Monday, October 30, 2017

Book Review - "Roadmap to Success – Inspiring Journeys of Ten Iconic Coptic Leaders"

In my research and investing I stress three things: people, structure, and value.  I look for companies that are controlled and managed by quality people, have corporate structures that align minority and majority shareholder interests and trade at valuations that are below fair value if not outright cheap. This post is about people - successful Egyptians who happen to be Christian.

I never gave the Coptic Christians much thought. To be honest the only reason I became interested in the book is because there is so little information on modern Egypt. There are tons of books on ancient Egypt, the pharaohs and mummification, but virtually zilch on the second largest country in Africa, one of the largest in the Mediterranean, and the largest in the Middle East. With over 95 million Egyptians, an active press and smart switched-on people, there’s a lot going on there that doesn’t make it into English.

Luckily Dr. Shahira Abdel Shahid wrote, "Roadmap to Success – Inspiring Journeys of Ten Iconic Coptic Leaders". Its title pretty much summarizes the book. The focus on Copts provides a decent cross section of successful Egyptians.  

As an added bonus, the author is a long-time adviser to the Egyptian Stock Exchange which likely gives her access and respectability to interview business leaders. Six of the ten interviews are with people in the private sector.

Investors in Egypt will recognize several interviewees, with two being C-level leaders at listed companies - Reem Asaad at Raya Holdings and Maged Shawky at Beltone Holdings.

My key negative comment is that there's no index. There's a lot of valuable information and insight here, but it's hard to find after the first read.

Like other book reviews for this blog, I’ve tried to summarize some of the key points below through quotes taken from the book. However, I had a tough time whittling down the good stuff as I could have copied and pasted much more, and I strongly encourage people to buy and read the book. My thanks to Dr. Shahid for writing it. 

Egypt at the middle. “The Egyptian style is so interesting and unique because it has been influenced by many cultures…. the ancient culture of the pharaohs, the Coptic culture, the Muslim culture. Because of this combination of cultures, Egypt is incredibly rich and thus has become a huge source of inspiration for every artist, painter, or stylist."  Ms. Marie Bishara, fashion designer and vice chairman of Bishara Textile and Garment Manufacturing Company (BTM) Cairo, Egypt

Proud to be Egyptian “…being an Egyptian, a descendant of one of the oldest civilizations in the world, that of the pharaohs, taught me how to be brave and handle difficulties." Professor Rashad Barsoum, emeritus professor of internal medicine, Kasr Al-Ainy Medical School, Cairo University; and founder and chairman of Cairo Kidney Centre

“I believe every Egyptian should be very proud of being Egyptian, because of our unparalleled history characterized by artistic, architectural, scientific, and spiritual greatness.” “Being descedents of the pharaohs is an unmatched privilege”  Dr. Mona Zaki, founder and CEO of Global Strategic Consultants, Cairo, Egypt, and Art and Business International Company, Budapest, Hungary 

“Similarly, all conquerors of Egypt – Persians, Assyrians, Romans, and others – could never change the origin or race of Egyptians and Egyptians did not change to become Romans or Persians.” Dr. Gawdat Gabra, visiting professor of Coptic Studies at Claremont Graduate University, California, United States; and co-editor in chief of Claremont Coptic Encyclopedia 

Nasserism still looms large.  Unfortunately, since the 1960’s the Egyptian government has acted as a provider for individuals, attending to their basic needs such as food, shelter, and jobs in the public sector.  As a result a lot of Egyptians still expect everything from the government…” Prof. Rashad Barsoum

“In Egypt, unfortunately, the environment has been very hostile and suspicious with regard to the private sector since the 1960s.  It generally views the private sector as always profiting at the expense of customers or engaged in fraud, unless proven otherwise.  I think this has been the sentiment since the nationalization took place in the 1960s.” Mr. Karim Saad, Chairman of Samcrete, Engineers and Contractors and Managing Director of Sami Saad Holding (SONID) Cairo, Egypt

Education and women empowerment are two key items interviewees think Egypt should improve upon. “I believe Egypt can be a developed nation within ten years. Of course, the first and most important strategy is to completely overhaul the education system.” Reem Assad, CEO of Raya Data Center; member of executive management, chair of corporate social responsibility committee, and board secretary of Raya Holding Group, Cairo, Egypt

Education is very important in order to change the mindset of Egyptians and reduce violence and harassment against women.”  Father Daoud Lamei, Coptic Orthodox Priest at Saint Mark Church, Heliopolis, Cairo, Egypt

Arabic but not Arab? Arabic is the mother tongue of the Copts and it should continue to be so. I do not recommend that Copts learn Coptic as a language to be spoken or read in their everyday lives” “Co-operating with our neighbouring Arab countries in various ways is excellent, but this does not mean that we Egyptians have to lose our original identity.” Dr. Gawdat Gabra

But Arabic's not very useful to study Egypt's history. “To be successful in the career of Egyptology as well as Coptology worldwide, you must learn three languages – English, French, and German – because research and publications in these two disciplines are in these three languages.” Dr. Gawdat Gabra

The military may be more popular than I thought. "It is important to have in place a strong and well-equipped military force similar to those in other leading countries. Egypt has survived vicious terrorism acts and the turbulent revolution years because of its strong military.” Ms. Marie Bishara

Even the Copts can be biased. “The third challenge was the fact that I was a Protestant, and thus it was not easy to be accepted and win the trust of the Coptic Orthodox Church.” Dr. Gawdat Gabra

Religious tolerance is greater than headlines suggest. "Being Christian in Egypt was not a subject of concern at all. I grew up in a period of religious tolerance and the majority of my friends were Muslims.” Ms. Reem Asaad, Raya Holdings Group

“I never faced any bias during my judo career in Egypt. The judo federation includes thousands of members, but there were only six Christians…”.  “When I played at the national level, I was the only Christian athlete on the judo team. All my coaches were Muslims. I felt literally zero discrimination.” Ms. Mira Nassif, Owner of Miracle Design, Cairo, Egypt and former African judo champion

“Personally, I was never negatively affected in my career or life by being a Christian in Egypt.  However, we cannot be blind to the fact that there exists discrimination and inequity against Copts in Egypt.” Professor Rashad Barsoum

“I know well that there are cases of religious bias in Egypt in government posts and other organisations. I did not face this issue at all during my entire career with any of my former bosses, capital market regulators, or ministers” “Their religious beliefs had no influence on their decisions or choices.” Mr. Maged Shawky, vice chairman and managing director of Beltone Financial Holdings, Cairo, Egypt, and the youngest chairman of the Egyptian Stock Exchange (EGX)

The Coptic church has a long history. “The Coptic Church is undoubtedly the oldest institution in Egypt; it has existed continuously from the first century to the present day. Accordingly, the Coptic Church is a landmark in Egypt’s history and heritage.” Dr. Gawdat Gabra

Martyrdom is a big part of their history. “Martyrdom is the number-one factor for the continuity of the Coptic Church in Egypt.”  “The most severe wave of persecution in the Egyptian church started during the reign of the Roman emperor Diocletian (reigned 284-305) and continued under Maximminus Daia (reigned 305-313).  Since the Great Persecution was particularly severe and hundreds of thousands of Christians were put to their death, the Copts used the Era of the Martyrs as the point of reference for their calendar…”. “Later, a wave of Byzantine persecution began in AD 451….”, “Copts cherish all the saints, but martyrs come first…” Dr. Gawdat Gabra

“To be honest, I envy Copts who were unjustly treated because they will be rewarded in heaven and be glorified.” Professor Rashad Barsoum

“The Coptic Church is known as the church of the martyrs, maintaining its strong faith throughout the years since the Roman persecution until today…” Dr. Mona Zaki

Wednesday, July 5, 2017

Another Reason to Look at Developing Countries - Decreasing Corruption

In my research and investing I stress three things: people, structure, and value.  I look for companies that are controlled and managed by quality people, have corporate structures that align minority and majority shareholder interests and trade at valuations that are below fair value if not outright cheap. This post is about anti-corruption campaigns underway in many developing countries and the counter-intuitive evidence that corrupt countries may have higher returns.  Ultimately, it’s about people. 

There are anti-corruption movements in several countries.  My impression is that their effectiveness has increased in the last several years. China and several in South America seem to be the most active.

Below is a list I’ve compiled over the last several months.  There’s probably a lot more going on that I haven’t come across, so please add additional insight in the comment section below.  

  • Brazil, Latin America and others. Revelations of long-term government corruption has riveted Brazil in the last few years.  Two corporate giants have been in the limelight - Petrobras and Odebrecht.  Corruption linked with these have led to the downfall of one Brazilian president, other politicians and many corporate leaders in Brazil and elsewhere.  Odebrecht’s under-the-table payments allegedly occurred in 12 South American and African countries (see here and here).  (In what looks to be a good example of confusing size with quality, in 2010 Switzerland’s highest ranked business school, IMD, gave Odebrecht its Global Family Business Award. See here).
  • Peru. The Odebrecht scandal led to large scale anti-corruption protests and action. Three former Presidents, eight ministers and other officials were implicated for suspicion of illegal dealing with Brazilian construction companies (see here).
  • El Salvador. Last year, El Salvador’s former President Elias Antonia Saca and six others were arrested after being accused of corruption and money laundering (see here).
  • Romania. In 2016, almost 1,300 officials were put on trial for corruption charges. This included 3 ministers, 17 lawmakers, 16 magistrates and 20 state-owned company officials. In February this year, an estimated 500k Romanians protested against weakening the country’s tough anti-corruption laws. These were Romania's largest protests since the fall of communism in 1989. The country’s ruling coalition wanted to decriminalize abuse by public officials if the sum was less than ~USD50k (see here and here). 
  • Ukraine. Officials arrested more than 20 former tax officials in what has been described as that country’s biggest-ever corruption crackdown (see here).
  • Kazakhstan. Earlier this year ex-National Economy Minister Kuandyk Bishimbayev was arrested for taking bribes.  Several other high-ranking officials were also sacked and arrested on charges of corruption (see here and here).
  • Nigeria. The country elected President Buhari in 2015 on an anti-corruption platform and it’s been reported that USD9.1b has been recovered (see here).  Another report noted that over US$160m was uncovered in just one week including USD9m from a former head of the state-owned oil company (see here).  Part of this appears to be due to Nigeria’s new whistle-blowing policy (see here).  Nigerians complain that not enough is being done, and that details of the recovered funds and people arrested are thin.
  • China. Last and most importantly China has reinvigorated its anti-corruption efforts in a wide-spread and sustained campaign. It’s notable by targeting both incumbent and former national-level leaders that were previously considered untouchable.  This includes a Politburo Standing Committee member as well as former high-ranking military leaders. 
In contrast, just as corruption and transparency seem to be improving in many emerging countries, the world’s largest developed one seems to be backtracking.  In February this year, President Trump signed a resolution to roll back the rule that forces US energy companies to disclose payments to foreign governments (see here). The US President has also not released his tax returns as has been customary and his family appears to be using their connection to the President to further their business interests (see here and here). Additionally, both the President and Wilbur Ross, the US Treasury Secretary, continue to own assets and businesses that could present serious conflicts of interest (see here).

Be Careful What You Wish For
Except for the small corrupt minority garnishing cash for little value-add, the vast majority of us don’t like corruption. However at least one study shows that equity returns are higher in countries that have high levels of corruption.

The authors of the very excellent 2015 Global Investment Returns Yearbook note that, “Realized returns were higher for equity investments in jurisdictions that were more likely to be characterized by corrupt behaviors.”  In their short study, they found that the average returns of countries where corruption was low, “were between 5.3% and 7.7%. In contrast, the markets with poor control of corruption had an average return of 11.0%.” (The corruption ranking used in the study is based on the World Bank’s Control of Corruption Index (source data and cool interactive graphics and charts are here).

In other words, countries that are considered more corrupt had returns that were between 3.3 to 5.7 percentage points per annum higher than those that are considered less corrupt.

An annual 5.7 percentage point difference is huge.  At 5.3% - the low return for non-corrupt countries - an investor doubles their money every 12.6 years.  At 11% - the return of the corrupt ones – an investor doubles their money in a little more than half the time – 6.5 years.  (To be fair the authors go on to note that, “Because the interval we study is short, our results may simply reflect a period when emerging markets outperformed.”  (The study can be found here). 

Look For Change
People are shocked when I tell them about my investments in countries such as Russia, Jamaica, and Egypt.  One of their first comments is that they’d never invest in such countries because the corruption levels are too high.

Flip this argument on its head and a Pollyanna like myself sees an additional reason to invest. Most investors are pricing in the current corrupt environment. But what if the environment improves? Rick perception decreases and more people and institutions should theoretically invest over time. This may push up asset prices.
Two markets that I’ve been following on and off for a long time – Indonesia and Pakistan - fit this narrative.  Both countries’ headline indexes have performed well and corruption - as measured by the same World Bank Index used in the study cited above – has decreased over the last twenty years. (I’ve written about Indonesia in several other blogs  - see herehere and here. I’ve not written about Pakistan but should at some point).
Pakistan has done the best.  Its headline equity index, the KSE100, rose 18x in USD terms between 1998 and today, a CAGR of almost 18%.  Over roughly the same period its rank rose from being in the 16th percentile of most corrupt countries to the 24th (a lower score indicates a higher level of corruption. CAGR stands for compound annual growth rate. More information and formula is here).
Likewise in Indonesia. Over the same period of time Indonesia’s JSX rose by 13x, a CAGR of about 16%. It's corruption rank rose from being in the 10th percentile to merely being in the bottom 40%.
Returns in both markets were higher than the developed US and developing China. Over the same period the US’ S&P500 index increased by 1.2x, for a CAGR of about 4%, and China’s headline Shanghai Composite index grew by 1.7x for a CAGR of about 6%. 
The lower returns for China and the US were accompanied by not very dramatic changes to the World Bank’s Corruption rank.  China’s corruption level increased in the late 2000s, before improving again to about the same level as it was in 1998.  The level in the US has not changed much.
But 1998 was the depth of the Asian fiscal crisis. Asian stocks and currencies were at a low point, so starting there is not really fair. However, even the US’s rapid 2.5x rise in its headline index since the depths of the US/global financial crisis is lower than Pakistan and Indonesia during the same time period (see below for some rough and rounded figures).

World Bank Control of Corruption Score (1998 / 2009 / 2015)
1998 (June) - 2017 (June)
Return* / CAGR
2009 (Mar) – 2017 (Mar)
Return* / CAGR
Pakistan (KSE100)
16 / 14 / 24
18x / 18%
5.4x / 31%
Indonesia (JSX Composite)
10 / 23 / 38
13x / 16%
3.0x / 22%
China (Shanghai Composite)
46 / 35 / 50
1.7 / 6%
0.5x / 6%
China (Shenzhen A-Share)
Same as above
3.8x / 9%
2.0x / 17%
United States (S&P 500)
92 / 86 / 90
1.2x / 4%
2.5x / 20%

People Count
I’m not a fan of corruption. I’d be clueless in trying to pay-off a local policeman to look the other way for a minor driving misdemeanor or in a bid to get preferential treatment at the border. And not looking like or being a local in many of the countries I invest in usually means I’m not asked for ‘donations’.  

A country’s corruption level does not deter me. I never really considered it as virtually everyplace I have researched and invested is considered to have high corruption levels. In fact, after doing the slapdash research for this post, I think that corruption levels could be an interesting metric to track.
I suspect it will be backwards looking.  By the time statistics show a clear trend of decreasing corruption, equity prices will have already factored this in. How can I try to ascertain real changes that will lead to decreasing corruption?
This ultimately leads back to my core research and investment parameter – people.  Specifically, who’s the person or people in charge of tackling corruption and are they up to the task? Is it being broadly supported or an afterthought? Is it a genuine, far-reaching and on-going process that is genuinely backed by those in power, or a public relations stunt to get more votes or placate protesters?
Ultimately, I look for companies run by good people. Good and bad people can be found all over.  The very admirable Soeyadjaya family made bank depositors whole when Indonesia was perhaps at its most corrupt.  Dickheads like Bernie Madoff and Bernie Ebbers can and do exist in counties that are considered clean. 
Ethics matter. People count.

Tuesday, April 11, 2017

Bitcoin - The View From Lagos

In my research and investing I stress three things: people, structure, and value.  I look for companies that are controlled and managed by quality people, have corporate structures that align minority and majority shareholder interests and trade at valuations that are below fair value if not outright cheap.

This note is actually not about any of that and instead just a quick one about bitcoin and how my initial skepticism may have been wrong.  I usually dont write macro” or ‘thought piecesbut I heard some interesting news about bitcoin and how its gaining traction in Nigeria.  I use "bitcoin" in the generic sense in this article, much like Nigerians use 'coke' to refer to all soft-drinks, as in 'what kind of coke do you have?'.

I never took bitcoin seriously but Im now rethinking it.  My rethinking is due to a by-the-way comment  on a recent trip to Lagos.  It came from Ugodre Obi-Chukwu, a partner at Nairametrics, a Nigerian data provider and consultancy.  He mentioned that Nigerians are increasingly buying bitcoins.  Not for speculation or transactions, but as a way to store wealth (Nairametrics' website can be found here).

This was news to me.  I never considered something paying no interest, and with no government support, control or oversight to be safe. However, if the possibility exists that government policies and actions may destroy wealth, then perhaps its safer to store hard-earned money outside the system.  Many people in mismanaged developing economies may be feeling this way.  People are mostly rational.  Physical gold in the old days and now; bitcoin now and in the future?

Apparently, Nigerians, and Venezuelans, are turning to bitcoin for this and other reasons (for related article see here).

A similar characteristic of both countries is the big difference between the official and ‘parallel’ rate exchange rate. In Nigeria, the parallel rate vis-a-vis the USD is some 30% higher than the official rate.  In Venezuela its even worse.  The official rate is USD1 = VEF10, but Google-sourced news sites put it closer to VEF1,500 to 1,700 (or even VEF3,000+!).

I did some quick research on bitcoin and cryptocurrencies and found that they have a lot of positive qualities that make them particularly attractive to savers and others in the developing world.

Store of Value: Volatility.  A key argument for not storing wealth in bitcoin form is that bitcoin prices are volatile.  But so are many currencies in developing countries.  Most of bitcoin's volatility has been positive, with its price rising more than falling.  This is the opposite of many countriescurrencies vis-à-vis the defacto USD standard.  Egyptians who held bitcoin likely did very well versus their countrymen who stuck with the Egyptian pound (which is down by 51% in the last five months).

Store of Value: Gold. Gold is one of the few stores of value that is mostly outside government control.  Its not entirely so however.  In 1934 under the Gold Reserve Act, Americans were forced to sell it to the US Government.  However gold is not a ‘fiat’ currency that can be printed at the will of government.  Like gold, bitcoin does not pay a return. However its much easier to buy, sell and store than physical gold.

Less Fees. Banks are charging a lot of money for their services.  Despite incredibly large net interest margins (10+%), Nigerian banks charge a central bank mandated 0.1% fee on current accounts called Commission of Turnoverand a Naira50 fee for all non-current account transactions.  These are good for bankers, but not for savers.  Bitcoin does not charge these fees.

Easier, Faster and Cheaper. Changing money in Nigeria requires going to the bank and filling out forms, supposedly a lot of them.   It takes 3-5 days to transfer the funds through the bank versus seconds or minutes using bitcoin.  It also involves paying stamp duties, and telex charges. And it’s expensive.

Transferring money can cost up to USD100 in Nigeria.  Bitcoin charges 0-2% of the transaction from what Ive read.  (Even in Asia its not cheap to transfer funds.  Transferring money via large banks located in Hong Kong and Singapore costs about USD35.  If done monthly this adds up to USD420 per annum. If weekly, close to US$2k.  I thought large, too-big-to-fail banks were supposed to have lower fees, not gouge their customers.  It's like a regressive moral hazard tax).

Freer. Nigerians are capped at transferring a maximum of US$10,000 per day.   Bitcoin does not have this restriction.  (Even  my big, supposedly very well-capitalized bank in Hong Kong has transfer caps and restrictions). 

Transferable. Bitcoins are increasingly being accepted as payment for other items.  According to a very well-written article on bitcoin published on Nairametrics, bitcoins can be used as a means of payment for many hotel and travel expenses, one of the key uses for USD presently by Nigerians.

More trustworthy?  Bankers dont have a good reputation.  Nigeria had a banking crisis in 2008.  Lehman went bust and HSBC is under heavy scrutiny from US regulators. Look at the long-term share prices of Greek banks.  Cypriot banks took a large haircut from their savers.  Is bitcoin a reasonable option?

Once burned twice shy. 

Developing countries have a good habit of starting with the latest technology rather than upgrading. Leapfrogging is the term most people use.  With such a young demographic, I wonder if today's Nigerian teenagers will ever know what foreign exchange forms look like, just like they may never use a 'land-line'.

Better, faster, cheaper is a a powerful hat trick.  It has worked well with new in the past and there's no reason to think it won't in the future.  Wither the banks?
(Many ideas for this article were taken from Manasseh Egedegbe's post on Nairametrics where he explains both the rationale and practicalities of using bitcoin in Nigeria.  His article is here)

Saturday, March 25, 2017

Contrarian Signals (Or Why Romania May Be the World’s Best Performing Market This Year)

In my research and investing I stress three things: people, structure and value.  I look for companies that are controlled and managed by quality people, have corporate structures that align minority and majority shareholder interests and trade at valuations that are below fair value if not outright cheap.  This post is mostly about valuation and how bankers and financial experts take away the punch bowl just when an investment becomes attractive.  

I've written before how doing the opposite of what large financial institutions are doing and recommending can lead to higher returns (see here). This post is in the same vein
The reason I think Romania has a good chance of being one of, if not the best, performing stock markets this year is that the broker I use to access Eastern European stocks informed me that it will stop service there.  Earlier this year I had to transfer or sell all my Romanian shares.  To me, my broker’s closing operations is a large buy signal. 
The broker is ultimately owned by a large Belgian bank.  It’s likely that back in their corporate headquarters the stuffy-suited managers decided that all group companies would stop offering their clients access to Romanian equities.
This could likely be a very logical decision as it sounds like they have few clients trading Romania equities. My Prague-based account manager noted that I was one of four.
However, it is also short-sighted as there are many positives.  Romania has one of Europe’s fastest growing economies at 4.6% last year.  The country appears to be serious about political reform.   Its stock market is also one of the world’s better performing ones, having increased by close to 16% year-to-date. Despite the increase, many of its large cap stocks pay good dividends with yields north of 6%. 
While logical, it still stinks.  It took a long time to find a broker who provided access to most Eastern European markets and took US citizens as clients.  Part of the onboarding process was flying to the Czech Republic to sign account opening forms in person. (It was actually not much of a burden - Prague in June is actually quite nice.  But I’m still angry about it).
The situation reminds me of other instances where bank and financial product withdrawals and shutdowns turned into good contrarian signals. History doesn’t repeat, but it can rhyme, to paraphrase a famous quote. 
Consider the following:
  • Brazil – the EGShares Brazil Infrastructure ETF (BRXX) was closed and delisted at the end of October 2015.  At the time headline news in Brazil was pretty abysmal.  However Brazilian equities were starting to flash buy signals based on my screens.  Stocks in the BRXX were the least expensive among the handful of Brazilian ETFs.  Since its delisting, its top ten holdings have increased by an average of 64% in USD.  Many had good dividend yields which would have likely pushed total returns closer to 70%.  Not as good as the Bovespa’s 84% during the same time period, but not too shabby. (ETFs are like mutual funds that track a specific index or strategy and can be bought and sold like stocks.  More information is can be found here).
  • Greece - in 2012 HSBC sold its Greek securities business.  This was at the same time that I wanted to buy Greek shares, as they were trading at valuations similar to Korean stocks at the depths of the 1997/98 Asian financial crisis.  The bank that I’ve had an account with for almost 30 years took away a service just when I wanted to use it.  Over the next two years the headline Athex index rose by close to 200%.
  • Russia – in mid-December 2014 when the Ruble was floated and Russian securities and its currency plummeted, my European broker decided to suspend dealing in Moscow listed shares.  I was locked-out just when I wanted to buy.  Many share prices of quality companies I earmarked to buy are since up 2-3 times in USD.
  • South-East Asia – around 2001 HSBC closed and/or vastly curtailed its research operations in South-East Asia.  It was during this time that many of those markets started a multi-year bull run.  Since then, Indonesia’s and Thailand’s headline indexes are up by over 12x and 5x respectively in USD.
To be honest I really don’t know if Romania will do well this year.  Nobody does.  As I wrote in a previous post, the country’s stocks seem to be perennially cheap (see here).  Like all articles on investments, consider this article as an idea and interesting information, rather than advice. 
In addition to Romania, other Eastern European stock markets look attractive with several among the world’s best performing so far this year.  Czech stocks are some of the world’s least expensive. Polish stocks seem to be rebounding from political uncertainty since Poland’s late 2015 change in government.  And there’s even life in Ukrainian stocks as that country’s economy starts to stabilize.  Its GDP grew by 2.3% in 2016, rebounding from a 15% decline in the previous two-years. 
Index% Change Year-To-Date
Czech RepublicPX8.7

Bankers and their management are not known as visionaries.  They are known to stop lending and pull products when the market or economy is faltering and their clients need them the most.  This has happened before and it will happen again.  To me these are good, qualitative contrarian signals that are not easily programmable by the quants and algos.  Let’s call it ‘qualitative alpha’ or, my favorite, ‘Research Alpha’ (see here).

It doesn't look like I'll be part of the Romanian party unfortunately, but I hope there are some readers who can make some decent money on this.  Buy me a bottle of wine if you do. One from Transylvania will do nicely.

Monday, January 16, 2017

Taiwan Trip Report – Don’t Forget the Boring Stuff (Re-Post)

I've always wondered why everybody likes to invest in tech shares.  They can be multibaggers, but returns from non-tech shares are many times just as good, if not better.  Most importantly investors in older, staid companies usually don't have to worry about product obsolescence as much - or as quickly - as in tech companies (think Blackberry and HTC). 

An example is Taiwan.  It has some of the most cutting edge and best tech companies in the world. Almost everybody I know in Taiwan is somehow involved in it.  However returns from non-tech shares have many times been higher as I show in the re-posted article below. 

The article below was originally published on in February 2015, but it has since been removed from their site.  It's one of my better observations and one that I don't want to lose sight of. I've written in the past that profitable investments are typically found where others are not looking and this is in the same vein (see here). 

The reminder that I wrote this came from a recent Quartz article that points out that since they both went public in the summer of 2004, non-tech Domino's Pizza has returned 2,400% which is a bunch more than tech high-flyer Google's 1,555% (see here). 

Finally, here's the article:   

I was in Taipei the week before the Chinese New Year. I’m a big fan of Taiwan. Nice people, clean cities, good infrastructure, and I can practice my bad Mandarin on unsuspecting taxi drivers.

I can also talk about Taiwanese stocks with locals who closely follow the market.  Most of this centered on which Taiwanese companies will do well by supplying to Apple. Several felt that TSMC will take core chip supply contracts from Samsung. Others speculated on how much of Apple’s new products will be manufactured by Hon Hai/Foxconn.  Not many were talking about UMC on the latest trip, but around 10 years ago it seemed like it was all about the two fabs (i.e. the two large semiconductor manufacturers in Taiwan- United Microelectronics and Taiwan Semiconductor Manufacturing).

Nobody mentioned some of my favorite Taiwanese companies – Hotai Motor, Giant Manufacturing and Taiwan FamilyMart.  I’ve been a fan of them since my 2005 research trip to Taiwan when equities there were not so expensive.  At that time, very few people were looking at these companies and I could easily arrange management visits and factory tours.

All of them operate fairly straight forward businesses.  Giant manufactures and sells some of the world’s best value bicycles, Hotai distributes Toyota and other vehicles, and Taiwan FamilyMart owns and runs convenience stores throughout the island.

They all had pretty similar characteristics when I looked at them in 2005.  Good dividend yield, a net cash or low debt balance sheet, a simple shareholding structure with organic rather than acquisition-led growth.  They fit into my people, structure and value model that I’ve been developing over the last several years (although looking back they were a bit more expensive than what I typically like).

None of them are tech companies. None of them were followed by more than a handful of analysts.  None of their CEOs or owners were in the press.  None of them had secondary or overseas listings.

However returns of all three of these low-tech boring companies have outperformed the highflying tech and electronics firms that were so popular back then. Hotai’s 10-year total CAGR was 32.1%, Giant’s was 26.1% and Taiwan FamilyMart’s was 19.5%. The average CAGR of the three was 25.9% which means that an investor would have doubled their money every 2.8 years by holding an equal weight in these stocks and collecting dividends.

Holding three of the more popular and biggest companies in Taiwan 10 years ago would not have led to as good returns.  Holding a basket of TSMC, UMC, and Hon Hai and collecting dividends would have left one with an average CAGR of 8.6%.  This means that an investor could have made 17.3% more every single year on average by holding the boring stocks rather than the exciting, cutting-edge ones.

In addition to their low-profile management the three companies share another classic characteristic.  All three directly sell to end consumers.  This is in contrast to many high-tech firms that sell their products to other manufacturers or branded product companies.  Apple’s customer ownership and very high margins means that their suppliers operate on thin margins.

Taiwan equities today are not as inexpensive as they were in the mid-2000s.  While Taiwan is not as expensive as other countries in Asia such as Indonesia and the Philippines, there are few companies in these later two that are trading at valuations I consider attractive. 

It’s fun to read about and imagine the wondrous things that high-flying, cutting-edge technology companies can do for us.  But – as for profitable investing in Taiwan and elsewhere – it pays to look where others don’t.  

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Thursday, January 5, 2017

Investment Confessional - Getting It Wrong In Ukraine

In my research and investing I stress three things: people, structure and value.  I look for companies that are controlled and managed by quality people, have corporate structures that align minority and majority shareholder interests and trade at valuations that are below fair value if not outright cheap.  This post touches on all three and is about one of my worst investments– at least so far

"We learn nothing from our winners", was how popular market commentator and interviewer extraordinaire Barry Ritholtz put it on a recent Masters in Business podcast (see here). I’ve read similar things in other investment books and articles.  It basically boils down to the fact that nobody's perfect and that it's best to learn from your mistakes.  Traders I know call it tuition.  We need to pay money (lose) in order to learn a skill.

Warren Buffet’s partner Charlie Munger, put it another way: “It's a good habit to trumpet your failures and be quiet about your successes".  This blog post is me tooting my own broken, bandaged, tail-in-between-my-legs, trombone. 

I wrote about Ukraine in two posts. They were based on my February 2014 trip to Kiev (see here and here).  I came away from my trip thinking that the uncertainty caused by the Ukraine/EuroMaidan Revolution marked an economic and stock market bottom.  This was not the case and both have fallen even further.

In mixed company and presentations I mostly blame the currency.  And numerically that accounts for most of my loss.  The Hryvnia declined by 67% vis-à-vis the USD since my initial investments in March 2014.  In contrast my portfolio of Ukrainian stocks is down about 50%.  The 17 percentage points of ‘alpha’ (or excess returns) is little solace when I’m down by half  at a time when other markets have risen.

However the currency decrease hides the fact that I made some real investment blunders.  The biggest mistake was not sticking to my investment process.  If I had, I would be wealthier and have slept much better.

Here is how I screwed up:

Inexpensive without quality is just plain cheap
I could see from my Hong Kong base that Ukrainian stocks were cheap on almost all traditional valuation metrics.  The key reason for the trip – indeed all trips - was to determine if the cheap stocks were of any value. 

It’s like buying clothes on the Internet. They may look like a bargain online, but if the size is wrong, the material cheap, and the stitching poor, it’s just plain cheap.  Cheap is the inexpensive shirt that hangs unused in your closet.  Value is the inexpensive shirt that makes you look good and feel confident. 

Moving from the cheap to value category is where my people and structure factors come into play.  Instead of sticking only to companies run by good people and have simple corporate structures, I invested in companies that were very inexpensive on many valuation measures, but were owned/controlled by people who are not likely to be good to minority shareholders.

One example is the country’s largest oil and gas company, Ukranafta.  It was jointly held by the government and the Privat group.  The Privat group is headed by Igor Kolomoyskyi, one of Ukraine’s richest men and an archetypical "oligarch", meaning he has both economic and political power.  He has a less-than-stellar-reputation according to Kiev locals who described him in much more colorful terms.  Despite this I thought that it being Ukraine’s largest energy company and its cheap valuation made it a good investment.  Its shares were at 3x EV/EBITDA when I bought it in early March 2014 (EV/EBITDA  is one of many financial ratios used in an attempt to value a company.  Generally a low ratio is preferable to a high ratio.  More information can be found here). 

Since then, the Privat group is believed to have stifled company reforms, blocked dividend payments, and transferred profits out of the listed company and into other group companies.  In March 2015 Kolomoyskyi used his privately-funded armed guards to defend against a "raider attack", after Ukraine’s parliament passed a law that took away Privat’s veto power at the company (see here).

The share price reflects a lot of these problems and is down some 80% in USD terms since I bought a stake.  Another way to look at this is that the same stock now has to increase five times for me to just break even. 

Sunk cost
Sunk cost is cost that has already been incurred and cannot be recovered.  In investments it typically refers to irrationally sticking with a stock that’s already gone down despite better choices.  If we have committed to something, our brain has a fierce resistance to believe it made a mistake and we are inclined to go down with the ship.

I stayed invested in Ukraine despite Russia taking over Crimea and a bloody war in Eastern Ukraine.  As a reminder, almost 10,000 have been killed and over 20,000 injured in Eastern Ukraine, which likely makes it the largest number of people killed in a European armed conflict since World War II. 

The old Rothschild attributed-adage, "buy when there’s blood in the streets", did not work.  After spending time and money going there, I felt I needed to recoup my investment.  It would have been better to cut my losses, and just think of my trip and expense as tuition.

In fact I increased my investments after elections were held in the Spring of 2014 and the person I thought would do a good job, Petro Poroshenko, was elected. 

Reputation / Pride
I was warned about the folly of buying Ukrainian stocks before I went.  This only increased my desire to go as I was told the same thing before I went to Greece the previous year.  My investments did very well there, with several more than doubling. 

Thinking like a trader rather than as an investor, I forced myself to buy stocks in companies I normally would not have, as all the market signs pointed to Ukraine as being the ultimate contrarian play. 

I thought I would look like a fool if I missed the boat in Ukraine after telling people I went there.  Instead I look like a fool now.  A poorer fool.

Listened to others instead of myself
Virtually all the financial people I met there were way too optimistic, especially after the end of the Maidan protests when local brokers really pushed Ukraine stocks.  Nobody expected the currency to fall so much despite it being very weak.

Only one investor – a very smart man from Minsk – correctly hypothesized that Russia would not let Kiev get closer to Europe without some sort of response.  Even an educational trip to the national museum where I learned that Ukraine was part of Russia for a long time and that it is essentially a Soviet creation, did not dissuade me.  Nor did an ex-military friend who correctly pointed out that there is no significant natural barrier between Ukraine and Russia.   Locals in Kiev – even those whose first language was Russian – were convinced Ukraine is clearly a European country and would soon be in the EU if not NATO.

Ukraine’s cheap prices and investment success in Greece the previous year made me greedy.  I remember sitting in my Kiev hotel room salivating at the low valuations of Ukrainian stocks.  But even low valuations don’t mean much if the quality is not there.

I essentially made things work in my mind.  I justified poor quality by thinking that at these valuations things can only get better, and put my blind faith in what brokers told me, rather than insisting on meeting management and doing my own work.

Lack of patience
Ukraine’s cheap valuations made it hard not to invest, and I did not wait for the currency to depreciate further.  I did not wait for poorly managed companies to work out their problems.  I did not keep money on the table to invest at lower prices.  Greed made me impatient.

Sticking around when one’s not wanted
Ukrainian companies are not investor friendly.  Only one locally-listed company wanted to meet.  It wasn’t just me; almost no companies were interested in meeting with investors.  Even the "blue-chips" were not investor friendly.

One of my worst ever meetings was with Ukraine’s largest pharmaceutical company.  “I don’t have to answer you!” was how the head of business development sternly put it when I asked pretty standard investor questions.  Even after explaining that I was already a small shareholder and I wanted to better know the company because I was thinking of increasing my stake, he must have thought I was engaging in corporate espionage.  When he found out I was not interested in buying products, he abruptly ended the meeting and cancelled the plant visit.

I should have sold immediately and taken the 10% loss.  Instead I waited and the shares are now down over 50%.

Some companies in Ukraine are shareholder friendly, and these seem to all be listed someplace else, mostly on the Warsaw and London stock exchanges.  Many have dedicated investor relations professionals who are keen to explain their companies.

Learning from one’s mistakes
While I've taken it on the chin, my Ukraine experience actually reinforces my belief that my investment strategy and process work.

One of the few companies I found that fits my people, structure and value model turned out to be my best investment there.  Kernel is a Warsaw-listed, Kiev-based agricultural company that is open to meetings, has good investor relations, a simple corporate structure and a solid owner/management that’s been buying shares.  Its valuation was higher than most Ukraine-listed companies, but it was certainly not expensive. Since then it’s started to pay dividends and its share price is up close to 60% in USD.

Hope springs eternal
I still hold my shares in the same handful of Ukrainian companies. Things are starting to look better for Ukraine so I’ll stick to my guns for the time being. Consider the following:

      Widespread reforms. The European Commission calls Ukraine’s reforms unprecedented (see here).
      Cleaning up the banks. A recent Financial Times article noted that cleaning up Ukraine’s banking system has been one of the country’s most successful reforms since the 2014 revolution.  Its central bank, The National Bank of Ukraine, has closed 80 out of 180 banks.  It’s too early to say that cleaning up the banks will lead to a positive credit cycle but it’s certainly a large step in the right direction (see here).  Just before Christmas government nationalized PrivatBank, the country’s largest, due to large scale-related-party lending.  PrivatBank is owned by two oligarchs, one of whom is the same Kolomoyskyi who controlled the oil company where I lost so much.  The authorities estimate that about 97% the bank’s corporate loan book was to parties related to its owners (see here). 
      Clipping oligarch wings? Taking away two large assets from a powerful, well-connected (and many believed to be well-armed) oligarch is a bold move and a sign that government institutions could be growing stronger and, hopefully, fairer.
      Return to growth. GDP grew in 2016 and is expected to increase by 2.3% in 2017.  Not rapid growth, but certainly better than the 6% and 10% respective decreases in 2014 and 2015 (see here).
      Rising market. The UX, the country's main stock market index, is up over 40% in USD terms from its April 2016 low.  Stock market performance tends to precede economic performance.  One of the best performers during this time was Centranergo, the country’s largest listed utility.  Its share price more than doubled when it was announced that it will be privatized.
      Geopolitical stalemate?  The eastern Ukrainian conflict seems to be a stalemate.  It could flare up again and remains a key risk.  But it seems to have reached some sort of ugly, unresolved détente.
      Getting easier to do business.  Between 2014 and 2016 Ukraine climbed from the 152nd to the 80th position in the World Bank’s Doing Business Report. This was mostly under President Poroshenko’s leadership.  A businessman himself, he wants Ukraine to climb another 30 positions (see here).
      Increasing tourism. Flights to Lviv are up 30% since last year.  I’ve not been there, but from what I’ve read it seems like the Kyoto of Ukraine with a modern yet traditional vibe (see here).
      Improving companies? More importantly for equity investors, such as yours truly, Ukraine’s companies are showing some green shoots. 
     The pharmaceutical company that refused to answer my questions joined the Ukraine Corporate Social Responsibility Development Centre in early December 2016; and brokers say one of their lenders is putting pressure on management to honor minority shareholder rights (see here).
     The ex-oligarch-controlled oil company’s top management is all new since 2015, oil prices have increased, and Ukraine is determined to break its dependence on Russian energy.
      Political stability for now. But has anything changed?  With nobody going to jail for past misdeeds one wonders if anybody in Ukraine has the power, will and means to clean up the system.  The next election has to be held before November 2019 so there will hopefully be some stability and further progress before domestic politics starts heating up (interesting article here).  

If anything this experience has made me believe in my process more.  My biggest mistake of all was deviating from my investment rules. If I had stuck to my simple focus of investing only in companies owned and run by good people, that have a structure that aligns majority and minority shareholder interests and that have value, I would not have made the many mistakes described above. 

One reason I now repeat the same first paragraph in all blog posts is to remind myself to focus on three things that matter – people, structure, and value.

It’s been a tough lesson.  Hopefully I’ve learned from my mistakes.