Context Adds Value 02

Posted on February 25, 2014 by admin

An experiment conducted in 1985 asked people to imagine they were sitting on a beach, feeling a bit thirsty and a friend offered to fetch one for them. They were then asked how much they would allow their friend to pay if he was buying it from a fancy hotel, and how much if he was buying it at a “small, run-down grocery store.”

 

Beer tastes the same, wherever it is bought from. So, logically, you would expect them to be willing to pay the same, whether from a fancy hotel or from a little shop. In fact, the participants said they would be willing to pay $2.65 for a beer from the hotel, but only $1.50 from the shop.

 

The participant’s willingness to pay 75% more depending on where it is bought is caused by people’s expectation that a big hotel will charge a premium for drinks, but people would feel ripped off if they paid the same price at a small shop.

 

The paper contains a number of other examples of counter-intuitive examples of pricing. One topic that seems to crop up from time to time is how prices are set for events and concerts, this paper gives some insights. It’s interesting but quite heavy reading.

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Unintended Consequences of Government Interference in the Rice Market

Posted on February 10, 2014 by admin

(710 words)

How many people have to die before governments stop manipulating markets? The answer is they will never stop. There have been two major rice crises this century, one international the other national. Both caused many needless deaths, both were caused by governments.

The first crisis
In early 2008, the price of rice increased 300% from $300 per tonne to $1200. This rise was initiated by an increase in the price of oil. Many rice exporting countries, such as India, Vietnam and Brazil, reacted by banning all rice exports, hoping to keep down prices in their own countries. This drove the international price up, making rice unaffordable in many importing nations, causing riots.

On 19 May 2008, the price of rice began to fall even faster than it had risen. This was because the Japanese government announced it would release 250,000 tons of rice to the Philippines. This was part of a 2.6 million ton rice mountain held in warehouses, enough to supply the Philippines for two years.

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On Contrarian Stock Picking

Posted on February 6, 2014 by admin

To be a successful investor requires us to take a contrarian position. We are able to fool ourselves into thinking we are contrarian investors when in fact we are just following the herd. These are my notes from an essay by Matthew M Stichnoth “The Psychology of Picking Stocks” from The Psychology of Investing.

The essay begins with the old joke of the drunk searching for his car keys under a street lamp. A policeman joins the search and after a while asks the drunk “where did you actually lose your keys?”

The drunk replies “around the next corner at the end of the street.”

“Why are you looking for them here instead of where you lost them?”

“I’d never find them there, there’s not enough light.”

This is how most investors pick stocks, they only look at the ones in the media now, they don’t hunt for them in the dark corners where the true bargains are.

Contrarianism
This is a very old concept, based on the fact that the markets go to extremes and must self correct over time.

  • First, a small group of investors come up with a conclusion (cabbage patch dolls will sell well this Xmas) and they invest in relevant stocks which stand to benefit.
  • Then as their conclusion shows early signs of being correct (shops sell lots of dolls), the stocks begin to rise and more investors show interest.
  • But the second wave of investors will need their stock to go higher than the first group’s in order to justify their profit expectations.
  • Next, these new, higher expectations are met.
  • Then more people become investors based on even higher expectations.
  • In the end, there is a horde of investors with wildly hopeful expectations, while the pool of new buyers dwindles.
  • Finally, the sky high consensus is shown to be too much and the market crashes.

An investor who can stand back while expectations are peaking, and who can buy when consensus is at its lowest point, can make a fortune.

Contrarianism is the basis for all investing. The momentum trader is betting that the consensus view isn’t bullish enough. Value buyers are implicitly saying the market has mispriced his company. Even the buy and hold investor believes that nothing terminal will happen to his stock, regardless of what the consensus thinks.

Avoiding contrarianism
It is against human nature to act in a contrarian way, even though we know that we must do so in order to be successful traders. So we justify our conformist choices by deluding ourselves into feeling as if we are contrarians by using stock picking methods such as astrology, ‘socially responsible’ investing and technical analysis. None of these are particlularly harmful investment methods, but none of them are particularly successful, either.

Screening
The worst avoidance device is to use the computer to screen for ‘cheap’ stocks. The problem is that everybody else is already doing this and they are doing it in the same way, using the same screening parameters (multiple of book value, % revenue growth, % debt etc). And they are using the same data, which is disclosed to everyone at exactly the same time.

Using screening methods, everyone comes up with the same investment decisions. That is not conrtraian investment.

Painless contrarianism
Stichnoth gives three tips for stock picking which do not rely on screening but which give you a chance to find stocks with good potential.

Insider buying
Heavy buying by company insiders (especially by a CEO) are a good indication the market has overdone its pessimism. But you should watch out for companies that make stock-purchase loans to their executives, or ones that require their executives to own shares.

Spinoffs
These are unloved by their very nature. They are spun off from their parent company only because no buyer could be found. So the stock is distributed to the owner’s shareholders. Many of the shareholders don’t want the stock they’ve been issued and they sell it as soon as possible. As they all exit the stock at the same time, the price is depressed regardless of its value.

Busted IPOs
Some stocks sink soon after floating. This is sometimes because of a single bad quarterly report or management may be struggling to adjust to operating as a public company. These stocks can stay low for ages. Once these (often simple) problems are fixed, the company may be re-rated.

I would only add that you should be careful with that last tip. Often an IPO sinks for very good reasons and never recovers its original price.

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How to Identify Gentrifying Localities

Posted on February 5, 2014 by admin

(710 words)

One property buying strategy that has been successful for the past thirty years is to buy near the center of big towns. Even though it’s a well established trend, there are plenty of opportunities. But it is still important to be selective when you find what looks like a cheap inner city property.

The trend
This trend is sometimes referred to as gentrification. Land values rise because wealthier people move in. Because of the higher prices, the poorer people are forced to move to places where rents are cheaper. Gentrification is often considered a negative thing because the neighborhood loses some of its original character but also the poor may become homeless or lose social connections.

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The Logic of Derelict Houses

Posted on February 3, 2014 by admin

Why would you buy a house and then do nothing to it for twenty or thirty years? By nothing, I mean absolutely nothing. Nobody lives in it, no tenants, no repairs, not even clearing the mail. So much of nothing that the roof collapses and nature begins to reclaim it. Sounds crazy, right? Well it happens quite a lot.

An extreme example is in London, where a third of the houses in one of the most expensive streets have been derelict since the early 1990s. The owners are unknown because the properties are registered to companies residing in various tax havens which allow the beneficial owners to remain anonymous. But many are thought to be owned by Middle Eastern princes, Russian oligarchs and other billionaires.

These empty houses are a problem for the city. Ruins are scenic in the country, in the city they’re an eyesore. England is also suffering a housing shortage right now. London’s Lord Mayor, Boris Johnson, has tried to impose higher rates on vacant dwellings, but so far the Prime Minister has blocked him from doing so.

The situation is the same in most parts of the world. My sister had a vacant house next to hers in a leafy, exclusive suburb. The owners would visit about once a year to pick grapes, but the house was uninhabitable.

My grand parents once owned an old farm house that found itself surrounded by the growing city. It was so old and the facilities were so dated (outside toilet, no air conditioning, ancient taps and fittings) that eventually only the worst tenants were willing to live in it. It would have been too expensive to fix all the problems and modernize the old house. But the city continued to grow. Eventually squatters moved in.

But the value of the land was increasing by a much bigger amount than the rates and taxes they had to pay each year to the government and local council. Even though they received no income from the property, they were making a net capital gain. Sadly, they didn’t live to see that house get sold.

I keep my rent low because my tenants have been very good and I don’t want to lose them. But even when I was charging a market rate, my rental income (after expenses) was never more than about 2% of the value of the house. That percentage return may be higher in other countries that don’t have tax laws that are as favorable to land owners as they are in Australia. Anyhow, considering the amount of nuisance they cause and the wear and tear they inflict on the house, I have often thought it would be better to keep my investment property empty than to turn it over to tenants. The notion doesn’t appeal to me as I respect the rights of the neighbors to have an occupied building next door.

I guess a similar principle must be at work for the billionaires who own those London mansions. They are making far more money just by sitting on their assets. Paying for someone to maintain them is an unnecessary expense. Even more so if they can’t predict exactly what purpose the land will be used for when it is eventually put to an economic use.

They may not be willing to lift a finger to maintain their houses, but they will use their influence to ensure David Cameron allows them to preserve the benefits of their anti-social investment strategy.

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Weekly Roundup 002

Posted on February 2, 2014 by admin

Sometimes it’s better not to know too much about a person, the same is true about companies. This week has been very domesticated.

Shares

I started to think about the company that did the capital raising last week and I started digging around it. One of the reasons for the raising is to buy a 51% share of a gold mine so I was curious about who their 49% partner was going to be. It turns out there are two publicly listed companies owning the 49%, but they own controlling stakes of each other and have the same people on their boards of management. As for their characters, I’ll just say they don’t sound like the best partners to have.

Another concern is that one of the former directors of the company I have shares in happened to sell a large number of his own personal shares just a few days before the capital raising took place. So he sold his shares for 95c and a few days later could buy them back for 86c. How lucky is that? Lucky enough for it to grab the attention of a national and a local newspaper and now he’s being investigated by ASIC (Australia’s corporate watchdog). It wouldn’t be so bad, but this company has a history of the price ramping up before a positive announcement. That happens with quite a few mining companies, but with this one it’s been excruciatingly obvious. Some people never have enough money, no matter how much they have.

I’d like to sell my shares in that company, but I don’t know what to buy. All the large, dividend paying stocks are fully priced and I don’t know where the money is going to next. I have a feeling about infrastructure, but I haven’t studied that space for a while.

 

Property

My tenants missed a payment in December. I noticed it missing when I got my bank statement in early January. So I sms’d them a few times, no answer. Finally, two weeks ago, I called on them. They said they didn’t know about it and had only just come back from an overseas trip (they didn’t say why they hadn’t answered my sms messages). Anyhow, I wasn’t aggressive at all, just asked them to check their records and assured them it wasn’t a problem. They paid the money into my account on Thursday, I still haven’t heard directly from them to let me know. Tenants are odd creatures, I think.

 

The Garden

The heat wave has eased, but it hasn’t rained for months. It’s still mid Summer here, too soon to plant anything much.

Small compost tumblers are useless. I bought two of them six months ago and nothing I put in them has broken down. They’re too small to generate heat and there are holes in the top and bottom which allow all the moisture to drain out. I also think worms can’t survive if the bins are tumbled every day. So I emptied one out yesterday and put what was in it into the real compost heap. I might use those compost bins to store leaves when I have too many of them (I use the leaves for mulch).

 

Frugal

It’s tomato season now. Our tomato crop failed this year. So I took Mum to the green grocer and asked if they had any big quantities of tomatoes we could have cheap. We bought two boxes of tomatoes for $5 each. So far, Mum’s made 13 jars of pasata, quite a lot of stewed tomato (to go in the freezer), a fair number of tomatoes are drying and we’re planning to make kasundi tomorrow.

 

Writing

Comparing this month with last, the number of visitors has increased, including the number of first time visitors. Still, not enough for me to brag about. I haven’t done any promotional activities, so I’m thinking about what I should do next. I think I will repost my older articles on an aggregation site. By sharing my articles with other sites, it’s a form of advertising. Depending on the site, I don’t lose copyright and Google doesn’t penalize me for it.

The information I published this week was interesting to me. The one on seeds was my favorite. I’m using this site as something like a notebook for the books I’m writing, so some of the posts are just information from magazines and books. Because of that I’ve started putting an indicator on my posts to show if it’s just an aggregation. If I have time, I’ll go through and mark all my old articles that way too.

Next Week

It’s Chinese New Year, so I don’t expect much in the gold space. I’ll be looking at infrastructure stocks. I’m planning to do another article on the psychology of trading, but that will take a bit of extra work.

Good luck with your speculations!

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Embezzlement – the Dirty Secrets of Non-Profits

Posted on February 1, 2014 by admin

(aggregation)

 

Notes from an investigative article in the Washington Post.

Hundreds of millions of dollars worth of public donations and government grants are drained each year from US institutions by fraudsters working within the organizations. A culture of silence allows many of the scammers to escape without penalty. The institutions are usually too embarrassed to bring charges because the publicity will expose their poor administration of the funds entrusted to them. The information was only uncovered by the journalists delving into mandatory disclosure reports that the non-profit organizations are required to file.

 

Findings included:

Failing to act

One youth charity reported a misappropriation of $2 million by a former employee. The charity did not act for over two years, until the Post raised the issue with them. The employee has since been charged and sentenced to four years jail.

Poor understanding of financial terminology

An education charity which lost $7 million to Bernie Madoff’s Ponzi scheme described it as a “paper loss”. Perhaps they used that term to make it sound less tangible, but it is an actual loss, not just on paper.

Poor book keeping

A legal aid bureau disclosed a loss of $1.1 million. After a couple of years, they have now come to think the amount of the loss was closer to $2.5 million.

A university administrator paid himself $390,000 in “unapproved compensation” over four years from an account the university did not even know existed.

Long running frauds

A Holocaust survivors charity reported losing $42 million over the course of a decade. The estimate of this loss has since been scaled up to $60 million.

Executive incompetence

A tobacco victims’ fund, responsible for managing over $1 billion failed to notice a long term multimillion dollar purchasing scam until months after the perpetrator quit his job. When it was discovered by a junior employee, an executive refused to investigate it on two occasions. The fraud would not have been uncovered if the junior officer had not persevered and raised the issue with a second executive.

 

The scale of the problem

The article gives many more examples like these. However, the hundreds of millions of lost dollars declared are probably a small percentage of the total. The fraud disclosure question has only appeared on the forms for the past three years, and it is only asked of the largest public non-profit groups. Private funds and smaller groups do not have to report this information.

There are more than 1.6 million registered non-profit organizations in the US, controlling over $4.5 trillion in assets. There are an additional 700,000 churches and small groups which do not have to register.

 

Conclusion

Even the biggest non-profits are plagued by incompetence, mismanagement and fraud. The scale of the fraud problem is not known but is likely to be huge.

Do not trust an organization that does not open its books to public scrutiny. Only donate to charities that can demonstrate clearly to you how they will use your funds.

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Athletes are the Worst Investors

Posted on January 30, 2014 by admin

(730 words)

One of the few ways available for the poor to improve their financial situation is through sports. Team sports are especially accessible to the poor because of their low cost of entry and the organizers’ need to recruit and develop talent, purely on merit. The most successful athletes can earn hundreds of thousands, even tens of millions of dollars per year. But keeping the money they make is a different skill. Many professional athletes finish their careers with little to show for it than permanent injuries.

Some of the factors working against them keeping their money include:

  • Payments in the form of big checks. These make for spectacular media coverage but are difficult to manage, especially for someone not used to handling big sums. An athlete who is given a $10 million should spend no more than $120,000 in the first year, to preserve the capital, but many spend that much on a car.
  • Feelings of invincibility. As if success on the field translates automatically to success in business and finance.
  • Short career spans. Often made unexpectedly shorter by injury.
  • Divorce often coming at the end of career. Even in our liberated times, half the money still usually goes to the spouse, who can remarry or continue their career, but the athlete has no chance to earn that sort of money again.
  • Lost relatives and forgotten friends reappear and demand jobs or charity.
  • Close friends or family who want to play financial adviser.
  • Exploitation from financial sharks, who seem to be able to dazzle athletes out of their money.
  • Wanting to live the lifestyle of the rich and famous.

In an article for Sports Illustrated, Pablo S. Torre investigated the problem. He identified most of the issues in a rather lengthy article which is well worth reading for the many crazy stories. I have drawn extensively from his article for the rest of this post.

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A History of Debt: David Graeber’s Four Ages

Posted on January 29, 2014 by admin

(1450 words)

Standing back from a big, highly detailed painting usually allows us to understand it better. Trying to understand the current monetary system, it’s been interesting to read and listen to the anthropologist and anarchist David Graeber talk about his insights from studying the history of debt.

I would encourage you to buy Graeber’s book, Debt: the First 5,000 Years, if the subject interests you. However there are PDF copies available for free download from any number of anarchist websites if you don’t have the budget for it.

Some of Graeber’s conclusions are surprising and contradict many of the notions about economics history we come out of school believing. His main arguments are generally compelling and I have not yet found a sound rebuttal.

 

Barter

One example concerns barter. We are lead to believe that before the invention of money (in the form of coins) if you wanted a chicken you would bring a cow to a market and swap the cow with someone who happened to have chickens. Such a system is obviously unworkable and I am surprised that I accepted this notion when I learnt it from my economics teacher. What happens if the trader with the chicken didn’t need a cow? How do you decide how many chickens equal a cow? What if you only want half a cow’s worth of chickens?

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Putting a Face to an Issue Improves Donations.

Posted on January 28, 2014 by admin

Researchers have long established two facts about the size of donations. First, the amount people are willing to give does not depend on the size of the problem, secondly they will give more to save a single, identifiable, victim than they are to save hundreds or thousands of faceless people.

 

The first study asked three groups of people how much they would be willing to donate to rescue birds affected by an oil spill. The first group was told there were 2,000 birds, the second were lead to believe there were 20,000 and the third were told 200,000 birds in danger of an oil spill. The researchers assumed people would give more to rescue a bigger number. In fact, the donations were pretty much the same for each group.

 

The second study found people were willing to donate very large amounts to help ‘Baby Jessica’, the little girl in the photograph with the big eyes and the sad expression. But if they were told the charity was raising money to save eleven million people in Ethiopia from starving, the donations were much smaller.

 

I don’t think these findings are particularly surprising. In the first case, people probably have a fixed amount in their minds (and budgets) about how much they can reasonably give to any cause. They know they can’t fund the entire effort, so they give as much as they think they are able to. In the second case, the more you know about a victim and their circumstances, the more sympathetic you are likely to feel. When big numbers are involved, it feels as if any single donation will be insignificant compared with the amount needed.

 

A case which seems to contradict these studies is the Indian Ocean Tsunami where thousands of faceless victims evoked a flood of donations. However, I think the quick relay of video footage made a difference in people’s reactions to an event that would otherwise have occupied half a column on the fourth page of US newspapers.

 

A great many charities for overseas relief offer donors the chance to “buy a goat” or some other animal for a sad looking child, its parents or its village. These donations are often sold as gift ideas for wealthy donors at Xmas time. This adds the appeal of not only a child victim but also an animal which donors can relate to. In fact, giving a village a cow might not be in the best interests of either the village or the cow. (The fact I have linked to a charity’s website should not be considered an endorsement of that charity.)

 

So this is why charities, big and small, use case studies in their promotional materials. As a donor, it is necessary to look behind the emotional appeal and see where the money is really going.

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