Hey monkeys,
I'm sure you've all been there, a stock that you just keep tossing money at, and despite all the analysis, the models, and readings and re-readings of company financials, the market just won't agree with you. The optimist in you will justify short term share losses, "Oh, the massive drop in gold is affecting everything" or, "The manufacturing index missed expectations, but that shouldn't have hurt this particular company as much as it has" and you gleefully buy more shares that are seemingly "on sale". Then, at least for me, the pessimist shows up and the second guessing commences, "That impairment was a bigger deal then you thought" or, "The recent decrease/increase in revenue/COGS are not just a result of decreasing/increasing commodity prices, it's management and it's permanent". This is not a fun experience, nobody likes to post losses, and blows to your ego can sometimes hurt as badly, if not worse (depending on how much you have invested).
So, when faced with a situation like this, what do you do? Run back through the financials? Rebuild your models? As I'm sure you can all guess, I'm having one of these moments myself, wondering if I'm throwing good money after bad, and trying to figure out a reasonable strategy to try and figure out whether I should close a position or trust in my earlier analysis. Maybe someone here on WSO is having a similar experience with the stock I'm currently frustrated about:
Vale SA
I've been developing a position in Vale for some time now, and initially, it looked attractive: pays a decent dividend, it's the current global leader in iron mining, and appears to have the implicit backing of the Brazilian government among other positive attributes. All good features for a stock that I originally intended to hold for the long term. The company has had a few setbacks recently, all of which I was familiar with while I was establishing my position, namely a collapse in the price of iron ore last September, losses on asset sales, and some write downs due to impairment of goodwill, assets, and investments. My thinking at the time was that these occurrences would have short term effects on the share price, allowing me to get an added boost from later stock appreciation and a beefier dividend yield. Initially, I was quite pleased with my weighted average cost per share of $17.50, but now I'm looking back at my earlier analysis with some skepticism. Originally, my thinking on a couple adverse events was as follows:
- Iron Ore Trough: Last September, iron ore crapped the bed, slipping below $100 for the first time since 2009. While Goldman has recently lowered their 2013 forecast for iron ore, even their revised price is nearly 40% higher than the troughs in September 2012 and roughly 15% higher than the average price in Q4. With nearly 80% of the company's revenues coming from iron ore and iron ore pellets, a rebound in the price of iron ore will do wonders for Q1 earnings and boost share price.
- Asset Impairment: The company wrote down their assets due to two furnaces borking out at their Onça Puma nickel operation. They're planning to rebuild one of them, and anyways, their nickel operations are under some stress due to a large price drop recently. I figured that the impairment charge due to Onça Puma would be taken in stride the same way their Frood mine being put on maintenance status, and their New Caledonia operations temporary shut down, was back in October 2012 and May 2012 respectively.
I won't go into my thinking for every adverse event that has occurred, as I'm interested in how everyone deals with this situation in general, rather than my current situation in particular. Needless to say, in general, I'm worried that my previous conclusions were the result of simple optimism, and now it would seem that my pessimistic side, in the face of a slight but persistent lower share price, is beginning to second guess my earlier conclusions. Which brings us back to the original question, how do you deal with this? Do you go back to the drawing board and start your analysis over, perhaps with a more bearish outlook? Do you trust your earlier analysis and assume that the condition is temporary? Or, do you cut bait and take a loss?
Forget about your cost basis or your history with the position. Analyze it as if you've never had a position in it and ask yourself, would you buy, sell, or avoid this position right now? If you can be honest with the situation, that should get you to the right answer.
If I may... "I think they misunderestimated you"
Not an expert, but:
In these types of situations, I reduce (usually cut by 50%) and ask "what am I missing?". If a position is causing emotional anguish and you don't know why it is underperforming, better to protect yourself. Hard to do, which imho is why investing is hard. Don't worry about missing the pop up, bc there will always be another to catch.
For vale specifically, think key is that size/govt backing is not a competitive advantage in commodity businesses, and the fact that iron ore demand is essentially china means you are betting on china. not only that, you are betting that china and the world won't rush to overexpand capacity at exactly the wrong time (e.g. now, when china is slowing).
In essence, I believe that vale and indeed most iron ore co's are value traps: http://www.forbes.com/sites/steveschaefer/2011/10/17/chanos-beware-valu…
[quote=tt1254]Not an expert, but:
In these types of situations, I reduce (usually cut by 50%) and ask "what am I missing?". If a position is causing emotional anguish and you don't know why it is underperforming, better to protect yourself. Hard to do, which imho is why investing is hard. Don't worry about missing the pop up, bc there will always be another to catch.
For vale specifically, think key is that size/govt backing is not a competitive advantage in commodity businesses, and the fact that iron ore demand is essentially china means you are betting on china. not only that, you are betting that china and the world won't rush to overexpand capacity at exactly the wrong time (e.g. now, when china is slowing).
In essence, I believe that vale and indeed most iron ore co's are value traps: http://www.forbes.com/sites/steveschaefer/2011/10/17/chanos-beware-valu…]
I like this advice, I'm not quite at the point where I'm pulling enough hair out to warrent a loss, but I'm absolutely asking "what am I missing" and trying to figure it out.
There's some advantages to be had from having a national government helping you out, licensure and permitting comes to mind. But I suppose you have a point, just south of 50% of Vale's revenue's come from China. That being said, I'm of the opinion that something silly like an economic slowdown/downturn isn't going to stop pointless and redundant development in China (this is one of those "what am I missing" assumptions I'm looking at).
Interesting article, but again, Jim Chanos makes the same mistake that David Einhorn has made, in that he's looking at these long term price charts for iron ore without mention of how the pricing of iron ore has changed from annual price setting to index pricing as recently as 2008. That's a dramatic change imo, and I'm a bit surprised that they don't make mention of it. Weird, right?
Interesting point on the change in pricing methodology, but does that really change the underlying supply/demand? Isn't it just a change in timing and the price, while less precise, is still valid? If we take analogy to oil - plenty of airlines hedge oil by buying forward 1yr etc. and if we have only those prices, pre 2008, we'd get a delayed but still accurate view. (http://www.indexmundi.com/commodities/?commodity=iron-ore&months=360) That is price paid at port in china and regardless of methodology is the $ amt paid. Isn't index-based vs. annual just spot vs 1 yr fwd pricing?
If anything, moving to index-based (more transparent, yes?) ensures global competition so that there is a global iron ore prices. Regardless of whether vale sells to china directly, a demand weakening + supply strengthening => price fall = less revenue for vale.
As for govt support - how so exactly? will the govt pay above market to enrich (foreign) investors? A full bailout of a company usually hurts equity the most (aig, c, gm). If anything, Brazil hurts its companies by forcing them to subsidize weaker domestic cos. (see PBR ,http://www.nytimes.com/2013/03/27/world/americas/petrobras-brazils-oil-…)
Finally, china wants prices to be lower and is increasing capacity themselves (http://www.ibtimes.co.uk/articles/449972/20130325/china-iron-ore-demand…). Just bc China is spending doesn't mean vale will benefit.
Did you read Einhorn's iron ore/steel producer short thesis? From what I recall the idea is something like the past few years have see iron ore prices artificially boosted by China's rampant development projects which are largely unsustainable since a significant portion of the building serves no functional purpose, with 1998-2011 iron ore prices hitting an all time high in 2011. Since iron ore mines take a long time to develop and open, supply lags have continued this heightened price. However, a glut of iron ore is due to hit the market 2013-2015 as several mining companies will have major iron ore projects coming online. Once China starts scaling back these building projects (which I believe they already have), demand for steel production and iron ore is going to drop off. This influx of iron ore capacity alongside the vastly reduced Chinese demand was Einhorn's primary reason for shorting iron ore/steel producers. Julian Robertson also was short steel producers. ArcelorMittal, US Steel, Vale, Fortescue and Rio Tinto were all companies he highlighted.
Edit: Here's Einhorn http://www.marketfolly.com/2012/11/david-einhorn-short-iron-ore-great.h… and Roberston http://www.marketfolly.com/2012/10/julian-robertson-on-what-stocks-he.h…
[quote=FranciscoDAnconia]Did you read Einhorn's iron ore/steel producer short thesis? From what I recall the idea is something like the past few years have see iron ore prices artificially boosted by China's rampant development projects which are largely unsustainable since a significant portion of the building serves no functional purpose, with 1998-2011 iron ore prices hitting an all time high in 2011. Since iron ore mines take a long time to develop and open, supply lags have continued this heightened price. However, a glut of iron ore is due to hit the market 2013-2015 as several mining companies will have major iron ore projects coming online. Once China starts scaling back these building projects (which I believe they already have), demand for steel production and iron ore is going to drop off. This influx of iron ore capacity alongside the vastly reduced Chinese demand was Einhorn's primary reason for shorting iron ore/steel producers. Julian Robertson also was short steel producers. ArcelorMittal, US Steel, Vale, Fortescue and Rio Tinto were all companies he highlighted.
Edit: Here's Einhorn http://www.marketfolly.com/2012/11/david-einhorn-short-iron-ore-great.h… and Roberston http://www.marketfolly.com/2012/10/julian-robertson-on-what-stocks-he.h…]
Thanks! I've read a lot on the subject but I hadn't gotten the chance to see what Einhorn had to say until now. Now, what I find peculiar about the two articles is that they compare iron ore prices over time - a long time at that - and then conclude that the current price is out of whack with history. Granted, if you actually look at a 30, 40, or longer chart, it'd be tough to conclude otherwise, but it ignores how iron ore was priced prior to 2008. Back then, the price of iron ore was set annually, and from what I can tell, was the result of negotiations between miners and steel producers. Index pricing of iron ore is very new, so when you compare iron ore prices now with what they were 5 years ago, it's comparing apples and oranges, and probably unreasonable to assume that they'll drop that far (at least in my opinion) since it seems like it hit the floor last September.
I do completely understand the urge to buy vale and indeed these mining companies though - when they are booming their metrics are spectacular ( 20%+ roe w/ parabolic rev growth). A few yrs ago I really liked greek dry bulk shipping companies bc they were trading @ 5 times earnings w/ 15% roe and were growing for last 5 yrs. This was pre-euro crisis and I bought what I thought was best in class - price still below 2010 levels: (https://www.google.com/finance?q=NYSE%3ADSX&ei=I5BtUaj4GYv-lgP_ngE).
You may end up being right - I may be missing info as well.
Sry forgot to disclose: am short vale, but may change positions @ anytime.
Wow, yeah, that's what I'm afraid of; getting burned because I mistakenly think a "low" price is the same as a "good" price.
Excellent! Debating these things with someone who has a vested interest in the other side forces you to really look at what you're doing and why. Because yeah, I imagine you've done your homework...
The market can stay irrational longer than you can stay solvent. -John Maynard Keynes
I'm in the same situation. A stock I got my first bagger on, CSV, tanked 14% yesterday to 17.30 off no news. I decided to step in an buy more shores. I first got in at $8.30, again at $11 and enjoyed the ride all the way to $21. I modeled them 6 months ago and got about a $20/share value. And since then they have improved drastically. So I stuck to my guns and went in again. The market is like a coked out Russian prostitute with a gun to her head. Sometimes you just have to give her the bullets and hope that she doesn't pull the trigger.
would you consider investing in CLF instead of VALE, CLF has assets worth the buy considering the tangible book is just under 30 yet the stock is at 17, and people are running from it because it had to write down goodwill witch should have been discounted from the start. the only thing i would worry about is iron ore prices plummeting further, however I don't know if that is even possible considering the market is in backwardation. David i think is still long iron ore, and well as great as VALE is both CLF and VALE do the same thing. wouldn't you want to own the cheaper one?
CLF is very compelling as a pick, the "weakness" (and others will view this as a strength) that I see with CLF is that they don't have very much exposure to the asian markets. Obviously, I'm of the opinion that China will continue to build, economic conditions be damned, but this is highly debatable.
Nevertheless, good call, they're trading way below what you would think they should. I'm definitely going to look into this further, thanks!
$AAPL?
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