A bit over a year after the stock panic.

September 16, 2012

I almost didn’t write here for a year so I came back today and was checking what I wrote last time I was around. So I want to verify how anyone that read my last stocks recommendations during the stock panic would have fared with my picks.
This was my post from last year: http://principleinvesting.wordpress.com/2011/06/15/stock-panic-yet-again/

Here the results.
Stock price on the date of the post, June 15, 2011. Stock price today. And % change.
USB 23.99 34.93 45.60%
WFC 26.55 36.13 36.08%
STI 25.41 29.91 17.71%
BAC 10.5 9.55 -9.05%
C 38 34.79 -8.45%
NVDA 16.77 13.84 -17.47%
AAPL 326.75 691.28 111.56%
GOOG 502.95 709.68 41.10%
ARMH 27.82 28.37 1.98%
AKAM 28.99 39.03 34.63%
INTC 21.42 23.37 9.10%
MSFT 23.74 31.21 31.47%
BRK-A 110700 133000 20.14%

So if you bought 1 single share of each …

You would be sitting on a 20.50% profit today if the market didn’t scare you back then. Not bad.

Now, you will notice that this is not a fair calculation since some stocks are worth more in $ than others. For instance, BRK-A is huge so the percentage change of it compared with others would affect the portfolio a lot if only 1 share was picked.

So I proceeded to calculate it in dollar amount. I created a portfolio of $1000 on each stock (obviously with brk-a you can’t but you could use brk-b instead). The result is even better, if you had purchased $1000 on each of the stocks you would be having a profit of 24.19% today.

On top of this add dividends, which I didn’t consider on this calculation. The good news is that some of them are still very undervalued!

It pays off to keep calm on stock market panics.

Gold fundamentals

September 26, 2011

This past friday, gold spot prices fell. Then I watched this lady on TV saying that she believed gold would bounce back because fundamentals remained strong.

I don’t do commodity trading although I know a bit about “fundamentals”. I really don’t understand what she meant by fundamentals though.

Commodities such as copper, iron, and in particular gold, increase in value under certain situations:
- Currency depreciation.
- Inflation (because it’s really, currency depreciation).
- Demand.
- Expectation of any of the above three.

None are because of a fly to safety.

If you open up a gold chart, you’ll see that it has more than double in the recent years. Mainly because people thought that inflation was going to shoot up, depreciating the currency and therefore increasing the demand for the metal. Anywhere you go here in Spain, you’ll now see “we buy gold” signs.

I’ve watched lot of interviews saying that gold would keep going up because on times of uncertainty, they buy the metal. I never agreed with this and it’s about to be tested. There is a huge worry about Greece defaulting and Europe collapsing with it. Gold should be shooting to the sky today but… this is today’s Yahoo Finance headline: “Gold eyes biggest 3-day fall in 28 years, investors flee”. Where are they fleeing for safety you wonder? cash.

The problem I see is that the only reason demand on gold has increased is because of expectations that it would keep going up. But no expectation about inflation or currency depreciation has happened yet.
Does this mean that gold will crash? I don’t know. But what i’m sure is that “fundamentals remain strong” is marketing bs. While inflation is low, interest rates are low and gold is not really demanded for any purpose but to speculate, there are no fundamentals in there to justify its current price. The only way you could justify it is if the expectations are in fact correct, in which case, they are already baked in and gold should not go much higher. But markets are not rational, so it can go anywhere until reality sets in.

What’s coming?

September 12, 2011

I’m going to risk a bit of market timing although I’ve always sucked at it. This is what I predict in the very short term:

1) This week iPhone 5 is coming out. Spring was already organizing sales for October and there is no way that Apple can ship devices to them on time unless they begin doing it right now. Aside from that, I’m already on 2 final betas of iOS products, which I cannot make public due to EULA but I can say that they are final. I doubt we hit friday without iphone 5 out, and since Steve Jobs is gone, i’m expecting they try to make a big splash on it. Maybe add the famous NFC to it?

2) Greece is gone. They’ve just hit a 60% interest rate on their 2 years note and 20% on their 10 years. No country whatsoever can handle that level of debt for an extended period of time, and they’ve been on that range for close to a year. I don’t think Europe would let them “just default”. It would be majorly stupid and a huge risk to the system. My guess is that they will schedule an orderly debt restructure in a way that they can protect their financial institutions. What’s next? who knows. I would set my eyes on Portugal, but with Greece out of the way I think the EU could have more leverage for bailouts on other countries.

3) European fiscal union. This won’t happen overnight, but I think we are setting the stones for it. We do want Eurobonds, but they can’t do so because we are all fiscally independent. On the other hand, while publicly saying that it’s not possible, if you pay attention all countries are adding fiscal restrictions to their constitutions. I think the govts are laying the ground work bit by bit on a fiscal union, so that after whatever happens to Greece, they are better prepared for the next one.

4) The fed will do “Operation Twist” on sept 21. What this means is that the FED will buy longer term Tresuaries to try to bring down the yield on the 20/30y bonds. They are already at record lows, but they want them lower to promote long term lending. I wouldn’t be surprised if they even bring back the 50 year bond. In any case, this is a safe strategy with almost no cost to the fed, so “Operation Twist” is practically a done deal.

5) US and the EU will give some kind of stimulus package. This can be on the form of Obama’s last idea, or a QE2.5 or QE3 or whatever. They are not going to let their economies collapse when they are so close to steady recovery.

6) Rafael Nadal will win the US Open today. Just because he is cool like that.

How to fix Europe.

August 19, 2011

Note: I’ve originally wrote this in Spanish but I decided to rewrite in English since it’s the main language of this blog.

The market keeps going down and although I’m optimistic and I’m buying, things are not looking good with nothing in sight to improve it. The problem is with Europe, there is no central leadership able to fix the economic mess over here. These are my suggestions to fix what we are going through:

1) Create Eurobonds. The faster the better. This means Europe has to become not only a currency union but also an economic and fiscal union. It does not make sense to have each country taking independent actions, following independent policies and playing like independent entities when we all share the same currency. This provokes that a few governments who are financially neglect can bring down the whole European Union. Unify it, create a central institution that manages it and removes power from political parties. Create a path to allow for Eurobonds.

2) Restructure debt. Greece cannot pay its debt. It’s mathematically impossible that any country paying close to a 20% interest for an extended period of time can pay its debt. This is not a credit card, it’s a country. We need to allow for a debt restructure, Greece cannot raise more taxes or ask anything more from its citizens without getting the government killed. At this point we either allow Greece to restructure its debt or they will be forced to leave the euro. They would need to print their own money and devaluate their currency, with all the trouble it would cause to the whole EU. This brings me to point 3.

3) Devaluate the Euro. It’s amazing, I remember when I lived in the US that the dollar/euro was about 1 to 1. Right now it’s 1 to 0.69, meaning that even after all this mess, the Euro is practically 50% stronger than a few years ago. It only makes sense because the US has been printing crazy amount of money, but still, only up to a point. We could let the Euro devaluate 20% without a problem, help exports and aliviate the debt for Greece. We either do this voluntarely or the market will force devaluation eventually.

4) Lower interest rates. In Europe with all the troubles we are having we had the wonderful idea to raise the interest rates, not once, but twice, just because we were worried about inflation. Inflation is the least of our problems right now. With high unemployment, lower cost of energy and slow GDP growth, inflation is a dormant beast. We also have the advantage that interest rates can be adjusted relatively fast, so even if inflation shows up, we can change the rates in no time. Meanwhile, we can lower the interest rates, lowering our borrowing costs, helping Greece and all countries in trouble and making our currency less attractive which would help with #3 and #2

The problem is that we either move fast or if things get out of hands they will explode on our face with not much room to maneuver.

Stock panic. Yet… wait, didn’t I just write this?

August 4, 2011

August 4, 2011. Interesting week and day “Stocks Sink Amid Global Economic Woes; Dow Plunges More Than 500, Worst Drop Since 2008″ on the main page of Yahoo Finance. Worst 9 days in 2 years and it was about to become the worst losing period since 1978.

I’m not here to give advice to anyone and I’m not going to tell you what you should do. I just do what I say and what my principles dictate me: I buy.
And I buy because I’m a value investor. Warren Buffett’s quote “A simple rule dictates my buying: Be fearful when others are greedy, and be greedy when others are fearful.” sums it up like only him and Ben Graham could. Buffett published this piece on the New York Times right in the midst of the Financial Crisis: http://www.nytimes.com/2008/10/17/opinion/17buffett.html Some people thought he was insane. The fact that after the piece was published the stock market went down some 20% more, didn’t help either. Nowadays his holdings are up between 70-100% in 2 years.

So just like him, I have no clue what the stock market is going to do tomorrow. But I see fear, lots of it. Some of it makes sense and lots not.
This is the situation. On March and April of this year, I was posting on my facebook account saying that the stock market was going up way too fast. It just did not make sense. If you remember, during that period there was the “Arabian Revolution”, Lybia, Egypt, the whole nine-yards going practically on civil war. Oil was skyrocketting. European crisis unfolding. Then Japan earthquake and following nuclear crisis. It would affect all sales, manufacturing and distribution of the auto and tech industries for months to come. What did the stock market do meanwhile? It went up more than 15% in a few months. THAT was insane. Everybody knew that nothing on that list was good for the economy. The projections for growth were hammered, the earnings projections trimmed. Stocks kept waving up and down. With every up day, there was some “finally this seems over” article, and with every down day, there was some “this is only the beginning” article. In short, noise, lots of it. But you have to focus, on macroeconomic news, did it make sense that the stocks were up 15% for the year? No. If the market had only factored in the real news.

So after the “crash” that we are seeing today, people are freaking out that the economy is going to go back on recession and everything is going to collapse. Possibly we are also going on food stamps!… where are we after all? We are exactly at the same level than on January 2011 (or close to May 2010 slide).

So I’m here to tell you: relax. Check the big picture, literally:
Dow Jones Graph

That’s the Dow Jones graph for 2 years. Can you sincerely say looking at the graph that we are on bad shape? I mean, the stock market has just gone through a correction. That’s it. Plain and simple. They happen constantly. Check again that graph. Look at Feb 2010, then May 2010, then March 2011, then May 2011 and then August 2011. They do happen const-ant-ly (spelling and syllable spliting was never my strength on english).

Should you buy then? I don’t know. I’m buying. I have no clue whether the stock market will fall another 10% or go up 30% tomorrow. The stock market is a moody jerk. But from my point of view, today things are way cheaper than yesterday. And way cheaper than 3 months ago. I see no surprise on the numbers at all, this was expected: stagnant growth after everything that has gone on for months. All the problems take 2 to 3 months to make its way through the earning reports. No biggie. Surprisingly 78% of all the S&P500 companies beat the earnings estimates. Things were actually better than expected.

What’s my take on this? I believe that in a few months, probably 2 or 3, with current oil prices down, interest rates near zero, no more supply disruptions, Europe taking care of the crisis, likely a QE3 of some kind and current horrible expectations for growth, companies will most likely post earnings way better than expected. I may be wrong, and I suck at timing the market, but with companies like Morgan Stanley at 70% book value, Wells Fargo at less than book value and Foster Wheeler at 50% discount even after beating estimates by a wide margin, I think I can take my chances.

In any case, remember, we are in a better situation today than yesterday. You can buy the same value cheaper!

But if you can’t handle another 10% drop… then you should probably not be investing, because ups and downs of 20% are the normal on the stock market. My suggestion is to plug some classic music into your ears and look at the numbers without reading the news. Do they look cheap? If not, no need for the news, you are out, if yes, check the news to see whether something that really has an effect on your numbers is being said. Most likely that Congress raised the debt ceiling is not going to have an effect on my chocolate or diet coke intake. Both seem like safe investments.

Stock panic. Yet again.

June 15, 2011

I’ve been losing money these past weeks… but I’m buying more the more they fall. I think financials for instance, are greatly undervalued at this point. I’m not a trader and I’m horrible at timing the market, but I seem to be good at picking undervalued companies that move on my direction after a few months. USB, WFC, STI, BAC, C… they are all cheap. Even if basel 3 is applied to them, they are oversold.

Tech sector seems to be in a similar situation, NVDA, APPL, GOOG, ARMH, AKAM, INTC, MSFT… it’s just wonderful time to pick them up. Apple might surprise to the down side which would push all of them down but the truth is that mobile devices are selling like ice cream on summer and people don’t realize that not only Apple manufactures those devices. If and when iphone5 is announced, wait for an Apple bounce. Also any mobile device selling means ARMH should get income. Any new tegra2 or tegra3 chip selling means NVDA. Increase on mobile is always good for GOOG, and any news on Intel and its new mobile chip will push its stock up. Akamai should move higher, last time I’ve checked we are not reducing our internet usage. And Microsoft is the king of undervalued, even with no growth, they just need to release anything that produces a bit of income to move that stock up. Windows for ARM chips could be a catalyst.

And then don´t get me started on BRK. It has never been this undervalued as long as I can remember.

So sleep tight and buy cheap while you can. Just don’t put money you are going to need in the short term into this. I leave the market timing to brighter minds.

My latest stock comments

June 13, 2011

I haven’t posted on a long time since I’ve been more busy with the personal blog. Check http://www.joaquingrech.com to see what I’ve been up to.
Nevertheless, I figured it’s not a valid excuse to be busy to not update my blog. Not much of a blog if I don’t post entries right?

After a pretty “relaxing” 2010 on the stock market (by relaxing I mean it went mostly up), now we are back into panic mode. I enjoy these periods because they are usually the best for picking up undervalued great companies. I love in particular one index, the IBEX-35. I’m from Spain and live in Spain, the IBEX-35 is the spanish index of 35 biggest companies. Nobody likes Spain’s economy nowadays, but most importantly, nobody even in Spain thinks this is going to improve at any moment. I believe this is a great buying opportunity. For a long time I didn’t like the IBEX, it just didn’t make sense that with the economy on a 20% unemployment we almost had a correlation of 1 to 1 with the S&P500. The US stock market was up 50% and so was the IBEX, but clearly our economy was not even close to that level of improvement. What did happen? The IBEX has tanked for most of 2010 and fell out of favor. It’s currently at the 9,991 level at which great companies such as Banco Santander, BBVA, Telefonica and Iberdrola are at almost their 52 weeks low while providing dividend payments of 5% and above.

I own all those companies and I’m also buying EWP, which is the Spanish index from iShares. 5% dividend payment while growing with the Spanish economy as a whole. Will I be wrong? who knows, but I just can’t bet against Spain when the fear of collapse is so high and the economy has tanked for such a long period of time. To me it seems to be completely overdone at this point with armageddon already priced in.

What other picks did I comment on during the year?

First, let me say that I almost never short stocks, so eventhough if I mention that a stock is horribly priced, the most I usually do is buy put options on it. Risk/rewards are not good for short sellers on most occassions. Having said so, my latest comments at Fool.com:

China Biotics, CHBT. Recommendation: Sell. Recommendation at $7.57, current price $4.26. (profit so far 45.84%)
“Already 2 serious sources indicate this to be fraud. You can see the stock price just keep going down the more reports come out.
So far nobody has been able to identify their customers. The list of customers that they made public, were contacted by researchers and none were able to confirm operations with them. The company states to have about 400 employees but visits to their offices were not able to see more than 30-50 people.
All in all, it seems that although operational, they have vastly overstated production, income, earnings and most other important figures.”

TBS International, TBSI. Recommendation: Sell. Recommendation at $1.53, current price $0.93. (profit so far 39.22%)
“I was majorly hurted by this purchase. I went into it without even reading the 10k just based on what other people was saying. Biggest mistake of the year, i’m down 50% on real $. I took the time to pull out the 10k and analyze it in detail before deciding to sell/buy it and this is my conclusion:

This company is burning cash, way too fast. The issue is that due to a slowdown in the sector they are not generating cash flow. To finance themselves they’ve pulled a bunch of loans but what they used to be long-term debt are not short-term debt. To give you an idea they ended 2010 with $332mm debt due this year and only with $18mm cash and total current assets of $80mm. Basically the only way to raise the cash with their income is to begin selling assets quick. You know that’s not a good sign already.

If they are able to raise some cash to survive this year, they might be able to not go kaput, but as an investment that’s highly speculative. Looking at the debt, assets and market cap, the company is worth more dead than alive, and I don’t feel it can beat the market at this moment.

I’m flipping my outperform (wihout analysis) to underpeform (after looking at it myself). Conclusion, do your own reseach so at least when you get burned you learn something from your mistake.”

Rino International, RINO.PK. Recommendation: Sell. Recommendation at $2.00, current price $0.54. (profit so far 72.95%)
“seems to be on the way to bankruptcy”

JBI, Inc. JBII.PK. Recommendation: Sell. Recommendation at $0.65, current price $3.90. (lost so far 496.17%)
“wow, i have a negative 400s score on this one… that’s why i almost never short stocks on real life.
In here though, I have the time to be proven right without going bankrupt and I just don’t see the numbers adding up for this company.”
I will write more about this stock in next post since it’s a perfect example of why not to short stocks. This stock reminds me of Wicked’s soundtrack “Defying gravity”: http://www.youtube.com/watch?v=0eF06fNK3Ng
Even if I’m proven right later, imagine a 5 times your investment lost. It would have wiped out all your gains from previous investments.

Kraft Foods, KFT. Recommendation: Buy. Recommendation at $25.05, current price $34.15. (profit so far 36.80%)

SunTrust Banks, STI. Recommendation: Buy. Recommendation at $26.63, current price $25.40. (lost so far 4.38%)

US Bancorp, USB. Recommendation: Buy. Recommendation at $22.96, current price $24.28. (profit so far 6.06%)

General Electric, GE. Recommendation: Buy. Recommendation at $14.68, current price $18.40. (profit so far 25.54%)

Johnson & Johnson, JNJ. Recommendation: Buy. Recommendation at $53.81, current price $66.22. (profit so far 24.04%)

Pfizer Inc, PFE. Recommendation: Buy. Recommendation at $14.24, current price $20.52. (profit so far 44.08%)

Becton, Dickinson & Company, BDX. Recommendation: Buy. Recommendation at $64.87, current price $84.98. (profit so far 31.40%)
“I trust Buffett” (not exactly the best analysis, but hey, at a P/E of 10 with Buffett backing it… I kiss it blindfolded).

And that’s all for a quick summary.

Why I don’t give a WACC about Beta

July 29, 2010

One comment I always get when I worry about my financial management exams is: come on, you are an expert on this.

It seems to be a missunderstanding that since I invest and read tons about investing, I must be some kind of guru in all financial matters. Well, this is not true, I don’t get many As on finance, I don’t have a CFA and most likely would do horribly at it since I have a memory span of a fish. This, nevertheless, never stopped me from investing. From my point of view, if for investing I need to do something so complex that I don’t understand it… I don’t invest on it. I go for what I consider easy stuff, why bother if my IQ can’t hit that line? As David Allen very wisely told me: “To be rich, you don’t even need to be smart, just in case that worried you.”

So I knew what WACC was, but I’ve never had to use it. It includes Beta, and I’m mostly allergic to it. I had a conversation with one of my financial profs where I explained why I didn’t believe in Beta. He/she argueed that it was the best thing without any doubt to measure investment risk. When I asked how much he/she had made investing using this method, the reply was: “I believe the stock market is a lottery so I don’t invest.”

Good that he/she teaches it as an investment tool then.

So why I don’t believe in Beta or diversification for that matter? Because long ago I read this and I fully agree. It makes sense and it comes from a very trusted source.

The strategy we’ve adopted precludes our following standard
diversification dogma. Many pundits would therefore say the
strategy must be riskier than that employed by more conventional
investors. We disagree. We believe that a policy of portfolio
concentration may well decrease risk if it raises, as it should,
both the intensity with which an investor thinks about a business
and the comfort-level he must feel with its economic characteristics
before buying into it. In stating this opinion, we define risk,
using dictionary terms, as “the possibility of loss or injury.”

Academics, however, like to define investment “risk”
differently, averring that it is the relative volatility of a stock
or portfolio of stocks – that is, their volatility as compared to
that of a large universe of stocks. Employing data bases and
statistical skills, these academics compute with precision the
“beta” of a stock – its relative volatility in the past – and then
build arcane investment and capital-allocation theories around this
calculation. In their hunger for a single statistic to measure
risk, however, they forget a fundamental principle: It is better
to be approximately right than precisely wrong.

For owners of a business – and that’s the way we think of
shareholders – the academics’ definition of risk is far off the
mark, so much so that it produces absurdities. For example, under
beta-based theory, a stock that has dropped very sharply compared
to the market – as had Washington Post when we bought it in 1973 -
becomes “riskier” at the lower price than it was at the higher
price. Would that description have then made any sense to someone
who was offered the entire company at a vastly-reduced price?

In fact, the true investor welcomes volatility. Ben Graham
explained why in Chapter 8 of The Intelligent Investor. There he
introduced “Mr. Market,” an obliging fellow who shows up every day
to either buy from you or sell to you, whichever you wish. The
more manic-depressive this chap is, the greater the opportunities
available to the investor. That’s true because a wildly
fluctuating market means that irrationally low prices will
periodically be attached to solid businesses. It is impossible to
see how the availability of such prices can be thought of as
increasing the hazards for an investor who is totally free to
either ignore the market or exploit its folly.

In assessing risk, a beta purist will disdain examining what a
company produces, what its competitors are doing, or how much
borrowed money the business employs. He may even prefer not to
know the company’s name. What he treasures is the price history of
its stock. In contrast, we’ll happily forgo knowing the price
history and instead will seek whatever information will further our
understanding of the company’s business. After we buy a stock,
consequently, we would not be disturbed if markets closed for a
year or two. We don’t need a daily quote on our 100% position in
See’s or H. H. Brown to validate our well-being. Why, then, should
we need a quote on our 7% interest in Coke?

In our opinion, the real risk that an investor must assess is
whether his aggregate after-tax receipts from an investment
(including those he receives on sale) will, over his prospective
holding period, give him at least as much purchasing power as he
had to begin with, plus a modest rate of interest on that initial
stake. Though this risk cannot be calculated with engineering
precision, it can in some cases be judged with a degree of accuracy
that is useful. The primary factors bearing upon this evaluation

1) The certainty with which the long-term economic
characteristics of the business can be evaluated;

2) The certainty with which management can be evaluated,
both as to its ability to realize the full potential of
the business and to wisely employ its cash flows;

3) The certainty with which management can be counted on
to channel the rewards from the business to the
shareholders rather than to itself;

4) The purchase price of the business;

5) The levels of taxation and inflation that will be
experienced and that will determine the degree by which
an investor’s purchasing-power return is reduced from his
gross return.

These factors will probably strike many analysts as unbearably
fuzzy, since they cannot be extracted from a data base of any kind.
But the difficulty of precisely quantifying these matters does not
negate their importance nor is it insuperable. Just as Justice
Stewart found it impossible to formulate a test for obscenity but
nevertheless asserted, “I know it when I see it,” so also can
investors – in an inexact but useful way – “see” the risks inherent
in certain investments without reference to complex equations or
price histories.

Is it really so difficult to conclude that Coca-Cola and
Gillette possess far less business risk over the long term than,
say, any computer company or retailer? Worldwide, Coke sells about
44% of all soft drinks, and Gillette has more than a 60% share (in
value) of the blade market. Leaving aside chewing gum, in which
Wrigley is dominant, I know of no other significant businesses in
which the leading company has long enjoyed such global power.

Moreover, both Coke and Gillette have actually increased their
worldwide shares of market in recent years. The might of their
brand names, the attributes of their products, and the strength of
their distribution systems give them an enormous competitive
advantage, setting up a protective moat around their economic
castles. The average company, in contrast, does battle daily
without any such means of protection. As Peter Lynch says, stocks
of companies selling commodity-like products should come with a
warning label: “Competition may prove hazardous to human wealth.”

The competitive strengths of a Coke or Gillette are obvious to
even the casual observer of business. Yet the beta of their stocks
is similar to that of a great many run-of-the-mill companies who
possess little or no competitive advantage. Should we conclude
from this similarity that the competitive strength of Coke and
Gillette gains them nothing when business risk is being measured?
Or should we conclude that the risk in owning a piece of a company
- its stock – is somehow divorced from the long-term risk inherent
in its business operations? We believe neither conclusion makes
sense and that equating beta with investment risk also makes no

The theoretician bred on beta has no mechanism for
differentiating the risk inherent in, say, a single-product toy
company selling pet rocks or hula hoops from that of another toy
company whose sole product is Monopoly or Barbie. But it’s quite
possible for ordinary investors to make such distinctions if they
have a reasonable understanding of consumer behavior and the
factors that create long-term competitive strength or weakness.
Obviously, every investor will make mistakes. But by confining
himself to a relatively few, easy-to-understand cases, a reasonably
intelligent, informed and diligent person can judge investment
risks with a useful degree of accuracy.

In many industries, of course, Charlie and I can’t determine
whether we are dealing with a “pet rock” or a “Barbie.” We
couldn’t solve this problem, moreover, even if we were to spend
years intensely studying those industries. Sometimes our own
intellectual shortcomings would stand in the way of understanding,
and in other cases the nature of the industry would be the
roadblock. For example, a business that must deal with fast-moving
technology is not going to lend itself to reliable evaluations of
its long-term economics. Did we foresee thirty years ago what
would transpire in the television-manufacturing or computer
industries? Of course not. (Nor did most of the investors and
corporate managers who enthusiastically entered those industries.)
Why, then, should Charlie and I now think we can predict the
future of other rapidly-evolving businesses? We’ll stick instead
with the easy cases. Why search for a needle buried in a haystack
when one is sitting in plain sight?

Of course, some investment strategies – for instance, our
efforts in arbitrage over the years – require wide diversification.
If significant risk exists in a single transaction, overall risk
should be reduced by making that purchase one of many mutually-
independent commitments. Thus, you may consciously purchase a
risky investment – one that indeed has a significant possibility of
causing loss or injury – if you believe that your gain, weighted
for probabilities, considerably exceeds your loss, comparably
weighted, and if you can commit to a number of similar, but
unrelated opportunities. Most venture capitalists employ this
strategy. Should you choose to pursue this course, you should
adopt the outlook of the casino that owns a roulette wheel, which
will want to see lots of action because it is favored by
probabilities, but will refuse to accept a single, huge bet.

Another situation requiring wide diversification occurs when
an investor who does not understand the economics of specific
businesses nevertheless believes it in his interest to be a long-
term owner of American industry. That investor should both own a
large number of equities and space out his purchases. By
periodically investing in an index fund, for example, the know-
nothing investor can actually out-perform most investment
professionals. Paradoxically, when “dumb” money acknowledges its
limitations, it ceases to be dumb.

On the other hand, if you are a know-something investor, able
to understand business economics and to find five to ten sensibly-
priced companies that possess important long-term competitive
advantages, conventional diversification makes no sense for you.
It is apt simply to hurt your results and increase your risk. I
cannot understand why an investor of that sort elects to put money
into a business that is his 20th favorite rather than simply adding
that money to his top choices – the businesses he understands best
and that present the least risk, along with the greatest profit
potential. In the words of the prophet Mae West: “Too much of a
good thing can be wonderful.”

From Warren Buffett in 1992 annual report. Full text in:


A Year After a Cataclysm, Little Change on Wall St.

September 12, 2009


The article and the video at the left is great.

A new paradigm… for those who don’t study history

May 31, 2009

During the current crisis, I often read or hear people talking about how we are in a “new era”, living a “paradigm shift” or “the end of wall street as we know it”. People have short memory span and although never exactly the same, history does rhyme, or as the saying goes, the more things change, the more they remain the same.

Please, play with me this little game. Let’s see whether you are able to identify the time of this happenings and whether you find similarities with anything in the past:

“As the long bull market was reaching its final peak in XXXX another mistake ocurred. To understand what happened it is necessary to recreate the psychological fever which gripped most investors in technological and scientific stocks at that time. Shares of these companies, particularly many of the smaller ones, had enjoyed advances far greater than the market as a whole. During XXXX and XXXX only one’s imagination seemed to cap the dreams of imminent success for many of these companies. Some of these situations did have genuine potential, of course. Discrimination was at a low ebb. For example, any company serving the computer industry in any way promised a future, many believed, that was almost limitless. This contagion spread into instrument and other scientific companies as well.”

Can anyone approximate the year?

What about this one?

“Incompetent, dishonest, and fraudulent behavior by corporate executives, boards of directors, auditors, investment bankers, security analysts, and other market participants. They exaggerated revenues, embellished earnings, and concealed debt, all to make the company’s financial performance look better than it was. The payoffs for the executives were higher share prices that allowed them to turn their stock options into gold. For the auditors and financial firms doing business with these companies, the payoffs were lucrative consulting contracts and underwriting fees. The exposure of the chicanery left large parts of the investing public without faith in the honesty and fairness of financial markets and with less inclination to participate in the future. The guardians failed to do their jobs. The bubble market made many forget about the riskiness of the stock market, and the collapse of the bubble made many exaggerate it, helping to delay recovery.”

Game on.


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