Circle Of Competence Issue #20

July 15, 2018

Second quarter fund letters are starting to come out and Q2 earnings season is kicking off! There will be some wonderful commentary on various sectors and trends in the markets for those interested. They will be at the bottom of the newsletter in 'Dept. of Letters'. Enjoy!

 

What are you reading this week? Drop me a line or tweet @competence_co. Also, if you enjoy Circle Of Competence, please share it with friends, family, and co-workers. Have a great week!

 

 

DEPARTMENT OF GENERAL FINANCE

 

Immeasurably Important

This is a classic discussion of quantitative vs. qualitative data and how collecting a lot of quantitative data but missing key qualitative points can give the wrong picture of reality. The masters of investing all have solid grasps on the quantitative aspects of business. But the real greats separate themselves from the rest by understanding the qualitative drivers of a business that drive long term returns. As Buffett has said, the sure money is in quantitative investing, but the big money is in understanding qualitative traits of businesses. 

 

Charlie Munger On Mistakes

Although this article was written 6 years ago, all of the general principles given by Tren Griffin hold up because they are timeless wisdom from Uncle Charlie (Munger). I did think that it was a bit ironic that Tren wrote how strong ESPN’s moat was at the time. How times have changed! This is a great example of how technology can change so swiftly in less than a decade... which is the exact reason Buffett and Munger do not like to invest heavily in the sector because they are looking 10, 20+ years out. It took little more than half a decade for ESPN to be reduced from a powerhouse to its current form.

 

Why $1 Trillion Mountain Of Private Equity Cash Matters

I like to track big investors like Warren Buffett and other Capital allocators such as the total capital sitting on the sidelines in private equity because these are solid proxies for market valuations. When valuations are attractive, the dry powder tends to shrink and money gets put to work, but when they are frothy, the opposite occurs. The record amount of cash sitting out the current market environment is sending a fairly clear signal of very low opportunity costs. 

 

The Inflation Recognition Moment

Economists and investors alike watch inflation, labor markets, and wage growth like a hawk because they have immediate effects on consumer’s pockets as well as companies’ bottom lines. 

 

Case Study - Al Ueltschi

Pay walled content from Ian Cassel at Intelligent Fanatics, but a wonderful little introduction to Al Ueltschi and Flight Safety’s business nonetheless. It was acquired by Berkshire Hathaway in 1996. Here was my favorite quote that speaks volumes about how much Buffett cares about the management he invests alongside:

 

“The first question I always ask myself about somebody in his position is: Do they love the money or do they love the business? But with Al, the money is totally secondary. He loves the business and that’s what I need, because the day after I buy a company, if they love the money, they’re gone. If they love the business, they are there to run the company, just like before.”

 

The Rise And Fall And Rise Of Ben Graham

Great article on Benjamin Graham (the FATHER of value investing and security analysis) and how he learned the most salient lessons about leverage and business valuation from hard knocks in the markets.

 

West Texas Sands Now Worth Billions

Since shale fracking has become popular in the Permian basin, it has become cheap to ship sand from Texas to the fracking sites to fill them, and all of a sudden the “gold rush” of Texas sand has begun. Interesting how even dirt can be valuable to the right buyers at the right time. 

 

Investing In Health Care: Threats And Opportunities Ahead

Excellent article on the US healthcare sector and how inefficient it is in terms of cost and quality of care. Also outlines some principles to identify what healthcare companies will outperform on a fundamental basis.

 

Private Equity Makes Leasing Planes A Hot Commodity

Private money will always search for higher yields, and this is a fascinating example of how private equity shops are financing commercial and private planes for airlines in exchange for long term leases. 

 

Don't Fear The Inversion - It's The Short Rate That Kills You

Stephen Williamson from New Monetarist Economics blog makes that case that the yield curve flattening isn't evidence by itself to cause worry for a recession just yet.

 

 

DEPARTMENT OF TECHNOLOGY AND STARTUPS

 

The Airbnb Challenger You've Never Heard Of

Booking Holdings is a company I’ve followed for a couple of years now, and I would love to own it, but the valuation seems a bit pricey and therefore I have never pulled the trigger. This is a fascinating article on how it is competing with Airbnb, the more well known platform in the US (Booking was founded in Europe) that is private but slated to go public in the next couple years. Known as online travel agencies, the peer group includes Expedia, VRBO, Airbnb, and Booking (the largest). It will be interesting to see how markets and valuations of these companies evolve as Airbnb goes public and as they compete for business in the US. 

 

MoviePass Is Leading A Revolution In Movie Ticket Prices

I’ve written about MoviePass’s awesome value for customers but terrible economics before. What is interesting is that is was so successful with consumers that now big theater companies are adding subscription services to see how consumers respond. Ticket prices haven’t changed when adjusted for inflation in over 40 years! Until now.

 

Google's Parent Births New Businesses: Balloons And Drones

Another couple of innovative spin outs from Google’s X unit have become their own business units - Loon (delivery of internet via giant balloons) and Wing (delivery of packages via drones). 

 

 

DEPARTMENT OF PODCASTS

 

The Investors Podcast - The Power Of Broke

Great episode where Preston and Stig discuss Daymond John's (Shark Tank Investor and FUBU creator) book, "The Power Of Broke." Wonderful episode for anyone considering starting their own business and going out on their own. 

 

The Tim Ferriss Show - Reid Hoffman, Brian Chesky On Scaling to 100M Users

Excellent episode of the Tim Ferris Show where Reid Hoffman and Brian Chesky (Airbnb) talk about doing things that DON'T scale (getting to know your customers, providing amazing customer experiences, and more) in order TO scale. Fantastic episode for those interested in startups. 

 

Patrick O'Shaughnessy's Invest Like The Best - The Future Of Media

Great episode with Niel Robertson on what the future of media and content is shaping up to be. For those interested in new media, I highly recommend this one!

 

 

DEPARTMENT OF LETTERS

 

Looking For Value In All The Wrong Places - Letter From Jesse Felder

This is a sincere warning from Jesse Felder about chasing returns in popular stocks and investing trends just because other people are making money. True value investing preaches margin of safety and defense first, while letting the offense take care of itself. Intelligent investing protects your capital (margin of safety) and offers the potential for capital gain. Speculating risks substantial loss of capital for potential capital gain. Felder is preaching that many value investors are falling prey to the trends and are being lured into potential sub par returns. 

 

The Italian Job - Absolute Return Partners Letter

Very detailed analysis of Italy’s current economic conditions and how precarious they are. High debt to GDP ratio, no population growth, no productivity growth, a growing refugee crisis, and what is shaping up to be a sightly radical government. These structural headwinds do not lend themselves to a rosy outlook. These metrics point to several potential conflicts either between Italy and the EU or it’s citizens or it’s government officials should they fail to steer the country well through the coming decade. Will be an interesting situation to follow. I enjoy the analysis and data shown in the letter, but don’t buy in to all of the conclusions because when you have macroeconomic situations as complex as Italy’s, it is extremely difficult to pin down exactly what can or what could or what will happen. But it is worth following how the situation unfolds. 

 

Don't Stub This Butt! - River Valley Asset Management Letter

In depth discussion on the tobacco industry by River Valley Asset Management. I thought their most telling quote was about how they expect young teenagers to continue the uptake of e-cigarettes and for a return to “smoking” via vaping and e-cigs which will drive profits in the future. On a valuation basis these companies are extremely cheap given their long term history, but I personally do not own any 'sin' stocks (tobacco, alcohol, firearms, etc.). Very interesting discussion though!
 

Sweating Hay In The Shining Sun - Adventur.es Letter

Interesting mid year update from Brent Beshores and his team over at adventur.es which discusses his current outlook of small business investing and strength/optimism in the small business sector. 
 

Open Square Capital Letter On Oil

Great discussion of where the global oil markets currently are in terms of supply and demand and an in-depth thesis on why Open square capital sees structural shortfalls in supply leading to higher oil prices. What is interesting is that they are completely contrarian to what the futures curve is projecting (backwardation is where the future contract prices are lower than what can be promised in the shorter term, almost like when the yield curve inverts when Long rates are lower than short term rates). 

 

Resources for those so inclined to learn more about the Oil Futures Curves:

 

Storage, Oil Backwardation, And Implications For MLPs

Good little article on what structurally causes oil futures curves to go into backwardations and its implications. 

 

Brent Crude Futures Curve

West Texas Intermediate Curve

 

Bill Nygren Market Commentary 2Q18

This is Bill Nygren’s commentary on why traditional “value” metrics don’t truly reflect economic or intrinsic value as well as they did a few decades before because of how important intangible assets (brand value, customer loyalty, customer lists, etc.) have become to future cash flows of companies. I highly recommend investors interested in learning more about modern business valuation to read this piece. 

 

Comus Investment, LLC

Great discussion on business valuation and why the terms “value” and “growth” investors are essentially redundant because of how growth is a part of business valuation. This is the same tack Buffett and Munger take - all intelligent investing is buying a piece of a business for less than its estimated intrinsic value. Other than that, you are simply speculating. 
 

 

What are you reading this week? Drop me a line or tweet @competence_co. Also, if you enjoy Circle Of Competence, please share it with friends, family, and co-workers. Have a great week!

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