Saturday, April 26, 2008

Wheat and chaff

Here is another great peace of advice from Warren Buffet (paraphrased:)

"It is better to buy great businesses at fair prices than buy fair businesses at bargain prices."

If only this advice had permeated my consciousness a few year earlier!

My success rate with buying so-called bargains is very low. This is because when companies hit hard times their share prices fall further than you could imagine. This has happened to me so many times: eBay, Vodafone, British Airways and CSR are all examples that have or are making me suffer.

One rule for the future: when catching a falling knife spread your purchases over 6 to 12 months to lower the risk.

For now I am going to go through each company that I own shares in and categorise them as either a great or fair business.

Barclays, Lloyds TSB, RBS, HBOS

These are all banks! Need I say more! In good times banks generate lost of profits but in hard times when loans start defaulting or the value of their assets starts plummeting they become very unattractive. Now is one of those times. The need for banks is not going to dwindle and their time will come again in due course. For this reason I am still fond of them but they are definitely only a fair business.

British Airways

BA is an airline! Need I say more! Airlines normally demand a great deal of capital in order to make a small loss! But BA has a great competitive advantage - its terminal and landing slots at Heathrow. For long haul passengers to and from London, Heathrow is more convenient than Gatwick or Stansted. CEO Willie Walsh also has a close eye on costs. For these reasons I think the share price will recover but it is definitely only a fair business.


CSR has some great Bluetooth products. It is also branching out into WiFi and GPS. However it is in a dynamic industry and there are plenty of competitors. The continued proliferation of wireless devices gives CSR a tail wind but it has no enduring competitive advantage and can only be a fair business.

Dana Petroleum

Dana has a history of increasing its oil production on a yearly basis by a combination of acquisitions and exploration. The share price just jumped this week after a new discovery. However it is selling a commodity and has no brand and so must be a fair business rather than an excellent one.


I have written so much about eBay in the last few years. If only words written were proportional to share price gains! eBay is an excellent business. It has a strong brand, an enduring competitive advantage and generates excess amounts of cash. One day the market will start agreeing with me!


BP sells a commodity and has no real enduring competitive advantage although its network of refineries could not be easily matched. It is also returning a lot of money to shareholders but it is still only a fair business.


Genzyme is a fantastic business! It has a diversified range of drugs which seems to increase the sales each year without fail. It also has an exciting pipeline and generates enough cash to supplement its pipeline with acquisitions when something interesting crops up. One to hold for the long term.

British Land

British Land does not have an enduring competitive advantage or a strong brand although it does own some great commercial properties which should generate an increasing rental yield ad infinitum. A nice company but not an excellent one.


I have yet to fully get my head around Shire. It is not in the same league as Genzyme as it does not have the product diversity and all its growth seems to be via acquisitions rather than organic. Only a fair business.


ARM supplies processor designs that set the standard for low power processors. As more and more products go digital the demand for processors is not going to decline. However ARM is dependant on the whims of its customers and needs to keep investing heavily in R&D. It is almost an excellent business.

Phew! I make that 13 businesses and only 2 of them qualified as excellent.

I now need to find some excellent companies that I don't own. I am pretty sure that Google is one. Finding British examples may prove more difficult but Tescos looks good.

So the five year plan: ditch the fair businesses and overload on the excellent ones. And stop being distracted by "bargains."

Saturday, April 19, 2008

Tesco looking tasty

Last year I sold my Tesco shares at a healthy profit once they reached 440p. As the stock is now at 410p that would have looked like a good move if I hadn't invested some of the proceeds in banks!

Anyway after reading Tesco's latest annual report the stock has come back on my radar again. What do I like about Tesco?
  • Constant overseas expansion means Tesco gets more internationally diversified each year
  • Management have a proven track record
  • Property portfolio worth as much as 200p per share at market value
  • 3% yield that grows in line with the EPS
  • Exposure to Chinese market

Tesco is not a stock that is going to double in the next 3 years or so. Its size and 12% growth rate will see to that. But it is a worthy member of any income portfolio thanks to its defensive properties and steady dividend growth. With the stock down from its highs of last year now is a great time to start accumulating some.

Wot no eBay quarterly review?

I normally summarise my thoughts on eBay after each quarterly earnings release. But this time I won't write much as in my view nothing has changed. PayPal and Kijiji are still doing great, GMV is still not growing fast enough, Skype still has no synergies and the stock is still undervalued!

How long does the market want eBay to grow the EPS at a rate of over 20% before rating it as a growth stock again? That growth may be fueled by aquisitions and share buy backs on top of organic growth but it is still a steady 20%+ growth which shows no sign of abating.

The only consolation is that there is now very little room for further multiple compression. So the share price should average a 20% increase each year. Then one day the market may get excited about eBay again and present a good selling opportunity. Until then I will just console myself with the fact that eBay shares have out-performed the market this year.

Tuesday, April 15, 2008

UK banks are poisonous

I am currently reading through Warren Buffet's letters to his shareholders. There are about 30 of them (from 1977 to 2007) and they are fascinating. One of his most famous nuggets of wisdom is his advice that investors should be "greedy when the market is fearful and fearful when the market is greedy."

The market for UK banks is full of fear at the moment. Morgan Stanley released a note today stating that "international investors should stay away from UK banks." It also issued revised price targets for all the major banks. HBOS for example was cut from 715p to 535p.

Bearing in mind that the current price of HBOS is 515p the advice to stay away from UK banks seems a bit strange. Every profitable business has a price and HBOS is currently trading below the heavily revised price target. Shouldn't that make it worth buying?

It is a bit late for Morgan Stanley to advise its clients to stay away from UK banks when their share prices have already halved. It is very easy to write bearish notes about banks in this climate but are there any brokers brave enough to advise the purchase of them?

I think we know the answer to that.

Morgan Stanley also give EPS estimates for the banks. It thinks HBOS will earn 86p per share in 2009. That puts it on a 2009 PE of 6. Pretty cheap by most standards.

Finally, MS also think that we are halfway through the bear market. If we are already halfway through the bear market then I would say now is a great time to start accumulating some beaten down banks.

MS is advising its clients to sell now that the market is fearful - the opposite of Warren Buffet's advice.

Time will tell if I am right to buy UK banks here. But I know whose advice I would rather follow.

Sunday, April 13, 2008

Stocks for income

I love receiving dividends. They give the shareholder a tangible return that the market's whims cannot take away. And they allow the investor to diversify his portfolio by re-investing the cash in a different company. And best of all they (nearly always) go up each year, normally at a rate greater than inflation.

So in theory you could spend the income from shares and still have more purchasing power the next year.

With this is mind I have managed to cut some monthly costs so that we can start building a high yield portfolio. This will be a fund of high yielding shares whose dividends we can spend.

It will take a few years before the income is anything like exciting but hopefully one day it will pay for a holiday each year.

Another challenge will be to buy companies that pay dividends on different months so that eventually some dividends are received every month. Companies like BP and British Land that pay dividends quarterly are very useful in this respect.

The first position in this portfolio? RBS of course. A yield of 10% and an earnings yield of 20%? I think the downside is factored in!

Another year, another portfolio. We now have four. Let's hope one of them can show a gain this year!

Saturday, April 05, 2008

Lessons learnt the hard way

Now that this blog is over 3 years old it can be amusing to look back at posts from several years ago and see how wrong I was!

Two years ago in early 2006 I thought eBay was cheap at $43. It had a forward PE then of about 40 which I thought made it a bargain. So I bought more. And watched the share price drop like a stone for the next few months. Two years later, even after a good couple of weeks for the share price, eBay is at $33. No dividends were paid in that time either. Hmmmm.

Where did I go wrong? Paying 40 times forward earnings made the purchase risky. Maybe I could have had a small eBay holding but to put 25% of my portfolio in a company that expensive was unwise.

Benjamin Graham in his famous book "The Intelligent Investor" talks about the concept of a margin of safety. This involves accepting that your analysis could be wrong and the future is unpredictable anyway so only buying securities at a price well below what you think they are worth. And lowering the risk further by diversifying.

The good news is that eBay the company has been doing quite well, even though the share price hasn't. In a year or two my shares could be showing a profit. You never know, in five years the shares could be showing a 10% annualised gain. But it has been a long wait.