Philosophical Economics has a really nice essay on returns and what investors can expect going forward. The news is bad. We concur that returns are likely to be well below the experience of the past 40 years, even taking into account that the decade from 1999-2008 was truly abysmal.
For many reasons, valuations in 1999 were at absolutely incredible levels. Valuation-indifferent buyers of equities, largely focused on low cost index products, who have to buy every month because of the need to save for retirement are a major factor.
We believe that many historical rates of return are driven higher by one time factors that will not recur and therefore, we will see a significant revaluation, which will punish investors (particularly GenX and particularly early cohorts).
Note that the author has not accounted for changes in tax policy. Over time these things are somewhat cyclical, however, markets tend to experience significant downward valuation as taxes rise (since it reduces earnings and EPS, and also because it discourages redeployment toward better uses and finally because, investors care about their real after tax return and if you raise taxes, then the nominal pre tax return must go up to provide stable after tax returns and this means prices - at least relative to earnings, have to decline).
Monday, January 15, 2018
Sunday, January 14, 2018
Stephan Co - My Seeking Alpha Write Up
At the urging of a friend, I published a write up I did on one of the stocks I own on Seeking Alpha.
If you are interested you can read it here.
Wednesday, January 10, 2018
From the Screen of the Strategic Investor
Thought I would start a set of daily links. In part, this helps me keep track of them (though of course, I also have favorite lists and folders) and also because some of these are really interesting.
Investments and Valuation:
CAPE naysayers are wrong. Arnott and his crowd discuss the evolution of CAPE over time (generally higher) and consider return to the mean. Smart guys. They are aware of the threat of valuation indifferent buyers and sellers.
Is the bond market finally about to swing back into a long-term bear market? Seems tantalizingly close, but then global rates are low and demographics seem likely to create valuation indifferent buyers here, too.
Economy
Are we at the top of the job cycle? This is a non-trivial question. Seems pointless to create lots more jobs when there aren't enough workers.
Tuesday, January 09, 2018
Contributions to Clintons dropping?
This is not a political blog, but we like to look at businesses of all kinds. Charities are a special kind of business - a business in which value provided to end users is less than the cost of the inputs of that value, necessitating continuous access to capital. Government supports that access through favorable tax treatment (either at the organizational level, where an organization itself pays no taxes on its inflows) and/or at the donor level.
One of the largest charities in the United States is the Clinton Foundation, which during the presidential campaign came under mild scrutiny for being a (taxpayer supported) campaign in waiting and for offering opportunities for foreign and domestic interests to buy access to the Clinton family and therefore indirectly the White House.
The Clintons insisted that this was all simply due to the unique scale and reach of the Foundation which enabled (big money) donors to write one check and have significant impact.
The telltale signs would always be, what happened to donations if Hillary lost. Absent future access to the White House, would the donors keep giving?
The first results are in and they suggest that interest might be falling. In November 2017, the foundation finally published financials for 2016. Comparing them to 2015 indicates that there have been a decline both in receipts and also in the balance sheet (assets). It will apparently be another year before we get the details on 2017, but isn't it simply interesting that 2016 was down about 15%, which is about 6 weeks of the year, or about the amount of time between election day and December 31. Could it be that funds just dried up on November 9, 2016? Only time will tell.
Interestingly, though, the "Clinton Health Access Initiative" CHAI, made a decision on March 7th, 2017 (a subsequent event to the released financials) to change its governance. Prior to that date the Clinton Foundation appointed five of the nine members effectively controlling the charity (and so it was consolidated). Thereafter, the Clinton Foundation is entitled only to "recommend" five members to an expanded board of 15, with the other 10 members being recommended by the independent board members, and with the charity then ratifying the entire slate (or not). Thus, the charity is no longer controlled by the Clinton Foundation and will be deconsolidated (indeed, it will cease reporting). This takes about $152mn of revenue (from a total of $222mn) out of the picture. It effectively reduces the scale of the Foundation by 68% on a revenue basis and about 21% of the assets.
Many postulates are possible here - perhaps in a post-campaign world the Clinton team no longer have enough human resources to staff the larger institution. Perhaps fundraising will be easier if there is more separation from the Foundation? This would make sense if most of the donors up to this point saw the charity less as a civic duty and more of an influence buying vehicle.
This is one of the perils of having a business that has a moat which is heavily dependent on the personal assets of the people running it.
One of the largest charities in the United States is the Clinton Foundation, which during the presidential campaign came under mild scrutiny for being a (taxpayer supported) campaign in waiting and for offering opportunities for foreign and domestic interests to buy access to the Clinton family and therefore indirectly the White House.
The Clintons insisted that this was all simply due to the unique scale and reach of the Foundation which enabled (big money) donors to write one check and have significant impact.
The telltale signs would always be, what happened to donations if Hillary lost. Absent future access to the White House, would the donors keep giving?
The first results are in and they suggest that interest might be falling. In November 2017, the foundation finally published financials for 2016. Comparing them to 2015 indicates that there have been a decline both in receipts and also in the balance sheet (assets). It will apparently be another year before we get the details on 2017, but isn't it simply interesting that 2016 was down about 15%, which is about 6 weeks of the year, or about the amount of time between election day and December 31. Could it be that funds just dried up on November 9, 2016? Only time will tell.
Interestingly, though, the "Clinton Health Access Initiative" CHAI, made a decision on March 7th, 2017 (a subsequent event to the released financials) to change its governance. Prior to that date the Clinton Foundation appointed five of the nine members effectively controlling the charity (and so it was consolidated). Thereafter, the Clinton Foundation is entitled only to "recommend" five members to an expanded board of 15, with the other 10 members being recommended by the independent board members, and with the charity then ratifying the entire slate (or not). Thus, the charity is no longer controlled by the Clinton Foundation and will be deconsolidated (indeed, it will cease reporting). This takes about $152mn of revenue (from a total of $222mn) out of the picture. It effectively reduces the scale of the Foundation by 68% on a revenue basis and about 21% of the assets.
Many postulates are possible here - perhaps in a post-campaign world the Clinton team no longer have enough human resources to staff the larger institution. Perhaps fundraising will be easier if there is more separation from the Foundation? This would make sense if most of the donors up to this point saw the charity less as a civic duty and more of an influence buying vehicle.
This is one of the perils of having a business that has a moat which is heavily dependent on the personal assets of the people running it.
Thursday, December 18, 2014
FMOC Statement
David Merkel of the Aleph Blog publishes a redacted FMOC statement with his own commentary after every meeting.
It is required reading at the Strategic Investor.
David, I think it is fair to say, is sceptical of the wisdom of committees of academic central bankers. He is also a critic of the wordiness of the Fed Statement. He believes (rightly, in my view) that in the effort to be clearer, the Fed has introduced lots of commentary on current conditions and the effect has been to reduce clarity, because the economy is a complex system about which it is difficult to make conclusive judgments. Thus, the Fed highlights various uncertainties and often confuses the public. A growth in 24/7 financial media which desperately needs something to talk about multiplies this as they attempt to parse every word. I digress.
While I share much of that scepticism, I think that the narratives have become too rutted and categorical - as in - QE is great, the only problem is there hasn't been enough and QE is bad, inflation is coming.
I think there are some other views of QE that should be expressed, and so I sent David an email, which I reproduce hereafter.
Broadly, I think that in terms of unemployment and combating deflation, QE has largely been ineffective. This is by design. Let me say it clearly, I do not believe that the underlying logic of QE is the dual mandate of the FOMC, but rather serves the regulatory function of the Federal Reserve, ensuring that sound institutions are able to operate. QE hasn't obviously helped employment much - while employment has been rising, this has not been due to large amounts of credit expansion. Moreover, it has not led to inflation. This should not surprise us, as the Central Bank went to Congress at the outset of QE I and asked for permission to pay interest on reserve balances at the bank, which enabled the Fed to sterilize its new "money" by ensuring that the banks would keep it all at the Fed and not relend it.
What QE has done are two things - first, it has reduced the interdependency of the banks and banks' dependency on the money markets to provide short term liquidity. This means that for the time being, there are likely to be fewer credit shocks that threaten any bank of size and that even if one bank is hurt, that the others are well insulated. Thus QE allows the Fed to support the banks and protect the banking system while the banks build capital required in 2019 under Dodd-Frank. It does so in a way that voters and perhaps Congress don't see, so it doesn't get labelled a "bank bailout".
The other thing that QE has enabled is for the Federal Government to run large (temporary) deficits without raising interest rates. This might have been a problem over the period 2010-2012. But should be be surprised that as the deficit has declined by $600bn per year since 2013, that the Fed has reduced its purchase of Treasuries ($45bn / month) by about the same amount? The effect has been to bridge the government while the "core" buyers of treasuries, who were prepared to snap up $500bn of the things at "low rates" while the Fed was exercising QE are similarly prepared to accept similar rates for a similar volume of bonds today? This is the real reason rates haven't risen.
Quite frankly, I think the Fed executed this move far better than anyone imagined.
Given that, I expect that in spite of short term volatility driven by Fed comments, that the economy will continue on about the same course for the forseeable future.
Below my letter to David, and hopefully a response from him.
It is required reading at the Strategic Investor.
David, I think it is fair to say, is sceptical of the wisdom of committees of academic central bankers. He is also a critic of the wordiness of the Fed Statement. He believes (rightly, in my view) that in the effort to be clearer, the Fed has introduced lots of commentary on current conditions and the effect has been to reduce clarity, because the economy is a complex system about which it is difficult to make conclusive judgments. Thus, the Fed highlights various uncertainties and often confuses the public. A growth in 24/7 financial media which desperately needs something to talk about multiplies this as they attempt to parse every word. I digress.
While I share much of that scepticism, I think that the narratives have become too rutted and categorical - as in - QE is great, the only problem is there hasn't been enough and QE is bad, inflation is coming.
I think there are some other views of QE that should be expressed, and so I sent David an email, which I reproduce hereafter.
Broadly, I think that in terms of unemployment and combating deflation, QE has largely been ineffective. This is by design. Let me say it clearly, I do not believe that the underlying logic of QE is the dual mandate of the FOMC, but rather serves the regulatory function of the Federal Reserve, ensuring that sound institutions are able to operate. QE hasn't obviously helped employment much - while employment has been rising, this has not been due to large amounts of credit expansion. Moreover, it has not led to inflation. This should not surprise us, as the Central Bank went to Congress at the outset of QE I and asked for permission to pay interest on reserve balances at the bank, which enabled the Fed to sterilize its new "money" by ensuring that the banks would keep it all at the Fed and not relend it.
What QE has done are two things - first, it has reduced the interdependency of the banks and banks' dependency on the money markets to provide short term liquidity. This means that for the time being, there are likely to be fewer credit shocks that threaten any bank of size and that even if one bank is hurt, that the others are well insulated. Thus QE allows the Fed to support the banks and protect the banking system while the banks build capital required in 2019 under Dodd-Frank. It does so in a way that voters and perhaps Congress don't see, so it doesn't get labelled a "bank bailout".
The other thing that QE has enabled is for the Federal Government to run large (temporary) deficits without raising interest rates. This might have been a problem over the period 2010-2012. But should be be surprised that as the deficit has declined by $600bn per year since 2013, that the Fed has reduced its purchase of Treasuries ($45bn / month) by about the same amount? The effect has been to bridge the government while the "core" buyers of treasuries, who were prepared to snap up $500bn of the things at "low rates" while the Fed was exercising QE are similarly prepared to accept similar rates for a similar volume of bonds today? This is the real reason rates haven't risen.
Quite frankly, I think the Fed executed this move far better than anyone imagined.
Given that, I expect that in spite of short term volatility driven by Fed comments, that the economy will continue on about the same course for the forseeable future.
Below my letter to David, and hopefully a response from him.
I can understand if you are sceptical about Central Banks. They are human constructs, and as such make mistakes. But quite frankly, none of the doomsday scenarios appears to have occurred (I realize that fear that developing markets will experience a credit shock as a result of Fed tightening is possible).Your specific criticisms have generally been of two sorts: first, that the Fed can’t really do anything about employment and therefore that we should expect no impact, and second, as today, to decry that the Fed’s policy hasn’t fixed anything and that unemployment is still horrible. It seems to me you are trying to have it both ways - blaming them for taking action AND blaming them for not fixing the problem. Which is it? Or do you simply believe that the economy would have recovered faster without QE? I think there is a case to be made here, but then make a case that QE has been harmful, not simply ineffective.(FWIW, the case to be made is that to the extent that in a debt deflation savers are the consumers with the highest marginal propensity to spend, so don’t cut their income, because borrowers - who are largely overleveraged - cannot offset the belt-tightening by savers who find the yield on their savings cut). Not really sure if it is true, but it seems possible.I tend to lean in the direction of your first criticism - that the policy has largely been ineffective, at least by the metrics outlined in the FOMC. Unemployment AND inflation are impacted most heavily by an aging society. Retirees like low prices, tend not to spend and don’t like to work. That the participation rate would decline after 2008, as demographic Boomers started being able to collect social security and tap into retirement plans is unsurprising. In fact, to the extent that asset prices have risen (we can debate the extent to which the FOMC is responsible; I am a sceptic) we are ENCOURAGING lower workforce participation, as near retirees and those over 62 see a recovery in their nest eggs.In other words, the Fed is getting the blame for a demographic challenge known since the late 1970s and quite frankly, one global in nature as fertility falls worldwide.My own view, as I have stated before, is that QE is actually a bridge to Dodd-Frank. What I mean by that is that banks have to build capital buffers to prevent insolvency, but they have until 2019 to do so. In the meantime there is more than a bit of risk that a credit crunch could, through counterparty interconnectedness, lead to another infection of the banking system. To avoid this, the Fed has built up massive Federal Funds at the banks which enable them to have a ready source of “safe” assets to trade with the other banks, and they can avoid resorting to commercial paper and other forms of short term financing.After all, if the intent of QE were to actually flood the economy with cash, as many believe, the Fed would not have gone through the process of securing Congressional approval to pay interest on the reserves (thereby sterilizing them and preventing them from being fuel for new credit). This also explains somewhat why the impat has been muted.
Friday, July 12, 2013
More evidence that China's rise is not inevitable
Some time ago, I wrote a post about three China predictions, in which I argued that China was likely to become the worlds largest economy due to some basic factors in its economy: it was growing in real terms, it had positive inflation and had a nearly fixed exchange rate to the dollar. This means that in dollar terms the inflation China experiences counts toward its economy's size (unless you measure in PPP).
I also suggested that longer term, China would be surpassed, not only by India, but also again by the United States, which simply has better fundamentals.
Recently, there has been mounting evidence that China's rapid boom is coming to an end. Today I saw this, which shows that the evidence is now so compelling that it is turning even the general media's narrative. In the short term, China will likely take the steps necessary to keep the economy growing at a 5-6% rate. Premier Li has already indicated that 8% is no longer the target (and with a declining workforce, is most likely unattainable).
These are growth rates to which India can aspire (it needs to make some structural changes in its economy). Indeed, India has at times exceeded these levels and could do so again.
Meanwhile, the US can keep chugging along at 2-3% and remain larger than China on PPP terms for a very long time.
Good news for China, however, is that the absorbtion of cheap labor means it can focus more on quality of the labor, and on quality of life, as it moves up the income scale. Bad news is, most countries fail when they get caught in the middle income trap of too many skills (and too high prices) for cheap work, but not enough skill for higher wages.
We shall see, but I believe that if you work or invest in businesses / industries that rely heavily on Chinese growth to function as an escape valve (or as the primary driver of growth), you have to be very concerned that many of the capital investments undertaken to capture Chinese market growth may be written off. The risks are rising that this will happen.
I also suggested that longer term, China would be surpassed, not only by India, but also again by the United States, which simply has better fundamentals.
Recently, there has been mounting evidence that China's rapid boom is coming to an end. Today I saw this, which shows that the evidence is now so compelling that it is turning even the general media's narrative. In the short term, China will likely take the steps necessary to keep the economy growing at a 5-6% rate. Premier Li has already indicated that 8% is no longer the target (and with a declining workforce, is most likely unattainable).
These are growth rates to which India can aspire (it needs to make some structural changes in its economy). Indeed, India has at times exceeded these levels and could do so again.
Meanwhile, the US can keep chugging along at 2-3% and remain larger than China on PPP terms for a very long time.
Good news for China, however, is that the absorbtion of cheap labor means it can focus more on quality of the labor, and on quality of life, as it moves up the income scale. Bad news is, most countries fail when they get caught in the middle income trap of too many skills (and too high prices) for cheap work, but not enough skill for higher wages.
We shall see, but I believe that if you work or invest in businesses / industries that rely heavily on Chinese growth to function as an escape valve (or as the primary driver of growth), you have to be very concerned that many of the capital investments undertaken to capture Chinese market growth may be written off. The risks are rising that this will happen.
The Federal Deficit: The REAL Reason the Fed will Taper
In the media, there has been much knashing of teeth over the scaling back of QE3. Supposedly, the move to reduce purchases of US Treasury securities will lead to higher interest rates and from there to recession and then armageddon. It is a delightfully linear thesis, which means it plays well in the media. Ironically, much of the moaning comes from the same people who moaned about the introduction of QE to begin with (distorting the markets, perverting risk/reward, and eliminating price signals for investors). So, QE is terrible, but withdrawal is worse. One wonders what the addict is to do.
The Fed has maintained all along that factors in the economy overall would be dispositive, and highlighted unemployment (as part of the "dual mandate") as the main driver. While labor markets have been improving (creating over 200,000 jobs per month for the past year and showing more strength this summer), there is another factor that is surely starting to come into focus: a dwindling supply of newly issued Treasury paper to buy.
A year ago, when the Fed started buying $45bn a month in Treasury securities, the Federal government was running a deficit of almost $100bn a month. Thus, the Fed was buying about half of all newly minted securities, leaving the public (and foreign central banks) to buy the rest.
Due to several positive factors released in the monthly Treasury statement yesterday, including rising employment, higher corporate profits, higher rates of tax on incomes and the end of the payroll tax holiday driving higher revenues, and the sequester and the military drawdown leading to lower spending, the deficit is shrinking rapidly. If CBO is right, the deficit will be about $640bn in FY2013, or $500bn less than the previous year. (The same teeth knashers are suggesting that the economy is suffering from the withdrawal, though this doesn't seem to be true. Makes you wonder how important all that "stimulus" really is. I digress).
Were the Fed to keep purchasing at the same rates as before, it would purchase effectively 100% of new issuance, leaving no bonds for pension funds, and others looking to match assets with long term liabilities.
Indeed, to maintain this pace, the Fed would very soon have no choice but to purchase off-the-run bonds from prior periods of issuance.
This is why the Fed has moved off of the 6.5% unemployment figure that was its target for tapering before. Mind you, reducing its purchases by half, to maintain its share of overall absorbtion of new Treasury issues will still leave a much smaller pool of assets for private parties. In fact, if private demand reflects the $50bn or so the Fed was not buying each month in the fall of 2012, then the Fed would have to cut to zero just to maintain a large enough supply to feed the private market.
This is also why this is a great time for the Fed to "exit" or "taper" purchases. Supply is more in line with private demand. If the Federal government can manage a second and third round of sequester controls, along with some modest tax reform, the budget could realistically be in balance in FY2016.
Even if the deficit remains in the $200bn range, the Fed will have the option to sell some of its off-the-run bonds into the market to meet the demand of investors for bonds. (With a balanced budget, the effective buyer could be the Federal government which could redeem the bonds at par). All of which means that Bernanke might have been right all along. There may be some capital losses associated with this. But done moderately, the incredible interest generated by the portfolio will help to offset this.
Now, on the mortgage market side, things might be somewhat different. However, again, as natural supply of Federal debt securities decline, investors looking for long term income will need to migrate to other asset classes with the most similar risk/reward characteristics: e.g. mortgage securities.
It will be fun to watch the knashers complain about how QE didn't really work, it just "got lucky" as policy was enacted as the economy was taking off on its own.
The Fed has maintained all along that factors in the economy overall would be dispositive, and highlighted unemployment (as part of the "dual mandate") as the main driver. While labor markets have been improving (creating over 200,000 jobs per month for the past year and showing more strength this summer), there is another factor that is surely starting to come into focus: a dwindling supply of newly issued Treasury paper to buy.
A year ago, when the Fed started buying $45bn a month in Treasury securities, the Federal government was running a deficit of almost $100bn a month. Thus, the Fed was buying about half of all newly minted securities, leaving the public (and foreign central banks) to buy the rest.
Due to several positive factors released in the monthly Treasury statement yesterday, including rising employment, higher corporate profits, higher rates of tax on incomes and the end of the payroll tax holiday driving higher revenues, and the sequester and the military drawdown leading to lower spending, the deficit is shrinking rapidly. If CBO is right, the deficit will be about $640bn in FY2013, or $500bn less than the previous year. (The same teeth knashers are suggesting that the economy is suffering from the withdrawal, though this doesn't seem to be true. Makes you wonder how important all that "stimulus" really is. I digress).
Were the Fed to keep purchasing at the same rates as before, it would purchase effectively 100% of new issuance, leaving no bonds for pension funds, and others looking to match assets with long term liabilities.
Indeed, to maintain this pace, the Fed would very soon have no choice but to purchase off-the-run bonds from prior periods of issuance.
This is why the Fed has moved off of the 6.5% unemployment figure that was its target for tapering before. Mind you, reducing its purchases by half, to maintain its share of overall absorbtion of new Treasury issues will still leave a much smaller pool of assets for private parties. In fact, if private demand reflects the $50bn or so the Fed was not buying each month in the fall of 2012, then the Fed would have to cut to zero just to maintain a large enough supply to feed the private market.
This is also why this is a great time for the Fed to "exit" or "taper" purchases. Supply is more in line with private demand. If the Federal government can manage a second and third round of sequester controls, along with some modest tax reform, the budget could realistically be in balance in FY2016.
Even if the deficit remains in the $200bn range, the Fed will have the option to sell some of its off-the-run bonds into the market to meet the demand of investors for bonds. (With a balanced budget, the effective buyer could be the Federal government which could redeem the bonds at par). All of which means that Bernanke might have been right all along. There may be some capital losses associated with this. But done moderately, the incredible interest generated by the portfolio will help to offset this.
Now, on the mortgage market side, things might be somewhat different. However, again, as natural supply of Federal debt securities decline, investors looking for long term income will need to migrate to other asset classes with the most similar risk/reward characteristics: e.g. mortgage securities.
It will be fun to watch the knashers complain about how QE didn't really work, it just "got lucky" as policy was enacted as the economy was taking off on its own.
Thursday, April 19, 2012
Bassett Stock Price Movements - Mattresses or Fundamentals?
Bassett Furniture has seen significant movement in the stock price of late. Moreover, as I have mentioned in previous posts, here and here the trend of the stock price has been pretty much one way - up almost every day (though not yesterday). There are three good reasons for the stock price to rise, though none explain the consistency of the increase.
One possibility that only recently crossed my radar screen is the stock performance of mattress manufacturers such as Sealy, (which sells mattresses under the Bassett name and through Bassett furniture outlets), Terpurpedic and several others. All of them have seen strong gains in the last several weeks, in part because of speculation that strapped homeowners and recently rehired employees are choosing to make small purchases to improve their lives and that one of htese is a better mattress. For myself, I can say that I believe a mattress is an investment in better sleep, which in turn leads to more energy and less stress - in short, a better life. In this way, a mattress is a special piece of furniture, unlike most of the other functional stuff in the home. A mattress helps to protect your health, and it is not worth sleeping on a bad one.
So perhaps Bassett is participating in general market moves in the mattress sector (though it hardly seems possible that Bassett's performance would be strongly influenced by only the mattress segment, I doubt it is big enough to influence overall earnings that significantly).
The real reason I believe Bassett stock has been rising is that the fundamentals of the business are coming to look much better, and this is converting the furniture business portion of the stock valuation to a positive figure and allowing the balance sheet items to receive full valuation (2 years ago it appeared that management might burn all of the investments that were not directly deployed in the business in a possibly futile attempt to keep the business afloat, rather than shut it down).
Keeping it short - I believe the true reasons for the improvement are the following:
One possibility that only recently crossed my radar screen is the stock performance of mattress manufacturers such as Sealy, (which sells mattresses under the Bassett name and through Bassett furniture outlets), Terpurpedic and several others. All of them have seen strong gains in the last several weeks, in part because of speculation that strapped homeowners and recently rehired employees are choosing to make small purchases to improve their lives and that one of htese is a better mattress. For myself, I can say that I believe a mattress is an investment in better sleep, which in turn leads to more energy and less stress - in short, a better life. In this way, a mattress is a special piece of furniture, unlike most of the other functional stuff in the home. A mattress helps to protect your health, and it is not worth sleeping on a bad one.
So perhaps Bassett is participating in general market moves in the mattress sector (though it hardly seems possible that Bassett's performance would be strongly influenced by only the mattress segment, I doubt it is big enough to influence overall earnings that significantly).
The real reason I believe Bassett stock has been rising is that the fundamentals of the business are coming to look much better, and this is converting the furniture business portion of the stock valuation to a positive figure and allowing the balance sheet items to receive full valuation (2 years ago it appeared that management might burn all of the investments that were not directly deployed in the business in a possibly futile attempt to keep the business afloat, rather than shut it down).
Keeping it short - I believe the true reasons for the improvement are the following:
- Strong balance sheet has been strengthened by the sale of IHFC
- Converted an accounting liability into an asset (cash)
- Provides added liquidity to restructure and invest and be opportunistic in a weak market
- Provides means to ride out an extended period of housing weakness
- Shareholder friendly management
- Paid several special dividends
- Restored quarterly dividends
- Repurchasing shares at low valuation enhances intrinsic value per share
- Restructuring of the business seems to have positioned the business for profit at reduced volume
- Finally able to close or take over underperforming licensee stores and improve ops (company stores open more than 1yr are earning a profit as a group)
- Able to invest in capturing additional share in local markets
- Growth into new markets
- Adding locations for the first time in some time
- Positioning business for growth / upswing (assumes no recession)
- Able to invest in operations at a time when real estate and labor are relatively inexpensive, good opportunities to sign leases at low rates and lock in low rents
- Recovery in housing
- There are some signs that housing is making a turn, or at least, that the pace of decline is slowing
- Many households have been aggressively reducing debt, positioning them to make larger purchases in the next few years and to trade up from IKEA.
Saturday, April 14, 2012
That was fast - Unusual activity in BSET
An reported story - on Friday, Bassett Furniture, BSET, (Disclosure, I am long BSET), saw a massive rise of 5.5% on volume of 200,000 shares, 10x the normal amount. There was no news nor any press release from BSET.
As I posted earlier this week, the chart of Bassett stock indicates that someone is on an acquisition spree for a stock that is undervalued compared to the sum of its parts.
As I have said, the company is really two halves - one is an investment company with a strong balance sheet (though relatively few investments at the moment). The balance sheet already reflecats over $20mn of impairments, much of which could be reversed, particularly if business improves.
The other half is an operating company that manufactures, designs, distributes and retails furniture. The open question has been, can the business make a go of it, in the face of sharp declines in consumer spending. This past quarter, we received the first indication that, so long as business does not deteriorate further (on the top line), yes, Bassett can be a modestly profitable venture. The natural operating leverage in the business (which has increased with the acquisition of several retail outlets from former licensees) means that with a modest uptick in volume, profitability should recover nicely (leading to reversals of the valuation adjustments on upto $19mn in deferred tax assets).
Looking at massive liquidity, and the opportunity to use BSET to shelter income tax for some profitable venture (if not from the Bassett furniture business itself) the company looks like a good acquisition target for a private equity firm.
Up to now, whoever has been acquiring shares has been doing so quietly, trying not to increase the price dramatically. However, with the very large volume on Friday, I expect an announcement over the weekend or latest sometime next week that someone will have to announce something.
What do you all think?
As I posted earlier this week, the chart of Bassett stock indicates that someone is on an acquisition spree for a stock that is undervalued compared to the sum of its parts.
As I have said, the company is really two halves - one is an investment company with a strong balance sheet (though relatively few investments at the moment). The balance sheet already reflecats over $20mn of impairments, much of which could be reversed, particularly if business improves.
The other half is an operating company that manufactures, designs, distributes and retails furniture. The open question has been, can the business make a go of it, in the face of sharp declines in consumer spending. This past quarter, we received the first indication that, so long as business does not deteriorate further (on the top line), yes, Bassett can be a modestly profitable venture. The natural operating leverage in the business (which has increased with the acquisition of several retail outlets from former licensees) means that with a modest uptick in volume, profitability should recover nicely (leading to reversals of the valuation adjustments on upto $19mn in deferred tax assets).
Looking at massive liquidity, and the opportunity to use BSET to shelter income tax for some profitable venture (if not from the Bassett furniture business itself) the company looks like a good acquisition target for a private equity firm.
Up to now, whoever has been acquiring shares has been doing so quietly, trying not to increase the price dramatically. However, with the very large volume on Friday, I expect an announcement over the weekend or latest sometime next week that someone will have to announce something.
What do you all think?
Wednesday, April 11, 2012
BSET Posts Encouraging Results
Bassett Furniture, BSET, is an interesting play on a recovery in consumer spending and housing.
Last week, the company released its 1st Quarter Earnings statement and there was much to like, but with some caveats that suggest the questions around the business have not been fully answered.
The company is primarily engaged in designing, manufacturing, distributing and retailing custom furniture with a more "grown-up" and traditional style than say, IKEA, which engages in the same set of activities.
The stock, is actually a hybrid of two components: one is an incredible balance sheet that historically has included investments in other firms, real estate and hedge funds. Indeed, much of the company's profits in recent years have been the profits of these investments. The other part is the operating business, which has struggled.
At the moment, the company is valued at $100mn or so. This essentially values the company at its working capital. The net working capital as of 28 Feburary was $90mn, but in a subsequent event, the US government announced that BSET was entitled to $9mn in anti-dumping offsets. This sum is the result of actions taken years ago by the Federal Government, but the monies have been only dispersed slowly. If we add this as a receivable, we have about $99mn in working capital, almost exactly the price of the stock.
(The US for a time had an anti-dumping law that saw the US government impose penalty tariffs on firms that were "dumping" products on the market and then use the monies collected not to fund the government, but to provide subsidies to the "harmed" firms. This strikes me as a double down on protection, since the tariffs should already raise competitors prices, to then pay an additonal subsidy seems silly, perhaps this is why the law was amended).
Much of the working capital, it should be added, is in cash, raised by liquidating several of the company's investments, including hedge funds and it's large share in the IHFC in North Carolina (this asset was actually carried as a liability on the books, because dividends received exceeded the entity's income, so it had a shareholder deficit), It was able to sell this "liability" for $80mn. Accounting is so much fun, sometimes.
This effectively values teh company's long term assets, most of which are property, plant and equipment, as well as some rental real estate and a large deferred tax asset, at zero. This seems silly, since it is likely that even in a weak real estate market, much of the real estate the company owns could be sold at a price higher than its carrying value. After all, land that the company owns in Bassett, VA has been on the books for decades, still shown at the lower of cost or market. Most of the company's retail store fronts owned are rented (admittedly to itself or to licensees), but rented commercial property usually gets good prices and cap rates are still low.
Better yet, the company has taken massive valuation allowances against many of its assets, including a $19mn valuation allowance against its deferred tax assets. At present, the company cannot predict that it willl earn enough to reverse this allowance, but if earnings improve, it could be sitting on a $19mn gain (or at least a portion thereof) because it can use these assets to reduce taxes in the future. The company has noted that the $9mn in antidumping subsidies would allow the company to reverse over $3mn in DTA.
It also has valuation allowances against its remaining interest in one hedge fund, which will likely have at least a partial reversal, and $4mn in allowances against notes receivable (mostly from struggling licensees). If business were to improve, and licensees were better able to meet their obligations, these allowances could also be reversed.
All in all, if we were purely evaluating the balance sheet, we could value the company at $13-$15 per share. But what of the struggling furniture business? For a great balance sheet supporting a crappy business is worth less than it seems.
Well, much of the new-found liquidity raised by selling long-term investments, has been used to restructure its operations, especially retail, and the efforts are finally producing some results.
The company's wholesale operations, which design, source, manufacture and distribute furnishings to both Bassett's branded retail network (much of it company owned) and to 3rd party retailers has traditionally made a profit. In 2011, huge write downs caused wholesale to lose money, but evidence is that the wholesale segment finally has its cost structure aligned with volumes, as the company still made a good operating profit with lower volume. Given operating leverage in the business, and improved gross margins, any lift should see nice profit growth at the wholesale level.
The retail level has struggled and has traditionally lost money. This is still true, however there are many encouraging signs that the company has finally turned a corner. Stores open and manageed by the company for a longer period, actually earned a small operating profit as gross margins improved and SGA were held to reasonable levels. Other stores still spend.
If the furniture busienss can earn $0.30 per share per quarter (approx $3.3mn) which can definately be achieved by the wholesale segment, requiring simply a break even at retail, the business can be valued at $6 a share ON TOP of the balance sheet, from which many cash distributions can be made (more on this below). If retail can also make a contribution, so much the better.
Growth would help at both levels.
Here the results are more mixed, as actual sales in the quarter declined. But this was tempered by a 10% increase in orders taken. It is not clear yet whether this was just order shifting (from Q1 to Q2), perhaps because of slower delivery times, or whether this indicates a greater willingness of Americans to purchase bigger ticket items. Only time will tell, so I remain a patient holder of the stock.
The final bit to notice is that the company has been using its cash to pay dividends and to repurchase stock. The company repurchased nearly 1% of shares oustanding in the first quarter, and there is continued evidence of slow but steady accumulation. Take a look at this chart, the 1 month price movement, courtesy of Yahoo! Finance.
I have never seen a stock with such a steady set of rises. The stock increases almost every day, but only in small increments, as though someone is trying to prevent large buying from raising the price too much.
I am certain that there is active accumulation of the stock. Slow but steady accumulation which is driving the price higher, but enabling the shares to be purchased at the lowest possible price. It could be the company's purchases, or it could be an investor or a fund, but I believe there is enough to drive the stock higher from here.
Last week, the company released its 1st Quarter Earnings statement and there was much to like, but with some caveats that suggest the questions around the business have not been fully answered.
The company is primarily engaged in designing, manufacturing, distributing and retailing custom furniture with a more "grown-up" and traditional style than say, IKEA, which engages in the same set of activities.
The stock, is actually a hybrid of two components: one is an incredible balance sheet that historically has included investments in other firms, real estate and hedge funds. Indeed, much of the company's profits in recent years have been the profits of these investments. The other part is the operating business, which has struggled.
At the moment, the company is valued at $100mn or so. This essentially values the company at its working capital. The net working capital as of 28 Feburary was $90mn, but in a subsequent event, the US government announced that BSET was entitled to $9mn in anti-dumping offsets. This sum is the result of actions taken years ago by the Federal Government, but the monies have been only dispersed slowly. If we add this as a receivable, we have about $99mn in working capital, almost exactly the price of the stock.
(The US for a time had an anti-dumping law that saw the US government impose penalty tariffs on firms that were "dumping" products on the market and then use the monies collected not to fund the government, but to provide subsidies to the "harmed" firms. This strikes me as a double down on protection, since the tariffs should already raise competitors prices, to then pay an additonal subsidy seems silly, perhaps this is why the law was amended).
Much of the working capital, it should be added, is in cash, raised by liquidating several of the company's investments, including hedge funds and it's large share in the IHFC in North Carolina (this asset was actually carried as a liability on the books, because dividends received exceeded the entity's income, so it had a shareholder deficit), It was able to sell this "liability" for $80mn. Accounting is so much fun, sometimes.
This effectively values teh company's long term assets, most of which are property, plant and equipment, as well as some rental real estate and a large deferred tax asset, at zero. This seems silly, since it is likely that even in a weak real estate market, much of the real estate the company owns could be sold at a price higher than its carrying value. After all, land that the company owns in Bassett, VA has been on the books for decades, still shown at the lower of cost or market. Most of the company's retail store fronts owned are rented (admittedly to itself or to licensees), but rented commercial property usually gets good prices and cap rates are still low.
Better yet, the company has taken massive valuation allowances against many of its assets, including a $19mn valuation allowance against its deferred tax assets. At present, the company cannot predict that it willl earn enough to reverse this allowance, but if earnings improve, it could be sitting on a $19mn gain (or at least a portion thereof) because it can use these assets to reduce taxes in the future. The company has noted that the $9mn in antidumping subsidies would allow the company to reverse over $3mn in DTA.
It also has valuation allowances against its remaining interest in one hedge fund, which will likely have at least a partial reversal, and $4mn in allowances against notes receivable (mostly from struggling licensees). If business were to improve, and licensees were better able to meet their obligations, these allowances could also be reversed.
All in all, if we were purely evaluating the balance sheet, we could value the company at $13-$15 per share. But what of the struggling furniture business? For a great balance sheet supporting a crappy business is worth less than it seems.
Well, much of the new-found liquidity raised by selling long-term investments, has been used to restructure its operations, especially retail, and the efforts are finally producing some results.
The company's wholesale operations, which design, source, manufacture and distribute furnishings to both Bassett's branded retail network (much of it company owned) and to 3rd party retailers has traditionally made a profit. In 2011, huge write downs caused wholesale to lose money, but evidence is that the wholesale segment finally has its cost structure aligned with volumes, as the company still made a good operating profit with lower volume. Given operating leverage in the business, and improved gross margins, any lift should see nice profit growth at the wholesale level.
The retail level has struggled and has traditionally lost money. This is still true, however there are many encouraging signs that the company has finally turned a corner. Stores open and manageed by the company for a longer period, actually earned a small operating profit as gross margins improved and SGA were held to reasonable levels. Other stores still spend.
If the furniture busienss can earn $0.30 per share per quarter (approx $3.3mn) which can definately be achieved by the wholesale segment, requiring simply a break even at retail, the business can be valued at $6 a share ON TOP of the balance sheet, from which many cash distributions can be made (more on this below). If retail can also make a contribution, so much the better.
Growth would help at both levels.
Here the results are more mixed, as actual sales in the quarter declined. But this was tempered by a 10% increase in orders taken. It is not clear yet whether this was just order shifting (from Q1 to Q2), perhaps because of slower delivery times, or whether this indicates a greater willingness of Americans to purchase bigger ticket items. Only time will tell, so I remain a patient holder of the stock.
The final bit to notice is that the company has been using its cash to pay dividends and to repurchase stock. The company repurchased nearly 1% of shares oustanding in the first quarter, and there is continued evidence of slow but steady accumulation. Take a look at this chart, the 1 month price movement, courtesy of Yahoo! Finance.
I have never seen a stock with such a steady set of rises. The stock increases almost every day, but only in small increments, as though someone is trying to prevent large buying from raising the price too much.
I am certain that there is active accumulation of the stock. Slow but steady accumulation which is driving the price higher, but enabling the shares to be purchased at the lowest possible price. It could be the company's purchases, or it could be an investor or a fund, but I believe there is enough to drive the stock higher from here.
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