It was 11:31 on October 20th and I was blown away. Yesterday we were down over 200 points in the DOW and the Bears jump out of every corner they've been hiding in and tell us that the world is going to burn to the ground.
The same news stories get trotted out over & over in an attempt to level the banks to the ground. TV analysts, uninformed news casters, and nay-sayers blast negative press via every avenue they can think of to get the market to fall off a cliff.
At the end of Oct. 19th, the DOW finished down 166 or so. The day looked rough, but the market closed up 60 points above its lows with earnings from the likes of Wells Fargo, Westerm Digital, CREE, and others due out after the bell or the next morning.
All that really matters in the price of a stock (eventually) is the earnings. It's a simple math problem. Figure out what the "market" will pay for a particular stock, multiply by the full year EPS and anyone with a calculator can figure out a price target for a stock.
While there are an endless number of macro news stories, rumors, economic readings that can and will move a stock...they are ultimately irrelevant. In fact, almost (and I stress almost as the financial sector, especially the banks, have been obliterated thanks to endless negative press) everything BUT earnings is irrelevant. As a trader, or rather, a value investor who is willing to participate in the markets intraday and refuses to accept a terrible price for what I want to own; the wild swings (especially at the open) give me a chance to buy good merchandise (stocks & options) at great prices...if you're watching.
So, while I think that the wild oscillations of the market are quite overblown over the short term...I would never wish them away for anything.
Take NetFlix for instance. The stock ran up to $127, only to pull back to $98 because earnings were "bad". Well, I was on that conference call when they reported in July and we doubled down on our short put spread trade...should have added calls to it, and the stock rallied from $98 to the current level of $171. The endless negative stories on the stock were vastly overblown & the stock is up near 100% from that recent low. If you didn't do your homework on the stock, you probably were one of the sellers when the stock broke $100 to the downside & you are still kicking yourself.
How about Salesforce.com. The company reported and the stock went from $123.77 to $97.92. Again, the cloud had burst, all these stocks were going to zero, and you were supposed to hit the sell button (according to the "talking heads"). The stock is now back up above $110 and you could be up over 10% from those recent lows...or at least sold 85/75 put spreads when the stock broke $100 to take advantage of the elevated volatility in the stock.
I can go on. The Wells Fargo Conference Call was terrific because it told us that the formula is really 8 to 1; meaning that for every $8 Billion in mortgages someone tries to make a bank take back, only $1 Billion in actual real losses results. This told you that Bank of America, Citigroup, and all sorts of other banks had a MUCH lower liability than the news media has stated.
Bottom line, there is no substitute for doing the homework. Knowing your stocks, listening to the conference calls, and watching the markets often means that you are much less likely to fall prey to the endless negative news that executive producers believes is why people tune in to watch one trainwreck after another.
If you want to watch endless trainwrecks, watch the first few weeks of American Idol or go pick up an issue of US Weekly. There should be plenty of "news" that no one needs to know that "everyone" will be talking about the next day at work. But as for stocks, ultimately, the only thing that matters is what they earn & what multiple the market will let them trade with.
Anyone remember Goldman Sachs at $133 when the Government was going to erase them? Probably not because you never went long down there and missed it. Well, consider Bank of America your 2nd shot at glory...but keep in mind, time-frame is everything ('cause this story wont turn around overnight). The book value of the stock is closer to $13 and they have about $70/share of cash on hand and do business with about 50% of America's Households. I'm not saying that I'll be right tomorrow, or next week. But eventually, earnings are all that matter and BAC will have them.
Tuesday, October 26, 2010
Wednesday, October 6, 2010
How the Apple iPhone brought Verizon & AT&T to their knees
Who is happy about Verizon FINALLY getting an iPhone? The answer may just surprise you...
Years ago, Apple approached Verizon about this crazy idea that they use the success of the iPod to launch their own phone. Apple wanted Verizon to carry it exclusively on their network and they said: "Sounds good...so lets see it, first." Apple told Verizon that unless they had an exclusive deal with a carrier...they weren't going to make the phone in the first place...so no upfront view of the phone...just had to trust that it would be appleriffic.
Verizon said no, they moved on to AT&T...and clearly the answer was a yes. Here we are, 4 generations into the iPhone and it has been RUMORED that Verizon would get an iPhone for YEARS now. In fact, ever since the iPhone came to AT&T it has been rumored that Verizon would get one. Today, we finally found out that Verizon is finally getting their own iPhone.
So, who is excited about this new release? It's not Verizon, it's not AT&T, and it's sure as heck not Research in Motion (the maker of the Blackberry). It's Apple. They really don't care who carries the phone...now that it's the most amazing phone in the universe. I don't think they will ever give back their choke hold on the mobile phone industry. I wouldn't be surprised if they made an iPhone nano to compete in the dumb phone market...just to steal the lunch money of the "other guys".
Ever since Apple has came into it's own in 2001 when it destroyed the diskman (remember those from Sony...wait...if you're under 20 years old you've never heard of Sony)...Apple has been destroying the market cap of companies the world over with new product introductions. You don't believe me? The market cap of Microsoft (MSFT) in June of 2001 was $392 Billion...now it's $213 Billion (down 45% since the iPod release). Let look at Dell. It was $70 Billion in 2001...enter the new iMAC...and now it's worth $25.9 Billion (down 63% from 2001).
Research in Motion, the maker of the Blackberry was at $26 Billion in market cap when the iPhone came out in January of 2007. It grew to $78 Billion in May 2008 only to see Apple release the iPhone 3G, 3GS, and iPhone 4. Their market share is now back down to $26 Million and slipping (a loss of 67%). Finally, Sony...remember, the maker of the diskman and the walkman that we all used before the iPod. They were $68 Million in market cap...now down to $31.65 million (a decline of 53%).
Apple destroys market cap wherever it goes. You cannot compete. Their products are better, faster, crash less, are cooler...and are flat out easier to use thanks to the MAC OS.
So, what happens to Verizon when they get the iPhone...Millions of people will dump their "I need a college degree Blackberry to use 25% of what this phone can do" Blackberry Storm, Torch, or whatever the heck they have and get an iPhone. People who left VZ to begin with so they could have an iPhone will flood back. In about 6 months the Verizon network will be as bogged down as AT&T. But I thought Verizon's network was the best? You put that many data hogs on the same network...you're going to weigh down the network. iPhone users are going to find out that it doesn't matter who's network you're on. Millions of people all streaming data to their iPhones constantly will drag any network down.
When Verizon can't draw new iPhone users to their "network"...guess what's the only tool left for Verizon and AT&T to fight each other with? You guessed it...price. I don't want to be around when they start a price war...well...not as a shareholder that is. It will be a race to the bottom like you have never seen before and shareholders of both companies will be in the crossfire. As Jim Cramer always says: "Competition is the enemy of profits".
But, really...all of this is old news if you saw our Lunch @ the Market from 09/02/2010. AT&T sold off on the news today 2.5%...can't say it'll end there so be careful. In case you missed Lunch @ the Market (L@tM) from September, here you go:
So, today Apple, the toast is to you! Good luck to Verizon and AT&T in their upcoming price war...may the lowest price...I mean network...win. :-)
Years ago, Apple approached Verizon about this crazy idea that they use the success of the iPod to launch their own phone. Apple wanted Verizon to carry it exclusively on their network and they said: "Sounds good...so lets see it, first." Apple told Verizon that unless they had an exclusive deal with a carrier...they weren't going to make the phone in the first place...so no upfront view of the phone...just had to trust that it would be appleriffic.
Verizon said no, they moved on to AT&T...and clearly the answer was a yes. Here we are, 4 generations into the iPhone and it has been RUMORED that Verizon would get an iPhone for YEARS now. In fact, ever since the iPhone came to AT&T it has been rumored that Verizon would get one. Today, we finally found out that Verizon is finally getting their own iPhone.
So, who is excited about this new release? It's not Verizon, it's not AT&T, and it's sure as heck not Research in Motion (the maker of the Blackberry). It's Apple. They really don't care who carries the phone...now that it's the most amazing phone in the universe. I don't think they will ever give back their choke hold on the mobile phone industry. I wouldn't be surprised if they made an iPhone nano to compete in the dumb phone market...just to steal the lunch money of the "other guys".
Ever since Apple has came into it's own in 2001 when it destroyed the diskman (remember those from Sony...wait...if you're under 20 years old you've never heard of Sony)...Apple has been destroying the market cap of companies the world over with new product introductions. You don't believe me? The market cap of Microsoft (MSFT) in June of 2001 was $392 Billion...now it's $213 Billion (down 45% since the iPod release). Let look at Dell. It was $70 Billion in 2001...enter the new iMAC...and now it's worth $25.9 Billion (down 63% from 2001).
Research in Motion, the maker of the Blackberry was at $26 Billion in market cap when the iPhone came out in January of 2007. It grew to $78 Billion in May 2008 only to see Apple release the iPhone 3G, 3GS, and iPhone 4. Their market share is now back down to $26 Million and slipping (a loss of 67%). Finally, Sony...remember, the maker of the diskman and the walkman that we all used before the iPod. They were $68 Million in market cap...now down to $31.65 million (a decline of 53%).
Apple destroys market cap wherever it goes. You cannot compete. Their products are better, faster, crash less, are cooler...and are flat out easier to use thanks to the MAC OS.
So, what happens to Verizon when they get the iPhone...Millions of people will dump their "I need a college degree Blackberry to use 25% of what this phone can do" Blackberry Storm, Torch, or whatever the heck they have and get an iPhone. People who left VZ to begin with so they could have an iPhone will flood back. In about 6 months the Verizon network will be as bogged down as AT&T. But I thought Verizon's network was the best? You put that many data hogs on the same network...you're going to weigh down the network. iPhone users are going to find out that it doesn't matter who's network you're on. Millions of people all streaming data to their iPhones constantly will drag any network down.
When Verizon can't draw new iPhone users to their "network"...guess what's the only tool left for Verizon and AT&T to fight each other with? You guessed it...price. I don't want to be around when they start a price war...well...not as a shareholder that is. It will be a race to the bottom like you have never seen before and shareholders of both companies will be in the crossfire. As Jim Cramer always says: "Competition is the enemy of profits".
But, really...all of this is old news if you saw our Lunch @ the Market from 09/02/2010. AT&T sold off on the news today 2.5%...can't say it'll end there so be careful. In case you missed Lunch @ the Market (L@tM) from September, here you go:
So, today Apple, the toast is to you! Good luck to Verizon and AT&T in their upcoming price war...may the lowest price...I mean network...win. :-)
Buybacks DO matter...eventually.
It is a fact, companies often do an amazingly terrible time buying back their own stock. I mean really, shouldn't THEY KNOW when their stock is cheap and when it's expensive?
Did you know Cisco (CSCO)bought back $3.5 BILLION in stock in the January 2008 quarter? Seriously...the stock was at $24...which seems low since it was at $33.13 on 09/28/2007. But when the stock fell to $14.57 on 02/27/2009...how much stock did they buy back in that quarter? $384 Million. Is it just us or is that bad math? It seems like after buying $3.8 Billion $10 higher; they'd want to average down on their cost basis.
Well, it seems as if Cisco (and the rest of the market) are up to their old tricks of buying back large amounts of stock. In the July, 2010 quarter, Cisco managed to buy back $1.93 Billion of stock (at least they finally managed to grab it for under $24). The stock fell off a cliff when they reported earnings, under $20. Hopefully the person or firm in charge of their buybacks had his/her finger on the trigger to Buy! Buy! Buy! When it fell below $20.
JPMorgan Chase went nuts, purchasing back $18.93 BILLION in stock in the June 2009 quarter after barely registering any purchases in December of 2004 and September of 2006. If there is one firm that has done a terrific job buying back stock...it's certainly Jamie Dimon (their CEO) and his band of merry executives. The stock fell below $40...and without being able to pay a dividend, the used the capital they took in to buy back stock to return capital to shareholders.
IBM came in with $3.16 Billion a couple quarters in a row this year. Even Microsoft got into the act with $2.93 Billion in stock repurchases.
Why do you care about all these companies spending billions of dollars on their own stock? Well...the stock market works on supply and demand just like everything else in the free market. When people want the merchandise...if there is less of it...it will demand a higher price. See where I'm going with this? That's right: If companies continue to buy back their stocks & the Feds engineer inflation (which means asset prices will become inflated...they'll go up), then that means that there will be more demand for stocks. This becomes especially true if companies continue to report great earnings and if we finally see the average working American begin to fund their 401(k) again because the markets have gone up so much and they want to be a part of it.
Companies have taken so much supply out of the market that eventually, when demand returns...all these stock buybacks really will matter. That time is coming. It may even be close. But so far...it hasn't happened yet.
Below is a link to YCharts.com for you to take a look at the Stock Buyback Metrics of different companies. This site works just like finance.yahoo.com or CNBC.com except it gives you charts of the fundamental stock statistics over time like P/E, Revenue, EPS, Cash on Hand, and yes, even Stock Buybacks.
Cisco Systems (CSCO) Stock Quote and Charts
Did you know Cisco (CSCO)bought back $3.5 BILLION in stock in the January 2008 quarter? Seriously...the stock was at $24...which seems low since it was at $33.13 on 09/28/2007. But when the stock fell to $14.57 on 02/27/2009...how much stock did they buy back in that quarter? $384 Million. Is it just us or is that bad math? It seems like after buying $3.8 Billion $10 higher; they'd want to average down on their cost basis.
Well, it seems as if Cisco (and the rest of the market) are up to their old tricks of buying back large amounts of stock. In the July, 2010 quarter, Cisco managed to buy back $1.93 Billion of stock (at least they finally managed to grab it for under $24). The stock fell off a cliff when they reported earnings, under $20. Hopefully the person or firm in charge of their buybacks had his/her finger on the trigger to Buy! Buy! Buy! When it fell below $20.
JPMorgan Chase went nuts, purchasing back $18.93 BILLION in stock in the June 2009 quarter after barely registering any purchases in December of 2004 and September of 2006. If there is one firm that has done a terrific job buying back stock...it's certainly Jamie Dimon (their CEO) and his band of merry executives. The stock fell below $40...and without being able to pay a dividend, the used the capital they took in to buy back stock to return capital to shareholders.
IBM came in with $3.16 Billion a couple quarters in a row this year. Even Microsoft got into the act with $2.93 Billion in stock repurchases.
Why do you care about all these companies spending billions of dollars on their own stock? Well...the stock market works on supply and demand just like everything else in the free market. When people want the merchandise...if there is less of it...it will demand a higher price. See where I'm going with this? That's right: If companies continue to buy back their stocks & the Feds engineer inflation (which means asset prices will become inflated...they'll go up), then that means that there will be more demand for stocks. This becomes especially true if companies continue to report great earnings and if we finally see the average working American begin to fund their 401(k) again because the markets have gone up so much and they want to be a part of it.
Companies have taken so much supply out of the market that eventually, when demand returns...all these stock buybacks really will matter. That time is coming. It may even be close. But so far...it hasn't happened yet.
Below is a link to YCharts.com for you to take a look at the Stock Buyback Metrics of different companies. This site works just like finance.yahoo.com or CNBC.com except it gives you charts of the fundamental stock statistics over time like P/E, Revenue, EPS, Cash on Hand, and yes, even Stock Buybacks.
Cisco Systems (CSCO) Stock Quote and Charts
Thursday, August 12, 2010
Gold's shine growing dim...
There is so much talk about gold. A few months ago, the started putting in Gold ATM's in the Middle East. If that isn't the sign of a top...I don't know what is. Millions of Americans...and probably people from all over the world are long gold now, and it has to be one of the most crowded trades in the universe.
A crowded trade is when so many people are in it, that the last one out of it should expect to see losses well over 20%, maybe even over 50% before the selling is done. Let me just mention a couple things that worry me about gold.
1) Everyone owns it, and the way investments work...at least when you make money on them, is to sell it to someone else for more than you bought it. If everyone owns gold...who is going to buy yours?
2) Gold is rarely used anymore outside of jewelry. Gold used to be in dental applications...but it's just too soft (and too expensive) to be used regularly for many industrial uses. Metals like aluminum, copper, steel, and even silver, platinum, and palladium all have industrial uses (which provide a level of natural or healthy demand).
3) The demand for gold, as we see it, is largely investor driven. Every investment falls out of favor eventually...why would this be the ONE that didn't?
4) Most people own gold through the GLD or other ETF that tracks gold. Those ETFs actually have to hold the physical gold in order to track the index as a percentage of assets under management. Who in the HECK is going to buy all that gold from them when people hit the sell button? What will that do to the price?
5) Gold is HEAVILY correlated to the S&P...don't believe me, check out the video we did a few months back and see the chart yourself:
6) I spoke with Guy Adami on America's Favorite Traders about Gold and his comments were disturbing. This is a man who was the head gold trader at TWO FIRMS, who has met the biggest gold traders out there, and who "wouldn't own gold if someone put a gun to his head." For more details you can listen to the full interview here:
http://www.magnumopusfinancial.com/demystify/2010/adami.php
I think Jim Cramer is right, the world will run out of gold to pull out of the ground, and the places to get it will become more and more the most dangerous places left on the earth to go mining for them between the government risk and military risk. So, if that's the case...why not own a gold miner in that instance, especially a foreign one that may be able to avoid some of the "anti-American" sentiment that is found in places that are a little scarier in the world.
Compania de Minas Buenaventura (BVN) is a Peruvian Gold Miner with a forward P/E of 11.82, a PEG of 1.65, Cash of $444 Million with only $27 Million in debt, and pays a dividend of 1.6%. I get why people WANT to own gold...we just think you should strongly consider not doing it any way.
If the world's economy collapses, you're kidding yourself if you think I'll trade you my food for your gold. You're better off stocking up on food storage and a taser to fend people off. But, until then, consider owning a gold miner instead of the GLD or the physical metal...at least until someone pulls the fire alarm and everyone presses the sell button at the same time.
A crowded trade is when so many people are in it, that the last one out of it should expect to see losses well over 20%, maybe even over 50% before the selling is done. Let me just mention a couple things that worry me about gold.
1) Everyone owns it, and the way investments work...at least when you make money on them, is to sell it to someone else for more than you bought it. If everyone owns gold...who is going to buy yours?
2) Gold is rarely used anymore outside of jewelry. Gold used to be in dental applications...but it's just too soft (and too expensive) to be used regularly for many industrial uses. Metals like aluminum, copper, steel, and even silver, platinum, and palladium all have industrial uses (which provide a level of natural or healthy demand).
3) The demand for gold, as we see it, is largely investor driven. Every investment falls out of favor eventually...why would this be the ONE that didn't?
4) Most people own gold through the GLD or other ETF that tracks gold. Those ETFs actually have to hold the physical gold in order to track the index as a percentage of assets under management. Who in the HECK is going to buy all that gold from them when people hit the sell button? What will that do to the price?
5) Gold is HEAVILY correlated to the S&P...don't believe me, check out the video we did a few months back and see the chart yourself:
6) I spoke with Guy Adami on America's Favorite Traders about Gold and his comments were disturbing. This is a man who was the head gold trader at TWO FIRMS, who has met the biggest gold traders out there, and who "wouldn't own gold if someone put a gun to his head." For more details you can listen to the full interview here:
http://www.magnumopusfinancial.com/demystify/2010/adami.php
I think Jim Cramer is right, the world will run out of gold to pull out of the ground, and the places to get it will become more and more the most dangerous places left on the earth to go mining for them between the government risk and military risk. So, if that's the case...why not own a gold miner in that instance, especially a foreign one that may be able to avoid some of the "anti-American" sentiment that is found in places that are a little scarier in the world.
Compania de Minas Buenaventura (BVN) is a Peruvian Gold Miner with a forward P/E of 11.82, a PEG of 1.65, Cash of $444 Million with only $27 Million in debt, and pays a dividend of 1.6%. I get why people WANT to own gold...we just think you should strongly consider not doing it any way.
If the world's economy collapses, you're kidding yourself if you think I'll trade you my food for your gold. You're better off stocking up on food storage and a taser to fend people off. But, until then, consider owning a gold miner instead of the GLD or the physical metal...at least until someone pulls the fire alarm and everyone presses the sell button at the same time.
Monday, July 12, 2010
I'm Cheap
By now, if you've seen any of our comments on Twitter, you probably know that we're cheap. Paying up for anything, a car, a home, a movie, and especially stocks/bonds is against our personal religion and something we try to avoid at all costs. As investors, everyone should avoid buying expensive stocks/bonds.
Specifically regarding bonds, we really only like to pay below par for a bond, being that the bond will be redeemed for par...we just find it too difficult to figure out when you get out of a bond if you already bought it for more than par. Obviously, if you hold a bond that you bought for more than par to maturity...you're going to lose money when the bond principle is paid out since all bonds end up at par by maturity. So, a quick lesson on bonds for you individual investors out there is to try and only by bonds when you can get them below par...or you may fall into a yield trap (which you can do when you buy them too far below par as well). We'll save the bond less for another day.
Today, since we were asked about valuation, and how we use it, we're going to talk about stocks. P/E and recently PEG, are the two things we use before we even look at a stock further. Often, if a stock has a P/E over 18...we just don't even take a look at it. BUT, there are a couple metrics that we use that will let us buy a stock with a P/E north of 18 and stick to our discipline.
One of the things we'll use to buy a stock with a P/E north of 18 is forward P/E. So, trailing P/E is valuation based on earnings already in the book...so nothing really to figure out there because everything you're looking at (P, E, and M (the multiple)) is real time and you can trust it. Forward P/E, that's the P/E based on either guidance from the company OR from analysts when the company doesn't give forward guidance. When we see a stock with a current P/E that's HUGE, but a forward P/E that's in our range...we get very interested. It's a simple math problem from there. For more on P/E, check out the video from our YouTube Channel on how to do the math (it's easier to watch then to write it out).
EMC is a perfect example of a stock that has a P/E of 32.04, but a forward P/E of 14.2. That's EXACTLY what we want to see. If those forward earnings come to fruition, then we could see the stock trade BACK UP to something close to 32 (since it trades there now and people still own it). So we'll say, forward earnings are $1.36 ($19.45 current price divided by 14.2 forward P/E (19.45/14.2) = 1.36 in earnings). Then, we apply a discounted multiple back on the earnings. If it trades at 32 now...what if it trades with a P/E of 20, you get a stock price of $27.39. That's about $8 higher than the stock trades at right now...we double check the PEG (that's P/E dividend by long term growth rate) and we see that EMC trades with a 0.99 PEG...so the future earnings SHOULD be higher than current earnings and the stock is actually "cheap" and can be bought here safely.
PEG is like taking the temperature for us. A stock may look healthy based on the P/E, but may actually be overheated if the PEG is too high. A PEG over 2 usually signals to us that the growth really isn't there (or there are not enough analysts out there that think it's there and so no one's model includes high growth in it) and we have to believe everyone else that values the company is wrong and we're right. We usually don't like to make that bet, so we avoid stocks with a PEG over 2.
Walking away from stocks with high P/E multiples and a PEG over 2 means that we'll often miss some of the market's hottest stocks. That's OK, those that follow us have to know that we're value managers, not growth managers over here. Every now and then we get up the guts to buy something like VMWare (which we caught for 22 points) or Amazon (which we flagged as a buy at $70/share)...but then we get off before most people do when we catch a move like that because we're value investors over here...not growth. Something like a SalesForce.com is a PERFECT example of something that we'd normally stay away from because P/E is 140, forward P/E is 60 and the PEG is 2.83. BUT, if we believe that analysts have estimates that are too low, and that the "G" in PEG could be higher, or that E will come in better than expected...that will bring down P/E (momentarily) to something more reasonable. If you believe in a strong, secular trend, like cloud computing, then owning SalesForce.com (CRM) might not be as reckless as valuation indicates (but you MUST be right about the growth and earnings). If you're wrong, and you own a stock like Google, when they pulled out of China, the decline will be breathtaking ($150 was erased off Google's stock price in a matter of weeks). Those kinds of losses can be devastating.
What is one instance when we will ignore a high PEG? When we don't need/want growth. Take for instance, an MLP (Master Limited Partnership) that we really don't care if they grow that much...we just want the dividend paid consistently. We're not that concerned about the PEG as these companies rarely grow at the rate of an Apple, Google, Amazon, VMWare, SalesForce.com, etc. Take one of our favorite, Calumet Specialty Products Partners (CLMT), it trades with a forward P/E of 11.42 (that's great for us), but the PEG is 9.41. That's a terrible PEG, but we don't expect big growth out of a company like CLMT. Look at KMP, a P/E of 34.41 and a PEG of 11.75. That is TERRIBLE if you compare it to other companies...but we own KMP for the dividend (although, KMP is now getting expensive compared to other MLPs and you may want to consider swapping out of KMP and into another MLP before everyone else figures that out as well and does it before you do, leaving you with a lower stock price). The same is true of Kilroy Realty...and many other big dividend paying stocks that don't have big growth...you can ignore PEG (except you probably want to use it to compare it to other stocks in the same category).
There are reasons to use P/E and PEG, and some reasons not to (in certain circumstances)...but, as a general rule for us...cheaper is always better.
Specifically regarding bonds, we really only like to pay below par for a bond, being that the bond will be redeemed for par...we just find it too difficult to figure out when you get out of a bond if you already bought it for more than par. Obviously, if you hold a bond that you bought for more than par to maturity...you're going to lose money when the bond principle is paid out since all bonds end up at par by maturity. So, a quick lesson on bonds for you individual investors out there is to try and only by bonds when you can get them below par...or you may fall into a yield trap (which you can do when you buy them too far below par as well). We'll save the bond less for another day.
Today, since we were asked about valuation, and how we use it, we're going to talk about stocks. P/E and recently PEG, are the two things we use before we even look at a stock further. Often, if a stock has a P/E over 18...we just don't even take a look at it. BUT, there are a couple metrics that we use that will let us buy a stock with a P/E north of 18 and stick to our discipline.
One of the things we'll use to buy a stock with a P/E north of 18 is forward P/E. So, trailing P/E is valuation based on earnings already in the book...so nothing really to figure out there because everything you're looking at (P, E, and M (the multiple)) is real time and you can trust it. Forward P/E, that's the P/E based on either guidance from the company OR from analysts when the company doesn't give forward guidance. When we see a stock with a current P/E that's HUGE, but a forward P/E that's in our range...we get very interested. It's a simple math problem from there. For more on P/E, check out the video from our YouTube Channel on how to do the math (it's easier to watch then to write it out).
EMC is a perfect example of a stock that has a P/E of 32.04, but a forward P/E of 14.2. That's EXACTLY what we want to see. If those forward earnings come to fruition, then we could see the stock trade BACK UP to something close to 32 (since it trades there now and people still own it). So we'll say, forward earnings are $1.36 ($19.45 current price divided by 14.2 forward P/E (19.45/14.2) = 1.36 in earnings). Then, we apply a discounted multiple back on the earnings. If it trades at 32 now...what if it trades with a P/E of 20, you get a stock price of $27.39. That's about $8 higher than the stock trades at right now...we double check the PEG (that's P/E dividend by long term growth rate) and we see that EMC trades with a 0.99 PEG...so the future earnings SHOULD be higher than current earnings and the stock is actually "cheap" and can be bought here safely.
PEG is like taking the temperature for us. A stock may look healthy based on the P/E, but may actually be overheated if the PEG is too high. A PEG over 2 usually signals to us that the growth really isn't there (or there are not enough analysts out there that think it's there and so no one's model includes high growth in it) and we have to believe everyone else that values the company is wrong and we're right. We usually don't like to make that bet, so we avoid stocks with a PEG over 2.
Walking away from stocks with high P/E multiples and a PEG over 2 means that we'll often miss some of the market's hottest stocks. That's OK, those that follow us have to know that we're value managers, not growth managers over here. Every now and then we get up the guts to buy something like VMWare (which we caught for 22 points) or Amazon (which we flagged as a buy at $70/share)...but then we get off before most people do when we catch a move like that because we're value investors over here...not growth. Something like a SalesForce.com is a PERFECT example of something that we'd normally stay away from because P/E is 140, forward P/E is 60 and the PEG is 2.83. BUT, if we believe that analysts have estimates that are too low, and that the "G" in PEG could be higher, or that E will come in better than expected...that will bring down P/E (momentarily) to something more reasonable. If you believe in a strong, secular trend, like cloud computing, then owning SalesForce.com (CRM) might not be as reckless as valuation indicates (but you MUST be right about the growth and earnings). If you're wrong, and you own a stock like Google, when they pulled out of China, the decline will be breathtaking ($150 was erased off Google's stock price in a matter of weeks). Those kinds of losses can be devastating.
What is one instance when we will ignore a high PEG? When we don't need/want growth. Take for instance, an MLP (Master Limited Partnership) that we really don't care if they grow that much...we just want the dividend paid consistently. We're not that concerned about the PEG as these companies rarely grow at the rate of an Apple, Google, Amazon, VMWare, SalesForce.com, etc. Take one of our favorite, Calumet Specialty Products Partners (CLMT), it trades with a forward P/E of 11.42 (that's great for us), but the PEG is 9.41. That's a terrible PEG, but we don't expect big growth out of a company like CLMT. Look at KMP, a P/E of 34.41 and a PEG of 11.75. That is TERRIBLE if you compare it to other companies...but we own KMP for the dividend (although, KMP is now getting expensive compared to other MLPs and you may want to consider swapping out of KMP and into another MLP before everyone else figures that out as well and does it before you do, leaving you with a lower stock price). The same is true of Kilroy Realty...and many other big dividend paying stocks that don't have big growth...you can ignore PEG (except you probably want to use it to compare it to other stocks in the same category).
There are reasons to use P/E and PEG, and some reasons not to (in certain circumstances)...but, as a general rule for us...cheaper is always better.
Saturday, July 10, 2010
The Blue Box
Best Buy is toast. The other week at the office, we had a conversation about Best Buy...and it's hard not to think that they're in trouble. Their most recent quarter, although not the horror show that some analysts say it was...was something to be concerned about.
Circuit City is gone, and for several quarters, it was clear Best Buy grabbed all their customers. The stock rocketed. But then, after the most recent quarter, we starting thinking about what might go wrong with Best Buy. Losing money is always the bigger risk when managing money than not making enough. People are generally happy, as long as they don't see red. Black is the new green these days.
So, after seeing the stock decline, selling the stock, then cashing out of the puts...we're left wondering what the future holds for Best Buy. Their biggest risk: pre-packaged media. That's the HUGE section of the store right in the center for movies, music, and games. That's right...going the the store and buying the ACTUAL CD or DVD will soon disappear. And with it, go great margins, revenue, and ultimately profit dollars. Granted, Best Buy announced on the call that they will be beating up GameStop and stealing their lunch money (they're going to start buying, selling, and trading of used games). This new strategy will help offset some of the revenue lost from other media sales...but it will only delay the inevitable: people shop online more an more these days. We visited the local Best Buy to see what computers they had in stock when it was time to get a new laptop at the office. It was clear that we could get far more from a NewEgg.com or a TigerDirect.com than we could by going into the store...and we're willing to bet we're not alone in what we have found.
iTunes has revolutionized content distribution along with NetFlix. If other companies don't catch up, they will be eliminated...Circuit City style. These two companies are taking a huge bite out of Best Buy's pre-packaged media sales with their direct download to consumer programs. So, what is the solution you say, for Best Buy?
Best Buy needs to buy BlockBuster Video. BLOKA.PK (because it now trades on Pink Sheets after it was delisted) is in a world of hurt. Holleywood Video has already been eliminated (Movie Gallery) and BlockBuster is next. Why? Thanks to CoinStar...the creator of the Red Box, brick and mortar movie rental places are getting burned to the ground by these little red boxes with little overhead, no healthcare costs, and loads of profits. BlockBuster has already countered with the Blue Box...but it's too little too late. The ENTIRE MARKET CAP of BlockBuster's stock is now only $36 Million. Heck, for that price Best Buy could take a stab at it and be wrong and still come out OK...but I think that they'd come out better than OK.
First of all, the color schemes are almost identical, so very little in terms of branding would need to be done. They could change the name or leave it, and I don't think people would notice.
Second, all that space they now have in their stores can be converted from pre-packaged media into a BlockBuster. They keep only the hottest selling music in stock (same thing with DVDs, which BlockBuster already sells) and then throw in the buy/sell/trade for music, movies, and games (since they're getting into the act with video games...no reason to stop there). This should be a much better use of the space in stores and they need more revenue/sq foot in the stores because media sales are down so much.
Third, BlockBuster already competes with NetFlix via it's in-the-mail-style rental package. Jumping with both feet into the content distribution for Best Buy should help margins and bring a serious competitor to NetFlix. You can easily see sales reps cross selling the down loadable content to those ready to walk out of Best Buy with a new television. Best Buy can work with the makers of the products it sells to add capability to the televisions, pick a video game partner...the sky would be endless. Deals like buy a television and get access to our downloadable content free for 3 months (after which the billing starts) would help subscriptions skyrocket for the BlockBuster division of the company who already has the service...they just need Best Buy's distribution.
Finally, having a Blue Box outside EVERY Best Buy all over the world means that they have instant revenue Red Box style. I think Blue Box even has a deal with Sheetz, the gas station extravaganza that draws all sorts of people with it's selection and variety of things inside. Adding a Blue Box to the outside of every Best Buy should ADD to the foot traffic inside the stores as some will ultimately venture into the store to shop after they grab a movie. Or, you can see them buying a new BlueRay or Home Theatre and grabbing a movie on the way out.
BlockBuster may have $1 Billion in debt...but it looks like their free cash flow is $650 Million...plenty of cash coming in to refinance the debt with the financial backing of Best Buy behind it. The issue for BLOCKA.PK is that on their own...they face extinction and they just don't have the balance sheet to make it. At 16.5 cents/share for BlockBuster we think Best Buy is missing out on a great opportunity grab a perfect, complimentary asset...at a block buster price (and it's a move that might just save both companies).
Circuit City is gone, and for several quarters, it was clear Best Buy grabbed all their customers. The stock rocketed. But then, after the most recent quarter, we starting thinking about what might go wrong with Best Buy. Losing money is always the bigger risk when managing money than not making enough. People are generally happy, as long as they don't see red. Black is the new green these days.
So, after seeing the stock decline, selling the stock, then cashing out of the puts...we're left wondering what the future holds for Best Buy. Their biggest risk: pre-packaged media. That's the HUGE section of the store right in the center for movies, music, and games. That's right...going the the store and buying the ACTUAL CD or DVD will soon disappear. And with it, go great margins, revenue, and ultimately profit dollars. Granted, Best Buy announced on the call that they will be beating up GameStop and stealing their lunch money (they're going to start buying, selling, and trading of used games). This new strategy will help offset some of the revenue lost from other media sales...but it will only delay the inevitable: people shop online more an more these days. We visited the local Best Buy to see what computers they had in stock when it was time to get a new laptop at the office. It was clear that we could get far more from a NewEgg.com or a TigerDirect.com than we could by going into the store...and we're willing to bet we're not alone in what we have found.
iTunes has revolutionized content distribution along with NetFlix. If other companies don't catch up, they will be eliminated...Circuit City style. These two companies are taking a huge bite out of Best Buy's pre-packaged media sales with their direct download to consumer programs. So, what is the solution you say, for Best Buy?
Best Buy needs to buy BlockBuster Video. BLOKA.PK (because it now trades on Pink Sheets after it was delisted) is in a world of hurt. Holleywood Video has already been eliminated (Movie Gallery) and BlockBuster is next. Why? Thanks to CoinStar...the creator of the Red Box, brick and mortar movie rental places are getting burned to the ground by these little red boxes with little overhead, no healthcare costs, and loads of profits. BlockBuster has already countered with the Blue Box...but it's too little too late. The ENTIRE MARKET CAP of BlockBuster's stock is now only $36 Million. Heck, for that price Best Buy could take a stab at it and be wrong and still come out OK...but I think that they'd come out better than OK.
First of all, the color schemes are almost identical, so very little in terms of branding would need to be done. They could change the name or leave it, and I don't think people would notice.
Second, all that space they now have in their stores can be converted from pre-packaged media into a BlockBuster. They keep only the hottest selling music in stock (same thing with DVDs, which BlockBuster already sells) and then throw in the buy/sell/trade for music, movies, and games (since they're getting into the act with video games...no reason to stop there). This should be a much better use of the space in stores and they need more revenue/sq foot in the stores because media sales are down so much.
Third, BlockBuster already competes with NetFlix via it's in-the-mail-style rental package. Jumping with both feet into the content distribution for Best Buy should help margins and bring a serious competitor to NetFlix. You can easily see sales reps cross selling the down loadable content to those ready to walk out of Best Buy with a new television. Best Buy can work with the makers of the products it sells to add capability to the televisions, pick a video game partner...the sky would be endless. Deals like buy a television and get access to our downloadable content free for 3 months (after which the billing starts) would help subscriptions skyrocket for the BlockBuster division of the company who already has the service...they just need Best Buy's distribution.
Finally, having a Blue Box outside EVERY Best Buy all over the world means that they have instant revenue Red Box style. I think Blue Box even has a deal with Sheetz, the gas station extravaganza that draws all sorts of people with it's selection and variety of things inside. Adding a Blue Box to the outside of every Best Buy should ADD to the foot traffic inside the stores as some will ultimately venture into the store to shop after they grab a movie. Or, you can see them buying a new BlueRay or Home Theatre and grabbing a movie on the way out.
BlockBuster may have $1 Billion in debt...but it looks like their free cash flow is $650 Million...plenty of cash coming in to refinance the debt with the financial backing of Best Buy behind it. The issue for BLOCKA.PK is that on their own...they face extinction and they just don't have the balance sheet to make it. At 16.5 cents/share for BlockBuster we think Best Buy is missing out on a great opportunity grab a perfect, complimentary asset...at a block buster price (and it's a move that might just save both companies).
Saturday, July 3, 2010
Financial Television is Like a Comic Book Series
People don't watch enough television. Seriously, I hear people all the time who say that so and so recommended a stock on television and all of a sudden it's down and they've lost money and they want to know what to do.
They're getting it all wrong. Television isn't one long buy/sell list for investors to watch, execute the trade, and then get rich. That's now how television works. If you read our article earlier "They Are Idiots", then you know that when you buy a stock from someone, you have to make the bet that they are an idiot...otherwise you are the idiot; as they convinced you to buy something they didn't want anymore. Guess how many other people are watching EXACTLY THE SAME THING you are watching right then; and you now have to trade with AND against these people to make money.
Say Steve Grasso comes on television and says he's buying BP, which he did. And then you go on vacation, forget about the real world for a week, come back and check on your BP position. You see that it's down from $34 to $27 and think: "What the heck happened to BP? That Grasso guy is an idiot, I'll never listen to him again." This is where people go wrong. A few days later, after getting long BP, Steve Grasso, Patty Edwards, and many others on the Fast Money Desk stated very clearly that BP had gotten too difficult to measure and that there was too much risk in the trade and that they had sold their position and were not going back in.
Watching television, at least financial television, is like reading a comic book. If you don't read every single issue that comes out, you are GOING TO MISS SOMETHING. That detail that you miss, could cost you hundreds or thousands of dollars. Like reading a comic book, it's important to read a few issues before you form an opinion. The biggest mistake (one of them) retail investors make is in thinking that a stock is going to run away from them, so they jump in when they hear a convincing story on say Jim Cramer's Executive Decision Segment, where he has a CEO from a company come on and tell you what's new and exciting about their company. Then, Cramer says he likes the company, the person is so excited, they go and buy it the next morning at the open (often the time that people pay too much and get crushed by the end of the day).
What they have forgotten, or not witnessed, is that on ANOTHER episode of Mad Money, Jim Cramer vehemently warned viewers to always wait 5 days before buying a stock, never buy your whole position at once (in case the stock goes down and you can get it for cheaper), and always use limit orders so you get the price you want. But, the person who buys this stock after the Executive Decision segment missed the other shows about disciplined investing and ignored all of Cramer's rules for buying a stock. They exclaim that Steve Grasso and Jim Cramer are idiots and they never buy another stock again (or they repeat their mistake after listening to someone else on TV).
The bottom line, you MUST watch EVERYTHING before you buy ANYTHING. Shows like Fast Money, Mad Money, Strategy Session, and Stop Trading are terrific; but they are often just one piece of a much bigger puzzle that needs to be pieced together before you buy or sell a position. There will never be any substitution for doing your own homework. When you watch someone on television they will ASSUME that YOU, the viewer, has heard everything else they have said or written. They have to do that, otherwise, they would say the same thing every single time that you watched them. This wouldn't help anyone...and it certainly wouldn't be entertaining. So, next time, before you make a decision that costs you thousands of dollars, "read up" and watch a week's worth of whatever program it is you're watching until you understand how each person trades so that when they change their mind on BP, Research in Motion (RIMM), or Goldman Sachs (GS) you'll be there to see it and then you can change yours too...after you do your homework of course.
They're getting it all wrong. Television isn't one long buy/sell list for investors to watch, execute the trade, and then get rich. That's now how television works. If you read our article earlier "They Are Idiots", then you know that when you buy a stock from someone, you have to make the bet that they are an idiot...otherwise you are the idiot; as they convinced you to buy something they didn't want anymore. Guess how many other people are watching EXACTLY THE SAME THING you are watching right then; and you now have to trade with AND against these people to make money.
Say Steve Grasso comes on television and says he's buying BP, which he did. And then you go on vacation, forget about the real world for a week, come back and check on your BP position. You see that it's down from $34 to $27 and think: "What the heck happened to BP? That Grasso guy is an idiot, I'll never listen to him again." This is where people go wrong. A few days later, after getting long BP, Steve Grasso, Patty Edwards, and many others on the Fast Money Desk stated very clearly that BP had gotten too difficult to measure and that there was too much risk in the trade and that they had sold their position and were not going back in.
Watching television, at least financial television, is like reading a comic book. If you don't read every single issue that comes out, you are GOING TO MISS SOMETHING. That detail that you miss, could cost you hundreds or thousands of dollars. Like reading a comic book, it's important to read a few issues before you form an opinion. The biggest mistake (one of them) retail investors make is in thinking that a stock is going to run away from them, so they jump in when they hear a convincing story on say Jim Cramer's Executive Decision Segment, where he has a CEO from a company come on and tell you what's new and exciting about their company. Then, Cramer says he likes the company, the person is so excited, they go and buy it the next morning at the open (often the time that people pay too much and get crushed by the end of the day).
What they have forgotten, or not witnessed, is that on ANOTHER episode of Mad Money, Jim Cramer vehemently warned viewers to always wait 5 days before buying a stock, never buy your whole position at once (in case the stock goes down and you can get it for cheaper), and always use limit orders so you get the price you want. But, the person who buys this stock after the Executive Decision segment missed the other shows about disciplined investing and ignored all of Cramer's rules for buying a stock. They exclaim that Steve Grasso and Jim Cramer are idiots and they never buy another stock again (or they repeat their mistake after listening to someone else on TV).
The bottom line, you MUST watch EVERYTHING before you buy ANYTHING. Shows like Fast Money, Mad Money, Strategy Session, and Stop Trading are terrific; but they are often just one piece of a much bigger puzzle that needs to be pieced together before you buy or sell a position. There will never be any substitution for doing your own homework. When you watch someone on television they will ASSUME that YOU, the viewer, has heard everything else they have said or written. They have to do that, otherwise, they would say the same thing every single time that you watched them. This wouldn't help anyone...and it certainly wouldn't be entertaining. So, next time, before you make a decision that costs you thousands of dollars, "read up" and watch a week's worth of whatever program it is you're watching until you understand how each person trades so that when they change their mind on BP, Research in Motion (RIMM), or Goldman Sachs (GS) you'll be there to see it and then you can change yours too...after you do your homework of course.
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