Monday, May 28, 2007

Asian ETF overview

Happy memorial day to all the US based readers. Seekingalpha has an excellent overview of Asian ETFs and their performance to date compared to SP500 index tracking fund IVV.

Friday, May 25, 2007

Whitney Tilson on Learning from Investment Mistakes

Another gem from financial times -

Whitney Tilson: Learn from your own investment mistakes
By Whitney Tilson, sitePublished: Feb 16, 2007
Investing is a game of averages: nobody bats 1,000 but, if your analysis and judgment are solid and your winners generally go up more than your losers go down, you can build an outstanding record. The key is not picking big winners; it is avoiding big losers.
That's why learning from mistakes is so important – ideally, as Warren Buffett says, others' mistakes rather than your own. In that spirit, here are 10 traps I've identified – many times the hard way – that are likely to lead to bad investment outcomes:
■Declining cash cows. There can be a fine line between opportunity and trouble when a once-strong business goes into permanent decline. One can profit if the market overestimates the speed of the decline or underestimates management's ability to transform the business. But this is a hard way to make money. Generally speaking, a business in decline – even a cash cow business – is a painful, drawn-out affair. Investors in newspaper stocks in recent years have seen this first-hand.
■High and rising debt. Value investors are naturally drawn to companies in trouble – that's what makes stocks cheap if the difficulties prove to be temporary – but beware of high and rising debt levels. Even if a company is positioned to benefit from improving conditions over time, equity holders won't benefit if its debt levels trigger a bankruptcy or a massively dilutive refinancing in the near term.
■Unions and legacy liabilities. When betting on a turnround, it's critical to understand the flexibility the company has – or doesn't have – in implementing painful but necessary changes. Poor union relations can prevent such changes, and legacy healthcare, pension and environmental liabilities can serve as the same drag on a company's prospects as too-high debt. ■Weak or erratic cash flow. Operating cash flow, because it adds back depreciation and amortisation to net income, should be higher than reported profits. If it's not, figure out why. Are there unusual items consuming cash? Are inventories or accounts receivable ballooning? In the 11 quarters ending in the second quarter of 2000, Lucent reported pro-forma profits totalling $9.4bn. Over the same period, it had a free cash flow deficit of $7bn. This should have been a tip-off for investors, who suffered as the stock plunged from more than $70 to less than $1.
■Over-reliance on one customer. In my experience, one of two things happen to companies that derive a large portion of sales from a single customer: at some point, the company loses the customer or the customer renegotiates the deal – either of which is devastating to the company and its stock.
■Consumer fads. Famed short-seller James Chanos put it well in a Value Investor Insight interview explaining why fad-driven companies often become great short ideas: "Investors – typically retail investors – use recent experience to extrapolate ad infinitum into the future what is clearly a one-time growth ramp of a product. People are consistently way too optimistic and underestimate just how competitive the US economy is in these types of things."
■Deeply cyclical industries. Fortunes can be made by investing in cyclical businesses if you have a deep understanding of the industry and you're buying at maximum pessimism. If neither is the case, discretion is often the better part of valour. Just ask those attracted to the ostensibly low multiples of subprime mortgage lenders before last week's revelations of deteriorating loan-portfolio credit quality.
■Focus on earnings before interest, taxes, depreciation and amortisation (ebitda). Used properly by those who understand its limitations, ebitda can be a useful measure. But too often it's used by unscrupulous management, investment bankers or analysts to make a stock appear cheap – a stock's ebitda multiple is always lower than its p/e multiple – or to deceive investors about the true nature of a company's capital requirements. It's not a coincidence that many big frauds, such as WorldCom, weretouted using ebitda metrics.
■Serial acquirers or mega-acquisitions. Given the research showing that two-thirds of all acquisitions are failures and a wide range of accounting shenanigans that can occur when one company acquires another, it's remarkable how often investors get excited about big acquisitions or roll-up stories. While my funds own Tyco today as a discount-to-the-sum-of-the-parts story as it sheds its conglomerate structure, we fortunately avoided it when it was a serial acquirer.
■Aggressive accounting. Grey areas in US Generally Accepted Accounting Principles (GAAP) leave management with tremendous leeway in how aggressively or conservatively it represents company operations. I have difficulty thinking of a single instance in my entire career of a company that blew up in which there were not signs of aggressive accounting.
Mistakes are inevitable but every savvy investor should at least try to make original ones. Recall the proverb: "Fool me once, shame on you. Fool me twice, shame on me."
Whitney Tilson is a money manager who co-edits Value Investor Insight and co-founded the Value Investing Congress.

Thursday, May 24, 2007

Whitney Tilson on steps for value hunters


Whitney Tilson: Not-to-be-missed tips for value hunters
By Whitney Tilson
Published: May 18 2007 18:25 Last updated: May 18 2007 18:25
My recent column detailing the 10 investment traps I’ve identified prompted several readers to ask if I have a comparable list of the opposite – types of opportunities that are likely to lead to good investment outcomes.
I do, and happily it’s a bit longer than the list of traps. Given that the first step to successful investing is knowing which ponds to fish in, here are the 15 most common types of value opportunities I have been able to capitalise on in my investing career:
● Out-of-favour blue chips. Even the greatest companies encounter problems or otherwise fall out of favour. We bought McDonald’s a few years ago when it fell below $13, believing in its assets and that it could return to its former glory through better management. The shares now trade above $50.
● Turnrounds of broken businesses. It’s difficult to fix a truly broken business, but when it happens, the returns can be extraordinary. One of my best investments ever was CKE Restaurants, which engineered a spectacular turnround at Hardee’s due to its new Thickburger menu. The shares, as low as $3 in 2003, are now above $20.
● Cyclicals at the bottom of the cycle. Success here usually involves correctly anticipating when a cyclical industry will rebound, though precision is not necessary as long as the company has a strong enough balance sheet to weather the tough times.
● Distressed industries. Our buying auto-systems maker Lear last year below $20 when its prospects were considered most bleak is a successful example of buying a good company in a distressed industry. Its shares have more than doubled off their lows.
● Overlooked small-caps. Among the 5,000 or so publicly traded US stocks that have no analyst coverage are fine businesses that are cheap because no one is paying attention to them or the stocks are thinly traded. A good example we’ve owned for years is Weyco Group, which makes Florsheim shoes.
● Fallen growth angels. When high-growth companies slow down, growth and momentum junkies often sell indiscriminately, which can create great opportunities for value investors. Just be careful not to anchor on the stock’s previous price or earnings multiple, which are no longer relevant.
● Growth at a reasonable price. These are also high-quality growth businesses, but the stocks haven’t fallen. They may not appear cheap on traditional valuation metrics, but can be excellent investments if the high growth can be maintained. Starbucks over the years has been a great example.
● Piggybacking on activism. There are select opportunities to invest alongside experienced activist investors pushing for prudent change. One of our most profitable investments over the past two years, for example, was following Pershing Square and Trian Group into Wendy’s International, which has more than doubled.
● Spin-offs. Many significant stock-price inefficiencies can occur when a company is spun off. A recent example we currently own is Mueller Water, which operates largely under Wall Street’s radar and is uniquely positioned to benefit from needed investment in US water-system infrastructure.
● Post-bankruptcies. There are also many reasons why companies emerging from bankruptcy can be inefficiently priced, not the least of which is investors’ reticence to back a recent loser. We’ve almost tripled our money in less than two years owning shoe retailer Footstar, which came out of bankruptcy with a solid balance sheet and plan for reviving itself.
● Let someone else do the investing. Certain public companies, including Berkshire Hathaway (which we own), Loews, Leucadia National, Alleghany and White Mountains Insurance are structured as investment vehicles for proven value investors. At a reasonable price, it can pay to let these investors do the heavy lifting for you.
● Free/mispriced option. In these situations, one or more ongoing businesses justifies the current market price and an investor gets a valuable option – in the form of a new market opportunity or turnround of a floundering business – for almost nothing. In Wendy’s, we thought the value of its Tim Hortons restaurant franchise was worth the entire stock price two years ago, so we were getting the Wendy’s brand restaurant and franchising business for free.
● Declining cash cow. At the right price – and if management wisely milks the business and allocates capital – the stock of a declining business can be a great investment. The shares of Deluxe, the leading check printer that many investors had abandoned, have tripled over the past year thanks to cost cutting under a new chief executive.
● Oddball companies. Certain companies have revolutionary business models that are poorly understood, resulting in cheap stock prices. Classic examples are Southwest Airlines, Dell and Kinder Morgan.
● Discount to the sum of the parts. Many companies lend themselves to valuing their different pieces and can be a great buy if the whole is trading at a sufficient discount to the pieces. We own Tyco because we think the three companies that will emerge from it in the next few months are worth more than $40, versus today’s share price below $33.
Whitney Tilson is a money manager who co-edits Value Investor Insight and co-founded the Value Investing Congress.

Saturday, May 12, 2007

India Funds Revisited

In this blog, we have looked at emerging market economies and the options available to US investors to get into such markets. One of the hot emerging markets is India. In this blog we have looked at Indian equities and funds quite a few times. We will revisit the India funds again to see if they present an opportunity or two.

First a note about the Indian economy and stock markets.

The economy has been growing at a fast pace, inflation has also been growing at around 6% range flaming fears of overheating or an outright crash. In order to eliminate this scenario, the Indian central bank has increased interest rates and has not interfered with the strengthening Indian Rupee. The strength in the Indian currency will most likely hurt the Indian exporters but may help reduce inflation.

The Indian stock market is an old institution, the oldest in Asia. However, the market is loosely regulated and has had a couple of major scandals in the nineties. The market is also known for its major peaks and valleys. In FY07, the Indian stock market hasnt done particularly well and this is a good sign for investors. The Indian stock market has been flat for the year while many other indices around the world have hit new highs.

The India funds of interest to us are IIF, IFN, MINDX, ETGIX, EEB, ADRE, EEM and VWO. EEB, EEM and VWO are not pure India plays but provide exposure to India. Let us compare these funds and see the pros/cons of each.

IIF is Morgan Stanley India Investment Fund. It is currently trading at almost 12% discount to NAV. The fund has an expense ratio of 1.35%. The fund hasnt kept up with the BSE Sensex Index in the past and the performance of the fund and charts were discussed in the previous article.

IFN is another India fund. It carries a slightly higher expense ratio of 1.41% and has a lesser discout of 11% to NAV. This fund has also lagged BSE Sensex index. This fund has returned -10% so far this year.

MINDX is a mutual fund and has done better than IIF and IFN thus far in the year. This is largely because the mutual fund doesnt develop a large discount or premium to NAV. MINDX has an expense ratio 1.41% and has a separate management fee of 0.7%.

ETGIX has also done relatively well but has underperfomed MINDX. The fund has a front end load of 5.75% and management fee of 2.14%. This is not a good fund for individual investors with less than a million dollars of capital.

EEM has a 5.68% exposure to India, the lowest amongst the BRIC countries. EEM has a larger exposure to Russia, Chian and Brazil.

VWO has a larger 6.1% exposure to India. Similar to EEM, it has larger exposure to other BRIC countries.

From a performance point of view, EEM has done fractionally better than VWO in 2007 despite a higher expense ratio. In the past, EEM has done somewhat better than VWO.

EEB has a larger exposure of 13.5% to India. EEB is concentraded on BRIC and mainly BIC. The growth of Chinese market has helped this fund out perform both EEM and VWO thus far in 2007.

ADRE has a 7.88% exposure to India but is based off the ADRs. It has a lower expense ratio of 0.3% compared to other funds. This fund has a larger exposure to China and lesser exposure to Russia. This has done better than both EEM and VWO thus far this year.

In comparison, an emerging market fund with a cocktail of countries might prove to be a better investment in the longer term as opposed to one country alone. There are several choices available in this category for savvy investors.

Sunday, May 06, 2007

Infosys Analysis

In this blog, we have looked at Infosys and we will take a look again to see how the company is doing.

Infosys is an Indian company that trades on Nasdaq. The businesses the company is into is noted below from its web site.

Infosys Technologies Ltd. (NASDAQ: INFY) provides consulting and IT services to clients globally - as partners to conceptualize and realize technology driven business transformation initiatives. With over 72,000 employees worldwide, we use a low-risk Global Delivery Model (GDM) to accelerate schedules with a high degree of time and cost predictability.

As one of the pioneers in strategic offshore outsourcing of software services, Infosys has leveraged the global trend of offshore outsourcing. Even as many software outsourcing companies were blamed for diverting global jobs to cheaper offshore outsourcing destinations like India and China, Infosys was recently applauded by Wired magazine for its unique offshore outsourcing strategy — it singled out Infosys for turning the outsourcing myth around and bringing jobs back to the US.

Infosys provides end-to-end business solutions that leverage technology. We provide solutions for a dynamic environment where business and technology strategies converge. Our approach focuses on new ways of business combining IT innovation and adoption while also leveraging an organization's current IT assets. We work with large global corporations and new generation technology companies - to build new products or services and to implement prudent business and technology strategies in today's dynamic digital environment.

First, let us look at the financials. For FY07, revenues increased by 44% and profits increased by 53%. For FY08, the company expects revenues to grow by about 30% compared to FY07. Profits will probably grow at a faster pace of about 40%.

The main concern with the outlook is the increased cost of hiring and retaining employees. Infosys pays about $7000 per entry level employee in India and this price is expected to go up by about 15% on the average in the next two years. The company is also increasing the salary of overseas employees by about 5-6% this year compared to about 3% last year. In addition to this, the company is also getting squeezed by the sudden appreciation in the Indian currency of about 10% in the last month and half. Hopefully the company has hedging operations - otherwise this is a double whammy of higher salaries causing 25% increase in costs.

In the conference call, the company talked about some of these challenges. Previously, the company only recruited engineering graduates - now it recruits 10% of its work force from non science and engineering fields. One can see this percentage going up as there is more demand for skilled labor.

Infosys is a well run Indian company - probably the best of the outsourcing companies by far. The management is well known for adding share holder value and for ethical behavior. While the stock is not cheap - given its growth rate, this is a good buy during market dips. It is already the top Indian company in all the emerging market funds that have exposure to India.

Saturday, May 05, 2007

Value or Growth?

We looked at different ETFs to invest in December 2006 starting with this article. Let us revisit the large value vs growth segments to see how things are faring in 2007.

We looked at the large cap segment in December 2006 and analyzed a couple of ETFs. In this segment, we will look at large cap segment again and compare a few ETFs available in this space.

From vanguard, we have VTV for large value, VV for SP500 index and VUG for large cap growth.

From iShares, we have IVE for large value, IVV for SP500 index and IVW for large growth.

Comparing the Vanguard ETFs, the value fund VTV has done better than both SP500 and the growth funds. A chart showing the relative performances can be found here.

Comparing iShares ETFs, the value and SP500 index have done better than the growth segment which includes technology stars like Microsoft and Google. A chart that shows the differences is noted along with.

In 2006, value segment far outperformed both the growth and SP500 indices. Although the outperformance isnt as obvious in 2007, let us look at the P/E ratios where available to compare the funds.

VUG has a P/E ratio of 21.1 and P/B ratio of about 3.9. VV has P/E ratio of 16.9 and P/B ratio of 2.8. VTV has a P/E ratio of 14.2 and a P/B ratio of 2.2. These numbers were updated as of 3/30/2007.

From iShares, IVE has a P/E of 18.84 and a P/B of about 3.01. IVW has a P/E of 21.4 and a P/B of about 4.93. IVV has a P/E of 20 and P/B of 3.93. These numbers were updated as of 3/30/2007.

Comparatively, value funds carry less risk because of the lower P/E numbers. One thing to note though is that the value fund is dominated by oil and gas companies who have done relatively well thus far into the year. The growth funds haven't done as well as SP500 or the value funds historically. This year the earnings for the technology companies was expected to accelerate so it will be interesting to see how the rest of the year plays out. Value is definitely the defensive play and growth is more of a speculative play for 2007.

Friday, May 04, 2007

Berkshire Q1 Earning Release

In this blog, we have analyzed Berkshire quite a few times, especially as a stock that has been undervalued and as a good buy. Now, that the Berkshire faithful are getting ready to celebrate another annual meeting at the woodstock of capitalism in Omaha, Nebraska, the Q1 results are out. Let us go through some of the numbers.

Berkshire is a conglomerate with many old economy industries varying from candies to carpets and paint. It also does a significant portion of its business in insurance. Berkshire is run by the iconic figures Warren Buffett and his pal Charlie Munger.

Let us briefly look at the earnings in Q1. The total income after taxes in Q1 was 2.595 billion. This compares to earnings of 2.313 billion in 2006. The year over year increase is 12.19%. In the quarter, the cash flows from operating activities was 4.625 billion dollars compared to 2.359 billion dollars in 2006. 5.3 billion dollars worth of equity securities were purchased in the quarter. Despite the heavy buying, total cash on the balance sheet increased by 1.5 billion dollars.

The Equitas deal also closed in the quarter which added 7+ billion dollars of float to the balance sheet. Berkshire provides an additional 5 billion dollars of coverage expected to be paid out in the course of next forty years. The name of the game here is to make money on the float before the time comes to pay out. The pay out period is expected to be upto 40 years. The company also boosted the loss reserves to conservatively account for the deal.

In Q1, the revenues from operating businesses increased by 47% compared to Q1 of 2006. The earnings from operating businesses increased by 25% in one year. The increase in profits by operating subs with old line businesses would put the dot coms and internet companies to shame.

Given the rise in SP500 since April ( after the quarter close ) of about 5%, one can also expect Berkshire's equity position to also have improved in the same period by a similar or higher percentage. The book value for Berkshire is about 110 billion dollars at the end of Q1 and the overall market cap of the company is only 165 billion dollars. While Berkshire's value has increased, its stock price has dropped in the year. One can expect the stock price to rally at some point in the year.

My estimate of Berkshire's intrinsic value is 139,000 dollars/class A share. The stock is selling at a discount of 27% to its intrinsic value and looks like a good buy at current prices.