Sunday, June 20, 2010

Unpredictability and My Grandfather

Often in these blogs I use inputs from beyond the US, and I will again tonight. My reasoning is that we live in a closed cycle on this singular earth, where important events anyplace can have significant impact on the portfolios that I manage for wealthy people and institutions. I did not realize that some of the members of this blog community tap into us occasionally from the United Kingdom, Hong Kong, Philippines, Australia, Canada, France, Russia, Germany and Denmark. Just as those within the US, people elsewhere invest externally to escape the constraints imposed by their own governments and look for opportunities elsewhere. Further, we have seen that basic investment principles, or if you will wisdom, regularly jumps borders. Hopefully, all of the members of this blog community will perceive some worthwhile insights from these blogs.

In discussing what to write about for this blog during my Father’s Day call with one of my sons, he suggested a good topic might be the wisdom I received from my grandfather. Most of my investment conversations with my grandfather were when I was a couple of years either side of ten. These discussions were many years after he retired as the senior partner of his own brokerage firm that served the “carriage trade.” I am sure that he had many wise things to say, but only two were germane to investments of today.


The first discussion referred to the 1930s, when at times one could not borrow money even if you had substantial cash in a safe deposit box. He recognized that the inability to borrow would be crippling to his brokerage firm (that he successfully liquidated) as well as to his wealthy clients who used margin borrowing. The second thing that I took away from his statement was that he did not totally trust banks for all of his deposits. I wish that he would have been around in 2008 so we could have discussed the liquidity crisis that took down two of the brokerage firms he competed with, Bear Stearns and Lehman Brothers.


The second insight that I learned from him was the importance of tax accounting for the oil companies. He felt that the then sizeable depletion allowances gave the oil companies what Warren Buffet would recognize in the insurance business as “float.” Depletion was one way to have the oil companies focus on the replacement cost of the oil they were pumping. Oil company replacement cost accounting, while not generally the focus of stock investors, drives a number of the large oil companies today. This is why a number of the majors spend all of their prodigious cash flow in exploration and borrow outside capital to pay their dividends which are critical to support their stock prices. One can see the implications for the shareholders of BP of this type of analysis, but we would leave that to others for the moment.


The reason to bring up the wisdom of my grandfather is to illustrate that one of the better ways wealthy families survive is not just cash preservation, but by passing on sound principles to their families. Capital can be lost to bad investment decisions or consumed through high expenses. Analytically sound thinking can aid in the family’s recovery of their wealth. We have seen this often when formerly wealthy families are forced to leave their homelands and begin anew in a foreign land. Relying on hard work and passed-on principles, they recover and prosper. One of the jobs of wealth managers and family officers is not just preserving wealth, but helping future generations learn from their parents and grandparents how to make money in the future.


One of the ways to learn about the financial world that is both different, but in many ways similar to my grandfather’s time, is to read important articles and books. For readers, one of the major pluses of Rupert Murdock’s purchase of Dow Jones is that he can introduce us to some of the best thinking in the London press. In Saturday’s Wall Street Journal an article on the unpredictability of the future, entitled “The Benefits of the Bust,” was written by Anatole Kaletsky, editor at large of The Times of London, (click here to read) This article dwells on the fact that once again we were unprepared for the future. The various economic and political models did not contemplate wholesale disruption of what were perceived to be known: housing prices and the failure of very large financial institutions. I recommend that you read this piece and contemplate it in terms of the unpredictability of the future. Yet as people and particularly business people, we must spend money today against some concept of what the future will hold. These are important lessons for those who have the responsibility of investing money today for the future benefit of others.

Perhaps on this Father’s Day we should think carefully about how to apply the lessons of our fathers and grandfathers to today’s problems and opportunities. I, for one, am convinced that my grandfather would have been a success in today’s environment. I only hope to have learned from him and others to do as well.

Happy Father’s Day
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