Value Investing – Page 37

Reply to a Reader

Posted on 13 February 2013 by David Merkel

From a Reader:

I really enjoy your blog. ?I have two questions for you. ?First, given your experience, how do you factor the price an asset into your risk assessment of an asset and the sizing of that position in a portfolio? ?I have recently re-read Howard Marks book The Most Important Thing Illuminated. ?It is probably the investment book I have re-read more times than any other except The Intelligent Investor. ?His approach to risk is the best I have read. ?Early in my investment career, I lost most of my money buying what appeared to be cheap stocks that were overlevered. ?So now I make sure the company is not a disintegrating entity (like the directory companies) and have reasonable amount of debt. ?I have used the benchmarks in How to Make Money with Junk Bonds by Levine. ?It one of the best books I have read about junk bonds with narratives like Graham’s old Security Analysis. ?As a result I have tried to size my positions based relative undervaluedness. ?I have played around with Kelly Formula to estimate relative size of positions but in the end have used a more qualitative approach. ?Currently, I have large positions (which will become smaller over time) in some radio and TV firms. I was looking at insurance and some financials as the next area to re-balance and you had mentioned AIZ in your blog and it looks good based upon by insurance valuation metric of (growth in BB & dividends/price-to-book ratio) – yielding almost 20%. ?The only other insurers even close is Fairfax Financial and EGI (a small Canadian auto insurer). ?You had mentioned and I agree with insurance you need to get to know the management. Do you the management of AIZ? ?There governance and incentives appear to be set up correctly. ?Given your insurance background, what is your take on some the life insurers such as Lincoln National (trading at a discount to book) and some of the other hybrids (like HIG and AIG)?

?The other question has to do with faith. ?How do you see your faith playing a role in your investments, vocation and family and the balance thereof? ?I too am an Evangelical Christian and find it challenging with a job (I am a partner in a business valuation firm), family (2 great kids and a beautiful wife) and a passion for investment analysis. ?

?You may want to check out The Corner of Berkshire and Fairfax if you have not already. ?If so inclined you may also want to go to Toronto in May for the Fairfax annual meeting, it the best gathering of value investors I have found by far.

I don’t do much with position sizing.? Every asset has the same target weight in my portfolio, aside from double-weights, for stocks of which I have certainty. I only have two double-weights: Reinsurance Group of America, and National Western Life Insurance.

Until I find that my trading is hindered by size of the float, I will try to maintain relatively equal allocations.

Assurant is a very well run firm, and the negatives around reducing premiums on force-placed homeowners insurance are overdone.? If it sells off significantly, it will become another of my double-weights.

Regarding your early problems with value investing, you have to remember that the core of value investing is not cheapness, it is margin of safety.? We make money by not losing it, and having positive surprises on our neglected companies.

As for HIG & AIG, I don’t find them attractive because they have had cultures of under-reserving.? Even with all they have gone through, I am reluctant to buy them amid cheapness and low operating ROEs.

Life insurers like LNC, which have written a lot of variable products business, are unattractive because the accounting does not reflect the real economics, and the guarantees they have written are under-reserved.

As for how my faith (in Christ) influences my investing, there is the usual — I don’t invest in any businesses that I could not ethically run as a sole owner.? Thus I avoid healthcare, entertainment, legal loansharking, and any company that is widely known to cheat people.

As for my time management, it has always been family first, work second, Church third, and other things behind that.? There is no other good way.

Beyond that, my blog is replete with analyses that tell people to avoid scams, and embrace opportunities when they are available.? Avoid complexity and invest in vanilla investments.? You will do best that way.

Full disclosure: long RGA NWLI AIZ

Sorted Weekly Tweets

Posted on 8 February 2013 by David Merkel

Currency Wars

Battling the unknowns of currency devaluation | Reuters http://t.co/3kiN75eT A tough game to play, particularly w/changed policy in Japan $$ Feb 09, 2013
This is what a currency war looks like http://t.co/ibWgIZTg Japan is leading the #currencywar by no longer sterilizing monetary policy $$ Feb 08, 2013
The Dark Side of Japan’s Creating Inflation http://t.co/3O384dKU Risk is interest rates rise and Japan can’t finance itself. #tippingpoint Feb 07, 2013
Japan Inc.?s appreciation of the yen?s depreciation http://t.co/zdYFkcYR Japanese stocks rally as their exports get relatively cheaper $$ Feb 07, 2013
Falling yen set to spark renewed currency wars http://t.co/1QXtUFoA Japan has finally “thrown the hammer down.” No more sterilization $$ Feb 05, 2013

LBOs

Dell?s largest outside shareholder thinks it?s worth $10 more a share – Quartz http://t.co/1gr8dTZb Let Southeastern et al bid 4 control $$ Feb 09, 2013
The Three Scariest Letters for Bondholders: L-B-O | Fox Business http://t.co/wEEHVJUR Note: junk bonds r protected from this, not invt grade Feb 09, 2013
New Worry for Bondholders: LBOs http://t.co/KumxFjws Company is cheap & has good Bal Sheet, it could LBO, harming current bondholders $$ Feb 04, 2013

Pensions

Danger Seen in Pension Fund Cuts on Abe Inflation http://t.co/wDu6fWjE Guess what? Inflation can harm pensioners. Sad 4 them. $$ Feb 07, 2013
Pension Funds Cut Back On Commodity Indexes http://t.co/ZSvFgIoG Hoarding not a panacea, also, can get clipped on the roll $$ Feb 07, 2013
The Asset Mix (Stocks-Bonds) will make the Difference – 2 many Bonds Mr Abe? http://t.co/AOHm6p5X On pension asset allocation globally $$ Feb 07, 2013
Baby Boomers Sicker Than Parents? Generation, Study Finds http://t.co/Xy7VIs0n Will live longer too; big reason to reshape Medicare $$ Feb 05, 2013
Americans Rip Up Retirement Plans http://t.co/s5UARuld Nearly 2/3rds of Those Between 45 & 60 Plan Delays, Steep Rise From 2 Yrs Ago $$ Feb 05, 2013
Low Rates Force Companies to Pour Cash Into Pensions http://t.co/32JNXekQ Low long rates push pension liabilities higher, req $$ payment Feb 04, 2013

High Yield

US High Yield Bonds: HYG On the support http://t.co/Gcj35TAJ In order 4 HY 2 rally from here, need dumb buyers 2 apply leverage $$ Feb 08, 2013
Fed?s Stein: Signs of Overheating in Credit Markets http://t.co/TAT7QcwB Junk yields less than in June 2007. Replace CDO bid w/Fed $$ Feb 07, 2013
Two Things about High-Yield Bonds Investors Must Understand Today http://t.co/w3n4IODi Low yields & spread relatives & high $$ prices Feb 07, 2013
A Mad Rush Could Be Coming In The Corporate Credit Markets http://t.co/KFGkM3gQ Possible, but it depends on how levered investors are $$ Feb 05, 2013
No, there probably isn?t a bond bubble http://t.co/92p5SJBz Misses key question: how much debt is being issued to acquire other debts? $$ Feb 05, 2013
US Higher Yield Bonds: A Corrective Update http://t.co/RITd5UGl Corrections may be happening w/ both credit & high-quality long-duration $$ Feb 04, 2013

S&P Lawsuit

State Lawsuits Could Add to S&P Exposure http://t.co/oQSwfYFR Attorneys General for states become profit centers; opportunistic thieves Feb 07, 2013
Wrong: Levitt Says McGraw-Hill ?Foolish? to Not Settle S&P Lawsuit http://t.co/dEL4g1ja There’s a good chance that S&P will win, y give up Feb 07, 2013
S&P Lawsuit Undermined by SEC Rules That Impede Competition http://t.co/GCUE01zz Will not be simple for the govt to win its case $$ #FTL Feb 07, 2013
S&P Lawsuit Portrays CDO Sellers as Duped Victims http://t.co/rAI69G1G Stretching truth; CDO sellers knew credit better than agencies $$ Feb 07, 2013
S&P feels Justice’s lash, but can law ever conquer greed? http://t.co/SVDZVZtG Diffcult 2 single out people/firms 2 prosecute in big crisis Feb 05, 2013

Companies

Top NY court throws Travelers asbestos award into question http://t.co/GAujEmCH Case started in 1948, when USF&G insured Western Asbestos Feb 08, 2013
Buffett?s Son Says He?s Prepared Whole Life for Berkshire Role http://t.co/xYWVlMu8 As Chairman, Howard will be “cultural guardian.” $$ Feb 08, 2013
San Francisco Gasoline Rises as Tesoro Seen Cutting Rates http://t.co/4Rmvbcz1 It’s tough when state governments discourage refineries $$ Feb 07, 2013
Bond insurers aren’t the only winners in Rakoff’s Flagstar ruling http://t.co/6A2IICLD All can rely on reps & warranties of mtge origin8rs Feb 07, 2013
Berkshire-Insured Muni Sees Good Demand http://t.co/yKX1lGPy Nothing amazing; some $BRK.B businesses r part of the development borrowing Feb 07, 2013
Life Insurer CFOs Say Their Financial Models Fall Short: Survey http://t.co/zJ3f2DJc Surprising, another reason 2b bearish on life ins Feb 07, 2013
BlackRock Cautious as Sales End Dollar Bond Rally: China Credit http://t.co/4LZDSoMf Questions over credit quality, maybe 2 much supply $$ Feb 04, 2013
Herbalife Drops After Report of Law-Enforcement Probe http://t.co/zC0a9GGv $HLF rises today. $$ Worries over being named “pyramid scheme” Feb 04, 2013
Was the AIG Rescue Legal? http://t.co/LUTVHQa9 Of course not. Gov’t should not play favorites; emergencies b a DIP lender of last resort Feb 02, 2013

US Politics & Policy

House Speaker: Washington Has to Address Spending http://t.co/lZcQcinD Yes it does, but will the Senate and President ratify that? $$ Feb 07, 2013
Party Eyes ‘Red-State Model’ to Drive Republican Revival http://t.co/qrlp6Zn5 First balance budget on an accrual basis; no state does $$ Feb 05, 2013
House Leaders Weigh US Spending Bill Below $1T http://t.co/0nBcoURd Good luck w/Senate & President on that, you will need it $$ Feb 05, 2013
Study Says States Lose Billions in Offshore Tax Avoidance http://t.co/qTnlUpTX Just an effect of federal tax policy, which needs change $$ Feb 05, 2013
The Fed?s Worst Fear http://t.co/nanNt52c Losing control of long interest rates; the bond market will eventually trump the Fed $$ Feb 04, 2013

Market Impact

Americans Are Tapping Into Home Equity Again http://t.co/gLLrlDEx Does this mean a return to the reckless equity withdrawals? Likely not $$ Feb 08, 2013
Banks Should Defer Bonuses for Up to 10 Years, Jenkins Says http://t.co/udabGhNT Better that banks become partnerships; creates caution Feb 08, 2013
Insiders now aggressively bearish http://t.co/vWogX2LF Last Fri: sell-to-buy ratio for NYSE-listed shares listed stood at 9.20-to-1 $$ Feb 08, 2013
SP500 Complacent Divergence – Risk Factors http://t.co/CPqaNYY4 Decelerating earnings growth threatens valuations. Econ surprises falling 2 Feb 08, 2013
Interdealer Brokers Emerge as Key Enablers in Libor Scandal http://t.co/bTgMtUOa & http://t.co/yBo7oxKJ Them & Rain Man Tom Hayes $$ Feb 08, 2013
Schwab Unveils Game-Changing Commission-Free ETF Platform http://t.co/yqCaunnJ Part of the ETF’s fees go to $SCHW . No free lunch here $$ Feb 07, 2013
H-P Aside, Corporate Splits Are Wholly Worth Investors? While http://t.co/e9dptR0E Managements gain new focus; Behemoths lack true mgmt $$ Feb 07, 2013
U.S. to Offer Floating-Rate Notes Within a Year http://t.co/eXCUd3Ni Money-market funds take heart; yield (w/spread duration risk!) $$ Feb 07, 2013
Small lenders ride US mortgage wave as big banks cut back http://t.co/KbACkvJk Interesting 2c little independent mortgage brokers return $$ Feb 04, 2013
America’s Baby Bust http://t.co/CaWPjZVU Heard on Radio C-SPAN yd http://t.co/Ow86Jsfs ?Economies don’t work well when popul shrinks $$ Feb 02, 2013

Rest of the World

Mind the Liquidity Gap – Credit Gap http://t.co/m2xTMEIs 3 factors: global monetary policy, global credit supply & global credit demand $$ Feb 08, 2013
German Hope French Despair and EU Rescue: PMIs http://t.co/qioLvblN Eurozone PMIs r rising, but economies r still contracting $$ #France Feb 07, 2013
Basel Seen Rotten in Denmark as Banks Bypassed http://t.co/HX9a6vOI Denmark has many covered mtge bonds; Basel doesn’t care much 4them $$ Feb 07, 2013
Shades of ’80s for Japan’s Stocks http://t.co/68rhfLmX What, Japanese stocks can go up after the demographic dividend has faded? Feb 07, 2013
Desperate Greeks scuffle at free food handout http://t.co/XpQUEBMM Total desperation. Democracy started there, and it may end there too $$ Feb 07, 2013
Canadians back2borrowing: avg consumer debt hits new hi http://t.co/wtSpy1pB overall debt low | cred: evergreen http://t.co/ndpBH0Ch Feb 07, 2013
Last tweet derives from this article http://t.co/wjSwNztf I believe in freedom, and small biz capitalism, with equality 4 all. $$ Feb 06, 2013
We need Obama/Hollande 2create economic barriers average people can’t surmount, so the clever rich can get richer. Cynical, but true $$ Feb 06, 2013
ECB Executive Board Member Asmussen: ‘German Interest Rates Will Rise Again’ http://t.co/oIJZtFtK Thinks *real* interest rates will rise $$ Feb 05, 2013
Top Iranians Trade Barbs in Rare Public Feud http://t.co/W1uR6M1p Corruption is endemic to Iran; rare 4 the mafiosi 2 fink on each other Feb 05, 2013

Other

An Insider’s Guide to Counterfeiting Wine – Businessweek http://t.co/SoVp0OrF 3 ways to counterfeit expensive wines & how to avoid them $$ Feb 09, 2013
Most Australian Wine Exports Ship in Giant Plastic Bladders http://t.co/jL1S9KLF ?We don?t ship glass around the world, we ship wine.? $$ Feb 09, 2013
Super Bowl Blackout Caused by Faulty Relay, Entergy Says http://t.co/GKd5619I That was what I guessed; weak spot in many power grids $$ Feb 08, 2013
Asteroid to Traverse Earth?s Satellite Zone, NASA Says http://t.co/ZnpmCxXD Interesting we only get one week’s notice on the near miss $$ Feb 08, 2013
What Abraham Lincoln Liked About Richard III http://t.co/oAp8PQjg Lincoln was Shakespeare buff; 1 controversial man’s thoughts on another Feb 08, 2013
Lease Surprise in Stuyvesant Town http://t.co/O7DQsILq “clause that allows landlord to increase the rent in the middle of the lease” $$ Feb 07, 2013
Nine Questions for Peter Levine, Andreessen Horowitz?s Enterprise Dude http://t.co/yiubWsqj How SDN commoditizes much special hardware $$ Feb 07, 2013
On Pins and Needles: Stylist Turns Ancient Hairdo Debate on Its Head http://t.co/RgrZqc80 Kinda of a quirky story, but interesting $$ Feb 07, 2013
‘They Owe It to Me’: FBI Identifies Top Email Phrases Used by Fraudsters – Compliance Week http://t.co/9FtlTkEH Set up filters, compliance Feb 06, 2013
Legacy of Benjamin Graham: http://t.co/GztBNt53 via @youtube In last minute, BG anticipates the Efficient Markets Hypothesis years ahead $$ Feb 05, 2013
Legacy of Benjamin Graham: http://t.co/GztBNt53 via @youtube Fascinating video w/Buffett, Kahn (2), Schloss, & other students of his $$ Feb 05, 2013
US Construction Jobs – A very Constructive Story http://t.co/Gqy8YIU0 Construction jobs coming back, looks like a dead cat bounce $$ Feb 04, 2013
Sending electronic money to friends catching on http://t.co/zRBh8tkT Creating next great avenue 4 money laundering; cheap & convenient $$ Feb 04, 2013
Hitler Awakes in 2011 Berlin, Becomes YouTube Hero http://t.co/ore3XtWB Hard 4 me 2 believe. Does humor have any limits anymore? Funny $$ Feb 04, 2013

Replies & Retweets

@dpinsen 16x deteriorating free cash flow @ $24/sh. There’s some bluster there. Wouldn’t want to be a bondholder here $DELL $$ Feb 08, 2013
Commented on StockTwits: Wait, I’m wrong. Didn’t look far enough — they have 8.5% of shares, but 7.5% of votes. Onl… http://t.co/18jIZ94S Feb 08, 2013
Commented on StockTwits: Here: http://t.co/a3SdyNFq http://t.co/4OBGCIp0 Feb 08, 2013
‘ @ampressman Thanks, Aaron. Reading it now. http://t.co/aGpdRr8R Good stuff. SE recently bought more http://t.co/UGh12nkp $$ $DELL Feb 08, 2013 ?(This tweet was wrong, SE has been a seller of $DELL shares, and even recently?)
Owns 7.5%, what could they b thinking? $$ RT @BloombergNews: BREAKING: Dell holder Southeastern Asset plans ‘All Options’ to stop deal Feb 08, 2013
Worth the read RT @cate_long: Is the U.S. growing, or just issuing debt? – #MuniLand http://t.co/KLB1838k Feb 08, 2013
Seems reasonable to me $$ RT @TFMkts: @AlephBlog the high yield market is on cusp of some stop losses getting triggered Feb 08, 2013
@GaelicTorus Did not know that, thanks Feb 08, 2013
Small caps +7% http://t.co/ewRvffTb $$ RT @credittrader: Gentle Reminder Japan Nikkei 225 +0.75% YTD in USD http://t.co/cxxhjMoG Feb 07, 2013
@anatadmati Twitter is too small for this. Read: http://t.co/JDnLfhJ5 & http://t.co/yo7C05d0 Biggest problem isn’t capital, but liquidity $$ Feb 07, 2013
@Nonrelatedsense @credittrader Thanks, missed that Feb 07, 2013
@BlandDexter In a word, yes. Feb 07, 2013
@The_Analyst What floors me are professional investors that don’t read the prospectus the first time they analyze a new type of investment. Feb 07, 2013
@SapienQuis A lot of investment banks got pinned w/crud they could not sell whether due to secondary trading or origination Feb 07, 2013
@The_Analyst Yes, they did have staff. If u r a professional firm, you must independent vet out credit quality; ignore rating read writeup Feb 07, 2013
Well done! RT @jasonzweigwsj: 2 things about high-yield bonds investors should understand today, from @DavidSchawel http://t.co/EYo8KSEQ $$ Feb 07, 2013
@anatadmati A better idea would be double liability, where mgmt & directors lose their capital before shareholders do. Change incentives Feb 07, 2013
@anatadmati At current margins, banks could not earn their cost of capital w/30% E/A. Banks & credit would shrink a lot -> crisis Feb 07, 2013
@DavidSchawel Where will it be? Feb 06, 2013
Bondholders will get badly hurt $$ http://t.co/i7Fxa10p RT @DougKass: HPQ mulling a break up. $HPQ Feb 05, 2013
It’s starting $$ RT @LisaCNBC: The Japanese are going to overdo it and create an inflation problem. #Yen will spike in 2013. @PeterSchiff Feb 05, 2013
@TFMkts People made absurd predictions about capital mkts off of the experience 1982-2000, culmination ing tech bubble / lost decade $$ Feb 05, 2013
Mersenne Primes RT @motokorich: Largest Prime Number Discovered, and it’s 17,425,170 digits long. http://t.co/U8GzYFj1 via @sciam Feb 05, 2013
@TFMkts Would be interesting 2c a firm try that. The wind seems to still b blowing the wrong way there, w/discount rates so low. Feb 05, 2013
He was/is a bright guy $$ RT @munilass: Picking on S&P just isn’t as much fun without @EconOfContempt around. Feb 05, 2013
RT @LaurenLaCapra: “big exchanges therefore stand to gain tremendously from even a relatively small shift twd futures & away from sw … Feb 05, 2013
“I only want to add one thing: its not what pundits say that matters, it is what people rely on economically… http://t.co/zAPlxIHU $$ Feb 04, 2013
RT @moorehn: Pffft. MT @nycjim: Washington Post says it, too, was victim of hacking attack that appeared to originate in China. http://t … Feb 03, 2013
Good marketing kills bad ideas, people & products $$ RT @MattVATech: Marketing is never a substitute for substance. Feb 03, 2013
“Only if you think that by waiting a little while you might have higher yields to invest at. Can’t?” ? David_Merkel http://t.co/Vt16DKeU $$ Feb 02, 2013
“Hi, KD… my bond mandate is unconstrained, so I just aim for total returns. Right now I am pretty?” $$ David_Merkel http://t.co/4x41D4D2 Feb 02, 2013

FWIW

My week on twitter: 77 retweets received, 4 new listings, 86 new followers, 81 mentions. Via: http://t.co/SPrAWil0 Feb 07, 2013

The Education of a Mortgage Bond Manager, Part IV

Posted on 7 February 2013 by David Merkel

I sat down this evening with my trading notebooks.? It was a reminiscence of 11-14 years in the past.? I may produce another chapter of “education of a corporate bond manager” from the books.? But it gave me a flavor of what I learned (rapidly) as a mortgage bond manager 1998-2001.? So let me share a few more bits of what I learned.

1) Avoid esoteric asset classes.? I am truly amazed at how many people believed that securitization created a lot of value, when it was more incremental.? There were many who proclaimed “Buy every new ABS structure,” because it had worked well in the past.

Sadly, that is a bull market argument, and many would lose a lot of money following that advice.? In 2008, it all came crashing down for unique structures.

2) Avoid volatile asset classes.? Collateralized Debt Obligations are volatile, and not worthy of being investment grade.? That said, when I was younger, I erred with CDOs and we lost money.? Never invest with those whose incentives are different from yours.

3) There was also a period where CDO managers would buy each others BBB tranches — it was a way of lowering capital costs, at least on a GAAP basis.? We did that with NY Life, but never got the benefit, because we never did our CDO.

4) The are many asset sub-classes that have ?only been through a bull market cycle.?? That is the nature of new ideas that are introduced to applause.? But those are bull market babies.? Avoid sub-asset classes that have never seen failure.

5) There was the desire that we could originate our own commercial mortgages, with me doing the work of a full mortgage department.? I conveyed to my boss that this was impossible even if I dedicated 100% of my time to the process, and then he would not have me for the reasons he hired me.? This came up many times, and took a long time to die.

6) But at a later date, something better came up, doing credit tenant leases.? They are illiquid, but they have good protection.? The credit tenant guarantees the mortgage.? If there is non-payment, the property is yours.? I can get into securitized lending.? This was a great deal, but my colleagues in the firm overruled me, and foolishly.? Why give up protection, when you can’t get a safe yield at an equivalent spread.

7) I also learned that in the merger in 2001 that little things mattered.? So when they came to meet us in Baltimore in mid-2001, we took them to an Italian Deli that we liked.? They loved it, saying that there was nothing like it in Burlington.

I will continue this in the next part/episode.

Wall Street Hates You

Posted on 3 February 2013 by David Merkel

I have a saying, “Don’t buy what someone wants to sell you. Buy what you have researched.”

And so I would tell everyone: don’t give brokers discretion over you accounts, and don’t let them convince you to buy unusual bonds, or obscure securities of any sort.? By unusual bonds, I mean structured notes, and eminent men like Joshua Brown and Larry Swedroe encourage the same thing: Don’t buy them.

To the extent that it can, Wall street tries to sell retail investors the exposures that they don’t want.? They offer a higher yield, but take it away and then some if the things that they want to hedge go wrong.? They sell you their problems, and if things go well you are unharmed, but woe betide your capital if things go wrong.

Trust is not owed to financial advisers or brokers.? You need to treat them skeptically; if possible, you need to understand? how they are compensated.? They tend to earn more from securities that are less in the interest of buyers.? (It is not much different from insurance salesmen.)

Wall Street exists to sell promises.? That can take several forms, two of which are:

1) Buy an ownership interest in this promising company.? It’s the wave of the future.

2) Buy a promise to pay from this company under these conditions, and we will pay you an above average yield.

Wall Street knows more than you.? They may make occasional mistakes, some of them big, but compared to retail investors, they know far more.? They profit off of retail investors.? You are the natural resources that they mine.

So why play with them?? If you are using a broker, it is time to end your relationship there, and work with someone who has to put your interests first.? Look for someone who is required to put your interests first.

It’s not as if investment advisors like me always succeed; we don’t.? But the best of us do avoid greed and fear, and so protect investors from their worst instincts — selling low, and buying high.

Take control of your investing, and if you can’t do it yourself, find a talented person with self control who can.

Four Sources of Buy Ideas

Posted on 3 February 2013 by David Merkel

Presently, I have four ways of sourcing buy ideas in the stock market.? Here they are:

1) I read widely, and when I see something interesting, I either jot it down, or hit the “print” button.? I put it in the pile for the quarterly portfolio reshaping.

2) Preston Athey gave me this idea.? I set up a bunch of Googlebots to let me know when a CEO leaves a firm.? For companies with a lot of underused assets, that can be an incredible catalyst to unlock value.? Print, add to pile.

3) My industry studies produce a list of out of favor companies with better prospects than most — the challenge is to separate out the “buggy whip” industries, from those that are genuinely cheap.

4) Finally, I study 13Fs, and try to understand what bright investors are holding and buying.

After I assemble all of the companies that might be worthy investments, I try to forget where I got the idea from.? That forces me to analyze the company my own way, and not merely trust someone or some method that I think is bright.

After that, I engage Portfolio Rule Eight, and make my current portfolio holdings compete against the new ideas.? This is a much better way, a more businesslike way to choose companies to buy.? It forces managers to make explicit decisions that improve the characteristics of the portfolio, improving the probability of winning.

Do you have better ways of sourcing ideas?? If so, leave them in the comments.

On Investing Games & Contests

Posted on 2 February 2013 by David Merkel

I am not a fan of investing games and contests.? Here are my reasons:

They are too fast.? Investing is a slow process; games make money far more quickly than markets do.
They are biased toward winning.? Many games have a positive bias built into them, returns are far higher than are commonly attainable.
Contests encourage undiversified portfolios.? The only contest I have seen that did not do that was the Value Line Contest in 1984, where everyone had to pick ten stocks from ten buckets going form low to high price volatility.? Great contest — I was in the top 1%, but did not win.
Good investing is boring.? It is work.? Most of it is not a game, though I will admit there is some game in buying and selling — gotta beat the algorithms at their game.
Games are not as robust as the markets.? The markets serve up all manner of surprises, while games typically mimic the past.

Here’s what I can endorse, if done fairly: paper-trading.? As with any sort of self study, if you want it to be valuable, you have to be a strict cop on yourself.? I papertraded a number of times in the 80s, and I always did well vs the market.? My porfolios typically had 40-60 companies, but they always did well.? As a TA in Corporate Financial Management, I would share my ideas with students, who liked my enthusiasm.? The professor was a EMH devotee, who when he heard that my paper portfolio was up 40% while the broad market was up 20%, said, “Oh, you pick stocks that have a beta of two.”? I tried to show him that was not the case, but “you can’t teach a Sneech.”

Paper-trading moves at the speed of the market.? It is close to real.? It shows you how difficult it is to make money.? I recommend it to all of my readers.

Industry Ranks February 2013

Posted on 1 February 20131 February 2013 by David Merkel

My main industry model is illustrated in the graphic. Green industries are cold. Red industries are hot. If you like to play momentum, look at the red zone, and ask the question, ?Where are trends under-discounted?? Price momentum tends to persist, but look for areas where it might be even better in the near term.

If you are a value player, look at the green zone, and ask where trends are over-discounted. Yes, things are bad, but are they all that bad? Perhaps the is room for mean reversion.

My candidates from both categories are in the column labeled ?Dig through.?

If you use any of this, choose what you use off of your own trading style. If you trade frequently, stay in the red zone. Trading infrequently, play in the green zone ? don?t look for momentum, look for mean reversion.

Whatever you do, be consistent in your methods regarding momentum/mean-reversion, and only change methods if your current method is working well.

Huh? Why change if things are working well? I?m not saying to change if things are working well. I?m saying don?t change if things are working badly. Price momentum and mean-reversion are cyclical, and we tend to make changes at the worst possible moments, just before the pattern changes. Maximum pain drives changes for most people, which is why average investors don?t make much money.

Maximum pleasure when things are going right leaves investors fat, dumb, and happy ? no one thinks of changing then. This is why a disciplined approach that forces changes on a portfolio is useful, as I do 3-4 times a year. It forces me to be bloodless and sell stocks with less potential for those with more potential over the next 1-5 years.

I like some technology names here, some energy, some healthcare-related names, particularly those that are strongly capitalized. I?m not concerned about the healthcare bill; necessary services will be delivered, and healthcare companies will get paid.

I?m looking for undervalued and stable industries. I?m not saying that there is always a bull market out there, and I will find it for you. But there are places that are relatively better, and I have done relatively well in finding them.

At present, I am trying to be defensive. I don?t have a lot of faith in the market as a whole, so I am biased toward the green zone, looking for mean-reversion, rather than momentum persisting. The red zone is pretty cyclical at present. I will be very happy hanging out in dull stocks for a while.

That said, dull is hard to find these days. Where will demand remain strong, or where will demand rebound are tough questions.

The Red Zone has a Lot of Noncyclicals

What I find fascinating about the red momentum zone now, is that it is laden with noncyclical companies. That said, it has been recently noted in a few places how cyclicals are trading at a discount to noncyclicals at present.

So, as I considered the green and red zones, I chose areas that I thought would be interesting. In the red zone, I picked IT services and beverages. Stable industries.

In the green zone, I picked most of the industries. If the companies are sufficiently well-capitalized, and the valuation is low, it can still be an rewarding place to do due diligence.

That said, it is tough when noncyclical companies are relatively expensive to cyclicals in a weak economy. Choose your poison: high valuations, or growth that may disappoint.

But what would the model suggest?

Ah, there I have something for you, and so long as Value Line does not object, I will provide that for you. I looked for companies in the industries listed, but in the top 4 of 9 financial strength categories, an with returns estimated over 15%/year over the next 3-5 years. The latter category does the value/growth tradeoff automatically. I don?t care if returns come from mean reversion or growth.

But anyway, as a bonus here are the names that are candidates for purchase given this screen. Remember, this is a launching pad for due diligence.

Full disclosure: long SPLS, TOT, INTC, VOD

On Insurance Investing, Part 3

Posted on 26 January 201329 January 2013 by David Merkel

Subtitle: The Value of Momentum and Mean-Reversion

In the extreme short-run, mean-reversion dominates.? Over a year, momentum dominates.? Over a four year period mean-reversion returns.

The same applies to insurance stocks.? This is perhaps more true of insurance stocks, because the accounting is so opaque.? When accounting is opaque, it takes a longer period of time for market prices to catch up with the underlying reality.

I do not trust momentum naively.? I compare it to fundamentals and ask if it has more room to run or fall.? Remember, insurance is a mature industry… there are few sustainable competitive advantages here.? Near turning points, valuations are stretched or in the dumps.

That said, here is my table of momentum for the insurance industry:

company	ticker	img_desc	mktcap	prchg_52w
Radian Group Inc.	RDN	0715 – Insurance (Property & Casualty)	?????????????? 882.0	155%
Homeowners Choice, Inc.	HCI	0715 – Insurance (Property & Casualty)	?????????????? 241.1	146%
Stewart Information Services C	STC	0715 – Insurance (Property & Casualty)	?????????????? 528.1	100%
Imperial Holdings, Inc.	IFT	0712 – Insurance (Miscellaneous)	???????????????? 89.7	86%
Kingsway Financial Services In	KFS	0715 – Insurance (Property & Casualty)	???????????????? 54.0	68%
Atlantic American Corporation	AAME	0709 – Insurance (Life)	???????????????? 69.7	63%
eHealth, Inc.	EHTH	0712 – Insurance (Miscellaneous)	?????????????? 506.9	59%
Investors Title Company	ITIC	0715 – Insurance (Property & Casualty)	?????????????? 135.2	59%
First American Financial Corp	FAF	0715 – Insurance (Property & Casualty)	?????????? 2,522.8	58%
Coventry Health Care, Inc.	CVH	0706 – Insurance (Accident & Health)	?????????? 6,239.6	57%
Hilltop Holdings Inc.	HTH	0715 – Insurance (Property & Casualty)	?????????????? 753.0	55%
CNO Financial Group Inc	CNO	0709 – Insurance (Life)	?????????? 2,315.5	52%
Allstate Corporation, The	ALL	0715 – Insurance (Property & Casualty)	???????? 21,154.9	51%
Symetra Financial Corporation	SYA	0709 – Insurance (Life)	?????????? 1,629.6	50%
American International Group,	AIG	0715 – Insurance (Property & Casualty)	???????? 54,180.4	46%
Sun Life Financial Inc. (USA)	SLF	0709 – Insurance (Life)	???????? 17,505.2	46%
Platinum Underwriters Holdings	PTP	0715 – Insurance (Property & Casualty)	?????????? 1,595.2	43%
Hartford Financial Services Gr	HIG	0715 – Insurance (Property & Casualty)	???????? 10,829.2	41%
Lincoln National Corporation	LNC	0709 – Insurance (Life)	?????????? 8,005.7	41%
Amtrust Financial Services, In	AFSI	0715 – Insurance (Property & Casualty)	?????????? 2,232.4	40%
HCC Insurance Holdings, Inc.	HCC	0715 – Insurance (Property & Casualty)	?????????? 3,989.2	39%
Fidelity National Financial In	FNF	0715 – Insurance (Property & Casualty)	?????????? 5,669.5	38%
Horace Mann Educators Corporat	HMN	0715 – Insurance (Property & Casualty)	?????????????? 847.4	38%
Montpelier Re Holdings Ltd.	MRH	0715 – Insurance (Property & Casualty)	?????????? 1,341.4	37%
Seabright Holdings Inc	SBX	0715 – Insurance (Property & Casualty)	?????????????? 249.3	37%
Verisk Analytics, Inc.	VRSK	0712 – Insurance (Miscellaneous)	?????????? 9,172.3	37%
AEGON N.V. (ADR)	AEG	0709 – Insurance (Life)	??? ?????13,026.1	36%
Fortegra Financial Corp	FRF	0712 – Insurance (Miscellaneous)	?????????????? 179.3	35%
XL Group plc	XL	0715 – Insurance (Property & Casualty)	?????????? 8,353.8	35%
Primerica, Inc.	PRI	0709 – Insurance (Life)	?????????? 1,877.3	34%
Allied World Assurance Co Hold	AWH	0715 – Insurance (Property & Casualty)	?????????? 2,946.7	34%
Travelers Companies, Inc., The	TRV	0715 – Insurance (Property & Casualty)	???????? 29,569.3	33%
Everest Re Group Ltd	RE	0715 – Insurance (Property & Casualty)	?????????? 5,944.0	33%
Prudential Public Limited Comp	PUK	0709 – Insurance (Life)	???????? 38,254.3	33%
CIGNA Corporation	CI	0706 – Insurance (Accident & Health)	???????? 16,718.9	33%
United Insurance Holdings Corp	UIHC	0715 – Insurance (Property & Casualty)	???????????????? 91.9	32%
Partnerre Ltd	PRE	0715 – Insurance (Property & Casualty)	?????????? 5,236.2	32%
Cincinnati Financial Corporati	CINF	0715 – Insurance (Property & Casualty)	?????????? 6,959.7	29%
Protective Life Corp.	PL	0709 – Insurance (Life)	?????????? 2,500.8	29%
Argo Group International Holdi	AGII	0715 – Insurance (Property & Casualty)	?????????????? 926.7	29%
Hallmark Financial Services, I	HALL	0715 – Insurance (Property & Casualty)	?????????????? 171.6	26%
Aspen Insurance Holdings Limit	AHL	0715 – Insurance (Property & Casualty)	?????????? 2,380.3	26%
Alterra Capital Holdings Ltd	ALTE	0715 – Insurance (Property & Casualty)	?????????? 2,911.1	25%
Torchmark Corporation	TMK	0709 – Insurance (Life)	?????????? 5,314.2	24%
Alleghany Corporation	Y	0715 – Insurance (Property & Casualty)	?????????? 6,048.5	24%
Eastern Insurance Holdings Inc	EIHI	0709 – Insurance (Life)	?????????????? 135.2	24%
Berkshire Hathaway Inc.	BRK.A	0715 – Insurance (Property & Casualty)	????? 242,512.2	23%
Manulife Financial Corporation	MFC	0709 – Insurance (Life)	???????? 26,899.6	23%
Arch Capital Group Ltd.	ACGL	0715 – Insurance (Property & Casualty)	?????????? 6,188.5	22%
Enstar Group Ltd.	ESGR	0715 – Insurance (Property & Casualty)	?????????? 2,006.2	22%
Axis Capital Holdings Limited	AXS	0715 – Insurance (Property & Casualty)	?????????? 4,664.5	22%
Genworth Financial? Inc	GNW	0709 – Insurance (Life)	?????????? 4,647.8	21%
Aon PLC	AON	0712 – Insurance (Miscellaneous)	???????? 18,361.6	21%
American Equity Investment Lif	AEL	0709 – Insurance (Life)	?????????????? 862.9	20%
White Mountains Insurance Grou	WTM	0715 – Insurance (Property & Casualty)	?????????? 3,585.0	20%
ACE Limited	ACE	0715 – Insurance (Property & Casualty)	???????? 28,999.2	20%
Markel Corporation	MKL	0715 – Insurance (Property & Casualty)	?????????? 4,581.2	19%
United Fire Group, Inc.	UFCS	0715 – Insurance (Property & Casualty)	?????????????? 595.0	19%
Employers Holdings, Inc.	EIG	0715 – Insurance (Property & Casualty)	?????????????? 658.7	18%
W.R. Berkley Corporation	WRB	0715 – Insurance (Property & Casualty)	?????????? 5,643.1	18%
Amerisafe, Inc.	AMSF	0715 – Insurance (Property & Casualty)	?????????????? 517.4	18%
National Interstate Corporatio	NATL	0715 – Insurance (Property & Casualty)	???????? ??????592.7	18%
Old Republic International Cor	ORI	0715 – Insurance (Property & Casualty)	?????????? 2,906.0	17%
Kansas City Life Insurance Co	KCLI	0709 – Insurance (Life)	?????????????? 418.7	17%
Brown & Brown, Inc.	BRO	0712 – Insurance (Miscellaneous)	?????????? 3,901.8	17%
Aetna Inc.	AET	0706 – Insurance (Accident & Health)	???????? 16,644.7	17%
Crawford & Company	CRD.B	0712 – Insurance (Miscellaneous)	?????????????? 305.5	16%
Universal Insurance Holdings,	UVE	0715 – Insurance (Property & Casualty)	?????????????? 182.4	16%
Chubb Corporation, The	CB	0715 – Insurance (Property & Casualty)	???????? 21,220.1	15%
National Western Life Insuranc	NWLI	0709 – Insurance (Life)	?????????????? 593.0	15%
American Financial Group	AFG	0715 – Insurance (Property & Casualty)	?????????? 3,862.0	15%
Loews Corporation	L	0715 – Insurance (Property & Casualty)	???????? 17,109.9	15%
Endurance Specialty Holdings L	ENH	0715 – Insurance (Property & Casualty)	?????????? 1,839.7	14%
China Life Insurance Company L	LFC	0709 – Insurance (Life)	???????? 91,295.3	14%
State Auto Financial	STFC	0715 – Insurance (Property & Casualty)	?????????????? 602.7	14%
Principal Financial Group Inc	PFG	0706 – Insurance (Accident & Health)	?????????? 9,036.6	13%
EMC Insurance Group Inc.	EMCI	0715 – Insurance (Property & Casualty)	?????????????? 324.6	13%
Maiden Holdings, Ltd.	MHLD	0715 – Insurance (Property & Casualty)	?????????????? 758.2	13%
RenaissanceRe Holdings Ltd.	RNR	0715 – Insurance (Property & Casualty)	?????????? 3,982.5	13%
Validus Holdings, Ltd.	VR	0709 – Insurance (Life)	?????????? 3,340.1	12%
Selective Insurance Group	SIGI	0715 – Insurance (Property & Casualty)	?????????? 1,106.6	12%
UnitedHealth Group Inc.	UNH	0706 – Insurance (Accident & Health)	???????? 57,244.5	11%
Hanover Insurance Group, Inc.,	THG	0715 – Insurance (Property & Casualty)	?????????? 1,821.7	11%
Cna Financial Corp	CNA	0715 – Insurance (Property & Casualty)	?????????? 8,351.3	11%
ProAssurance Corporation	PRA	0715 – Insurance (Property & Casualty)	?????????? 2,752.6	11%
Assured Guaranty Ltd.	AGO	0715 – Insurance (Property & Casualty)	?????????? 3,264.4	11%
Marsh & McLennan Companies, In	MMC	0712 – Insurance (Miscellaneous)	???????? 19,053.5	10%
Safety Insurance Group, Inc.	SAFT	0715 – Insurance (Property & Casualty)	?????????????? 728.8	10%
Unico American Corporation	UNAM	0715 – Insurance (Property & Casualty)	???????????????? 68.2	10%
Progressive Corporation, The	PGR	0715 – Insurance (Property & Casualty)	???????? 13,682.1	10%
Independence Holding Company	IHC	0709 – Insurance (Life)	?????????????? 167.3	10%
AFLAC Incorporated	AFL	0706 – Insurance (Accident & Health)	???????? 25,077.1	10%
Navigators Group, Inc, The	NAVG	0715 – Insurance (Property & Casualty)	?????????????? 751.0	10%
Metlife Inc	MET	0709 – Insurance (Life)	???????? 41,077.8	9%
Kemper Corp	KMPR	0715 – Insurance (Property & Casualty)	?????????? 1,874.3	8%
ING Groep N.V. (ADR)	ING	0709 – Insurance (Life)	???????? 37,707.5	7%
Arthur J. Gallagher & Co.	AJG	0712 – Insurance (Miscellaneous)	?????????? 4,502.5	7%
American National Insurance Co	ANAT	0715 – Insurance (Property & Casualty)	?????????? 2,070.2	7%
Prudential Financial Inc	PRU	0709 – Insurance (Life)	???????? 27,417.8	6%
StanCorp Financial Group, Inc.	SFG	0706 – Insurance (Accident & Health)	?????????? 1,776.7	4%
Global Indemnity plc	GBLI	0715 – Insurance (Property & Casualty)	?????????????? 535.1	4%
WellPoint, Inc.	WLP	0706 – Insurance (Accident & Health)	???????? 20,092.9	3%
FBL Financial Group	FFG	0709 – Insurance (Life)	?????????????? 902.6	2%
Unum Group	UNM	0709 – Insurance (Life)	?????????? 6,407.6	2%
Infinity Property and Casualty	IPCC	0715 – Insurance (Property & Casualty)	?????????????? 684.9	2%
Baldwin & Lyons, Inc.	BWINB	0715 – Insurance (Property & Casualty)	?????????????? 340.7	1%
Molina Healthcare, Inc.	MOH	0706 – Insurance (Accident & Health)	?????????? 1,357.9	-2%
Reinsurance Group of America I	RGA	0706 – Insurance (Accident & Health)	?????????? 4,098.1	-2%
Assurant, Inc.	AIZ	0709 – Insurance (Life)	?????????? 3,039.7	-3%
RLI Corp.	RLI	0715 – Insurance (Property & Casualty)	?????????? 1,439.5	-6%
Erie Indemnity Company	ERIE	0715 – Insurance (Property & Casualty)	?????????? 3,283.2	-7%
Citizens, Inc.	CIA	0709 – Insurance (Life)	?????????????? 459.8	-8%
American Safety Insurance Hold	ASI	0715 – Insurance (Property & Casualty)	?????????????? 196.8	-8%
Tower Group Inc	TWGP	0715 – Insurance (Property & Casualty)	?????????????? 740.9	-10%
Willis Group Holdings PLC	WSH	0712 – Insurance (Miscellaneous)	?????????? 6,032.0	-10%
Mercury General Corporation	MCY	0715 – Insurance (Property & Casualty)	?????????? 2,183.3	-11%
OneBeacon Insurance Group, Ltd	OB	0715 – Insurance (Property & Casualty)	?????????? 1,308.7	-12%
Greenlight Capital Re, Ltd.	GLRE	0715 – Insurance (Property & Casualty)	?????????????? 835.9	-12%
Donegal Group Inc.	DGICA	0715 – Insurance (Property & Casualty)	?????????????? 371.4	-12%
Universal American Corporation	UAM	0706 – Insurance (Accident & Health)	??? ???????????801.3	-13%
Humana Inc.	HUM	0706 – Insurance (Accident & Health)	???????? 11,855.7	-14%
CNinsure Inc. (ADR)	CISG	0712 – Insurance (Miscellaneous)	?????????????? 330.1	-17%
Health Net, Inc.	HNT	0706 – Insurance (Accident & Health)	?????????? 2,204.9	-24%
MGIC Investment Corp.	MTG	0715 – Insurance (Property & Casualty)	?????????????? 581.9	-26%
MBIA Inc.	MBI	0715 – Insurance (Property & Casualty)	?????????? 1,631.2	-30%
Meadowbrook Insurance Group, I	MIG	0715 – Insurance (Property & Casualty)	?????????????? 318.1	-36%
Phoenix Companies, Inc., The	PNX	0709 – Insurance (Life)	?????????????? 156.1	-36%
Life Partners Holdings, Inc.	LPHI	0712 – Insurance (Miscellaneous)	???????????????? 50.3	-40%

I note that the basement contains a lot of funky companies with issues.? The penthouse contains a lot of credit-sensitive companies that have rallied off of the strong equity market, and moderately strong housing market.

I do not have much trust in the momentum now, because many are trusting in the rosy scenario where losses have been normalized.? I do not think that is the case, and think that there will be additional losses from credit risk coming soon.

Sorted Weekly Tweets

Posted on 26 January 2013 by David Merkel

Rest of the World

Cyprus?s now-certain default http://t.co/H7TO0rQy Cyprus is not substantial to the EU, but it does raise issues as to precedence $$ Jan 26, 2013
Jobs At Al Jazeera http://t.co/HzukJDoL Hiring in the USA! Join the Wahabist Ministry of Propaganda; certainly more talented than most! $$ Jan 24, 2013
Mali Exposes Flaws in West’s Security Plans http://t.co/yixTdjVP Lack of proper gear, or American assistance, hinder Mali efforts $$ Jan 24, 2013
Manpower Sees French Labor-Deal Boon Matching Skills to Jobs http://t.co/OdD7JaGG $MAN helps sclerotic French labor find flexibility $$ Jan 24, 2013
Peso Beating Rupee Threatens Call Center Growth http://t.co/EkiG1wBU Phillipines will continue w/loose $$; everyone being forced2 loose $$ Jan 24, 2013
Cairo Slum-Dwellers Despair of Mursi on Uprising Anniversary http://t.co/5TlSMPkA What did u expect? Muslim Brotherhood best organized $$ Jan 24, 2013
Chavez Ally?s Once-in-Century Debt Exposes Neglect http://t.co/qpZqu0rQ Dumb2lend @ 5% 4 10yrs 2a nation has expropriated 15 companies $$ Jan 24, 2013
Merkel hints at European deal for Cameron http://t.co/2ugJjTzA Ever-closer union gives way 2Europe a la carte $$ UK has better deal w/US? $$ Jan 24, 2013
Yahoo, Dell Swell Netherlands? $13 Trillion Tax Haven http://t.co/d78DxoHN Corporations scour the globe 4 tax advantages. Wouldn’t you? $$ Jan 24, 2013
Spain?s Lost Generation Spends Salad Days Toiling in UK http://t.co/dBMcRGGw High bad debts & unemployment, yes Mario the worst is past $$ Jan 24, 2013
Suicide of Minister Turns Focus on Crash Taking Toll in Ireland http://t.co/8uXbcdNK The more severe the recession, the more suicides $$ Jan 24, 2013
Draghi Says ?Darkest Clouds? Over Europe Have Subsided http://t.co/hUqda4z7 Tell that2 Slovenia! http://t.co/TJDdbTyT $$ #debtdeflation Jan 24, 2013
Spanish Bank Bad Loans: still tending upward http://t.co/LERSIed3 Calling Mario Draghi! Another fire to douse w/your unlimited liquidity $$ Jan 24, 2013

China

Feeding the Dragon: Why China?s Credit System Looks Vulnerable http://t.co/9aFA9Ivk GMO analyzes the mess that is credit in China $$ #danger Jan 25, 2013
China Overheating Risk Resurfaces, Ex-PBOC Adviser Says http://t.co/DcjkkslU Total debt levels comparable to dev nations prior 2 crisis $$ Jan 24, 2013
China’s Potential growth may slow later in decade- Older population shrinks its labor force http://t.co/Sr6zsqa8 China demographic articles Jan 24, 2013
In China, Widening Discontent Among Communist Party Faithful http://t.co/626NiBMR Small cracks emerge in Party loyalty #interestingtimes $$ Jan 21, 2013
EU remains a big external challenge to China’s economy http://t.co/YvV52N5n 5-yr plan 2 dom consumption will fail: based on transfer pmts $$ Jan 21, 2013
“Gehnen said most crucial for a lasting strengthening of China’s domestic demand…further development of basic systems of social security” Jan 21, 2013

Market Dynamics

?Don?t work on financial crises, don?t work on contagion,? they said, according to Forbes. ?There?re not going to be anymore crises.? $$ Jan 26, 2013
The last tweet reflected the views of Kristin Forbes’ tenure advisors 10+ years ago http://t.co/X7MhwG9b Economists were complacent $$ Jan 26, 2013
The Temptation of Risk http://t.co/BLjgGwye Buying any risk asset @ this juncture feels like succumbing 2 the peer pressure of the market $$ Jan 25, 2013
?The fundamental law is we can?t raise debt faster than income from now on,? Dalio said. http://t.co/rTAJfFhf Dalio Sees ?Game Changer? $$ Jan 25, 2013
“The worst investment decisions have generally been made when dumb money is chasing yield.” Edward Chancellor and Mike Monnelly at GMO $$ Jan 25, 2013
Investors See a Way Forward: Buybacks http://t.co/Q8JQHwgs Organic growth is best, but companies w/cheap stock should buyback shares $$ Jan 24, 2013
Visual History Of The S&P 500 http://t.co/17rWiDpw 20th birthday for $SPY — Watch how the top 10 companies have varied over last 33 yrs $$ Jan 22, 2013
Egan-Jones Faces 18-Month Ban on Sovereign, Asset-Backed Ratings http://t.co/FzPbV2zo Should have stuck w/their expertise in corporates $$ Jan 22, 2013
Calpers Buy-Hold Rule Recoups $95B Recession Loss http://t.co/R7Hc02Hm Still short $87B, only 74% funded, asks CA & struggling cities 4 $$ Jan 22, 2013
Investors Get a ?Perpetual? Headache http://t.co/IM5Y94IM It is usually dumb to give away your principal 4a fixed rate w/no upside $$ Jan 22, 2013
Wrong: Money Magic: Bonds Act Like Stocks http://t.co/RNGh92EV This is little different than buying the equity of CDOs & diversifying $$ Jan 22, 2013
More on having technical analysis taught in financial classes in academic circles @reformedbroker @ppearlman http://t.co/WCxBcfDo $$ Jan 21, 2013
We must fix the broken Western state model http://t.co/L6jxLYQm Liabs, deficits & policy uncertainty lead2 economic gridlock as DC wastes $$ Jan 21, 2013

Companies

It Pays to Own an Energy Pipeline. Thanks, Tax Code http://t.co/2UCSALOo Almost all are set up as MLPs, which pass income to partners $$ Jan 25, 2013
Financial Crisis Suit Suggests Bad Behavior @ Morgan Stanley http://t.co/OkML3jhh The buyers did not do due diligence, & were yield hogs $$ Jan 24, 2013
Explosive Charge: Morgan Stanley Peddled Security Its Own Employee Called ?Nuclear Holocaust? http://t.co/QTelsPmK Untold story: yield hogs Jan 24, 2013
Microsoft Risks Strain to PC Partnerships With Dell Investment http://t.co/5t0Eok5k All of $MSFT ‘s relationship’s r strained somewhat $$ Jan 24, 2013
Firms Keep Stockpiles of ‘Foreign’ Cash in US http://t.co/r2MAumPL You want they should keep it elsewhere? At least it is safe here $$ Jan 24, 2013
#SYMC offers capital allocation program, plans to initiate company’s first cash dividend http://t.co/51H0zECN FD: + $SYMC 2.5% div, nice $$ Jan 23, 2013
Western Digital Hits 15-Yr Peak on Talk of Buyout http://t.co/GRk0JucB FD: + $WDC | $WDC more cyclical than $DELL, harder 2take private $$ Jan 22, 2013
Loan start-up Prosper raises $20 million, led by Sequoia http://t.co/SJLnKHGa Peer-2-peer lending comes of age, Prosper attracts $$ Jan 22, 2013
Microsoft in Talks to Help Finance Dell Buyout http://t.co/xpbAntVf Odd, indicates that $MSFT has more $$ than they know what to do with Jan 22, 2013
Schools Hit by Morality of Wal-Mart Guns Funding Charity http://t.co/8KgGKSQe $WMT makes <1% of its profits from guns; >1% from tobacco $$ Jan 22, 2013
Inside H-P’s Missed Chance to Avoid a Disastrous Deal http://t.co/tqJ6xsEx Could have walked away after firing Apotheker for ~$100M $$ Jan 22, 2013

Other

Senate Changes Rule on Filibusters, Keeps Supermajority http://t.co/fHOlwYmw Modest good changes made, but the filibuster stands as is $$ Jan 25, 2013
Facebook Friends Fronting Debt Collectors Draw US Regulation http://t.co/wZkVpdTu Debt collection harassment goes social, for now $$ Jan 24, 2013
Fast-changing social media makes advisers scramble http://t.co/wlZ4Py1P Note to RIAs w/LinkedIn: u may need 2turn off recommendations $$ Jan 24, 2013
Who Can Outgrow or Recover From Autism http://t.co/D3H2MrPO Autism is an overused word. Some males take longer to develop $$ Jan 22, 2013

Benefits now, Payment with Interest Later

Backs to the Future http://t.co/RuftcKsF by @agnestcrane | But as interest rates rise, asset values should fall; the gap should remain $$ Jan 24, 2013
Big Ben?s Big Bite Out of Corporate Pensions http://t.co/2Ez3PkUJ QE-infinity raises the costs of defined benefit pensions & other liabs $$ Jan 24, 2013
The RomneyCare Bill Comes Due http://t.co/eQ2wAqdn Coming soon to a nation (US) near you: pay more for health care or get less of it $$ Jan 24, 2013

Comments & Retweets

“I’ve always been skeptical of Bremmer & Roubini — too promotional.” ? David_Merkel http://t.co/FtmDU3Th $$ Also too bearish on the US. Jan 25, 2013
@JackHBarnes @finemrespice I would be surprised if a bunch of Hungarians have better insight than most. Jan 26, 2013
@finemrespice @The_Analyst I am proud to know the both of you virtually. To all my followers, please follow. #FF Jan 26, 2013
@finemrespice Many apologies, I get what u r going for. Clever. Jan 26, 2013
‘ @finemrespice Personally, I would like 2b more perverse — they have 2 invest their wealth in companies which they have refused 2 favor $$ Jan 26, 2013
@jckhewitt as you will note from my last tweet, the economics profession believed in the early 2000s that we had banished financial crises Jan 26, 2013
An example of an ETF that buys companies that buy back stock on net $$ $TTFS RT @jvnash1: @AlephBlog $ttfs float shrink Jan 24, 2013
Another good example of shrinking shares outstanding $$ RT @dwk24: @AlephBlog $COH Jan 24, 2013
RT @DavidBCollum: @AlephBlog Indeed. They also forget the highly complex systems improve by evolution, not human fiat. FOMC suffers “Fat … Jan 24, 2013
@BarbarianCap I agree, though I think developed nations should try to co-ordinate tax policy, & suggest 2 tax havens NATO has other uses 😉 Jan 24, 2013
‘ @DavidBCollum I think the Fed forgets that every liability is someone else’s asset, but that every asset isn’t someone else’s liability $$ Jan 24, 2013
@Skrisiloff You’re welcome, Scott. Keep up the good work! Jan 24, 2013
@flounder_MA @smartfootball It’s a valuation question. Price below 1.3x tangible book, buy back stock. Otherwise, special dividends $$ Jan 24, 2013
@JMucken @DanSWright I think that’s the only utility I let auto-tweet; nice utility that sums up what I did publicly on Twitter wed-to-wed Jan 24, 2013

?? @djoalpha11 This Dan Dorfman http://t.co/XlQQXj49 ? Or another one, because the famous one is dead… Jan 22, 2013

@GaelicTorus @danielckoontz They serve different needs. Main point: Use your specialized knowledge 2 choose ins 2 best serve yr likely needs Jan 21, 2013
@danielckoontz But no, I don’t have anything in the archives on LTC, except don’t buy the stock of those whose liabilities r a hi % LTC Jan 21, 2013
@GaelicTorus @danielckoontz LTC is for people of in-between health; likely to live but not be so healthy, eases the unpleasantness of aging Jan 21, 2013
@danielckoontz also look & compare all of the terms & conditions & compare different specimen policies. Get quotes from a wide # of writers Jan 21, 2013
@danielckoontz LTC is useful for someone who thinks they will need lots of care, but is likely to live a long time. Best bought when younger Jan 21, 2013
RT @ToddSullivan: RT @Convertbond: RT ?@finansakrobat: Milton Friedman (via Morgan Stanley): ?nothing is so permanent as a temporary go … Jan 21, 2013
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On Insurance Investing, Part 2

Posted on 24 January 2013 by David Merkel

If you grow book value, particularly if your liabilities are short, you will grow market value.? Many reinsurance and insurance companies aim at growing fully convertible book value per share.

Fully convertible book value per share assumes that you invest your dividends in the common stock (without taxation), and thus compound your gains through reinvestment, taking account of dilution.? Hmmm… when will someone dream up the idea of structuring an insurance company as an MLP or a REIT?? I don’t think it is likely, but maybe someone could dream it up.

It also implies that all possible dilution is factored in from convertible preferred stock or convertible bonds.? Now insurance companies tend to trade near book value over the long run, so companies that can grow their book value rapidly and pay dividends can be interesting investments.? Particularly where the liabilities of the company are short — property reinsurance or personal lines insurance, growth in book value plus dividends tends to be a reliable indicator of value creation.

If liabilities are longer, it gets more questionable, because under-reserving becomes more likely — it is very hard to be certain of the reserving of long-dated or volatile coverages.

Anyway, here is a list of insurance companies, and how they have accumulated book value plus dividends over the past seven years.? Note that this is a mathematical calculation off a limited database, and that splits and M&A can throw this calculation off.? With that caveat, here is the list:

company	ticker	sic	img_desc	mktcap	Growth of FCBV
Life Partners Holdings, Inc.	LPHI	6411	0712 – Insurance (Miscellaneous)	50.7	76%
Universal Insurance Holdings,	UVE	6331	0715 – Insurance (Property & Casualty)	185.2	75%
CNinsure Inc. (ADR)	CISG	6411	0712 – Insurance (Miscellaneous)	337.6	56%
Amtrust Financial Services, In	AFSI	6331	0715 – Insurance (Property & Casualty)	2,128.7	38%
Employers Holdings, Inc.	EIG	6331	0715 – Insurance (Property & Casualty)	652.6	32%
Enstar Group Ltd.	ESGR	6331	0715 – Insurance (Property & Casualty)	1,951.0	26%
Tower Group Inc	TWGP	6331	0715 – Insurance (Property & Casualty)	734.8	25%
Amerisafe, Inc.	AMSF	6331	0715 – Insurance (Property & Casualty)	508.5	23%
Humana Inc.	HUM	6324	0706 – Insurance (Accident & Health)	11,297.2	21%
Allied World Assurance Co Hold	AWH	6331	0715 – Insurance (Property & Casualty)	2,856.1	21%
Arthur J. Gallagher & Co.	AJG	6411	0712 – Insurance (Miscellaneous)	4,441.2	20%
Willis Group Holdings PLC	WSH	6411	0712 – Insurance (Miscellaneous)	6,009.5	20%
China Life Insurance Company L	LFC	6311	0709 – Insurance (Life)	94,339.3	20%
ProAssurance Corporation	PRA	6331	0715 – Insurance (Property & Casualty)	2,698.5	19%
RenaissanceRe Holdings Ltd.	RNR	6331	0715 – Insurance (Property & Casualty)	3,949.8	18%
National Interstate Corporatio	NATL	6331	0715 – Insurance (Property & Casualty)	576.7	18%
Argo Group International Holdi	AGII	6331	0715 – Insurance (Property & Casualty)	910.3	17%
Brown & Brown, Inc.	BRO	6411	0712 – Insurance (Miscellaneous)	3,851.4	17%
AFLAC Incorporated	AFL	6321	0706 – Insurance (Accident & Health)	24,134.6	16%
Endurance Specialty Holdings L	ENH	6331	0715 – Insurance (Property & Casualty)	1,796.8	16%
W.R. Berkley Corporation	WRB	6331	0715 – Insurance (Property & Casualty)	5,455.7	15%
American Financial Group	AFG	6331	0715 – Insurance (Property & Casualty)	3,772.7	15%
Horace Mann Educators Corporat	HMN	6331	0715 – Insurance (Property & Casualty)	830.9	15%
Eastern Insurance Holdings Inc	EIHI	6311	0709 – Insurance (Life)	135.5	15%
Validus Holdings, Ltd.	VR	6331	0709 – Insurance (Life)	3,296.1	15%
CIGNA Corporation	CI	6324	0706 – Insurance (Accident & Health)	16,104.2	14%
Reinsurance Group of America I	RGA	6321	0706 – Insurance (Accident & Health)	4,143.2	14%
Safety Insurance Group, Inc.	SAFT	6331	0715 – Insurance (Property & Casualty)	715.6	14%
Chubb Corporation, The	CB	6331	0715 – Insurance (Property & Casualty)	20,701.5	13%
Loews Corporation	L	6331	0715 – Insurance (Property & Casualty)	16,854.0	13%
ACE Limited	ACE	6351	0715 – Insurance (Property & Casualty)	28,285.6	13%
HCC Insurance Holdings, Inc.	HCC	6331	0715 – Insurance (Property & Casualty)	3,937.5	13%
Travelers Companies, Inc., The	TRV	6331	0715 – Insurance (Property & Casualty)	29,108.4	13%
Coventry Health Care, Inc.	CVH	6324	0706 – Insurance (Accident & Health)	6,080.9	12%
Markel Corporation	MKL	6331	0715 – Insurance (Property & Casualty)	4,456.4	12%
Torchmark Corporation	TMK	6311	0709 – Insurance (Life)	5,103.5	12%
UnitedHealth Group Inc.	UNH	6324	0706 – Insurance (Accident & Health)	55,732.6	12%
Partnerre Ltd	PRE	6331	0715 – Insurance (Property & Casualty)	5,116.2	12%
Meadowbrook Insurance Group, I	MIG	6331	0715 – Insurance (Property & Casualty)	311.6	12%
StanCorp Financial Group, Inc.	SFG	6321	0706 – Insurance (Accident & Health)	1,704.1	12%
Prudential Financial Inc	PRU	6311	0709 – Insurance (Life)	26,777.4	12%
Infinity Property and Casualty	IPCC	6331	0715 – Insurance (Property & Casualty)	688.6	12%
Assurant, Inc.	AIZ	6311	0709 – Insurance (Life)	2,935.0	12%
Greenlight Capital Re, Ltd.	GLRE	6331	0715 – Insurance (Property & Casualty)	837.4	12%
Progressive Corporation, The	PGR	6331	0715 – Insurance (Property & Casualty)	13,738.8	11%
Protective Life Corp.	PL	6311	0709 – Insurance (Life)	2,451.0	11%
Axis Capital Holdings Limited	AXS	6331	0715 – Insurance (Property & Casualty)	4,508.1	11%
Molina Healthcare, Inc.	MOH	6324	0706 – Insurance (Accident & Health)	1,300.1	11%
American Equity Investment Lif	AEL	6311	0709 – Insurance (Life)	834.1	11%
Symetra Financial Corporation	SYA	6311	0709 – Insurance (Life)	1,578.3	11%
Aon PLC	AON	6411	0712 – Insurance (Miscellaneous)	18,199.1	10%
Mercury General Corporation	MCY	6331	0715 – Insurance (Property & Casualty)	2,169.0	10%
Everest Re Group Ltd	RE	6331	0715 – Insurance (Property & Casualty)	5,843.7	10%
American Safety Insurance Hold	ASI	6331	0715 – Insurance (Property & Casualty)	197.1	10%
Prudential Public Limited Comp	PUK	6311	0709 – Insurance (Life)	38,071.4	10%
Aspen Insurance Holdings Limit	AHL	6331	0715 – Insurance (Property & Casualty)	2,324.9	10%
Berkshire Hathaway Inc.	BRK.A	6331	0715 – Insurance (Property & Casualty)	236,577.4	9%
EMC Insurance Group Inc.	EMCI	6331	0715 – Insurance (Property & Casualty)	326.3	9%
RLI Corp.	RLI	6331	0715 – Insurance (Property & Casualty)	1,439.1	9%
Hanover Insurance Group, Inc.,	THG	6331	0715 – Insurance (Property & Casualty)	1,781.6	9%
Unico American Corporation	UNAM	6331	0715 – Insurance (Property & Casualty)	66.6	9%
Montpelier Re Holdings Ltd.	MRH	6331	0715 – Insurance (Property & Casualty)	1,318.1	9%
Seabright Holdings Inc	SBX	6331	0715 – Insurance (Property & Casualty)	249.0	9%
Alleghany Corporation	Y	6331	0715 – Insurance (Property & Casualty)	5,950.7	8%
Hallmark Financial Services, I	HALL	6331	0715 – Insurance (Property & Casualty)	176.8	8%
White Mountains Insurance Grou	WTM	6331	0715 – Insurance (Property & Casualty)	3,509.0	8%
Investors Title Company	ITIC	6361	0715 – Insurance (Property & Casualty)	139.1	8%
Marsh & McLennan Companies, In	MMC	6411	0712 – Insurance (Miscellaneous)	19,020.9	8%
FBL Financial Group	FFG	6311	0709 – Insurance (Life)	869.4	8%
Erie Indemnity Company	ERIE	6331	0715 – Insurance (Property & Casualty)	3,264.4	8%
Metlife Inc	MET	6311	0709 – Insurance (Life)	39,615.8	8%
Aetna Inc.	AET	6324	0706 – Insurance (Accident & Health)	15,698.1	8%
WellPoint, Inc.	WLP	6324	0706 – Insurance (Accident & Health)	19,054.4	8%
Hilltop Holdings Inc.	HTH	6331	0715 – Insurance (Property & Casualty)	773.3	8%
Citizens, Inc.	CIA	6311	0709 – Insurance (Life)	485.8	7%
Donegal Group Inc.	DGICA	6331	0715 – Insurance (Property & Casualty)	370.9	7%
National Western Life Insuranc	NWLI	6311	0709 – Insurance (Life)	596.1	7%
Navigators Group, Inc, The	NAVG	6331	0715 – Insurance (Property & Casualty)	766.0	7%
Kemper Corp	KMPR	6331	0715 – Insurance (Property & Casualty)	1,842.8	7%
Allstate Corporation, The	ALL	6331	0715 – Insurance (Property & Casualty)	20,817.6	7%
Cna Financial Corp	CNA	6331	0715 – Insurance (Property & Casualty)	7,982.2	6%
Lincoln National Corporation	LNC	6311	0709 – Insurance (Life)	7,626.2	6%
Arch Capital Group Ltd.	ACGL	6331	0715 – Insurance (Property & Casualty)	6,084.7	6%
Platinum Underwriters Holdings	PTP	6331	0715 – Insurance (Property & Casualty)	1,565.0	6%
Baldwin & Lyons, Inc.	BWINB	6331	0715 – Insurance (Property & Casualty)	339.5	5%
Selective Insurance Group	SIGI	6331	0715 – Insurance (Property & Casualty)	1,086.8	5%
United Fire Group, Inc.	UFCS	6331	0715 – Insurance (Property & Casualty)	587.9	5%
Universal American Corporation	UAM	6324	0706 – Insurance (Accident & Health)	793.6	5%
Principal Financial Group Inc	PFG	6321	0706 – Insurance (Accident & Health)	8,663.8	5%
American National Insurance Co	ANAT	6331	0715 – Insurance (Property & Casualty)	2,055.2	4%
Kansas City Life Insurance Co	KCLI	6311	0709 – Insurance (Life)	416.9	4%
Cincinnati Financial Corporati	CINF	6331	0715 – Insurance (Property & Casualty)	6,771.0	3%
Independence Holding Company	IHC	6311	0709 – Insurance (Life)	169.1	3%
State Auto Financial	STFC	6331	0715 – Insurance (Property & Casualty)	582.5	3%
Unum Group	UNM	6311	0709 – Insurance (Life)	6,190.3	3%
Sun Life Financial Inc. (USA)	SLF	6311	0709 – Insurance (Life)	17,283.4	3%
Alterra Capital Holdings Ltd	ALTE	6331	0715 – Insurance (Property & Casualty)	2,861.2	3%
Assured Guaranty Ltd.	AGO	6351	0715 – Insurance (Property & Casualty)	2,911.2	3%
Fidelity National Financial In	FNF	6361	0715 – Insurance (Property & Casualty)	5,838.5	3%
Atlantic American Corporation	AAME	6311	0709 – Insurance (Life)	69.2	2%
Health Net, Inc.	HNT	6324	0706 – Insurance (Accident & Health)	2,140.7	2%
Hartford Financial Services Gr	HIG	6331	0715 – Insurance (Property & Casualty)	10,641.6	2%
ING Groep N.V. (ADR)	ING	6311	0709 – Insurance (Life)	37,878.4	2%
Manulife Financial Corporation	MFC	6311	0709 – Insurance (Life)	26,357.8	2%
Genworth Financial? Inc	GNW	6311	0709 – Insurance (Life)	4,500.3	2%
AEGON N.V. (ADR)	AEG	6311	0709 – Insurance (Life)	13,073.0	1%
Old Republic International Cor	ORI	6351	0715 – Insurance (Property & Casualty)	2,994.2	1%
OneBeacon Insurance Group, Ltd	OB	6331	0715 – Insurance (Property & Casualty)	1,328.8	0%
Global Indemnity plc	GBLI	6331	0715 – Insurance (Property & Casualty)	555.8	-4%
CNO Financial Group Inc	CNO	6311	0709 – Insurance (Life)	2,192.9	-5%
Crawford & Company	CRD.B	6411	0712 – Insurance (Miscellaneous)	326.7	-5%
Stewart Information Services C	STC	6361	0715 – Insurance (Property & Casualty)	536.7	-9%
XL Group plc	XL	6331	0715 – Insurance (Property & Casualty)	8,182.5	-9%
Phoenix Companies, Inc., The	PNX	6311	0709 – Insurance (Life)	155.4	-14%
First Acceptance Corporation	FAC	6331	0715 – Insurance (Property & Casualty)	51.2	-17%
Radian Group Inc.	RDN	6351	0715 – Insurance (Property & Casualty)	820.6	-23%
MBIA Inc.	MBI	6351	0715 – Insurance (Property & Casualty)	1,561.5	-24%
Kingsway Financial Services In	KFS	6331	0715 – Insurance (Property & Casualty)	53.4	-25%
MGIC Investment Corp.	MTG	6351	0715 – Insurance (Property & Casualty)	567.7	-28%
American International Group,	AIG	6331	0715 – Insurance (Property & Casualty)	51,803.5	-32%
eHealth, Inc.	EHTH	6411	0712 – Insurance (Miscellaneous)	501.2
Maiden Holdings, Ltd.	MHLD	6331	0715 – Insurance (Property & Casualty)	725.7
United Insurance Holdings Corp	UIHC	6331	0715 – Insurance (Property & Casualty)	92.7
Homeowners Choice, Inc.	HCI	6331	0715 – Insurance (Property & Casualty)	240.0
Verisk Analytics, Inc.	VRSK	6411	0712 – Insurance (Miscellaneous)	9,103.9
Primerica, Inc.	PRI	6311	0709 – Insurance (Life)	1,868.1
First American Financial Corp	FAF	6361	0715 – Insurance (Property & Casualty)	2,648.6
Imperial Holdings, Inc.	IFT	6411	0712 – Insurance (Miscellaneous)	86.3
Fortegra Financial Corp	FRF	6411	0712 – Insurance (Miscellaneous)	177.3

Now, it makes a lot of difference how dividends are set, and how buybacks are done.? Dividends should reflect a conservative estimate of how much free cash flow that a company is willing to part with.? Buybacks should only be done when it is at a discount to the intrinsic value of the firm.? If you have to distribute capital when the stock price is above fair market value, do a special dividend.

And when capital is dear, stop the buyback, maybe even reduce the dividend, or do a small secondary IPO.? When there are genuinely profitable opportunities to write business take them.

This is yet another reason why insurance stocks tend to trade near book — capital is so flexible that if capital can enter and exit easily, it should trade near book, because capital enters and exits at book, for the most part.

Ignore the extremes, but realize that companies that compound their fully converted book values can be excellent investments.