questioning the Reagan/Thatcher revolution

Not really a surprise, except that this is in a non-wonky general news article in the New York Times.

As I see it, the general idea of the 19800s neoliberalism Reagan and Thatcher expounded–following German philosophical and social thought of the first half of the 19th century (Hegel, Marx, Schopenhauer)–is that there is no such thing as a social/public good–meaning things that governments typically provide and use to justify their existence. Potable drinking water, for instance, or electricity, or transport or education. Better to let the private sector, which can do all of this much more efficiently, provide all that. If this is so, the most important role for government is to shrink itself, to reduce/remove regulations and cut taxes on the wealthy, clearing the way for entrepreneurs to do their thing.

There were initial successes, as entrepreneurs dragged US industry into the second half of the 20th century. And nearly half a century on, heavily government-protected industries like autos are still a mess.

On the other side of the ledger, though, real economic growth has shrunk to almost zero; we have Third-World roads, bridges and public transport; 20% of adults are functionally illiterate; book banning; private company-spawned opioid addiction; Clarence Thomas-like acceptance of lavish gifts from wealthy private “friends”…

One of the ironies in all this is that economics 101 says experience shows that as people get wealthier, they become increasingly risk-averse, so they’re the last people you should give extra money to if you want to provide economic stimulus.

Anyway, I think it’s interesting that counterrevolutionary thought appears to be in the air.

earnings for Target (TGT)–sales down, margins and earnings up

As I’m writing this, the stock is up about 17% on the news.

So you know where I stand, I’ve owned the stock for a long time. I just added some a day or two ago, on the idea that the company’s had been (uncharacteristically) pummeled by Walmart’s over the past year and was trading at a huge PE multiple discount to WMT. I figured that sooner or later we’d see some mean reversion. To be clear, I didn’t expect it to start so soon …and that I’d have a chance to add more.

how I read the quarter

During the three month period, overall sales were down, year-on-year. Discretionary items were down, staples and own-brands up. Margins were up significantly, as well.

I don’t think this is a story of shoppers who had traded down to WMT during the pandemic trading back up again. The strength of own-brand sales argues strongly against this.

Instead, I think the market–abetted by limited information released by TGT management–very substantially underestimated the extent of the losses incurred by TGT by overstocking/overpaying for pandemic-era consumer electronics and other stay-at-home goods to put on the shelves during covid. Of course, coming 100% clean would have made it that much harder and more expensive to recover from this mistake. The numbers say to me that it’s just in the past quarter that TGT has finally gotten these excess inventories under control. Getting past this negative is also why it would be reasonable to expect the company to make higher profits on lower sales during the holiday season–no more big-ticket item sales at no profit or at a loss.

At some point–who knows when–it’s also possible that in a period of economic strength customers will do what they typically do in expansions and trade back up to the retailers they frequented when they were feeling more flush. This would presumably be good for TGT and neutral-ish for WMT, which would presumably lose customers to TGT but gain back a bunch from the dollar stores.

issues with inventory

When I was working as an equity portfolio manager, I’d start at about 7am, work until about 2pm and then disappear for an hour or so to work out at a local gym. That cleared my head and worked off some of the stress of the job. This wasn’t real stress, like being a high wire acrobat, a firefighter or a brain surgeon. But I felt people did depend on me to help make sure they had enough money to send their kids to college and to be able to retire (btw, there are the two main investment goals for mutual fund/ETF investors).

I had/have a bunch of barbells at home, as well. The typical price for these weights, pre-pandemic, was about $1 a pound. During covid, though, that went up to as much as $4 (and, for all I know, they might have gone higher). I had become a thousandaire through my iron holdings alone!

The other day, painters noticed two 50 lb weights and two 40 lb-ers that I don’t use any more and asked if they could buy them. My phone told me that today’s price is back to just above $1/lb, and I (my wife, actually) sold them for about a third of that.

Suppose you’re a sporting goods store. A mad rush during early pandemic days cleans out your inventory of weights. You go to reorder and find:

–there’s a six-month wait,

–the minimum order quantity has tripled, and

–the price has gone from $.75/lb to $3.

What do you do?

You probably order at least some, so the shelves won’t look empty and customers won’t get into the habit of going elsewhere. You pay $.50/lb extra for accelerated delivery and offer the newly acquired weights at $4/lb, $.50/lb above your direct cost.

Now it’s today and the weights are still on the shelf. In a perfect world, you’d immediately write the weights down on the balance sheet to $1/lb and hope to sell them at no gain/loss just to clear them out.

But publicly-traded companies don’t live in a perfect world. And many, I think, have been facing the equivalent of the barbell issue I’ve sketched out, only on what I think is a surprisingly large scale. No CEO wants to announce a billion dollar+ inventory writeoff, which would be the most straightforward oslution to the issue. Not only would management look stupid, but there would go the yearly bonus …and maybe top management’s jobs, as well. Probably wouldn’t be great for the stock price either. The more pragmatic strategy would be to play down the mess and hope to whittle away at the problem, offsetting superior performance elsewhere in the company with sales of pandemic-era merchandise at a loss. Yes, the stock will tank as the market figures this out, but it won’t be so clear that top management is at fault.

The practical question for us as investors, assuming what I’ve outlined above is more or less accurate, is when the period of inventory adjustment will be over. My guess is that a large part of the work has already been done and that the final dumping will happen during the holiday selling season this month and next.

My guess is that it’s time to look around among beaten-up retailers.

The Fund, by Rob Copeland

The Fund: Ray Dalio, Bridgewater Associates, and the Unraveling of a Wall Street Legend is a tell-all book about hedge fund king, Ray Dalio and his mammoth firm, Bridgewater Associates, which sports a long list of institutional clients. If the reviews are any indication, the corporate culture has been a toxic, Orwell-meets-Torquemada brew of mutual backstabbing and personal criticism, which after a hot start has recently been yielding meh investment performance.

This post isn’t directly about either Dalio or Bridgewater. It’s about the less-than-ideal financial situation of underfunded defined benefit pension providers (meaning traditional pensions that pay out a fixed portion of an employee’s salary, with inflation adjustments, in retirement until the employee’s death–as opposed to a 401k that pays out a one-time lump sum). Most private companies have long since shifted to 401ks. It’s mostly governments that have this problem. And as I see it, it’s this issue that has led to the flowering of the hedge fund business over the last couple of decades.

To be clear, I haven’t read The Fund, and I don’t intend to. I have read a substantial amount of what the prolific Mr. Dalio has written about economics and financial markets. I find it kind of like the sound and fury of Mohamed El-Erian, only with smaller words.

the problem Bridgewater addresses

CalPERS, the California Public Employees Retirement System, is the largest public defined benefit pension provider in the US, with about $440 billion under management. A lot of money, but if financial news reports are correct, it’s still only about 3/4 of what would be needed to pay the value in today’s money of those promised future benefits. To be fully funded, meaning to have enough today to be confident it can pay every participant on retirement, CalPERS would need to have an extra $150 billion under management today. And even that’s assuming that stocks and bonds perk along, making on average inflation plus a little more, until current employees start collecting their pensions.

What to do? Two choices–go to the state legislature and ask it for more money, which would be tantamount to CalPERS executives submitting their resignations (lots of recent turnover, anyway), or to look for investment firms that deal in more exotic products than publicly traded stocks and bonds, and which are willing to promise high enough returns to start closing the gap. The first is a non-starter. The second means hedge funds and private equity.

If I understand Bridgewater, its big sales idea has been risk parity. In its simplest form, the risk parity argument is a kind of name-calling: just owning bonds is bad; they’re a drag on investment performance because they are a low-risk–therefore, low return–asset class. But one can fix this deficiency in the riskiness (and therefore the rewardiness) of one’s bond holdings by buying lots of them on margin (sort of what, in effect, Silicon Valley Bank did, oly without the threat of a run on the bank). During the long period of declining interest rates that started in the early 1980s, this has been a winning strategy. And from the CalPERS point of view, hedge funds provide an aura of respectability for what is at the end of the day a highly speculative strategy.

Unfortunately, it doesn’t work any more. And all the bells and whistles that hedge funds have touted to justify high fees–corporate culture, secret investment insights, proprietary algorithms…–don’t make much (any?) difference. Hard to know what happens next.

insider buying/selling

Early in my investing career, I became interested, as most neophytes do, in technical indicators. The arcanity (Google says this is a word, and if it isn’t it should be) of it intrigued me. And the leading exponents wore buckskin jackets, and cowboy hats and boots, adding to its carnival attractiveness.

My favorite indicator back then was odd-lot short sales. The general idea was that retail traders were the ultimate dumb money; within that group, the pinnacle of haplessness were retail short-sellers; and the ultimate worst were those who dealt in odd lots, that is, amounts less than a round lot (usually 100 shares).

In the several years I watched it, the indicator was uncannily accurate: when odd lotters sold short, the market went up; when they covered their shorts, the market plunged.

It has long since stopped working, though, for two reasons. Index derivatives and hedging against them became a thing, requiring that financial institutions were always shorting individual stocks in odd amounts. And the emergence of discount broking meant that it was easy for anyone to short, say, 250 (or 249) shares of a given stock–again muddying the formerly pure stream of odd-lot ineptitude.

…where I finally get to the topic

For me, the second-best technical indicator is insider buying. Typically, media commentators talk much more about insider selling. But I learned from my first stock market boss, who had ben around for 30+ years at the time, that executives can be selling for a whole bunch of non-performance-related reasons. It could be a wedding, a divorce, tuition at a private school, a vacation home, a Maserati, a professional pickleball franchise…

But a competent executive has only one reason for adding to what is likely already a large chunk of personal wealth tied up in company stock through options. And that’s that business is good, and getting better, in a way that’s not currently reflected in the stock price. The executive may be delusional, of course, and that’s something we have to factor in, but the information is the informed belief.