Serial Correlation Affecting Quality Large Caps In A Panic

Rusty was big on this and I think he was right (although I don't like the conspiracy allusions that are usually drawn with it), and it is not something that you see too much written or talked about.

During the crisis when everyone hit the exits at the same time, quality company large cap stocks got hit just as much, if not more, compared to low quality stocks. The reason being that they were liquid and provided an avenue to exit when other avenues were not as attractive.

In theory this should create an inefficient situation where information based investors (ie. value investors) step in to take advantage of the temporary oversupply in the market. Unfortunately, much of the oversupply was probably being created by value investors as much as any other type of investor and that is why the window of opportunity was so great and the time period for taking advantage greater than normal.

Timing is everything. Contrarians likely bought too soon. Value managers were so abused that they were stuck on the sidelines too long. Growth and momentum guys were just dazed and confused.

But the reality was in a panic, high quality large caps are hit just as much as any other segment precisely because they are a store of value and a ready source of funds.

A Phenomena

There is a phenomena I have seen over and over again. It usually manifests itself as follows:

Company appears to be doing well via the numbers. Sales are growing, margins are expanding and the multiple is huge (too expensive for me). BUT...

I can't work out why the company is doing as well as it is. THEN...

It disappoints the street and the multiple shrinks enormously even as profits are substantial and it seems to the company is doing a lot more things right.

Case in point today is Coach (COH) which reported another disappointing quarter and is in Wall Street's doghouse.

The same could also be said for Apple.

Burned Out For Profit Education Sector Set To Run

Been looking at a few names in the burnt out for profit education space.

I think it will recover - maybe not to its former glory (read that profit margins and growth rates) - but it will survive and live to fight another day. Which means at current valuations most of the stocks in the space are really cheap.

The sector recently staged an impressive rally off the bottom. The interesting thing is that enrollment data has continued to decline. When a market rallies this strong from such a low valuation on no tangible information, it indicates to me that the bottom trollers have put their hooks in and are getting in ahead of the crowd. I expect the sector to see a turnaround in enrollment fortunes in 2014 which should propel it higher (depending upon how much it has already rallied in the interim).

Make no doubt about it, this sector is scary risky. From massive regulatory overhang to no sign of recovery, it is not for the faint of heart. Despite offering up tremendous value from a contrarian perspective, it may not be appropriate for a long term investor looking for good quality companies. Fundamentals are still declining and things look bleak on the surface. It is only under the surface when you look at the potential and the value being attached to assets that have enormous operating leverage, that you see something positive.

As a long term investor you always need to remind yourself that you really want to own good quality companies, in good industries, with good tailwinds. The for profit education sector does not offer those characteristics. But for contrarian value investors, it offers up an attractive profile.

On a final note. I have a lot of disdain for the sales and marketing practices of these firms. I don't like the way they do business. I don't like how they operate. They do however have a great business model (at least it use to be great). It is an ethical dilemma to invest in an industry/sector where they operate in a manner that you don't like but where there is tremendous value in the businesses who operate in the space.