Mike Lipper’s Monday Morning Musings
Next Race Winner
Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –
My best education in picking my next winning investment was not taking the graduate course in Security Analysis as an undergraduate under Professor David Dodd, co-author with Benjamin Graham of the seminal textbook. While the course was very valuable in helping me understand markets, it was not particularly useful in helping me pick future winners, particularly if the future was different than the past.
My single best education in picking winning investments were from the grandstands and paddock at the New York Racetracks. Losing some of your hard earnings on foolish bets did wonders for concentrating the mind. The purpose of this blog is not to discuss handicapping horseraces, but to share an approach for avoiding losses and making betting profits overall.
For purposes of this blog, there are three analytical elements from the track I find useful in picking investments. These elements also help in limiting losses and produce winners over time. (Hopefully, some of my grandchildren and great-grandchildren will learn these approaches as they invest time, money, and emotion in their lives.)
While both security analysis and racetrack handicapping delve into history going back three generations or more, handicapping is more focused on future races or tomorrow’s newspapers than the extrapolation of current trends. One handicapper advantage is the identified conditions of the race are stipulated. How tomorrow’s headlines will impact tomorrow’s investments is unknown. The first analytical task at the track is to compare the conditions, including: distance, weather, track conditions, weight carried on the horse, the jockey, and equipment on the horse. These items, among other things, should be evaluated for all the horse’s recent races and for the upcoming races. (I only wish I had the same level of detail in making marketable invest decisions.)
In studying the past races of horses, it is worth noting how the horse reacted under past conditions and what the anticipated changes are in upcoming race. Some horses, if they get to the front early on a muddy track, can hold on and win if they are not too tired. Others, that have a lineage or history of regularly coming from behind, particularly on a muddy track, can beat tiring horses. (Some CEOs have no experience being raided or losing a crucial patent case, while others have campaigned successfully in these contests.)
Speaking of the difference in CEOs. Some jockeys use their whip frequently and punish horses not running to their capacity, whereas others ride with a light touch and coax the best out their horses. While one might like one type of jockey over another, the horse owner and future breeder, or the trainer, is probably a better judge. (The Board of Apple fired Steve Jobs who was not doing a good job, but then rehired him after he got more experience at managing a company. They later replaced Jobs, who was ill, with a much different Tim Cook. I have made a lot of money investing in companies that had CEOs I would not want being the trustee of my children or on a desert island, although they did a great job running the company.)
Currently, one of the most useful techniques is to look for horses not moving the fastest in the previous part of the race. Although not winning the previous part of the race, they were passing tiring horses or were accelerating. They did this because it’s the way they run in the early part of a race, or because they didn’t have sufficient racing room. In science & tech, biotech, and entertainment companies, the future is dictated by what is in development, not past financial records.
Applying Track Lessons to Current Investment Policy
For the next generation, the investment world is likely to be dominated by China and the US. In future generations, India, Indonesia, and Nigeria could become fully competitive. Today, a dollar-based score card would have the US far in the lead, probably making it the single biggest component in a long-term investment account. However, China is the fastest moving economy. We may not like the way their jockey rides his horse (Nation), but he has been very effective. He has also recognized the provincial debt problem, which has political implications and needs to be watched.
There is no reason to doubt China will exceed the US in many ways in the foreseeable future. The actual timing of their taking the lead is a function of the additional weight we are putting in the US saddlebags to slow us down. Thus, any investment should be analyzed with an eye toward what China is doing both at home and globally. Hedging large US investments may require some investment in Chinese enterprises.
A Slowing/Maturing US and Redistribution
On a secular basis, US operating margins have been slipping for some time. We have not noticed it in reported earnings per share due to a combination of issues, camouflaged by increased debt, lower taxes, more foreign earnings, and buy-backs. We have become a mature economy with a small working age population. Furthermore, our school systems are producing people with insufficient real-world education and poor work attitudes.
In many ways the current administration is repeating the errors of the 1930s, where the government took a somewhat normal recession caused by excessive leverage and turned it into a depression by attempting to use authoritative top-down social mandates. They terrorized private capital, leading to a slump in capital investment and the formation of new companies.
As is often the case, one should not pay heed to what professional politicians say, but to the impact of what they do. The “COVID $1.9 Trillion Bill” rammed through the Senate should be relabeled “The 9% COVID Solution to Political Problems Bill”, “The First Redistribution Act”, or “The How to Kill Your Children’s Opportunity Bill”.
The real intent of the Administration is to increase the deficit in any way it can, requiring taxes to be raised through one large omnibus bill or many separate acts. Their main purpose is to capture private-sector money and use it to fulfill socialist goals. What they forget is that close to half of all employees work for small companies, which large companies depend on to train their future workers. These small companies also produce products and services at lower cost, in part due to their lower compensation and benefits.
The initial capital supporting a small business is the after-tax savings of the entrepreneur. Support also comes from the after-tax savings of family and friends. The more successful small businesses can occasionally tap into private equity and debt funds, which are also funded with after-tax dollars. The pool of after-tax savings comes from the net profits after inflation, and the declining value of the US dollar will curtail the purchasing power of domestic earnings.
Looking to the future of our grandchildren and great grandchildren. They should be prepared to live outside of the US, possibly in Asia, as the reduction of private capital will reduce job opportunities in the US. Sound retirement planning suggests that US investments should be hedged by appropriate investments beyond the control of the US government.
There is Some Hope
Both the current occupant of The White House and his predecessor are doing a brilliant job adding to the base of their rivals. As both leaders pull more away from the center, some will want protection against the extremes. The 2022 congressional elections are an opportunity to accomplish a strong center by electing centrist Senate and House members of both parties. This could prevent The White House from accomplishing its redeployment of capital and other socialist goals.
It could happen. The current topping of the US stock market and collapsing US Treasury prices, along with the declining value of the US dollar, should be enough of a warning. If not, we could see a copy of the long depression, leading eventually to an economically provoked war.
Questions of the Week:
- Do you think this kind of problem set is possible?
- Do you have any plans to include this possibility in your investment planning?
Did you miss my blog last week? Click here to read.
https://mikelipper.blogspot.com/2021/02/did-something-happen-last-week-weekly.html
https://mikelipper.blogspot.com/2021/02/debt-inflation-and-markets-weekly-blog.html
https://mikelipper.blogspot.com/2021/02/mike-lippers-monday-morning-musings.html
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A. Michael Lipper, CFA
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