PV Crystalox Solar – Your Free Net Net Stock Pick For February by Evan Bleker, Net Net Hunter
In this issue…
- Beating the Market During a Rough Year
- Can This Pig Farmer Teach You Value Investing?
- PV Crystalox Solar PLC – Your Free Net Net Stock Pick
- To Beat The Market You Have To Underperform
Beating the Market During a Rough Year
Michael Mauboussin: Here’s what active managers can do
The start of this year has been really exciting for value investors. At the time of writing this, the NASDAQ has dropped roughly -9% and had reached a low of -15% on February 11th.
Why is this so exciting?
Quite simply because, as markets fall, more great value opportunities surface. Remember, classic Ben Graham value investing is all about capitalizing on fear… and fear is what causes markets to drop. When something unsettling happens out in the world, such as the prospect of a Chinese hard landing after a long bull run, people begin to seek safety rather than a solid return and exit the stock market.
Long term investors know that the market will have ups and downs but that over the course of their lives smart investment decisions and a consistent strategy will yield great returns. Part of a smart consistent strategy is buying stocks when solid value is sold at dirt cheap prices. If you’re a small individual investor, that means buying Ben Graham’s classic net net stocks.
Studies have shown that value stocks hold up better, as a group, during bear markets. Net nets follow that trend very well, outperforming the general market just as they do during bull markets, but a bear market means you can find higher quality net nets.
My own returns over these last two months are consistent with what you would expect from a good net net stock portfolio. As of the time of writing this, February 24th 2016, my own YTD returns are -3.75% vs. the NASDAQ’s -9.3% drop and the Russell 2000’s -10.75% loss. Not bad for only two months into the year.
That performance is pale in comparison to the returns Wade, one of our rookie investors, has been able to achieve, though. After putting together his first high quality international net net stock portfolio, he’s currently up 2% for the year — not exactly winning the lottery but very solid relative performance.
Now that the early 2016 market drop is offering up even better net net bargains, it’s a good time to put together a great international net net stock portfolio. Click Here for more information on Net Net Hunter Membership.
Net Net Hunter
Can This Pig Farmer Teach You Value Investing? by Evan Bleker — Net Net Hunter
A pig farmer isn’t the first place value investors look to improve their craft, but the returns this one achieved with such a simple strategy will amaze you.
In Fortune Magazine back in 1978, John Train wrote the legendary story of a man known only as “Mr. Womack,” a rice farmer and hog raiser who never had a market loss in 40 years of investing. His sound judgment and rational decision making became a bible for those interested in value investing.
The story begins with Train relating his personal experience in the market. No matter what direction he chose, he ended up with a net loss at the end of the year. Perhaps recognizing his desperation, a broker at Merrill Lynch told Train about Mr. Womack’s success. The intrigued investor found Mr. Womack, introduced himself, and spoke to the man about farming, duck hunting and, gradually, the stock market. Train learned three important lessons during his conversation with this fish out of water making a killing on Wall Street.
Be a Contrarian
Mr. Womack, surprisingly, was more than happy to talk about his portfolio. He’d written his stocks on a sheet of paper, in pencil, and showed an average long-term capital gain of over 50%. Sure, there were individual losers, but some of the winners gained as much as 500%.
During a bear market, Mr. Womack would read papers filled with doomsday prophecies. The market would reach a new low and experts consistently predicted that further drops were on the horizon. The average, scared retail investor would sell quickly, sit in cash, and wait for brighter days. Like those who are currently getting free net net stock picks, Mr. Womack was a classic value investor. He would look through his stock guide and select around 30 stocks that had fallen to less than $10 that also paid dividends. These were cheap stocks that had names no one on the street would recognize. There would be pecan growers, home furnishings, and many others that weren’t glamorous investments. He would sit on this basket of stocks for three or four years and wait for the prophets and the papers to discuss new highs. Then, he would come into town and sell everything. It couldn’t be more simple.
When you’re investing, the most important attribute you can have is removing emotion from the equation. Most investors see a bull market, positive outlooks, and a bright future as buying signs. They see others making a killing and want their own piece of the pie. The problem is that once the news is good, you’re too late.
“The main difference is that pigs didn’t pay dividends like many value stocks do.”
At the same time, fear and uncertainly leads to mass selloffs. It’s natural for retail investors to get scared of loss and move into cash. We saw this happen to a lot of small investors in 2008. The problem here is that once the market is falling, you are, again, already too late.
Remember, the basic tenant of making a profit in any venture, especially value investing, is to buy low and sell high. The problem is that you can’t pick up bargains unless people are selling on mass, and prices don’t rise without a lot of positive sentiment. When people are buying, it’s time to sell. When people are selling, it’s time to buy.
There are always opportunities to invest in stocks when they’ve been beaten down — even in frothy markets. While Mr. Womack based his buy decisions contrary to market sentiment, in any given market positive and negative sentiment exists towards specific stocks. Among the most hated are classic Ben Graham net net stocks. These firms are so unloved that most investors have given them up for dead, irrationally pricing them well below liquidation value. Buying stocks as unloved as net nets has proven to be a fantastically profitable strategy since the 1930s, earning cumulative average annual returns near 30%.
Mr. Womack compared this to buying hogs. The lower the price, the higher the potential profit when a seller’s market would come along. The main difference is that pigs didn’t pay dividends like many value stocks do. Pigs have to be fed.
Buy a Diversified Group of Solid, Undervalued Stocks
Mr. Womack never put all his eggs in one basket and always looked for stocks that were in their bottom price range. He didn’t worry about finding the exact lowest point to buy or the exact highest point to sell. Doing so will forgive a multitude of misjudgments later and doesn’t require hours and hours of analysis. When the market is rising, you can sell too soon and not make as much as you could of at the highest point, but you’ll still make a profit. You could also sell on the way down, and still make a profit. By buying near the lowest point, a value investor like Mr. Womack has little to worry about.
Of course, you should still look for solid stocks, those that are victims of a down market in general or, like most net nets, that have been hit by major business problems, but aren’t at risk of disappearing. You won’t be right all the time, but you’ll be right most of the time. By choosing a diverse mix, the positive stock choices you make will outweigh the negatives.
Train related this in his conversations with Mr. Womack. Of the 30 stocks the pig farmer would buy when he came to town, there were always a few losers. Yet, he consistently won with the majority of his stocks, and the fluctuation in price was always better on the upside.
Ignore Market Noise
Now, more than ever, every expert is telling you a different philosophy. Technical investors stare at charts that forecast disaster and shout out selling and buying signals, talking heads on CNBC are always predicting the next quarter’s earnings, and commodity nuts are preaching the death of the global economy. Mr. Womack never listened to these so-called experts, instead making his investments as simple and straightforward as he could. He sought out cheap stocks that were offered by solid companies and never looked at a technical chart in his entire life — pure value investing.
Mr. Womack compared investing to farming rice. Like farming, there is a planting season and a harvesting season. Instead of paying attention to alphas and betas, earnings projections, or the M2 money supply, he simply, strictly observed the seasons. When the market was at a low point, he would plant his seeds and wait for a high point. When the market reached a high point, he harvested his crop.
Just as in farming, there’s a time to harvest when value investing.
Many investors get caught up on the latest, “hottest” stock. They buy too quickly and sell even more quickly when things go sour. The best thing you can do when you’re investing is to stop listening to the noise of the market and stick to a solid investment strategy with a great verifiable long term track record.
The great Benjamin Graham, in his book, The Intelligent Investor, taught a generation of speculators how to select stocks as an investment. His lessons made literally billions of dollars for the likes of Warren Buffett, William Ruane, Walter Schloss, Tweedy Browne, and generations of younger practitioners.
Mr. Womack, though, was able to achieve similar results with basic, rational common sense. Moving against an emotional market, buying diversified, solid value stocks, and ignoring the chatter of loud, self-interested experts will take you far in value investing. Remain patient, wait for a solid beaten down stock, and start planting some seeds.
PV Crystalox Solar PLC – Your Free Net Net Stock Pick
This month I’m bringing you another net net stock that’s sitting in my portfolio as we speak. In fact, I’ve owned it for a few months now and it’s the cheapest net net stock relative to net current asset value that I’ve ever bought.
There’s a reason for that, though. Let’s get to it:
Name PV Crystalox
Market Cap 16.12M GBP
NCAV/Share 26.3p Yen
Price/Share 9.75p Yen
Current Ratio 3.3x
Debt to Equity 0%
Burn Rate YoY 4.7% incr
Burn Rate 1/2 Year 12.9% decr
PV Crystalox is engaged in the solar industry as a wafer manufacturer. In essence, silicon goes in one side of the plant and specialized silicon wafers roll out of the other.
Unfortunately, an international solar component dumping war has reduced industry profitability down to nothing and many firms are losing money. To make matters worse, PV Crystalox has also been locked into a disadvantageous purchase agreement and has been forced to buy raw material at above market rates. To survive, ironically, the company has been reselling the silicon at a loss on the open market.
This sounds like a fantastic opportunity to me. What’s better than buying a deeply discounted firm that’s suffering due to a perfect storm of business problems? Well, buying one that also has a strong balance sheet and a stable source of value would be better. Luckily, that’s exactly how I assessed the company when I selected it from our Net Net Hunter Shortlist in late 2015.
I actually bought PV Crystalox when it was trading at 8.55p, a massive 67.5% discount to NCAV. The stock has moved up a bit since then but there’s still time to make a large profit, even if the business doesn’t turn around. In my case, the stock would have to rise 207% from where I bought it before it reached NCAV. That could be achieved if the business turns around or industry conditions improve. Even a bit of good news could send its stock price climbing. At my buy price, any small bit of positive news could help me achieve a solid profit.
I have a full investment report on the company available to members in Net Net Hunter’s Investment Analysis section. If you’re a member, make sure to give it a read.
Important Disclaimers: Please remember that the stocks mentioned here are not recommendations for investment. I mention them purely as recommendations for your own further research after which you must decide for yourself whether the stock is worth investing in or not. All investments are subject to risk, including total loss of capital, and these stocks are no different. While I send these in good faith, any one of these stocks could lead to significant losses.
Graham’s net net stock strategy is a statistical investment strategy so investment success depends on putting together a diverse portfolio of good quality net net stocks. A net net stock investor always aims to have his portfolio work out well as a whole, while remaining indifferent as to the success or failure of any one stock.
Also, keep in mind that I have personally invested in many of the stocks that I mention here, so readers should assume – unless clearly stated otherwise – that I own shares in any company mentioned.
Purchasing shares and then recommending them to others to drive up the stock price is a common scam known as front running. I offer these stock picks in good faith and since 2013 I have yet to see the price of any stock recommended here advance meaningfully within two weeks after sending out our monthly stock pick. If you have doubts about my intentions, don’t purchase the stock.
Value Investing: To Beat the Market You Have to Underperform by Evan Bleker — Net Net Hunter
There are a lot of ways to lose money in stocks but only a few that essentially guarantee long-term investment profits.
Almost all of the market-beating strategies that I know of are rooted in value investing — I wish I realized that earlier. An investor can adopt any number of these strategies, as Benjamin Graham and his students have done since the 1930s, and while some are far more profitable than others, all will yield good results.
Lacking a Basic Value Investing Mental Model
When I first discovered value investing I began using a strategy called the Dogs of the Dow. The premise is simple. Since low PE stocks outperform the markets on average over a large number of years, investors can select members of the Dow Jones Industrial Average that have the lowest price-to-earnings rations and this group will out perform the market over the long run. Portfolio sizes can range from 1 stock to 10 stocks, depending on an investor’s ability to stomach volatility.
I was pretty set on using the value investing strategy and spent the next month and a half reading about it and selecting the companies I would invest in. In January I plunked, what was at the time, a large chunk of money down on 4 stocks then sat back and got ready to watch what would happen.
My holding period was one year. After a year I was supposed to sell the stocks in my portfolio and recycle the funds into 4 more candidates. As March came, not much had happened to my portfolio. The stocks pretty much stayed put at the level that I bought them at. When July rolled around my portfolio had inched downwards, while the Dow had inched upwards. By September the Dow had continued to advance while my portfolio was still underwater. I started losing hope throughout November and by the end of December I was convinced that the Dogs of the Dow was a dimwitted strategy.
Anybody who has read enough Benjamin Graham will know the mistake I was making. No matter what the claimed compound returns are of the value investing strategy you’re using, you have to remember that those stated figures are averages. It’s something that I should have realized before I even started the using the strategy but we all learn and grow over time.
Stick with Your Value Investing Strategy
It’s wrong to assume that a value investing strategy, no matter how promising it is, will provide uniform returns year after year. Even a great value investing strategy will underperform the market in a significant number of years and all strategies will have money-losing years. That’s just part of the course.
Unfortunately, a lot of investors have a short-term focus and don’t stick to a strategy when it begins to underperform. When a value investing strategy starts to lag, investors with a weak investment temperament or a misunderstanding of how markets work make the mistake of leaving the strategy in favour of something that is currently performing better. This tendency to chase returns can end up killing their portfolios. Investors who pile into a value investing strategy after one or two exceptional years have already missed those yearly returns and will likely just start filing out when the new strategy turns for the worse.
Sticking to a well-chosen value investing strategy, no matter how poorly it has done recently, is critical if you want to do well using any strategy. The longer you stick with your value investing strategy, and the closer your execution mirrors the strategy’s stated or implied execution, the more likely you are that your returns will approximate the value investing strategy you’ve chosen.
This is something that everyone who has read their Benjamin Graham should know.
Even Benjamin Graham’s Best Students Underperform
Just how much underperformance can you expect?
Well, if your value investing prowess an anything like Warren Buffett’s, Walter Schloss’s, Charlie Munger’s, John Templeton’s, John Neff’s, or Bill Ruane’s then you can expect to underperform quite a lot.
Legendary investment firm Tweedy Browne published a white paper years back titled, 10 Ways To Beat An Index. In it, they compared the yearly investment returns of the managers that Warren Buffett named in his epic lecture, Superinvestors of Graham-and-Doddsville. Tweedy showed readers how, even though these managers handily beat the market, each and every manager had periods where they underperformed the market.
These superstar managers underperformed the market one third of the time, on average. All but Buffett actually lost money. Tweedy Browne itself lost money in one year of the 16 years listed in Buffett’s famous piece, and the rest ended up losing money in two or more of the years recorded.
As good as these managers were, none of them could beat the market each and every year. Underperformance wasn’t just a one year blip, either. Actual underperformance ranged from just 1 year to a 6 year stretch! …yet all ended up beating the market by wide margins and all are considered among the best money managers who have ever lived.
Take super investor Bill Ruane, for example. Ruane ran one of the best known value investing partnerships on Wall Street throughout the 1970s. Despite Ruane’s great long-term track record, Sequoia underperformed the market from July 1970 to December 1973. While the market racked up a 9% compound annual return during that time, the Sequoia fund compounded its money at just 0.7%. Investors who got frustrated and exited the fund would have missed out on its market-crushing compound returns of 24.4% over the next ten years.
Investors who had put their money into Pacific Partners had their patience tested even more. Over a 6 year period from 1970 to 1975, the value investing partnership had a negative compound rate of -7.4%! Investors who had enough pain and pulled their money lost out on a staggering 37.9% compound return over the next 8 years! It’s amazing what a little patience will do for investors.
Benjamin Graham’s Best Investment Strategy Underperforms
Of course, investors have to know whether the manager or the strategy is actually worth anything before they can have the courage to stay the course. Sticking with a strategy that you know little to nothing about – not to mention getting into it in the first place – is foolish.
Like all value investing strategies, net net stock investing hasn’t beaten the market in every year and in some years it has even lost investors money. That’s fine by me. For the investors who are able to stay the course, the rewards from net net stocks are exceptional.
Benjamin Graham once quoted Spinoza saying that one must look at things in the context of eternity. I think that’s a very useful way to look at the success or failure of an investment strategy. Of course, in the context of eternity we’re all dead – but if we take a step back and look at investing as an activity that we’ll engage in for 20 to 30 years then periods of underperformance are put into context and become much easier to stomach.
The question that should be be burning in the back of your mind is that, if these outstanding value investors fell behind the market 1/3rd of the time then what hope do I have of beating the market? I actually think you have quite a bit of hope, but that needs to be qualified.
First, let’s take a closer look at how net net stocks have done over the years. To do this, we’ll look at Henry Oppenheimer’s classic study, Ben Graham’s Net Current Asset Values: A Performance Update. This study is fairly typical of the results found in other studies that have looked at NCAV stocks so will serve as a good yardstick.
Oppenheimer back-tested net net stocks from 1970 to 1982, a 13 year period that included some very turbulent economic times, and found that net net stocks returned on average 28.2% versus the Small Firm Index’s 19.6%. $10 000 invested in net net stocks from 1970 onward would have become $254 973 thirteen year later.
Despite the fantastic returns of net net stocks during that period, however, the value investing strategy actually underperformed the index in 4 of those 13 years. That’s nearly 31% of the time! What’s more, three of those years stacked up together making for a trying period for investors who demanded immediate gratification.
If Benjamin Graham Were Still With Us Today…
All of this should point investors into the correct course of action if they really want to beat the market and rack up big returns over the course of their investment career.
The first things investors have to do is consider how their chosen strategy has done over a very large number of years – as long as possible. 3 or 4 years is not enough time to understand how an investment strategy performs. 30 or 40 years is a better minimum cut-off if an investor wants to make the best possible investment decisions.
Once an investor has chosen an investment strategy, and has a good understanding of the results that can be expected as well as how often the strategy can be expected to underperform the market, he should stick to that strategy. The absolute worst thing you could do is abandon the strategy during periods of underperformance.
Finally, the investor really has to know, in detailed terms, what actions he has to take to execute the strategy optimally. That means – at bare minimum – drilling down into the strategy to see how those back tests have implemented it. If an investor is like me, and actually wants to beat the strategy itself, then the best course of action to take would be to either talk to people who have racked up the best record using the strategy or dig deeper into the strategy to determine which stocks within that strategy have done the best and which stocks have turned out badly and why.
Before an investor can rack up huge returns on his investments he has to have the fortitude to stick with the strategy despite its near term underperformance. This is the course of action that I’ve taken for my own portfolio and it’s one I advise you to take, as well.
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