A small post on Spanish markets

In the bestselling book 'The Little Book that Beats the Markets', Joel Greenblatt describes a 'magic formula' for selecting stocks that will in the long run beat the index. The idea is that high quality companies become undervalued and the formula allows the investor to finds these companies and put together a 20-30 member portfolio of the highest ranked stocks, which is rebalanced just once a year.
James Montier subsequently published a paper 'The Little Note that Beats the Markets' where he applied the magic formula to the US, Europe, UK and Japan markets from 1993-2005. The results shows the Little Book strategy handsomely beats a 30-stock equal weighted index in all regions with lower volatility. Interestingly he reports replacing the two value metrics used in the formula EBITDA/EV and ROC with the more standard Earnings yield (E/P) and ROA also beats the indices but with lower returns.

Out of curiousity I have applied this modified magic formula (E/P & 5-year ROA) to the 39 mid and large cap companies (>$2Bn market cap) in the Spanish stock market.

What follows is a list of the top 10 'high quality' stocks that have a low valuation.

I will not go into the details of each company, that is not the point of the Little Book strategy. The portfolio is constructed purley on the output of the formula and not subjected further to 'active management' by the investor.

However, we can see two companies on the list are in the construction services and another in real estate operations, which I assume is due to the collapse in Spanish property prices. Buying these would be a bet that the markets are overly pessimistic and property prices outperform expectations.

Indra Sistemas looks interesting as it is a computer services company and it's not obvious at first glance why the current finanical 'crisis' in Spain would affect this stock. To see if it is being unfairly undervalued let's compare it to its peers in Germany, France and UK

Indra clearly has a far lower P/E ratio with a significantly higher dividened yield and a similar ROA. Does this mean it is of simliar quality to its peers but undervalued?

Of course, on further digging there may be a very good reasons as to why Mr Market is not keen on this stock thus making it a 'value trap'. However, it does pose the question if some Spanish stocks are being unfairly punished and being dragged down by the market as a whole and macroeconomic news.

Happy hunting!

European Bargains?

This table shows Global Shiller CAPEs (Professor Robert Shiller's cyclically adjusted price earnings) from around the globe.The lowest valuations lie in europe and with those countries being affected by the sovereign debt crises e.g Spain, Italy, Belgium.

There must be some undervalued bargains to be found in these markets? If I was to go loooking I'd be interested in big blue chip companies with business at least outside the holding country and ideally outside europe. The risk is these countries have to leave the euro (or form a 'weaker' southern euro) resulting in a devaluation and a big loss in the stock prices. That's why I think the company needs to have profits from overseas to mitigate this currency risk. Perhaps there is another way of doing it?

I'm sure you've all heard of 'be greedy when others are fearfull' and there seems to be some fear in the european markets at the moment but I'm waiting for some more.....at least until Greece is pushed.

I want too see 'end of the world' headlines in the regular newspapers before I move!

I've just checked and neither Avanza or Nordnet sell individual shares in these countries. It seems the only avaialble option is to buy the iShares MSCI tracker ETFs for each country.

When would you become interested in investing in PIGS stocks?

Seven Sins of Fund Managers

An interesting paper by value investor James Montier titled 'Seven Sins of Fund Managers'

The 'deadly' sins are 

1. Forecasting
2. The illusion of knowledge
3. Meeting companies
4. Thinking you can outsmart everyone else
5. Short term horizons and overtrading
6. Believing everything you read
7. Group based decisions

I am still reading this paper so will write a bit more in the future but suffice to say these sins are not just committed by fund managers, I think we all have done a few of these (and more!).


Next time your read a stock analysis (or do one yourself) double check how much forecasting is involved. The greater the extent of forecasting and predicting the future e.g. sales, earnings growth,  the more likely you are paying for those expectations. Hence, the greater the risk and dare I say it 'speculation' in the purchase!

Anyhow, being aware of these pitfalls may help you improve your investing decisions.

Value Investing

A quick one today, so it will be a simple link to an interesting clip of Whitney Tilson, fund manager of 'Tilson Mutual Funds'. For those of you who have never heard of him (I hadn't until recently) he is a value oriented investor, both long (e.g. BP when it was tanking) and short (e.g. Netflix but got burnt a couple of times on the way up) , and a 'fan' of Berkshire Hathaway.  The clip is a few years old now but gives a very interesting insight into the thinking behind these type of big players.

Something to remember, value oriented research is also used for the dark side i.e. shorting!
I've not done it myself yet, it's a little bit too challenging psycologically for me to run against the crowd and short a momentum stock. Plus I've yet to learn the tactics required for such an approach.

My Market Beliefs

I will start with a quote 

"You do not trade the markets. You can only trade your belief of the markets" - Van K. Tharpe

(Possibly more about his books in later posts.)

Anyway it's an interesting concept and I thought I would state some of mine to give the reader an introduction to myself and my investing beliefs for the moment at least, they are constantly evolving!

• Markets on the whole are efficient. That is to say the share price is a fair reflection of all the information that is known for that compnay.Of course I said on the whole! There are times when the price can significantly deviate from the fair or intrinsic value. These can be periods of high emotions such as fear (e.g. financial crisis) and greed (dot.com boom). The mark of a talented investor is to recognise these moments, fight the emotions and go against the crowd (I certainly do not claim to be describing myself!).

• Forecasting is a fools errand, especially in the world of macreconomics. Studies show we are just terrible at predicting the future as we are prone to overoptimism, overconfidence and extrapolate short term events into the future. Everytime the Bank of England/Riksbank give an interest rate or inflation prognosis its probably no more accurate than the toss of a coin!

• Portfolio management and position sizing are the foundation of all sound investing strategies. Spreading your risks/returns over several asset classes (such as cash, stocks, bonds) is far more important than finding that one magical stock that will increase in value by 100% (although we all want one of those!). Once your allocations have been defined then position sizes will control how much you invest in one company (the norm seems to be 1-4%).

• Every trade is a battle to control and understand the emotional contribution to the decision making process. If you let the emotions override then you will end up buying high (when everything feels deceptively positive) and selling low (when the negative feelings come) - a sure way to get crushed in the markets! It's not easy, I'm still trying to work it out myself but some traders approach the problem by formaluting a plan before they start the trade and then stick to it whatever inbetween.

• What moves share prices is the revelation of new information to the market that was previously unknown. This is why insider trading or a particular insight can be so valuable. Examples of this include unexpected earnings (higher or lower),  merger news or even CEO matters; some of these may be referred to black swan events. However, this reactiuon to new information can be used to our advantage. If there are very high expectations in a company (this usualy results in a high p/e ratio) then future earnings growth is 'baked' into the share price. Higher than expected earnings will rarely shift the price much, it's already flying high. However, lower than expected earnings will come as a shock and the price will drop when the news is digested by the market.