It's How You Play The Game That matters

No wonder individual investors have been avoiding the stock market. In addition to the two huge losses incurred in the past decade they have to deal with news flow and noise that is bewildering right now. A look at the popular financial media form just this past weekend is insightful. There are warnings about substantial pension shortfalls causing a bubble in junk bond prices. To offset that at one fund manager told Bloomberg reporters that all the economic risks were priced into the market and stocks were cheap. Some commentators worried about the fiscal cliff faced by the United States next year while others are highly confident we will muddle through and the markets will go higher. Some expect QE3 to push markets higher while other put the chances of QE3 as similar to the Minnesota Twins pennant chance.

One market guru thinks that a wave of merger activity will push the markets higher. In ordinary times I might agree as there is a lot of cash on corporate books and the easiest way to grown in a slow economy is to acquire new earnings. However political and tax uncertainty will keep a damper on a corporate activity in my opinion. Many commentators pointed to the companies beating earnings estimates while other focused on slower sales growth and lower guidance. The news and advice being thrown around in the media is confusing at best.

The individual investors I know are not just scared of losing their money again. They are confused and have no faith in the stock market or Wall Street. All the things they thought they knew have turned out to be wrong. Stocks do not really return 10% a year on average all the time for everybody. Buying and holding an index fund may be cheaper than active management but that has not worked so well over the past decade either. Diversification has really just spread the losses around as markets went to nearly perfect correlations for much of the past 10 years. Pretty much everything they learned in those college econ and finance classes turned out to be wrong as well. They correctly suspect that much of the Wall Street corruption they see on the news has been at their expense and they are done playing the game. They feel like they do not trust or understand the markets and are no longer active participants.

I am pretty sure this is the wrong thing for most of us. Stocks and real estate are still the best way to build wealth over long periods of time. The key for investors is to change their mindset and forget what they thought they knew. Prices of even the best stocks or houses in the best neighborhoods do not go up forever. The time to buy is not just any old day you happen to have cash but when markets have declined and people are scared. The time to sell is when everyone else is buying and more importantly bragging about their quick gains in the markets or flipping properties. Making money is far more important than being popular or exciting.

John Templeton once said” If you want to have a better performance than the crowd, you must do things differently from the crowd.” If everyone is buying dividend stocks and junk bonds you should probably think about avoiding them. If everyone else loves Google (GOOG) and Amazon (AMZN) you should consider they are over owned and overvalued. If energy stocks are trading near five year lows you should think about buying them. If short term traders are distorting the larger company stocks think small. Think opposite the crowd, avoid the noise and the hype coming out of New York and DC and focus on the sectors and assets no one else loves at a given moment in time.

Investors should not give up on the markets. They just need to educate themselves and think differently than the crowd.

Educate, Employ or Perish

John F. Kennedy once warned us that we dare not forget that we are the heirs of the revolution. When I look at the world in which we live it is clear to me that we have failed to heed his warning. We have become a nation dependent on government for the most minor of decisions and think the idea that we do not need a passport to cross state lines implies we are free. The government can tell us what to wear, what to eat, how to enjoy our free time, what to do with our bodies, who to love and even forcibly take a large percentage of our income and we cling to this illusion of liberty.  We as a society argue about how much to take form the half who pay taxes to support the half of the citizenry who do not. We vote along partisan lines for people who do not bother to take take the time to read the legislation they are passing. It is a sad state of affairs.

As a nation we are no longer a land of individual thoughts and efforts. 

We are a collection of groups. We vote as Democrats or as republicans selecting governing officials not on the quality of a man’s ideas but his party affiliation. One group thanks it is perfectly okay to take my money and give it away against my will. This makes all equal. Economic redistribution is not the activity of a free society or market but these folks will tell you it is fair. It is fair to have the more successful pay a larger percentage to support the government than those who make less.  The other will tell you that they and they alone can define morality and know who you should love, who you should fuck and how you should treat your reproductive organs. Neither of these positions make one whit of sense and neither are an example of liberty or a free land governed by free people. They are a prime example of a bunch of fucking idiots telling stories to gain votes so they can ascend to office and enrich themselves at your expense.

Both sides seem to believe it is okay to go to war without the constitutionally required declaration by Congress. It is clearly illegal but we have been in a constant state of War since 1950 and no declaration has ever been passed. Both sides believe that violating the privacy if its citizens are okay to protect us from the plots of others. Both sides believe in detaining without cause or charges in the interest of national security. Both sides believe that large financial institutions are too big to fail and should be able to gamble with a backstop of taxpayer money. Interestingly our current President makes political accusations against big banks but takes their money and a goodly percentage of his advisors have a Wall Street background. Indeed our” populist” President has closer ties to the Street and big banks that any of his predecessors.

I am often accused of being some rapid right wing conservative. The truth is I hate both parties but I confess a more vocal hatred of those who so freely take and waste my money. I hate the Democrats for the immoral idea that wealth redistribution or progressive taxes is fair. I despise a President who has the gall to say “Somebody helped to create this unbelievable American system that we have that allowed you to thrive. Somebody invested in roads and bridges. If you've got a business, you didn't build that. Somebody else made that happen.” Does he not know that the ones who built that infrastructure were the taxpayers and business people who come before me. There was no beneficial group of citizens who said lets build a road so other can succeed. Nor does he address why the road was built in the first damn place. The road would not exist unless it was needed for the transportation of good and services produced by business people.

The average citizen would happily tell you that the USA is number 1. Except we are not. We do not lead the world in literacy math or science. We do lead in life span or infant mortality. We do lead the world in defense spending outspending our allies and enemies alike by more than 20 times. We lead the world in incarcerated citizens per capita thanks to asinine drug laws and thoroughly ridiculous anti-poverty programs.

We can blame all of this on the government. After all the government has grown into this self-sustaining monolith that lives to feed and grow itself at the citizens expense.  However the truth is that it is our fault. In this country we really do hold the power to change things with our votes. But you mark my words that in spite of the all time low approval ratings of congress most incumbents will be returned to office. They will get elected not because of any accomplishments or positions. It will simply be because of the D or R next to their name on the ballot. We are too apathetic and too sound bite trained to actually take the time or effort to elect those who might actually make a difference. John Adams once said “There is nothing which I dread so much as a division of the republic into two great parties, each arranged under its leader, and concerting measures in opposition to each other. This, in my humble apprehension, is to be dreaded as the greatest political evil under our Constitution.” It seems his fears have come to pass.

The only way to change our country is for we the people to get pissed off and demand the foolishness end. We have to stop letting legislators pork barrel legislation. They need to stop hiding bills to tax roll your own tobacco shops in transportation bills and outlawing internet poker as part of the ports security bill. We need to insist that congress vote on bills and funding straight up without unrelated amendments and hidden laws within laws. We need to keep track of how out legislators vote and hold them responsible.

The Congress shall have Power To lay and collect Taxes, Duties, Imposts and Excises, to pay the Debts and provide for the common Defence and general Welfare of the United States; but all Duties, Imposts and Excises shall be uniform throughout the United States;

To borrow Money on the credit of the United States;

 To regulate Commerce with foreign Nations, and among the several States, and with the Indian Tribes;

 To establish an uniform Rule of Naturalization, and uniform Laws on the subject of Bankruptcies throughout the United States;

 To coin Money, regulate the Value thereof, and of foreign Coin, and fix the Standard of Weights and Measures;

 To provide for the Punishment of counterfeiting the Securities and current Coin of the United States;

 To establish Post Offices and post Roads;

 To promote the Progress of Science and useful Arts, by securing for limited Times to Authors and Inventors the exclusive Right to their respective Writings and Discoveries;

 To constitute Tribunals inferior to the supreme Court;

 To define and punish Piracies and Felonies committed on the high Seas, and Offences against the Law of Nations;

 To declare War, grant Letters of Marque and Reprisal, and make Rules concerning Captures on Land and Water;

 To raise and support Armies, but no Appropriation of Money to that Use shall be for a longer Term than two Years;

 To provide and maintain a Navy;

 To make Rules for the Government and Regulation of the land and naval Forces;

 To provide for calling forth the Militia to execute the Laws of the Union, suppress Insurrections and repel Invasions;

 To provide for organizing, arming, and disciplining, the Militia, and for governing such Part of them as may be employed in the Service of the United States, reserving to the States respectively, the Appointment of the Officers, and the Authority of training the Militia according to the discipline prescribed by Congress;

 To exercise exclusive Legislation in all Cases whatsoever, over such District (not exceeding ten Miles square) as may, by Cession of particular States, and the Acceptance of Congress, become the Seat of the Government of the United States, and to exercise like Authority over all Places purchased by the Consent of the Legislature of the State in which the Same shall be, for  the Erection of Forts, Magazines, Arsenals, dock-Yards, and other needful Buildings;

 To make all Laws which shall be necessary and proper for carrying into Execution the foregoing Powers, and all other Powers vested by this Constitution in the Government of the United States, or in any Department or Officer thereof.

Article IV, Section 3

 New States may be admitted by the Congress into this Union; but no new State shall be formed or erected within the Jurisdiction of any other State; nor any State be formed by the Junction of two or more States, or Parts of States, without the Consent of the Legislatures of the States concerned as well as of the Congress.

 The Congress shall have Power to dispose of and make all needful Rules and Regulations respecting the Territory or other Property belonging to the United States; and nothing in this Constitution shall be so construed as to Prejudice any Claims of the United States, or of any particular State.

Amendment XVI

(Ratified February 3, 1913.)

The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States, and without regard to any census or enumeration.

   

In short the business of the federal government is common defense and commerce. As citizens we should insist that the Congress limit themselves to those activities and powers granted them and not stray beyond.

At every level of government we have laws defining criminal acts and outlawing theft, assault, murder, rape, fraud, robbery and most other acts against one another. We have more than enough traffic regulations and restrictions. Tell legislators that they need to stop controlling our lives with taxes and penalties for smoking, drinking soda pop and eating hamburgers. Our personal habits are none of their damn business.

The key to a happy population is prosperity and peace. If we focus on education and jobs we will have prosperity. If we stop acting like the world’s policeman and trying to win hearts and minds we will have peace. If we followed Teddy Roosevelt’s advice to never hit softly our enemies would be too scared of our might to even think of a serious attack upon our nation. It is best to never hit but when you must hit hard. Education, jobs and protecting peace by being prepared to wage total war. If we can get legislators at every level to focus on these three tasks we will once again be the shining light on the hill and beacon of liberty and prosperity.

 We need for freedom to mean free for all of us. If the government can focus on the task at hand instead of redistribution of wealth, controlling our sex lives, dictating our personal habits and feeding its own need to grow we can take our country back in the direction intended by our founders and our forefathers. When political parties give us choices like the two bozos they have every four years for the past several elections we need to pick our own candidates and draft an independent or (gasp) start a real third party. On a local level we need to elect people who understand government is there to serve not control the population. We need to get our fat collective asses off the couch and ACT. Our biggest enemy is not the Muslims terrorists or the politicians, it is our own apathy.

Jobs and education are the answer to every problem we have. Elect leaders who get this and will act accordingly.

The Truck Caper and random Observations

The time to move south was finally upon us. We had talked for some time about moving to either Texas or Florida. Opportunity and desire combined, we found a perfect situation in Orlando and it was time to go. I am a bit of cheapskate at times so as moving day loomed I evaluated all the options, talked to several moving companies, consulted with others who had made similar moves recently and came to what I thought was a brilliant decision. Paying movers to load and unload on either end of the trip and then driving the truck myself was cheaper by far than other options. In fact it was about 50% cheaper given the recent decline in gas prices. I love to drive and if you give me coffee and cigarettes aplenty I will bounce down the road for days at a time perfectly content. My wife could drive the Honda along with the cat and my stepdaughter and my daughter could drive the 16 year old Jag. We save a few grand, the move got done and everyone’s is happy was my conclusion. As we shall see, dear reader, I am a fucking idiot.

We will eventually get to the point of the story but I shall take the license to wander near and far along the way. As with everything I write here this will be part commentary and part story with healthy doses of economics, politics, sports and occasional stupidity dumped in the mix. One of my favorite activities on road trips is to observe the nation through the windshield in an attempt to gain some deeper understanding of current conditions.

Our journey begins just as a massive heat wave hits most of the country. This becomes more critical as time goes by as the air conditioning in the Jag does not work and tight ass here never bothered to fix it. As long as there is air moving in the car I don’t care. I had high tech 2-60 AC as far as I was concerned. Roll down 2 windows and drive 60 miles per hour and I am good to go. However I was not driving that car. My daughter was along with the somewhat spoiled climate control inclined dog. However we got on the road around 1:00 on the 28^th and all was good initially. The truck was professionally loaded, it was not brutally hot and our caravan headed south. The plan was to get south of the clusterfuck known as DC well before rush hour hit in full fury.

As Mike Tyson once said “ We all have a plan until we get punched in the face.” Washington DC traffic is horrendous pretty much anytime of the day. As bad a president as Woodrow Wilson was his namesake bridge is worse. They just rebuilt the damn thing a few years ago and yet there were construction and repair related delays getting across the damn thing. The Empire State Building was put up in 18 months and  has been fine for decades. The Woodrow Wilson can’t even stay repair free for a fucking year without needing some type of traffic snarling, commuter soul crushing event. Once we cleared that abomination I began to breathe easier as the traffic radio was informing of normal conditions on 95 south.

I have avoided DC for years and in my solo days would fly though DC late at night on my southern journeys. I had completely forgotten that normal conditions on 95 south means completely, entirely and resoundingly fucked up beyond belief. Our little vehicular parade was on the brakes all the way down below Fredericksburg. Grant moved the entire goddamn Union Army to Richmond in less time than it took us. It took almost two hours to clear traffic and get back up to speed. My daughter was dying as to have 2-60AC you need 60. We were not moving at 10 for much of the stretch and temps were hovering around 100.  She and the dog were going through water by the gallon.

No matter how bad it gets for the rest of the country the DC area thrives and has a reasonable economy and the attendant traffic jams. The huge complex that is government sprawls out in every direction and employs hundreds of thousands of bureaucratic minions. The companies that feed off the massive cash tit that is the federal government bring millions more people each dedicating a minimum of 8 hours a day to consuming taxpayer dollars. It is a giant parade of legislators, lobbyists, freeloaders, taxers and spenders circling the beltway fucking up traffic and burning through YOUR money.  I fail to see how any rational human could spend time in the traffic snarl that is Washington DC and not realize the giant criminal fraud and corrupt self-feeding institution our government has become. No intelligent person can circle the beltway and not be an anarchist of libertarian by the end of the trip.

Once we moved inside the Richmond beltway traffic broke free. Now my little 26 foot U-Haul and I could only move along at between 65 and 70 MPH. The truck would go faster but it got right damn hinkey at higher speeds. The bounce factor increased to the point it was a like being in a water bed with a fat person dong the jitterbug. The steering got right damn jiggy as well at anything over 70. As traffic south of Richmond moves at 80 or above most of the time, I called my wife and my daughter and told them to stay together but just go on without me. The Jag was bringing up the rear during the first leg so I told Lisa to just pass me and stay on Erin’s bumper the rest of the day. I would poke along and get to our destination hotel in Fayetteville North Carolina whenever I got there.  My daughter was very concerned about going on without me and was really talking up the whole “Are you sure dad, I don’t want to just drive ahead and leave you behind?” It would have been convincing as hell as a show of concern if she wasn’t already three car lengths ahead and accelerating while the dog sat in the front seat waving bye-bye.

Everything went fine. They sped up and the car cooled off just fine.  I bounced along down the road thinking deep thoughts. I caught up with them for a quick dinner and dog poop stop and they took on off ahead of me again. They got to our hotel about a half hour ahead of me and had the animals and required essentials all organized in the hotel by the time I arrived. The hotel was jammed so after circling a few times I parked on the street next to the hotel behind two tractor trailers. I grabbed my bag, circled the truck to make sure all was well, checked all the locks and headed inside.

My wife informed me that I was expected to take the daughter to the hotel bar for a drink. She and the dog had not enjoyed the trip as much as the rest of us and this was my fatherly duty. You would think she would know better by now. My daughter and I have a blast in the bar. We are both talkers and will strike up conversations with anyone about anything. We got to the bar just as an event in the hotel was ending and many of the participants were wondering in for a nightcap. One of the special ops divisions had a dining in with the commanding General and soon the bar was full of special ops officers from Fort Bragg. We spent more time than we should have talking to them about history, literature, the middle east, Iraq, Afghanistan and other matters of the day. It was fascinating but there was a real consensus view that the Afghanis will never be able to govern themselves and we need to either take it over and stay forever or blow it the fuck up and walk way. The latter conclusion seems to have more supporters. All of the folks we spoke with had been there including many as first boots on the ground and all expected to be going back. Most expect to see action in other parts of the Mid East as Arab spring becomes Arab Shitstorm with specific concerns arising about Egypt and Syria. Fascinating evening all the way around and I bought more drinks for our nation’s warriors than was prudent.  We stumbled back to the rooms and fell asleep looking forward to another long day on the Road to Orlando.

Now the story takes a turn for the worse. In the morning I grabbed a quick shower, loaded my bag and went out to throw it in the truck. Except the truck was not there. One of the tractor trailers I parked behind was still there but my truck was just gone. Gone. The whole fucking truck. I was stunned to the point of speechless. I staggered back to the room and just looked at my wife. I had to tell her the truck with EVERY FUCKING THING WE OWNED was gone. I ran to the front office and asked if they had towed the truck for some reason. No such luck. I had them call the police.

The Fayetteville police came out and took the report. They told me what I already knew and there was probably little hope of recovery for our stuff. We called UHaul and reported the theft. They talked to the cop and got all the needed information. I was a little surprised they do not have GPS devices on their trucks but they don’t.  There was nothing left to do and no point staying in Fayetteville.  Stunned the wife and I loaded the stepdaughter and the cat into the Honda with Lisa bringing up the rear with her faithful but thoroughly confused canine companion.

To say my wife was devastated is understating the matter. It was not the big stuff that hurt. We had already called the insurance company and knew we had full replacement cost on everything. It was going to be a massive pain in the ass we would replace the furniture, appliances and electronics. It was the little things, the sentimental irreplaceable things that just hurt all the way down inside. Her mother’s china. Her aunt’s heirloom ring. The finger paintings from first grade. Baby shoes. The first sonogram. Love letters. Decades of photo albums. Every mile bought new memory and a fresh round of tears. This was devastating to me as there was almost nothing I could do to ease this pain, this loss that some heartless fucking petty criminals had inflicted on the woman I love. There was nothing I could do to ease the pain or stop the tears. It was brutal.

I am something of an emotional hard ass about stuff but there were things on that truck that had traveled with me for decades and the loss hurt. I fought back the tears as I drove because I needed to look strong for the wife.  I had to force myself not to think about the baseball bat my Dad gave me when I was sick, the three of four surviving pictures of him. The pictures of my kids as babies. Our wedding albums. You can take most of my stuff and I won’t care that much. These things hurt me way down inside in places I don’t usually like to travel.

In the meantime the sun is waging harsh warfare with the highway. It is over 100 degrees and my daughter is just dying in the JAG. After the lunch stop in the middle of South Carolina I knew I had to take over. If I have moving air and smokes I can handle it. I spent far too many years on the road as a salesman in a wide variety of broke ass vehicles to let a little heat bother me. We loaded up with sodas and water and continued on our sad journey south to rebuild and replace our stolen lives.

We had the hammer down. For the better part of five hours we flew down 95. The switch was probably a good idea as my wife and daughter are best friends and decided that they needed to take action. They began building inventory lists of stuff in the house by room, crying little tears at some of the stuff that was lost.  It was a small distraction at the magnitude of the loss. As her brother put it it was if our hosue had burned down and we all escaped. We had to focus on the fact we were all okay and would be fine. The insurance claim was going to be a major pain in the ass but it would all get done and we would not be homeless or sleeping on floors. However if you want some idea of the pain look around your house at all the little things that make up your life. The pictures. The refrigerator magnets from the trip to Niagara falls with Uncle Fred and Aunt Edna. The lamp you bought together in that funky little shop at the shore. The lopsided  sculpture your daughter made you in preschool. The martini glasses from “That Night.” Gone. For good. Can’t be replaced. Gone. On the floor of some fucking warehouse somewhere or in a dumpster because they have no value to anyone but you.

Then the call came. The North Carolina State Police had found the truck and what appeared to be most of our stuff was still on it. We pulled off the highway and plotted our next move. We had to turnaround and head back but it made no sense for all of us to trek back the five hours to reclaim out belongings. We loaded our daughters in the Honda, sedated both animals with Dramamine and sent them on to the resort hotel we had reserved in Orlando for the night. The wife and I climbed into the Jag and began to backtrack the five hours to North Carolina to get the truck.

As we headed north it became apparent form our conversations with the police that the truck had been found about forty minutes away from the hotel just sitting on the side of the road. It also became apparent the  State Police in North Carolina and Officer Leviner of the Fayetteville Police were just great people. These folks were calling constantly to let us know what the situation was and where the truck would be. It was supposed to be towed into the impound lot for us to pick up. The troopers apparently decided we had been through enough for one day. The got together and drove the truck to the State Police repair yard, had the mechanics check it out, consulted with the local U-Haul guy to see if he had another truck in case ours could not be driven. As it turned out the mechanic gave it a full clean bill of health and they decided to just leave the gates to the repair shop so we could pick it up after hours. The U-Haul dealer called and gave us his home number in case we needed to help starting it since the ignition had been stripped. It was all some faith in humanity restoring stuff.

We arrived about 7:30 in the little burg of Elizabeth Town NC around 7:30 and there was our truck in the repair yard. It was apparent that some stuff off the very back was gone but the majority of our stuff was still there. My theory is that given the number of U-Haul’s and trucks in our hotel the previous night the thieves had prior knowledge of a U-Haul full of contraband or highly valuable cargo at that location and simply stole the wrong damn truck. When we unloaded Saturday it was obvious that this was the case. All the loose shit was thrown off, cabinets open and dumped. My briefcases were dumped all over the cab but they left the cigarettes, electronics and checkbooks with everything else. When it became apparent that this was not the droids they were looking for, they left it running on the side of the road and walked away.

We were now 9 hours of backtracking to Orlando.  My wife was overheated but happy again.  We made the not so smart decision to just stick it through and get all the way to our destination. I asked if she wanted the truck or the car and my poor over heated sweat soaked wife tells me she would feel guilty taking the air conditioned truck.  I just gave her a kiss and the keys.  I could drive the Jag with the heater on just then as I was so relieved that she didn’t have to deal with the loss of all her belongings and keepsakes. It was a long night on the road but we pulled into Orland about 5 in the morning with our stuff.

After an hour cat nap it was time to head over and meet the realtor to get the house keys and sign the lease. We are in Windermere right outside Orlando and this place is gorgeous. I have big honking ass palm trees in yard. We have met more neighbors in two days than I spoke to in years living up north. There are a dozen or so little lakes and ponds throughout the community and we have been just walking around taking it all in.

Being me there are some general observations form our expedition. First traffic on (%, both car and truck, is not up to pre-crisis levels by any stretch of the imagination. We were on the road on a Friday before the fourth of July and the volume was just not there. It is not the ghost road it was when I drove down in December of 2008 but Lisa went into rush hour in both Jacksonville and Orlando and reported that while traffic was heavy she never had to hit the brakes. This would seem to confirm my opinion that the economy is better but not good once you get away from the sewer that is our nation’s capital. The added cost of high taxes becomes readily apparent as you go south as well. Gas prices dropped steadily along the way and one station in South Carolina broke the $3 barrier for regular. Speaking of South Carolina if you ever have the chance to drive through the state three times in one day, take a pass. It is three hours of sunbaked gateway to hell. 95 in the state is in shitty shape and you bounce your brains out in a truck. I have some great memories of the state and know some great people there but the highway is flat boring and bouncy. I also note that the ratio of church to strip club billboards form North Carolina’s northern border to Georgia’s Southern line remains a constant 1 to 1.

We are here and so far I love it. I have wanted to live in Florida for years and now I do. It was an interesting journey down but we and the majority of our stuff is here. I’m looking at Dads baseball bat and Victors cane, the pictures re going up and everyone is safe and thrilled to be here.

Next time I just pay the damn movers.

Follow the Professor

We have been tossing a lot of ideas around Chez Melvin the past few weeks.  Last week we discussed using hedged portfolios of S&P 500 stocks trading at new lows or had fallen to the fallen knife level by dropping 50% in the past year. I am tracking those ideas and have some friends who are more quant oriented than I assembling the models to back test these strategies. Tim Collins, Bob Byrne and I usually have at least three plots to over throw the world and dominate the markets under construction at any given moment in time. Last night I tested using unconventional yield stocks to create a carry trade with interesting initial results.  We throw these ideas around, pick them apart test them and throw the vast majority in the garbage can.

When it comes to markets and finance there are many beautiful ideas and theories that can be dredged from price movements and historical patterns. They are elegant and hold the promise of untold riches right up to the point where you actually test and track them. I have been doing this for a few decades now and I have seen just about every version of every system ever developed. I have dreamed up more than a few of my own. Some worked, most did not. I try to always practice what I learned from Victor Niederhoffer years ago and test everything.  Some added a slight edge to my investing but most were just intellectual exercises that added to my knowledge of what does not work.

One book that never strays far from my desk is Investment Fables by NYU Stern School Professor Aswath Damodaran. The book explores many of the investment theories and approaches that have been developed over the years and exposes the flaws of each. In one chapter he breaks down the concept of buying stocks below book value, my favorite approach to investing. He finds that results are vastly improved by focusing on companies that trade below book value, have manageable debt levels and returns on equity of at least 8%. I have set up a screen using these criteria and it has provided some very successful ideas over the years.

 When I run the screen this morning I see that some old friends are right near the top of the list. Superior Industries (SUP) and Corning (GLW) have both been on this list of stocks in the past. Both are trading right at tangible book and if they fall to the 80% level they will be too cheap not to own stocks. Corning should see an uptick in global LCD demand towards the end of the year and that should boost earnings and get the stock price heading higher. Superior is just an outstanding company that is suffering margin pressures as a result of contracts entered during the height of the recession. As those contracts run off and are replaced margins should recover to historic levels and boost the stock price. Should we get a little more fear in the market and the Volatility index get above 30 both are a good candidate for put selling to back into the stock at a lower price.

Trading at 90% of tangible book value Patterson UTI  Energy (PTEN) is also right on the cusp of being too cheap not to own. The third largest operator of land based rigs is seeing the same pressure from lower oil and gas prices as its competitors. After shuffling its rigs around the company now has 58% of the fleet with liquids rather than natural pressure exposure and that should help them withstand the industry downturn. With firmer energy prices I can see this stock easily doubling to the highs of the past two year.

As with many of my other screens the low price to book, high roe on equity screen shows a lot of stocks that are close to bargains but not quite too cheap not to own. Practice patience. I am pretty sure you will get your chance to buy them at the right price before much longer.

If you do have Professor Damodaran’s web site at http://pages.stern.nyu.edu/~adamodar/ book marked, do it now. It is an invaluable resource.

Fathers Day Rambings and Ruminations

Ahh Fathers Day. That annual day to offset the fact that most of the year we are just the surly man in the background yelling for quiet and some crap about getting the chores done. All over America men are unwrapping ties they will never wear and the 209^th coffee cup to add to their collection and eating a breakfast cooked by some decidedly unculinary offspring. Later we will probably get to fire up the grill and grill some stuff and thank the heavens we are not Moms and so at least the dreaded brunch is not in the equation. 

I am lucky in this regard. My kids are in their twenties and my stepdaughter is heading off with her dad today so I get to be taken out to eat crabs drink beer and hopefully watch the Orioles smack the Braves around the diamond. My wife and my kids are my three best friends on the planet so it’s going to be a pleasant day and I have a quasi-legal excuse to skip most chores. The little one has already started the day off with a pretty cool gift and card.  Having a curmudgeonly ogre for a step dad is tough when you are a 9 year old princess but she makes the most of it. 

One can’t help but think about the journey and adventure that is fatherhood on this day. I don’t give a shit if it is a Hallmark created day that exists to sell greeting cards, ugly ties and charcoal. It still makes me think to the past 28 years and all the steps,  missteps, adventures and disasters that have led to this particular Father’s Day. It has been an interesting experience and worthy of reflection. 

I never set out to be a Father. It was never high on my list of life’s priorities.  Both my kids just sort of happened along the way. They frequently give thanks to Scotch for the miracle of their birth. I had no idea what I was doing and just sort of made it all up as I went along. I may not have set out to be Dad but I cannot imagine what my life would have been like if I wasn’t. 

I can still, as I am sure most fathers can, recall the moments of my children’s respective births. To be clear I was not, and still am not, a huge fan of the whole father in the operating room bit. I was dragged from my mother’s heavily sedated body while my father sat in the waiting room chain smoking and nipping from a flask with other soon to be poppas and that’s a system that makes perfect sense to me. But I was there and the one single moment will stay with me forever. 

Lisa came into the world screaming and making noise (this is no surprise to anyone that knows her. The child is just loud). She was born with a full head of hair and eyes that took up about half her face. She was making all kinds of bellicose noises right up until they scrubbed all the yuck off, wrapped her in a blanket and handed her to me. She stopped crying and those enormous eyes looked up at me with a look that said she knew me and was glad to be here. Of course she ruined the moment by taking a giant crap shortly thereafter and I had to change my first diaper before we could present her to the rest of the family in the waiting room. 

Tommy ,on the other hand, didn’t cry at first. As the little Asian doctor lifted him up so the nurse could cut the cord he decided, like most guys after a long period of confinement that he needed to take a leak. He pissed all over the little doctor as a way of introducing himself to the world. That’s been pretty much his approach to life ever since. 

I have been a divorced father pretty much most of their lives. Lisa was 6 and Tommy 2 when their mother and I split up. My perspective is perhaps not the same as one who lived in an Ozzie and Harriet family but is probably more the norm these days. I have learned a few lessons along the way and thought I would write them down while I was reflecting on fatherhood. They may or may not be of any value but it is too early to drink beer and the game does not start for several hours so this will help me pass the time. I don’t know how much of it is because of anything I did but my kids have turned out to be amazing. I hope I played at least a small part in that and that the lessons learned along the way have some value. 

I always get a kick out of those who tell me that kids won’t change their life. Of course they will. You are not going to be taking the stroller to happy hour and kids are frowned up in casinos. You and Jr, are not going to hit the racetrack on Saturday or take in the symphony that night. Baseball games and war movies are going to be replaced by little damn purple dinosaurs, robots, princesses and other horrible little creations. Life is going to change more than you can possibly imagine. Don’t blame the kids however. It doesn’t matter if your offspring were procreated in a moment of candles and whispers or during wild monkey sex on the kitchen table after a drunken night at the dock bar. They are here now and your life is going to change. You made them and it’s your job to mold them. 

It’s not always easy. We all have those nights where you come home after a shitty day. The market took a crap on your portfolio, you biggest client wants to know why they don’t own latest piece of shit.com and is talking about taking his account to Goldman Sucks. You firm made the front page of the WSJ and not in a good way. The SEC called and by the way the audit is tomorrow. You assistant discovered the joys of cocaine and disappeared with all copies of your presentation to the largest pension fund in the area. You just want to sit back drink some scotch, watch some mindless TV and forget the damn day. 

Tough shit pal. The algebra has to get done and the whole concept of this damn solve for x thing is not penetrating your daughters brain. Your son has a report due on Tom Sawyer and wants to know if he can watch it on DVD instead of reading the book. They haven’t had dinner yet and unlike you they do not live on beer and leftovers from the diner. And by the way the pinewood derby race is this weekend and that block of wood on the table is probably not going to perform well with no wheels or decorations. You can relax some other time, say in 10 or 15 years. 

There’s more to it that that I am afraid. If you are going to do this right they have to come first much of the time. That trip to the Keys is out of the question if it coincides with the little league tournament. That dream job in New York is going to be delayed if the ex has custody and lives in Peoria. That date with the hot chick you met at the bar will have to be cancelled if someone has a fever. You can still live your life but you will have to make choices and modification along the way. You made em, you raise them. 

I have one key to raising kids that has served me well over the years. You have to love them. I don’t mean hugs and kisses and all that crap as nice as that is. You have to love them enough to tell them no early and often. No they cannot have jello and chips for breakfast. No they can’t say up to watch Charlie Sheens new show. No, they cannot leave the house dressed like that No, they cannot do their homework later. No they can’t go hang out at the mall with all the budding trailer trash and lounge lids from school. No they can’t take the car tonight. 

You have to love them enough to be the bad guy. In my general experience Moms suck at being the bad guy. No matter what is going on with your ex or how much you wish she would run off to the far corners of hell with her biker tennis pro boyfriend she needs to be able to scare the shit our of your kids by threatening to call you. You need to love them enough to hop in the car and go over spank their little asses or ground them for eternity to whatever it takes to restore discipline. You and your ex can hate each other on your own time. When it comes to the kids you still have to fill the dad disciplinarian role. 

You need to love them enough to let them fall and stumble. Mom can kiss their boo-boos. They are good at that. Unless there is vomiting or stitches involved dad needs to get them brushed off and back in the game.  Teach to take the bumps of bruises of life and get back up. Its dads job to teach time how to overcome setbacks, that broken hearts don’t last forever and that pretty much everything can be overcome if you want it bad enough. 

Love them enough to be an asshole. You know, the asshole that turns off the TV and kicks them outside on a nice day. The kind of asshole that puts passwords on the computer and won’t let them have an iPhone until they can pay of it themselves. Be the kind of absolute asshole who makes them contribute to their first car and pay their own insurance. Be the unbearable bastard who grounds them for anything less than honor roll. Be that dad who won’t let them read the cliff notes or watch the movie, the one who just doesn’t give a shit what Susie and Johnny s parents let them do. Set your standards and be enough of an asshole to hold your kids to them. 

As they get older it gets tougher because you have to hold your own instincts in check enough to let them trust you. Your kids will experiment with sex, drugs and booze. They will make some incredibly stupid mistakes and questionable decision. In other words there is a very good chance that your teenagers will do the same type of stuff you did. If your kids trust you and can talk to you without a self-righteous angry response perhaps you will be able to guide them through these difficult years. If you’re as lucky as I was your kids will do only a fraction of the truly stupid shit you did at their age. 

It is not all being the hard ass tough guy. You have to take time to play with your kids. Wrestle with them, tickle them until they pee. Take them outside and teach them to throw a baseball. Teach them chess and checkers. Go to all the little league games and dance recitals you possibly can because as big a pain in the ass as they are now they will be big memories for all of you later in life. 

Fatherhood is not easy. It takes effort, concentration and balls the size of your average wild alligator wrestler. Some of the stuff you thought you wanted is going to have to be set aside. I have had to make a lot of choices and decisions over the years that would have been no brainers if I didn’t have kids. I do not regret a single one of them. The success of my kids and their happiness in life so far is proof that I made the right decision. As a result I am far happier with my own life. 

When I look at my life so far I am more than satisfied with my legacy to date. I didn’t cure cancer; I am not the biggest hedge fund a manger in the entire world. I didn’t build any libraries or endow any foundations. I did play a part in bringing the world an honest hard working business man with integrity and a school teacher who is devoted to teaching your kids to read, to learn and to grow as individuals. Erin and I are working on bringing you a Pulitzer prize winning author who is also the world’s most famous fashion designer in her off hours. I have done much in my life but if my only achievement was my children I would be proud to stand on my record. That’s the secret of being a dad.

Now, I am off to stick the little shits with my bar bill for a change. Happy Fathers Day to all.

Palm Trees and Stock markets

So the time has come at long last. The boxes are starting to pile up around the house and the packing is well under way. I never really meant to stay in Maryland this long but have been here now for a little over 20 years. I came home from the West Coast for a wedding and just stayed. I grew up here in Annapolis and have lived a big percentage of my life somewhere between Kent Island and Baltimore. I have many wonderful memories of the state but the time has come to leave.

I have talked about leaving for years now. I considered moving to my favorite city on the planet. I love Chicago and was pretty much ready to move there back in the early part of the new century. I love the city and am pretty sure I would have been able to easily raise more money and been exposed to more opportunities in the Windy City. I am one of those weirdoes who doesn’t even mind it there in the winter. The bars are heated and you can always take advantage of the window between snowstorms to get south for a few days. It’s a vibrant exciting city with everything New York has with wider streets and nicer people. However right about then the daughter developed her health problems and my son was not solidly on his feet yet.

Key West has always been a potential destination. As has Siesta Key. Naples has been a serious consideration as a new home. I love coastal living and Florida has long been an idea I have considered as a new home. Property prices and life style once made Lexington, Kentucky a very serious candidate. A town settled by Irish gamblers with a world class university as the focus of the town would not have been a bad place to live back in my single days. Despite all these considerations and ideas something always came up and I stayed put in Maryland.

Maybe I needed to stay here to meet Erin. God knows life anywhere with my partner and best friend is a lot better than being the curmudgeonly old man at the end of the lane who scares the shit out of the neighborhood kids. Had we never met I could easily see myself as a hermit with a little house at the end of the longest road in the smallest town on the west coast of Florida or along the redneck Rivera of the  panhandle or Alabama. Thankfully fate provided and I have been spared that existence.

Now at long last it is time to go. Erin has received a great job offer in Florida working with the same bank. We are heading to Orlando, not the coast but I am more than okay with that. It is only an hour or so to the beach and the 9 year old is over the moon about living in the same neighborhood as Mickey Mouse. I will have palm trees in my yard and am contemplating taking up bass fishing again as there are several big lakes right by the new house. An average temperature in February in the 70s just doesn’t suck.

I love Maryland but it simply no longer makes sense to live here. The recent tax increases passed by the legislature are a punishment for achieving any sort of success. They instituted a millionaire tax on those making more than 100k or 150k as a couple. The new blended rate including local add ons is now over 8%. They doubled tobacco taxes on certain products. Flush taxes and vehicle registration fees were doubled. The dealer processing charge for when buying a car wars tripled. The drink tax was raised by 50%. Road and bridge tolls were raised by 60% with more on the way. The cost of a birth certificate doubled.

Let’s consider some of our other legislative achievements the past few years. We spent gajillions to pass same sex marriage which immediately was moved to referendum and will likely be defeated on the November ballot. I support same sex marriage but this was all political posturing for Mr. O’Malley when he moves to the national stage. We voted to allow ILLEGAL immigrants to pay in state tuition. We redistricted that state creating voting districts where you cannot drive from one to the other of most of them without crossing a boundary. We basically outlawed pit bulls. The state shifted teacher pension burdens to the counties with no means to pay for them.

Maryland is consistently ranked as one the most anti-business states in the country. We have high income and corporate taxes. Our environmental laws and fees are onerous to the point of the ridiculous. Local zoning restrictions and regulations are draconian. The cost of unemployment insurance keeps rising. Business is over taxed and over regulated. In spite of this state officials ponder why there are no corporate headquarters in downtown Baltimore anymore. They are clueless. The Free State is now the over taxed nanny state.

I have loved living here. Kent Island in particular is one of the best places I have ever lived. It is like living in a resort town populated by incredible people. I loved my 15 years there and have stories, memories and friends there that will last the rest of my life. The Chesapeake Bay is a national treasure that has provided endless hours of fun. Ocean City is the tackiest place on earth and fun as hell if you approach it with the right attitude. I know every inch of every street, alley and barroom in Annapolis and I will always treasure the thoughts of my childhood and teenage years in that beautiful town. Navy football, Orioles baseball, and Ravens football are all things I shall recall fondly. I will still root for them all but from 800 or so miles south under the shade of a palm tree.

I love the state, the places and the people. The local government has become untenable for me. I just do not see the value of living in a state that thinks so little of me of an individual but is so overly fond of taking my money. It has been a long time coming but it is time to go. Palm trees, warm winters and Mickey Mouse await my arrival.

Before we move along I want to take minute to consider the markets. We have moved into what I like to call a “are you fucking kidding me” (AYFKM) market. Spain is being bailed out. AYFKM? Jobs fell to 69,000. AYKFM?  NetFlix (NFLX) is losing customers AYFKM? Gold is down 50. AYFKM? Gold is up 20 AYFKM? Mortgage applications are up. Home prices are down. Europe is dead. Europe is rescued.  All AYFKM moments.

We are in a market where a lot can go wrong but the central banks of the world are determined to not let that happen. Some companies are showing sterling earnings and there is a significant chance that Amazon (AMZN), LuluLemon (LULU) and Ulta Salon (ULTA) could end up owning the universe. At least we will be a well groomed, trimly attired and well-read population should this actually happen. There is a lot that could go wrong and some things that could go right. We are in no man’s land where prices do not justify widespread buying and with zero interest rates and a market that is not grossly overpriced. If anyone tells you with a high degree of certainty what the economy and the market will do over the next year I suggest you kick them the general area of the genitals and  stand over their fallen form, yell AYFKM and walk away.

The proper course of action is to do nothing. Last fall when the world was widely perceived to be ending I added to my cheap stocks. I have my hotel REITs like Sunstone Investors (SHO),Felcor Lodging (FCH)and Ashford Hospitality  Trust (AHT). We bought shopping centers like Kite Realty (KRG) and Cedar Realty (CDR). I have been selectively adding little banks like Eagle Bank of Montana (EBMT and Heritage (HBOS). I have not sold any of my foreign banks like Royal Bank of Scotland (RBOS) or Bank of Ireland (IRE). I bought  a small energy postion earlier this year  with names like EXCO (XCO),  Penn Virginia and most recently Hess (HES).I still have stocks like Disney (DIS), Fly Leasing (FLY), Rowan (RDC) and Seagate (STX) I bought in the 08 and 09 meltdowns.  I am holding them all but not rushing to add or buy new names

We came into the year with a diversified portfolio of safe and cheap stocks along with a high percentage of cash. Nothing is up enough to sell but the market is not creating a plethora of new inventory right now either. I am not up as much as I once was but I am still up a good number on the year. My time horizon is a minimum of five years and ten is more realistic for my financial stocks so I have learned to ignore the day to day. When the money honeys look hangover in the morning and fund managers are puking under their desk again, I will drag out the cash and be a buyer. If the VIX crosses 35 I will be a seller of cash secured puts and option combos on depressed stocks. In the unlikely event that coordinated global intervention and money printing actually works I will be happy to sell some of my stocks at a huge premium to book value. Until then doing nothing is exactly the right move.

There is a mindset amongst my peers that because the casino is open you have to play. The best poker player I have ever known will walk around the poker room at the Borgota or Caesars looking for a game with an edge. . If he doesn’t see one he never sits down. The great horseplayers never leave the rail if they do not spot a race with a substantial edge. I look every day for a safe and cheap stock, an arbitrage opportunity or event driven situation. If I don’t see one I don’t trade that day. More money is made by individual investors by waiting for the inevitable big down draft in the stock market to buy and holding until the next euphoric rally than by trading every day. Doing nothing takes incredible patience and discipline but it is also wildly and consistently profitable. Short term market participants are trading against PHDs and supercomputers as well as the 1/10 of 1% of the population that is actually a great trader. All the edge is theirs and you are merely lunch. Wait until the market gives you the edge by creating a widespread inventory of safe, cheap stocks.

Until that happens life is good. Lisa got her first teaching job. The Orioles are competitive. Tom is firmly entrenched and successful in his profession. Maeve is busy being nine. Erin is excited about a new job in a friendlier work environment and still has not stabbed me in my sleep. How she puts up with me I will never know but I am damn glad she does. I have stacks of books to read, wine to drink and baseball to watch.

Most importantly, I am going to have palm trees in my yard.

Coal Carnage

A lot of the attention of value and distressed investors is starting to focus on the coal industry. As Patriot Coal (PCX) announced that they have begun to explore restructuring possibilities I have gotten several questions a day about coal stocks. I have talked about coal stocks and more specifically the bonds of some of the more leveraged coal companies in recent weeks and it is an area that that is worth exploring. It seems that nobody loves coal these days as everyone from the EPA to the utility companies are turning their back on this long time fuel source.

As with any energy sector when I have questions I call upon fellow Real Money contributor Glenn Williams. Glenn has more knowledge and insight into energy than anyone I have ever met. He is a valuable resource and if you are not reading him it is costing you money. In his words the coal outlook is not as bad as we first feared and probably not as good as some of the more bullish forecasts. The cola plants that have been closed were older less efficient plants and the electricity industry will continue to run the higher efficiency cleaner burning plants. Much of the recent switching to natural gas by utilities and industry has been a result of very low natural gas prices and the pendulum could easily swing in the other direction as coal supplies pile up amidst weak demand.

A recent report by the US Energy Information Administration gives some idea of what is going on in the industry. Although weak demand form electrical utilities lead coal consumption in domestic markets to fall by 18%, export demand increased by 32.6% on a year over year basis and more than 6% sequentially. Nobody loves coal right now except the emerging markets. Although they may pay lip service to the idea of reducing emissions the real interest of nations with fast growing economies is cheap energy to fuel industry and provide cheaper power to the developing middle class. Coal demand in the US will probably decline for a period of time it will eventually stabilize and I expect faster growing world markets to take up the slack in demand. The industry has problems but it is far from dead.

The same cannot be said for all the coal stocks however. I have pointed out in the past few weeks that some of the more highly leveraged coal companies may face severe distress. I would not touch the equity of companies like James River Coal (JRCC) or Patriot at these levels. Although they are asset rich the bear term outlook for the industry may not enable them to support their very high levels of debt service. I am becoming interested in the debt issued by these companies as they are trading below the predicted recovery rates by at least one major rating company. If they file for bankruptcy or otherwise reorganize you should emerge intact and with a profit. If the bonds remain performing or these companies are taken over by a better financed competitor you have a home run investment.

When I run credit scores on the coal companies I only find one that passes with flying colors. Hallador Energy (HNRG) is a small coal miner in the Illinois River basin that I mentioned a few months back as a potential buy. Predictably the stock has gone lower since then but they company has an Altman Z score of 3.8 and a Piotroski F score of 8. It is the only coal company I could finds that passed both tests. Peabody Energy (BTU) has a solid F score of 6 but a Z score of just 1.5. Consolidate Energy (CNX) has a very strong F-Score of 7 but a Z score of just 1.5 as well. Fundamentals show some signs of improving but there is some financial risk for these companies if coal demand and pricing remains weak.

I do not see insiders at the coal companies flocking into the shares yet either. So far only Arch Coal (ACI) has what I would call positive insider activity. We have seen some buying in the past few months as this stock has seen its price plummet. The stock is cheap on a price to tangible book basis but the Z score of.8 and F-score of just 4 indicate the company could struggle for some time yet.

The carnage in coal has caught my vulturistic eye. However I have done much in the sector yet. I had a small partial fill on some Arch Coal puts last month and I expect those will be put to me in June at a small loss. I will be a buyer of Hallador below tangible book value of $5.78 if the price should continue to decline. I have bids in for James River and Patriot well below market hoping to catch a blow off in upcoming weeks on additional bad news flow.

The well fed vulture is a patient vulture. The coal industry is close to a solid distressed opportunity but judging by credit scores and insider activity we are not quite there.

If You Can't wait, Be Careful

Every once in a while my aimless roaming about dark corners of the market pays off with a solid idea that might have been overlooked. Last night in a discussion with a fellow investor he pointed out that some investors were either not in a position, or of the temperament, to wait for the market to fall into a depressed state before putting money to work.  He felt that this condition may apply to income oriented investors in particular as may need the income now and may have to commit the unforgivable sin of spending capital if they are forced to wait for a better entry point. I have to admit this is a valid consideration.

I spent some time thinking about the idea this morning. I can see where some folks may need or simply have a strong desire to get their income oriented money to work now rather than later. Even where this is this case I do not think you can abandon sound principles. I want to maintain some measure of long term safety while collecting my dividends and also want the prospect of inflation beating performance. I want companies in this buy it now portfolio that have sound fundamentals and the prospect of future dividend increases.

I sat down and ran a basic screen looking for stocks that paid at least 3% in annualized dividends and had a solid history of dividend growth. As a measure of financial strength and potential for appreciation I used the Piotroksi F score. I have found this measure to be one of the best indicators of financial and operating improvement and companies with the two highest rankings would seem to offer a certain amount of financial safety in my opinion This a simple screen but it turned up some stock that I think income investors could buy and sleep at night while collecting their dividends.  These stocks will still get hit in a broad market decline but history shows us that stocks with these characteristics  are able to continue paying generous dividends and rebound quickly as the market recovers.

Some of the names will be familiar to income oriented investors. Reynolds American (RAI) is one of the stocks uncovered by the screen. Although tobacco stocks are widely hated by many investors this company has better than doubled its dividend over the past decade and score a solid 8 on the F-score scale. The two highest ranked stocks are mutual fund provider Waddell and Reed (WDR) and Akzo Noble (AKZOY), the Dutch paint and chemical company. Both have F-scores of 9 and respectable dividend yields.

As attractive as these two income stocks might be they are not the hidden gem I uncovered. I found a smaller bank in Ohio, of all places, that has a very high F-score of 8 and pays a generous 6.5% dividend.  United Bancorp (UBCP)) is a small capitalization bank located in Martins Ferry. The company has 20 banking offices and is located right along the borders of West Virginia and Pennsylvania. More importantly from an investors point of view it is right smack in the middle of the Marcellus and Utica oils shale fields.

Although the shares trade at a slight premium to book value this is a close to a perfect little bank as you may ever find. Nonperforming assets are just 1.52% of total assets. Loan loss reserves are 90% of potential exposure. They have maintained adequate capital even while paying a substantial dividend. The dividend today is 60% higher than it was a decade ago. Insiders own 20% of the bank and have a strong incentive to grow the bank and the stock price over time. The results of this careful stewardship are reflected by the fact that they have not had a loss in the past five years of difficult operating conditions for small banks.

I prefer to wait to get the bulk of my capital to work when Mr. Market is in his highly depressed phase but if you have to get money to work now a focus on dividends, sound balance sheets and superior prospects is the best way to select a portfolio. This screen can help you find the type of gems that enable you to get paid now and reduce risk.

Originally Published 5-31-12 as a Real Money Column

Inventory Creation

After a weekend of great weather and great baseball I sat down at the computer this morning and began to check on the world. I had a laugh out loud moment when I read the early headlines. It seems stock futures were up this morning because G8 leaders said they want to keep Greece in the Euro. To me this is like saying you want Uncle Harold to stay at Sunday dinner after he’s borrowed money from everyone and vomited your 20 year old scotch into the mashed potatoes. The other bullish news is that global governments want to favor growth over austerity. I think that’s very nice of them but question if that is practical. I favor an Orioles-Cubs World Series every year too but we do not always get what we want.

The stock market has been in a steady downtrend these past few weeks and we have approached the 10% level that indicates the possibility of an inventory creation event in progress. My approach to the markets, and especially my time frame, allow me the comfort of viewing market declines a positive  event. Although my account may experience quotational losses for a period of time I view these time periods a chance to buy more assets and decent businesses at a cheap price.

As long as I am confident that what I own is safe and cheap I don’t really care too much what the market does over the 5 to ten years I intend to own them. If things get too richly priced I will sell them. If they decline and become cheap, I will buy them. In the interim I read a lot of books, watch a lot of baseball and search for other stocks that fit my criteria or offer a longshot opportunity with a high risk reward. Oddly enough this approach of buying low and selling high seems to work as well, if not better, than most of the complex trading strategies I have run across over the years.

When I checked for new inventory this morning I ran one of my basic market decline screens. I looked for stocks that had dropped more than the market in the past few months, were in the S&P 500 and had fallen below tangible book value. The name that really stood out on the list was Leucadia National (LUK). The shares have declined are back to just under tangible book value. This is a stock that I have owned and followed for years and I am excited about the opportunity to buy it on the cheap once again.

This is an incredible collection of businesses. The company is involved in natural gas, coal gasification, Liquid natural gas, beef processing, wine, real estate, casinos, biotech, plastics and timber. They also own large stakes in several public companies includiung Jeffries (JEF) and Mueller Industries (MLI). Since 1978 the mangers of the company, Ian Cumming and Joseph Steinberg, have grown book value by 18.5% annually. They are distressed and vulture investors who attempt to buy out of favor companies and hold them until they improve. If you understand why they bought the Biloxi Hard Rock casino after Katrina and partnered with Berkshire Hathaway in a mortgage servicing and commercial mortgage origination company in 2009 you start to understand how these guys approach business.

I can give you a lot of reason to own this stock. You have a collection of businesses bought on the cheap with brilliant management. You also have a collection of businesses that will respond positively if all the global money printing does lead to a high inflation rate in the future as some fear may happen.  At 90% of tangible book the stock is not only a solid buy on its own merits, it may proof to be an inflation hedge for your portfolio.

I do not have the room here to break down all the business they own and their corporate strategy. Go to the bare bones website at http://www.leucadia.com/ for a better overview of the company. While you are the read the past thirty years of annual reports and shareholder letter for an MBA in opportunistic, patient vulture investing.

Most of this was orginally published on Real Money.com

Ponies, Markets and Living Well

We are well into the Triple Crown season with just one race left to go. It’s been fun for me so far as based purely on the name I liked I’ll Have Another early on in both Derby Futures as well as Santa Anita. Now we have a decent shot at a real Triple Crown winner as the horse is one of the better closers we have seen in a few years and the length of the Belmont Stakes should favor the him. We have been disappointed several times since Affirmed in 1978 so we shall see what happens in two Saturdays.

I have always been a huge fan of horse racing, racetracks and all the associated depravity. Some of my fondest memories of the past decade are the trips we used to take to Keeneland in Lexington Kentucky every year for the Bluegrass Stakes. Lexington is a town founded by Irish gamblers and is made to order for me. A diverse group of traders, investors, professors and other assorted ner’ do wells used to assemble for a long weekend of horse racing and bourbon drinking with the expected adventurous and occasionally disastrous results.  I guess we all outgrew the trip or just got to busy but they will be telling some of those stories at my funeral in fifty years or so!

I don’t hit the races or even the poker table the way I did in the past. A combination of marriage, kids, getting older, and the end result of the earlier explained IRR have kept me from wagering and whiskey in the quantities of days past. I still follow the ponies however and am always cognizant of the lessons learned at many racetracks and card tables over the years. A day at the track contains lessons in statistics, psychology, marketing, and a host of other scientific disciplines. Many of these I have found to be directly applicable to the markets and to life its own self.

The track contains many of the elements of the financial markets. You have the touters and system developers who look for the answer and failing to find it sell their services to others. It was Tom Ainslie who pointed out how these systems develop in his book on handicapping. “ A longshot wins a race. A disappointed bettor consults his Form and discovers that the longshot had been timed at 36 seconds in a breezing three-furlong workout a couple of days ago. No other horse in the race had worked so rapidly so recently. Powie! A new system is born!” How many of these have you seen in the stock market. Someone curves fit data to show that the winning stocks of the past had a particular characteristic or price pattern and a brand new newsletter and web site is offered to investors as the answer to all their problems and a sure fire path to short term wealth. In truth none of it works any better on Wall Street than it does at the track but selling easy answers to greedy people has always been a source of profits for stock market and horse racing system developers.

 Then there are the people you meet at the track. You have the bleary eyed beer soaked despondent souls who pick up discarded racing forms to search for a long shot winner to just get them back to even so they can start over again. They won once and hit some exacta or trifecta bets, usually by luck and have been chasing that short term success for a lifetime of almost and faded in the stretch. There are those who offer an informed opinion on each and every race with all the certainty of the Delhi Oracle. They bet each and every race and brag of their fantastic winnings before hopping in their classic car (a 1988 Buick Riviera with balding tires and cracked windshield) to head off to their luxury furnished studio apartment with a spectacular view of the railroad tracks and oil refinery. The stock market is full of these folks as well. The oracle of the last market cycle and the expert who never loses are everywhere on Wall Street and I am never sure if their hearts desire is to get to the winners circle or just drag as many others into their pool of disgrace and desperation as possible. Whichever the case, they are to be avoided in life, at the stock exchange and along the rail.

At every track I have been into in my life you can always find a few gentleman, usually older who sit through the race scribbling notes in their racing form each and every race. With the exception of perhaps a close friend or two they do not talk to anyone else or engage in the tip sharing and” who da ya like?” camaraderie of their fellow rail birds. They watch, take notes and perhaps sip a cold beer, or more likely a coffee.  They wander off to the paddock before each and every race and the vast majority of the time they return to their seat to scribble some notes without bothering to place a bet. On rare occasions they get up, go the window and make a bet. These are the ones who have figured out the game. They only bet when they see an advantage and are more likely to fly over the grandstand than tell you how they derived their advantage. This is similar to investors who don’t see the need to trade every day and only pull out their wallets when they have an edge and prices are favorable enough to offer a high probability of long term investment success.

One such astute gambler was among the best of them all. Pittsburgh Phil had a distinguished and successful career as a horse bettor. He once said “Playing the races appears to be the one business in which men believe they can succeed without special study, special talent, or special exertion." This is the case in the markets as well. So many people sit down and read a book or look at a chart and think that they, of all the speculators, traders and investors who came before them, have figured out the answer to market success. They do not study, research, or test and care little for other opinions. The worst thing that can happen to these people is initial short term success that makes them even more confident in their flawed opinions. Eventually the all go spectacularly bust. If this was easy everybody would be rich.

Phil, whose real name was George Smith also once said “Know when to put a good bet down and when not to.” This is not only the best advice for horse gamblers but stock investors. Just because the window is open does not mean you have to get in the action. Patience pays at the racetrack and in the stock market. Just because they open the casino down at Wall and Broad does not mean you have to trade. Once a year or so you will get a steep decline in stock prices that carry 10 to 15% lower. Every few years you will get a gullywhumper of a selloff and prices will fall 20% or more from the highs. That’s when you want to invest your cash. Keep in mind the excellent advice not only of Pittsburgh Phil but Henry Clews in his investing classic, 28 Years on Wall Street as well. “But few gain sufficient experience in Wall Street to command success until they reach that period of life in which they have one foot in the grave. When this time comes these old veterans of the Street usually spend long intervals of repose at their comfortable homes, and in times of panic, which recur sometimes oftener than once a year, these old fellow will be seen in Wall Street, hobbling down on their canes to their brokers' offices. Then they always buy good stocks to the extent of their bank balances, which have been permitted to accumulate for just such an emergency.”

When I was a more frequent visitor to the track I used to look for horses that were stepping down in class in a race. I looked for a horse that had run middle of the pack races in higher dollar stakes race and are now stepping down a bit. If I could find a horse in a $50,000 stakes race that had run a few $100,000 races and had placed third or fourth I was interested. Racing against lesser competition the horse had a strong chance of running well and the past performance figures against better horses usually gave longer odds than should have been the case. The biggest ticket I ever cashed came from finding two of them in one race and hitting a badly underpriced exacta. It also provided a pretty steady diet of simple win tickets over the years. To me this is a lot like buying fallen angel stocks. Former blue chips that have had a reversal of fortune and fall into single digits have provided a fertile shopping ground for winning stocks over my career. It also applies to people. I am more comfortable being associated with someone who has fallen or failed and gotten back up to run again that I am with someone who has yet to taste defeat and disappointment. These temporarily blessed souls usually think it is their brilliance rather than circumstance that has so blessed them. When the fecal matter hits the the fan as it always does they are apt to become unreliable partners or friends in my experience.

If I was betting on a rainy day I always wanted to look for the mudder in the race. Some horses like Storm Cat just love the mud and run very well thought the slop.  I have seen horses that need a taxi to reach the finish line on a dry day win by 10 lengths when the rain is falling and the mud is thick. This plays out in the stock market as well.  Even in a crappy market and economy like 2008 there were some companies that will benefit from current conditions. In 2008 as the world and portfolio values sank like a well-ventilated submarine companies that catered to low end bad credit consumers did very well. AaronRents, Dollar Tree, Wal Mart, Family Dollar and others that catered to the broken consumer saw their stock prices do very well. Last year it was energy stocks and companies that sold to a resurgent upscale consumer that ran to victory in a flat market. In every economy and market condition there is a group of companies that will benefit and buck the trend.

There a lot of comparisons found at the track that apply to markets and to life. That sleek looking thoroughbred that goes off at short odds may win a good percentage of the time but if you bet him every race he will take your wallet for a ride. He will do well for his owners but gamblers will go broke betting short odds. The same can be said of buying high growth issues at very high multiples and trophy wives.  The feisty little colt at long odds that has run well in the past but is under bet can make you a fortune. So can stocks that are experiencing temporary difficulties or just ignored by the investing public. The stunning high maintenance slut queen at the bar may attract all the attention but it is the good looking smart quite woman in the corner that will make you happy man for decades of life. Flash and short odds does not reward in any endeavor as does substance with a high payout.

I love the race track. Not only is it enjoyable and some of the best people watching you will ever experience but you can gain an MBA in Investing and Life $2 at a time.

Bet the Debt

After my column on stocks that are leading the market lower, I got the usual round of "but what about?" queries from readers and associates. The biggest one was: "What about coal stocks?" Cola stocks have been what can only be called a disaster so far this year and indeed, they have been a month the biggest losers in the past month. Depending on your current position the declines have either been impressive or depressing. Alpha Natural Resources (ANR) shares have slipped by 28% so in the past month. Arch Coal(ACI) has declined by 24%. Cliffs Natural Resources (CLF) has dropped 28%. Patriot Coal (PCX) has seen a gut-wrenching drop of 40% while James River Coal (JRCC) is down a mere 30% in the last month of trading. It has been brutal, and trying to pick a bottom has been a disaster for some contrarian investors.

Coal's problems are pretty well known. New regulations have cast a dark shadow over the industry's future prospects. The Environmental Protection Agency (EPA) hasn't exactly outlawed coal, but they have done the next best thing. You simply cannot build new power generation plants that burn coal and be EPA compliant. To make matters worse, natural gas prices have declined to the point that gas-fired generation plants are as cheap to run as coal-fired plants. Fellow Real Money contributor Glenn Williams has discussed this in greater detail and I will be talking to him about coal's future usage in the U.S. sometime in the next few days. Coal stocks have been declining and, given the earnings shortfalls and possible asset write-downs, they will probably continue to go lower this year.

My "aha" moment came when I was looking at James River Coal at the request of a reader. Coal companies are being traded as if they are going to go out of existence. Some just might, but the industry will survive. Even with the stricter regulations they face, coal is still used to provide more than 40% of our electricity in the U.S. Although emerging markets may pay lip service to the environment their chief concern is cheap sources of power, and outside the U.S., that still means coal. Coal will survive and that makes the industry a distressed debt story right now.

I use a very simple rule for distressed debt investing that I got from Marty Whitman of Third Avenue. I use his criteria of looking for performing credits that are priced in such a way that if the company files bankruptcy, I can still make money by holding the debt. Asset-rich situations, such as coal companies, are fantastic candidates for high recovery rates and most of them are still making their debt payments in a timely manner.

I have mentioned the James River debt before. James River owns 25 underground coal mines, 12 surface mines and 14 preparation facilities. They have reserves of about 370 million tons of coal. The company is struggling and it has a substantial debt load of $582 million, but it also has a lot of assets. In fact, it has enough assets that Standard and Poor's gives the senior unsecured notes a recovery rating of 2, indicating a 70%-90% recovery rate in the event of a bankruptcy workout. The senior unsecured 7.875% notes due in 2018 are trading at 66 with a yield to maturity of 16.27%. At the low end of anticipated recovery, I should still make money even if the company files bankruptcy because the company is still paying the interest.

Debt issued by Patriot Coal is not quite as attractive, but it's getting there in the current market. The company owns 14 mining complexes and has reserves of 1.9 billion tons of coal. The debt-laden company has a recovery rating of 3, indicating a 50%-70% recovery in the event of a bankruptcy. Right now, the 8.25% notes of 2012 senior unsecured bonds are trading at 63 with a yield to maturity a little above that level. At the current price, you need to collect interest on the notes for a year and a half to be break-even at the lower end of the predicted recovery range. That would seem to be a reasonable speculation, given that recovery could be closer to the high end of the range if coal markets improve.

Coal equities will eventually be a decent opportunity. Right now, I find the debt much more attractive.

Originally published on Real Money