No quick fixes for American Express ? And a good post from Punchcard blog on Amex and competition.
Interested in Australian stocks ? Try the Forager Fund blog and the fund reports.
Good post on Italian stocks (Finmeccanica, Piaggio, CIR)
Damodaran on negative interest rates and valuation
The story of “fracking pioneer” Aubrey McClendon
Muddy Waters has updated its Casino short thesis (h/t Valuewalk)
Executive summary: Although American Express looks cheap based on their historic profitability, the company is subject to rapid technological change and fierce competition in the payment industry. To me it is not clear how this will work out going forward, so for the time being I will not invest but look deeper into the industry.
American Express is well known in value investment circles because Buffett owns ~15% of the company and made a lot of money with it.
Recently the stock price came under pressure mainly because:
The stock price clearly has suffered and is down more than -40% from its peak in late 2014 /early 2015:
One general remark upfront: The 2015 annual report wasn’t that exciting in my opinion. Actually, I didn’t plan to write a post on it. However, after reading a couple of posts on the topic, I though maybe some readers are interested because I haven’t seen those points mentioned very often elsewhere.
GEICO had a pretty bad year in 2015. The loss ratio (in percent of premium) increased to 82,1% (from 77,7%), the Combined ratio increased to 98% and the underwriting profit fell by -60%. Buffett talks about the cost advantage a lot in the letter, but the only explanation forthe increase in loss ratios are found in the actual report:
Syngenta ChemChina offer
After the failed attempt of Monsanto to buy Syngenta last year, Chinese conglomerate ChemChina made an offer for Syngenta a couply of weeks ago. Other than with Monsanto, the Syngenta board already approved the take over.
The offer itself is as follows:
ChemChina will pay 465 USD. On top of that, anyone who buys Syngenta shares now, will receive the normal dividende of 11 CHF and a 5 CHF special dividend.
If we expect closing at the end of the year, the potential return would be (in CHF) at a current price of 400 CHF:
-400+(465*0,994)+11+5= +77,75 CHF or a potential 19,4% return for 10 months.
This looks very attractive. However the merger arbitrage/event market is a very competitive one and those spread usually don’t come “for free”. So why is there such a large spread ?
US regulatory risk
I guess the most obvious reason is that investors fear that US regulators will try to kill the deal. Syngenta has a signifcant US business. There are several rumors around why the US authorities might challenge the deal, most recently some in connection with the Zika Virus.
The Committee on Foreign Investment in the US (CFIUS) will review the deal because Syngenta, through its US research and production facilities, plays a key role in the US food industry.
The Zika virus problem could force CFIUS’s hand, sources said.
“CFIUS focuses solely on whether an acquisition represents a national security risk,” a Beltway CFIUS expert not involved in the merger told The Post. “I certainly think Zika will be a factor.”
From what I found on the net, the problem is that the CFIUS never really explains their actions, so it is very difficult to judge as an “amateur” what the chances will be. A professional hedge fund clearly has the money to pay for advice, most likely from former members of the CFIUS. This is clearly an information disadvantage form me as small investor.
China FX issues
Another problem I could see is the fact that ChemChina needs to come up with around 44 bn USD in USD financing and this could be difficult if there would be really turmoil in China in the meantime.
They haven’t even refinanced their Pirelli bridge loan yet and at least in the Pirelli case they don’t seem to guarantee those loans:
The new refinancing will be non-recourse to ChemChina, but will have elements of support from Pirelli’s Chinese owner, bankers said.
So I guess the ~20% discount is basically a mixture of regulatory risk and financing/China turmoil risk.
On the plus side, even if the ChemChina deals would fall through, there still could be other players interested such as German chemical Giant BASF.
Is Syngenta then an interesting special situation investment ?
What is bothering me is the following: As I said before, this area is very competitive and Syngenta is a liquid stock (50-100 mn CHF a day) and I do not have any special insights into the situation.As discussed before, I guess I have even an information disadvantage.
The potential downside for a failed bid is at least -25% when we look at what happened after the Monsanto bid:
So if I assume a simple 50/50 probability, my expected value is negative.
Every “event driven” fund is clearly looking at Syngenta which in turn means that they seem to price the risk at the current price and assume a slightly better chance than 50%.
However I clearly have no basis to assume any higher percentage for a succesful outcome.
All in all, in the past it never had paid out to invest into such a situation with an information disadvantage, so I will stay away from this one.
“Capital Returns” is an edited collection of investor letters from UK based Marathon Asset Management. Before reading the book,I actually didn’t know much about Marathon.
On their website, they summarize their strategy as follows:
At the heart of Marathon’s investment philosophy is the capital cycle approach to investment. It is based on the idea that the prospect of high returns will attract excessive capital (and hence competition), and vice versa. In addition, an assessment of how management responds to the forces of the capital cycle and how they are incentivised are critical to the investment outcome.
This capital cycle approach is very interesting. As mentioned above, the book has no direct narrative. The investor letters are however clustered together in chapters with similar main topics:
The book is not so easy to read because the letters themselves, despite very well written, are very condensed with a lot of deep insights. I always had to take a kind of a mental break after one or two letters in order to digest everything
Overall, I would characterize their approach as follows:
Essential personal learning experience
The main take away for me was that their supply focused capital cycle model enabled them to see and avoid many of the problems (CDOs, housing, commodities, PIIGS, China) well in advance. Most analysts focus on the demand side only and forget about supply.
This is something to keep in mind for the future. As a bottom up investor, I think their approach can improve decision making without going into useless macro analysis. If you just look at single companies, one might miss some of the overarching issues in the sector (TGS Nopec…..).
Marathon Track record
The question always is: Talk is cheap, how about their returns ? At least from their website, it seems that their funds made 3-5% outperformance p.a. constantly on a 3, 5, 10 and 20 year basis. This is very remarkable for a manager with a couple of billion under management.
For me it was also interesting to see that they not only share many of my personal opinions about investing, but that there is also a nice overlap of companies I find interesting and what they found interesting, for instance Lloyds Banking, Admiral, Handelsbanken and Koc as a well managed family owned company. Clearly there is some “confirmation bias” at work from my side, but still interesting.
Recommendation:
Overall, the book is an essential”MUST READ” for any investor. The major drawback is that it is currently only available as hard cover at around 37 EUR.
The “value option” is to be found on their webpage where they published some of their investor letters for free.
There is also a similar book on the time period from 1993-2002 called “Capital Acocunt” which costs around 80 EUR on Amazon.
Overall, for me Marathon is clearly one of the “Gurus” in investing and it makes a lot of sense to pay attention to what they are doing. Especially if and when they re-enter oil and commodities.
P.S.: the editor, Edward Chancelor has also written one of my all time favourite financial books: “The Devil took the hindmost” from 2000. If you like financial history, this is also a “must read”:
As this has turned out to be a very long post, a quick “Executive Summary”:
David Einhorn has published that German utility E.ON is one of his major new long positions. Based on what I have written in the past about E.On, I do think his summary investment rational has some serious flaws, mainly:
- buying management’s “spin” that the recent share price decline was only caused by uncertainties about nuclear provisions
- assuming a quick and very benefitial (for E.ON) solution for nuclear liabilities
To me it looks like that he tries to come up with some short term, rather risky “bets” in order to make good on his horrible 2015 performance as quickly as possible.
As a new shareholder in Greenlight Re I have to seriously rethink if I want to stay invested, however as a German tax payer I might also be biased in this case.
John Hempton (Bronte) is out with his December 2015 letter
Wertart likes SHL Telemedicine
Clark Street Value analysis of Howard Húghes
A writup + video on Judges Scientific from Frank Weipert (H/T Nils)
Tyler Cowen on driverless cars
John Huber looks at Fastenal’s last quarter
Quarterly earnings call IBM style (Jeff Mathews)
This is a clearly a first for the blog: A movie review and not a book review.
I had read the book from Michael Lewis a couple of years ago and it was clearly the best of many books trying to explain the sources of the “financial crisis” 2008/2009.
Honestly, I could not imagine how you can make a Hollywood movie out of this book.
The story is mainly about a couple of fund managers who discovered at the same time around 2006/2007 that the US mortgage market was deeply flawed especially in the subprime area and that it was only a matter of time until everything would break down.
Most of those fund managers were “ousiders”, so not mainstream super star hedge fund managers but strange guys like Michael Burry, the now famous medical doctor turned fund manager with the Asperger Syndrom or the 2 guys who founded their fund as students with 100k start capital in a garage.
Another important role was played by a Deutsche Bank investment banker Greg Lippmann (in the movie the guy is called Jared Venett) who tried to sell the instruments to bet against sub prime mortgages.
Overall I found the movie extremely entertaining and very good. Why ?
First of all the actors are really really good. Especially Christian Bale (M. Burry) and Ryan Gossling (DB trader) play extremely well.
Secondly, the movie gets surprisingly almost all the facts right. They do explain the underlying concepts very well and often in surprisingly funny ways. One of my favourite scenes is when Selena Gomaz and Richard Thaler explain the conceptof CDS/CDOs at a Las Vegas Black Jack table.
Of course they made some compromises to turn it into a Hollywood movie. Nevertheless I do think that the movie actually shows a pretty acurate picture of investment banking back in the heydays of 2006/2007.
Best learning experience: negative carry & patience
Of course the characters in the book and the movie were not the only ones who predicted the subprime crisis. Back then a lot of people were sceptical with regard to mortgages banks etc.
But I think what the movie really showed was how difficult it is to actually bet significantly on a “doomsday prediction”. Betting against subprime CDOs required those guys to pay signifcant amounts of “insurance premium”. In Michael Burry’s case, the “negative carry” was something like -20% p.a. for the full portfolio. In all cases the managers were not credit specialists and investors clearly didn’t like what they saw at first and in Burry’s and Iceman’s case tried to force them out of their positions because very few people are willing and able to sacrifice yield in order to make big returns.
It is very similar to what I wrote a couple of months ago: A great idea or a great strategy alone is worth exactly nothing. Yes, you can maybe sell some books as the guy “who predicted the last 5 crashs”. But if you manage money you have to actually execute it well in order to create value.
And I do think that this is the main lesson form the book and from the movie: It takes a lot of guts and a kind of “outsider” status to actually be succesful when you bet against the overall consensus. Talk is cheap, actions matter.
The second lesson was that patience also plays a big role in actually scoring big. All the portrayed fund managers were early with their trades and the position went against them at first. In Eismann’s case all his partners for instance wanted to sell quickly after they were back in the green, but he insisted on waiting.
Another good example of this rare persistence in adverse situation was Bill Ackman who at the same battled mortgage guarantee company MBIA on their role within suprime mortgage business. Hi fought them over years until he had finally his big pay off. There is a good book about this story as well, “Confidence Game”
So my recommendation for anyone at least partially interested in finance is clear: Go and see the movie !!!!
I actually think the movie should be a mandatory part of any finance course at schools and universities like the original “Wall Street” movie.
Imagine you could invest into a company with the following characteristics:
– Global market leader with 70-90% market share (95% new built)
– Net margins after tax of 50% or more
– business protected by patents
– almost no capital requirement, negative working capital
– a potentially huge growth opportunity
– conservative balance sheet (no debt) and “OK” management
– at a very reasonable price (11x P/E, 7,8% dividend yield)
At a first glance, Gaztransport et Technigaz (GTT) from France seems to be the ideal cheap “moat company”. What do they do ?
Gaztransport is the global leader for “LNG containment systems”. LNG is liquified natural gas and is the predominant method to transport natural gas over long distances. In order to become liquid, natural gas has to be really cold,at least -162 degrees celsius. GTT’s technolgy is required to safely store and transport LNG on ships.
Problem Number 1
Before going into more details, it is pretty clear that GTT is an energy related company. But looking at this chart from their investor presentation we can clearly see what the real problem for GTT is:
Ultracyclical sales. We can see that within 4 years sales dropped -75% only to quadruple again in the next 4 years. Although the overall strength of the business model clearly shows in the fact that even after a -75% drop in sales, they still earned a 30% net margin.
So what do they actually do (The Moat) ?
Gaztransport has been IPOed in 2014 in France (although it was technically more a “carve out” as the company itself did not need any money. They have extremely good English language investor material, for instance the Q3 2015 report.
I try to summarize their businessin my own words:
– if you want to build ship to transport LNG, there are effectively only 2 technologies available to ensure that the LNG is contained safely, one of them is owned and patented by GTT. From inside it looks like this:
– there is a relatively large moat with regard to technology. GTT has developed that technology over the last 50 years or so and it is superior to the only competitor (“Moss”), both in price (for the total ship) as well as in utility (ships are lighter, easier to maneuver, overall cost is cheaper)
– GTT charges royalties, both, for the technology and “consulting” during the building of the ship. After the ship is finished, there are no royalties. Service is currently only a single digit percentage of sales
– Sales therefore directly depend on the number of LNG tankers being build
So the future of GTT clearly depends on the future of LNG. More LNG means more ships and more money for GTT and vice versa.
The Moat vs. new competitors
There are potential new competitors, mostly the handful of Korean companies who actually build the ships. The Koreans for some time now try to develop or copy their own version of the technology. I assume that they clearly know how much money GTT makes with the patent and that they woul love to cut GTT out of the process.
GTT themselves think that the threat is not so big in the near future. The ship certification companies would need to approve first as well as the oil companies who are finally responsible for the LNG tankers and the administrators of any harbour or docking station.
So far in the 50 year history both, Moss and GTT have a 100% safety record with no accidents. The cost for GTT technology within the overall price of a LNG tanker is around 4-5% of the total constructon price. So the question is really why should any energy company take on the risk for a new unproved technology when the potential cost savings are pretty low ? LNG Tankers do carry the equivalent “firepower” of dozens of nuclear bombs, so risk aversion is pretty high especially in developed world harbours.
The LNG market
There is a lot of material on LNG but most of them are very optimistic, some links:
BG LNG Global market outlook
McKinsey LNG study
Again in my own words my thoughts on LNG:
– LNG is considered “clean fuel” compared to oil and coal and should benefit from climate issues
– Natural gas is abundant and in many cases cannot be transported via pipelines
– A lot of the natural gas comes from “stable” countries like Australia and the US and is therefore strategically interesting
But clearly, low energy prices take a toll on LNG as the liquification, transport and regsification are expensive. A year ago I looked at Seth Klarman’s investment Cheniere Energy and I was not convinced. However a lot of money has been now invested into liquification facilities especially in the US and Autralia, so it is not unlikely that the amount of LNG to be transported might rise as projected and the need for transport and storage increases.
So just some rosy LNG projections alone would not be enough to make GTT interesting for me.
The “carrot on the stick”: Bunker fuel
Big Ocean going ships burn a fuel called “bunker” which is extremely filthy:
As ships get bigger, the pollution is getting worse. The most staggering statistic of all is that just 16 of the world’s largest ships can produce as much lung-clogging sulphur pollution as all the world’s cars.
Because of their colossal engines, each as heavy as a small ship, these super-vessels use as much fuel as small power stations.
But, unlike power stations or cars, they can burn the cheapest, filthiest, high-sulphur fuel: the thick residues left behind in refineries after the lighter liquids have been taken. The stuff nobody on land is allowed to use.
In the meantime however, stricter requirements for ship fuel have been installed. Current caps are mostly effective in Europe and North America, but starting 2020, globally much tighter rules will come into effect.
There are several possible solutions to the problem:
– using cleaner fuel which is however more expensive and limited
– cleaning the exhaust with expensive technology
– use LNG as alternativ fuel
If LNG would become popular in the future, GTT’s technology would suddenly be required everywhwere, from every port and every big ship, which would mean much more steady business than in the past and a strong structural growth over many years.
However, at current prices this is far from a sure thing, so in any case as an investor I would not want to pay for this at the moment.
Click to access 213-35922_LR_bunkering_study_Final_for_web_tcm155-243482.pdf
Stock Price
For an energy stock, GTT has held up quite well since their IPO until late 2015 but then got hammered, howevr as we can see less than TGS for instance:
How to value GTT ?
The problem is the following: GTT is a cyclical company and we are most likely at or near the top of the cycle with regard to the “core” business. One could argue that with an overall size increase of the LNG tanker fleet, the replacement requirement increases but with an expected life of around 40 years, the replacement cycle for the current fleet is a long way off in the future.
So using current profits and saying” Wow the stock is cheap” clearly doesn’t help. Comparing it for instance with a less cyclical stock like G. Perrier and saying: 11x PE is better than G. Perriers 15x PE is nonsense.
As I said before, I would not be willing to pay for the “Option” of LNG powered shipping so I need to come up with a way to value the company based on the cyclicality of earnings.
So what I did is that I tried to “simulate” future earnings with roughly the same kind of cyclicality that we have seen in the past 10 years. This is the resulting “Model” for the next 35 years:
I have “modelled” somehow similar cycles as the current one, with the peaks increassing first and then trailing of somewhat in the future.
We can then discount this cyclical earnings stream by our “required rate of return” to see if GTT is a real bargain or not.
Under those assumptions my results were the following:
10% discount rate: 20,80 EUR per share
15% discount rate: 14,26 EUR per share
So now one could clearly challenge my “model” and tweak it somehow, but in general it looks like that GTT is not a bargain at current prices (34 EUR). To me it rather looks like that the current valuation already implies a certain value for the LNG ship fuel “option”. Therefore GTT at current prices is not interesting to me as an investment.
One important learning experience for me is that I guess one should value all cyclical stocks like this, i.e. really model the cycles and discount those cashflows instead of just looking at current multiples and say “wow that’s cheap”. I think I made that mistake to a certain extent with TGS Nopec.
Summary:
Overall, GTT is a very interesting, unique company. It combines a “wide moat” with regard to technology and patents with a very cyclical business.
Although the company looks cheap at current multiples, over the cycle there is more downside than upside at current prices in my opinion.
If LNG will become the dominant fuel for ships in general, than the investment case might change significantly to the upside but for me this is not given at current energy prices.
In the future, I will need to analyse and value cyclical companies the same way as I did here: With actually modelling cycles instead of (implicit) constant growth assumptions.
This is a book reader “JJ” recommended to me somewhere in the comments. Its a very unique book as it says “A novel” on the cover but in effect is the best book I have read about the shipping industry.
The story is about a NY based hedge fund manager who decides that he wants to own a ship. He buys an old ship with his personal money from a strange Greek guy and then gets into the world of shipping. Along the way he loses his hedge fund, encounters many problems and sells his ship with a lot of luck at a profit.
By pure coincidence he ends up as the CEO of a Norwegian Oil Tanker company and tries to raise senior debt funding at Wall Street.
The book seems to be at least partially autobiographic. What I really liked about the book is that despite telling a funny and readable story, the author also manages to include many great insights on the shipping industry specifically and financing, cost of capital and other financial aspects of Wall Street along the way.
One of the key messages is that financing ships economically sucks because a lot of the players think quite uneconomically. They want to have the biggest ships or the biggest fleet and always manage to lure in many gullible investors on the way. The whole industry seems to be like a big casino where some insiders always get their cut and all the oher “players” lose in the long term by design.
Actually I do think that the same principle applies for any other very capital intensive businesses.
Anyway, I can highly recommend this book. It is a good read and interesting for anyone who has ever thought about investing into something related to shipping.
At least for me, I am now completely “healed” from even looking into shipping companies or Off-shore drilling etc.
value and opportunity 