From time to time, we intend to make postings to our Straight Talk Blog when we have something important to say. All three partners will be contributing authors. We'll alert you by e-mail when we make a new posting.
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Aug 4, 2011 7:00 PM Heathbridge Capital Management
The world is revelling in a full-fledged market panic. Ironically, the topic of greatest concern one week ago was the possibility of a US default. Our blog of last Friday argued that it would be wrong to sell on that account. But within days, that commentary became irrelevant as the world skipped right over that issue to dwell on a double-dip recession on account of European defaults.
Economists’ views of the likelihood of a double dip recession seem to rest on whether or not they believe that government spending is a source of economic activity or not. Equivalently, views that we will have a second recession depend on the notion that European economies will slow down as government expenditures are cut back to accommodate tight finances. Most corporations are seeing little derivative effect from cut backs in government expenditure, although certain sectors which are very dependent on subsidies, like renewable energy, are suffering drastically. In fact, the interest rates on corporate debt are falling precipitously as investors shun government debt to invest in the (supposedly) safer corporate sector.
This premium on corporate debt is at odds with the sell-off in corporate equities. The huge flow of funds created by monetary stimulus is a double-edged sword. The funds can be used to short as well as to invest. At the moment, shorting the panic is the easiest route.
It was our belief that economic activity was bound to slow as corporations trod carefully, given the news that was dominating the headlines. Slowdown in China also seems likely, but this would not in itself be a killer for the US economy. The caution taken by corporations has, in many instances, created great balance sheets. We believe that the economy will resume recovery as corporations start to invest in capital goods and inventory once again.
When things are going well, people will use any reason to buy. We are experiencing the opposite right now, with people anxious to sell. Volumes in the summer tend to be light and it doesn't take much selling to cause the market to drop.
Over the medium term, the pressures for governments to get themselves into balance is a positive influence just as the financial system was forced to get into balance after the 2008-2009 crisis.
We believe that this spasm is creating wonderful opportunities and continue to believe that selling now would be ill-advised.
Jul 29, 2011 1:03 PM Heathbridge Capital Management
The US debt crisis is rattling the markets and causing angst around the world. We have seen this before - the US government shut down under presidents Clinton, Bush Sr. and Reagan. The US economy is more vulnerable now due to high debt levels and a slow recovery from the financial crisis. But we do not foresee a re-run of the banking crisis of 2008 as there is no crisis of confidence of bank counterparties. The August 2nd deadline is looming after being postponed from March. Governments only seem to react when there is a crisis. This also brings memories of alarming deadlines on Y2K that came and went.
There are US debt maturities and Social Security payments due next week, hence the specific date. If a solution is found this can be finessed but ultimately the US government is being forced to ponder the long-term deficit challenge it keeps ignoring. The difference between Greece and the US is that Greece can’t pay it back and the US won’t pay it back. At some point, there will be a solution found in the US and its credit rating will stabilize. In the meantime, all of this is good for good fiscal governance in the long run. In our recent quarterly letter we quoted Winston Churchill:
“The United States invariably does the right thing, after having exhausted every other alternative.”
The Debt crisis is hurting some of our stocks specifically. Magna for one is easy to short if you are economically bearish and could still be a star for the quarter. Thomson Reuters is going through some specific problems but it is easy to hate it when there is a financial crisis. The financials in Canada and the US have been lagging the indices for about a year now and will rebound as the financial stress dissipates. Our roster of leading, Darwinian companies will adapt whatever the circumstances and we think it imprudent to sell out of good companies due to alarming headlines as we highlighted in our recent “Sell Discipline of Checkmark Investing” report. Selling now would be a mistake.
Apr 25, 2011 1:32 PM Heathbridge Capital Management
Today (April 25, 2011) American Barrick announced its intended acquisition of Equinox Minerals for $8.15 per share, topping the previous bid by the Chinese state mining company, Minmetals. Equinox is mainly a copper company, not gold, and its assets are located primarily in Africa and Saudi Arabia, increasing Barrick’s risk profile.
Many investors wonder why Barrick is diversifying into copper at this time, and worry that it signals the company’s opinion that the peak in gold price is near. We are equally concerned, given the discussion by management in a conference call this morning about the never-ending attractiveness of copper, that it could also portend the near-peak in price for the red metal as well.
Aaron Regent, the President of Barrick, sounds eerily like Don Lindsay, the President of Teck Corporation, when he announced Teck’s acquisition of Fording Coal at the peak of the commodity market in 2007. Interestingly, both presidents are young and were in previous lives successful investment bankers.
We believe that this acquisition attempt—even if it is not successful—indicates that Barrick’s eye is off the strategy ball and is focused on growth for its own sake. Copper tends to reduce a gold company’s multiple in the marketplace and the Equinox acquisition would take Barrick’s non-gold production to over 20 percent, the proportion that analysts used to say would affect a company’s share price.
It is part of our investment philosophy that, as soon as it becomes evident that our assumptions about one of our investments are no longer valid, we will sell the shares. This is the case with Barrick and we sold our position this morning immediately after the announcement. The shares had nearly doubled from our initial cost price.
We have been tracking alternative investments in the gold category and are watching for our opportunity to pull the trigger. Given the run-up in gold in recent weeks, this may not be soon.
Mar 14, 2011 6:51 AM Heathbridge Capital Management
For the last few days, the world has watched in horror the impact of the enormous earthquake and resulting tsunami which devastated parts of Japan. Our hearts go out to those with friends and family wrestling with the shock, pain and aftermath.
In the financial markets, there have been aftershocks as well. The explosions at the nuclear power plants in Northeast Japan have exposed the Achilles’ heel of the nuclear power industry and raised questions about the global nuclear renaissance. In the best case scenario, many governments will pause and slow down their expansion of nuclear plants. Already governments from the US to Europe to Thailand have pushed for a freeze. Should this freeze thaw, costs will still rise and approval time lines will lengthen. Bulls would argue that:
China, the world’s biggest builder of nuclear plants, plans to march ahead. The nuclear plants did withstand the fifth largest earthquake in the last 100 years (it was the tsunami that shut down the backup generators).
However, before the disaster, the price of uranium and of producers such as Cameco clearly reflected dramatic future growth (Cameco planned to double production over the next 10 years).
This growth will slow and will be far from certain.
We pride ourselves that our stable of investments is “ethical” and have decided to sit on the sidelines until the safety of the nuclear industry is demonstrable. We therefore sold all our shares of Cameco. The average investor would have realized a slight loss although it will be a profitable trade for clients that have signed on in the past 3 years or so.
It is likely that natural gas will be seen by many nations as the safest and cleanest alternative to nuclear power and we used the proceeds of our Cameco sale to double up to a full weighting in Encana, one of North America’s largest natural gas producers. While natural gas prices remain low, Encana is a low cost producer. It will benefit from the rising long term demand of this relatively green fuel. Demand from international markets may increasingly be met by exports of liquefied natural gas (“LNG”) which will help drain the currently saturated North American markets.
Despite the turmoil in the Middle East, the devastation in Japan and the adjustments governments face in the West, our companies continue to march ahead and we remain confident that they will continue to grow your capital over time.
As Heathbridge Capital Management has grown, we have attained certain economies of scale that we are pleased to share with our clients.
Our Pooled Fund has grown considerably beyond our initial expectations. Its returns have been good, the fund is very convenient from a tracking point of view, and its fees are considerably below those of the average mutual fund. It has returned 19% percent after all charges since the beginning of 2010. Our fixed costs have diminished as a percentage of pooled revenues and we are therefore pleased to be able to reduce the management fee from 1.75 percent to 1.65 percent, starting in January of the New Year.
Also starting in January 2011, the “DAP” (Delivery Against Payment) fee charged by TD Waterhouse will drop from $30 to $23 per transaction. As you may recall, TD Waterhouse does not charge you a custodial fee. However, they do charge a fee for breaking up our block trades with institutional trading desks into your individual accounts. This will now be $23, and will be charged for each transaction whether you receive 100 shares, 1,000 or 10,000 shares. Given that TD does not charge a custodial fee for your account and that the DAP fee provides for more service than is offered by a discount brokerage, this is good value.
The minimum commission per transaction for trades done directly into your account through the TD Waterhouse discount brokerage arm will also be reduced to $23.
As our volumes have grown, economies of scale for TD Waterhouse have permitted us to negotiate these more favourable rates on your behalf. We are pleased to share the benefits of our good progress with you, and we wish you and your family a very happy New Year.
Pessimistic forecasts created panic in the summer of 2010 and many investors cashed out their portfolios. Surprisingly, this happened not at the climax of a stock-market crash but rather at the mid-point of a recovery. This time, those rushing for the door weren’t retirees but rather stock market experts – traders, economists, bankers – who read the business section daily as part of their professional routine and drink each other’s bathwater.
Forecasters profess to know the unknowable. We should keep in mind that these modern day soothsayers make a living by being heard. Audiences still shaken by the events of 2008/09 were quite prepared to believe that further gloom lay ahead.
Why did the crescendo of doom peak in the summer of 2010? At this time of the year, the deck is stacked in favour of the Cassandras. As illustrated in the chart below − which tracks 75 years of the US equity markets − markets reliably decline in September and October, so dire predictions made in the summer have good odds of being validated by stock market declines in the fall. Proclamations of peril had a very good chance of appearing to be right.
75 years of monthly % change of US Equity Markets
Fortunately for investors, the forecasters got it wrong. The markets did not follow their usual course this September. Prices didn’t decline. To date, September is actually UP, as the following chart shows (with our pooled fund results given alongside for affirmation).
September 1st to September 22nd 2010
In fact, in spite of the concerns expressed about impending deflation and depression, the market recovery really hasn’t paused at all.
The thing about dire predictions is that they always have a chance of being right. However, we shouldn’t jump to the conclusion that the best strategy is to be out of the market. Even though we may well have deflation ahead, it isn’t a foregone conclusion that deflation will usher in a depression. Indeed, generally speaking, corporations have never been in better financial shape and are likely to survive even the most severe downturn. With huge increases in money supply looking for a home, even the worst case scenarios would not necessarily bring a stock market crash like that of the 1930s. It is almost never a good thing to be on the sidelines, and the experience of this summer proves the point.