Thursday, February 23, 2017

Trump and Chess Are Helping My Returns

Happy 2017!

I know it is already February and a bit late for that but my first blog entry in a year always requires a new year's greeting.

For those that wondered why this blog is silent, it is mainly that my portfolio has been static. A long term investor typically doesn't change his portfolio and his views. So, if I give advice or opinions, it is just a repeat of what I already said. I have learned that long-term investing is always longer than what I initially. So, most of investing is simply waiting.And that is probably repeating what I already said before.

Trump is President???

The last year has been a truly unique year. In a year when I thought Trump becoming the president was absolutely improbable, the improbable happened. I was in Europe at election time, and I really wondered if I would be allowed back in the US. And even if I was allowed back, I wondered if I wanted to come back. My native Canada looked more and more enticing.

I was preparing to readjust my portfolio in reaction to the market fallout. Donald Trump won the election in the early hours of the morning local time. The Asian market dropped in reaction to it. So I thought the US market will be a bloodbath in the morning. However, I was pleasantly surprised that the market rose! Even stocks I thought would suffer under a Republican government went up, including my managed care stock Anthem. I didn't buy anything that day. And in the following three months hardly touched my portfolio. But what a blessing Trump has been to the market, especially value stocks which makes up my entire portfolio.

I make politics off limits on this blog except as it pertains to the market. And the recent US election is one such case. The last US election taught me a lot as does much of politics. I am not talking about Trump the person. What I learned from the election is about Americans. The US population is not a cut above all other countries. They are prone to the same hysteria, xenophobism and gullibility as people of all other countries. Its institutions are exceptional, I admit that. But in think in the next four years, we will see it put to the test like no other time in recent history. I wonder if a single man can do as he wishes despite the constitution and laws that forbid what he wants to do. The recent Federal court decision to block his immigration ban from seven Muslim countries is one such example. And there will be more I am sure.

The makeup of the US population has made me even more eager to diversify away from the US. I am thinking more of countries like Europe and Japan. I already have investments in those places but maybe I should look again for more.

The recent election has also taught me that strange things often happen. In fact people are so caught up on avoiding past mistakes that one should not focus on that. Instead one should focus
on exactly the not-so-obvious. For example, last 8 years has seen extreme scrutiny of banks. So extreme that probably it has unnecessarily hobbled the banks. Banks are doing fine now. Maybe dismantling Dodd-Frank is the best thing to do. In that, maybe I do agree with Trump!

And I found it even more bizarre that the market rallied in the months after Trump got elected. It just reinforces the common wisdom that you cannot time the market.

And this leads to my main idea. My portfolio picks in this blog have almost all fundamentally not disappointed. But my portfolio hasn't done as well as I expect because I often sold too early because I was impatient. Sometimes I would wait 1-2 years for something to happen to a new investment. If nothing happens I'd sell. And the following year it doubles. This was the case for ITIC and ADW:TSX.

Play Chess to Enhance Returns

Investing needs skill and temperament. Many discuss the skill aspect, but it really isn't that technically hard as Buffett and Munger say. And I have found solutions for the skill aspect. Others may not find it suitable for them but it works for me. But I need a better solution for the patience issue. I looked at the habits of other great investors. They all seem to be comfortable under their own skin and they have good balance in their life. Warren Buffett's wife once remarked that Warren doesn't care much for money as one can see from the way he lives. But he is competitive and his net worth is a way of keeping score against the competition. It is very satisfying to know you have some innate superior skill that others cannot deny. You read the same stuff as everyone else, but you are able to perform so much better financially.

Some may see him as a big philanthropist or a humanitarian who makes money for the good of others. But I think his wife's description is the main reason that has motivated him throughout his life.

I also think many successful investors are very competitive. But one has to be very careful in channeling that energy. Millions of people have tried the short term investing game and have lost dearly. Some may be successful at it, kudos to them. But I believe in long-term investing. And it is very unsatisfying for the competitive spirit to do nothing but wait everyday. So in that way being competitive is detrimental to long-term investing success because it can spur the investor to be more active and less patient. And that is the case with me as I described earlier.

So looking at the habits of big investors like Buffett, I noticed that a lot of them channel their competitive and mental energy. Buffett, David Einhorn, James Cayne, Alan Greenberg, are just some of the people in the investing and financial world who play bridge. Einhorn is also a very successful Texas Hold'em poker player.

Less well known are several hedge fund managers who are excellent chess players. Boaz Weinstein is a master and also a fund manager. And Patrick Wolff is a 2-time US Champion who ran a fund aptly named Grandmaster Fund. Chess was my youth passion and I quit just short of expert level.

I started reading and watching videos on chess last few years and thought about the pattern of investors who have mental stimulation outside of finance. And I thought it would be fun to get back into it, as well as helping me channel my mind and competitiveness away from frequent trading. So about 5 months ago I got back into playing. First it was online and then over-the-board (OTB). And I am as passionate as ever as a child. I have so far played two OTB tournaments and I have achieved a 1996 rating. The two tournaments were the first face-to-face competitive chess I played in 28 years! The diagram above is from one of my games, which unfortunately I lost. But my performance so far is better than when I left the game so long ago. My goal is to be a master, which is a person with a rating above 2200. I don't want to put undue pressure on myself but I am making a serious effort to get there. I have even hired a grandmaster to coach me!

In the future I may even post some of my games with annotations! Would any of you be interested in that? Let me know your thoughts in the comment section.

Thursday, December 1, 2016

My 5th Annual Schedule of Investments

So four years on, I am still posting. On each anniversary of my blog I list my dozen or so largest holdings. This year I am posting three months late but the following are my holdings at the anniversary. See this link for my past year holdings.

Position Category Business
Senvest Capital (TSX:SEC) Canadian SmallcapInvestment Company
Seaboard Corp (SEB) US Mid capFood Conglomerate
Installux SA French microcapManufacturing
IEH Corp (IEHC) US MicrocapManufacturing
McRea Industries (MCRAA) US MicrocapFootwear
Kansas City Life (KCLI) US Small capLife insurance
Anthem (ANTM) US Large capHealth insurance
Tachibana Eletech (TSE:8159) Japanese SmallcapElectronic Distributor
New Century Hong Kong (HK:0234) Hong Kong Small capHotel, cruise line
European Reliance (ATH:EUPIC) Greek smallcapInsurance
Riken Keiki (TSE:7754) Japanese smallcapManufacturing
Bruce Fund (BRUFX) Mutual fundMid-cap value
Lewis Group (JSE:LEW) S Africa large capRetail

I am posting less now because I have been busy with other things and because I have less new things to say. I think I will have a lot more to say once my thesis for many of these stocks have played out. That said, I have written this blog for four years and, to me so far, I see that my investment strategy is working out. By this I mean that my active investing is worth the time. I am beating the market and I should continue to beat the market. The edge is not big. I think I am beating and can continue to beat the market by 1-2%. But as we all know from the principle of compounding, such an edge will become a fortune over long periods.

Tuesday, September 13, 2016

Lessons of the Last Four Years

Wow, it has been a long time - four months - since I last posted. Well, no, I haven't stopped blogging but I have definitely slowed down. I have been busy with work while my investment activity has virtually halted until recently. Besides, I probably needed a break as I have been blogging for four years.

During the last few months, I have reflected on what I've learned in the last four years. For one thing, I am still learning new aspects of value investing. The value investing concepts seem to be straightforward, but different people can interpret the same thing differently and even the same person can interpret the same thing differently at different times.

I have heard from Peter Lynch and Walter Schloss, among others, that an investment needs about 3-5 years to play out. That is a long time to get the feedback on whether you are right. But it's the easiest way I know of to get outsized results. By now or soon from now I can see whether my investment ideas were sound.  One example is Installux. I bought it originally 3 1/2 years ago and it has more than doubled in addition to a nice dividend. Which is as good as I can expect. But I didn't believe this concept as much as I should have.  Take the case of Andrew Peller (ADW:TSX), which I bought 3 years ago at CDN$14. Today it is CDN$32.  But unfortunately, I got impatient and sold and barely eked out a gain.  This is a hard lesson learned. I will redouble my efforts to see my investments through the 3-5 year period.

A second investing concept I've genuinely learned is that buy and hold can mean forever. I read this from in Fisher's book Common Stocks and Uncommon Profits. What it means is that if a company's prospects grow with the price at any given time, then one should hold the stock until that changes. And if that doesn't change then one should hold on indefinitely. This is more of a growth investing approach but one can argue that growth is part of value. Stocks that used to undershoot can now overshoot beyond my wildest expectations. I've learned this lesson the hard way when I sold Phillip Morris (MO) after 12 years. By then this cigarette company had a PE in the low teens.  Who would have thought that cigarette companies now have PE above 20 and MO would triple in the last 4 years!

Thirdly, I often wonder what drives the market of months or years when it doesn't behave quite rationally. And from watching the market for almost 20 years, I have concluded that often there simply is no rhyme or reason for its behavior. Nobel Laureate Robert Shiller drove this point home to me in his book Irrational Exuberance. He points out example after example of long periods of mispricing in different times and different countries because it is human nature. For example, I've owned MSFT off and on for years while its PE was in the teens. Then, over the last 2 years, it expanded to over 20. This hasn't consistently happened since around 2000.  And I cannot see any significant change to the company's growth prospects.  And I cannot even see any good reason why the market changed its sentiment, other than the fact that investors feel bullish about the market.  The market is quite overpriced but I don't feel more money chasing yield is a good reason for a stock to go up. Or at the very least I don't think I can count on excessive multiple expansion for my gains.

The same anomaly can occur in the negative direction. Entire markets can be depressed for as long as a decade. I am not referring to Japan, which one can argue is depressed for good reason. But the Hong Kong market should be much higher because it's price to book ratios are extremely low. And Hong Kong does not have the demographic problems that plague Japan. That gives the Hong Kong investor like me a huge margin of safety.  And I hope this margin of safety will give an edge over other investors who may not be inclined to invest in such markets.  I am also buying and waiting for multiples to revert to more normal values in other markets like Russia.

Fourthly, while concentration is needed to maximize gains, don't overdo it! The concentration argument is that one should bet big when one has conviction. Extreme concentration is warranted only in a few types of situations. For example when Charlie Munger levered to buy BCP, or when Warren Buffett bought the Washington Post.  In the first example, Munger was waiting for the outcome of an impending court decision which would either determine if he breaks even or makes a profit. In the second, the Washinging Post was a diversified media company with many assets which are spread out in different media and different locations. And he knew he could get an offer on those properties if they were for sale. And the Washington Post was selling for a fraction of book.

However, very often people have more conviction than they should. When a person concentrates like this investing becomes gambling because a few events can make or break a portfolio.  The purpose of diversification is to prevent catastrophic loss of the entire portfolio. And often even successful investors make this mistake. And when that happens it isn't just bad luck, it is because they've been playing Russian roulette one too many times.  They may have been lucky for many years but eventually the odds catch up to them.  Earlier I said value investing gives feedback in 3-5 years, so a few feedback cycles can take over a decade, and maybe over that time they may have been lucky.

Recently, the internet chatter has been buzzing with two big disasters: Valeant and Horsehead Holdings. Both were companies with big stories of potential gains. But Horsehead was betting on one plant coming online as the low-cost producer. If that did not happen, well it's complete equity wipeout. And that's exactly what happened.  Valeant was a company with a suspicious business model and it also came crumbling down with a 90% loss of shareholder value.  Those two situations wouldn't have been so bad except that some big fund managers put 20% or more into these stocks! And they threw in new money after the companies started to stink! I think putting in new money was an obvious case of denial.  This was a timely reminder to me that no matter how long I can have success, I should stay diversified.  Bad things happen at the most inopportune times.

I don't know whether my investing strategy will ultimately succeed. However, I will keep learning and relearning value investing concepts. I will also learn the mistakes of others and stay vigilant

Friday, April 8, 2016

2015 Year End Results

By March every year all companies with fiscal year end on Dec 31 should have announced their annual results. Six of my holdings are summarized below. Overall all results are reasonable and make all six stocks overvalued. But I don't know why the market trades these stocks so cheap. I am not one to think too much of catalysts so I have no clue when will it end.

(April 1)
€ 1.49 10.15 CAD$ 125.70 9.20 HK$ 9.20 € 240.00
Marketcap M € 40.98
($ 46.71)
8.12 CAD$ 354.47
($ 270.59)
384 HK$ 2616.20
($ 337.57)
€ 662.40
PE 3.66 4.84 loss 13.15 loss 12.40
ROE 0.14 0.33 - 0.04 - 0.15
PTBV 0.51 1.58 0.53 0.58 0.16 1.89
Div Yield % 0.00 12.32
(one time)
0.00 2.70 2.17 3.54
Vol (basis) 0.51 6.89 1.06 5.52 2.41 4.13

The table summarizes the key metrics. I mostly focus on PE and PTBV. And for each company, one or the other shows the company is cheap. The last row gives the average daily volume divided by the total shares. The fraction is showed in basis points units. So PFHO daily volume, which is 6.89 basis points, is actually 0.0689% of total volume. I have found most companies with healthy volumes should trade at about 20 to 30 basis points (0.2% to 0.3%). The table shows that all the six companies trade at extremely low volumes. None are at 20 or 30 basis points. This may explain why the stocks trade so cheap, they have extremely small interest.

European Reliance Insurance (ATH:EUPIC) continued its growth streak by increasing pre-tax profits by 6.6%. Even better is equity growth at 13.3%. The stock is still super cheap. I presume the reason is the ongoing crisis situation in Greece. Warren Buffett used to say he could find stocks that trade at 2 or 3 or 4 times earnings. They exist now and you just have to look. Well, I found one here trading at less than 4x earnings! On top of that it is trading at half of book. Now if only the market can cooperate.

Pacific Health Care Organization (PFHO) had a rough third and fourth quarter. The stock went from the high twenties to as low as $6.50 after announcing that they will lose their biggest customer Amtrust in Q4. But after their official annual report, the stock managed to recover to $10.15. Q4 results show that subtracting Amtrust's waning revenues in the quarter, the company still did $1.2M in business. So at that conservative trend, the company can do $4.8M for 2016. At their current profit margin of 20%, that is still more than $1 a share. The company said in the report that they employed 36 people in mid-March. That is still more employees than they've ever had except for their record year in 2014. And the company is continuing its IT expansion. I am cautiously bullish on PFHO.

Senvest Capital (SEC:TSX) reported FY15 EPS CAD$(35.39), which is pretty much expected. However, the book value per share increased because of a 19% rise in the Canadian dollar relative to the USD throughout the year. That would give per share book value of CAD$271 at year end. And also with estimated hedge fund losses from the company's 13F and its website, we can expect expect book value after Q1 to be about $237. Today it trades at $127. So the stock trades at 53% of book. That is too low even by Senvest standards. And one big reason for the huge discount is the market's view that the company charges excessive fees. This year has been kind of flat, and so there is little if any incentive bonus. The salary drawn should be all the employee expense on the books which is $12.5M. Other operating expenses, which may include costs for expanding their New York office is $16.8M. I am not thrilled about the expense. But for a company that manages about $1.4B in net money for common shareholders, minority interests and hedge fund holders. One can argue the cost is reasonable.

Kansas City Life Insurance (KCLI) reported for the first time after delisting from NASDAQ. The company revealed it bought back 1.1M shares for an average price of $51.13. The shares included normal buybacks and the odd-lot tender offer of 906,500 shares at $52.50. There are now 9.6M outstanding shares. The company earned $29.2M for the year, which is flat compared to the previous two years. However comprehensive income was $(9.0)M due to unrealized losses in fair value of securities. The comprehensive loss along with the 1.1M reduction in shares, minus the dividend, meant that the book value per share was flat from 2014 to 2015 at $68.55. I anticipate that unrealized gains will be much higher in 2016 because interest rates will be lower than expectations at late 2015. Lower interest rates mean a higher valuation on the company's stock portfolio, with the drawback that the company may receive less revenue as people avoid the company's products due to their low yield.

Soundwill Holdings (HK:878) is a real estate company that renovates and develops buildings as well as lease properties, primarily in Hong Kong. It is dirt cheap on a price to book basis. But last year it turned a small loss mainly due to fair value adjustments on its investment properties and almost no property sales.

Soundwill owns some of the best retail properties in Hong Kong. But rents were ridiculously high. I heard some of their properties were the highest retail properties in the world! But now that less tourists are coming from China, rent prices have fallen. Along with rents the fair value of Soundwill's properties have also fallen.

In 2014, the company sold HK$2.5B worth of properties for a $1B gross profit. But last year they had virtually none. But that could be a simply a quirk of timing. The following table shows the company's yearly property sales as well as the total money held as deposit on properties under development. The sales seem to oscillate every two years, with a high amount on year followed by a low. But the amount under deposit on the low years does seem to foreshadow good sales the following year. So, I expect 2016 to have significant property sales as in 2014.

2015 2014 2013 2012 2011 2010
Property Sales (HK$ M) 10.40 2466.00 199.00 1310.60 483.20 591.20
Deposits 735.00 421.00 1277.00 482.00 529.00 422.00

Karelia Tobacco (ATH:KARE) reported year end earnings of € 19.35 versus € 22.44 a year earlier. Revenues were up 15% and gross margins, net of excise taxes, were up to 14% from 12.7% a year ago. The difference in the bottom line is from a previously mentioned € (14M) adverse tariff decision. The appeal is ongoing which, if successful, would return € 14M to income.

Sunday, January 31, 2016

Playing Anthem-Cigna Merger Arbitrage

The managed care industry is under pressure by shareholders and regulators and the public to decrease costs while increasing coverage for the needy. It has done a lot to that end but the next step looks to be consolidation. Anthem (ANTM) last year announced plans to merge with Cigna (CI) last year. Similarly Aetna (AET) last announced plans to merge with Humana (HUM). These two mergers have the potential to change the managed care industry from five big providers to three big providers.

Revenue Members Notes
United Health$154 B 45.7 M Big on Medicare and Medicaid
OptumRx for perscription benefit
ANTM + CI$117 B 53.8 M ANTM: BCBS provider in 14 states and public exchanges
CI: Medicare and international and national accounts
AET + HUM$115 B 33.5 M AET: strong in Medicare and public exchanges
HUM: Big on Medicare

In this deal, Anthem would give $103 plus 0.5152 Anthem shares for each CI share. The potential value to CI shareholders is shown below. Anthem last year traded in the $125-170 range. The last ANTM and CI values are also shown in the chart. Note that CI is trading $35 below the merger price if the merger is consummated with ANTM trading at the most recent price. This huge discount reflects the high uncertainty of the merger passing regulatory scrutiny. However, in CEO's of both companies said in conference calls they were confident of success.

The deal also has a lucrative $1.85 B breakup fee payable by Anthem to Cigna if the deal cannot consummate by next year due to regulatory snags. That is about $6 to each CI share! In the event that the merger fails due to regulatory snags, I conservatively estimate the CI price to be 13x the expected $8.50 year-end earnings guidance, plus the $6 breakup fee minus taxes. That works out to about $115 per CI share. That is the bottom limit of the chart.

I used a 13x multiple for CI because CI has a better than average profit margin (6%) than other managed care companies such as ANTM. While managed care companies now typically have multiples in the mid to high teens. Based simply on the CEO's comments, I give the deal a 60% chance of success. So to me, CI looks like a easy way to get a good one year return. In addition, I had a large ANTM position coming in. So it was most logical to do a merger arbitrage. Merger arbitrage typically calls for shorting the acquirer and buying the acquiree. So, I sold part of my ANTM position and bought CI. If the deal does happen I grow back part of my ANTM position. If the deal does not happen I own CI which is a sound company in an industry I like, albeit I paid a higher price than I liked.

Monday, January 25, 2016

Buying the Correction: KCLI

I first bought Kansas City Life Insurance (KCLI) almost three years ago simply based on cheap price to book ratio. The stock has yoyo'ed between 38-50 for about 2.5yrs that I owned it. I bought and sold it twice but in July last year they did a odd-lot tender so anyone with less than 250 shares will be bought out for $52.50. It was selling at $44 around the time of announcement. Management did the tender to reduce the number of investors so that they could delist from the NASDAQ. The company began trading OTC on January 1. The company generated a lot of buzz on the blogsphere because it was an easy way for a trader to make up to an $8 spread on 249 shares in short time. That is up to $2000 on each open account. I failed to do so because I was out of my KCLI position and failed to notice it until it was too late!

I am sure many who took advantage of the tender thought it was a really neat trick they pulled on a big corporation. But I bet KCLI management thought they got the last laugh. They were consistently buying their shares back last several years and getting a whole bunch at $52.50 was a steal.

The management hasn't revealed how many share were tendered but their estimate was for about 600,000 shares. That would bring down the outstanding shares down to 10M shares, and raise equity per share to about $70.50. This is an 3.5% annualized growth over the last five years. In addition the company pays 1.5% of equity as dividend. Which brings a total 5% return on equity. And Berkshire Hathaway grew equity by only 4% last year. Still that is pretty sub par for a business but then again, life insurance is like that. KCLI operates with a 6.5% after tax margin. I think KCLI is an average performer. But the stock recently traded in the $36-38 range, which is just 52% of equity. That was the catalyst for me to jump back into KCLI for the third time. If feel the current price is just too cheap. Clearly the management feels the stock is worth more than $50. And there is no reason for it to fall so much lower than before the tender. The company is basically still the same. It now trades on OTC and in its first month there, the trading volume is actually higher than before on NASDAQ. So liquidity is not an issue. The company no longer files with the SEC, which was to save about $1M a year, or about $0.10 per share. But I am sure the quarterly reports and shareholder communication will be the same quality as before.

The half price share discount means the 5% per share equity return is 10% shareholder return. Admittedly this is helped greatly by stock buybacks. The company has reduced share count by 13% in the last 5 years, so it isn't shy about using cash for buybacks. But at 50% of book, buying back shares is getting even more effective.

Deciphering the risk of the company's insurance policies is difficult for me. But I sense the company is extremely conservative. The company is run by the fourth generation of Bixby's. The company separates their policies into two types. The first is premiums on traditional life insurance and immediate annuities, plus a small portion of disability and dental. These have guaranteed payout. The immediate annuity, which has longevity risk, is historically less than 10% of yearly premiums. The second is deposits type insurance such as universal life, variable life, variable annuities which have a surrender value and depend on market conditions. These have guaranteed interest rates which may cause KCLI losses if interest rates change violently. But that is a very unlikely scenario.

The company's investment portfolio is also very conservative with 77% in fixed-income.

Overall, this is a very conservative company that is at the virtual bottom of any reasonable valuation. So, I think of this as a very safe investment with upside, almost like cash with benefits. Such an alternative for cash is very useful in this down market where I want liquidity handy to buy really depressed stocks in case the markets drop further.

Sunday, December 13, 2015

Warren Buffett's 1962 Short Positions

I have collected number of article on long positions from the Buffett Partnership Limited in 1962. But that year he had also a few short positions. He explained them in his 1963 letter to shareholders:
You will note on our yearend balance sheet (part of the audit you will receive) securities sold short totaling some $340,000. Most of this occurred in conjunction with a work-out entered into late in the year. In this case, we had very little competition for a period of time and were able to create a 10% or better profit (gross, not annualized) for a few months tie-up of money. The short sales eliminated the general market risk.

The $340,000 worth of shorts were in four securities. The bulk of the amount was in Insurance Company of North America (INA) and Hartford Fire Insurance Company. INA has a long history going back to 1792 and it is known today as CIGNA. Hartford Fire still exists today and is simply known as the Hartford. The two companies were very similar. Both were large insurance companies with long unblemished histories. Both had rock solid balance sheets. Hartford traded at $68 1/8.[edit] Its liquidation value was $56 per share. It wrote about $50 of premiums per share at the company level (non-consolidated). INS traded at $94 1/2 and had $58 of equity per share. It wrote about $40 of premiums per share at the company level. Both companies consistently had combined ratios of close to 100%.

Clearly, Buffett was looking for large companies whose stocks weren't volatile and would not rise as much if the overall market climbed. But it isn't fully clear to me what he meant, especially when I don't know which workout he was referring to. There are a number of candidates. One is British Columbia Power (BCP). Another is Texas National Petroleum (TNP). Another is Lehigh Coal and Navigation. For more about these refer to my master list of Buffett Partnership Investments. And there could be others that I don't know about.

But Buffett has said that workouts are supposed to bring gains that are independent of the market overall. So, he doesn't need the exposure to market risk, be it to the downside or upside. So his shorts were positions designed to negate market movements on $340,000 of workout exposure. Plus the shorts give him leverage; he has $340,000 more to put into the workout situation. But I don't see how his workouts are exposed to market risk. Both BCP and TNP pay out fixed amounts of cash regardless of market conditions.

I will probably discover more about Buffett's workouts as I research more of his investments from 1962. And if anyone has any suggestions to add, please put them in the comment section.