On My Very First Post

Obviously, most readers of this blog don’t remember my very first post, because they didn’t yet know this blog existed.

The Gannon On Investing blog began on December 24, 2005 with three short posts. What was the subject of my very first post?

American Eagle (AEOS). This is how I began that post:

Generally, I don’t like investing in retailers, because it is nearly impossible to find one with a durable competitive advantage. I do, however, like to invest in companies generating tons of truly free cash flow and consistently earning good returns on invested capital while maintaining a pristine balance sheet. When one such company is priced at less than a dozen times earnings (and a part of that price is attributable to the cash in its coffers) my heart begins to patter.

The object of my affection: preppy teen retailer American Eagle.

I’m revisiting this post, because things have changed. Well, one thing has changed – the price of American Eagle’s shares. At the time I wrote the blog’s inaugural post, shares of American Eagle traded at $22.02. Today, they stand at $43.78.

That’s almost a double. But, not quite – it’s actually an increase of 98.82%.

Needless to say, my view of the stock has changed. The company’s shares no longer represent an especially attractive opportunity.

A recent post at Focus On Value mirrors my own thinking (both then and now). I have no special insight into American Eagle as a business. I simply thought it was a cheap stock – yet another victim of the often irrational pricing of teen retailers’ shares in the stock market.

See a chart of American Eagle’s stock price during 2006.

As you can see in the above chart, American Eagle’s three publicly traded “peers”, Abercrombie & Fitch (ANF), Aeropostale (ARO), and Pacific Sunwear (PSUN), have greatly underperformed American Eagle during 2006. Therefore, the 98.82% gain is clearly not the result of a multiple expansion or change of sentiment within the U.S. equity market as a whole or the teen retailer group in particular, but rather a reassessment of American Eagle’s relative value. The company’s share price has greatly increased both in absolute terms and relative to its peers in particular and stocks in general.

While I don’t normally discuss shorting stocks on this blog; I can’t ignore the obvious opportunity presented by the existence of such mispricings. Clearly, exploiting such “relative bargains” is a field of activity that might be appropriate for some value investors – especially as a complement to other (more concentrated) investment operations.

In situations such as the one that existed on December 24, 2005, it is possible to purchase an issue that is especially attractive on a relative basis (but would be inappropriate as a large, long-term position in a concentrated portfolio) by shorting a relatively expensive peer of comparable (or lesser) quality.

For instance, in this case, you could have shorted Abercrombie & Fitch (which ironically had been something …

New Book Review: The Little Book of Value Investing

Gannon On Investing’s newest contributing writer, Steven Rosales, reviews Christopher Browne’s new book, The Little Book of Value Investing.

Read Book Review…

The Favorite Post Contest

You can win a copy of Benjamin Graham’s “Security Analysis” (1934 edition)

All you have to do is pick your favorite post from this blog.

Some of you may remember when I gave away two copies of Benjamin Graham’s Security Analysis through the “Widest Moat” contest.

Today, I’m announcing a new contest of sorts. Really, it’s another opportunity to win a copy of Graham’s Security Analysis. Hopefully, it will also be an opportunity for new readers of this blog to find some good posts they might have missed.

Here’s how the “Favorite Post” contest works. You can either send me an email or comment to this post by clicking the “comments” link below. You select your favorite post from this blog. If that post ends up getting the most votes over the course of the contest, you’ll get a free copy of Benjamin Graham’s Security Analysis. The book is a modern reprint of the original 1934 edition. It’s currently available on Amazon.

Of course, you can’t “nominate” a post someone else already chose. So, you need to pick a new favorite post.

From now until 11:59 p.m. on Monday, October 9th, I will accept nominations. After that, the voting will begin. The voting will consist of picking a post and explaining what you liked about it. Just like in the “Widest Moat” contest, I will select the best comment by a voter and give away a second free copy of Ben Graham’s Security Analysis.

I’ll explain the voting part in greater detail later. For now, simply pick your favorite post from this blog. Browse the “Posts By Ticker” and “Archives” presented on the right sidebar (scroll down to see) to find the best posts from the last year.

Also, feel free to comment on the posts picked by others. I will give away another copy of Graham’s Security Analysis for the best comment. In all, there will be three free copies of Security Analysis given out over the course of this contest.

So, for the best chance to win, pick a post and comment on the posts picked by others.…

Festival of Stocks Reminder

The fourth edition of The Festival of Stocks is now up at My 1st Million at 33.

The Festival of Stocks is a new blog carnival focused on highlighting bloggers’ best recent posts on stock market related topics.

This week’s edition includes posts on Home Depot (HD), Parlux Fragrances (PARL), Walter Industries (WLT), Lions Gate (LGF), and many others. The Festival also includes posts about the general market, such as my post “On a New High and an Old Price“, which discusses the Dow Jones Industrial Average.

Next week, Value Discipline will host the Festival of Stocks.

Visit Festival of Stocks #4

Learn More About The Festival of Stocks

Visit My 1st Million At 33

Visit Value Discipline…

Three Posts Worth Reading

Here are three posts worth reading. All three cover subjects that haven’t gotten enough attention.

I’m surprised the Western Union (WU) spin-off didn’t get more positive attention. As for Sara Lee (SLE) and Time Warner (TWX), they also deserve attention – but, not the positive kind.

To be clear, I’m not making a point about the stocks here. I may do that at a later date. For now, I just want to say I agree with the basic premise of each of the following posts and thought you might enjoy reading them:

Western Union: One of the Most Quiet Spin-Offs Ever by Jon Ogg

Can Warner Bros do better than “Beerfest”? by Douglas McIntyre

Sara Lee–No Brownie Points for the Committee by David Phillips…

New Site: The Value Blogs

A new value investing website, The Value Blogs, just launched.

The Value Blogs is a blog aggregator focused on presenting recent value investing blog posts. Unlike some other excellent aggregators (e.g., Seeking Alpha), the site only presents the opening to each post, forcing the reader to follow a link to the contributor’s site to read the full post. This is done in the hopes of driving more traffic to contributors’ sites.

Hopefully, this will have the result of encouraging cross-blog discussions among the various value bloggers. It should also serve to suggest sites to readers interested in finding other value investing blogs.

Last I checked, The Value Blogs already had about a dozen contributing blogs. Several of these blogs are already familiar to readers of this blog. However, there are a few contributing blogs you may not have visited yet. There will likely be more such blogs added in the days ahead.

So, I encourage you to visit The Value Blogs, bookmark it – and see what develops.

Visit The Value Blogs

Visit Seeking Alpha…

On a New High and an Old Price

One of the comments to my previous post, The Human Index, prompted this post.

As the Dow flirts with a new high (and the financial media tests everyone’s patience), it’s worth remembering how far the average investor has fallen and why. In this post, I discuss how far the fall has been.

As for why – that’s a topic that underlies everything written on this blog. Investing is about the price paid and the value received. If valuation seems a dry topic in the abstract, it’s worth remembering the real world cost of ignorance.

Once again, I quote from Graham. I’ve used this quote before. It’s my favorite Graham quote. It’s also the best thing you can learn from this blog (I’ve bolded two phrases of immeasurable importance):

“…the influence of what we call analytical factors over the market price is both partial and indirect – partial, because it frequently competes with purely speculative factors which influence the price in the opposite direction; and indirect, because it acts through the intermediary of people’s sentiments and decisions. In other words, the market is not a weighing machine, on which the value of each issue is recorded by an exact and impersonal mechanism, in accordance with its specific qualities. Rather should we say that the market is a voting machine, whereon countless individuals register choices which are the product partly of reason and partly of emotion.”

The view of the market to the average investor isn’t really comparable to the view of the market to the average dollar. Individuals don’t have their assets distributed evenly across the various equity issues available in the major public markets. A lot of individuals who have held every share they had six years ago are nowhere near where the Dow is today, because they own the wrong Dow stocks and they own very poor performing non-Dow stocks.

List A

Eastman Kodak (EK)

General Motors (GM)

Intel (INTC)

Microsoft (MSFT)

Home Depot (HD)

List B

Altria (MO)

Caterpillar (CAT)

United Technologies (UTX)

Boeing (BA)

Exxon Mobil (XOM)

Which did more people own in 2000, List A or List B? Which do more people own today? And, in 2000, which list did people think would perform better?

List A is the worst performing Dow stocks since the last high; List B is the best performing Dow stocks.

Other notable issues include Disney (DIS), McDonald’s (MCD), and Coca-Cola (KO). These are the kind of stocks people would love to buy and hold forever. They are sentimental favorites. They are also below where they were trading at the last high – although, they are about in the middle of the pack for Dow stocks.

So, I’d have to say the Dow doesn’t really measure the performance of individual investors’ accounts at all. There’s a selection bias for individuals that isn’t reflected in the DJIA. Obviously, there are also some popular stocks that aren’t part of the Dow.

Recently, internet stocks are the best example. Generally, …

Friendly’s CEO Resigns; Largest Shareholder Requests Seats

On Thursday, Friendly Ice Cream Corp (FRN), announced CEO John L. Cutter had resigned. It was not immediately clear whether Mr. Cutter had been forced out.

I mention the possibility that Mr. Cutter was forced out, because Friendly’s largest shareholder, Sardar Biglari, included this disclosure in a 13-D filed approximately one week before Mr. Cutter’s resignation:

“The Reporting Persons have consulted with the Chairman of the Board of Directors and management of the Issuer concerning the business, operations and future plans of the Issuer, and are seeking seats on the Board of Directors for Mr. Sardar Biglari and Dr. Philip L. Cooley. “

The reporting persons are The Lion Fund L.P., Biglari Capital Corp., Sardar Biglari, and Western Sizzlin Corp (WSZL). They own 12% of Friendly’s outstanding shares.

The two notable entities are The Lion Fund, a hedge fund run by Mr. Biglari, and Western Sizzlin, a public company engaged in the operation and franchising of restaurants.

Western Sizzlin

Biglari (and others) effectively took control of Western Sizzlin during late 2005 and early 2006. Individuals controlling more than a third of the company’s shares replaced the existing board. Below is the description provided in Western Sizzlin’s most recent annual report:

“In November 2005, we added three members to out Board of Directors, namely Sardar Biglari, Philip L. Cooley, and Paul D. Sonkin. Subsequently, in March 2006, six of the incumbent directors, namely Paul C. Schorr, III (our former chairman), A. Jones Yorke, J. Alan Cowart, Jr., Pat Vezertzis, Jesse M. Harrington, and Roger D. Sack, resigned from the Board. At that same time, Mr. Sonkin indicated that he would not stand for re-election at the 2006 annual meeting of stockholders.”

The Lion Fund

The Lion Fund is managed by Sardar Biglari, 29. Philip Cooley serves as one of the fund’s directors. Biglari was a student of Cooley’s at Trinity University. The Lion Fund was launched just over five years ago – although Biglari apparently operated the fund with his own money for about one year before welcoming new investors.

Here are two short (old) articles from the San Antonio Business Journal discussing The Lion Fund:

Lion Fund Loses its Roar

Fund Posts Solid Growth

Sardar Biglari

Biglari has an interesting story. He started an Internet Service Provider while still quite young; then, went on to found The Lion Fund. He frequently cites Warren Buffett as an investing influence. His letter to shareholders (as Chairman of Western Sizzlin) certainly bears a resemblance to Buffett’s own annual letter.

Read Biglari’s Letter to Western Sizzlin Shareholders

StreetInsider.com (among others) reported this story. That story prompted this post.…

On The Human Index

As the Dow approaches a new all-time high (the record close was 11,722.98), now would be a good time to take a break from the financial news found on your televisions, in your newspapers, (and yes) even on your computers.

A new high is an empty headline. I’m not writing to tell you that; you already know that. What you may not fully appreciate is just how arbitrary an index the Dow Jones Industrial Average really is.

Most notably, it’s no longer very industrial. Only about one of every three stocks in the Dow is involved in what might be considered an old-line industrial (heavy manufacturing, extraction, etc.) business. A lot of the Dow components are involved in totally different businesses such as consumer products, health care, and technology. For the most part, these businesses are usually a lot less tangible. The businesses are mostly asset-light; their future prospects are mostly company specific.

Today, the extent to which the common stocks of the thirty companies move together may have more to do with their shared classification as “Dow” stocks than with the future prospects of the underlying businesses.

On April 8, 2004 some changes were made to the Dow. These weren’t the first changes – and they won’t be the last. Such changes add to the arbitrary nature of the index, especially in the short-term.

Generally, the changes have been motivated more by who needs to go than by who needs to come in. Discarded Dow components can usually blame a dying industry for their exit. Sometimes, a rapidly dwindling market cap helped.

The April 2004 changes involved three spots in the index and six stocks.

Departures: AT&T; (T), Eastman Kodak (EK), and International Paper (IP)

Arrivals: Verizon (VZ), American International Group (AIG), and Pfizer (PFE)

Please note that AT&T; is now back in the Dow. In November 2005, SBC Communications, which was itself born from the 1984 divestiture agreement between AT&T; and the Justice Department, changed its name to AT&T; after acquiring that company. It also adopted the ticker symbol associated with that name (T). As a result, a chart of the new AT&T; does not reflect the fortunes of the old AT&T.;

So, I will provide a link to a chart that shows the other five stocks involved in the 2004 Dow reshuffle:

See a chart of EK, IP, VZ, AIG, and PFE from April 1, 2004 to September 26, 2005

(Note: The actual changes to the index occurred on April 8, 2004; however, these changes had been announced by April 1, 2004).

I also added the S&P; 500 to the chart to reinforce the obvious – none of these stocks has fared particularly well. In fact, since the changes, they’ve all basically underperformed the S&P; 500. With the exception of Kodak (and Verizon for a very short time), none of the stocks have even managed to trade above the share price they had at the time of the reshuffle.

Is this just a coincidence?

As a rule, …

On Two Very Different Links

I have two suggested links for you today – one serious, the other a bit more whimsical:

Commentary on Buffett’s Partnership Letters

Birinyi Associates Ultimate Stock Selector

Buffett’s Partnership Letters

The more serious of the two links comes courtesy of ValueBlogger.com, a value investing blog. Recently, ValueBlogger presented a three-part commentary on Warren Buffett’s Partnership Letters.

From 1957-1969, Buffett ran an investment partnership. His letters to the partners from 1959-1969 are available online (in PDF).

I have mixed feelings about mentioning this, because the letters were originally private communications. There was (and to some extent still is) an intimacy to the general partner / limited partner relationship that can not be duplicated in the manager / shareholder relationship at any public corporation (including Berkshire.) However, I’m willing to put this privacy concern aside, because these are undeniably extraordinary documents.

Buffett’s partnership letters are to the student of investing what the private correspondence of an American President is to the student of history. They are a primary source illuminating a period in Buffett’s career that hasn’t been adequately explored by those who have written about the man.

The constraints under which Buffett operated during the partnership years were quite different from the constraints under which he operates today. His approach has clearly changed. Some of that change is attributable to his differing circumstances; the rest is attributable to a change of perspective born from a half century of self-analysis.

Anyone with a serious interest in investing should at least read a commentary on the letters, such as the one prepared by ValueBlogger.com. Of course, such a commentary is not an adequate substitute for reading the actual letters; however, I am aware of the fact that most people today are not accustomed to reading such documents and engaging in a first-hand investigation of sorts. Therefore, I am sure some of you will prefer to simply read a commentary that reduces the letters into a more easily digestible form.

ValueBlogger.com provides just such a commentary – and does it quite well.

Throwing Darts

The more whimsical link comes courtesy of Ticker Sense, one of the blogs included in 24/7 Wall Street’s list of The Twenty Best Financial Blogs.

It’s a dartboard. With tongue firmly in cheek, Ticker Sense writes:

We are pleased today to unveil one of the great, long-awaited products in the history of Birinyi Associates. Representing years of toil by our Research & Development arm, the “Birinyi Associates Ultimate Stock Selector” is the culmination of all of mankind’s collective study and analysis of the stock market and the science of stock-picking. By condensing decades of data and lifetimes of research into an over-riding method for predicting the market’s path, the new Selector is your one-stop reference for investment decisions that is designed to create the ultimate portfolio suitable for any scenario.

I don’t have much to say about this link. I like the “Ultimate Stock Selector” dartboard. I thought some of you might like it …