Speculator vs Investor…again

I have written about this topic in the past and it is a constant sore subject for me.  Meeting many financial professionals is humorous because of their quickness to discuss how "financially minded" they are and all the "hot stocks" they are kicking ass on.  When I ask the simple question of "Why did you invest in that?" it can tell a lot about whether the person is an investor or a speculator. You, as an "average" person, can easily find out which financial advisor is right for you by asking the simple question of "why?"  If the answer sounds like b.s., it probably is.  If they can't explain, in normal terms, why an investment is worth it, it probably isn't.  I am reminded of Enron and how the CEO and President couldn't explain how they made money, and looking back, THAT is how everyone should have known it was a fraud. The same way a CEO should be able to explain how they make money, your financial advisor should be able to easily explain why you are in a specific fund or stock.  If they can't, run for the hills. After all, you can easily beat the stock market over time by just buying dividend paying stocks in the S&P.  It has been proven time and time again that just buying the dividend paying stocks in the S&P will beat the S&P handily over time (2%+ per year).  Why pay fees to someone who can't explain basic fundamentals of investing to you when you can just invest on your own and beat the market? Don't be afraid to question.  When I get asked questions, it makes me happy that someone is basically asking me to prove I know what I'm talking about...everyone who has knowledge wants to show off their knowledge.  If they don't have knowledge, they will get defensive and not be able to show you.  That will also be how you know they are a speculator vs an investor.  A speculator is someone who doesn't have a basis for making decisions and they are basically just throwing darts at a board.  Can they be right at times?  Of course! During any bull market, like the one we are in now, anyone can look brilliant.  But those who follow the trends will lose when the trends fall out of favor, which happens when markets turn and it gets ugly.  Don't follow that person.  It can be hard, though, when the herd is your buddy at work or your neighbor bragging about their 35% gains last year. Oh, and the stock market is still vastly overpriced.  Still waiting for my 40-50% bear market. In case anyone forgot.  And if you asked me why I think that, I would have many logical answers.  Because I'm not afraid to have the answers....
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Is It Really That Hard To Beat the S&P 500 over time?

Since I started investing almost 20 years ago, the goal I had always read about was beating the S&P 500 over time.  Mutual funds were, a lot of times, compared to that benchmark for performance and it was amazing how it didn't happen much at all.  When I read books about Graham/Dodd, Buffett's mentors, they always stated they had the goal of making 2.5% better than the S&P 500, annualized, over time.  It may not sound like much, but if you do the math, if market gains 10% per year for 40 years and you are able to do 12.5% per year over 40 years, you are talking about 2.5 times more money! $1MM, after 40 years, would be $45MM @ 10% per year but $111MM at 12.5% per year and that assumes not adding anymore money.  So it's quite considerable.  It makes it all the more impressive that Buffett has been able to achieve returns almost 10% more per year than the S&P 500 over a nearly 60 year career. So how hard is it really? I recently purchased a Bloomberg machine, which is a great machine that will allow me to pick different stock screeners and then backtest them as far back as 25 years in some cases.  It will then show me the per year returns vs the S&P 500 and it even allows me to select how often I rebalance.  So I decided to take a few swings to see how it would do by using some of the things I have learned in the past about equities that work over the long haul by many value investors.... What was the result?  If you stayed disciplined and followed the same rule, year after year, it actually was not hard at all to beat the S&P 500.  Yes, there were many years in which you didn't beat the S&P, but over time, you easily beat the S&P and then some. And it didn't take convoluted and complicated attributes to search for.  (More on that in another post). So why do so many money managers fail to beat the S&P 500 year after year and over long periods of time?  Well, that's when human nature comes into play. Money managers chase returns.  They're almost forced to, which is sad, but it is the business they are in.  Granted, they tend to not do a great job explaining the reason for their investment decisions and they tend to be made because other managers and the market are doing well in certain areas, but the bottom line is, it proves that chasing returns is a sure way, in the long run, to lose.  When you finally get to the party, as has been proven time and time again, you will find that everyone has either left or are on their way out. Side Note: I have found a very nice screener that over a 22 year period beat the market by over 4.5% per year.  Based on the # of stocks in that screener each year, I was VERY pleased to see the results and I will discuss, in more detail in another post, what I found with this screener.  Unfortunately, I won't be offering the exact screener because then my work on the Bloomberg machine I paid for will be released and I'm too selfish to give away the things I have spent time looking for.  :-)...
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I’m Back

There has been a large gap between my most recent posts.  It's been hard to keep writing the same thing over and over again, and to watch the market continue to go higher. I have not given in and bought into this market, though.  I am still going to keep that patience because the higher this goes without any substantial increase in fundamentals, the more I know that things will revert back and revert back in a strong way. I recently purchased a Bloomberg machine which allows me to backtest stock strategies over the past 21 years.  That's annoying, however, considering I would want to backtest going back 40-50 years, to see how my strategies would have faired during secular bull and bear markets.  Now...with that in mind, going back 21 years, the stock market total return has been about 9.5% per year which is actually lower than the 100+ year historical average of 9.9%. Since September 18th, we have had a nice pull back on the S&P 500 and I love seeing the pundits on TV talking about how this is a great buying opportunity. Of course it is...if you want to ignore all fundamentals and historical valuation metrics that have proven to be accurate.  Market Cap to GDP ratio, which Warren Buffett describes as probably the single most accurate stock market valuation metric at any given time, is at levels that have only been rivaled by late 1999 and early 2000. Based on these metrics, the 10 year outlook on the S&P 500, including dividends, we are near 0% returns, annualized, per year for the next 10 years. That's awful. Historically, the market should be making 10% per year, so to get to that kind of valuation, the market has to drop in half to get the expected 10% per year annualized return.  It sounds unreasonable?  Ok.  The same thing was said after the mid 1970s cyclical bull market.  ...
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The Story Hasn’t Changed

I haven't posted in a while.  It's been a frustrating year.  I was getting excited when the S&P started the year down 5%. I thought "This is it!"  And of course, I was wrong. I keep reading more and more people say that we are in the beginning parts of a new secular bull market.  I actually get upset when I read that.  It's so unbelievably dangerous.  Secular markets start and end based on valuation.  We are at all-time historical highs in valuation.  Higher values than even 1999 and 1929, in many regards.  Secular bull markets have started, in the past, when the stock market to GDP ratio has been sub 50%, and right now we are at 130%! Patience is a virtue and I lack it in every aspect of my life...except investing.  I've been blessed with that ability to be patient.  Has it been trying?  Of course.  But these cycles do take time.  As John Hussman said in his post tonight, and as a former partner of mine always says "Market tops aren't just points...They are processes.  We are in the process, hopefully, of this.  I say "hopefully" because I have been wrong for quite some time. But I do feel good knowing that the longer I am wrong, the more likely the devastating result that will follow.  Thinking that another 50% drop (3rd in 15 years) is not likely is a fool's wish.  History has shown that during times of immense overvaluation, prices fall, fundamentals don't rise. For those reading this who think I'm kooky, keep on thinking it.  It's been hard thinking otherwise.  But again, please don't say "it was so obvious" in a few years when the market has fallen 40%.  It's just insulting....
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Survey Results – What is the Best Asset Class to Invest In?

As you have seen on the site, you get a survey popping up when you visit. This is not meant to annoy but I genuinely want to see what my readers think of things in the economy and investing. On March 28th, I put the question up: What is the Best Asset Class to Invest In?  Here are the results BestAssetClass                   I am not going to lie. I was surprised. 48% said Real Estate! So let's think back to 2009.What would investors have said about this five years ago? Real estate and stocks would have been at the bottom, right? So my point here is this:  People follow investments usually in the later stages of their big increases in price.  The key is to find these assets when others don't want them.  Gold, a few years ago, was untouchable! Now it's only the favorite of 12% of my readers. Think independently people.  You can't chase returns.  You have to think and look at true value and not care what others think.  That's the only way to get above average returns.  If someone tells you otherwise, they are lying to you to get your money and charge you fees or commissions.  Plain and simple....
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When Value Buying Can Bite You in the Ass

Ten years ago, I was given the option to buy shares in an IPO for a small company called Google. You may have heard of it.  I looked at the financials and thought, "Jeez, this thing is overpriced." So I ignored it.  The IPO price for early buyers was $60, I believe.  It currently sits at $1200 per share.  1900% increase.  Drats. So here is one of the rare examples of when value buying ends up having you lose out in the long term.  First off, I think Google is worth around $650 a share right now.  I know I know.  That's almost 50% lower than it sells for today...but it does sell for a premium. But in 2004, Google had $3Billion in sales and last year it had $60Billion in sales.  So clearly they are a growth machine.  They have done a great job meeting expectations and leading the industry in ads and it prints money.  Who would have guessed that back then?  Not many, I would presume. So do I beat myself up over this?  Yes and no.  Of course I wish I had done this, so I am upset about that, but if I had invested in Google back in 2004 based on what I saw, then I would have lost TONS more money on other IPOs now and in the future hoping for the same result and would have probably given back all of the Google gains over time. Having a plan and sticking to it...assess your work over years and years and many investments, not the short term and a few investments.  Warren Buffett and Ben Graham and all of the investing greats didn't beat the market each year...in fact, when years were good for the stock market, they tended to lag.  But they stick to their system and when times are bad, they tend to fair pretty well....
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Updated CIO Index

Getting close to some playoff action here.  We are about 20 games out and teams are starting to roll. So of course, we must do an update on the best players in the CIO Index from overall standpoint and from a cost standpoint. Here are the top 10, with minimums of $5MM salaries, 45 games played, and 400 shots taken so far this season. Overall Screen Shot 2014-03-10 at 10.49.41 PM                 Salary Efficiency Screen Shot 2014-03-10 at 10.46.11 PM...
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Short Term News Doesn’t Mean Long Term Value

When discussing the current stock market valuation, so many people tell me that since current earnings are putting the market at 15 times earnings, I am off my rocker for thinking it's overpriced.  What people always forget is that the current profit margin as a % of GDP is at 11%, which is almost double the historical average.  Of course, everyone wants to extrapolate that out, but when looking at profit margin levels in the last 10 years, this 11% rate is even an anomaly. So I ask this question: Back in 2008, the earnings on the S&P 500 got as low as $13 per share, I believe.  If you extrapolate out a 15X earnings on that, historically, it said the S&P 500 should have been at 195. Instead it bottomed at 666 or so.  So was the 666 level really worth 3.5 times more than the market should have been selling at? Of course not, and no one who I ask that question to says it was. Their response is some variation of "Well, that was an extreme one time situation."  Why can't the same extreme one time situation occur on the upside too!?!?! Every other Friday, I teach a class at my old high school where I teach investments.  One of the analogies I always make is that if you were always a C student but suddenly, you got an A on a test because the teacher let you use an open book, are you going to apply to colleges and say you are a straight A, 4.0, student?  Of course not! If you are a solid 4.0 student and all of a sudden you forgot, from some fluke occurrence, that you had a test today, and upon taking it, you earned an F, is your high school going to kick you out for poor grades?!?! Of course not.  Yes yes, one test may be too short of an example, so make it 1 quarter of grades...1 semester...1 year.  Whatever.  The bottom line is that if your fundamental study habits haven't changed, why would your outlook change drastically? There are good years and bad years in everything in life.  This is why we can't extrapolate one good year to infinity and beyond and we can't extrapolate one bad year to infinity and beyond. You have to look at fundamentals of why things are the way they are. If there is a shift in some sort of supply or demand, then I can understand that. But that's not the case here. In fact, the thing driving profits is low interest because of massive Fed spending.  We can all agree that that will not occur in perpetuity.  Well, we don't know that for sure, but every time it does happen, it leads to bad economic outcomes which would then, in turn, drive stocks down. Please don't think short sided when things are GOOD or BAD....
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WhatsApp – How Facebook isn’t spending as much as you think

I really dislike the idea of writing a blog post on WhatsApp because it has, by far, been the biggest news of the last week, I think.  WhatsApp has VERY SMALL revenue but they can charge their users $1 per year after the first year of free use, so with the 450MM users they have now, that's $450MM per year in revenue. Big woop. But of the $16Billion initial acquisition price, $12Billion of that was being done with Facebook stock.  So what you may ask?  Well, it matters big time and it tells me that even Facebook execs think their stock is overvalued. Think about it...if you feel your stock is undervalued, you will never ever give that stock away to make acquisitions.  You would use cash because you feel like your stock will eventually go much higher.  On the flip side, if you think your stock is OVERVALUED, you will want to buy as much as you can with that stock because you feel the stock will go down in price, so you really aren't paying as much. To break it down further.  Let's say, in a wonderful world, God came down and told you that your stock is going to be worth $20 per share in 1 week because everyone will realize how great your company is...But it is currently selling for $10 per share...would you EVER buy $10 worth of stuff with that $10 share?  No! God just told it was worth $20 per share in a week, so you wouldn't be paying $10, you would be paying $20 since the share will be $20 in one week (yes, there are time value considerations here, but let's not overcomplicate it). Again, on the flip side, let's say your stock is selling for $50 per share, but God said "Next week, your shares will be selling at $20."  So anyone selling you anything for $50, you will try like hell to get them to take your shares because, really, you are only spending $20 in next week's dollars to buy that stuff. I hope it makes sense because it is a very telling sign when people are making acquisitions with shares.  It shows either a lack of liquidity or concern over stock price, or both. So let's say that Facebook, who is selling at over 100 times earnings, is actually worth 1/3rd of its current stock price after you account for growth in revenue and earnings.  Revenue and earnings increase nicely over the next year or two and they are able to justify the high valuation and sell at a reasonable multiple.  If the shares were to drop to the $20 mark, which could very well happen, their $12Billion in stock that they gave up is actually only $4Billion.  Add to that the $4Billion in cash and you have a total acquisition of $8Billion instead of $16Billion.  Not a bad way to make acquisitions when everyone is so high on your stock.  The company acquired believes they are getting shares in an awesome company that is high flying, while the CFO of Facebook knows that they are just giving away overpriced stock to fund expansion....
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Yellen and the Stock Market

A heading today on CNN Money was "Can Yellen Push S&P 500 to Record High?"  WTF?!?!?! It is NOT the Fed chair's job to even worry about that.  I am getting a bit annoyed with the expectation of the Fed Chair to keep rates low in order to keep stocks elevated.  At some point in the future, rates will have to go higher and then, by the assumption that stocks will go down because of that, stocks will have to decrease. So let's just get it over and done with! Unless, of course, the low rates are needed to keep the economy humming along and inflation higher. Remember, the low rates will be needed to drive inflation higher so that all of this debt that we have can be buried in higher GDP growth due to higher inflation. Let Yellen do her job which is to worry about inflation (stable prices), full employment, and long term interest rates.  Everything else will take care of itself.  The economy, if it needs to, will go through its problems and fix themselves, as they have done over the past few hundred years.  The stock market will go through bull and bear cycles, as it has for the last 145 years of history that I have at my fingertips.  It's ok for bad times to occur....
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