1. Citigroup (NYSE:C): Citi is a new position, but not entirely unfamiliar to most readers of this blog. A number of famous investors have taken positions in Citi, most likely due to the fact that on a normalized basis, the earnings power of Citi is pretty strong relative to where the company is currently trading. In the past, Berkowitz has professed no edge in being able to analyze financial companies but we saw him take a stake in American Express (NYSE:AXP) in the middle of the crisis. He may find that the balance sheets are a lot easier to analyze now than pre-crisis.
2. Pfizer (NYSE:PFE): Berkowitz has pared down his Pfizer stake. There could be a number of reasons for this, he has increased stakes in Humana and WellPoint, which will expose him to increased healthcare spending so it could be a relative valuation issue where he sells something trading for 50 cents on the dollar for a company trading at 25 cents on the dollar. In addition, there was also Pfizer’s acquisition of Wyeth, which I don’t believe Berkowitz really envisioned. From his previous talks, Berkowitz had hoped Pfizer would become a merchant bank for the Pharma sector, acquiring small but innovative drug makers. The Wyeth acquisition sort of equated to one big acquisition which had the potential to be less efficient use of free cash flow from an investor perspective.
3. Berkshire Hathaway (NYSE:BRK.B): In the past, Berkowitz has actually reduced his Berkshire position. He is never one to get too comfortable. So the fact that he has been buying shares indicates that he may see Berkshire as undervalued right now — a sentiment that I have been hearing a lot.
I’ve always thought that investing in Apple (NASDAQ:AAPL) would be a terrifying experience. The company’s 20X P/E ratio and fierce scrutinization by Wall St. analysts makes it so that they must constantly iterate and come out with new devices to meet earnings expectations.
When you have an iPhone and an Apple computer, what else do you really need from Apple? That is where the iPad comes in. By using the iPhone OS, Apple is able to dig a moat around the device’s software. To develop rich applications for the iPad you are going to have to sell through Apple’s app store. And every application sold gives Apple a 30% cut. To be fair, this is not entirely new ground here — the iPhone came out with the app store first, but now we are seeing Apple’s attempt at using this same approach to software for general computing.
Look at Apple’s current revenue streams:
About 83% of revenues are coming from what I would characterize as hardware sales. If Apple can grow their App Store, they have the potential of getting a new revenue stream that is actually much more attractive than their hardware business. Creating a distribution channel for applications, where Apple simply takes a 30% cut, makes a new business line that requires little actual capital to operate. The returns on invested capital are huge and they have the potential to offset the need for constantly innovating on the hardware side of things. Instead, Apple could position itself to start receiving a healthy income stream from consumers on an annual basis.
The potential here is great. With his announcement yesterday, Steve Jobs positioned the iPad as a media consumption device. He wants you to use the iPad to browse the internet, watch TV/Movies, and read books. For content providers, Apple’s control over the user experience is a big deal. You don’t have to worry anymore about ad blockers and you might actually be able to create some truly creative advertising experiences by leveraging the device’s abilities.
For publishers, the iPad is no silver bullet. What you might see though are publishers who step up to the plate to make applications worth paying for. For most local newspapers that are bleeding to death, this scenario is unlikely. For larger publications, like the New York Times or Wall Street Journal, there could be value.
Then there are ideas that people in manufacturing or sales could use the iPad to roam around factories or give demonstrations on the fly. These sorts of ideas seem possible and all involve having to go through Apple. If the iPad is widely adopted, developers are going to have to increasingly work with and split revenue with Apple. If you thought Microsoft had a competitive advantage with Windows, think about what Apple could have in the future by totally controlling the user experience and applications market.
This is great news for any Berkshire Hathaway shareholder. By being added to the index, managers are going to be forced to pick up B shares and in turn help drive the stock’s price up:
Buffett, who is Berkshire’s chairman and CEO, wasn’t immediately available to comment Tuesday afternoon, but he discussed the prospect of Berkshire joining the S&P 500 during last week’s special shareholder meeting on the stock split.
Buffett said he expects Berkshire will benefit from joining the S&P indexes, saying it will suddenly have buyers for about 6 percent of its shares because many investment funds buy stock in the companies in the S&P indexes to mirror the moves of the indexes. And those mutual fund buyers would plan to hold the stock long-term, which is what Buffett wants.
“Over time, if it’s in the S&P, I think it’s a slight plus for shareholders,” Buffett said last week.
Warren Buffett is pretty active with foreign insurance companies these days. Not to long ago, Berkshire Hathaway (NYSE:BRK-A) did a deal to take on some of Swiss Re’s life insurance portfolio. Now, Munich Re is reporting that he owns 3% of the company:
Release of an announcement according to Section 21 WpHG [German Securities Trading Act]
WKN 843002
ISIN DE0008430026
Warren E. Buffett, USA, informed us in accordance with Section 21, para. 1 of the German Securities Trading Act (WpHG) that his share of the voting rights in our company had exceeded the threshold of 3% on 18 January 2010 and amounted to 3.045% (6,011,029 voting rights) as per this date. Thereof 2.994% (5,911,029 voting rights) are attributable to him in accordance with Section 22, para. 1 sentence 1 item 1 of the WpHG.
Howard Marks of Oaktree Capital has a new memo that is great as usual. I particularly liked his point about inflation:
When Paul Volcker left the Fed in 1987, he was asked at his first public appearance, “Will interest rates go up or down?” He answered presciently: “Yes.” Of course, his answer is still the right one. But from today’s levels, I think rates are more likely to go up than down (there’s so little room for the latter).
Reduced faith in the dollar means it would take higher interest rates to attract non-U.S. buyers to dollar investments. And, even domestically, (a) one of these days the government will stop holding rates down and (b) higher inflation would require rates to rise to compensate for the fact that the dollars with which debts are repaid will buy less. For all these reasons, I think investors must consider the prospect of higher inflation, dollar weakness and higher interest rates.
What to do about them? The list of possibilities is long:
· Buy TIPS.
· Buy floating rate debt.
· Buy gold (but only at the “right” price, and what’s that?)
· Buy real assets, such as commodities, oil and real estate (ditto).
· Buy foreign currencies.
· Make investments denominated in foreign currencies.
· Buy the securities of companies that will be able to pass on increased costs.
· Buy the securities of companies that own commodities, or that own assets denominated in foreign currencies.
· Buy the securities of companies that earn their profits outside the U.S.
· Hold cash (to invest once interest rates have risen).
· Sell long-term bonds (and possibly go short).
These are the actions that can profit from – or that provide the flexibility to adjust to – increased inflation, a decline in the dollar and increased interest rates, all of which are interconnected. The most important one is the last one: long-term bonds could suffer worst in an inflationary, higher-rate environment, especially given today’s low starting yields.
One final point: When I provide this answer to the frequent question about inflation, I ask people whether they agree. Usually they do. Then I ask how much of their portfolio they’re willing to devote to protecting against these macro forces. If their answer is 5%, 10% or 15%, I point out that that’s pretty close to doing nothing. The question is whether you’re willing to devote at least 30-40%. Few people are.
But that’s the thing: It’s easy to say, “I’m worried about inflation.” It’s something very different to say, “I’m worried enough about inflation to do something meaningful about it.” Let me know when you decide how much you’re willing to devote.
Marks makes an excellent point about whether managers are taking on superficial hedges — only investing a small, meaningless amount in their hedges. These positions make great talking points in quarterly letters but offer nothing by way of actual protection for their partners.
The best hedging opportunities usually come in the form of missed priced insurance. Nassim Taleb’s option trading seems to fit this description. The most recent example is the CDS trade that worked beautifully during the crisis. Credit default swaps were so mispriced that even a small position offered massive returns.
When things look dangerous, great investors are always ready to significantly protect themselves. Warren Buffett’s hoarding of cash provided Berkshire with great opportunities to invest in companies that were temporarily weakened by the crisis. Investors like Seth Klarman sometimes move 50% into cash if opportunities dry up. That is a meaningful move that protects investors from potential losses versus those who complain about overheated markets while keeping their partners hopelessly fully invested.
I’ve been thinking about hedging a lot these days and plan on having a comprehensive post up soon.
-Wells Fargo has done exactly what they said they could do. Their $40B of pre-provision earnings could handle large losses of $20B.
-The government did the right thing in acting fast in the financial system
Q: Why the share split?
A: We wanted to give a cash and stock option for the shareholders of Burlington Northern. It was an easy decision.
Q: Berkshire Hathaway a member of the S&P 500?
A: Never talked to S&P about it. It would be a plus for shareholders.
-Wells runs a terrific bank. A very customer oriented bank. Their revenues will come through. When the stress test was done, the people evaluating them were way off on the revenues. Wells felt that people did not understand their revenue ability. Wells will never disappoint on revenue.
Q: The Bank tax?
A: I don’t understand that. Some banks like Wells were forced to take it. The government made a lot of money off of banks with TARP, where they will lose money is with the automakers.
Q: What about the AIG bailout?
A: The banks got paid but so did millions of other contract holders.
Q: Should the banks be backstopping commercial and investment banks?
A: I don’t think the government should be backstopping Morgan Stanley or Goldman Sachs.
Q: How do you get around the idea where the commercial bank is with the investment bank? This notion of too big to fail.
A: The banks that were too big to fail had management problems at the top. The board of directors should have something where if the bank has to go to the federal government to be saved, the CEO and CEO before of two years should sign something where they get wiped out. The CEO should say: If this place goes down, I’m busted.
Q: You are saying guys like Chuck Prince?
A: Yeah.
Q: Should there be a split forced by Congress? Or the director plan like you said?
A: I would like what I just suggested. I think banks should be reigned in on leverage and activities they can’t engage in.
-Buffett trusts the Fed. to do more financial regulation on banks.
-Congressional elections are a reflection of voters, they don’t feel good about the health bill and the economy. Those feelings converged with feelings on the candidates.
-American people’s expectations were probably too high on the economy. To President Obama’s credit, he tried to dampen their feelings too. When it grinds along, they unreasonably expected better things by this point and that wasn’t in the cards.
-The stimulus bill could have been used in a way that has a faster more immediate impact.
-Some of the benefits of the stimulus bill were wasted because they were Washington as usual.
Q: Does legislative uncertainty affect corporate hiring?
A: At Berkshire, we are down 25,000 in employment off of base in the last year–year and a half. Our carpet business is down to 6,500 people. That is concentrated to a small area in Georgia. We will hire people when the orders come in. We have 1,000 people down from the peak in our Acme Brick business. We hire based on what is happening in our order book. We aren’t getting orders yet so we aren’t hiring. Unemployment will be a tough figure.
-Until things improve for the economy, the American people will remain unhappy. The Christmas tree approach to legislation where you add on earmarks is not encouraging to the American people.
Q: What do you think about the Kraft deal?
A: I feel poor. They sold a fine pizza business – Kraft sold it for what they said was $3.7B for it but because it had practically no tax basis they really got $2.5B when Nestle is willing to pay $3.7B. That business earned $280M pretax last year, they sold it 9X pretax but then paid 13X EBITDA for Cadbury. They are paying more than that, EBITDA is not earnings, depreciation is a very real expense. Then on top of that they are spending $1.3B on rearrangements at Cadbury, $390M of deal expenses, they are using 260M of stock that their own directors are saying is significantly undervalued, when they calculate the 13 they are using market price not what they think it is worth. So, the actual multiple is 16 or 17 and they are selling earnings at 9X.
Warren Buffett tells CNBC in a live interview on Squawk Box this morning that he has “a lot of doubts” about Kraft’s planned purchase of Cadbury and that he “feels poor” in the wake of the deal.
The deal does not need to be approved by shareholders, but “If I had a chance to vote on this, I’d vote no.”
…Despite his criticism, Buffett rejected Joe Kernen’s suggestion that he show his displeasure by selling Berkshire’s stake of over 9 percent in Kraft. That, he says, would be too expensive because Kraft’s stock is still “undervalued” but not as undervalued as it was three weeks ago.
Buffett also strongly criticized Kraft’s recent sale of a pizza business to Nestle at a price he believes was too low.
But he says Kraft CEO Irene Rosenfeld is a “good operator” and a “good person.” He has “cordial relations” with her despite their “difference of opinion.”
Buffett’s displeasure for the Kraft (NYSE:KFT) is not new, weeks ago Buffett lamented Rosenfeld’s wasteful plan to issue stock for the deal. Now, with the cash portion of the bid raised, the deal is less dilutive but still too rich for Buffett. Remember that he thought the deal was fairly valued when Rosenfeld made Kraft’s initial offer. Finally, it looks as if Buffett thought that the decision to sell Kraft’s pizza business was a poor one, going for below average multiples (9X) just to generate cash for raising the company’s bid.
On the other hand, Bill Ackman of Pershing Square seems very positive about the deal. He feels that the margins and the international market access that Kraft will gain from the deal will add tremendous value. It’s always interesting to see great investors disagree and it shows you that investing is often more art than science.
David Tepper often throws a $20 bill on the floor when he’s weighing a big investment with analysts at Appaloosa Management LP.
“Would you pick that up?” Tepper, founder and president of Appaloosa, asks them. His point: The best trades can be like found money.
That was the case in early 2009, he says. Shares of banks such as Citigroup Inc. and Bank of America Corp. were collapsing on rumors they would be nationalized. On Feb. 25, the U.S. Treasury put out a white paper and a term sheet on its Web site for the government’s Capital Assistance Program. They said the preferred stock the government was buying in the banks would be convertible to common shares at prices far above where they were trading — 37 percent higher in the case of Citigroup and 21 percent for Bank of America, Bloomberg Markets reported in its February 2010 issue.
For Tepper, 52, that meant it was time to buy. “If the federal government was putting out this paper, they weren’t going to nationalize the banks,” he says.
Second, the conversion price of the preferred shares meant the bank stocks were seriously underpriced.
“It was crazy,” says Tepper, a Pittsburgh native. “In February and early March, people were in a panic.”
Appaloosa began scooping up bank-related securities, including common and preferred shares and junior subordinated debt. The Short Hills, New Jersey-based hedge fund firm bought into Bank of America, Citigroup, Fifth Third Bancorp and SunTrust Banks Inc. Tepper also bought the bonds of New York- based American International Group Inc., Frankfurt-based Commerzbank AG and London-based Lloyds Banking Group Plc, paying as little as a nickel on the dollar…
Seizing opportunity out of chaos is the philosophy that has guided David Tepper for years. And his investors know it. Even in the midst of the 2008 meltdown, Appaloosa got relatively few redemption orders, Tepper says. In any case, all investors agree to three-year lockups, and Tepper can limit withdrawals to 25 percent of the requested amount.
Still, Tepper says he doesn’t want to gather assets simply for the sake of reaping more fees — a surefire prescription for undermining returns. Five times in the fund firm’s history he has returned investors’ capital when Appaloosa had trouble putting it to work.
If there isn’t a $20 bill on the floor to pick up, Appaloosa isn’t interested.
My name is Tariq Ali, I run Street Capitalist. I recently graduated from the University of Texas at Austin. There, I stumbled onto value investing via the school library. I read everything I could and now I'm here, writing out my thoughts and investment ideas.
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