twacowfca

Thanks - how did you find out the contango cost is about 7-10%? Please realize that the VXX is a tradeable ETN and is not the VIX. The VXX is based on VIX futures. Its change in value in benign markets is mostly determined by the contango or backwardation of the VIX futures. It's an esoteric derivative of the third degree. It synthetically "buys" VIX futures more or less each trading day that are dated about one to two months in the future and "sells" them as time progresses and they become near dated. This is normally a loser's game and a sucker's bet because VIX futures are usually in contango, meaning that the futures that have a month or two before expiration are more expensive than the futures that have less than one month before expiration. Therefore, the VXX quite often buys something that is 5% to10% more expensive than the price received when that future is sold one month closer to expiration. Occasionally, VIX futures shift into backwardation when near dated futures are more expensive than futures that are farther out. This generally happens only when the stock market sells off or crashes, and stock funds pay extraordinary premiums for options to help protect the market value of their securities. You can make a lot of money if you own the VXX when this happens because the price of the VXX will rise not only as a consequence of the favorable spread on the backwardation, but even more because of the rise in the prices of options in general that will be reflected in a spiking VIX. But this is a loser's game unless you are truly skilled in predicting when the market will go bonkers. The only almost sure bet on the VXX is to short it after it has doubled or tripled and hold the position until the market becomes less volatile. This is one of the very best bets in Optionsland because volatility will always regress to the mean unless there is a regime change like the end of the world. :)

That's a very good rule, Sanjeev, but there are about three dozen Fannie and Freddie preferreds, and I'm away from the office. If these had been available, should all of these have gone into the header? We'll post a spreadsheet for them in the near future, but I'm very reluctant to suggest that people buy them unless the government publishes a plan that looks favorable for preferred holders. In view of this, do you think that this idea should have gone into the general section? Best wishes, and thanks for keeping this the best investment forum of all. :)

You're right. It's hairy to jump in before a plan is presented and the reception to the plan is evaluated. However, the Republicans on the House Banking Committee have backtracked and no longer endorse the Republican position of last summer. One of them used to be a banker and real estate developer. Who knows, he may be buddies with some of the bankers that would like to see the value of the Fannie and Freddie preferred that their banks hold made good! The chairman of that committee has cautioned that it would be unwise to withdraw the government's support anytime soon. Times are 'a changing. Who knows what will happen? Time will tell. ???

Unless you're from Lake Wobegone. There, all the children are above average. :)

Great questions. 1). Generally, yes. However, one of the issues has a huge stated value per share. This one may be owned 100% by banks, and it never trades. Another issue is scheduled for mandatory conversion to common in a few months, and shouldn't be held if one thinks as we do that the common is very overpriced in relation to the preferred. 2). Not necessarily. The reason the common trades so high in relation to the preferreds is a liquidity premium. In the past, when there has been a favorable developmnt for stockholders, it is generally the common that jumps up in price more than the preferreds. This makes it difficult to profit immediately by shorting the common and buying the preferred. It may not be possible to short the common now after it moved to the pink sheets a few months ago. As interest in Fannie and Freddie has waned over the last two years, the liquidity premium has become generally less but still very high. The spreads between the bid and ask have been very high for most preferred issues, except the FNMA T and S series. This has presented an opportunity for retail customers to profit because potential market makers are scared to hold these issues. Interestingly, S and T are traded with greater volume and generally have a significant liquidity premium compared to the other preferreds. However, any favorable development that especially benefits the preferreds should eventually be reflected in the prices relative to the common as Mr. Market sometimes does put on his thinking cap. 3). I think the most likely outcome that might benefit the preferred holders would be a preferred to common exchange as happened with some banks and AIG. If so, it might take a few years before dividends might be resumed on the common. If this happens, These GSE's won't be burdened with having to pay $15 billion in annual dividends to the government. Without this burden, Fannie and Freddie may be on the verge of becoming cash flow positive if current trends continue. Please keep in mind the very real possibility that stockholders, including the preferred holders, could be wiped out. :)

Most investors think that Fannie and Freddie are worthless as losses have continued to mount. But are they? The US has continued to pump money into them. The latest tab totals $151 billion in preferred stock currently paying a 10% dividend that comes ahead of the common and the preferred stock owned by the public. Dividends have been suspended on the public preferred. These public preferred issues have a total market cap of about $800 million, but a stated value of about $30 billion. They are held by private investors, mostly banks. The US has also bought and guaranteed large amounts of Fannie and Freddie's debt. By conventional valuation both of these GSE's should have been liquidated long ago, with the public shareholders wiped out! But a funny thing happened on the way to bankruptcy: the government thinks they are too big to fail. Currently, These GSE's guarantee almost all the conventional mortages that are being written, while FHA guarantees the smaller amount of risky mortgages that continue to be written. Fannie and Freddie are back in the business of guaranteeing high down payment conventional loans to creditworthy borrowers, a business that continues to be very profitable. Were it not for their legacy costs and the high dividends the government receives on its preferred stock, Fannie and Freddie could do an IPO and perhaps raise enough capital to support a reduced role confined to their traditional, highly profitable business. Will this happen? Maybe it will, if not soon, perhaps sometime in the not too distant future. Maybe it won't happen, and shareholders will lose the remaining 1%-2% or so of their former market cap. If that happens the common and preferred in the public's hands will be a total loss. But, if there is eventually a favorable outcome along the lines of the government's bailouts of AIG, Ally and the big banks, there will be something left for the stockholders, especially the holders of preferred stock, mostly small or regional banks that have been ignored in the effort to save the big banks. They had been told by regulators that Fannie and Freddie preferred was the only high yielding security they could own because it was so safe with AAA ratings. If there is something left for stockholders, it is likely to be many times the current market cap for the preferred stock if the pattern of exchanging preferred for common that has taken place in unwinding the other bailouts holds. Therefore, there may be an asymetric risk/reward profile in owning the preferred. Let's assume that there is a probability of some sort of a successful outcome. If we go by the pattern that has been set with the unwinding of other bailouts, that probability may be high, perhaps 90%. However, in view of the much worse shape of Fannie and Freddie than the other institutions, lets discount the probability of some sort of successful outcome to only 50%. Heads, you lose your investment. Tails, you win. But how much? A little? A lot? Lets look at AIG. The common shareholders wound up with about 10 % of the equity. The government gave up its preferred priority and high dividends in exchange for common stock and chose not to exercise its warrants. If that pattern should hold in the event of a reorganization of Fannie and Freddie, the preferred shareholders might own 90% of the common, with perhaps 75% of the common in the hands of the government and 15% of the common in the hands of mostly banks that own the publically traded preferred. The government might put the remaining bad loans in runoff. Current common shareholders might retain 10% of the new common. If there is then an IPO to raise more capital, the former shareholders of the publicly traded preferred might eventually own less, perhaps 7/12% to 10% of the new common with the holders of the old common having a lesser amount, perhaps 6.7% to 5% of the new common. How much might such a recapitalization be worth for a combined Fannie and Freddie with restrictions that was restricted to guarantees of solid, conforming mortgage loans with their bad loans behind them? Then, the new Fannie/Freddie wouldn't have to pay the crushing preferred dividends the US now receives. If the new Fannie/Freddie were worth $80 to $120 billion in a few years, the public preferred that would be exchanged for common might be worth 10 to 15 times its current market cap of about $800 million. However, the common with a current market cap of about $2.8 billion, might not fare so well in a recapitalization that is similar to the unwinding of other bailouts. This is merely speculation. But, thinking through possibile outcomes may help prepare for an important event that may help clarify Fannie and Freddie's future. Under the terms of the financial bill passed last summer, the administration is supposed to present a plan for Fannie and Freddie's future by the end of January, 2011. Is there a margin of safety in this speculative situation? Perhaps. Simply, wait a few days until the end of January, 2011 deadline. Then, there could be a margin of safety if the administration's plan is well received and favorable for recouping significant value for the publically traded preferred that's owned mostly by the banks. In the past, this preferred has often been overlooked by other investors because the common is much more liquid. We've made good money in the last two and a half years arbitraging the spread between the common and the relatively cheap preferred, and we continue to trade in and out of them. But, owning the preferred or common could be risky as the deadline for an announcement about their fate approaches by the end of this month. It's possible that the administration's plan might not follow the pattern of the other bailouts of leaving something on the table for current shareholders. On the other hand, it's not out of the question that the plan might retain the full stated value of the public preferred issues, as was the case with Ally's recapitalization. If so, the banks might be made whole on their investment in the preferred, just as the holders of Fannie and Freddie's debt have been made whole. If so, the public preferred could eventually be worth their stated values that are about 40 times the current market prices. Nevertheless, Fannie and Freddie's stockholders could fare worse than the stockholders of the private companies bailed out during the crisis. This would be a big political stink, especially as these GSE's have not been run entirely for the benefit of their shareholders during their conservatorship. Perhaps, the the plan the administration will announce soon will have important details about the future value of the common and preferred.

For the same reason that highly leveraged Lloyds syndicates usually trade at higher multiples to NAV than Bermuda Re companies! Also for the same reason that the house has a larger expected gain on high potential payoff Keno tickets than most other games of chance! The prospect of large gains blinds people to suspend judgement when a rational computation of probability might throw cold water on a happy thought.

Ike's famous speech, warning about the growth of the "military- industrial complex" has an interesting footnote. Ike's first draft described the "military- industrial- congressional" complex. However, diplomat that he was, Ike edited the new term and removed the word, congressional, lest he offend those who were at the heart of the problem, but key to its solution.

Some time ago, a lady in our office was transcribing some of my dictation for a new book when she heard the sound of rushing water in the background. She called others over and said, "Listen to this. Does this sound like what I think it does?" Another lady replied, "Now we know where he gets all his ideas!"

Except you just did! ;) Well done. Good show, broxburnboy! How did you do it? Any details would be much appreciated.

You must have been flushed with pride when you launched your missive. :D

Here's my 2 cents: Hedging is trying to hit a moving target. Making a definite statement about today's status may be misleading if the situation changes tomorrow.

We did a study a few years ago of the performance of MFI type stocks over several years by sector and subsector. Subsector returns often had too small sample sizes and too much noise to draw firm conclusions, but sector returns were more interesting. Retailers and branded consumer goods companies seemed to be the best performing MFI sectors as we defined them. We bought Deckers Outdoors initially at about $19/SH after it showed up on the MFI screen. :)

WINN won't be worth much if they had to liquidate. They lease almost all their stores and severance packages would be expensive. A run off wouldn't be a bad idea, but they are kind of doing that now. They've recently closed 30 under performing stores and have cut people from the headquarters, so they are whittling down. I don't want to defend the idea too much, since the more I defend it the more trouble I have selling it but I welcome any ideas that are short winn dixie (already read the two on VIC.) I know someone who has a few downscale independent supermarkets. He used to buy something like one of the Winn Dixie stores that were closed. He would pay maybe a little over scrap value for the shelving and equipment and get a big discount on what the chain had been paying on the lease. Then, he would usually be able to operate profitably for a few years before he had to close down the store. The exceptional units that continued to be profitable were the ones that were located in a very small town or the non growing outskirts of a larger town that could support only one small store and were far enough away from competition that there was convenience for local residents to shop there.

DQ has a great ROC as almost all of their units are franchised. :) NetJets had the same potential, but WEB allowed their former manager to give puts to the buyers of fractional shares in their planes.

Good year. Up just above 50%, I think, on average in the different accounts. Almost all the gains were in insurance stocks and long dated total return derivatives on them. 30% of starting capital was in very liquid TAFC for most of the year. This only returned about 16%, but much better than the alternative, cash. All but one (BRK) of the insurance stocks were deep values, good businesses, over reserved, no long tail liabilities, good to great managers with lots of skin in the game and an owner's orientation, selling below the value of their highly liquid net assets as the management bought back stock. Two of these, BRK and BRE were quick in and outs arbitraging highly probable events.

OK anytime for low to moderate income income taxpayers with small, regular IRA's, I think. Otherwise, you snooz, you lose. 8) Clarification: The year end tax bill does allow conversions of regular IRA's to Roth's in future years without limitation by income. Conversions executed in 2010 are eligible for deferral of one half of taxes due on the conversion to tax year 2011 (due in 2012) and the other half due to tax year 2012 (due in 2013). However, conversions made after 2010 will necessitate tax payments on the conversion that are due in full by tax day after the year of conversion.

Overseas now and out of touch. Will check it out when we return in a couple of days. FYIW the recent easing got a boost in May of last year from the earlier expansion of the monetary base as velocity eventually picked up, resulting in expansion of M2. This is not a negative in the short run, disregarding the potential for inflation after the slack in the economy is taken up. However, the correlation of the stock market with M2 is weaker than with WSBASE. What's happened to M2 the last two weeks?

Dividends from foreign companies that don't have their shares listed on US exchanges or the nasdaq main market (ADR's will do) are non qualifying for the reduced tax on qualifying dividends and are taxed as ordinary income.

Maybe I was unclear about the annual reports. I meant that I have been reading some reports (FFH, RLE,..) in general, not those of BRK. :) I will definitely try to find such small and simple companies and get started with those! I am from Belgium, Europe. I study finance & insurance, but the education isn't worth much imo, just some basic stuff. For example on the subject of insurance, we don't learn how insurance companies work, we learn how the products work, etc. ;) I have been working (student job) for an insurance agent whom I know well for some time. But I am just starting to deal with contracts etc., before it was mainly administrative work. This of course won't help me to understand the industry any better. But maybe I can get more information and knowledge through the agent, he has some experience in the sector and asking doesn't hurt... The point is that the sector lies in my line of interests. I have a great interest in marketing and sales so retail seems to be a second sector I would like to explore. Also, retail seems to be one of those sectors where most companies probably still somewhat lie in my field of competence. @ SD = Thank you. Will look into the book. I will stay of the buttons until I fully understand the lessons, thanks. A recent annual report by Montpelier Re (for 2009 I think) has the best primer in a few pages for understanding reinsurance and reinsurance companies. Reading it perhaps more than once untill you thoroughly understand it should be more informatve than any thing else. :)

A great question! How many angels can stand on the head of a pin? Modern money is an abstract quality. It can be anything an issuing government says it is. It is "of a prolific nature", as Ben Franklin said. It can grow by compounding. Or, it can grow by inflation. Paradoxically, if it inflates too much it disappears! In that sense, it's like the idea that the universe may inflate until there is nothing left but a singularity. No time. No space. Therefore, no circle of time. Then, "in the beginning" BANG! Creation ex nihilo.

There was been a thread on this topic a few months ago. :)

We had a total unlevered return of 55% on our major long term insurance investment this past year, and, with a total return derivative, some acounts had an even higher return on the same investment. However, I don't think this is what you are looking for because that company made their abnormal returns on underwriting, rather than investing acumen. In comparison, might be our holding of Third Ave Focus Credit, an unlevered fund that holds bonds and other debt instruments which has returned @ 16% TTM vs BRK @22% TTM or MRH with about the same TTM. We were in and out of these last two insurers as well as BRE so our ARR on them was much higher, but I assume you are looking for TTM returns. BRK and MRH are better than average companies that have good underwriting as well as the opportunity to make returns on their investments. In that sense, they are better than leveraged bond funds as some have described insurance companies.

I only mentioned it because I think some people who own DELL have bought it for the 5x operating income allure. I haven't yet heard of an acquisition made at 5x earnings, so I was just pointing out that people likely aren't getting 5x earnings -- it just looks that way for now because the cash hasn't yet been deployed. Apollo's acquisition of Brit at 5x earnings will close in a few days. Validus bought IPC at a similar low multiple last year.

Way to go Eric! Keep up the good work. :) Glad to see you put in a plug for the lost boys. We had the opportunity to help scholarship one of them after he made it to the states. His parents and all the adults and older children in his village and surrounding villages were killed by mauraders. The group of surviving small children fled the area and merged with other groups, including a few older adolescents who became the leaders. They learned to stick together and help each other on their trek. When lions attacked, the older boys got them into a big scrum and threatened the lions with whoops and waving sticks. This kept the lions at bay. But, if a little boy became frightened and tried to run away, the lions would pick him off and tear him to shreads. This happened to his little friend before his eyes. :'( He graduated from college in the US and went back to the now peaceful southern Sudan to help his people. :)