Book Reviews – Page 5 – The Aleph Blog

Book Review: What’s Behind the Numbers?

Posted on 27 May 2014 by David Merkel

This is an ambitious book. ?It tries to draw together financial statement analysis, value investing, short-selling, technical analysis, market timing, and portfolio management into one slim book of 254 pages.

It spends the most time on financial statement analysis, going over revenue recognition, inventories, and all of the squishier areas of accounting that?most industrial companies face. ?It will not help you much with financial companies, they are far more complex, and deserve a book all their own.

I was surprised that the book did not suggest common summary measures of accounting quality, such as Normalized Operating Accruals. ?It did feature Cash Flow from Operations less Net Income, which is almost as good.

The book focuses on the short side — how do you make money from failure? ?The long side suggests maxing out on small cap value stocks, and idea which ?I like, but can get overfished at times.

Think of it this way: do you want to run a portfolio that is systematically short company size, long value, short liquidity, long quality, etc? ?I helped do that for 4.5 years at a hedge fund, and boy that ride was bumpy. ?The market can remain insane longer than you can remain solvent.

But, to the book’s credit, it understands position sizing for short positions, which is momentum following. ?Short more of things that fall. ?Do not add to shorts when the prices rise. ?This is a key insight of the book, and it is a reason why value managers often?don’t do well in a long-short context.

My last complaint is that the book does not explain even in broad terms how they balance the various?portfolio management ideas. ?If you buy this book, you are on your own. ?You do not ?have a full roadmap to guide you. ?If you were going to use this as a main strategy, you would have to fill in a lot of holes.

Now, I’m often critical of turn-the-crank books — follow my rules, and you will make money. ?But I am more critical of almost turn-the-crank books — follow my rules, and you still won’t know exactly what to do.

Is this a good book? ?Yes. ?Read it and you will learn a lot. ?Will it help you analyze stocks? ?Also yes. ?You can make a lot more money by avoiding stocks with a high probability of losing money. ?Will it tell you exactly what to do? ?No. ?That is a strength and a weakness — I’m not sure any book on investing that offers a formula can be exact, and be good. ?Investing is an art, not a science. ?Then again, science is an art, not a science, but that’s another topic — all the great discoveries come from not following the scientific method.

So if you want to learn, this is a good book. ?If you want a foolproof way to make money, sorry, this won’t do it for you, and the same for almost every other investment book.

Quibbles

There are far better books on all of the topics that they cover, and most of them have been reviewed at my blog. ?Far better to read books that specialize on a single topic, than one that is a hodgepodge.

Summary

This is a good book, but average investors should not buy it as a formula, because they can?t implement it. ?Average investors could benefit from the book, because it gives them a taste of a wide number of investing topics. ?Just be aware that you aren’t getting a full dose of anything. ?If you still want that, you can buy it here:?What’s Behind the Numbers?: A Guide to Exposing Financial Chicanery and Avoiding Huge Losses in Your Portfolio.

Full disclosure:?I borrowed this book via Interlibrary Loan. ?It is going back tomorrow, and I will not buy a copy to replace it.

If you enter Amazon through my site, and you buy anything, I get a small commission.? This is my main source of blog revenue.? I prefer this to a ?tip jar? because I want you to get something you want, rather than merely giving me a tip.? Book reviews take time, particularly with the reading, which most book reviewers don?t do in full, and I typically do. (When I don?t, I mention that I scanned the book.? Also, I never use the data that the PR flacks send out.)

Most people buying at Amazon do not enter via a referring website.? Thus Amazon builds an extra 1-3% into the prices to all buyers to compensate for the commissions given to the minority that come through referring sites.? Whether you buy at Amazon directly or enter via my site, your prices don?t change.

Book Review: The 52-Week Low Formula

Posted on 10 May 2014 by David Merkel

I usually don’t like reviewing books that say, “Follow this formula, and you will make lotsa money. ?Thus it was with some hesitance that I requested this book. ?I did it partly off of Tweedy, Browne’s study, which is aptly titled, “What Has Worked in Investing.” ?For those reading at Amazon, Google “Tweedy Browne What has Worked” for the link. ?Stocks that hit new 52-week lows on average are ready to rebound. ?So why don’t people buy them?

Are you kidding? ?Look at that chart! ?Do you really want to catch a falling knife?! ?You want to throw good money after bad!? ?Why do you want to buy that dog, anyway…

Shhh. ?The competition is gone. ?There are no friends of failure. ?But made some companies get unfairly tarred as losers, when it is simply a good company that made a few mistakes.

That is the idea behind this book. ?Analyze companies from which?most market players ?have fled. ?Look for those with ?the following characteristics:

They must have a durable competitive advantage.
They must must a strong free cash flow yield.
They must have a return on invested capital that exceeds the cost of that capital.
They must not have too much debt relative to free cash flow.

I Had Troubles Getting to Solla Sollew

But here’s the big problem, and advantage, of the book. ?He does not give you the “secret sauce.” ?He gives you the principles. ?Indeed he can’t give a formula, because many of his criteria don’t admit an easy formula. ?You can’t calculate free cash flow from looking at GAAP accounting — you would need to know what portion of capital expenditure is to maintain existing assets, and that is nowhere disclosed. ?Typically, when you see free cash flow in screening software, all capital expenditure is deducted from cash flow from operations, producing too conservative of a figure.

Thus we can’t replicate points 2 & 4. ?What about 1 & 3? ?Companies do not comes with tags saying “Durable Competitive Advantage” and “No Durable Competitive Advantage.” ?That is a judgment call. ?You could use Morningstar’s Moat Ratings, or Gross Margins as a fraction of assets. ?The author does not give explicit guidance. ?As to point 3, the main problem is that we don’t know what a company’s cost of capital is. ?There are a lot of assumptions lying behind that, and they matter a great deal.

The easiest?of his five criteria to calculate is the price vs the 52-week low. ?Still, he doesn’t give us a threshold.

So What Good is This Book?!

Unless you are an expert, not much good, unless you simply want to play the 52-week low anomaly. ?That said, actionable strategy would be to review the 52-week lows, and analyze companies with low debt and high past profitability that seem to have a franchise that is not easily attacked. ?I think the theory is solid. ?That said, it does no give a lot of the details, not that most readers would understand it if they did.

This book is good, in that it is realistic. ?Though not explicit, it informs you that it is very difficult to choose superior stocks, and it it does not give you a cut-and-dried method.

So If You Can’t Do It Yourself, Then What Is This Book?!

Though the disclosure at the end says otherwise, this book is an advertisement for the author’s method of money management. ?In none of his five criteria does he get sharp. ?The general principles are correct, but you aren’t given the tools to use them. ?That means if you want to use them, you must go through the author.

Verification

They have a website –?52weeklow.com, but it is not laden with data as the book intimates, as of the day that I write this. ?That would be worth seeing.

Quibbles

On pages 74-75 he gives a strained view of margin of safety,?comparing free cash flow yields to the 10-year Treasury yield. ?Margin of safety is more of a balance sheet construct, asking how likely is is that a company will get into financial stress. ?What he is actually measuring here is valuation. ?What he is doing is not wrong, but it is mislabeled. ?Also remember, you can estimate free cash flow, but you never know for sure.

Also, as mentioned before, we have no idea of what his thresholds are and how he actually implements the strategy.

Thus after this article are two attempts to work out the strategy. ?What should not be surprising is that there are no companies on both lists.

Summary

This is a good book, but average investors should not buy it, because they can’t implement it.??If you still want that, you can buy it here:?The 52-Week Low Formula: A Contrarian Strategy that Lowers Risk, Beats the Market, and Overcomes Human Emotion.

Full disclosure: The PR flack asked me if I wanted the book, and I said “yes.”

Application Attempt One

These were the companies selected — Morningstar Wide Moat, 5% Free Cash Flow Yield, Less than 20% above the 52-week low.

And here is the second try: Gross margins as a ratio of Assets over 13%, free cash flow yield over 5%, Long-term debt as a ratio of free cash flow greater than five,?less than 20% above the 52-week low.

Not one alike on the two lists. ?Tells you that his book would be very difficult to implement. ?*I* don’t know how I would implement it.

Book Review: Clash of the Financial Pundits

Posted on 6 May 2014 by David Merkel

Josh Brown?s last book, Backstage Wall Street, was four books in one.? This book, Clash of the Financial Pundits, is three books in one.? The authors cover three things:

Punditry in history
How to understand modern pundits
Interviewing modern pundits

I will take them in that order:

Punditry in history

The book covers the following eras in punditry:

The Crash that Started the Great Depression
The South Sea Bubble
Joe Granville
Harry Dent, Charles Kadlec, Dow 36,000
Martin Zweig
Jim Cramer was right during the 2008 crash

Roger Babson warned people about how high the stock market was, while Irving Fisher talked about stocks hitting a ?permanently high plateau.?? The South Sea Bubble had many in the 1700s media stoking the flames of speculation.? Joe Granville was hot stuff in the late ?70s and early ?80s, but was dead wrong the rest of the time.

Harry Dent, Charles Kadlec, and the crew that put together Dow 36,000 created their own sensational predictions which proved to be controversial and very wrong.? Martin Zweig was right about the 1987 crash, while Jim Cramer controversially was right during much of the 2008 crash.

How to understand modern pundits

Then comes the basic advice to help us weather the storm of advice that floods the media.? The main topics are:

How to use financial media intelligently?
Need for humility
Hedge fund managers that talk to the public
People who act certain attract belief
Wall Street maxims often contradict each other
Making predictions that are squishy (surprises lists)
There are no experts

Using financial media intelligently means limiting the intake, and limiting its effect on you.? We must be humble in what we understand and accept, and we should listen to those that are humble in what they say.

When hedge fund managers speak publicly, realize that they are speaking their own interests.? They may not be right.? Also, those who speak with certainty on TV tend to attract more belief than those who are more humble and nuanced.

There are many soundbites in financial television, radio and writing.? For every maxim, there is a counter-maxim.

There is an art to making predictions that can?t be falsified, such as surprise lists.? It would help us all if we all realized there are no experts in investing, and that even includes me.

Interviewing modern pundits

Jeff Macke, Josh?s Co-author interviews the following pundits:

Jim Rogers ? former manager of the Quantum Fund, author of many books.
Ben Stein ? speechwriter for Nixon, written a scad of books, etc.
Karen Finerman ? founder, owner & head of Metropolitan Capital, on CNBC?s Fast Money
Henry Blodget ? Internet stock analyst 1998-2002, and now the editor and CEO of?The Business Insider, a business news and analysis site, and a host of Yahoo Daily Ticker, a finance show on Yahoo.
Herb Greenberg ? wrote for the San Francisco Chronicle?s business section, for theStreet.com, and has appeared on CNBC many times.
James Altucher ? Entrepreneur and blogger.? He contributes content in many journalistic outlets.
Barry Ritholtz ? Writes for Bloomberg.com and his own popular blog.? Also writer of the excellent and early crisis book Bailout Nation.? Josh Brown works with him at their firm.
Jim Cramer ? Former hedge fund manager, founder of theStreet.com, host of the show Mad Money which appears on CNBC.
Jeff Macke ? Josh?s co-author, currently working for Yahoo Finance, who relates a tale of when he screwed up badly as a pundit.

These are good interviews, and it gives the readers an internal look as to what it is like to be in front of the media, particularly amid controversy.? Each of the nine interviews sheds light on being a pundit, but in different ways.

Jim Rogers has talked about macro issues, and with a varied track record in the short-run.? Ben Stein has said many controversial things over time.? Karen Finerman has the story of being invited onto CNBC?s Fast Money, and taking a sip from the firehose as the first woman, one with no TV experience, and surviving.

Henry Blodget goes through his errors in the Internet Bubble, and how he has found redemption in writing about finance.? Herb Greenberg, the consummate skeptic, describes what it is like to take unpopular positions versus popular stocks.? James Altucher oozes blood over much of what he writes, telling of his own failures and successes in excruciating detail.

Barry Ritholtz, skeptic par excellence, describes the attitudes of interviewers, and the limited range of thought they have.? He delights in giving them answers that trouble them, like, ?I don?t know.?

Jim Cramer is perhaps the most controversial of all.? I have known him, albeit distantly for 15 years.? He is very bright, but falls into the trouble of making too many predictions.

And so it is for most pundits.? Amount of predictions is inversely proportional to their quality.

The last ?interview? is where Jeff Macke relates a failure of his on CNBC, tells a story of how pundits are human.? They have stresses in their lives.? They make mistakes.? They are people, humans, like you and me.

Summary

This is a good book, and will educate average people regarding financial media.? You will see the financial media from an insider?s view.?If you want that, you can buy it here:?Clash of the Financial Pundits.

Full disclosure: I received an advance copy of the book via NetGalley.

Book Review: GDP: A Brief but Affectionate History

Posted on 3 May 20144 May 2014 by David Merkel

This is a short book. It should be judged by short book rules.

1) The book is aimed at giving a general understanding to readers not familiar with all of the assumptions that go into the calculation of GDP.

2) The book uses no math to explain what is a highly mathematical topic, and yet gets the main points across.

3) The book explains the controversies surrounding GDP in a simple way that most people could understand, and does not make you head spin with economic gibberish.

4) ?The book explains many of the important strengths and weaknesses of the GDP calculation. ?Maybe that should read — what GDP can measure, and what it does not measure.

5) It explains in simple terms the difference between “real” (inflation-adjusted), and “nominal” (unadjusted) GDP. ?It could have spent more time on that topic, I think, because the issues around price indexes (including the implicit price deflator, which was not mentioned) are significant.

6) The book motivates the history of how GDP calculations come to be, morphing from a way to figure out taxation capacity in wartime, to a figure that guides the economic policies of bureaucrats that tinker with something bigger than themselves, and they do not understand it (but won’t admit it).

7) The book drives home the idea that much helpful human action is *not* captured in GDP, and likely *can’t* be captured in GDP. ?Also it shows how many harmful actions (i.e. pollution, etc.) are not captured in GDP.

Now some will criticize some omissions of this book, and minor inaccuracies, but I am not going to beat on those, because this is a short book, and not meant to be deep for experts to contemplate. ?At 140 small pages, it packs a lot in!

After all, there is an alternative. ?You could go an buy an intermediate macroeconomics textbook used by many universities. ?It will be in many ways more technically precise. ?There will be a lot more math, and esoteric discussions. ?It will lose average people, who will say “I’m glad I am not an economist.”

This book will not provoke that response. ?It is meant for average people, not experts, who need to get a basic grip on what GDP means and does not mean.

My Main Misgiving

If I were writing this book, I would recast this book into the need to estimate a balance sheet of the US, complete with liabilities ?and intangible assets. ?After all, the income statement describes the change in balance sheets across two periods. ?Imperfectly, that could help us deal with intangibles that don’t get counted (E.g. all of the book reviews that get written for free, but give people a better idea of what to buy). ?Even though the estimates will remain very imperfect, and maybe worse if we try this with intangibles, it might give us a sense of how much good we do as a society. ?It would also make the financial sector net out for the most part, the value of which is difficult to measure.

Summary

If you want a basic book that teaches you in a non-technical way how and why one of our most basic economic statistics is calculated, this book will give you that. ?And if you want that, you can buy it here:?GDP: A Brief but Affectionate History.

Full disclosure: The PR people asked me if I wanted a copy of the ?book, and I said “yes” and they sent it.

Book Review: The Investor’s Paradox

Posted on 27 April 2014 by David Merkel

Investing is paradoxical, as many that read my blog would know. The market has cycles. ?There are overall boom/bust cycles. ?There are minor cycles between the major cycles. ?Strategies fall in and out of favor. ?What is an investor to do? ?Even harder, what should one who selects assets managers do?

It is hard to select talented investment managers. ?I know this, because I have done it many times in my career. ?This book points out the difficulties in selecting managers. ?Were the returns due to skill, or did he hit a lucky streak? ?If you are looking at the numbers only, it would be hard to tell. ?Asking managers detailed qualitative questions could help, as could looking at the current portfolio, and asking:

Does the portfolio fit the stated style of the manager?
Does it fit his description of how he tries to make money?

This book summarizes many issues in picking managers:

Strict mandates vs looser mandates
The ways in which we deceive ourselves willingly, to believe a nice manager, or con man
How hedge funds grew and changed
Can managers adapt to new market environments successfully, or should they persist with their model which used to work, but is now out of favor?
How do you deal with funds that are too complex for the ordinary retail investor to understand? (I would say avoid them.)

The book includes a chapter on Madoff, and while it doesn’t break new ground, it does point out why custodians and auditors are important. ?If there had been an independent custodian, or a real auditor, Madoff’s scam could never have happened. ?I also appreciated the reference on page 125 as to the methods that scammers use to gain the confidence of those they scam. ?This is one case where bright people get fooled. ?I would encourage readers to read “The Big Con,” or even marketing books, to make themselves skeptical.

The book has a firm hand on what leads to risk/return among managers — Concentration, Directionality, Compelexity, Illiquidity, and Leverage. ?LTCM is held out as an example of a disaster waiting to occur.

The book explains different types of investors, and why they take the risks they do. ?Different investors take different risks.

The author gives his own summary of how to interview fund managers, though I found it to be light. ?As a former buy-side analyst, I had to interview CEOs, and while I used a few techniques of the author, there are more techniques that can be used. ?I appreciated the allusion to “Colombo,” because purposely dumb questions can reveal the honesty of the one being interviewed, and may reveal details that could not be gotten through a smart question.

At the end, he points out how pension plans will not be likely to meet their return goals. ?He is right, and efforts to break that paradigm through allocations to alternative investments are also unlikely to work. ?Hedge funds don’t respond well to volatility.

This is a good book, but I have one further main objection.

Quibbles

When the author discusses Simon Lack’s analysis of hedge funds (P 190), he wrongly dismisses the significance of dollar-weighted versus time weighted rates of return. ?If a manager’s returns are so volatile that it leads investors to buy high and sell low, that is the manager’s fault. ?Good managers limit risk so that their investors don’t panic. ?Also, since dollar weighted returns are what investors receive as a whole, that is the actual result of the investing, and is the way that all investment managers should be measured. ?And as such, Lack’s arguments are correct. ?Investors would have gotten more out of investing in T-bills, which absolutely, would not be much more, but less is less. ?Lack is correct, and the author is wrong.

Who would benefit from this book:?If you hire mutual fund managers, you could benefit from this great book.? If you want to, you can buy it here:?The Investor’s Paradox: The Power of Simplicity in a World of Overwhelming Choice.

Full disclosure: I asked the PR people for a copy of the ?book, and they sent it.

Also, it should be noted that value managers have client bases that often invest more in bad times, and take profits in good times, so their dollar-weighted returns are often higher than the time-weighted returns. ?Educated, contrarian investors do better.

Book Review: The Death of Money

Posted on 20 April 2014 by David Merkel

This is a hard book to review. I have respect for the author, and most of his opinions. ?But extraordinary claims require extraordinary proof. ?There is evidence here, but not extraordinary proof. ?I agree that we are in a bad spot, and that there is reason to be cautious. ?To claim that the current international monetary system will disappear by 2020 or so requires more than the book delivers.

Let me begin by saying the book is worth buying. ?It will make you think. ?Thinking is a valuable exercise in which few engage. ?Most of us imitate, which is far easier to do than thinking, and usually saves time on common issues.

The author focuses on the weaknesses of US economic policy, but is less critical of bad economic policies being pursued around the world, with the poster children being Japan, China, and the EU. ?The US has its problems, but also its unique strengths. ?Though I am a critic of US economic policy, we are better off than most other large nations.

One criticism of the book is that it is not focused. ?Make your case, and don’t go down many “rabbit trails.” ?That said, the rabbit trails are interesting, and you will learn a lot from them, though they don’t support the central thesis of the book. ?I think the book needed a better editor, because a tighter book would have made the case better.

Here’s the main difficulty: Okay, so the US Dollar is not a great store of value. ?Imagine another nation who wants a better store of value, who lets their currency rise, and their politically powerful exporters scream. ?Who will likely win? ?The exporters. ?At least, that has been the way it has worked for the last 30 years.

In order for a gold-backed currency to be introduced, there will be sacrifices, and under most conditions, it will produce some deflation. ?It is not at all certain that the nation(s) that might do this will take the short-term punishment. ?Our world is geared toward short-termism, and it harms us all.

Quibbles

The book is far too kind to the IMF, an incompetent institution, and far too kind to China, which faces a collapse in its financial system far more quickly then the US will see.

The book is also too kind to the EU, which continues the experiment of monetary union without political union, which has never worked ?before on a large scale.

Who would benefit from this book:?Anyone could benefit from this great book.? If you want to, you can buy it here:The Death of Money: The Coming Collapse of the International Monetary System.

Full disclosure: I asked the PR people for a copy of the ?book, and they sent it.

Book Review: Letters to a Young Analyst

Posted on 8 April 2014 by David Merkel

We need to spend more time thinking about the big picture issues in investing. ?Why do we do what we do? ?How do we structure our firm to get the best out of the talented people that we employ? ?Where do we really have a sustainable competitive advantage?

This slim volume has much advice in these areas, but focuses on how young analysts can make themselves valuable to the firms that they work for.

In addition to the advice of Tom Brakke, you get the advice of 12+ analysts, many of whom I respect, explaining the “nuts and bolts” of good analysis to young analysts. ?I was on of the twelve, and judging from the other comments, there are many who remember what it was like to be young and grasping for help. ?What would we have done differently, given our acquired knowledge? ?This book is meant to give young and amateur investors a leg up.

The end of the book gives a wealth of resources on how the young analyst can learn. ?In this era, it’s almost more of a question of excluding pervasive bad content.

This is a great book for young analysts, and serious amateur stockpickers. ?If you are interested, you can buy it here.

Unlike most of my book reviews, there is no way for me to profit off of this one, not that I ever profit much off of my book reviews. ?If you buy it, I encourage you to study it, because many older investors have given their best to aid young analysts.

Book Review: Treasure Islands

Posted on 1 April 2014 by David Merkel

Tax havens exist to lower taxes and regulations on corporations and wealthy individuals. ?But doing this involves significant complicated legal and accounting work. ?The average person could not benefit because the fixed costs are high. ?You need to have a lot of assets to benefit from tax havens.

So why do the wealthy governments of the world tolerate tax havens? ?Why don’t they “use NATO to blockade these places, and tell them to end their tax-avoidance-facilitation policies, or else.” ?Sadly, the wealthy have disproportionate power over politicians, and the majority of politicians are wealthy. ?They like the system as it is. ?You can make the tax code as progressive as you like; you will not end up taxing the intelligent wealthy much more.

This book confronts transfer pricing, where profits get shifted to low-tax countries by clever accountants. ?Very difficult to police.

The is an amusing section in the middle of the book about the City of London Corporation, which has unique rights in the UK. ?It is the home of most financial activity n London, and is mostly unaccountable to the UK.

In general, I believe that taxation should be the same regardless of the structure of the entity being taxed, its location, etc. ?To that end, I think that corporations should be taxed on their global income as expressed to its owners. ?Or, don’t tax corporations, but make all taxation like limited partnerships, and tax the individuals that own them.

There are other possible solutions. ?There can be limits on corporate structure. ?Israel limits subsidiaries such that the depth from the holding company cannot exceed two. ?There could be consolidation and/or non-recognition of ?subsidiaries in tax havens.

Additional Resources

Longreads article

Book website?(those reading at Amazon, come to Aleph Blog to get links)

Quibbles

The book makes its last chapter about how tax havens helped cause the financial crisis, but it makes a very weak case. ?Individuals and Banks overlevered themselves as asset prices rose, creating a bubble — not much different than the 1920s. ?Tax havens played little role, even if they aided securitization in a few ways.

The book argues for capital controls, but those controls often create incentives for greater corruption.

My main problem with the book is that it does not offer any workable solutions to the problems. ?My secondary problem is that the problem is not so much with the tax havens, which we could easily marginalize, but with the politicians, who do not do the hard work of seeing that taxation takes place, regardless of the corporate form or location.

Who would benefit from this book:?You have to be willing to endure complex arguments to benefit from this book.? If you want to, you can buy it here:?Treasure Islands: Uncovering the Damage of Offshore Banking and Tax Havens.

Full disclosure: I borrowed it at my library.

Book Review: “The Up Side of Down”

Posted on 14 February 2014 by David Merkel

Failure. We’ve all experienced it. Can we benefit from it?? The answer is maybe, depending on the costs of failure.

If the costs of failure are high, e.g., repaying debts for the rest of life, people will avoid taking risks.? As a result, society will stagnate, because few take risks.

But if the costs of failure are low, people will take more chances, start more businesses, try experiments that might prove something bold.? That is one great thing about America; the penalties for failure are low.? Some have said we are the land of unlimited second chances.? After resigning from the presidency, Richard Nixon became an influential voice on foreign policy.

Megan McArdle uses her own life and many other societal problems to illustrate how a proper use of failure? can benefit individuals and society as a whole.? Failure is how we learn.? As some have said, “The wise learn from the failures of others, normal people learn from their own failures, but the stupid don’t learn.”

I enjoyed this book a great deal, but I want to point out a few of the chapters that particularly struck me.

In Chapter 8, she described the various ways that ideologues described the causes of the financial crisis.? The Left and the Right chose their own monologues to explain the economic failure that occurred.? The truth was far more banal, as average people bought into a housing mania, with financial institutions more than willing to facilitate it, levered as they were.? When the bull market ended, many people found themselves with too much debt relative to the value of their houses.

Chapter 9 was the one from which I learned the most, as it described a probation method used in Hawaii, that I would describe as the judicial equivalent of spanking.? When one on probation violates a term of probation, he gets sent to a rather grim prison for a short period of time.? Like spanking, it is short, and sharp.? Those on probation get tested randomly and regularly.? Most quickly get the idea that they need to change their lives.? The recidivism rate on this program is low.? Small failures get punished.? Resistance to the system means permanent jail.? No failures means freedom.

But what I really appreciated in the book was the willingness of the author to expose her own life failures — jobs, caring for her mother’s health, bad relationships, etc.? She learned from her mistakes, and ended up with a husband who loves her, a good job, and a home in DC, where there is not much debt on the property.? Well done.

My own life has had its share of failures, and they have all taught me something.? The question to you, reader, is what have you learned from your failures?? Memorialize failures, so that you can avoid them and their cousins in the future.? In that sense you can fail well.

There is not a bad chapter in this book.? I recommend it highly, and you will learn a lot.? I learned a lot.

Quibbles

None.

Who would benefit from this book: Anyone could benefit from this great book.? If you want to, you can buy it here: The Up Side of Down: Why Failing Well Is the Key to Success.

Full disclosure: The PR people offered me a book, and I accepted it.? I am glad that I did.

Book Review: The Safe Investor

Posted on 29 January 2014 by David Merkel

This is a special book.? It’s special because it explains investment concept in simple language, and tries to give average people an ability to understand how the markets work.

The author shares from his life experiences, where not everything turned out right.? With bonds in the 1970s, what was ordinarily a safe investment turned into “Certificates of Confiscation,” as inflation and interest rates rose.

The author is careful to point out the difference between fake diversification and true diversification.? False diversification has a large number of positions that are related, like owning many tech stocks from 1998-2003, or many financial and housing stocks 2005-2009.

True diversification means there is not some hidden factor that can affect your whole portfolio.? The author argues that we need a broad array of investments in the portfolio to diversify results, reducing volatility, so that the investment program can continue? until the target is reached.

Th author also argues? that investors need to dig into the guts of what they are investing in.? Who is the custodian?? Are my assets safe from commingling with the assets of others?? (Think of MF Global or Madoff.)? Is there any factor that could cause a substantial fraction of my assets to be significantly impaired?? As an example, what if you live to an old age?? Will you outlive your assets?? For most Baby Boomers, that is a significant risk that is under-appreciated.

The author, who managed two significant asset management firms in his career, encourages readers to do detailed checks on any active managers they hire (like me).? Analyze their methods, their incentives, their character, and more.? Passive investing does away with many of those questions, but still you have to set up an asset allocation.

As for active managers, they often buy and sell to make it look like they are doing something for clients, when frequently less activity would be in the best interests of clients.? Active management often works better at lower turnover rates.

Investment performance analysis has its own pathologies.? There is the need to buy an outperforming fund.? Why buy a fund that has done poorly?? An investor could ask two questions: 1) is the manager just benefiting from the current cycle, or are his picks good aside from that? 2) Has the manager gotten so large in that strategy that there is no place to place money to achieve an above average return.

The author also notes a strategy that many rich employ: hold safe assets and risky assets, but not the stuff in-between.? Few have made their wealth on the stuff in-between.? Preferred stock has made no one rich, nor investment-grade corporate bonds.? Junk bonds when carefully chosen may be an exception.

Now, that said, I think the author is too optimistic on emerging markets.? As in the current mini-crisis, many of them have immature financial systems, and are mis-financed.? Long assets are being financed by short loans.? This can goose growth in the short-run, but not in the long run.? I think that emerging markets have a place in portfolios, but smaller than the author implies.

Three Pockets

The author posits three pockets for assets — a large one for savings (don’t lose this), a medium one for investing (moderate risk), and a small one for trading (high risk).? He is trying to channel male actions in a good way.? You want to gamble?? Gamble with a small amount of money.? Keep the main body of your assets in ordinary hands that you do not touch.? Set it, and mostly, forget it.

This is an interesting way to try to get people to take limited risks, and have most of the portfolio be safe or have limited risks.

Passive vs Active

The author does not take a stark position on this, but points people toward passive funds if active fees are too high, and track records do not validate good investment choices.? That is how I feel about my own investing.? If I can’t outperform, I don’t want you investing with me.? The book’s position is only invest with active investors that have an edge.? That is more common with smaller cap stocks, international investing and junk bonds.

When to Adjust Portfolios to Reduce Risk from Aging

This book has risk positions lasting longer than most books, and generally, I think that is right, unless markets have gone to such high levels that intelligent investors should lighten up.? I think we are in one of those moments now.? Walk, don’t run, to reduce risk assets, and don’t go all the way, just lighten up.? I rarely make big moves, and the book would not advocate tactical big moves either.

I thought the book’s chapters on choosing advisors were well-written.? It gives you adequate ways to check out financial advisors like me, and those much larger than me.

Summary

The summaries at the end of each chapter are very useful.? I can endorse almost everything in the book.? Just be more careful about emerging markets than the book is, they have a lot of risk embedded at present.

Quibbles

None, aside from what what previously mentioned.

Who would benefit from this book: Most amateur investors could benefit from this great book.? If you want to, you can buy it here: The Safe Investor: How to Make Your Money Grow in a Volatile Global Economy.

Full disclosure: The PR people offered me a book, and I accepted it.? I am glad that I did.