The AT&T-Time Warner Deal is the Triumph of Hope Over Experience

Randall Stephenson of AT&T (T) is fast establishing himself as one of the worst capital allocators around. First he bought DirecTV, and now he buys Time Warner (TWX), going after the same phantom synergies that AOL was seeking when it disastrously bought Time Warner at the turn of the century. Despite all of the breathless media attention and huzzas from the investment bank analyst crowd (cha-ching, fees!) this is the same old worn out playbook of mediocre CEOs since the time of Harold Geneen at ITT — let’s go out and buy some “growth.” But overpaying for an asset destroys value. Just because you can throw around a few ten dollar words such as synergies and convergence doesn’t mean you have created any value.

Regulators will make sure that they won’t be able to give sweetheart deals to their own businesses, so these synergies are things of the imagination. As a general rule, the only merger synergies that can reliably get realized are eliminating duplicate back office and employee expense from similar businesses.

The other thing that suggests poor results from this merger is that Time Warner’s current CEO Jeff Bewkes is exemplary, so the idea that Stephenson will manage the unit better with Bewkes retiring seems extremely far-fetched. If you are a shareholder in AT&T you have my sympathies. Randall Stephenson is not your friend. He is drunk with power (and his political connections) and simply trying to build himself a bigger empire to match the size of his ego.

Can Verizon Resist the Urge to Imitate AT&T?

As a shareholder in Verizon (VZ), I haven’t been happy about Lowell McAdam’s forays into content, buying AOL and then the remnants of Yahoo! But at least these buys are for relative chump change rather than betting the company like Stephenson has done at AT&T. Given the imitative nature of CEOs and the tendency of investment fads to gain a senseless momentum, it will be very hard for McAdam to resist mimicking his competitor and wasting a bunch of money trying to buy growth with the vague idea of media “convergence” as the impetus. If he resists the temptation, I am likely to remain a shareholder. If not, I and my capital will likely move on to greener pastures where CEOs keep an eagle eye on return on equity and intelligent capital allocation.

See also:

The Scourge of Conspiracy Theories

Tren Griffin: A Half Dozen Things I’ve Learned from Robert Cialdini’s book “Influence”

Wells Fargo’s Textbook Case of Botched Crisis Management

How a Blogger Started His Own ETF

The Intangible S&P 500 …Our Politicians Can’t Handle The Truth
Editor’s Note: This is why Tobin’s Q and other Replacement Value or Book Value based valuation measures mean less and less in the new economy of intangible capital, at least outside financials

The Jeff Bezos Regret Minimization Framework

Jeff Bezos vs. Peter Thiel and Donald Trump | Jeff Bezos, CEO Amazon | Code Conference 2016 – Video

Recent Portfolio Moves



Mid-Year Portfolio Moves

I’ve maintained radio silence for a while, but I haven’t been idle. Being largely invested in a mix of defensive dividend yielders and growers, I’ve had a great first 6 months of the year, up 18.6% on a total return basis. With utilities, REITs and consumer staples up big year-to-date, I’ve trimmed some of my winners. I raised about 9% cash and put about half of that to work in a new stock. I may be early, but risk management is my discipline.

Contenders for New Money

There are a lot of great stocks I have on my watchlist. Here are some of them, and my thoughts on them:

TJX (TJX) — The parent of T. J. Maxx, Marshall’s and HomeGoods is a formidable discount retailer. Many consider it Amazon-proof because of their ability to source high-quality discount goods. There is also the treasure hunt factor luring shoppers into the stores and away from their computers. Yields 1.3%. Ross Stores (ROST) is their competitor and a similar good performer. Stock is just not cheap enough and the yield is not high enough to get me to pull the trigger. Probably my loss.

Wells Fargo (WFC) — The best of the big banks. More involved in “boring old banking” than their megabank peers. Warren Buffett owns just shy of 10% of their shares. The upside is that it’s relatively cheap. I also like this one for its portfolio diversifying properties — it benefits from higher rates and a stronger economy. The downside is that the current low interest rates and the flat yield curve are crushing their NIM (Net Interest Margin). Political bashing in this election year makes for short-term downside, but now highly-regulated banks are in their best shape from a safety and soundness and capital standpoint in decades. Despite a generous 3.2% yield, I don’t see the urgency to buy it here, especially since their dividend growth rate downshifted to 1/2 a cent per share per quarter in 2016.

Ford Motor (F) — The only car company not to be bailed out in the financial crisis. Great turnaround under Alan Mullally. Fat 4+% yield (plus special dividends) is attractive. Just too cyclical for me. With some auto loans stretching to 72 months, what happens to demand when the economy slows, and/or the Fed raises rates? Reported earnings today and was slammed down by 8% on guidance for a contraction in sales in 2017.

Compass Minerals (CMP) — Sells mainly highway deicing salt for winter driving and has a small (10% of revenue) sulfate of potash business. Their long-lived, low-cost salt mines like the one at Goderich in Ontario benefit from salt’s low value-to-weight ratio and their access to cheap shipping throughout the Upper Midwest by barges on the Great Lakes and Mississippi River. Great 4% yield. Short-term concerns include the very warm winter last year leading to high salt inventories and weak pricing. 20% of their salt business by volume occurs in the UK and will take a currency hit from Brexit. A normal-ish winter in terms of snowfall would increase cash flows and help the dividend growth outlook. The long-term concern of global warming means that I want a big margin of safety on this one. Recent selloff has my trigger finger getting a bit itchy.

Fastenal (FAST) — A great operator in a fragmented industry, sells fasteners and other industrial supplies to industrial and retail customers. Nice 2.9% dividend yield. They have been struggling to manage their transition from their hyper-growth store opening phase, to their current effort to invest in their sales force to sell their vending solutions to industrial firms. This and recent weakness in manufacturing prompt me to take a pass for now.

Microsoft (MSFT) — Thank God for the arrival of Satya Nadella to replace Steve Ballmer. Nadella has refocused the company on investing in and growing their cloud business, Azure. Azure offers IaaS (Infrastructure as a Service) and PaaS (Platform as a Service) on a subscription model — you only pay for what you use. They are number 2 in the cloud to Amazon Web Services and growth was over 100% in the recent quarter. Given the explosion in data and computing power needed in the future, this looks like a secular grower with a lot of runway. They also have a SaaS (Software as a Service) business that is transitioning their legacy businesses to Office 365, and their Dynamics business includes ERP & CRM solutions. I don’t really know much about the wisdom of the LinkedIn deal, but given his performance so far, I’m willing to give Nadella the benefit of the doubt. With much improved capital allocation including a 2.6% dividend yield and good historic and expected dividend growth (this article anticipates an 11% dividend increase announcement in September), this is my kind of stock — a cash cow with good growth prospects.

If you can’t guess, Microsoft was the winner of my investment derby, and is the newest member of my portfolio, with a 4%+ weighting.

Don’t Let Anyone Tell You Dividends and Dividend Growth Don’t Matter for Stock Returns

EE S&P 2% Yld

This great chart from Eddy Elfenbein shows the S&P 500 scaled against a 2% dividend yield. The rally since 2009 has been more than just the Fed. But, so-called bond-like stocks are expensive now. You want to discriminate between them (no ETFs for me) and prepare your portfolio for higher rates.

In a time of low projected future returns on the indexes from the likes of Jeremy Grantham at GMO and Rob Arnott at Research Affiliates, people have rationally decided that all else equal, a higher yield with mid single digit growth will get you closer to a high single digit total return than an S&P 500 index fund is likely to do. As long as you sell the ridiculously overvalued in favor of the less overvalued and manage your risk.

But I believe it is definitely time to lean a bit more toward value and the unloved. On this basis, Wells Fargo and Compass Minerals are high on my list for future buys.

See also:

Calculated Risk: The Future is still Bright!

Jeff Saut Still A Secular Bull

Why Home Solar Panels No Longer Pay in Some States

Best-Paid CEOs Run Some of Worst-Performing Companies

Non-Traded REIT Sales Plunge 75% in Three Years — Hurray!

Charlie Munger, Buffett’s partner on 50% declines — on Vimeo

Mohnish Pabrai Lecture at Univ. of California, Irvine (UCI), May 24, 2016 – YouTube

How the Republican Party Betrayed Itself & Created the Bernie Sanders Phenomenon


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“You can get in way more trouble with a good idea than a bad idea, because you forget that the good idea has limits.”
— Benjamin Graham

The Limits of Free Market Orthodoxy

At its best, the Republican Party can be a beacon of hope and opportunity that believes America’s best days are ahead. If it betrays its principles, it also discredits them. I believe this is what has happened over the last 15 or 20 years. In pushing a faux version of capitalism, they have discredited the real thing with ordinary voters in the aftermath of the financial collapse. I believe this has given rise to the Bernie Sanders phenomenon. After all, if capitalism is seen as reckless and harmful, then one naturally gravitates toward its antithesis.

The concept of free markets is a terrific idea that has been taken too far by the party establishment. They seem to think that if more freedom and less regulation is a good general principle, then complete freedom and no regulation is nirvana. This takes a good idea too far, well past the limits of common sense.

Laissez-Faire Doesn’t Work With the Financial System

The Republican Party betrays capitalism and America when it conflates the crony capitalist nature of Wall Street with free markets. By carrying water for Jamie Dimon and the big banks, they support a system that is rigged in favor of the connected few, who then reward their political protectors with campaign contributions. This is a rotten and unjust system that does not represent real capitalism.

There are gigantic externalities (hidden costs) that the big banks, unfettered, push off onto the taxpayers. We must make the financial system robust against being gamed like this in normal times to prevent the necessity of a choice between a bailout or another Great Depression during the next crisis.

Given the necessity of that choice, the bailout is far better than total societal collapse. But the cost of more bailouts will be so grievous as to completely discredit free markets. In that sense, socialism is better than crony capitalism. If we believe in the benefits of capitalism, we need to keep it on the straight and narrow so it serves society.

That is why we must make sure that Wall Street pays the costs of its adventurism in good times to prevent the need for a bailout when the next financial crisis comes. If not Dodd-Frank, then we need to bring back Glass-Steagall, which separated the payments system (regular banking) from investment banking. The Federal Reserve is definitely on the right course by requiring more and more capital for the biggest banks.

The reason for this is that the big banks are the ones that left to their own devices will make heads-I-win-tails-you-lose bets with the taxpayers’ money as a backstop. That is not capitalism! Capitalism means you risk your own money for the chance at gain or the pain of loss. Making others pay the price for your failed risk taking is a bastardization of capitalism that seems more like socialism for the rich, or France before the French Revolution.

Worse yet, such adventurism produces nothing for the real economy. It simply allows the connected few to siphon money out of the till and into their own pockets. Surely, this is not what Adam Smith had in mind. This is why the big banks need to be reined in. They can either bear the full economic cost of their operations with higher capital requirements and closer regulation, or they can become much, much, smaller. I would prefer the latter, but either will work.

Jeb Hensarling’s “No Bailouts” Plan Guarantees the Need for a Future Bailout

What really grates on me is the cynical rhetoric from guys like Jeb Hensarling (GOP’s Jeb Hensarling Takes Aim at Dodd-Frank, Volcker Rule) that both pushes for no regulation on the big banks and makes claims that this will prevent future bailouts. This is dead wrong. It is stupid at best, and cynical and evil at worst.

Unless we make the system robust against being gamed by the cowboys on Wall Street, they will accumulate more gigantic bad bets that will either necessitate another bailout, or cause a Great Depression. Republicans like Mr. Hensarling betray the American people and capitalism with their double-talk and self-interested gamesmanship. To fix what ails the Republican Party and America, we need to jettison such faulty thinking.

See also:

The Notorious AIG

Ted Cruz and the Death of Common Sense

Venezuelans, Facing Food Shortages, Rally Behind Vilified Conglomerate

Investing in a Time of Slowing Productivity

Understanding Some Things About The Markets & Investing


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Figure Out What Not To Do & Don’t Do That

When you are learning something from scratch, Charlie Munger’s tool of inversion is very helpful. In other words, figure out what not to do and stay away from that. Learning from the mistakes of others is much cheaper than making them all yourself, in life and especially in investing. And Charlie really likes to rub his nose in his own mistakes, so the lessons sink in and aren’t repeated.

Chase Heavily-Hyped Innovation At Your Peril

Warren Buffett has always been wary of investing in innovation. Two of the greatest industries for innovation in the 20th Century were autos and aviation, and the historical record is littered with dozens of companies that have gone out of business in both sectors.

Much more important is finding a business with an economic moat, which means one or more sustainable competitive advantages that keep competitors at bay. To an investor, boring can be beautiful, especially if you can find it with a moat and buy it at a discount. Areas like consumer staples aren’t cheap these days, but selloffs will come.

If you are ready with a watchlist of great stocks and some cash, you will know what to do when everyone else is selling and losing their minds. Investing is a marathon, not a sprint. Don’t let your ego make you chase the high-fliers, especially without a margin of safety.

“The Big New Thing is often a terrible, terrible investment. Even if it pans out, there will be gobs of competitors.”
Eddy Elfenbein

The Rule of 72

Divide 72 by your annual return and it will tell you how many years your investment will take to double. An 8% annual return with reinvesting will double your money in 9 years.

This also works for inflation in an inverse fashion: 3% inflation will cut your purchasing power in half in 24 years. Hat tip to Don Yacktman, who notes that 3% inflation for 100 years turns a dollar into a nickel.

Incentive-Caused Bias Predicts Behavior

Charlie Munger talks about incentive-caused bias being a superpower in terms of its ability to predict the behavior of others. Moral suasion that runs counter to strong incentives to the contrary has little chance of getting the desired result. It helps to think about the motivations and incentives of the guy on the other side of the table or the other side of the trade. Looking at the compensation incentives at a business also helps to make sure they are aligned with the best interests of shareholders.

Politics & Investing Don’t Mix

If you let your politics rule your investing, you will pay a grievous price. With all of the negativity and polarization on talk radio and Fox News, many people have dug themselves quite a hole in the Obama years by assuming that the economy and the markets would go off a cliff. These folks have missed out on one of the great bull markets of all time.

Are Things Getting Better or Getting Worse?

As Jeff Saut says, the market doesn’t care about the absolutes of good or bad, but whether things are getting better or getting worse. Another reason to compartmentalize your political opinions when thinking about investing.

Doom and Gloom Is for Losers

Related to the point about politics, doom and gloom is for losers. There have been near infinite and continuous market crash and hyper-inflation predictions over the last 7 years. Anyone who has followed such doomsayers as Paul Farrell, Zero Hedge, or Peter Schiff has had their rear end handed to them.

The strength of America is in its people and their ability to work hard and innovate. We face tough issues, but we faced a lot of tough issues in the 20th Century, too. World War I, the Great Depression, World War II, the inflation and malaise of the 1970’s, and more. And yet living standards and markets kept rising.

Like Warren Buffett, I believe in my fellow Americans. Future living standards will almost certainly continue to improve over time. Particularly if we can remember we are all in it together and unite against our problems, instead of seeking to pin the blame on others.

Gold Won’t Save You If The World Ends

If the zombie apocalypse happens, gold isn’t going to save you. It will be guns, ammo, bottled water, and canned food. Speculate if it makes you happy, but gold has no cash flows and therefore no intrinsic value. And gold mining stocks have been one of the prime places money goes to die, as mining CEOs are quite possibly the worst operators and capital allocators known to man.

Other thoughts:

Everything that is probable is possible, but not everything that is possible is probable.

Seek margins of safety, including beyond just price. A defensive business model can give a margin of safety of sorts. A low payout ratio and low debt levels can as well. Find all of these in one stock and you have hit the jackpot.

You need to balance probabilities and consequences. In general go with the probabilities, but be mindful of small but catastrophic risks that you should avoid. Like Howard Marks says, it’s not good enough to survive on average, you need to survive on the bad days.

Measure what you manage so you can manage what you measure. If you don’t know your performance figures, you can’t know if you are adding value or not. Concentrate on what you can control (risk), and not on what you can’t (returns). Process over outcomes.

Pay careful attention to portfolio construction and position sizing. While seldom talked about, these factors are at the core of good risk management.

See also:

Inverting the How-to-Invest Question: How Not to Invest?

Less than 1% of Daytraders Are Consistent Winners!

The Nature of Value

Creating a Latticework of Mental Models: An Introduction

Judgment Under Uncertainty: Heuristics and Biases by Tversky and Kahneman

The Miracle of Compounding Illustrated: How Much Easier Is It to Save $1 Million If You Start In Your 20’s?


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MO Savs For $1 Million

So you are in your 20’s or 30’s and retirement seems so far away. Why bother saving for the future when there are so many things vying for priority in your budget today? This chart is a great illustration of why. To reach $1 million before tax at a 6.5% annual return by your 65th birthday requires saving $438 a month starting at age 25, $904 a month starting at age 35, or $5,938 a month starting at age 55.

These are just illustrations, and they make no heroic assumptions about sky-high returns. You could do a lot worse than an index fund or target retirement fund from Vanguard. Just don’t invest money earmarked for a short-term need like living expenses or a downpayment on a house in the stock market. Put an amount in month after month, in up markets and down, and raise it if your income allows. Start your snowball young and give it a long time to build. Decades from now you will be happy you did.

Beyond putting the money aside, your biggest temptation may be to sell or at least stop buying when the stock market has one of its occasional meltdowns. As long as you are broadly diversified and won’t need to touch the money for 5 to 10 years or more, you should ignore the market’s gyrations. The real risk in investing is the loss of purchasing power from inflation. Don Yacktman really seared this into my brain in this video when he made this point: 3% inflation for 100 years turns a dollar into a nickel. This is why your long-term money should be stock heavy.

Life is all about choices and tradeoffs, and it can be hard to choose between spending now or investing for far away in the future. First of all, stay out of debt beyond a home mortgage, a car payment, or student loans. Paying debt down first makes a lot of sense. Beyond that, anything you put away today will make it much easier to reach your goals later. Your future self will thank you.

See also:

How Have Stocks Fared the Past 50 Years? You’ll Be Surprised

Beware of These Cognitive Biases

Charlie Munger’s Investment Principles And Checklists [IN-DEPTH]

S&P 500 Trailing 12-Month P/E Ratio Hits Six-Year High

Stocks That Triple In One Year

Karl Popper on The Line Between Science and Pseudoscience

“The future should be viewed not as a fixed outcome that’s destined to happen and capable of being predicted, but as a range of possibilities and, hopefully on the basis of insight into their respective likelihoods, as a probability distribution.”
— Howard Marks