Stocks Ben Graham Might Buy If He Were Alive Now

Via John Dorfman in Bloomberg:

Each year from 2001 through 2006 I wrote a column on stocks I believed Graham would have liked were he still alive. This year I revive the tradition.

I have designed a few criteria that I believe reflect the spirit, and to some extent the letter, of the maestro’s methods.

Channeling Graham

What I call Graham stocks have a share price that’s less than book value (corporate net worth) and less than 12 times earnings, as well as debt less than 50 percent of stockholders’ equity.

Graham’s own metrics were vastly more complex and numerous, and he allowed room for judgment. Also, because he did much of his investing in the 1930s and 1940s, Graham was able to find some bargains the likes of which do not exist today.

Nonetheless, I think Graham would find some stocks to like if he were an active investor now.

One example is Tutor Perini Corp., a general contractor that specializes in large construction projects. It is based in Sylmar, California.

I like Tutor Perini’s ability to tackle big and diverse projects. It has built hotels and convention centers, airport runways, solar plants, the police headquarters building in Los Angeles. The ability to take on difficult projects often confers some pricing power.

Read the full article here

Do Hedge Fund Managers Have Stock Picking Skills?

Via SSRN (paper by Wesley R Gray):

I study novel data from a confidential website where a select group of fundamentals-based hedge fund managers privately share investment ideas. These value investors are not easily defined: they exploit traditional tangible asset valuation discrepancies such as buying high book-to-market stocks, but spend more time analyzing intrinsic value, growth measures, and special situation investments. Evidence suggests that the managers’ long recommendations earn economic and statistically significant long-term abnormal returns. Oddly enough, these managers share their profitable ideas with other skilled investors. This evidence is puzzling in a world where there is an efficient market for fund managers and asset prices.

Read the paper here

Nation Currently Experiencing Both Inflation AND Deflation

Here are some words of insight from Jeffrey Saut, who writes the Investment Strategy letter for Raymond James Financial:

In last week’s letter we suggested that the nation currently is experiencing both inflation AND deflation. Consider this, it appears that the country’s top quintile of wage-earners (the folks with the most assets) are experiencing deflation as their house prices have collapsed, their 401(k)s are substantially below where they were in October 2007, their bonuses have been “whacked,” and the list goes on. Meanwhile, the lower income households are experiencing inflation with their healthcare costs rising, food prices escalating, insurance premiums climbing, etc. In such an environment it is logical that Treasury Bonds would rally in the short-run. Longer term, however, we continue think inflation will win out over deflation, which is why we agree 30-year Treasury Bonds are a “bad bet.”

On the dollar, after being bearish from 4Q01 until 4Q07, we turned neutral to moderately bullish on the “buck” in November 2007. At first that “call” was wrong, then it was right, yet all said the Dollar Index is no lower, or higher, now than it was in November 2007. Hereto, over the longer term we think the greenback is likely headed lower. But as the economy recovers, so too should the dollar. Accordingly, in the short term, we remain neutral to slightly positive on the U.S. dollar.

Speaking to the stock market, we have, and continue, to argue that at the March 2009 “lows” stocks were three to four standard deviations below “norms;” and that all we have done is rally back to normalized valuations. Given the severity of the 17-month decline (October 2007 to March 2009), there is no reason why the equity markets can’t rally to one, or two, standard deviations above “norms.” Moreover, stocks don’t necessarily need outsized economic growth to rally. All they need is growth. As our friends at the consummate GaveKal organization, whose service we highly recommend, note:

“The reality is that equity markets do not need high growth to thrive – they just need some growth. In fact, one could argue that a low-growth environment is preferable to one of stellar growth, since low growth is often accompanied by low interest rates and plentiful liquidity. Today, this is the environment which we will likely face for years to come. The latest Beige Book does a good job of summing up this story: the quarterly Fed survey reported that wage and price pressures were non-existent, that retail spending is lackluster in most areas, and that manufacturing activity has moderately improved. This will likely be the story for the foreseeable future. Consumers and banks will remain cautious, but interest rates will stay low, allowing for a gradual recovery in output. This is an ideal environment for corporate profit growth and also helps to explain why equities keep creeping higher.”

And, last week stocks continued to “creep higher” with all of the indices we follow trading higher for the holiday-shortened week. That action left most of those indices at new rally reaction “highs,” putting even more pressure on underinvested money managers. A case in point was an article from a few weeks ago whereby a money manager disclosed that he still has 80% of his $850 million under management in cash. I read the article with both amazement and amusement. Amazement because I was surprised that any portfolio manager would admit he had that huge of a hoard of cash after more than a 50% rally from the March lows. Amusement because he probably allowed himself to be quoted believing that the September 1st Dow Downer, of 185 points, was the beginning of the long anticipated correction.

Mr. Saut’s recommendation:

Our answer to this dilemma, in the current environment, is to scale “buy” into large-cap, dividend-paying, stocks. Manifestly, stock returns are a function of corporate earnings, the price-to-earnings ratio investors are willing to pay for said earnings, and the dividends they receive over time from those stock investments. That’s all you really need to know about the stock market! To reiterate, “If, however, you don’t embrace our near-term caution, we suggest doing what the underinvested money managers are being forced to do – buy lower volatility stocks with dividends.

Arthur Zeikel “On Thinking”

These are two great quotes from Arthur Zeikel. Read these and truly think about them.

“Thinking, good thinking that is, is a lonely sport.  This may explain why so many of us do it so poorly.  Good thinking is also an inefficient process.  It takes a lot of thinking to come up with those few good, new ideas that are clearly worth thinking about – ideas that can be exploited in the marketplace.  Particularly, as Seldon so accurately noted in 1912, ‘Most coming events cast their shadow before, and it is on that intelligent speculation must be based.’

At the heart of the thinking process is the need to anticipate change correctly, and on a timely basis.  Investment thinkers must develop for themselves a model, or systematic perception, as to how markets really work.  Those believing strongly in the efficient market hypothesis are, of course, relieved of such undertakings.  However, as is becoming increasingly clear, portfolio theory does not fully explain security price movements, either here or abroad, or tell us too much about how to achieve better-than-average performance.  Most practitioners of active money management need to improve their thinking procedures.”

“The consensus view is usually wrong because it’s based on a more-or-less simple extrapolation of past trends and events and does not effectively incorporate change into expectations.  Theory tells us that value-changing events occur in a random fashion and cannot be predicted with any accuracy or consistency.  This is not so.  There is a flow to the news because there is a flow to the events that make the news.  Stock prices begin reflecting new developments before it is generally recognized that these developments have taken place.”

Fundamental Value Investors: Characteristics and Performance

I came across this interesting working paper from the SSRN. From the first paragraph:

This paper adds to the research on the issue of market efficiency. Rather than developing a quantitative trading rule that may or may not be implementable in the real world, or examining the returns of a broad cross-section of mutual fund managers who presumably have no skill on average, we analyze 2912 hedge fund manager investment recommendations posted to the invite-only internet community, Valueinvestorsclub.com from January 2000 to June 2008. The professionals involved with this exclusive site are paid for performance and must discover inefficiently priced assets and determine if the costs of pursuing them (noise-trader risk, liquidity risk, distress risk, macro risks, trading costs, and so forth) are worth the benefits. We answer a simple question: do the value investors in our sample have stock picking skills?

Read the paper here