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Sometimes it pays to acknowledge you’re not as smart as you think, and other year-end tales

I’m writing this from a place way up in the mountains where there is no internet connection. I find it healthy to disconnect sometimes, because it forces me to think and reflect, rather than ‘follow the market’.

So I’ve been reflecting on my successful trade in NACCO Industries (NC). Not that I want you to think I’m bragging, a close to 70% return in only a six weeks is nothing to sneeze at after all, but, really, I’m not. I just want to learn from this experience so I can replicate it… over and over. In large part, I have to say, the return was mostly pure chance. These things happen once in a while if you’re in the right place at the right time… Still, is there anything I can learn from it to better my next investment?

What were the factors leading to such a phenomenal (for me at least) return? Well, the first was that I ‘showed up’, I actually purchased shares in the spinoff before the event. I have the Clarke Street Value blog to thank for that. Second, I was quick to recognize that this spinoff had all the makings of a classic Joel Greenblatt (meaning, attractive) spinoff; the parent’s two businesses were in completely unrelated fields (Coal and small home kitchen equipment), it was somewhat complicated (family controlled, dual class share structure) and it was a small enough transaction to be under the radar of most institutional and hedge funds. So the first reminder to self is to identify all upcoming spinoffs. They generally lead to some good returns (again, thanks Joel Greenblatt). To do that you’ll need to read, read, read: the Wall Street Journal, Barrons, Bloomberg, whatever you can get your hands on, oh and of course Clarke Street Value blog.

So what were the other factors leading to success? 1) timing of the purchase (pure chance), 2) timing of the sale (again, you got it, PURE CHANCE) and finally acknowledging that I didn’t really know which of the eventual spinoff entities was going to outperform … so I held both. Maybe I was just too lazy to do the research. Maybe I figured I really didn’t know enough about either industry to make an educated guess about where each spinoff entity would trade. But let’s just say I was smart enough to acknowledge that I just didn’t know; the important thing was that post-spin investors were going to have the chance to value each business independently, coal investors were going to be evaluating NACCO, small kitchen appliance investors were going to be evaluating Hamilton Beach, independently of each other. Most likely investors would value the sum of the two independent businesses at more than the original combined entity. Furthermore, perhaps the spinoff was in preparation for the family to divest one of the two businesses, which would be an added kicker.

What actually happened was nothing that I could have predicted. The first day of post spinoff trading, 9/29, NC traded below $20 per share and HBB traded in the low $30s. Investors were dumping the coal mining shares in favor of the kitchen aid business. This is just what I thought would happen. I myself, favored HBB over NC (but with of course no research to back this up). Luckily I did nothing. By the end of Monday, the next trading day, however, NC was trading in the low $30s (and I was berating myself for not having bought NC below $20 for a quick 50% gain!). Still, I let sloth prevail and did nothing. Over the ensuing month both shares traded up to the low $40s. When the shares of NC finally overtook HBB in dollar terms and I had a 70% gain in 6 weeks I said, enough is enough and sold. How could two businesses be worth 70% more separate than together? Now, I could understand a gain like this after a couple of years of decent performance on the part of one or both companies. But really, after 6 weeks and no further information? It was just too much for my rational mind; I was out. It wasn’t a clean ‘out’ however; NC had distributed 1 share of HBB A stock and 1 share of HBB B stock for each share of NC owned at the spinoff date. The catch was that the B shares were not registered to be traded on any exchange and they had to be exchanged on a 1 for 1 basis for A shares. To further complicate the issue the B shares were not in book form so it was going to take 6 weeks to make the exchange (needless to say I’m still waiting). So to close out the trade I shorted an equal number of A shares to what I would receive in the exchange. And lucky I did! Since then HBB shares have declined over 30%. Had I not exited when I did I would now be up only some 40%. Not bad, but not the stellar 70% return I managed. So a further lesson; Don’t be too greedy!

OK a few housekeeping items. I sold off my position in Support.com (SPRT) last month, primarily because it was too small but at the same time I didn’t have enough confidence in the investment rationale to increase the position to my standard size. I also sold of my position in Gyrodyne (GYRO) for a tax loss I needed to balance out other LT gains. I haven’t soured completely on GYRO and may buy the position back in the new year.

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Bubble? Bubble? What Bubble?

So much has been written about whether we are in an equity market bubble that, not to be outdone, I thought I’d offer my two cents. As an added feature I’ll also offer up my thinking about Bitcoin and crypto currencies! I can’t be any more wrong about these things than all the other commentators, can I? It appears from reading all the garbage commentary that nobody really knows what is happening anyway.

So let’s start with the equity bubble…..

Of course we’re in an equity bubble! Just look at the most favored stocks on the US equity exchanges, the FANG stocks. They mostly trade at impossible multiples of current earnings. Doesn’t anyone remember the Nifty Fifty? (and what happened when they were no longer Nifty?) No one in their right mind believes corporate earnings can be predicted with any semblance of accuracy; Earnings 2 or 3 quarters out can hardly be guessed at, never mind 5 or 10 years. So why should any company be valued at over 100x earnings (unless of course it is sitting on assets worth its market capitalization)? Current multiples anticipate earnings 5, 10 or more years out! Many pundits find all sorts of ‘logical’ explanations for the market trading at current lofty multiples; the low interest rate environment, new technologies, a quantum shift in the digital economy, etc. etc. All I can say is “Give me a break!”. How many times have we heard “Its different this time”, that is, until it isn’t. Sorry, I’m a non-believer! I think the market moves in waves, from dearth to excess and back to dearth. We just happen to be near the crest of the wave right now.

And bitcoin? Well, does Tulipmania ring any bells? I’m wondering just when ‘investors’ in cryptocurrencies wake up and find that poof!, their investment went up in ether last night. Now, I’m certainly not predicting this will happen tomorrow or next month or next year; bitcoin could go to $100,000 in the next two years (or two weeks!) for all I know before the proverbial ‘stuff’ hits the fan… but hit it, it will! The value of bitcoin is simply based on demand and supply. Supply is limited and recently demand has been high. Very high. It could get higher. But, because there is not much that can be done with bitcoin that cannot be done with any other currency (like pay for the necessities or even the luxuries in life) I don’t really see what kind of edge it has. Well, it has an edge; its anonymous. But how long will national governments let ‘investors’ invest speculate in UNREGULATED assets (and I use that term loosely) that CAN’T BE EASILY TAXED??? My guess is not too too long…..

The real question an investor has to ask him/herself is WHAT TO DO knowing that we ARE in a bubble. I’ve been asking myself that question for the past 2 or 3 years, that is, since I began thinking that we had entered bubble territory. To my mind the question has become more urgent in the past year, since the presidential election, with the 20+% rise in the US equity market. For the general investing public I think the best thing to do is nothing. Remain fully invested with the understanding that your portfolio WILL INEVITABLY DECLINE at some point by 50 or 75%. If you get used to doing nothing on the way up, then perhaps it will be easier to do nothing on the way down! It’s important to remember that timing the market is a fool’s game… so don’t even consider trying! But for an investor who can spend a bit more time and energy looking into various market opportunities, is there anything he or she can do to position his/her portfolio for the inevitable bear market, short of holding only cash? And even holding only cash ‘equivalents’ is not without risk as we saw in 2007/2008. It doesn’t help that cash provides close to zero return in this environment. My answer to this is simply to look for what appear to me mis-pricings and ignore the overall market. I’m also trying to be careful to move up the corporate priority ladder in terms of securities, for example the preferred units in Steel Partners LP (SPLP-PRA). And of course, I have a number of investments that are in liquidation so the cash SHOULD be coming back sooner rather than later (NYRT, FUR).

So that’s it. My advice is to do nothing more than prepare mentally to see your portfolio lose half its value in the next couple of years….. And then DO NOTHING when it does begin the decent! That latter ‘DO NOTHING’ is, of course, a real challenge.

Steel Partners Preferred (SPLP.PRT)

In my last post I alluded to a new position that I was building in a preferred issue. At the time I was writing that post I hadn’t yet accumulated a full position so I left the issue unnamed. An anonymous reader, as if reading my mind, suggested I look at the Steel Partners preferred units.

So now I’ll confirm I purchased these preferred units, but the T class not the A class. The original class A preferred units were issued last February for the buyout of Steel Excel shareholders. Then last month additional preferred units were issued to fund the buyout of the balance of the outstanding Handy & Harman shares not owned by Steel Partners. However, these latter units were designated class T units, but ONLY to distinguish them from the original class A units issued in February for ease in calculating the December 2017 dividend payment. After the December dividend payment the T class units will revert to A class units.

So why are either class of preferred units interesting? For one thing the balance sheet of SPLP is solid and cash flows from operations appear to cover LT debt several times (although this is not particularly clear as Steel Partners has interests in a number of businesses in different industries including manufacturing and banking – DO YOUR OWN DUE DILIGENCE). The preferred units, like preferred stock, have a call on cash flows superior to the common units, AND THE MANAGEMENT TEAM IN CHARGE OF SPLP CURRENTLY OWNS 50% OF THE OUTSTANDING COMMON UNITS OF STEEL PARTNERS. This means Lichtenstein’s management group would have to lose ALL their equity in the venture in order for the preferred units to become worthless. Thus, it seems to me that management incentives are at least to some degree aligned with those of preferred unit investors.

My interest in the T class units was tweaked when I noticed that they were selling at about a 5% discount to the A class units. That didn’t seem to make sense. The only difference in the cash flow streams between the two preferred classes is 10.4 cents at the December dividend payment, 37.5 cents payable to each class A preferred unit vs. 27.1 cents for each class T unit, but the T units were selling for $1 less. To explain this I can only suggest that there was additional selling pressure on the T class due to the fact that certain holders of the preferred units who had received them in the Handy & Harman exchange offer either 1) HAD to sell as they were constrained to holding only certain types of instruments or  2) considered the limited upside of the preferred units inconsistent with their investing goals. In either case I LOVE IT WHEN THERE ARE ‘FORCED’ SELLERS. Furthermore, just to make these units more attractive, they have a defined life; The issue must be fully retired at par, $25, in 2026, with 20% of the issued to be retired in 2020.

This is a period where I have been looking for investments that fit into one of two categories: either they are 10/1 (possibility of 10x up vs. 1x down) or relatively shielded from the current nosebleed equity markets with a reasonable return. These preferred units, of course, fall into the latter camp.  OK, so once I identified the preferred units as attractive why didn’t I ‘back up the truck’ and buy as much as I could, or at least buy a full position? Well, here we get into an ‘implementation’ issue. MY implementation issue. Scene: two weeks ago…price of both the A units and T units were trending down each and every day. I calculated that at $20 and change the units were yielding an IRR of 10%+. So I purchased a first tranche of class T units at about $20.12, thinking I would add a second and possibly a third tranche below $20 a unit as the price continued to trend down. BUT, and here’s the problem, rather than continuing their downward trend, the price suddenly reversed direction and began increasing! At first I thought, maybe this was just a blip upwards before the downward trend resumes. After a couple of days of gains, when I finally realized that this was not the case, I finally began putting in limit orders to get another tranche at a $.30 higher, then $.40 higher, then $.50 higher, etc. Yes, each time missing the purchase because I was nickel and diming my limit price. SO JUST HOW STUPID CAN I BE?? It’s a curse for me to make my first purchase at the low because I then anchor to that price and have a hard time pulling the trigger subsequently when the price goes up.

Anyway, that’s the saga of why I’m holding a half position in these preferred units.

 

As always, the above is not investment advice; always do your own due diligence!

 

Out with the Old and in with the New

When considering a new investment I generally expect to hold it for a minimum of 2 or 3 years; if you have a dissonant view about a certain security (and that is the secret to making a decent return in the stock market) you can’t expect Mr. Market to suddenly change his mind just because YOU purchase the security. It takes time. After all, how long does it take YOU to change your mind about an investment? and remember, Mr. Market is quite a stubborn fellow. Prone to excess, but quite a stubborn fellow. A company generally needs to demonstrate that it is on a track to exceed Mr. Market’s expectations for a number of quarters if not years before Mr. Market can swallow his pride and re-price its equity. I think we can acknowledge that changing ones mind about an investment is perhaps one of the MOST difficult thing for an individual to do, and Mr. Market, after all, is just an amalgam of individuals.

So how is it that I have exited my last investment, NACCO Industries (NC), after less than 2 months? Well, incredible as it may seem, Mr. Market has changed his mind about NC and revalued it (and it’s spin-off progeny, Hamilton Beach (HBB)) by close to 70% in less than 2 months! Is it possible that by spinning off the Hamilton Beach, NC management has increased the intrinsic value of the now-separate companies by 70%? I hardly think so. Perhaps NC was trading at only 60% of its intrinsic value in the first place and the spinoff lifted the shroud from Mr. Market’s eyes? Well, maybe. I’m just not sure that pre-spin NC was trading at 50% or 40% of its ‘intrinsic value’ and so I have exited my position with a quite reasonable 68% gain.

My primary reason for selling is that my initial thesis has proved out; the spinoff repriced the equity to take into account the two different businesses. And secondly, the shares have already risen beyond my target exit price and I no longer see  the same upside as I did at the time of my initial investment. The future for the two companies does look a bit fuzzy right now; we haven’t seen stand-alone company performance yet for either one. Furthermore, on a short-term horizon, 3rd quarter earnings will be released for both companies this week. Will they disappoint? I don’t know. Perhaps not and both securities will rocket to another 70% increase. But then again, there could be a disappointing earnings announcement with a resultant fall in one or both share prices. With this uncertainty and the market in such a heady state overall I think it is prudent to take a bit of money off the table.

As you will remember NC had (and still has) a two class share structure; class A shares are publicly traded on the NYSE while class B shares are held by the controlling family and have 10x the voting rights of class A shares. When Hamilton Beach  (HBB) was spun out of NC on Sept 30 each NACCO shareholder, whether class A or B, received one class A share and one class B share of Hamilton Beach for each NC share owned as of the record date. I would have thought that shareholders of NC class A shares would receive only class A shares in HBB and class B shareholders class B shares, but this was not the case. All NC shareholders, whether class A or B shareholders, received the same securities in the spin-off. The issue here is that HBB class B shares are not registered on any exchange and therefore not salable. In order to sell your HBB class B shares you must first exchange them for class A shares. As I have now discovered from my broker the class B shares are not in book form so there must be a physical exchange!! In short, this appears to mean it will take up to 6 weeks for HBB class A shares to appear in my account after my exchange request. Oh, and, of course, there is a $30 fee to do this! So to dispose of all my shares, besides selling the NC and HBB shares in my account, I have also had to short a number of HBB shares equal to the class A shares that I will receive after the exchange is completed and the class A shares delivered. Hopefully the mechanics will work out without too much difficulty (or cost).

As to a new position, yes, I have begun accumulating shares in a preferred issue that I will post about when I have a full position… it’s a rather illiquid security and I don’t want competition from my two readers out there!

As always, the above is my view on the aforementioned securities; please do your own due diligence as I am more likely to be wrong than right!

An appeal to Saint Jude (GLAE)

It seems I have a special attachment to Saint Jude, the patron saint of lost causes; I am a shareholder of Glassbridge Enterprises (GLAE). This is a company that, on the surface, appears to have little value or chance of survival. Of course, the worst part is that I paid up to become a shareholder.

The first thing to remember about Glassbridge is that in its former life as the company known as Imation it was a net-net for many years…… until suddenly it wasn’t! No, not because the share price rose, but because somehow assets disappeared into thin air, or rather more likely they weren’t there in the first place. In fact, when I bought into GLAE last winter I thought it WAS a net-net as shares appeared to be selling well below book value. Yet, when the transmigration from Imation to Glassbridge happened, pffft!, book value disappeared, and as of June 30th this year book value was $-5.68 a share! This negative book value did factor in a substantial amount of liabilities from discontinued operations ($44 million). Most of this, according to the 2016 10K, was accounts payable that management was disputing. So, since then, what’s happened to these disputed items? Well, last week the uncertainty around some of these liabilities was resolved. A lawsuit brought by CMC against several former Imation entities was settled; $10.025 million of restricted cash assets from discontinued operations will be released to CMC and an additional $1.5 million in cash and $1.5 million in notes will be paid out over the next year. Offsetting this, $21 million of current liabilities from discontinued operations will move off the balance sheet. From what I can see this should improve book value by approximately $8 million ($1.60 per share). Of course non-restricted cash, it seems, will suffer! Note that this still leaves $23 million of liabilities from discontinued operations on the balance sheet, of which $11 million appear to be accruals for “legal fees” (2016 10K) against which there don’t appear to be any segregated current assets. Hmmm… I would love to see a little more color on this in the next 10Q, but I imagine that we will have to wait for the 2017 10K to get more information unless something is resolved in the meantime.

Since the above is primarily accounting shenanigans it doesn’t really help us to know whether there is ANY value left in the Imation carcass or whether some value is currently being created by GLAE operations (asset management). So I’m still waiting to see if I’ve dumped money into a black hole or whether phoenix-like, Glassbridge will rise out of Imation’s ashes. Mr. Market obviously doesn’t think much has been resolved as shares have bumped down over the interim.

Stay tuned and say a prayer to Saint Jude for me.

Housekeeping: RAD, NC and NYRT

Rite Aid (RAD)

When I first wrote about Rite Aid, Walgreens was still waiting for Justice Department approval to acquire the company at $6.50 a share (down from $8), an acquisition I gave a 50/50 chance of succeeding. Clearly I was overly optimistic, and when the deal was changed at the 11th hour (the acquisition was nixed in favor of a purchase of about half of Rite Aid stores by Walgreens) RAD shares tanked, losing close to a third of their value. I added 50% to my position at that point. Then, more recently as the share price continued to decline, I ‘doubled down’ at around $2.27 a share. This ‘doubling down’ has always been an issue for me; what ‘doubling down’ SHOULD mean is to double the INVESTED dollars not SHARE COUNT, yet I rarely end up doing that. What often happens, as it has this time, is that the share price drops, I buy another tranche of the SAME NUMBER of shares as I currently own with the intention of buying a further tranche when the share price falls more. Then, lo and behold, the share price never does fall further and instead begins to rise. Because I’m anchored to my most-recent purchase price I never end up purchasing the third tranche. It is totally illogical but I can’t seem to pull the trigger once the share price begins to rebound. Yet that’s EXACTLY the moment to buy… when the price is RISING not FALLING! The problem is that it’s not always easy to know when the price is really rebounding. In retrospect its easy to see this; a chart makes it obvious.  But in practice, well, you know what Yogi Bera said…

I find that one of the most difficult (read psychologically painful) moments is when one purchases  a final tranche of shares believing the share price is rebounding, only to have the price fall further. The way around this ‘purchase dilemma’ is to ignore short-term movements in the stock price and base purchases on your estimate of the company’s intrinsic value. Thus if you purchase with a discount to your intrinsic value (say a margin of safety of 30, 40 or 50%) it doesn’t matter if the share price goes down; in fact this is only an opportunity to purchase MORE of the company at an even GREATER discount. Of course this means that you have to do your homework and figure out your estimate of the company’s intrinsic value…

So where does that leave us with Rite Aid? Last post I outlined a bit of a heuristic valuation. I think you need a more complete in-depth valuation to feel comfortable in making an investment at current levels but I’m not going to provide that as I think each investor needs to make the effort on his or her own. I’m not expecting the share price to do much until the current deal with Walgreens is consummated (or not), so I think there is ample opportunity to pick up shares at levels slightly below where the shares are currently trading.

 

NACCO Industries (NC)

First, a hat tip to the Clark Street Value blog for bringing the Tropicana Entertainment opportunity to my attention; that was a cool 40% gain in less than 6 months! Thank you!

So now he’s mentioned the NACCO Industries (NC) spinoff. I love spinoffs (Thank you Joel Greenblatt), especially where there are two or more totally unrelated businesses within a holding company structure. ‘Conglomerates’ almost never get valued properly as investors have an easier time understanding ‘pure plays’ with the result that conglomerates seem to be assigned a ‘conglomerate discount’. NC is a perfect Greenblatt example; a coal mining business and Hamilton Beach, a small appliance maker. What do the two have in common? Not much, and apparently management has finally come to the same conclusion. This is a family controlled business (as will be the two surviving public companies) and so therefore everything is not strictly Wall Street rational. Family control can have significant advantages (long-term outlook and careful guarding of capital when shareholder and family interests are aligned) as well as disadvantages (like what are a coal company and small appliance maker doing together under the same corporate umbrella?).

I’ve taken an initial position and have yet to do a ‘deep dive’ into the financials. I’m hoping the market doesn’t pump up the value of the shares too much before I can get myself to look more closely at the two stand alone companies (already up 7+% since I purchased, ouch!)

 

New York REIT (NYRT)

Wow, what a ride! NYRT announced a transaction for their NYC Worldwide Plaza property last Thursday and the shares lost almost 10% in pre-market trading! What gives? Yes, this was a troubled REIT from the beginning; bad management (from a shareholder’s perspective, of course) slowly ground the value of this investment down considerably from its 2010 initial offering price of $10 per share. But with the decision to liquidate and a new management team heading the liquidation process since March of this year all the problems were supposed to be behind it. Why did the stock drop like it did? I’m not exactly sure but my guess is that the uncertainty that the Worldwide Plaza deal generated (a refinancing and sale of a portion of the equity rather than the sale of the entire equity position in the property) was the primary motive for the share price drop. On the conference call following the announcement, management DID affirm that the transaction will not negatively impact the liquidation NAV estimate that management will publish at the end of the 3rd quarter. As of the second quarter that NAV estimate was $9.21 per share. But management also made clear that the Worldwide Plaza deal will probably mean that at least the remaining interest in this property will probably not be sold within the two-year liquidation period, resulting in a continuing liquidation trust. As some institutional owners are not allowed to own non-tradeable securities this revelation could also have had a negative impact on the share price.

All that being said (and even before I heard the conference call) I added significantly to my position in NYRT at the opening yesterday. It seemed to me that a 10% haircut was far too much (actually it was more like a 15% haircut as the price had already begun to decline on Wednesday) and the market was overreacting. After listening to the conference call I am even more sure that the market over-reacted and now, of course, wish I had ‘backed up the truck’… but so it goes.

Portfolio update: BBX, TPCA, RAD and GLAE

Yes, I’ve been somewhat lax in updating my blog portfolio. The summer doldrums are here; with heat above 100 degrees my brain functions at half speed at best.

Last month I sold out my position in BBX Capital. I hadn’t really been following the vicissitudes of the company closely, but with the dismissal of the SEC charges against the former chairman and his return to the company once again as Chairman of the Board coupled with the declining share price over the previous 6 months I thought it time to take the money and run. I hung in there a bit to see if the NYSE listing would provide any renewed updraft in the share price, but it didn’t. I don’t like investing in companies where executives are even accused of wrongdoing (given the reticence of the SEC to go after ANY corporate executives I immediately assume that where there’s smoke there’s FIRE!). When I first invested in BBXT it was trading at less than half book value and the former Chairman (Levan) was ‘on sabbatical’. The shares are now trading over book value and he’s back in place… no need to say more. More than a 100% return, though I left money on the table by not being more attentive and selling out earlier.

The Tropicana Entertainment dutch tender terminated on 8/19. I tendered all my shares at the maximum, $45/share. Less than half the outstanding shares were tendered, meaning that the final price was the top end of the tender range and that a good number of investors thought the offer was too low. Knowing Icahn, it probably was! But for me a 45% return in less than 6 months was something I could live with, and to my mind there was more than some uncertainty as to the exit strategy and timing for those that continue to hold.

I have increased my positions in Rite Aid and Glassbridge. Selling in the wake of the 11th hour Rite Aid/Walgreen Boots deal change has sent the shares in Rite Aid down over 50%. I think this is a huge over-reaction. The company that Walgreens was willing to pay over $8/share for 24 months ago is now selling for 30% of that. Rite Aid is now a ‘disappointment’ stock and, to my mind, will bump along at current levels until a) the new slimmed down operations produces improved operating results or b) another company comes along and bids on the remaining Rite Aid (Amazon?). I plan to increase my position further if the shares continue to weaken.

Glassbridge delisted from the NYSE at the beginning of August.  There was a considerable spike in volume just before and after the delisting. I assume this was probably because some institutional holders didn’t want to or couldn’t hold the OTC shares, and that these ‘forced sellers’ have temporarily depressed the share price. In consequence I doubled my holdings at about $1.90/share. Insiders bought in June/July at more than $3.00/share, which would seem to corroborate my theory. The shares are still highly speculative and I’ll be closely watching the 2nd Quarter results which will be announced shortly.