Importance of capital structure

Billionaire Steve Wynn: Building Las Vegas (2014 video)

[25:50] “We never risked the firm. Never risked the firm. My responsibility to my employees, my stockholders and such; that I can’t promise to be right all the time. No one can. You make calls. Sometimes they’re right, sometimes they’re wrong. But capital structure allows you to survive the inevitable cycles of business, which go up and down as surely as sunrise and sunset, except we don’t know the timing. They allow you to survive your own miscalculations. Capital structure, I learned at a young age, thanks to Mike Milken who taught me this story; capital structure is everything. And I’ve always had a capital structure that was bulletproof.”

Wynn’s answer about building a good company culture from the 33:50-40:58 mark is also worth a close listen.



Failure is an essential part of success

When we discover the trading that works for us, we’ll discover many approaches to trading that don’t work for us.  Those will be “failures”, but there will be important information in those failures. The key is to fail in planned ways, with modest risk taking.  You can’t find your success if you blow through your trading capital. Developing as a trader is all about controlled failure and learning from what works and doesn’t work.

* Source:

Fail, win and then fail some more to become a winning trader

  • New and developing traders overvalue finding a strategy to copy. It’s not about copying. It’s about exposure to different setups and then experimentation with different setups and then determining the setups that work best for you.
  • The new and developing trader needs exposure to many different setups. Setups that are diverse and require different personality sets to excel. Setups used by active traders who are winning with consistency. Setups that offer different talent sets to thrive.
  • And then the new and developing trader needs to experiment. They need to fail. They need to win. They need to fail some more. They need to archive their winning and make note of their failing. It’s a process. It’s a process of failing and winning and failing some more and recording successes over time that helps the trader then build his business.
  • Soon through exposure to various setups the new and developing trader will find setups that are best for them. Soon the better new and developing traders will get sick of losing with patterns that are not best for them and in their own time eliminate them.

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Stock Spin-Offs: A Global Perspective

“The facts are overwhelming.  Stocks of spinoff companies, and even shares of the parent companies that do the spinning off, significantly and consistently outperform the market averages.” – from You Too Can Be a Stock Market Genius by Joel Greenblatt

  • In simplest terms, a stock spinoff is a tax-free divestiture of one company by another, which results in the shareholder of the original company now owning shares of both.  The net effect is that the separate companies are now freed up to focus on their respective core businesses.
  • Per a Deloitte study, conglomerates tend to be undervalued, likely because investors are reluctant to assign premium valuations to many-faceted corporations with fewer synergies than more streamlined and focused businesses.
  • The result of the spinoff is that both the “spinner” and the “spun” companies appear more transparent in their operations and business results, and thus are more attractive to would-be investors.
  • The idea that streamlining unlocks value for both parties seems to be borne out in the actual returns.
  • Investing in spinoffs, however, may not be as simple as the index returns suggest. For one thing, spun-off shares tend to take a tumble in the days and weeks after being spun, which could lead many investors to sell these unfamiliar shares out of their portfolio.
  • Although investors might think this initial weakness is signaling dire prospects for the new company, the reality is that the weakness in the new shares has little or nothing to do with the fundamentals of the company. Rather, the decline is due to reasons that are mostly technical. Credit Suisse explains that the new shares may not meet the criteria necessary to remain in the index or portfolio that holds the parent company, and so forced selling occurs. Eventually, the forced selling subsides, and the shares recover.
  • Spinoffs are not without risks, though, and they are by no means universally successful.  In truth, some spinoffs can be the result of a parent company wanting to jettison unwanted liabilities or lagging businesses, and for these reasons, spinoffs such as these, which are now cut off from the resources of the larger, perhaps more diversified parent firm, can be especially vulnerable.  As always, investors need to take these factors into consideration when entertaining a prospective investment.

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Ten Attributes of Great Investors – Mauboussin

  1. Be numerate (and understand accounting). To be a successful investor, you have to be comfortable with numbers.There are rarely complicated calculations but a feel for figures, percentages, and probabilities is essential.
  2. Understand value (the present value of free cash flow). The present value of future free cash flow determines the value of a financial asset. This is true for stocks, bonds, and real estate. Valuation is challenging for equity investors because each driver of value – cash flows, timing, and risk – are based on expectations whereas two of the three drivers are contractual for bond investors.
  3. Properly assess strategy (or how a business makes money). This attribute has two dimensions. The first is a fundamental understanding of how a company makes money. The second dimension is gaining a grasp of a company’s sustainable competitive advantage. A company has a competitive advantage when it earns a return on investment above the opportunity cost of capital and earns a higher return than its competitors.
  4. Compare effectively (expectations versus fundamentals). Perhaps the most important comparison an investor must make, and one that distinguishes average from great investors, is between fundamentals and expectations. Fundamentals capture a sense of a company’s future financial performance. Value drivers including sales growth, operating profit margins, investment needs, and return on investment shape fundamentals. Expectations reflect the financial performance implied by the stock price.
  5. Think probabilistically (there are few sure things). Investing is an activity where you must constantly consider the probabilities of various outcomes. This requires a certain mindset. To begin, you must constantly seek an edge, where the price for an asset misrepresents either the probabilities or the outcomes.
  6. Update your views effectively (beliefs are hypotheses to be tested, not treasures to be protected). Most people prefer to maintain consistent beliefs over time, even when the facts reveal their beliefs to be wrong. Great investors do two things that most of us do not. They seek information or views that are different than their own and they update their beliefs when the evidence suggests they should. Neither task is easy.
  7. Beware of behavioral biases (minimizing constraints to good thinking). The heuristics and biases literature notes that we tend to operate with rules of thumb (heuristics), which are generally correct and save us lots of time. But these heuristics have associated biases that can lead to departures from logic or probability. Examples of heuristics include availability (rely on information that is available rather than relevant), representativeness (placing people or objects in categories that are inaccurate), and anchoring (placing too much weight on an anchor figure). There is now a long list of heuristics and biases, and great investors are those who not only understand these concepts but take steps to manage or mitigate behavioral biases in their investment process.
  8. Know the difference between information and influence. In classic markets for goods or services, prices are a highly informative mechanism. Prices also provide useful information in capital markets. The main value is as an indication about expectations for future financial performance. (This is less true for derivatives, which may be efficiently priced even if the asset from which its price is derived is inefficiently priced.) As we saw in a prior point, great investors are adept at translating between expectations and fundamentals, and keep them separate in decision making. Great investors don’t get sucked into the vortex of influence. This requires the trait of not caring what others think of you, which is not natural for humans. Success entails considering various points of view but ultimately shaping a thesis that is thoughtful and away from the consensus. The crowd is often right, but when it is wrong you need the psychological fortitude to go against the grain.
  9. Position sizing (maximizing the payoff from edge). Success in investing has two parts: finding edge and fully taking advantage of it through proper position sizing. Almost all investment firms focus on edge, while position sizing generally gets much less attention. Proper portfolio construction requires specifying a goal (maximize sum for one period or parlayed bets), identifying an opportunity set (lots of small edge or lumpy but large edge), and considering constraints (liquidity, drawdowns, leverage). Answers to these questions suggest an appropriate policy regarding position sizing and portfolio construction.
  10. Read (and keep an open mind). Berkshire Hathaway’s Charlie Munger said that he really liked Albert Einstein’s point that “success comes from curiosity, concentration, perseverance and self – criticism. And by self-criticism, he meant the ability to change his mind so that he destroyed his own best – loved ideas.” Reading is an activity that tends to foster all of those qualities.

* Original Link

Francis Chou on value investing

  • He typically wants to own a company that’s trading at a 40% discount to what it’s really worth.
  • Most of the companies Chou owns have seen their values drop for some reason – maybe the sector has fallen out of favour, as we saw with oil and gas last year, or a company has missed an earnings target, or there’s a funding or liquidity issue.
  • Whatever challenge the business is facing, though, it should only be temporary. “We want companies that can overcome those problems in time,” he says.
  • Of course, it’s impossible to foresee if a business will indeed rise from the ashes, which is why Chou does plenty of due diligence before buying.
  • First and foremost, he wants his companies to have positive cash flow and the ability to grow earnings.
  • Chou also thinks about all the things that could impair intrinsic value—maybe something will prevent earnings from growing, for instance. “We always look at what could go wrong,” he says.
  • “You need to have that cushion, that margin of safety, against a mistake in your judgment,” he says.
  • At the moment, no sector stands out in terms of valuation—it’s all expensive, he says—but he’s being patient.

* Original Link

Tax planning

  • Short term capital gains tax: If the holding period of the stock is not more than 12 months, then the gains attract a tax rate of 15%.
  • Long term capital gains tax: If the holding period of the stock is more than 12 months, then the gains do not attract any tax.
  • Further, any short term losses can be carried forward for a period of 8 years only if you declare the same in your Income Tax returns before the due date.
  • Derivatives taxation is charged at business tax rates.
  • Losses in stocks held for more than 12 months cannot be off-settled against short term profits.

* Original link

Having time to think…

“It has struck me that all men’s misfortunes spring from the single cause that they are unable to stay quietly in one room.” -Blaise Pascal
  • Gates: I also remember Warren showing me his calendar. [For me], I had every minute packed [and thought] that was the only way you could do things….The fact that he is so careful about his time. He has days that there’s nothing on it.

And the importance of keeping an open schedule was also discussed by Charlie Munger at the 2016 Daily Journal Meeting:

  • One is that we spend a lot of time thinking. Our schedules are not that crowded.
  • Our system has been to sift life for a few opportunities and seize a few of them.
  • We don’t mind long periods in which nothing happens.

* Original link