Friday, September 30, 2011

Chanos calls China syndrome

Found via the Corner of Berkshire & Fairfax.

China is in the midst of the biggest real estate bubble in human history—“Dubai in 2007 times 1,000.” And Sino-Forest, the less-than-meets-the-eye Canadian forestry play in China? That fits a pattern: Promoters “find a different investment hype, a story, to get people excited. In the 1990s, it was the Internet, and now it’s China. Unbridled growth.”

Why should we believe this prophecy of imminent calamity in the market that we were all counting on to buoy us for decades to come? Well, Jim Chanos—who uttered both of those quotes—has a pretty good record in doomsaying. And in profiting from that doomsaying.


Related previous post: Jim Chanos on Bloomberg (video)

Lakshman Achuthan Says U.S. Recession Is 'Inescapable' (video)

Lakshman Achuthan, co-founder of the Economic Cycle Research Institute, talks about the outlook for a U.S. recession. He speaks with Tom Keene on Bloomberg Television's "Surveillance Midday."

Warren Buffett on FOX Business

Link to video: Buffett: Top 400 Earners Aren’t Paying Enough Taxes

Link to video: Buffett: Buying Stocks Every Day


Excerpts from the interview below.


On the proposed Buffett tax:
“I didn’t say the wealthy should pay more. I said the ultra wealthy who are paying very low tax rates should pay more and the figures show that the 400 top tax payers who earned an average of almost $230 million apiece were paying 21% in a combined payroll tax and income tax, which is well below what all the people in my office pay now. What I’m talking about would not apply to someone that made $5 million a year as a baseball player or $10 million a year on media. It would apply only to probably 50,000 people out of 309 million who have huge incomes pay very low taxes. If you have a country with a deficit of over a trillion dollars and you think it can be solved by voluntary tax payments then you believe in the tooth fairy. There should be a policy that applies to people with money who earn lots of money and pay very low rates. If they earn it by normal jobs what I say would not hit them at all.”

On if millionaires would have to pay more than 39% under the proposed Buffett rule:
“No, not at all true. The millionaire who is paying 39% now will not have an extra dime of taxes. I will pay an extra dime because I make a lot of my income from money. If you make $10 million or more, there should be a minimum tax and if you make a lot of it by capital gains it will have some effect.”

On his plans for the future
“We will invest a record $7 billion in plant and equipment this year. Berkshire’s never done that before and over 90% of it will be in the US, so things are going on.”

On if the tickets for the Obama fundraiser he’s attending tonight are sold out:
“That’s my impression. I’ve got a list of attendees and I think it was geared for 100.”

On if he supports President Obama 100%:
“I don’t support every policy he has but I support the President 100%.”

On his investment in Bank of America:
“I placed this call to Brian Moynihan, I never met him, it was the first time I ever talked to him in my life. The whole conversation was probably five minutes. I said I have an idea if it appeals to you fine, if it doesn’t appeal to you that’s fine too.”

On if he supports the Bank of America CEO Brian Moynihan:
“100%. I know what he’s doing and he’s doing the things necessary to clean up the problems created by somebody before him.”

On if he thinks Greece would get jettisoned from the eurozone if they don’t pay their taxes:
“It’s hard to tell; that’s the reason I’m scared. We sold all of our bonds in some other countries in the eurozone. We own some German bonds, but don’t own bonds of other countries.”

On if he’s been buying stocks:
“We buy stocks every day. We bought 4 billion in marketable securities in the third quarter.”

On Federal Reserve Chairman Ben Bernanke's Operation Twist program:
“I don’t want anything that causes to build a lot of houses tomorrow. We have an excess inventory to work off. I don’t think the prime factor bringing us to prosperity in the future now is either monetary or fiscal policy.”

On if he hired Ted Weschler, Todd Colmes, Howard Buffett and others to have his ducks in a row so he can retire:
“No. It was a terrific addition to Berkshire and I’ve been looking for people to take over the investment function in a small way now and a huge way later on but that’s just preparing for the future.”

Lakshman Achuthan on CNBC


Warren Buffett on CNBC


California and Bust - By Michael Lewis

Albert Edwards: The S&P at 400 is almost inevitable

Jeremy Grantham of GMO says this is “no market for young men”. Maybe now I am over 50 it is my time! Yet my forecast of the S&P bottoming at 400 is still met with utter derision. I have been underweight global equities since the end of 1996 and overweight government bonds. Meanwhile US 10y bond yields have fallen from 7% to 1¾%, a hair’s breadth from our longstanding 1½% target. Similarly, in my very humble opinion, S&P at 400 is almost inevitable.

Those who do not believe this can happen are still choosing to ignore the reality that has unfolded before their eyes since 2000. In phase 3 of the Ice Age we would apply a 7-8x forward multiple to recession-depressed forward earnings of say $70-75/sh. That gets us pretty close our 400 S&P target. Unbelievable and ridiculous? They said that about our 1½% US T-Note forecast this time last year!

The rout over the last couple of months in European equities may have been a lot worse than the US, but it has merely taken us back to the forward PE seen at the markets’ nadir in March 2009 – albeit lower at 7½x v 10½x on the S&P. But add in the recessionary impact on profits which have already begun to decline and European equity prices might fall a lot further yet, producing probably the buying opportunity of a generation.

Wednesday, September 28, 2011

The Future of the Book - By Sam Harris

I love physical books as much as anyone. And when I really want to get a book into my brain, I now purchase both the hardcover and electronic editions. From the point of view of the publishing industry, I am the perfect customer. This also makes me a very important canary in the coal mine—and I’m here to report that I’ve begun to feel woozy. For instance, I’ve started to think that most books are too long, and I now hesitate before buying the next big one. When shopping for books, I’ve suddenly become acutely sensitive to the opportunity costs of reading any one of them. If your book is 600 pages long, you are demanding more of my time than I feel free to give. And if I could accomplish the same change in my view of the world by reading a 60-page version of your argument, why didn’t you just publish a book this length instead?

The honest answer to this last question should disappoint everyone: Publishers can’t charge enough money for 60-page books to survive; thus, writers can’t make a living by writing them. But readers are beginning to feel that this shouldn’t be their problem. Worse, many readers believe that they can just jump on YouTube and watch the author speak at a conference, or skim his blog, and they will have absorbed most of what he has to say on a given subject. In some cases this is true and suggests an enduring problem for the business of publishing. In other cases it clearly isn’t true and suggests an enduring problem for our intellectual life.

Robert Shiller: Stock Prices, “Still High By Historic Standards”


Joel Greenblatt on CNBC


Tom Brokaw interviews Warren Buffett, Susie Buffett, and Melinda Gates at the Education Nation Summit


Tuesday, September 27, 2011

GuruFocus Interviews Prem Watsa

GuruFocus: Now we jump to another topic. What do you think about what's going on in Europe? Greece, Italy, what about the solutions and the opportunities?

Watsa: Well Europe, to put it in perspective, I think you might have seen something that I spoke to one of our local newspapers, the Globe & Mail, about. In the story I laid out some of my concerns, and my primary concern, if I can just put it broadly and then come to Europe, is to say that we think we're in a very difficult environment right now, might last for 3-5 years, so it's a longer term deal. It comes from the United States with the austerity program, 0% interest rate, basically the idea that there's no ammunition either with the Fed or with the Treasury, because we've got these huge deficits, larger debt, and 0% interest rates.

So if you go to Europe, it's the same thing. There's austerity programs across the continent, from Germany down to Greece, and Ireland and Portugal. Italy just came out with a 50-60 billion euro austerity program, which means they're raising taxes and they're cutting government spending. So, if you think that the last few years is a recovery from the 2008-2009 recession, the "Great Contraction," if you think this is a normal recovery, then you might be quite positive on stocks and perhaps bonds, corporate bonds.

But we think of this as a one-in-fifty, one-in-a-hundred year event. We think it could be like Japan in the last 20 years or the U.S. in the ‘30s. we think those are the two events that need to be studied, not to say that history will repeat itself, but those are the two events that need to be studied, and there are quite a few similarities in terms of too much debt in the system in the U.S. today and interest rates which are at 0%, so there's no ammo left to get the economy going while individuals particularly are deleveraging and paying back debt. And now governments are doing the same, in a time of deleveraging, in the U.S. and in Europe. So we're prepared for a tough environment.


GuruFocus: One interesting question from our readers, he said before 2007, you always put a [Shiller] P/E in your presentation. Is that an indicator you use to measure the market valuation?

Watsa: In our annual meeting, I showed the Schiller P/E, I showed the Schiller real estate index too. But the point there on the price/earnings is a good one. Right now, people look at the S&P 500 and think it's cheap, they think earnings will be at $100 selling at 12x earnings, perhaps less, and the worry of course is that the earnings will not be at 100, that they could be significantly less for the second half of this year and next year, so this environment is one that we worry quite a bit. That's why for ourselves, our stock positions are almost 90% hedged, we have a lot of Treasury bonds and municipal bonds, and we have those deflation contracts. It's amazing to us how after 2008, 2009, when the spreads widened dramatically between corporate bonds and government bonds, they've come down a month, month and a half ago to levels that existed in 2007 and 2008. Now they've started going back up again, so we have very little in corporate bonds, because we basically figure that we're not being paid for taking risk, so if we're not getting paid, we just like owning Treasury bonds, and that's what we've done.

GuruFocus: You mentioned the earnings of the S&P 500. Of course, we know the earnings have been high because profit margins are extremely high from a historical point of view. What do you think about the profit margin? Do you think it will come back to the historical mean?

Watsa: Yes, you know that regression to the mean, that concept, so things going way beyond the mean eventually come down. We saw house prices took off and now they're coming down, and they're still 15-20% off where they have been historically, real house prices adjusted for inflation. So yes, the margins in a tough economic environment will come down again, quite significantly. I mentioned in that article in the Global and Mail that China is also an area that you have to be a little careful because in China they have this construction boom that's going on. There's quite a bit of real estate speculation that's taken place there.

GuruFocus: We noticed that, too.

Watsa: So you might have experienced that, have you been recently to Shanghai or Beijing? I was there just six months ago, and ordinary people, making 65k - 75k, which is a good amount of money/salary in Shanghai, owned four apartments, and their friends owned three-four apartments, and I said, "How high has it gone up?" and he said, "It's gone up three or four times in four years." But if they would just sell one apartment they could re-coup their cost, they'd have $1 million, but unfortunately there's no way they will be convinced to sell because of the current psychology and an overwhelming belief that China's a big country with 1.3 billion people and there are all sorts of reasons why a property price decline won't happen. That reminded me of all sorts of real estate markets, including the one in Dubai that has fallen flat now and of course the U.S. markets, some time back the UK market, some time back in Canada we had the same thing, so these bubbles do break. But in China, it's such a big economy that if it breaks, it will affect the rest of the world, particularly in commodities.

GuruFocus: So back to the question about market valuation. You said you were 90% hedged, what factor do you use to decide whether you will hedge?

Watsa: We've never hedged before, we've only hedged in the last five or six or seven years, and it's this worry that Ben Graham suggested years ago that this current economic environment is different, this is different from any recession we've had. The real estate speculation in America was massive, the destruction of wealth when house prices came down 30-50% was massive, and you have to be very careful. So we operate in a mark-to-market world in terms of our capital. If the insurance business one of these days will turn, and we don't want to be restricted in the ability of our insurance businesses to write more business because the capital's gone down, because of mark-to-market hits. Mark-to-market declines this time may last for some time, as opposed to 2008-2009 when it lasted it seemed for a few months.

GuruFocus: But you did remove your hedge in 2009 when the market crashed right?

Watsa: Yes, we removed that hedge when the markets went down 45-50% and with the gains we made on the hedge we bought more stock. And we had a lot of government bonds at the time, corporate spreads had opened up dramatically and we sold government bonds and bought corporate bonds, distressed bonds and municipal bonds. We had a very good 2008 and a very good 2009.

GuruFocus: Do you think the market valuation plays a role here in deciding hedging? You said when the market goes down 50% you stop hedging.

Watsa: We are hedging not for 5-10% declines, we are hedging big market risk. We're worried about the markets coming down significantly. It might not happen, but we are just very downside protection oriented. We look at downside protection, we worry about that, and we have to live within our means. I keep telling our team, we don't have the Federal Reserve or the Bank of Canada to help us. We always keep a $1 billion + in cash and marketable securities in the holding company. Our financial position is very strong, we have very little maturities in the next five years, that's significant. We don't count on having access to the bond markets and the preferred markets, (we do have access to them and can issue them at any time, but in 2008 and 2009 it was very difficult to issue anything), so we always keep a lot of cash, that's a policy statement for us and of course in our insurance companies too, 25-30% in cash (which is earning very little by the way). So sometime we expect the insurance market to turn and we'll benefit from it.

GuruFocus: So the reason you're hedging is mainly because you run an insurance company. If you ran an independent hedge fund, would you still hedge?

Watsa: If you were running a pension fund, you might not hedge, and if you were running a mutual fund, you might not hedge, because those are relative returns. So a pension fund money manager would look at it, if they drop 20% but the market dropped 50%, he's a hero. We solely focus on absolute return because of the fact that it affects our capital. And there might be a time that our capital is so huge that we don't have worry about it, but at the moment we continue to worry about fluctuations, big fluctuations, not small fluctuations. And given what I told you before, that we think this economic environment that we just came through in the last few years is worrisome to us because we think of it as either Japan or the 1930s.

If you are managing your own money, as we are with the insurance company portfolios, you will want to be hedged because we do not want to incur impairments or the loss of capital, whereas mutual funds and pension funds are more focused on performing relative to their peers.

GuruFocus: So you really think this time is different.

Watsa: Yes, it's a phrase I don't like using, but yes we do think we should worry about it.

GuruFocus: Your mentor Sir John Templeton said it's the four most costly words.

Watsa: John Templeton was my mentor, I'll tell you, I've known him for 30 years, he passed away a few years ago, but John Templeton was always a long-term investor in common stock. I remember in 1999-2000 he said to me, "Prem, buy bonds, forget about common stock, they're too risky." Then, more recently, four-five years ago, he always hedged, and he said "In this environment, what I like to do is buy the best things I like, and I short the things I really don't like."

But I try to be neutral, sometimes more short than long, but that's John Templeton. So John, one of the key lessons he taught me was to be flexible. His investment philosophy was always value oriented, long term, buy at the point of maximum pessimism, but be flexible in your thinking, and that's what we try to apply.

Where Profits Come From


Why Profits Matter

It is no secret that profits are the essential motivation for many activities in a capitalist economy. A firm’s profits greatly influence its decisions about production levels, employment, and investment. Naturally, profits play a dominant role in microeconomics, the study of individual markets and the firms, industries, workers, and consumers that constitute them.

Just as profits are critical to the behavior of a single company, aggregate profits (the combined profits of all firms) have broad implications for the larger economy. Production, employment, and capital spending for the economy as a whole are strongly influenced by aggregate profitability. Therefore, understanding the determinants of aggregate profits leads to powerful insights into these activities and other economic phenomena, including inflation, unemployment, and business cycles.

Yet conventional macroeconomics, the study of the economy as a whole, rarely considers the role of total profits. When most business cycle analysts address the economy’s overall performance, they focus on gross domestic product (GDP) and largely ignore aggregate profits. This is like assessing a firm’s health by looking at its sales but not at its bottom line. In fact, any comprehensive analysis of business cycle dynamics must consider aggregate profits. For this reason, where profits come from and what determines their magnitude are critical questions.

The view of the economy that focuses on the profit creation process is the profits perspective. This powerful perspective provides a broad, financial view of the operation of the economy. It highlights developing influences for prosperity as well as threats to domestic and global economic and financial stability. It offers further understanding of virtually every important macroeconomic issue—deficit spending, business cycles, trade imbalances, etc. It exposes misconceptions about the relationship between saving and investment and between wages and profits. It is based on a direct flow-of-funds analysis, not on statistical approximations of reality. Therefore, it involves no exotic mathematics, no idealized assumptions about human intelligence and behavior, and no rigid or unrealistic assumptions about how firms, consumers, and investors operate.


Related book: Profits and the Future of American Society

Innovation in the Classroom

For-Profit Colleges, Vulnerable G.I.’s - By Hollister Petraeus

MILITARY personnel and their families are finding themselves under siege from for-profit colleges. A number of these schools focus on members of the armed forces with aggressive and often misleading marketing, and then provide little academic, administrative or counseling support once the students are enrolled.

Vast sums are involved: between 2006 and 2010, the money received in military education benefits by just 20 for-profit companies soared to an estimated $521.2 million from $66.6 million.

The government provides two important educational benefits to service members: the Tuition Assistance program for service members on active duty, and the G.I. Bill, which is mostly used for education after military service.

Today’s veterans are eager to earn post-secondary degrees — and to replicate the example of the generation that returned from World War II and fueled our prosperity. But their desire for learning is too often exploited by unscrupulous for-profit colleges.

The schools have a strong incentive to enroll service members and veterans, in large part because of the “90-10 rule” created by the 1998 amendments to the Higher Education Act. Put simply, the rule says that a for-profit college must obtain at least 10 percent of its revenue from a source other than Title IV education funds, the primary source of federal student aid. Funds from Tuition Assistance and the G.I. Bill are not defined as Title IV funds, so they count toward the 10 percent requirement, just like private sources of financing.

Therein lies a problem. For every service member or veteran (or spouse or child, in the case of the post-9/11 G.I. Bill) enrolled at a for-profit college and paying with military education funds, that college can enroll nine others who are using nothing but Title IV money.

This gives for-profit colleges an incentive to see service members as nothing more than dollar signs in uniform, and to use aggressive marketing to draw them in and take out private loans, which students often need because the federal grants are insufficient to cover the full cost of tuition and related expenses.


Related previous posts:

Party Ends at For-Profit Schools

Bad Education

Steve Eisman's Ira Sohn Conference Presentation and Speech

PERSONAL BEST - By Atul Gawande

Thanks to Barry for passing this along.

Good coaches know how to break down performance into its critical individual components. In sports, coaches focus on mechanics, conditioning, and strategy, and have ways to break each of those down, in turn. The U.C.L.A. basketball coach John Wooden, at the first squad meeting each season, even had his players practice putting their socks on. He demonstrated just how to do it: he carefully rolled each sock over his toes, up his foot, around the heel, and pulled it up snug, then went back to his toes and smoothed out the material along the sock’s length, making sure there were no wrinkles or creases. He had two purposes in doing this. First, wrinkles cause blisters. Blisters cost games. Second, he wanted his players to learn how crucial seemingly trivial details could be. “Details create success” was the creed of a coach who won ten N.C.A.A. men’s basketball championships.

At Walton Middle School, Hobson and Harding thought that Critzer should pay close attention to the details of how she used coöperative learning. When she paired the kids off, they observed, most struggled with having a “math conversation.” The worst pairs had a girl with a boy. One boy-girl pair had been unable to talk at all.

Élite performers, researchers say, must engage in “deliberate practice”—sustained, mindful efforts to develop the full range of abilities that success requires. You have to work at what you’re not good at. In theory, people can do this themselves. But most people do not know where to start or how to proceed. Expertise, as the formula goes, requires going from unconscious incompetence to conscious incompetence to conscious competence and finally to unconscious competence. The coach provides the outside eyes and ears, and makes you aware of where you’re falling short. This is tricky. Human beings resist exposure and critique; our brains are well defended. So coaches use a variety of approaches—showing what other, respected colleagues do, for instance, or reviewing videos of the subject’s performance. The most common, however, is just conversation.


Coaching has become a fad in recent years. There are leadership coaches, executive coaches, life coaches, and college-application coaches. Search the Internet, and you’ll find that there’s even Twitter coaching. (“Would you like to learn how to get new customers/clients, make valuable business contacts, and increase your revenue using Twitter? Then this Twitter coaching package is perfect for you”—at about eight hundred dollars for a few hour-long Skype sessions and some e-mail consultation.) Self-improvement has always found a ready market, and most of what’s on offer is simply one-on-one instruction to get amateurs through the essentials. It’s teaching with a trendier name. Coaching aimed at improving the performance of people who are already professionals is less usual. It’s also riskier: bad coaching can make people worse.

The world-famous high jumper Dick Fosbury, for instance, developed his revolutionary technique—known as the Fosbury Flop—in defiance of his coaches. They wanted him to stick to the time-honored straddle method of going over the high bar leg first, face down. He instinctively wanted to go over head first, back down. It was only by perfecting his odd technique on his own that Fosbury won the gold medal at the 1968 Mexico City Olympics, setting a new record on worldwide television, and reinventing high-jumping overnight.

Renée Fleming told me that when her original voice coach died, ten years ago, she was nervous about replacing her. She wanted outside ears, but they couldn’t be just anybody’s. “At my stage, when you’re at my level, you don’t really want to go to a new person who might mess things up,” she said. “Somebody might say, ‘You know, you’ve been singing that way for a long time, but why don’t you try this?’ If you lose your path, sometimes you can’t find your way back, and then you lose your confidence onstage and it really is just downhill.”

The sort of coaching that fosters effective innovation and judgment, not merely the replication of technique, may not be so easy to cultivate. Yet modern society increasingly depends on ordinary people taking responsibility for doing extraordinary things: operating inside people’s bodies, teaching eighth graders algebraic concepts that Euclid would have struggled with, building a highway through a mountain, constructing a wireless computer network across a state, running a factory, reducing a city’s crime rate. In the absence of guidance, how many people can do such complex tasks at the level we require? With a diploma, a few will achieve sustained mastery; with a good coach, many could. We treat guidance for professionals as a luxury—you can guess what gets cut first when school-district budgets are slashed. But coaching may prove essential to the success of modern society.

There was a moment in sports when employing a coach was unimaginable—and then came a time when not doing so was unimaginable. We care about results in sports, and if we care half as much about results in schools and in hospitals we may reach the same conclusion. Local health systems may need to go the way of the Albemarle school district. We could create coaching programs not only for surgeons but for other doctors, too—internists aiming to sharpen their diagnostic skills, cardiologists aiming to improve their heart-attack outcomes, and all of us who have to figure out ways to use our resources more efficiently. In the past year, I’ve thought nothing of asking my hospital to spend some hundred thousand dollars to upgrade the surgical equipment I use, in the vague hope of giving me finer precision and reducing complications. Avoiding just one major complication saves, on average, fourteen thousand dollars in medical costs—not to mention harm to a human being. So it seems worth it. But the three or four hours I’ve spent with Osteen each month have almost certainly added more to my capabilities than any of this.

Talk about medical progress, and people think about technology. We await every new cancer drug as if it will be our salvation. We dream of personalized genomics, vaccines against heart disease, and the unfathomed efficiencies from information technology. I would never deny the potential value of such breakthroughs. My teen-age son was spared high-risk aortic surgery a couple of years ago by a brief stent procedure that didn’t exist when he was born. But the capabilities of doctors matter every bit as much as the technology. This is true of all professions. What ultimately makes the difference is how well people use technology. We have devoted disastrously little attention to fostering those abilities.

A determined effort to introduce coaching could change this. Making sure that the benefits exceed the cost will take work, to be sure. So will finding coaches—though, with the growing pool of retirees, we may already have a ready reserve of accumulated experience and know-how. The greatest difficulty, though, may simply be a profession’s willingness to accept the idea. The prospect of coaching forces awkward questions about how we regard failure.


Related previous post: What it takes to be great

Monday, September 26, 2011

Berkshire Hathaway's New Share Repurchase Program - And What It Means - By Whitney Tilson

This morning Berkshire Hathaway issued a press release announcing an open-ended share repurchase program. This is a bold statement by the world’s savviest investor, Warren Buffett, who is saying a number of important things, not only to Berkshire shareholders, but to investors in general. Overall, it makes us even more bullish on the stock and, though it was already our largest position, we added to it this morning as we think this effectively puts a floor on the stock price slightly above the current level, while the upside remains large.

Interestingly, this is only the second time that Buffett has offered to buy back stock. The first was in his 1999 Letter to Berkshire Hathaway Shareholders (pages 16-17), which was released on Saturday, March 11, 2000 (not coincidentally, the very moment that the Nasdaq peaked). At the time, the stock was at $41,300, but it popped 8% on the following Monday and continued rising all week, closing the following Friday at $51,300, up 24.2%, so Buffett didn’t end up buying back any stock.


Warren Buffett undoubtedly wrote this press release and, as all long-time Buffett-watchers know, he careful chooses every word so let’s closely examine what he writes and what it means.

Most importantly, Buffett is saying that the stock is deeply undervalued. He wouldn’t be buying it back at a 10% premium to book value if he thought its intrinsic value was, say, 20% or even 30% above book. How undervalued? Well, the press release says: “the underlying businesses of Berkshire are worth considerably more than” a 10% premium to book value. The word “considerably” is critical because it’s not necessary – it’s Buffett’s way of saying the stock isn’t just cheap, but is screaming cheap. We peg intrinsic value at close to $170,000 ($113/B share) – as we outline in our slide deck here – and we think that the announcement today indicates that Buffett thinks it’s in this range as well.

So up to what price is Buffett willing to buy? (Note that of course it’s actually Berkshire that’s buying back the stock, not Buffett himself, but he is setting the policy and is the largest shareholder, with a 23% economic ownership, so it’s effectively him.) The press release says a 10% premium to “then-current book value.” The latest filing is the end of Q2 (June 30), when Berkshire’s book value was $98,716 ($65.81/B share). But this isn’t the current value, so one needs to consider what book value has done since then. There are a lot of moving pieces, but the main factors are that the stock portfolio has done down a bit, but Berkshire has earned nearly three months of profits, so we’d guess that current book value hasn’t moved materially. Thus, a 10% premium means that Buffett is willing to buy back stock up to $108,588 ($72.39/B share), just above today’s closing price of $108,449 ($72.09/B share).

In other words, you can buy the stock at a price lower than what the world’s greatest investor is willing to pay – quite an opportunity we think.

We also believe that the share repurchase program likely puts a floor on the stock for a number of reasons.

Alice Schroeder on CNBC to discuss Berkshire's buyback authorization


Hussman Weekly Market Comment: Not Over by a Longshot

On Friday, the yield on 1-year Greek government bonds closed above 135%. As I've noted in recent weeks, the bond markets continue to reflect expectations of certain default on Greek debt. All they are working out now is the recovery rate. As of last week, the expected recovery rate implied by bond prices stands at about 43% of face value. Since Greece is still running a primary deficit (it can't pay its bills even if debt servicing costs drop to zero), my impression is that the eventual default may be even worse. Still, if I were to venture a guess, it would also be that Greece will be given a small amount of new funding in the coming weeks in order for the government to continue running and delay the inevitable. The reason is that Europe needs time to better prepare for a default, and European leaders appear to be scrambling to get banks to bolster their capital as quickly as possible (somehow investors responded to that news with a short-lived rally last week, as if the need to accelerate the timeline for banks to acquire additional capital is a good thing).

If you're attentive to how European leaders are phrasing things these days, you'll notice that (except for officials in Greece) they've stopped saying that Greece itself will not be allowed to default, and instead insist that the European financial system and the European monetary union will be defended. While it's possible that the equity markets will mount a relief rally in the event of new funding to Greece, it will be important to recognize that handing out a bit more relief would be preparatory to a default, and that would probably be reflected in a failure of Greek yields to retreat significantly on that news.

Berkshire Hathaway Authorizes Repurchase Program

OMAHA, Neb.--(BUSINESS WIRE)-- Berkshire Hathaway Inc. (NYSE:BRK.A - News)—Our Board of Directors has authorized Berkshire Hathaway to repurchase Class A and Class B shares of Berkshire at prices no higher than a 10% premium over the then-current book value of the shares. In the opinion of our Board and management, the underlying businesses of Berkshire are worth considerably more than this amount, though any such estimate is necessarily imprecise. If we are correct in our opinion, repurchases will enhance the per-share intrinsic value of Berkshire shares, benefiting shareholders who retain their interest.

Berkshire plans to use cash on hand to fund repurchases, and repurchases will not be made if they would reduce Berkshire’s consolidated cash equivalent holdings below $20 billion. Financial strength and redundant liquidity will always be of paramount importance at Berkshire.

Friday, September 23, 2011

The Food Crises: A quantitative model of food prices including speculators and ethanol conversion

Found via Paul Kedrosky.

Recent increases in basic food prices are severely impacting vulnerable populations worldwide. Proposed causes such as shortages of grain due to adverse weather, increasing meat consumption in China and India, conversion of corn to ethanol in the US, and investor speculation on commodity markets lead to widely differing implications for policy. A lack of clarity about which factors are responsible reinforces policy inaction. Here, for the first time, we construct a dynamic model that quantitatively agrees with food prices. The results show that the dominant causes of price increases are investor speculation and ethanol conversion. Models that just treat supply and demand are not consistent with the actual price dynamics. The two sharp peaks in 2007/2008 and 2010/2011 are specifically due to investor speculation, while an underlying upward trend is due to increasing demand from ethanol conversion. The model includes investor trend following as well as shifting between commodities, equities and bonds to take advantage of increased expected returns. Claims that speculators cannot influence grain prices are shown to be invalid by direct analysis of price setting practices of granaries. Both causes of price increase, speculative investment and ethanol conversion, are promoted by recent regulatory changes---deregulation of the commodity markets, and policies promoting the conversion of corn to ethanol. Rapid action is needed to reduce the impacts of the price increases on global hunger.

Thursday, September 22, 2011

Nassim Taleb talk at Wharton

People kept telling me I was an idiot for years [because] I didn’t invest in markets.

I don’t invest in the stock market because I think it’s a sucker’s game. I make my money and I put it in a repository [of value]. Or sometimes I just do these bets for entertainment, nothing else, so I can have a conversation with someone once in a while on a train or on a plane. That’s the only reason. So I stayed in cash, for years, and then realized that the value of my cash became monstrously high after the crisis. The last 12 years, the stock market did nothing, and cash yielded 40, 50, 60 percent.

Cash gives you an option when other people go bust. That’s what Kennedy did. Joe Kennedy, the father, got rich not from investments but from negative investments. In other words, he had no investment when other people were busted. [Take] the story of the two brothers [one of whom makes $4 per share a year while carrying no insurance against being wiped out, one of whom makes $2 per share with maximal insurance]. If the $2 brother can survive—without being kicked out by the board and replaced with some short-volatility fellow who doesn’t understand anti-fragility—then when the other brother goes bust, he’ll be able more aggressively to buy his inventory—his refrigerator, his car, everything, even his house—for nothing. You see the idea? So you have to think in terms of dynamics of cash: that it’s not a sissy trade.

There’s something called action bias. People think that doing something is necessary. Like in medicine and a lot of places. Like every time I have an MBA—except those from Wharton, because they know what’s going on!—they tell me, “Give me something actionable.” And when I was telling them, “Don’t sell out-of-the-money options,” when I give them negative advice, they don’t think it’s actionable. So they say, “Tell me what to do.” All these guys are bust. They don’t understand: you live long by not dying, you win in chess by not losing—by letting the other person lose. So negative investment is not a sissy strategy. It is an active one.


A couple of the graphs from the paper this talk was based on (which he brings up quite a few times in the talk):

Fragile (he uses banks as an example)


The Financial Zoo: An Interview with Satyajit Das – Part I

Via the Naked Capitalism blog:

Management and directors of financial institutions cannot really understand what is going on – it’s simply not practical. They cannot be across all the products. For example, Robert Rubin, the former head of Goldman Sachs and Treasury Secretary under President Clinton, encouraged increased risk taking at CitiGroup. He was guided by a consultant’s report and famously stated that risk was the only underpriced asset. He encouraged investment in AAA securities assuming that they were ‘money good’. He seemed not to be aware of the liquidity puts that Citi had written which meant that toxic off-balance sheet assets would come back to the mother ship in the case of a crisis. Now, if he didn’t understand, others would find it near impossible. And I’m talking about executive management.

Non executives are even further removed. Upon joining the Salomon Brothers Board, Henry Kaufman, the original Dr. Doom found that most non-executive directors had little experience or understanding of banking. They relied on board reports that were, “neither comprehensive … nor detailed enough … about the diversity and complexity of our operations.” Non-executive directors were reliant “on the veracity and competency of senior managers, who in turn … are beholden to the veracity of middle managers, who are themselves motivated to take risks through a variety of profit compensation formulas.”

Kaufman later joined the board of Lehman Brothers. Nine out of ten members of the Lehman board were retired, four were 75 years or more in age, only two had banking experience, but in a different era. The octogenarian Kaufman sat on the Lehman Risk Committee with a Broadway producer, a former Navy admiral, a former CEO of a Spanish-language TV station and the former chairman of IBM. The Committee only had two meetings in 2006 and 2007. AIG’s board included several heavyweight diplomats and admirals; even though Richard Breeden, former head of the SEC told a reporter, “AIG, as far as I know, didn’t own any aircraft carriers and didn’t have a seat in the United Nations.”


Related book: Extreme Money

Wednesday, September 21, 2011

A Template for Understanding What’s Going On - by Ray Dalio

I provided a link to this in a previous post, but I thought I’d also give it its own post as I believe this paper from Ray Dalio is one of the most important things I’ve read all year. As Dalio mentions, there is a big difference between a normal recession and a long wave deleveraging cycle, and the Fed and our policy makers are mostly treating this as a normal recession. The consequences of mistaking this current recession as normal are likely to be quite large, and it is something that investors of all stripes and strategies should probably be paying attention to.

Link to: A Template for Understanding What’s Going On


Excerpt describing a deleveraging process:

A deleveraging is an economic contraction that is due to a contraction in real capital (i.e., credit and equity) that arises when there is a shortage of capable providers of capital and/or a shortage of capable recipients of capital (borrowers and sellers of equity) that cannot be rectified by the central bank changing the cost of money. In deleveragings, a) a large number of debtors have obligations to deliver more money than they have to meet their obligations, and b) monetary policy is ineffective in reducing debt service costs and stimulating credit growth. In deleveragings central banks can not control money and credit creation by changing the cost of money. Typically, monetary policy is ineffective in stimulating credit growth either because interest rates can’t be lowered (because interest rates are near 0%) to the point of favorably influencing the economics of spending and capital formation (this produces deflationary depressions), or because money growth goes into the purchase of inflation hedge assets rather than into credit growth, which produces inflationary depressions. Deleveragings typically end via a mix of 1) debt restructurings that reduce debt service obligations, 2) increases in the supply of money that make it easier for debtors to meet their debt service obligations, 3) redistributions of wealth, 4) businesses lowering their break-even levels through cost-cuttingand 5) substantial increases in risk and liquidity premiums that restore the economics of capital formation (i.e., lending and equity investing).

Grantham: ‘No market for young men’

Found via The Corner of Berkshire & Fairfax.

“This is no market for young men,” Grantham said. “At least us old men remember what a real bear market is like, and the young men haven’t got a clue.”

Women, too, for that matter. And at 72, after 40-plus years in the investment business, Grantham can make this claim unchallenged, but his point is more about the lessons of experience than the limitations of age, and an investor’s ability to build on the former and overcome the latter.

With Greece on the verge of default, and economic growth in even the healthiest developed markets stuck in slow gear, Grantham reserves his harshest words for the leaders of central banks, big money-center banks and governments. The fittest global companies, meanwhile, are getting his firm’s client’s money.

Policymakers and politicians have acted like “children at play,” Grantham has said. As he sees it, they’ve created a tower of debt and an illusion of wealth, and have not been held responsible for their frivolous actions.

“No one has been prepared to make tough decisions,” Grantham said in a recent telephone interview. “Where have the Europeans been for 10 years? None of these things came out of the woodwork two weeks ago. No one attempted to blow the whistle and make tough decisions in a timely fashion.”

Targeting income inequality

“Kicking the can” on deficits and spending delays the reckoning, but only makes it more painful when it comes. Had “grown-ups” been supervising the financial system, the problem might not have gotten out of hand, Grantham noted.

To put the debt crisis in perspective, Grantham suggested imagining multiple stacks of building blocks, “fairly precarious and fairly tall,” each set uncomfortably close to the other. If one falls, it could either take down several others or fall neatly between them. The trouble, Grantham said, is that there’s really no way to know.

Financial markets nowadays are faced with this hit-or-miss scenario, and buyers don’t like the odds. Said Grantham: “We have these basically distinct problems joined only by a general fragility of the financial system. So you can’t know for sure that if China stumbled it wouldn’t set off something else, or if the U.S. goes into a double-dip [recession], it won’t set off a European bank failure.”

Especially worrisome to Grantham is the gulf between wage earners in the U.S. The top 10% of U.S. workers currently receive about half of the nation’s total income, with half of that going to the top 1%. The last time this country saw a wage gap so extreme was just before the 1929 stock-market crash and the Great Depression. By comparison, in the late 1970s the top 1% garnered about 9% of all earnings.

“You can’t run the economy on BMWs alone,” Grantham said. “If the average person is in a pickle, how do you have a healthy economy?