Pragmatism over Patriotism

After a long break away from writing on these pages, I find myself returning with a greater sense of purpose. As some may know, I was recently the subject of a New York Times & International Herald Tribune piece covering the increasing numbers of Spaniards who elect to pursue their financial goals abroad.

This trend has, of course, been accentuated by the increasingly tenuous state of our domestic economy, which provides limited room for ambitious professionals.

Just last week I, together with my family, relocated to the UK and started a new professional chapter in a financial services-focused software firm. As a corollary to this decision, I took what little financial exposure I had to Spanish assets and reduced it to near zero.

Once my initial and natural excitement at being portrayed in the press subsided, (after all it’s not often that I make the papers…) I thought nothing of the article and settled back to my normal state of anonymity. However, it was not to last. The subsequent reaction of a number of Spanish newspapers to the NY Times article is what prompted me to post this piece.

For you see, my fellow countrymen have opted not to pause and take the original NY Times article as the proverbial “canary in the mine” and instigator of calm reflection, but rather as a gross exaggeration of a mild malaise. According to the otherwise sharp financial daily “Expansion” (who rather curiously title their editorial commentary “Julio Vildosola” as if I were in any way a relevant opinion driver), the large number of professionals who have opted to move their assets abroad and/or seek employment beyond Spain’s boundaries are not representative of a capital flight or indeed any cause for concern.

Of greater concern, the Spanish press is pointing the accusing finger towards the US press, throwing in Paul Krugman for good measure and displaying a surprisingly aggressive tone in questioning the validity of the fears over Spain’s economic condition. No mention is made of the fragile state of our economy, the alarming rate of unemployment, the dismal state of our banks or the lack of competitiveness of our workforce with its high relative costs and poor productivity.

It seems that voicing one’s opinion, mine in this case, is not just inappropriate but in fact a heresy. Many have contacted me to share their concerns, and indeed ‘disappointment” with my comments, alluding to the concept of a self/fulfilling prophecy and making vague accusations of “selling Spain short”.

As a matter of fact nothing could be further from the truth.  As those that have been reading my writings since 2009 will attest to, I stand to gain little by dissing my home country and am merely commenting things as I see them without conscious filters of any kind to cloud my judgment. 

At this point I hope that, if anything, the NY Times piece contributes to accelerate the brave decision-making that needs to be assumed by those with true power to act.

Until then, and as always, I will continue to seek the best returns for my investment and professional efforts, wherever that may be. 

One step forward, two steps back

Some 32 months ago, on November 22nd, 2009, I outlined the basis for my reticence to invest in my home country of Spain. Much to my regret, this decision is unlikely to be reversed soon as unfolding events actually mean that we are now further away from a solution to a problem of gargantuan proportions.

Admittedly, some things have changed in the last 3 years.

Central government has changed hands, with the ousting of the socialists and the return of the centre-right. Additionally our outdated, utopian, over-protective, entrepreneur-resistant labour laws have been revised and modified much to the dismay of our thoroughly self-serving trade unions. Tax rates, both direct and indirect have risen too, in an attempt to reduce the fiscal deficit.

And yet, the mood of the nation, (partially alleviated by the national football team as it makes its way into the European Cup semi-final), remains subdued and, on occasions, feels almost apocalyptic. Why is Spain seemingly unable to turn the proverbial corner?.

First and foremost, the actions taken by those with the ability to do so can be labelled as “baby-steps”. Labour law reform has been tepid and watered down by the fear of a monumental social backlash. Fiscal changes have moved in the wrong direction, further dampening any hope of a consumer or investment driven recovery. Moreover, the most important part of the public sector deficit equation, public spending, has only been marginally addressed.

Spain remains a decentralised, quasi federal state, bloated with 17, yes 17! local parliamentary bodies, provincial and municipal infrastructure whose purpose is frequently to serve as the source of political and petty regional disputes rather than effective governance. The mere mention of a drive towards a re-centralisation of power, on purely economic and common-sense grounds elicits such outrage that our political leaders have skirted the issue at a great cost.


Tragically, our nation seems intent on not learning from history or even from our neighbours, which to varying degrees, (no one has quite matched our unemployment rate of 24%), are enduring similar economic distress. While it is clear that nations like Germany, who, let’s not forget, was not in great shape in the early 1990’s as it absorbed the cost of re-unification; have kept real labour costs down over the last 20 years, and focused their efforts on productivity as the basis for competitive advantage, we on the other hand have experienced major wage inflation and a little in the way of productivity gains.


Add to this an unskilled workforce, a bloated and often duplicated bureaucracy, together with a private sector economy starved of technological innovation and you have a considerable mess in your hands.


Unless our political leaders are willing to put aside ideological constraints and adopt a more pragmatic approach, it will be a long time before I or, more importantly, other much larger potential investors place Spain on their sights.

Staying the course

What a month it has been!. European, and to some extent US-based markets, have taken a battering over the last few weeks and there’s no relief in sight. My handpicked stocks have not been spared, and as I write these lines, the fall continues relentlessly.

A perennial favourite of mine, DELL Inc (Ticker: DELL), recently announced “disappointing” quarterly earnings, together with less-than-stellar guidance, which may account for a large part of the hefty drop to 52-week lows. No matter where I look the picture is consistently bleak.

Daily headlines of just about any newspaper, (the concept of a risk premium, having been by now been exported to the mainstream press), track the hundreds of basis points divergence between peripheral, or should I say “outcast” nations, versus that of mighty Germany. Fittingly, would-be investors around the world are running scared, exiting all manner of “risky” assets and seeking refuge anywhere so lo long as it is far away from the equity capital markets.

I will readily admit that the overwhelmingly negative aura prevalent in most western societies is almost inescapable. One’s resilience and fortitude is tested at times likes these and the temptation to put a limit to one’s losses via a hasty exit (a.k.a. a “market” sell order), is hard to overstate.

Hardly surprising then, that when confronted with a barrage of “trend-trading”, “charting-your-way-to wealth” books on my Amazon homepage, I didn’t follow the usual routine of simply ignoring the ads and moving straight to the “serious investing” section. No. This week I wandered around these titles, reading the “teaser” pages and reflecting on whether everything would just be much easier and more profitable if I just joined the trader community and took a few quick “in-and-out” bets.

After taking a metaphorical “walk around the block”, I began, however, to see things clearly again. To see things for what they are. After all, if I wanted a way out of my discomfort, merely selling my stocks would be a better option than joining the herd of trigger-happy traders.

Plainly put, I pondered about the supposed “edge” of traders over my own cautious, slow, fundamental approach. What were these fast-moving types seeing that I was not? The short answer is: nothing.

Buying and selling securities on the basis of historical price movements may work for some but by itself is nothing short a gamble and a poor one at that when you bake in the hefty transaction and friction costs involved. Although I could see how it could be fun (think Casinos), I could also, and in a much clearer image, picture it as a relatively fast way to financial ruin.

My own, value-driven, research-centric approach on the other hand, at least provides me with a solid sense of logic and coherence. It may not work for extended periods of time, (2007-2009), but it is not only grounded in common sense, i.e. price will eventually converge with value, but also on empirical evidence. History shows that most traders fail within their first year of operations whereas value investors prevail in large numbers.

Moreover, as I keep reminding myself, it pays to remember what it is that one buys in the capital markets. Going back to the stock in question (DELL), I am buying a growing company, currently undergoing a fundamental strategic transformation towards a service business model, and backed by enormous cashflow, a captive corporate client base and a strong brand to boot.

Sure, it’s a difficult process and it may take some time for DELL. Whoever said transformations are easy? That’s what the margin of safety (large cash balance and recurring revenues) comes in handy. Add to that a P/E ratio of 6 and the corresponding income yield of >16% and you’ll begin to see why things are not that bleak after all.

My guess is, this is not the last time I’ll mention DELL.

Challenge "Authority"

After a relatively long absence from these pages, (some 3 months), the urge to put thoughts down in writing, and to make of it a public exercise, has once again emerged.

A good part of the “blame” for this particular post can be squarely attributed to the revealing conclusions I drew recently from reading Robert Cialdini’s excellent book: “Influence”. In it, Professor Cialdini lays out a comprehensive set of systematic human traits / psychological principles, or perhaps more aptly described as flaws, which are inherently at odds with rational and optional decision making.

These flaws are many and varied but can be grouped under 6 categories:

1. Commitment / Consistency (People have a desire to look consistent through their words, beliefs, attitudes and deeds)
2. Social Proof (People often view a behavior as more correct in a given situation--to the degree that we see others performing it)
3. Liking (People prefer to say yes to individuals they know and like)
4. Reciprocity (This rule/psychological principle requires that one person try to repay what another person has provided)
5. Scarcity (People assign more value to opportunities when they are less available)
6. Authority (There is evidence of the strong pressure within our society for compliance when requested by an authority figure)

Although my intention today is not to delve deeper into these concepts as they relate to the field of investment decision making, I will, however, reflect on one of these categories: that of “Authority”.

Few places besides the capital markets and decisions around capital allocation lend themselves better to illustrate this particular concept at work. And just as importantly, in few areas of activity is unawareness of this human trait potentially more costly. In essence, authority, and our tendency as humans to be influenced by those exhibiting this quality, is often attributed to those that look, or talk as such.

Think how many of us automatically and without so much as a shadow of a doubt, defer important decisions to align with those in positions of authority. Just consider the impact on our investing choices of the latest opinion spouted by CNBC’s confident journalists or those people who brandish their impressive sounding job titles at such and such brokerage house / investment bank. By following the advice of these so called “experts”, we inadvertently shortcut the necessary consideration that our decisions should entail. We assume that “they know better” and act without consideration of an opinion’s true worth or even its motivation.

Given the mostly erratic nature of “expert” advice provided by these authorities, what should one do to break free from this natural deference to their words?

Professor Cialdini, quite wisely suggests that we step back and consider the source of this “authority”; that we should question whether it has been actually “earned”. After all, there are indeed authorities in every field and it would be unintelligent to ignore their valuable advice. However, true authorities should pass a fundamental 2-question test:

1. What is the basis for their expertise? / actual long-term investing track record? On the basis of this question only, you’d probably pay less attention to Jim Cramer and more to Warren Buffett

2. What is the motivation of these “authorities”?. For journalists, in 99% of the cases it is to entertain (hardly sound criteria to make money); for most sell-side analysts/investment strategists and various other financial experts: to sell their ware and brand, that is, to get exposure in the media for the firm they represent and to generate buying activity. (Again not a guaranteed source of consistent positive returns…)

As a way to break free from our natural respect for authorities, I put forward the following suggestions:

• When confronted with an “expert” on TV or the press, think long and hard about the motive behind their words • Check the qualifications (in the broadest sense of the term) of those in apparent authority. A quick review of long term performance records is always worth one’s time
• When given the opportunity, challenge the expert with questions concerning investing process. This alone will remove the element of historical luck as a basis for the authority’s status

In a market as turbulent as today’s where supposed “authorities” abound and yet wisdom is scarce, a heightened sense of skepticism will serve us well.

Slowly but surely

Around this time of the year, reflection sets in and many tend to ponder about various things in a philosophical haze. Accordingly as we approach the end on January, I have been beset by doubts about my approach to the capital markets.

What if my thoughts on the virtues of value investing, its “proven” advantage over alternative tactics of speculation and technical charting are in fact just empty theories?. Continued volatility in the market hasn’t helped either. Cheap companies have been getting cheaper, or just going nowhere, throughout 2011 and no clear upward trend to reverse this slide has yet emerged.

It was in this state of mind that I came across an extraordinary documentary/program filmed by the BBC in the summer of 2008 where the cameras followed a group of 8 non-financial types/would-be traders as they did battle with the markets over a 10-week period. The appealingly labelled experiment (funded by a generous UK fund manager) was aptly named “Million Dollar Traders” and can be seen in 10 minute mini-episodes here:

Putting aside the emotional drama of the experiment, (no doubt exacerbated by the constant presence of a filming crew), the results of the exercise were most revealing and contributed to affirm me in my convictions.

To cut a long story short, the 8 random folks, (whose only preparation for the show consisted of a check up on basic math skills and an ability to read financial newspapers) selected to trade equities (both long and short) in a sort of market neutral hedge fund strategy, actually outperformed an index of hedge funds over the 10 week period covered!.

Besides the explicit humiliation bestowed on the hyper-fast trading hedge fund community, a set of additional readings can be made:

1. Firstly, 10-weeks is a laughably short period in which to measure performance, no matter what asset class you are dealing with. (Note some of the trades were put on and subsequently liquidated, often at a loss, in 1 hour!).

2. The sheer randomness of the trade outcomes is a testament to the gambling-like nature of this approach.

3. No comment (let alone implicit reference) was made to the enormous brokerage fees incurred in this process as a consequence of the sheer level of activity. Here again, patient thought out value investing wins by a landslide.

4. Last but not least, the behavioural transformation (read: descent into a nervous wreck of the otherwise previously paused participants) indicates that a speculative approach to financial markets is at odds with basic human traits.

Returning now to life in the present (28th January 2012), as pessimism continues to hold a firm grip on collective thought, I personally find much to cheer about.

And, as a concession to those who may feel my previous statement was typically ambiguous, read on for further insights into the reason for my giddy optimism.

• Zimmer (Ticker: ZMH)
• Xerox (Ticker: XRX)
• Dell (Ticker: DELL)
• LyondellBasell (Ticker:LYB)
• BP (Ticker: BP)

Even after a hefty run up from summer ’11 lows on most of these stocks, the value on offer differential versus the price demanded continues to be most generous.

And please note, no need to read the financial press every morning at 06:00 or to chart every tick on your Bloomberg.
Just sit, watch and enjoy.

Look everywhere

One of the basic tenets of Warren Buffet’s much copied investing philosophy is the simple “Invest within one’s circle of competence”. Much like the rest of Mr Buffet’s advice, this one reeks of common sense. As such it would be foolish to ignore, and in essence, few wise investors do.

There is, however an aspect of this simple concept of “competence” and “know-how” that is sometimes misunderstood. Investors all over tend to assume that competence equates familiarity and ultimately can only be obtained in conjunction with physical or geographical proximity. Put simply, few players in the capital markets derive any comfort from investing in distant places.

Given the enormous breadth of investment options available to most western investors on a local basis, in the form of thousands of quoted stocks, corporate and government bonds, commodities, options, currencies and other more sophisticated derivatives, it is fair to ask why one would bother to look beyond one’s home country / market.

Undeniably familiarity helps as it brings comfort and security. Notables such as Peter Lynch of the Magellan Fund, claimed that their best ideas came from daily interactions with local companies which would later make it into his portfolio. Moreover, It is often said that every thousand miles travelled from home in investing terms add an additional layer of complexity; thus requiring further due diligence before clarity can be reached.

No doubt there is substance to this approach of keeping close to home. After all, investing requires a thorough business owner-like mentality and some would argue that this level of knowledge can best be achieved via close interaction with the corporation whose security being analysed.

Personally, I agree on the merits of thorough familiarity with the subject of one’s investment, but I hasten to see geographic proximity or even domestic familiarity (also known as patriotism) as the only way to develop the confidence required to pull the investment trigger.

Consciously investing only in one’s home market leads to a world of opportunity, pun very much intended, being ignored. These days, the vast majority of the information required to make sound investment operations is widely available in a format (electronic) which replaces the need to travel and in fact, to interact with management.

Further concerns regarding accounting treatment differences, currency exposure, or even political risks are for the most part, quite simply overstated. The fact remains that, barring a certain number nations whose record of corporate governance remains questionable, most modern states with liquid capital markets operate under the same rules as those of the USA.

Currency concerns can easily be hedged away (if one desires) and political risk is so far off the table in the majority of northern hemisphere nations as to not warrant anything but a passing reference.

In addition, smaller, less “developed” markets such as those of South Korea and certain European states, tend to be less liquid and more prone to provide significant value discrepancies as a result of their limited following. On the other hand finding simple arbitrage opportunities these days in the NYSE strikes me as an unlikely occurrence.

Given the choice between fishing in large, but overcrowded and mostly depleted lakes versus smaller, relatively unpopular but unspoilt locations, I know which ones I’d draw my attention to...

Going it alone

As the twice-yearly Value Investing Congress (V.I.C) concluded last week, various investing sites provided the observer with a “post-mortem” peak into its conclusions.

Besides the usual, deeply thoughtful, high quality presentations and analyses, I was mostly struck by two things above everything else.

One was the contrarian nature of the recommendations (shorting Green Mountain Coffee Roasters anyone?!) and the other was the level of individualism that is so prevalent among leading investors. By this I mean that no matter how deep the talent bench may be at some of the funds presenting at the V.I.C , the fact remains that both glory and pain are attributable almost exclusively to those at their helm.

Reading letters to investors from high performing funds reveals this feature in clear fashion. Very rarely are references made to the value of consensus decisions or group analysis. Whilst it is true that many great investors cut their teeth at some of the larger funds (think Tiger Management), in their formative years, it is also the case that ultimately a manager worth his salt will set up shop alone.

At a time when some leading investors appear to be faltering such as Bruce Berkowitz at Fairholme (down 27% so far this year) with his ill-timed bet on financials and John Paulson whose Advantage Plus fund is currently down some 32% year-to-date, it is important to ignore the crowd and pay heed to the wise words of Benjamin Graham:

“You’re neither right nor wrong because other people agree with you. You’re right because your facts are right and your reasoning is right—and that’s the only thing that makes you right. And if your facts and reasoning are right, you don’t have to worry about anybody else."

Personally, I take comfort in these words as I continue to invest new money in the markets whilst the cacophony of macroeconomic prognosticators grows ever louder and the global growth engine fails to take off.

My suggestion is to allow for 3-5 years to pass, and to look back at Mr. Paulson’s and Mr. Berkowitz ‘s annualized performance once again before judging too prematurely.

Investing is indeed a lonely game, but in my opinion it’s all the better for it!.