Where Leverage Is Bubbling Up

I use to think the next debt crisis was going to be a sovereign debt crisis, but I think it may be much bigger and much worse - a combination sovereign, corporate, consumer debt crisis. Sovereign balance sheets have exploded in a countercyclical move to cover for reduced aggregate demand in the wake of the GFC. Now corporate balance sheets are exploding as the false veneer of higher profits and higher share prices allows companies to gorge themselves at the trough of low interest rates and an eager demand for higher yielding paper. This will come back to bite when the economy experiences its next cyclical downturn. The poor consumer, overstuffed as he is but hanging on, will simply be collateral damage as everything goes to hell in a handbasket.

The margin for error is diminishing.

Investing Requires Vision

Investing requires the vision and the imagination to see something the rest of the market doesn't and to envision a path by which it comes to fruition. Large doses of patience and conviction lend support to great investments.

Exploitable Anomalies

Small cap.
Value.
Information diffusion time lag. 
Momentum.
Mean reversion.
New fund.
Small AUM.
Quality companies.
Seasonals of all kinds. 

Got To Know What You're Good At

One way to know what you are good at is to identify those things you are bad at.

I'm bad at recognizing the dislocative disruption of new players and new trends. I see the trends but I don't extrapolate their likely diffusing effects very well. At the same time, I tend to give to much credit/strength to the incumbent(s), eg. Nokia.

Another area I am not particularly good at is identifying who the next big thing is going to be, ie. emerging leader. Part of the reason is that the market has already given the name a huge multiple and I can't bring myself to join in the party (late). Of course, if something is the next big thing, then its addressable market is a multiple larger than it is at the front end and it warrants the high multiple (that in hindsight now looks like a great price).

I'm a sucker for discounted relative value plays. Currently, CALL, ESI, ACI and OUTR are on my radar. But there is usually some good reason why they traded at an apparently steeped discount to their peers. If it is too good to be true, then it is probably too good to be true. I can't tell you the number of times I've been attracted to a name (sometimes bought it) only to find out there were shenanigans going on that I didn't know about (but the smart money did).

I am good at buying companies when the market has thrown the baby out with the bath water. This is an incredibly dangerous strategy, but it is in keeping with my own investing personality (DNA).

I don't have great vision for choosing the next great growth stock, but I have the courage to buy when/after the market has thrown something on the trash heap.

What Is Value?

Value is in the eye of the beholder...value is ethereal...value is a moving feast (non-stationary)...value is real...value is relative.

What is MSFT worth? What is INTC worth? What is GOOG worth? What is AAPL worth? What is ORCL worth? What is CSCO worth?

After years of multiple compression, things are looking up for the mega-cap techs. I don't know what level their multiples bottomed at but they are slowly seeing an expansion. Most are currently trading around 10x EBITDA. This seems crazy to me when they all exhibit a little growth, have monster margins, strong market positions and competent management. Still technological disruption threatens to undercut all of them and so some level of discount should be applied. But given their premium performance characteristics I would suggest the technological disruption discount should cancel the quality premium out and they should trade at a market average multiple. Given that they are essentially the market (given their size) this could of course be a tautology. Nevertheless, it is not difficult for me to see the market warm to these names and see their EV/EBITDA multiple move out to 12x or 13x. That is another 20%-30% upside tacked on to 10% earnings growth and a 3% yield. Not a bad return.

We have seen a massive move out of the smalls into the large and I don't see that changing anytime soon. The smalls got way out ahead of the game and are now mean reverting.

Buyer Beware

In my journeys around the asset management industry I sometimes come across fairly large ($2b in AUM or so), well respected asset managers with no marketing and no sales (or at least none that is in evidence).

These are firms that have found an audience for which there is no need to sell or market their services, ie. affinity marketing, and are not active in selling or marketing on a broader basis, ie. competing in the broader institutional marketplace.

The owners are fat and happy doing what they love doing - investing - and are not interested in growing or developing their business further. Their websites are atrocious, their resourcing levels low, and oftimes they have lots of family working in the business.

I can't imagine any (or many) of them are frauds. But they show the signs and have the capacity to carry out shenanigans if that is their predilection.

Contrary investing - the trapdoor and the panic

Two good strategies. Both require tremendous patience and discipline. One is a micro approach, the other a macro angle.

The first is the trapdoor spider strategy. You keep your powder dry waiting patiently for the market to throw you a prize. The prize is a great company that is overowned and has stumbled. Problems and concerns have arisen, but there is no fundamental rearranging of the deck chairs. Just a misstep. These things happen. Could be a 1 to 2 year workout. Don't buy too soon. The stock will bottom before the worst of the information comes out. When you see it holding fast or rallying on bad news. That is a good sign. But it can take some time for the stock to find its legs again.

The second is a general market panic. Could be a country. Could be an industry. Could be the whole market. Everything is marked down. Fear is rife. Buy the country or industry champion. These are too big to fail, too deeply entwined in the fabric. Again, another 1 to 2 year workout.