Richard Bernstein's Investment Guidelines

A blurb in the Wall Street Journal's "Heard on the Street" section caught my eye as I was on my way in to work last week:

"Overheard - Most people gush thanks (or occasionally spit bile) in their farewell address. Richard Bernstein, whose 20 years at Merrill Lynch drew to a close on Wednesday, went 10 steps further. In a final note, having thanked colleagues and clients, the bank's chief investment strategist signed off with 10 guidelines. All are worth remembering, but perhaps the last resonates strongest: 'Leverage gives the illusion of wealth. Saving is wealth.'"

This caught my eye and I made a mental note to see if I could find the complete list of 10. Lo and behold, through the magic of the Internet, I found the guidelines on seeking alpha.

They are the following: 

1. Income is as important as capital gains. Because most investors ignore income opportunities, income may be more important than capital gains.

2. Most stock market indicators have never actually been tested. Most don’t work.

3. Most investors’ time horizons are much too short. Statistics indicate that day trading is largely based on luck.

4. Bull markets are made of risk aversion and undervalued assets. They are not made of cheering and a rush to buy.

5. Diversification doesn’t depend on the number of asset classes in a portfolio. Rather, it depends on the correlations between the asset classes in a portfolio.

6. Balance sheets are generally more important than income or cash-flow statements.

7. Investors should focus strongly on GAAP accounting and should pay little attention to “pro forma” or “unaudited” financial statements.

8. Investors should be providers of scarce capital. Return on capital is typically highest where capital is scarce.

9. Investors should research financial history as much as possible.

10. Leverage gives the illusion of wealth. Saving is wealth.

I thought these were some pretty good observations. Number 1 definitely hit close to home for me. As I've grown my savings more over time and seen the impact a huge market downturn can have on the value of certain stocks, I've begun to pay a little more attention to income. Although I still believe capital gains are where the big payoff comes from in stocks, income is something tangible and shouldn't be overlooked. Number 5 is pretty important as well... over the past 2 years, people have seen every single asset class in their "diversified" portfolios sink almost in unison. Many were operating under an illusion of diversification and when the tide went out, we saw who wasn't wearing a bathing suit. 

I cocked my head sideways when I read number 4 because I think nothing fuels a bull market more than cheering and a rush to buy. I kind of see his point though. He is saying bull markets are more the result of assets being unfairly punished and undervalued prior to the bull market than the actual enthusiasm during the bull market. In my opinion, you can't have one without the other so this is kind of a circular argument.

This list reminded me of another post I made a while back on nine market lessons from John Dorfman, a Bloomberg columnist who retired a while back. For the sake of completeness and comparison, I list Dorfman's lessons here:

1) Out-of-favor stocks are the best road to capital gains.

2) Don't be swayed by what Wall Street analysts say.

3) High portfolio turnover is not necessary for good results.

4) The investment value of a stock is independent of whether it has been moving up or down.

5) Predicting the market with consistency is extremely difficult.

6) Predicting the economy is probably even harder.

7) High valuations alone aren't a good reason to sell a stock short.

8) High profits alone are no reason to invest in a stock.

9) Dialog with readers was one of the best parts of my experience as a columnist

Maybe one day I'll come up with my own list, but I have no plans to retire anytime soon :)

A Year off Work, With Pay

I came across an interesting article in the New York Times (which I rarely read, since I prefer the WSJ) about a lawyer who is getting paid $80,000 to take a year off from work. Apparently the big NYC lawfirm Skadden is offering some of its workers a year off at 1/3 of their salary as a way to reduce costs and retain employees during the current economic downturn. Since this particular woman made $240,000 a year, her drastic paycut still leaves her with a pretty hefty salary so she decided to take the year off and tour around the world.

I don't blame her. I would take this deal if I could (though I am sure I wouldn't be able to travel and would only just be able to scrape by on 1/3 of my salary). I've worked with people at big lawfirms like this in the past and I know the kind of grueling schedules they put in. I put in these kinds of hours myself for certains stretches throughout the year and over time it tends to get to you. A break like this would be a most welcome relief.

But of course I am not getting this deal. And neither are you. But we can dream.

What would you do if you got this offer?

Buffett Invests in Chinese Electric Car Company

Fortune published a recent article describing Berkshire Hathaway's purchase of a 10% stake in BYD, a Chinese electric car manufacturer last fall. I didn't really notice this announcement when it came out, but it was a decent-sized investment at $230 million for the 10% stake.

Looking at the net income graph in the article, it looks like BYD earned about $180 million in 2008. Dividing that by 10 gets about 18 million of earnings, or a P/E of about 12.7x. (This is just to give you a general sense of valuation, see this site for the current P/E of the S&P 500. Not sure if this site gets the calculation right or not, but I found it after a brief google search).

The reason this acquisition caught my attention is because (as others have noted), Buffett broke some of his own rules to make it. I don't see how an auto company could ever meet his criteria for an excellent business (for more on his criteria, see my review of Buffettology, particularly the 9 questions). I don't think he understands the industry either. It seems like this investment was more likely the brainchild of David Sokol, chariman of MidAmerican Energy and Charlie Munger than it was of Buffett.

I don't have much of an opinion either way but I do note that it continues the trend of Berkshire making acquisitions outside of the United States.

How to Become As Rich As Bill Gates

I came across this pretty instructional post written by Philip Greenspun that offers some simple steps showing how you can become as rich as Bill Gates. It's funny I had this vision in my head that Gates was more of a self-made man but as it turns out, he came from pretty fortunate circumstances. Interesting stuff.

I haven't been posting all that much lately, but there has been much to absorb in the markets. There has been no shortage of negative headlines. We can't go a day without a new company being bailed out or a headline about a financial catastrophe of epic proportions.

I think people are starting to get numb to it all.

I hope Twitter is a Fad

I hope Twitter is the POG of this decade and that after a few years it sinks into oblivion, never to be heard from again. I really don't get it. You couldn't pay me to go on to Twitter and write that im tying my shoe or read about someone else tying theirs. But a lot of people are talking about it.

The reason I hope it fades away is that it would really ruin my faith in humanity to find out that we've stooped as low as making this kind of thing an integral part of our daily lives. Reading about some guy who is buying eggs, or some gal who is getting a new key made. Really?

I hope it's a fad.

Update 1/1/2016: So twitter was not a fad (at least in the medium term). Turns out it ended up being decent for things like real time news etc. However (like basically all good things on the internet that get popular) it became polluted by advertising, publicists, vapid celebrities etc. and I'm not a fan.