On the plane ride back from the Booth Investment Management Conference in Chicago on Sunday, I read the great new book by veteran financial journalist Bethany McLean, Shaky Ground: The Strange Saga of the US Mortgage Giants. The book tells the story of Fannie Mae and Freddie Mac, the two massive GSEs (government sponsored enterprises) that buy, package, and sell pools of mortgage loans. It’s a fascinating, if distressing history. Unfortunately, because our government failed to do away with Fannie and Freddie during the 2008 financial crisis, that history is still unfolding.
After last year’s better-than-expected holiday season, I cautioned investors not to get too hopeful about the seemingly endless supply of retailers looking to rebound. With local stores starting to put up Christmas lights again, it seems like a good time to revisit that advice and check back on the sector. How has retail fared in 2015?
Pretty much the same as 2014, 2013, 2012, and just about every year for the last decade. That is to say: quite poorly.
The Valeant saga is probably a long way from a resolution. Anyone that says they know how it will end is either delusional or looking to influence the stock. That being said, there are a few lessons to be gleaned:
Like many, I am surprised (and somewhat dismayed) by the popularity of social media. Personally, I have made some valuable connections on Twitter. But for the majority of people who habitually log in to social media platforms, I fear time spent on the sites is time wasted. And while all social media companies tout glowing statistics about the rapid growth of their user bases, I remain skeptical about the real social value—and commercial viability—of their products.
I’ve always been intrigued by how seemingly small events can trigger sudden downturns in overvalued market sectors. In March of 2000, a Barron’s cover story did more than anything to accelerate the bursting of the dotcom bubble. Last week, a single tweet sparked a major selloff in biotechs and pharmaceuticals.
A few weeks back, I flew to Dallas and hit an unexpected trifecta: in a single day, I visited three companies with strong insider buying. I wasn’t aware of this coincidence until after I scheduled the meetings and began researching the companies. I was pleasantly surprised. Significant insider buying is quite rare. It almost never happens here in the Bay Area, where tech firms hand out stock options like napkins. Needless to say, I was intrigued by each of these companies. However, I only wound up buying stock in two of them—and the reasons why are important.
I have to admit, I’m looking forward to the Republican debate on Wednesday. Love him or hate him, Donald Trump’s candor is entertaining. It’s somewhat fun to watch him dismiss his political opponents (including the sitting president) as “losers” and “lightweights,” and his critiques of my industry—which he refers to as “those hedge fund guys”—are mostly spot on. Too many big fund managers really are little more than under-taxed, economically destructive financial engineers. Trump’s strident anti-immigrant rhetoric is far more troubling, but it’s not hard to see why it appeals to voters who feel left behind by globalization and the increasingly polyglot composition of America’s electorate.
Most economic studies show that immigration, legal and illegal, is a net contributor, not a cost, to economic growth. Three decades ago, the legendary University of Chicago economist Milton Friedman noted that the majority of illegal immigrants work, pay income and payroll taxes, but rarely receive government benefits like Social Security and Medicare. Mr. Trump, on the other hand, has frequently been on the receiving end of government largesse. Despite his professed belief in free markets, he is the prototypical crony capitalist. Without all sorts of tax breaks, debt forgiveness, and giveaways, he would be far less rich.
I recently joined a group of other money managers for a meeting at Neflix’s (NFLX) Los Gatos, California headquarters. The company’s IR rep gave a concise 30-minute business overview, followed by 30 minutes of questions. I’ve never considered investing in Netflix and I probably never will. As a rule, I don’t buy or short popular, high-profile companies. But I have to say, I came away from that presentation more than a little skeptical about Netflix’s future prospects.
The company’s subscription service is a good, if not great business and its user growth has been impressive, but NFLX is an extremely expensive stock by almost any metric. Even after its recent selloff, its market capitalization still tops $40 billion vs. $6.8 billion in estimated 2015 revenues and roughly zero free cash flow in both 2015 and 2016. Its high valuation isn’t what worries me, though. Today about ten percent of the content available on Netflix is either licensed or created by the company. It plans to increase that number to fifty percent. To say this is an extremely risky move would be an understatement.
After one of the craziest rides anyone can remember, with the Dow dropping over 1000 points in a session for the first time and everybody learning the definition of “Rule 48,” stocks ended up pretty much where they began last week. Incredibly, the Dow, S&P and Nasdaq were actually up modestly by Friday’s close. Besides Xanax manufacturers, there were two clear winners in all of the sound and fury signifying not very much: the market’s croupiers—the brokers and Wall Street traders who collect commissions on stocks, bonds, and other financial products—and Mr. John Clifton Bogle.
As a Princeton graduate student in the 1970s, Bogle invented the index fund. Today almost 1/3rd of all mutual fund assets are invested in index funds and Bogle’s Vanguard Group is the nation’s largest money management firm as measured by assets under management. Study after academic study shows that the S&P 500 has produced an 8.5 percent annual return since World War II, while the average actively-managed mutual fund has delivered about 7 percent (after deducting the 1.5 percent average “expense ratio”). The typical retail investor lags far behind, earning closer to 5 percent a year. Weeks like this past one are a big reason why.
Warren Buffett famously advised investors to “be greedy when others are fearful.” With stocks all over the world getting clubbed in recent days, there is no shortage of fear out there. The question is: will all that negative sentiment become another “wall of worry” that the markets climb to new highs? I can’t say for sure. No one can. I will say that during yesterday’s gruesome selloff, I spent more time adding to my fund’s short book than searching out potential buys. That’s because, even with the Dow and S&P suffering their worst weekly declines in four years, I still see wildly, even stupidly overvalued companies everywhere I look.