F Wall Street Comments

On What/'/s On Your Mind

Amit D. — Tue, 19 Aug 2008 16:28:20 -0600

Amit D. said:
If there's anything that I would love you to elaborate for us (I've e-mailed you about this).

We seem to be doing quite well on the quantitative aspects. Regardless, we haven't really explored the psyche of Corporate Governance.

Issues such as:

- Annual Cash incentives
- Long-term Equity Incentives

What should be the TARGETS for which management should be receiving compensation on? Some companies will focus on EPS Diluted claiming it helps them retain focus from the top to the bottom line. Other companies, reward based on ROIC metrics and FCF efficiency (FCF/Net income).

Just to name a few! This has got to be one of the most important aspects given that management is CRUCIAL in our investments.

On Value Investing vs. Value Pretending

Amit D. — Tue, 19 Aug 2008 15:48:34 -0600

Amit D. said:
Hey Trader,

To clarify a few points. negative equity growth may occur when a company repurchases a substantial amount of its shares (remember treasury holds those repurchased common shares <--this implies a cost to shareholder's equity).

Its true that a low CROIC company can achieve high FCF growth by taking on debt. You can see this from Kraft, which has low CROIC with alot of debt on the balance sheet. Interestingly, Kraft has NOT been able to increase FCF within the last 10 year time frame.

Even more interesting, Warren Buffet has purchased shares of Kraft implying that he believes that the debt will be used as efficiently as possible with management's refocus on reorganizing the company for growth with its focused brands once expense systems are properly in place.

As Ponzio has taught us in previous posts, it is not the historical FCF growth that matters as much as THE FUTURE FCF growth. Thus, management's expertise and honest corporate governance guidelines render increasing chances of enjoying modest sustainable long-term Growth.

Also, to answer your main question, shareholder's equity growth is important as it is one of the facets of creating investment value. One facet is the future cashflows, and the other is the net worth. Of course, management can return shareholder's equity through various methods: sharebuybacks, dividends. But it is NOT always in the best interest of sharehodlers for management to use shareholder's equity(i.e buying back disproportionally high amounts of shares when they are at their most expensive). In sum, there is alot of positives to be drawn from a company that has increased shareholder's equity by 7-10% CAGR while re-purchasing shares (10 year time-frame), it shows you that management has used equity efficiently while returning some of the gains to the investors.

I hope this helps a little ;)

On Value Investing vs. Value Pretending

Trader — Mon, 18 Aug 2008 23:17:29 -0600

Trader said:
Hi Joe,

Does FCF translate into dividends and equity in the long run ? A low CROIC company can achieve high FCF growth by taking on debt. What does it mean if CROIC is high, but FCF growth is close to zero ? I was looking at morningstar data for UST and that is what I find.

Also, UST has a negative equity. and because of that it has boosted the CROIC calculation. So, negative equity is good for CROIC, so why do we be concerned about increasing value of shareholder equity ?

I am very confused on how equity growth, FCF growth and CROIC growth ties together.

On Intrinsic Value, With Short-Term Results

alajac — Mon, 18 Aug 2008 13:46:46 -0600

alajac said:
To everythihng there is a season.

The market indexes `always go up over time` because they offload losers and recruit winners to take their places.

Intrinsic value only exists `god willing and the creek dont rise`. The creek is rising and all bets are off. The stocks that make up the indexes have MANY splits that can be unwound. Just because a stock is low-priced does not mean it cant get reversed-split and start back down again.

AEO looked bad on a stockchart in January and still looks just as bad today. Think about maybe investing in the Salvation Army stores. WMT looks good but is probably not a value play.

On American Eagle Outstanding

Amit D. — Mon, 18 Aug 2008 12:24:58 -0600

Amit D. said:
Darren, I'll tell you its Mr. market. IRRATIONAL FEARS Drive the market.

Remember Buffet's quote, it goes something like this. The stock market is a voting machine in the short-term; nevertheless, the long-term , it has proven to be a weighing machine(companies with strongest fundamentals will go up, while more speculative investments will show up as losers). The reverse is said, in the short-term, popularity and NOT rational investing principles guide the market.

On F Wall Street Investment Performance

Rene — Sun, 17 Aug 2008 23:45:34 -0600

Rene said:
Here is the part I find baffling about some value investor's picks. Let's take Joe's pick of AEO, Buffett's pick of BAC and Miller's pick of certain (I forget which) homebuilders. All of these picks went south precipitously after they were bought. I looked at all of them at the time the acquisitions were made public and they all looked like great value plays at the time, if you just looked at the numbers. But then I stepped back from the numbers and thought about the macro environment of each industry (consumer discretionary, financial and home building and saw nothing but a huge blinking sign that screamed "value trap".

It was hard. I remember I was tempted to buy BAC at around 37 and then again in the high twenties, but I couldn't do it. I remember thinking, "you must be some kind of clinical narcissist to think you are smarter than Warren Buffett". BAC is now on the way up again and I'm still happy that I didn't buy it even at the bottom. Home builders? I don't care if it is Bill Miller, that one truly baffles me. Finally there is Joe's AEO. I looked at it again after this post and going by the numbers it is as good as some of my favorites, maybe even a little better, specially at the current price, but I still can't imagine it. I can't imagine the American consumer buying anything but the bare essentials for quite a while.

So this is what I don't get. It just appears to me, that sometimes, great value investors don't get their nose out of the SEC filings long enough to smell the coffee or hear the rumble of several banks, home builders and retailers crumbling. I know all three of these people are smarter than me by a magnitude of several and have forgotten more about investing than I'll ever know, which probably explains why I just don't get it.

On Value Investing vs. Value Pretending

Daniel DeBellis — Sat, 16 Aug 2008 19:05:44 -0600

Daniel DeBellis said:
I agree, there are a bunch of pretend value investor out there. Those that sell it as a style to gain more funds and those who misunderstand its meaning and buy an equity because it's some percentage off its high. The market will test these people.

On the issue of volatility, I also agree it is trending up. Are people in general adding to or removing emotion from their decisions...are they becoming more rational? In an over communicated society, drowning in information and complexity...where's the simplicity and wisdom? How many guess vs understand?

A billion or two new capitalists. Baby boomers who need to cheat time. Story tellers trying to trump reality at every turn. Fee driven behavior. It's an emotional issue first and foremost. Having the temperment to be a value investor is rare. When you live in a culture that's not conducive it's even more so. EMH is a delusion. Value investing has a bright future which is inversely proportional to the size of the sum you are investing.

On Value Investing vs. Value Pretending

alanb9 — Sat, 16 Aug 2008 17:28:47 -0600

alanb9 said:
Did you write about LNY? If you did, I missed it and can't find it.

On Value Investing vs. Value Pretending

Mark — Sat, 16 Aug 2008 17:01:24 -0600

Mark said:
My brokers advertising incentive to promote business investing reads as follows "Want a 100% return on your Share PacK?" (their new investment product) Simply purchase your Share Pack and write to us in 25 words or less why you invest with.......... and we will double your investment. Buisness investing? Ha, I dont think so. More like maintaining revenue.

On Value Investing vs. Value Pretending

Rene — Sat, 16 Aug 2008 10:47:23 -0600

Rene said:
An investing education is a necessary but insufficient condition for success. Without an education you can not have even the most rudimentary investing philosophy, much less a plan. However, emotional and/or psychological factors are far more important. A lot of people reduce their education to a few aphorisms or "bumper stickers" ("never catch a falling knife", "be fearful when others are greedy...", "don't trade on the news", etc.) without examining what the slogan means and when it applies to a current situation and when exception is warranted. The mind can come up with all kinds of reasons (rationalizations) to justify what the emotions want to do.

I don't try to pretend that I'm above greed, fear, gross error and wishful thinking. Instead, I try to avoid situations where I'm vulnerable to them. Not everyone is vulnerable to the same pitfalls though, so knowing yourself is paramount. For example, most people apparently should follow the advise to not read the news and watch the ticker everyday. In my case, I do just that and it doesn't push my fear/greed buttons, but instead gives me a bead on what the market psychology is on stocks that I have already decided I want to own. It is also an endless source of mirth and entertainment to me to watch the gyrations and contortions of modern "investors" on a daily basis.

If you have done your due diligence and have a list of five to ten stocks that you want to own and are just waiting for Mr. Market to have one of his periodic irrational movements and offer them to you at bargain basement prices, the worst that is likely to happen to you is that he never does meet your price and you lose your opportunity. If you love it when your top holding loses 30% of its value, thus giving you an opportunity to add to your position, then I would say you are a real value investor. If on the other hand, fear takes over and you remember reading that some famous investor recently said "Never, NEVER, add to a losing position", then you are not.

On Value Investing vs. Value Pretending

John P — Sat, 16 Aug 2008 10:42:57 -0600

John P said:
Joe, you hit it right on the head with this statement:

What differentiated Warren Buffett from Aunt Bea and Grandpa Earl? ...the breadth and scope of their respective Spheres of Confidence and Competence.

I truly believe that I (and many other readers here) have a good handle on the ability to analyze past financial information, thanks to you - many thanks!

What I'm not satisfied with is my Sphere of Competence.

How does one grow this? This is related to the comment I made on your post about Graham Corporation - how were you able to value that company's business prospects going forward with any level of confidence?

This is the last piece of the puzzle for me (and a lot of other readers, I suspect). I want to broaden my Sphere because a.) it provides more investing opportunities and b.) I find it really, really fascinating to learn about new businesses/industries.

So... Any recommendations? Can you point us to books, websites, forums, trade journals, classes? Anything at all? It would really be appreciated!

On Value Investing vs. Value Pretending

Kaf — Sat, 16 Aug 2008 08:24:54 -0600

Kaf said:
Getting a good education before even thinking of implementing a Strategy is very important, getting the basics right and making them second nature, in a fast moving instant gratification world it is understandable why most people will not be able to apply true value investing. Personally i have taken a back seat and have been reading every book i can find on value investing (and your blog) a differant kind of mindset is required and self discipline is extremely important, Buffett says himself the secret has been out for decades and to be good you dont need a high IQ, but be able to control your urges (like greed), so i think thats why most people can not stick to it, Patience if you havent got it has to be learned (i have had to learn it) and those who wont look where they think the grass is greener (i have done it in the past).

On Value Investing vs. Value Pretending

Allen — Sat, 16 Aug 2008 01:52:10 -0600

Allen said:
I can't stand it when some financial talking head shows some chart of "value" investing versus "growth" investing, and how "value" is not doing well. Those "value" stocks they are talking about are some simple-minded group of low P/E ratio stocks or some other simple grouping.

Value does not go out of style, and value means a lot more than a low P/E ratio. If you were buying a car, you wouldn't look only at its mileage per gallon versus its price as a measure of its value. Come to think of it, if more people did as much research in buying a stock as they do in buying a car, we'd probably see a lot less speculation, and more wise investing.

On F Wall Street Investment Performance

Joe Ponzio — Sat, 16 Aug 2008 01:22:22 -0600

Joe Ponzio said:
JC: I was very conservative with the numbers here - a bit too conservative, in fact. Yes - as the price drops, I will continue to buy more so long as (i) I have the cash and (ii) I still believe in the business.

A lot of people have e-mailed me about this so I am going to offer up a second performance post with more realistic numbers based on how I would have actually managed the portfolio.

Mark: I don't like regulatory approval, but SEC comments/approval is generally simple. Fill out some forms, send them in, wait for comments. It is rare that the SEC would ever block a deal (unless there were fraud issues); so, I don't consider SEC comments/approval to be a regulatory hurdle.

On Value Investing vs. Value Pretending

Joe Ponzio — Sat, 16 Aug 2008 01:19:03 -0600

Joe Ponzio said:
By the way: I don't have an Aunt Bea or Grandpa Earl. With a name like Ponzio? Think about it.

On F Wall Street Investment Performance

Mark — Fri, 15 Aug 2008 01:43:20 -0600

Mark said:
I thought you never invested in workouts prior to regulartory approval?

On F Wall Street Investment Performance

JC — Thu, 14 Aug 2008 18:20:02 -0600

JC said:
Joe,

Do you usually enter a new position all in one shot? By that, I mean do you buy your whole 20% position as a single trade? It seems like you made that assumption here. What are your thoughts on DCA as the quotation price goes lower?

JC

On F Wall Street Investment Performance

Joe Ponzio — Wed, 13 Aug 2008 18:09:54 -0600

Joe Ponzio said:
(MikeR): Landry's is waiting for comments from the SEC - a standard procedure that falls in the "Regulation" step. Once those comments come back (or if the SEC has no comments), the deal can close.

Bill: You would get $1.25 per share, but give up the shares at $45. Here's the way I look at it: You would get $1.25 a share, but deliver the stock at $45 if it closes at $46.25 before expiration (and you get called). So, the effective premium is $1.25 and your gamble is against the short-term. Will Adobe go above $46.25 before the August expiration?

Either way, you end up at a $45 sale price plus $1.25 per share.

Casey: Let me weigh the pros and cons of such a list. I really don't want people focusing on the short-term; so, if I can up with a crafty way to do it, I certainly will.

On F Wall Street Investment Performance

Casey Mattson — Tue, 12 Aug 2008 20:05:07 -0600

Casey Mattson said:
Joe: Good point, detracts from the true focus of the site.

Wondering more along the lines of a revolving "current open positions" and "closed positions", then maybe links to post regarding that issue.

On Free Cash Flow vs. Owner Earnings

Amit D. — Tue, 12 Aug 2008 15:45:25 -0600

Amit D. said:
My friend purchased it with his credit card for me, and so far, I see how clever Joe's work remains, 20$ your generous!