August 11, 2014


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June 19, 2014



I begin my research into an industry with a prominent company 10K.  The Annual Report, or 10K, is filed with the SEC and is signed off by the CEO and CFO as truthful and compete.  In effect, they are signing that the information in the 10K is all you will need to understand this company including its business, marketing, competitors, risks, market position (Moat) and its financials.  If the information is incomplete in some material way ... that is if a missing piece of info might have misled me as to the quality of the company ... or if information is wrong, the CEO can go to jail. 


Read the ‘Business’ section of the 10K; its only a page or two and it should give you a good idea about what this business is all about.  Now, before you even get going on digging into the 10K, reflect for a bit on whether this business is right for you to own.  You now know something about it so decide if you think  you’d love owning this business.  Do you love the products or services?  Would you be proud to own the company?  Would your family be proud to have their names associated with this business?  Would you be happy to change the company name to your name?  Does it fit your values?  Do you want these products in the world in twenty years?


Those are tough questions for some people when it comes to some industries.  Let’s take the oil industry for example; people who believe burning oil and gas is a detriment to the environment and that oil should be replaced at all costs with renewable, clean energy may not be interested in owning an oil company.  That’s a values question and only they can answer it.  For me, owning an oil company is something I’m proud of.  I love flying in jets, driving my car, hauling my horses, heating and air conditioning the house, turning on the lights, using the internet, watching TV, living in a nation with no real poverty and none of that would be possible without oil.  Yes, I’d love it even more if I could do all those things using electric engines or solar engines or hydro engines or whatever other clean energy source we can evolve into but for now and the foreseeable future, if the world didn’t have oil, not only would my cushy life be a lot less cushy but its highly likely we’d be in a world war so fast we wouldn’t know what hit us and last time I checked, the last world war was worse for the health of about 80 million people than smog.  Those are my values and I’m voting with my money.  You should vote your values with your money and you start figuring out how to do that by reading 10Ks.


Start with any prominent company but immediately try to get to the best company in the industry.  Most 10Ks will have a section on Competition.  Use that to figure out who else to read about.  Or just go to, put in the symbol of the company you’re starting with, click on the drop down menu and click on Peers.  The Peers page will show you all the companies in that sub-industry and give you a quick look at the Rule #1 Scores for the top companies.  Pick who you think is best and then dig in.


Read the 10k’s from most recent back to the oldest.  You start with the last fiscal year’s 10k because you want to learn the business, as it is today, not how it was 10 years ago.   Once you’ve read it and you dug into the numbers and understand them, at least to a degree of competence, then, before you go back to the previous year’s 10K, go over to the company’s website and listen to the last quarter’s analyst report.  Between the two, you’re looking to get an overview of the business and a sense of who the CEO is and how he communicates with you about this company.


Here’s the key thing about the 10K and the live quarterly analyst report; they should make it easy to understand the business.  If they make it hard to understand either they don’t understand it or it’s too complicated to invest in or they are intentionally making it hard so they can cover up problems.  All three of those are good reasons to move on.  Don’t mess with ‘complicated’; find a business run by people who understand it and who are honest about explaining what’s going on.  And never feel like not getting it is your problem.  It isn’t.  Investing is never about being a lot smarter than other people.  If that were the case, all those fund managers who can’t beat the market would be killing it and many of my students would still be broke. 


Investing (as opposed to speculating) starts with understanding a few things well and sticking to those things.  Warren Buffett calls that notion his ‘circle of competence’.    Part of this process of reading and listening is about figuring out the industries in the market that you’re going to become an expert in.  I tell my students I want them to be an inch wide and a mile deep when they first start out.


What you’re looking for is a simple business to understand and one that doesn’t have to change its product much.  Is Apple is going to have the best phone in 10 years?  Who knows if we’ll even be using iPhones?  But is Exxon going to be producing oil in 10 years?  Yes, they will be.  Oil is a good product to research because it’s not going to change in the next decade. 


We’re also looking for the Moat.  A Moat is how this business keeps its profit margins with the other similar businesses trying to take over the market; this is critical in the oil patch because oil is a commodity, i.e., nobody cares whose oil it is.  Brand means nothing much to a consumer or refinery.  So what’s the Moat? What makes one company more durable than some other company?


The right Moat for a commodity business is Secrets and/or Price.  Do they know how to find oil better than anyone?  Can they get it to market cheaper than anyone?  You’re reading to determine that.  Here’s a clue what to look for: Higher profit margins than their competitors.  Look at CF Industries, for example.  They produce nitrogen fertilizer, a commodity, but they are number one in their world because they produce it far cheaper than anyone else.  Look at Whole Foods; they sell groceries, a commodity.  But they sell twice as many dollars per square foot of store than their competitors and their profit margins reflect that sales power.


Now that you’ve decided you like the business, its something you can understand, it matches your values, has a moat and you like the CEO, you start reading the previous year’s 10k and work your way back as far as the 10Ks go.  Read’m all.  I put Melissa to sleep at night reading the 10Ks out loud.  I should record myself and sell the CD as a sleep-aid.


From the 10Ks I go to Seeking Alpha, put in the symbol and start reading all of the analysis; good, bad, mediocre.  I read the quarterly report transcripts; again reading for Moat support as well as ideas about what can go wrong. 


Through all this reading I’m out to figure out a good Story that says ‘this is why this is a wonderful business’ and I keep reminding myself that a wonderful business is one that I can understand and matches my values (Meaning), has a durable competitive advantage (Moat) and a CEO I trust (Management). 


An important part of my Story will be an inversion of the data.  Once I get it all together I’m going to try to prove that this investment is a bad idea.  Only if I can’t prove that, only after I’ve inverted the Story to no avail, am I going to be really excited that this might be a great company to own.


From the Seeking Alpha I go to the library ( and try to find books on companies in the industry.   Then to for more commentary.  And of course I just google the company and read everything that looks interesting. 


Once through that, its time to do something similar for the major competitors.  Read it all.  You won’t be sorry and you only have to do it once.  After reading all this you’re going to know more about this industry than most analysts.  You’ll be an inch wide and a mile deep.  That’s where you want to be.


May 05, 2014


I'm going to post up the 6 vital principles that come to us from great Rule #1 investors starting with Ben Graham then Warren Buffett then on to today's greats like David Einhorn and Mohnish Pabrai.  These principles are timeless but have been stated in one form or another publicly for at least 80 years and yet still to this day few investors follow them.  Its hard to understand why that is; these are not fair-weather or bull-market principles.  These principles have worked to generate serious alpha returns through the Great Depression, WWII, Korean War, Vietnam and the Great Society inflation, the end of the gold standard, the great bull from 1980 to 2000 and through two huge bubbles that crashed the market in the last decade.  These are principles to invest by.  Learn them well and violate them at your own risk.  Here is the first one:

1.  RATIONAL: Stay Rational

Easier said than done when you are investing real money.  Money you can't afford to lose tends to be 'hot' or emotional.  Pro gamblers try to avoid sitting down with more than they can afford to lose but anyone investing all of their own hard-earned money is always sitting down with more than they can afford to lose.  Fear of losing more than you can afford to lose tends to make the mind go irrational.  You start guessing.  You can't tell the difference between a good idea and a bad idea.

Investing decisions are not life and death decisions (unless you've embezzled $100 million or so) but still, remaining rational in the face of intense emotions is an art that is learned in the trenches.  They don't teach this at business school because they can't generate real emotions in a classroom setting.  

Staying rational is an art that the best investors in the world have learned.  They have the ability to separate their emotions, block them off and operate on pure reason.  If A, then B.  If B, then C.  Therefore, if A, then C.  Using our rational mind is a huge advantage in a marketplace that dominated from time to time by irrationality covered over with Modern Portfolio Theory.  MPT says that the market is a roulette wheel which never remembers the last spin, all professional investors are solidly rational and, therefore, price is value.

I'll write more about irrationality in the future but for now suffice it to say that were it not for the occasional irrationality of otherwise brilliant fund managers sheltered and comforted by MPT, we'd all of us be out of luck trying to beat the market.  Fortunately, its in the nature of the beast for a fund manager to do irrational things; principally to sell something at a significant discount to its actual value.

A corallary of 'Rationality' is that price is not value.  Price is only what you pay.  Value is what you get no matter what you paid for it.  Pay too much and you'll never have excess alpha returns.  But buying value on sale requires an intelligent human to do the irrational thing and sell it when its on sale.  The good news for us is that fund managers rarely hold stocks for longer than 3 months.  If a company is having an issue that may take longer than a few months to solve, an issue that calls their near-term future earnings into question, fund managers will begin to sell.  Uncertainty is anathema to the Big Guys.  Hampered as they are by size to react to unforeseen events and by their Ivy League MPT education, we can forgive them their hair-trigger launch for the exits, particularly since their loss is our gain if we stay rational.

This is the key to Rule #1 type investing.  In a nutshell, we buy fear and we can't unless someone is afraid.  That someone is a fund manager who in the face of any uncertainty begins to sway like a too-tall tree in a too-big wind.  We little guys just have to remember that  "A is A".  Its obvious.  Well-educated fund managers all studied this tautology in their survey philosophy courses.  But fund managers forget that "A is A" if they aren't in the classroom and the tautology is structured as "value is value".  If the future earnings are reasonably intact despite the problem, value is still value and it most certainly isn't the same thing as price, no matter what the siren call of Modern Portfolio Theory is whispering in the fund manager's ear.

Next time principle #2.

Now go play.

March 28, 2014


Seth Klarman wrote the book, Margin of Safety.  I’d link you to it but I’m worried I’ll get sued.  You can use Google to find it online or you can pay over $1000 on ebay for a copy.  Its a good book.  Read it.  Seth is a very good hedge fund manager.  He has $27 billion under management after giving back $4 billion last year.  The Baupost Group is his fund.  Seth says he’s about 60% in cash right now.


Seth’s end of year letters don’t usually leak out but the 2013 letter just did.  Its on Zero Hedge (link below) and well worth reading.  Here are my notes:


Reasons to be bullish if congentitally inclined:

  1. PE’s aren’t horribly high
  2. Deficits shrinking
  3. Consumers are lowering their personal debt
  4. Housing is recovering
  5. US energy independence is under way
  6. Bond yields are still so low that equities are the only place to go
  7. It doesn’t matter that the S&P has tripled since 2009, interest rates spiked or the Fed is tapering
  8. QE worked.
  9. The Fed will come to the rescue again if necessary
  10. The Bernanke/Yellen Put is intact
  11. No bubbles are in sight


But if you have the worry gene, are more focused on downside than upside and more interested in return OF capital than return ON capital ... in other words, if you are a Ruler there are serious questions to be answered:

  1. Near zero interest rates distort reality so what are the consequences going to be?
  2. Can the Fed end QE without a crash?
  3. Deficit spending propped the economy and inflated earnings and it can't keep going, can it?
  4. Schiller PE is over 25.  The three prior times were 1929, 2000 and 2007.  Isn't that scary?
  5. Junk bonds are now in a bubble so when does the bond bubble pop?
  6. Credit quality going down and so are more and more small banks.  Scary?
  7. Margin debt to GDP near all-time high so isn't that a problem?
  8. IPO’s are near a record number, Twitter is at a 500 PE, Netflix PE is at a 181, Tesla PE is 279.  Signs of a top?
  9. Lowest proportion of Bears since 1987 - another sign of a top?
  10. Europe isn’t fixed.  Greece’s debt to GDP is higher now, Germany’s is, too.  So will they just inflate the Euro?
  11. Europe has 7% of population, 25% output and 50% of its social spending so will it finally crash?
  12. Bitcoin prices went through the roof while gold fell 28%.  Isn't that weird?
  13. We live in The Truman Show in a plexiglass bubble built by the Fed.  When will we discover it?
  14. The Fed purchased 90% of all eligible mortgage bonds in November.  What happens to interest rates when they stop?
  15. What is fake cannot be made real, can it?
  16. Fed can change how things look but not how they are, right?
  17. Hasn't the Fed has become enabler of what it was created to prevent, ie, massive volatility in the economy?
  18. When the show ends, who will be broke?
  19. Won't financial markets have to decline someday? 

Here are Seth's conclusions:

  1. Rising stock markets stop being government policy
  2. QE will end and money won’t be free
  3. Corporate failure will be permitted
  4. The economy will turn down
  5. Investors will lose money
  6. Capital preservation will be favored over speculation
  7. Interest rates will be higher
  8. Bond prices will be lower
  9. The Return from bonds will be commensurate with risk
  10. Fear will return and spread like wildfire
  11. Few will be prepared.

My thoughts on Seth’s thoughts:

Your values are not what you say.  Your values are what you do.  Talk is cheap.  I’m half in cash for a reason.  What I can do while waiting for 'the end' is try to find businesses I’d want to own even if there was no stock market.  And hope to be nimble enough to dance out when the time comes.

Fear is our friend.  Greed, jealousy, lack of patience and the need to do something are our enemies.  Try to be ready for the fear by fighting off the greed gene, exercising patience and go play.



Now go play.

February 24, 2014

Buffett's annual letter: What you can learn from my real estate investments

Warren Buffett is the CEO of Berkshire Hathaway. This essay is an edited excerpt from his annual letter to shareholders.

This story is from the March 17, 2014 issue of Fortune and sent along to us by Garrett with our thanks.  This is a wonderful letter.  It basically says investing isn't all that hard but that most people shouldn't try it - they should just go buy an index.  Buffett's been saying the same thing for years.  What's different here is that he lays out his rules for buying stuff more succinctly than I've seen before.  

Buffett's annual letter: What you can learn from my real estate investments

February 24, 2014: 5:00 AM ET

In an exclusive excerpt from his upcoming shareholder letter, Warren Buffett looks back at a pair of real estate purchases and the lessons they offer for equity investors.

By Warren Buffett

The author visiting (for just the second time) the 400-acre farm near Tekamah, Neb., that he bought in 1986 for $280,000

The author visiting (for just the second time) the 400-acre farm near Tekamah, Neb., that he bought in 1986 for $280,000

FORTUNE -- "Investment is most intelligent when it is most businesslike." --Benjamin Graham, The Intelligent Investor

It is fitting to have a Ben Graham quote open this essay because I owe so much of what I know about investing to him. I will talk more about Ben a bit later, and I will even sooner talk about common stocks. But let me first tell you about two small nonstock investments that I made long ago. Though neither changed my net worth by much, they are instructive.

This tale begins in Nebraska. From 1973 to 1981, the Midwest experienced an explosion in farm prices, caused by a widespread belief that runaway inflation was coming and fueled by the lending policies of small rural banks. Then the bubble burst, bringing price declines of 50% or more that devastated both leveraged farmers and their lenders. Five times as many Iowa and Nebraska banks failed in that bubble's aftermath as in our recent Great Recession.

In 1986, I purchased a 400-acre farm, located 50 miles north of Omaha, from the FDIC. It cost me $280,000, considerably less than what a failed bank had lent against the farm a few years earlier. I knew nothing about operating a farm. But I have a son who loves farming, and I learned from him both how many bushels of corn and soybeans the farm would produce and what the operating expenses would be. From these estimates, I calculated the normalized return from the farm to then be about 10%. I also thought it was likely that productivity would improve over time and that crop prices would move higher as well. Both expectations proved out.

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I needed no unusual knowledge or intelligence to conclude that the investment had no downside and potentially had substantial upside. There would, of course, be the occasional bad crop, and prices would sometimes disappoint. But so what? There would be some unusually good years as well, and I would never be under any pressure to sell the property. Now, 28 years later, the farm has tripled its earnings and is worth five times or more what I paid. I still know nothing about farming and recently made just my second visit to the farm.

In 1993, I made another small investment. Larry Silverstein, Salomon's landlord when I was the company's CEO, told me about a New York retail property adjacent to New York University that the Resolution Trust Corp. was selling. Again, a bubble had popped -- this one involving commercial real estate -- and the RTC had been created to dispose of the assets of failed savings institutions whose optimistic lending practices had fueled the folly.

Here, too, the analysis was simple. As had been the case with the farm, the unleveraged current yield from the property was about 10%. But the property had been undermanaged by the RTC, and its income would increase when several vacant stores were leased. Even more important, the largest tenant -- who occupied around 20% of the project's space -- was paying rent of about $5 per foot, whereas other tenants averaged $70. The expiration of this bargain lease in nine years was certain to provide a major boost to earnings. The property's location was also superb: NYU wasn't going anywhere.


I joined a small group -- including Larry and my friend Fred Rose -- in purchasing the building. Fred was an experienced, high-grade real estate investor who, with his family, would manage the property. And manage it they did. As old leases expired, earnings tripled. Annual distributions now exceed 35% of our initial equity investment. Moreover, our original mortgage was refinanced in 1996 and again in 1999, moves that allowed several special distributions totaling more than 150% of what we had invested. I've yet to view the property.

Income from both the farm and the NYU real estate will probably increase in decades to come. Though the gains won't be dramatic, the two investments will be solid and satisfactory holdings for my lifetime and, subsequently, for my children and grandchildren.

I tell these tales to illustrate certain fundamentals of investing:

  • You don't need to be an expert in order to achieve satisfactory investment returns. But if you aren't, you must recognize your limitations and follow a course certain to work reasonably well. Keep things simple and don't swing for the fences. When promised quick profits, respond with a quick "no."
  • Focus on the future productivity of the asset you are considering. If you don't feel comfortable making a rough estimate of the asset's future earnings, just forget it and move on. No one has the ability to evaluate every investment possibility. But omniscience isn't necessary; you only need to understand the actions you undertake.
  • If you instead focus on the prospective price change of a contemplated purchase, you are speculating. There is nothing improper about that. I know, however, that I am unable to speculate successfully, and I am skeptical of those who claim sustained success at doing so. Half of all coin-flippers will win their first toss; none of those winners has an expectation of profit if he continues to play the game. And the fact that a given asset has appreciated in the recent past is never a reason to buy it.
  • With my two small investments, I thought only of what the properties would produce and cared not at all about their daily valuations. Games are won by players who focus on the playing field -- not by those whose eyes are glued to the scoreboard. If you can enjoy Saturdays and Sundays without looking at stock prices, give it a try on weekdays.
  • Forming macro opinions or listening to the macro or market predictions of others is a waste of time. Indeed, it is dangerous because it may blur your vision of the facts that are truly important. (When I hear TV commentators glibly opine on what the market will do next, I am reminded of Mickey Mantle's scathing comment: "You don't know how easy this game is until you get into that broadcasting booth.")

My two purchases were made in 1986 and 1993. What the economy, interest rates, or the stock market might do in the years immediately following -- 1987 and 1994 -- was of no importance to me in determining the success of those investments. I can't remember what the headlines or pundits were saying at the time. Whatever the chatter, corn would keep growing in Nebraska and students would flock to NYU.

There is one major difference between my two small investments and an investment in stocks. Stocks provide you minute-to-minute valuations for your holdings, whereas I have yet to see a quotation for either my farm or the New York real estate.

MORE: Buffett looking to exit Washington Post's former owner

It should be an enormous advantage for investors in stocks to have those wildly fluctuating valuations placed on their holdings -- and for some investors, it is. After all, if a moody fellow with a farm bordering my property yelled out a price every day to me at which he would either buy my farm or sell me his -- and those prices varied widely over short periods of time depending on his mental state -- how in the world could I be other than benefited by his erratic behavior? If his daily shout-out was ridiculously low, and I had some spare cash, I would buy his farm. If the number he yelled was absurdly high, I could either sell to him or just go on farming.

Owners of stocks, however, too often let the capricious and irrational behavior of their fellow owners cause them to behave irrationally as well. Because there is so much chatter about markets, the economy, interest rates, price behavior of stocks, etc., some investors believe it is important to listen to pundits -- and, worse yet, important to consider acting upon their comments.

Those people who can sit quietly for decades when they own a farm or apartment house too often become frenetic when they are exposed to a stream of stock quotations and accompanying commentators delivering an implied message of "Don't just sit there -- do something." For these investors, liquidity is transformed from the unqualified benefit it should be to a curse.

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A "flash crash" or some other extreme market fluctuation can't hurt an investor any more than an erratic and mouthy neighbor can hurt my farm investment. Indeed, tumbling markets can be helpful to the true investor if he has cash available when prices get far out of line with values. A climate of fear is your friend when investing; a euphoric world is your enemy.

During the extraordinary financial panic that occurred late in 2008, I never gave a thought to selling my farm or New York real estate, even though a severe recession was clearly brewing. And if I had owned 100% of a solid business with good long-term prospects, it would have been foolish for me to even consider dumping it. So why would I have sold my stocks that were small participations in wonderful businesses? True, any one of them might eventually disappoint, but as a group they were certain to do well. Could anyone really believe the earth was going to swallow up the incredible productive assets and unlimited human ingenuity existing in America?

When Charlie Munger and I buy stocks -- which we think of as small portions of businesses -- our analysis is very similar to that which we use in buying entire businesses. We first have to decide whether we can sensibly estimate an earnings range for five years out or more. If the answer is yes, we will buy the stock (or business) if it sells at a reasonable price in relation to the bottom boundary of our estimate. If, however, we lack the ability to estimate future earnings -- which is usually the case -- we simply move on to other prospects. In the 54 years we have worked together, we have never forgone an attractive purchase because of the macro or political environment, or the views of other people. In fact, these subjects never come up when we make decisions.

MORE: Buffett does Detroit

It's vital, however, that we recognize the perimeter of our "circle of competence" and stay well inside of it. Even then, we will make some mistakes, both with stocks and businesses. But they will not be the disasters that occur, for example, when a long-rising market induces purchases that are based on anticipated price behavior and a desire to be where the action is.

Most investors, of course, have not made the study of business prospects a priority in their lives. If wise, they will conclude that they do not know enough about specific businesses to predict their future earning power.

I have good news for these nonprofessionals: The typical investor doesn't need this skill. In aggregate, American business has done wonderfully over time and will continue to do so (though, most assuredly, in unpredictable fits and starts). In the 20th century, the Dow Jones industrial index advanced from 66 to 11,497, paying a rising stream of dividends to boot. The 21st century will witness further gains, almost certain to be substantial. The goal of the nonprofessional should not be to pick winners -- neither he nor his "helpers" can do that -- but should rather be to own a cross section of businesses that in aggregate are bound to do well. A low-cost S&P 500 index fund will achieve this goal.

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That's the "what" of investing for the nonprofessional. The "when" is also important. The main danger is that the timid or beginning investor will enter the market at a time of extreme exuberance and then become disillusioned when paper losses occur. (Remember the late Barton Biggs's observation: "A bull market is like sex. It feels best just before it ends.") The antidote to that kind of mistiming is for an investor to accumulate shares over a long period and never sell when the news is bad and stocks are well off their highs. Following those rules, the "know-nothing" investor who both diversifies and keeps his costs minimal is virtually certain to get satisfactory results. Indeed, the unsophisticated investor who is realistic about his shortcomings is likely to obtain better long-term results than the knowledgeable professional who is blind to even a single weakness.

If "investors" frenetically bought and sold farmland to one another, neither the yields nor the prices of their crops would be increased. The only consequence of such behavior would be decreases in the overall earnings realized by the farm-owning population because of the substantial costs it would incur as it sought advice and switched properties.

Nevertheless, both individuals and institutions will constantly be urged to be active by those who profit from giving advice or effecting transactions. The resulting frictional costs can be huge and, for investors in aggregate, devoid of benefit. So ignore the chatter, keep your costs minimal, and invest in stocks as you would in a farm.

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My money, I should add, is where my mouth is: What I advise here is essentially identical to certain instructions I've laid out in my will. One bequest provides that cash will be delivered to a trustee for my wife's benefit. (I have to use cash for individual bequests, because all of my Berkshire Hathaway (BRKA) shares will be fully distributed to certain philanthropic organizations over the 10 years following the closing of my estate.) My advice to the trustee could not be more simple: Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund. (I suggest Vanguard's. (VFINX)) I believe the trust's long-term results from this policy will be superior to those attained by most investors -- whether pension funds, institutions, or individuals -- who employ high-fee managers.

And now back to Ben Graham. I learned most of the thoughts in this investment discussion from Ben's book The Intelligent Investor, which I bought in 1949. My financial life changed with that purchase.

Before reading Ben's book, I had wandered around the investing landscape, devouring everything written on the subject. Much of what I read fascinated me: I tried my hand at charting and at using market indicia to predict stock movements. I sat in brokerage offices watching the tape roll by, and I listened to commentators. All of this was fun, but I couldn't shake the feeling that I wasn't getting anywhere.

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In contrast, Ben's ideas were explained logically in elegant, easy-to-understand prose (without Greek letters or complicated formulas). For me, the key points were laid out in what later editions labeled Chapters 8 and 20. These points guide my investing decisions today.

A couple of interesting sidelights about the book: Later editions included a postscript describing an unnamed investment that was a bonanza for Ben. Ben made the purchase in 1948 when he was writing the first edition and -- brace yourself -- the mystery company was Geico. If Ben had not recognized the special qualities of Geico when it was still in its infancy, my future and Berkshire's would have been far different.

The 1949 edition of the book also recommended a railroad stock that was then selling for $17 and earning about $10 per share. (One of the reasons I admired Ben was that he had the guts to use current examples, leaving himself open to sneers if he stumbled.) In part, that low valuation resulted from an accounting rule of the time that required the railroad to exclude from its reported earnings the substantial retained earnings of affiliates.

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The recommended stock was Northern Pacific, and its most important affiliate was Chicago, Burlington & Quincy. These railroads are now important parts of BNSF (Burlington Northern Santa Fe), which is today fully owned by Berkshire. When I read the book, Northern Pacific had a market value of about $40 million. Now its successor (having added a great many properties, to be sure) earns that amount every four days.

I can't remember what I paid for that first copy of The Intelligent Investor. Whatever the cost, it would underscore the truth of Ben's adage: Price is what you pay; value is what you get. Of all the investments I ever made, buying Ben's book was the best (except for my purchase of two marriage licenses).

Warren Buffett is the CEO of Berkshire Hathaway. This essay is an edited excerpt from his annual letter to shareholders.

This story is from the March 17, 2014 issue of Fortune.

January 13, 2014


This is an analysis by Clay, taking his first public shot at determining for us whether a business is wonderfful and on sale.  His focus in this article is EBAY.  My notes follow at the end:



     I've been an eBay member since 1999.  I know the ins and outs of how eBay and PayPal function both as a buyer and a seller. I’ve bought or sold everything from motorcycles, auto parts, vintage vacuum tubes, curly maple lumber, camping supplies, clothing, jewelry to high-end guitars, books and music.  It's a straight-forward concept.  Retailers/individuals provide the products,  eBay and Paypal provide the means to sell those products worldwide. (I've sold to Israel, Japan, UK, Spain etc myself) This one point illustrates a large difference from competitor Amazon.  eBay doesn't provide the product, so if it doesn't sell they still make money on the listing, whereas Amazon is at the mercy of inventory.  PayPal may have been beholden to eBay as an income source at one time but that's not the case currently.  With new retail partners, new mobile card reading hardware and partnership with Discover Paypal looks to expand its TAM far and wide.



 eBay vs. Amazon:    Amazon sells retail, supplying 60% of the actual products sold, while eBay provides exactly zero of the products sold on its website(s).   This means Amazon pays to purchase, ship and warehouse items.  Amazon may also have to eat a loss if the product doesn't sell well.   eBay on the other hand makes money regardless of actual sales completed.   eBay collects listing fees, insertion fees, photo fees, final value fees etc.  and if it doesn't sell?  They collect more when the seller relists the item....and if the item DOES sell?  Well, They take their fees and/or a percentage (depending on listing/category) and more fees if you use PayPal to complete the transaction    EBay basically has nothing to lose!   They get paid through two different cash flows if a sale is facilitated, and one source of cash  if the item doesn't sell.  If the merchandise gets re-listed or has to be sold at a loss eBay takes none of the loss, yet realizes cash flow every time listed.  With a gross 75% and net 34%  profit margin compared with Amazon's 26%/-.015% (according to yahoo finance).  Its a glaringly different business model.  Im not saying there isnt overlap, just that the way they go about things are very different.  Amazon doesn't carry as many items as eBay.  A simple search for "Jeep wheel" shows 25,000 more entries on eBay.  Also, none of the vintage /used/niche/collectible and one of a kind jewelry, items or art work that sell on eBay are on Amazon.  Want to find a vintage leather jacket or vintage Levi's ?  How about some authentic native american turquoise? 1957 Cadillac brake lens?  vintage Stratocaster guitar? you wont find them on Amazon.  Amazon doesn't beat eBay on prices for new merchandise either.  I can find most any book on eBay for the same or less than Amazon, Jerry Can for potable water? Lowest price is from Northern Tool ... selling on eBay.  Lots of major retailers use eBay to increase sales or clear dead stock as well. 


eBay vs. Craigslist:  Craigslist is basically a "non-profit" and eBay actually owns 28.4%.   Thats right, eBay owns part of craigslist and competes directly with its own service "eBay classifieds"(formerly Kijiji). 


Paypal: One might think that PayPal only makes money on eBay transactions.  With only $50 billion of PayPal's $150 billion in facilitated transaction revenues coming from eBay and the rest from other web or POS sales.  Its a sizeable portion but not the entirety or even majority by any means.  $3.6 billion of  PayPal's $5.5 billion in revenue comes from non-eBay marketplaces.   PayPal already has 123 million active users (eBay has 112 million) and looks to expand by leveraging partnerships with 23 major retailers throughout the U.S.   18,000 physical stores now let customers shop with PayPal in-store. The chains that accept this service include Advance Auto Parts, The Home Depot, Ace Hardware, Office Depot, Famous Footwear, Dollar General, Mapco Express, RadioShack, Spartan Stores, Abercrombie & Fitch, Aeropostale, American Eagle Outfitters, Barnes & Noble, Foot Locker, Guitar Center, Jamba Juice, JC Penney, Jos. A. Bank Clothiers, Nine West, Rooms To Go, Tiger Direct, and Toys "R" Us.  It's partnership with Discover  will add 7 million more locations.  PayPal provides a multi-source (cash from multiple savings or checking accounts and credit cards) way to pay without sharing your credit card or bank info, an increasingly important service in the age of phishing scams and hacked credit card accounts.  With architectural touch screen technology that would give Steve Jobs a chubby already being implemented in 4 major cities.   eBay inc is implementing new, scaleable ways for customers and retailers to interact, while creating a database that can be used to increase sales/ control inventory, and increase sell through based on customer behavior.


GSI/EBay enterprise:  GSI (Global Sports Inc) was started by Mark Rubin in 1999 as an e commerce platform to help sporting goods retailers, with a net revenue of $5.5million.   By 2010 it had expanded to $1.3 Billion by branching into a fulfillment and e commerce management company for everyone from Toys R Us to the NFL, NBA, NHL to Ace Hardware.  Covering all kinds of goods from all kinds of major brands and retailers.  Quite an amazing roster --   In 2011 GSI commerce was acquired by eBay inc.  Also in 2011  "Ebay Inc. completed the divestiture of 100 percent of GSI's licensed sports merchandise business and 70 percent of ShopRunner and Rue La La to a newly formed holding company led by GSI founder and CEO Michael Rubin."  This is where the rubber meets the road for any Amazon vs. EBay discussion in my opinion.  This is where the fulfillment centers come into play and Shop Runner vs. Amazon Prime come into play.  This is the overlap I can see.




Is it durable?   I think the concept of auctioning/wholesaling is as old as haggling and will be with the human race for a long time to come.  Same thing with paying for those items (Paypal) or trying to get more sales/higher profit margins (ebay enterprise née GSI Commerce)


Brand? Yes, I believe eBay, PayPal and GSI now eBay enterprise not only have brand recognition (In the case of GSI within the industry) they have earned the trust  of millions worldwide.  


Switching?  Yes, with both PayPal and eBay once you're using their website/software and they are embedded in your business it's a hassle to switch.  


 Toll?  eBay are billed as the Largest online marketplace.  Auctions tend to bring more money for items than outright sales, so the attraction for sellers who have high dollar or unique items is intense, and Craigslist or Amazon don't offer that.  PayPal has a "symbiotic" toll moat with eBay since all the auctions allow one to use Paypal.  GSI commerce offers fulfillment and ecommerce website/inventory management.  its fulfilment centers are something only companies like Amazon and Walmart can manage.  They've been at fulfillment and ecommerce since 1999.


Secret Moat?  Well they do have new patented  "shopping glass" currently in use in malls in 4 major cities*[2].  Not sure if I can call things "secrets" like the PayPal mobile app, "Beacon" hands free Bluetooth payment system, or the "PayPal Here" mobile phone card reader (direct competitor to "Square"), but they are things that cost lots of R&D money to replicate.



"We do not wish to join with managers who lack admirable qualities, no matter how attractive the prospects of their business.  We've never succeeded in making a good deal with a bad person"- Warren Buffett


 Pierre Omidyar is Chairman of the board, founder and a director.  Born in France.  He wrote the code that eventually became eBay in 1995.  By 1998 when the company came public he was a billionaire.  I think money brings out people's REAL personalities.  When Pierre and his wife became insanely wealthy they showed what was inside by becoming philanthropists!  I'll let them speak for themselves here: 


 "Our backgrounds are in technology and science. We are parents, entrepreneurs, humanitarians, citizens, thinkers, doers and philanthropists. We wear all of these hats at different times, and many simultaneously.  We believe that people are essentially good—people can be trusted, and generally have good intentions. This was a key belief in the creation of eBay in 1995, and has remained an integral part of our lives ever since.  We are committed to using our time, energy, and resources for the public good; it’s our passion, and a challenge as great and rewarding as any we’ve experienced. We focus on the efforts we believe in most, and the places where we have distinctive contributions to offer. By cultivating the inherent capabilities that exist within each individual, we hope to have a positive impact on people and communities, promote human dignity, and alleviate suffering.  We believe in the power of people. In their creativity. In their ability to take action and bring about extraordinary change. In their desire to do good for themselves and one another. That belief in humanity is what drives us and unites all of our efforts."--from the Omidyar Network site


"As a first generation American who came to this country when I was still young, I continue to be inspired by the founding vision of the American republic and believe that through innovation, dialogue, and bipartisan reform we can take steps that will help us realize that vision." -from his Democracy group web page.


He's got a BAG, his philanthropy is as impressive as Buffett and Gates and has signed the Giving Pledge.   Oh, and his salary is $19,916.... Sounds pretty darn good to me.  


John  J. Donahoe, CEO, President, Directector.  BA Economics Dartmouth, magna cum laude, MBA Stanford Graduate school of business.  Salary of $970,353 with total annual compensation of $3,975,119.  A former Schlitz Beer employee, and fellow Teamster he went on to join Bain & Co. inc in 1982.  Served as head of San Francisco office for 7 years.  He has been a member of operating and nominating committees.  He was named Worldwide Managing Director from 1999 to March 1, 2006 at Bain.   Mr. Donahoe oversaw Bain's 29 offices and 3,000 employees worldwide.  He also served clients in telecommunications, airlines, aerospace, and financial services industries.  Prior to that he worked for Rolm Corp. and Salomon Bros.  CEO and president of Ebay Inc since March 2008.  President of Auction Business Unit since Feb. '05 and has been a director at Intel since March '09.  Vice Chairman of the Advisory Council at Stanford Graduate School of Business, Board of trustees of Dartmouth College and Sacred Heart Schools. Served as trustee of Bridgespan Group and other charitable organizations.


SUMMARY:  I see eBay as a robust platform that does well even in tough times, Paypal as an established and growing player in Omni channel retail with eBay as a strong cash flow Berky to help it expand on its already impressive list of brands/retailers it works with.  GSI/eBay enterprise itself has an impressive list of brands it does work for.  


"Since the company’s founding, we have maintained that the value that eBay Inc. creates for its stockholders isn’t strictly financial. In 2012, we articulated a strategy to focus our social innovation efforts around three core areas: creating economic opportunity, powering charitable giving and enabling greener forms of commerce. For example, we announced and began construction on the first-ever data center to use renewable energy as its primary power source. And through PayPal, we processed more than $3.6 billion in funds in 2012 for charitable organizations."-2012 shareholders letter



I saw the chart of eBay looking like a year long sideways channel from 50 to as high as 58...just a bit over Town valuation default settings of $57 Sticker based on $2 EPS and 14% future GR.  [The price today closed at $52 -- PT] If that EPS becomes $2.50 the sticker becomes $72 and MOS is $35.  Is $2.50 EPS outrageous to imagine?  They did it in FY2011 and I believe they can achieve that again and more.  


[NOTE FROM PHIL: The valuation consideration is less complete than I would want before I put a Sticker on this.  We never just run the Valuation on the Tools and assume its right.  I'd look at Payback Time and Zombie.  I'd look at Free Cash Flow and compare it to earnings to see if the PBT is better or worse.  I'd make a case for a specific growth rate and PE.  And I'd make sure I was starting from a reasonable TTM EPS.  Maybe you all can fill in the blanks here.  Is it possible that Ebay is on sale?  If not, why not and if not then why is an investor as astute about value as Julian Robertson buying in at $53?

The Ebay moat is Brand, Switching, Toll and Price.  Brand is self-evident.  Switching is difficult because of the Ebay rating system.  It is a Toll Bridge moat there being few other real choices for dumping your stuff on line effectively.  And Price is the whole point - the ability to get something cheaper than in a store.


No question, this is a wonderful company.  I think it does have a durable moat.  But price is everything and it appears to be expensive.  So, again, why is Robertson buying?



December 09, 2013


Have I got a story for you.  A friend of mine has written the most unusual book you will read this year--or will read maybe ever.  It's really more of an adventure than a book. Let me explain. 

I'm guessing that at some point when you were growing up, there was some point in time when you were pretty down. It was then that your mom probably said something like:  "No matter how bad you feel right now, someone's had it worse."  At other times when you felt on top of the world, someone might have warned you: "No matter how  well you do, someone else has done it better."

We've all heard that sort of thing. Here's the really unusual part: What if the highest highs and the lowest lows actually happened to the same person?  My friend, Bill Bartmann, is living that life and its a great story. Get this:

• As a teenager, he was a homeless gang member, eating out of dumpsters.

• Later, his best job was working at a pig slaughterhouse.

• He was an alcoholic at age 18, and became a paraplegic after falling down stairs drunk

• Yet he walked out of the hospital...

• Got married (and stayed married)

• And put himself through college... and law school.

• And became an entrepreneur in the oil patch, a millionaire and then lost it all

• And with about 2 cents started a new business ...

• And Bill became a billionaire and entrepreneur of the year

• Then the Feds (nice job John Ashcroft) moved in on him for all the wrong reasons, destroyed his company and he lost it all in 72 hours and faced 600 years of jail ...

• But he refused to plea bargain and was found not guilty....

• And now he's on the road to getting it all back.

If you've ever wished that fiction thrillers were more true, and that true stories were more interesting, then you're gonna love this book; "Bouncing Back" by Bill Bartmann.

Full Disclosure: I don't make a single penny if you buy this book. I just want you to know about Bill's amazing book for three reasons:
1. It's just a fascinating story to read and to realize that it all happened to a real person who's alive today; and
2. It's full of important principles about failure and success, betrayal and honor, despair and resolve.

3.  I couldn't put it down. 

You know I get asked to blurb books all the time.  Among authors its almost a tribal requirement to blurb other's books.  But I rarely do it and only when I really like the book and I really like the author and I think you guys will benefit from it in some immediate way.  I've blurbed Happy for No Reason by Marci Shimoff, 4-Hr Workweek by Tim Ferriss and now this one.

You can get the eBook at Amazon.  "Bouncing Back".  It's only $5.95 on Kindle. Here's a link to the book or go to and type in "Bouncing Back by Bill Bartmann".

I can tell you one thing for sure: If you start reading this book, you will not be able to resist telling others about it. It's one hell of a story.

Now go play

November 26, 2013


This post is a virtual interview with Mr. Warren Buffett that I created by framing questions to match answers from his annual letters.  Its not a long interview so I strongly urge you to read each answer closely.  Really give it an effort to understand what he's saying.  This is distilled investing knowledge of a lifetime.  It wouldn't hurt to memorize it:


Q.  Mr. Buffett, you’ve taught us to look for a good business at a good price.  Could you give us an example of a good business that all of our Rule One students can easily understand?

A.  They ought to be confident if they buy a farm....  [T]hey ought to look at what the farm produces, how many bushels an acre do they get out of their corn or soybeans and what prices do they bring.  If you decide to buy a farm and you pay the right price for it, you don’t need to lose faith in American agriculture, you know, because the prices of farms go down.


Q.  So you don’t worry at all about being able to buy this farm or business cheaper tomorrow.  What if the economy and stock market are melting down?  Do you still step in there and buy?

A.  If you tell me the economy is going to be terrible for 12 months, pick a number, and then if I find something that is attractive today, I am going to buy it today.  I am not going to wait and hope that it sells cheaper six months from now.  Because who knows when stocks will hit a low or a high?  Nobody knows that.  All you know is whether you’re getting enough for your money or not.


Q.  So what are the key things you look for to determine whether you are getting enough for your money?

A.  If you’re going to buy a stock in some business that’s been around for a 100 years and will be around for 100 more years and it’s not a leveraged company and it sells some important product and it’s got a strong competitive position and you buy it at a reasonable multiple of earnings, you don’t have to worry about crooks, you’re going to do fine.


Q.  What’s your view of a ‘reasonable’ multiple of earnings?  Is there a number?

A.  We acquired a company recently and the owner quoted me as saying that I like to buy a PE of 10.  I’ll leave it at that.


Q.  We’re not supposed to worry about the business’s market price declining, right?  Is there a percentage decline beyond which you’d be very concerned?

A.  Unless you can watch your stock holding decline by 50% without becoming panic-stricken, you should not be in the stock market.


Q.  That brings up the question of diversification.  You are famously not diversified across the broad market.  Why is that better than spreading it around to a lot of good companies?

A. Wide diversification is only required when investors do not understand what they are doing.  Never invest in a business you cannot understand.  Risk can be greatly reduced by concentrating on only a few holdings in businesses you understand well. 


Q.  Which takes us to my last question:  What’s the most critical thing for our Rule One students to focus on? 

A.  The critical investment factor is determining the intrinsic value of a business and paying a fair or bargain price.  [And] lethargy bordering on sloth should remain the cornerstone of [their] investment style.


Q.  Thank you very much, Mr. Buffett.  Everything makes total sense.  Its so weird so few people follow these principles.  I always wondered why.

A.  I asked [Ben]Graham the same question. Everyone took his class at Columbia Business School. 90% of the people that took his class ended up doing something else.


Now go play.

November 11, 2013


I am putting up the following post as a training exercise.  I am not giving you my opinion on the quality of the analysis except to tell Angela that she's definitely trying to do the work and that's the most important thing at this point.  The more you do on your own, the faster you learn.  So let's take a good look at what she wrote and do some solid critiques.  Focus on MOAT and the value of the business.  Is this a 'Just One'?  Would you put even 25% of your money into this?  If not, why are we looking at it?  If so, then make a good, rational case for it.  

And have fun!


Angela W. 

Silver Wheaton


I. Meaning: Silver Wheaton (SLW) is the world’s largest silver streaming company. It does not own or operate any mines. By providing upfront payment, it secures long time/lifetime agreements to buy all or portion of silver and gold production at a predetermined fixed cost, generally around $4/oz and $400/oz respectively, from mining companies located in politically stable regions around the world. Streaming companies provide venture capital for mining companies in exchange for an interest in mine production. Streaming is considered to be mutually beneficial. In today’s environment where funding is hard/expensive to obtain and the fact that mining is a very capital intensive business, mining companies could get upfront capital injection at no/very low cost, from their non-core by- product sale, to fund their core product business. SLW’s peers include Royal Gold (RGLD), Franco-Nevada (FNV) and Sandstorm (SAND), primarily gold streaming companies versus SLW a primarily silver streaming player (80% silver +20% gold). SLW has streaming rights to 19 operating mines and 4 development projects. Corner stone assets including Penasquito mine in Mexico with Gold Corp, Pacua-Lama project in Chile/Argentine with Barrick Gold, San Dimas mine in Mexico with Primero, Constancia silver/gold mines in Peru with Hudbay,777 gold mine in Canada with Hudbay and the recent acquisition of Salobo/Sudbury gold mine in Brazil with Vale. Durability and Predictability • Durable mining industry as economic growth demands metals. Thomson Reuters GFMS estimates that 72% of 2012 global silver production was produced as a by-product from copper, lead, zinc or gold mines. As a result, silver will be mined anyway together with other metals. In addition to being an investment vehicle, silver (50% of its production) has been widely used for industrial use, primarily in hi-tech sector, such as in cell phones/electronics/equipment. o SLW owns estimated reserves of 1.12B silver equivalent oz. At 33.5M silver equivalent oz production per year pace, the existing reserve could last them 25-30 years, without counting future acquisitions. In addition, SLW now has only 5.8% of the world’s total silver production, thus still has considerable amount of growth potential. •Predictability o Very low. Precious metals are very price volatile, and there is inherent exploration/development risk associated with the projects SLW has a meaning for me. With concerns of central banks creating fiat money and eventual high inflation/wealth transfer, I have invested in both physical bullions and ETFs in my retirement account. I have followed commodity veterans Jim Sinclair, Jim Rogers, Doug Casey, David Morgan since 2002. I see SLW as a unique business model as it has a more diversified portfolio than regular mining companies, no risk with direct exploration/development/production, fixed capital and purchase cost, and a potential to capture price upside.


II. Moat: Numbers look good, consistent and growing Moat: Compound Growth Rate 10 Years 7 Years 5 Years 3 Years 1 Year RATING BVPS+Dividend Growth Rate - 30.5% 21.5% 22.7% 20.9% 100 EPS Growth - 41.0% 32.3% 62.1% 6.4% 100 OCPS Growth - 43.8% 30.8% 61.7% 14.7% 100 Sales Growth - 28.3% 24.9% 45.4% 15.9% 100 Rule One Moat Score 100 • Switching moat: SLW, through its streaming agreement, owns, in most cases, lifetime silver/gold production from its mining partners. • Why they are better than competitors: SLW believes they have redefined how mining industry use their non-core silver byproduct. SLW has the first mover advantage, and have quickly amassed consideration amount of funding in the beginning, and later on solid cash flows from operations. The cash on hand helps to position them in a unique time like now • Chart View: all 4 lines are in a consistent and parallel upward trend, except for EPS growth dip in 2008, due to $65M loss on mark-to-market long term investment, which looks like the company’s warrants. • Gurufocus: no Phil’s gurus activity


III. Management Management: Average Growth Rates 10 Years 7 Years 5 Years 3 Years 1 Year RATING ROE - 12.3% 12.2% 17.5% 18.9% 100 ROIC - 11.4% 11.7% 17.2% 18.7% 100 Debt 0.04 years earnings 99 Rule One Management Score 99 • A very capital efficient business model/management team. 28 full time employees, with $7.5B market cap and $845M 2012 revenue. • CEO/President Randy Smallwood is one of SLW’s founding members. He is an industry veteran, with a geological engineering background and has been in a number of mining companies, including Gold Corp. He has mainly been in corporate development role, basically a deal maker. • Management team performance is solid. They have in depth knowledge of the mining industry. They target mining companies based on these criteria. • Low leveraged balance sheet: companies need to have the extra cash to sit out the tough times. Gold Corp as an example. • Low cost, high efficiency: 85% of SLW production comes from the companies in the low quartile of their cost curves • Junior mining companies that need alternative ways of funding and are willing to make deals. Hudbay/Vale as example. They have also been smart to put contingency clauses in the contract to protect their interest, in case the deal goes sour. Concerns: • Haytham Hodaly, Senior Vice President, Corporate Development, joined SLW in 2012. Before, he is a mining analyst in RBC capital and has 16+ years of experience in North America security market. Not sure how effective he is, as a long time security analyst, to be a deal maker in the real world. • CEO’s 2011 compensation of $2.9M, with only 23% in salary, the rest from restricted stocks/options. Gives incentive to drive for short/mid term stock performance. From Insider Trading, he got 150K stock options exercised at $17/share on the most recent June and sold half of it on the same day for $24. See other management team mostly sell, instead of buying company stocks • Don’t see personally passionate BAG


Evaluation Pros: • Predictable upfront cost, fixed purchase cost • High margin with GM>50%. SLW pays around $4/oz and $400/oz for silver and gold respectively. As a reference, Gold Corp’s all-in cost is $874/oz and Barrick $945/oz of gold production. • Do not have to deal with exploration/development/environmental risks


Cons: • no control over operation/production • Mining partners might go underwater and thus goes the upfront investment and future growth • Extremely volatile PM prices • Declining margin/earnings this year due to lower metal price and higher cost resulting from product mix (more gold into the mix, with lower margin)


SLW future growth depends on two factors: production volume and metal prices. Production Volume: SLW management comments that they have been extremely busy with corporate development projects. They are treading very carefully during volatile time, looking for “green flag’ among the red. Additional acquisitions is highly likely. Randy and his team is almost like our Ruler, looking for events to happen so that they could capitalize Price: Jim Rogers/Doug Casey think gold/silver price will go up in the long run. Jim says that there will probably be more corrections in near term, but “gold price should go up much higher in the next decade”. Mainly due to central banks’ money printing Events


• Mining sector: The traditionally European financiers have backed away from the mining sector, due to increased mining cost, cash flow being eaten by increased capital investment, the availability of ETFs and the general economy. The mining sector has been hammered in the last several years and it has become very difficult and expensive, especially for junior miners to find funding. However, great opportunity for SLW


• SLW: Barrick announced construction suspension of Pascua-Lama mine on Oct 31 and its CEO is forced to step down 11/8. Major setback for SLW as the mine is projected to be 15-20% of its total sales by 2017. However, I think this is temporary. Pascua-Lama is a $8.5B capital investment project and once finished, is said to be the world’s best silver mine with the most deposits and low cost. Under grave cost concern, this project is probably being put on care & maintenance and Barrick is waiting to resolve high cost issue, environmental issues but impossible to walk away from a good mine. There will be delay in project completion but not eventual shut down. Meanwhile, SLW is entitled to get the short fall volume from Barrick’s 3 other mines and could get back its upfront $625M investment if project goes sour. SLW is protected from the downside, however, the temporary impact to upside growth in near term is real.


IV. Margin of Safety • Growth rate: Analyst projection 20%. Based on SLW’s recent updated forecast, annual compound production growth rate to 2017 will be 6.1%. I did two scenarios, assuming 10% production growth (with additional acquisitions) afterward with and without Pascua-Lama reopening in 2018. Price wise, assuming price will double in the next decade to $40/oz. The projected growth rate comes out about 15% • TTM: $1.29 (updated after Q3 13 earnings). I feel the margin erosion from increased gold weight has been almost counted in now. • P/E: 30 • Sticker $38, MOS $19. • Analyst long term P/E 20, then MOS $13 • Seems price is in a channel, with $24 high and $15 low. Option candidate? 1 month put with $15 and $17 strike yield $.3 to $.11 per. • Current observation: Does not fit into “Just One” category but might be a candidate for 2nd tier positions. How about buy 1H at $18 and sell puts around $16 strike

November 06, 2013


There has been a flurry of comments discussing PE and Rule #1 and a lot of questions have arisen that have been answered with various degrees of accuracy regarding how we use PE.

Many so-called 'value' investors try to buy companies based on low PE's and high PE's.  The idea is that if today the PE is a 5 and a 5 PE is at the low end of the relative range of the business's PE, the business is a 'value' and is on sale.  That's not a Rule #1 Investing principle nor is it even necessarily correct.  

A company is not necessarily 'on-sale' by virtue of its PE being relatively low.  The relative PE provides no information about what earnings are going to be in the future, how those fit into the overall historical picture or how the TTM EPS is related to the future earnings of the company.  If you could buy wonderful businesses on sale just by doing a relative PE analysis, you wouldn't need to understand the business at all.  Life would be simple.  But low PE's can be deceptive.

A company can have a relatively high PE if Mr. Market thinks the TTM EPS is unrealistically low.  Or a relatively low PE if Mr. Market thinks the earnings are unusually high.  

And if the business is on its way to bankruptcy or a long recovery or a broken moat you could be looking at a relatively low PE and no kind of margin of safety at all.

You gotta know the business.  You gotta know the moat.  You gotta know the absolute value, not the relative value.

The only place we use PE is as a multiple of the earnings in our Rule #1 MOS valuation formula. While that might seem like a distinction without a difference at first look, its a very different use of PE than relative valuation use.  We are not determining whether the business is on sale based on a relative view of what 'low' is with regard to this company.  I use it solely as one of four inputs into the MOS analysis.  It is just a multiple of the future earnings and its necessary because no good company is going to sell for one year of earnings. Its going to sell for multiple years worth of earnings.  The right multiple reflects a good market and a solid grip on the long-term growth rate ten years into the future.  For Rule #1 investors the PE is derived more from a projection of future growth than historical PE data.

Note that we don't use the PE to figure Payback Time.  We don't use PE in figuring Zombie value. And, to reiterate, we don't use relative PE to decide something is 'cheap'.  

[NOTE: A brief reminder to those of you who are taking advanced courses that this is not the place to discuss the content of those programs nor are you authorized to discuss intellectual property publicly.  That information is for you to use, not for you to teach.  Thank you.]

Now go play.

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