Category: General

  • Two must-reads, investors or not

    Two great documents that should be in every investor's reading pile were released this week. Actually, though, they're better than that - they should be in the pile of anyone interested in how businesses operate and think. (more…)

  • Political Odds

    I have more of an interest in all the kerfuffle leading up to the election than the actual election itself... which is either a sad reflection on political apathy, or of my love of markets and probabilities. I'm not sure which.

    That interest was somewhat dampened, it must be said, by having had the misfortune of watching the BBC Panorama program a couple of weeks ago where Nate Silver (the renowned US statistician) trucked around dreary English towns in a pantomime-esque attempt to drag out a forecast of the UK election.

    That aside, the game of trying to figure out what will happen in the next election is a fascinating one from the point of view of a market watcher. London related shares moved when Labour announced their proposals around res non-doms (a nice tax structure for wealthy 'foreigners', basically), which investors saw as a threat to the status quo at the top end of the London market. The journalists also have a field day, since it gives them a nice event they can attribute market movements to - 'the FTSE dropped 20 points as fears of a Labour-led Government grew..' and the like.

    So how to think about what is likely to happen?

    As always, the best thing to do is probably to follow the money. For those who aren't familiar with Betfair, it's a betting site whereby the bets you place aren't taken up by the house (which is adversarial - when you win, they lose), but instead by other people. It's a functioning market, where the opinions of participants are aggregated to create at price at which you can back the bet - take the bet on - and a price at which you can lay it - bet that the outcome will not happen. (more…)

  • Next PLC – An early indicator of quality

    I was browsing Stockopedia the other day and came across an article on Next. I like Next - it's a clear success story and an excellent company. Aside from the interesting article itself, there was also a fascinating comment about the quality of the team and processes at Next, with evidence taken from their Annual Report.

    I've never actually taken the time to read one of their annual reports - which is a failing of mine, as I think you get a lot from reading the annual reports of demonstrably successful companies. It's subject to a lot of hindsight bias, of course, but given how many annual reports of pretty poor companies a value investor will usually end up reading, there might be something of a benefit in a 'compare-and-contrast'!

    There's lots of good stuff there - click through and read it - but I'll just focus on one. I've reproduced the figure from the annual report here:

    The explanation itself is pretty elementary - it's just a simple observation that you have alternative uses for your cash, and optimising shareholder returns is always about using your cash in the best way. There's lots that can be added to the above analysis, and criticisms you can level at it, too - notably that Next is a company with such great returns on tangible capital that, in reality, share buybacks are significantly worse than organic growth. On that front, actions speak louder than words - buybacks have been fairly restrained, and investment in organic growth has been substantial, accretive, and careful enough that (unlike so many) growth has been executed consistently and without the usual bloating of central costs, diminishing returns on marginal capital and general organisational 'fatigue' that you see so much elsewhere.

    But aside from that - even aside from the fact that Next have successfully executed their buyback plan to the great enrichment of long-term shareholders - there's an even more fundamental point that comes to mind.

    I think you significantly beat the market over a 5-10 year period if, with absolutely no other criteria, you just invest in companies which actually talk about the benefits and reasoning behind good capital allocation. It's deeply worrying how few companies either acknowledge or consider the possibility of share buybacks, or actually spend any time talking about logical investment planning in acquisitions, with respect to return on investment and what else they could do with the money. One piece of logic; (which seems scarily prevalent in US companies) that any acquisition which is earnings accretive must automatically be a good thing, is so ridiculous it doesn't even bear considering. Some of these discrepancies doubtless come about from the principal-agent problem; the fact that CEOs have a much more vested interest in enriching their personal domain and building their legacy than conservatively maximising long-term returns.

    My little suspicion - that management teams which talk about capital allocation deliver better returns - is interesting from the perspective that it might not even need good capital management to be true. I suspect that simply the fact that management acknowledge its importance is well correlated with management being switched on and alert in other respects.

    The argument is more or less unprovable, I guess, and again I note that it is subject to a great deal of survivorship and hindsight bias. It's easy to pick up an annual report of Next, a great company, and then essentially 'data mine' for variables which you then suppose are positively correlated with that success.

    Still, it's my hunch. Good capital allocation is much, much rarer than I would hope, and I think that makes it a particularly valuable asset.

  • Dividends are overrated

    A couple of weeks ago an interesting article was posted on Stockopedia:

    'Dividends are more reliable than accounts' 

    This is a pretty bold statement and, having ruminated on it a bit, one I can't help but disagree with. I started typing a comment by way of response on there, but having got a bit long, I figured I'd move it over here with a suitably gauntlet-laying title. My teachers always did say I was prone to exaggeration! Click through and read the article for yourself if you want to get it from the horse's hooves, but I'll attempt to summarise the author's argument here as fairly as I can:

    Active management is bad because it's difficult to spot profit warnings coming, and difficult to discern future profitability. It is better to base investment decisions on a 'fundamental measure, like dividends'.

    On unreliability

    The charge that accounts are unreliable is one that comes up quite often. I note one thing to start with; if you like investing in AIM-listed Chinese companies, or exciting little oil & gas plays, I sympathise with you - you might well find published accounts a decidedly questionable source of information.  (more…)

  • Housebuilders in the UK

    What place does a housebuilder have in your portfolio?

    As a value guy, I'm not really sure. If I were to take a stab at valuing a housebuilder, it would comprise of two elements. It's sort of like valuing insurance companies, really:

    a) Value the land on their book. This sounds trivial - we have accounting book values for a reason - but the actual sums are more complicated than that. Housebuilders have portfolios which faced differing degrees of impairment during the crisis, and the companies which had the financial strength to restart big land-buying programs in the depths of 2009/2010 - while everyone else was battening down the hatches and staving off the baying banks - have a portfolio of land which allows for higher margin building today. They also have differing quantities of land, which are best modelled by comparing their land bank (in number of plots) versus their last-year completions. This is like valuing an insurance company's in-force book; you're essentially asking yourself how well-written their previous policies were, or how well bought their previous land was, and how benign the environment will be for that profitability over the next few years.Inline image 1 (more…)

  • The most depressing thing about the Quindell saga:

    ... if you haven't been keeping up with Quindell, some might say you're missing out - it sort of depends how you get your kicks in life.  It is rare you get to see such a public back and forth between the long and the short side of a stock; usually those bearish stay out and stay quiet, but in Quindell's case you have a fistful of public legal spats, accusations of impropriety and the usual festival of characters wading in on either side of the debate.

    I have nothing to add on the equity side; it's either cheap and legit or it's expensive and isn't, and I look at situations like this with a shrug of my shoulders. Maybe I'm missing some value by permanently sitting on the sidelines, but the level of due diligence it'd take for me to get comfortable with a stock blasted with a reasonably convincing 74-page short manifesto just doesn't appeal. It's the same deal as I've said before with mining and exploration stocks - I find myself agreeing with most points I read. I lack the capacity to critically analyse the arguments, and I lack the desire to figure it all out. As far as I'm concerned, the returns to my time are much better looking for solid companies with good returns on capital at reasonable valuations - not looking for diamonds among the rubble and hoping for multi-baggers. Fortunately, it turns out more 'boring' companies might be a more reliable way of doing that. (more…)