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VALE: Cheap but not cheap enough yet

posted on November 16, 2015 at 1:27 pm

As of November 16, 2015, I’m keeping Vale (VALE) in my long-term 50 Picks portfolio. If you hold the shares of this Brazilian iron ore producer, I’d continue to hold. If you were thinking of buying because the shares look so cheap at $3.93 today, I’d say “Not yet.” I’d look to buy the New York traded ADRs (American Depositary Receipts) at $3.30 or so—about 15% below the 52-week low. (Vale was a member of my 12-18 month Jubak’s Picks portfolio until October 13, 2014. I sold it on that date at $11.47.)

Two reasons to buy (or hold onto) Vale at these prices. First, the iron ore cycle will turn someday as growth in the global economy picks up and as demand/supply come back into balance. Second, Vale is expanding production at its Carajas mine, a project with one of the richest iron ore bodies in the world. Because the iron ore at Carajas is so rich it sells for a premium on world markets and it helps make Vale the low cost iron ore producer in the world. Add in cost reductions, the efficiency of the new truckless operations at Carajas, and China’s recent willingness to accept the extremely big ore carriers that Vale increasingly uses, and Vale has been able to reduce its cost by 15% in the most recent quarter to $34 a metric ton delivered in China. When the market for iron ore does finally turn Vale will be one of the big winners.

But the reasons to hold off on buying are more numerous.

First, the momentum in Brazil’s financial market is still thoroughly lower. ETF iShares MSCI Brazil Capped (EWZ) was down 35.07% year to date for 2015 as of November 13. Vale itself is down 33.6% year to date. Brazilian service and consumer sector leaders Kroton Educacional (KROT3.BZ in Sao Paulo) and Natural Cosmeticos (NATU3.BZ), respectively, are down 56.15% and 42.86% for the year. In the currency market the Brazilian real is the world’s worst performing currency, down 31% in 2015 to date. The country’s debt has been downgraded 4 times since 2014 by Standard & Poor’s, most recently to junk in September.

Second, the country’s economy is a mess. The economy is in recession and the Banco Central Do Brasil projects that GDP will fall by 2.7% in 2015 and by 2.2% for the four quarters ending with the second quarter of 2012. The bank projects inflation of 9.5% for 2015, way above the central bank’s inflation target of 4.5% give or take two percentage points. That forecast is built on the assumption that the Selic benchmark interest rate will be 14.25% during the period.

Third, the country’s politics are so convoluted with President Dilma Rousseff facing six (at last count) impeachment resolutions, that it is unlikely that the Brazilian legislature will tackle the country’s big problems (budget deficit, corruption, a bloated state sector, etc.) anytime soon.

And fourth, although iron ore prices will turn someday, they are still falling and it looks like supply won’t come into balance with demand until 2017 or 2018.

On balance this earns Vale a place in this long-term portfolio on the company’s potential. And a current rating of HOLD CHEAP BUT NOT CHEAP ENOUGH as of November 16, 2015. I’d put Vale in my cyclical commodity, and developing economy silos for its long-term trends.

Why this emerging market crisis might be different–less like a heart attack and more like heart disease

posted on September 21, 2015 at 8:55 pm
world bomb

The current meltdown in emerging financial markets and in emerging market economies isn’t like the 1997 Asian financial crisis that smashed economies and stock markets from Indonesia to Thailand to China to Korea, according to Australia’s Macquarie Group, a global investment bank that’s a big commodity and infrastructure investor in developing economies.

Whew! No one wants to relive that period. In that crisis the Thai baht lost 50% of its value and

Thai stocks fell by 75%. Indonesia lost 14% of its GDP.

Unfortunately, according to Macquarie, the fact that the current crisis won’t duplicate the character of the 1997 crisis is the end of the good news. If 1997 was a sharp heart attack, Macquarie notes, today’s crisis is chronic heart disease with a limited chance at a cure and with an extended period of disease punctuated by significant and recurring flare-ups that end short of an actual heart attack. There is, again according to Macquarie, a chance, however, that an escalation of the crisis in one country could turn into a freeze for the entire emerging markets sector.

Some good news, eh?

The problem this time isn’t a lack of reserves to back currencies, as it was in 1997, or unsupported trade deficits. All the Asian countries involved in the 1997 crisis—and other emerging markets such as Brazil—have far larger foreign exchange reserves than they had in 1997.

This time the problems include long-term structural deflation and depressed commodity prices, over-leverage in the private debt market by consumers and companies, massive overcapacity in sector after sector, and a surging dollar. For the countries most burdened by a combination of external debt, current account deficits, structural inefficiencies in markets and financial markets, and exposure to global deflation, the recovery is likely to be much, much slower than from the 1997 crisis. Emerging markets don’t have the option of using leverage to goose growth by consumers. Consumers in the global economy in general and in developing economies in particular are already leveraged and the world’s central banks have already flooded financial markets with cash. That flood of cash, in fact, is one cause of the current crisis and of global deflation.

Macquarie has put together a list of countries least and most affected by this chronic disease—so far. Among the least affected so far, according to Macquarie, are the Philippines, China, Russia, Korea, Taiwan, and Brazil. That list is subject to revision, Macquarie points out with Russia and Brazil, for example, extremely vulnerable to continued low commodity prices. Countries facing the biggest negative impact include India, Indonesia, Mexico, Poland, South Africa, Turkey, and Malaysia.

Now you might differ with Macquarie’s country calls. For my part I think the analysis underplays the political strengths of Mexico and the political chaos of Brazil and Russia (and potentially Turkey.)

But I think the overall point deserves serious thought. We’re used to emerging market crises that are deep but short and that are followed by relatively rapid returns to economic growth rates that far exceed those in the developed world.

I think the case for arguing that the current crisis is different is convincing. I think there is a very good chance that we’re looking at an extended period of under-performance—by historical standards—of developing economies and emerging markets.

How extended might that period be? That’s the wild card here. Nobody knows and any forecast is made doubly difficult by China’s need to radically transform its economy if the country is to escape the classic middle income trap that yawns ahead of developing economies that have climbed out of the ranks of the poor—on a per capita basis—but that haven’t yet joined the ranks of the much wealthier developed economies of the world.

China’s GDP may now be larger than that of the United States (on a purchasing power parity calculation) but China’s per capita GDP was just $7,594 in 2014 while that of the United States was $54,630. Narrowing that gap is going to take serious structure change in the Chinese economy that is likely to be extended and disruptive, if it is possible at all.

This time, this emerging markets crisis, looks like it could indeed be different

And I’m going to use this perspective to begin my revision of my long-term Jubak Picks 50 portfolio tomorrow.

Wash, dry, repeat: Middleby repeats its way to a 37 cent a share earnings beat

posted on February 26, 2014 at 3:06 pm

If more companies were reporting sales and earnings growth like Middleby (MIDD) reported on February 25, the Standard & Poor’s 500 wouldn’t be having such trouble moving above its all time highs.

For the fourth quarter, Middleby reported earnings of $2.62 a share, 37 cents a share above the Wall Street consensus and a 29.1% increase from earnings in the fourth quarter of 2012. Revenue climbed 29.4% year over year to $377.4 million versus the $364.9 million consensus among analysts.

As of 2 p.m. New York time on February 25 Middleby shares were up $36.07 to $299.78 for a 13.7% gain. Middleby is a member of my long-term Jubak Picks 50 portfolio http://jubakpicks.com/jubak-picks-50/  )

Now I know that this pick is up 107% since I added it to this portfolio on May 3, 2013, but I don’t see any reason to sell here. The reason that Middleby is a long-term pick is that the company has a very simple growth strategy that it can repeat over and over again until the world stops opening and remodeling restaurants. And I don’t see that happening any time soon. Middleby noted in a 2012 investment conference presentation that it has products in one-third of all restaurants. That’s impressive—but it also means that Middleby doesn’t have products in two-thirds of the market.

Simple in Middleby’s case doesn’t mean easy to execute. Read more

Strategies for long-term investing in a short-term market

posted on November 20, 2013 at 2:40 pm

Are there any long-term investors left in the current market?

And, more importantly, should there be?

I think the answer to both questions is “Yes.” Long-term investing has a place even in this macro driven, let’s-all-follow-the-central-banks market. There are big, readily identifiable long-term trends to back with your money.

But…and I think this is crucial…long-term investing not only isn’t easy right now when all the profits seem to be going to the momentum players, but also making money from this strategy requires some rethinking of how to play the long-term game.

I put together some thoughts on this topic for a workshop I gave on November 15 at the American Association of Individual Investors conference in Orlando. This post is a version of that presentation.

It’s pretty easy to spell out why this market is so difficult for long-term investors. We seem to be in a period of repeated booms and busts beginning in 1999 with the Dot com/technology boom and bear and concluding (maybe but I don’t think so) with the Lehman/global financial boom and bust. The current market is one dominated by macro forces, and particularly by cheap money from global central banks. To take just one example, the Federal Reserve’s balance sheet had ballooned to $3.84 trillion as of mid October. That’s up from “just” $488 billion in January 2011. As all that money sloshes around the world in search of opportunities and hot markets, it produces extraordinary short-term volatility. My favorite example of that is August 2011 when from July 6 to August 10 the Standard & Poor’s 500 dropped 16.3%; only to climb 7.4% from August 10 to August 15; before falling 7.1% from August 15 to August 19; before climbing 7.9% from August 19 to August 30. Quite a ride for a year when the total net S&P 500 return for the year came to only 2.1%.

I could advise, as some dedicated long-term investors do, patience—if I thought this kind of market was only going to last for a few more months.

But it’s not. This market is likely to be with us for quite a while.

Why? Let me give you some of my reasons.

We’re witnessing the end of the 30-year bull market in bonds as interest rate drop from the double-digit 1980s. That drop in interest rates has to stop—unless we go to some form of electronic money that lets us set negative interest rates–at 0%. From here on out, stocks don’t have the fuel of falling rates that makes them look ever better versus bonds and that helps increase company profits by lowering corporate interest payments.

We can’t expect the world’s central banks to withdraw the cash they’ve pumped into the global economy any time soon. As I wrote in my November 4 post http://jubakpicks.com/2013/11/04/look-everybody-the-federal-reserve-has-no-end-game-for-getting-its-balance-sheet-back-to-normal/  the Federal Reserve has no end game. It will take the Fed more than a decade to reduce Fed balance sheet to “normal.” Same goes for the Bank of Japan. And, if the global and/or regional economy breaks the wrong way, for the People’s Bank of China and the European Central Bank.

And, finally, I think a number of the trends that pushed up global growth rates are now breaking in the other direction. An aging world grows more slowly. We’re seeing the end of cheap rural labor in China. We’re seeing the beginning of an age of competition for global capital.

With those long-term trends in place, I just don’t think “Be patient” cuts it.

But, fortunately, not all of the long-term trends are negative.

For example, globalization really is raising incomes in developing economies to create new classes of consumers. An aging world may grow more slowly in the aggregate, but aging does create big new markets. Food demand really is growing both in “volume” and for more “up-market” products.

And then there are lots of more “local” long-term opportunities. Just in energy, for example, there are long-term trends pushing toward technologies such as turbo chargers and carbon fiber that raise automobile mileage, toward big profitable investments in moving new sources of energy (U.S. natural gas) to new markets, and toward breakthroughs in battery technology that will “revolutionize” already revolutionary technologies in fields from electric cars to wind and solar power generation.

So what kinds of long-term investing strategy will work best in a short-term world? (Other than getting adopted by Warren Buffett or having your 12-year old daughter write the next “Angry Birds.”)

My suggestion? To create a limited number of narrow long-term opportunity silos holding limited numbers of stocks.

What’s that mean? And why am I suggesting this strategy? Read more

Cummins (CMI)

posted on May 29, 2013 at 7:31 pm

When on April 30 Cummins (CMI) announced that the first quarter would mark the low point in revenue for 2013, markets ignored the news and instead focused on the company’s big first quarter earnings miss. (You have to admit missing by 37 cents a share and reporting a 12.3% year over year drop in revenue does draw attention.)

But a month later, the company is standing by the comment and has added some detail. Truck sales in China, which were down 12% year over year in the first quarter have improved enough so that through April year to date sales are down just 2% year over year. In the United States orders look stable and in Brazil sales are trending slightly better than expectations.

I think all this is a tribute to management that continues to invest in technology—which then enables Cummins to gain market share on competitors. Read more

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