Value Investing using Economic Value Added (EVA)

WHAT`S NEXT FOR CHINESE ENTERPRISES? EVA, OF COURSE

In WHAT`S NEXT FOR CHINESE ENTERPRISES? Terry Qin, Vice President of Stern Stewart & Co. located in Beijing, writes that as many of China's largest enterprises gains influence in capital and traded goods markets, management (and the state, it is still ruled by the Communist Party after all) realizes that "they need a world-class, more complete measure of performance."

And the State-owned Assets Supervision and Administration Commission (SASAC) has asked the central state-owned enterprises to enforce prudent capital management and enhance their risk control procedures. 

Tough to do when it seems that the purpose of the state owned enterprises is to employ and to pacify as many people as people - not to allocate capital to its most prudent, I assume, wealth creating use.

But there is hope.  From 2010, the SASAC will use EVA to evaluate performance at the enterprises under their supervision. 

Big, and Strong Too

And this is also encouraging:

"China's current top 500 enterprises are actually still the 500 largest enterprises. Enterprises not only should grow larger, but also should become stronger. If the enterprises are only strong but not large, they may be lack of influences and still survive the global market. However, if the enterprises are only large but not strong, they will crash down sooner or later” commented Li Rongrong, Director of the State-owned Assets Supervision and Administration Commission (SASAC) under the State Council.

Let me translate: Growth in sales and profits for their own sake is not the GOAL.  Growth in VALUE or EVA is the GOAL.

That's a lesson that the boards and management of the 90% of the Russell 3000 that do not use a capital efficiency measure like EVA or Return on Capital or Economic Profit to make decisions should learn. 

Hmmm...who are the capitalists now?

BERK

Invest in Stocks Now as ETF Investors Are Still Fleeing U.S. Stocks

The greatest mistake that investors make is running with the herd.  One of the great drivers of the success of value investors is the ability to run against the herd. 

Ordinary investors were selling in January, February and March of this year - in fact the herd was in a panic to get hold of their little greenbacks in exchange for stocks. 

The market is up over 60% since then!  Who made out like bandits? - those that bought (or refrained from selling).  They were the insiders like corporate executives and the traders at Goldman Sachs, et al.

Who sold? Individuals, families and their brokers and advisors - the "public".  We call 'em the weak hands - the first to fold.

One of the most popular vehicles the public uses to get invested in stocks, bonds and commodities are exchange traded funds (ETFs).  And as this article from the Clusterstock section of the businessinsider.com suggests the public is running away from stocks again!

From Clusterstock: ETF Investors Still Fleeing US Stocks

Investors have been pouring into Exchange Traded Funds (ETFs) this year. $108 billion flowed into ETFs year to date, $24 billion of which came during the last three months.

Yet while investors have been pouring into commodity, fixed income, and global equity ETFs, one very important category has remained a complete pariah -- U.S. Stocks.

Despite the stock market rally we've witnessed during the last three months, money has continued to flow out of U.S. equity ETFs. Thus while some might be able to argue that the crowd has jumped into commodities, fixed income, and global equities, it's pretty hard to say that investors are in love with stocks again.

ETF investors continue to flee American stocks, which suggests we are nowhere near a new 'bubble' for U.S. equities. (My emphasis)

Nowhere near a "bubble" means it is time to be invested in stocks - watch out for advisors bearing bonds.

BERK

Some Perspective 10% per Year « Systematic Relative Strength

 Some Perspective « Systematic Relative Strength.

That’s right – still 10.09% annualized return over a stretch of nearly 92 years that saw horrible world wars, peace, booming economies, depressions, good politicians, bad politicians and everything in between.

We will be the first to admit that indexing may not be appropriate for everyone.  In fact, many of our products follow a methodology that seeks to rotate into other asset classes during extended periods of weakness in U.S. equities. However, it hard to look at the table above and not realize that the stock market offers the masses access to one of the most effective ways to build real wealth over time known to man.

It would be a tragedy if we stopped investing in the stock market and fell short of our life goals because of the returns of the last decade.

We understand it is human nature to be frightened by short-term volatility, but the short-term does not matter for your savings as long as you do not need the money when we are in one of those temporary periods of decline.

The market goes up and down. Yes.  That is technically accurate. A more accurate statement is that the market goes up a lot and down a little - but it always goes up over time.

At my firm, Berk Advisory, we know that the biggest factor in determining your lifetime return is your behavior concerning short-term volatility.  Our clients buy low and sell high and never panic so much that they get off their long-term plans.

BERK

This just in: Hedge funds pay banks millions for ‘edge’

I am shocked, sir, to find out insiders pay for inside information! Just shocked! 

Here's a brilliant piece of journalism the likes of which we unfortunately expect nowadays.  We need to wait for someone to get "busted" before anyone investigates the way it's always done:  This from the FT this morning.

Galleon, which had about $7bn in assets at its peak, paid large amounts to banks because it specialised in short-term trading strategies, which put its officials in close contact with Wall Street traders and salespeople. As it grew, the hedge fund became known for pushing its contacts at banks for hints about market developments such as big buy and sell orders.

Although bank policies often prohibit employees from divulging specific information about orders, executives who dealt with Galleon said it regularly received “colour” on market developments, frequently delivered in Wall Street slang. One example would be tradersdiscussing a “page one seller” of shares – a reference to the first page of the Bloomberg list of top holders of listed companies. (My Emphasis)

One executive who dealt with Galleon said: “They wanted anything the public did not have. They got various pieces and put them together and that was their edge.” A former Goldman executive who provided services to funds including Galleon said: “They were tough and aggressive. They cared about short-term returns and cared a lot about the impact of their trading and the costs. They expected a lot of market information.”

Market “colour” has not usually figured in insider-trading enforcement. Prosecutions – including the charges in the Galleon case – have focused on leaked corporate information.

FT.com / Companies / Financial Services - Galleon paid banks millions for ‘edge’.

Insiders, like the proprietary traders at Goldman Sachs, Morgan Stanley, etc., are the ultimate insiders because they know what their customers are doing - they then can bet ahead or bet against depending upon what the market "color" says. 

Hedge funds that trade a lot share that information and become quasi insiders because they get a bit of that insider market information that allows the hedge funds to get an edge.

In the end, it's the way business has been done since I can remember - but it ain't right to the extent that these hedge funds and prop traders make their dough, their out-performance, through inside information.  I'll let the government figure out if it's legal, but it is not fair when the only way to gain the edge is to pay off your brokers with commissions.  And it ain't fair that these hedge funds and traders are thought to be "brilliant" investors when much of their out-performance comes from being on the inside.

How come we never see the big payoff to Wall Street as a reason for the glorious performance this quarter in their famous letters to partners?  I guess it would go something like this: 

We had a great quarter because our investment in commissions at Goldman Sachs gave us the edge in a number of stocks that were being liquidated by Fidelity and T Rowe Price.  Also, we surmised from our conservations with the proprietary traders at our brokers that insiders at pharma companies were selling in large numbers which enabled us to sell ahead of them.  Next month I'll figure out an explanation as to why they were bailing out, but no matter we made a fortune. 

Regards,

Hedge Fund Guy

BERK

Risks to the Expansion - A Poisonous Cocktail

Insanity: doing the same thing over and over again and expecting different results. - Albert Einstein

Why does this Congress think that they should expand a law that has led to an enormous amount of bad mortgages? They must be insane!

Peter Schweizer, a research fellow at the Hoover Institution and author of Architects of Ruin: How Big Government Liberals Wrecked the Global Economy---And How They Will Do It Again If No One Stops Them (Harper, 2009),  wrote this article in Forbes which was eye popping due to the hockey stick graph of bank commitments under the Community Reinvestment Act (see below). 

The financial market meltdown was not caused by any one thing - but the critical state that the markets were in just before September of last year - was the result of a few really bad government policies.  Not too many people would debate that the insane lending practices whereby banks would make zero down-payment, no documentation and low teaser rate loans was a main driver that brought the financial system to its critical state just before the government seized Fannie Mae and Freddie Mac, let Lehman go bankrupt and bailed out AIG the next day.

So far regulators looking to "fix" something and the press looking to report something have focused on minor causes whose remedies will not do much to ensure that the system never gets to that same critical state again.  We have heard that financial industry compensation levels and structure were one of those main drivers.  The convenient consensus of political leaders is that "compensation caused all the problems", as my friend Marc Hodak recently wrote here and here.  Of course, if compensation caused the crisis, then they do not have to deal with the possibility that government manipulation of interest rates and mandates to the banks to lend more and more to the disadvantaged actually caused the crisis - those would be facts that do not support the case that government can work smart and deliver economic justice.  Better to ignore the facts I guess.

Regardless of my belief that government meddling and subsidization through Fannie Mae and Freddie Mac of the mortgage market was a main culprit leading to the critical state before the crash, it seems we would be insane to double down on those same policies.

But that is what is going to happen if ACORN - yes that same group that was caught on tape giving advice to a pimp and a hooker - and the Services International Employees Union (SEIU) - yes the same SEIU that wants to eliminate "secret ballots" in union elections and let the government decide whether employees of say WalMart should be forced to join their union - get their way.  They seem to get their way if the White House gets to say anything about it. So watch out.

As we try to shake off the financial crisis, here's a bright idea. Take a law that has led to the writing of an enormous amount of bad mortgages and expand it. Then take enforcement away from bank examiners and give it to housing activists.

Sound like a poisonous cocktail? Well, it is what the Obama administration and Democrats are currently stirring up on Capitol Hill.

The White House and Congress want to expand a 30-year-old law--the Community Reinvestment Act--that helped to fuel the mortgage meltdown. What the CRA does, in effect, is compel banks to seek the permission of community activists to get regulatory approval for bank expansions and mergers. Often this means striking a deal with activist groups such as ACORN or unions like the Service Employees International Union (SEIU) and agreeing to allocate credit to poor and minority areas that are under-served.

In short, the CRA encourages banks to make loans they would not ordinarily make. What's more, these agreements often require that banks offer no-money-down mortgages and remove caps on how much debt a borrower can take on. All of this is done in the name of "financial democracy."

Liberals pooh-pooh the idea that a 30-year-old law could have contributed to the current sub-prime crisis and credit crunch. But what they ignore is the massive expansion of CRA-commitments forced on banks in the run-up to the 2008 financial crisis.

You see in the graph that since the second term of the Clinton Administration how commitments by banks under the Community Reinvestment Act have sky-rocketed - these were loans that were guaranteed by Fannie and Freddie (read the US government) and those that eventually went bad in bundles called mortgaged back securities.

Maybe this was just a benign attempt to increase home ownership in mostly disadvantaged areas - but it turned into the mother of all welfare programs that we are just starting to pay for now.

It's not time to double down - is it? 

BERK

HT: CARPE DIEM
 

Tax Burden of Top 1% Now Exceeds That of Bottom 95% - or You Can't Eat Percentages!

The government pays for stuff with dollars.  It takes dollars from citizens through the income tax and transfers those dollars (after it goes through the government filter where billions are sucked out to pay for the bureaucrats, lobbyists and politicians plus their staffers).

You can't eat percentages.  Percentages are ratios. Tax rates are ratios and percentages.  Here's the news: When you raise tax rates - percentages- you do not always get more to transfer to those that do not have to create, risk, employ to earn, whatever dollars those ratios end up representing.

Here me now and here me LOUD!  Raising tax rates or lowering tax rates does not make a tax system more or less fair - more or less progressive.  Tax systems are for efficiently collecting revenue for the government.  Tax rate changes have perverse unintended consequences.

So why do I hear about tax cuts for the rich and how George Bush's tax cuts for the rich created the deficit that Obama inherited - Bull S*?$t. 

There were tax rate cuts but there were not any tax cuts.  Tax rate cuts do not mean that the wealthy pay less taxes. They only pay less if everything stays the same - and nothing ever stays the same.

Since the middle of 1987 after the Reagan "tax rate cuts for the rich"  - the rich have been paying - or sacrificing ever since.  The Tax Foundation - Tax Burden of Top 1% Now Exceeds That of Bottom 95%.

Nobody but nobody should be able to ever say again that the rich got the benefits while the poor suffered. On the contrary - the rich in total paid a greater share of total dollars to fund the other 95% of DOLLARS collected every year since 1987....

...the IRS data shows that in 2007—the most recent data available—the top 1 percent of taxpayers paid 40.4 percent of the total income taxes collected by the federal government. This is the highest percentage in modern history. By contrast, the top 1 percent paid 24.8 percent of the income tax burden in 1987, the year following the 1986 tax reform act.

Remarkably, the share of the tax burden borne by the top 1 percent now exceeds the share paid by the bottom 95 percent of taxpayers combined. In 2007, the bottom 95 percent paid 39.4 percent of the income tax burden. This is down from the 58 percent of the total income tax burden they paid twenty years ago.

To put this in perspective, the top 1 percent is comprised of just 1.4 million taxpayers and they pay a larger share of the income tax burden now than the bottom 134 million taxpayers combined.

1.4 million people pay more and more dollars - screw tax rates - than 134 million people - Is that fair?  Mind you I am not complaining - I am not in the top 1% but I know that I will only have a chance to become one of the 1% if there are incentives for everyone to win!  Soaking the rich, the fat, the skinny - is immoral, unfair and un-American.  AND IT DOES NOT WORK!

 HT:CARPE DIEM

I'm Berk and I am not taking it anymore! 

Father of money market funds charged with fraud

As many of you know my dad, William "Bill" Berkowitz, was right there along with Mr. Bent at the beginning of the money market mutual fund industry.  In fact, my brothers and sister and I used to go around all the time telling people that my dad "invented" money funds when he was at Dreyfus.  A little embellishment from proud children to be sure, but my dad certainly knew how to trade and manage a prudent money market portfolio. 

Before he died in 2004 he would remind me that the biggest risk to the banking system and the economy was not a run on a bank or a series of banks - it was a run on money funds.  Little did I know that he would be right so soon.  Chairman Bernanke often has said that the holding by the Reserve Fund of Lehman paper upon Lehman's bankruptcy was the transmission mechanism that made the financial crisis a main street crisis because it blew up the commecial paper market.

Anyway, seeing his old rival for basis points being charged reminded me how smart, innovative, honest and genuinely paranoid my dad was.  His prudence helped create the first shadow banking system caused by foolish government regulations - Dreyfus Liquid Assets...and, oh yeh, the Reserve Fund. 

As my dad told ''Forbes'' in 1980, ''...the savings public is becoming more sophisticated. It will not stand for this 5% rate on passbooks (savings accounts).'' That's when large depositors were getting double digit short-term interest rates as Volcker tried to stamp out inflation. 

He fought against the regulation of the money market industry and welcomed competition from banks by testifying in favor of lifting Regulation Q--which prevented banks from paying prevailing high interest rates on savings accounts.

RIP Dad - we'll all be alright (you were right there was way too much debt)

NEW YORK/WASHINGTON (Reuters) - The father of the money market mutual fund -- investor Bruce Bent -- was charged with fraud by U.S. regulators on Tuesday over accusations he deceived investors into believing his flagship fund was safe before it "broke the buck" last year.

The civil charges against the veteran money manager, his son and their investment company come eight months after the Reserve Primary Fund, loaded with Lehman Brothers debt, halted redemptions after the investment bank declared bankruptcy, sparking a run on money-market funds.

The fund's net asset value fell below $1 after Lehman's bankruptcy last September, meaning that investors who thought their funds were safe had lost money.

The fund is being liquidated and its collapse has spurred numerous lawsuits. Its demise has been a stunning turn for Bent, who regulators called "the public face" of the fund and "a longtime advocate of the safety and stability of money market funds."

BERK