Tuesday, July 31, 2012

Chapter 6 of Tim Harford's The Undercover Economist


Greenlight Re Investor Day Video (May 2012)

Found via ValueWalk. David Einhorn enters the scene around the 24-minute mark.

Ron Johnson on CNBC: JC Penney Unveils New Concept Shop



Iran sentences bank fraudsters to death

Maybe the judges read Jason Zweig’s article from over the weekend.

Bill Gross – August 2012 Investment Outlook: Cult Figures

The long-term history of inflation adjusted returns from stocks shows a persistent but recently fading 6.6% real return since 1912.

Rob Arnott on CNBC


James Grant on CNBC




Meredith Whitney on Bloomberg (video)

More Ray Dalio quotes

More Ray Dalio quotes from Jack Schwager’s book Hedge Fund Market Wizards. I think the last couple of long paragraph quotes below are especially important in regards to the current situation in the U.S.

“We don’t use stops. We trade approximately 150 different markets, where I am using the term market to also mean spread positions, as well as individual markets. However, at any given time, we probably have only about 20 or so significant positions, which account for about 80 percent of the risk and are uncorrelated to each other.”

“I don’t believe in reducing exposures when you have a losing position. I want to be clear about that. The only pertinent question is whether my being in a losing position is a statistically meaningful indicator of what the subsequent price movement will be. And it is not. For that reason, I don’t alter positions because they are losing.”

“The way we change our minds is a function of how that information passes through our decision rules. Our decision rules determine the position direction and size under the circumstances….It is 99 percent systematized. These systems evolve, however, as the experience we gain might prompt us to change or add rules. But we don’t make discretionary trading decisions on 99 percent of our individual positions.”

On the origin of the Bridgewater system:

“Beginning around 1980, I developed a discipline that whenever I put on a trade, I would write down the reasons on a pad. When I liquidated the trade, I would look at what actually happened and compare it with my reasoning and expectations when I put on the trade. Learning solely from actual experience, however, is inadequate because it takes too much time to get a representative sample to determine whether a decision rule works. I discovered that I could backtest the criteria that I wrote down to get a good perspective of how they would have performed and to refine them. The next step was to define decision rules based on the criteria. I required the decision rules to be logically based and was careful to avoid data mining. That’s how the Bridgewater system began and developed in the early years. That same process continued and was improved with the help of many others over the years.”

When asked if the rules get revised:

“They are sometimes revised. For example, we used to look at how changes in the oil price affected countries. Between the first oil shock and the second oil shock in the 1970s, crude oil was discovered in the North Sea, and the U.K. went from being a net importer to a net exporter. That event prompted us to change how we configured the decision rule that related to oil prices so that when the mix of export and import items changed, the rule changed.”

When asked how he was able to perform well in 2008:

“Our criteria for trading in a deleveraging had already been established because we had previously studied other leveragings and deleveragings. Our analysis included both inflationary deleveragings, such as Germany in the 1920s and Latin America in the 1980s, and deflationary deleveragings, such as the Great Depression of the 1930s and Japan in the 1990s. I had also directly experienced the deleveragings in Latin America and Japan. We felt that if these sort of big events had happened before, they could happen again. We also believed that fully comprehending these events was important to understanding how economies and markets worked….In short, by knowing how deleveragings occur, we could monitor the appropriate factors, and by understanding the cause-and-effect relationships in a deleveraging, it was not difficult to be well positioned in 2008.”

When asked about the current economic situation, Dalio mentioned the importance of distinguishing between countries that are debtors and those that are creditors, and countries that can print and those that cannot print money. Debtor countries that can’t print money will experience deflationary depressions. In regards to those debtor countries such as the U.S. that can print money:

“Those that can print money, such as the United States, can alleviate the deflation and depression pressures by printing money. However, the effectiveness of quantitative easing will be limited because the owners of the bonds that are purchased by the Fed will use the money to buy something similar; they are not going to use it to buy a house or a car. In addition, fiscal stimulus will be very limited because of the reality of the political situation. So it is unlikely that we will have effective monetary policy or effective fiscal policy. That means we will be dependent on income growth, and income growth will be slow—maybe about 2 percent per year—because income growth is usually dependent on debt growth to finance buying, and I don’t expect any significant private credit growth. A growth rate of 2 percent is not sufficient to meaningfully lower the unemployment rate. There is a risk that if the economy deteriorates, we won’t have any effective tools for reversing the situation. The current situation is analogous to being in a recession and not being able to lower interest rates.”

“The best policy would be to spread out the problems over a long period of time so that nominal interest rates stay below nominal growth rates….You do it through a combination of monetary and fiscal policies that produce enough government spending to make up for the reduction in private sector spending to keep the economy from contracting. Avoiding an unmanaged contraction is essential in order to maintain social and political order. At the same time, there needs to be well thought-out debt restructurings because we can no longer allow our debts to rise faster than our incomes, and we need to gradually lower them….it is very important that the fiscal spending is used for investments that generate returns that are greater than their costs. We can’t afford to waste money.”


Related links:

Monday, July 30, 2012

Should Crimes of Capital Get Capital Punishment? – By Jason Zweig

Wait - The useful art of procrastination

Found via The Big Picture.



FT Interview: Mohamed El-Erian (video)

Ray Dalio quotes

Ray Dalio quotes from Jack Schwager’s book Hedge Fund Market Wizards:

Original lesson learned after the U.S. went off the gold standard in 1971:

“I learned that currency depreciations and the printing of money are good for stocks. I also learned not to trust what policy makers say. I learned these lessons repeatedly over the years.”

On the Fed's power over the market:

“I learned not to fight the Fed unless I had very good reasons to believe that their moves wouldn’t work. The Fed and other central banks have tremendous power. In both the abandonment of the gold standard in 1971 and in the Mexico default in 1982, I learned that a crisis development that leads to central banks easing and coming to the rescue can swamp the impact of the crisis itself.”

“In trading you have to be defensive and aggressive at the same time. If you are not aggressive, you are not going to make money, and if you are not defensive, you are not going to keep money.”

Correlation and diversification:

“There are ways to structure your trades so that you can produce a whole bunch of uncorrelated bets. You have to start with your goal. My goal is that I want to trade more than 15 uncorrelated assets. You are just telling me your problem, and it’s not an insurmountable problem. I strive for approximately 100 different return streams that are roughly uncorrelated to each other. There are cross-correlations that enter into it, so the number works out to be less than 100, but it is well over 15. Correlation doesn’t exist the way most people think it exists. People think that a thing called correlation exists. That’s wrong. What is really happening is that each market is behaving logically based on its own determinants, and as the nature of those determinants changes, what we call correlation changes. For example, when economic growth expectations are volatile, stocks and bonds will be negatively correlated because if growth slows, it will cause both stock prices and interest rates to decline. However, in an environment where inflation expectations are volatile, stocks and bonds will be positively correlated because interest rates will go up with higher inflation, which is detrimental to both bonds and stocks. So both relationships are totally logical, even though they are exact opposites of each other. If you try to represent the stock/bond relationship with one correlation statistic, it denies the causality of the correlation. Correlation is just the word people use to take an average of how two prices have behaved together. When I am setting up my trading bets, I am not looking at correlation; I am looking at whether the drivers are different. I am choosing 15 or more assets that behave differently for logical reasons. I may talk about the return streams in the portfolio being uncorrelated, but be aware that I’m not using the term correlation the way most people do. I am talking about the causation, not the measure.”

“I think that one of the greatest problems that plagues mankind is that people are always saying, “I think this, and I think that,” when there is a high probability they are wrong. After all, to the extent that there is strong disagreement about an issue, a lot of the people must be wrong. Yet most of them are totally confident they are right. How is that possible? Imagine how much better almost all decision making would be if people who disagree were less confident and more open to trying to get at the truth through thoughtful discourse.”

On Bridgewater's decision-making process:

“Our decision-making process is to determine the criteria by which we make decisions in the market. Those criteria—I call them principles—are systematized. These principles determine what we do under different circumstances. In other words, we make decisions about the criteria we use to make decisions. We don’t make decisions about individual positions. For any trading strategy, we can look back at when it won, when it lost, and under what circumstances. Each strategy develops a track record that we deeply understand and then combine in a portfolio of diversified strategies. If a strategy is not performing in real time as expected, we can reevaluate it, and if we agree it is desirable, we might modify our systems. We have been doing this for 36 years. Over the years, we develop new understandings, which we continually add to our existing understandings.”

“….we test our criteria to make sure that they are timeless and universal. Timeless means that we look at a strategy during all different times, and universal means that we look at how a strategy worked in all different countries. There is no reason why a strategy’s effectiveness should change in different time periods or when you go from country to country. This broad analysis through time and geography gives us a unique perspective relative to most other managers. For example, to understand the current U.S. zero interest rate, deleveraging environment, we need to understand what happened a long time ago, such as the 1930s, and in other countries, such as Japan in the postbubble era. Deleveragings are very different from recessions. Aside from the ongoing deleveraging, there are no other deleveragings in the U.S. post–World War II period.”

John Mauldin: Gambling in the House?

Hussman Weekly Market Comment: No Such Thing as Risk?

The enthusiasm of investors about central-bank interventions has reached a pitch that is already well-reflected in market prices, and a level of confidence that with little doubt, investors will ultimately regret. In the face of this enthusiasm, one almost wonders why nations across the world and throughout recorded history have ever had to deal with economic recessions or fluctuations in the financial markets. The current, widely-embraced message is that there is no such thing as an economic problem, and no such thing as risk. Bernanke, Draghi and other central bankers have finally figured it out, and now, as a result, economic recessions and market downturns never have to happen again. They just won’t allow it, printing more money will solve everything, and that’s all that any of us need to understand. And if it doesn’t solve everything, they can just keep doing more until it works, because there is no consequence to doing so, and all historical evidence to the contrary can finally, thankfully, be ignored. How could anyone ever have believed, at any point in history, that economics was any more complicated than that?

Steven Romick’s Q2 Letter

Friday, July 27, 2012

TEDx Talk - David MacKay: A reality check on renewables



Related previous post: Sustainable Energy - Without the Hot Air with David MacKay

Related book: Sustainable Energy - Without the Hot Air

TEDx Talk - Garth Lenz: The true cost of oil


Bridgewater: Spanish Collateral Is Running Out

Via Zero Hedge (I'd love to read the full Daily Observation piece, if anyone has access to it):

Steve Keen on Sky News


Dick Kovacevich on CNBC


Thursday, July 26, 2012

Leithner Letter No. 151-154

Oilprice.com’s interview with Mike “Mish” Shedlock


I don’t necessarily agree with everything he says, but this is an interesting interview. If you substitute ‘undervalued stocks’ in place of ‘gold’ in his recommendation of being about 70-80% in cash and 20-30% in gold, then you’d get about the allocation we currently have for separate accounts within Chanticleer Investment Partners (for more information, go HERE and HERE), an entity I’m involved with that launched a few months ago. Although I like holding some cash in case a great opportunity arises, I don’t particularly liking holding as much cash as we do today, but I feel it is the proper course of action in today’s environment. My feelings today largely reflect the two quotes below:

“Some argue that holding significant cash is gambling, that being less than fully invested is akin to market timing. But isn’t a yes or no decision the crucial one in investing? Where does it say that investing means always buying something, even the best of a bad lot? An investor who can’t or won’t say no forgoes perhaps the most valuable tool available to investors.” –Seth Klarman (excerpt from 2004 letter)

“Another important point I try to teach my students is that you have to consider not only what your opportunity set is right now, but also what opportunities you may be forgoing later by investing now. If your opportunity set is not that great right now, maybe you should wait another 6 to 12 months before becoming fully invested.” –Joel Greenblatt (as quoted in the book Hedge Fund Market Wizards)

Amazing photos 2012

Found via @farnamstreet. There are some pretty incredible pictures.

Ray Dalio quote

“The type of thinking that is necessary to succeed in the markets is entirely different from the type of thinking that is required to succeed in school….Most school education is a matter of following instructions—remember this; give it back; did you get the right answer? It teaches you that mistakes are bad instead of teaching you the importance of learning from mistakes. It doesn’t address how to deal with what you don’t know. Anyone who has been involved in the markets knows that you can never be absolutely confident. There is never a trade that you know you are right on. If you approach trading that way, then you will always be looking at where you might be wrong. You don’t have a false confidence. You value what you don’t know. In order for me to form an opinion about anything involves a higher threshold than if I were involved in some profession other than trading. I’m so worried that I may be wrong that I work really hard at putting my ideas out in front of other people for them to shoot down and tell me where I may be wrong. That process helps me be right. You have to be both assertive and open-minded at the same time. The markets teach you that you have to be an independent thinker. And any time you are an independent thinker, there is a reasonable chance you are going to be wrong.” –Ray Dalio (as quoted in Hedge Fund Market Wizards)

Wednesday, July 25, 2012

Meredith Whitney on CNBC


Capital gains - American profits have been high but the trend may not last

Marc Faber on Capital Account


Value Matters: Predictability of Stock Index Returns

Found via World Beta.
The aim of this paper is twofold: to provide a theoretical framework and to give further empirical support to Shiller's test of the appropriateness of prices in the stock market based on the Cyclically Adjusted Price Earnings (CAPE) ratio. We devote the first part of the paper to the empirical analysis and we show that the CAPE is a powerful predictor of future long run performances of the market not only for the U.S. but also for countries such us Belgium, France, Germany, Japan, the Netherlands, Norway, Sweden and Switzerland. We show four relevant empirical facts: i) the striking ability of the logarithmic averaged earning over price ratio to predict returns of the index, with an R squared which increases with the time horizon, ii) how this evidence increases switching from returns to gross returns, iii) moving over different time horizons, the regression coefficients are constant in a statistically robust way, and iv) the poorness of the prediction when the precursor is adjusted with long term interest rate. In the second part we provide a theoretical justification of the empirical observations. Indeed we propose a simple model of the price dynamics in which the return growth depends on three components: a) a momentum component, naturally justified in terms of agents' belief that expected returns are higher in bullish markets than in bearish ones; b) a fundamental component proportional to the log earnings over price ratio at time zero. The initial value of the ratio determines the reference growth level, from which the actual stock price may deviate as an effect of random external disturbances, and c) a driving component ensuring the diffusive behaviour of stock prices. Under these assumptions, we are able to prove that, if we consider a sufficiently large number of periods, the expected rate of return and the expected gross return are linear in the initial time value of the log earnings over price ratio, and their variance goes to zero with rate of convergence equal to minus one. Ultimately this means that, in our model, the stock prices dynamics may generate bubbles and crashes in the short and medium run, whereas for future long-term returns the valuation ratio remains a good predictor.


Mother lion takes on deadly crocodile to give cubs safe swim across river

Found via Naked Capitalism.

1932 summer stock market rally

As described in two entries by Benjamin Roth in The Great Depression: A Diary:
The month of August just ended has been the lowest point so far in the depression for all kinds of business and professional men. The heat has been severe and all kinds of activity are at a complete standstill. The stock market on the contrary tripled its value during August in one of the quickest climbs ever witnessed. I believe this also established a record. Nobody seems to know even yet why the stock market went up because business has gotten worse instead of better.
SEPTEMBER 7, 1932 
…Some comparison between stock prices between July and September follows: Aluminum Co. of Am. 25-85; Sheet & Tube 4 to 27; Bethlehem Steel 7 to 30; AT&T 70 to 120; U.S. Steel 22 to 50; Western Union 13 to 50; United Aircraft 7 to 30. Most of railroads are 400% higher now than in July although railroad business continues to get worse.

Bridgewater/Dalio approach

Short description using a few excerpts from Jack Schwager’s book Hedge Fund Market Wizards:

“The flagship fund uses the relatively rare combination of a fundamentally based systematic approach. (Most hedge funds that are fundamentally based use a discretionary approach, and most hedge funds that use systematic approaches base them on technical input.)….Dalio describes his approach as “timeless and universal.” He believes an economic model should encompass multiple times and countries. Bridgewater employs a fundamentally based computer model that incorporates trading rules gleaned from both Dalio’s four decades of market observations as well as Bridgewater’s analysis of markets going back hundreds of years and spanning a broad range of developed and emerging economies….The idea that the same fundamentals would have different implications under different circumstances and environments is an essential component of Dalio’s analytical thinking. As a result, categorization is an important tool for both conceptualizing problems and finding solutions.”

Tuesday, July 24, 2012

Earnings surprises, price reaction and value - By Aswath Damodaran

Professor Damodaran also attaches a link to his Apple valuation spreadsheet at the end of his post.

Greenlight Q2 Letter

Found via Market Folly.

Rogers: Why Hendry and Edwards are wrong on China

Interesting. I could see a little back and forth banter coming from this.

Keith Bradsher on Charlie Rose

Discussing China.

Colm O’Shea on position size

From the book Hedge Fund Market Wizards (largely different from how most value investors operate, but interesting nonetheless):

“First, you decide where you are wrong. That determines where the stop level should be. Then you work out how much you are willing to lose on the idea. Last, you divide the amount you’re willing to lose by the per-contract loss to the stop point, and that determines your position size. The most common error I see is that people do it backwards. They start with position size. Then they know their pain threshold, and that determines where they place their stop.”

Monday, July 23, 2012

Watsa’s Fairfax Becomes RIM’s Biggest Shareholder

Does the Shiller-PE Work in Emerging Markets?

Found via Mebane Faber.

Five Guys Burgers: America's Fastest Growing Restaurant Chain

The 10 Best, and Worst, Times in History to Invest (on 12/31 of a given year)

On a related point to the chart included in the link below, the current CAPE is about 21.5.

How to kill the euro without causing a financial apocalypse


If you own euros, you may want to check the serial numbers in case one of the runner-up submissions comes to pass: HERE

The Crisis in 1000 words—or less - By Steve Keen

Why We're Driven to Trade – By Jason Zweig

Berlin, IMF To Refuse Fresh Aid for Greece

Found via The Big Picture.


Found via Simoleon Sense.

Hussman Weekly Market Comment: Extraordinary Strains

Just weeks after the enthusiasm over Europe’s plan to plan for the possibility of using the European Stability Mechanism to bail out Spanish banks, the subtle technicality – that direct bailouts would make all of Europe’s citizens subordinate to even the unsecured bondholders of Spain’s banks – has predictably deflated that enthusiasm. On the growing recognition that addressing Spain’s banking problem will mean taking those banks into receivership, wiping out unsecured debt (much of which unfortunately was sold to unknowing Spanish savers as secure “savings” vehicles), and having the Spanish government sort out the damage, Spanish 10-year debt plunged to new lows last week (see chart below), and Spanish yields hit fresh Euro-crisis highs. At the same time, interest rates in Germany, Finland, Holland, Denmark and Switzerland all moved to negative levels looking 2-5 years out. The world is paying these governments to lend money to them, because the only way to acquire other default-free, non-commodity assets is to hire armored trucks and secure vaults to take delivery of physical currency. This set of conditions is not normal or sustainable, and indicates extreme credit market strains in Europe.

John Mauldin: The Lion in the Grass

I have been captivated by the concept of the seen and the unseen in economics since I was first introduced to the idea. It is a seminal part of my understanding of economics, at least the small part I do grasp. The idea was first written about by Frédéric Bastiat, who was a French classical liberal theorist, political economist, and member of the French assembly. He was notable for developing the important economic concept of opportunity cost. He was a strong influence on von Mises, Murray Rothbard, Henry Hazlitt, and even my friend Ron Paul. He was a strong proponent of limited government and free trade, but he also advocated that subsidies (read, stimulus?) should be available for those in need, "... for urgent cases, the State should set aside some resources to assist certain unfortunate people, to help them adjust to changing conditions."

Sunday, July 22, 2012

Seneca quote

"Each day acquire something that will fortify you against poverty, against death, indeed against other misfortunes as well; and after you have run over many thoughts, select one to be thoroughly digested that day." -Seneca, Letters from a Stoic

Jason Mraz Unplugged in a London Borders (2006)

Kind of cool to see a talented musician off-the-cuff like this. This took place in February 2006.


Friday, July 20, 2012

Seneca quote

"It is not the man who has too little, but the man who craves more, that is poor. What does it matter how much a man has laid up in his safe, or in his warehouse, how large are his flocks and how fat his dividends, if he covets his neighbour's property, and reckons, not his past gains, but his hopes of gains to come? Do you ask what is the proper limit to wealth? It is, first, to have what is necessary, and, second, to have what is enough." -Seneca, Letters from a Stoic

Former IMF Economist Says He's ‘Ashamed’ Of Links To Fund

The full letter is posted HERE.

Bridgewater Q2 Letter: Outlook and Markets Discussion


Related links:

Jack Schwager on gold

From Hedge Fund Market Wizards:

“Many years ago, when I was a commodity research director, I would totally ignore gold production and consumption in analyzing the market. I would base any price expectation entirely on such factors as inflation and the value of the dollar because those are the factors that drive psychology. I always found it ridiculous when other analysts would write lengthy reports on gold analyzing such things as annual production prospects and jewelry usage. Annual production and consumption of gold are always a tiny fraction of supply, maybe around 1 percent, so who cares how much they change. It has nothing to [do] with the price.”

Thursday, July 19, 2012

Brainstorm Tech: One-on-One with Marc Andreessen

One-on-One with Marc Andreessen from Fortune Conferences and Fortune Conferences on FORA.tv

Brainstorm Tech Dinner Debate: Schmidt and Thiel smackdown

Dinner and Debate with Eric Schmidt and Peter Thiel from Fortune Conferences and Fortune Conferences on FORA.tv

Walter Isaacson interviews Don Graham, Laura and Tim O'Shaughnessy

Social Media from Fortune Conferences and Fortune Conferences on FORA.tv

Ron Johnson interview from Brainstorm Tech

One-on-One with Ron Johnson from Fortune Conferences and Fortune Conferences on FORA.tv

East Coast Asset Management's Q2 Letter

Found via Market Folly.

In our Q2 letter you will find an update on our portfolio and general market observations. Each quarter we highlight one component of our investment process - this quarter we discuss the “compounder” category, and specifically how we differentiate a great business from those of lesser quality. Included in this section is a representative example of a compounder business we recently added to our portfolio.


The hierarchy of thinking can be broken down into four levels. The first level is data—simple facts and figures. The second is information. Information is data that has been gathered and organized and can be used as a reference tool. The third level is knowledge. This can be described as information that we have digested and now understand. The mind has collected information and put it into context and has arrived at the know-how.
The fourth and final level is wisdom. Wisdom is often indistinguishable from knowledge. Wisdom is the proper use of knowledge - the know-why. Wisdom is a deep understanding of universal truths – the realization of people, things, events or situations, resulting in the ability to apply perceptions, judgments and actions in keeping with this understanding. Wisdom is the comprehension of what is true, coupled with the optimum judgment as to action. Knowledge can be described as doing things right, where wisdom is doing the right things.
The world is in the early innings of a tectonic paradigm shift toward a knowledge-based economy. Just as the developed world has transitioned in the past from an agricultural economy to an industrial economy to post-industrial/mass production economy, this transition will produce an irreversible shift in the global state of mind. With this change, some businesses will lead, evolve, and prosper and others will cease to exist. “In times of change, learners inherit the earth, while the learned find themselves beautifully equipped to deal with a world that no longer exists.” [Eric Hoffer quote]

Seth Klarman on the Painful Decision to Hold Cash

Excerpt from Seth Klarman’s 2004 letter, but words that I think ring very true today as well.