World Beta Blog

Update:  I received emails stating that LikeAssets and BankofAmerica both have investment account aggregation features but I have yet to view either.  I imagine this is Morningstar’s game to lose but TBD.

I’m not really sure why there isn’t a killer app yet for tracking your individual portfolio across brokers?  Kind of somewhere between a WikiInvest and SRL Global (article on SRL Global here).

99% of investors that I talk to have no clue how their assets are managed across accounts, or could answer the simple question “How am I doing”?

Was reading about Winton’s new long equity fund in Institutional Investor Mag this AM over breakfast – Strength in Numbers:

“Most of the weightings will come from risk, and the most straightforward measure of risk is volatility,” says Precious, who joined Winton in 2006 from UBS, where he was co-head of global equity strategy. “We will give low weightings to high-volatility stocks, with the aim of having less concentration of risk than you would have in any market-cap-weighted fund.”

Also informing the weightings are technical and fundamental inputs, including an expected-return component for individual stocks, momentum analysis and Winton’s own fundamental analysis.

Aswath is professor at Stern B-School and is somewhat of a valuation guru with a baker’s dozen books on Amazon.  I didn’t know he was blogging but was delighted to see his recent series on stock buybacks.  Longtime readers know I much prefer the Net Payout Yield formula to dividends.  First two posts in the series from Musings on Markets:

Stock Buybacks:  What is happening and Why?

Buybacks and Stock Prices:  Good or Bad News?

Part III – Will post when updated.

I had dinner with the Whitebox folks last nite.  We’ve written about Whitebox a few times on the blog before, and Redleaf’s letters are some of the best.

One of the more interesting comments was regarding low beta/vol stocks.  Redleaf had a comment that a possible reason they outperform was do to them having a moat (something I had never thought of before). In any case, be prepared for a whole slew of low vol ETFs on the horizon from Russell and PowerShares.

From Redleaf’s book Panic: The Betrayal of Capitalism by Wall Street and Washington:

…Risk is not the source of wealth in securities markets or anywhere else.  The notion that risk equates with reward is worse than a myth – it is a mass delusion, a mass delusion that in our time has cost investors of trillions of dollars that we can measure…It has lulled an entire generation of financial advisors into complacency about the risks to which they expose their clients.

At every turn of economic life, the reduction of risk is the key to prosperity.  Except in financial markets?  Why should it be so?”

Redleaf (Whitebox) lecture here. (From AcademicEarth)

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Samuleson the investor (Economicprincipals).

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A new take on gym membherships – you pay more if you DON’T go.  (Boston Globe)

A related nudge from Thaler on health care.  (NYTimes) and why the Broncos should trade down (Nudge).

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The Power of Dividends (Advisor Perspectives)

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Jim Simon’s Interview at MIT World (HT Kedrosky)

“Be guided by beauty. Everything I’ve done has had an aesthetic component to me. Building a company trading bonds, what’s aesthetic? … If you’re the first one to do it right, it’s a terrific feeling and a beautiful thing to do something right, like solving a math problem.”

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As I finish the monetary group of books (that surprisingly I’m finding hard to get through) When Money Dies: The Nightmare of Deficit Spending, Devaluation, and Hyperinflation in Weimar Germany – Fergusson, A History of Money and Banking in the United States: The Colonial Era to World War II – Rothbard, Frozen Desire: Meaning of Money – Buchan, and yes even The Creature from Jekyll Island: A Second Look at the Federal Reserve – Griffin.

…I’ve placed an order for a few new reads now on the way:

Probable Outcomes – Ed Easterling

Conquering the Divide: How to Use Economic Indicators to Catch Stock Market Trend – Cornehlsen, Carr, & Golden

Exorbitant Privilege: The Rise and Fall of the Dollar and the Future of the International Monetary System – Eichengreen

New Ideas from Dead Economists: An Introduction to Modern Economic Thought – Buchholz

& high on my never done to-do list, fly-fishing in Montana, Great Fishing Lodges of North America: Fly Fishing’s Finest Destinations – Orvis

Lots of chatter on the blogosphere about David Tepper of Appaloosa Management.  He mentions that 2011 will be “harder and not without risk.” (From Abnormal Returns:  NYPost, TRB, Clusterstock, market folly).  And here are the CNBC videos from Investment Linebacker.

Long time readers know that I’m a fan of Tepper’s, and below are the results of following his stock picks via 13F filings every quarter via AlphaClone.  Beats the market by an astonishing 20% a year.  That includes outperformance of 8% in 2010 and 90% in 2009.  Top holdings include BAC, C, PFE, and the newly purchased DF.  Holdings with be updated again in a few weeks so stay tuned!

Way back in March ’07 I made a list of ETFs I would like to see hit the market.  In the ensuing 4 years nearly all of them have arrived (I crossed out listed hedge funds since the mutual/ETF space is becoming more and more hedge-like).

What funds would you like to see that have not hit the market yet?  I’ll put together my new list and post it to the blog.

The original list is below:

1. Foreign Small Cap
2. Foreign Bonds, Emerging Bonds
3. Municipal Bonds
4. Russia
5. Convertible Arbitrage
6. Value Hedge Fund of Funds (tracking the 13Fs)
7. Activist Fund of Funds (ditto)
8. Dogs of the Dow with Net Payout Yield (Wisdom Tree but with Payout Yield weighted instead of dividend yield)
9. U.S. Listed Hedge Funds and FOFs

One of the turning points in my early career was taking a security analysis class taught by Tiger Cub John Griffin at UVa.  There are some old posts in the archives on the topic, but needless to say it was a great experience for a bio-engineer and is part of the reason I moved away from the lab bench and towards quant investing (whether that was a net plus or minus to society TBD).

Anyways, I was cleaning out some old files and came across these notes from the class and thought I would repost them as they are a wonderful guide for a young analyst on how to think about investing in stocks.  While the list is a bit dated (from university in 2000) the message is still valid.  Other investors that promote using checklists include Buffett, Munger, and Pabrai (here is Pabrai’s PPT to Columbia on the topic).

INVESTMENT FRAMEWORK

Industry Study

• Is this a good business? What are the key success factors to superior performance in this industry?  (Value Added Research “VAR”)
• Define the market opportunity.  How do competitive products address this opportunity?
• What are the barriers to entry (“moats”)? (VAR!)
• What is the relative power of: (VAR)
  • Customers
  • Suppliers
  • Competitors
  • Regulators
• Who controls industry pricing?  Does the company/sector have any pricing power?
• How (and how much) can a good company differentiate itself from a bad one in this industry?
• Do you understand this business?  Test yourself and describe it to a ten year old.  DO THIS!

Business Model (VAR)

• What is the selling model:  razor/blades? services? one-off contracts?
• What are the economics of the base business unit?  How does it stack up against competitors?
• Why is the company good (or bad) at what they do?  Can they sustain it?
• Is this company growing by acquisition?  How sustainable is that?
• Be able to easily describe the entire sales process – from order to fulfillment.

Management (VAR)

• What is their background, and what do their former colleagues, investors, classmates, say about them?  Have they been successful in the past?  (Very important)
• How are they compensated?  Are their interests aligned with shareholders?
• Have they been good at allocating capital?
• Are they buying or selling stock?  How much as a percentage of their holdings, and why?

Company/Cultural Issues (VAR)

• Is this a great company?  Is it built to last?  What could change this assessment?
• Can you imagine holding stock in this company for twenty years?
• If you had access to unlimited capital, how would you feel about your chances of successfully competing against this company?
• Compare to a weak competitor in the same industry.  What is the difference and why?

Financial Measures First Step:  Check against all the accounting shenanigans in Howard Schilit’s book (Financial Shenanigans: How to Detect Accounting Gimmicks & Fraud in Financial Reports, Third Edition) Balance Sheet

• What is the company’s capital structure, and how does it compare to its peers?
• What are the trends in inventory turns, days payable/receivable, and working capital?
• What are its coverage ratios on interest payments?

Cash Flow

• What are the company’s capital requirements and cash flow characteristics?
• How is the company choosing to invest its capital?  CapEx?  Buybacks?  Acquisitions?
• Does the company need to access the capital markets?  How soon/often?

Earnings/Profitability

• Regarding the company’s sales model, how visible are earnings quarter-to-quarter, and year-to-year?
• Is this a fixed or variable cost business?  How much cost leverage?
• Do earnings grow as a function of unit sales growth, price increases, or margin improvement?  How sustainable is this growth?

Valuation

• Looking forward, what is the company’s valuation in terms of:
  • Market Value/Earnings
  • Enterprise Value/EBITDA
  • Free Cash Flow Yield (After-Tax Free Cash Flow/Market Value)
  • Market Value/Sales
• What is the company’s growth rates in terms of earnings, EBITDA, and FCF?
• What are consensus earnings  estimates, versus your own expectations?
• What are the key leverage points in our own and the street’s earnings models?  What has to go right, and where is the most chance for surprise?
• Are their accounting policies conservative and in line with their peers?

Risks

• What are the big unknowns?  How much can the company control/influence these risks?
• What could cause this investment to be a total disaster?  How bad could it be?

Other (Timeline/timing issues) DO A TIMELINE!

• What are the catalysts (triggers) for the company’s proper valuation to be realized?
• What good news, and what bad news, will affect the company in the coming year?
• Who owns the stock?  Momentum funds?  Big mutuals? Hedge funds?
• How difficult is it to build a significant position (float, volume)?
• Draw a time line of expected events and dates.  What might go wrong and when?

Investment Framework:  Short Questions

1.  Is this a bad business?

• Who has the power – customers, suppliers, competitors?
• What are the barriers to entry?
• What kind of reinvestment of capital is needed to grow?
• How is the business changing?
• What is the historic and current rate of success in this business?
• What are the major risks to the business plan?

2.  What is the major misperception?

• Why does it exist?
• Who is responsible for it?
• What stakes do the various parties have in keeping the stock price high?
• How popular is the industry?  rising tides lift all boats – for awhile.

3.  Assess management

• Industry reputation?
• Past history of success or failure.
• Straightforward or cunning?
• Check out insider ownership and selling.

4.  Ratios:

• EBIT/EV as a percentage.
• (EBITDA-CAPEX)/EV as a percentage.
• Growth of inventories to cost of goods sold – are inventories rising faster?
• Growth of AR to sales and AP to sales.
• Any accounting changes – smaller reserve for bad debt, revenue recognition, etc.
• Cash flow/Int. expense.
• Review Howard Schilit’s red flags

5.  Sentiment:  Are more people bullish or bearish on the stock?

• Do full media search for articles.  Make list of analyst recommendations.
• Short Interest?  SIR (remember, the stock that is already short is potential buying power)  Be careful if there is universal bearishness.

6.  Timing

• What is the expected trigger on the misperception?  Do a time line.
• Who owns the stock – long term or short term, momentum investors?
• Has the souffle already risen once?
• Can the rising stock price be self-fulfilling for awhile (financing opportunities, etc)?
• Where does the company stand in terms of the fantasy, transition, reality paradigm?

7.  Add when the story starts to unfold — regardless of stock price.

• Watch for earnings warnings, excuses, etc.  Where there’s smock, there is often fire.
• Is the company or wall street analyst group in denial of the problem?
• Watch the ratios, insider selling etc.
• Even if the stock down significantly from its high, if answering all these questions convinces you that it is still a short, do not cover and consider adding.  See below
• Does waiting for the new financials feel like waiting for Christmas?  IF “YES”  —–> ADD.

There tends to be two approaches to the profession of money management.

The first view is “what can I charge and get away with it” or what I also call the “what SuperFees will the market or investor bear”?

The second view is the “how little can we charge and still make a decent living”?

The first camp is dominated by brokers, hedge funds and the wirehouses and the second camp by the indexers and RIAs.  Before I start getting hate emails realize those are just generalizations and you can certainly have low fees and fiduciaries in the first and total dingbats and high fees in the latter.  Performance can be great or terrible in either camp and most managers are destroyers of alpha regardless of where they hang their hat.  After all, like we said in our book all that matters are the “returns you can eat”, or, returns after all fees, transactions, and taxes.  Some mutual funds are expensive at 0.5% a year while Rentec is cheap at 5% and 44%.

Regardless, at my firm we have committed to lowering our fees as assets increase.  We take our fiduciary role seriously, and all of the partners are shareholders in the fund.

In addition to having one of the most innovative (and in our opinion, fair) management fees in the industry (0.90% that goes down to 0.60% based on asset breakpoints), we put out the following press release today:

AdvisorShares, a sponsor of actively managed Exchange Traded Funds (ETFs), announced that it is lowering the expense cap on the AdvisorShares Cambria Global Tactical ETF (NYSE: GTAA) from 1.35% to 0.99%, effective February 1, 2011. GTAA is sub-advised by Cambria Investment Management, Inc (“Cambria”), a Los Angeles, California-based investment manager.

Full press release here.

As a totally unrelated aside, last night I flipped through the very good new Ferri book The Power of Passive Investing: More Wealth with Less Work.

Here is our Cambria Year End Letter for those interested.

I will probably add a new tab on the blog or website but here are some places I’ll be in the next few months.  Drop me a line if you want to meetup!

AlphaMetrix Conference Jan 26-28 Miami, FL

MTA Conference Jan-29 Charlotte, NC

Speech Jan-30 Raleigh, NC

TD Ameritrade Conference Feb 2-5 San Diego, CA

Index Universe ETF Conference Feb 6-8 Hollywood, FL A

AAII Silicon Valley Feb-19   Sunnyvale, CA

R Finance Apr 29-30 Chicago, IL

ETF Investing May 16-18 New York, NY

Wowza corn (and all the grains) is going bananas.  Courtesy Finviz: