April 2007 – Page 2 – The Aleph Blog

Current Industry Model

Posted on 23 April 200725 April 2007 by David Merkel

Here are my current industry ratings. Unfortunately, the current list does not diversify me much. I might look at trucking, shoes, coal, restaurants, or specialty retail, but nothing much grabs me on the list. Most industries don’t feel trashed at this point.

When I find my model to be thin in what it is offering me, I sometimes run another model that looks at bad relative price performance by industry. If I’m still uninspired at the next portfolio reshaping, due for late June (or so), I’ll run that model to see if it gives me any fresh ideas.

My Stray Mortgage REIT

Posted on 21 April 200723 April 2007 by David Merkel

A personal note before I start; I’ve been gone the last two days because I am part of the leadership of my denomination, and we had a regional meeting for the better management of our congregations. The hotel that I stayed at promised internet service, but did not deliver on that promise; that’s why I didn’t post yesterday. My intention with this blog is to put up one or two good posts every day, excluding Sundays.

I don’t trade that often, so being away is not a problem Sometimes when I get home, there is a surprise waiting for me.? This time the surprise was a positive one, where Nelson Peltz does some house cleaning, and gives his shareholders a gift in the process. He has simplified his life by selling his stake in Deerfield Capital Management to the mortgage REIT that they manage, Deerfield Triarc Capital [DFR]. Also, he reduces his stake in DFR down to a 10% level. He gets to focus on the restaurants that he owns through Triarc [TRY].

I would encourage interested readers to look through the presentation that they did for this acquisition, and this presentation that they did to describe their management style. At my previous employer, I suggested that we start a REIT like DFR. Good as that firm was, they did not take my advice.

The price as a ratio of EBITDA for purchasing Deerfield Capital Management was around 7.5x. Pretty good acquisition price, considering that capital is not a constraint for the growth of the combined enterprise. I think the stock goes higher from here. My main concern is this: once they get to full deployment of alternative assets, this company will be very profitable, but also risky. You will likely see me sell my shares once the company reaches maximum portfolio risk. At that point, I might miss some upside, but with Meyer Rothschild, I will have sold too soon.

Full Disclosure: Long DFR

My Award-Winning Blog (cough, cough)

Posted on 19 April 200722 June 2017 by David Merkel

At the bottom of this page is my disclaimer. I like my disclaimer. It fits my personality, and does the job.

But over at the blog VIX and More, Bill Luby has taken a shine to my disclaimer. What can I say but that I am flattered. As an aside, the Aleph Blog has been in existence for two months, and I am happy with the growth so far, given my limitations on the time that I can spend on it. Suggestions for expanding the reach of my blog are welcome; I am only an amateur on that topic.

An Interesting Post from NPR Marketplace

Posted on 18 April 200721 April 2007 by David Merkel

We haven’t had foreclosure on a wide scale since securitization became common. Some municipalities are trying to figure out who truly owns a house in foreclosure if the loan was securitized. I would think that the trustees were the legal owners on behalf of the junior certificate holders, with the servicer acting in behalf of the trustee.

The radio show NPR Marketplace had an interesting piece on this phenomenon. When a city is dealing with a mass of abandoned buildings, they want to know who owns them, so that they can be protected, and blight avoided.
In this era of securitization, finding the owner after foreclosure is not simple. Listen to the piece, and consider the effects on our markets and society.

Too Many Vultures, Too Little Carrion

Posted on 18 April 200721 April 2007 by David Merkel

I had a cc post over at RealMoney called Too Many Vultures, Too Little Carrion . The idea was that there’s too much money ready to rescue dud assets at present. Yesterday, Cramer had his own blog entry suggesting that the absorption of subprime assets at relatively high prices implied that the depositary financial sector is a sound place to invest. I disagree. In the early phases of any secular change, there are market players who snap up distressed assets, and later they find out that they could have gotten a better bargain had they waited.

The good sale prices for subprime portfolios is not a sign of strength, but a sign that there is a lot of vulture capital looking for deals. The true problems will surface when the vulture capital gets burned through or scared away.

Pity the Poor Investment Grade Corporate Bond Manager

Posted on 17 April 200718 April 2007 by David Merkel

When I was an investment grade corporate bond manager (2001-2003), my analysts would come to me and explain the credit metrics of the company whose bond we might buy. Now, that was a period of great stress in the credit markets. Often my analysts would stress that the low enterprise value to EBITDA ratio would help protect us, and it did.

Fast forward to 2006-2007. Companies with low enterprise value to EBITDA ratios are being taken private, and the corporate bonds with no change-of-control covenants are being downgraded to junk, because of the additional senior bank debt subordinating the old corporate bonds.

This is another situation where the manager wants Goldilocks. Not too hot, lest it be taken private. Not too cold, lest it default. It’s a tough situation to be in, and if I were managing a bond portfolio, I would move to higher quality with corporate bonds (not much yield give-up), while buying junk-rated corporate loans, so long as they have protective covenants.

It’s a tough situation. Clients want yield and safety, and the trade-off is tough. The best a corporate bond manager can do is to play it safe with spreads so tight, and wait for a better day to take credit risk.

The Taxman Got Me

Posted on 16 April 200722 June 2017 by David Merkel

Sorry for my relative silence over the last few days, but I had to get my taxes together.? My employer gave me K-1s in early April, so I had to push to meet the April 17th deadline.? Maybe if I weren’t negatively disposed to the way the US government uses the money, I would be more chipper.? Instead, I think we should hold elections near April 20th, or move the normal tax filing date to October 31st, which would highlight the ghouls that are sucking our blood for little good reason.

Of course the politicians would never do this.? A sleepy electorate is the best electorate.? The cozy duopoly of the Democrats and Republicans helps insure that no change will happen to the dysfunctional political process that we now have.

Another Boon from RealMoney.com

Posted on 12 April 200720 June 2017 by David Merkel

Well, my RealMoney column from April 9th got republished on the free site, and got syndicated out to Yahoo! as well. When I write a piece where I mention a company, like Assurant, it’s fun to see the piece appear on the Yahoo! news. But when I don’t mention a ticker, I know that if they put it on the free site, I know they also syndicate it out to Yahoo!, and a number of other places as well. I get amazed at times where my stuff ends up. Well, I hope it makes money for them, and most of all, I hope it benefits those who read it.

That’s particularly true for this piece, because it focuses on risk control in a very direct way. Too many market players don’t realize that risk control is a way to make more money on average over the long term. How does that work?

It keeps you in the game. Absent war on your home soil and aggressive socialism, being an owner in society is a winning strategy over the long haul.
Rebalancing allows you to pick up an incremental 2-3% annually on average. It forces you to buy low and sell high.
There will be drawdowns. You will get drawn down less, and if you stay with strong companies in industries that have previously underperformed, when the bottom arrives, you will outperform the market.

I view risk differently than most market players, and than almost all academics. Risk means trying to avoid loss on every name in my portfolio, not avoiding loss on the portfolio as a whole, and certainly not standard deviation of returns, or even worse, beta.

“Don’t keep all your eggs in one basket.” True enough. “Keep all your eggs in one basket, and watch that basket carefully.” Also true. “Watch every egg.” That’s what I try to do. I’m a singles hitter, not a home-run hitter with attendant strikeouts. I try to make money on every company, by following my eight rules. That doesn’t guarantee success, but my losers over the last 6.5 years have been less than 10% of the names that I invested in. And, in each case where I lost, the error of judgment came from neglecting one of the eight rules.

All that said, I encourage you to focus on risk control. It’s a lot easier to make money if you don’t lose it.

Full disclosure: long AIZ

Vote Your Proxies!

Posted on 11 April 200712 April 2007 by David Merkel

I had a pretty good day in relative terms today. Leading the charge were Premium Standard, Patterson-UTI, YRC Worldwide and Jones Apparel. Trailing the pack were Cemex, Lithia Automotive, Group 1 Automotive and Komag.

My main intent in this post is to encourage everyone to vote their proxies. We have a responsibility as capitalists to watch over the firms that we own to the greatest extent possible, and to encourage them to foster greater shareholder friendliness. I don’t want shareholder votes to be like ballot initiatives in California, where one becomes an amateur legislator, but I do want the ability to vote down directors, and for 5% of the shareholders to be able to propose binding rules to the company, for the shareholders as a whole to vote on.

In my own voting, I vote against management when they have not provided an adequate relative return, and vote with them when they have, aside from the principles listed above. If all mutual funds voted this way, corporate America would clean up its act, and rapidly.
Full Disclosure: long PORK, PTEN, YRCW, JNY, CX, LAD, GPI, KOMG

Railroad REITs — What if?

Posted on 11 April 200712 April 2007 by David Merkel

With Buffett’s purchase of Burlington Northern, I have to toss out this idea: what if Burlington Northern took its extensive land holdings and spun them off into a REIT, where the railroad would pay the REIT a fee for renting the rails?

This could be a very tax-effective means of running the business(es). I would imagine that the operating company would pay a small dividend at best, while the REIT would pay a significant dividend.

Now, the fun question is which entity would be more valuable. I would guess that the REITs would be more valuable, given the scarcity of tracks. That said, logistics are probably worth more… the ability to use the track intelligently is worth more than the tracks, until things become more congested on the rails.