Saturday, January 9, 2010

Two for One Posts

Dear Readers: at least for the month of January I will be posting my articles first at the Davian Letter blog section. They will continue to appear on here with a delay at least until the end of the month. DL is an up-and-coming site for investors and traders with various styles. I was invited to post there; otherwise I have no relationships with the site or the people running it.

How to Select Assets for Inflation
So let's chat about inflation, and investing for inflation (this blog is not investment advice).
If you listen to the eggheads, there are many ways to define "inflation." The more academic one is the increase in overall money supply (inclusive of credit). On the other hand, the esteemed Garage Logic University School of Economics defines inflation as the increase in the overall price levels, much like Yogi Berra's famous "a nickel ain't worth a dime anymore." There are quite a few shenanigans in the headline CPI number which I am not going to discuss here (substitutions and adjustments) so I personally keep track of my own inflation in different expense baskets. I recommend that you do that too: housing, food, transportation, utilities, sales tax, education, and others. You should track items that do not change across the years, such as a gallon of milk, gallon of gas, a NYC subway ride, price per kWh, tuition credit cost at the local school, men's haircut, whatever. Healthcare costs are a little trickier because it is difficult to assign values to coverage and deductible changes, but it is still a good idea to keep track of it. You can do it once a year, or twice a year, and compare your basket to the "official" CPI. I can almost guarantee you that you would be surprised.
So let's do a rundown of the more popular ways historically (or currently) for protection of your purchasing power. I will try to give a balanced view on each as there is no silver bullets (pun intended). Also please note that I am discussing a "manageable" inflation level (that is, no complete societal breakdown).
Gold: on the positive side, widely recognized as money. Durable material. No industrial (jewelry) demand above certain prices. On the flipside, it can be the ultimate "greater fool" trade. Once there is a belief that inflation will be controlled, the stampede for the exits will be ugly. Additionally, gold provides no current income. Having GLD is actually costing you (you read the prospectus like a good boy, right?).
Silver and Platinum: not dissimilar to gold but also have legitimate industrial uses that play a role in supply/demand.
TIPS: if the government determines the CPI to which its interest expense is indexed, what do you think are the incentives?
Foreign bonds/Foreign TIPS: similar story here. No country will let its currency appreciate too much versus the other currencies.
Stocks: one has to be very, very careful. Some of the things to consider here are: discretionary vs. staples (and Coke is NOT a staple; neither are iTunes); capital structure (interest rates are rising in an inflationary environment so look at the debt maturities for refinancing risks, fixed vs. floating, and property-level/non-recourse); pricing power (lots of factors here); "hard" assets/general asset quality. Also pay attention to the commodity cycles: farm and energy will likely outperform base metals/other materials.
REITs: while "real estate" has been a good play traditionally (especially if they can pay debts in "old" dollars and charge rent in "new" dollars), pay attention to the refi risks. Some REITs (office, industrial) are heavily linked to the overall economy as well. Also beware of mortgage REITs with debt duration mismatch (if you pay floating and short but receive fixed and long during a rapid rise in rates, you're in a tough shape once the rates move up).
Residential RE: has been one of the trades of the century for people who bought in the early 1970s on fixed rate. My caution here is that too many people take the availability of mortgages for granted. The 30-year, fixed-rate is something rare globally and it will be very expensive/not available at high rates, so once your house is less leverageable than before, it loses "real" value. See what happened to RE prices in emerging markets once mortgages (a new product) appeared in the late '90s/early 00's: they shot up not based on productivity but based on people being able to pull forward 15-20-30 years of future income. This can reverse just as quickly.
Productive land: again think whether current prices are influenced by leverage and productivity that cannot be sustained if fertilizer prices are too high. I think one of the safer plays.
Timberland: also a "classic", one can even choose the harvest timing over years. The issues there are (1) unlike prior inflation episodes since Gutenberg invented the press, pulp demand is in a secular downtrend, (2) new housing may not be coming back for years and (3) again, what happens if you try to exit when buyers have no access to credit.
Food, personal care, tobacco, alcohol, medical supplies, ammo, heating oil/wood/coal, useful stuff: good bets; works for bartering, too
Livestock: my bet is on poultry. Easy upkeep, small space needs, eggs without a "bull" unlike milk, and best feed-to-weight gain ratio. Goats and donkeys live long and are easy to keep though milking the latter is not recommended by farm experts. Farm ponds with carp are also good feed-to-weight investments.
1st Class Stamps: have been reflecting inflation well but (1) email has displaced mail and (2) the services will likely change (e.g. less delivery days) so the real "value" will be less.
Children: the timeless retirement plan. Cash-flow neutral by year 20-25. Some economies of scale and quantity discounts.

(PLUG: the author of Barbarian Capital blog is available for the right consumer- or inflation-focused analyst opportunity within the US)

The "If You Have to Ask/If You Have to Say It" Principle

Here's something to ponder. I call it the "if you have to ask" principle: if you have to ask, chances are, it is not for you. Similarly, if you have to say it, chances are you are not "it."
What got me thinking is this (automatically placed) Google ad above one of my posts: "Prestigious Healthcare MBA from XYZ University"
Well, if you have to say it...
I have never seen any top 10 program advertise itself as "prestigious." Marketing for the bonafide prestigious brands (both products and services) is substantially more subtle. It often targets the top of the Maslow pyramid: self-actualization. The "brand ambassadors", if used, are people who have either explicitly or implicitly reached a very high level of achievement in their field. Kimbo Slice will never (I think) market Patek Phillipe.
How many people "say it" and describe themselves as "confident" or "smart" or "a winner" when these qualities are, at best, at the aspirational level for them? How many schemes market themselves as "the real deal"? How many day trading systems "really work"?
if you have to ask, it is not for you.
A lot of learning comes from osmosis: simply picking up pieces from your environment, or, alternatively, from being in an environment where the answer process is structured. If you have to ask, you might be from the "wrong" background, and you will be treated as such.
I spent some time on an associate-level front-office recruiting committee at a major Wall St. institution (I think I am still paying the wages of that sin, but this is another topic all together). "Non-core" school resumes are
considered via the official channels. Period. If you (or your dad) knew someone important at the firm who then passed it on, it would be considered but otherwise, no. One level above "us" were the "relationship hires": the no-questions-asked hiring decisions for the daughter of the CFO of client X and the like. Do you think they had to ask about "the process"?
Most career "authors" advise you to "network": well, just trying to reach out to an associate puts you in the "if you have to ask" category. Because the system works with feeder schools and if you are not invited to the dance to begin with, then your resume is destined for the shredder. You would not need to "network" if you belong in the network; you'd be networked by default (at least at this situation: I can see the value of the advise in some other fields).
Similarly, how many potential buyers of high-end brand "timepieces" are concerned with the price? How many people walk into an exotics or a yacht dealer wondering if they can "make the payment"? How many NYC coop boards do not allow mortgages (if you're thinking twice, it is not your kind of a building)? If you are concerned that the menu has no prices, then you are at the wrong restaurant.
So how does this all tie together? One of my favorite topics on DL is the smidiot discussion. Smidiots almost always have all the right labels (the right high school, the right undergrad, the right grad/law; the right mega co's on the resumes; the right vocabulary; the right tastes, hobbies and interests; the right UES/UWS "residence") but these labels came to them without much effort or original thinking, or, in some cases, even without an acceptable IQ level.
Unfortunately, smidiots are often gatekeepers of desirable resources (FoF managers, headhunters/HR chicks, MDs, PMs) and use a variety of mental shortcuts to see if you're from the herd. It is important not to ask the wrong questions.
So when you are surrounded by them, make sure you've done your homework so that you can do your best mimicry to further your ends. 

(PLUG: the author of Barbarian Capital blog is available for the right consumer- or inflation-focused analyst opportunity within the US)

No comments: