Tuesday, August 28, 2012

Is the Stock Market Broken?

We know the economy is in rough shape, contrary to official proclamations of "recovery", but I think this snapshot of the financial headlines from MSN money this morning pretty much sums it up:

Investors don't know what to do until the Fed speaks.

This is not how capital markets are supposed to work, yet here we are. Rather than investors pooling their money into companies with the best business prospects and providing healthy economic growth, they sit on the sidelines waiting to see how to make the next "play" on the Fed's statements.

Why the stock market is broken

And if you needed any further proof that government meddling in the economy was bad, check out the next headline:

Global stock rally stalls on stimulus doubts

Again, investors are not deploying their capital in constructive and meaningful ways, but rather waiting to see if they'll get more free candy from the central banks.

Investors and the banking cartel are addicted to stimulus, but stimulus isn't free. It will be repaid either through higher taxes, or more likely higher inflation which will make everyone poorer. And the end result is mal-investment of capital. Companies that should be receiving investment capital to actually produce needed services or products are being crowded out by investors looking to cash in on "stimulus."

This is not healthy and will not end nicely.

Saturday, August 11, 2012

Would Warren Buffett Really Buy Chubb (CB)?

I was going through my watch list a few days ago, checking on companies to see which were still worthy and I came across Chubb Corp (CB).

While picking over key ratios and valuation details, I happened to see a link to a CNBC video titled: What Would Warren Buffett Buy?

Curiosity got the better of me, and I clicked the link.

What followed was simply jaw dropping in its vacuousness.

The host and his "team" of Buffett-ologists ran a screen return 25 stocks. For the sake of time, they selected and profiled 4.

Here's their criteria for the screen:

  • US based company
  • Market Cap $16B- 28B
  • Forward P/E < 14
  • Price to Book value < 3.5
They based their list of 4 on the kinds of companies Buffett typically buys. Lo and behold, Chubb is on the list. It's true Warren likes insurance companies, but would he really buy Chubb right now? In short, no. Here's why...


Cash flow

Cash is king in Warren's Worlds, that's no secret. In fact, even the "expert" in the video mentions that as a reason Buffett would like Chubb. Here's the relevant quote :
Chubb is generating lots and lots of cash..
Now, after my quick analysis of Chubb, this quote made me spew coffee out of my mouth and I tried (unsuccessfully to stifle a laugh). A brief glance at Chubb's cash flow shows why it's ridiculous to think Buffett would be interested in Chubb right now. Here's the cash from operating activities for the past 5 years:
  • 2007 - 3,191
  • 2008 - $2,544M
  • 2009 - $2,435M
  • 2010 - $2,352M
  • 2011 - $1,878M
See the trend? Free cash flow growth is -10.26% over the past 5 years. Warren is not going to invest in a company that's got negative growth in cash flow! The talking heads in the CNBC video failed to do basic screening on the most important metrics to the Buffett style of investing, and instead shot to the end. Warren Buffett may indeed consider market cap., forward P/E and price to book value when considering stock in a company, but he first considers the company! When investors like Buffett buy stock, they first look for good businesses, then look for sensibly priced stock in those businesses. Chubb would never make it to the second phase, because it fails the good business test.

In fact, Chubb is trending in the wrong direction in Equity, Sales and EPS growth (EPS and sales have actually shown negative growth over the last 5 years).

The lesson here is simple: beware of the talking heads, and do your own homework.