If I had to make a guess I would say that with the huge amount of US debt and the governments dependency on companies stocks must go up and common workers real incomes go down.
That’s because the debt is huge and must be paid by companies and common citizens because government members produce no economic goods and are the biggest consumer. It’s easy to make common citizens pay, the government either taxes them or prints money. Many have no idea that by printing money their savings are getting diluted and they are therefore getting poorer. It is worthwhile to read what Warren Buffett thinks of inflation:
The arithmetic makes it plain that inflation is a far more devastating tax than anything that has been enacted by our legislature. The inflation tax has a fantastic ability to simply consume capital. It makes no difference to a widow with her savings in a 5 percent passbook account whether she pays 100 percent income tax on her interest income during a period of zero inflation or pays no income taxes during years of 5 percent inflation. Either way, she is ‘taxed’ in a manner that leaves her no real income whatsoever. Any money she spends comes right out of capital. She would find outrageous a 120 percent income tax but doesn’t seem to notice that 5 percent inflation is the economic equivalent. — Warren Buffett
Common citizens mostly think taxes are the problem. In either case by printing or taxing or a combination of both they are transferring money to the government. Monetary and price inflation is the probable outcome and people get poorer because they hold less money in relation to the total amount. That said, the long term situation is not healthy, and the government should cut their expenses drastically in order to reduce their ever growing costs that just accumulates debt and takes a toll on the whole economy.
For the case of companies, they are also penalized by the printing of money (monetary inflation, not to be confused with price inflation). But the government can not suffocate companies via taxes because otherwise they will receive less by choking their total profits and risks having companies gone out of the country and establishing themselves in friendlier tax regimes or keeping their cash outside. Ensco, Rowan and Nalco Holdings, three companies I’ve bought moved to the UK, due to that I pay no taxes on the dividends received anymore. Also many of the companies I have maintain a huge cash hoard outside and if taxes get heavier they will try to make even more business outside or move altogether. Unfortunately US citizens cannot hide anywhere in the world because as long as they are US citizens they have to pay taxes to the USA and to the country they live too (double tax). That’s why some persons make the extreme choice to adopt another nationality. That has not happened yet much but what has drastically fallen is the immigration to the USA. Fewer immigrants is also a reason why the housing market took such a long time to recover. Unlike previous housing crises immigrants have not strongly supported the housing market this time. Back to companies: the government does everything possible to create an environment where companies are able to pay them well. The best environment is when they are internationally competitive and have big benefits. At least, like that, companies keep up with inflation and have decent profits from which the government and stock holders get benefited.
In simple words, money is transferred to the government or the benefited companies from common workers. So a good place to keep money is invested, better not too much cash due to the inflationary risk associated with the government debt; low interest rates; and treasury bonds bubble. That combined with the quality and strong balance sheet of US companies makes me think they have still a lot of potential to keep growing.
Risk is that US companies lose competitiveness. In many cases international companies are catching up, but in several sectors US companies are still top class, so a good investment choice should help.
As an answer to someone who asked me why I do not go back to work on IT in order to have two sources of income I replied something like the following …
It comes down to this: time is a limited asset.
I think that in practical terms it’s extremely difficult to work in a fixed job and invest well simultaneously. To have good results investing on long periods of time you need to be fully focused on it. When I worked my results were very mediocre or worse than that because I had no time to learn and practice investing. Investing takes too much time to do it well. It’s a huge advantage to dedicate, whenever you like, 60 hours a week to it.
A benefit of working is when you have small amounts of money saved. Then working gives a lot of income in proportion to your savings. For example if you have 50K saved and have a 50K per year job then you make a lot with your work in relation to your savings.
But if you live with low costs or have one million saved then making 10% average a year on the stock market beats most works. So it all depends on how much money you have and how much you need to maintain yourself.
My problem with working is mainly that:
1) I mostly disliked working for clients or bosses. Even as an independent or with my own company.
2) Working took time away to find out what I really liked.
3) Once I had an idea of what I liked working took most of the time I had to concentrate on learning and getting better at it.
As I see it very few people with jobs do well investing on stocks. They basically lose their hard earned money on the market. Others save their whole life and when they start investing they are old and unprepared risking their life savings due to that.
I was not one of the few lucky ones that knew soon what he liked. If you are fortunate to know it, whatever it is, then it’s a sin not to be doing it already. And working for money on something you do not like takes a toll on you, if you value yourself and your time you should really ask yourself if it’s worth it. Think about what Warren Buffett said:
If you gave me the choice of being CEO of General Electric or IBM or General Motors, you name it, or delivering papers, I would deliver papers. I would. I enjoyed doing that. I can think about what I want to think. I don’t have to do anything I don’t want to do.
The ideal with investing or any job you really like is to start as soon as possible, seriously, full time and most importantly: really loving it. It’s hard to compete with someone who does what he loves. Keeping pace with someone passionate about his job is tough. Loving your professions will make you advance fast and do it the best you can. Chances are high that you become an expert at it. The sooner you start what you like the better for your well being, health, and happiness.
Just checked my brokerage accounts that my 2012 return was 18.49% (after taxes and commissions). I usually do not use leverage, maybe I will one day if the market falls enough. 19% of my money dedicated to invest is in cash, at 2% fixed rate in a couple of Bank accounts, mainly in euros. That cash is ready to be deployed if I find some good opportunities. I invest mainly because I like it and I do not think it would get funnier with leverage or with no cash option. Cash is like a call option with no expiration date, an option on any stock, bond, real state, an option to buy any asset, with no strike price. It’s the price for being able to buy a bargain when it appears. I do not like giving that up, specially when all the market falls. Besides I can not afford the chance to go broke because I do not want to go back to the office, I can not run any chance with my freedom, therefore I eliminated leverage. The chance to go broke is significantly reduced by eliminating leverage.
I just compared my returns to the market and I’m happy in the sense that the S&P 500 total return made 16.00%. It is comforting to check, as can be seen here, that it’s the 5th year I’m above it.
Here are my year to date results versus the S&P 500 Total return, from the start of 2012 up to every following month:
Up to Month 12: 18,49% vs 16,00%
Up to Month 11: 12,44% vs 14,96%
Up to Month 10: 11,88% vs 14,29%
Up to Month 9: 16,27% vs 16,44%
Up to Month 8: 15,45% vs 13,51%
Up to Month 7: 12,22% vs 11,01%
Up to Month 6: 8,52% vs 9,49%
Up to Month 5: 2,58% vs 5,16%
Up to Month 4: 12,77% vs 11,88%
Up to Month 3: 14,94% vs 12,59%
Up to Month 2: 9,05% vs 9,00%
Up to Month 1: 5,44% vs 4,48%
Up to October I was not doing so well, probably because of my technology investments falling. I was actually buying more of them back then.
Before investing in the stock market I was working mainly as on IT contractor. I also bought some pieces of real state in the south of Chile. I bought most of it a few years back, a rather big chunk of land in Chiloe. I had to do some legal work on it in order to legalize it. It took me three years and now that all the papers are fine it has quite nicely appreciated. So I have been thinking to convert it to cash to have the option to invest it. I would have to go there to divide it and sell it as property lots. One problem is that my wife does not like the rainy weather and I don’t feel like going alone. So I have not yet decided what to do. Anyone wants to come along ?? I disclose that it’s very rainy in Chiloe so this would not be a pleasure trip. Let me know if you’re interested, I’ve been thinking about it for a long time. I’m so comfortable here that I can not make the move so I need a push. I have a hard time leaving my family. I hope I can convince them to come. I must disclose that the big island of Chiloe is very rainy, not cold though, and definitely better in a couple of summer months. But given that it’s 30 KM south of Ancud, on the east coast side, it would be more of an adventure than anything else. We would need to find and rent a cheap place to stay, close to mainly farmers. Set up a 3G internet network and basically do “nothing”. Things move quite slow down there so at least there would be a lot of time to study about investments or learn (Chilean) Spanish. Ah.. I’ve heard that there is nice fishing too so we can get some fresh air and proteins. Another alternative is to stay in Ancud which is a “city” (you could call it that) nearby. People are very nice actually. That might compensate for the rest. I’m thinking out loud but anyways it’s always nice to have the option to do something wild and it beats being in an office in several aspects.
Back to the stock market world: I have not seen in detail which of my investments were the best performers this year. I mainly concentrated on what to do with the worse ones. Mostly all did OK except some unrealized losses on my TLT shorts plus the dividends and cash I had to pay for borrowing it. Anyways now even more than before I expect interest rates to go up and TLT to pay off.
I was doing much better in August making over a 20% year to date return against the S&P total return at 12.5%. That was mainly because the dollar was so high against the euro. But when the dollar fell my dollar investments got devalued. Retrospectively I should have shorted much more dollars (short 30K US$) when it was under 1.24. But since I have much more than 30K in US stocks I took quite a hit during the last months when the dollar fell.
Looking back at the past years I think the lesson is to stay out of the market if things seem to be grossly overvalued or if you do not know where to invest. You have to literally hate losing money. Feel real pain with losses. In order to avoid them you need to be very sure of your acts. That’s why I basically stayed out in 2007 and before. Mainly because I did not feel I knew enough. Time was certainly not wasted, it was the best investment because I started to study. I read back then Philip Fisher and Benjamin Graham’s books among others. I also invested my money in real state then, in the Chiloe land, as I talked above, and others things. I used the cash I had mostly when I saw clear opportunities starting in 2008.
When the market falls a lot there are quite more opportunities. So keeping cash has been essential. And having the will to use it at the right time is also essential. I knew very intelligent people, loaded with cash, that recognized that the stock market was cheap but were afraid to act. They got paralyzed thinking about the worse. Ironically they are investing now.
Besides the exceptional returns of 2009 in the past 3 years I just had a between 1.5% and 2.5% percentage points over the US market. Quite mediocre but remarkable for its consistency. I could have gotten a bit worse results by simply buying market indexes since then and take a 3 year vacation. But to me what matters most are absolute returns and not losing. Being in the stock market has been much better than fixed income in the last years. Stocks have given excellent total returns. The advantage of active stock picking is that it forced me to study and that could prove profitable in the future. I also consider I took little risk and slept well by mainly buying good financially solid companies at low prices. Many of the 2012 investments (Intel, Dell, Applied Materials) have under performed the market up to now and should prove to be profitable in later years. I tried to only invest in what I knew well and when I clearly saw cheapness. I tried to avoid speculating. If I was not very sure I let it pass.
It’s fundamental to know yourself well and control your emotions. It’s essential to have an instinct that makes you buy or at least get seriously attracted by things that are cheap, as opposed to shunning and panicking in such cases. That instinct might get developed with education and correct reasoning. Therefore I would recommend to study a lot and dedicate full time, or a lot of time, getting informed and thinking. That should help to develop that instinct and detect opportunities. I do not think I would have performed like this if I had another full time job. Lots of opportunities would have passed by because my mind would have been too frequently elsewhere.
Studying is the biggest investment I have made in the sense that it prepared me to see and go for the strike. Maybe you think that studying Nestle (or some other company) is a waste of time because it does not seem cheap but it can prove to be a good investment in the future if it ever does.
Some words of caution: do not fall in complacency and do not rest, specially when you have done well. It can be dangerous to get overconfident. The better you have done, specially because you were pushed up by the market the more you should question what you do. Few things sedate the mind more than long market run ups. But screwing up one time can prove to be very costly. So if things get too rosy take special care. Focus on your worse investments, on reducing the risk (possible capital loss) out of your portfolio. Be careful to do that specially when times are good, do not focus too much on your gains. Focus on what is at risk. It’s something a bit like the The Gambler song from Kenny Rogers says (don’t take too literally the drinking and smoking part):
“If you’re gonna play the game, boy, ya gotta learn to play it right.
Now Ev’ry gambler knows that the secret to survivin’
Is knowin’ what to throw away and knowing what to keep.
You never count your money when you’re sittin’ at the table.
There’ll be time enough for countin’ when the dealin’s done.”
That is one of my favorite singers and songs, singing as a guest in the nice Muppet Show! Then again, besides gambling (nothing wrong with it, note that there are very rich professional poker players), there are many paths to make or lose money in the market. I guess the essence of success is to know very well what you do. In my case when I buy I personally like to think I will invest forever. I like good companies, financially strong. With no big risks or financial problems on the horizon and with cash or very good access to debt. A good company with 12-14% return on equity bought at a fair price will do much better in a few years than a mediocre company with a 5% return bought at a big discount. I focus on the areas I know. I hardly plan what to buy, I mainly act, opportunistically, when I spot the chance. Opportunities can not be planned. If a company I like and know well gets cheap on the market for no reasonable causes I might probably end up full of it. I never set a target price, I constantly revalue. I do not worry much about when to sell. If the company is good and reached a fair price I do not sell it unless it gets grossly overvalued. I do always monitor that the business remain healthy though and if it seems to have permanently deteriorated I try to sell. That way I am gaining time by mostly following what I have and concentrating on buying opportunities. Little time is dedicated to decide what to sell, like that I win time and time is money, and it’s limited. I focus on getting cheap and good companies. I do not care much about dividends. I see a dividend as a small liquidation of the company. I prefer them profitably reinvested in the business than having to pay taxes and worry about investing the cash again. I use the market mainly to compare the prices it offers to a conservative valuation. If the market prices seem cheap I try to act. I try to avoid companies with debt and focus on good management. I also like companies that are not only in good businesses but that can manage their assets well. So for example I distrust putting my money in Microsoft, even if it seems arguably cheap or has a good business. One reason I do not like it is because their management almost bought Yahoo for more than 40 Billions. They were lucky Yahoo was even more stupid to reject the offer. That example of bad asset management as well as their Skype acquisition was something that I considered bad management decisions. Bad or dishonest management decisions is something that does not pass my investment checklist.
In conclusion there is no easy formula, it’s a job as any other. Even maybe more difficult since it requires constant learning and observation. It’s a very skewed job in the sense that only a few make what a lot lose. It’s one of the few jobs where a small minority is above the average. It requires time and to use your brain a lot more than in other jobs. Then again even if you are not apt for it you can always buy market indexes on a constant basis, adding similar cash amounts every year, reinvesting dividends, and you’ll probably do quite well. But if you do like to pick stocks I would recommend to study, think and read. Select good books written or recommended by successful investors. Books have been my basis to learn about investing. But practice is of course also necessary. The more you know your companies and the environment where you invest the bigger your chances are to detect low prices and make good decisions when opportunities appear. And as I see it opportunities will always appear sooner or later.
Once again best wishes and health for 2013 !
Fortunately it’s about my favorite company and 2nd biggest holding. Christopher Owens, the author, has work experience at an investment bank and hedge fund. He invests his own money and does his own research. It seems he is a self educated investor. He fortunately has not lost time and money or polluted his ideas by getting and MBA or a CFA. Before making his own valuation he had read several professional and non professional valuations of Berkshire as well as several years of Berkshire’s shareholder’s letters and SEC filings. The author’s conservatism, rational view, accountancy knowledge and humbleness deserves to be monitored.
I would not judge value or buying decisions based on one article but this is an excellent starting point to get, in my opinion, the best quantitative valuation of Berkshire available. The same valuation approach outlined in the article can be used as a framework to make your own adjustments and personal valuation.
In order to establish good judgments of value qualitative considerations are also strongly recommended. In this case they can be obtained by learning as much as possible about Warren Buffett.
Best wishes and health on this new year and thereafter !
Here you can read an interview with Martin Whitman. It pretty much resumes it’s investment philosophy based on what he calls the financial integrity approach. I had resumed it in the past post Sine qua non for an investment commitment. Basically it explains what he looks for when he invests:
1. The company ought to have a strong financial position, something that is measured not so much by the presence of assets as by the absence of significant encumbrances, whether a part of a balance sheet, disclosed in financial statement footnotes, or an element that is not disclosed at all in any part of financial statements.
2. The company ought to be run by reasonably honest management and control groups, especially in terms of how cognizant the insiders are of the interests of creditors and other security holders.
3. There ought to be available to the investor a reasonable amount of relevant information, although in every instance this will be something that is far short of “full disclosure”—the impossible dream for any investigator, whether activist, creditor, insider or outside investor.
4. The price at which the equity security can be bought ought to be below the investor’s reasonable estimate of net asset value.
The above mentioned interview was done in the second semester on 2002. One of his favorite stocks at the time had an outstanding performance. Note what he said about it:
TWST: If you had to pick two or three stocks to buy today, what would they likely be?
Mr. Whitman: Quanta Services (PWR) and AVX (AVX) in high tech, we’re very big in passive components. Instinet (INET) ‘ that’s what we’re buying.
TWST: Tell us about Quanta Services.
Mr. Whitman: They’re just getting a capital infusion. They’re the leading company in providing networking and management services to the electric utility industry, and we’re paying about $2.50. The adjusted book is around $10, and in normal times it earns about $1.50 a share. It’s the one I think can be a 10 bagger for us, now that they have their financial house in order. Basically over time I think there will be great growth in demand for electric power and gas. Quanta Services’ normal earning power (not this year of course) is between $1 and $1.50. You can buy all the stock you want at $2.50.
As you may confirm the stock indeed multiplied itself by a big factor.
Interesting interview points highlight, in the context of his investing framework: the irrelevance of dividends; the very low turnover of his portfolio; his answer to when to sell; his focus on the quality (not only quantity) of the balance sheet; his focus on management quality by assessing asset conversion activities (mergers and acquisitions, changes in control, massive recapitalizations, spinoffs, etc); and his focus on considering “one time” write downs as very real and concrete signs of management mistakes.
In a more recent Barron’s interview in October 2010 he highlights how, without planning, he has shifted away towards Hong Kong:
The Third Avenue Value Fund has hit its 20th anniversary. What’s the biggest chaherbange since you launched it?
Twenty years ago, our investments were strictly in North America, and now we are over 60% in Asia. Our emphasis is on safety; we need and want full disclosure and tremendous regulatory protections. Considering what we do, I wouldn’t have dreamed 20 years ago that the largest area where we would be invested is Hong Kong, not the United States and Canada. It’s a big change.
Is it harder to find opportunities in the East than in North America?
No. In looking for full disclosure and well-regulated markets, there is not a lot of difference.
His view on modern portfolio theories is quite clear:
There have been a lot of investment ideas, such as modern portfolio theory, that started in the academic world. How important are they to what you do?
They may be of some use to day traders and high-frequency traders. But as far as value investing, control investing, distress investing and credit analysis is concerned, that stuff is absolute garbage.
He made very interesting comment on value investors on the short side:
You mentioned the importance of knowledge. As an investor, is it harder to get an edge today?
Oh, no. There are many bargains around, based on our criteria and what we look for.
What is the state of value investing today?
A lot of the value managers are very good and very skilled. The thing that troubles me, though, is that some of the best value investors are on the short side. In the history of man, the markets have never been better than they are now for shorts. But some of these fellows are out to destroy businesses, such as when a business needs continuous access to capital markets—whether it is Bear Stearns or Lehman or, believe it or not, Goldman Sachs [GS] in 2009, and General Electric [GE]. Shorts, with present methods of communication that include blogs and cable television, might be able to bring any of them down. Because some of these value people are so good and so powerful, we at Third Avenue don’t invest in companies that need relatively continuous access to the capital markets.
As mentioned in one of my last posts Herbalife’s fall is an interesting case study. It exemplifies the power of shorting, based on value considerations, helped by modern day communication tools.
One of his most interesting comments about value investing is it’s absence of stress:
How involved are you in running the value fund?
Very. Ian Lapey and I co-manage it. One of the things about buy-and-hold value investing is that it is not labor-intensive. It is not stressful, unlike most things on Wall Street. Just look of the number of value guys who have survived to over 100. I give you Roy Neuberger and Irving Kahn. It is a nice business.
I seize the opportunity here to mention other old value investors, I have written about, that exercised until very late in life: Walter Schloss, Phil Carret and the great Philip Fisher. All three were admired by Buffett. Fisher was also admired by Charlie Munger and Benjamin Graham. In a footnote from The Intelligent Investor Graham refers to Fisher’s deep analysis method: Exceptional analysts, who can tell in advance what companies are likely to deserve intensive study and have the facilities and capability to make it, may have continued success with this work. For details of such an approach see Philip Fisher, Common Stocks and Uncommon Profits, Harper & Row, 1960.
Martin Whitman as the ones mentioned above has apparently done very well in his career. Independent of his results what attracts me more to him is how much sense his investing philosophy makes and how clearly he exposes it in his book. He interestingly commented this on the 2002 interview:
Somebody once described our style of investing as how the rich get richer. I think that’s sort of accurate. It’s unsuitable for people who’ve got to make a killing next week.
Regarding Intel’s recent announced debt increase some general words can be said regarding buybacks. Something on the subject was already posted on part I here.
Buying undervalued stock makes sense to me. Buffett says he will buy his company stocks if they get cheap (under 120% of book value). And he has bought big amounts of IBM, a company famous, among other things, for their huge buybacks. So apparently buybacks of undervalued conditions makes sense to Warrent Buffett. He does not blindly believe in market efficiency and he thinks it induces investors to avoid thinking and finding undervalued companies. In that sense I am grateful that so many believe in market efficiency, it keeps intelligent competition off the table. He said “I’d be a bum on the street with a tin cup if the market was always efficient”. On his famous speech against the theory of market efficiency he showed several examples of investors profiting from market inefficiencies: The Superinvestors of Graham-and-Doddsville.
It’s great if companies use cheap debt with artificially low interest rates to buy cheap stocks. It is similar to buying a cheap house using debt at historical lows. Its even a greater move if inflation and higher interest rates comes after the debt was incurred. In such case callable bonds, their debt, can be bought back at lower prices. On the other extreme, using expensive debt to buy overvalued stocks would be a terrible move. If shares are bought then there are fewer outstanding stocks and fewer shares to pay dividends to. Therefore they have to pay less cash on future dividends.
Another point to consider is that bond coupon payments from the new debt is deducted from operating income therefore less cash flows go to the government via taxes.
This case is specially good considering that Intel’s dividend yields are much higher than their newly incurred debt yields.
It could be even better, depending on how low the stock price is, if they could use cheap debt or preferably their own cash, to invest profitably in their company. But if they already have enough cash to do that and the stock is cheap enough, this move is good.
With respect to the question:
“I am still failing to understand how shareholders get any cash from share buybacks. Can you please explain that to me?”
As I see it if a company buys back all its shares then 100% is given back to public shareholders. In such case the company goes private and is financed by private owners or creditors. If they buy x% fraction of shares then x% is given back to the ones who sold it back to the company. The shareholders willing to sell at lower prices give back their shares. There remain fewer owners or less shares.
If bonds are sold to buy the shares then the company’s debt is increased but the shares are reduced. If you believe debt is cheap and stocks are undervalued this is a great move. Creditors are bigger now, but there are fewer owners or less outstanding shares. This improves the income and cash per share ratios since profits are divided on fewer owners or shares. Credit or debt is increased while owners are reduced.
Here is a part of a transcript from an interview made to Bill Ackman in October 5 2011 on Bloomberg TV. Fortunately he did not invest in Hewlett Packard back then:
“We have gotten over the last several months probably at least five or six calls from the largest shareholders of Hewlett-Packard begging us to take a stake in the company and be a proactive shareholder. I think that what we focus on is that we try to find a business that we can predict what it’s going to look like over a very long period of time. I have the fairly quaint notion that the value of anything is the present value of the cash you can take out of the business over its life.”
“The problem is that HP is in a number of businesses where I think it’s very difficult to predict what the business is going to look like five years from now, let alone over the many, many years of a discounted cash flow calculation you need to figure out what the business is worth. The problem you’ve had is that it looks cheap, but the future of the PC industry is a very difficult business to handicap. It’s incredibly competitive. I think the announcement of their intention to spin part of the business off perhaps has damaged the brand and it is a big, complicated mess. One of the things I learned a lot earlier in my career is to do a calculation which I call return on invested brain damage, which is before I make an investment which requires brain damage, or a lot of work and energy, I figure out how much money I can make. The higher the brain damage, the higher the profit has to be to justify it.”
“I was actually at HP yesterday for a meeting unrelated to their core business and it was just depressing walking around. The morale of the employees going from an outstanding company to one where they don’t understand the direction of the business.”
Here is the original video:
I have not informed myself enough about Ackman to form a strong opinion on him. I do know that he did not dislike Hewlett Packard enough to bet against it. But he did though dislike Herbalife to the point to take a huge short position.
I started reading more about Ackman after having recently seen how Herbalife was tanking. He is one of the 91 members of The Giving Pledge. That is the campaign made public by Buffett and Gates to encourage the United States billionaires to make a commitment to give most of their wealth to philanthropic causes.
Ackman revealed, on Wednesday 19th December, that he was short 20 million shares on Herbalife, and put a $0 price target on it. Following the news the shares fell $5.16, or 12.14%, to close at $37.34. That was before he gave the thesis on a pyramid scheme. After his presentation Thursday (Ackman’s Herbalife presentation on pdf here), the stock fell $3.64, or 9.75%, to close at $33.70 a share. On Friday the stock fell 19% more to $27.27. Just 3 days after he announced his short position the stock fell from $42.5 to $27.27. Since the announcement, the company wiped out almost 36% of its market capitalization.
Regarding his Herbalife short position it impressed me when he said “This is the highest conviction I have ever had about any investment I have ever made, full stop.”. He seems quite an interesting person with a lot of conviction in his actions. It also impressed me to see how his recent presentation affected the stock. In the following link you can appreciate the powerful effect of his words on the stock price. As he talked the stock fell, and continued to go down fast today (-19%). I do not know if Herbalife is really a pyramid scheme but I do not like it business model. Its sales have grown surprisingly fast and I am curious to understand how.
It is worth noting that Ackman’s firm has compiled and hosted a website aimed at discrediting Herbalife. By communicating his pyramid theory it seems that he is eager to create a strong catalyst for the shares to drop, and judging by the violent fall, it is having effect.
On the other hand Bill Ackman does not seem to care about market manipulation accusations or litigation coming from Herbalife. Judging by the way he ended his presentation he even looks forward to it: “We welcome the SEC looking at our books”, he said, and concluded by quoting: “Sunlight is the best disinfectant.”.
It will be interesting to see how that Herbalife trade plays out. If it continues falling like this maybe we will be able to buy Herbalife products for Christmas at a deep discount.
I keep on fine tuning my portfolio, concentrating on my riskiest positions and cash management. I just sold 3 strike 10 Jan 2014 calls. I had bought them in mid May at 1.92 when the stock was slightly under 11 and sold them today at 1.98 when the stock was at 11.43. As you can see time decay works against calls.
When I started investing in Applied Materials (AMAT) I started to buy options soon. With Dell the difference was that I bought options after after having bought a substantial amount of stocks. When Dell kept falling I felt confident to leverage with cheaper options and therefore added near the stock lows. The advantage in the Amat case is that since I started with options which had 18 months of lifetime as the stock kept falling the options hardly decayed. Lower prices gave me the confidence to add a reasonable amount of stocks near the bottom levels. Now that the stock position is reasonable and that there are more attractive calls available I prefer to get rid of them. I also sold for similar reasons the riskiest strike 10 Dell calls initially bought while keeping the strike 7 and 8 ones bought at lower stock levels.
Call options often require dynamic activity, time is against you and you should therefore closely watch them and sell or exchange them for other options or stocks if convenient. In my case I base my option buying decisions on the company fundamentals. I basically only buy them when I consider the company to be very undervalued and when I already have stocks, or plan to have them. Examples of call options that worked out good are the ones I bought with United States Gypsum (USG, construction materials) and Western Digital (WDC, computer hard drives). I did it only when I was very sure that the stock and options were extremely undervalued. Recent examples are the Dell and Intel calls I just bought.
Like Philip Carret, one of the reasons I like to have cash on the sidelines is for those very special occasions when options get cheap. Carret, a very interesting guy and outstanding investor, was also special in the sense that he introduced me with the Austrian Economists way of thinking. I’m very grateful to him for that.
This act increases the future possibilities of buying more if the stock falls. It reduces the total amount of investments in technology and increases my cash percentage. It also gives the chance to exchange them with other calls, like for example further away strike 8 Jan 2015 calls, the advantage is that they have a smaller prime value and are more than 24 months away. The disadvantage is that if the stock falls under 8 I could lose more than with the strike 10s. But since I think that the company is fundamentally very sound and its stock price quite reasonable I do not care much about that disadvantage.