Seth Klarman wrote the book, Margin of Safety.  I’d link you to it but I’m worried I’ll get sued.  You can use Google to find it online or you can pay over $1000 on ebay for a copy.  Its a good book.  Read it.  Seth is a very good hedge fund manager.  He has $27 billion under management after giving back $4 billion last year.  The Baupost Group is his fund.  Seth says he’s about 60% in cash right now.


Seth’s end of year letters don’t usually leak out but the 2013 letter just did.  Its on Zero Hedge (link below) and well worth reading.  Here are my notes:


Reasons to be Bullish if Congentitally Inclined:

  1. PE’s aren’t horribly high
  2. Deficits shrinking
  3. Consumers are lowering their personal debt
  4. Housing is recovering
  5. US energy independence is under way
  6. Bond yields are still so low that equities are the only place to go
  7. It doesn’t matter that the S&P has tripled since 2009, interest rates spiked or the Fed is tapering
  8. QE worked.
  9. The Fed will come to the rescue again if necessary
  10. The Bernanke/Yellen Put is intact
  11. No bubbles are in sight


Serious Questions for Rulers:

But if you have the worry gene, are more focused on downside than upside and more interested in return OF capital than return ON capital … in other words, if you are a Ruler there are serious questions to be answered:


  1. Near zero interest rates distort reality so what are the consequences going to be?
  2. Can the Fed end QE without a crash?
  3. Deficit spending propped the economy and inflated earnings and it can’t keep going, can it?
  4. Schiller PE is over 25.  The three prior times were 1929, 2000 and 2007.  Isn’t that scary?
  5. Junk bonds are now in a bubble so when does the bond bubble pop?
  6. Credit quality going down and so are more and more small banks.  Scary?
  7. Margin debt to GDP near all-time high so isn’t that a problem?
  8. IPO’s are near a record number, Twitter is at a 500 PE, Netflix PE is at a 181, Tesla PE is 279.  Signs of a top?
  9. Lowest proportion of Bears since 1987 – another sign of a top?
  10. Europe isn’t fixed.  Greece’s debt to GDP is higher now, Germany’s is, too.  So will they just inflate the Euro?
  11. Europe has 7% of population, 25% output and 50% of its social spending so will it finally crash?
  12. Bitcoin prices went through the roof while gold fell 28%.  Isn’t that weird?
  13. We live in The Truman Show in a plexiglass bubble built by the Fed.  When will we discover it?
  14. The Fed purchased 90% of all eligible mortgage bonds in November.  What happens to interest rates when they stop?
  15. What is fake cannot be made real, can it?
  16. Fed can change how things look but not how they are, right?
  17. Hasn’t the Fed has become enabler of what it was created to prevent, ie, massive volatility in the economy?
  18. When the show ends, who will be broke?
  19. Won’t financial markets have to decline someday?


Here are Seth’s conclusions:

  1. Rising stock markets stop being government policy
  2. QE will end and money won’t be free
  3. Corporate failure will be permitted
  4. The economy will turn down
  5. Investors will lose money
  6. Capital preservation will be favored over speculation
  7. Interest rates will be higher
  8. Bond prices will be lower
  9. The Return from bonds will be commensurate with risk
  10. Fear will return and spread like wildfire
  11. Few will be prepared.


My Thoughts on Seth’s Thoughts:

Your values are not what you say.  Your values are what you do.  Talk is cheap.  I’m half in cash for a reason.  What I can do while waiting for ‘the end’ is try to find businesses I’d want to own even if there was no stock market.  And hope to be nimble enough to dance out when the time comes.


Fear is our friend.  Greed, jealousy, lack of patience and the need to do something are our enemies. Try to be ready for the fear by fighting off the greed gene, exercising patience and go play.


To learn more about Rule #1 Investing click the button below to download my FREE 6 Principles to Market Crushing Investing today. Now go play.

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About Phil Town – Phil Town is an investment advisor, hedge fund manager, two-time NY Times best-selling author, ex-Grand Canyon river guide and a former Lieutenant in the US Army Special Forces. He and his wife, Melissa, share a passion for horses, polo and eventing. Phil’s goal is to help you learn how to invest and achieve financial independence. You can follow him on google+, facebook, and twitter.

  • Yet Another Mike

    I agree with the general points of this post, but I’m having trouble reconciling “Interest rates will be higher” and “Bond prices will be lower” because I would think that investors will pile into bonds in a bid to preserve their capital, which would drive rates lower and prices higher, right?

    Also, I don’t see how the Fed can meaningfully raise the funds rate or why they would want to with the government et. al. so indebted.

    What am I missing?

  • Anyone use seeking alpha PRO? How much is the subscription?

  • Rulers,
    Here’s some trends and things:
    BP’s Earnings come out tomorrow. I’ll be looking forward to reading the CEO’s quarterly transcript.
    Panera took a bit of a drop today prior to earnings – makes me wonder if someone leaked bad news. I don’t own Panera, however, I have traded in and out of it at times.
    Visa also took a little hit on the downside.
    Buffett’s IBM was still frustrating the street’s expectations for more revenue after posting their quarterly results. What Mr. Market doesn’t seem to understand is IBM is undergoing a significant shift in their business model. Read ALL of the articles on Seeking Alpha written by “Early Retiree”…he’s really good at teaching while he’s writing articles.
    One of the guys I mentored over the years recently sold a bunch of Jan 2016 PUT contracts on Under Armor at $27.50 (UA’s current price is about $46.74) I think that’s a great price is to own UA, but I replied back in an email that I suspect between now and Jan 2016 Mr. Market will have a nice correction and I didn’t want to be lock up too much cash for that long a period. If UA goes up in price, he’ll probably close it out well before expiration.
    Bed Bath and Beyond (BBBY)is flooring up nicely at around $62.00 after their quarterly earnings report.
    As is a favorite of mine, DeVita HealthCare (DVA) – another significant Buffett holding. They’re in a short-term trading range until earnings come out again.
    To Your Wealth!

  • Hi there Anne!

    Joe M., / Rulers
    Good article Joe M. I’ve read some of that in the past regarding Warren’s option strategies. Pretty cool when you can sell enough premium that you can use THAT money to invest in other equities.
    I did something similar today…obviously not nearly on such a grand scale!
    I’ll share it with the Rulers here and then take a quick look at “Seasonal Patterns” in Mr. Market.
    I have X amount of Shares of XYZ. I needed some additional cash to invest in an apartment complex. I didn’t want to sell any of my shares in order to raise the cash I needed.
    So what I did was I sold a Covered Call out in the future. I sold just enough of them that I collected the cash I needed to invest in the apartment complex.
    In the meantime, my shares are still making me money because I’m collecting a dividend and now I have the cash working in another investment. If the stock should drop significantly due to a Market Sell-off, I have a margin of safety because I sold the CALL which can help offset a decrease in the per share price.
    I’ve moved a lot of money out of the Market into cash and taken profits off the table recently. I’m about 60% to 100% cash in all our accounts and I’m attempting to build significant position in two or four companies if I can get Mr. Market to cooperate with a little volatility.
    On another note:
    There are definite Seasonal Patterns in the markets that traders have used to their advantage. One common expression is “Sell in May and Go Away” (Go away till about September)
    I have a book on Seasonal patterns that is quite interesting. And because a lot of people believe these things, they are kind of self-fulling prophecies.
    Here’s an example:
    “If you use the Dow Jones Industrial Average and go back to 1950, the statistics are simply staggering. Hypothetically, had you invested $10,000 but only owned stocks between November 1st through April each year, on April 30th of 2013 that $10,000 would have been worth $775,055. That’s pretty awesome. Now, had you done the exact opposite and purchased the Dow Industrials every year on May 1 and sold on Halloween, you would have actually lost $687 over the past 63 years.”
    So for me, my goals and the companies I owned, it was a reasonable and rational time to take profits and get out of the Market after 2013’s meteoric Fed Induced ride.
    I suppose someone is going to tell me that I’m attempting to time the market…No, honestly, I’m just closing a few large positions that were profitable and had reached a higher PE Multiple. Their future earnings would have had to have been rather exceptional to justify the higher PE Multiple. I just didn’t think the up-side potential was worth risking the greater downside of a correction.
    To Your Wealth!

  • Anne (iloveangels)

    Thank you so much for sharing that Joe!
    All the Best to You!
    :) Anne (iloveangels)

  • Joe M.

    I came across an article today on Gurufocus about Buffett’s use of options. I thought I’d share: http://www.gurufocus.com/news/256254/naked-short-put-options–warren-buffetts-little-secret

  • Howdy Rulers!
    I’ve been away from the blog for a few days as I’ve done a personal monthly record for total amount of flying at Southwest Airlines.
    The schedule has been nuts…as you can see from the time stamp on this post.
    I anticipate things slowing down a little after Tuesday.
    In the meantime, I finished reading James Rickards book The Death of Money. I really enjoyed it and would recommend Rulers read it. Check out his first book, Currency Wars if you haven’t read that one yet.
    To Your Wealth!

  • Mike G.

    David Einhorn’s 1st quarter 2014 letter was just released on Zero Hedge this afternoon. A link is provided at the end for anyone who hasn’t come across this and is interested in reading it.
    Short Summary:
    1. Mr. Einhorn believes there is a clear consensus that there is a 2nd tech bubble in 15 years but has no idea (and neither does any one else) how much higher it will go.
    2. During the quarter, his firm’s biggest winner was Micron Technology and biggest loser was Green Mountain Coffee. (Remember Green Mountain Coffee and Coke made a partnership to sell single serve Coke K cups? This news caused a large jump in the share price.)
    3. Page 5 shows Greenlight’s closed positions during the quarter and a very short explanation why.
    4. New stock positions and explanations of why he believes they’re undervalued are: Resona, Sune, ATC, and Conn,
    5. Portfolio turnover for David’s firm is low so flash trading (also known as High Frequency Trading or HFT) doesn’t have much of an impact but flash trading has decreased trading costs even more for him. There are firms out there using HFT to front run and pick up “pennies” which could amount to billions of dollars and Michael Lewis’s book does a great service in exposing this.

  • Is there a site where small investors like ourselves can share our track record? Meaning they voluntarily post their holdings with buy/sell price similar to GuruFocus. Kind of put their money where their mouth is by being transparent with other fellow investors.

  • B,
    Welcome to the Phil’s blog!
    Yes, that is the bummer part about buying a CALL. You only have the RIGHT to future ownership – no actual ownership so you can not collect a dividend or vote as a shareholder.
    In general, if I bought a CALL, it was probably because I wanted to own the shares in the future and didn’t have the cash available at the time because it was allocated somewhere else and I had certainty that the funds to take the shares would be available at the time of the Call Contract expiring. In addition, I would have considered the risk of losing money on a call LESS than missing an opportunity to invest on a good Rule #1 Company.
    With that said, I would certainly close the CALL if “The Story” changed – especially if it were deep in the money to protect the profit – or if it shot up to sticker price well before the CALL’s expiration.
    Most of the time, I don’t buy calls because the only way to make money is for the stock to go up and I’m guaranteed to lose money as time value decays.
    In addition, I don’t need to accept that kind of risk anymore as long as I can stay employed and continue to save/invest like we’ve been. I don’t need to leverage up to reach our retirement goals and lifestyle we want.
    Give me a good dividend paying company that will be around for 20 or more years and I’ll take that over Facebook, Tesla and whatever else everyone is buying.
    If I do buy a call, I do it just like buying shares…I begin with the end in mind, I buy over a period of time and I’ll enter a new Call Contract up to 4 times if the price goes lower.
    So, that would mean my goal would be to own a minimum of 400 shares if I’m going to be buying CALL contracts as the price is going DOWN! I’ve never actually done that…but that’s how I have to approach it – which also tells you how rarely I buy a call.
    In addition, when I buy a CALL, I might want to consider doing a Calendar Spread strategy to reduce basis on my CALL contract OR do a Synthetic Long position where I Sell the PUT to pay for the CALL.
    There are dozens of ways to do this stuff. 90% or more of the time, I’m just selling a Naked PUT, doing Covered Calls, credit spreads, or a Straddle/Strangle or some combo of that on less than 5 companies in my portfolio.
    My goal this year as I’ve been taking profits and reallocating capital outside of equities is to narrow my focus and own about 4 to 5 Rule #1 Companies that I can follow on a daily basis via Seeking Alpha, GuruFocus, Press Releases and Quarterly Earnings Transcripts.
    In fact at this moment, the fax machine is sending out some signed documents because we’re making another investment from our IRA to a Cash Flow producing apartment complex. I took some profits in my wife’s IRA and we’re transferring that money out of the Fed’s grand experiment into low risk, 95% occupied cash flow producing apartment complexes in Texas where there is high employment mostly due to oil/natural gas drilling.
    My goals are different than your goals so how I invest will be different than how you invest.
    Also, our daughter is leaving the nest next year for collage. So the plan now is for Cheryl to retire, have an estate sale in Maryland, and declare residence in Florida with a 5th Wheel trailer/Truck. The tax savings pretty much pay for the place in Montana.
    That’s not an overly ambitions lifestyle but we’re outdoorsy people and want the freedom to move about the country.
    My days of swinging hard at every opportunity are WELL over. I’ve done that…made nice money and lost most of it. We’ve recovered from those mistakes and I STILL SWING HARD, BUT I ONLY DO IT AT A FEW GREAT OPPORTUNITIES. And I only do it after I’m as certain as I can be that the investment can return me 15% ROI for the next 20 years.
    To Your Wealth!

  • B

    Hi Garrett,
    With your ITM calls on BP or CF, I’m wondering how you will close them out? Will you sell the CALLs for a profit, or exercise the option to buy more shares at a low basis?
    Especially for something that has a good dividend like BP, I’m leaning toward exercising my CALL option to pick up those shares (my CALL was part of a bull spread).
    I have a feeling most people would rather sell-to-close the CALL than spend money to pick up the shares. But I opened the position in the first place because I wanted to own BP shares. Just wondering if there’s some downside to exercising that I haven’t considered.
    Thanks for your thoughts.

  • Hi Rulers,
    what are you thinking about Whole Foods?
    Has Wild Oats and WalMart a big influence on customers behave?
    I love Whole Foods concept, but never been in a store yet.

  • Hi Garrett,
    you are absolutely right with your dividend calculation. Good stuff!
    But for my own, i don´t feel very well with it.
    Because it is looking for a floor where some big people maybe buy; dividend yield compared to 10year treasury.
    I feel better with a valuation based on the “power” of a company – earnings, cash-flow, intrinsic value, value after liquidation…
    And with this i don´t find a 35$ price.
    But you logical floor works very well, maybe i load up when coke has the next price drop 😉

  • Garrett,
    Great post on the dividend. It’s giving me some new ideas for my Dad as well!

  • Thanks all! I’ve been doing in the money leaps with delta of greater than 0.8 to control companies in Risky Biz portfolio. Learned some new things here from all the feedback and will improve from there. I owe each one of you who shared your time and wisdom here!! Since my Risky Biz portfolio is considered as a trader not investor, I’m happy to do in the money call leap options.
    So as a trader, I’m imagining I lost the money already and will only bet a small portion of my portfolio. Using a call leap option allows me to leverage a higher amount of the small portion. It’s already lost money. And I don’t plan on owning it forever as it’s not my Just One company. I just see some catalysts and the market is mispricing horribly. Or I could be wrong and the market is pricing correctly!
    Thank you each one of you for posting your thoughts. I actually printed it out to keep as reference.

  • Christian,
    I based a logical floor at $35 to $37 dollars based on Coke’s consistent, never-ending, history of dividend payouts.
    It’s really simple…
    The US 10 Year Treasury is about 2.65%. So that’s considered our “risk free” rate of return (I consider that very risky, personally)
    Think of it like this…would a baby boomer rather be locked in to a 2.65% Return on a 10 Year Treasury or a 3% Return on Coke with a 100 year old company that can still grow its business, increase earnings and has consistently grown that dividend 8% or more for the last 10 years?
    I’d go with Coke…and so would all the baby boomers/institutional investors looking for yield.
    Coke’s last 4 quarters has paid out $1.14 in dividends. What’s the ROI on that if you buy Coke at $30?
    $1.14 / $30 =’s 3.8%
    How about at $35?
    $1.14 / $35 =’s 3.25%
    How about at $40?
    $1.14 / $40 =’s 2.8%
    So you can see that if the price goes down and dividends stay the same (and most likely grow at 8% with Coke) nobody is going to let Coke drop to so a low price that they get a 4% yield when the 10 Year Treasury is at 2.65%.
    Now, if the 10 Year Treasury went up to 5%, we’d have an entirely new floor on Coke or we’d expect Coke to pay us more in dividends to compensate us for what we could be making in the 10 Year Treasury.
    That’s why I loaded Dad up in his retirement account and I was STOing PUTs on Coke at $35 and willing to buy more if it should drop even below that.
    To Your Wealth!

  • Hi Garrett,
    i did not buy Coke, because i could not find a valuation method that gave me a price at 37$.
    Coke is still a fantastic buy, but i still get price-targets below 30$.

  • Brian

    Tuna, there are two ways to look at buying LEAPs. Christian explains the first and safest method, essentially you’re using a deep in the money LEAP as a stock replacement strategy and it allows you to pay a little less up front cost. You’ll see that the time value of deep in the money calls tends to be very low so most of the negative arguments you hear about buying options and losing on time decay don’t pan out in these cases because most of what you’re paying is the intrinsic value (stock price – strike price). Of course you still have to deal with the option’s limited duration.
    The other method is more risky biz but I like it. Options are priced using a distribution curve where strikes close to “at the money” cost more and as you go farther out they cost less because the probability of the underlying getting there is lower. But remember we’re value investors and options are priced using the efficient market approach. Options market makers price them by saying they don’t know where the stock is going to go and all possibilities fit neatly on a standard distribution curve with no regard for fundamental factors like earnings or tangible value. So if you think the stock has a catalyst in the future or tangible assets that make it worth at least a certain amount then buying an option at that level makes sense because the actual probability of the stock reaching that price is higher than the options market is assigning to it. Hopefully some of that made sense and remember this is a risky biz strategy.

  • Rulers,
    Anyone buy Coke on the last earnings when it was at $37? I posted that I was watching it for the floor based on the dividend yield and that my dad loaded up at $37. Coke had a nice gap up on price this morning based on its earnings report, currently at $40
    That’s $3/$40 =’s 7.5% in 3 months without Selling any Naked PUTs at $37 or $35 for basis reduction or cash flow.
    To Your Wealth!

  • …Alon, just keep in mind that when buying the Call Option you are absolutely guaranteed one thing…
    1) You WILL lose money.
    That’s because like ALL options, there is an expiration date and if the stock price doesn’t go up from the time you bought it, you won’t make money.
    Wouldn’t it be awesome if we could buy a CALL Option on a company like Coke and just wait till eternity for the price to go up?
    Bummer we can’t do that…but we can do that when we buy the shares.
    And if we buy the shares, we’re owners of a business, collecting dividends and can still do basis lowering strategies.
    Most of the time, I’m a SELLER NOT A BUYER of Options. Because when I SELL an Option (like a PUT) I make money if the stock goes up, down or sideways.
    BUYERS of Options, like a CALL, only make money if the STOCK goes up.
    And if you’re using excessive leverage, you may make money, but you’ll never be able to take the amount of shares you have the option to own because your account is too small.
    And if you lose money BUYing the CALL, you would have maybe lost the same amount of money had you just owned the shares. Like Christian said, owning shares you collect a dividend or STO naked PUTs when bouncing off a Floor to lower basis or Covered Calls when coming down from a peak to lower basis.
    Bottom line is I’ve made money BUYING CALLS, but there is more risk to it.
    Like Mike M said, we’ve made some money buying Jan 2015 Calls on BP last summer it was in that $40 to $41 dollar range. We just couldn’t build a good case that BP would still be trading at that low valuation by Jan 2016 even despite the court cases.
    And I bought Jan 2015 CALLS on CF Industries in my wife’s IRA last year which have obviously done well.
    But I generally don’t do it. And when I do, it’s a small amount that I’m willing to lose if the stock doesn’t go up in price or I do a Calendar Spread to lower the basis on the cost of the CALL I bought.
    To Your Wealth!

  • Hi Alon,

    you are pretty fine with ROP and covered calls!!
    No need to trade with options, and if you are not familiar with "the greeks" you should not do it.

    The strategy i described above is relatively save, as you have the same risk with buying shares, but you have to know the "parameters" of options.


  • Alon

    Hi Christian,
    Thanks for the detailed response. I’m familiar with stock options up to some extent. I mainly use ROP (Rule One Put) options and I usually don’t buy call options. I’m less familiar with delta.
    BTW: I’m from Israel so we are in a similar time zone :)

  • Hi Alon,
    it´s 10:45 a.m. in Germany – i guess 4:45 in USA? you´re up early!
    Ok, some words to calls and deltas:
    You can use calls as a replacement for shares. If you want to buy coke, you can buy 100 shares, or buy 1 call option.
    If you want that your call option “behaves” like the stock, you need to pay attention to a high delta!
    Why? – The delta is the ratio comparing the change in the price of the underlying asset to the corresponding change in the price of a derivative.
    For example, with respect to call options, a delta of 0.7 means that for every $1 the underlying stock increases, the call option will increase by $0.70 (and decreases the same way).
    At the maximum Delta of 1 (or 100%) the call option will exactly increase or decrease like the underlying stock.
    Ok so far?
    We normally can´t buy call options with Delta = 1, so everything between 0.9 and 1 is ok.
    This strategy is only for the replacement of shares through call options!!
    It has advantages and corresponding disadvantages.
    – limited time (option expiring date)
    – no dividends
    – less capital required for the call option
    As Phil said – it is hard to explain something like this on a blog.
    Please ask if it is not clear.

  • Alon

    Hi Christian,
    Can you explain your comment on delta and its impotance?

  • Hi Tuna,
    sometimes i use them instead of buying shares, it is less expensive and you have the same “risk” (but no dividends). Last time i bought a 2016 call on COH…
    But only buy leap call´s (instead of shares) with delta greater 90 (0.9)!! This is very important!

  • Mike M.

    Rarely. but a few of us bought BP leap calls last year that worked out well.

  • Anyone use leap buy call options on risky biz portfolio?

  • Mike M

    Just got my copy today!

  • Rulers,
    I’ve been reading James Rickards, The Death of Money – makes me glad I have a passion for investing because I seriously don’t know what people are going to do when the bad times eventually come.
    I’m only about 20% into the book (funny how pages don’t matter anymore when you’re reading a digital version!). So far I’m enjoying it and hope to really rip through the rest of it this week.
    To Your Wealth!

  • Brian

    Here is a quote from Buffett’s 1967 letter to shareholders that I read recently and I think is applicable to your dilemma.
    “Interestingly enough, although I consider myself to be primarily in the quantitative school (and as I write this no one has come back from recess – I may be the only one left in the class), the really sensational ideas I have had over the years have been heavily weighted toward the qualitative side where I have had a “high-probability insight”. This is what causes the cash register to really sing. However, it is an infrequent occurrence, as insights usually are, and, of course, no insight is required on the quantitative side – the figures should hit you over the head with a baseball bat. So the really big money tends to be made by investors who are right on qualitative decisions but, at least in my opinion, the more sure money tends to be made on the obvious quantitative decisions.”
    Today, anybody with a decent stock screener can set up various screens and scan for companies with high ROE, ROIC, or any number of quantitative factors you decide to look at. However, finding a company with good metrics doesn’t necessarily mean you’ve found a good investment. You may have found a good company, but the market knows that already, after all if you were able to find it the analysts on wall street with millions in resources were probably able to find it too and have probably bought a large chunk for their firm. As Buffett said, sometimes you need to look beyond the numbers and make a decision based on your insight into the company. That doesn’t necessarily mean ignore the numbers completely, it just means that sometimes, after researching a company, you can come to a conclusion about a company that the market hasn’t reached yet.
    For any investor I think finding that qualitative insight is the hardest part. It’s easy to give someone a checklist and say here find companies that pass every check on the list and invest in them. However, it’s much harder to get to the point where you’re looking at companies that pass most of the checks but are missing a few and you can still say with certainty that they’re a great company and in a few years time will be passing all the checks on the list. Unfortunately, only rarely does the market sell companies that pass all the checks at once at a discount (think 2008-2009) but companies that have some issues that they are capable of overcoming are available most of the time.

  • Mike M.

    Yup. Should be required reading in high school

  • Doug! Excellent Post! You’ve come a long way, my friend!
    To Your Wealth!

  • Doug

    Hi Anthony-
    If I hear ya right, you’re describing what Mr. Town calls ERI – the Emotional Rule of Investing.
    And it is way powerful. After we “grab the stick” to control our financial destiny, ERI can be worse because now we own the decisions.
    ERI can make us worry about missing out on the upswings and panic at the corrections.
    Been there. And the ERI tends to have a double whammy: emotions might paralyze me so I do nothing OR emotions make me jump and take action when I shouldn’t.
    Especially for those newer to Rule#1 investing.
    For me, any trading in market indices or broad mutual funds is speculative. And that irritates my ERI. If I just use the Three Tools, I find myself wondering: which settings? Trade now? Or now? What about now? Those tools are just one part of the toolbox. So my own view is that trading in and out of the overall market is for more seasoned folks with the portfolio and disposition to handle the ERI. That or I gotta be willing to stockpile (buy more when it goes down).
    If I’m losing sleep, that’s telling me something.
    And here’s where a Rule#1 education and patience helps so much.
    With a Rule#1 education, I finally said goodbye to my fund manager. And now I focus on individual companies. I honestly thought that would be scarier, but that’s where Mr. Town’s 4M’s help so much with my own ERI. Rather than guess about which direction the overall market is going and trying to time it, analyzing the 4 M’s on a wonderful company gives me an outline to understand the business and put a value on it.
    And when I know the value, I sleep much, much better at night. I actually celebrate when an event happens and Mr. Market drops the price.
    So…here’s a fun challenge to Rule#1 blog readers: have you heard about the 6 Word Challenge? You try to summarize a concept, a life story, whatever, in exactly 6 words. I thought I would try a 10 word summary on How to Control ERI:
    “Know what you own and know why you own it”
    What other 10 Word Summaries can you think of? Thanks for your time, everyone.
    Don’t Stop Believin,

  • Yes, they sure did and that’s exactly what I did Friday before the close.
    Now, I sit on my hands and wait for them to say get back in. As ugly and unfortunate for the majority, I hope I end up sitting on my hands for a while, while the market over-corrects…
    Break Free,
    Michael D.

  • Mike M.,
    Have you read “The Creature from Jekyll Island?” Don’t get me started on the IMF and it’s pieces. :)
    Break Free,
    Michael D.

  • Anthony…I have to ask….how are you sleeping? Because by the way you write, I’d say you aren’t sleeping well, at all!
    Pay attention to the tension.
    It sounds like to me (actually, it’s pretty damn obvious) that you aren’t yet comfortable with investing your own money Rule #1 style, either by trading on the tools or by stockpiling. This tells me you need to paper trade. Garrett isn’t going to agree with me on that one as he’s against paper trading. However, I think this is a classic example of why I recommend paper trading to begin with.
    You see, I’ve been paper trading most of the time I’ve been on the blog. I’m only just now pushing towards moving real money into my berky for reasons I outlined in a previous response to you. One thing that has me itching to put real money into the game now even though I’m not done paying off debt is that we may be headed for a correction. As Garrett points out, the Schiller PE is up there in bubble land, the Fed is tapering, interest rates are about to go/are already on their way up, the real estate market isn’t really going anywhere (my rental property’s value went down in the last 6 months by $8,000 and nothing about the property or neighborhood changed), and so on. I want to be there when my wonderful, undamaged merchandise goes on sale because Mr. Retail Store Manager misunderstood a conversation with his CPA and suddenly thinks he has to liquidate everything. (See my response above to Susan if that doesn’t make sense…)
    In Rule #1, you can always find something on sale. Every store (every type of market: stock, real estate, private equity, etc) has a clearance isle. Again, this isle typically holds “damaged” goods and you have to discern repairable damage from irreparable damage. But Black Friday for Rule #1 shoppers is when Black Tuesdays and Black Mondays come around. That’s when undamaged goods go on sale, too. (Hey, I just made that up on the spot…kinda like it!)
    Anyway, back to you. I’d sincerely recommend paper trading a while longer until you get comfortable with the tools or whatever method of investing you decide to choose, even if it isn’t Rule #1. Even if you jump ship, head over to TastyTrade and suddenly join them in efficient market theory option trading, I’d suggest you paper trade.
    Another thing…you’re like me. You over analyze things. I had (and still have) a tendency to try to understand how everything works before I am willing to dip my toe into the water. That’s why I’m paper trading. I had to understand how Rule #1 one worked in a very intimate way before I was ready to throw real money at it. Honestly, had I not been so fortunate as I have, having been through all the education I have and continuing to do so, I’m not sure I would have ever been ready to pull the trigger. Maybe I would have, but it would have taken much longer, I think. But, that’s just me and my personality.
    Anyway, Anthony, I think maybe you need to take a step back and assess your tension and situation. As for your real money already in the TSP, what I’m doing with some of my Dad’s money right now is watching the weekly indicators on the S&P 500 and getting in and out on the signals. I’m willing to accept the friction that comes along with that, and so is he. It’s what we’ve agreed we can be comfortable with given the macro conditions and his trust in me to manage the money. I’ve demonstrated how they can succeed and where they sometimes fail, and he’s okay with that. The question is…are you?
    I can tell you that Phil watches the weekly indicators on the market and uses that as a tool in his overall decision making. It’s what he used back in the day to make his public get-in and get-out calls. They’ve saved him a lot money, but investing Rule #1 style is what has helped him make a lot of money.
    Break Free,
    Michael D.

  • Mike M.
  • Anthony Ball

    Ok. I guess I take things too literally sometimes and like you said Garrett, I need to chill. I get that. Others may need to do the same. Especially as a newbie. All we know a lot of times is what we have read and heard and we take it literally and it’s hard to go outside the rules we’ve been taught to see a good buy when maybe the tools and rules aren’t lining up exactly like we’ve been taught. Thanks for being patient with us as we learn to use our judgement in addition to the wonderful tools and rules we’ve been taught. This is a process as we mature as investors. As a case in point, Garrett, I saw in a recent post that you mentioned the tools set on a monthly view turned out better in the long run on return on our investment than the weekly view did. I also noted that using Warren’s advice for most people would not have been as good as a different approach I’m using (based on a better past 10 year return from a small cap fund we have in our Thrift Savings Plan (federal 401k)). Anyway…So…I have been looking at the monthly view instead and basing my 401k investing on that which says to stay in right now. However, I’m worried that a quick correction using that view could cause me to get burned and I’m also concerned that using a weekly view will whipsaw me in and out too much and I cannot do but so many trades per month in my fund. So…what to do? Which do I use? If I weren’t so fairly new to this I would know better what to do but as a newbie we like to coattail as Warren did. I know you guys like to be careful with giving outright advice so that you stay away from legal problems. However,…we newbies are still so confused. I would really not like to get burned again like I did in 2008-2009. However, I really need my account to take advantage of upswings in the market since I am getting so close to retirement age. I know…chill. I’ve already put half of my money in the long-term treasury fund (closest thing to cash we have) to take advantage of both sides. I know I can’t be the only newbie out there with these kind of quandaries. Please direct us as best you can? Sorry if you think we worry too much but people close to retirement without enough money invested yet really have to be more careful. Thanks ahead of time for your help. It is greatly appreciated.

  • Michelle

    Thanks Michael D and Sal. Michael – I’ll be sure to check out the YouTube link and best of luck with the basis reduction program!

  • Hello,
    I am one of the lurkers on the blog and I am currently enrolled in Jeff’s Transformational Investing course. Jeff slows down the pace (a little) and the course gives good opportunity to clarify some of the questions that pop up. Using the “tools” is just another insight that leads you to your decisions, not the deciding factor. My issue is trying to slow down and not become a trader having to invest constantly. It sounds funny, but for me doing that takes a conscious effort. Reading the posts from Garret helps me do that, as well as learn little things to watch for as we learn.
    To the journey.

  • Rulers,
    “The Tools” in my ThinkorSwim account said to “Get Out” of the S%P 500 in 401K’s.
    That’s just my way of protecting a 401K Investment in Mutual Funds. And the Shiller PE recently peeked at just over 26 at about the same time “The Tools” said to “Get Out” on April 7th…I use a Weekly View.
    If you’re new to the blog and have no clue what I mean, just post the question and I’m sure on of the Rulers can explain.
    Gotta Go!
    To Your Wealth!

  • Rulers,
    Bed Bath and Beyond took a big hit after earnings. It’s interesting to see where it gapped…right to the Floor of it’s previous earnings gap.
    There are some SeekingAlpha.Com articles that may be educational.
    Here’s a quick link:
    To Your Wealth!

  • Garrett

    Thank you again for taking the time to post. I’m usually pretty fast on the keyboard here and getting back to Rulers questions (Especially the Newbie Rulers!) and their requests for a little help – just been very busy doing that flying thing and have been preoccupied with doing some of my own research on companies, mentoring and managing my own portfolio (and dad’s!).
    I don’t have time tonight to really be on the blog. And Sunday is packed…so hopefully Monday I’ll be able to offer some more thoughts on LULU and address your other questions – which are EXCELLENT questions!
    I thought you did a good job digging into LULU’s management history – so thanks for taking the time to share with others your understanding of LULU’s “Management” Story.
    Real fast…because I have to get to sleep eventually…I think LULU’s best times are behind them.
    Competitors have seen their profit margins and Yoga sales/market opportunities. I just don’t see LULU having the ability to effectively fight off competitors without decreasing their profit margins. I’d be biting my nails every quarter hoping that they could meet or beat earnings expectations – and that’s just not the safe, low risk investment that let’s me sleep at night if I had $100,000 invested in them.
    …on another note…
    Lots of Rulers here on the blog have plugged into Jeff Town’s Rule #1 Course and I’ve only heard absolutely positive things. Some of those students I’ve helped out one-on-one once they’re plugged into Jeff’s classes if they needed a little additional help or wanted to move into some advanced cash flow strategies.
    You can email Michelle from Rule #1 (She’s Phil’s sister-in-law) at support@ruleoneinvesting.com and she’ll probably have Cory or J.P. get in touch with you.
    Gotta go!
    oh…one more thing…!
    Have you read the LULU articles/comments at SeekingAlpha.com?
    Here’s a link to get you started:
    I ALWAYS read the seekingalpha articles! It’s a FANTASTIC free resource that even the best hedge fund managers in the world read. If you haven’t read those articles, make sure you do. And if there’s some kind of financial jargon you don’t understand, copy and paste it on the blog and we’ll see if we can figure it out.
    To Your Wealth!

  • Susan,
    One of the most frustrating things for new Rulers who just finished reading Rule #1 is that they can’t turn up a company that both meets our stringent criteria AND is on sale. It just doesn’t happen that often. It’s one of the more frequent questions/complaints sent into the support department.
    So…just how do you find a company that both meets our criteria and is on sale?
    If you go in to a retailer and look around, you’re going to find a lot of merchandise in mint condition, nothing wrong with them, and priced according to their fair market value plus a little extra so the retailer can profit on the merchandise. But over in the back corner of the store is an isle of merchandise that isn’t in mint condition. Either some part of it is missing, chipped, dented, or even broken entirely. Welcome to the clearance isle, where Rulers shop ’til they run out of cash.
    All of that merchandise has a value and a price, just like the rest of the store, but the trick is knowing if the value exceeds the price. That’s harder to do on this isle because there isn’t much to compare each item to since each item’s defect is unique. You have to have foreknowledge of that particular item and its undamaged brethren elsewhere in the store and in other stores. What does it usually go for? Is it a seasonal item that maybe you could acquire later even cheaper when it’s out of season? Has there been a history of this item having defects/malfunctions? And so on…
    If you know that, if you know all about this item, then you can know whether that missing part, dent in the packaging, or erroneous paint job is a serious issue or a minor one. Minor problems can probably be fixed eventually while major ones cannot. It’s the items that have minor problems that Rule #1 shoppers put into their basket. Mr. Retail Store Manager doesn’t have time to wait for that minor problem to be fixed; he has to turn the merchandise or else lose his job, even if it means taking a loss on a few items now and then.
    Do you see the analogy? Mr. Retail Store Manager is Mr. Market–401k money managers and so no–and they need stocks in their portfolios that they believe the guys and gals on the next floor up, down, across the street, and around the block are buying. If they can just keep up with the Jones’, they’ll get to keep their cushy desk job with season passes to box seats at the Yankee’s games, shoe shiners at their desks, and free all-you-can-eat in-house cafeterias.
    So Susan, what you, Buffett, and the rest of us have found are items that have likely been put on the clearance isle. Mr. Retail Store Manager doesn’t think anyone will want them and has very likely underestimated its real value. The question is…are they worth twice as much as their current prices, or otherwise is there a way that you can buy these items with a significant margin of safety? You should think: “If I buy this item today, how certain am I that even if I am dead wrong that I can at least get my money back?”
    Remember, Rule #1: Don’t Lose Money!
    Break Free,
    Michael D.

  • Mike M.

    Sometimes numbers get skewed due to events that hurt the numbers short term but make for buying opportunities.
    SRPT is pure speculation — not Rule 1. Just fun money.
    Phil did several presentations explaining how he can value BP such that he knew that it was trading well below sticker. That presentation was a while back so I am not sure how he currently feels about BP. However, I continue to own it.
    DVA – Garrett explained how he valued it in several posts. ROIC is low here, but BVPS has been solid for a long time. BRK’s continued buying puts a floor under this one.
    MKL- I’ve looked at this one several times, but couldn’t really value it. At this level, I would not be a buyer even though it is a solid company.
    As for coaching, I am sure Michael D. or Garrett or someone else has the contact info/email address for the Rule 1 coaching.

  • Susan

    would love to pursue it, but don’t see information on the site regarding and google gives me nothing. Where? How?
    Moving on…I looked at companies praised above and have a problem: BP, DVA, SRPT, MKL and USB all failed the Rule#1 ROIC test – WELL below 10. IBM passed, but the 1yr sales and EPS were both under 5%. What are we talkin’ about, here?

  • Moncho

    At the site Ryan mentioned, you can go through the series Where Do I start.
    Although if you are like me, I learn much much better when being able to interact via in class or in a live webinar forum. That is why I took R#1 Transformational Class (I believe that is the name of the course now) with Jeff Town. Jeff has a great teaching style and I learned a TON from his class.

  • Susan

    Ryan and Michael –
    Thank you- I’ll check them out!
    Must correct previous post. LULU’s previous CEO was wonderful, Just couldn’t shut up the founder and board member who was the nightmare. And NIKE isn’t so much a challenger as GAP – which would have an edge on product pricing.
    I’m gonna check out the BIG 5 on companies mentioned above – particularly Buffetts, cause I’ve looked at some before and they didn’t hold up. What am I missing?

  • Ryan

    go to tastytrade.com, there you get an awesome options education from the creator of ThinkorSwim and Dough.com and former market maker Tom Sosnoff for free.

  • The CBOE has a decent course available to be taken for free, but keep in mind that they’re teaching EMT along with it and how they use options is NOT how we use them.
    Break Free,
    Michael D.

  • Susan

    Garrett –
    LULU was on sale because of a product defect and because the CEO was a walking public relations nightmare! He’s outta there, they got a new guy who is actually a part of the main community the company serves, has awesome experience with other companies (most recently, Toms, I believe). Where the old CEO was a horror, this Potdevin is the cure. When a guy in charge of a yoga wear company uses words like “humility” in the quarterly meeting after the year they’ve had, there’s a promising synergy. Management can definitely fix the problem. There was a lawsuit about the product problem and LULU came out on top. They were almost alone in the yoga niche and were very highly regarded – Luved, I would say. A new line of “regular” wear sold out immediately on line. Big business ran away from the company, – it’s customers did not.
    I find meaning in the company because I’m a latent granola head, and the health and spiritual connections mean a lot to me. When Potdevin was CEO of TOMs,for every pair of shoes purchased, they donated a pair to the needy. Moat is facing some challenges from UA and NIKE, but LULU has a niche and a personality, rather than trying to be all things to all people. Let the other two take care of the folks who want to “GetRipped”. Growth will probably not be insane as it was before because there are now known alternatives regarding product, but its healthy future is not in doubt.
    So, Garrett, that’s my take on it. I’ll keep an eye out for you.
    Ummm, what reading would you recommend as far as “Options for Dummies”? Yeah, I know…baby steps! Can’t hurt just to ‘look at the pictures’!

  • Here’s a better answer than my previous: http://youtu.be/m5SbTpvbx_I
    So this can be found later using TypePad’s search function: “How To Calculate Cost Basis”
    Break Free,
    Michael D.
    P.S. That was created using my new studio microphone. My office isn’t setup as a studio (sound proofing and all), but I think it’s at least a bit better than my old Bluetooth. What do you guys think?

  • Sal

    get a legal pad and write it out at first, then you won’t even need a spreadsheet and it’ll stick

  • Hi Michelle.
    I use a spreadsheet I made. I originally intended to release it to the public for use, but it isn’t ready for that. Plus, it’s a pain to deal with when new versions/big fixes are released: you have to hand-enter each trade all over again.
    Having said that, Phil has always wanted a tool that hooked into his brokerage, saw what trades you have done, and calculates your basis for you. No promises, but….I and a certain someone here on the blog like making Phil a happy camper…
    Break Free,
    Michael D.

  • Michelle

    Hey guys. I’m curious to know how you keep track of your basis? As you receive dividends, sell covered calls (that expire), etc.? Is there a program you use or do you just set up an Excel spreadsheet?
    Appreciate any input. Thanks!

  • Josh

    What did you use for a growth rate and future pe on this company? I just did a quick look at it.

  • Mike M.

    I got in at 5 and ride it down. Then pulled the trigger and bought a bunch more. I cashed out on the run up over 40. It dropped like a brick to 13 and I bought back in with house money. FDA decision is coming soon and this could swing up or down a lot this week or next.

  • Sal,
    I also have been looking at MKL. Tom Gayner is a valuable value investor and has been getting solid returns for MKL’s equity investing with the float. It’s a compounding machine!

  • Sal

    Folks –
    Take a dig into MKL – Markel insurance. Some see it as a mini BRK. Has a terrific track record and price looks on sale 15-25% in my humble opinion. Interested in what you folks think, espicially you Phil !
    I will report my opinions after attending their meeting in Omaha after Berkshire’s.

  • Moncho

    Mike M.,
    Nothing wrong with that at all as long as its in your Risky Biz portfolio. We all need to gamble sometimes :-)
    I hope you got in when it was $.69?
    I have my Super Risky Biz @ $500-750 for situations like these or maybe an options play.

  • Moncho

    Hi Nicholas,
    From the information I have (take it with a grain of salt), but I believe the company that purchased QCOR, MALLINCKRODT, was a spinoff. That is why you may not find much information on them or financial statements. You will want to dig and find out what company they were spun off from and what assets were spun into MNK.
    If you dig into the previous companies 10K’s you may be able to find out the value of the MNK assets prior and whether MNK was put into a winning valuable position post spinoff.
    Good Luck

  • Mike M.

    But pharma spec stocks are fun. SRPT SRPT SRPT! I’m hoping for a second large run in this one.

  • Hello Nicholas Larrivee! Welcome to Phil’s blog!
    (I’m posting under this headline rather than under your comment from last month’s headline)
    Regarding QCOR, I personally won’t invest in them because they are a pharmaceutical company. That’s just one of my disciplines as a Rule #1 Investor.
    I’m very familiar with Big Pharma and the Industry in general because my wife use to be a Pharm Rep for several years before moving into Medical Sales in Allergy Diagnostics.
    With Pharmaceutical companies, it’s too much of a gamble for my risk tolerance. You can make a ton of money if you get lucky and the trial drug successfully makes it through each hurdle for FDA Approval. The price keeps going up, up, up as it gets closer. But it can get slammed down hard if it doesn’t make it. I’ve seen this happen many, many times.
    Then, you can also have an unexpected side-effect that gets the FDA’s attention after the drug has already gone through trial and the stock gets slammed overnight.
    It’s just not predictable enough for me. I’d rather load the truck with a company like DeVita Health Care where I can predict their growing Free Cash Flow over the next 10 years from kidney dialysis patients.
    One thing you want to look for when a company like QCOR buys another company if the acquisition substantially increased QCOR’s book value per share and how they paid for it.
    Read up on SeekingAlpha.com and do a Google search to find other articles regarding QCOR’s purchase. Also, you’ll want to read the quarterly transcripts from the CEO along with the Q&A session. You’ll probably find more to your answer after doing all that.
    If you can’t, then find something easier to Value. Additionally, the Market is at or near all-time highs. If your company is “on sale” Mr. Market may have a very good reason for discounting it.
    There have been plenty of investments that have gone bad despite fantastic Rule #1 numbers. But, like you said, you’re just learning right now and the most important part of becoming a better Rule #1 Investor is being able to ask better questions AND find the answers.
    To Your Wealth!

  • Susan (and fellow Rulers)
    Thought I’d comment on some of your statements in your above post.
    First, As far as I can tell, you’re definitely in good company on Phil’s blog format. THIS IS the place to ask Newbie Ruler Questions!
    PLEASE! Ask the most stupid, obvious, ridiculous question you can. Nobody knows you! Heck, maybe you’re real name is “Bill” – we don’t know!
    I do what I can with the time I have to help people on Phil’s blog. I’ve been a successful failure most of my life and have used a lot of those lessons to help people like yourself avoid making similar mistakes.
    Phil invited me into his world and I’ve been his student for over 3 years now. In return for his mentoring, I spent time helping out at his Rule #1 Transformational Investing Events, helping his brother, Jeff Town, with some students via one-on-one coaching and contributing way to much commentary/posts on his blog!
    Generally, I keep the blog to Rule #1 Fundamentals…occasionally I get antsy and throw out something about Options and stir things up a bit.
    “Michael D” has been learning a ton from Phil and he’s on the blog helping out a lot too. Brian or “Moncho” is a Jeff Town graduate, Doug, Clay…just to name a few…there are more. But most of the thousands of people who read this are what I call “Rule #1 Blog Stalkers” and they are literally all over the world. Israel, Germany, Canada – I had the opportunity to meet many of them.
    We’re all learning and trying to navigate our way to achieving some level of financial security in a messed up, confused world.
    You’re not alone, I can assure you of that!
    I like some of those companies you’ve mentioned too – Panera, Chipotle and UA…good picks.
    One of my buddies that I mentor on a mostly daily basis, loaded up on UA last year and he’s of course excited with his “just one” investment.
    I’ve done relatively recent valuations on Panera and I’ve made money selling option contracts on them at $110.00 per share when it was selling for $155.00 per share. You may not know what that means…but to me it was like picking up $100.00 bills sitting on the sidewalk. When Mr. Market gives you those opportunities, it’s fun to take advantage of them.
    How about Coke? I previously posted that my Dad loaded up on Coke on the few days it traded below $37.00.
    I posted on the blog a quick thesis why Coke probably wouldn’t drop much below $35…that was a great opportunity to pick up those $100.00 bills sitting on the sidewalk.
    How about BP? That’s a company on my “Just One” list. BP offers almost a 5% Dividend. It’s ok if you don’t know what that means…just ask…and I’ll write out for you how knowing what the dividend is can provide a logical bottom price for a stock price.
    Today I read IBM’s 2013 Annual Report…awesome stuff in there. It made me want to own a ton of IBM.
    So many choices so little money!
    There are ALWAYS opportunities out there. It just depends sometimes on how much time and effort you have to really learning the 4M’s on a company.
    If you have a list of companies that are truly “Wonderful Rule #1 Companies” I’d encourage you to become an expert on your “Just One” and learn how to utilize low risk, effective option strategies while you continue to learn the language of investing.
    (and we all can disagree what constitutes a “Wonderful Rule #1 Company because what has MEANING to me and how I invest based on my own VALUES is different from others)
    Regarding LULU…THIS IS VERY IMPORTANT…if you can attempt to answer it on the blog, that would be AWESOME!
    1) WHY WAS LULU “on sale” and available at your MOS price?
    So Ms. Susan, what was the “Rule #1 Event” that caused Mr. Market to discount LULU? Was Mr. Market correct or incorrect in offering LULU at this price?
    My first assumption regarding Mr. Market is that He Is Right and I am WRONG!…In order to invest, another one of my criteria would be that I MUST PROVE to myself that Mr. Market has oversold Company XYZ (or LULU in this case) due to an IRRATIONAL, TEMPORARY Fear and that MANAGEMENT can fix the problem.
    I’ll help guide you on the blog, if you’re willing to put some effort into answering some questions so ALL of us can benefit as Rule #1 Students.
    Well, my daughter just called…I use to say, “Hi Alexandra! How are you?” when I answered the phone. Now I just say, “How much?”
    Keep investing…those kids are expensive!
    To Your Wealth!

  • My father called me to today to check the market since it’s been going down the past couple days. I wasn’t aware of the market movement. It just goes to show that you only care about the market, when you’re looking to buy/sell. Otherwise, you only care about the macro of the companies you own. If you know the value, you aren’t scared. If you don’t know the value, you should be fearful.
    Thank you all Rulers and Phil Town for giving me inner peace!

  • Rulers,
    This was just forwarded to me from my Rule #1 Buddy, Michael M.
    Well worth looking into these holdings. I’m an owner of some of them.
    To Your Wealth!
    Digging into Buffett’s Holdings
    Jim Cramer
    | Apr 07, 2014 | 12:24 PM EDT | 1
    Whenever I see an article that criticizes the stock holdings of Warren Buffett, I know it’s time to break out his portfolio and look it over for some terrific ideas.
    When I see a piece entitled “The Oracle of Omaha Lately Looking a Bit Ordinary,” then I jump up and down for his top ten holdings because I know it must be time for those stocks to shine.
    That’s exactly how I felt after the New York Times published a statistical analysis of Buffett’s stocks suggesting that his underperformance vs. the S&P 500 for four of the last five years is, and I quote, “unlikely to be a string of bad luck.”
    Sure enough, at a time when momentum funds are falling by the wayside and what’s hot has definitively become what’s not, there is much to like about what Warren owns. Consider his top ten positions.
    First is Wells Fargo (WFC). This bank reports this Friday and it’s been a leader in returning capital and in raising its dividends, even without a lot of growth in this country’s economy and it is a U.S.-based story. Still, the bank has used a fantastic, truly fortress balance sheet to buy other banks and take a 30% control of the U.S. mortgage market. When it reports on Friday it may not shoot the lights out. It needs a yield curve that generates a better return on deposits. But if the stock gets hit, you know to buy it as the buyback and dividend growth will be the best in the industry because it is the regulators’ favorite big bank stock.
    Next up is Coca-Cola (KO). I am not a fan of Coca-Cola because of the rapid decline of both diet and regular carbonated sodas in this country. But it is still a growth brand overseas and it has, in a yield-starved world, a terrific dividend.
    Third is American Express (AXP). Who among us wishes that we owned this juggernaut? Its brand has come through the downturn in fine fashion and it’s control of the international emerging market wallet share is the envy of the world.
    Fourth is IBM (IBM). When the software-as-a-service stocks and the cloud-based high fliers are falling apart, IBM shines. Here’s a company that is two quarters away from showing how it truly is a software and consulting company with a hardware appendage that isn’t going to hurt the company any more. It is on the cusp of a major change, even as last year was a not so hot a year. I think 2015 is when you will see the changes and Buffett’s a very patient man.
    Fifth is long-time holding: Procter & Gamble (PG). I know this company is discounting its products heavily and it’s trying to figure out how to produce some lost momentum, but it’s paying you to wait and it has a lot of room to restructure and spin off ailing brands.
    Sixth is ExxonMobil (XOM) and have you noticed that it has stopped going down of late? I think that’s because it is, in the end, going to stay extremely lucrative, even as it hasn’t been able to grow production. It is the only company I follow with a 50-year plan and while I don’t like its lack of growth, its buyback generation is pretty darned sweet in a time when stability’s a hard thing to find.
    Seventh is Wal-Mart (WMT) and I think that this company, while not a favorite, has at least stabilized its decline. Not a reason to own, but how about “you could do worse?”
    Eighth is a personal favorite of mine: US Bancorp (USB). It, like Wells Fargo, is a huge returner of capital and a serial dividend booster. Ever notice you never hear about these guys getting in trouble? That’s because they don’t. This is the pristine national bank.
    DirectTV (DTV) is ninth and your only thought here should be “how did Warren know to buy this one, it’s doing so well?” In a land of scarce media properties, he has one of the most coveted around.
    Finally, there is DaVita Health Care (DVA). This dialysis play is one of the best baby boomer stories out there. It can be a huge winner under the Affordable Care Act.
    What can I say? I think anyone looking for ten solid ideas would be hard pressed to find many better than this portfolio. It is the antidote to the madness infecting the market or, at least, the Nasdaq right now. Warren Buffett? I am a buyer, not a seller. I think this year his luck’s about to change.

  • Susan

    You’re an angel to be so patient and generous. I’m all up for the “mentor” thing, but uncomfortable about repeatedly displaying my ignorance in a community that is clearly very knowledgeable. You’ve kindly already begun…how do we continue?
    Your “20 year” question is a good one. but since a zillion things (that I don’t understand)go into forming a conclusion, I was just going with Phil’s Big 5 – if those are strong it stands to reason there’s a chance. Having had great difficulty finding ANY that fit, I was very psyched about LULU because a)it was below my MOS of $53, b) I’ve very encouraged by the jockey and c)it actually does have meaning for me – I’d feel good about owning it. (The others that passed the Big 5 were Underarmor,Panera Bread, Chipotle, ULTA and Ross Stores) I’m a tiny investor – er, trader at this point. I haven’t enough to “invest”(especially since you smart guys are taking about going to cash), but like the idea of trading into it!
    I will keep an eye on some of the companies you mentioned as well as reading posts and recommendations – maybe there’s something to “osmosis”.

  • Fred
  • Joe M.

    Jack Bogle, founder of Vanguard, states that the return on the equity markets long term is 3-4%. The remainder of the 7-8% return comes from re-invested dividends. This makes sense because US GDP growth for the past 100 years has been in the 3.8% range.

  • Anthony Ball,
    Great post! I can just feel your frustration!
    I nor does anybody really…post much about “Capital Allocation”
    If you consider yourself the CEO of your money, then I would suggest that as the CEO your most important job is “Capital Allocation”
    What do I do with the money I’m getting? And how to I invest it wisely?
    Capital Allocation is ENORMOUSLY important and honestly there just isn’t a cut and dry rule for it.
    On the blog, I simplify things using a fictional $100,000. In real life it’s more complicated because we’re continually adding more money to the accounts and then that money needs to be allocated.
    It would be easier if I had X Millions and just said, “the heck with it…just by BP, take the 5% dividends and get back in touch with me in 21 years.”
    But we all have these difficult decisions to make on how and where to allocate capital.
    I know MANY investors who are still “all in”
    And I know MANY investors who are all cash.
    And yet, I know other investors who just “buy Gold”
    Look, here’s my advice which I shouldn’t ever give on the blog…but it’s simple…and I picked it up from Phil (and he picked it up from a preacher)
    It goes like this…
    “Pay Attention To The Tension”
    I love that. I’ve used it a lot. If I’m investing/stockpiling/trading something and I’m out living life like a normal person…and I start to feel stressed out because maybe I didn’t really know what I thought I knew (the “Story” changed)…I’m losing money…have doubts about what I did…I “pay attention to the tension” and I just “GET OUT”…maybe with a loss, maybe not…But once I finally make the decision that releases the tension/stress, then I can get my mind back on track, recover, learn from it and move on to the next opportunity.
    Don’t let this stuff stress you out. Go “ZEN” my man!…just chill and do what let’s you focus on what’s really important in life – your health, your family and other ones you love.
    When you don’t know what to do, Cash is good. Opportunities WILL ALWAYS come.
    I wrote this down from our church sermon today…I guess I can use it here:
    “Great Moments are Born of Great Opportunity” (that is actually from Coach Brooks in the US Hockey Movie “Miracle”)
    When an investing opportunity comes your way, if you’re prepared, if you’re educated, if you’re ready..it will create for you an incredible opportunity.
    Keep learning, studying, read, read, read…find your mentor/coach and you will eventually succeed!
    To Your Wealth!

  • Michael D,
    That is good “Food For Thought”…and honestly, “I don’t know” best sums it all up for me.
    I did order James Rickards book, “The Death of Money” and supposedly Amazon will zap it to me on April 9th. Maybe that will give me some more answers.
    I think you bring up great questions. Maybe Stephan can answer them better.
    My plan is to make as much money as I can, downsize, and declare residency in Florida next year to stop paying Maryland 9% of our gross income.
    We’re just waiting for Alexandra to graduate high school next year…then we’re having the estate sale and moving out!
    To Your Wealth!

  • Joe M.

    The tools don’t always work, so don’t be surprised if they give a “head fake”. Also, the indicators tend to do better when the stock is in a bull market. There are different ways to gauge a bull market for a stock, but a simple rule of thumb is the 200 day moving average. Another recommendation is to look at weekly charts rather than daily, that will cancel out some noise. I think the 10 and 30 wma are great, but the 13 and 34 wma seem to work well, too.

  • G,
    I sent Phil an email a few months ago about something I had discovered related to the market rate of return and our money supply. He found it quite interesting. Since you bring up the market rate of return, I’ll share what we discussed with the blog community now. (Nothing about it is proprietary or confidential…)
    The market rate of return is actually 7%, and the 1% difference isn’t what I find interesting. That 7% market return also just happens to be the same percentage at which our bankers/government have printed and added to the money supply each year over the long run. In other words, the average compounded annualized rate of growth (CAGR) in the money supply equals the market’s average rate of return–both are 7%! Hmmm…coincidental or is there perhaps a connection?
    Then the next question I have to wonder about is…why is it that we’re decreasing the value of our dollar by 7% (on average) each year, and yet, we don’t see 7% inflation (a 7% reduction in actual buying power). Even in unofficial/controversial sources, the inflation number they come up with isn’t quite 7% over the long term. So, where does the other 2 or 3 percent go?
    I suggested to Phil that we ought to consider inflation at 7% because that’s the real loss in value of the dollar. He responded that 3.5% is what he uses, but wondered if he was being optimistic based on the information I provided. That conversation died before we ever came to a conclusion. Given his experience, I’ll say he’s probably right, but if so, where did the other 3.5% of the 7% reduction in value go? Is it being shipped off to other countries somehow? Or is it being stored up like potential energy, only to be unleashed in one big hyper-inflationary event?
    We know price and value aren’t the same thing. In the above, I’m referring to the value of the dollar declining by 7% over the long run, while the price seems to have only changed by 3.5% (assuming Phil is correct). In the short term, based on both official and unofficial sources of inflation data, the producers of goods and services haven’t seemed to have noticed that the value of the dollar we’re trading for their goods and services is worth quite a lot less than it used to be. They think it’s worth only 3.5% (or so) less than it used to be, when perhaps it’s worth less by 7%.
    Just food for thought.
    Break Free,
    Michael D.

  • Anthony Ball

    Ok. I feel like such a newbie to ask this after all I’ve learned so far…but I just feel so confused about what to do right now. From what I’m gathering…get about 50% into cash right now. On the other 50% be very careful. Only invest if your company you have done much research on is at a discount. Do this regardless of the macro situation. If you only have $50,000 or less consider trading only using the technical signals or if you can’t have access to your 401k money to do single stock investing. If you have $50,000 or more consider investing using stockpiling and derivatives (options) to get 4 tranches of your company as it goes down in price. Can you start this stockpiling with only say enough for two tranches and hope with cash flow trades you can get enough for two more tranches by the time you get that opportunity? Or should you wait until you have enough money in your account for 4 tranches?

  • Susan,
    Thank you for posting LULU as the company in question.
    As a dedicated Rule #1 Investor, I wouldn’t invest in LULU because one of the first questions I ask myself is:
    “Will LULU be around in 20 years?”
    Since I’m not sure, I won’t invest.
    Now, you may have a different level of insight into them that I don’t and can answer that question with a very confident, “YES!”
    In the past blog posts, I’ve gone into more detail about “investing” vs. “trading”
    Let’s just quickly think about what “Investing” means to little ol’ me.
    To keep it simple, if I had $100,000 to invest, I’d trade LULU maybe using $10 to $15K and dance in and out rather quickly if it went up because I’d be to afraid of it going down or it’s MOAT/MANAGEMENT getting busted.
    Whereas if I were “investing” in LULU, I’d be of the mindset that I want to invest at least $75K to $100K of that account in owning LULU. And LULU would be:
    1) The last investment I can ever make in my entire life
    2) I can never, ever sell it. I can only buy more of it.
    3) It most provide for me and my family for the next 50 years.
    Now, that’s how I approach it – along with other criteria. Thinking like this quickly lets me pass on a few thousand investments and narrow it down to small list that I’m confident about owning.
    (…and you can trust me on this even if you don’t know me…b/c Rulers here on the blog do…I’ve made huge mistakes in investing and Rule #1 saved me from myself. )
    If LULU met that stringent criteria, then if I only had $100,000 to invest, I’d honestly be looking at investing about $75K to $100K of that money in LULU.
    When you’re investing with $100,000 to a few single digit million, …you’re a little investor! You just don’t need to buy 10 or 30 different companies if you’re been educated as a Rule #1 Investor.
    (…BUT 98% of the “investors” should NOT invest this way…They have NOT been educated as a Rule #1 Investor and I’d even suggest that reading Phil’s books is just an intro to finding someone who IS and then asking that person to MENTOR you! so we are indeed a very rare breed…this is Buffett’s recommendation…not mine…just buy the S&P 500 and get your 8% over the long haul. Good luck.)
    Some companies that meet some of that “investing” criteria that I have loaded up on (and I may or may not own now since I’ve been moving to cash and investing in other sectors) are John Deere, BP, Exxon, CF Industries, DeVita HealthCare Partners, Coke and IBM.
    (You may notice that John Deere, DVA, IBM and Coke are owned by Buffett…he’s my other partner. The other Buffett investment I’d like to own is Wells Fargo, but I’m probably to little of an investor to really own all those companies at once)
    To Your Wealth!

  • Rich,
    My big recommendation to all Rulers is to become an avid reader and develop an insatiable curiosity about investing.
    I was listening to Phil answer a student question regarding what he does and to summarize, it’s “I read everything”
    Another would be FOCUS.
    Take a laser like FOCUS on your “Just One” Company and invest aggressively around it’s trends using low/no risk Rule #1 Option Strategies!
    To Your Wealth!

  • Rich

    It is a great book! I go back to it every couple years because some of the previous reading is over my head, but as I learn more, it becomes more accessible. “The Intelligent Investor” is like that also.
    Almost every video or written interview with Charlie Munger or Warren Buffett I see invariably mentions how much they read. Success Leaves Clues….
    Any other recommendations?

  • Susan

    “Here’s My Sign!” Figured out the problem and it ain’t with the rule! Mortification prevents further details. I’m grateful for your encouragement. Shutting up now…
    Back On Track,

  • Susan

    Much appreciated, Garrett! See above. Too early to ditch the Rule, just looking for experienced perspective.
    Warily Faithful,

  • Susan

    LULU. I stayed in because the negative signal came right after the quarterly report (which I listened to) and I liked what I heard. Watched it climb for six days and suddenly red arrows again. Happiness ’cause I’m up 15% in three weeks, but it’s lookin’ like dumb luck.

  • Susan, I would love to help you out on the blog and take a look at what you're seeing. 
    You accomplished to hardest thing…figuring out how to post on this blog format so I'm sure I and my fellow Rulers can offer some experience from investors like myself who have Been There and Done That.
    To your wealth!

  • Joe M.

    What company are you referring to?

  • Shuki Sasson

    Thanks a lot!

  • Susan

    I just read through all the above posts. I’m a complete newbie (clearly Phil’s audience in his books), so all this is WAY above my head. Let’s go back to kindergarten, shall we? The stock I’m looking at was well below my MOS when the tools said “get in”. At close 2 days later they said “get out”. It went steadily up (13%) over the next six trading days – then all red arrows. The next day it went up pennies. Kinda hard to have faith in this stuff when the basics of Rule#1 are disproven twice in the course of 11 trading days. Is Phil still guiding – on the river of dreams?

  • Great book I just finished “You can be a stock market genius” by Joel Greenblatt. Big recommend before he started preaching ‘super-return indexing’!

  • Good posts, article links and comments!
    I really liked Mike G’s posting the interview with Jeremy Grantham
    To Your Wealth!

  • Jeff A

    Thanks Joe. Just got the e-book version from amazon. Reading it. Very interesting.
    thanks for the recommendation!

  • Mike G.

    I recently re read this and the last part wasn’t as clear as I would like it so sorry for being repetitive but I want to make it a little more easier to read. Here is what I have copied and pasted in my phone:
    “Fortune: Okay, but then I guess that means you think stocks are going higher? I thought I had read your prediction that the market would disappoint investors.
    Grantham: We do think the market is going to go higher because the Fed hasn’t ended its game, and it won’t stop playing until we are in old-fashioned bubble territory and it bursts, which usually happens at two standard deviations from the market’s mean. That would take us to 2,350 on the S&P 500, or roughly 25% from where we are now.
    Fortune: So are you putting your client’s money into the market?
    Grantham: No. You asked me where the market is headed from here. But to invest our clients’ money on the basis of speculation being driven by the Fed’s misguided policies doesn’t seem like the best thing to do with our client’s money.
    We invest our clients’ money based on our seven-year prediction. And over the next seven years, we think the market will have negative returns. The next bust will be unlike any other, because the Fed and other central banks around the world have taken on all this leverage that was out there and put it on their balance sheets. We have never had this before. Assets are overpriced generally. They will be cheap again. That’s how we will pay for this. It’s going to be very painful for investors.”
    – Gandel, Stephen; Fortune 3/24/2014
    Grantham could be way too soon on his warning call and the market could go up much farther than 25% or he could be flat out wrong. I have no idea. I read Seth Klarman’s Baupost Fund letters from 1995 to 2001 though (they are publicly available if you search for them on marketfolly.com or scribd) and I think it’s astonishing how much the market beat Seth’s fund during this period.
    $50,000 invested in the Baupost Group starting in 1990 was worth approximately $131,000 in 2000 where as $50,000 invested the S&P in 1990 was worth approximately $206,000 in 2000. (These numbers are from The Baupost Groups 6/15/2001 letter) That’s a huge difference and with hindsight being 20/20 Seth’s cautious approach turned out to be the better option.
    I am offering no investment advice at all by posting this. Whether you go into cash, etfs, stocks, bonds or any other investment should be based on your own investment homework and investment criteria but I think it is well worth it to look at what other investment managers with great track records and experience think of the market today. Then factor in their thoughts with ours and adjust from there.

  • Mike G.

    The list of Gurus that Phil mentioned he follows in April 2012 are:
    Bill Ackman, Bill Nygren, Bruce Berkowitz, Dan Loeb, David Einhorn, David Tepper, Edward Lampert, Jeremy Grantham, John Paulson, Julian Robertson, Ken Heebner, Mohnish Pabrai, Prem Watsa, Seth Klarman, Warren Buffett, Whitney Tilson, and Wilbur Ross.

  • Shuki Sasson

    Can someone help me with the list of Gurus Phil recommended to follow?
    I am following Buffett Kalarman Einhorm Lou Simpson.

  • Josh

    Sue, Buffett not getting out due to macro conditions is something I have discussed and studied for a long time. This is something I have mixed feelings on. I would like to get out and wait till the bottom and buy in again. However I think Buffett is correct that it is to hard to try to time the market. I have worked so hard to get wonderful companies with great cost basis and do not want to risk selling them and having the run higher without me.
    The answer to the problem is to create your own berky. Warren has all these great companies sending him cash to allocate. He constantly has cash coming in he can use when the market drops or some wonderful companies go on sale. This is what I am trying to do is create my own berky so that I have a flow of cash coming into my accounts and I can use that money when the market drops.

  • Brian

    I agree with Buffett and Klarman that a “go to cash” decision should not be based on the macro forecast but rather on the individual companies you follow or are invested in. I think the point becomes exceedingly clear when you simply flip the question around.
    Imagine you were given $100,000 (or any amount) and told to invest the money as you see fit. Some of the time good investments will be available and you can invest some or all the money immediately, other times you will decide that it makes sense to keep the money in cash until a better opportunity comes along. In this instance, just because you have the money to spend doesn’t mean you have to spend it all immediately. I think this is a good mental exercise to do occasionally regardless of whether you have the money or not because it is a good proxy for your market sentiment. Of course it is also a function of your circle of competence and how deep you’re willing to dig because somewhere there is bound to be a good investment.

  • sue

    It’s true that they are bigger and have to move slower, but that isn’t a factor in their point… and they weren’t making or respecting decisions to go to cash based on macro even when they themselves were “jet-skiiing”

  • Paul K

    Thanks for all of the thoughtful replies. Yes, you were right, no flame retardant suit necessary. I appreciate the opportunity to respectfully disagree and hear your disagreement as well.

  • Anthony,
    Were your at the recent workshop? I think you were. Refresh my memory.
    I’m recovering from several financial setbacks and probably will be for a few more years to come. From a home underwater financially, loss of my only source of income a couple times with only credit cards to fall back on, to my recent and still-ongoing divorce. Life isn’t easy, and sometimes it doesn’t seem fair. But all of that has led me to finally getting a financial education and becoming financially literate. Many people go through this kind of thing, but never realize what they don’t know is killing them.
    Garrett was going to say I did that $17 of basis reduction in a paper account, and he’s right. I don’t have $38,000 of my own to invest right now. All of my money is going towards paying off debts, which is akin to a 15.99% rate of return. I could potentially make a greater return by investing, but I’m not as certain about that as I am with the fact that debt is costing me 15.99% every year, which is losing money. One is absolutely certain, the other is a high likelihood. And since Rule One is don’t lose money and we’re all about certainty, well, you can see why I pick to pay off debt right now.
    Even though it was in a paper account, and investing in MCD at the current price isn’t pure Rule One investing, I do treat the paper account like a real one for many reasons. I would have done that trade just the same as in a live account.
    Break Free,
    Michael D.

  • Correction…
    He told his students that he was getting back in…he didn’t tell his students to do anything.
    See how easy it is to change a few words and it change the whole meaning. One word, one slip by Phil and he could have the SEC breathing down his neck.
    Break Free,
    Michael D.

  • Paul,
    You have to remember that just because Phil makes a public “get out” call, it does not mean that he has to make a public and pointed “get back in” call, too.
    As others have said, it was clear through blog posts that he changed his mind at some point and got back in. (In case anyone is wondering, he told his students to get back in in February 2013.) And actually, now that I think about it, Phil even did several public webinars that explained the values of companies and I believe he even lead on to what he was buying at the time.
    Also, the times have changed since he started this blog. He now operates a hedge fund and perhaps eventually, a financial services company. With all the red tape and opportunities to find himself behind bars, I suspect he’ll be less willing to make public calls. You know what that means, Paul? It means it’s time to take off the training wheels and invest on your own and stop following Phil. The whole point of this is not to coattail, but to survive on your own.
    Break Free,
    Michael D.

  • They’d do that because, just as they say, it is impossible. What he leaves out is that it is impossible for them to go to all cash. We smaller, more nimble jet skiers can do laps around that big cruise ship.
    Break Free,
    Michael D.

  • Josh

    I will be in omaha in may again this year. It is amazing what you can learn from Warren and Charlie at the meeting. This will be my sixth year in a row.

  • Sue

    Anyone going to Omaha this year?
    Quotes from 2009 meeting:
    Munger: I don’t think we’d want an investment manager who would want to go to cash based on macro factors. We think it’s impossible.
    Buffett: In fact, we’d leave out someone who thought he could do that.

  • Joe M.

    Jeff, I would recommend reading “the snowball”

  • Mike G.
  • Jeff A

    I usually don’t bet on any market direction because I never can. I have learned my lessons so I just go with the trend. I accept that the direction can change at any day. If the trend reverses, I cut my losses short within 3-5% or take any profits off the table and go with the down trend. You can short by selling calls. I think covered calls are great if the market is going down or flat. When the market is going up, go long. Never be fully invested. Keep cash on hand to grab big bargains. Strategy is pretty simple but I accept it is hard to do when you got real money in the market. I have trained myself to be neutral about the stock market. Very hard to do and still remind myself everyday.

  • Mike G.

    Jeremy Grantham is the Founder and Strategist at GMO. If you went to the April 19-21st Rule #1 Atlanta Cash Flow Symposium and you are saying to yourself, “that name sounds familiar”, that might be because you looked at the list of Gurus that Phil follows. He has moved to my top 5 Investment Gurus along with Warren Buffett, Howard Marks, Seth Klarman, and Charlie Munger.
    He recently did an interview with Barrons, Fortune, and his 2013 Q4 investment letter is available for reading to the public.
    ***I will post all links to articles in my follow up post since my blog posts have been very sloppy when I post links and I feel they deter readers from good investment reading***
    Jeremy Grantham has recently said that stocks are 65% over priced and will probably go higher. Doesn’t mean he knows for sure obviously but based on this Fed manipulated market and his experience in studying stock bubbles – he’s pretty good at predicting them too believe it or not – he believes stock bubbles tend to go up until the market is two standard deviations away from the market’s mean. Currently Jeremy states that we are at about 1.4 to 1.5 sigmas (sigma is 1 standard deviation) away from the markets mean.
    In order for the market to go to standard bubble territory the market will have to go up to about 2350 which is 2 standard deviations away form the mean. The S&P is currently at 1890 as of today’s close.
    Jeremy’s answers to the last two questions that Fortune asks him are saved in my notepad app on my phone for me to always consult.
    After he explains that the market is overpriced, Fortune asks him a follow up question about why he isn’t investing his client’s money in the market when he thinks it will go up. “We invest our clients
    money based on our seven-year prediction. And over the next seven years, we think the market will have negative returns. The next bust will be unlike any other…..”

  • Keith

    And also, when Phil said he was out of the market, that meant he no longer owned stock in any company. However, that didn’t mean he turned off the computer and headed into his bunker. I’m sure he’s been cautiously doing short term strategies with some portion of his account to keep the cash flowing in as he teaches in his courses.

  • Moncho

    I’ll take that bet. :-) I take SPY @ 193 +/- 1 point, on/before Aug 1st 2014 before another 6-8% correction. What’s your guess?
    As with Mortimer and Randoulph, the wager is $1. Actually, lets make it dinner at TXRH. Loser pays. But you don’t get any delicious rolls with cinnamon butter. lol

  • Rulers,
    Shiller PE Broke 26 and S&P 500 PE broke 20 today…anyone want to wager bets how high it will go…seems like everyone else is betting on higher stock prices!
    To Your Wealth!

  • Jeff A

    Regarding premiums on calls, the average has been 1% a month mostly. When the VIX goes up and uncertainty builds up, the premiums go up as well. If you are averaging 2.9% premium over a month means you are either going after high flying speculative stocks or stocks with alot of uncertainty about their future.
    If there is uncertainty overall then you might catch some good premiums but again the premium you get has risk built into it.
    I have read Klarman’s book. Obviously he is a smart guy. No doubt. I think there are different classes of value investors… those like Warren and those like Klarman who seems to be more like Ben Graham. Warren Buffet as I understand it changed his strategies over the years even though he started out with Graham’s concepts.
    I actually bought the shareholder letters and read the early 1965s years… I would love to know how Warren ran his investments prior to GEICO.

  • Mike M

    Paul, One thing that seems to have been lost here is that Phil has posted comments after Jan 2013 that indicated that he was back in the game so I am not sure it is fair to blame Phil for getting out in Sept 2013 and staying out. Plus, we all have to make our own individual choices.

  • Brian

    Fair enough and I figured a discussion of IV would come up since I think its at the heart of the desire to sell premium. However, I think of it like this. The 16 days to expiration covered call had a day rate 7x that of the LEAP. There is probably a point where it might make sense to sell the LEAP in an extreme circumstance if you absolutely knew vol was going to contract 7 fold or more in the coming months but most of the time that isn’t going to happen and more importantly if you were so certain that was going to happen there are a bunch of other trades you could do that would be a lot more profitable and a lot less capital intensive than a covered call. Furthermore selling the shorter duration option gives you the opportunity to take advantage of some event in the future that neither you nor the market foresaw which could be an even better opportunity. Implied volatility doesn’t have to remain consistent month to month, in fact it almost certainly wont however, you can pretty easily look back 10 years or so and find the IV figures for the stock in question and from there build a reasonable model using your favorite options pricing formula which gives you an idea of what you would likely be selling those front month calls for. From there you could then decide whether to sell the LEAP or sell the front month given the likelihood vol will be less in some months going forward. Personally I view covered calls on a company trading at a discount to intrinsic value as a rather shortsighted strategy that is “penny wise, pound foolish” however I can see their merits on companies that are closer to fair value so I think they warrant some discussion.
    Just another simple takeaway from Garrett’s original post on the topic…
    400 shares of XYZ at $255 a share comes out to $102,000 of our capital tied up in the trade. If we sell the Jan 2016 LEAP for 46.35 (x400 shares) for a return of $18,540 that gives a return of 18%, not bad and certainly well above our 15% MARR, or is it? In fact since the duration of the trade is just under two years (1.78 years) or annualized return on the trade is 10.16%. That 3% for 16 days is looking better with every calculation I do… now if I only knew what stock XYZ was.

  • Moncho

    I agree with the numbers you have presented but your 16 Days to expiration only works if implied volatility remains consistent month after month. (Phil, I know, stay away from the options stuff. Problem is Brian’s right, Options are Great!)
    I would much rather sell a LEAP on a company I am willing to get rid of at a specific price if the IV is at 100% vs a monthly Call with an IV of 2%.

  • Brian

    Part of me agrees with what you’re saying. For most investors a low cost index based ETF is the appropriate investment vehicle. That said I would highly encourage you to read Seth Klarman’s book Margin of Safety. I don’t know if posting a link to a pdf copy is appropriate on the blog but you should be able to find it pretty easily by googling the author and title. In it Klarman talks about how value investing is a bottom up form of investing, that is you look at individual companies and buy them when there is a discount (margin of safety) to their intrinsic value all the while tuning out the everybody and their brother who has something to say about the “macro” forecast of the market. Over time it has proven extremely difficult to forecast the macro aspect of the market but if you look at companies like a business owner and buy when they are on sale regardless of what everyone else is saying you’ll probably do alright. Klarman and other value investors who are currently holding large cash positions are implicitly saying the market is expensive because they can’t find companies selling at a discount.

  • Doug

    Hi Paul-
    You make a point. Here’s another way to look at it: Rule#1 says “Don’t Lose Money”. This is a very different philosophy than “Always Try to Make Money”.
    I’ve learned that sometimes that means I’ll let a few winners get away. Sometimes it stings. So be it. I’m trying not to lose money.
    Yes, for the time period you mentioned…the indices have gone up. Yet I’m old enough to remember times when the market went down fast and I watched my 401(k) become a 201(k).
    Then it’s a totally different feeling.
    So I keep reminding myself: over time, things go back to a mean. And the last year or so things have been way, way above the mean.
    For me personally, that’s why a Rule#1 philosophy and Phil’s teaching about value makes so much sense.
    Thanks for the chance to offer my two cents.
    Don’t Stop Believin,

  • Brian

    I value all your contributions on the various companies you follow and your macro view. I’ve certainly learned a lot about value investing from your posts on the blog. That said, I think there is a reason Phil doesn’t like options discussed on the blog and your post above is it. It seems to me you’re attracted to the premium provided by LEAPS without ever looking at what the alternatives are.
    You mentioned selling the April covered call but then seem to imply that the premium provided by the January 2015 and 2016 LEAPS was better. When in fact the April call’s premium was significantly more than both the 2015 and 2016 LEAPS.
    The April 19th option expires in 16 days so your premium of $7.50 divided by 16 days comes out to about 47 cents a day per share.
    The January 2015 option 289 days and offers a premium of 28.75 a share which comes out to about 10 cents a day per share.
    The January 2016 option expires in 652 days and offers a premium of 46.35 or a rather paltry 7 cents a share per day.
    It’s pretty obvious that while the initial premium received from selling the LEAP is substantially more, when you compare it accurately to the front month options things don’t look nearly as good. In fact if XYZ stayed at 255 until Jan 2016 and you could sell that identical front month call with 16 days to expiration 40 times (652/16) for $7.50 a share which would bring in a little over $300 per share. Aren’t options great! The thing to remember with options is there is always someone else on the other side of the trade and they’re usually pretty smart too and they have no interest in overpaying for them or giving them away.
    Furthermore you have to ask yourself does the premium received accurately reflect what I think about the company. If you sold that January 2016 call for $46.35 a share you’re essentially saying that I don’t think XYZ is going to go above 301.35 in just under the next two years. Maybe that is an accurate reflection of your sentiment on the company but realize that you’re only forecasting a growth rate of around 10% a year by saying that call is accurately priced at 46.35.

  • Moncho

    Paul K,
    No need to put on flame retardant suit. I believe this blog is hosted in the US and you may have your opinion like everyone else. Me included. Sharing your thought can create a discussion between yourself and others, thereby potentially enhancing the knowledge of everyone involved.
    The question I have for you, is offering you a difference of opinion and possible rebuttal/clarification statements about what individuals and Phil have made on this blog, constitute “flaming” as you say?
    If so, then no need to go any further.

  • Paul K.

    Putting flame retardant suit on…now go:
    In September of 2012, Mr. Town said he’s “out”. Based on indices alone, listening to that advice meant forgoing gains of between 26-40%. Eventually, he’ll be right, as all bears are eventually right, but meanwhile, how much money are you not making?
    I would have been much better off never having read Rule #1, and just investing money in an index fund. I guess I’ve learned a few lessons from it, but so many of the marketing statements for the book are overstated and really oversimplified.
    The flaming can now begin.

  • Moncho

    As usual, very good points. On top of the points you mentioned, a few other things have kept me on my toes that I mentioned a few months ago on the blog.
    1. The increase in IPO’s and their valuations. I think we can add mergers and acquisitions in this category too.
    2. The lowering levels of the VIX and its negligible movement on DOWN days! We see a down movement of a couple percent and the VIX shrugs it off and goes back to bed.
    3. The volatility of volatility doesn’t even have the strength to get the VIX out of bed either.
    4. The scariest of all, it was just to easy to see the up move in the S&P this week so far. When I am right on market direction and it doesn’t feel like it was a guess, that means its time for me to go and get even more into cash ASAP.
    Currently only 25% in cash here and like you, I am kinda in love with covered call writing myself.

  • Michael D.

    Go ahead. Answer for me. I’m crazy busy!! (Studying for Series 65 among 1,000 other projects.)
    Break Free,
    Michael D.
    P.S. I will also respond when I have time.

  • Garrett: Excellent points! I did a short term risky-biz trade for LNKD ($118) and used covered call all the way to $240 to get out.
    But definitely agree on all your points on the macro part. It’s definitely interesting times. When we look at real estate (my field), certain cities are already passed the old 2006’s highs. But if you look deeper, you can find it’s very possible. We look at affordable monthly payments in a given city. Monthly payments in 2005 were paying 5.87% interest rates. We are currently at 4.30% interest rates; so technically prices can surpass 2005 and still have the same affordability as 2005. (But since we buy real estate based on today’s numbers, most deals don’t make sense anymore. Which sounds similar to today’s stock market.)
    The above statement is based on your comment on “…yet I read frequently how many people say we have room to go higher.” Interesting times we are in!!
    http://www.freddiemac.com/pmms/pmms30.htm (interest rate source)

  • Rulers,
    Here’s a scenario for you:
    You own company XYZ and we’ll say the date is March 20th.
    XYZ is at an all-time high trading at $255 per share. You can Sell a Covered Call that expires April 19th and collect $7.50 per share. Let’s say you own 400 shares so you’d immediately make $3,000 in about 1 second.
    You could sell the same covered call, but go out further in the future…like Jan 2015 and you’d collect $28.75 per share or 400 x $28.75 =’s $11,500.
    Or…go way, way out in the future to Jan 2016 and sell the covered call for $46.35 x 400 =’s $18,540.
    That would be a nice hunk of money, wouldn’t it?
    Options are pretty dang cool when you can get paid to do what you want to do!
    These are good problems to have as a Rule #1 Investor!
    I know several complex option and cash flow systems/strategies. But I still like selling a covered call, a naked put or a simple credit spread on companies I’d love to buy or sell the most!
    Today Shiller PE: 25.99! Yikes!
    S%P 500 PE: 19.98! Wowzers!
    Margin Debt to GDP: In February it hit An ALL TIME RECORD of 2.73%!!
    Remember in March 2000, the Margin Debt to GDP was 2.66% then Mr. Market finally corrected big time.
    Next, the Fed “stimulated” something and blew the bubble up some more and finally Margin Debt to GDP was 2.6% in July 2007 and then in the Fall of 2007 the bubble burst.
    Today… we’re at 2.73% – A new United States Margin Debt to GDP Record! WhooHoo! Wall Street and the Fed make such a great team! Should we celebrate and buy more companies or be cautiously aware over the next several months?
    I kind of feel like I’m watching a drug addict shooting himself up and I’m asking myself, When are you going to Over Dose on this stuff?
    …yet I read frequently how many people say we have room to go higher.
    I wonder if those same people can value Tesla and FaceBook?
    To Your Wealth!

  • Hi Anthony Ball!
    I started to answer for Mr. Michael D, but then slapped myself.
    “Fred” in the first comment under Phil’s headline for the blog posted a great chart.
    I found an article that you may find very helpful in understanding that chart in more simple terms.
    Again, I wouldn’t waste my time or yours finding and posting it if I didn’t think it was good information on Historical Margin Debt, Stock Crashes and GDP Ratio.
    THIS IS ANOTHER REASON why I’ve been doing a lot of covered calls, taking profits, moving to cash, or investing outside the stock market.
    To Your Wealth!

  • Anthony Ball

    Ok. Michael D. You say not to invest in stocks until you have enough money to buy 4 tranches worth (at least 400 shares worth). Yet I see you are lowering basis on McDonalds. Do you have the money available to buy 400 shares of McDonalds in 4 tranches? If not then what is your reasoning for going ahead and doing basis lowering option trades on McDonalds right now? What if the price goes low enough to get you put the shares? Please elaborate. Confused.

  • Keith

    Dear Mr. Market,
    Thanks kindly for the correction and rebound this past week. :)

  • Michael M posted James Rickards new book “The Death of Money.”
    I’m buying it immediately when it gets released on April 3rd. Rickards wrote “Currency Wars” and I read it twice.
    To Your Wealth!

  • Rulers,
    Shiller PE 25.95 at this moment…ahh, how Wall Street loves a fairytale, but as the saying goes, “You can’t fight the fed.”
    Here’s a reminder (as if anyone on this blog really needed it) that Wall Street is a SALESMAN and only looks to make THEM profitable…NOT you! Beware EXUBERANCE in the MARKETS!
    I was listening to CNBC on my SiriusXM and recorded this the other day:
    “Remember when Apple hit that all-time intra-day high (Sept 2012 $680)…89% of analyst were telling you to buy the stock. What happened next? The stock cratered 45% to a low of 385 in April 2013”
    Remember, most of the garbage I hear on CNBC is from some analyst or money manager loading up (or selling while he’s telling you to buy) They are total speculators and no “Story” or thesis for their valuation or event that why XYZ makes for an excellent investment.
    Value Investors are rare…so rare that Wall Street doesn’t like them because they don’t buy much and therefore no commissions.
    I’ve met plenty of people who made money on FaceBook. I’ve flown with them in the cockpit. You know what they ask? “Hey Garrett, do you think I should sell?”
    And I ask them, “I know what their price is, but what’s their Value? Are they under or over valued and by what valuation method are you using to determine that?”
    And they don’t know.
    So I say, “I won’t invest in anything that I can’t value. Since I can’t Value Facebook, I would never buy them and if I owned them, it’d confess it was just momentum buying and I’d admit that I was just lucky that I made money…so I’d sell immediately, take the profits and get some real training from Phil or Jeff.”
    2013 was a great year – but 2014 should be different. So far, Mr. Market’s S&P 500 has had about a 1.3% ROI for the first quarter and the DOW has been negative.
    I’m cautions and moving in cash/covered calls. You can make a lot of money in a very short time waiting for the right opportunity.
    So don’t worry about beating Mr. Market. You may go over a year in cash. In my Southwest Profit Sharing account, I waited about 3 years doing nothing and then finally in about 4 months doubled the value.
    When others are buying, we’re selling. And it’s a great time to be learning options and lowering basis on a few great companies….just like Michael D mentioned with MCD.
    To Your Wealth!

  • Rulers,
    Anyone interested in MCD, SBUX, YUM, and/or DNKN? Here’s an interesting article from Estimize.com about the battle for breakfast among these food chains.
    By the way, I like MCD as an investment, even if it doesn’t line up exactly with my values. I lowered my cost basis $17 in 60 days while the stock has gone no where in that time; I now own it at a price lower than it has been since 2010 or so. Meanwhile, I’m collecting a nice dividend. Gotta love this Rule #1 stuff!! Don’t ask me how I did it because it involved options, and you know what the rule is about options on the blog…we break the rule occasionally, but this time, it would take far too long to give the explanation its due diligence. It took me over 30 minutes to explain it in person with students at the recent workshop. …it would probably take Phil over an hour, and you’d also learn about why you should put tracking devices on your hunting dogs in the process. :) Just teasing, Phil!
    Break Free,
    Michael D.

  • Jeff A

    just to correct… if it falls below 1560 support, it will be a great buying opportunity.

  • Jeff A

    It sure seems like this market has extended itself. I have cash reserves as well in case this thing does drop. However, when I look at the multi year SP500 chart, it seems that we have just cleared a multi year two tops. If SP500 drops, it think it will find a strong support at 1560 range with two major resistance now becoming a support. So maybe a 15+% correction is in order (312 pts). If it falls below, we are in trouble. Today’s fed’s comments tells me they will continue to support the free money policy. Corporate balance sheets are looking strong with all the free money coming. What I don’t get is that with all this free money, why the economy is not expanding faster and employment is growing stronger that what is being reported. I fully agree that there is a disconnect between the market and the economy but when the Feds step in, best thing to do is stay out of their way.
    Take a look https://plus.google.com/u/0/116167280959115277176/posts
    It seems that both short and long term support are healthy at this point. Short term is bouncing off the 30day MA and seems to find long term support at between 100 and 150MA.

  • Garrett: Not sure if you saw my reply to the accredited investor question. (Yes, tuna@tunafishy.com)
    A great thing about being a Rule #1 investor like Seth Klarman is that you don’t have to be fully invested all the time. A true value investor can comfortably sit in cash until an opportunity pops up. Other investors aka speculators who are always trying to beat the market or competitors, are always fully invested. If they aren’t fully invested, they can’t beat the market when it rises. Being fully invested also means they aren’t buying companies at a discount. But a value investor isn’t interested in beating the market or competitors. A value investor is long-term like Garrett, and is looking to consistently earn a good return over the long-term while avoiding losing money aka rule #1. Typically we see value investors use more money on the downturn than a good market. A rising market is harder to find $5 for $10 so they sit in cash until it shows up again.
    It’s a bottom-up approach rather than what most people try to do which is a top-down approach. Which is why most of these great value investors don’t spend a great deal of time trying to figure out which way the market will move. Instead they spend majority of their time reading about companies and figuring their value. Once all that is satisfied, they check the open market for pricing and either buy or wait until the price is right.
    PS. I can’t wait to read Seth Klarman’s book!! Thanks Phil for this amazing article!!

  • Mike M.

    the 60 Minutes High frequency trading episode (on right now) is crazy.

  • Rulers,
    I believe several of us, myself included, posted a link a few weeks ago referring to Seth Klarman’s article. It’s certainly worth the read if you ignored it. Zerohedge.com is a great blog site and certainly one of the few I enjoy reading.
    Since January, I’ve been gently easing into mostly cash positions in ALL accounts, taking profits via a Stop-Loss getting triggered just below ceilings, having shares “called away” via covered call strategies or investing in other opportunities away from the Fed’s manipulated stock market.
    Some of my fundamental rules to investing come from retired CEO Herb Kelleher of Southwet Airlines – “we manage in good times so that we do well during bad times.”
    I’m little – Buffett isn’t. I’m not trying to time the market because I can’t. But it would be absurd not to take profits on some of my companies that I invested in last year that are up 30% to 50%. Why should I sit around and just “hang on” if the market tanked and leave all that paper profit to just disappear?
    THERE IS ALWAYS another opportunity. I have NO problem owning 4 to 7 companies and just investing in those companies for the rest of my life. When PE’s start to get high as they always do, I don’t need to sit around and wait for the price to drop (for valuation multiples to get more “normal”) because I’m suppose to be “in for the long haul”…I can be “in for the long haul” by going to cash and then building myself back into a fully owned position at a more favorable price when new floors/corrections develop.
    I’m very comfortable paying a bit more for a company I understand and know than loading up on a new one. Like Mr. Buffett says, “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”
    I’m still a fan of BP. “The Tools” are pretty good indicators for just trading it. The way I have mine set for BP, they just said, “Get In.” They’ve been a good insurance plan. When Trends reverse, and go from “3 Red Arrows” to “3 Green Arrows” I’ve learned that it’s a good time to lower basis via naked puts or even Bull Put Debit Spreads.
    If you haven’t already, everyone reading the blog should have a free set of tools from thinkorswim with little red and green arrows. The wealth of information available to the little guy should give us a clear advantage when acted upon to just absolutely secure our own financial future.
    To Your Wealth!

  • Jason

    With the housing market being propped up by ZIRP, what is your opinion on real estate right now? I’m relocating for the corporation I work for and am seriously considering renting, even though I have four kids and really would like another home.
    What is likely to be worse: future interest rates or the housing crash that could come as a result of them? Your thoughts around this would be appreciated.

  • Joe M

    Fear is a funny thing. When the market rallies investors have a fear of missing out, so they buy at the top. When the market crashes they fear losing it all, so they sell at the bottom.

  • Mike M.
  • Fred