A few quick things first though which I wanted to highlight. The first is the very, very easy way to follow this blog (or any blog). Just go to www.feedmyinbox.com, type in the site of the blog and your e-mail and voila! You get notified when posts go up. It’s not real-time (will only update once a day per RSS feed to avoid spamming your inbox on the more hyperactive blogs/news feeds), but it’s very handy. And before some wise guy tries to sign me up for some random site, there is a confirmation e-mail that gets sent out

Also, I’d very much encourage people to ask questions. The tougher the better really, since if we don’t get people picking at our ideas they don’t get fully developed. It’s always nice to get a fresh perspective because without it we can get caught in our own circular feedback loop. You think gold will rally? Sure, make a convincing argument. Think the semiconductor market is going to stagnate in 2010? I’d love to know what supports that view.

So, on to the updates. Because I’m planning on re-entering the VXX sometime around Christmas at a full 15% allocation, in reality I have a little over 7% cash not 22%. So if you’re wondering why that number is still high, there’s your reason. The main goal for me is to use that 7% to hedge as much as possible against some of my positions. So in that light, I’m looking at Nvidia.

Why Nvidia? A few reasons. Now before I go into it, I have not looked in-depth at its financials yet so if you have a concern on that end please bring it to my attention. It would help hugely since this next week isn’t exactly happy hour for pouring through 10-Ks. The real aim here though is to hedge against Intel. Now, I truly regret not buying both AMD and NVDA as hedges for Intel much earlier, but in hindsight there’s always opportunities avoided. At first my reasoning (for liking NVDA as a hedge) was that if Larrabee was panned Nvidia would benefit significantly since Intel gaining a foothold in the GPU market would have been devastating. I never imagined that Intel would actually scrap the project though, and that provided both AMD (which owns ATI) and Nvidia’s stock a jolt upwards.

The main problem as of now is what valuation to attach to it. There have been murmurings that one of the main reasons Intel scrapped its Larrabee project was to prepare for buying Nvidia (because of anti-trust concerns of Intel owning both brands vs. ATI). I don’t want to make a decision based entirely on nebulous takeover rumors, especially since its stock has surged 20% in the last month alone. But I’m not sure I can ignore it either. No matter how it’s diced if the deal goes through Intel’s stock will likely take a hit, either because they’ll have to raise equity and/or general opinion of large deals that “seem” to have synergy etched on its face is usually negative for the acquirer. Because the rumors are sketchy, if they fall through there shouldn’t be much, if any, impact on their shares.

That’s the first reason. The second reason is because the semiconductor market can be fairly rocky moving forward, with analyst projections of next year all over the map. One could argue that by buying Nvidia I’m actually increasing my exposure to that risk, but on the other hand they’re not entirely similar business models and have a different client base. I’m not convinced the reason which causes one to falter would necessarily impact the other in the same way. I’ll probably make a decision closer to the end of the month than now. If it does go in I’m dubious about putting a full 7% allocation in though.

Good luck with finals everyone!

VXX – I sold out of the position Monday night after the rally in imp. volatility (Dubai). Mostly because it seems to be the way of the market to let things settle until the end of the year. And as predicted, Dubai was not nearly as big a scare to put a permanent dent or concern in the market. Turns out to have been a decent exit time since the VXX has sloped downwards the past few days. As I’ve said, I’ll very likely be re-entering this position late December. If this sounds like a trade more than a value pick, keep in mind that the VXX isn’t an actual company, or ETF of commodities/sectors. I’m using it as a pure hedge, so this is the one exception to the rule of trying to get into traders’ heads.

DSX – Increased the position slightly to max it out at 15%, wasn’t able to do so before due to lack of cash but now the portfolio seems to be in the opposite extreme.

ELON – I like this company, I really do. But the uncertainty with so many municipalities running into budget crises has shaken it (at least, that’s the best explanation I can deduce). And that doesn’t seem to be shaping up anytime soon. The smart grid stimulus package notwithstanding I’m very concerned about how the stock seems to be more a trader’s hot potato than anything related to the company. Note just today how the stock dropped $1.02, only to rise $1.02 after hours. So, I took the opportunity tonight to cut the headache and leave it out. Unfortunately, it seems I entered the trade for 11/03 instead of 12/03 so the sell shows up a month back :-/. I’m not sure if I’m going to consider this company again. Given the even higher expected volatility after the year end, probably not. It’s valuation is slippery because it’s basically a growth company currently operating with losses. Would I pick it up again at 9-10 to hold for 5 years? Certainly. But this is the type of company I don’t think will fit particularly well for the Initiative.

TIF – Relating back to the last post where I discussed the new outlook, this is the first buy on it. I feel like I may have written too much emphasis on the commodities/USD on the outlook, because the way I look at it is it’s the icing I’m looking for to find strong companies, if that makes sense. Tiffany’s is a company that I personally like quite a bit (as a stock, not merchandise). It has in some ways the best possible jewelry niche. Think of it this way – Tiffany’s is a brand that a lot of people can and will splurge on, especially as a gift. From that perspective, it’s a luxury brand with broad appeal. On the other hand, it’s not exactly cheap, and for that reason it scales very well in that it’s rare a piece from them won’t be “good enough”. For the company itself, the valuation is definitely not cheap but it’s not expensive either at 20x forward P/E. Bought into it a few days ago, and now with more cash I’m maxing out the position.

The portfolio will be undergoing quite a few shifts the coming week, and a new (bolder) outlook after the break!

So some of you are probably wondering what the Initiative’s next moves are going to be. Well, long story short I’ve been trying to build a new market outlook since the last one played out and while it still has potential, I was agonizingly a week late on a lot of plays I would’ve loved to make. If anyone remembers, my original theory was centered around transportation and the number of bargains there were with an overdepressed BDI. Clearly, the shippers didn’t deserve to be punished as harshly as they were.

Thinking back on it, I probably should have weighted them in the portfolio more heavily, adding PRGN (Paragon Shipping) for example which would have been a nice compliment to DSX since it’s much more exposed to the spot market. Another example is where I dawdled about UNP (Union Pacific) as its price sank, and it slipped my mind (blaming midterms ) until the next thing I know, it’s surged considerably (helped obviously by Mr. Buffett) although that wasn’t the only impetus. So I think the original idea was solid, but my execution around it was only okay.

Well, the next moves are going to be a bit bolder, if only because the companies themselves are a bit riskier in the current climate. The theory is as follows: to find (preferably) niched companies whose input costs consist largely of USD-sensitive commodities and convert them to a consumer or “mandatory” corporate good. This has two aims. The first is a play on the USD. It’s weakened considerably, but at some point investors will realize the market’s recovered too quickly too fast largely by an overconsumption of risk. Dubai strengthens this point somewhat. The second is even simpler – based on fundamentals (as our own Prof. Roubini has been on air repeating) most commodities are far overpriced, oil in particular. Whether the market will bow to the fundamentals is another question, but the portfolio’s philosophy is not based on trying to predict how hundreds of traders will think over the next few months.

There are other aspects that go into it as well. Obviously the goal isn’t to pick up debt-riddled companies completely unhedged against commodities. But in a nutshell that’s the basic premise. Now for a quick portfolio update:

(Firstly I have to say, wonderful timing by Stern IT shutting down the servers. I was banging my head against the wall trying to execute trades the last day and a half)

Rebought into DSX, which I originally sold off after it hit my target price of $18. Day after it dropped like a rock. Thanks to Arvindh for making me determine an exit price to begin with

Rebought heavily into VXX after shedding 2/3rds of the position over the last 2 weeks. I was of a mind to drop it until late December since the market was moving up inexorably it seemed. But I’m certainly glad I didn’t.

Sold PDA (Brazil Foods). I think Avi asked last meeting, but it was a good question as to why I was still holding Brazil Foods. Especially since I voted pass. The reality was I didn’t have anywhere for the  cash to go in any event, so I kept it there.

Sold TNP (Tsakos). I’m not predicting great things for oil ahead (I’m going to regret these words), and it’s done above what I expected actually. Clearing up more cash for the upcoming purchases, and to give me a small respite in the number of companies to follow so I can focus more on looking into others.

Until next time! If/when/huh the MOT/VZ post ever comes. There was some mildly heated iPhone-Droid trash-talk going on tonight in this tiny neighborhood (surprisingly, I had no part in it) so it seems like it’s living up to its billing as a legitimate challenger.

First off: I sold out of BEP (S&P500 Covered Call Fund). I fully admit this ETF didn’t hedge downside in any way I expected. And by that I mean it didn’t hedge downside at all. If the market went up, it underperformed, if the market went down it underperformed. Very frustrating, because at least the way I looked at it it’s supposed to do well when it’s an uncertain, not too strong bull market (people want to buy calls, but don’t want to commit by buying stocks). Which has pretty much been the situation since it’s been in the portfolio.

Diana like I keep repeating is a company and stock I really love and barring some catastrophe will be in the portfolio at the end of the year. The main reason I sold out of it was a quasi-trading play, because the day after it rose to 16% on a day of extremely positive trading I was pretty sure some would cash out their gains. Hence, I sold it that night, DSX did indeed fall slightly the next day and I repurchased it at that price. It wasn’t value fare admittedly, but at this point any outperformance is valuable.

However, to quickly renumerate just how strong Diana is – it has a pristine balance sheet (23% leverage vs 90-150% for almost every other shipper), meaning even now it can raise debt very cheaply and easily. It has a substantial cash position, enough to straight out buy 4 more capesize vessels. But with 50/50 it easily has the ability to purchase up to 8 if necessary. On top of that, they have a 99.7% fleet utilization rate (only .2% dropoff from last year) and an average age of 5 years on its fleet meaning very low maintenance and upgrading costs moving forward. And it has a number of charters coming off in the next few months so they can take advantage of the surging BDI.

I’m also going to reiterate my confidence in ELON (Echelon) as a company that’s positioned to do extremely well because of the smart grid stimulus, and you won’t see me selling out of it permanently anytime soon. This is the other stock that I made trading plays on though which did quite well. I’m not sure if everyone knows this but us PMs are only allowed to buy/sell stocks after the market closes, so that’s why you won’t see more day-traderish moves from either of us. We can make day to day trades though.

And lastly, VXX. This is a trickier one to explain because you can look at it from different angles. My personal view is that the bullish momentum we’re in currently won’t last. And as soon as it begins to falter, implied volatility will spike. To give a quick overview of what that is, there’s historical volatility (trailing) and implied volatility (forward). CBOE’s VIX tracks implied volatility and is the index the VXX tries to emulate. While the VIX is definitely still higher than the norm if the norm is defined as 2+ years ago, I don’t think we’re out of the boat quite yet. And worth noting is that historical volatility has actually trended upwards slightly the past few months. So to answer Tom, yes this is a hedge against the current bull market faltering. It’s going along with the Initiative’s strategy of being as selective as possible with growth and value plays for upside (ELON, DSX) while using the rest of the portfolio more defensively.

As an aside for anyone who asks why I’m bearish holding nonexistent cash (like Avi did), the longer explanation is I think we PMs have an obligation to not just go after outperformance but to try to stimulate discussion. And while holding defensive names may not be that much more interesting, they at least have news attached to them. So for that reason despite not knowing Nicu’s rationale I like his recent moves. They’re exciting, and they express a view even if you may disagree with them. It’s that disagreement that makes IAG fun.

I sort of lazed this week, but for the future I’ll be doing portfolio updates on the day or day after trades are executed here, along with a midweek segment on news concerning companies in my portfolio and other random ones (I still have to write my MOT-VZ thoughts).

Everyone was buzzing about Buffett’s deal for Burlington Northern yesterday. Every financial newspaper rolled out the obligatory article with some variation of “is Burlington Northern worth this valuation?” or analyzing the cash/stock ratio of the deal. With all due respect, they’re missing the point. I don’t doubt that Buffett has a very good valuation of the company, and I’ve been bullish on transportation myself (obligatory tooting of my own horn). My question is why did Buffett choose Burlington Northern? It’s not the only railroad with a large rail system in the Midwest-West. In fact, of the 4 largest railroads (CSX, Union Pacific, BNI, NSC) you have an even split of CSX/NSC in the East and BNI/UNP in the West.

So I’m going to try to follow Buffett’s perspective here. First off, the Western two railroads have an inherent advantage of terrain. Why? The sheer amount of land they cover is much, much larger as well as touches the Gulf and Pacific. I’ll get into why that’s advantageous in a moment. If you’re not sure that it actually is larger, hark back to 3rd grade Social Studies when you learned about the Louisiana Purchase and subsequent land grabs. Alternatively, here’s a handy picture ripped straight from Union Pacific’s Annual Report.

Now you’re probably wondering why size of the territory matters. After all, isn’t it volume of freight that truly determines profitability and if there’s more activity going on in the East size can be a poor measure of strength. Indeed, it may even be a sign of weakness because more miles of track equals higher maintenance costs and higher expansion costs if they decide to lay down more track. True! However, I’m going on the hypothesis that Buffett, in his long-term perspective, is seeing deeper than that. What matters here isn’t volume or freight rates, but overall efficiency.

Right now we have a substantial volume of cargo shipped daily by long-haul trucks criss-crossing the United States burning gas and running people over when their drivers fall asleep. A quick look at freight’s energy efficiency, speed of delivery and cost of transport and it’s fairly clear that the nation’s long-distance cargo future is freight’s to lose. Trucking companies are already cutting rates to the bone to keep afloat, mainly because they’re overcrowded and exposed to oil fluctuations whereas freight isn’t exposed to much of anything. The chances of a new railroad laying down thousands of miles of track or a smaller one somehow raising the capital is minimal, but starting a trucking fleet is so easy ex-NFL players can do it (and have). But freight has a major disadvantage – lack of precision.

I mean, this guy could probably do it:

Click here to view the embedded video.

If you’re trying to ship something from St. Louis to NYC you’re not going to be able to do so only through rails. However, what you can do is ship it across rail to the nearest junction and offload it onto trucks for the remaining distance. Transportation companies refer to this as “Intermodal” delivery. Specifically, this refers to transportation that doesn’t require actual handling of the cargo between modes (meaning it can be offloaded from the train directly onto the truck). Why is this significant? Because Intermodal transportation is much, much more energy efficient and lower cost than pure trucking, plus is generally faster.

So now you’re probably wondering why all this is even relevant. What does it mean? Consider the advantage rail has over trucking. Mile for mile, rail is more efficient. That means over long distances rail has a distinct advantage. This is made more significant by the much vaster tract of land in the Western 2/3rds of the U.S. So here we can see that longer distances/larger area to cover = beneficial for rail. Again, rail does not have significant fluctuations in cost (unlike trucking) and can offer competitive rates without slashing to the bone. And the proverbial cherry on the top – because of rail’s greater energy efficiency it’s likely to benefit from any environmentally conscious legislation.

To add this all up now for Burlington Northern. Operating in the Western 2/3rds is definitely an advantage for BNI. Another reason which was very briefly touched on but is also a huge factor is International Intermodal provides a hefty chunk of revenue (ferrying from the Gulf to the Pacific and the reverse). That cuts out CSX and NSC, the Eastern freighters, unless Florida somehow increases 1000x in size. Between BNI and UNP, they’re very similar. They both ship roughly the same products (although there are slight differences) – however remember that Intermodal is currently the most efficient and cost-effective method of transporting bulk freight. And unsurprisingly, Burlington is significantly more invested in Intermodal transport (~28%-20%) than UNP which positions itself very well to take advantage of any surge in both International and Intra-Continental transportation (if you’re wondering what BNI ships significantly less of compared to UNP, it’s automobiles). Is this definitely his rationale? Who knows, but I certainly think it’s a strong argument for BNI and freight in general.

There you have it! The much-longer-than-I-meant-to-write post at 838 words, although technically 1838 if you count the picture as a thousand words and much more if you also tally up each frame of the video. Up next (week) will probably be an outlook on the Droid and how it will impact Motorola/Verizon. If you’re actually curious about how it matches up against the iPhone (fairly well), here’s a decently unbiased review although it barely scratches the surface of the Droid’s capabilities:

Click here to view the embedded video.