The Aleph Blog » Blog Archive » October 2007 Portfolio Reshaping

October 2007 Portfolio Reshaping

The reshaping file can be found here. In order to stay in compliance with the Bloomberg data license, I only include numeric fields that I have calculated. My ranking method ranks the companies in my portfolio, and all replacement candidates by several variables:

  1. Relative Strength (lower is better, double weight)
  2. Trailing P/E
  3. This year’s P/E
  4. Next year’s P/E
  5. Price-to-book (double weight)
  6. Price-to-sales (double weight — financials are counted as average)
  7. Dividend Yield
  8. Net Operating Accruals (a measure of accounting integrity — double weight — financials are counted as average)

I rank the companies on all of the criteria, weight the ranks, and calculate a grand rank. I look for the company that I own that has the middle rank for all of my currently owned companies, and I sell a few companies that I own below that, and buy some new companies near the top of the list. Here are my actions:

Sales

  • Sara Lee
  • Dow Chemical
  • DTE Energy

Purchases

  • Redwood Trust [RWT]
  • Gehl Corp [GEHL]
  • Shoe Carnival [SCVL]
  • Charlotte Russe Holding [CHIC]

Future Sale

One reinsurer — could be Flagstone, PartnerRe, or Aspen Holdings.

Rationale

I have enough reinsurance names going into earnings. If you need more of an example of how well they will do this quarter, then look no further than PartnerRe’s solid earnings report this evening. On the other sales, DTE Energy and Dow Chemical were solely for valuation reasons. Sara Lee is another matter; my confidence that they can turn around the company is reduced, and valuation is not compelling.

As for purchases, on the shoe retailers, there were a bevy of cheap names, but Shoe Carnival and Charlotte Russe seemed to have the most consistent operations, and low debt. Gehl seems to be in a good industry, small agricultural machinery is in demand, and valuations are modest. Finally, Redwood Trust seems to be well-run as mortgage REITs go. Asset quality is good and leverage is moderate. Also, the debt is all from securitizations, so it is non-recourse to the company; the most that can happen is that the assets in the securitizations depreciate to the degree that their residual interests are worthless.

One other shift that is unintentional here, is that my portfolio becomes more small cap in nature. I am selling away larger companies, and buying smaller ones. That is an accident of the process, but occurring because there are some genuinely cheap companies to buy. Time will tell as to whether these are good purchases, but most of what I like in investments are lining up here.

Full disclosure: long PRE AHL FSR CHIC SCVL RWT GEHL






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6 Responses to October 2007 Portfolio Reshaping

  1. Aaron says:

    Interesting that you are looking at the small cap retail oriented plays like Charlotte Russe. I take it this means that you are betting on the U.S. economy staying out of recession?

  2. Mike C. says:

    Not sure I understand using the relative strength measure this way in the ranking process.

    I understand that you are a “value investor” and not a short-term trader, but all else being equal I would think one would want to buy attractive value with positive momentum, and avoid or underweight the names that are more likely to continue to languish.

    I’d be interested in your thought process on this.

  3. Josh Stern says:

    I was really surprised by your overall ranking system. It seems to me that by not explicitly weighting a proxy for growth while simultaneously giving a positive weight to weak performing industries, you are net giving a statistically negative weight to the market’s view of forward growth for each company.

  4. Glad I could help. 2 out of my 11 screened made the cut, it seems our “value-dars” are on similar wavelengths …

  5. Doug says:

    Good call on RWT. Of course, it is a “good call” because I own it! ;)

  6. SmallGuy says:

    What measure do you use for relative strength?

Disclaimer


David Merkel is an investment professional, and like every investment professional, he makes mistakes. David encourages you to do your own independent "due diligence" on any idea that he talks about, because he could be wrong. Nothing written here, at RealMoney, Wall Street All-Stars, or anywhere else David may write is an invitation to buy or sell any particular security; at most, David is handing out educated guesses as to what the markets may do. David is fond of saying, "The markets always find a new way to make a fool out of you," and so he encourages caution in investing. Risk control wins the game in the long run, not bold moves. Even the best strategies of the past fail, sometimes spectacularly, when you least expect it. David is not immune to that, so please understand that any past success of his will be probably be followed by failures.


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