Mike Lipper’s Monday Morning Musings
Searching For Answers
Editors: Frank Harrison 1997-2018, Hylton
Phillips-Page 2018
Neural Basis for Preferences
In one of the laboratories in the Humanities and Social Sciences Division
of Caltech, a former post-doc led a paper showing a neural basis for making aesthetic
preferences like qualities-contrast, hues, dynamics, and concreteness.
(Kiyohito Iigaya, is now an assistant professor of neurobiology at Columbia
University’s Irving Medical Center.) A similar type of pattern recognition is
what successful investors use in selecting investments, such as relative price,
operating free cash flow generation, management process, investment
sponsorship, competitive position, and future changes in these and other
qualities.
I am a senior trustee at Caltech and a member of the board of Advisors of
CUIMC
Painters, like Picasso, were successful investors in both art and other investments.
However, the tracking of investment qualities is insufficient to produce a
record of continued investment success.
At least two additional qualities need to be tracked.
- Analyzing changes in the structure of
the investment market, in terms of flows and after-tax profits.
- The perceived multiple needs of the
investor.
The eternal job of the investor is to evaluate these and other qualities
relative to each other. There is no precise ranking information on these qualities,
which makes it difficult for quants to use.
It is with this as a background I look at elements each week. The remainder
of this week’s blog is devoted to some of the highlights that guided me in making
multiple investment decisions. I am interested in which factors are important
to you, and whether you disagree with my reactions.
More Information Does Not Appear to Help
More information should reduce the number and magnitude of investment
surprises. But it does not seem to help. The problem could be that the information
is distributed unequally. Those with an information delivery advantage, but
without sufficient capital or ownership, can have limited impact on price gaps.
In accessing the situation, one difficulty may be understanding the veracity of
the information at the moment of discovery. In highly speculative markets and
issues, there are often more false rumors than real, actionable information.
(In terms of the current market information regarding the next interest rate change,
it could be wrong 6 times in a row.)
Banks & Brokers Cut Staff
State Street is the latest company to announce the layoff of 1500
employees. These actions do not instill near-term confidence in investors in the
overall market.
Is Value Investing Essentially a Trade?
The fundamental principle of value investing is the current price being substantially
less than the current or projected future price. In the mind of the investor
this value gap is temporary, because if it is not closed there is no benefit to
the purchase. Value investing is therefore a trading strategy, or a two-step
move. Contrast this with investing for growth, which does not require a
terminal sale except for a change in investor circumstances. This distinction
has a definite impact on the timing of the purchase.
“Happy Talk” Motivation is Critical (Viewpoint)
Years ago, when each town had a thriving local newspaper, its
publisher/CEO was a powerful person locally. Recognizing that elections create
advertising demand; a lot of editorial space was devoted to newsprint. Locally owned papers eventually disappeared
and were replaced by chains, and increasingly by broadcast media. They were the
beneficiaries of centrally controlled advertising revenue. The media provided much
airtime to elections, with the most focus on presidential elections. In many
cases, profits from presidential election-year advertising helped carry them through
the other three years. Because the majority of listeners were lower income,
Democratic Party spending was higher. The owners were conscious of this phenomenon,
and it impacted their actions, with the bulk of the coverage/advertising focusing
on economic “happy talk”. That is why “news” coverage today is more positive,
and often wrong.
Interpreting a Signal Can Be the Opposite
The acquisition of one company by another for stock could signify that
the board of the purchaser believes owning the acquired stock is better than investing
in their own. An interest rate cut by the Fed could also signal a concern about
the direction of the economy, or a shift in the importance of the second
mandate, full employment. In other words, be careful what some wish for.
Personal Tax Rates Are Important
Similar to the selection of art purchases helping make security selections,
foreigners can remind us of the importance of US personal tax rates. Shohei
Ohtani signed a baseball contract with a gross value of $700 million. In the
early part of the ten-year contract, he will be paid just $2 million per year.
(He expects substantial product endorsements and other income during that
period.) He will receive the other $68 million per year, without interest, when
he is 50 years old. (I assume without the burden of US taxes). I wonder if he’s
available as a tax consultant, as he came up with this approach.
“Long-Term” Different Meanings
Reliability is a characteristic many investors look for in their
selection process. In the US, most investment intervals have more gaining than
losing periods. The sizes of the gains are also larger than the majority of the
sizes of the losses.
All markets move in cycles. Thus, a five-year period usually has one
complete cycle and parts of another, if not two. With only 20 quarters or just
5 annual numbers, I find the number of observations too limited. The SEC in its
wisdom requires mutual funds to show year by year results, overall period performance,
and the best and worst quarter. Numbers nerds note that the public is given 12
slices of data. I would prefer to have quarterly data for the life of the fund,
which would be 40 slices for ten years.
The economy has generally grown since the end of WWII, which might not
continue in the future. Consequently, I am much more interested in seeing what
actions, if any, were taken in negative periods. Particularly, what portfolio
holdings were reduced or eliminated and how much that cost the fund in recovery
periods.
There is one medium-sized fund group which indicates it invests for the
long term, which they define as 3-5 years. We would not use this fund for most
taxable investors if over that short a period it replaced almost all its starting
portfolio.
15-Year-Olds Will Rule
At some point the 15-year-olds youths of 2021 will be part of the ruling
class in many, if not most, countries. In 2021, thirty-seven countries took
standardized tests in math, reading, and science. Three countries tested top
three in the three subjects: Canada, Estonia, and Japan. Due in some part to
the pandemic the US dropped 13 ranking spaces in the three tests, or roughly
three-quarters of a year, to finish sixth on an overall basis.
As a grandfather and great-grandfather of 5 young ones, I am
worried about the future we are leaving them. Our current educational system is
the result of a deteriorating educational process that has been in decline for some
time. Recently, a teacher on maternity leave at a “good school” revealed that she
had decided not to return to the public school system. A real-life casualty of the
dysfunctional system she worked under.
What scares me is the US has the most expensive educational and health
systems in the world but does not lead the educational rankings in the world. A
long-term oriented society that prizes excellence is necessary for world
leadership. For the protection of our young people, we must on a long-term
basis increase our exposure to the best minds and culture in the world.
Investment Conclusions
- Portfolios should be broken into sub
portfolios based on needed investment periods and risk tolerance.
- The portfolio segment with an expected
near-term payout should focus on trading rather than investing. Fixed income
holdings should have a maturity range within the allocated payout period and only
be invested in the highest quality non-US government paper. Equity should be invested
in listed 2-4% yield common stocks or funds. The one exception would be
Berkshire Hathaway, which is building a portfolio for the heirs of its
shareholders.
- The next portfolio segment builds a
retirement portfolio with high quality, low cash dividend payors, and no fixed
income except for payment reserves.
- The estate portfolio segment should be
invested in high quality equity modest compounders, avoiding above average
yields. Use an appropriate equity strategy in an unleveraged ETF rather than a
mutual fund if it makes sense, but only for one-half of your fund investments.
Share Your Thoughts
Do these topics and format make sense for you and how should it be
improved?
Did you miss my blog
last week? Click here to read.
Mike
Lipper's Blog: Reactions from a Contrarian - Weekly Blog # 814
Mike Lipper's Blog: 3 Senior Lessons +
Upsetting Parallel - Weekly Blog # 813
Mike Lipper's Blog: A Cyclical World +
Consistent Results - Weekly Blog # 812
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