Monday, September 26, 2016

Giverny Capital Annual Letter 2015

A bit late this year, here is another letter from the good folks at Giverny. I post these letters because I operate on a near identical investment philosophy with the notable exceptions being:

1. my writing skills are far inferior;
2. my investment record is much shorter.

Giverny Capital Annual Letter 2015.

Notable quote from the letter:

"Significant and educational conclusions can be drawn from a 20-year period. Since 1996, our companies have increased their intrinsic value by 1102%, or close to a twelvefold increase. Meanwhile, the value of their stocks has increased 1141% (net of estimated currency effects). On an annualized basis, our 9 companies increased their intrinsic value by 13.2% and our stock portfolio returned 13.4% per year. The similarity between those two numbers is not a coincidence. (my emphasis)"

Yours One Legged

Current Reading

Intelligent Fanatics Project: How Great Leaders Build Sustainable Businesses by [Iddings, Sean, Cassel, Ian]

I have just started reading this book.

This book profiles 8 CEOs and then attempts to draw some form of generalisations as to their common features. The objective is to be able to spot these features in CEOs that could possibly achieve outstanding results in the future.

At this stage, whilst being an interesting read, I am also wary of ideas that attempt to extrapolate general ideas from a small preselected sample size. In a nutshell, my argument is that we do not know of countless other CEOs, possibly with similar traits, who has actually failed and lost shareholders' money.

It is also interesting to note that the whole thing could be simplified by viewing CEOs filtering via Jack Welch's criteria of integrity, passion and 4Es, set out in his book, Winning.

I will continue reading, and post any further insights.

Readers may be interested in my Library listing here.

Yours One Legged

Sunday, September 25, 2016

Dogs versus Darlings 2.5 years later

Keeping track of my amusing exercise started in March 2014.

Since then, one of the Dogs has been taken over for a gain of 61.54%. Not to be outdone, one of the Darlings was also taken over for a gain of 22.27%.

Overall, the Dogs portfolio is down -9.5%. The Darlings portfolio, unfortunately, with -15%, has done worse.

But wait, there is more. After accounting for dividends fully grossed up, the Dogs portfolio is flat whereas the Darlings are still down -4%.

The one obvious lesson from this exercise to date is that overpaying for shares could yield results comparable or worse than buying shares in a lousy industry facing severe headwinds.

Valuation matters. Nothing grows to the sky forever.

Yours One Legged

Thursday, August 18, 2016

My learning continues with this excellent transcript of Q & A with Robert Bruce.

Summary of wisdom tidbits:

"The idea is to invest when the market price is below the cost of production."

"We value investors want to get the future cheap, preferably free."

Enjoy and Prosper,
Yours One-Legged

Tuesday, April 26, 2016

Transcript of Jim Chanos interview

Here is a transcript of an interview with Jim Chanos.

I learned heck of a lot from reading this. I hope you do too.

Enjoy and Prosper,
Yours One-Legged

Monday, April 11, 2016

Transcript of Charlie Munger's 2016 Daily Journal Annual Meeting

Transcript of Charlie Munger's comments at the 2016 Daily Journal Annual Meeting.

Notable extracts:

1. They had a monopoly where every year they kept raising prices and every year people had to pay for it. A wonderful business.

2. There's an endless market for software in these public agencies, and it is a market that is sure to keep flourishing and needing more and better software.

3. It is agony to do business with a whole bunch of public bodies, so a lot of companies in software don't come near it, because they prefer the easy money.

4. Good investment opportunities are scarce, so one must act decisively when presented with one.

5. A fair amount of patience is required, followed by pretty aggressive conduct.

6. Electric forklifts= example of a very big idea.

7. Opportunity cost matters= if you have a rich uncle who will sell you his business for 10% of what it is worth, you don't want to think about some other investment.

8. We don't want any lousy businesses anymore.

9. We spend a lot of time thinking.

10. A constant search for wisdom and a constant search for the right temperamental reaction to opportunities, these will never be obsolete.

11. The nature of ordinary results is that they are ordinary.

12. The first time we bought Wells Fargo, we bought heavily, because we had an informational advantage, based on general thinking and collecting data. (Wells Fargo's lending officers are more conservative and operate better due to their backgrounds in the garment district.)

13. One should not invest in banking unless one has deep insight, especially on management shrewdness.

14. Synthesis is reality, but the reward systems of the world pays for extreme specialisation.

15. Being rationales mean avoiding awful things like anger, resentment, jealousy, envy, self-pity.

16. Good behaviour makes your life easier- you dont have to remember all your lies.

17. The big busts hurt us more than the big booms help us.

18. I don't think the auto industry will be a terribly easy place to invest in.

19. A lot of people think that if an axe murder happens in a free market, it has to be all right because free markets are always right.

20. People will cheerfully tolerate differences of outcome if they seemed deserved. Differences in outcome that seem to be undeserved tend to disrupt democracy. Inequality is a natural outcome of a successful civilisation that is improving for everybody.

21. Munger's Rule= large amount of money makes people behave badly.

22. I don’t think fundamental value investing will ever be irrelevant because of course if you’re going to succeed in investment you have to buy things for less than they’re worth instead of more than they’re worth. You have to be smarter than the market. That will never go out of style. That is like arithmetic. It’s going to always be with us.

23. Generally, I avoid circumstances which automatically causes reasonable fear.

Enjoy and Prosper,
Yours One-Legged

Tuesday, March 15, 2016

Debunking the Growth Mantra and Getting Real

Roughly two years ago, I ran the following screening exercise on the ASX:

29 April 2014
10 to 15
5 to 10
0 to 5
10 years average Sales/Share growth
10 years average EPS growth
10 years average Book Value/share growth
10 years average DPS growth
10 years average Operating cashflow/share growth


Total population=2100 companies

Intersecting analysis:

Only 2 companies filled all 5 criteria above 20% per annum: MND, WOR on the back of the super resources boom.

5 companies filled all 5 criteria above 15% per annum: JBH, WOR, RCR, CTL, MND. 0.2%

13 companies achieved both sales and EPS growth above 20% pa for 10 years. 0.6%

28 companies achieved both sales and EPS growth above 15% pa for 10 years. 1.3%

68 companies achieved both sales and EPS growth above 10% pa for 10 years. 3.2%

145 companies achieved both sales and EPS growth above 5% pa for 10 years. 7%

220 companies achieved both sales and EPS growth above 0% pa for 10 years. 10%

(Notice the number roughly doubles as we go down the ranking. These sort of data series follows the power law. Don't ask- no one knows why as yet.)

How about companies able to grow EPS without corresponding growth in sales?

Of 93 companies with less than 5% pa average growth in sales, 38 companies (ie 40%) were able to grow EPS more than 5% pa average,  12 companies grew EPS by more than 10% pa, 9 companies grew by more than 15% pa, and only 3 companies by more than 20% pa.

Of 157 companies with less than 10% pa average growth in sales, 33 companies (21%) able to grow EPS more than 10% pa average,  18 companies grew EPS by more than 15% pa, 7 by more than 20% pa.

Of 219 companies with less than 15% pa average growth in sales, 30 companies (13.7%) able to grow EPS more than 15% pa average,  11 by more than 20% pa.

Higher growth rates in sales appear to reduce ability to increase margins.

204 companies trade above PE 20 as at 30 April 2014. PE 20 roughly implies a growth rate of at least 10% per annum for 10 years and 10x terminal.

The Siren Call of Growth

As of the time of writing in April 2014, I noted that FLN (Freelancer) is trading at a PE multiple of over 615, making it the most expensive stock on the ASX by the measure of price earnings multiple.  I will have to leave the dissection of the business prospects of FLN for another time.  My main objective is to briefly address the issue of “growth” and how it fits within our investing philosophy and framework.

1.       Less than 7% of companies on the ASX achieve compound annual growth in earnings per share of more than 10% per year over periods of 10 years or more. If you remove companies whose EPS figures are distorted by abnormal gains offsetting continual losses, or companies with no consistent earnings, the figure drops dramatically to less than 5%.

2.      However, close to 10% of companies on the ASX are priced for annual compound growth in earnings per share exceeding 10%.  This number does not include loss making companies, which makes up over 66% of the ASX. Clearly, there is presently a divergence between wishes (reflected in pricing) and reality (reflected in historical data).

3.       We need to keep in mind that this distribution is a normal functioning of the market, due to the mysterious workings of power laws.

4.       However, bearing in mind Rule Number 1, we are fearful of Siegling’s Paradox. Whilst sizzling growth rates are always used to justify lofty valuations, many forget that an initial gain of 50% or more is more than wiped out by subsequent losses of similar sizes. For example, you lose all your capital if you gain 100% in the first year, and losses 100% in the second year. You lose 25% of your capital if you gain 50% in the first year and losses 50% in the second year.  As evidenced by the Kelly criterion, bigger risk does not equate bigger gains if you have a scarcity of capital.

5.       Sustained growth is rare and difficult, it requires a confluence of factors- industry tailwinds driving revenue, costs being kept in control, competitors being kept at bay, management not making mistakes, no disruption by technology, no interference from government, no unforeseen events.

Edit: I need to insert a word of caution here on the common but nonsensical use of PEG ratios popularised by proponents of growth investing. The basic idea is to divide the PE ratio by the projected EPS growth to get the PEG ratio. Apparently, anything between 1 to 2 falls within the attractive range. A stock growing EPS at 20% per annum is justified by PE 20, since the PE falls rapidly. To take the logic even further, a stock growing EPS at 100% per annum is justified by PE 100, since 3 years of doubling will bring the PE back to a lowish 12.5. The problem is that the issue of risk is not addressed. A stock growing at more than 20% per annum (let alone 50% per annum) for an extended period of time is a rare beast, as the numbers I have shown above attest to. If I have two stocks, each with a PEG ratio of 1, the first stock at PE 20 projected to grow at 20%, and the second stock at PE 1 projected to grow at 1% per annum, the choice is an absolute no brainer. The absolute irony is that with the second stock, I am getting a 100% per annum yield, assuming all earnings are paid out.

Enjoy and Prosper
Yours One Legged