Reconciling Experiences

With each passing day, it appears increasingly obvious a "generational bottom" was put into the broad market on March 9th. Even though it's only been three months, it feels like an eternity ago. (By the way, how cool is it that this blog, so aptly named, was started one day after the exact bottom?)

I think it's instructional to reflect on how the market felt, versus how it feels today. This is a good old fashioned melt-up. The action is choppy, but you let a week or two go by and almost everything is higher. There is a persistent bid underneath during every sell-off. Three months ago, the floor felt like it was falling. If you buy, you are down 10% in a heartbeat. The proverbial falling knife was sharp and accelerating.

I've made a nice haul off the bottom, despite the occasional slash wounds. But since then I've pared back a lot of my positions, and days like today create performance anxiety. I feel like too much of my assets are in cash and bonds. The names on my watch list are melting up, while my cash sits, devalued day by day.

I've become a victim of the persistent bid.

Cramer is making a lot of noise about this being a new bull market. This certainly feels like bull market action. Meanwhile, I'm cognizant about the macro economy, which remains at 9-10% unemployment. The trick is to understand that the two are not perfectly correlated. They're not even closely correlated. They are eventually correlated, if you look at a chart that spans decades. It's why Ben Graham calls Mr. Market a voting machine in the short run, and a weighing machine in the long run. Or, as Keyenes puts it, the market can stay irrational for longer than you can stay solvent. Bottom line: I don't know what to make of this current market, whether to buy or sell. Performance anxiety be damned--I'll stay conservative.

One thing we know for sure: the bargains are gone. Risk has been repriced rationally. Go back to my Oversexed Guy In A Harem post, and compare the prices of the bargains I listed then and their prices today. WCC: $15 vs $26, BOOM: $7 vs $21, IPHS: $8 vs $16, ACMR: $1.40 vs $3.50. These are huge gains in a span of three months. We may not see something like this again for many, many years.

So the main takeaway is to reconcile our experience of then and now. Investing can be a complicated game, but in many ways it is fundamentally simple, as it is tied inexorably to human behavior. Remember what it felt like back then, in times of panic, and in retrospect, how easy it would've been to make so much money. Be fearful when others are greedy, and be greedy when others are fearful, says Buffett. It is that which is perhaps his most famous and oft-repeated quote, and not some archaic or complicated formula only decipherable by genius.

No Bids On The TSLF

In a day of flash bang news items (Mark-to-market rule changes, G20 coverage, Yadda yadda), here's a quiet little piece that very few people saw:

Dealers submit no bids in $25 billion TSLF auction

This is a very important indicator of the recovering health of the financial markets. The TSLF was setup to swap trash-for-cash, essentially, when banks were suffering from a frozen winter in the credit and repo markets. According to Tony Crescenzi, the initial bid/cover ratio at its launch was near 2 to 1 as banks hit it up like a man hitting up a water fountain in the desert. Today? zero.

Liquidity is flowing again. And with the newly defanged mark-to-market rules, banks are now free to earn their way out of trouble. Bank of America CEO Ken Lewis is on the record saying his company has a normalized $30 billion in earnings power, translating to $5/share. Simple arithmetic implies a $50/share value given a normal 10x earnings multiple. Of course, take what any CEO tells you with large helpings of salt and Tabasco sauce, but it's without question that surviving bank stocks will be multi-baggers in the intermediate future.

I have owned Goldman Sachs for several months now, averaging down to about a $70 cost basis that has paid off handsomely since. I am now looking seriously at Bank of America, as I think it is clear 1.) it will not be allowed to fail, 2.) it is unlikely to be nationalized given its earnings power combined with PPIP and forbearance in the form of relaxed M2M.

Sometimes, it's just that easy. Shelve the righteousness and take what you can get. Be steadfast during the rocky day-to-day volatility.

Those of the more cautious persuasion should take a look at any of its deeply discounted preferreds. Many of them are more than 50% discounted from par, and yield a ridiculous 15%+.

Oversexed Guy In A Harem

In December 1974, the Dow Jones Industrial Average broke below 600. It was a devastating collapse, which started with the Dow at 800 at the beginning of the year, and 1000 the year before that. It erased four years of previously hard earned gains.

Sound familiar? Fast forward 35 years, tack on an extra zero at the end of those figures, and it is in the ballpark of what we are experiencing today.

Warren Buffett was profiled that year in Forbes, in which he said he felt "like an oversexed guy in a harem." It closed with his final words: "Now is the time to invest and get rich."

He was not as famous back then as he is now, and so a.) he probably did not get much attention, and thus b.) he was more free to express his relatively unscrutinized opinions. It was a seminal piece that nailed the bottom of the market, and by the mid '80s, the Dow had tripled. The modern version of Buffett's "Oversexed" piece is the New York Times OpEd he wrote last October. Okay, he obviously didn't peg the bottom there, but it doesn't make him any less right. 

Now is the time to invest and get rich. Again.

Many American companies are now valued at levels bordering on five-fingered discounts. Consider:

WESCO International (WCC) - Wholesale distributor of misc. maintenance repair products. Made $200 million in 2008, currently valued at $650 million.

Dynamic Materials (BOOM) - Providers of explosion-welded metal to heavy industries. Made $24 million in 2008, currently valued at $93 million.

Innophos Holdings (IPHS) - Makers of specialty salts and acids used in everyday products. Made $200 million in 2008, currently valued at $193 million.

A.C. Moore Arts & Crafts (ACMR) - Self-explanatory retailer. Has a tangible book value of $180 million, currently valued at $28 million.

There are many more names like these out there. They are trading at 3-4x earnings (in IPHS's case, less than 1x earnings), and/or they are trading at a HUGE discount to book value. 

Now, some may deserve such lowly prices. But surely not all. Some further due diligence should be able to weed out the haves and have-nots. The point of this exercise is simply to illustrate how hated stocks have become in such a short period of time, and how the bargain bin is jam packed. 

I am in concurrence with 1974 Buffett--I feel like an oversexed guy in a harem.