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Name: Harris, aka "kuppy"

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Beer and Babes

Written by kuppy
November 1st, 2010 at 3:37 pm

As we come into the homestretch of yet another dismal political season, I thought it would be helpful to remember a simpler time, a time when politicians promised only two things; beer and babes. Naturally, I’m talking about the election for fraternity president. It was my first taste of true politics. Sure, we had middle-school student council elections, but we always knew those were hollow titles. Our student council rep couldn’t even make the food stop tasting like soap. When it came to real issues, he was powerless. Now, that we were grown up, our fraternity politicians made bold promises; beer and babes. For one week a year, we took to politics like a sport—beer and babes was damn serious business.

Maybe I should take a step back. Why would anyone actually want to be fraternity president? Who wants to babysit a bunch of miscreants? All of politics is the same—money and power. What money? 60 brothers paying dues and housing gets you a few hundred thousand dollar budget. That’s a lot of money for a 19-year old to be given discretion over. Power? The power to laud that bankroll over others. Which bands will play at parties? Where will we have sorority mixers? What community service activities will we participate in? Who should be asked to join or to leave? Fraternity presidents decide your social life. They also get to stand in the doorway of the house and greet every person who enters the parties. Let’s just say that there are certain advantages to that if you want to meet women. Quite naturally, fraternity president was a sought after position in the house.



When I look back on it, our fraternity house really was a microcosm of the real world. You had people from all walks of life with all sorts of interests. Since there were never more than four score of us, we were unusually close with each other. At times, we’d have a fanaticism about the fraternity akin to some cult groups. Yet, after a while, I began to notice certain rules of thumb. When there were chores to do, twenty percent of the people would do eighty percent of the work. Sixty percent of the people would do the rest if you nagged them and the last twenty percent would generally retard any progress we were making. We would have meetings about increasing participation. We would embarrass people who weren’t pulling their weight. We would even threaten to kick people out of the house, but inevitably people would get weak kneed. When it came down to it, even if someone was a complete screw up, he was still our screw up. He was one of us. We would always take care of him and justify his ways. At the time, I thought it was the impact of alcohol and adolescence. I’ve come to realize that these same percentages hold true amongst people everywhere. Some people are just lazy or destructive. You cannot goad them into doing well for the group. If 60 guys who were family couldn’t make a dozen guys pull their weight, what chance does a society of millions with minimal social coercion have?

The election for fraternity president was like most other election processes. To start with, it rarely attracted the most qualified brothers. Those who should have been president were too busy with school, internships or those responsibilities that make up the real world. You would have to look down the hierarchy a bit. I’m not saying we ended up with bad presidents, but we could have had better ones. It always seemed to attract those with strong egos but little to show for it—the ones who knew what was right for everyone—even though they could barely manage their own lives. I guess that is all fine and well. How can someone screw up ordering kegs? If a little money went missing from the bank, it wasn’t the worst thing. It was an early introduction to political personalities.



Suddenly you would get a call from a brother you had rarely socialized with. He was now your new best friend. If he wants to buy my beer, I’ll listen to whatever crazy political theories he has. It always was the same. The last president screwed it up, stole money and was generally lazy. The new guy has a special vision where beer and babes will magically appear at the house. I wouldn’t even have to contribute to the cause. Someone else would do it all. Who? Not my problem. It was always seductive—something for nothing. Even if I knew that wasn’t how it actually worked. I’d drink my beer, nod my head and tell him that I’d consider voting for him. You would repeat this process every night for a week until you had heard out all the candidates. In the end, the pitch was always the same. “Beer and babes—I’ll figure it all out, if you only let me be your leader.”

When it came time for voting night, it was a sordid affair. Copious alcohol. The give and take between the candidates and the audience heckling them. A good candidate debate involves both verbal and motor skills. You wouldn’t want a candidate knocked unconscious by a stray beer bottle. It was some of the best political theater possible. Finally, late into the morning, we would crown our new king.

After coronation, suddenly the promises would seem empty. In five years, things mostly stayed the same. We had good and bad presidents, but I never noticed an increase in babes milling around the house. In the end, the politicians served to allow a framework where we could all enjoy life. They kept the school off our back for hazing and overdrinking. They made sure there was always a cold keg of beer at home. Rent on the house was always paid—rarely on time, but it was paid. We had a good functioning system at the fraternity. It was a tradition passed down for a hundred years. The key was not screwing it up. Even the bad presidents could not screw it up. There were too many eyes upon him. Too many brothers who would take him aside and tell him he was making mistakes. Checks and balances really did work.



When I think back upon it all, I realize just how similar fraternity life was to real life. Politics will always be politics. Even your best friends will lie to your face to get voted in. They will promise you something for nothing and then hope that they can get away with it. In the end, they will find a way to take your money, spend it on their pet causes and think that you are content. Real problems are too divisive to be fixed.  At best, they get patched up a bit and kicked down the road for the next guy to deal with. That’s politics.

It didn’t have to be this way at the fraternity. These weren’t distant personalities on television. These were close friends. We bonded together over late night hijinks. We were close, but one week a year, they were politicians and we were voters. Unfortunately, politicians are all the same.



Next week we go to vote. There are a bevy of serious issues before us. The country is insolvent, the Federal Reserve has gone hyperactive and the regulatory structure is metastasizing in a malignant way. We have two unfinished wars, massive unemployment and the best our congress can come up with is an investigation into steroid use in professional sports? It is time for serious candidates who have serious solutions. We need candidates who are willing to fix the obvious problems, even if it means that they will never get re-elected. We need candidates who are not beholden to the special interests that have paid for them. What we really need are candidates with real world experience in the private sector, rather than career politicians. I don’t know why, but I feel like on Tuesday, I will once again be voting for beer and babes. The candidates are twice the age of my fraternity brothers, they should have grown up by now, but nothing has really changed.



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Mongolia Part I (An Overview)

Written by kuppy
September 23rd, 2010 at 12:59 pm

When I was younger, if I wanted to go someplace, my mother would complain that it was in Outer Mongolia. In reality, it was a 30 minute drive, but the point still survived—it was far away. Well mom, if you’re reading this, I am ACTUALLY in Outer Mongolia. You were right—it’s a long way from Long Island—25 hours by plane to Beijing and another 35 hours by train.

The term ‘Outer Mongolia’ has entered the lexicon referring to something distant and somewhat strange. While correct, it may be time to rethink things. Mongolia is a charming place with some serious potential on the investment side. I came here over a week ago and expected to stay a few days before continuing on. I’ve now extended my stay twice and three of my fellow travelers have moved on without me. I don’t know what it is about Mongolia, but I want to learn more. It is a nation undergoing rapid change and that’s always good for investment—you just need to figure out where to invest and how.



Zipping around from one meeting to the next…

Despite its size, Mongolia is a nation of just under 3 million people. Most of the land is arid and good for little beyond raising livestock. Of course it does help that Mongolia has had surprisingly good success in exploration for minerals. It seems that wherever they drill a hole, they find something interesting.

In 2006, Mongolia imposed an excess profits tax on mining companies. Overnight, companies with significant deposits collapsed—I still have the scars from Western Prospector. Needless to say, mining exploration slowed dramatically and most investors forgot about Mongolia. In August 2009, the windfall profits tax was repealed and exploration companies have flooded back into Mongolia. Even more significantly, giant deposits like Oyu Tolgoi have finally been green-lighted to move forward. This will be a lot of copper moving through the Mongolian economy over the next few years.

I’m not a huge fan of mining as an investment, but a mining boom is usually good for the broader economy—that’s why I’m in Mongolia now. It isn’t easy, but I want to figure out how to invest in Mongolia. Like any frontier economy, my first stop was the largest broker in town, followed by a trip to the stock exchange.



Mongolian Stock Exchange

Mongolia was a centrally planned Soviet satellite until 1991. When the economy was privatized, vouchers were handed out granting ownership of government companies that were subsequently privatized. In total, 475 companies were privatized and 1.3 million citizens became shareholders. While the intent was quite noble, in practice, a few clever individuals were able to buy up the Mongolian economy on the cheap following privatization. Most companies now have one or two large shareholders who control the majority of the shares with a small sliver of shares constituting a free float. There are now roughly 325 publicly traded companies, but only two dozen companies have market caps greater than USD $1 million dollars. This is a pretty narrow field to choose from, but I’ve spent the past week visiting with most of them.

Two problems have quickly emerged. Disclosure is abysmal. Some CEOs were even confused why we were visiting with them. You literally have to beg the CEO for a balance sheet. A few of them simply refused to give me their annual reports—even though they’re legally supposed to be filed with the exchange. When I found companies I wanted to invest in, there was no liquidity. Bid & Ask spreads are frequently in excess of 10%. If you take out two sizable coal companies, total daily volume averages roughly USD $25,000 a day. No wonder the trading day is only 90 minutes long.



Another fast paced day at the MSE. Half the trading posts are empty. Notice the trader in the lower left playing video games.

That said; management teams were generally quite willing to spend hours showing me their facilities and answering all sorts of detailed questions. Most importantly, it’s exciting to learn that you’re the first investor to visit the factory in over a year—it makes you think that you might just discover something that has been passed over.

I’m always amazed at how entrepreneurs can triumph over adversity. These site visits are testament to that. Despite being starved for capital, many of these Soviet era factories are still competitive in the world market. Nothing makes me believe in capitalism like seeing a 50 year old machine held together with duct tape and twine. It makes you appreciate how much Western businessmen waste because they always want the newest gadgets. True businessmen can keep a fully depreciated machine going for another thirty years.

If you want to improve your ability to analyze a business, you need to visit hundreds of similar businesses. You need a mental hierarchy of what a factory should look like and how capital allocation is approached. Every business has its quirks, but after visiting hundreds of these, you can quickly tell who wastes money and who you want to invest along side of. I don’t know how to describe it, but when touring a facility, you can just feel employee morale. You can see those little things that show that people care. You can feel positive momentum. You can feel if the place is having trouble. Eventually you can master site visits, but you have to visit hundreds of facilities to get that 6^th sense. Mongolia has been a learning experience. The brewery is modern. I’ve been to plenty of those. I’ve never been to a cashmere producer. What about a dying business in desperate need of capital? How do you evaluate a Soviet style factory that is collapsing around you? Do you value it on replacement value or what it will cost to fix the collapsed walls? I still don’t know why my friends sent me, the vegetarian, to the meat production plant. I have lots of pictures, but that is for part II of Mongolia.



Heading down the hallway in a facility, you never know what you’ll learn….

How do you invest in Mongolia? Ten days later and I just don’t know. Mongolia is booming—that much is for sure. Taxes are low, regulation is non-existent and everyone I’ve met is an entrepreneur. How do you play the boom? You can’t buy the stock market—it barely trades. Even if you get a stake, how do you monitor it? You literally have to go to the factory to get the financials. Do you know anyone who speaks Mongolian that can translate them for you? Many of the companies are not cheap either. The best alternative I’ve found is to open a bank account and buy some Mongolian Togrog. You get a 14% interest rate and I feel strongly that the currency will appreciate over the next few years. These aren’t the sorts of returns that I normally look for, but it’s a start. I want to at least get some of the currency appreciation while I search for opportunities. There is a lot of money to be made in Mongolia—I just need to figure out how.



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Riding The Trans-Siberian Railroad

Written by kuppy
September 13th, 2010 at 11:42 am

I’m writing from the Trans-Siberian Railroad somewhere in southern Mongolia. I left Beijing a day ago and still have more than half a day on the train before arriving in Ulaanbaatar, Mongolia’s capital. I could have saved 30-something hours by flying, but I’m here to learn more about Asia. You cannot see anything from the air. I’ve actually seen a lot in the past day to modify my perceptions of China. Businessmen in a hurry take airplanes. Whenever I can, I chose to go at a slower pace and take it all in. You never know when something will make you question your thinking. Besides, after a whirlwind trip through China, it’s nice to relax a bit. I’m surrounded by stunning scenery, close friends and all the beer I can drink. I’m a very happy hedgie.



Once you leave the more polished Beijing, you start to see the ‘other China.’ There are immense swathes of extreme poverty. There are shantytowns and mud huts along with plenty of Soviet style housing in various stages of decay. There are picturesque farming villages and noxious industrial towns. You can literally see the pollution clouds for kilometers before you can see the first buildings of the next city. If you told me that all of China qualifies for superfund status, I’d agree with you.



The pollution is intolerable. There are red, purple and green rivers. Some rivers have multiple colors depending on where the polluting factory is upriver. There are clouds of orange and purple smoke over some towns, and black smoke over others. Brand new condos are rusting from the acid rain. As I neared the Mongolian border last night, I saw a shadow creep across the dining car table. It was a bit startling. I literally have not seen the sun since I left Toronto.



Even more amazing is the blatant misallocation of capital that I see everywhere. There are thirty story office buildings in corn fields and bridges over rivers that do not link up to any roads. There are five lane highways with only a handful of cars and there are half built condos decaying next to belching smokestacks. I cannot make sense of this. You read about it and even see pictures of it, but until you see 10,000 vacant condo units in a town of 500 people, you find it difficult to believe. After nearly two decades of rampant growth, it’s inevitable that there will be misallocations of capital. The longer a boom lasts, the more bizarre these misallocations are. The Chinese system of government intervention likely has exacerbated the problem.



One of the more remarkable things about the Chinese economy is that it is nearly impossible to determine where the public sector ends and where the private sector begins. Every bureaucrat seems to have a different view on their responsibilities. The government water company may literally be in the semiconductor business and the government semiconductor business may be trying to deliver water. It’s baffling. There is a strong feeling that unless you have relatives in the government, you cannot advance economically. It seems that corruption is so ingrained in the culture that it can never be expunged. Everyone complained about how corruption stifles growth.

A lot has been written about a Chinese bubble of sorts. I’m not sure what to think. It’s hard for any Westerner to really comprehend what is going on in China as it is so different from our system of economic growth. For instance, most Chinese will readily admit to you that their banking system is insolvent, but then again, it has been insolvent for two decades now and it hasn’t really mattered. The funding mechanism for most capital projects is a Gordian knot of IOUs, state corporations and shell companies theoretically comingled with bank financing. It works until it doesn’t. Private companies are routinely cudgeled into funding projects with no economic return. Businessmen go along with it because they fear the consequences.

It’s obvious that there has been a tremendous misallocation of capital, but that is not exactly synonymous with a bubble. In an economy with double digit growth, a bit of waste is to be expected. What are a few million vacant condos in a multi-trillion dollar economy? I have always thought that to have a bubble, you need multiple layers of debt to prop it up. In China, you need a sizable down payment to buy a new condo. If you want a second or third one, you need to pay for it almost completely with cash. Property development loans have different rules—is it a corporation, a bank or an individual who is personally liable if there is a default? What if it is all three and they are all fronts for different government agencies? Is that much different from how low income housing is financed by our own government? I think it is naive to look at rampant construction or empty office towers and unilaterally declare China to be a bubble.



What is a bubble? A bubble is an economic event that overwhelms rational thinking forcing sane people to act irrational. It isn’t a few people making bad decisions. A bubble is when an economic trend pervades an economy and changes how people function within the economy. It is a level of action and thought that is all encompassing to those who are engaged in it and most of the relevant population eventually becomes swept up in it. The main thing about a bubble is that an outside observer can spend a few minutes investigating it and conclude that everyone has gone mad. There aren’t half bubbles or tame bubbles. Either it’s a full blown insanity induced bubble, or it’s not. It should be obvious.

I lived in Miami through the great property bubble of the last decade. I saw things that were stupendous. I watched banks lose all sense of restraint and offer credit to anyone. I watched as the 1,600 foot house I rented was bid up to over a million dollars by my gardener.  My dog was preapproved for a HELOC by WaMu. I saw businesses form to service this insanity. At one time, there were 24 real estate brokerage offices within five blocks of my condo. I saw mortgage brokers make a million dollars a year refinancing loans to people who could not possible afford them. Across the street from me was a 24 hour mortgage refinancing outfit. I used to joke that you could swipe your deed, round the corner and pay your bar bill. Near the top, people would camp out for weeks to be first in line to buy pre-construction condos. By noon that day, they’d flip them for a $30,000 profit each. To an impartial observer, it was obvious; Miami was engaged in an epic property bubble. The people were drunk with playing the property ladder game. The economy of Miami was increasingly fake. When it all collapsed, there was quite a lot of collateral damage.

Having witnessed one bubble, I feel I can recognize another one. Strolling around downtown Beijing, I saw a single real estate office. There was no one trying to peddle no money down mortgages that reset in 18 months. I did not see real estate agent sandwich boards trying to get you to buy a unit during your lunch break. A surprising number of individuals are simply priced out of the market. Many purchases are all cash. This doesn’t feel like a bubble.



All real estate is local. It’s rare to have a national real estate bubble. It’s nearly impossible to have one without massive debt. Sure, there’s been a huge run-up. Sure there’s a lot of fluff in individual markets. I’m nearly certain that there will be a severe setback at some point. However, economic trends have a way of staying in motion for longer than anyone can imagine. I sure wouldn’t want to guess the timing of this setback. I feel confident that there eventually will be a Chinese property bubble, but it may be another decade in the future. I don’t want to be long either. China is too hard to figure out. There is clearly something wrong with the capital allocation process, but there’s so much still going right that I don’t think it will matter yet. Those who anticipate a complete collapse seem to be missing something. A setback can happen at any time, but that’s a buying opportunity. I sure wouldn’t want to short China. China will be in a bull market for decades. I want to find ways to profit as China continues to grow.



Foreign Markets | Comment (1)

Got Gold?

Written by kuppy
August 12th, 2010 at 11:11 am

Got Gold? I’m in Invercargill, the southern tip of South Island, New Zealand. I have one week to go before finally heading home. I want to see as much as I can. I’m supposed to be escaping the next data point. However, I cannot escape the fact that there’s a tempest brewing and it’s about to make landfall.

The Euro is imploding. Despite protests to the contrary, the ECB is about to embark on an aggressive debt monetization plan. They have no choice—otherwise the whole charade will collapse. Britain may be in even worse shape. On Friday, we learned that Hungary may be in trouble as well. The difference is that Hungary has no adult supervision. They can just print money. At least, at the ECB, they pretend to be prudent. Hungary is threatening to print or default or something else of that nature. They really don’t know what they are going to do. All they are sure of is that they have a problem. They have too much debt.

In the States, we are blissfully ignorant of our own out of control fiscal issues. Are bonds actually rallying? Did no one learn anything from the housing bubble? You cannot loan money to people who do not have the ability or desire to pay you back. While Europe pretends to implement austerity measures, in the US, our politicians are trying to find creative ways to piss away money they don’t have. Free health care anyone? We’re only a year behind Europe in this rolling crisis. With dismal employment statistics and an election in November, no politician worth his campaign contributions will sit by idly. Get ready for Bailout Round II—Bigger! Bader!! More Corrupt!!! How to pay for it? What choice will our government have but to print more money as well?

For me, this has all been obvious for quite some time. You could see the crisis building. You could position yourself. I feel that most people are unsure what to do. You can see it in the trading action. It’s erratic, with huge swings as people try and react to the various political posturing. I see it in the emails that I get from friends. People don’t know what to do. They feel we are in uncertain times, and they don’t know what asset class to own. Equities will be impacted by inflation, regulation and weak growth ahead. Real estate is still going down—there’s inventory everywhere. You can’t own cash because you know it will be debased. The Pavlovian response to fear has been to buy bonds. To me, those are just as bad as owning cash. I think that, with a jolt, the whole planet is about to discover gold—or rediscover it, actually.



For millennia, gold was money. It was the no risk way to store wealth. Over the last few generations, the Western World has allowed governments to decide what constitutes money. They were never good stewards of the currencies they created. However, a slow and creeping depreciation is easy to ignore. What governments of the world are contemplating now cannot be ignored. The US expects trillion dollar deficits for the next decade. Are they on glue? Does anyone think they can even hit those deficit targets? Europe doesn’t even really have a plan. They are making it up as they go. Greece set the precedent. They spent themselves broke and asked for a bailout. What reason does Spain have to even try and balance the budget—they want the Greece treatment. Poor Ireland—they actually went down the austerity road. They tried to do the right thing. Now, they’ve been called upon to bail out the Greeks who didn’t even make an effort. Will politicians ever again risk re-election in the name of austerity? Or will the new rallying cry be to spend the money before the Greeks do? We now know the ECB stands for European Commission for Bailouts. They’ve shown their hand.

For the past decade, gold has slowly crept higher. One by one, people have awoken to its charms. It’s not really an investment per se—It’s an escape from government imprudence. You don’t own gold because you expect it to do remarkable things—you own it because you are scared of your government doing remarkable things. Think of gold like the credit rating of world governments. It’s the CDS you buy if you don’t trust the politicians and their stewardship of the currency.

What is unique about the current crisis is that it is so global. When Argentina imploded last time, it didn’t impact me. If I were Argentine, I had a hundred currencies to swap into. Almost all of them were better than the Peso. We are now witnessing a world-wide currency death spiral. Clearly some are circling the drain at a slower rate—but why try to guess which is least bad. For the past decade, shrewd investors have hop-scotched from Dollars to Dinars, from Krona to Lira and back again. Now they own gold. When you read through the list of outspoken gold owners, you realize that you are staring at an All Star Team of investors. Every day, gold attracts new adherents amongst the brightest of investors. Get ready for the remora.



For most of the last three decades, gold has been a shunned asset. If you mentioned it at an investment committee meeting, you got strange looks. Potentially you got fired. Career risk is a very powerful investment deterrent. With the All Stars heavily invested in gold, you can at least talk about it. If you look at past investment trends, the asset in question slowly crept higher as the smart guys got positioned. Then, there is this cathartic moment. A few brave fund consultants mentioned it. A few funds bought, then a few more. There’s safety in numbers. Soon endowments and pension funds are tripping over each other to pile into an asset class they do not really understand. From technology to forestry to infrastructure to CDOs cubed. Gold will be no different in this regard.

Gold will be very different in two significant ways. First, retail investors will play along. You can just feel them joining in. The daily swings are wider now. The volume is up. Now the chart is starting to look strong. They never buy the first breakout. They buy after it’s been in motion for a while. This could get wild. The world produces 80 million ounces of gold a year. That number is dwarfed by the number of investment accounts in the US. If retail investors get involved in a big way, there just isn’t enough supply to go around.

Even more significantly, you could sit out the technology bubble—I mostly did. You cannot sit out the  coming gold bubble. If you do, you could lose everything. Fear is a very powerful motivator. Gold is still seen as an investment class. Soon it will be seen as an antidote to fear. If your government is defaulting, do you want to buy puts, or actual protection? Think of gold as a fear gauge. In just a month, fear of sovereign defaults launched the VIX from the mid teens to the high 40’s. You can’t really capture VIX—you can own gold.

This has all been a long time coming. Suddenly, I think it matters. I talk to people all day. People, who derided me for talking about gold last year, now want to know more. The chart increasingly looks pretty. A move over $1250 could be explosive. I cut back my gold exposure before going on vacation. I felt naked without it. I recently bought it back and then some. I paid up a few dollars. That’s fine. I’m using a stop on what I rebought—just in case. I think the big move is imminent. Got gold?



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The Macro Trumps All Else

Written by kuppy
August 12th, 2010 at 11:09 am

When I read Security Analysis, the investment bible by Graham and Dodd, I am transported to a past era when investment life was easier. You could focus your energies on finding companies trading at less than fair value. You focused on the balance sheet and the income statement. The economy was static. It grew a few percent a year and economic life was rather uneventful. There were panics and crashes, but these were usually confined to certain industries like railroads where there had been overexpansion. Most companies were immune to these economic disturbances.

Graham and Dodd could look at the Dollars on the balance sheet and feel confident that they would not be marginalized by the next round of quantitative easing. They didn’t have to worry about the fiscal sanity of their government. It was just taken for granted that the US government finances were solvent. Governments always enacted arbitrary laws, but no one had to worry about wholesale regulatory change every time congress was in session. Regulatory regimes changed gradually—if at all. Liabilities were what showed up on your balance sheet. An investor did not have to worry about wolf-packs of ambitious lawyers descending on every company in crisis and exacting an extra pound of flesh. Tax rates were constant enough to allow for long term economic planning.

Prudent investors demanded a margin of safety before investing in a company. That margin of safety protected you from all of the above and still left plenty of room for upside. That is because most of the risks to a corporation were quantifiable. This let investors focus on their companies and ignore the newspapers. The macro world was largely irrelevant. You bought great companies at reasonable prices and waited until the share prices appreciated. World events simply didn’t matter. The business cycle only barely mattered. Buy cheap and let compounding work in your favor.



Now, investing seems to revolve around just one factor. What will the government do next? Which businesses will they clamp down on? Which will be subsidized? Who will get the next bailout? Will various tax subsidies be increased or eliminated? What new laws are in the mix? How can you anticipate all these changes?

There are no constants any longer. You cannot rely on anything. Everything seems perpetually in flux. The world economy is once again imploding. Will it be allowed to collapse? Unlikely. When will the next bailout be announced? What shape will it take? Who will the winners be? That really is the question that everyone demands an answer to. When is the next bailout? Bigger, Badder, More Corrupt—that’s our country’s new mantra. Which companies will lobby the right congressmen and be included? Which will be destroyed?

How do you invest in an environment like this? Say you look at a company. Do you want a business that’s economically sensitive—or one that has a strong and liquid balance sheet? Are you betting on them printing just a little money—or a full out Weimar style debasement? What’s the expected tax rate? It’s going up. That’s for sure. Will carbon taxes impact my businesses? What about changes in health care legislation? There are dozens of issues currently debated in congress. They all impact businesses.

Then there’s the whole wide world outside of the US. A generation ago, most businesses were regional. You could ignore what happened in China. Now China is the lynchpin of global economic growth. How can you decipher China? It’s monolithic. Will the Euro survive? Will it be debased or discarded as the component nations go their own separate way? Imagine the world’s largest economic bloc simply repudiating their currency? How do you invest for that? The whole investment climate is a daisy-chain of binary outcomes that are mutually exclusive. The middle ground seems vanquished.

These are the issues that I tango with daily. I invest in small businesses. Over the past decade, I’ve made a lot of money doing this. However, it continues to become more difficult. The rules change every day. A decade ago, I mostly ignored the macro—now I spend most of my time analyzing it. Small companies are illiquid and volatile. That has never bothered me before. Now I increasingly want more liquidity. I want the ability to react to the newest crisis. I am not a trader—now I have no choice. Every morning, I have to throw out all the old rules and start again. The macro events rule—businessmen are impotent.



I want to buy great businesses and put them away for years at a time. No longer can you trust that a dominant business will remain dominant. It won’t be a competitor that destroys the business. It will be an errant politician or a bad hedge on their Euro exposure. Volatility is destroying real businesses. Is every company now expected to hire whole trading desks to manage various exposures? How can you expect the most basic elements of a business to remain stable when the currency itself is increasingly detached from reality?

I have no problem navigating economic booms and collapses. That’s part of investing. What I strongly object to is the government increasingly inserting itself into the economy. You cannot manage an economy based on the applause meter of 24-hour news programs. You cannot manage an economy. Period. It is not debatable. Unfortunately, our government continues to corral the various market forces and lead them towards whatever myopic utopia politicians think will be needed for reelection. This creates economic anarchy. If you could run an economy based on erratic rules and crony capitalism, Argentina would be a world power. If you could print your way to prosperity, Zimbabwe would be a world banking hub. If you could command the economy to heed you, the USSR would still exist. I’m scared that world leaders have taken all the worst lessons of the last generation of economic thought and bundled them together into some sort of economic doomsday machine.



I apologize for this stream of consciousness. I’m frustrated. For my whole career, I believed that a great business with a strong return on capital would outperform all other asset classes. What if that isn’t true? For the past three years, only the macro has mattered. Going forward, what if the macro is ALL that matters? What if you have to rapidly jump from asset class to asset class as the rules change weekly? I hope this isn’t the case. However, it is time to consider that possibility.

In an age of increasing uncertainty, market multiples will collapse. Investors will demand an even larger margin of safety. Earnings will become increasingly volatile. Investors will focus more and more on the balance sheet. Unfortunately, most companies trade at many times book value. Some of the largest companies in the US have negative tangible book value. I expect to see market multiples continue to decline. Why would you risk your capital in uncertain times when you can just buy gold and ignore all the chaos around us? That’s really what I wrestle with the most. Gold will continue to go higher over time—if only because world governments seem determined to act foolish. Can you find companies that will outpace the price increase of gold? It will be difficult. The macro forces arrayed against business are just that extreme. You can no longer ignore the macro. The macro outweighs all else now.



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The Kuppy Plan (How To Fix Unemployment)

Written by kuppy
August 12th, 2010 at 11:08 am

Dear President Obama,

Back in March, I wrote to you with my Kuppy Plan for the housing market. After yet another dismal jobs number, I thought it was time for a Kuppy Plan for unemployment.

Clearly our country is in a tough spot.  We compete in a world economy. Jobs gravitate to places which offer the lowest costs of doing business. There are places where workers are paid a bowl of rice a day. We may no longer be competitive in certain activities, but that should not preclude us from trying. Silly regulations and high taxes mean that America is no longer a preferred place for multinationals to do business. We will not have job growth until we fix this.

The Hippocratic Oath of governance should imply that your first duty is to do no harm. This health care regulation is bad enough. Now you are scaring businesses with talk of higher taxes and increased regulations. Are you serious about this carbon tax stuff? Do you think China cares about carbon? They can’t even see the sun in Beijing because of all the pollution. Are you trying to destroy what’s left of our economy? That whole BP ‘shakedown’ thing may have played well with certain voters, but how do you think it looks for foreigners wanting to do business here? If you want to create more jobs, you need to create an environment where companies want to invest in the future. For decades, we have repeatedly persuaded companies to move work overseas. Your policies seem to only accelerate that trend.



In general, government intervention in any activity makes that activity less efficient and more expensive. There are those who think government solutions can fix our labor problems. Maybe our labor problems are the result of too many ‘government solutions.’

There is this fellow, FDR, whom you seem to idolize. Upon taking office, he faced the same problems that you do. I see the similarities. He chose to tinker with the economy and ended up turning a bad credit liquidation into a decade long depression. He put the ‘great’ in great depression. Please don’t repeat his mistakes.

There are those who claim that FDR fixed the depression. They will suggest that we create ‘job programs.’ They will point to the supposed success of FDR’s alphabet soup of make work programs. They will point to regulations that supposedly tamed the vicious forces of capitalism. They think that if you plant enough trees and give enough rousing fire-side chats, you can miraculously cure our economy. Please ignore their siren call.

There are those who feel that FDR’s programs neither helped nor harmed the economy. Rather, they were a patch to hold things together, until World War II somehow rescued us from the depression. How can government spending on bombs make people want to buy new cars? You must be smart enough to see through that ruse. The war did not cure the economy.



Here’s my view on the depression. I’ll be blunt. The economy only revived when FDR finally died. When he was no longer able to tinker with things, the economy was again freed to do what it would naturally do. When the war ended, Truman wanted to continue with Roosevelt’s idiotic schemes. Fortunately, our congress had enough of these policies—our economy has never looked back.

I speak with the management teams of small businesses daily. These are rapidly growing companies—the bedrock of our economy. Normally, they are hiring. Now, they’re not so sure. No one wants to hire and train people only to let them go a few months from now. Entrepreneurs can cope with business cycles. An uncertain regulatory environment scares companies into inactivity.

No one wants to risk capital on growth only to see income taxes rapidly increase. Why take risks without reward? Your administration is mostly made up of academic types who have minimal real world experience. Trust me; this is how it works in real life. I talk to these CEOs all day long. I am the owner of a small business myself. No one is hiring. We are scared of a government gone mad.



It doesn’t have to be this way. You still have over two years left to your presidency. You can still go down as one of our country’s greatest presidents. Here’s what you need to do:

1. Stop bailing stuff out. Stop interfering with the normal liquidation of malinvestment. Stop playing with the money supply. Let the free market do what it will do.
2. Institute some version of a flat tax that gets rid of all the special deals that various industries now enjoy. Use the revenue increase to lower the income tax rate for everyone.
3. Institute term limits for all senators and congressmen. Our founders never intended for governance to be a career decision. It was meant for successful individuals to practice after they retired from their real jobs. If politicians stopped focusing on getting re-elected, they’d be less concerned with offending voter groups and instead focused on making the hard decisions our country currently needs.
4. Clean up the tort system. Frivolous lawsuits are adding to the cost structure of every company in America and are directly responsible for companies refusing to do business in this country.
5. Stop scaring businesses with new laws and new taxes. Instead, focus on making America the low cost and preferred place to do business. If you offer businesses a higher return on capital, they’ll have more money to invest in growth and job creation.

I’ll admit some of these points may be unpopular. Some of them will be difficult to implement. Great leaders look out for the long term—even at the risk of re-election. Both parties are to blame for the crisis we face. This is your chance to fix things.

President Obama, it’s not too late to be a hero.

Sincerely,

Kuppy



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