Buy Apple or Sell it?

 

The new iPhone 5 is out, the iPad mini is selling well (I want one!) and Apple is rated one of the best brands in the world for simplicity.  So, why has Apple stock been floundering?

 

In One Up On Wall Street, published back in 1989, mutual fund master Peter Lynch explains that the average person, using information available to everyone (but not available as a statistic to Wall Street), can beat the Street at its own game.  It’s a strategy that’s worked well for me.

 

A few months ago my nephew, who has an iPhone4S and uses it constantly, visited me.  I asked him how he liked it, and if he would be getting the iPhone5.  He told me that his next phone would be an Android phone.  Why?  Bigger screens, “cooler” features, and that it’s far more customizable than the iPhone.  The iPhone just isn’t hip anymore.

 

A few weeks ago, a small business banker I know – who is a huge Apple fan – received his new iPhone5.  Last week he sent it back to Apple (the company graciously gave him his money back) and replaced it with a Samsung Galaxy running Android software.  And he loves it.  “It’s faster, it’s bigger: it’s more reliable.  Even with Wi-Fi it’s very fast and never crashes.”  Note that he means faster than the latest iPhone5.

 

And now, of course, the iPad is facing competition from both sub-$300 Android devices as well as the new Microsoft Surface, which is receiving rave reviews.

 

I always hesitate to sell an innovative, great company that makes reliable products.  But, I believe that the competition has – for the time being at least – caught up.

 

Apple stock has dropped from it's heady peak of $705 in Sept 2012 to $571 today, giving it a decent P/E of 12.9x.  It seems like a big price drop - and maybe a bargain - until one remembers that before Steve Jobs came back on board, Apple was selling at $89.  The risk/reward balance just isn't there.

It’s time to sell Apple, if you haven't already.

 

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"Although it's easy to forget sometimes, a share is not a lottery ticket...it's part ownership of a business."

 

Peter Lynch

 

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Why the GOP Lost the Election

These days there is a lot of soul-searching going on within the Republican Party.  Most analysts talk about how the GOP should have worked harder to get female or Hispanics votes, or those of minorities.  They say that Romney should have been tougher against Obama's economic record.  These analysts have it all wrong.  The thing that killed the GOP is their acceptance of gonzo madness.

 

It’s hard to believe, but when Mitt Romney was Governor of Massachusetts he signed a cap-and-trade program to reduce carbon emissions.  At the time, he touted the program as contributing to the future health of our children and the “stewardship of this Earth.”  He also supported abortion rights.  Not any more.

 

Over the last 20 years, the GOP has altered its platform to appeal to powerful splinter groups such as the Tea Party, the Libertarian Party, civilian militia groups and survivalists.  And in becoming the lunatic sponge, the GOP has lost the nation -- and the world.

 

In today’s GOP, it is common to believe that Barack Obama is a Satan-worshipper, that he is the Anti-Christ, that he is a secret Muslim extremist intent on wiping out Israel, that he is a secret Communist agent sent to destroy the US economy, or any combination of the above.

 

In October of 2012, Mitt Romney visited Reverend Billy Graham at his home in North Carolina.  Following Romney’s electoral defeat, Graham warned voters that God’s punishment is coming because the Lord “brings bedlam when countries turn their back on him.”  Just prior to the election, Pastor Robert Jeffress of First Baptist Texas assured his followers that he doesn’t believe Obama is the Anti-Christ, but merely “paving the way for the future reign of the Anti-Christ.”   To many Americans (and most of the world), opinions such as these are bat-shit crazy.

 

It is well known that most GOP members deny the existence of global warning (and who knows, they may be right).  However, few GOP supporters mention their reasons for not believing in global warming.  One is that global warming is a Communist plot.  Donald Trump summed it up nicely on his Twitter account on Nov. 6th, just before the election: “The concept of global warming was created by and for the Chinese in order to make U.S. manufacturing non-competitive.”  It’s a bizarre idea, especially since most climate change scientists are Westerners.  The second (and more popular) belief is that God created the Earth and that he would never have made it fragile; therefore, global warming cannot exist.

 

You’ll never hear a GOP candidate talk openly about Communist conspiracies, God's wrath or Satanism, because that would be political suicide.  Instead, they let talking heads like Donald Trump, Wayne Allen Root, Glenn Beck, Rush Limbaugh and others do it for them.

 

During the campaign, when Donald Trump attempted to extort the President by offering a charitable donation in return for the President’s college records (so that he could “look them over”), Trump looked and acted just like an evil character from an Austin Powers movie.  GOP insanity was suddenly vaulted to the forefront of the public mind.  With that weird conspiracy-theory speech, Trump probably helped Obama’s re-election more than any single person except campaign leader David Axelrod.

 

Finally, there is the GOP and Tea Party’s religion: Founding Fatherism.  Sarah Palin can hardly get through an interview without mentioning the founding fathers as if they were omniscient gods.

 

The GOP didn’t lose the election because they lost the female or Hispanic vote.  They lost the election because too many GOP members have boarded the crazy train.
 

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"He is purposely overwhelming the U.S. economy to create systemic failure, economic crisis, and social chaos- thereby destroying capitalism and our country from within."

 

Professional gambler and former Libertarian Party Vice-Presidential Nominee Wayne Allen Root, describing President Barack Obama.

 

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Absolut-ly Bad Trade

 

Last week, the Financial Services Authority (FSA) finished a long investigation, and confirmed what Wall Street insiders already knew: that the large and unexpected jump in the price of oil on June 30th, 2009 was caused by a single trader.

Between the hours of 1:22 and 3:41 am, a highly intoxicated senior broker at PVM Oil Futures purchased 7 million barrels' worth of crude oil futures - equivalent to 69% of the global market for oil.  The trader, Mr. Perkins, unfortunately has no recollection of the event as he subsequently experienced a blackout.

Shortly after waking up at 6:30 am, Perkins did what anyone would do under similar circumstances - he sent a text message to his supervisor, explaining that could not come into work as he had to care for a sick relative.

Unwinding the massive orders lost PVM 9.8 million USD.

As a result of his binge, Perkins was ordered to pay a fine of 72 thousand pounds, and had his license revoked for 5 years.  In truth, not a bad penalty for momentarily changing the world, and for a great story to tell for the rest of your life.

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"Mr. Perkins poses an extreme risk to the market when drunk."

The Financial Services Authority

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Live Long

 

After one has attained a significant degree of wealth, there is nothing better than the joy of a long and healthy life that allows one to take advantage of it.

 

A new study in the journal Current Biology suggests that there is a secret to extraordinary longevity in men: castration.

 

The study looked at historical data from ancient Korean aristocrats and the eunuchs (castrated servants) that worked in their households, and found that the eunuchs lived, on average, 19 years longer than their fully intact counterparts.

 

Testosterone, while making men strong and sexually potent, appears to also cause heart complications and weakened immune responses in later life.

 

Though the case for longevity through castration is strong, it is expected that few men will rush to take advantage of this new information.

 

____

 

 

“We’re here for a good time, not a long time.”

 

70s rock band Trooper

 

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Stagnation in the Canadian Housing Market

A LESSON IN TIMING, INCENTIVES, AND PSYCHOLOGY

The Aug 8^th 2012 edition of Canada’s Globe & Mail newspaper boldly stated that the country’s economists had reached a consensus: the bloated housing market will first slip 10-15%, and then “stagnate for years.”

The Frost Report has been warning prospective buyers about the coming decline of Canadian (and world) home prices since the first peak of February and March 2010 (see Spin City).  So, why are economists lagging so far behind?

First, the news is coming out now because it can.  The economists in the article -- who are employed by financial institutions -- have nothing left to lose since the market is “effectively exhausted” (their words).  People who have already bought homes have given the banks and brokerages their business, and can no longer benefit from the advice.  Those who don’t have homes after years of low interest rates either can’t afford them or don’t want them.

Secondly, economists have virtually no natural incentive to accurately predict slowdowns and price declines.  Nasty predictions about the most popular investment in the country (real estate) are unpopular, unwanted, and of no benefit to the companies who employ economists.

And then there are the clients…

It’s dangerous to advise a client not to buy real estate.  Contrary to what is taught in most investment psychology manuals, clients take declines in prices (“who could have known?”) far better than missed opportunities (“you said not to buy and prices went up 50%!”).  Furthermore, a client who has already decided to buy (which is typically why they are speaking with a banker or real estate agent in the first place) will never, ever listen to advice anyway.  If a client, who has already decided to buy, asks a banker if it’s a good time to do so and the banker replies, “I don’t believe it is,” that client will usually spend the next 15-20 minutes explaining to the banker why he is wrong.

The Cinderella party in Canadian housing is officially over.  I sincerely hope that the moderate 10-15% decline predicted by the nation’s top economists is accurate – but I doubt it.

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See also:

Canadian house prices to slip, then likely stagnate for years

Summer chill cools Toronto, Vancouver property markets

 
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The World has Changed

There was an unprecedented delay since the last post in The Frost Report, as you may have noticed.

I could write volumes about the reasons for this, but simple explanations are always best: a new position at a global financial institution, followed by several high intensity 60-hour workweeks. For the moment, life is back to normal.

So, what has changed since the last post?

For one, the subject of the last post - the lawsuits expected against Baja Mining - have now begun. 

On July 27th, a large shareholder initiated a class action lawsuit for over $250 million, claiming "misrepresentation" by Baja.  Although the shares are now sure to be worth almost nothing (creating a loss for me) I am nevertheless satisfied by this development.  As a speculative buy, I own just enough BAJ shares to be annoyed at their drop in value, but not enough to affect me in any material way whatsoever.  In this case, justice is more interesting than profits.

In anticipation of the inevitable slowdown of the Chinese economy (something The Frost Report has been writing about since early 2011), the XME Metals and Mining Index has dropped more than 50%, exactly as expected.  Interestingly, established mining companies were hit just as much as companies that own nothing more than a piece of land.  And, those that produce gold were hit just as much as those that produce iron.  One of these days I will remember that when a sector drops, even the best companies drop right along with it.

With many commodity-producing companies running at P/E Ratios of around 2.0, opportunities certainly abound.  Long-term investors would be wise to consider making regular purchases of commodity index funds, such as XME.  I say "regular purchases" because December of this year may mark the low point.  In December, many investors will be doing year-end tax loss selling of the most battered stocks.

The global housing market slowdown (also something that The Frost Report has been anticipating since 2011) is now well underway.

In Israel prices have notably softened and they are preparing for a hard landing (i.e. a drop that they will not be able to control).  In Canada, regional bank branches that were doing 6-10 mortgages a week in the spring of 2011 are now lucky if they do 2.  And in China, home prices are officially stable and robust, signifying that the government is lying its pants off.

And finally, the thing that hasn't changed at all since the last post...

Retail Investors remain deathly afraid of stocks.

A Financial Planner a few days ago mentioned that in 2006 their company's best-selling mutual fund was composed of 80% stocks.  Now, their best-selling mutual fund is composed of 80% bonds.

It seems that stocks are still, and for some time will continue to be, shunned by regular investors as a dangerous game.  And so it is, if you don't know what you are doing.

If you are a long-term investor with a eye for value, the 2008-2012 (+) period will likely be the single greatest stock purchasing opportunity of your lifetime.

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"The day I went to work in 1932, steel mills were running at eight percent of capacity.  I remember days when the trading was so slow people played ball on the floor of the exchange."

David Babson, as told to Adam Smith in Supermoney

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Baja Mining - Lies and Lawsuits?

In an earlier article on The Frost Report, I wrote about a great mining company - Baja Mining.

What makes it great?  Well, they have a huge, mostly finished mine with great expected cash flow in a known mining district with a low stock price!

Without taking sides, I wrote alot about one problem that was contributing to the low stock price: Mt. Kellett Capital Management, a hedge fund and major shareholder, said that Baja was not being governed properly, and so were attempting to place some new members on the board of directors.  Mt. Kellett lost this battle on April 3rd.

It now seems that Mt. Kellett was right all along- Baja's management is indeed incompetent, or at the very least hopelessly confused.

Baja stock sank 40% (!!!) today, after Baja issued a press release saying that, contrary to everything they have ever said before, the project is NOT funded through to completion, and will require substantial new funding ($246 million) - from somewhere.

The issue of funding is especially interesting to me, since in my interview with Baja representative Alex Macdougall in February, I specifically asked him if there was any chance whatsoever of Baja needing to raise capital.  Macdougall's answer was: "There is no chance of them [Baja] raising monies before they complete construction."  About two months later, Baja issued a subtle press release saying that they were feeling "inflationary pressure," but that they were implementing cost-cutting measures to help offset these.   Looking back, I feel like I was sucker-punched.

Today's latest press releases also included a short "by-the-way" statement, which was that three more directors quit because (their words), "In light of recent developments...we are no longer confident that we can ensure the level of good governance and oversight that the Shareholders of Baja have a right to expect from us."  Tellingly, this quote only made the follow-up press release.  The first release had no mention of this quote, despite the fact that the exiting directors had specifically asked that it be included.  Shady.

The big question is...is Baja still a good investment?  The answer is that at $0.57 per share, now more than ever, it is a fantastic investment - for someone.  Just maybe not for you, the shareholder.

Whoever provides the funding to completion will find Baja an excellent investment.  Mt. Kellett, I'm sure, is wetting their pants with excitement at taking over this flopping fish of a company and its incredible mining assets (either that, or today's drop was because they finally said "**ck it" and sold out!)

For the average shareholder, it is far too early to load up on shares of a company that has proven so opaque and -- as of today -- almost ungoverned.  I bought a few hundred more shares just to be crazy, fully recognizing that Baja has turned from an investment into what is essentially an asset-backed gamble.

Bad governance is almost as bad as "unexpected accounting irregularities."  When the rules keep changing, you can't play the game.

I have no high expectations.

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The Earlier Article (including interviews): Stocks I Like - Baja Mining

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Boy Broker: Investment Classic Returns

The Frost Report is proud to announce the re-release of the 1888 investment classic, The Boy Broker: Among the Kings of Wall Street.

Though The Boy Broker has been available as a re-print for some time, the quality of these earlier reproductions was very low.  One version, for instance, actually includes an apology for the poor quality of the printing.  Another version (obviously edited by non-English speakers) boasts that is was “restored by human beings.”

We felt compelled to do it right.

From the Amazon.com description:

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In 1888, one of the richest men in America published his masterpiece on becoming successful.  More than a century later, the wit and wisdom of Frank A. Munsey's "Boy Broker" still shines through.

This edition maintains all the integrity of the 1888 edition, while adding valuable new features including "Notes for the Modern Reader," which provide information and context to the 21st Century reader.

- Edited for Clarity
- Now includes Historical Biographies and Information
- Contains New Illustrations

From his own experience, Frank Munsey noted that when young people are given lectures or advice, it often proves valueless (they ignore it).  Instead, he reasoned, people are influenced by their friends and peers, and also their heros.  Munsey therefore wrote this book as a story with a hero, where the subconscious mind is the recipient of its advice.

The story follows the adventures of young Herbert Randolph, in his quest for independence and achievement in the great city of New York.

We hope that you will find this updated edition far more readable than the original, while enjoying all its 19th century wit and character.

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Thanks again to all the readers of The Frost Report!

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BlackBerry's Bold Move

Reuters news agency this week released an article with the hopelessly biased title, “RIM’s BlackBerry May Have New Hope in One Market.”  Within that article, however, Research in Motion outlines a great new sub-strategy to further increase sales in emerging market countries.

When I was in India just a few years ago, it was impossible not to notice how everyone – no matter how poor - has a mobile phone.

That bicycle-rickshaw driver may live in a hut made of dried cow dung and tin, yet he owns a mobile phone.  The street vendor who sells curried rice for $0.20, then washes the plates in a pothole filled with rainwater and cow piss…she has a mobile phone too.  The young call centre employee, who lives in his parents “condo” (three rooms and almost no furniture), owns both a mobile phone and a laptop: he is middle class.

RIM’s strategy is to capture the lucrative “trade up” market: the billions of people who currently own older mobile phones capable of talk and text but little else.  These people could never realistically afford an iPhone 4S, yet are willing to spend a few months’ salary to get a simple, reliable smartphone like RIM’s new BlackBerry Curve 9220.

The Curve 9220 is a sleeker version of the 8520, with improved Web browsing, Facebook and Twitter apps, FM radio, long battery life, and $48 US worth of free application downloads – including both business applications and games like "Ultimate Cricket." In other words, the features are simple, but are the most important ones for the customer base RIM is trying to capture.  Monthly plan fees start at as little as $5!

The Curve 9220 will sell for about $210 US (without contract), which compares nicely to the older iPhone 3GS which sells for $350 or more and has higher monthly plan fees.

Earlier this year, RIM made a great move by upgrading its Playbook tablet operating system, and slashing prices down to $199 to compare positively to the Kindle Fire.

RIM has been struggling of late, and no one yet knows if these and other strategies will give RIM its profitability back.

I’m not willing to make a huge investment in RIM – but I am willing to throw a few investment dollars their way.  I think RIM has been written off far too easily.

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"Asia is not going to be civilized after the methods of the West.  There is too much Asia and she is too old."

Rudyard Kipling

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Disclosure

Do not buy stocks, or take this or any other financial advice without doing your own analysis; including, but not limited to: reviewing business models, financial statements, management style and philosophy, recent developments, market macroeconomic analysis, and chart analysis. If you do not know how to do these things, you shouldn't be buying stocks in the first place. Seek the advice of professionals, as appropriate.
____

Terrorism Doesn't Pay

At least, not as well as it used to.

OJSC Izhmash, maker of the legendary Kalashnikov assault rifles (favorites of terrorists and rebels worldwide for their remarkable reliability) filed for bankruptcy last week.

Though OJSC’s product line remains extremely popular, the AK-47 and other famous rifles have been relentlessly copied and sold by foreign manufacturers.  These mostly inferior copies – for which OJSC receives no royalties – have long been biting into the company’s bottom line.

Similar to a US Chapter 11 filing, OJSC Izhmash has proposed a restructuring plan that will allow it to maintain regular business operations until the restructuring takes hold.  To help out the iconic brand, it’s widely expected that the Russian government will place large, unnecessary orders for new weapons (how do you say “bailout” in Russian?).

OJSC Izhmash’s long-term strategy is to develop a new family of automatic weapons to retrieve its falling market share.

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"I'm proud of my invention, but I'm sad that it is used by terrorists.  I would prefer to have invented a machine that people could use and that would help farmers with their work - for example a lawnmower."

Mikhail Kalashnikov, age 82

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I Hate Banks but I love JP Morgan

Contrarian investing is, in concept, one of the simplest things in the world.  It says that the masses are idiots and are always wrong; therefore, doing exactly the opposite of the masses is the correct thing to do.

The problem with contrarian investing is that the masses are sometimes right.

In 1985, faced with high interest rates, the masses said that interest rates could still go higher (and long-term bond prices lower)  – and they were right.  In 2009, despite falling markets and great valuations, the masses said that stocks would still go lower – and they were right.  Doing the opposite of what the crowd recommends isn’t always the best course of action.

And yet, contrarian investing works, largely because people make investment decisions based on emotions rather than logic.  Case in point: CEO Jamie Dimon's annual newsletter, released Wednesday.

In the newsletter, Dimon pointed out that JP Morgan Chase had record earnings of $19 billion last year (that’s the best year ever).  He added that the earnings would have been even better if it had not been for still-high mortgage related losses.  As time has gone forward, these losses have been declining.

Most interestingly, Dimon hinted that the price of JP Morgan stock was likely low because of “hostility” toward him and to the banking sector in general.  Based on the comments seen after the newsletter was released, Dimon is right: he was called a “criminal,” “manipulator,” “slime ball,” etc.

By now, I’m sure Dimon is immune to such disparaging remarks.  As a banker myself, I occasionally have clients tell me that they “hate banks,” which I consider a polite (weak?) way of saying, “I hate you.”  Then again, I also have people tell me that I’m wonderful but that they hate bankers: is that a compliment or an insult??

Emotions aside, here are the facts that investors should be interested in:

-         Record earnings of $17 billion, up from $12 billion in 2009.

-         Return on equity of 15% (which Dimon thought was low).

-         Market share growth in almost every area.

-         Approved to implement stock buybacks.

-         Opening 120 to 200 new branches a year.

There are many headwinds in banking, to be sure, including new regulations, housing weakness, and worldwide economic uncertainly.  But none of these are reasons to not buy a company.

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“We all have a vested interest in getting this right.”

Jamie Dimon

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AIG gets its Pants Back On

There are some companies that the average investor simply will not touch; American International Group is one of them.  AIG is, after all, a poster-child for the excesses of the 2008 banking fiasco.  While America burned, AIG executives dressed in togas and had grand parties – literally!

At The Frost Report, however, we recognize that companies the public hates are often good bargains.  When the numbers make sense, we let bygones be bygones.

This Wednesday, AIG paid back the US Treasury an additional $1.5 billion in TARP money, eliminating the government’s preferred share stake.  Tim Massad, the Treasury department’s assistant secretary for financial stability, had this to say about the event: “In the dark days of the financial crisis, when commitments to AIG totaled $182 billion, few would have believed that we'd already be able to reduce that amount by more than 75 percent, or that we may be able to recover every single dollar invested in the company.”  And yet they have – ahead of schedule.

Consider these statistics: AIG has a book value of $55 per share, yet today’s closing price was only $28.27.  In what always strikes me as one of the wonders of Wall Street, you can literally buy $55 worth of goods for $28.27.  Of course, "book value" is useless if AIG is forced to have a fire sale on its goods and sell them for less than cost.  So, is the company profitable?

AIG had annual sales of over 64 billion dollars in 2011, with profit of $15 billion on 1.9 billion shares outstanding.  Return on equity also handily beat the market at 26%.

Like other companies in the pariah class, there is no big rush to buy AIG.  The government will be selling its stake for some time, and the stock will not likely jump until that selling pressure is over.  Having said that, the government has done a good job of letting other companies it owns (like Citi) rise steadily in value, selling them in a mellow and responsible manner.

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"I would suggest the first thing that would make me feel a little bit better toward them [AIG executives] is if they'd follow the Japanese example and come before the American people and take that deep bow and say, I'm sorry, and then either do one of two things: resign or go commit suicide."

Senator Charles Grassley, 2009

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Disclosure

Do not buy stocks, or take this or any other financial advice without doing your own analysis; including, but not limited to: reviewing business models, financial statements, management style and philosophy, recent developments, market macroeconomic analysis, and chart analysis. If you do not know how to do these things, you shouldn't be buying stocks in the first place. Seek the advice of professionals, as appropriate.

____

A Tale of Trading Woe

Last Friday, I was chatting on the phone with a friend of mine who is a talented and logical investor: one of the elite.  He and I often trade views on economic trends or discuss companies and stock tips, and this was just such a day.

He mentioned having recently bought a company called “Viterra,” which has a virtual monopoly on grain storage and shipping in central Canada.  He said that its price had dropped in recent quarters, and went through a short burst of statistics to back up his “great buy” claim, including earnings history, price to book value, and the nature of the industry.  I told him I’d check it out, and we each hung up the phone.

It only took a couple of minutes for me to realize that Viterra was indeed a great company at a great price, so I put in a limit order well above the current bid (at $11.50), to make sure I’d get in.  Then I hit the "enter" key and sat back.  But strangely, it didn’t fill.

I looked at my screen in disbelief as I read that trading had been halted pending an announcement.  The newswire then announced that “certain parties” had expressed interest in buying the company.  When the stock resumed trading a few minutes later, Viterra stock had jumped 29.8% to over $14 a share.  My order (at a now-measly $11.50) didn't fill.  Dammit!

Needless to say, my friend called back a couple of minutes later to casually jab me about my lost opportunity (“I didn’t know this would happen.  Honestly!”)

Shortly after that, I called him back to let him know that the transaction just made the cover story for the Globe and Mail’s online business section.

I completely missed out.

 

Lesson of the day: solid, undervalued companies do not stay that way forever.  Don't wait to buy.

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“We didn’t lose the game; we just ran out of time.”

Vince Lombardi

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Canadian Government welcomes Crackheads to Banking

The Canadian government this week announced upcoming changes to federal banking rules, designed to reduce "consumer irritants," and make banking more transparent and fair.  Unfortunately, the new rules are also a dream for the nation's con-artists.

One set of changes, for instance, relates to holds on deposited cheques.  Currently, people with bad credit may have a 5-7 day hold put on all non-cash deposits.  According to the new rules, banks must provide access to the first $100 deposited by cheque into the bank, no matter what the credit score of the individual opening the account.  And, for any cheque less than $1500, the maximum hold is 4 days, down from the previous 7 days.  For the working man with spoiled credit, these changes are convenient.  But, it's for con-artists that the new rules really shine.

Once the new rules are in place I can, as a con-artist, now open an account at a bank, deposit a $100 cheque (payable to myself) from my account at another institution (with no money in it), and then take out the $100 as cash!  Awesome!  Even better, I can write a cheque to myself for $1499 from my $0 balance Credit Union account in Toronto or Montreal, deposit it into a new account at a bank in Vancouver, and only 4 days later walk away with $1499 in cash, courtesy of the new 4-day hold maximum (cross-Canada cheques often take more than 4 days to be returned NSF).

Canada's crack addicts will be busy opening accounts at every bank in town, guaranteed a $100 minimum payday for each new account.

Among other changes, the new banking rules also ban unsolicited credit card "convenience cheques," which most banks have discontinued anyway since they tend to get stolen from the mail and used by 3rd parties.  The ban was introduced because Canadians - like their American counterparts during the last housing boom -  have shown a remarkable inability to delay gratification (Canada's personal debt levels are at record highs), and would presumably use the cheques if they received them.

Canada's banks will no doubt fight the new legislation, since it leaves them exposed to millions of dollars' worth of preventable fraud.

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"It's easy to dodge our responsibilities, but we cannot dodge the consequences of dodging our responsibilities."

Josiah C. Stamp, economist

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See also:
Goodbye to three irritating bank practices

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Stocks I Like - Baja Mining

IMPORTANT - See this important update as of April 23rd, 2012: Baja Mining.


Every once in a while, one notices a stock that seems to have all the qualities that allow the patient investor to make a windfall.  Baja Mining Corp. of Canada is just such a company.

Baja Mining (TSX: BAJ) is developing one of the largest copper mines in the world in Baja, Mexico.  Construction of the Boleo mine and associated port is well underway, and expected to start commercial operations in Q2-Q3 of 2013.  A great time-lapse presentation of the construction is available on their website.  The Boleo mine will have an initial 23+-year mine life.

So, what makes Baja such a great value?

First, unlike most companies that are still two years away from project completion, Baja is fully financed for construction, meaning it will not have to issue new shares to complete its project.

Once in production, the company is expected to have earnings of around $0.80 per share, which would give it a P/E of only 1.2 at today’s price of $0.92 per share.  Using a reasonable P/E of 10, Baja’s future price should be around $8.00 per share.

Finally, the company has hedged 50% of its initial 2 years of production at between $2.40 and $3.97 per pound, which will allow the company to remain profitable even if copper prices drop.

By all measures, Baja seems drastically undervalued.

I spoke with Baja representative Alex Macdougall regarding the company on Feb 1^st, 2012.  Following are some choice excerpts from that conversation.

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The Frost Report: “According to your corporate presentation, you are on track to start commercial operations in Q2 or Q3 2013.  Is that still correct?”

Macdougall:  “It should be Q2 2013.”

The Frost Report:  “It says (in your presentation) that 50% of your production is hedged at between $2.40 and $3.97 per pound…where in that range does the majority of your hedging occur?”

Macdougall:  “That I don’t know.  That was done by (Louis) Dreyfus - a very large metal trader like Glencore (see The Frost Report’s article about Glencore).  The hedging was required by the five commercial banks involved in the financing (Barclays, Standard Chartered Bank, HVB etc).  I would suppose that Dreyfus has sold various amounts of the first year’s production at varying prices…each commercial bank put up 20 million dollars."

The Frost Report: “Now, you have somewhat of a battle going on right now with Mount Kellett Capital Management…” (Mount Kellett alleges, among other things, that the CEO’s daughter is employed by the company at an extravagant and unnecessary compensation).

Macdougall: “Can I give you the history on that?”

The Frost Report: “Please do.”

Macdougall: “Mount Kellett was formed by former Goldman Sachs people.  The guy who really started it is McGoldrick (known as “Mark ‘Goldfinger’ McGoldrick”).  He was working at Goldman Sachs, specializing in distressed companies.  Goldman bought them and took them private, then brought them back out (took them public again).  He earned GS multi-billions of dollars.  He was offered a bonus of 70 million dollars, which he refused and said that he wanted 1.5 billion dollars.  I call that greed.”

The Frost Report: “He’s pointing out things like…the corporate secretary’s pay.”

Macdougall: “That’s misrepresented, by the way.”

The Frost Report: “It is?”

Macdougall: “If you go to SEDAR…it reveals Kendra’s (corporate secretary’s) to be $140K CDN a year base pay.”

The Frost Report: “So where did he get the total compensation of $725K from?”

Macdougall: “Using the Black-Scholes calculation for options.  But they are all out of the money.  They are (currently) worth zero.  It’s a red herring.  The only issue they have left is nepotism…having a family member be assigned an important position in the company merely because they are a family member.  But, John (Greenslade, CEO) did not hire Kendra.  Kendra was hired by Bill Murray, former President and Director of Baja…”

Macdougall went on to explain how McGoldrick’s firm has bought close to 20% of Baja.  He remarked that if one follows the history of Mount Kellett Capital Management, it seems reasonable to speculate that their plan for Baja is to take over this undervalued company at the undervalued price, keep it until mine completion, and then flip the shares back to the public at true value.  Obviously, this plan would allow the vast majority of the jump in value [from under valuation to fair valuation] to go to Mount Kellett Capital Management instead of existing shareholders.

As an aside to Frost Report readers, out-of-the-money stock options are a form of compensation - with a cash value - and are an expense to a company.

The Frost Report: “The company (Baja) is fully financed through to production.  I have seen in the past - unfortunately from my own experience – companies…as soon as production starts, issue a bunch of new shares.  What is the probability of issuing shares between now and production?  And, would there be any reason for Baja to go after acquisitions by releasing (new) shares after production begins?”

Macdougall: “No to both.  There is no chance of them raising monies before they complete construction.  Because of the agencies that have financed them…they (ex. the US export agency) are very demanding.  Every time they (Baja) approach the agency for an additional tranche (of financing), they have to prove exactly where all the money went, what was achieved, what the status of the program is, etc.  I think the stock is very undervalued…”

The Frost Report: “Well, I kind of like that part (the undervaluation)!"

For the remainder of the conversation, we bitched about program trading causing unusual valuations in the market, and about how retail investors are spooked out of buying equities, making it hard for venture companies to finance.

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During a brief (7 minute) follow-up conversation with Steven Lehner of Mount Kellett, he assured me that they are not interested in taking control of Baja, but merely ensuring the company does not burn any money unnecessarily.  If this is true, then we can expect Baja to reach its full intrinsic value in the hands of today's shareholders.  If Mount Kellett is covertly setting up a takeover (as Macdougall fears), then today's shareholders will likely get a premium on today's price, but not realize the full potential of the stock.

Baja Mining is an undervalued company with excellent potential for appreciation.  The fact that Baja is being stalked by an aggressive hedge fund shows how attractive Baja is at its current price.  And, having Mount Kellett as a large shareholder has arguably helped keep management accountable.

Benjamin Graham would love BAJ.

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Disclosure

Do not buy stocks, or take this or any other financial advice without doing your own analysis; including, but not limited to: reviewing business models, financial statements, management style and philosophy, recent developments, market macroeconomic analysis, and chart analysis. If you do not know how to do these things, you shouldn't be buying stocks in the first place. Seek the advice of professionals, as appropriate.

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Berkshire Hathaway's Machine

If you believe recent commentaries, Berkshire Hathaway’s Warren Buffett – once considered one of the greatest investors in the world – is now “too old” for investing and is washed up, tired, and has lost his touch.  The people making these comments have clearly not taken the time to examine Berkshire’s financial statements!

In investing, timing is everything.  An undervalued investment can sometimes take months or years to begin rising in price; and, while waiting, returns will be stagnant.  Berkshire has found a way around this problem.  Berkshire is now so synonymous with safety and stability (and for being a good business partner) that it obtains exclusive deals – unavailable to anyone else - where it is actually paid to wait.

Take, for example, Berkshire’s investment in Bank of America.  BAC’s current share price is $7.07.  Berkshire bought preferred shares of BAC that earn 6%.  With this preferred share deal came warrants to purchase up to 700 million shares of BAC at $7.14 per share, and these warrants don’t expire until 2021.  In other words, any time between now and 2021, Berkshire can purchase BAC shares at $7.14 per share, even if the stock doubles or triples (or more).  While waiting, Berkshire earns 6% on the Preferred shares!

Berkshire has a similar deal with Dow Corporation.  Berkshire currently earns 8.5% on Dow Preferred Shares.  Berkshire can purchase up to 72.6 million shares of Dow at $41.32 per share with no expiry date, except the stipulation that Dow has the option to redeem the preferred shares when the stock attains stable prices of $53.72 or more!  Put more simply, this means that Berkshire will earn 8.5% from its investment in Dow for months or years, and then make at least $12.40 per share ($52.72-$41.32) when the Preferred shares are converted to common shares, for an additional profit of 900 million dollars.

Berkshire Hathaway is an incredible moneymaking machine...especially for those who have the luxury of time, and the patience to wait.

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"The most important attribute for success in value investing is patience, patience, and more patience.  The majority of investors do not possess this characteristic."

Peter Cundill

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