In 2020, Berkshire Hathaway (BRK) began to buy shares of Japanese trading companies, called sogo shosha. He’s since built the positions to just below 10% of the outstanding equity of each of the major players in this group.

what they are

When Japan shifted from imperial rule to shogunate in the seventeenth century, Tokogawa Ieyasu, the first shogun, kept feudal warlords in line by keeping as hostages members of the warlords’ families and parts of their samurai armies in his new capital, Tokyo. Having basically nothing to do, the samurai groups eventually formed industrial businesses organized along martial lines. These zaibatsu (money clans) really hit their economic stride in the nineteenth century, after they helped restore the monarchy shortly after the black ships arrived in the mid-nineteenth century. They ended up being the key players in Japan’s decision to go to war with the US in 1941.

Because of this last, the zaibatsu were outlawed by the US when it occupied Japan after the war. As the country rebuilt, however, the structure and functions of the zaibatsu still remained key forces. The conglomerates renamed themselves keiretsu (groups) and resumed business as usual. That is, without changing their samurai code of unquestioned obedience, the assumptions that the oldest are the wisest and that warrior spirit trumps research and planning, with a healthy dose of distain for women and foreigners. Technically a different structure; in reality, pretty much no change in operating procedures.

The keiretsu all have a similar structure: a bank at the head, manufacturing operations and a sogo shosha, a company (pretty much import-export) that serves as an interface between the entire keiretsu and the outside world–domestic or eternal. Mitsubishi, Mitsui, Sumitomo, Fuyo (Fuji) are probably the most familiar names to foreigners.

they’re cheap, but for a reason

For several years just after 2000, funds I managed held in aggregate more shares in Mitsubishi Corp, which I regarded as the best of the keiretsu, than any other foreign entity. My reasoning? As now, the sogo shosha were very cheap on a price/book and price/earnings basis, so they unlikely to go down a lot. And there was at least some possibility that they would restructure in a way that would add value. I thought the first to do so would be Mitsubishi.

I got to be sort of friendly with the chairman as time passed–at least as friendly as one might be with someone who viewed me as not quite fully human, at best as like a pet dog. I’d check in with him when I was in Tokyo and he visited me once or twice in New York. At one point, I asked him if the company had ever thought of refocusing itself and reducing the number of subsidiaries from the 400+ it had. It would certainly make coordination and control easier. He was stunned in a way that told me that this was nowhere near being on the agenda.

why did BRK buy, and so much?

I don’t know, but I can think of several reasons:

–the group is still cheap, even though it has run a lot since BRK announced its initial buys

–buying a significant position in another firm is a traditional Japanese way of establishing/cementing a business partnership. So the BRK holding may be meant to be relationship shares

–if these are relationship shares, and if the purchase causes the keiretsu to see BRK as a long-term business partners, they may be willing to offer bits and pieces of their trading empires to BRK in a way that will enhance BRK’s existing industrial businesses. This could happen as, say, joint ventures, technology transfer (in either direction) or rationalizing existing businesses by selling sub-scale units to each other.

For some time, my sense has been that the US stock market will more or less go sideways in 2024.

According to Factset, analysts expect earnings growth of 11% this year to a total of around $245 for the index as a whole. If we decide to apply a 20x PE multiple to that figure (which would be consistent with a 5% long bond), the result is 4900, or slightly below where we are now. If the PE is 22x (implying a 4.5% 10-year Treasury), the target figure is 5390–7%+ higher than where we are as I’m writing this.

The 10-year is at 4.3% now, consistent with a market 14% higher by December. And the Wall Street consensus–which has been strikingly wrong for more than a year–is that any pressure on rates is to the downside. On the other hand, it’s thinkable that a guy who paints himself orange very day, who represents a party for which performative cruelty is the signature move, who choked when covid appeared, who instigated an insurrection when he lost in 2020, who’s on trial for numerous felonies… could nevertheless easily be voted back into office. On the bright side, he does appear to be taking weight-loss drugs.

For what it’s worth, I don’t think politics plays much of a part in today’s S&P, other than to serve as a lid on possible upside.

In sum, sideways for now. …and personally I’d take sideways any day of the week.

If that’s correct, outperformance will come in two ways, I think. One is positive earnings surprises. The other is changes in the market’s concept of how the near future will play out.

So far this year, the strongest positive earnings surprises have come from Energy, IT, Industrials and Staples. Real Estate, Materials and Financials have been the weakest sectors.

Industrials are by and large suppliers to Consumer Discretionary firms, so in a sense they’re a proxy for the latter. The others in the plus column are all industries with substantial operations outside the US. The minus column is mostly US-oriented. Those sectors are being hit, I think, by property market problems, as well as the longer-term issues of an aging population and lack of productivity gains.

Conceptually, I don’t see why the stock market shouldn’t continue to play out along the same lines for a good while.

In the early 1990s, I met a management consultant who earned a PhD in history, aiming to get a job in the academic world. Back then, that was about as likely as aspiring to the seat in Congress held by Chuck Grassley or Nancy Pelosi (I was equally clueless: my own dissertation advisor retired a few years ago at 80).

The consulting firm he worked for wrote corporate histories. The idea was that successful companies are typically founded by out-of-the-box-thinking, risk-taking entrepreneurs. As time passes, however, as the firm expands and the founders retire, it gradually loses its original entrepreneurial spirit to bureaucracy. Arguably, a corporate history that documents and celebrates the disruptive talents of the founders, written by an ostensibly objective third party, shakes up the status quo of a once great but increasingly senescent corporation.

I have no idea whether the corporate history approach has been effective or not. But it does highlight a significant issue for us as stock market investors: companies age, and as they do (the reason they do?), bean counters gradually replace product creators. That’s bad, although firms can subsist on dreams of past glory for a shockingly long time.

Companies whose attraction to investors like us is their earnings growth potential–rather than the assets they control (and are at present under-using)–have a stock market shelf life of about five years. The best are able to extend that period through continuous innovation. But this isn’t the norm. Most companies that go ex-growth do so, in my view, because they they choose to. I imagine they think: I’m using the highest-quality ingredients today and customers love my products. But if I go down a notch to cheaper ingredients I’ll make more money and no one will notice. Inevitably, one notch becomes four, people really notice and the brand name is destroyed.

As I was thinking about this phenomenon yesterday as it relates to Boeing and the lack of quality control they must have, I noticed an article in the Financial Times, quoting the (angry) head of Emirates Airline. He observes that he has witnessed a long-term deterioration of Boeing’s commitment to engineering excellence in favor of enhancing financial performance. As I was searching for that article this morning, I came across a letter in the FT from a Boeing employee who points out that the last three Boeing CEOs have been veterans of GE, the long-running disaster created by Jack Welsh’s extreme focus on financial metrics. I read his message as: what did you expect, or didn’t you notice who’s been in charge for a long time?

This leads me to the question…

…can we detect corporate senescence?

I don’t think there’s a flat-out rule. But we can sometimes find clues. 

–for the Boeing employee in the previous paragraph, the tipoff was that multiple CEOs came from GE 

–for me, an early warning sign for GE was when the SEC sanctioned the company for falsified financial statements (in 2000?) in a subsidiary. This suggested to me that managers were under enormous, and inappropriate, pressure to meet financial goals.

–I’ll occasionally call up companies whose stock I own, get the investor relations people, identify myself as a shareholder and say I have a few questions (if you do this, make sure you’ve worked out something to ask). This is mostly because I want information, but the interactions can be revealing. INTC told me to buy a report from a broker. DIS (pre-Iger) told me they’d get back to me in a couple of days, again because the news media and brokerage analysts were more important. CASY, on the other hand, got me to the CFO right away, who chatted with me for a half-hour. 

I found INTC particularly irksome, but hugely informative. The company was going out of its way to give away information to non-owners, but telling me, an owner, that I could only get the data by purchasing it from third parties. Showed how messed up their priorities were. My sense is that management has changed since then–I’m actually an owner again–but I haven’t tried a call yet

–of course, we can we can go to stores and we can try company products

–and if we know a company well enough, we may be able to see changes early. COST is a company that comes to mind. The overall philosophy there has been to take a small markup on merchandise sales and have membership fees as the largest source of income. The original goal was to break even on merchandise, but even a 1% markup on a quarter billion dollars in sales is serious money. 

My sense is that there has always been an internal discussion about the benefit of taking a bigger markup, I imagine with a new CEO coming in, and from outside the company, this issue my well come up again. I’m torn among the road to perdition, the kiss of death and why take the risk to describe what I think the result of raising prices might be. At the very least, a change in corporate strategy would be a potential risk.

The Federal government released the latest CPI report this morning. It was higher than Wall Street analysts had been predicting. Apparently the cost of housing, which tends to lag other economic indicators, was the culprit. The report itself, and maybe the inflammatory news headlines that followed, appeared to have triggered a bout of computer-generated selling that pushed NASDAQ down by 1.5% at the open and the S&P by slightly less. Stocks have since recovered a bit.

What I find interesting about today so far–I’m writing this just before noon, Eastern time–is that the selling seems to have been concentrated on the most speculative parts of the market. ARKK, for example, was off by 6%+ early in the day. 

To me, this suggests two things:

–there’s still a lot of air to come out of names that are all story/no valuation support, or all hat/no cattle, as Texans might say (when they’re not busy denying health care to women), and

–this is a good test for the makeup of our portfolios–especially to see if somehow a bunch of all concept/no valuation names have snuck back into the herd.

I’m about even with NASDAQ this morning. Given that I consider myself an aggressive investor, I’m more than happy with that. In particular, it suggests to me that I haven’t packed too much risk into my holdings. My best stock is NVDA, which is up slightly–so maybe I’m a little too optimistic about my overall risk level. Still, I have several relatively strong stocks and only one real clunker, so I’m at least somewhere in the ballpark I want to play in.

ARKK, in contrast, is off by 3x what Nasdaq is.

This post is about falling back on general principles when the near-term waters are muddy–which they always tend to be when a stock has gone up a lot:

–if you don’t own NVDA already, I don’t think there’s any real need to rush into it today. As my boss at my first full-time portfolio management job would tell me at least once a week, “Don’t chase.” …meaning, don’t buy stocks that have already gone up a lot. Instead, she said, try to anticipate the next idea that will move a stock (or group of stocks) up and buy that.

That last is easier said than done. Looking from a slightly different angle, I think a safer alternative than buying NVDA directly at this point in order to get exposure to AI would be to find a mutual fund or ETF that has a reasonable track record, specializing in either AI or semiconductors, and buy that instead. Look at the contents, of course, to see the names and the weightings. Look at the track record vs. an appropriate index, too. 

–if you do own NVDA, as I do, you should have an overall structural plan. Follow that.

For example, I have roughly 80% of my long-term savings in index funds. I manage the other 20% myself. In the latter portion, I have 15 or so names. This means an average position would be around 7% of the total. I have a not-totally-set-in-stone rule that when a position gets to double the average size, or around 15% of the portfolio, I’ll begin to trim. NVDA is there right now. I’ve already sold a small amount. For me, the most sensible place to put the cash is either to build up a smaller position elsewhere in the portfolio or to plop the money into an S&P 500 index fund until you can figure out your next move.

The point of simple mechanical rules like these is to fight the psychological tendency that everyone, other than successful deep value investors (who revel in their contrariness), tends to have: we love stocks when they’re up (arguably expensive) and hate them when they’re down (arguably cheap). The won’t get us the highest high, but it will help with what I think is the more important task, avoiding the lowest low.

I’m not saying anyone else should have my rules. I’m a relatively aggressive growth stock investor, a style it took me close to a decade as a professional to develop from my initial value stock starting point. But we should all have some boundaries that keep us from taking excessive risk.

–count “clones” as part of your biggest positions, too.  I bought a small amount of AMD, for example, when it was having a temporary hard time in 2022. I look at the company as sort of like the child of INTC and NVDA–although INTC is trying to recover from a decade+ of epic bad management by morphing into TSMC. But that boosts my NVDA-ish position up into the 20% (=for me, must sell something) range.