29 June 2011 – The Aleph Blog

Got Cash?

Posted on 29 June 2011 by David Merkel

Ecclesiastes 10:19 (NKJV)

A feast is made for laughter, And wine makes merry; But money answers everything.

There has been a small flurry of posts off of James Montier’s piece on the virtues of cash.? I wrote a piece like it recently (not as comprehensive, but possessing brevity): Chasing Your Tail Risk.

Like gold, cash is special because it doesn’t do anything.? Even money market funds do nothing, or almost nothing.? It just sits there, waiting.? It waits for the day when the Fed is forced to raise rates because inflation is running faster, even though the economy is still underemployed.? It waits for the day when bond yields rise and stock prices fall, where there are good opportunities to use the cash.

Having cash on hand allowed my church to buy a building cheaply in March 2009, and allowed me to help rescue a friends business, as well as buy some cheap stocks.? The same was true for me in October 2002, when I fully deployed my cash into stocks.

Cash is flexibility.

Cash says, “I don’t know.”

Cash says, “I don’t care.”

Cash says, “I’m ready.”

When opportunities are numerous, I am more than willing to part with my cash.? But when yields are low, and valuations are high if profit margins mean-revert, I would rather have more of a cash buffer.

For my account, and client accounts, I did buy some stock last week.? If the weakness had persisted, I would have bought more.

I still have an above average amount of cash (for me).? I am waiting for opportunities to get better before I deploy it.

Never Got Kodak

Posted on 29 June 2011 by David Merkel

I remember looking at Eastman Kodak a number of times over the last decade.? Often a few metrics would look cheap, but when I would look at the bevy of factors in the financials and consider the effects of technology, I could never get myself to be a buyer.? To me, it seemed to be the ultimate value trap — a modern buggy whip company.

That’s why the behavior of Bill Miller, a so-called value investor, was so surprising to me.? He had a saying, “lowest average cost wins,” but that implies that the stock will rise at some point.? For stocks that keep falling, the average cost does not matter.? And lest I seem to be boasting, I made the same mistake on Deerfield Capital.

But he did the same thing on Freddie Mac, though that was more dramatic.

The core idea of value investing is NOT “buy cheap,” (lowest average cost) but margin of safety.? My greatest mistakes in investing came from not seeking enough margin of safety.? Same for Bill Miller, though the effect on his track record was far greater.