vinod1

The teacher's method reminds me of a cartoon, "I recommend this stock which is outperforming the market since 1 PM today". Vinod

Thanks for flagging this out. Vinod

I think each has different risk/reward characteristics. 1. More scalable but much lower returns. You get what the business earns and nothing more, other than a one time boost from price/value convergence. So would not expect more than 10% over the long term from these kinds of investments, which would be pretty good if funding source is low cost float. Risk is arguably lower as management has full control over the affiliate. 2. Much less scalable but with higher returns. 3. I think this would be good for those investor-owners (Tisch's) who are reasonably competent but not super-investors. Otherwise if you are really good, you do not need Mr Market to validate your investments for you by keeping some of it public. Vinod

Rick and Myth - Thanks for bringing this up. This is a good lesson for me not to dismiss a company outright without any examination because of the seemingly obvious reasons. Vinod

Good idea but I think it might not be all that informative if the poll is for our board members. Most board members would disproportionately be concentrated on the upper 1-10% of wealth and earning measures, so the economic situation would not have made much difference to spending. Another issue is if we had any changes in family situations like children the expenses would increase quite a bit which would make the data less useful. Vinod

Good work! Thanks for sharing. A little tidbit on the extent of the Japanese stock bubble: the dividend yield on the Nikkei was at 5.0% in 1970 and at the bubble peak in late 1989 it had a dividend yield of only 0.45% and is currently a tad above 2.0%. Even at its peak in 2000, S&P 500 yield dipped only to 1.0%. Vinod

:)

I think all this servers is for the alarmist to be even more alarmed and get themselves needlessly riled up. But I think that is what an alarmist wants. I do not think this distinction makes any sense. Hyperinflation as commonly understood is sustained annual inflation in the hundreds and thousands of percent. Vinod

valuegeek - Thank you. You bring a really fresh perspective to valuing SHLD and it is very helpful. Vinod

A more appropriate measure would be "portfolio value" to "annual expenses". Shows how many times your expenses are covered. Expenses are much more stable compared to salary although they are very closely related. This might not be for everyone, but it is how I tend to think of wealth. Vinod

I think the way to think about this is to ask yourself "Is this problem is solvable?" Vinod

Intel's acquisition reminds me of The Bladder Theory of Corporate Finance in action (idea proposed by Sanjay Bakshi). The more earnings you retain the greater the tendency to piss it off. Vinod

Thank you. I just ordered this book. Vinod

What I do not get about macro worries if say Inflation/deflation/double dip is that none of these events can be predicted with even say a confidence level of 50%. We can have far greater confidence in the business values of several companies and if they are selling at a discount to their IV, why make a low confidence macro bet instead of a higher confidence micro bet on individual companies? I probably need to get my head handed to me on a plate for ignoring macro, but cannot really see why macro worries should take precedence over individual stock valuation. We can incorporate macro factors in valuing individual stocks by not in terms of timing the market. I see this as one of the intellectual foundations of Graham and Buffett's approach to investing. Vinod

Perhaps a bit of Buffett comments might help "We will continue to ignore political and economic forecasts, which are an expensive distraction for many investors and businessmen. Thirty years ago, no one could have foreseen the huge expansion of the Vietnam War, wage and price controls, two oil shocks, the resignation of a president, the dissolution of the Soviet Union, a one-day drop in the Dow of 508 points, or treasury bill yields fluctuating between 2.8% and 17.4%. But, surprise - none of these blockbuster events made the slightest dent in Ben Graham's investment principles. Nor did they render unsound the negotiated purchases of fine businesses at sensible prices. Imagine the cost to us, then, if we had let a fear of unknowns cause us to defer or alter the deployment of capital. Indeed, we have usually made our best purchases when apprehensions about some macro event were at a peak. Fear is the foe of the faddist, but the friend of the fundamentalist. A different set of major shocks is sure to occur in the next 30 years. We will neither try to predict these nor to profit from them. If we can identify businesses similar to those we have purchased in the past, external surprises will have little effect on our long-term results." http://www.berkshirehathaway.com/letters/1994.html Vinod

In a period of sustained sales decline in aggregate in US, WMT should at least be able to maintain their sales. In such an economic scenario I see WMT being able to maintain their sales due to market share gain. We can agree to disagree here. The Cap Ex includes growth Cap ex, so owner earnings are pretty close to net earnings in WMT's case. If sales stagnate I do not see WMT continuing to spend a lot of money on growth. I would be the first to say that WMT is not a table pounding investment. On the other hand for an investor with at least a 10 year horizon, I think it offers strong possibility of at least 8-9% annual returns over this period. Vinod

I think you made a mistake in your return calculations. With WMT at $50 and earning $4 this year, you are getting a 8% earnings yield. It is paying you $1.25 in dividend this year. It is also likely to repurchase $1.25 in shares out of this year earnings. That leaves about $1.5 for investment. If WMT earns a ROE of 15% on this new investment, that is about $0.225 in earnings for next year. Given that you have retired $1.25 worth of shares this year your EPS for next year would be ($4 + $0.225) x 1.025 (since you retired 2.5% of shares) =$4.33. If PE does not change, that would be a total return of 54.13 + 1.25/50 = 10.75% for next year. You need only these assumptions to come up with this calculation 1. WMT has a strong moat that allows them to earn a high ROE 2. Management does not foolishly waste capital 3. WMT current earnings are sustainable 4. PE does not change 5. WMT would have opportunity to continue to invest at a high ROE If you agree with #1, then #4 should not be any concern for a long term investor at the current PE level. They have Walton family controllong a large stake that should be a check on #2 and in they measure and evaluate ROE so #2 is not something I would worry about all that much for the next few years. #5 is the only assumption that can be questioned over the very long term but I do not see this a concern over the next few years. Thanks Vinod

About 6-7 years back I did a little bit of research (as an avid efficient marketeer at that time most of my effort went into aggregate market valuation and getting inflation right is a key concern) on the methodology behind inflation calculation. I was pretty impressed with the sophistication and the level of detail that go into calculating inflation. I had only two issues that I had disagreed with at that time and still disagree with now: 1. Hedonic adjustments for quality improvements. This leads to understating of inflation. The basic idea is that price increases due to better quality should not result in inflation. So if you had a 100 thread count bedsheet that costed $10 in 2000 and the a 400 thread count bedsheet costs the same $10 in 2010, this would result in deflation (a negative adjustment). It would not matter that a 100 thread count bedsheet is not currently available. 2. Using rent equivalent for measuring housing inflation measure instead of home prices. Thus a large part of the housing bubble did not get into CPI as rents did not increase all that much during the bubble. Other than these two, the CPI calculation is pretty robust and cannot really see any mischief or some hidden govt manipulation. Thanks Vinod

Thanks for the info. I did complete CFA so I have a reasonably good understanding of accounting. Vinod

I am trying to learn about the Oil and Gas industry and want to find out if anyone has any suggestions on any books, websites or other resources to learn about the industry. I have tried reading a few of the annual reports but there is much industry specific jargon and accounting that is needed for evaluating any company in this industry. On google I found the most basic information from Wikiinvest and investopedia but want to really learn in much more detail something along the following lines 1. Industry Terminology 2. Activities along the value chain Acquisition/Exploration/Development/Production. 3. Industry specific accounting (capitalizing/expensing of acquisiton/development costs, full cost/successful effort accounting, asset retirement, etc) 4. Common industry valuation methods I found one book on "Valuing Oil and Gas Companies" by Rob Arnott but it is about $300 on Amazon and I am not sure if it would be that helpful. Thanks Vinod

Comments on Natural Gas prices from Oakmark http://www.oakmark.com/opencommentary.asp?commentary_id=578&news_from=c&fund_id=20 Energy and Disruptive Technologies Those of you who have paid attention to our discussions concerning our energy investments over the years might remember that at one point we strongly favored domestic producers of natural gas, given what we saw as a favorable supply-demand dynamic with natural gas—the favored carbon fuel of the environmentally conscious. At the time we thought that a business that could develop and produce natural gas for under $4 per mmbtu and then could sell it at prices in excess of $7 per mmbtu was a good business. It was even better in those periods when a substantial amount of yearly production could and would be hedged for sale at prices in the range of $8 - $10 per mmbtu. In recent months, the dynamics of the natural gas marketplace have changed and we have reduced our exposure to gas considerably. Moreover, our other energy investments, primarily in Concho Resources, Cenovus, and Apache, have taken on a more oily mix. Because of these changes, we felt that a discussion of disruptive technology was in order. Our thanks to Nathan Weiss of TIS GROUP of North Oaks, MN for his extensive review and discussion of disruptive technologies impacting commodities and energy in a recent report. Commodity prices are of course primarily affected by supply and demand issues. Commodities that are in short supply might have higher prices due to the increased costs of meeting environmental and safety standards, the continued deterioration in the size and grade of resource deposits, and the difficulty of accessing these deposits. Often, new technology can mitigate these upward price trends. For example, seismic imaging can help locate petroleum and mining deposits. Farmers employ genetically modified seeds and use larger GPS-equipped tractors. New chemicals and drilling techniques can extract more oil and gas from a well. The impacts on production costs might be incremental, but if the technology change is great enough, new technologies can lower production costs while increasing the supply of the commodity. We classify a technology as disruptive, then, when it significantly lowers the supply/demand equilibrium price while it simultaneously causes a surge in production capacity. Offshore drilling was one of the first disruptive technologies in the petroleum market. Even though it started in the 1960s, the technology was not widely adopted until the late 1970s during the oil price shock. Initially, drilling occurred at depths less than 400 feet, and it moved quickly to the Gulf of Mexico, the North Sea, and other locations, resulting in increased oil production, even though demand increased only marginally. This geographic expansion was the result of the OPEC-producing countries cutting production by 40% from 1975 to 1985. Given an oversupply of the commodity, prices remained flat for two decades after the introduction of the disruptive technology. The end result of this price suppression, however, was a production peak, which led to substantial and sustainable real increases in the price of oil. We think that natural gas prices are now at a similar tipping point. Horizontal drilling techniques have been used in this country for more than twenty years. However, since 2003, new fracturing techniques for wells (especially in shale) have led to a 10x increase in horizontal drilling rigs. Horizontal drilled wells are now thought by some commentators to be responsible for more than 80% of incrementally produced natural gas in the U.S. Over the past five years natural gas needed to trade at $6 - $7 per mmbtu to encourage new production of natural gas. Lower prices tended to cause a reduction in drilling and production to slow accordingly, resulting ultimately in a supply-demand imbalance that would increase prices until the demand was met again. In the past twelve months, prices have remained under $5 per mmbtu with the expectation that production would again be shut-in and drilling curtailed until pricing corrected back towards the $7 mmbtu range. The problem with these assumptions is that many companies have improved their horizontal drilling techniques to a point where they can earn attractive returns with gas at much lower prices than had been the case even a few years ago. As this technique becomes increasingly adopted by more companies, we are concerned that horizontal drilling will become a truly disruptive technology, resulting in lower price highs for natural gas. The prices at which producers will continue to expand production now appear to be in flux and drifting lower towards a new clearing price. Horizontally drilled wells may actually only generate negative cash flow when gas prices fall to $3 per mmbtu for the most efficient producers. Higher cost wells can be shut without ending oversupply because of the greater efficiency of horizontally drilled wells. Each horizontal rig can surge production by 5-10x the previous capability of vertically drilled wells. Thus, companies can adjust supply to meet demand in a much shorter time frame than the months historically required to correct imbalances. Thus, for the foreseeable future we expect natural gas prices to remain under $5.50 per mmbtu. Capacity should come off line as prices go below $3.50.

On the other hand Andy might be on to something just based on "It takes one to know one" principle....

Digging a little further on the company and the shorts, I found a little tidbit on the short seller, Andrew Left. He is found to have violated National Futures Association rules: 0253075 LEFT, ANDREW EDWARD • C.R.2-29(a)(1) - FRAUDULENT COMM. TO PUBLIC PROHIB. • C.R.2-2(a) - CHEAT,FRAUD DECEIVE CUSTOMERS http://www.nfa.futures.org/basicnet/Case.aspx?entityid=0253075&case=95BCC00020&contrib=NFA Vinod

Thanks! Enjoyed your interview.

Citron Research (Andrew Left) has an impeccible track record finding great shorts since 2001. His one major screw up was FFH but check out the other 99% of stocks he was bearish on, most dont exist anymore. I would advise to do massive DD before getting involved with anything Andrew is bearish on, IMO Just look at VPRT today, getting smashed. Do not know all that much about them but reading a few of their posts they seem ok. In this case their arguments seem more like making a mountain out of a mole hill. Thanks for the caution. I am planning on digging deeper into the company and industry. Vinod