McRae Reports Solid Earnings, Bruce Fund Update

My small cap portfolio is at five stocks, McRae Industriies (MRINA) is my largest. The company reported earnings of $1.26 and $2.13 per share for the second quarter and first half year. The current first half year earnings are a 69% improvement over the first half last year. The stock jumped 10% on the news. This confirms to me that even small pink sheet stocks will move with earnings.

The chart summarizes McRae's financials. The earnings are based on the projection of the last two quarters.

McRae is the first of my five small caps. See this earlier post for the list. My small caps stocks have a few key common themes:

• they are geographically diversified
• their country of origin is a leader in their industry; e.g., Greece is well-known for its shipping industry
• they are all either trading at net-net or, in the case of Globus Maritime, the stock trades at a small fraction of book value
• they have consistently been profitable in at least the last five years

I am a conservative investor and this is a very conservative portfolio. Some blogs I have read contain stocks that are losing or barely making money. I avoid them. This selection criteria has turned out well (for the most part) in the short time I've owned these stocks. Of course, as luck would have it, Globus Maritime had its first two losing quarters just after I invested. Nonetheless, I have added to my position after a 33% drop.

I do wonder, however, if this blog has any short term influence on the prices of my stocks. If it does it is definitely not intentional. Firstly, I would tell any listener that if he or she wants to invest, the only way is to do his or her own research. Don't rely on second hand information (like this blog), especially for small cap low volume stocks which can be easily manipulated. Secondly, I am a long term investor. My holding time is typically 3 to 5 years. So any short term effect from this blog would fade by the time I want to sell.

On a final note, I just got the semi-annual report from The Bruce Fund. This is the only mutual fund that I own. As I mentioned earlier, I feel owning it adds something of value to my portfolio.

I admire the father and son team that run the fund. They charged $1mil (in a half year) for managing a $300mil fund. I feel that is a small change to collect for performing in the top 1% of their category for the last decade. Partly because of this, they aren't influenced by their investors and the whim of the markets. They stick to their guns.  In the last half year the fund's results lag the market, 4.72% vs 5.95%.

I pay attention to what they say. They now have the fund in a very defensive position with less than 50% common stock. They anticipate "equity deflation" and are only finding value in large caps, stocks with dividends and special situations. I am thinking I agree with them, that's why I am patiently waiting on my CSCO, MSFT and Intel to go up.

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This post initially had incorrect data and was corrected.

Two recommendations: "Margin Call" and "Free Capital"

In this post, I'll take a break from stocks and instead recommend a movie and a book.

The movie recommendation is "Margin Call", a relatively understated suspense drama about the unravelling of a major fictional New York investment bank in 2008. As one can guess, the drama is caused by Mortgage Backed Securities (MBSs), the crap that brought down Lehmans Brothers and Merril Lynch.

I liked the movie because it is very believable and it did not over-dramatize the tense, career breaking, life shattering moments of the movie. I'll support my points a little without spoiling the ending too much.

The movie plays out in a 36 hour period and starts as a do-good manager is shown the door during a massive layoff. Before he leaves, he hands a subordinate some files he has been working on. Those files purport to show that the company's exposure to the MBSs are about implode. Over the course of the evening, morning and next trading day, the drama plays out as executive after executive and finally the CEO is alerted to the info and they attempt to contain the fallout.

I enjoyed the drama, because firstly I didn't see the over-dramatization and the overacting that is so prevalent in Hollywood. Secondly, I liked how the movie shows that all people are complex and torn by greed and principle. I couldn't find a clear villain in the movie although certainly some are more responsible than others for the mess. And everyone in the end was able to be bought for the right amount of cash. And thirdly, I found that the movie portrayed bankers more as clueless buffoons than the stereotypical knivving fat cats. This is also my view from several books about the 2008 crisis.

My second recommendation is the book "Free Capital" by Guy Thomas. I read about it in oddball stocks. The book is the first that describes people with nonfinancial backgrounds who become full time investors. The book mentions a dozen millionaires, all between 40 and 60 who now manage their own money. A few of the subjects have financial backgrounds but most just stumbled on investment by accident. For example, one could be dissatisfied with his job, or another may do it out of necessity because he could not find another way to generate income. This book contains many insights and lessons from others that may help me in my investments. It is definitely one of the top books I've read on finance.

Why I Own Installux SA

I just bought my fifth small cap stock. It is Installux SA, a French manufacturer of aluminum products. I found all my previous four small caps on various screeners. But I found this one an article in another investor blog.

The company's English website explains what it does:

The strategy of the Installux Group rests upon three major principles: the use of a single material, aluminium, the distribution of products via a network of professionals (metal workers, ironsmiths, silverers, awning dealers, fitters, partition dealers, wholesalers), and the targeting of niche markets rather than big volumes.

We are present in three distinct yet complementary business sectors: building and residential improvement (Installux Aluminium), ready-to-install (Roche Habitat), fitting of tertiary and commercial spaces (Sofadi-Tiaso).

Installux is like most of my other small caps. It is consistently profitable, with TTM PE of less than 10, and it has a great balance sheet. See chart below.

As the chart shows, the company trades at almost the net-net, which I define as total current assets minus all liabilities.

I used translate.google.com to read the company's financials in English. But I admit it is still tough going. The valueandopportunity blog mentions the company is majority owned by Christian Canty. I cannot find confirmation of that but I will assume that for now. I do know that Mr. Canty, who is 67, is grooming his son to run the company. I have had good experiences with family majority owned businesses; namely, Seaboard and McRae Industries. It makes sense that you can trust such companies more because the majority owner who effectively runs the company has exactly the same long term objectives as shareholders like me. This contrasts with a CEO who has a small share of the company and who is compensated by stock market performance. Think of a CEO who has a large stock option package. That CEO is motivated to create volatility in the stock price. If the price goes up, the CEO gets stock option payoff, but if the price goes down, he doesn't have to return the payoff. And he may even get more shares at the lower price. Talk about rewarding bad performance. This illogical situation extends to the hedge fund world. A hedge fund manager typically gets 20% of profits, but he doesn't have to return 20% of his losses

On a final note, I have built a portfolio of five small cap stocks now, most of which are foreign based companies. I expect to end up with about ten such stocks in this portfolio, with a value of about 25% of my net worth. To do this, I have sold some of my other holdings. I have closed out my St. Joe position, with a +20% gain. The following table summarizes my small caps. All gains are in local currencies.

Stock	Market	Notes
McRae Industries	OTC (USD)	+15% in 6 months
Globus Maritime	NASDAQ USD (Greece headquarters)	-30% in 6 months
Installux SA	Paris (Euro)
Riken Keiki	TSE (Yen)	+10% in 2 weeks
Tachibana	TSE (Yen)

SEB Quarterly Update

Seaboard (SEB) report year-end earnings last week. They earned $234 per share for the year. I liked their recent consistent quarterly performance. To me, SEB is in a very cyclical and low margin business. But for the last three years the company consistently earned more than $230. This gives SEB a PE of 12. I like companies with PEs around 10 that are consistent and boring. SEB fits the bill. The following chart shows the company's balance sheet and earnings. I have multiplied the PE by my ideal ratio 10.

The chart shows the market cap starting to get high relative to earnings and net-net — I define net-net as total current assets minus total liabilities. I feel if it enters $3000 per share from $2800 today, my SEB story would have played out and I would liquidate as much as taxes would allow. In fact, I am selling a bit here and there as I find better investments.