get in early on the green tech bubble and sign on Al Gore as a partner. Unfortunately, Kleiner Perkins isn't publicly traded, and if does go public in the next few years, its IPO will probably be a signal that the green tech bubble is about to burst.
A commenter on CNBC today mentioned another investment idea -- life insurers -- which should benefit from the reinstatement of the estate tax (since the wealthy often buy life insurance policies to cover their estate tax liabilities).
If Jim Rogers and others are right that the yawning deficits ahead will eventually lead to much higher interest rates, than it might make sense to short Treasury bonds, as Rogers says he is doing (or to invest in a fund such as RRPIX that inversely tracks Treasury bonds).
The photo above of Obama and McCain is from The Dallas News.
1A small venture capital firm that is publicly traded, Harris & Harris Group (Nasdaq: TINY), has about 41% of its portfolio invested in what it calls "Cleantech". This page on Harris & Harris's website lists its Cleantech portfolio companies, and provides links for more information about each of them. I've owned a few shares of Harris & Harris since the early 1990s, before it became focused on nanotechnology, and then Cleantech.
Sad news, and a shock to those of us who hadn't known he had been battling cancer. The Associated Press's obituary quotes John Wells, the executive producer of the long-running TV drama Crichton created, ER, on the breadth of Crichton's interests:
"No lunch with Michael lasted less than three hours and no subject was too prosaic or obscure to attract his interest. Sexual politics, medical and scientific ethics, anthropology, archaeology, economics, astronomy, astrology, quantum physics, and molecular biology were all regular topics of conversation."
Michael Crichton's website is down now, but here is a link to the Michelin Lecture he gave at Cal Tech in 2003, reproduced on a Harvard website, "Aliens Cause Global Warming". Below are two brief excerpts from the lecture, but it's worth reading in full.
On Science and Consensus:
I want to pause here and talk about this notion of consensus, and the rise of what has been called consensus science. I regard consensus science as an extremely pernicious development that ought to be stopped cold in its tracks. Historically, the claim of consensus has been the first refuge of scoundrels; it is a way to avoid debate by claiming that the matter is already settled. Whenever you hear the consensus of scientists agrees on something or other, reach for your wallet, because you're being had.
Let's be clear: the work of science has nothing whatever to do with consensus. Consensus is the business of politics. Science, on the contrary, requires only one investigator who happens to be right, which means that he or she has results that are verifiable by reference to the real world. In science consensus is irrelevant. What is relevant is reproducible results. The greatest scientists in history are great precisely because they broke with the consensus.
Let's think back to people in 1900 in, say, New York. If they worried about people in 2000, what would they worry about? Probably: Where would people get enough horses? And what would they do about all the horseshit? Horse pollution was bad in 1900, think how much worse it would be a century later, with so many more people riding horses?
But of course, within a few years, nobody rode horses except for sport.
Now. You tell me you can predict the world of 2100. Tell me it's even worth thinking about. Our models just carry the present into the future.
They're bound to be wrong. Everybody who gives a moment's thought knows it.
The photo of Michael Crichton above is from the Notable Biographies website.
Tuesday, November 4, 2008
U.S. Energy Corp. (Nasdaq: USEG) released an update on its drilling program with PetroQuest Energy (NYSE: PQ) today. So far they are 1-for-2: the first drilling prospect went into production yesterday, and the second prospect was determined to be non-productive. These were the first two of a scheduled three well drilling program with PetroQuest Energy.
The image above is from U.S. Energy Corp.'s website.
Today Starbucks is offering free tall coffees to anyone who says they voted1. Here's another way to save money at Starbucks, similar to the one we mentioned in a recent post ("Lobster Rolls in Lean Times"). Costco sells $100 in Starbucks gift cards for $79.99 (similar to the deal it offers on McCormick & Schmick's gift cards). Starbucks also offers a gold card now, that gives holders a 10% discount on most purchases. If are a frequent-enough Starbucks customer, you probably received a free gold card last month (if not, you can buy one now, or get one free with a Starbucks affinity credit card deal). You can combine these discounts by transferring balances from the Starbucks cards you bought at Costco to your Starbucks gold card. Then you'll be getting an effective 30% discount on your Starbucks purchases1
1Ben & Jerry's is offering a similar deal from 5pm-8pm today ("Democracy never tasted so sweet").
2If you bought the Starbucks gift cards at Costco with a Costco American Express card, you'd get 1% cash back on the purchase, so your effective discount would be 31%.
In its press release, Hemisphere GPS (TSX: HEM.TO) reports that its Q3 revenue grew 46% year-over-year, and its gross margins increased to 52%. Expenses increased 46% year-over-year as well (partly due to the acquisition of Beeline), and the company posted a loss of about $233,000 for the quarter (the loss would have been about twice that if it weren't for Hemisphere's foreign exchange gains).
On the Value Investors Club, Edelheit quotes these bullet points from Canaccord,
1) Revenues USD$13.2M up 46% yr/yr, Gross profit margins 51.6% and EPS (0.00) was better than consensus 12.6M GPM 48% EPS -0.01 (our forecasts 13.2M, GPM 50% /-0.01)
2) Company maintained FY guidance of revenue growth of greater than 45% (we believe mgnt will likely increase its FY guidance to better than 50% on the 11:00am CC)
3) Gross profit margins big positive surprise at 51.6% (slowest qtr of the yr) up 500 bps yr/yr, this should support current forward estimates if not cause some EPS estimates to increase in 2009 (street is 0.25-0.30 USD in FY2009)
4) FX trend of weakening cdn$ is positive for HEM margins (substantial cdn based operating costs), these margins were realized against a cdn$/USD$ spot of 1.06 (obviously we are at 1.18 now)
5) No signs of AG related slowdown
6) At C$1.70 share stock HEM has 20.5M in cash or 0.37/share, is trading at 4.4X 2009 EPS , growth rates in excess of 50% (and company now benefiting from favourably FX trends)
7) Company bought back 181,00 shares in Q3 @ 2.46/share
Edelheit then comments,
Why the heck is this at $1.70? Seriously, this is one of the most ridiculous malfunctions of the market that I`ve ever seen. 46% revenue growth, much better than expected margins and the stock is at 4.4X earnings?
Of course, Hemisphere isn't trading at 4.4x trailing earnings, but at 4.4x estimated 2009 earnings. If Hemisphere actually meets those earnings estimates, I'd expect it will trade at a higher multiple.
The photo above comes from the Hemisphere GPS website.
Monday, November 3, 2008
The photo above was taken at the Valero in Hasbrouck Heights, NJ on Saturday. The prices may be slightly lower today. Regular unleaded is down about a third from where it was when we last posted a photo from this station at the end of August ("Gas Prices, Tipping Points, and Demand Destruction").
In a recent post ("KSW Update"), we noted that KSW (Nasdaq: KSW) announced it had been awarded a new contract worth between $24 million and $25 million, but that its backlog remained unchanged at $139 million. Today KSW reported that its third quarter revenue was $25.5 million, which explains why the company's backlog remained unchanged: it worked off about as much of its backlog as it added to it. Below are the highlights from KSW's release:
Financial Highlights for the quarter ended September 30, 2008 include:
* Total revenue increased by 21.4% in third quarter 2008 to $25.53 million as compared to $21.03 million in third quarter 2007;
* Net income in third quarter 2008 increased by 36.9%, to $1.32 million, or $0.21 per basic and fully diluted shares, up from $964,000, or $0.16 per basic and $0.15 fully diluted shares in the same period of the prior year;
* As of September 30, 2008, cash, cash equivalents and marketable equity securities totaled $18.96 million;
* The Company is debt-free.
Chairman of the Board Floyd Warkol commented, “We have been careful to ensure that we have a reserve of cash and cash equivalents, which is the safest way to weather the current economic crisis. Even in harsh economic times, KSW’s ability to save owners money makes us better positioned than other contractors.”
KSW currently has over 20 projects underway in New York City, including the Trump International Hotel and Tower in Manhattan’s Soho area, the 52-story luxury rental and hotel building at 839 Sixth Avenue in Manhattan, an ultra-luxury residential tower at 56 Leonard Street, and the New York Presbyterian Hospital’s Cardiovascular Center in upper Manhattan. KSW has also been selected as the HVAC Trade Manager for pre-construction services on three new hospital projects.
The image above comes from Completed Projects -- Hospitals/Research section of KSW's website.
Sunday, November 2, 2008
A few words about those S&P 500 index put options. I bought them at market highs last year. I was concerned that The Portfolio was doing too well. In Oct. 2007, it was yielding a CAGR of 39%. And that was return on assets. The return on equity was higher, about 50%, since I was about 20% on margin. While I might dream that I was the second coming of young Warren Buffett, when I woke up, I knew it wasn't so. It was largely luck, leverage, and a 3 year bull market, and---perhaps---a little bit of skill. I did not predict the bottom would fall out of the market, but I did consider what would happen to a leveraged portfolio if it did. So I decided to sacrifice a few percentage points of returns in exchange for market crash insurance. I bought S&P 500 index puts with a face value (sum of strike prices) of about 2x the size of The Portfolio. Average strike price was around 1250 and average time to expiration around 18 months. The two key objectives were to put in a floor below which The Portfolio is very unlikely to fall, and to provide funds to meet margin calls if they come. Most of my put buying was around S&P 500 level of 1500-1550, so the options would not protect much against moderate drops, say 20%. But they would become extremely valuable on a drop of 40-50%. The cost of the puts was about 6% of The Portfolio. Given that the lifetime of the options is about 18 months, and that the cost is deductable (assuming they expire worthless), this would hurt my total return by about 3%/year. As it happened, the damage is already reduced to about 1%/year, since I sold a few the puts on 1/22/08 and 3/7/08 for incredible percentage gains. Without the puts, my loss this quarter would have been 22% instead of 16%. The puts don't really fully kick in until S&P 500 level of about 1250.
Q2-08 (hedge 13.2%) The hedge comprises a number of S&P 500 index put options, with a face value (sum of strike prices) of about 2x the stock portfolio, with strike prices varying from 1350 to 800, and expirations of 12-18 months. The hedge is doing its job fairly well. That job is to insure against margin calls and put a floor under my net worth. The floor turned out to be a little lower than I planned, because my stock portfolio declined faster than the S&P 500 index. During the market dip in late June, I sold down a little. This reduced my basis cost for the options to 2.5% of my portfolio and the remaining options are up 186%. I'm in no danger of being forced to sell undervalued stocks due to a margin call. If the S&P 500 drops further and my stocks drop proportionally, I'll actually gain quite a bit, since the options are now sufficiently close to the strike prices that they have quite high deltas. I estimate that the existence of the hedge has added 3.7% to my returns since inception.
Q3-08 (hedge 10.8%) The hedge comprises a number of S&P 500 index put options, with a face value (sum of strike prices) of about 1.5x the stock portfolio, with strike prices varying from 1250 to 800, and expirations of 12-18 months. I bought the hedge a little over a year ago, at a cost of about 4% of the portfolio value. I had no idea that the stock market would crash and the economy would enter recession. But I was concerned about the collapsing housing market and early hints of a credit freeze. I figured I would take out some cheap insurance, just in case. The hedge is doing its job fairly well. That job is to insure against margin calls and put a floor under my net worth. The floor turned out to be a little lower than I planned, because my stock portfolio declined faster than the S&P 500 index. This quarter I sold about 1/4 of the options. By now, the profit from the hedge is so much that even if the remaining options expire out of the money, the hedge has more than paid for itself. This has been by far my best investment of the year, with returns north of 300%/year. Too bad I didn't put more money into it.
History of the Hedge. Every quarter, I do a writeup on my portfolio, so I can recall what I was thinking and review previous mistakes. Here are excerpts from the quarterly reports, starting with the Q2-2007 one. Apologies for the repetition, but I wanted each quarterly writeup to stand alone.
Q2-07: (hedge 1.0%) I started a small hedge position, comprising S&P 500 index puts with various dates going out about a year, and various strike prices around 1200-1300. The purpose of the hedge is to make it safer for me to use debt and margin to buy stocks. The portfolio yield has stayed in a band from 20% to 30%/year, after tax, for a couple of years now. I can borrow money at an after-tax rate of under 6%. Why not borrow at 6%, earn at 25%, and pocket the difference? The answer of course is risk; a serious bear market could easily reverse that 25% to minus 25%. There is also the risk of a margin call, disrupting the portfolio by forcing me to sell great companies at depressed prices. But if there is a serious correction or bear market, those S&P index puts will become extremely valuable, giving me something besides good stocks to sell to meet margin requirements. It may sound like I'm going way out on a limb, but I'm not. I'm limiting my margin debt to about 20% of capital. The hedge, incidently, is actually currently making a profit, since I bought the puts at market peaks. However, my fervent hope is that hedge expires worthless. It is strictly insurance against severe market corrections.
Q3-07 (hedge 2.8%) I slightly increased my hedge position in S&P 500 index puts with strike prices around 1250, and I will keep it going as long as I'm using margin debt. Currently margin debt is around 30%. Oddly, I've actually made a small profit on the hedge, since the S&P 500 has gone down a little since I started it. With the present combinination of high returns (32%) and high margin debt (30%), I feel quite comfortable paying the 2%/year or so that the hedge is likely to cost me for insurance. At some point, I will pay off the debt, and rethink whether the hedge is a good idea.
Q4-07 (hedge 6.8%) The Portfolio is fairly highly leveraged right now, at about 35% margin loan. This leverage was mostly taken after the big Nov. drop in the market, to pick up bargains. Hopefully, the 6.8% of S&P 500 index puts will give sufficient protection against margin calls if the market tanks in 2008.
Q1-08 (hedge 13.1%) I entered the quarter more than fully invested, about 130%, and ended it about 150% invested. I wasn't very active...Actually my S&P 500 index put options were up more than anything else on a percentage basis this quarter, 48%, but I consider them insurance rather than a for-profit investment.
Click here for Part II