Saturday, December 29, 2012

UK Government's Share of GDP

Ever wondered what the UK Government share of GDP spending was?

Well here it is.

And it doesn't make pretty reading. The truth is that New Labour managed to orchestrate the double whammy of increasing social tension at the same time as increasing public spending. In addition I would argue that- in many cases- the latter engenders the former.

It is a sad state of affairs when the argument is always framed to the contrary. In other words that there is a natural 'trade-off' between increasing social cohesion by spending more public money and vice versa.

It strikes me that it's time for the Left to start discussing public spending proposals that are not propelled by an ideological conviction that more spending equates to a better society or that it can equalise income disaparity by doing it. No one tried harder- or with a greater sense of moral purpose- than Gordon Brown and look at the result?

It's also time for the Right to stop pretending that we live in a meritocracy and that public spending is some sort of cancer that its more privilieged members can find a way to avoid. All economies need public spending but it isn't to be viewed as a bone to try and placate the masses or as part of some middle class racket.

The result of continuing this nonsense is a disparate society in which a welfare state dependency culture is created alongside a detached uber wealthy enjoying the fruits of their 'meritocratically' earned work.

The greatest case for capitalism is that it creates real opportunities for social mobility and the advancement of civilisation. It's time to remember this.

Tuesday, December 18, 2012

What Investors Can Learn By Playing Poker

I’m a great believer in the idea that much of investing is actually about keeping the right mental approach. That’s partly why I write these articles. It’s always a good idea to crystallize some of your investments and rationale by writing them down. In this way, you can objectively analyze what you are doing. Another way to make sure you are on the right track is to understand an analogy with another popular activity, so you can anchor to some solid truths contained within it. I’d argue that good poker players have much to teach investors, and here is why.

Fold Weak Hands/Don’t Buy Everything You Research

Any decent Texas Hold’em player will tell you that you should probably fold over 90% of your hands at the pre-flop stage. Investors should take the same approach with the stocks that they research. It can be interminably frustrating sitting hour after hour waiting for a decent hand, but sometimes it just works out like that. Don’t play with rubbish, it will only hurt you in the end.

It’s exactly the same with stocks. Let’s put it this way. If Warren Buffett told you only to buy a stock if you were willing to hold for 20 years than this doesn’t imply much turnover does it? It certainly tells you that you should be rejecting nearly everything you look at. Unfortunately many private investors fall in love with much of what they research. In addition, many journalists love ‘making a splash’ by constantly and confidently advocating buying stocks willy nilly. My suggestion would be to look at the disclosure section below the article. I don’t take anyone seriously unless they have skin in the game. That would be like taking earnest poker advice from a guy who only plays for play money on Google+.

Play Strong Hands Early/Balk With Too Much Action Later

This is not gospel, but in general if you are dealt a high pair in Hold’em you should play it aggressively early on. However, if there is too much action later with raising and re-raising later (and your pair hasn’t hit anything) you should strongly consider folding and walking away. In my humble opinion, the mental approach with investing is much like this. A good example can be made when investors find a sector that they find favorable (a high pair) with which they should try to then be overweight. Hit home when you have the advantage.

Now consider what happens when the price of investing gets higher (stock price rises/other players raise); the correct thing to do is to stick to what you think is value. I’ve been very vocal throughout this year on the rationale for a US housing recovery. However, I recently took profits on Beacon Roofing Supply (NASDAQ: BECN) because it hit my target price. I like the company and hit home when I thought it was value but sold when the risk/reward calculation was no longer as favorable for me (Original article on Beacon linked here). Similarly, investors in house builder Lennar Corp (NYSE: LEN) will be entitled to start taking some money off the table after its 80%+ rise this year. Even if you still like the company and sector, any stock that has this rise is likely to be a much larger part of your portfolio and thus increases the risk from any one stock.

Be Greedy When Others Are Fearful and Fearful When Others Are Greedy

Ok, I am going to quit with the Buffett quotes now. I just happen to think it’s a great way to express another key analogy with poker and investing. With poker, when the table goes on ‘tilt’ most good players suggest starting to play tighter and not bluffing because your opponents will be playing all sorts of drawing hands that can bury you in late play. It’s the opposite situation when everyone is being tight on the table. You can afford to bluff a little and play a little looser.

In investing terms, when the market is piling into stocks on high evaluations then it is time to walk away. I have no idea how anyone could rationally argue that Microsoft (NASDAQ: MSFT) was value on 60-80x earnings.

MSFT PE Ratio TTM data by YCharts

Similarly, when Facebook (NASDAQ: FB) went public there were many people who thought it was value even as it valued every Facebook user at over $100 each.  No stone was left unturned in talking about this company, and the ludicrous attempts to link every single global event to Facebook by the media became ever more risible. For example, the idea that the Egyptian revolution was inspired by a Facebook page is promptly dismissed by a cursory look at the facts. According to the International Telecommunications Union (ITU), Egypt’s Internet penetration rate was only 24% in 2009.

Performance Measurement and Money Management

I’m going to conclude with the two most important analogies.

The first is money management. All poker players need to remember is that position sizing is critical because outcomes are uncertain. It is exactly the same thing with investing. A lack of diversification or over-reliance on one stock or sector can be crushing to an investor, and the investment world is littered with ‘one trick ponies’ that shone brightly then collapsed in future years.

Finally, any decent poker player will be able to tell you what he has earned and his strengths and weaknesses. It is a constant effort to calibrate and try to understand what has happened and why.  Investors need to do exactly the same thing. It is no good trying to fool yourself that you had a good year and losses will be made up, etc. Subjectivity has little to do with it. Most serious investors will know exactly what they are making and at what time while positing a reason why.

And, again, that is part if my point in writing these articles!

Friday, December 14, 2012

Who Told Celebrities They Could Do Science?

One of the most disturbing trends of modern times is the inexorable rise of the tendency for large swathes of the population to substitute proper scientific research in favor of “celebrity science.” Well I apologize, but I prefer to get my medical advice on things like GM foods from the FDA and not from, say, a guest on a chat show or a former swing dancer cum yogic flyer who self publishes books and now thinks he is the world’s authority on the issue.  I’m not sure if my approach is the one taken by the majority anymore.

I’m going to discuss a couple of examples here. It’s time to stand up for the scientists. The real ones, not the idiots.

It’s so much easier for people to listen to a celebrity when they are articulating their expertise on medical matters. Indeed, Time magazine has cited research that claims that 24% of parents place “some trust” in medical information given by celebrities.

The MMR Vaccine and Autism, What the Scientists Said

The most infamous case in modern times is the claim that there was a link between the MMR vaccine (measles, mumps and rubella) and autism. Indeed, anti-MMR litigation was directed at companies that manufacture the vaccine. Current manufactures include GlaxoSmithKline (NYSE: GSK), Sanofi (NYSE: SNY) and Merck (NYSE: MRK). Who speaks up for these companies when they are subject to this sort of nonsense in the media?

The original report on which much of the MMR/Autism claim is made was published in the The Lancet in 1998 by Andrew Wakefield. The report has subsequently been denounced as a fraud by the British Medical Journal and has received widespread condemnation in the scientific community.

In case anyone is in any lingering doubt as to the validity of the claim, the following bodies have found no link between the MMR vaccine and autism.

  • Centers for Disease Control and Prevention
  • The National Health Service in the UK
  • Institute of Medicine (IOM)
  • World Health Organization
  • New Scientist Magazine

In addition the FDA reported on the subject  and discussed the final report of the IOM’s Immunization Safety Review Committee in 2004

“ body of evidence favors rejection of a causal relationship between thimerosal-containing vaccines and autism, and that hypotheses generated to date concerning a biological mechanism for such causality are theoretical only…  …the benefits of vaccination are proven… … widespread rejection of vaccines would lead to increases in incidences of serious infectious diseases”

So this is what the scientists said but they don’t always get listened too, according to a report  until relatively recently “one in four Americans” still thinks that vaccines cause autism.  Why?

What the Celebrities Said

There is no higher profile celebrity expert on autism than Jenny McCarthy and indeed her status on the issue has been raised by appearances on chat shows like Oprah Winfrey and Larry King where she has been on record as believing that vaccines caused her son’s autism. She is not alone as other television and radio presenters have also reiterated these claims.

Indeed media coverage of the Wakefield research caused widespread fear and declining rates of vaccinations with the inevitable disease outbreaks occurring afterwards. Of course the overwhelming scientific evidence (or rather the lack of scientific evidence) is presented to these people, but nothing works. Everything seems to be subservient to homespun anecdotal evidence which is given widespread credibility for no other reason than they saw it on television spoken from the mouth of a celebrity. As another celebrity and great philosopher, Marina & The Diamonds, correctly once wrote “TV taught me how to feel, now real life has no appeal”.

It’s not just celebrities and the media that were at fault here. The Wakefield research was always highly questionable and even after it was widely discredited and evidence came to light that made the Anti-MMR litigation case in the UK untenable, the lawyers still displayed their usual tendency to make money irrespective of the situation. According to an interview with Dr. Michael Fitzpatrick, the lawyers who lead the campaign

“refused to acknowledge openly that the scientific case against the MMR-autism link was overwhelming and advise their clients to conclude the action. Instead, they continued to pursue the case, allowing it to drag on for a small number of families, acting without legal aid funding, for a further three years.”

In addition Fitzpatrick claimed that £8m of the £15m ($23m) in legal aid funding used up in this case went to the solicitors. A further £1.7m went to the barristers and expert witnesses took up £4.3m.



This sad tale of misinformation which was promulgated by self-appointed celebrity experts, fraudsters, self-interested parties and lawyers would be an interesting footnote in history if it was an isolated case. Unfortunately there seems to no end this hogwash. The latest media friendly scare stories-backed up by flimsy “science”- seem to surround genetically modified crops and companies like Monsanto and Syngenta.

I’m certainly not arguing that these companies shouldn’t be subject to scrutiny, but what I am saying is that any criticism of them should be based on the body of scientific evidence rather than listening to chat show ‘experts’, celebrities whose usual response to the overwhelming evidence against their case is simply to find another chat show.

If I want to know about scientific facts I listen to a scientist.

Tuesday, December 4, 2012

Private Investors Outperforming Professionals?

At some point in his/her investing life, every private investor is faced with the same question: Does he actually add value by investing himself or not?  I suspect the most common response is to ignore the question safe in the notion that it’s just a bit of fun on the sideline. Another is to avoid the complication of benchmarking performance and just be happy that the account is positive. However, for full time investors, the issue simply cannot be avoided.

Discerning readers will note that I specifically reference private investors here. The reason is that professional investors are not that as exposed in how they earn money (fees, etc.) to the vagaries of performance. Private investors lose money when performance is negative. Do money managers refund fees?

Why Professionals Aren’t Trying to Outperform

It gets worse: The investment industry has learned a fundamental truth of behavioral finance and constantly applies it. I’m talking about the tendency of investors to psychologically weight a loss double that of a gain.

Asset managers understand this because they realize that investors will overweight a losing performance versus a winning one. In other words, if an asset manager underperforms for a client his downside risk (losing assets under management) is far greater than the upside from outperforming. Now you know why the investment industry produces such ‘samey’ benchmark-hugging performance. It’s in their interests to do so.

If there was a difference between what, say, T Rowe Price (NASDAQ: TROW) and Ameriprise Financial (NYSE: AMP) did, surely it would show up in marked differences in share price performance?

AMP data by YCharts

And investors in these companies should understand that they are just making a highly correlated bet on the markets by buying them.

A Waste of Talent

I'm not saying there aren’t a lot of talented people in the investment industry. There are, and in their ‘defense’ I should point out that it is hard to outperform when you are not really trying to do so! While this may be disheartening for the young investment professional anxious to prove himself by generating performance, he is soon overwhelmed by the pressure to conform to the industry game of focusing on getting assets under management (AUM) and not particularly bothering about performance.

Remember folks, given the same performance fee, an asset manager generating 5% with $1 billion AUM earns more than a guy generating 12% with $400 million. Who would you rather be? Also consider that during a down year the whole industry will suffer. As none of the major firms with AUM will deviate from each other’s performance they will all make the same excuses and try and hang onto AUM as best they can.

Some of these clowns even try to sell you their services without a track record. If I want my car window replacement, I go to someone who does it every day and is tried and tested at doing it. Alternatively, if I want my money invested, should I go and give it someone who won’t even tell me how good he is at what I am paying him to do?

Confidence is the Key

Turning back to the challenge for private investors confidence only really resonates with someone if it is accompanied by extensive experience. It is something hard won but easily lost. I’ve outperformed the market for years and across different market conditions. No matter. When I have a couple of months of underperformance, I start to stress. I’m the worst investor ever, this is all a waste of time, I am losing money. My hard earned money.

The usual ‘confidence boosting’ supporting arguments kick in. Historically, you lose money 4/12 months a year so it’s just random that two are next to each other. Look at the long term chart, you had blips before. You outperformed for over 10 years so what is two months in the scheme of things? It’s all good stuff but the truth of it only rings true when you get back to a profitable month. It is a stressful game.

Private Investors Edge

So, when under this stress, why exactly should private investors feel they can outperform? Why should they feel they can add value when all the empirical evidence suggests that fund managers don’t do so?

The answer lies in the fact that private investors are actually trying to outperform rather than mimic a benchmark. They don’t have to diversify away returns by constant adherence to sector weightings in the benchmark indices. In addition they are not obliged to be in the market just because they are trying to generate a buck in management fees. Private investors have far more flexibility.

For example take a stock like General Electric (NYSE: GE), which is going to see its prospects correlated with global GDP growth. Here is how the market priced it in 2000:

GE PE Ratio TTM data by YCharts

The good news is private investors don’t have to pay 50x earnings, while professional investors have to hold it. Another example is Google (NASDAQ: GOOG), of which we can see revenue growth here.

GOOG Revenue Quarterly YoY Growth data by YCharts

It is in a nice uptrend since the recessionary dip, and even with the transition to mobile and tablet Internet usage, Google still has a dominant position in search. However, every fund manager this year was forced to listen to the hoopla and hype surrounding Facebook (NASDAQ: FB) just because one part of the investment industry wanted to sell something to another part of the industry. However, amidst all this, very few people actually pointed out that Facebook had no articulated plan for mobile at the time of the IPO. No matter institutional investors were obliged to pick some up due to benchmark weighting issues. Private investors could avoid it altogether. Meanwhile Google goes on churning out revenue growth.

The Bottom Line

In conclusion, I think there are a whole bunch of reasons why hard working private investors can outperform professionals. It’s a stressful process, but then again it is a whole lot more stressful to look back on 10 years of miserable returns for you and then add up what your investment advisor has made out of this process. Despite the puff that the investment industry churns out, private investors are better placed to generate alpha. The real issue is having the confidence to keep doing it. Hopefully reading and participating in this sort of online forum will help!