Sunday, July 1, 2018

Portfolio Update

This blog is so devoid of recent entries that I felt compelled recently to post something, anything. Fortunately I have a lot of odds and ends I can update on my portfolio and the market in general.

After riding high under Trump for a year, I am convinced the US market cannot go any higher. The Shiller PE ratio is at a mind boggling 32.3! That is higher than anytime before the great depression and is only surpassed by the dot-com bubble in 2000. On the other hand, I have holdings that are still reasonably valued overseas and even some in the US. Plus I hate paying capital gains taxes. So, instead of selling a lot I settled on hedging the US market. After all, this is a perfect time to short the US market if I am convinced it cannot go any higher.

I hedged the US market by shorting the S&P500 mini futures. Each of these futures is a contract to buy or sell a contract that will pay out $50 times the S&P 500 index on the delivery date. So suppose on the contract expiry the S&P500 is 2700. Then the contract would conceptually pay out $135,000. In reality the contract settles financially everyday, so the original purchase amount and the settlement payout do not happen but instead the delta in the value of the contract is debited or credited at the close of each trading day. So far I am turning a profit shorting the mini futures. However, I really prefer that were not the case, as each gain means an overall downward bias in my portfolio. But it only confirms my belief that the market cannot go any higher.

 A Prussian general once said that "No battle plan survives first contact with the enemy". I feel that way looking back at my first merger arbitrage situation , between Anthem and Cigna. As it turned out, all the forecasts about its chances of success were too optimistic. The merger fell apart after various state governments voiced objections and sued to block it. Despite this, I fell into the golden period for managed care organizations and both companies rose handsomely. I have since sold my Cigna shares. So the moral of this story is that with careful thought and due diligence, even if I am wrong in my predictions, I can still come out ahead. The S&P 500 hedge is another play from this same playbook.

In addition to the hedge I have also reduced my exposure to US companies whenever he opportunity arose. This was the case with IEHC and Senvest.

While the S&P 500 and my US holdings have done wonderfully since Trump's presidency. My international holdings are a mixed bag There have been laggards such as Lewis Group of South Africa. And there are some wonderful stocks, such as Installux, European Reliance, Tachibana Eletech and Riken Keiki. I have listed the basic metrics of some of my international holdings below.

Tachibana Riken EUPIC Installux Lewis CMH
Price ¥ 2028.00 ¥ 2504.00 € 3.47 € 415.00 R 31.20 R 27.50
¥ 51105.60
($ 461.66)
¥ 58092.80
($ 524.78)
€ 95.43
($ 110.79)
€ 125.83
($ 146.09)
R 2602.08
($ 190)
R 2057.00
($ 150.2 )
ROE % 6.4 11.2 13.8 9.7 4.8 35.6
PE 13.1 14.1 6 14.5 9.9 8.3
PTBV 0.84 1.67 0.94 1.39 0.49 2.97
Yield %
1.97 1.2 3.46 1.93 6.41 5.85

Note that all these companies, with the exception of CMH of South Africa, all have very little debt. The companies whose stock appreciated significantly did so with a combination of increased profits and multiple expansion. I am still waiting for that to happen in my South African stocks. I have not wavered in my belief that the long term future of world economy is in the emerging markets. But in the meantime while I wait, they are yielding 6%.

Thursday, March 1, 2018

Why I Bought Adrenna Properties

Once in a while a company a catches my eye because of its performance relative to price. But the company ownership structure makes it not feasible to buy. I remember one German company I saw once with very attractive returns relative to stock price, but it is 99% owned by a single entity. So I didn't want to buy because the price does not reflect the fundamentals but whatever a few small retailers value.

Recently I found Adrenna Property Group (ANA:JSE). Adrenna is a South African Property investment company. Its properties are business and residential held for rent buildings in the Cape Town area. Cape Town is the capital of South Africa and is a relatively affluent city in South Africa.

The whole Adrenna story started in 1999 when the Quyn Group first listed on the Johannesburg Stock Exchange in 1999. At first it was a recruitment and outsourcing company. Then Quyn acquired the Colliers group of companies in South Africa and changed its name to Colliers South Africa Holdings Limited. Initially the combined company struggled and decided to delist in 2004. Later, after some major restructuring and some decent results, the company changed its name to Adrenna Property Group Limited in February 2012, and it relisted on the JSE.

From that time onwards, the Adrenna has steadily improved its results. And that caught my eye. The following shows the results in the years following the relisting. All monies are in units of millions. Note that the company has consistently reduced debt while increasing equity through fair value appreciation. The capitalization rate is the net operating income before interest and revaluation divided by the property value.

TTM 2017 2016 2015 2014 2013
Price R 1.00 R 1.55 R 0.65 R 1.45 R 0.80 R 0.40
Shares 55.9 55.9 55.9 55.9 55.9 55.9
Equity 151.1 146.5 125.4 117.6 110.1 98.2
Earnings TTM 19.5 21.1 7.9 7.8 12.2 10.5
Marketcap R 55.90 ($ 4.58) R 86.64 ($ 7.10) R 36.34 ($ 2.98) R 81.05 ($ 6.64) R 44.72 ($ 3.67) R 22.36 ($ 1.83)
ROE 12.9 14.4 6.3 6.6 11.1 10.7
PE 2.9 4.1 4.6 10.4 3.7 2.1
PTBV 0.39 0.62 0.3 0.73 0.43 0.24
Div Yield 0 0 0 0 0 0
BVPS 2.7 2.62 2.24 2.1 1.97 1.76
Debt 0.4 0.37 0.52 0.53 0.63 0.84
Cap Rate (%) 8.2 7 6.7 4.8 6 6.4

The company actually has high earnings through fair value reappraisal. So beware when looking at the incredible PE numbers!

The company's cash flow mostly pays for expenses and interest on debt.  South Africa is a country with high inflation and therefore interest rates are also high. The company's operating income is 2.5 times interest expense. This ratio is a bit lower than I'd like but it is still acceptable.

So Adrenna looks very cheap, but is there a catch? And indeed, there is a problem when investing in Adrenna. That problem is the company's market cap. The company's five largest shareholders own 72% of the company. They include two board member and affiliated entities. This is encouraging in that the board has aligned interests with the average shareholder but it also means there is very little float, possibly much less than USD $1 million. Still I have built as large a position as possible without excessively moving the stock price. Hence, I regard my position in Adrenna as only a trial run of my investment approach because this is not a stock I can buy in size.

Saturday, November 18, 2017

Latest Earnings from Four Holdings

I usually write about my investments' latest financial results once or even twice a year. Recently I haven't done that. So, I will catch up on four of these today.

McRea Industries is a shoe company that sells military footware, industrial footware, and ladies luxury cowboy boots. The company occupies a niche in the military footware space because US military boots must be made by US companies. So, McRea has a North Carolina manufacturing plant devoted to supplying the US military with boots. The rest of the company's manufacturing is in Asia. Obviously, Asia can manufacture footware cheaper than any American company. These boots include women's luxury cowboy boots, industrial footware and even military boots that soldiers can purchase as spares.

McRea's sales has been flat and its mix of military to luxury boots has tilted to military in recent years. This is bad news because the military boots have lower margin. The overall sales of the company has been $104 to $108 M for the last 3 years. So it is basically flat. And the net earnings is down to $5M from $6.6M 2 years ago.

Price 34 4350 13.45 € 415.00
Marketcap (M) 81.6 5089.5 10.76 € 125.83 ($ 148.60)
ROE (%) 6.9 9.6 14.3 11.2
PE 16 15.6 11.7 12.9
PTBV 1.14 1.5 1.67 1.45
Div Yield (%) 1.53 0.1 0 1.93
Price/NCAV 1.27 2.18 1.71 1.97
The table on the right gives the financial metrics for McRea (MCRAA) and three other companies. The company has had a recent run-up which I cannot really understand because the fundamentals have not changed. The only plausible explanation is the general change in sentiment towards tiny microcaps in our long powerful bull market. But overall, my opinion is that this company is quite fairly valued for a shoe company.

The way I see it, the company can only increase its earnings if it increases margins and efficiency in the military boot segment. And it appears to be doing that. Last year the company had $27M of inventory and this year it is only $18M. This helped to increase its cash position from $16M to $28M yoy.

Seaboard Corp (SEB) is a food conglomerate that I have owned for over 15 years. I have always seen it trade at about 10x earnings. But in this bull market it has jumped to 15.6x. The company's management has proven itself to be disciplined and shrewd capital allocators. But it is still a commodity producer. The company currently still drives 75% of the operating income from pork. We have had food deflation for the last several years. But pork has actually benefited as the cost of feed (i.e., corn) has dropped much more than the cost of pork products, hence the decent earnings in recent years. But commodities are always cyclical and things can and will turn. I just don't see how this stock can go any higher.

Pacific Healthcare Organization (PFHO) is in a two-year recovery after losing Amtrust, a huge customer in 2015. Thus far it is doing just fine, earning about $0.30 a quarter for the last three quarters. And it has a great balance sheet, with $7 per share in cash and no debt!

And last but not least on my list today is Installux (PAR:STAL) . Installux has been a star performer in my portfolio. In the five years that I have owned it, the French maker of aluminum building products has increased sales marginally. But profit has increased by about 9% per year in those years because of increased gross margins and increased profit margins. The company's metrics are still quite good and it has € 130 per share cash and no debt.

Sunday, October 22, 2017

Calculating Lifetime Returns Using XIRR

I feel that one big purpose of the many investing forums, blogs and financial articles is to bring basic financial information to the masses. Consequently there can be a lot of repetition of information. In this post, I will describe a useful financial tool that is known to seasoned investors. So, this post is for those who may not be familiar the topic.

In the investment world we need a simple way to measure the performance of a portfolio. People in finance often refer to it as the compound annual growth rate (CAGR). This is for example very important measure when a investor chooses his mutual fund. From my experience almost all investors look at the 1, 3, 5 and 10 year CAGR that are mandatory in all official fund reports.

The definition of a CAGR is easy to understand in the mutual fund literature. They describe the growth of a $10,000 investment in a fund from, say, 5 years ago to today and calculate the average annual return of that investment assuming all distributions are reinvested. This CAGR is the equivalent annual interest of a daily compounded savings bank account over the same 5 year period.

For example, as of their annual report ending June 30, 2016 the Bruce Fund reported a CAGR with dividends and distributions reinvested of 9.7%. This means that a $10,000 investment fives years ago would be worth $15,866 on June 30, 2016 because 1.0975 is 15866.

So far so good, but real-life investors have cashflows in and out of their investment portfolios. How does one find a CAGR of their portfolio to see how they are performing as their own portfolio manager? To do this we need a clear definition of the CAGR of a portfolio with arbitrary cashflow. I see my own CAGR as given above. It is the the equivalent annual interest of a daily compounded savings bank account over the period in question given that the hypothetical bank account receives the same cashflows as my real portfolio account.

I find this result extremely useful because it tells me how much return I will need if I save diligently and I have some retirement goal in mind. For example, suppose I am 60 years old and I want to retire at 65. Over the next 5 years I will contribute $20,000/year to my retirement fund. My retirement fund now has $200,000 and I want to have $400,000 at 65. What return do I need?

The answer is simple using the xirr() function available in all spreadsheet programs such as MS Excel. The xirr() describes the returns given cashflows. The following is the way to enter the data.
  • Each cashflow entry should have a date and an amount in one row.
  • Each cash flow entry into the retirement amount should be a negative amount.
  • Each cash flow entry out of the account should be a positive. 
  • The final entry should be a withdrawal of the remaining balance on the account.

So in the above example, assuming that I begin on 4/15/2017 at the age of 60 my initial account balance is $200,000. And on each anniversary I add $20,000. Then on the 5th anniversary, my account has a $400,000 balance. The cashflow entries are entered in order each on a row. As shown below. The xirr() function takes two parameters. One is the region containing the dates of the cashflows, and the other is the amount of the cash flows. I entered the following in my example: =xirr(a1:a7,b1:b7).

And the xirr result is 8.55% in the example shown in yellow.

      A B

The xirr() function can also tell me how much money I will have at retirement given that I can achieve some return. In the above example, I can calculate how much I can have if I can improve my returns to 10%. To do so, I would simply replace different values for the final withdrawal until the xirr value is 10%. The current final withdrawal value in this case is 400,000.

Note that the values of deposits and withdrawals can be any amount and at any time.

Knowing the CAGR for all cashflows is an extremely tool that can answer what a return really translates to in terms of wealth. And it can also be extended to compare the value of future cash streams such as annuities or defined benefit plan such as social security. In doing so, this tool gives the average consumer an objective way to compare different types of retirement products. It can make more clear many financial products that, I feel, are designed to obfuscate the and confuse the consumer through complexity.

I hope you will find this as useful as I do.

Saturday, September 30, 2017

My 6th Annual Schedule of Investments

So five years on, I am still posting. On each anniversary of my blog I list my dozen or so largest holdings. See this link for my past year holdings.

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

I am posting less now because I have been busy with other things and because I have less new things to say. I also don't have much to comment on my holdings. I have not found anything new in the last two years. The above table is basically a reshuffling of my past year holdings because of changes in their value and, to a lesser extent, some trades. In particular, I have sold a chunk of Mcrae and PFHO. I sold Mcrae because the company hasn't grown sales much and their stock experienced a recent spike. PFHO I sold at $10 after buying a bunch below $10. Of course I regret that one as it is now almost $15. But I remind myself that in a bull market, every sell you make is a regret in the short term. In the long term, well that's another story.

Thursday, June 22, 2017

Anne Scheiber, the Secret Millionaire

I first heard of Anne Scheiber from a magazine article about her in 1995, shortly after she passed away aged 101. Anne Scheiber was the first example I have heard of a hidden millionaire.  Hidden millionaires are low profile people who grew up in average circumstances and did not rise up very high in their careers, who lived very ordinary frugal lives. They are the sort that others never expect to be rich. But when they die, people with something to do with their estate are surprised to find out they were multimillionaires.

Scheiber died with a $22M fortune.

Because Scheiber was low profile and did not have any close relations, there isn't a lot known about her century of life. She got attention in the news because she donated her fortune to the Yeshiva school to help women like her. The school had never heard of her. What is known is that she spent her entire working life as a IRS auditor. She was great at weeding out corporate tax cheats. But despite her contributions, she never got promoted at the IRS. After she retired in the 1940's she lived a simple life in New York until her death. According to the article, she learned from years of auditing that the wealthy all invested. And that inspired her to focus on investing in retirement.  The articles described Scheiber as a miser and a recluse.

The part of the story that estimates her returns gets a bit fuzzy. The story is that she started with only $5000 in retirement and turned it into $22M which would give her a 17.5% rate of return!  That beats the like of Walter Schloss!  But after digging around in Wikipedia, I read that she probably started out with much more at retirement. And her return was probably around 13%. Her return is still phenomenal because out-strips the US market by about one percentage point. Incidentally, that's exactly the type of returns I want. Her investment style is the Warren Buffett style of buying quality companies and holding for the long term, like a lifetime!

I read about her before I had ever invested. And that article had a tremendous influence on my thinking towards investment. It helped me to start early down the investment path. Although value investing and stock picking didn't come until much much later.

I've thought about her many times since I first read about her, and my burning question is whether she was happy in her retirement years while she was accumulating her secret millions. My best guess is that she felt a tremendous sense of purpose and it was that purpose more than anything else that helped her to live to such a ripe old age.

Although Scheiber was the first secret millionaire I've heard of, she is not the only one. Every once in a while I hear of others. Like Ron Read of Vermont who was a veteran and who worked as a janitor and gas station attendant. He died at 92 worth $8 M. And I am sure there are many more that we have never heard of.

Sunday, June 11, 2017

What is The Point of All This?

I own several brokerage accounts with different discount financial companies. And I occasionally get calls from them seeking to build a relationship with me so that they can sell me some service. The first step in the conversation is to ask me about my financial goals. And I have trouble articulating it. I say something to the effect of trying to make as much money as possible. I don't mention the goal is to spend it to achieve some lifestyle. I instead say the money is the goal in and of itself.

For those who think this may seem like a strange answer, to me it is very similar to a person working towards a master title in chess. I do admit that unlike chess, building a nest egg does have the added benefit of providing retirement security. But considering that I live frugally and my savings are performing at or better than the market, I will probably have more than what I need in retirement. So working hard at investments at this stage for me must have more purpose than simply retirement security. So I say making money is the end in itself.

So working hard towards financial success over a lifetime should produce more money than one needs, if that person is frugal. Today I am going to describe how I think it can be done relatively easily. And what are the risks that can derail that.

Survival = Success

In this endeavor, the first thing to keep in mind is that it is a long road and to survive is to succeed. The one thing that can derail success is to have a loss and a lesson that one does not recover from. Even if one can theoretically recover a big loss over a lifetime, the psychological damage may discourage and/or prevent one from doing so. This is what others often call looking after the downside. And to me that means first and foremost, diversification. Diversification means spreading the risk across industries across asset classes and across geographies. A second useful thing is to have reasonable expectations. I have read the writings of various young investors in the blogsphere and I often sense an implied goal of 20% returns.

But in a lifetime achieving such returns on average would make that person one in a million! To get an idea how awesome 20% is, consider a 30 year old who has studied valued investing and who has some kind of a lasting edge. If that person has USD$100K and can save around $18 K per year (that's the limit for 401k retirement contributions) then that person will have $20M by age 60. That is very unlikely. I have never heard of a person who is worth $20M who didn't start out with a large capital base and who didn't work in finance or run a business but simply saved and had phenomenal returns. Instead the goal should be to simply match the market and possibly add one or two percent. So if the market does 8% for the next 30 years, then the target should be 10%. In the above scenario that 30 year old will have $1.8M at age 60. That's a huge difference, but it is also much more realistic.

Think Different

To get above average returns, I think it is necessary to have a different world-view than the greater investing community. That may seem so obvious that it needn't be said. But the actions and mood of the retail investment community seems to indicate people don't know it or forget it.

To make above average return in the market one must think differently from most people because the money made that is above average must come from others. And it is concentrated in a few; think of all the rich like the top 1%. They own a disproportionate amount of the wealth. So the rich minority make above average returns from the majority.

And surprisingly it is not hard to see errors in thought that many people make. It just takes work and practice to think differently. I can point out a few example off the top of my head.

A persistent theme in American politics is that life is getting no better or worse for the current generation than the previous. But that just flies in the face of facts. People think crime is up in this generation compared to the last. In fact, once on TV, the former House speaker Newt Gingrich did not dispute the fact that crime is down but said that it is a problem that people think US crime rate is up. I thought the job of a government entity or company is to achieve something for an end, not make you think that it is achieving something without actually doing it. Here thinking differently is echoing what Warren Buffett has been preaching: that the opportunities and life in the US has never been better.

The last US election dramatically demonstrated common faulty thinking in many ways. One reason people voted for Trump despite so much of his nonsense is that the voters simply wanted change. But society is a fragile institution, change for the sake of change will almost certainly be negative. Just look at history. Many decent societies were made a wreck by flashy orators without substance. I can think of Nassar of Egypt, the Perons of Argentina, Castro of Cuba, and on and on. These people can initially create a sense of euphoria in the general population. But their people's lot hardly gets better. And eventually that fact becomes obvious because the new leaders have taken whatever is right in their society and replaced it with something that is not well thought out and clearly worse.

So far my examples have been about politics, but it is just as applicable in investing. Take Japan for example. The common narrative is that Japan is a greying xenophobic country that restricts immigration. But it is a culture that has been very successful in the past, and they just have a labour shortage because of a low domestic reproductive rate. But I have never heard anyone mention any other way to describe the Japanese mentality. In twenty or thirty years, I believe it is possible that Japan will be forced into allowing some limited forms of immigration to replenish the population. The countries wealth and success can easily bring in as much cheap labour as needed. For example, Japan can allow a few million Chinese or Koreans legal immigration status for periods of five to then years. That can easily revive the economy when they find they have no choice. I am not saying this scenario is a certainty. But I am saying that I have not heard anyone even contemplating such a thing. The uniformity of thought in the investing community towards Japan is palpable. In my opinion, that creates a mispricing of Japanese equities in general and that is why I invest in Japan.

Be Objective

For most of us who are part of mainstream society, we are conditioned to interact harmoniously with others. That is a necessary condition to be successful in our communities and organizations. The way we are taught as children illustrates this point. Many of us have heard the saying, "it's not what you say that matters, but how you say it". I believe, in the business world, the best way to get success requires the following mix. The soft skills are personal attributes that allow someone to interact effectively and harmoniously with other people.

I do not espouse the correctness of efficiency of the way the world works; it just is what it is. But I do know that I am relatively poor in the soft skills department. And I know I can get more reward for my effort by utilizing my skills a pure technical setting, like personal investing. To invest in one stock in one's personal portfolio requires the following mix. Note there is no use for soft skills.

However, this pie chart is hardly encouraging because it shows that a large component of success in picking one stock is still out of our control. It is luck. But if we buy a basket of relatively uncorrelated stocks and waiting long enough, say five years. Then the odds of success in the whole will have the following mix.

This is so because of the law of large numbers in probability theory. As the number of samples increases, the actual ratio of outcomes will converge on the theoretical, or expected, ratio of outcomes. Take a coin toss as an example. The theoretical number of heads and tails should be 50%. However, one toss, or sample, will result in either 100% heads or 0% heads. That is hardly the theoretical result. However, in the total of 100 tosses, the result will be something like 46 out of 100. The 46% result is very close to the theoretical 50% theoretical result. In simple terms, the more the samples taken, the less luck plays in the experiment.

But using one's technical skills to make investing decisions is not so simple. It requires constant vigilance. This is hard because it is very difficult to think objectively in our world. So much of what we perceive is based on subjective biases. Suppose an employee is given a point of view that he feels is wrong, but which is the view of his boss. Does the employee oppose his boss? Many times an employee doesn't because what he wants is not the success of the task or the company at hand, but it is his own personal success within the company. To do that requires being a "yes man". And when a person thinks like this often enough, I believe that person begins to believe that the expedient view is the truth. This kind of subjective mindset can corrupt our minds and has no place in personal investing. This is one of the reason's why the many people have trouble getting good returns picking his own stocks. Because they are not used to thinking this way.

I can think of many examples in the investing world where a lack of objectivity has been costly. Theranos is/was a thirteen year old private company claiming to be on the cusp of revolutionizing the blood testing world. The house of cards came tumbling down last year amidst revelations by the Wall Street Journals that the company did not do anything close to what they were claiming. Then came the soul searching. The medical and investment community were scratching their heads wondering how did they let such a scandal happen. In this video , Harvard Professor Bill George was asked if the "golden-girl" CEO Elizabeth Holmes got a pass on the scrutiny because she was a woman, and he said "..... I would like to see a lot more women successful women..... we all drank the kool-aid......". My opinion is yes, she definitely got a pass because she was a young attractive white woman in a world dominated by middle aged white men. You can see her photo below and judge for yourself.

Theranos CEO Elizabeth Holmes

As a result of this scandal reputations were destroyed, tens thousands of blood tests were recalled, and millions in investors money were flushed down the toilet. Theranos is a very poignant reminder to be very vigilant, skeptical and objective when it comes to one's own investment dollars!

Successful investing of course requires understanding of businesses, economic cycles and value/growth principles. These are technical skills described throughout this blog, in the media, in business schools and in books. But the knowledge I have pointed out here are those that I found extremely useful but which are not so well emphasized elsewhere. This knowledge is difficult to grasp, easy to forget, and can make a huge different in one's investment results.