So Where Are We 6 / 10 / 2009

Readers of this news letter must be feeling pretty good these days. In the face of a horrifying market, we have learned the basics of value investing and risk reduction, and how the global markets ultimately catch up or move down to the real value of companies. Of our value based company selections, one American Express, we were forced to exit due to the added government risk and we lost $1.20 or 5% on that trade. American Express may eventually rise back to $40.00. But we don't like the risk of future government regulation on credit card companies. Our other 2 companies, GE and Dell continue a healthy trend toward our Fair Value or fully valued calculations just north of $15.00. Our gains there have been at least 30% - this is important because it was the use of key value based investment methodology that triggered our buy in pricing at a greatly reduced risk level. As for the markets, yes they are getting ahead of themselves, but they are certainly on track to meet our expectations. Indeed the Dow recently closed above 8500 for 5 straight days - creating a new floor.

So here we are, where do we go next?..I wonder what will propel the investment markets from here. My guess is inflation. Inflation is the rise in price of assets. Stock is an asset. Prices for shares will rise. I know to most of you that statement seems backwards. Finance heads would say that a weakening dollar will reduce buying power and will reduce spending which will reduce corporate revenues. Finance heads will say that as inflation rises, the value of US bonds decreases, and ultimately that manifests itself in increased interest rates, further cutting the consumer's ability to spend. That's what Wall Street "experts" will tell you.

Here is the truth though - US corporations are a safe haven for the world's investors because the big ones get bailed out which means their service providers reap the rewards. What does a virtually frozen credit market mean to the stock markets? Nothing right now. Why? Because the the largest US companies whose fundamentals drive the Dow's performance are beneficiaries of inflation environments. They can set prices, they have the largest margins, and they have the greatest reserves to manage their inventory and raw goods costs and ultimately earnings reports.

So while it may seem counter intuitive to Wall Street pros, the truth is, stocks rise during inflationary periods.

Another theme that has been crossing my screens is executive pay and alignment with shareholders. Here's an easy way to do it Boards of Directors. Pay real dividends. When hired offer a significant amount of shares to key executives that vest at 20% over a five year period. Next tell executives their bonus will be paid from dividends in shares they own and have fully vested. Just watch how fast executives align their interests with shareholders.

My recent favorite theme is shareholders calling for the removal of CEO's when their stock falls. Its not a new theme I know, its just one that has surfaced again. Get a grip on yourselves people. CEO's don't control share prices, and they certainly don't prevent you from selling your stock at any time. Investors are a stupid lot, in general. And I'll lump the professional "expert" investors into that grouping as well. They have no issue buying pieces of companies at a price equal to 25 years worth of earnings. That's what you do when you buy stock at a 25.0x earnings multiple. And then these experts wonder why ultimately the stock price falls because the real earnings growth doesn't compel speculators to buy shares at a price equal to 30 years worth of earnings.

Next they blame CEO's for the falling price of the stock they hold...my answer, don't hold it, sell it. Blame CEO's for adding risk to the balance sheet, for falling revenues, for falling earnings, for compensation that is disproportionate to their efforts. But not for stock prices. Investors have shares they are able to sell any time..sell them folks.

Build Value Every Day
Bradford van Siclen