I’ve been a bit busy with work and school which have prevented me from updating the site like I would like to, but nevertheless the show must go on.

Thoughts on the market

Even though I might be inactive from  the site, it doesn’t mean I don’t have an  eye on what’s going on. I continue to  look for value stocks and I continue to screen the magic formula on a weekly basis. Now, this is a scary market for a couple reasons. Number one, the market is up a tremendous amount from its March lows (about 65%). I have been saying this for a couple of months and it looks like we been stuck in neutral. Secondly, inflation is creeping up while unemployment doesn’t seem to be picking up.

Magic Formula Investing Experiments

I will be running a couple of experiments on Marketocracy.com and will be reporting on them on the site. I’m convinced the magic formula investing system works, but i’m curious if it could be broken down further and keeping the performance and automation in tact. Speaking of which, i’m starting to believe following the system as its laid out in the book is the best way to go with this.  The problem I run into when waiting for fat pitches to come by is the lack there of fat pitches in a rising markets. This became extremely obvious in the past couple of months as cash became an anchor. One could then make the argument of purchasing selectively on a continuous basis. That seems to work. But, one thing I have noticed is the performance of the stocks that weren’t purchased often outperform chosen stocks.  The perfect example is biotechs, which are often the first stocks to get excluded when considering a purchase due to their volatile nature. Well, these ugly monkeys might be your next double or take-over. What happens is these companies appear on the magic formula screen after a HUGE drop, usually from a blockbuster drug coming off the market, disappointing lab results, analyst downgrades,etc.. But as time goes on, management will often appeal the FDA, get back to the drawing board, discover other drugs, or get taken over. So as the positive news develop, the stock moves up quick and thus might give your portfolio a nice boost.  I’ll go into more detail later in the month as I report the trades, set up the website pages, etc..

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In:

• Dyadic International, Inc. (DYAI.PK)
• Net 1 UEPS Technologies, Inc. (UEPS)
• Pervasive Software  Inc. (PVSW)
• Universal Travel Group (UTA)

Out:

• Aeropostale, Inc. (ARO)
• Forest Laboratories, Inc. (FRX)
• Graham Corporation (GHM)
• Jackson Hewitt Tax Service Inc. (JTX)

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I have been value investing for about 6 years and if there is one thing I have learned over the years is that to outperform you have to be VERY patient as bargains rarely come around. Seriously, if you see any blogger/persona/journalist, etc…  recommend stocks in every post, chances are they are pulling names out of a hat, in other words, their full of it.  Consider this, the magic formula investing systems screens for great companies selling at cheap prices. No secret there, but even though it screens for cheap prices, I have found about 3 undervalued stocks in the past 4 months. So if I screen for “cheap” every week, and I have found all but 4 undervalued stocks,  how on Earth is someone finding undervalued stocks on a daily/weekly basis?  The other thing I have learned is while value investing is simple, its definitely not easy. It takes a bunch of reading and analysis to truly understand a company and then you have to pray to the gods that its undervalued, something that happens in these kind of markets.

Then comes the curveball, the magic formula doesn’t work at all times. Yikes!!! what does an investor do? a) stick with the system b) keep it automated. Yup, don’t try to pick the winners. Stick with the magic formula system as it is laid out in the “little book”. I have been pretty inactive in the past month or two. Part of it is due to school. The other half is due to business. So considering my time is constrained, I went fully automated and cringed at the thought of buying bio-techs and unknown Chinese companies. But there’s an upside to this automated system. First, the magic formula doesn’t work at all times. Secondly, you have to accept the fact that these magic formula stocks are cheap for a reason, very rarely will you find a Bentley in a sea of Toyota’s. Third,  and probably the most overlooked, what might be a dog, could very well be a tiger. By that I mean, that stupid bio-tech that you bought with your eyes closed, could double in the next year as it goes through legal issues, new products,etc… How do I know? I have seen hundreds of companies go though the magic formula system. What looked like a bargain became a stock to forget, and what looked like a dud turned out to be gold. Don’t believe me, check out my automated magic formula fund (results below). I screen for it every month following the rules as they’re laid out in the book.  I buy,sell ,repeat and that’s all I do. I can’t complain about the magic formula results.

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In:

• Continucare Corporation (CNU)
• The Corporate Executive Board Company (EXBD)
• Immunomedics, Inc. (IMMU)
• Infinity Pharmaceuticals, Inc. (INFI)

Out:

• Cubist Pharmaceuticals, Inc (CBST)
• i2 Technologies, Inc. (ITWO)
• Oncothyreon Inc. (ONTY)
• Pervasive Software, Inc. (PVSW)

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With the market’s run up from its March lows, I have become a bit nervous about where the market is headed. You have to be. While the upside is nice, the downside is equally as brutal. The really bad part about today’s market is the lack of opportunities. I find it hard to believe certain bloggers are finding so many bargains. I recently read a blog where it seemed every blog post included a buy recommendation, are you kidding me? I have looked at almost 200 stocks in the past month, and only 2 are bargains, or semi-bargains as I like to call them as they weren’t my required 50% margin of safety, but are cheap enough where they might merit a purchase. Other than that, I will continue to turnover rocks.

Where are the stock market bargains?

While I haven’t found any bargains in my weekly magic formula investing screen, I have been fishing deeper in the waters looking for the old school Ben Graham types of stocks where current assets are greater than total liabilities. I used to almost exclusively focus on these types of stocks which Ben Graham called “Net-Net’s”. You  have to love net-nets, its about as sure thing there is in the market, I mean its like getting a free business if you think about it. Only problem, there are net-nets for a reason and that’s one thing that turns me off. Also, I wouldn’t run a concentrated portfolio around Net-Net strategy. I would take the Walter Schloss approach and have 100 stock portfolio. But this method takes time and its simply something I do not have right now. So I’m simply sticking with my magic formula investing strategy.

Magic Formula Investing Today

The process is pretty simple, search for magic formula stocks, research, make a decision. Now, the problem that has arisen lately is there has been a lot of searching and searching, but no buys. I’m being patient but I’m also being cautious. I’m selling when stocks approach my estimate of fair value. While I could easily keep some of these stocks I’m selling as they might continue to run up, that’s playing the greater fool theory, a game in which I have no experience in and most likely have a major disadvantage. The only problem with this strategy is that as I’m selling stocks as they approach my estimate of fair value, I’m increasing my cash which is currently about 30%. And if you have 30%+ cash, you will find it very hard to move the needle.

1929 Stock Market Crash

I thought it would be nice to revisit history and search for videos on the 1929 Stock market Crash. While watching these videos, the one word that came to mind is panic. In a situation where panic exists, you could either panic with the rest of the crowd or remain patient and take advantage of the panic. Anyway, I thought these videos were very informative.

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In:

• Argan, Inc. (AGX)
• Comfort Systems USA, Inc (FIX)
• Cubist Pharmaceuticals, Inc. (CBST)
• Lorillard, Inc (LO)
• Synta Pharmaceuticals Corp. (SNTA)

Out:

• BigBand Networks, Inc. (BBND)
• The Corporate Executive Board Company (EXBD)
• DivX, Inc. (DIVX)
• Net 1 UEPS Technologies, Inc. (UEPS)
• Verisk Analytics, Inc (VRSK)

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I can’t say I saw this coming, but it doesn’t surprise me. I looked into Burlington-Northern a couple of times but I never able to convince myself to buy a great company at a fair price. I figured the stock was worth $100, but with the market decline, I also figured better bargains would exist. One thing I did come away with from reading the multiple filings is how big a moat railroads have.

Burlington-Northern Valuation

5 Warren Buffett Quotes On Burlington-Northern Acquisition

“[Burlington Northern] does it in a very cost-effective way and they do it in an extraordinarily environmentally friendly way”

“BNSF last year moved on average a ton of goods 471 miles on one gallon of diesel and it releases far fewer pollutants into the atmosphere. It saves enormously on energy consumption and it diminishes highway congestion.”

“I believe this country will prosper and will have more people moving more good 10 to 30 years from now and the rails should benefit, but it’s a bet on the country”

“I’m not big on stock splits, but by having this split, it enables anybody with as little as one share of BNSF to opt for the tax-free exchange,” said Buffett. “So the small shareholder can have the exactly the same availability that otherwise would only have been available to a big shareholder.”

Source: CNBC: Berkshire Hathaway to Acquire Burlington Northern

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In:

• BigBand Networks, Inc. (BBND)
• Fluor Corporation (FLR)
• Net 1 UEPS Technologies, Inc. (UEPS)
• Pervasive Software, Inc. (PVSW)
• Sturm, Ruger & Company, Inc. (RGR)
• Tessera Technologies, Inc. (TSRA)
• Verisk Analytics, Inc. (VRSK)

Out:

• Argan, Inc. (AGX)
• Comfort Systems USA, Inc. (FIX)
• EarthLink, Inc. (ELNK)
• Endo Pharmaceuticals Holdings Inc. (ENDP)
• Great Northern Iron Ore Properties (GNI)
• Lorillard, Inc. (LO)
• MIPS Technologies, Inc. (MIPS)

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5 Charlie Munger Quotes

1. Forgetting your mistakes is a terrible error if you are trying to improve your cognition.
2. If you took our top fifteen decisions out, we’d have a pretty average record. It wasn’t hyperactivity, but a hell of a lot of patience. You stuck to your principles and when opportunities came along, you pounced on them with vigor
3. We all are learning, modifying, or destroying ideas all the time. Rapid destruction of your ideas when the time is right is one of the most valuable qualities you can acquire. You must force yourself to consider arguments on the other side.
4. We both (He and Warren Buffett) insist on a lot of time being available almost every day to just sit and think. That is very uncommon in American business. We read and think. So Warren and I do more reading and thinking and less doing than most people in business. We do that because we like that kind of a life.
5. You have to know accounting. It’s the language of practical business life. It was a very useful thing to deliver to civilization. I’ve heard it came to civilization through Venice which of course was once the great commercial power in the Mediterranean. However, double entry bookkeeping was a hell of an invention.

Charlie Munger On BBC

Below is the recent interview he did with BBC in which capitalism and markets are talked about.  The video speaks for itself but the title is really relevant to anyone even interested in equity markets. While everyone wishes there were rising markets all the time, somewhere along the road we will have speed-bumps.

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