Okay kids. It is time to have the talk. Last night during a
discussion of markets I gave my usual I am more of a bottom up guy and try not
to pay too much attention to the stock market quote. That is how I run my day
to day activities for the most part but my friends were a little pushier than
usual and got me to talk about the current state of the stock market. I have
hinted at this before with talks of portfolio pruning and caution but in
reality this is the scariest stock market I have seen in my career. I worry
more about the market now that I did in the late 1990s. At least that market
had a story and life changing technology to fuel the excess. This one has
nothing but a blind faith in the Fed.
One of the biggest lessons I have learned in the past three
decades is that fortunes are made in the stock market buying into a collapse.
If you look at some of the most successful investors of all time, that’s how
they made their money. John Templeton talked about buying at the point of
maximum pessimism. Walter Schloss liked to buy stocks trading at 4 or 5 year
lows. Warren Buffet has a knack for getting into companies like Goldman Sachs
(GS) when things go bad. Sam Zell has made a fortune buying real estate when no
one else was interested and prices had collapsed. Wilbur Ross buys stuff that
would freeze the innards of a less disciplined patient investor.
US stocks are nowhere near a point of maximum pessimism and
are at 4 to five year highs not lows for the most part. We have gone straight
up since the lows of 2009 and are more than 2.5 times the low. The only driver
of the gains has been zero interest rates. Earnings have not been fantastic.
Revenues of late have been flat. Much of the earnings gains are driven by cost
cutting and financial engineering such as buybacks. The economy is just
drifting along in a better but no good mode. It has been a great run and I have
benefitted enormously but the overriding question has to be how long can money
printing and financial shenanigans support stock prices?
Some of the smarter guys in the investment world are getting
as nervous as I am. Sam Zell flatly said that stocks remind him of 2007 real
estate markets and its time to sell. In April Leon Black of Apollo management
said they were selling everything that wasn’t nailed down after the markets
rise. At the same Milken Conference as Mr. Black Wilbur Ross warned of a bubble
in junk bonds and said sometimes it is just better to hide. Seth Klarman’s
recent comments to a private business group have been widely quoted and are the
stuff of sleepless nights. He calls the current economy is a house of cards
that will eventually implode.
One thing all of these men have in common is that they agree
with my basic premise that things are dangerously over inflated and the markets
and the economy are running on an addiction to cheap money and quantitative
easing. I have no idea when this silliness will end of what may happen between
now and then but I do know that when it does I do want to be caught massively
long a bunch of overpriced stocks or 5% junk bonds. This is a time for extreme
caution in my opinion.
I put together two new money portfolios the a few weeks, one
concentrating on just plain of ordinary cheap stocks. I ended up finding enough
opportunities to become about 35% invested buying names like MultiFine
Electronics (MFLX). Arcelor Mittal (MT), Pericom Semiconductor (PSEM) and Volt
Scientific (VISI). The rest is in cash
and staying there for now. The same held true of small banks where we are able
to find enough stocks to get close to 50% invested based on my strict criteria.
Most were well below %50 million in market cap. I have no idea what will happen
in the market and the economy but I do know that the red flags are flying if
you take your eyes off the screen long enough to look at the window.
What if I am wrong? What if all this financial chicanery and
money pumping actually works and reignites the economy? Here the beauty of the
deep value investing approach. If you
look back at the archives we own things like steel companies, iron ore
producers, coal companies, silver miners and banks bought at fractions of book
value. We have been buyers of energy companies at a fraction of their net
worth. Even with new portfolios at less than 50% invested and older ones at
something around 70% we are going to have a monster return from those stocks. I
want making a macro call but just buying what is too cheap not to own but the
process has left me well positioned even if I am dead wrong with my cautious
approach. If things do blow up in the next few years existing positions will
feel some pain but I will have a lot of cash to take advantage of the point of
maximum pessimism.
If you are concerned about the markets and the economy right
now I suspect you just aren’t paying attention. Rely on caution and value to
protect yourself no matter what happens out there.
I will get a lot of questions once this is published. Many will want to know if I am really that
concerned about the market. Of course I am. If you are not you are not looking
deep enough. There are some structural problems with the market and the economy
and it could be a disastrous. I hope it never happens but I intend to be
prepared if the cracks expand. The next question of course is exactly which
stocks I was buying to get 35% invested in this market. I would be less than
fair if I didn’t answer that question so I will devote some time to
highlighting the stocks I would buy today with new money.
First lets understand that this is a new money portfolio.
The fact that I stock I bought last year is not in it does not mean you should
sell it. It just means its moved up enough that I am not putting any new money
in the stock. Feel free to email me with questions on a particular stock I
suggested that is not listed here. Second this is a domestic non-bank portfolio
invested on strict asset based criteria. There are no longshots, foreign
maximum pessimism stocks or small banks in this portfolio nor are there any of
the Graham growth type stocks I occasionally suggested for younger investors
like my kids. This is a classic Tim Portfolio. Also be aware most of them are
tiny so I am only going to be able to cover those large and liquid enough to
discuss here.
I have talked a lot about Richardson Electronics (RELL) and
it definitely goes into a new portfolio. The stock trades right around the
value of its net current assets. They are not setting the world on fire by any
stretch of the imagination but the company is profitable and pays a 2%
dividend. Business is just going to slog along until we see a stronger global
economy. The stock is trading at 90% of tangible book value and they have more
than 80% of the share price in cash.
Alpha and Omega Semiconductor (AOSL) is struggling along
with the economy as well. The company makes chips used in batteries, smart
phones, computers and gaming systems. The shares fetch just 70% of tangible
book value and also have more than half the share price in cash. The company has done a solid job of
increasing shareholder equity over the past few years and should see strong
results in a better economic backdrop.
I included all the resource and mining stocks we have talked
about in the past few months. If we ever do have an economic recovery, and I am
confident that at some point in the next few years that will happen, then
companies that dig stuff out of the ground and provide the basic materials. I
included shares of Resolute Forest Products (RFP), Pan American Silver (PAAS),
Cliffs Natural Resources (CLF) and Arcelor Mittal (MT) in the group. While some
of those are foreign they are not part of a maximum pessimism trade such as I
have suggested in Brazil and European banks. All of them are very cheap on a
price to tangible book value basis. I am aware that if the economy does
collapse so will these stocks but I am more than willing to buy more at a deeper
discount.
I still like Brookfield Properties (BPO) as well. It is rare
to be able to pay a portfolio of global world class real estate at this type of
valuation and I feel like this could be a huge winner for over time. The market
is too focused on the space they have to lease in lower Manhattan and not
looking at the quality of the portfolio of premier office space around the
worlds. In spite of the space available in New York the overall portfolio is
91% leased and they are renewing many of their leases at higher rates. Trading
at 70% of tangible book value this REIT is too cheap not to own in my opinion.
They should close on their acquisition of MPG Office trust in this quarter
giving them a nice chunk of the LA skyline at a very good price.
I will conclude this portfolio wrap up tomorrow. Even in a
market that has serious long term concerns that are stocks that are just too
cheap not to own. The key to making this all work is that I have a very long
time frame and have no problem buying any of these stocks down 50% from the
current price in a market pullback, decline or crash.
Today I want to finish up my review of stocks I consider
cheap enough to own regardless of your view of market conditions. As I said
earlier this week I find the current market and economic conditions more than a
little scary and am as cautious as I have ever been, however I follow a
discipline of buying stocks at the too cheap not to own level regardless of
market conditions and opinions. Given the run in the market the last few years
there are not a lot of them and I am keeping positions sizes fairly small so
there is plenty of room to buy on a scale if needed. Again these are stocks
that I would be buying right now and not those that may have been purchased
over the past few years and still hold.
Pericom Semiconductor (PSEM) make integrated circuits and frequency
control products used to transfer route and time signals between computers,
networks and telecom systems. Their products are used in laptops, notebook,
smart phones and a wide range of other electronics devices. Revenues and earnings were basically flat in
the second quarter and I expect they will be pretty much the same when the
company reports second quarter results. Computer sales are still weak and
Pericom is in the early stages of expanding into higher growth markets such as
networking and crowd computing. The stock is cheap at a little under 90% of
tangible book value and more than 70% of the stock price in cash and securities
at the end of the first quarter.
Cowen Groups (COWN) stock price has moved up a bit but the stock
is still cheap enough to buy at just 80% of tangible book value. The brokerage
and asset management firm has a strong asset management and alternative
investment arm and the investment bank is well represented in key industries.
Cowen has invested its capital well and since 1999 has earned over 16% annually
on their proprietary investment accounts. If the markets did collapse I would
be a big buyer of this stock as they would likely make a fortune in the
aftermath form activist investment strategies and merger activity.
I also like Calamos
(CLMS) in the asset management space selling just over book value and at less
than 3 times free cash flow. The have a strong presence in their markets and
are a leader in convertible bond funds. The stock pays a decent yield of more
than 4% so you get paid pretty well while you own the stock.
There are still some energy names that I think investors can
buy at current levels. WPX Energy (WPX) is off slightly this morning after
missing the always highly accurate analyst estimates. The stock trades at just
70% of tangible book value and even after adjusting for the loss of value in
their Argentinian holders the actual asset value of the company is probably
higher than book at this point. Swift Energy (SFY) is still transitioning from
conventional shallow water oil and gas company to an unconventional production
company. The product mix has not shifter away from gas to oil and liquids as
fast as Wall street would like to see but they are making progress. In the
meantime you can buy the stock at just 50% of tangible book value.
Tellab (TLAB) is still seeing weakness in its business lines
as telecom spending remains very weak right now. The company is taking steps to
refocus their business and I like the fact that Third Avenue was able to put a
representative in the board last year.
The stock trades at $2.28 and they have $2.18 a share in cash as of the
end of the first quarter. They report earnings later today so it will be
interesting to see how the cash balances held up in the quarter. In the
meantime the stock is just too cheap not to own.
These are the stocks that have enough liquidity to mention
here on Real Money. About a dozen other non-bank stocks qualify but they are
tiny with market caps between $25 and $50 million and trade pretty much by appointment.
Given my concerns about the world and the markets I am focusing only on those
names that I consider safe and cheap enough to own through a period of high
volatility. I am willing ot add to all of them at lower prices if necessary.
Should the economy surprise me and catch fire I think they would explode higher
and more than offset my cautious positioning.
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