Here’s the new Graham & Doddsville Fall 2018 Issue from the Columbia Business School. There are some great interviews in it with some good ideas to further study. Here’s the archives for the past newsletters.
And here’s the Fall 2018 issue:
Flawless curves, milled aluminum, endless glass, walled garden, it sounds like an Apple product. I had a chance to visit Apple’s new $5 billion “spaceship” headquarter. Visiting is a strong word. I was allowed to look at it from the across the street. The spaceship is not open to the public. It’s not open to must Apple employees. Only Apple employees that have been transferred are allowed in. I’ve been told that 200 employees a week are making the transfer. The spaceship is expected to hold ~13,000 employees.
The centerpiece of Apple Inc.’s new headquarters is a massive, ring-shaped office overflowing with panes of glass, a testament to the company’s famed design-obsessed aesthetic. Apple’s latest campus has been lauded as an architectural marvel. The achievement is to make a building where so many people can connect and collaborate and walk and talk. A “statement of openness, of free movement” as Apple states it. The building, crafted by famed architect Norman Foster, immortalized a vision that Apple co-founder Steve Jobs had years earlier. My Apple “guide”, a guy named Joe, told me that the building is more than 90% Steve Jobs’ vision. The concepts and design were in place way before he passed away. He hated the current headquarter (the one on Infinite Loop) but that’s all Apple could afford at the time. Today Apple’s balance sheet situation has since improved enough for them to afford a fleet of spaceships if they wanted to. Continue reading “Apple’s Spaceship”
I just got back from a two week trip to Toronto. The first week was spent exploring Toronto with my family. The second week of the trip was spent attending various investment events and I want to use this newsletter to share my insights. The events are based around the Fairfax Financial Annual General Meeting (AGM). Over time Fairfax has developed a following of investors and numerous events have spun-off from the AGM. There are conferences, stock picking competitions, dinners and plenty of opportunities for new investment ideas. When you spend most of your time reading company filing and looking at financial statements, these events are a welcome change. But first here are some thoughts on Toronto.
I took some time to visit my brother, Torontonian Hugh Langis, co-founder and co-owner of Half Hunter (design studio) and The Station (best co-working office space in Toronto), which I shamelessly just plug in. By the time of my visit it was already spring time in Toronto and it was just warm enough to walk around. There’s only so much you can do with a two and a half year old but if you get the chance, the Royal Ontario Museum is a good spot to take your family. There are plenty of dinosaur skeletons among other artifacts. I have to say that the city of Toronto got a lot better over the last ten years. When I first stepped in the city in 2002, I wasn’t that impress. Toronto is often described as “la ville reine” (the Queen City). When your nickname is linked to Queen Victoria’s reign, entertaining is not what comes to mind. “Banks and malls” is how I had described Toronto. But that has changed. Millennials and hipsters took over the suits and royalists and transformed the city for a better place. Now Toronto is populated with cool indie coffee shops, trendy restaurants and great pubs for happy hour. The places are jammed packed in the middle of the day. I’m not sure if anybody works in Toronto. While it’s fun to see the city alive, I never fully understood how they manage to pay rent considering the booming prices of real estate (more on that later). Toronto is certainly closing the gap with Montreal. Today Toronto can say they have decent smoked meat, poutine, and bagels, all trademarks of Montreal. I also found Toronto to be cleaner than Montreal. Right now, Montreal is going through a rough time with all the constructions and its orange cones scenery. Corruption and a lack of leadership have set the city behind but Montreal will be vastly improved in five years once the mess is cleaned up. When I was in Toronto there was a pulse in the city. The Maple Leafs was in the playoffs (that’s a very rare thing) so were the Raptors. It was also the beginning of the MLB season and the Blue Jays were playing in Toronto. The city felt alive!
Toronto Real Estate
The Toronto real estate situation was the topic du jour while I was in Toronto. Toronto stole the crown from Vancouver for the most ridiculous real estate prices in the nation, and maybe in the world. Owners and sellers are a very happy camp and while potential buyers are very frustrated. Toronto real estate has been considered expensive for at least the last seven years. Now the prices just shot up 33% year over year. What was considered “bubble price” a year ago now looked like a steal. Why did prices shot up 33% in one year? No reason. The fundamentals didn’t change. The economy didn’t boom. Population is modestly growing. Speculation is responsible for the booming prices. Sometimes higher prices are responsible for higher prices. There’s a pure disconnect between price and value. Housing basically should only rise by the extent of inflation, which is very low, and the extent of the productivity of the country, which in Canada is also very low. Real estate agents in Toronto like to cite the “strong demand” for the rise in price. But this runs against simple economic theory. Demand doesn’t increase the more you increase prices. In other words, the more expensive the real estate gets, the less demand there should be, not more. Need more signs that speculation is behind the rise in prices? A month ago Toronto held its real estate conference. The place was crowded with subprime lenders, third party lenders, and exhibits on how to get a second mortgage on your house. That’s should be enough red flags.
This is my notes and observation from my recent trip to Omaha for the 2016 Berkshire Hathaway Meeting. You can also read a copy on my blog at brianlangis.com
As you know every mother in this country tells her daughter at an early age: if you’re choosing between two very old and rich guys pick the one that’s older — 85 year-old Warren Buffett poking fun at partner Charlie Munger, who is 92, as to why he can get the girl more often.
For the second year in a row I had the privilege of attending the Berkshire Hathaway (BRK) Annual General Meeting (AGM). BRK has been one of the most lucrative investments in the last forty years. Listening to Warren Buffett and Charlie Munger taking questions from journalists, analysts, and shareholders for nearly six hours is a very enriching experience. You also get to see them eat See’s Candies peanut brittle and drink Cherry Coke out of a wine glass the whole time. That’s what I call product placement. In his opening statement Buffett didn’t hesitate reminding everyone that he was the young one. You learn a lot from listening to successful old wise men.
This year was BRK 51st AGM under Warren and Charlie and the first time it was broadcasted via live streaming online for the world to watch. That was a wise decision considering that the event has become huge success. When 45,000 descend on Omaha, it’s definitely noticed. The more money Buffett made, the bigger it got. Success attracts success as they say. People who asked me why do you bother going if the meeting is streamed online? Well part of the answer is that I booked my plane ticket and hotel before BRK announced the change, but there’s also a real reason. The most interesting aspects of making the trip are the extraordinary people you meet and the associated events. There are investments panels, breakfasts, cocktails, dinners, conferences, presentations and various networking events that you can attend. Since this is my second year, you gain a sense on how to better allocate your time.
You don’t go to the AGM because you expect Buffett or Munger to say something new or some kind of magic investment formula. They won’t. They will say the same thing you read in the shareholder letters or past interviews. That seems to disappoint some people. But it’s crazy to think they were going to say something totally new or shocking. That’s not what made them successful in the first place. They are consistent and disciplined in their approach. As they themselves mentioned at the meeting, you don’t go to church to hear something new; you go to church to hear the old things harped on again and again. Munger and Buffett are teachers are heart. They also made their playbook available.
You can still watch the AGM with the recording available until May 29th available @https://finance.yahoo.com/brklivestream. The meeting Q&A was being simultaneously translated into Mandarin. China’s interest in Buffett and Berkshire is border line fanatics. I don’t exactly know why since China has its own multi-billionaires and successful business people. I don’t see any Americans being fascinated with Chinese billionaires.
By the way you don’t need to be a shareholder to attend the AGM. You do need credentials that you can buy for $5 on Ebay. Every shareholder is entitled to 4 credentials so there are plenty of extras available. Some folks decided to sell the extras for $40 or more on Ebay. BRK didn’t like that and decided to by-pass sellers by flooding Ebay with $5 credentials. This reminds me of the tactic BRK employed against funds pooling money in the 90s to buy the expensive Class A share for a fee. That led BRK to create the popular Class B share to anyone who wanted it. Since its creation the Class B has spitted to make it possible for the mom and pop investor to invest along Buffett. The Class B share is now worth 1/1500 the price of a Class A shares. One Class A share cost $210,000 and one Class B cost $140.
I arrived in Omaha around midnight Thursday night. You know you are on the right plane when everyone on it is reading a Buffett book or a shareholder letter. My connection for Omaha left from NYC and I wonder if NYC has direct flights to Omaha any other time of the year.
Friday was filled with the Farnham Street breakfast, a visit to the exhibition hall, eating Dairy Queen, Creighton’s University Value Investing panel, and Whitney’s Tilson cocktail. It was funny how a lot of people at Whitney’s cocktail didn’t know who he was but if you mentioned he was the guy from 60 Minutes that famously shorted Lumber Liquidator they were all like “oh yeah I know that guy”.
This year I had the pleasure of chatting with one of Berkshire Hathaway’s investment managers, Todd Cobbs and Board of Director member Meryl Witmer. They are both really interesting gave me insights on Buffett and the BRK culture. Warren Buffett also dropped by the exhibition hall Friday to visit the booths and to take pictures. At the speed his walking and moving around there’s no way he’s 85 years
Saturday was the BRK meeting and this year I decided to show up a little later around 5am in the morning instead of 4am last year. As a second year veteran, you know which doors are faster than the others. Getting there super early in the morning looks like a freakish thing to do but it goes by really fast since you mingle with the crowd the whole time.
Security was boosted a couple levels this year. There were a lot of security guards in the crowd and for the first time you had to go through a metal detector and get your bag checked. It did slow down entering the building but security was much faster than the TSA. I wonder if this has to do with the multiple death threats on Bill Gates and Warren’s head by ISIS and Al Qaeda. Not sure what they have against Bill Gates, he was there Saturday morning at the newspaper throwing contest and I was impress at how humble and nice he was. Mr. Gates also had to pay for Warren’s dilly bar since Warren didn’t have any money on him (Warren owes a $1 to Bill).
The meeting always start with an opening film that wasn’t streamed to the world and I highly doubt you will find a copy on the Internet. They have a very strict no filming policy. The movie is one of the best parts of the meeting. The short movie (~45min) contains a lot of celebrities who have volunteered their time and Warren Buffett promised them he wouldn’t make money off it. The film is a collection of short clips and skits featuring humor. Last year final’s scene starred Warren Buffett getting ready to fight Floyd Mayweather and this year it featured Arnold Schwarzenegger as the new host of the Celebrity Apprentice. Arnold had to deal with Warren and Charlie (labeled the other terminator). In real life Warren Buffett will not be a contestant but will act as an advisor to Arnold once the show is aired.
BRK outperformed the market by maintaining a disciplined approach. Sure the marketing irrational exuberance will occasionally outpaced BRK in the short-run, like during the tech bubble of the late 1990s; he knows he has the winning strategy for the long run. Even the best investments will endure extended periods where their strategies simply don’t perform. When you try to outthink and over trade the market, you often do more harm than good. Whatever strategy you chose, the key is to find something that works and follow it through the inevitable ups and down. This will most likely improve your odds of investment success.
From 1965 through the end of last year, Berkshire shares have risen 1,598,284%, compared to the 11,355% return on the S&P 500. $1,000 with Buffett 51 years ago would be $15.3 million today. But it’s going to be hard to move the needle that fast from here. Because of size, it’s getting harder and harder to make to grow at a fast pace. But the amount of money they make is just monstrous. BRK is sitting of $58.3 billion at the end of March and is looking to make another big acquisition. of the question during the meeting was about the companies Mr. Buffett likes to buy, noting that they have changed from companies that throw off plenty of capital to ones that are far more capital intensive (e.g. Berkshire Hathaway Energy, BNSF, PCC etc…) Buffett said it’s a problem of prosperity and the ideal business is one that takes no capital” but still grows. But most of those are not of a size that they would move the needle at Berkshire. When Berkshire was smaller, See’s Candies was one that fit the bill.
Below are some notes, thoughts, lessons, and highlights of the BRK weekend:
The Friday visit to exhibition hall is one of my favorite things during the weekend. The exhibition hall is where BRK has multiple companies on display that you can visit and shop. There are shareholder discounts on many items and it’s hard to turn down a $2 Dairy Queen vanilla Oreo blizzard and $1 Dilly bar. I like the place because it allows me to visit different companies from different industries and to talk to many executives. These people clearly love what they do and they love talking about their company.
The latest new baby to the Berkshire family is Precision Castparts Corp. (PCC). This baby is big since it was BRK’s largest acquisition ever at over $32 billion. PCC is a manufacturer of complex metal components and products. You couldn’t miss this baby once you entered the exhibition hall. Their booth and their nice products was the first thing you saw when you entered the exhibition hall. PCC had a lot of staff on hand to answer questions and their product is state of the art stuff. With few exceptions, every aircraft in the sky flies with parts made by PCC. I was surprised of their presence since the deal recently closed at the end of January.
Clayton Homes, the largest manufacturer of modular and mobile homes, made an impressive display with a 3 bed, 2 bath, and 1,475 sq. ft. for only $78,900. Most major appliances are included too. You just need to provide a piece of land. For $80k, this is a really nice home. So why is it so cheap? Well Clayton is able to get a volume discount on material since they build 35,000 homes a year. The other trick is that they don’t have any waste. The pic below of the two bins is the only waste left once Clayton finished a home. They don’t waste anything!
One of the most notable absences is IBM and Watson. Not that I cared. Last year IBM had one of the high quality corner spot when you walked in. I guess Warren didn’t want to remind anybody of his puzzling tech bet on IBM that’s not going too well (at the time of this writing, BRK just disclosed a position in Apple made by his portfolio managers and they are bankrolling a bid to buy Yahoo, is Warren finally embracing technology?). As for IBM, BRK now owns over 8% of the company. I also didn’t see Wells-Fargo and its lifestage carousel.
More than a year since the Burger King and Tim Hortons highly mediatized merger I would have expected a BRK/Tim Hortons booth but they weren’t there. I wonder if this is because of the ill feelings that might remain from the take over and tax aversion tactics employed by 3G Capital in the acquisition. Even though Warren and Charlie has been praising 3G Capital’s management style, the Burger King-Tim Hortons merger as hit a nerve with shareholders last year. A lot of shareholders are uncomfortable with the BRK/3G partnership. 3G has been associated with job slashing and efficiency which seems to contrast with Buffett’s nice folky reputation. But I’m only speculating as to the reasons why BK-Tim Hortons wasn’t there. The Kraft Heinz Company, another deal backed by 3G, was present with an Oscar Mayer wienermobile and the place was packed. Berkshire’s stake in Restaurant Brands International, the owner of BK and Tim Hortons, is only ~4.2%, so it might not be significant enough to have a booth (although they financed part of the deal with $3 billion in preferred shares that pays 9%!).
On Berkshire Hathaway’s Credit Rating
When asked why Berkshire’s credit rating is not AAA, Munger pounded on that question right away. He bluntly said that credit agencies were wrong. Standard & Poor’s gives BRK a AA+. It has been downgraded since 2009, when it used to be AAA.
For the second year in a row, I preferred the Markel Corp. (MKL) Sunday morning brunch and not just because the breakfast is far better than the BRK one. Markel is dubbed the “mini-Berkshire” and is a successful BRK clone. It’s a conglomerate that uses its insurance float to invest that’s compounding the gains. Steve Markel and Tom Gayner are the Warren Buffett and Charlie Munger of the company. In the last couple years Markel has been on fire and I regrettably don’t own a single share. MKL trades at $950 per share. It was less than half of that when I started following the company.
Is it a fair to compare the MKL to BRK? While BRK fills the CenturyLink center, MKL host their meeting at the hotel across the street with a few hundred people. It’s like comparing a sold-out Bon Jovi concert at the Madison Square Garden vs the up and coming band at your local theater. You can’t touch Bon Jovi but you can have a beer with the up and coming band. I prefer the MKL meeting because 1) its smaller, 2) the executives are approachable while Charlie and Warren, and 3) I learn a lot more.
I find the questions and answer with Tom and Steve more pertinent and practical. Tom and Steve don’t mind getting technical while Charlie and Warren avoid getting into details. Warren’s answers can be long and vague that I sometime forget what the question was. The true is that BRK is a victim of their own success. I’m not saying that Warren’s answers are not pertinent because they are. It’s one of the reasons why people make the trip. But the crowd and make-up of the questions is different. I think the MKL meeting attracts more of a crowd of sophisticated investors which allows Tom and Steve to get into specifics while the BRK meeting is more entertaining with a movie and jokes. This was the first question from a shareholder at the BRK meeting: “What would you have done differently in life in your search for happiness?” while one of the questions at the MKL meeting at to do with return on equity. These sorts of inquiries are the reason that the Berkshire moved a few years ago to have journalists and analysts ask some of the questions. The MKL meeting is probably what the BRK meeting looked like in the early years. BRK use to have its meeting in a cafeteria, imagine that. Just like its stock price, MKL’s meeting is growing every year. They will have to upgrade soon to a much bigger room.
Every year there is a question regarding BRK’s investment in Coca-Cola meanwhile more than one in three American is obese, with consumption of sugar-sweetened beverages such as Coke a contributing factor. Every year the question seems to get tougher. Last year Buffett answered with a non-answer, stating his own personal consumption of Coca-Cola (he’s 1/3 made out of Coke he said) in validating his investment. This year, journalist Andrew Ross Sorkin’s question was more pointed. He asked Buffett not to bring up his personal consumption habit of Coca-Cola when asked “why Berkshire shareholders should be proud to own Coke?” Well Buffett ignored the directive and started talking about his own personal consumption habit. He said he has not seen evidence that convinces him that he will make it to 100 if he suddenly switches to water and broccoli. He also continued that because there are so many more women who live to 100 than men, if you really wanted to improve your longevity prospects, for a guy in his position, you have a sex change. Munger didn’t like the question because it ignores the benefits of soft drink, which are made mostly of water that people need to survive. In general, Munger said citing the disadvantages of something without taking the advantages into account are “immature and stupid”.
Hedge Fund Rant
In 2008 Buffett made a very public bet with a hedge fund called Protégé Partners. The bet was that a group of five hedge funds picked by Protégé wouldn’t be able to beat a simple S&P 500 index fund over 10 years. 8 years into the bet, the S&P 500 is crushing the crushing the hedge fund and Buffett is not shy to show the results. The S&P is up 65.7% and the hedge fund group is up only 21.9%. Then Buffett went on an epic rant against Wall Street. It might be a tough time to invest in a hedge fund, but it’s not a tough time to be in the hedge fund business because of high fees. Fees were at the center of Buffett’s rant. Basically he told everyone that travelled to Omaha to buy the S&P Index fund and sit on it instead of putting your money with hedge funds. Buffett was building on an argument he’s been making for years about why backing U.S. businesses in aggregate, through low-cost funds, is the more certain way to prosper over the long haul. He also said not to hire consultants.
Valeant – Sequoia Fund
I was impressed on how diplomatic Buffett was on a question regarding the Sequoia Fund and Valeant. The Sequoia Fund is the fund that Warren Buffett referred people to after he closed his partnership. He still has close ties to the fund and to my knowledge, is one of the two funds that Buffett has endorsed. Valeant’s story is well documented so I won’t rehash everything that’s been said in the media. While Munger has repeatedly publicly trashed Valeant, Buffett has been mute on the topic. However the unofficial behind the scene chatter said that Buffett hates Valeant more than Munger. That’s why I was impressed at the delicate and diplomatic response Buffett used when responding the question. While answering the question Buffett also said that he approached to make a significant investment in Valeant which he obviously declined.
Over 45 years through the end of 2015, Sequoia Fund has returned 14.0% per annum versus 10.8% for the S&P 500 index, with $10,000 invested at Sequoia’s inception worth $3.9 million, versus $1.0 million for the same amount invested in the index. While Sequoia has beaten the market over the past decade, through the end of 2015, their investment in Valeant has diminished a record that we have built over two generations. At one point Valeant represented over 40% of their portfolio! The position became a controversy at Sequoia after Valeant started running into trouble. Sharon Osberg, Buffett’s bridge partner, resigned from the Sequoia’s Board after expressing her objections over the large size in Valeant and the decision to buy more. Sharon Osberg is obviously Warren’s eyes and hears at Sequoia since they talk a couple times a week. The Sequoia Fund is currently Valeant’s largest shareholder with 9% of the company, slightly more than Bill Ackman’s Pershing Square.
That’s all folks. The trip was definitely fun. It’s too early to say if I will go next year but if you have never been I highly recommend you go at least once. They are not getting younger!
This is my latest article published on Seeking Alpha. I tried to put the current oil crash in historical context. I found some very striking resemble with the problems of today’s oil industry and the ones in the late 19th century.
I also want to take the occasion to wish everyone a Merry Christmas and Happy Holidays. May 2016 bring good health, prosperity, success and peace.
I’m currently reading Titan by Ron Chernow. This is an excellent book about the life of John D. Rockefeller Sr. (July 8, 1839 – May 23, 1937, Obituary from the New-York Times). Mr. Rockefeller was known as the co-founder of theStandard Oil Company and was the world’s richest person. Adjusted for inflation, his fortune upon his death in 1937 stood at $336 billion according to Fortune (in 2008 U.S. dollars). Chernow does a great job shining a light on the secretive mysterious John D. Rockefeller. The biography is fair. Unlike other works about Rockefeller, Chernow doesn’t demonize or canonize Rockefeller in his book.
I’m writing this article because of the striking resemblance with today’s oil industry and the one in the book. I’m referring to the late 19th century. I want to share with you some insights between back then and today. You will get the feeling that you were reading today’s oil news. I believe that history repeats itself and there are lessons to be learned. And since this boom and bust cycle are not new, it might also provide some understanding on where we are heading. I hope you enjoy.
To understand where this is going, it’s important to understand how we got here.
Source: Public Domain. A Pennsylvanian oil field in 1862.
In the 1850s the whale fisheries had failed to keep pace with the mounting need for illuminating oil, forcing the price of whale oil higher and making illumination costly for ordinary Americans. Only the affluent could afford to light their parlors every evening. There were many other lighting options such as lard oil among others but no cheap illuminant that burned in a bright, clean, safe manner. George Bissell, considered as the father of the American oil industry, had the intuition that oil that was plentiful in western Pennsylvania could be a first rate illuminant. The slimy liquid was so ubiquitous that it tainted well water and plagued local contractors drilling for salt. In 1855,Professor Benjamin Silliman from Yale produced a report that vindicated Bissell’s hunch that oil could be distilled to produce a fine illuminant (like kerosene), plus a host of other useful products. As a result, Bissel and his company, Seneca Oil Company (formerly the Pennsylvania Rock Oil Company) needed to dispatch someone to Pennsylvania to look for large pools of oil. That man was Colonel Edwin Drake, known as the first to successfully drill for oil. Drake arrived in Titusville, Oil Creek Valley. Oil was known to exist here, but there was no practical way to extract it. Its main use at that time had been as a medicine for both animals and humans. Natives used it for war paint and for soothing skin liniment. It took a couple years but Drake struck oil in 1859. This was the beginning of a pandemonium. Bands of fortune seekers and speculators streamed into Titusville and other oil-related businesses quickly exploded on the scene. I guess you can call this the Klondike of oil.
Boomtowns appeared briefly, witnessed frantic activity, and then vanished as abruptly as they had appeared. In a short-time after oil is struck, a sleep frontier settlement is transformed into a hectic town filled with hotels and saloons. Pithole, Pennsylvania is an example of that boom to ghost town phenomenon. In 1865, after oil was discovered Pithole became a boomtown with thousands of people rushing in. Then after the oil was gone, Pithole was left with just six voters. The book talks about a $60,000 hotel, the fancy Bonta House hotel, that was sold for $600 for the lumber and doors. Back then nobody knew how much oil there was and it looked as if the oil would be more than a transient phenomenon. The worries that the Pennsylvania oil wells would dry up consumed a lot of energy. In the late 1860s there were stern prophecies about the industry’s impending demise. Today we know that we are not running out of oil anytime soon but how many times are we reminded of the Peak Oil Theory?
To a much lesser extreme, this reminds me of North Dakota and Fort McMurray in Alberta. Fort McMurray has a lot of oil left for a few decades but the recent oil crash has brought a lot of pain including a housing bust. Just like western Pennsylvania at the time the potential money to be made in Fort McMurray and North Dakota was irresistible, whether in drilling or in auxiliary services; people could charge many times the asking rate.
The oil industry was unruly and turbulent. From its first days, the industry tended to oscillate between extremes: gluts so dire that prices plummeted below production costs or shortages that sent prices skyward but raised the even more specter of oil running dry. Prices back then were volatile with the supply-demand equation shifting radically each time a new gusher came in. It was never clear where prices would settle or what constituted a normal price. When this expanded supply led to lower prices and deflationary bust, it set the pattern for the rest of the 19th century, which experienced huge economic advances, punctuated by treacherous slumps. Lured by easy profits, legions of investors rushed into a promising new field and when big gluts developed from overproduction, they found it impossible to recoup their investment. In 1861 a barrel of oil fluctuated between $10 and 10¢ a barrel! And that’s not a typo. In 1864 a barrel fluctuated between $4 and $12, and then fell to $2.40 a barrel after the Civil War. Does this remind you of today’s boom and bust environment? Below is a chart of the history of crude oil prices.
By the late 1860s, there was a slump in the oil industry, keeping it depressed for the next five years. Low kerosene prices, a boon to consumers, were catastrophic for refiners, who saw the profit margin between crude and refined oil prices shrink to a vanishing point. In 1870 total refining capacity tripled the amount of crude oil being pumped and most refineries were in the red. Now the downstream businesses will feel the pain of a slump in refining margins. Refining margins are starting to slump. Barclays’s benchmark puts average margins in the fourth quarter about 45% lower than the prior quarter.
Worse, the oil market wasn’t correcting itself according to the self-regulating mechanism described by neoclassical economists. Producers and refiners didn’t shut down operations in the expected numbers. John D. Rockefeller said “So many wells were flowing that the price of oil kept falling, yet they went right on drilling.” Rockefeller tirelessly mocked those “academic enthusiasts” and “sentimentalists” who expected business to conform to their tidy competitive models. According to the standard model of competition, as oil prices fell below production costs, refiners and producers should have shutdown. But the oil market didn’t correct itself in this manner because refiners and producers carried heavy bank debt and other fixed costs and by operating at a loss they could still service some debt. Each refiner, pursuing his own self-interest, generated collective misery. Does it sound like today’s news? The U.S. drilling activity didn’t slow down as much as expected and a lot of producers are still pumping oil to avoid defaulting on their loans.
The Oil Regions of Pennsylvania created many millionaires and left many more paupers. Many who had made easy fortunes in oil found themselves bankrupt. Now how many people have lost their shirt in the latest oil crash? People are losing their jobs, loans are defaulting, fortunes have melted, income going to retirees is gone, oil dependent countries are falling apart, and the carnage continues. People who succeeded believed in the long-term prospect of the business and never treated it as a mirage that would soon fade. That’s what John D. Rockefeller and Standard Oil did.
The violent price swing created an urgent need for certainty, stability, order, and predictability. The solution back then was forming a cartel with the leading producers. In 1869 and 1870 are the years cited by Rockefeller as the start of his campaign to replace competition with cooperation. On February 1, 1869, the Petroleum Producers’ Association was created to curtail production and lift prices. According to Rockefeller the industry needed to be tamed and disciplined since it was struggling with excess capacity and suicidal price wars. That’s almost hundred years before the Organization of the Petroleum Exporting Countries (OPEC) that was formed in 1960. Standard Oil ran “running arrangements” with its rivals in which Standard Oil guaranteed them a certain level of profits if they accepted a ceiling on their output. This caused the problem all the cartels face: How do you prevent cheaters. Whenever refiners with running arrangements exceeded their assignment allotment, Standard Oil, as the swing producer, curtailed its own output to maintain prices. This is exactly the situation Saudi Arabia has been facing since the 1970s. Cheaters are not the only problem for the cartel, it also had to grapple with the “free rider” problem. That is opportunistic refiners outside the cartel who enjoyed the higher prices it produced without being bound by its production limits. In the end the agreement crumbled because producers couldn’t enforce discipline in their ranks. High prices lead to producers to pump more leading to another major glut in the market. In today’s world, the biggest free riders are Russia, the U.S., and Canada among others. They benefit from OPEC’s output restrictions and counted on the organization to curb output to support price. Well that mutual belief fell apart and so did the floor that the oil price was standing on.
A year ago OPEC, influenced by Saudi Arabia, decided to defend market share instead of cutting output, ultimately hoping to drive high-cost producers such as U.S. shale firms out of the market. OPEC’s decision last Friday in Vienna is escalation of that policy. OPEC will not limit oil production. OPEC says it shouldn’t have to cut output alone and there’s really no appetite to cut, especially from Iran. OPEC historically functioned for so long because they were able to coordinately restrict supply and therefore influence oil prices. Now they have dropped their founding mission to operate in a free-for-all ceilingless production environment in an already oversupplied market.
“Everyone does whatever they want” – Iranian Oil Minister Bijan Namdar Zanganeh
As a side note, most of the stuff refineries produced back then was kerosene. This was years before the introduction of the automobile. Nobody knew what do to do with the light fraction of crude oil known as gasoline and many refiners let this waste product run into the river. Rockefeller said “we used to burn for fuel in distilling oil and thousands and hundreds of thousands of barrels of it floated down the creeks and rivers, and the ground was saturated with it, in the constant effort to get rid of it.” And because the industry was so out of control and that voluntary association didn’t work, John D. Rockefeller wanted to bring the industry to heel under Standard Oil control. As for Pennsylvania, oil production peaked in 1891, when the state produced 31 million barrels of oil, 58 percent of the nation’s oil that year. Standard Oil became a monopoly and the world’s first and largest multinational corporations. The Federal Government dismembered Standard Oil in 1911 into dozens of constituent companies.
The oil market is disconnected from fundamentals. The oil industry is a victim of over production at any cost. Producers are focusing on protecting market share even if that means selling barrels below cost. Others are still filling up inventory space just because they need to pay interest on their loans. The market, instead of acting on fundamentals, is trading on momentum. Low prices are the excuses for lower prices. We are never at the center, or in equilibrium. We are always to the left or to the right of the pendulum. And when the market corrects itself it shoots past equilibrium and goes straight the other way.
The latest oil boom is responsible for the recent bust as it happened in the late 19th century in Pennsylvania after discovering a new big gusher. With high prices and sky-high profits, the field had soon grown overcrowded. Supply didn’t follow demand. When oil prices were high, capital expenditure exploded and producers drilled everywhere. The feeling was that oil prices were only going to go up. Oil booms and busts happened frequently in the past, except today we though that “time is different”. The thesis was the age of cheap oil was over because of the ever growing oil thirst of China and the rising demand in emerging markets. Well the thesis is still more or less relevant, it addressed the demand side of the equation. The issues are on the supply side of the market and latest developments set up for more price wars in an already heavily oversupplied market.
We might be in 2015 and we might think of ourselves as smart and sophisticated. Our society doesn’t look anything like the wild one described in the 1800s. However, even if our society is more advance, our behavior didn’t evolve and as a result we repeat the same mistakes of the past. When you think things couldn’t get uglier, they do. As for me, I will try to finish that 774 page oil brick.
Me and my fiancé recently got back from our first all-inclusive vacation in Cuba. This was a change from my usual style of traveling since I always avoided popular tourist destinations but circumstance led me to experience what I would label as “light” travelling. It turned out to be a great time and it was certainly different from my past travelling experiences. The Cubans are great hardworking people. With Cuba fresh in my mind, I wanted to share my thoughts on the region with you.
“In Cuba we got everything we need, but nothing we want.” – Cuban worker
Now that toppling governments is the viral thing to do, one has to wonder how come Cuba hasn’t taken the street for Revolution 2.0. Most revolutions are usually sparked by a highly young demographic that is not content with the current state of affairs, a department that Cuba doesn’t lack in. The young Cubans probably find it hard to believe that a pair of crusty 80 year old brothers is the solution to a better future. It seems that it would be a matter of time before the Cubans join the trend and chase the Castro brothers off of the island. But it won’t happen anytime soon for reasons I will explain below. Or Castro simply removed any “Square” required to start a revolution. Ukraine has the Maidan Nezalezhnosti Square, Libya has the Green Square, Egypt has the Tahir Square, Tunisia has the November 7 Square, and Turkey has the Taksim Square. Maybe Cuba doesn’t have a “Square”.
At the heart of the Cuban revolution were poverty, corruption and social injustice (and Batista was a terrible leader). However, more than fifty years after the revolution, the results of the socialist experiment are in plain sight. Cuba is an impoverish nation with a highly educated workforce. I believe Fidel had the best interest of his people in mind but his ideology and economic reforms were a setback for the island. Cuba is a victim of terrible capital allocation, the same problem the Soviet-Union was suffering from. The old Soviet-Union was producing a lot of genius people, but because of terrible capital allocation skills those geniuses never lived up to their potential and ended up being a waste of talent. Cuba is in the same boat. The island is full of highly educated doctors and chemical engineers. Unfortunately these smart individuals have no incentive, or simply can’t, apply their talent to the greater good.
At the resort where I was vacationing at, those same chemical engineers and doctors were mixing drinks for me. Why? Because they are rewarded for their hard work in tips and therefore could provide for their family. The sad reality is that a bartender at a resort can earn more in one day of work than in a whole month as a doctor.
Revolution 2.0 Will Wait
There are two main reasons for the delay.
First Cuba hasn’t reached their “rock bottom” of pain. The ordinary Cuban might not be comfortable, but he’s also not suffering. They are in a state of “rut”, the state where you are not suffering enough to make it a catalyst for change. The Cuban citizen has his basic “needs” covered. Food, housing/shelter, electricity, water, free education, and free healthcare are provided. If the Cubans decide to overthrow Castro, there will be suffering and danger, at least in the short-term. It’s a gamble. Fear, uncertainty, and the risk of losing their basic “needs” privilege are part of the cost-benefits analysis. There’s also a possibility that it does not materialize into a better world.
An analogy is the 9-5 worker stuck in his miserable job. He’s not particularly happy with his job but it pays the bills and feeds his family. He knows with some effort and courage he can find something better, but changing career brings short-term suffering and uncertainty. After all, why jeopardize the next mortgage payment, it’s not guaranteed he will be happier and have more money. So in the end the 9-5 worker stays in the same position because it’s sort of comfortable. That’s the state the Cubans are in. After your health, education, hunger, electricity and shelter is looked after, it’s hard to pull the trigger.
The other reason the Cubans are not over throwing the government is the lack of communication. The ordinary Cuban doesn’t have access to the Internet (although available on the black market and it can be expensive). In most revolutions you can fill up a “Square” with thousands of people in minutes with just a Tweet. In comparison, it took Castro 6 years to topple the Batista government with his guerrilla warfare tactics. So if a Cuban starts a fire, there’s good chance it would be extinguish before it gets a chance of spreading. Without modern communication, it will take a long time to get the message across.
Keeping its population in isolation and semi brainwashed seems to be contributing to its stability. North Korea is the master of that art, by keeping the Koreans off the grid, the state managed to convince a starving population that it’s on the top of the world. Because I was vacationing, I didn’t get the chance to have in-depth conversations with the population, I did manage to have a few exchanges. In overall they seem to believe that only Cuba has the unique benefits of universal healthcare, free education and pensions. Now I understand why the government is restricting Internet access.
While on the topic of communication, USAID recently made headlines with their fake Cuban Twitter program aimed at creating an Arab Spring in Cuba. USAID decided they wanted to overthrow Castro through a Caribbean Spring via text messages but they blew their budget. Click here to read the NYT coverage. Obama now officially joins the list of Presidents that failed to take Castro out.
For change to happen you need a strong emotional response. You will get an emotional response the day Cuba can’t get the money to support their generous social programs. If that happens, Cubans could be on the street. To put that in perspective, imagine the reaction in the U.S. if the social security check came in late, madness would hit the street.
An example of a country failing to cover the basic needs of its citizens is Venezuela. Venezuela, under Chavez and now Maduro, had their own socialist experiment and now some Venezuelans are falling through the cracks. The reforms are hurting the population it’s trying to help. Now the population is in the street protesting for change, and that’s a hard genie to put back in a bottle.
Cold Hard Cash
Aside from remittances, estimated at $2.6 billion in 2012, which is one of Cuba’s biggest revenue sources, tourists are a huge source of hard cash, exactly what Cuba needs to survive. Tourists, mostly Canadians, Europeans and some Argentinians, love the warm Cuban weather, clear blue skies and beautiful perfect beaches. These vacationing resorts are mushrooming everywhere competing for tourist’s money. As I mentioned above, a lot of highly educated Cubans want that dream job of working on a resort to get some of that tourist money. The average Cuban monthly salary ranges between $15-$25 depending on the trade. Of course they love when they receive tips, but money is not everything.
There’s a chronic shortage of goods in Cuba. Bringing basic goods into the country sometimes triumphs giving money because it’s impossible to shop until you drop in Cuba (A box of 25 Cohibas is pretty light). The stores are government owned, so the supply of goods is very limited. On the other hand, I notice that there never seems to be a shortage of cigars. I found out that the cigar markers have a production quota and if they surpass it they get a bonus. I also recommend you get the handmade cigars and not the machine made one, there’s a huge difference in quality and price.
Cuba’s biggest exports are not cigars but doctors. Because of its great educational system, Cuba mass produces doctors and uses it as a currency. Cuba recently sent 30,000 doctors to Venezuela in exchange for 3,000,000 barrel of oils. Using that metric, one doctor is equivalent to 100 barrel of oil. At $100 a barrel, one doctor is worth $10,000.
I remember when I was attending high school in the U.S. Fidel Castro was portrayed as the devil, right up there with Saddam Hussein. We were constantly told that Fidel was a bad bad man. When I came back to Canada the attitude towards Fidel was quite different. In Canada Fidel isn’t depicted as an “evil” person, but just another dreamer with failed economic policies. I subscribe to that school of thought. (But then again, if I had nuclear weapons pointed at me I’d probably feel differently.)
Cuba is also strong at playing the anti-U.S.A. propaganda game. While visiting gift shops there’s plenty of books portraying the U.S. as the great Satan. I don’t even want to know what they say in schools. Since the Cubans are not exposed to any other views because of the restriction of information flow, that’s the only view they know. Psychology 101, if you repeat the same thing over and over you will end up believing it.
The country is filled with Che Guevara pictures and paintings, portraying him as a hero. Here’s a little known fact: The rights to the famous iconic image of Che that you see on every hipster’s T-shirt and posters, is owned by an Atlanta based firm. Is Che rolling over in his grave knowing that an American company is raking millions by filling the malls with his image…?
The solution to Cuba’s misery might be in the new plan Raul brought forward. In 2011 Cuba’s communist government has enacted a 300-point economic plan that will overhaul its domestic economy to encourage more private enterprise. I understand Cuba’s desire to take it slowly, probably based on a blueprint that Vietnam and China used to liberate their economy. After all, instant liberation would bring a lot of instability. Cuba’s neighbors, the Caribbean and LATAM region, are not exactly a success story.
Part of the plan is attracting foreign investments. Cuba has a new foreign investment law in place that provides incentives for companies to invest in Cuba, such as an 8 year tax exempt, investment security to foreigners and expropriation ban. The plan will also guarantee transfer of profits or dividends outside Cuba. The plan also extended the term for leases of land to foreign firms to 99 years from 50. Major foreign companies doing business in Cuba include Canada’s publicly traded Sherritt International and Spain’s Melia Hotels International. The State also plans to shift a large portion of the workforce from the public sector to the private sector. There’s also housing reforms where Cubans could finally own private property.
Cuba’s biggest assets are its people. Cuba, to a much lesser extent, could pull a South-Korea or Japan, where natural resources are scarce but is human capital rich. With more economic reforms and liberation, Cuba should use its human capital to get itself out of poverty and raise the standard of living. Cuba can achieve that by letting the Cuban people free to pursue their own destiny and improvement, and not take everything the labor has earned.
The Cuban government is starving for capital to support its generous social programs, which is also the government’s lifeline. The current regime knows that it can’t support across-the-board subsidies. With the 300-point plan in place it’s steering the island away from a command economy to a mixed economy with market mechanism. It’s certainly a step in the right direction. While I’m cautiously optimistic, attracting foreign investors will certainly shape up the island. Opportunities exist for the foreign investor, but the risk is extremely high. If successful, it will reap rewards.
Raul Castro’s son is being groomed to take over the “throne” once Raul steps down in 2018. But the younger Castro is not the solution. If Cuba wants a better future, it will need to come from its citizens but as long their basic needs are covered, Cubans are not going go for a regime change. Cuba is human capital rich with its prized doctors and professionals. Cuba needs to liberalize its economy, politics and free its people to prosper and pursue their destiny. In the end everyone will benefit.
1st Part: North Korea Vice Documentaries
2nd Part: North Korean Propaganda (Pictures & Videos)
3rd Part: North Korea – Funny Pictures, Memes and Celebrity Stop
4th Part: North Korea – Beautiful Pictures
5th Part: North Korea – How to invest in North Korea
This is the 2nd part of a multi-part posts. North Korea has been getting a lot of attention recently and all for the wrong reasons. Dennis Rodman’s diplomatic mission, nuclear weapons, potential war, mysterious crazy behavior, propaganda and the list goes on. I decided to compile together a collection of North Korean pictures and documentaries to get a better view inside of the hermit Kingdom. Some of it is funny, sad, disturbing and weird.
This part address the propaganda videos and pictures that have been publish by the regime.
Videos from North Korea’s official website. This is what we are dealing with.
North Korean dreams of destruction of USA
“A Short, Three-Day War” – Video showing paratroopers descending on Seoul in an invasion scenario that envisages taking around 150,000 US residents in South Korea hostage.
Video showing hows American soldiers and U.S. President Barack Obama engulfed in flames, with the sequence ending in a simulated nuclear test.
Video showing paratroopers descending on Seoul in an invasion scenario that it said would see thousands of US citizens living in South Korea taken hostage.
1st Part: North Korea Vice Documentaries
2nd Part: North Korean Propaganda (Pictures & Videos)
3rd Part: North Korea – Funny Pictures, Memes and Celebrity Stop
4th Part: North Korea – Beautiful Pictures
5th Part: North Korea – How to invest in North Korea
This is the first part of a multi-part posts. North Korea has been getting a lot of attention recently and all for the wrong reasons. Dennis Rodman’s diplomatic mission, nuclear weapons, potential war, mysterious crazy behavior, propaganda and the list goes on. I decided to compile together a collection of North Korean pictures and documentaries to get a better view inside of the hermit Kingdom. Some of it is funny, sad, disturbing and weird.
This post has a lot of parts.
1- Vice’s Documentary – Inside North Korea
2- Vice’s Documentary – North Korean labor camps in the Siberian forest.
3- The Joe Rogan Experience- Shane Smith discuss the North Korean slaves camp in Siberia.
1- Vice’s Documentary – Inside North Korea
First check out any videos done by Shane Smith from Vice. They’re the best. I have included his North Korea trip and the labor camps in Siberia videos. This give you a very good view of what’s really going inside because they were inside! If you don’t have time for anything else they are all must see!
Vice founder Shane Smith managed to get into North Korea after a year and half of trying and is witness to the craziness of this hermit nation.
North Korean Labor Camps in Siberia
North Korea has come up with a new way to bring cold hard cash into its isolated country: export North Korean workers to slave away in the Siberian forest (often without telling them they’re no longer in North Korea). We set out to investigate these camps and almost landed ourselves in quite a bit of trouble. Continue reading “North Korea – Vice Documentaries & JRE clip – Part I”
“Everyone has always told me I’m nuts when making investment decisions, but when you can look at something differently than other people, you can find opportunity.”
– Sheldon Adelson, Billionaire Casino Operator
$6 Billion Later
It took $6 billion to find out Obama remains President, the Democrats still control the Senate and the Republicans still control the house. Senate Democrats are fortunate to take two seats from the same two Republicans who made their controversial rape comments. Richard Mourdock, one of the losers and the only senate candidate that Romney endorsed, said that if you get pregnant because of rape, it’s a gift from god. The GOP certainly didn’t win any votes with that one.
End of the World
If the world doesn’t end on December 21st as the Mayan calendar predicted, the Americans made sure that there is a back up date to get the job done: December 31st. That date, nicknamed the Fiscal Cliff, is the expiration of the Bush tax cuts, payroll deductions, break for business, shift in the alternative minimum tax, debt ceiling expiration, and a lot of other stuff that will throw the economy and the world down a cliff. According to Barron’s, over 1,000 government programs – including the defense budget and Medicare are in line for “deep, automatic cuts.” The American government made sure that this will happen because it requires Democrats and Republicans to work together. Right now Obama is answering fiscal cliff questions on Twitter.
Obama 2012-2016 Agenda
Incredible how this election was run without knowing what each candidate will do. The whole campaign was focus on trashing each other’s past. With the pressure to be re-elected gone, let’s see what’s on the table for the next four years.
– Fiscal cliff (see above)
– Attack the deficit/debt issues
– Immigration reform
– Stimulus package for states to help hire public school teachers
– Massive infrastructure upgrade that will provide jobs to thousands of construction workers
– Plans to consolidate progress on financial regulatory and health care reform (Obamacare)
Continue reading “Information Ring – 2012 Holiday Editions”
Thank you so much for the positive comments I have received on the previous emails. Because of the positive feedback I decided to make it better to keep the momentum going. I invite you to read the new edition on my blog at brianlangis.wordpress.com There is more contents, the display is better, more visuals, files, comments and I also post occasionally. Enjoy reading about Zynga, Romney vs Obama, Manchester-United, Usain Bolt, RIM, Glass-Steagall, a couple videos, a hot police chase and more.
Also free to check out emergingfrontiersblog.com
Me and colleagues are tracking down frontier market news at Leopard Capital’s frontier market blog emergingfrontiersblog.com
Zynga a Speculative Value Play?
ZNGA is trading for about $3 with a market cap of 3.9b. This is far from the $10 IPO. The stock has been getting slaughtered because of slower growth forecast. The investment thesis: With about $1.5b in cash or $2 per share, you are buying Zynga on the cheap, almost entirely for its cash. They also own their $233m office in San Francisco. This is the kind of valuation you see in companies in distressed situations but Zynga isn’t burning any cash and that’s important. With only $100m in debt and a current ratio of 2.24x (It means that they can pay their bills for a while) you might be in for a safe bet. The risks: A Facebook crash, shitty games, terrible management, or they start blowing the cash on shitty acquisition. So tell your friends to load up their credit card with virtual potatoes. Continue reading “Information Ring – August Back to School Edition”