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The Stingy News Quarterly (Q4/2006)
New @ StingyInvestor Southern stars: The Top 500 U.S. Stocks "If you're intrigued by the results of our Top 200 listing of Canada's largest stocks, you may be interested in extending your search for good investments beyond Canada's borders. If so, we invite you to join us as we embark on a road trip through the largest 500 stocks in the U.S. Our goal? To find tomorrow's stars today." Invest like the masters "Want to invest like a master? Then look to the works of Warren Buffett, Peter Lynch, David Dreman, and James O'Shaughnessy. These four gentlemen are all great investors, and all of them have either written books on how to invest or, in Buffett's case, produced years of informative shareholder letters. Remarkably, none are shy about sharing their market-beating techniques. In this feature, we examine how each of these wizards thinks and we spell out what each looks for in a stock. But that's just for starters. We've also scoured the markets for stocks that our famous investors might be interested in buying right now." A simple way to get rich "I suggest taking a tip from Benjamin Graham, the legendary Wall Street financier and Columbia University professor who taught Warren Buffett about investing. Graham devised many techniques for identifying undervalued companies, but particularly remarkable is the record of his Simple Way formula, which he outlined in a 1976 article called The Simplest Way to Select Bargain Stocks. Despite its utter lack of complexity, this recipe has been a smashing success. I highlighted the Simple Way to MoneySense readers in early 2004 and I provided an update in 2005. I'm pleased to report that both batches of Simple Way stocks have performed superbly, gaining an average of 45.2% in less than 32 months, not including dividends. Over the same period the S&P500 was up only 16.3%." The simple way "Benjamin Graham is often called the father of value investing and during his lifetime provided the world a variety of useful stock-selection techniques. Remarkably, some of his simplest methods have continued to outperform long after his passing. Although many of Graham's methods are easily described, their continued success relies on the fact that they can be psychologically hard to put into practice. Very few people truly have the temperament to be value investors and while it's relatively easy to find value stocks holding them is the real test. Value stocks usually become inexpensive for a variety of unappealing reasons. As a result, even when value stocks are identified, relatively few investors want to buy them. Even worse, a few value stocks inevitable do badly and decline as their business weakens which tends to scare off investors." Hit reset: online calculators "Replay history: We've mentioned this calculator before and we'll do so again it's a wonderful way to see how different investment strategies would have fared over the years. You select a portfolio composed of up to six major asset types, then pick start and end dates. The calculator tells you how much you would have made or lost. Our take: A great way to try out various approaches to investing without betting a dime of real money. You may be surprised at the volatility of even the best-balanced portfolio." Top stocks with share purchase plans "The long-term risk-averse investor should consider three factors when selecting stocks with Share Purchase Plans (SPPs). First, they should demand a low price. Second, they should require earnings stability. Finally, investors should look for modest, but not necessarily spectacular, earnings growth." The Best of Stingy Links Stingy Links: Academia Rewriting history "Comparing two snapshots of the entire I/B/E/S analyst stock recommendations database, taken in 2002 and 2004 but each covering the same time period 1993-2002, we identify nearly twenty thousand changes of an unusual nature: the selective removal of analyst names from historic recommendations ("anonymizations"). This practice turns out to be pervasive and non-random: Bolder recommendations are more likely to be anonymized, as are recommendations from more senior analysts, Institutional Investor "all-stars," and those who remain in the industry beyond 2002. Abnormal stock returns following subsequently anonymized buy recommendations are significantly lower (by up to 11.0% p.a.) than those following buy recommendations that remain untouched, suggesting that particularly embarrassing recommendations are most likely to be anonymized. Analysts whose track records appear brighter due to anonymizations experience more favorable career outcomes over the 2003-2005 period than their track records and abilities would otherwise warrant." M.B.A.s: the biggest cheaters "Many of these students reportedly believe cheating is an accepted practice in business. More than half (56%) of M.B.A. candidates say they cheated in the past year. For the study, cheating was defined as plagiarizing, copying other students' work and bringing prohibited materials into exams." Stingy Links: Accounting Where Were The Auditors? "It's pretty clear by now that the stock option backdating scandal is much more widespread than initially believed. More than 150 companies are either embroiled in internal probes or are now being investigated by the Securities and Exchange Commission for potential stock option backdating abuses. The deluge is growing daily, with a fresh batch of companies announcing stock option accounting problems with each passing day." Alcan, BCE, Nortel cited for pension deficits "Alcan Inc., Nortel Networks Corp. and BCE Inc. top a list of 10 companies singled out yesterday by Moody's Investors Service Inc. for their underfunded pension plans. Moody's bond raters have been studying pension liabilities at the 300 or so Canadian entities it covers because the liabilities can have an impact on corporate credit ratings. Moody's hasn't cut any ratings because of underfunded pensions, said Waylon Iserhoff, senior accounting analyst and vice-president at Moody's, Toronto. But pension deficits bear watching because costs to top them up can reduce a company's flexibility to spend in other areas, Mr. Iserhoff said." Stingy Links: Behaviour Economics discovers its feelings "The hedonimeter was never invented, and for a century or so economists fell silent about both weights on man's scales. They studied outward behaviour, not inward feelings; choices made, not pleasures taken. But in recent years, economists have become newly confident that they can measure utility as Bentham conceived it: as a quantum of pleasure or pain. How do they do it? Mostly they just ask people. Daniel Kahneman, a psychologist at Princeton University who won the Nobel prize for economics in 2002, reckons people are not as mysterious as less nosy economists supposed." Boom and gloom "A few years ago, the Nobel Prize-winning psychologist Daniel Kahneman conducted an odd experiment. He had a group of students eat a bowl of their favorite ice cream while listening to a particular piece of music eight days in a row. After the first day, Kahneman asked them to predict how they'd feel about the whole experience once it was over. Their predictions turned out to be way off base. Some students who thought that they'd hate having to eat the same flavor eight days in a row became addicted to it. Some who thought they'd enjoy the experience were eventually repulsed by it. The upshot: people may know when they're happy, but they often don't know what will make them happy. That poses a problem for the basic tenets of modern economics: that people act in their own self-interest most of the time, and that they usually know what that self-interest is." Free to choose? "For millennia the question of free will was the province of philosophers and theologians, but it actually turns on how the brain works. Only in the past decade and a half, however, has it been possible to watch the living human brain in action in a way that begins to show in detail what happens while it is happening. This ability is doing more than merely adding to science's knowledge of the brain's mechanism. It is also emphasising to a wider public that the brain really is a just mechanism, rather than a magician's box that is somehow outside the normal laws of cause and effect. Science is not yet threatening free will's existence: for the moment there seems little prospect of anybody being able to answer definitively the question of whether it really exists or not. But science will shrink the space in which free will can operate by slowly exposing the mechanism of decision making." I want it now! "One of my daughter's favorite bedtime stories is A Birthday for Frances. I like it, too, for the charming illustrations, hilarious dialogue, and instruction in cutting-edge behavioral economics. Frances, the story's young heroine, secures an advance on her allowance in order to buy bubblegum and a Chompo bar as a birthday present for her little sister Gloria. Yet, as she returns with her father from the sweet shop, Chompo bar in hand, Frances begins to think of all kinds of reasons why she, not Gloria, should eat the chocolate." Stingy Links: Bonds Death of the bond salesmen "Mr. Levitt said the corporate bond market used to work like an "Oriental bazaar." "Transparency was at the core of all of its problems," he said. "Our intent was to make the market fairer. The result was that it was also less expensive." Now that fixed-income prices are available on NASD's website, bond salesmen have lost their advantage. "You're lifting the veil of ignorance," said Peter Campfield, head of taxable fixed-income trading at San Francisco-based Charles Schwab Corp., which trades an average of 500 corporate bonds a day. "Pre-Trace? It wasn't pretty. Price discovery was a challenge. You had to hunt and peck and dial numerous dealers to ascertain what a real market looked like."" Repo men "Mr Clouse said there could now be a "strong sense of history repeating itself" - a reference to the scandal at Salomon Brothers in the early 1990s, in which the investment bank was caught dodging rules on treasury auctions in order to gain control over certain issues." Stingy Links: Books Gift ideas for investment bookworms "If I had to pick just five books from this list to form a good set for the avid investor on your gift list, they'd be Analysis for Financial Management, Making of an American Capitalist, Buffett's shareholder letters, When Genius Failed, Fooled by Randomness, and You Can Be A Stock Market Genius. Yes, I know that's actually six books--but the Buffett letters are free." Stingy Links: Brokers Saving Mom from annuity pitches "Have you ever heard the expression "to a man with a hammer everything looks like a nail"? Well, some financial advisers who make a good part of their living selling annuities see variable annuities as the answer to virtually every client's financial needs. Looking for tax-sheltered returns? A variable annuity will do the trick! Retirement investment? Can't beat a variable annuity! Looking for safety and guarantees? I've got just what you need - a variable annuity!" The defiant one "The ex-employee who tried to bring down Saskatoon financial advisor Brian Mallard died two years ago. But Mallard's fight for his reputation didn't." E*Trade raises the stakes with high-rate offering "E*Trade is fighting the dominant, bank-owned discount brokers for market share in Canada and it already slashed the cost of trading stocks to as low as $9.99, compared to as much as $29 elsewhere. Now, it's offering a solution to a quandary faced by virtually all investors: How do you squeeze a decent return from the cash in your brokerage account in a low interest rate environment? E*Trade will announce a new offering today called the Cash Optimizer Investment Account, which carries a rate of 4.15 per cent for Canadian-dollar balances and 4.75 for U.S. dollars. There are no fees of any kind or any minimum deposit." Stingy Links: Buffett How Warren Buffet made his billions "Warren Buffett is a man who has made millions but he also started working at his father's brokerage when he was 11 years old, that's an age when most other kids were playing hide-n-seek and didn't know how to spell 'brokerage'. This financial wizard is by recent estimates, worth $46 billion but how he got there is the fascinating story." Hedge funds are older than you think "In a letter to Financial History, the magazine of the Museum of American Finance, Buffett gently begs to differ with a statement in the magazine that the first known hedge fund was started in 1949 by Alfred Winslow Jones. This is, says Buffett, "an error that has often appeared elsewhere, including in a Federal Reserve report." While Jones was indeed an early practitioner of the hedge-fund art, says Buffett, he was not the first. The esteemed investor and writer Benjamin Graham managed a hedge fund as early as the mid-1920s." Why Warren Buffett's a genius again "On Oct. 23, Warren Buffett's Berkshire Hathaway hit a price of $100,000 a share. As far as I can discover, that's the highest price ever for shares of a publicly traded company. The A shares are up about 5,555 times since May 1965, when Buffett took control of what was then a modest textile company. With that milestone behind the shares, of course, the question now is, will Berkshire Hathaway A become the first $200,000 stock? Yes. Not a doubt. Remember that you heard it here first: Berkshire Hathaway A will be the first $200,000-per-share stock." Stingy Links: Christmas The corporate Scrooge contest "Our appeal for corporate Scrooges - tales of office parties canceled, miserly bonuses, and pathetic gifts - generated a generous response. Nearly 200 Slate readers wrote in, providing enough fodder for several episodes of The Office. We heard from employees of car dealerships, doctors, and small law firms, but also from blue workers at blue chips, including Burberry, Dow Jones, Goldman Sachs, Disney, Wells Fargo, and Wal-Mart." What I like about Scrooge "Here's what I like about Ebenezer Scrooge: His meager lodgings were dark because darkness is cheap, and barely heated because coal is not free. His dinner was gruel, which he prepared himself. Scrooge paid no man to wait on him. Scrooge has been called ungenerous. I say that's a bum rap. What could be more generous than keeping your lamps unlit and your plate unfilled, leaving more fuel for others to burn and more food for others to eat? Who is a more benevolent neighbor than the man who employs no servants, freeing them to wait on someone else?" The case for Ebeneezer "As I became older, I decided that Mr. Dickens had given Ebeneezer Scrooge an undeserved reputation for villainy, placing him in such company as Uriah Heep, Iago, Dr. Moriarty, or Snidely Whiplash, to name but a few. It is my purpose, in making this holiday defense of my client, to present to you a different interpretation of the story, that you will see the villainy not in my client's character, but in Charles Dickens' miscasting of the true heroes of the time of which he wrote, namely, the industrialists and financiers who created that most liberating epoch in human history: the industrial revolution." Fa-la-la-la-lawsuit "The Christmas season is upon us, and that means invites to the office holiday party, open houses, and preschool-benefit auctions are starting to pile up on the table next to your front door. You're probably starting to get anxious - wear velvet headband or diamond clippie? bring potted plant or midrange merlot?.and yet you are likely ignoring the most important holiday question of all: Who are you going to sue this holiday season, and, more vitally, who is going to sue you?" Have a tightwad's Christmas "Try these ideas for keeping holiday spending under control, finding alternative gifts and making your hard-earned dollars go farther this year." Stingy Links: Debt A big lender's credit card trap "Capital One Financial keeps the limits low and offers its most vulnerable borrowers additional cards instead -- helping them dig ever-deeper holes with penalties of hundreds of dollars a month." Payday loans often snowball "The loans are quick and easy. Customers are usually required to leave a predated personal check that the lender can cash on the next payday, two or four weeks later. They must show a pay stub or proof of regular income, like Social Security, but there is no credit check, which leads to some defaults but, more often, continued extension of the loan, with repeated fees." Stingy Links: Dividends Dividend stars: How to make up for trust tax "It's a great time to look hard at dividend stocks, even if many aren't exactly bargain-priced right now. Interest rates are expected to fall in the year ahead, which is positive for all income-producing investments. With the income trust market struggling to come to grips with a federal government crackdown on the sector, dividend stocks stand out as an obvious alternative. And if the stock market were to weaken next year, not an unlikely prospect with a fourth successive great year just about in the books, dividend stocks stand a good chance of escaping the worst effects." These dogs are barking "At the beginning of this year, you would have looked foolhardy if you had piled into General Motors Corp., Merck & Co. Inc. or Verizon Communications Inc. All three stocks were beaten up, and they looked likely to receive more poundings in the months ahead. Amazingly, though, each one has since exceeded all but the most eccentric expectations. So far this year, GM shareholders are basking in an 80% share-price gain, while Merck and Verizon are up 43% and 23%, respectively. Those kinds of numbers would bring a smile to the lips of any investor. The problem is, who could have guessed that stocks that looked so bad at the start of 2006 would make such gains? Well, if you had followed the Dogs of the Dow stock-picking strategy when making your investments back in January, you would have put a good-sized chunk of money on GM, Merck and Verizon. And you would now be feeling pretty good about making calls that seemed to defy all common sense only a few months ago." Stingy Links: Dorfman January bounce candidates "Every year, some stocks are unfairly kicked while they're down. Stocks that have had a tough year often get roughed up more in October and November as investors dump their losers for tax reasons. By selling stocks that are down, investors can offset gains elsewhere in their portfolios. As a side effect of this tax maneuvering, some decent stocks get undervalued near year-end, paving the way for a 'January bounce.'" Give me your tired, your poor, your big losers "The dregs. That's what you might call the stocks I'm writing about this week. They are the 10 stocks down the most this year, among the stocks in the Standard & Poor's 500 Index. Why bother looking at such a bunch of losers? For a simple reason: This year's scurvy dog may be next year's best in show." Appealing small stocks "For this column, I used a Bloomberg stock-screening program to identify stocks with a market value of $250 million to $1 billion, selling for 15 times earnings or less, with debt less than equity. I also required good profits in the latest fiscal year, with a return on equity of at least 15 percent. Fifty-seven stocks passed the screen, and I am recommending seven of them here." New lows list "In the past week, while the financial pages highlighted the news about the Dow Jones Industrial Average climbing past 12,000 for the first time, 15 stocks with market values of $500 million or more each touched 52-week lows. Bargain hunting among stocks on the New Lows list can be dangerous. But danger, better known as risk, is an inherent part of the stock market. Sometimes you can snatch real bargains from the New Lows list." Dividend appeal "A company that pays an above-average dividend, and that has increased its dividend at an above-average rate, must be doing something right. Dividends are an indicator of financial health. They show a desire to treat shareholders well. Even better, a rising dividend indicates a board's confidence in a company's future in a way that mere words never can." Billion-dollar portfolio "Each October beginning in 2001 I have compiled a Billion- Dollar Portfolio, recommending 10 stocks with a market value very close to $1 billion. The average 12-month return for this portfolio in the past five years has been 28 percent, versus 9 percent for the Standard & Poor's 500 Index. So far, all five Billion-Dollar Portfolios have been profitable and outperformed the S&P 500." Bunny's picks "What is this Bunny Portfolio? It is a simple computer-driven stock-selection program that I devised seven years ago. To qualify as a candidate, a stock must: * Have 25 percent compound average annual earnings growth for the past five years. * Sell for 12 times earnings or less. * Trade in the U.S. * Have a market value of $250 million or more. Usually, about three dozen stocks a year meet the entrance requirements. This year, 73 stocks did. To narrow the field to 10 stocks, I take the five with the fastest historical earnings growth rates, and the five with the lowest price relative to the previous four quarters' earnings." Dorfman's new casualty list "Buying stocks of good companies when they are down is a time-tested investment method. In this column, I try to incorporate that approach into a quarterly Casualty List. It contains stocks that have been roughed up in the latest quarter, and that I think have strong potential for a comeback." Purloined portfolio "Once a year, I devote this column to investment ideas stolen from other investment managers whom I respect. Call it homage, competition research, or just good dirty fun. This year my lineup of seven 'victims' to pilfer ideas from is the same as last year's: Scott Black, David Dreman, Randall Eley, Mason Hawkins, Ken Heebner, David Katz and Charles Royce." Stingy Links: Dreman Short the exchanges "There's nothing better for piling up the cash to pay Wall Street bonuses than a hot stock offering. And since the market recovery began in late 2002, some of the hottest public offerings have been in securities exchanges themselves. Exchanges are the new Internet. That is, they are presumed to be capable of growing higher than the blue sky. That would make them good shorting candidates, if only you could get your hands on some borrowed shares." The rally builds steam "First, it's impossible to get a good grip on how far the housing slump will go. The optimists state the decline in new home sales is almost over and home construction will bounce back vigorously both next year and in 2008. That's a hard story to buy because of the strong headwinds that await this important industry. Even if new construction is cut back fairly sharply, there is still a large inventory of new units to work off. With diving house sales, stocks of home builders look cheap today. However, proceed with caution. My fellow columnist Laszlo Birinyi finds several a buy, despite weakening earnings. I'd wait a bit. Many builders have bought call options on new land. They would argue that they are thus protected if land prices drop because they do not own the land. That's true only up to a point. Call options on land are not free. A 12- to 18-month option to buy land can cost as much as 15% of the property's value. Let that option lapse and you eventually have a hit to earnings for the premium paid." Under-the-radar small-cap fund "Over the past two years, the fund has benefited from a sizable stake in energy stocks (now a bit more than 10% of the portfolio). A large position in financials -- specifically shares of small banks -- has also given the fund a boost. The portfolio, which contains 90 holdings, includes such companies as natural gas transporter Southern Union (SUG) and Foster Wheeler (FWLT), an engineering and construction firm." Stingy Links: Economics Rethinking your investment risk "The Poor Should Invest in Riskier Assets than the Rich. This statement runs counter to conventional financial planning wisdom. But it.s in full accord with conventional economics. Like Joe, the poor, broadly speaking, are in a better position than the rich to invest in risky assets. Although the poor obviously have a much lower living standard than do the rich, it.s much closer to the level effectively guaranteed by the government through its various welfare programs, including Food Stamps, Medicaid, and Workfare. Hence, the government provides the poor much better downside protection against a major percentage drop in their economic resources than it provides the rich. That the poor should hold more stocks than the rich is just one of several financial mindbenders that emerge from a proper view of investment risk." Stingy Links: Funds How did investors really do? "There were a few bright spots. All of the fund categories that mix stocks and bonds posted 10-year investor returns that nearly matched or even outpaced their total returns. Investor returns for bond funds also tended to stay within close proximity of their total returns." Stingy Links: Government Dairy industry crushed innovator "In the summer of 2003, shoppers in Southern California began getting a break on the price of milk. A maverick dairyman named Hein Hettinga started bottling his own milk and selling it for as much as 20 cents a gallon less than the competition, exercising his right to work outside the rigid system that has controlled U.S. milk production for almost 70 years. Soon the effects were rippling through the state, helping to hold down retail prices at supermarkets and warehouse stores. That was when a coalition of giant milk companies and dairies, along with their congressional allies, decided to crush Hettinga's initiative." Stingy Links: Grant Bet the house "By a margin of almost 2-to-1, economists surveyed by WSJ.com last month judged that the worst of the residential real estate slump was history. House prices will soften in 2007, the sages predicted, but by only a little bit. In fact, 20 of the 49 respondents forecast a rise. Ebenezer Scrooge was a mortgage banker, and the arguments I am about to marshal for a hard landing in housing might sound un-Christmaslike. But during the just-pricked bubble, it wasn't the Scrooges and the Marleys who lent more than 100% of the purchase price of a house without bothering to verify the income or employment of the applicant, or even to insist that he or she pay down a little bit of the principal now and then. House prices soared on the wings of the modern, optimistic, growth-obsessed mortgage industry." Stingy Links: Health The organic myth "Next time you're in the supermarket, stop and take a look at Stonyfield Farm yogurt. With its contented cow and green fields, the yellow container evokes a bucolic existence, telegraphing what we've come to expect from organic food: pure, pesticide-free, locally produced ingredients grown on a small family farm. So it may come as a surprise that Stonyfield's organic farm is long gone. Its main facility is a state-of-the-art industrial plant just off the airport strip in Londonderry, N.H., where it handles milk from other farms. And consider this: Sometime soon a portion of the milk used to make that organic yogurt may be taken from a chemical-free cow in New Zealand, powdered, and then shipped to the U.S." Are you an investor - or a gambler? "According to psychologists who study gambling behavior, it's all too easy for an innocent investing habit to swell into a gambling problem if a person is so disposed. Both investing and gambling let you wager big money and win or lose huge sums within minutes. Indeed, it can be difficult for even a professional to know at what point a sincere interest in investing edges over the line and becomes something darker and more compulsive. What ultimately distinguishes gamblers from investors, says Dr. Marvin Steinberg, executive director of the Connecticut Council on Problem Gambling, is a lack of control. Smart investors may decide to occasionally make big bets on a stock. But they can also go for months without buying a stock or even shuffling their portfolio. "With any kind of compulsive behavior, you wind up being out of control," says Steinberg. "So if you tell yourself that you're going to do one thing and you wind up doing more, you have a problem. An alcoholic says he'll just have one drink and winds up having 12, a problem gambler goes to the casino with $100 in his wallet and winds up spending $3,000 on his credit card. In the same way, if you put more money into risky investments than you can afford to lose, that's a sign you have a problem."" The 5 most expensive addictions "Despite growing publicity about 'soft' addictions, drinking, smoking, drug abuse, overeating and gambling still are the most costly to society." Stingy Links: Indexing New ETFs will whet your appetite "Let 2006 go down as the year that diversity finally came to the achingly bland Canadian ETF market. Not a lot of diversity, mind you. We now have 27 exchanged-traded funds listed on the Toronto Stock Exchange, compared with about 350 in the United States and dozens more to come. But with the introduction of nine new ETFs in the past couple of months, things are looking up for Canadian investors who like the low cost and flexibility of these index funds that trade like a stock." Stingy Links: Management Smashing the clock "Ressler and Thompson saw their opening in these two vanguard managers. Would they be willing to partake in a private management experiment? The two outlined their vision. They explained how in the world of ROWE, there would be no mandatory meetings. No times when you had to physically be at work. Performance would be based on output, not hours. Managers would base assessments on data and evidence, not feelings and anecdotes. The executives liked what they heard and agreed. The experiment quickly gained social networking heat. Waiting in line at Best Buy's on-site Caribou Coffee (CBOU ), in e-mails, and during drive-by's at friends' desks, employees in other parts of the company started hearing about this seeming antidote to megahour agita. A curious culture of haves and have-nots emerged on the Best Buy campus, with those in ROWE sporting special stickers on their laptops as though they were part of some cabal. Hance, the hunter, started taking conference calls in tree stands and exchanging e-mails from his fishing boat. When Wells wasn't following around Dave Matthews, chances were he was biking around Minneapolis' network of urban lakes, and digging into work only after night had fallen. Hourly workers were still putting in a full 40, but began doing so wherever and whenever they wanted. At first, participants were loath to share anything about ROWE with higher-ups for fear the perk would be taken away or reversed." Insiders with a curious edge "Executives appear to be using their flexibility to the max. People selling shares in 10b5-1 plans generate returns substantially better than would be expected if the trading were truly automatic. As reported in BusinessWeek on Nov. 6, Alan D. Jagolinzer, an assistant professor at Stanford University Graduate School of Business, recently completed a study of roughly 117,000 trades in 10b5-1 plans by 3,426 executives at 1,241 companies. He found that trades inside the plans beat the market by 6% over six months.Those numbers imply that the rules allow execs to benefit from inside knowledge. "The SEC's intent was to shelter people who didn't have any [material] inside knowledge from liability," says Jesse Fried, co-director of the Center for Law, Business & the Economy at the University of California at Berkeley School of Law, and an expert on executive compensation who has reviewed Jagolinzer's study. "But that outperformance suggests instead that it's the people using what information they have who are most often entering into trading plans." Says Walter Riccardi, deputy director of the SEC's Enforcement Div.: "Setting up a 10b5-1 plan while in possession of material information...could be Securities fraud."" More sneaky options schemes "Just when backdating options seemed like the state-of-the-art method for executives to line their pockets, along comes a crafty yet legal tactic that involves stashing stock grants in the furthest corners of the footnotes: Call them backdoor options." Sleazy CEOs have even more options tricks "To corporate America, the new rule was a minor hassle; to a first-year New York University finance professor named David Yermack, it was a new source of interesting data. Yermack began examining stock prices before and after options grants, and found the eerily consistent pattern displayed (in updated form) in the chart on this page: The average company's stock price dropped in the days before its CEO was given a bushel of options, and rose afterward. Executive options are usually granted "at the money" - i.e., if the stock is at $10, the CEO gets options to buy it for $10 a share - so getting options on a bad day for the stock is good news for the recipient. Yermack figured that this wasn't just luck, and theorized that companies were timing their grants to precede good-news announcements and follow negative ones. His findings began making the rounds in 1995, sparked a flurry of interest among finance and accounting scholars, and were published in The Journal of Finance in 1997." Stingy Links: Markets Gluttons at the gate "Buyout firms have always been aggressive. But an ethos of instant gratification has started to spread through the business in ways that are only now coming into view. Firms are extracting record dividends within months of buying companies, often financed by loading them up with huge amounts of debt. Some are quietly going back to the till over and over to collect an array of dubious fees. Some are trying to flip their holdings back onto the public markets faster than they've ever dared before. A few are using financial engineering and bankruptcy proceedings to wrest control of companies. At the extremes, the quick-money mindset is manifesting itself in possibly illegal activity: Some private equity executives are being investigated for outright fraud. Taken together, these trends serve as a warning that the private-equity business has entered a historic period of excess. "It feels a lot like 1999 in venture capital," says Steven N. Kaplan, finance professor at the University of Chicago. Indeed, it shares elements of both the late-1990s VC craze, in which too much money flooded into investment managers' hands, as well as the 1980s buyout binge, in which swaggering dealmakers hunted bigger and bigger prey. But the fast money--and the increasingly creative ways of getting it--set this era apart." Buy? sell? hold? delete! "This is breath-taking - but it also begs more questions than it answers. Nearly 20,000 analysts' recommendations sitting on the IBES research database, owned by Thomson Financial, were somehow doctored between September 2002 and May 2004, according to an academic paper due to be delivered in January to the American Finance Association's annual meeting in Chicago." Short sellers want to crash the Tupperware party "When the Federal Trade Commission proposed new rules this spring for multilevel marketers - businesses best known for commercials that promise riches selling herbal supplements and beauty supplies - it drew howls of protest. Tupperware party-givers, diet pill vendors and knife salesmen sent the agency more than 15,000 letters complaining that the proposed rules would undo a $30-billion-a-year industry. Now the regulator has gained an unusual ally: short sellers." Down on the street "No longer can America take for granted its global superiority as a market for capital. Regulatory reform might let it keep up with the pack" Stingy Links: Miller The greatest money manager of our time "It goes without saying that Miller is an iconoclast. You simply can't do what he's done in the supremely competitive, ultra-efficient world of stock picking by following the pack. On the outside Miller and his operation look like a standard-issue money management firm - it's a buttoned-down, conservative-looking crew - but spend some time with the man and his brain trust, and you realize that this is more like some sort of academic enclave or wonk house." Stingy Links: Montier Just a little patience "As is my want I am going to start from the value perspective. Is time arbitrage a profitable pursuit for value investors? Certainly a priori one would expect so. As Ben Graham said, "Undervaluations caused by neglect or prejudice may persist for an inconveniently long time". As I have written many times before, when a value position is established, one can never be sure which potential return pathway will be taken. Effectively, any value position falls into one of three categories: 1. those that enjoy a re-rating as the market more generally recognizes a mis-pricing has occurred (type I) 2. those that generate a higher return via dividend yield, but are not immediately re-rated (type II) 3. those that simply don't recover, the value traps. (type III) So patience really should be a virtue for value managers as long as we are dealing with a type I or type II value stock. The chart below confirms just how strongly this is true. It shows the cumulative returns to an incredibly simple value strategy (buying the lowest 20% of the MSCI Europe ranked by trailing PE). The chart provides very graphic evidence for the rewards to patience. The strategy tends to generate around 3% outperformance relative to the market in the first 12 months. But if you carry on holding for another year, this rises to 5.7% (a year two return of just over 2%). However, at three-year time horizons and beyond, the excess return pick-up is much sharper, running at the rate of 8-10% p.a. for years 3, 4, and 5! Also noteworthy, is that the value strategy appears to start working from day one. This surprised me as I expected to see a period of underperformance or non-performance, rather than an immediate return to the value approach." Stingy Links: Real Estate The 400-square-foot dream home "Teeny-tiny houses are the next big thing on the horizon. Those who've downsized say you can save a ton of money and time -- if you can handle the challenges of living small." Ouch! Your house payment just doubled "Big, fat surprises are ahead for about 20% of homeowners: Their complicated, often-risky adjustable mortgages are going to soar as introductory interest rates expire." Stingy Links: Retirement Procrastination will cost you "I'm inspired to write about something as basic as starting your retirement savings sooner rather than later. You see, I was reminded once again that each generation has to be educated on the fundamental truth that time is your biggest ally when it comes to financial security. Make sure your kids understand this." Stingy Links: Taxes Charity + tax-free dividends = win-win "Thanks to the changes in the last federal budget, a donation of flow-through shares to a registered charity will result in the taxable capital gain on those shares being eliminated. So, you won't face tax on the capital gain, and you'll be entitled to a donation tax credit for the value of the shares when you donate them. In the end, it's possible that your donation will cost you just 8 cents for each $1 donated (if the value of your flow-through shares remains unchanged, and you're in the top marginal tax bracket. Savings will vary by province)." Tax changes that may be in store for us "Today, let's peek at the potential tax changes coming in the federal budget expected in late February. You see, on Dec. 7, the finance committee released its prebudget report detailing, among other things, recommendations as to what tax changes should be considered. So, let's unwrap these recommendations." Gift to income-splitting pensioners "How much tax can this save you? Consider a senior couple. Assume the husband has $60,000 of income, $50,000 of which is eligible pension income that he will split with his wife. She has $10,000 of her own income before the allocation from him. If he allocates one half, or $25,000, of his pension income to her, the couple will save $4,196 in taxes (assuming 2006 Ontario tax rates, and assuming the allocation of income to her also qualifies her for the pension tax credit). This tax savings represents 6 per cent of their total income of $70,000. Not too shabby. This new change could affect retirement planning for some by making it more desirable to create eligible pension income that can be easily split than to earn other types of investment income in retirement." Hit with a loss? Your spouse can ease the pain "If you own investments that have lost value, it might make sense to trigger the capital loss so that you can apply the loss against capital gains this year, or in one of the three prior years (losses can be carried back up to three years if you can't use them this year). If you haven't got capital gains now or in the past, you can also carry forward your loss to use in any future year. But, if your spouse has capital gains this year, or in the three prior years, it may make sense to transfer the capital loss to your spouse so that he or she can use it instead. This way, the loss is used up sooner." Stingy Links: Thrift Why your 'lizard brain' makes you a bad investor "Investors often make foolish financial decisions, and lots of folks are trying to figure out why. Specialists in behavioral finance have sketched out some of our more persistent mental mistakes. Neuroeconomics is looking at how the brain functions. Happiness researchers are trying to understand why our rising standard of living hasn't made us happier. Now, some experts are turning to evolutionary psychology. Why do we make so many financial errors? Maybe, deep down, we're just cavemen and women." 'Dilbert' deserves the economics Nobel "Quietly hidden in Adams' groundbreaking work is a financial formula so simple it rivals Einstein's E=mc2. In its original form Adams' formula was apparently so heretical and so explosive that no major house would touch it when he proposed publishing it as a one-page book. After initial rejections, he announced sadly that "if God materialized on earth and wrote the secret of the universe on one page, he wouldn't be able to find a publisher" either. Fortunately for America's 95 million investors, Adams' secret nine-point formula was finally revealed in "Dilbert and the Way of the Weasels." Notice its simple brilliance in the exact reproduction of his formula" Huge debts, paid off fast "A $150,000 mortgage erased in five years. About $49,000 in credit cards, almost gone in just a year. These debt-payoff champions share their secrets." Are you on track to retire rich? "Yes, the typical household really can save $1 million to retire on, but most don't. Here's how your friends and neighbors are doing." Stingy Links: Value Investing NYSSA honors Walter Schloss ""I worked for Benjamin Graham for 9 1/2 years, and Ben said he was going to retire and move to California," began Schloss. "I had to get another job, so one of the people who was a stockholder of Graham Newman came to me and said, 'Walter, if you start a fund, I will put some money in it.' We ended up with $100,000. The structure was that I would not get paid unless we realized gains. The kind of stocks I bought were not growth stocks. Graham was really value-oriented. In those days he would buy stocks that were selling below working capital. There were less of them, but they were still around." "Since I only liked to buy stocks that were undervalued from a statistical point of view, they were not necessarily great companies. There was no particular point in hanging on to them indefinitely. We were buying companies on the way down and selling them on the way up. Not every company worked out, but enough of them did, so we had a pretty good record."" Browne searches for value: why don't you? "Tweedy, Browne is money management's equivalent of the Republican cloth coat: nothing flashy, ever dependable, transcending style. It is an organization that was founded in 1920 to deal in thinly traded stocks, and which in the 1950s realized that more money was to be made in owning such typically undervalued shares than in trading them. The firm began to take in outside funds in 1968, and has grown to now managing over $13 billion. It did not hurt that one of the firm's earliest and best clients was Benjamin Graham, co-author in 1934 of the nearbiblical "Security Analysis." Indeed, the company's early association with Mr. Graham (and proximity they moved into office space down the hall from the revered investor) led also to a relationship with Walter Schloss, Warren Buffett, and Tom Knapp, who joined the firm in 1957 and spear-headed its entr e into the investment game. These are formidable value bloodlines." 10 mutt stocks that will shine in 2007 "My Dog Star list contains some of the market's most-reviled names. These beaten-down but sound stocks should rise in price in the new year." Bill Miller's Q3 letter "Behavioral advantages are the most interesting because they are the most durable. The field of behavioral finance is still in its infancy yet has already yielded results that can be incorporated profitably into a sound investment process. The best part is that such results are likely to be systematically exploitable and not able to be arbitraged away as they become more widely known. That is because they represent broad findings about how large groups of people are likely to behave under well-defined circumstances. Until large numbers of people are able to alter their psychology (don't hold your breath), there is money to be made from prospect theory, support theory, cognitive psychology, and neuroscience." The Dodge & Cox mystique "In its 76-year history, Dodge & Cox has launched precisely four mutual funds. The firm doesn't advertise and has no marketing department. Yet investors are so taken with its funds that it has had to shut half of its tiny lineup to new customers to stanch the flood of money." Pattison goes deeper into the woods "But he has watched the sector for long enough from close up to know that when it seems beyond hope, that's probably the best time to put your money in. "We've been here [in B.C.] virtually all my life," he says. "Ever since I can remember, forest products has had its ups and downs and ups and downs . . . . Being up, you know it isn't going to last. And when it's down, hopefully it doesn't last." Some of the best value investors on the continent are thinking the same thing. Several have placed large bets that the red ink in the woods is bound to stop flowing, eventually, and that by investing now, they will reap huge gains in the recovery. Their theory, contrarian as it may seem, is that the industry's economics have been so bad for so long that it has no choice but to undergo massive change. Weak players will go bankrupt, scores of mills will close forever, and a wave of takeovers will knock out the smallest players." Steal this column "In the investing world, talk is cheap. We're bombarded by a never-ending stream of chatter in the form of newspaper articles, marketing material, television interviews and, yes, even magazine columns. Buy oil, sell gold, get out of the house builders, get into biotech stocks - how can an investor (especially one who is just starting out) make sense of this babble of often contradictory advice? It's easy. Stop listening to what the investment experts are saying. Look instead at what they're doing. While legendary investors like Warren Buffett won't take your phone calls, they are obligated by law to regularly report their major portfolio holdings. These days, thanks to the Web, you can click a few links and see exactly what these geniuses are up to. It's like being at a giant poker game, where you can peer over the shoulders of many of the smartest money managers on earth and see precisely what cards they're holding." 10 hated stocks you'll love in 2007 "Buy 'em when they're hated. I don't mean "out of favor" or "disliked." I mean HATED. And buy 'em at the end of the year. Not in November. Not in January. But around the middle of December. That's the simple foundation of the Dog Stars strategy" Noise reduction "Managing a $6 billion fund holding only 20 stocks requires strong conviction and an iron will - two traits Oakmark's Bill Nygren has in abundance." A bullish bet on joe consumer "Q: What's another stock you like right now? A: Allstate (ALL). The company has had problems, but new management has come along and fixed it. They are at about eight times 2006 earnings, generating a lot of cash, and buying their own stock. But that is a company-specific play; I'm not buying insurance companies across the board. Q: What is the future of property and casualty insurers like Allstate that sell primarily through traditional brokers, given the success of companies such as Geico, which sells direct to consumers? A: I have no opinion. Q: You don't have an opinion, even though you see enough merits to the company to recommend it? A: If Allstate were 12 or 15 times earnings, those things become relevant. At eight times earnings, I don't care. It's a better company than it was; they fixed their problems and they are still selling cheap." Old growth as value? "Investors looking to buy should look for four psychological states: apathy, disgust, fear, and anger. Of the four, anger is the most irrational--and offers a wonderful time to buy stocks." Patient Capital Management Q3 "In essence these two books instruct its readers on how to apply Mr. Graham's principles. His two primary methods were to calculate a firm's long-term 'earning power' and purchase the shares at a price to earnings multiple of less than 10x's or purchase shares at net-net working capital. Graham argued and proved through his investment partnership that a well diversified portfolio of securities that fit either of these two criteria would provide excellent long term results with substantially less risk than the market." Stingy Links: Whitman Abitibi: A perennial loser "Marty Whitman, the octogenarian investor and Wall Street legend, was once prodded on the stock-picking style of his firm, Third Avenue Management. "We are offbeat," he said. That's one word for it. Canadian investors, seeing what he has been up to lately, might have a few others. "Barking mad" comes to mind. "Insane" works. "Masochistic" fits, too, because one of the stocks Third Avenue has been buying by the truckload is -- wait for it -- the pride of Montreal: Abitibi-Consolidated. Oh, please, try not to laugh. It's impolite. Try not to tell yourself the Americans have been suckered again, buying into a Canadian manufacturer because it "looks cheap" when it is, in fact, one of the best living examples of wealth destruction in modern capitalism." [or why people have a hard time being value investors] Whitman profile ""We're such cowards!" said Martin Whitman, the 82-year-old legendary superinvestor, at a seminar organized by New York Society of Security Analysts on February 16, 2006, "We only want to be the senior-most creditors in distressed situations. We only want to be the adequately secured lenders in Europe and overseas. We don't want to be subordinate to any of the asbestos or tobacco liabilities..." And he brilliantly calls himself the "safe and cheap" investor." Stingy Links: World The reluctant briber "Meanwhile, although he no longer wants to do business in Russia, things are returning to normal in Ukraine. The team that ran the country before the revolution is back in power, and Ivan once again knows who, when and how much." Frugally Yours, Norman Rothery ISSN 1499-2787 | ||||
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