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Watsa Interview - CFA Magazine


maxthetrade
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The article that precedes the Watsa Interview is very good as well. "Emerging Threat Funds".

 

Thanks for the link.

The next big Mike Bury? type of opportunity will be to delve into these highly complex and  unstable investmnet vehicles. Billions of these types of products are being sold monthly around the world. As some unfortunate investors discovered the returns on Bernie Madoff ponzi scheme were greater than the linked notes where Lehman was counter party.
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I certainly like Prem's answers to these questions:

1) Your equity position is 100% hedged -- why?

2) What makes this a once in 50 years event?

 

Always good when someone as smart as Prem shares your views.

 

Although based on Prem's comments, I may not prove patient enough given that I hold only a 40-45% cash position.  Not sure what I'm going to do but will strongly consider paring back any positions that don't offer extreme margin of safety. 

 

One thing is certain -- it is crazy/reckless to be fully invested at this point, especially with any meaningful concentration in bank stocks.  Deflation is armageddon for banks.  While deflation is not certain, it is a not insignificant risk as Prem notes.

 

Thanks for posting this interview.

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To the contrary, I think all the US bearish sentiment around is an indication we not go down much further.  If you look at a the VL average we are at the same level as 1994 and the S&P 500 1998.  This sideways movement may continue but I think a large scale decline (absent an economic collapse) is unlikely. 

 

This period is similar to the late 1970s with low US confidence and declining real returns to stocks.  I think once the debt issue does what it is going to do in Europe (most likely selective default and Euro ???) and China has its own bubble burst (not to mention the fraudulent accounting), the US will once again be the place where capital flows.

 

 

Packer

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To the contrary, I think all the US bearish sentiment around is an indication we not go down much further.  If you look at a the VL average we are at the same level as 1994 and the S&P 500 1998.  This sideways movement may continue but I think a large scale decline (absent an economic collapse) is unlikely. 

 

This period is similar to the late 1970s with low US confidence and declining real returns to stocks.  I think once the debt issue does what it is going to do in Europe (most likely selective default and Euro ???) and China has its own bubble burst (not to mention the fraudulent accounting), the US will once again be the place where capital flows.

 

 

Packer

 

Yes, I think that may be the correct outcome Packer.  Just like capital flowed to the U.S. dollar as a flight to safety, I suspect as earnings in U.S. companies continues to progress, while the P/E multiple continues to contract, capital will eventually flow to U.S. equities.  But it may move sideways with intermittent volatility for some time.  Cheers!

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To the contrary, I think all the US bearish sentiment around is an indication we not go down much further.  If you look at a the VL average we are at the same level as 1994 and the S&P 500 1998.  This sideways movement may continue but I think a large scale decline (absent an economic collapse) is unlikely. 

 

This period is similar to the late 1970s with low US confidence and declining real returns to stocks.  I think once the debt issue does what it is going to do in Europe (most likely selective default and Euro ???) and China has its own bubble burst (not to mention the fraudulent accounting), the US will once again be the place where capital flows.

 

 

Packer

 

I disagree. If Italy gets to the same point that Greece is at, Europe will have a crisis that causes more global financial loss then did the U.S. mortgage debacle.....and that's just Italy. What happens when Greece, Italy, and Spain topple? Or all of the PIIGS? This European debt crisis is far more serious than the U.S. mortgage debacle both in the severity of loss and the inability of over-indebted governments to be able to do anything to prevent it due to fiscal inflexibility from decades of overspending.

 

Value investing is all about downside protection. Do you really believe that stocks are at reasonable prices assuming a worst-case scenario?

 

U.S. businesses are in a much better shape than they were in 2008, but sovereign entities are not. Thus, if we dip back into a depression (assuming we ever really recovered from the last one) we won't see the same kind of steep 2009 recovery that we saw before that was induced by trillions of government stimulus because the governments will not have any flexibility to spend anymore or borrow anymore. Try to convince companies to spend their cash piles going into such a depressionary environment.

 

I'm no expert about what is occurring in Europe, but it seems that a Greek default is all but inevitable and is likely the best solution in terms of biting the bullet now for a better long-term outcome. Beyond that, I think there is still the possibility for other countries and their banks to be spared; however, there is no guarantee of this. Whatever the outcome, we can be certain it will be painful for the entire Euro area, and thus will be painful for the U.S. and the rest of the global economy. It seems like a decade of flat/declining equity markets may be just what we have ahead of us. Japan lost two decades and had long-term spouts of deflation even though the global economy wasn't in a recession. Can you imagine the global consequences if both the Euro area and the U.S. go into a decade or two of little to no growth and are in deflationary depressions?

 

This to me would suggest that markets are actually UNDERREACTING and that we could certainly go much lower. I'm not a fan of speculating in commodities, and I do not personally own gold, but I think that equities will go much lower and gold will go much higher before this is all over. Market timing is near impossible though and I could always be wrong. I would think that beginning moderate positions in undervalued companies now would be a good idea, and to add to these positions slowly over the next two years.

 

I think going forward is going to be a once in a lifetime opportunity for stock-pickers/value investors; however, it's going to be a very rough ride. If you can't stomach extreme volatility, you may consider other investments outside of stocks, bonds, and commodities over the next two or three years.

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I agree that it is going to be a bumby ride but a good number of the firms I own are under 5x FCF and most are under 10x.  Unless these firms fall apart (literally), I feel comfortable.  I base my view on the bottoms-up availabilty of "cheap" stocks along with looking at sentiment and prevoius narratives.  If I could not find cheap stocks,  I would agree with you.

 

Packer

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I agree that it is going to be a bumby ride but a good number of the firms I own are under 5x FCF and most are under 10x.  Unless these firms fall apart (literally), I feel comfortable.  I base my view on the bottoms-up availabilty of "cheap" stocks along with looking at sentiment and prevoius narratives.  If I could not find cheap stocks,  I would agree with you.

 

Packer

 

I typically ignore "small bumps" in the macro economy for a more bottom up view. I'm still highly invested in individual equities as well, but just as a rising tide lifts all boats, a receding tide will likely lower them all. I agree with Watsa that this is not like other recessions. If it was, I'd be buying now and all of the way down to the bottom; however, if this really is a one-in-50 year event and if the U.S. does really have 10 years of slow growth and the possibility of deflation ahead, then equities will get slaughtered no matter how cheap they appear to be now.

 

I'm not selling my current holdings but I am diversifying and putting all my money for the next year or two into privately traded investments that will likely perform well no matter what happens in the economy, and I benefit from not having glaring red numbers stare at me everyday. I think if you cherry pick your investments well, you could stand to profit (even in the short term); however, I think more losses are likely to come for most everyone before the gains.

 

 

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I have had similar thoughts about this.  One way to do this is to buy puts.  You can get SPY puts at a price of about 10% per year.  Frank Martin has done this.  I like this because it is an action you can take to protect and make money. 

 

The other thought pattern which I think is also true with this uncertainty has come some great bargains.  Today, like the 1970s we are in a crisis that has no clear solution.  It is going to require some pain to get out of like in the early 1980s with Volker's high interest rates.  However, the late 1970s were a great time to buy stocks because the demand was somewhere else (oil, gold, etc).  Today it is in bonds and commodities. 

 

As a aside, what space are your private investments in?  I look at my small media plays and real estate workout names as private illiquid investments.

 

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I have had similar thoughts about this.  One way to do this is to buy puts.  You can get SPY puts at a price of about 10% per year.  Frank Martin has done this.  I like this because it is an action you can take to protect and make money. 

 

The other thought pattern which I think is also true with this uncertainty has come some great bargains.  Today, like the 1970s we are in a crisis that has no clear solution.  It is going to require some pain to get out of like in the early 1980s with Volker's high interest rates.  However, the late 1970s were a great time to buy stocks because the demand was somewhere else (oil, gold, etc).  Today it is in bonds and commodities. 

 

As a aside, what space are your private investments in?  I look at my small media plays and real estate workout names as private illiquid investments.

 

Packer

 

Low interest rates and low prices make real estate a very attractive play at the moment. My business partner and I have started a LP to collect money from family and friends and we are identifying properties that we would like to own if we can get the right price. We're working on our first acquisition right now. Both residential and commercial real estate offer huge opportunities. For example, it currently costs 30% more to rent a home than own in Atlanta. That means if you can buy the home and find a tenant, you could have 20-30% gains on it in just the first year employing absolutely 0 leverage...that's incredible.

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I'm surprised more people aren't doing this.

 

I have had similar thoughts about this.  One way to do this is to buy puts.  You can get SPY puts at a price of about 10% per year.  Frank Martin has done this.  I like this because it is an action you can take to protect and make money. 

 

The other thought pattern which I think is also true with this uncertainty has come some great bargains.  Today, like the 1970s we are in a crisis that has no clear solution.  It is going to require some pain to get out of like in the early 1980s with Volker's high interest rates.  However, the late 1970s were a great time to buy stocks because the demand was somewhere else (oil, gold, etc).  Today it is in bonds and commodities. 

 

As a aside, what space are your private investments in?  I look at my small media plays and real estate workout names as private illiquid investments.

 

Packer

 

Low interest rates and low prices make real estate a very attractive play at the moment. My business partner and I have started a LP to collect money from family and friends and we are identifying properties that we would like to own if we can get the right price. We're working on our first acquisition right now. Both residential and commercial real estate offer huge opportunities. For example, it currently costs 30% more to rent a home than own in Atlanta. That means if you can buy the home and find a tenant, you could have 20-30% gains on it in just the first year employing absolutely 0 leverage...that's incredible.

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Guest longinvestor

I agree that it is going to be a bumby ride but a good number of the firms I own are under 5x FCF and most are under 10x.  Unless these firms fall apart (literally), I feel comfortable.  I base my view on the bottoms-up availabilty of "cheap" stocks along with looking at sentiment and prevoius narratives.  If I could not find cheap stocks,  I would agree with you.

 

Packer

 

I typically ignore "small bumps" in the macro economy for a more bottom up view. I'm still highly invested in individual equities as well, but just as a rising tide lifts all boats, a receding tide will likely lower them all. I agree with Watsa that this is not like other recessions. If it was, I'd be buying now and all of the way down to the bottom; however, if this really is a one-in-50 year event and if the U.S. does really have 10 years of slow growth and the possibility of deflation ahead, then equities will get slaughtered no matter how cheap they appear to be now.

 

I'm not selling my current holdings but I am diversifying and putting all my money for the next year or two into privately traded investments that will likely perform well no matter what happens in the economy, and I benefit from not having glaring red numbers stare at me everyday. I think if you cherry pick your investments well, you could stand to profit (even in the short term); however, I think more losses are likely to come for most everyone before the gains.

 

Pabrai's quote "Slow down your thinking to the rate at which value is added" is probably a great line to put into behavior. Combine that with the classic rearview mirror thinking most people suffer from, these are the two most important tools in the value investors behavior kit right now. Yeah, always but right now. Too much information out there....and executing buys under the influence of message boards is the worst violation. ;D Separation of the Men from the Boys will certainly happen over the next few years. 

 

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