Thinking About the Future

Is something some people think I do too much of. Too much thinking about possible outcomes can result in "analysis paralysis". However, I find the big decisions easier to make than small ones.

Probably I will be giving up my position as a tenured professor fairly soon. The only scenario where I won't is if my university offers Snork Maiden a position that is acceptable to her and I decide to stay too. I think this has a very low probability. However, if they did make a decent offer we would have a very hard decision to make. Giving up a tenured post is a big financial sacrifice in terms of pretty certain future money and also the prestige in the academic community that goes with it. I probably won't give up academia altogether. Independent scholars (someone like Stephen Wolfram comes to mind) usually have a harder time getting their ideas recognized though it does help if they have had a conventional academic career first (Wolfram did). I might arrange a visiting fellowship or research associate position at a university where Snork Maiden ends up - the Australian job isn't at a university but my former employer is just across the street.

I've never had a dream of retiring and not working. What I have wanted is to have choices and now finally I can choose pretty much anything. But choices are pretty scary. Anyway, for the forseeable future I need to actively trade or have some kind of non-investment income, so the choice to "retire" isn't really there. So I am also thinking about how I will trade in different locations. Time zone matters a lot in trading. If I was in Australia I might trade the US market in late afternoon through the close in the Australian summer (the close is at 8AM Eastern Australian time then) and then the Australian market open at 10AM. The "model" is based on changing positions at the close each day so I could set up these positions with stops then as well as playing earnings releases. In the winter I would trade the macro news and market open (11:30PM Australian time - news at 10:30PM on). Probably I will wake up early anyway in the summer though I tend towards being a nightowl. I might mix and match depending on the news flow etc. The western US is a case of getting up early in the morning :(

Why not trade the Australian market instead? I think commissions are still way too high for daytrading individual Australian stocks. Trading the SPI futures - Aussie stock index futures - is possible but the big moves are set by Wall Street. I will have to see if I can model this adequately to make a profit. It's now possible to trade options online in Australia which would work out cheaper than trading the actual stocks. Exchange traded warrants were available to trade online when I used to live in Aus but they often are not very liquid. But I don't think I have any edge in trying to short-term trade individual Australian stocks. I will probably do some experimentation and see what I can learn.

Another idea I have is to interest a fund manager to work with me in developing an automated version of my trading system. I have some ideas here. Then I can forget about the clock :) Or maybe working with a trader in a different time zone.

More broadly I have a concern about how to spend the rest of my life in a meaningful way. Trading and investing is fun and makes money but it's not so meaningful to me in terms of improving the world which I still dream of doing. Should I focus more on the academic track? Partly I am frustrated with academia because progress seems so slow and so controlled by conservative gatekeepers.

Shanghai Volume

This chart is from Maoxian's blog. It just shows volume of the Shanghai A shares. It does not include the Shenzhen market which is smaller or the dollar denominated B share market. The latter market has been extremely volatile recently. The Chinese market suffered a severe bear market that ended in 2005 and has since boomed crazily as everyone knows. Earnings of Chinese firms are supposedly growing very fast but the P/E ratio on the A share markets are higher than in the B share markets or of Chinese stocks listed on the Hong Kong (H shares) or New York markets. But I didn't realize how low the volume was in the previous boom-bust cycle compared with today. Volume on the Mainland Chinese markets is now similar to that in the US stock markets even though at the official exchange rate the Chinese economy is much smaller than the US economy and fewer firms are listed.

Persistent Overbought State Clearing?

It's looking like the market will begin a new upswing about Wednesday next week. It's also looking like the persistently overbought rally we've been in the last couple of months, where downwaves are very limited in duration is coming to an end. I don't know if the next wave down will be bigger than the current one, or whether we'll enter into a more volatile sideways market. But it does look like that the strong low-volatility rally is at an end. At least that is what I can tell from the model. Other indicators both technical and macro-economic would suggest that this is just the beginning of a bigger correction. I'm looking forward to some day getting the "upcoming correction" behind us, so I can establish some new long-term investments in higher beta stocks and funds. Today I was a bit early in covering my positions but still got some nice gains. I couldn't believe how strong the decline was. Especially, after the headfake after the housing numbers were released. The bond market slumped in reaction but by the end of the day is back to flat. The initial reaction was that home-sales were up strongly and that meant yields would head up. But then people seemed to notice the steep fall in average house prices. Home-sales were only up because prices were down strongly.

Australia

Snork Maiden was offered the job in Australia. But she still needs to do a phone interview with the guy in Arizona next week. Looks like she'll have some time to make a decision on the Australian offer. If offered the Arizona job is probably better career-wise. Anyway, the countdown to some real decisions has started. I'm happy for Snork Maiden but the main emotion just now is feeling rather nervous about making the right decision for us. Life will be easier if there is no offer from Arizona :)

Ditto

Yes it (SPX) failed for a third day in a row to close at a record high after trading higher intraday. The model switched to short in the early afternoon after Greenspan's comments about China likely to see a substantial stockmarket correction seemed to catalyse the downward move in the US indices and the stochastic fell below 80. I'm now back to positive for the month on trading even thought he model is still seeing its first negative month in a long time and some idiotic trades I made earlier in the month. This is fun if I can keep it up. I doubt this is the beginning of a major decline in the market as yet, because the model is still in the persistent overbought state which means that down moves are likely to be short-lived.

My current trading position is:

Short 3 NQ contracts
Short 1000 QQQQ shares
Long 3 SPY 157 June Puts
Short 100 IYR

In other words the notional underlying value is short just over $200k of stock.

S&P 500 Fails to Close at Record High

for the second day in a row. Today and yesterday the SPX traded above it's record closing high from 2000 but closed below it. The NASDAQ closed up. I seem to be bouncing back on trading. I finally am exceeding $6000 in profit from futures trading in my IB account. Been going sideways for a couple of months there. The model is still long and I am getting more mentally aligned with trading the model. Platinum Asset Management (PTM.AX - they manage PMC.AX which I am a shareholder of among many funds) IPO-ed today. The IPO price was set at $A5.00 in the prospectus on an a priori basis. No book build. No institutions could buy. It opened at $A8.50 today. Now that is nice! Unlike Interactive Brokers :( PTM.AX has an 87% return on stockholders equity! Funds management can be a very profitable business...

Anyway, reflecting on the SPX touching on its all-time highs... the rate of return on the SPX before any fees etc. has been around 2% per year (the dividend yield) since the all time high in March 2000. That's more than 7 years. Something to think about when you read the next blogger talking about the 12% rate of return on the SPX... You can do better than that 2%. The MSCI World Index has returned around 4%. I've returned around 8% p.a (and that's after all the fees I've paid). There are funds out there that have done better than that. Of course they are not "low cost index funds".

OTOH if you've been dollar cost averaging since March 2000 your average returns will be considerably better - on the SPX something nearer 5% p.a.

Bureaucracy

On May 16th the U.S. Consulate in Sydney mailed a letter to my lawyer here in the U.S. with the date for my interveiw for green card visa. Just one problem (well more than one). The date: 8:00AM on May 20th. Not only is that date passed, even if I was in Australia it would be hard to meet it as first I need to visit one of their approved doctors for a checkup as well as pay various fees. And that was Sunday morning, which makes it look like either a mistake or an error (wrong month?). My alwyer says they send out these ridiculous appointments all the time, so perhaps it is simply a placeholder and they expect you to negotiate a real appointment with them? I'll pick up the packet of info from her on Thursday when she holds her regular "office hours" at our university's human resources department. Then I'll need to schedule an appointment with the consulate.

The appointment will have to be in several months time as I haven't yet done the criminal background checks in all three countries I've lived in apart from the US. I will ask them if I need to do the ones other than Australia when I reschedule as those two were places I lived more than 10 years ago and their procedures are real hassles. I've delayed doing them, partly because they are huge hassles and partly because I still don't know where Snork Maiden will get a job. The Europe job now seems to be out, but we are still waiting to hear on the Australia one. Meanwhile she has an interview with one in Arizona on the phone from Beijing. Her interviewer will actually be in Europe. This guy was my department head in my first academic job in Europe (now he is in Arizona). Would be funny if Snork Maiden's first academic job is working with the same guy I worked with on my first academic position!

So I've told my friends in Australia that either they will see me when I come to pick up my visa or when we move to Australia. Either way it should be in the coming year!

Financial Disclosure

Ron Paul's financial disclosure statement. Apart from cash, he mainly owns real estate, gold stocks, and bear funds. A surprising (to me) statistic I saw in the Weekend Edition of the Wall Street Journal (print version) was that only U.S. 282,000 tax returns reported owning a foreign account. Non-resident taxpayers don't need to report this, but H1-Bs are supposed to file as U.S. residents. Another big group with foreign accounts must be U.S. expatriates who also have to file as U.S. residents, wherever they are in the world. Then there must be plenty of green card holders who retained or opened accounts in their home country. Add to them the U.S. citizens who opened a foreign account but live in the U.S. which this article was discussing and the number would have to be bigger than that? I think someone isn't being honest. I didn't realize I was in such a tiny minority by checking that box.

Private Equity

Thought I'd follow up my recent investment in a listed private equity fund with some thoughts on private equity. It certainly is "flavor of the month" - the latest headlines generated by Daimler effectively paying Cerberus to take 80% of Chrysler off its hands. Private equity investment means various things but essentially means investments in companies that are not listed on a stock exchange.

According to the Federal Reserve, business equity constitutes on average 17% of households' net worth - more than the 6% or so accounted for by direct stock ownership. If we assume that 70% of the holdings of mutual funds and retirement accounts are also in stocks we get the same 17% of net worth accounted for by stocks as by business equity. This means that if you are ony invested in publicly listed stocks you are missing around half the businesses out there by value! Being diversified across stocks does not mean you are diversified across equity investments! The average household also has 32% of net worth invested in a primary residence but only 6.4% in other property.

Aside from starting your own business how can you invest in private equity? It's certainly hard to get a stake in someone else's private firm without the right connections or being an accredited investor. Managed private equity investments fall into two classes: venture capital and buyout funds. Generally these are only open to accredited and qualified investors. The nearest equivalent in the US to AEP is Leucadia National. They buy businesses, turn them around and sell them. The company is often compared to Berkshire Hathaway. The difference is that Berkshire does not resell the businesses it buys and it buys successful not distressed companies. A big element of Berkshire is acquiring private companies. Owners who want to sell their company phone Warren up and do deals if he is interested. I have one BRK/B share currently. Leucadia is on my watchlist but seems pricey at the moment. It is a stock I would buy in a stock market correction. Another option, and way to get some more investment ideas is Powershares listed private equity ETF. Its biggest holding is... Leucadia National. You can also wait for the Blackstone IPO. But it is likely to be pricey. Several of my holdings are in the business mainly of acquiring privately held companies - these include CIF.AX, CIW.AX, and FLIP.OB.

Private equity has a reputation for extraordinarly high returns. Buyout firms have high returns due to their use of leverage. Without leverage they likely wouldn't do much better than listed equity investments. In other words the returns come from a high risk exposure. Venture capital firms that get things right can achieve extraordinary returns. Google is just one of the famous cases. Investing in start-up companies is of course tremendously risky, so a high expected return might make sense - there are a lot of total losses as well as tremendous successes. You have to understand exactly what kind of listed entity you are investing in. Don't assume that "private equity" is some magic bullet that will generate high returns.

ETF Cheat Sheet

This ETF cheat sheet is very helpful. This one only covers the US market. Bespoke plans on coming up with a cheat sheet for international ETFs (traded in US but invested internationally) very soon. I use ETFs for trading purposes. Currently I'm long QQQQ (and QQQQ calls) and short IYR. If I was starting investing from scratch at this point I might use ETFs for the beta part of my portfolio. But there are still very few ETFs available in Australia where most of my money still resides and there were none when I started out. I don't have this option available on either my 403b or my Australian superannuation account.

P.S. The model is now forecasting an uptrend in the market for at least the next week.

P.P.S. I should have followed this guy's advice today!

Allco Equity Partners

This evening I am buying 4000 shares of Allco Equity Partners. They are trading for $A3.87 per share so that is an allocation of about 3% of net worth. This is a listed private equity fund. It was involved in the failed bid to take over Qantas Airlines and its price has fallen precipitously since. It now is trading at a substantial discount to book value as well as to net tangible assets, and actually to the cash the company holds. The IPO investors paid $A6.00 in installments for their shares. Tim Boreham of the Australian newspaper alerted me to this investment back in April.

Update

Today went pretty well. I started the day with some horribly losing positions and closed them for a profit (kind of - by making one much bigger I covered it for a profit based on the average price of contracts I had sold :)), did another quick trade and established some new positions near the close (still short). Interactive Brokers even closed up for the first time! I got my check for $A11.5k from the Powertel takeover, stuck it in an envelope and will send it back to Australia tomorrow (why couldn't they just transfer the money to our brokerage accounts?).

Taking Over a Mutual Fund

An interesting story concerning the manager of the TFS Market Neutral Fund, which I am invested in. Marketers and managers of funds can belong to separate companies sometimes for purely financial/legal reasons and sometimes to bring in specialist outside managers to enhance a marketer's offerings. The company marketing the fund gets to choose the management. The interesting point in this article, is that though in the US mutual fund investors are called "shareholders" (in Australia, unitholders) they don't seem to get any say in choosing the manager. At regular companies, private or public, the shareholders can vote to change board members (in theory - in practice it's rare for stockholders of listed companies to vote out a boardmember nominated by other boardmembers) - who get to hire the manager. Another possibility is for the company to be taken over or for an "activist investor" like Carl Icahn to buy a stake in the company, get himself or a representative elected to the board, and then attempt to change things.

None of these options are open to mutual fund shareholders. It is true that the management or marketing company can be taken over and transactions of this sort are common. But it's not possible to target a single fund. Closed end funds which trade on stock exchanges are another matter. Activist investors have been known to demand that a closed end fund convert itself to an open end fund (regular unlisted mutual fund). The reason for this is that closed end funds often trade at a discount to net asset value (NAV). By converting to the open end format the price will jump to exactly NAV and then the activist investor will get out for a profit (some time I should do a post on premia and discounts for closed end funds).

Anyway, after this long preamble, TFS Capital wrote to Phoenix Investment Counsel who run the Phoenix Market Neutral Fund (EMNAX) and proposed that TFS take over its management. EMNAX has negative alpha and beta and has lost money over its history. Amazingly enough somebody still has $53million invested in it. TFSMX has positive alpha and beta and has made good returns and has around $140million now in assets. Anyway, the fund is not going to take TFS up on its offer, though its good publicity for TFS I guess ;) And it gets me to think about the best ways to structure managed investments and reward or punish managers.

P.S. the letter.

Chinese Stock Market Update

Shanghai opened down and Hong Kong up on Sunday night just like I expected. But then the Shanghai market quickly reversed to the upside. The composite index ended up 0.61%. The B-shares index rose 9.54%. B-shares are denominated in US Dollars and are open to foreign investors. Hong Kong closed up 2.5%. H-shares (mainland companies listed in HK) rose 5.4%. Nothing seems to be able to stop the A-share bubble going onward and upward.

Market Update

The bull market remains intact - the model is indicating that overbought conditions will persist next week. We might be very close to the final top in the market - some of my E-Wave counts support the possibility that we are in the final wave up from the 2002 bottom - and the likelihood of recession remains strong as long as the yield curve remains inverted and now the economy's growth rate has slowed to 1.3%. However, the wave pattern has kept extending and extending and both these indicators made me too bearish too soon. In the meantime the Chinese government is going to let domestic financial institutions invest in foreign stocks for the first time. EWH - the Hong Kong ETF - and FXI - the H-share (mainland companies listed in Hong Kong) ETFs both rose steeply on Friday. The Hong Kong market should rocket up on Monday. On the other hand the Shanghai market could then suffer a correction. Shanghai shares are extremely overvalued compared to the shares of Chinese companies listed in Hong Kong and Shanghai but it has been difficult for foreign investors to trade in the mainland stock markets or PRC investors to invest in Hong Kong or the US. Arbitrage between the markets was, therefore, not occurring. I won't, therefore, be surprised to see a pullback in US stocks on Monday morning in reaction, especially after the strong rally in the US on Friday. In all likelihood it would be a buying opportunity given the state of my model a strong correction here doesn't seem likely. I just ran a scenario where the Friday rally completely reverses - in this case the overbought condition will likely come to an end and we will be set up for a bigger correction in a week or two.

Drawdown

That's what traders call it when they are losing money and their account is going down... I'm down 15.9% on my trading capital so far this month or a loss of $4292 so far. That's $476 down per trading day on average. The model is down 2.86% so far this month and when the model is doing poorly I tend to do terribly. Actuallly when I fit a trendline to a chart of my returns on the Y axis and the model's returns on the X axis I am still above the trendline for this month (technically I have a positive residual this month in this regression - alpha is very negative and beta of my returns vs. the model is near 3).

I don't seem to be able to do anything right tradingwise at the moment. I missed the big downswing yesterday because I was too busy and the model was long. Today the model is short and I'm trading and the market is going up! Supposedly, according to the media, the market is rising because the PPI figures released this morning showed inflation was under control. Therefore, may the Fed will cut interest rates sooner rather than later. Initially both bonds and stocks rose. But then bonds began to fall all day long and ended up down. This means of course that the yield on bonds rose. So if bond yields are rising how can stocks be rising on hope of a Fed rate cut? So I lost on both fundamentals and technicals today.

I need to stop the bleeding to avoid blowing up all my trading profits all over again. I'm going to have to change my strategy a bit I think. One problem that is getting me stuck in losing positions is mixing up different time frames. I am thinking of putting different trades in different accounts. In one account I will do trades purely according to what the model says to do. Then in the other account I will do discretionary trades - mostly these trades will be in the same direction as the model - for example, my overnight trades. I could get in or out of those trades without worrying whether I should hold the position because the model might turn out to be right, as I'll have another model driven position anyway. This might be easier to manage mentally. We will see.

Google World Update

I now found that most large US cities have some realistic building models as do some famous world cities - I checked out Sydney, Hong Kong, Rome, Jerusalem, Mecca, Melbourne, Beijing, Shanghai, Kuala Lumpur, Singapore. They're all cool (though some like Kuala Lumpur only have one building) except Jerusalem where the Dome of the Rock is modeled way too large and looks ridiculous. None of these cities have the generic grey buildings that fill in the rest of the space in the US cities. Austin, Texas just has the Capitol and two highway billboards! Very peculiar :)

My trading is awful this month so far. Everything I do seems to go wrong. Actually the model was on the long side today but I hadn't read things right and went short after the FOMC announcement when the market intially went down. But then the market went up and I lost again...

Magazines Meme

Clifford tagged me with the magazines meme. So here goes:

1. Barrons - I have a subscription and read it online now.
2. Scientific American - subscription
3. The Atlantic Monthly - once paid to read an interesting article online and ended up in a supercheap subscription which I kept.

They cover my main interests. In the past I had a subscription to the Economist but I find reading too many of their arrogant articles gets annoying. I read the New York Times online most days. Some days I buy a hard copy newspaper - could be NYT, Wall Street Journal, or even Financial Times. I also receive academic journals from the various academic societies I belong to.

Google Earth's Latest Cool Feature

As I mentioned that I was obsessed with Google Earth, I have to share with you the latest cool feature I discovered. Many of the buildings in southern Manhattan are now full color 3-D models! Previously all buildings had blank grey realistic shapes in that area and in several other US cities. Only the area south of Central Park and some parts of Jersey City and Brooklyn are modeled in 3-D New York. But this shows the potential and where this kind of virtual Earth technology will go eventually. Google is on my watchlist of stocks to buy for long-term investment on a pullback. I've made some money trading it in the past. Right now, though, the chart appears to be heading down:

Passive and Trading Income

I was wondering where I was at so far this year (first four months) regarding passive (nothing to do with "passive investing") and trading income:



My definition of passive income is money that arrives to me without me doing anything to realize it - so long-term capital gains from selling a stock isn't counted and unrealized gains certainly aren't. Also not included is anything that happens in a retirement account. But I am counting the net profit from cash takeover, like the Powertel takeover by Telecom NZ, in passive income. The other categories of passive income should be obvious. Projecting for the year I should receive bigger mutual fund distributions in June and December and a similar size one in September. I expect to receive about the same amount again in dividends and we could multiply interest by three. There is one takeover maybe in the works, but the payout will be about $1500 in net profit. So I could project about $23k for the year. Trading is very hard to predict. Maybe I'll triple the numbers or maybe I'll blow up like I did to some extent last year. If I tripled the numbers I'd have $33k for the year. With expenses of $25-30k per year (and not counting stuff like health insurance that my employer mostly pays for now in that) and considering taxes I'm just on the edge of "financial independence". But I can't afford to make too many mistakes or I'd start cutting into my capital.

Interactive Brokers IPO Prices at $30

So I have been allocated 200 shares! Looks like they'll start trading on Friday.

Passive Investing and Entrepreneurship

Many personal finance bloggers and personal finance gurus are in favor of passive investing. Invest your money in the market portfolio rather than trying to beat the market through selecting investments and trading. The logic behind this advice is that the sum of all "alpha" - risk-adjusted above market returns - is zero - unlike in Lake Wobegon, not everyone can be above average. The assumption is that the the above market returns are either distributed randomly or are flowing to the Goldman Sachs and Warren Buffetts etc. of this world. It is true that the majority of mutual funds have negative alpha. So why not minimize costs and invest in the market portfolio at the lowest possible?

In thinking about trading as a business an idea came to me.

Many of the same people who are opposed to trading and are in favor of passive investing also strongly favor entrepreneurship and starting your own business. But on average all businesses make the average rate of return on capital. Some are very successful and some fail. Why does it make sense to invest in your own business if it doesn't make sense to be selective in investing in other businesses through the stock market?

Junk Stocks, Bad Trades, and Complicated Security

Several themes today.... I bought 25,000 shares in FLIP.OB, aka FTS, this morning. Yes it's a penny stock. Literally. I bought at 1.84 cents a share spending $467 in total including commissions. This trade would have cost about $80 in commission using Interactive Brokers instead of $7 with Ameritrade! Unlike many or most bulletin board stocks with similar charts, FTS actually makes money. It even has free cash flow. And it is selling at about 3 times FCF or a P/E of 2. I'm willing to make a small bet on this stock - maybe something is actually really wrong and the stock goes to zero or maybe it increases 4 or 5 times over in the near future to reach a more reasonable P/E. Risking less than $500 to make maybe a couple of thousand sounds OK to me. The company is a retailer of cellphones, satellite dishes etc.

Talking of junk stocks, the administrators of Croesus Mining (CRS.AX) poked their head out the rabbit hole they've been hiding in for the last few months. They say that they are now focusing in the next three months on recapitalizing Croesus. So this stock still might trade again one day, though likely at a value similar to FTS :)

Trading very badly today and giving back the profits I made in the last couple of days. The stockmarket remains extremely strong and overbought. The model gives short signals which can be profitable but they are reversing very fast at the moment and I haven't been nimble enough to get out before the uptrend resumes.

In a collaborative effort with my Mom on the other side of the world we managed to access her new account with a well-known global investment bank. This involved her working a special card reader, an access card, and a pin number and me entering numbers into the computer here. It reminded me of movies where thieves are trying to get into some fiendishly complicated safe. Any moment they might set off the alarms :) It's nice to know the money is secure!

April 2007 Report

All figures are in US Dollars unless otherwise stated. This month saw very strong performance, which has been the case for the last several months.

Income and Expenditure



Expenditure was $3525 - more than take home pay ($3,299) due to spending on my brother's upcoming visit to the US. 403b contributions totaled $1,792 and Roth contributions $333.33 as usual. Non-retirement investment returns were again very strong this month ($10,363). Retirement investment returns were also nicely positive ($5,615). The rise in the Australian Dollar again contributed significantly to returns.

Net Worth Performance
Net worth rose by $US17544 to $US423,791 and in Australian Dollars gained $A7451 to $A509,058. The Australian Dollar again rose this month resulting in a relatively large gap between performance in the two currencies. Non-retirement accounts reached $US232,779. Retirement accounts also saw nice gains to $US191,012.

Investment Performance
Investment return in US Dollars was 3.93% vs. a 4.48% gain in the MSCI (Gross) World Index, which I use as my overall benchmark and a 4.33% gain in the S&P 500 index. Non-retirement accounts gained 4.65%. Returns in Australian Dollars terms were 1.11% and 1.87%. The markets were extremely strong this month. My U.S. Dollar returns beat the indices year-to-date and over the last 12 months:



The contributions of the different investments and trades are as follows:



The returns on all the individual investments are net of foreign exchange movements. Foreign currency gains appear at the bottom of the table together with the sum of all other investment income and expenses - mainly net interest. Trading worked out well in the end despite some setbacks along the way. Trades around the Google and Apple earnings reports made good contributions. I again had a positive result for QQQQ/NQ trading ($527). The biggest gain was from a balanced mutual fund - the CFS Conservative Fund. Symbion began to run up in anticipation of the May 1st merger bid. Everest Brown and Babcock suffered a loss this month as the fund of funds sold off in response to the rights issue.

Progress on Trading Goal
Trading in my US accounts netted $3,248 a 10.8% return on trading capital. The model gained 6.4% while the NDX rose 5.4%. My goal for the year is to end up with at least as much in my three accounts - regular trading, Roth IRA, and IB - as I've put into them. The accounts in total gained a net $3,249 and I have now achieved $12,297 of the annual goal of about $19,000. Since the beginning of the year the trading capital gained 56.1%, the NDX has gained 6.3% and the theoretical model gained 36.5%.

Asset Allocation
At the end of the month the portfolio had a beta of 0.04. 41% of the portfolio was in stocks, 42% in bonds, 13% in cash, and loans totalled -9%. The remainder was in hedge fund type and real estate investments, futures value etc. Looking at asset allocation the way I prefer, 25% was in "passive alpha", 66% in "beta", 8% allocated to trading, 7% to industrial stocks, 3% to liquidity, and I was borrowing 9%.

Separately Managed Accounts

I logged into the smaller of my Mom's new accounts for the first time since we started investing with a certain manager of separately managed accounts. Separately managed accounts are similar to mutual funds but the funds are not pooled - instead of owning shares in the fund you own the actual shares directly. This gets around the negative tax issues associated with traditional open-ended mutual funds. In traditional funds you pay the pre-tax net asset value of the fund for a share in the fund. When you buy shares in the fund might have tax liabilities due to selling stocks or receiving dividends during the year before you bought in. You have to pay these taxes when at the end of the year capital gains and dividends are distributed to you even though you didn't benefit from those gains or dividends. Also, when investors redeem shares the manager has to sell stocks generating capital gains whose tax liabilities are distributed to all shareholders. The flipside is that growing funds like TFS Market Neutral tend to have lower tax liabilities. Anyway, none of these issues apply to separately managed accounts.

But what surprised me is that when I logged in I saw all the individual stock positions in the account just as if it was a regular investment account. This is an excellent manager, and I'll probably get some investment ideas for myself by checking out their picks.

Symbion Again in Merger Talks

Symbion Health (SYB.AX) is again in merger talks. There is a bid from Healthscope (HSP.AX) and a couple of private equity firms that values the company at $A4.30 per share. The firm would be dismantled and the path labs etc. merged with Healthscope in return for Healthscope shares and the pharmacy etc. division would be purchased by the private equity guys for cash. I will be due long-term CGT on the latter and I believe no tax on the scrip for scrip portion. So I'm planning to hang on and see what happens here.

In related news, Powertel, which was acquired by Telecom NZ was delisted today. From the merger scheme document seems we'll be sent a paper check (for $A11,500 in my case), which I'll then need to mail straight back to Australia. I am thinking to use $A1500 towards paying off my margin loan and then wiring $A10,000 back to the US. The check will likely not be mailed till May 9th. In the meantime I'm recording this as a receivable.

That's Insane

Said Snork Maiden. This was when I told her the difference in commissions between trading a stock index futures contract on the Sydney Futures Exchange through Interactive Brokers and trading the same nominal amount of actual Australian stocks at the lowest online rate offered by Australia's biggest online brokerage. $A5 vs. $A186. The latter reflects trading $A155k of stocks at a 0.12% commission. Going short through the latter broker involves additional commissions. Another way to significantly lower costs is to trade warrants (options on stocks issued by investment banks that trade like stocks on the ASX) or options rather than actual stocks. Because the face value is much lower you pay less commission. But you can't always get the exact warrant you want and trading options requires phoning a broker and paying much higher commission rates.

Trading Result for April

April turned out to be a good month in the end. I made $3278 from trading in my three US accounts. That's about a 10.9% rate of return (per month not per year!) on capital deployed. The NDX rose 5.4% and the model gained 6.4%. Based on my trading since June 2006 I would be predicted to make about 4% when the model returned this amount and so I had a nice positive residual driven by Google and Apple trading. My accounts have gained $12,200 from trading in the same period. So I estimate conservatively that I can make $15k or so per year from trading. Together with passive income from dividends and distributions I'm close to earning enough income (not counting long-term price appreciation) outside of retirement accounts to meet my expenses. There are no guarantees that the recent good trading results will continue as none of the test statistics are very statistically significant yet.

New Short: Salesforce.com

An article in Barrons this weekend suggested that Salesforce.com (CRM) would be a good stock to short. As usual I checked out the financials. It has a forward P/E of more than 60 and free cash flow is significantly below earnings. Analysts are forecasting rapid earnings growth but some have recently downgraded the stock. The chart also looked vulnerable to decline. The stock has an extremely high beta of 4.58. If the market goes down in the next few days then it will go down more. Salesforce was also mentioned here over the weekend. Wallstrip recently ran a positive show on it. Not sure how long I will hold the short. I'll play this one by nose or is that ear :)

Barrons also suggested shorting ACP, Carl Icahn's firm. It opened today steeply down. The bid-ask spread was so big though that I didn't want to get in. I'll monitor this one and see if a bounce is worth shorting.

Sydney Futures Exchange

When I opened my account with Interactive Brokers I signed up to trade all electronically accessible US markets. But in fact one can trade many international markets too from the same account. I just added the Sydney Futures Exchange to my permissions as the data is free and I am curious about trading on it in case we end up moving back to Australia. IB charge $A5.00 per contract for trades (about $US4) which is good. The only stock index traded is the S&P/ASX 200 Index. The contract size is $A25*index. As the index is currently at 6213 the contract size is around $US128k which is bigger than the US mini contracts but smaller than the US full size stock index contracts. The minimum tick is one index point which is percentwise about the same as the NQ and ES tick. I am tracking it now in real time and around 50-150 contracts are trading per minute at the open, so there is plenty of liquidity. Initial margin is $A6250 which is in line with the margin for a couple of ES contracts of similar value.

I don't try to day-trade the Aussie stock market because I think commissions are too high and the information flow isn't as good as in US markets (some of the info is better though). IB don't offer Aussie stocks yet. The Australian market trades in the US evening opening at 8pm EDT in the northern summer and 6pm EST in the northern winter. US markets open at 11:30pm or 1:30am Sydney time. Even though I tend towards being a nightowl it would be hard for me to daytrade the US market from Aus I think. As I get older I also am waking up earlier in the morning. Of course, all the Asian markets would be open to me from a base in Australia but language issues might pose a barrier. For example, Yahoo's Hong Kong site is in Chinese but the Singapore site is in English. Hong Kong is a bigger financial market.

Accounting for the Effect of Australian Superannuation Taxes on My Rate of Return

The earnings of Australian retirement accounts, known as superannuation accounts, are taxed by the Australian government at 15%. Contributions are also taxed at 15%. This is in contrast to the US approach of either taxing the contributions at the regular income tax rate (e.g. Roth IRA) but not taxing the earnings or not taxing the contributions and deferring the regular income tax on the contributions and earnings till the money is withdrawn (e.g. 401k, 403b, traditional IRA). The superannuation earnings tax is deducted at source from managed funds and the amount is not reported to the account-holder/taxpayer. Up till now I have been using the after tax returns on these accounts in my performance calculations combined with pre-tax returns on all other accounts. The correct way to compare returns to a market index is, however, on a purely pre-tax basis. I've now added back in the superannuation tax paid to each month's returns:



Obviously the result boosts my rate of return and I now almost match the MSCI World Index over 10 years and beat the S&P 500 total return index on all time horizons. The change has the effect of increasing alpha very slightly but boosting beta by about 5 percentage points.

I've been fascinated by the concept of "portable alpha" or "alpha-beta separation". This concept is based on the idea that any mutual or hedge fund can be broken down into a market neutral fund and a market index fund. The former is the "alpha" and the latter the "beta". I did a decomposition of my total returns into the portion attributable to the market (estimated beta*MSCI total return) and the residual or market neutral portion:



The total return index is the product of the market neutral and market related indices. This is natural as current returns multiply the capital built up from past returns.

Paid Off Balance Transfer

I paid off my balance transfer on my Amazon.com Chase credit card. I've had a balance transfer for the last couple of years and have been rotating it around my cards. It's relatively cheap finance but I've decided I've had enough of messing around with it and I won't be doing any more balance transfers in the near future. It only amounted to about 1.5% of net worth at this point.

In other news, our lawyer phoned my brother to tell him our second property in eastern Germany sold and we should have our share of the money in the near future. Near future in legalspeak can be a near eternity :) When it's done it will finally close the lid on this saga that has been ongoing since 1995 and in the broader time scale a last vestige of our family's history in Germany. This property will be redeveloped, other buildings and family graves still stand, but we won't own anything in Germany anymore. In fact, we don't already except some money in a German government account.

I Did Make a Trade After All

Just before the close and going to my meeting of Graduate Porgram Directors I bought one Apple June $90 call. Looks like it worked out well. But if I'd been available at 4:30pm I might have bought 500 AAPL shares instead...

Money Arrives

The money arrived in my HSBC savings account today, even though 25 April is a public holiday in Australia (ANZAC Day). HSBC charge another $US25 fee. So I paid 1.4% in total for the transfer. I could get the percentage cost down for the next transfer if I borrowed some money on my Aussie margin loan to bring it up to the maximum $A10k allowed per transfer or waited longer for $A10k to accumulate in cash in my money market account (CMT in Aus-speak). I didn't trade today due to a bunch of awkwardly timed meetings, but it would've been a great trading day....

Token Arrives

The "token" arrived from Commonwealth Bank in a bright yellow box with real Australian stamps stuck to it. Inside is this tiny electronic device:



Very cute. I registered it and shifted money to my account from a money market account in Aus ready for the actual transfer to the US. Everyone seems convinced the USD is going down - including a colleague who teaches international economics that we went to dinner with together with a bunch of students from her class yesterday - so a contrarian move seems to be the right thing to do. Anyway, I'm only moving my dividends and distributions back to the US at this point. Not a huge amount of money. Snork Maiden was here to give a presentation in the class yesterday that was like a mini-preliminary-job-interview. But there isn't a position here for her at the moment. Today maybe we will hear if she got offered the job in Europe. In the meantime she got a phone interview lined up in Aus for a couple of weeks time.

Obsessions

The Money Diva tagged me to write about my obsessions, obsessive thoughts etc:

1. Obviously investing and especially trading. Even though I posted yesterday that I wasn't going to trade I made 6 roundtrip or still open trades in the 24 hours after making the post :)

2. Obviously, too economics but really economics is just a symptom of my underlying obsession with understanding the world. Which is why I studied geography and economics, became an academic researcher, have always been a news junkie - reading newspapers since age 10 or younger, obsessed with maps and now Google Earth etc.

3. Obviously I am currently obsessed with personal finance and trading blogs. It's just fascinating to read how all kinds of different people address the issues facing them and I hope to learn something practical from the more investing and trading oriented ones.

4. Rabbits. This is an inside joke with Snork Maiden.

5. Bears. I am more and more convinced that I was a big fuzzy bear in a past life.

OK, so I need to tag some people. How about Millionaire Artist and Ms MiniDucky.

Trading Update

In the last couple of days I've wanted to place trades but just can't do it. Partly due to being up and then back to zero for April - while the model is doing well - and partly because I am very busy and will be nervous if I can't monitor the trades more. So maybe I'll take a break from trading pretty much till the end of April and then after things quieten down a bit (I hope) get back into it. My investment portfolio has a relatively low beta and so shouldn't be hard hit if there is a market decline. The rise in the Australian Dollar means I'm up a lot in US Dollar terms at this point in the month. It is hard being a serious part time trader if you aren't in charge of scheduling your other activities.

P.S. 5:16PM

I did do a trade in the end. Trading Google after its earnings announcement. Held 100 shares for 3 minutes and made $878. So maybe this trading month will be a small positive after all.

IPO Update

I just placed a couple of bids in the IB IPO. Very simple. I bid to buy 200 shares if the IPO price is $27 and below and 100 shares if it is between $27 and $36. I can always alter these. So my maximum bid is for only 1.28% of my net worth roughly. Should I bid for more? I can bid for up to my account value ($14500) and it doesn't seem to have an effect on my buying power in the meantime.

Organizing

That's the theme of the moment.

1. Have everything I need to fax in the stuff to set up the transfers from my Australian account to my US accounts. But seems there is a need for a security calculator - two factor authentication. We'll have to see if they'll send that here to the US. The representative told me they will phone me after I fax them.

2. Almost have all the forms and info for the next stage in my green card application - getting police records from the 3 countries I've lived in apart from the US. Britain wants me to mail them original IDs with my date of birth and name! I think Aus looks easier now they finally sent me the forms. Israel wants me to come in person to the consulate in NYC - that will have to wait till next month.

3. Ameritrade e-mailed Snork Maiden yesterday and said that we didn't sign one of the forms for her Roth IRA. If she can get it faxed to them by today maybe we can get the 2006 contribution in. Though you only need the postmark on the letter with the check, apparently the account must be open before the deadline too to make a 2006 contribution. Hopefully, she can sort this out today, though it is a big hassle. I understand this. I have been procrastinating on these police records.

4. Looks like my brother is going to come visit us, so when that's fixed some travel planning.

5. Snork Maiden had a phone interview yesterday with a university in Europe. By next Tuesday we should know if they want to hire her.

I haven't been doing any trading the last couple of days, though I could have made some money yesterday if I did because I would have been long. Will wait till I feel comfortable. This is going to be a busy couple of weeks though as the semester nears it's end.

P.S. 1:55PM

We failed in the race to make a 2006 contribution to Snork Maiden's Roth IRA. Ameritrade are giving her a lot of trouble because she is still on a foreign student visa. We told them that she is now resident for US tax purposes but they want us to mail in a signed copy of the W8-BEN, fax the signed application form, and send a photocopy of bank statement! Anyway there was something they said couldn't be faxed. Anyway, we can now wait a while to see if a 2007 contribution is going to make sense.

P.P.S. 9:14PM

Commonwealth Bank e-mailed me to tell me I was approved for online international money transfers. Another one says they are sending me the "token" - a calculator used in two factor authentication. Let's see when it arrives.

Borrowing

I still need to cover the trading, liquidity, and borrowing categories in my asset allocation series. Liquidity is pretty boring - I have checking and savings accounts in the US and overseas - and I have covered trading extensively. Borrowing on the other hand is worth covering as my borrowing arrangements are rather different to most pf bloggers and a lot of investment bloggers too. In particular, a lot of real estate bloggers seem to be unaware of the possibilities of borrowing against stocks.

My borrowing capacity is split between credit cards and margin accounts. I have a credit line of about $21,000 on the three credit cards I actually use. I have a zero percent balance of about $6500 on one of them and rotate it to wherever there is a good deal. My credit limits are low because my credit history is short as far as FICO is concerned. Anyway, I think that's the reason. I don't aggressively try to up the limits either. The balance transfer is very cheap financing and worth doing I think.

My main borrowing capacity is in my three margin enabled brokerage accounts. If you have a brokerage account I can't think of a reason not to ask for the ability to borrow on margin. Well, actually I pay some extra fees in Australia in my margin account. But that's not the case in my US accounts. Here's the current rundown on one of my US accounts (the other one just has about $15k in cash in it at the moment - so I can't actually withdraw more than the cash in the account without first buying some stocks):



I could immediately withdraw $19,982, $4,772 of which would be a loan secured by the stocks in the account. You don't need an emergency fund sitting in cash when you have a margin account. I could also spend that much on options or non-marginable stocks (e.g. stocks under $5 in price). But the interesting thing about margin is that if use a loan to buy stocks you can then borrow more money against the stocks you buy. So if I use my borrowing capacity to buy stocks I can borrow another $37,092. Intraday, I can borrow even more - this is so-called "day-trading buying power". The only problem is that my interest rate is currently 10.5%. Larger accounts pay lower rates. So I only borrow for short term trades on the long-side.

My Australian account is much bigger and so are my borrowing capacities:



All the figures are converted to US Dollars. My interest rate is 8.9% and I have an outstanding loan of $33k. I could withdraw or buy non-marginable securities of up to $62k. I really, really, don't need an emergency fund :) But if I buy marginable stocks I could buy more than $200k more of stocks. Recently I bought an extra 4000 shares of EBI.AX using my loan capacity. BTW, EBI.AX is already a levered product.

I often wonder if I should be more aggressive and borrow more. There are lots of potential sources of leverage which are cheaper than margin loans. So until I exhaust those options (no pun intended :)) my borrowing is likely to be very conservative.

Moom vs The Model

More dumb trading moves today and back to pretty much zero for the month. The chart is a regression of my monthly trading rate of return against the model rate of return:



I've scaled up April's returns for the entire month.

The beta is 3.95 and alpha -23.8% per month. Ouch! This means that if the model returned zero for the month - something that hasn't happened - I would lose 23.8% of my account. It also means I am using 4 times leverage. I'd expect to have a negative alpha, which means that I'm not implementing the model correctly. But I'd like it to be much smaller! The R-Squared is 0.77.

Some months obviously are better than others. This is shown by the positive and negative residuals above and below the regression line. September 2006 was the worst month given how well the model did that month. Though October-December 2006 also all lost money the model was not doing as well in those months.

There are many trading blogs out there and a lot of the traders struggle to make money even if in the long-run they are making money. Making money trading is possible but obviously it is not at all an easy thing to achieve. It makes it clear that the ads telling you how easy it is to make money with the trading method they want to sell you are at best not telling the whole story and at worst scams.

Pay Raise

Today I received a letter from my Dean. The annual pay raise letter. This year's pay raise was 1.75% which is slightly better than last year but still less than the rate of inflation. The maximum possible raise was 2.5% though the Provost can in special cases award a little extra. This is $66.50 extra per month in take home pay, which is almost a 2% increase. Maybe you can see why I am so determined to become a consistently profitable trader. These below inflation pay increases are just demoralizing. A successful trader's income will rise at the rate at which he or she saves. So if you could save 20% of your income you'd get a 20% income increase in the next year, all things being equal, or as economists like to say, ceteris paribus. Up till about age 40 my rate of wage income increase was around 7.5% per annum.

Income does tend to rise fast until people reach about 40 years of age at which time the rate of increase slows until maximum income is typically reached in the mid-50s. After that it tends to decline. This is the US profile from Finn Kydland's Nobel Prize lecture:



Snork Maiden said: "Is that why people have mid-life crises?"

IPO

I have an opportunity to participate in an IPO, in this case the IPO of Interactive Brokers - one of my US stockbrokers. When I lived in Australia I participated in several IPOs some of which were very profitable and some of which were disastrous. I've learnt how to tell them apart upfront. My guess on this one, even before reading the prospectus is that it would be intermediate between the two extremes. Only 5% of the company is being IPOed. Owners don't do that if they expect the value to fall. They will sell the whole company then (see HIH). On the other hand they are going to use a Dutch auction to set the price and they are opening it to all the account-holders of the company. This encourages a full valuation of the company as it is an efficient auction mechanism. The indicative pricing ($23-27) gives a P/E of around 20. I haven't participated in a US IPO before. Maybe I'll do it just for fun. I'm thinking of bidding for 100 @ $27 and 100 @ $36. If the issue prices from $27-36 I'd end up with 100 shares and below $27 200 shares. What do you think?

P.S. 9:54PM

Another IPO - Platinum Asset Management - these guys are the manager of Platinum Capital (PMC.AX) , which is one of my passive alpha investments. They are selling 20% of the company valuing it at $A2.8 billion. They have $A22 billion under management. I can't participate in the IPO as I'm not resident in Australia. But this one is going onto my watchlist.

Can You Get at Your Money?

This is the kind of problem that people that move internationally have. A little while ago I began to receive most distributions and dividends from my Australian investments as cash payments rather than having them reinvested. Now I want to begin transferring them to the US. At the moment the distributions are accumulating in a money market account in Australia, so they are earning interest and the Australian Dollar so far continues to rise. My regular checking account in Australia allows online international wire transfers. Initially the limit for a transfer is set at zero and you need to phone the bank to raise the limit. Last night I phoned them and things were going well until the representative asked me for my Keycard number (this is an ATM card):

"Umm", I said, "I don't have one of those as they wouldn't send me a new one when the old one expired because I don't have an address in Australia."

The truth is that I didn't want to bother my friend there with having to send me a card which I wasn't really going to use at the time. I could have used his address. The representative then told me last night that I need to download a change of details form and send a fax including that, two copies of my signature and a photocopy from my passport. I couldn't find that form on the bank's website and so now e-mailed the bank to send me one electronically. Maybe I'll end up phoning again. But it looks like we can sort this out and begin transferring money bank to the US. I have done transfers from my bank here back to Australia. But to do them I needed to go into the branch, let them photocopy my passport etc. I even transferred money to China that way.

I'm just feeling a little worried this morning that if I move out of the US again I won't be able to get my hands on my money. This is an irrational fear because I will find a way. One option is HSBC's Premier Service. Seems you can set up accounts in multiple countries and then do online wire transfers between them. You need to have either $100k with HSBC or pay $50 a month. I doubt I'd have $100k with them any time soon as I like to have my money doing something more productive than sitting in bank deposits and savings accounts and I don't particularly want to set up a stockbroking/investment account with them. $600 a year is also quite a lot at this stage too for this service. At the moment I am likely to spend just $A88 a year with my Australian bank for transfers and $A60 to maintain the account and in the past I spent maybe $50-75 a year making transfers from here to Aus. But probably down the road I will eventually set up an international banking service of this sort to be sure I can get my money easily wherever I am.

Some people ask me why I maintain investments and accounts in Australia. There are three reasons:

1. I can't get the money out of my retirement accounts or transfer the accounts out of Australia until I am 60.

2. If I sell out my positions in regular accounts I'll owe capital gains tax.

3. From 2002 till now investing in Australia has been an extremely good move. The Australian Dollar has gone up and the Australian stock market has been very strong.

Tax Extension

Yes, I'm going to file an automatic extension. I just printed out the form. I think I am probably quite close to break even on my taxes. So not desperate to get a refund. And the interest/penalties on paying late are pretty small (as long as you pay before October 15) so I'm not in a rush to pay up either. I think people must be scared by that word "penalty" and think something awful will happen to them if they don't pay on time. But it ends up not being much worse than a credit card interest rate (7% p.a. + 1/2% per month = 13% p.a. and if 90% of your taxes are already paid by April 17th then the 1/2% per month penalty isn't added) on the amount that you owe in excess of withholding. In May I'll have plenty of time to sit down and work it all out correctly.

Beta

This part of my portfolio is where I hold traditional long-only mutual funds invested in stocks and bonds, I do modify my exposure to the stock market over the course of the four year stock market cycle. In retrospect I made a mistake though in getting too conservative in 2005 and switching into the CFS Conservative Fund (actually I switched into another fund first - the CFS Diversified Fund) and the CREF Bond Market Fund and out of stock only funds. The Conservative Fund is invested about 30% in stocks and 70% in fixed income and cash. Both stocks and bonds include Australian and global investments. The return has been reasonable - certainly better than switching into cash but I would have been better off to stay in the types of funds in the lower part of the table. Returns on those funds have all been very nice. I first invested in Future Leaders in 1997 and have held ever since. It was my first mutual fund investment in Australia. It's invested in mid-cap Australian firms. Developing Companies is invested in smaller listed Australian firms. I kept holdings in those funds because they are closed to new investors. Maintaining a holding means that I will be allowed to switch back into them at some point. I invested in the Global Resources Fund in 1999 when commodity prices seemed to be at a low. I had to go into my brokers office back then (to get the load rebated). I think she thought I was nuts. This fund is invested in resource stocks all over the world. It biggest holdings are in BHP, Rio Tinto, and CVRD - each composes about 10% of the fund.

At some point I am going to switch out of the more conservative funds to equity only funds. If the yield curve inversion ends , the stock market seems to be going up, and the economy speeding up, I'll drop the bonds. If there is a significant fall in the stock market and a bottom seems to be reached I'll do the same. Maybe I should have switched last summer. The inverted yield curve kept me in all these bonds. Bonds should do well in a recession and the yield curve has usually signalled a coming recession. However, the sample of recessions is too small to assign any statistical significance to the prediction power of the yield curve.

Industrial Stocks

As I've mentioned many times, my investment style doesn't depend on being able to pick individual stocks which aren't in fact companies making other financial investments. I think is is hard for an individual investor to do this. Few mutual fund managers are any good at it. Which is why you have to be very selective about the managers you invest in. I'd love to get comments from people who are good at stock picking if you can back it up with a track record.

I only have four of these industrial stocks. Croesus Mining has been an unmitigated disaster. I was trying to trade it when the stock was halted and then the company declared bankruptcy. I'm still waiting for the situation to be finally resolved. I originally invested a small amount when I read about how it was undervalued and the most likely Aussie gold company to be taken over. Apparently not undervalued in fact and only taken over once bankrupt :) OTOH Ansell and Powertel have been good investments and Symbion a poor but at least moneymaking investment.

Before Telecom NZ announced the acquisition of Powertel, this investment returned to me an annualized 132% I invested in May 2006 @ $A1.20 a share and the buy out price is $A2.30 a share. We are now just waiting for the buyout to proceed. Unfortunately we are going to get cash but I'll just squeak into the holding period for the long-term capital gains rate. If we received Telecom NZ shares then there would be no tax to pay. But who wants them? I bought into Powertel on the recommendation of an online acquaintance in Hong Kong. He sent me the research reports by Goldman Sachs etc. I was very impressed when I looked over the accounts and decided to give it a shot. The story was here was a small telecom owning an important infrastructure asset that was just about to break into profitability. If they didn't become profitable an acquisition was then likely.

I originally bought into the then Mayne-Nickless when it was announced that Peter Smedley who had managed Colonial very successfully - I owned Colonial from the IPO to its acquisition by the Commonwealth Bank - was coming in as CEO. Initially Mayne's stock price rose, but then it eventuated that his management style wasn't working in the healthcare parts of the business. The stock price then plummeted again. It's been a long story. Eventually the company was dismantled and Mayne Pharma was spun-off and then acquired by Hospira. Symbion is the remaining Australia based healthcare businesses. There is ongoing talk of consolidation in this sector and Symbion's price goes up and down with the news and speculation. I'm still holding on to see if something eventuates. It looks like in the long-term my rate of return has been 9.7% which is OK I guess.

My rate of return on Ansell has been 18.2% annualized. My current cost basis is -$2965. So I have pulled out my initial investment and almost $A3000 in profit. Another restructuring, turnaround story. I invested in the then Pacific Dunlop in September 2001. I can't remember what the exact rationale was, but clearly it was cheap. Today Ansell makes, surgical and industrial gloves and condoms. It is a global player headquartered in the US but still listed in Australia. In fact they have dropped their US listing. Rising rubber prices have negatively impacted the company recently but I'm still willing to trust management but with a reduced position in the stock.

In order to buy into another industrial stock I'm going to need a good business case, plus a low valuation. Sure I'll miss out on some growth stocks that would be great investments. But I find it hard to tell ahead of time. That's not where my edge is and I'm happy to leave it to the fund managers.

Moominhouse Fund

Snork Maiden sent in the paperwork for setting up her Roth IRA :) The plan is to use these Roth IRAs a few years down the road to maybe buy a house if we stay here in the US. So this is part II of the Moominhouse Fund:



On the other hand, we might end up leaving the US. Or maybe we still won't want to buy a house. But all the options are out there. Even with a 10% withdrawal penalty I hope the returns are going to be better than the money sitting where it currently is.

Real Estate Investments

Continuing in the "passive alpha" theme we get today to my real estate investments. These include the TIAA Real Estate Fund, Newcastle (NCT), Challenger Infrastructure Fund (CIF.AX), and Hudson City Bank Corp (HCBK). The TIAA fund, which TIAA-CREF call very confusingly a "variable annuity" - it can be automatically converted to a variable annuity when you retire as I understand it - is effectively an open-ended mutual fund directly invested in real estate. They own office, retail, industrial, and residential properties around the US (and one overseas investment). Currently I put 50% of my incoming 403b contributions into this fund. It has performed excellently since September 2002 when I first invested with an annualized 11.4% rate of return and a very low variance. It's had only two slightly negative months. As a result, its Sharpe Ratio is an almost unheard of 4.5! My annualized rate of return is 12.9% as I've changed my contribution rate over time. It also has only a 0.078 correlation with the returns of my overall portfolio. I'm thinking to roll over my 403b into a Roth IRA when I one day quit my current job, but it is certainly tempting to hold onto this fund!

I've held the other investments for shorter periods and they haven't been as good as this one. I bought into Challenger Infrastructure around the time of its IPO (I couldn't participate due to being non-resident in Australia) in August 2005. It's returned 9.7% annualized since then. CIF is a closed end fund that is invested in infrastructure assets in Britain - gas distribution networks and broadcasting towers etc. It is supposed to be a global fund but ended up only investing in the UK for some reason. It's accounts have been pretty impenetrable. I originally bought 3000 shares and when the fund was trading below NAV I bought 2000 more. Later I sold 3000 due to the factors I mentioned above. I like to understand how an investment makes money and be confident in management's strategy. I didn't sell all my shares as I believed the investment was still udnervalued but I sold some to reduce my risk. Maybe I should think about selling the rest? One thing I do like about this investment is that the management company is heavily invested in the fund itself.

NCT and HCBK have both lost me a little money so far. Newcastle is a mortgage REIT managed by the Fortress Investment Group (FIG). It is mainly invested in commercial mortgages. I figured that in a real estate slump this fund could gain by buying assets cheaply. The assets it already held were high quality. And it has begun buying up assets from distressed institutions. So I'm going to hold for now. It also has a very high dividend yield - 9.9%. HCBK's main assets are high end residential mortgages. It also has immense amounts of cash and stockholder equity for a bank. So it has been buying back shares and I figured it too could win in a real estate slump. Also I anticipated it being added to the S&P 500 index. This has now happened but was a non-event as far as the stock price went.

The only passive alpha investment left to discuss is Berkshire Hathaway... and I don't think I need to explain that one! :)

Long-Short Funds

I just saw an interesting post on levels of competence in investing. In this passive alpha section of my portfolio I am being an evaluator - the second level of competence. I think I am getting better at it. The third level applies to my trading. That is an ongoing struggle and I don't think I have proved yet that I am a consistent performer. But I have a good idea of what is needed there.

On to today's passive alpha investments. I have three long-short funds: Hussman Strategic Growth, TFS Market Neutral, and Platinum Capital (HSGFX, TFSMX, PMC.AX). Each of these has very different strategies and so they make sense as complementary investments. I've discussed the first two before, for example here and here. Hussman is long individual stocks and then hedges using derivatives based on his research on past market conditions. The fund does very well in bear markets and quite well in strong bull markets but seems to underperform in moderate bull markets as we have seen recently. Hussman is good at picking stocks. His stock picks have outperformed the index. I am concerned though that economic conditions may have changed and he may be too bearish. He argues that the share of profits in GDP must return to its historic levels. I am not so sure. It is possible there has been a permanent change in the economy. I don't know for sure. I wouldn't make a bet on this either way at this point.

The TFS Market Neutral Fund is much smaller and mainly invests in smaller cap stocks. It is always long and short stocks and doesn't alter its hedging in response to market conditions. Recent returns have been much better than at Hussman. But the track record is much shorter. Both these mutual funds are invested in US stock markets.

Platinum Capital is a closed-end fund that is invested in stock markets globally. They are also always short some stocks but have a long bias. They change the weighting they give to different countries based on their assessment of global macroeconomic conditions. They also actively hedge foreign currencies. But interestingly they don't just hedge foreign exposures back into Australian Dollars. They may hedge into Yen, or Euros or any other currency. So this fund is also a bet on currencies. As Platinum Capital is a listed fund its price relative to NAV varies. But unlike most closed-end funds it usually trades at a significant premium to NAV. I believe this is due to the fact that the fund has considerable undistributed profits, which under the Australian taxation system have attached "franking credits". In Australia closed-end funds pay taxes (unlike the in the U.S.). When they pay out dividends, those dividends have credits for those taxes paid. Platinum Capital reports the franking balance. I maintain a spreadsheet that regresses the share price on NAV and the franking balance and tells me when PMC is under or over-valued. I buy when the stock is undervalued and sell some when it is overvalued. This has significantly boosted my returns over a buy and hold strategy. BTW, trading closed end funds is one of TFS's strategies too. Because of all my trading in and out it's hard to come up with an accurate estimate of my rate of return. Also I invested in 2001-2 and then again in April 2004. In the recent period it's been about 20% annualized. Platinum Capital does charge a performance fee with a hurdle of beating the MSCI World Index. Like Hussman, they performed better in the past. The MSCI has returned 20% p.a. over the last two years. I matched it by trading PMC, the fund itself has not performed as well.

Clime

Another pair of fabulous twins today - Clime Capital (CAM.AX) and Clime Investment Management (CIW.AX). Clime Capital is the closed-end fund and Clime Investment Management the management company. CAM is a long-only stock fund. The manager, Roger Montgomery, worships Warren Buffett and has been achieving Buffettoid results. My annualized rate of return is 54% (in Australian Dollar terms). I met Roger Montgomery when he gave a presentation at the Securities Institute in Sydney. After that I followed what he did and found that he had floated this closed end fund. Initially, the fund was mainly in cash as he looked for good investment opportunities and I didn't buy shares till the fund was mostly invested in February 2006. I doubled my holding in September 2006 when there was a steep sell-off relative to net asset value as the infamous David Tweed tried to unload his holdings. I am looking to double my holding again when there is a good opportunity. This is one of the big advantages of investing in closed-end funds over open-ended mutual funds. Sometimes they are on sale at a steep discount. Montgomery's main strategy is similar to Buffett's and he is also not afraid to hold large positions in small companies. Some of the money though is also invested into the cheapest big cap Australian stocks on a systematic basis. Seems that he likes to play with various capital raising strategies, the latest being converting preference shares.

I first became aware of CIW.AX when they took a stake in Clime Asset Management which was the unlisted management company that managed CAM. At that point CIW was known as Loftus Capital Partners and was a closed end fund that took stakes in both listed and unlisted companies. Since then CIW has acquired the rest of Clime Asset Management and changed its name and strategy to become a broad based financial management company that will acquire other management companies (and it also has a substantial investment in CAM). Essentially, it is an embryonic Australian version of AMG. Its P/E is 17 and given the growth potential I think the shares are cheap. My annualized rate of return is 43%. All the founders including Montgomery now have large stakes in CIW as well as shares in CAM.

Everest Brown and Babcock

This is my first post on a specific investment in my asset allocation series. Well, actually two investments: Everest Brown and Babcock (EBB.AX) and Everest Brown and Babcock Investment Trust (EBI.AX). EBB is an alternative investment manager. Mainly they manage funds of hedge funds. EBI is a closed end fund of hedge funds that trades on the Australian Stock Exchange. You can learn all about the company and their funds here. I want to discuss why I bought this investment - most readers won't be able to buy into this specific investment and so the rationale is probably of much more interest than the specifics.

EBB originally floated on the ASX in early 2005 as a stapled security that included one share in a fund of hedge funds and one share in the investment management company. The idea was that the investment manager charges, like most hedge fund managers, a performance fee. By also investing in the investment manager you would get part of the fee rebated back to you. As you'll know by now, I like hedge funds and other alternative investments, and I especially liked the idea of getting some of the fee rebated. On top of that, when I invested in August 2005 the shares were trading at a discount to net asset value. That meant you were getting the management company practically for free! Also the managers were invested in the shares as well as in the management company (only part of the management company was floated in this transaction). I like to see this in the "passive alpha" investments I make. The founders also had the backing of Babcock and Brown - an upcoming global investment bank headquartered in Australia.

The shares continued to trade at a discount to NAV. In August 2006 it was decided to destaple the securities and let the management company and the investment trust trade separately. This was a brilliant move. The value of the management company shares has since soared. Looking at the two securities as a single investment my annualized rate of return has been about 54% since investing (pre-tax)! Total profit is now over $A13k. I originally invested $A9350 and in August 2006 invested an additional $3400 in the management company shares to double my holding. Yesterday I bought $A15,000 more of the investment trust to almost triple my holding of that stock.

EBB.AX now has a P/E of 52. Though I expect the firm to continue to grow, that does seem rather pricey and so I don't plan to add to my holdings. Anyway, I already have 3% of my net worth invested which is more than I really am comfortable to invest in a single stock that isn't a closed end fund. The only US listed hedge fund manager so far is Fortress Investment Group (FIG). Of course firms like Goldman Sachs are also in this business. FIG's pricey and I'm not looking to invest in it. But I'm not planning to sell EBB yet, either. The EBI.AX fund of hedge funds is undervalued at today's closing price. It in fact has had quite a high beta to the stockmarket. That might decline a little when the newly raised funds are deployed in other less correlated investments. There are no such investments listed on US stock exchanges yet, to the best of my knowledge.

Ex-Rights Price Correction

That's the reason for the halt in trading in EBI.AX:

"Everest Babcock & Brown Alternative Investment Trust (EBI) requested a trading halt in relation to its units earlier today following an irregularity in the theoretical ex-rights price published this morning. The price published was $3.785. EBI confirms that the theoretical ex-rights price of EBI units is $4.165 based on the close of 3 April 2007 price of $4.26 and the entitlement issue price of $4.07."

So my bet was correct. I didn't see this theoretical price. But I thought the market price was too low. A nice $A1600 in profit as a result with very little downside risk. Seems trading has restarted and the price is still at $A3.85. Hmmm.

Passive Alpha

I promised a series on asset allocation, here is the next installment. I'll cover the investments I call passive alpha first. As I mentioned before, it's a bit of a misnomer. This category includes all actively managed funds that aren't broad bets on stocks or bonds or aren't strongly correlated with an underlying benchmark index as well as all other financial stocks. The individual investments are as follows:



There is a mix of Australian and US investments here. Though the Australian investments won't be of direct interest to most readers, the reasons why I invested in them may be. I hope to discuss that in more detail in future posts.

Real Estate TIAA Real Estate, Challenger Infrastructure, and Newcastle are three different sorts of real estate funds. Hudson City Bank Corp can also be thought of as a real estate fund. Both it and Newcastle have mortgages as their primary assets though Newcastle is a REIT and HCBK a bank.

Closed End Funds Clime Capital, EBB Investment Trust, and Platinum Capital are all exchange traded closed end funds but they are all rather different. Clime is a long-only stock fund, EBI is a fund of hedge funds, and Platinum Capital is a long-short hedge fund.

Hedge Funds TFS Market Neutral and Hussman Strategic Growth Fund are mutual funds that employ quite different hedging strategies. Platinum Capital and EBI are also of course hedge funds - and as they charge incentive fees they are more traditional ones. Challenger Infrastructure also charge a performance fee. Is it a hedge fund?

Management Companies Everest Brown Babcock is a hedge-fund-of-funds management company that among other things manages EBI.AX. Clime Wealth Management is also a fund management firm and included in its managed funds is Clime Capital.

Insurance Berkshire Hathaway is an insurance conglomerate. But clearly, people don't invest in it just to invest in insurance, or even the many unrelated subsidiary businesses BRK owns outright. Money management by Warren Buffett is a big part of the attraction.

As you can see it is a little tough to exactly classify all the entities in this category. But none of them is your traditional long only stock or bond mutual fund. And that is why I've placed them here.

P.S. 9:03pm

I just bought 4000 more shares of EBI.AX @ $A3.75 taking my holding up to 4.73% of net worth - financed by an increase in my margin loan. Today is the ex-date for a rights issue that is part of a capital raising. The price of shares under the rights issue is $A4.07 while institutional investors are paying $A4.29. The price today opened at $A4.1 and then plummeted as low as $A3.65. Now it is true that the rights offer also includes 1 EBB share (the management company) for free for every 4.5 EBI shares bought. But from my understanding the rights offer and placement doesn't reduce the net asset value of the fund per share at least not below $A4.07. The NAV at the end of February was $A4.29 at the end of February. So this seems irrational. Even if there is something I don't understand here I can't see that I am paying more than NAV. Therefore, the purchase this evening. I am not allowed to participate in the rights issue because I am not resident in Australia. This is one of the pitfalls of direct international investing.

P.P.S. 10:55pm

And then EBI was put into a trading halt when the price was at $A3.85 pending an announcement from the company. It can't be anything very bad as shares in the management company EBB are up 5.23% on the day at this point and not in a halt. I am guessing they want to either: Calm the market and say there is no grounds for the price drop, or one of the hedge funds they invest in (there are around 20 in the fund) blew up and therefore some fall in price was justified in fact. Those are my guesses of best and worst case scenarios. We'll have to wait and see. They did a trading halt last week to announce that the placement was oversubscribed. These things are common in Australia. But I still remember when Croesus Mining went into a halt so it makes me nervous. But there has to be a floor to the share price for a closed end fund of this sort.