Can They Both Be Right?

You've probably heard the news that famed value investor Warren Buffett, has bought $3.7 billion of stock in Exxon Mobil (XOM). Some view this purchase as a classic Buffett buy - buying a good/great company in an industry that's been out of favour.  Oil and gas has certainly been out of favour for some time ( particularly -low gas prices in North America ) since the depths of the 2008/2009 recession. What makes is this transaction interesting is, recently famed short seller Jim Chanos,  founder of Kynikos Associates has been pounding the table, suggesting that big oil is value trap. He is suggesting production and development costs are high and moving higher, hurting the hefty cash flow that oil companies generally produce. Maybe, both investors are right? In the short run, absent major inflation, these higher costs may hurt the majors - 1 point for Chanos.  However, Buffett usually buys for years and not quarters. Looking out 5+ years, this might prove to be another Buffett score. If/when inflation picks up - XOM will be a good hedge (as are other oil/gas companies). In the meantime, XOM will continue to grow slowly, benefit from higher nat gas prices going forward, and return capital to shareholders. I will continue to watch oil majors with interest.

Along the same lines, the Canadian oil patch continues to be cheap. Suffering from wide differentials ( Western Canadian Select oil price vs. West Texas prices), high costs and a sluggish economy, many Canadian producers have been hurting. The prices of many of these companies has come way down from the boom days of 2003-2007 (PWT traded at $50). I have recently started a position in one such company - Penn West Petroleum (PWT.TO) @8.55. PWT is undergoing a transformation, including, a new CEO and Chairman, asset sales, staff reductions and a hefty dividend cut (50% cut). The company has recently sold $485 million in non-core assets, with $1.0 billion scheduled for 2014. Recently, the market clobbered PWT on news of the assets sales and weak guidance for 2014. You'd think the market would have liked the changes afoot. Not so - many stock owners of PWT, have given up. It's down from the mid $20's (2011-2012). Tax loss selling combined with recent news has provided a good entry point, with PWT selling well below NAV along with a 6.6% dividend yield. See chart below.



Wide oil differentials won't last forever....

AIG

Today, I added to my position in AIG @ 48.50. AIG reported Q3 results today, which were solid, except for the poor results in the P&C division. The market is cantankerous and has sold off AIG. Improved earnings, growing book value and continue share buy-backs will serve as a tailwind for AIG going forward. The company expects a decision in the coming months regarding the ILFC division ( aircraft leasing business ), which is deemed a non-core asset. The additional capital from the sale/IPO of ILFC should benefit long-term shareholders in the form of increase dividends and/or share buy-backs.

Bits and Bytes

 

It's been a busy fall. I apologize for the few number of posts over the past few months. One area I haven't written too much about, but where value still exists, is large cap technology companies. Cisco (CSCO) is a company I've owned since the summer of 2011. I mentioned it here . While CSCO has since run +50% from $16 to $24, it still has steam. CSCO, is the industry's 700 pound gorilla. They dominate many of their markets in networking, processing and data storage. Data storage has been a huge growth area for the company, along with wireless and video technology. You probably use a Cisco router and/or cable box in your home. Your online files, might be sitting on a CSCO server farm. The industry is seeing huge growth in data moving across networks. Industry sources, indicate that network traffic will increase 17X over the next 7 years. The explosion of smart devices, networking and data, will provide steady demand for CSCO and it's competitors. CSCO has been chalking up better earnings in 2012 and 2013. They are on track to earn $2.05 this year, and $2.25 next year, combined with continued share buybacks and a hefty dividend, I expect double digit total returns going forward. The current dividend yield is 2.8% and growing. CSCO is good value right here around $24.

Here is a clip of CSCO CEO John Chambers and Google Chairman Eric Schmidt ( a big user of CSCO gear ), discussing the industry and rapid growth in data.

click here

Gone Fish'in

 

Taking a break from Mr. Market 'till mid-August. 

 

 

 

 

Thank Ben!

I recently wrote ( early June ) about hoping for a summer swoon in the markets to deploy some cash. Well, it seems the swoon has started. Ben Bernanke, the Chairman of the Federal Reserve, recently announced that the Fed, may start to taper their bond buying from the current $85 Billion/month. The market, in it's typical manic depressive fashion, has taken this as bad news. The markets have been hammered the last couple of weeks ( S&P 500 down 5.1% from recent highs ), as the Fed takes away the punch bowl ( a gusher of cash/liquidity) from the equity party. Stocks have done well the past 12 - 24 months, and have out-run the underlying economy. This pull-back is much needed to recalibrate people's expectations of future profits - corrections are healthy. All of this selling of bonds ( when bond prices fall, yields go up ) and stocks forced people to the safety of the USD. If you own U.S. equities, you will benefit, particularily if you are Canadian. The CAD is headed lower. You will also benefit if you own insurance companies that make more $$$ from higher bond yields. Manulife ( I own MFC), Industrial Alliance and Sunlife all touched 52 week highs, this week during the sell-off. It's a good place to hide. The bond market is telling us that the economy is getting better and rising rates are confirming that. It's a good time to add to existing holdings, that are still undervalued - or start new a position. Just don't buy all at once, buy slowly.

I have recently added to CHK@ $20 and started a new small position in a un-loved U.S. based mortgage insurer.

Bye Bye Big Lots

I recently closed out my position in Big Lots (BIG) the U.S. based discount retailer at $33 and change. After 2 years of owning BIG, it's seems they can't find their mojo. Management issues, inventory back-ups and weak merchandising have all hurt BIG. I've decided to move on and continue to build cash, hoping for a summer swoon to add to other more favourable positions that I currently own. I was able to exit with a razor thin profit. That's our kind of mistake - when an idea doesn't work-out we want our money back. I don't like losing money. Retail is a tough business, when you're competing against the Costco's, Walmart's and Amazon's of the world. Just look at this:



On another note - not related to retail.

If you didn't read my post in March on yield - click here

You may have noticed that interest rates ( not the short-term rates set by the Fed ) have been backing up ( going up - so bond prices have been going down ) over the past month and half. The U.S. 10 year bond has risen from 1.7% to 2.1%, which may not sound like much, but it's enough to make people skittish on the interest sensitive stocks like the pipelines, telco's and Reits. They have been selling off - they are STILL QUITE OVER VALUED. They are vulnerable to the downside if rates continue to go up. Here's a look at a few Canadian household names over the past few months. The sell-off in these names has already wiped out your divy for the year - caution - turbulence ahead:

Firing On All Cylinders

Back in December of 2011, I wrote about a new holding ( read here ) Magna International ( MG.TO), a Canadian based auto parts company. Having just finished reading the 2012 Annual Report and the Q1, 2013 results, I'm raising the intrinsic value of MG. My original work suggested MG was worth $55/share, but business at MG is booming, even beyond management's expectations. Over the past year MG has worked to improve their struggling European operations and continue to build-out South American and Asian plant capacity. MG is now running 313 manufacturing/assembly and engineering facilities. MG is truly a great Canadian multi-national. They are seeing strength in Eastern Europe, ( which they now fold into the "Europe" category, as opposed to East and Western Europe ) Asia and North America. MG has raised their outlook for North America to 15.9 million units ( way up from close to 12 million at the end of 2010 ) and Europe to 18.4 million units ( up from 13 million ). Management has also indicated that they will back away, a little, from having so much cash on the balance sheet. They have indicated that returns to shareholders will increase, via dividends ( just raised to $1.28/share ) and share buy backs. In fact, if MG does take on a little debt to grow, the market might even give MG a higher multiple. What's clear is: MG is enjoying tailwinds that will likely persist through 2014.

I'm usually hesitant to re-value a cyclical company like MG much higher than my initial work. However, in this case I'm comfortable ( and was too conservative ) with a new intrinsic value for MG of $78-82. I'll take comfort in that MG is still trading cheaper than almost any of it's competitors. The average North American parts supplier ( BWA, JCI, TRW, LEA, DLPH) is trading at 13X. MG trades at 10X.

So now what? I will continue to hold MG. If you want to own MG, don't dive right in, MG has been performing very well lately. Wait for a pullback - there is sure to be one. But don't ask me when - I have no idea.

Oracle

I recently added to ORCL @ 32.80.

Full Of Gas!!!

Natural gas (NG) has more than doubled to around $4.10/MCF, from the 2012 lows of $2.00./MCF. The market has been very bearish on nat gas, for some time. Some even speculated ( last spring ) that since America is so full of gas, thanks to fracking and shale revolution, the price could go to zero! Huh !! zero article. As many know, I'm generally not a fan of commodities, but I do like to buy them when they sell for less than their marginal cost of production. At that point, producers must act, cutting supply and looking for new demand opportunities. Nat gas, over the past year has fit that bill. Recently, the UK's largest utility, Centrica PLC, has signed a 20 year deal to import liquefied natural gas (LNG) from the U.S. Other similar deals are likely to occur as NG trades significantly higher in other parts of the world as compared to North America ( $15/mcf in Japan). The good news for us as investors is the market has been slow to react to the shift in the winds of NG. The stock of many NG producers have lagged, particularly the larger cap firms. I prefer the U.S. producers, due to scale and distribution advantages ( Ecana excluded ) over many of the smaller Canadian producers. Several U.S. producers are also under fire from activist shareholders which could help unlock value going forward. I like the basket approach to NG, owning several cheap names in the space. If your heart is set on owning only Canadian stocks, then Ecana (ECA) is a buy here @ 19.

I like and own Sandridge Energy (SD), Exco Resources (XCO) and Chesapeake Energy (CHK). These are longer-term plays and will require patience - like most value investments.

Be Careful Reaching For Yield - You Could Get Burned

Over the past few years, "thanks" to record low interest rates, some investors have been starving for yield. Many have bought "investment" instruments with high dividend yields ( 5%-6%+) in search of income, with little regard to quality or price paid. Over the past few years the prices of many utility, telco's and pipeline companies have been bid up to very lofty levels ( I usually get a nose bleed around 20X earnings). Here's a quick look at 2 pipelines and 1 telco. Granted, some of these companies have had excellent financial performance and deserve a good multiple. The 3 companies listed below are good companies, just really pricey. However, as a whole, these utility type investments are well above traditional prices for low-growth, high capital expenditure, regulated businesses.

                                        P/E        P/B      P/CF   Div Yield*
TransCanada Pipelines      20X      2X       10X     3.8%   
Enbridge                           22X      3.5X     11X    2.7%
BCE ( Ma Bell )                15X      3X        6X     5.0%

* These yield may look low, but that's due to the rapid rise in the underlying stock price lately.

To be clear, owning a utility with consistently rising dividends is a good thing. As long as the price you pay is not excessive. If you overpay for the yield and the company-in-turn has a problem or encounters poor industry conditions, then the price can get hammered. Then, you're dreams of stable income forever are interrupted by a dividend cut and possibly a big capital loss.

Case in point: This past week investors were surprised when a Canadian power and infrastructure company, Atlantic Power Corp ( ATP.TO) reported results for 2012 along with a dividend cut. As little as 4 months ago, ATP was cruzing along with a market cap of 1.67Billion ( around $14/share ) and paying out a nice $1.15/share/year in dividends, for a yield of 8.2%. Paid monthly - starving income investors love that.
What people didn't realize is that ATP has been paying out virtually all of it's earnings as a dividend, leaving little to re-invest in a capital intensive industry like power generation. ATP has regularly raised both debt and equity to fund the business ( never good when you keep doing that long-term ). Management, all the while, inferring that the dividend was stable.

When the dividend was cut on February 28th to $0.40/share/year, a whopping 65%, the stock tanked some 50%. As I write, ATP is trading at $5.50. Had you been an owner at the $14 level you'd be sitting on a 60% capital loss and 2/3's less dividend income then you had expected. Not fun.

The message: it's OK to look for yield in the market, in fact it's the best place right now to get yield. But, you have to look under the hood before you invest - or risk getting burned. I too, have reached for yield, and was burned - anyone remember Amisco Industries??? Fortunately, it was many years ago and a very small amount of $$$ - but it still hurt.




If you're wondering if it's a good buy now? For me, I might get interested under $3. I'm not a fan of management's capital allocation practices and the shaky balance sheet.

More Proof Stock Prices Are Lofty

Maybe it's time I sign over my account to her...

16-Year-Old Actress Turns Into Stock Day Trader

Rachel Fox isn’t an ordinary 16-year-old. She's already graduated from High School and has been a working Hollywood actress for years, appearing in shows like Desperate Housewives as evil Kayla Scavo and in the film Dream House with Daniel Craig and Naomi Watts. When she’s not on set she can often be found on stage, singing and playing guitar in an indie rock band.

That would be a packed schedule for most of us, but Rachel has another activity that’s a real passion. For the last year-and-a-half she’s been actively day-trading stocks with her own money. She says she's been racking up stellar returns, claiming a 30.4% gain in 2012, versus the benchmark S&P 500 which gained 13% for last year.
While she’s doing it all, she’s also helping teach people about investing via her website FoxOnStocks.com. On the site she updates her thoughts on the markets and posts videos for those new to the game; teaching them how to do the basics like finding quotes and understanding what a stock option is. For now, the blog is just for fun, she has no plans to monetize; just teach others how to invest, the way her Mom taught her.

click here if you really want to read the rest of this article

American International Group (AIG)

This past November I wrote here about a "fallen angel" that I've started to buy ( ~$32). A fallen angel, is a company that was once very well regarded/high grade company that has, for whatever the reason(s), become very unpopular and hated by the market. The by-product of that unpopularity and hatred is a very low stock price . AIG, certainly fits that bill. While it's true, some parts of AIG were wildly mismanaged and over levered, that brought " down the house ", the major business lines ( insurance and wealth management ) were performing reasonably well - not withstanding the economic downturn of 2008/9. AIG, was rescued by the U.S. government in 2008. The government was recently fully repaid by AIG to the tune of $200+ billion. Yes, that's billion.

AIG, enlisted the help of retired Metlife CEO, Robert Benmosche in 2009 to fix AIG. Benmosche, who was tending to his vineyards in Croatia ( true story ) agreed, and started on a difficult path to restore AIG to operating health. He and his team have since sold non-core businesses, streamlined operations and restored a culture of pride and leadership at AIG. The market has been slow to recognize the great work that Benmosche and his team have done. The market which usually looks forward into the future, is having trouble getting over the past faults of AIG. The cloud hanging over AIG won't last forever.

Here is a snap-shot of some performance metrics of AIG during the "boom" years of 2002-2007.

Average P/E: 17X
Average ROE: ~13X
Price to Book: 1.7X - 3.0X

AIG's stock price was well rewarded for good corporate performance - as it should be. Fast forward to late 2012/early 2013, and AIG looks like this:

P/E: 8X
ROE: ~6%
Price to Book: 0.56X ( current stock price ~$38, AIG's book value ~ $65 )

Management has set a goal of returning to 10% ROE. As industry conditions improve ( premium pricing is already moving up ) and AIG continues to perform, value will continue to build on AIG's balance sheet. It will be extremely beneficial for current shareholders, if Benmosche continues to buy back stock at prices well below book value. AIG, may not return to the "boom" type metrics, as they are far less levered, but that's not required for us to achieve a well above average rate of return.

It's not hard, with grade 5 math and some conservative inputs, to see AIG's balance sheet grow to $75+/share in book value over the next 2-3 years. Even if the market only rewards AIG, with a 1.3X book multiple ( the 15yr industry average ), then you are looking at a $95+ stock price. A triple, with little downside ( AIG's tangible book value is currently $50 ).This is not an overnight investment, patience is required - like most deep value investments.



Not risky anymore...

Agrium (AGU) - Not So Fertile Ground Any More

This past week, I sold the my remaining position in Agrium @ $110/share. Agrium, reminds me of one of my favorite John Templeton ( the Godfather of global value investing ) quotes, it goes like this:

                       "stocks are rarely popular and cheap at the same time"

While AGU could move a little higher, there's no way to know exactly where the "top" is - to the penny. It's currently trading at a market capitalization of $17B and 13.5X earnings and 2.5X book value. Agrium is popular.

On another note,

My recent portfolio sales and the cash from the Nexen arbitrage deal, have raised my current cash level to 14%. I wrote recently that the market has come far quite quickly ( S&P 500 up 5% already in 2013) - caution is warranted. I'll be ready to deploy cash when the market turns fearful.

5 Year Highs, Now What?

The S&P 500 touched an intra-day 5 year high today. It's time to proceed with caution. That doesn't mean I've turned bearish, but it means it's time to pay extra attention to prices paid - when buying new stocks. It's also prudent to review your holdings and lighten up on companies that are close to or at their intrinsic value (IV). There will be better days (market pull backs) ahead to pick away at companies you like - it's good to have some cash around. In fact, I think 2013 will probably surprise most people, on the upside, but the volatility will be noteworthy. Volatility is opportunity. You want to be invested, but in the cheap areas of the market. That being said:

I have very recently sold my remaining position in tax preparer H&R Block (HRB) @ 20.30, which I bought in 2010 at $12.30. I have also sold 50% of my position in Agrium (AGU) @ $106.60, which I bought in 2009 at $47.

The plan for 2013 like any other year, is to buy cheap stocks and sell the expensive ones - sounds complicated eh? There's value in U.S. financials (banks and insurance), large cap technology companies, auto parts/car makers, healthcare and natural gas.

All the best in 2013.

Andre