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    The Market May Not be What You Think + A Gift Portfolio

    This edition features thoughts about "The Market" conversation, plus a recent column suggesting a sub-$100 portfolio of five companies that you could give to a child. Some of those companies are interesting investment candidates for more than 1 share, though I originally reported positive insider buying on CASA, which is actually very negative: 13 sales of 16.8 million shares in the last 12 months. My screen-scraping software recorded a positive number, so I believe that the data source was wrong at the time. In any case, you might want to avoid CASA because of heavy insider sales:

    The Market May Not Be What You Think

    If you attended a holiday party recently, you could not escape the market conversation. On Christmas Day, a wealth manager from a reputable firm told me, “There was so much selling yesterday that I expect the market to drop as much as 2000 points tomorrow.” I was alarmed. The next day, the market rose by 1086 points – the largest single-day point gain in history.

    Most people call the Dow Jones Industrial Average “the market,” but that is only the 30 largest publicly traded stocks. Then there is the S&P 500 and the Wilshire 5000, a market-cap weighted index of all U.S. stocks with readily available price data – that is, an investment you might actually trade. The last time the Wilshire 5000 had over 5000 equities was in 2005; it grew to a high of 7562 in 1998, and today counts only 3600.

    After you remove trusts, REITS, and other investment vehicles, there are relatively few operating companies to choose from – perhaps 2800. In 2017, there were 9,356 U.S. mutual funds; domestic equity funds represented 43% of those, or about 4023 funds. Add to that the 1756 U.S.-based Exchange Traded Funds (ETFs) and you’ve got 5779 packages for 2800 candidates.

    We delight in packaging up financial assets, which makes the risks inscrutable and shields us from recrimination, guilt and analysis. We have convinced ourselves that we can rationally select from 5779 bundles, but not from 2800 more discrete risks. Bundling financial assets is sold as a way to distribute your risk, but it can also ensure that your basket has some garbage in it. Sometimes, the sellers stuff your basket with junk because the commissions are just too enticing, which happened in the mortgage crisis of 2008. Who knew that no one was paying for all those houses? 

    Perhaps you follow “the market” on financial TV channels, which offer two stories: “Investors today are concerned about X, and so the market dropped” and “Investors have priced in their concern about X, and so the market rose.” Who are these investors? No investors speak because of the real risk of appearing foolish. 

    In fact, 75% (or more) of trades are made by algorithms (“algos”). You and I may use simple instructions like “Sell if the price increases by 100%,” while more complex automated algos are matching patterns against historical and recent price movements to game you and their equally sophisticated competitors.

    Algos also measure terabytes of words in tweets, articles and news streams for market sentiment. Add the ability to throw huge pools of incremental investment at any situation, and the machines can create price swings that frighten humans into selling or entice them into buying at all the wrong moments. As in a casino, we tell ourselves that we have “a feeling about the market,” and we are wrong. We end up giving away our money to the best machines. 

    Some of those machines are operated by Renaissance Technologies, whose founder James Simmons topped the hedge fund money list for the last three years, earning $1.7 billion in 2017 alone. Renaissance’s Medallion Fund, which caters mostly to its predominantly scientific and mathematical employees, earned 71% annually from 1994 to 2014. Your gut is up against the best technology in history that is designed to suck money out of the market.

    Even weirder, artificial intelligence has what is known as the Black Box problem. Because machines can recognize multivariable patterns beyond our comprehension – and more quickly – we really don’t know what they’re thinking. We can’t see inside that box while the market is moving, and the boxes are all competing against and allying with each other to maximize their trades, so many, if not most, of the swings in the market could now be driven by intelligent devices whose logic we don’t truly understand.

    In the realm of understanding, only one person has contributed much wisdom lately, and he has been widely quoted. He may know the global economy better than government statisticians because his company monitors world-wide shipments in real time. FedEx Chairman and CEO Fred Smith said, “Most of the issues that we're dealing with today are induced by bad political choices…making a bad decision about a new tax, creating a tremendously difficult situation with Brexit, the immigration crisis in Germany, the mercantilism and state-owned enterprise initiatives in China, the tariffs that the United States put in unilaterally. So you just go down the list, and they're all things that have created macroeconomic slowdowns."

    Politicians can destroy wealth as happened in Venezuela where the country squandered its oil riches, and the economy became so dysfunctional that the average citizen lost 24 pounds. But politicians can also, if inadvertently, create wealth. Jack Ma, the founder of Alibaba and the richest man in China, likes to say that the U.S. spends too much on defense. He may be right, but he seems to forget that his fortune is based on one of the U.S. Defense Department’s most successful creations – the distributed communications system that became the Internet.

    These are things that influence the market that we cannot know: the future of most financial bundles with hundreds of moving parts, what’s going on with high-speed algos, and what problems politicians will create.

    These things we know: human beings are tool users, and we place a high value on new, better tools. There is a relatively small universe of companies that have low debt, enough cash to weather a downturn, and increasing, profitable sales of new technologies. Over the long-term, some of these will outperform the market. 

    Benjamin Graham said, “In the short run, the market is a voting machine but in the long run, it is a weighing machine.” Since we cannot know “the market,” let us endure the slings and arrows of short-term losses in solid companies in the hope that they grow, are properly weighed, and reward us for our analysis and patience.

    What should I gift thee?
    December 19, 2018

    It’s no longer enough to give a present. We must “gift” something. Giving is so low brow. Important people gift. “Hello, my subject…I gift you mine blessing. Now, go!”

    Could other words be similarly improved? Instead of driving, we could go drifting. Mere living is not enough – we should be lifting. For what you have done to me, I magnanimously forgift you.

    The best gifting phrase lately was handed down by Judge Judy who turned her governing talents into a $47 million a year private job. (The reality TV door swings both ways.) Judge Judy says that she and her husband like to give “with a warm hand.” If their children need help with a house or college costs, Judy and Jerry are happy to give while they’re still alive. I’ve seen many people stringing along their children, and those children reacting with some delight when their stingy parents died. “Giving with a warm hand” seems like a better way to manage the love of one’s family. 

    You can gift framed stock certificates from I once gifted my wife a share of Tiffany & Company, which annoys her with dividend checks in amounts like 11 cents. In the last five years, TIF has gone from $83.19 to $85.94, but has held its value better than most jewelry pieces, which despite the ardent guarantees of salespeople, are rarely purchased at a higher price than their initial sale.

    Like many children, my son once owned a share of Walt Disney Company (DIS), which was the most decorated and popular stock certificate on GiveAShare. The many minor shareholders must have irritated Disney because they discontinued stock certificates in 2013. Still, my son and I enjoyed the 2004 Disney shareholder meeting in Philadelphia in which DIS rejected Comcast’s $54 billion takeover proposal. DIS is now worth $167 billion; Comcast, $168 billion. Since 2004, one share of DIS has climbed from $22 to $112.

    GiveAShare sells a genuine registered share of Medical Marijuana Inc (MNJA) in a premium frame for just $114. The share is valued at 9 cents. [Insert your own marijuana valuation joke here.] MNJA recently climbed 28% from 7 cents. The company has a market cap of $302 million. Shareholders are hoping for 100-to-1 reverse spliff. I mean split.

    Suppose you wanted to give a child a small portfolio that might encourage an interest in business. Until recently, even discounted commissions would wipe out small trades., however, charges only regulatory fees per trade, and makes its money on ancillary services. You can build a tiny portfolio for less than $100. It takes three business days to fund the account, but I found that I could buy stocks the next day. ATTENTION: your Robinhood account is linked to your bank, so DO NOT give away your password and login. You could give the account with a letter agreement, and set up a small portfolio on Yahoo Finance that mirrors the Robinhood portfolio to prevent the kind of panicky, childish sell-off common to adults.

    Let’s pick a gift portfolio of five companies for a young child. First, let’s find low prices so we can buy whole shares. Second, it would be fun to have some moonshot opportunities for drama. This is a buy-and-hold for a decade portfolio, so we’re looking for companies that might stay around. And it wouldn’t hurt to have some brand names. Here are my five:
    • nLight Inc (LASR) makes lasers and sells for $19.20. It’s profitable, has a ton of cash and a cool web site ( LASR has that beautiful chart where it went public, shot up, and came straight down. The excitement is over, and they can start working their plan. Also, did I mention that they make lasers?
    • Skechers (SKX) makes shoes and fashion items, and sells for $23.50. Sales in the last five years have grown profitably from $1.8 billion to $4.1 billion.
    • Casa Systems (CASA) makes 5G solutions for broadband networks and is one of the leading purveyors of acronyms. Sales in the last four years have grown from $211 million to $351 million, and it sells for $14.70.
    • Kimball Electronics (KE) was originally the electronic organ division of Kimball pianos. Since spun out, KE produces electronics for the automotive, medical, industrial and public safety markets. Selling at $16.40, KE has grown steadily and profitably to $1 billion in sales, and also shows net insider purchases.
    • Cato Corp (CATO) is a specialty fashion retailer with declining sales, declining share price ($13.70), a 9% dividend, and 200,000 shares purchased by insiders in the last 12 months. CATO also owns the Cedar Hill National Bank, which exists solely to service the CATO credit card. The last good thing that Sears ever did was Discover Card, which is now worth $22 billion. CATO doesn’t have the distribution of Sears, but it does have 1300 stores and is headquartered in Charlotte, which is a banking town. CATO has $210 million in cash and short-term investments and no long-term debt. Retailing is hard, but CATO makes money, and it could be one of those interesting situations that looks like one thing, but is hiding value in another. 
    There you have it: a five-stock portfolio for about $90. And you’ll have the pleasure of whispering, “Hey, kid – your biggest expense in all of life is taxes. If you make money on these and hold them for at least a year, you’ll pay zero taxes on your gains up to $38,600.”


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