Goverment bonds defaults

For those looking at getting higher returns from foreign government bonds, here are some wise words from Benjamin Graham below. Graham talks about the reliability of private bonds vs government bonds in Intelligent Investor.

“Bonds of Foreign Corporations. In theory, bonds of a corporation, however prosperous, cannot enjoy better security than the obligations of the country in which the corporation is located. The government, through its taxing power, has an unlimited prior claim upon the assets and earnings of the business; in other words, it can take the property away from the private bondholder and utilize it to discharge the national debt. But in actuality, distinct limits are imposed by political expediency upon the exercise of the taxing power. Accordingly we find instances of corporations meeting their dollar obligations even when their government is in default.”
Excerpt From: Graham, Benjamin. “Security Analysis.” McGraw-Hill, 2009. 

List of sovereign debt defaults:

http://en.wikipedia.org/wiki/List_of_sovereign_debt_crises

More Intelligent Investor quotes:

“I. Safety is measured not by specific lien or other contractual rights, but by the ability of the issuer to meet all of its obligations.3

II. This ability should be measured under conditions of depression rather than prosperity.

III. Deficient safety cannot be compensated for by an abnormally high coupon rate.

IV. The selection of all bonds for investment should be subject to rules of exclusion and to specific quantitative tests corresponding to those prescribed by statute to govern investments of savings banks.”

Excerpt From: Graham, Benjamin. “Security Analysis.” McGraw-Hill, 2009. 

Historical look at US interest rates

 Historical look at US interest rates

For those interested at a look at historical interest rates and where we may go from here?

http://www.ritholtz.com/blog/wp-content/uploads/2013/12/Screen-shot-2013-12-22-at-9.50.39-AM.png

Why look at interest rates for future guidance on the stock market? An interesting point made by Buffett in 1999:

"look at one of the two important variables that affect investment results: interest rates. These act on financial valuations the way gravity acts on matter: The higher the rate, the greater the downward pull. That's because the rates of return that investors need from any kind of investment are directly tied to the risk-free rate that they can earn from government securities. So if the government rate rises, the prices of all other investments must adjust downward, to a level that brings their expected rates of return into line. Conversely, if government interest rates fall, the move pushes the prices of all other investments upward. The basic proposition is this: What an investor should pay today for a dollar to be received tomorrow can only be determined by first looking at the risk-free interest rate.

Consequently, every time the risk-free rate moves by one basis point--by 0.01%--the value of every investment in the country changes. People can see this easily in the case of bonds, whose value is normally affected only by interest rates. In the case of equities or real estate or farms or whatever, other very important variables are almost always at work, and that means the effect of interest rate changes is usually obscured. Nonetheless, the effect--like the invisible pull of gravity--is constantly there."

'To Catch A Trader' - Insider trading documentary on SAC Capital

'To Catch A Trader' - Insider trading documentary on SAC Capital 

Just watched a free documentary on PBS about SAC Capital and insider trading

Interesting view on Steve Cohen's track record: http://en.wikipedia.org/wiki/Steven_A._Cohen


Some interesting parts:
- a trader Turney Duff talks about gathering information from his network of sources
- was the first time I had heard about the use of 'expert network firms'
- Fairfax Financial vs SAC Capital and Jim Chanos's Kynikos and alleging collusion with research analysts to drive down FFH stock


Here is the link to the documentary online:
http://www.pbs.org/wgbh/pages/frontline/to-catch-a-trader/





Thanks to CS Investing for their great blog and pointing out this documentary.

Teledyne and Dr Henry Singleton

Been a while since the last post and will keep this one short.

Just finished a case study of Teledyne founder and supreme capital allocator Dr Henry Singleton.

For those interested in learning about who Warren Buffett believed to have amongst the best operating and capital deployment record in American business history I would highly recommend downloading the case study here:

http://csinvesting.org/2011/09/20/henry-singleton-and-teledyne-a-study-in-excellent-capital-allocation/

or here:

http://www.scribd.com/doc/65650082/Teledyne-and-Henry-Singleton-a-CS-of-a-Great-Capital-Allocator


Thanks to the CS Investing blog and  John Chew for the great work in putting this together.

Margin of safety in junk bonds

A pile of junk is still junk no matter how you stack it – Margin of Safety, Seth Klarman

The book I'm currently reading is Margin Of Safety by Seth Klarman. This book is widely described as a value investing classic and now I know why. It's a coincidence that the current book I started reading would have a section dedicated to junk bonds. As you may have read my previous post discussed Michael Milken and the height of the high yield / junk bond era.

About halfway through the book now, so wanted to share a few thoughts and quotes by Seth Klarman on high yield / junk bonds:

"Prior to the 1980s the entire junk-bond market consisted of only a few billion dollars of "fallen angels." Although newly issued junk bonds were a 1980s invention and were thus untested over a full economic cycle, they became widely accepted as a financial innovation of great importance, with total issuance exceeding $200 billion. Buyers greedily departed from historical standards of business valuation and creditworthiness. Even after the bubble burst, many proponents stubbornly clung to the validity of the concept." Page 27 

"As we shall see,the legitimate opportunity in a virtual handful of distressed securities that were overlooked by others was carried to excess when Milken extrapolated from  a historical relationship to an entirely new type of security." Page 70

"All the parties who stood to benefit from junk bonds-individual and institutional investors, underwriters, and brokers-"got religion," praying that junk bonds would turn out to be as miraculous as Milken preached. At the same time the sermon shifted from the low historical rate of default to a new theme: junk bonds as the economic salvation of America. Our country's nagging problems of slow growth, declining productivity, and diminished international competitiveness would quickly be solved through increased junk-bond issuance." Page 74

In the next blog post I'll add a few more quotes from the book that I found interesting such as institutional fund managers having 'skin in the game' when investing on behalf of their clients.

"Economist Paul Rosenstein-Rodan has pointed to the "tremble factor" in understanding human motivation. "In the building practices of ancient Rome, when scaffolding was removed from a completed Roman arch, the Roman engineer stood beneath. If the arch came crashing down, he was the first to know. Thus his concern for the quality of the arch was intensely personal, and it is not surprising that so many Roman arches have survived."?

From Barbarians to philanthropists

"A fool who recognises his own ignorance is thereby in fact a wise man, but a fool who considers himself wise -- that is what one really calls a fool" - Buddha

Recently watched the classic finance movie Barbarians At The Gate and got me doing some research on the 1980s financial environment. Of course this eventually led to Michael Milken and Drexel Burnham Lambert. Like most people born in the '80s the main things I had heard and read about Milken was his use of high-yield bonds / 'junk bonds', and subsequent US Federal indictment. The assumption in articles that briefly mentioned him assumed he was guilty.

However after viewing these two video clips I realised the truth - my assumptions were misinformed:
- Steve Wynn on Milken (6 minutes long): http://www.youtube.com/watch?v=gk1G_O3UQRo
- Michael Milken on at the United States Conference of Majors (one hour long): http://www.youtube.com/watch?v=NTeQ03VQwA4&list=FLBQOYAj87D3-HgrbtSZhBWw&index=4

If you don't have time to watch these clips then this quote by author Alvin Toffler in his 1990 book Powershift will summarise it:

By forcing open the sluice gates of capital, Milken had rattled the entire structure of smokestack power in America...Before Milken, the greatest financier had been J.P. Morgan, who saw markets as a zero-sum game in which he tried to be the winner at someone else's expense. For example, when financing AT&T, Morgan used his enormous Wall Street and banking influence to ensure that potential AT&T rivals lacked access to capital. Milken did the opposite, opening access to capital for thousands of smaller companies. Milken showed it was possible to align the interests of all corporate stakeholders - investors, entrepreneurs, debtors, creditors, consumers, management, employees and society - to create jobs, wealth and economic growth. The key was his profound understanding of capital structure and how it must change as exogenous conditions change. [See Milken's articles "Why Capital Structure Matters" and "The Corporate Financing Cube".] By the late 1970s, he had already shown it was possible to unlock great potential value hidden in accumulated assets. As others began to exploit this insight, Milken turned increasingly to such issues as education, wage disparity, expanding human capital, and medical research.

A few quick points:
- Milken believed that a company that applied the appropriate capital structure between debt and equity would naturally boost the value and lower the risk of it's bonds. This was quite novel back in the 1970s but is now supposedly common material taught in MBA classes.
- He also demonstrated that a portfolio of high-yield bonds provided an attractive risk-adjusted return when compared to rating agencies investment-grade bonds.
- His money-raising ability also facilitated the growth of leveraged buyout (LBO) firms such as Kohlberg Kravis Roberts (KKR). 
- In 2008 the Milken Institute continued to support better credit rating agency regulation and continued to educate investors on bond investing.

Further interesting info:
- Milken Institute 2011 Review - 'Where Is Sputnik' 
- Or for those that really like diggin in the crates, here is another great article: http://www.edwardjayepstein.com/archived/milken.htm
---------------------------------------------------------------------------------------------------------------------------------------

I have also been researching some current US finance entrepreneurs recently such as Carl Icahn and Henry Kravis. Was impressed with some interviews from KKR (Kohlberg Kravis Roberts & Co) co-founder Henry Kravis where he acknowledges that a large part of KKR's success vs some other firms was their culture of inclusion where each employee is encouraged to share information, resources and expertise for the good of the team.

By chance I was later reading a report on Moody's due to Buffett's holding in the firm and found mention of KKR (NYSE stock code: KFN) in the specialised finance peer group. On comparison to other companies in the group I noticed it was trading on a PE of under 10 (mental note to look further into why it's on such a low PE...)

----------------------------------------------------------------------------------------------------------------------------------------

To those who haven't heard, Jeff Bezos is personally buying the Washington Post. He will assume the company's pension plan liabilities. In a time when most pension funds are underfunded the Post pension fund is currently reported to have $1 billion more than it needs.

The employees of the Washington Post have Warren Buffett to thank. In 1975 Buffett advised then-chairman Katharine Graham via this letter on how to prepare for the impending pension liabilities given future inflation assumptions and likely fund manager investing performance.

Well worth the read for any Buffett fans: http://www.scribd.com/doc/160301289/Warren-Buffett-Katharine-Graham-Letter



-------------------------------------------------------------------------------------------------------------------------------------

Icahn beating Buffett / Berkshire Hathaway over 10 years

With all the media coverage on the Herbalife, Ackman, Soros and Icahn recently I decided to investigate Icahn Enterprises (IEP) in more detail.

In particular this article got me interested to start digging further:
http://www.kiplinger.com/article/investing/T052-C000-S002-carl-icahn-better-investor-than-buffett.html

So how does Icahn Enterprises fare vs some other benchmarks?

See the table below from their June 2013 investor presentation:

Source: http://www.ielp.com/index.cfm

So is IEP worth a further look?

The next question on my mind was to see how much the CEO got paid. For investment funds and diversified holding companies the executive remuneration and/or fund manager fees play a key criteria in deciding the overall long term returns to the shareholders.

A bit of searching led me to this article:
http://money.cnn.com/gallery/news/companies/2013/08/06/one-dollar-salaries/6.html

According to the article Carl Icahn's most recent remuneration was rather modest:

Salary: $1

Stock, options, other pay: $147,559

Total pay: $147,560

I'm sure most investors would be accepting of a CEO / fund manager taking a pay of $147,560 while share performance has outperformed the market by such a large margin over time.

A few questions:

Does anyone out there have ideas on the stock? 

Would you invest in IEP over Berkshire currently? 

Comments or questions?