Oddball Stocks

Oddball Stocks

As a partial homage to Oddball Stocks the excellent blog by Nate Tobik. I’m going to go over the concept of oddball stocks as well as talk about one of my favorite oddball stocks and maybe one of my favorite articles from Nate Tobik.

An oddball stock is a stock which is unusual or discarded by the market. By some standards it could be called, “special situation” investing.

One great example that I recently encountered happens to be one that Nate Tobik has already written up (several years ago) called the Mills Music Trust ($MMTRS).

Mills Music Trust

This is a trust whose sole assets are royalties on certain pieces of music. All royalties are finite and several of the royalties the company owns are going to roll off within the next 10 years. Notably a couple classic Christmas tunes make up a substantial portion of the income of which both go out more than 20 years.

The royalties have gone down over the years as some royalties have rolled off into the public domain but many will remain for the next 30+ years. Many, or more, of the songs are classic jazz songs that could conceivably become less popular over the upcoming years. I can see the Christmas songs having similar or slightly improving royalties over the next 20-30+ years. So the main question in my eyes in terms of seeing if this is an attractive investment is to figure out what the Christmas song royalties minus general expenses are and seeing what sorts of distributions an investor can expect over the next 30 years. Leaving the rest of the royalties as a margin of safety.

Assuming the Christmas song royalties stay the same or go up and expenses related to Sony administrating these royalties within my estimate (guesstimate) of 5-10% of revenue then investors can expect about $1/share for the first 20 years. A $1 dividend on a $22 stock isn’t very awesome considering the value of this trust could be near worth close to zero in about 30 years. Of course this is fairly conservative and ignores more than 1000 other royalties royalties.

General expenses have risen from 50k to more than 200k in recent years perhaps as apart of lawsuit expenses related to a lawsuit filed by the trust against Sony. If trust expenses dropped to something more like 100k for then that would increase distributions by a little more than 33 cents a unit.

One area of interest is that the trust is claiming that Sony has underpaid the trust by around 500k (a significant sum compared to the 277k shares outstanding). Another area of interest is that the stock is owned 28% by Paul McCartney (yes that Paul McCartney). In fact, an employee of McCartney’s holding company is a trustee of the company. I assign about a zero percent chance of this but an interesting thought would be if McCartney (or his estate) buys out the rest of the trust. They could use 100% leverage given the high current ownership (McCartney would just roll over stock) and it would readily be supported by the top two or three royalties. He could theoretically pay more than $30 a unit using debt at 5% interest and actually make more money per year than he currently is (assuming the current rate of about 800k).

Overall I’d say the current price is a bit too high to get excited about the trust now but at more like $15-16/ unit it would be a bit more interesting.


Corporate Take-Unders


When I first started investing I would hear what at first sounds strange. An investor would be mad at the fact that he/she held stock in a company that was getting taken over. You own a company and suddenly it gets taken over at a substantial premium. What’s not to like?

The reason is sometimes a company is taken-under (as opposed to a take-over). This is a somewhat rare occurrence but has actually happened to me 4 times in the past year or so. This happens when a company is bought for a slight premium or less than the current market price. A prime factor for this happening is that the acquisition is heavily forecasted ahead of time. A current possible example is the case of Time Inc.

Another way to look at the take-under problem is when a company is being purchased at a fairly steep discount to a reasonable valuation. This may be the case with Forestar Group (a company I presently own and a great portion of the reasoning behind this article). Forestar Group owns 45% of a joint venture that owns water rights on 1.4m acres of land in Texas. This was valuable to frackers to the tune of $300/acre at one point in time. T-Boone Pickens sold some rights in Texas for about $488/acre. But it is now being thrown away in a sale to Starwood Capital where they are purchasing the stock of Forestar Group largely on the basis of the value of the land development division. The company also has approximately $250m in the bank and very little debt as well as several multi-family properties that could be worth 10s or 100s of millions of dollars.

An interesting fact about Forestar is that management recently enacted a rights preservation plan with the stated purpose of preventing NOLs from losing value (NOLs could potentially be taken away if ownership changes drastically). In hindsight this looks more like a tactic to prevent a white-knight from showing up for this acquisition. The rights preservation plan was strangely timed in the sense that it could have been implemented several years ago.

Appraisal Rights

A strategy for dealing with companies you own being low-balled is to exercise your appraisal rights. The company is appraised by a judicial proceeding or independent appraiser with the value then being conferred to the investor.

I have basically only heard about this process theoretically and have not done this myself but may in the future.

Further Phil Fisher


A recent interview link featuring the notoriously reclusive Phil Fisher was posted today by Ian Cassel, a fairly notorious investor in his own right. The link is to an October 1987 Forbes article where Phil Fisher made one of his only public appearances which I will also link below.

It discusses Phil Fisher’s strategy in some detail. One interesting aspect is that he would have a very few core positions, ones that he would load up on, and he would also have positions in companies that he is thinking about making core positions. He invested 65-68% in just four stocks of which he unmasks only two–Raychem and Motorola. He also stated he had about 20-25% cash and the balance was held in the potential investment category. This is a high level of concentration by most people’s standards but is in line with Charlie Munger, Warren Buffett and Joel Greenblatt to name a few.

Cash and investment ideas

The amount of cash in a portfolio is usually inversely related to the amount of investment ideas one has. Fisher had a large portion of his portfolio in cash mainly because of not being able to find good investments but also because of well founded macroeconomic concerns (did I mention that this article was dated October 19th, 1987???).

“I haven’t the faintest idea whether we are in 1927 or 1929. Some awfully bright, able, sound people were scared as hell in 1927. But the thing rolled on for two more years, and that may happen here. I don’t know.”

Date her before you marry her

Another interesting aspect is the tracker positions in several companies that he is thinking about making core positions. This is another somewhat unheard of investment approach. He wants to own and track these positions for a while before piling in.

Moat? What Moat?

When discussing one of his major investments, Motorola, to which he made several times his initial investment, he clarified the stock’s merits. All of his core investments were companies that were low-cost producers. They were also all number 1 in their fields. He later made the specific remark that Motorola’s chairman was an honest man who had significant farsightedness.

Bargain Hunter/Contrarian?

Fisher, interestingly, states he is waiting for some positions to pull back or for some issues to be less favored by the market. This is somewhat of a departure from what most people think of his investment style where he will by at any given price. It is fairly obvious that he is somewhat more price conscious than his book lets on.

An interest quote relating to being contrarian is as follows:

“Part of real success is not being a 100% contrarian. When people saw that the automobile was going to obsolete the old streetcar system in the cities, some decided that since nobody would want streetcar stocks, they’d buy them. That is ridiculous. But being able to tell the fallacy in an accepted way of doing things, that’s one of the elements in the investment business of big success.”

Graham vs. Fisher II

Fisher addresses the differences in the Graham and Fisher. Fisher states that Grahams approach was to find things so cheap that it would be extremely difficult to lose money. Fisher states that his approach is better because one can make substantially more money per dollar invested in his approach. He also hits at the idea of Graham’s style being so formulaic that the returns will likely be competed away.

Safety Advantages of Growth Stocks

During historical times of distress in a nation’s history such as war, hyperinflation or depression some of the best run companies still made decent head ways. Fisher states that many of the great companies of France and Germany during early to mid parts of the last century lost significantly less value than lesser competitors. During the great recession some of the major companies of today’s market continued to perform well (not in stock price but in a fundamental sense) and bounced back appreciable faster than the typical issue.




Link to Article Below:

What we can learn from Phil Fisher



Strategies for the Long Term Investor

Long Term Investors

Investing for the long term is extremely difficult for most people. There is an enormous tendency towards action on the part of most investors when most people should be sitting on their hands.

Many successful investors have followed an approach called the coffee can approach. This story emanates from the 1950’s and comes from an investment manager who had a client whose husband died suddenly. The wife had then transferred the husbands portfolio over for the investment manager to begin to manage. The manager was shocked! He found that the husband had basically stolen the managers ideas in the stock market but had never heeded the sell recommendations. The husband had put $5,000 into every recommendation the manager had suggested. This produced many losers with more than half of the $5,000 he put into numerous stocks being lost. But also the portfolio had many enormous winners with one in particular (an investment in Xerox corp) being worth more than 800k. The husband’s portfolio upon his death was worth substantially more than his wife’s. With the Xerox position being worth more than her entire portfolio.

This type of strategy lines up well with that of the investing style of Phil Fisher. His book Common Stock and Uncommon Profits is ranked in the top 5 of best investing books of all time. He was one of the most vocal supporters of long term investing and was an astoundingly successful investor in his own right.

Fisher’s Common Stock and Uncommon Profit set out as somewhat of a counterpoint to the work of Benjamin Graham (and his famous books Security Analysis and the Intelligent Investor). Fisher emphasized investing in a select few truly great companies with high profit margins, above average sales growth, excellent management with unquestionable integrity and a long term outlook. Whereas Graham would invest in predominantly extremely cheap securities with sometimes terminal businesses. Fisher eschewed selling stock ever unless he felt he had made a mistake of had better use of funds. Fisher would not sell stock even if the stock had gotten temporarily overvalued because of transactional costs/taxes and also because getting back in at significantly lower prices is often very difficult in most market environments. If a stock didn’t move after a certain period of time or it became fairly valued Ben Graham would sell it. Fisher stuck to very few meticulously research names that could be absolute bonanzas to the investor. He wrote that for every one stock he purchased he may have considered/investigated 250 companies and focused exclusively on common stock. Graham had an extremely diversified portfolio which included bonds and preferred stock. Graham would purchase control/activist situations, mergers/special situations as well as traditional value investments whereas Fisher was content to be a passive investor and eschewed shorter term strategies such as merger arbitrage. Graham purchased stock based on quantitative factors almost exclusively stating, for instance, that one shouldn’t double count management’s ability in a company. Fisher focused mostly on qualitative factors. Graham never met with management. Fisher would not only meet with management but would also call major customers, suppliers and lower level employees as apart of his so called, “scuttlebutt” research.

A Few Strategies and Observations From Successful Long Term Investors

  • Many long term investors will often state that they wish that they had totally ignored every macro-economic forecast that they had come across. The author of 100-1 in the stock market, Thomas Phelps, stated that fears of a recession that never came (or if it did it didn’t last long enough to buy back in at a lower price) as a recurring mistake that he made. His research indicated that if you bought one of several leading companies at its highest price right before the great recession you would have still made 100x your money in many names.
  • Although investing in popular companies such as Apple, Google and Facebook has been well rewarded in the past, the companies that will make the highest returns in the future are companies that are currently small that will become large. A question to ask yourself may be, “can this company’s earnings and revenue grow to be significantly larger than today?”
  • Although Phil Fisher invested mostly in technology companies it is not necessary to invest in these types of companies in order to make 100x your money. Mundane or neglected companies can also be great compounders of wealth.  http://secretsofcompoundinterest.com/compound-interest-100xers/
  • Companies such as banks, insurance companies and utilities can all be extraordinary investments despite being in industries that aren’t exactly growth industries.
  • Many of these companies have defensible positions often called a moat. A company with a moat but without great re-investment opportunities must buy back shares or issue large dividends.
  • Some investments in companies that look expensive on normal metrics may be permissible if the growth rates are high or if growth persists for an exceptionally long period of time.
  • Investing in a select few thoroughly researched companies is much better than investing in a widely diversified portfolio. Especially if you are purchasing securities regardless of their fundamentals and exclusively for diversification purposes.

Long Term of Short Term?

Should an investor invest long term in growth stocks like Phil Fisher or in the shorter term in special situation-type investments. It is my suggestion that the intelligent investor should be open-minded and invest in strategies and in securities as current market dictates. This mostly stems from the fact that in investing there are really no hard and fast rules that will work consistently year after year. Psychologically it may help an investor to stay invested in his/her longer term investments if they have special situations to invest in. Diversification of investment duration may work well for most investors. If the market is priced at the higher end, as it is today, it is understandable to invest more and more in special situations. The opposite is also true: if the market is priced extremely low it is usually a good idea to start looking for investments in high quality enterprises that promise meaningful earnings growth. One should simply distill an investment into its anticipated after-tax annualized returns and compare that to its risks regardless of strategy.

Compound Interest and 100xers

“Compound interest is the 8th wonder of the world.” – Einstein

Compound Interest

In school many of us are taught the story of an ancient king who tells everyone passing through his kingdom that he will grant them any reward they wish if they beat him in a game of chess. One traveler states that he will play the king only if the reward is such that there will be a grain of rice placed on the first square of the chessboard and doubled every square. The King scoffs thinking that the traveler is foolish for wanting a few grains of rice over the gold that the King possessed. The traveler eventually wins and to the King’s surprise the traveler is owed an extravagant sum worth more than the entire Kingdom.

Rice exponential growth

Eventually the grains totaled (2^64) 18,446,744,073,709,551,616. This is the power of compounding!

A cool video put together by Mohnish Pabrai that explains compounding: Einstein: Compounding is the 8th wonder of the world.

Real Life Compounders

That level of return mentioned in the story is almost non-existent in all but a few investments in some of the most successful companies. What most people think about when they think about compounders are the major tech companies. Many people are familiar with (at least the dramatized version of) early investors in Facebook. Investing in Facebook at that time looked a lot like the chessboard up to the 15th space. The annualized returns are literally 100% for the past 13 years. Seed investors/ angel investors in Facebook could have made 12,000x their investment if they held on to today. Early investors in Google, such as Amazon.com founder Jeff Bezos, have returned 75% per year for 18 years (if they held on for that long).

This is the type of investment that most people starting out in the world of investing usually try to focus on and it has undeniably been a good approach for the investors who picked up shares of Google or Amazon.com at the IPO price and stuffed the stock away. But many if not most venture capital backed startups are either priced too high (giving early investors the majority of the returns) or a crappy company or both. GoPro and quite a few others are in this category. In fact if a company IPOs it may be a sign that the company is expecting to face increased competition in the future or other similar threats.

Many of the highest gains for public market investors are often not in tech companies. Instead they can often be found in the mundane and in deeply neglected securities.


Mastercard, not quite the hot tech IPO, has also been riding the wave of the internet. It’s returns since it’s would have left you better off than being an investor in Google’s IPO even though it was 2 years later. That’s right! If an investor literally held funds in cash for 2 years after the IPO of Google and then invested those funds into Mastercard you would have 71% more money. Not to mention getting a dividend of 20% on the original IPO investment price.

A $50 investment in a mundane railroad company called Kansas City Southern in 1949 would be worth at current prices about $1.6m. You’d also be receiving $23,680 in dividends on your $50 investment. The company was somewhat of a conglomerate but the company completed numerous spin-offs of companies including Janus Capital and DST systems.

The Kansas City Southern example is of course taken over quite a longer period of time. But the investment was available to the general public. Many of the most promising new companies are only available to a select few investors.

It is important to note that the current market capitalizations of Google, Apple and Amazon.com necessarily force the companies down to earth in terms of returns that can be expected going forward. Apple’s market cap is equal to 3-4% of total u.s. GDP. It’s certainly possible to get to a higher total market cap. But how much higher?


Bankruptcies are taken as a terrible sign for all investors in every security involved with a company that has gone bankrupt. And for the most part that’s true. But in select situations an investment in the common stock of a bankrupt entity can lead to astronomical returns.

General Growth Properties

The most well-known investment in the common stock of a bankruptcy is probably Bill Ackman’s invesment General Growth Properties. The short story on General Growth (GGP) is that the company was never insolvent but simply could not refinance debt because credit all around the country had seized up. So they had to file for chapter 11. An orderly liquidation would have netted the company a large amount of proceeds over and above the stock price during the bankruptcy (somewhere north of $2 billion if the company took their time). But the company was worth more as a going concern. Shares could have been bought during bankruptcy for as low as $.33 and definitely for less than $1 for extended periods of time. During the bankruptcy process the economy improved and new shares were issued to help eliminate the liquidity crisis the company had experienced. GGP spun-off Howard Hughes Corp which is worth currently $11.5/ GGP share. Another Spin-off called Rouse Properties was recently acquired by Brookfield Asset Management for $.68/pre-spin-off share of GGP. So with just these two spin-offs alone you might have made 24x your money from a purchase price of $.5. General Growth Properties is now trading for $24.25. So the total return before diviends is around 72.86x in a little under 8 years. Compounded annually that is about 70% per year.

American Airlines AAMRQ

American Airlines was different than many bankruptcies in that they were bought out of bankruptcy as part of the bankruptcy process. They were bought out by U.S. Airways. It would have been possible to invest in the stock at a fair price before and after U.S. Airways stated their interest in buying American. U.S. Airways had previously bought an airline out of bankruptcy so that may have indicated a speculative position in the $.3 range. After the deal was announced shares could have been picked up for around $1. Right before shares of the old American airlines were exchange for .744 shares of American Airlines group (shares were handed out over a period of 1-2 years not all at once like a usual merger) the price was $10-11 dollars.

AAL is currently trading at ~$45 and so an investor in AAMRQ would have received $33.71 pre-merger in the buyout if they held until today. So obviously an investor at the lows would have made 100x their money in less than 4 years. But also an investor at the inception of the agreement between the two companies would have resulted in 33x return from the buyout. Finally an investor just before the merger would have a 3x return.

As apart of a student organization for stock picking a student brought up the investment idea for AAMRQ. A professor overseeing the organization immediately shot down the idea. “All bankruptcies wipe out the common stock,” the professor said.

The lessons of this story for me was that you shouldn’t dismiss ANYTHING out of hand and to keep an open mind. The most important thing is not to blindly follow anyone’s advice. Another key lesson from the larger post is the importance of holding onto a stock for long periods of time.   Very few stocks will make you vast sums of money in a very short period of time. But quite a few stocks will make you vast sums of money in a very long period of time.




Buffett’s three categories of Investments


Warren Buffett, in his early partnership days, referenced three buckets that he invested in:

  • Generals
  • Work-outs
  • Control Situations

These categories are not necessarily mutually exclusive and often a general might turn into a control situation etc. No category is intrinsically more risky than another but they all contain different types of risks. He let the current markets decide which categories he would emphasize.


Generals refer to generally undervalued companies. These companies didn’t have a catalyst to realize value. This category included both high-quality companies such as the infamous American Express investment and in Disney as well as lesser known cigar-butt-style investments in generally undervalued companies like Western Insurance (technically invested in when Buffett worked for Graham-Newman). Investments such as these often allowed for greater absolute returns than in the workouts category but have higher correlation with the overall market than workouts. These were initially mostly qualitative Graham style net-nets and other similar style investments but later evolved more and more into qualitative style investments. An increase in the size of Buffett’s portfolio and a decrease in obvious shooting dead fish in a barrel investments such as net-nets also helped him to change his ways. Buffett didn’t mention many


Workouts, probably more often referred to as special situations or risk arbitrage nowadays, are situations where a return and time frame are knowable ahead of time. This can be a liquidation, merger, tender offer, spin-off or other complex transactions.

In the 1965 partnership letter Buffett described workouts as:

He had invested in numerous merger arbitrage situations, notably using quite a bit of leverage going so far as to say that, “borrowed money is appropriate in most workout situations.” One area of particular interest during his partnership years was merger arbitrage between Oil and Gas companies. It could have been a sign of the times but also it could have been related to how few holdups there are in O&G mergers. There are/were no unions, trade creditors, regulatory issues etc in any small O&G company getting bought out. Buffett would buy any of the securities of a company if so was warranted, not just the common stock. In the example of Texas National Petroleum he purchased debentures, common stock and warrants making 20%+ annualized returns.

One infamous example, (also from Buffett’s Graham-Newman days) was a split-off transaction involving Rock-wood Cocoa where one could exchange shares of stock priced at $34 for warehouse certificates for Cocoa worth $36 for a profit of $2. Graham instructed Buffett to pursue the arbitrage situation selling the certificates using the futures market. Buffett however, for his personal account, simply bought and held the shares anticipating that because so many other investors were tendering their shares that the reduced amount of shares outstanding would increase the net asset value per share dramatically. Say if Rock-Wood Cocoa had $50/share in net asset value (NAV) before the tender offer and 70% of shareholders accepted the tender offer then the NAV would jump to ~$82.

Control Situations

Control situations are Buffett’s main investment category these days. Back in the partnership days he saw control situations as a way to reduce risk in his portfolio. But also noted that mark to market returns of control situations could often drag behind bluechip stocks of the day.

Many people would perhaps attempt to split control situations into proper control situations and into activist situations. Buffett did a little of both. Ben Graham, Buffett’s investment hero, also did quite a bit of both.

Graham had been the major control investor in Geico, until he was forced to spin-off the company to Graham-Newman shareholders (from Graham initial purchase price to its high price during his lifetime was 605x). Graham had potentially numerous control positions but not many are well known to this day. Graham controlled a company called Philadelphia and Reading Coal & Iron company which he had used to purchase another company (later Philadelphia and Reading would be managed by Howard Newman the son of Ben Graham’s partner Jerry Newman).  Graham was an activist in several Rockefeller pipeline companies. In these situations the pipeline companies often had excess investments worth more than the entire market caps of the companies. One company called Northern Pipe Line, had investments worth $95 and the stock was trading for $65. Graham tried to persuade management and when he failed to do so initiated a proxy contest. After a protracted period he was able to persuade investors even the great Rockefeller himself to vote management to distribute excess funds. Rockefeller later instructed many of his other pipe line assets and likewise companies to distribute excess funds.

A very similar situation to the Northern Pipe Line was Buffett’s investment in Sanborn Maps. The stock was selling for $45 a share but had $65 a share in investments. He eventually succeeded in having the company payout (through a tender offer) a significant portion of the cash and investments in-kind making a more than 20% per year for the two year investment.

Buffett later went on into Dempster Mills and Berkshire Hathaway as more of a builder than a liquidator. Although he did partially liquidate both companies he did not do a wholesale tear-down of either company. Dempster mills helped to change Buffett. After the Dempster Mills experience he was less interested in investing in cigar butts and more interested in great companies at fair prices. A similar experience with Carl Icahn in his investment in Dan River has never deterred him from investing in cigar butts. Buffett had control investments through many vehicles including top level vehicles of Berkshire Hathaway, Diversified Retailing Company and Blue-chip Stamps. A list of his many vehicles is as follows:

Blue Chip Subsidiaries.png

He would later simplify these vehicles into ownership under Berkshire Hathaway.

As we can see from the foregoing post Buffett’s tactics were close approximations of Ben Graham’s strategies. Even in the field of control/activist investments Buffett initially mimicked Graham. Buffett later made a few twists such as having a way less diversified portfolio as well as buying higher quality businesses.

Links and sources:

Alice Schroeder’s book about Buffett, The Snowball, is definitely my favorite Buffett biography.

Dear Chairman, also a fantastic book, Has excellent details about the fight Graham had with Northern Pipe Line Company as well as several other prominent activist campaigns.

Link to all Buffett Partnership Letters: http://www.rbcpa.com/WEB_letters/WEB_Letters_pre_berkshire.html

Link to a free copy (kindle version only) of Benjamin Graham the Father of Financial Analysis an excellent and brief biography with input from the late great Irving Kahn: https://www.amazon.com/Benjamin-Graham-Father-Financial-Analysis-ebook/dp/B0055OC50Y



Closed-end fund Liquidations

Closed-end fund liquidations

Closed-end fund liquidations and similar actions can be a fairly attractive opportunity for most investors. This is where a closed-end fund decides to go out of business and sells all of the securities the company owned and sends the proceeds back to the investor in the fund while also canceling the stock of the fund. Alternatively a way for a closed-end fund to eliminate the discount a fund trades at is to convert the fund from a closed-end fund to an open-end fund or an ETF.

There are currently a few opportunities such as $KEF and $JFC that offer decent returns with low correlation to the U.S. stock market because they both have foreign emphasis. Both funds have announced their intention to liquidate but both funds have to have votes on the matter. $KEF is a Korean focused firm and $JFC is a regional china focused firm with holdings in the mainland, Singapore, Hong Kong and Taiwan. Both of these opportunities can be bought at ~5% discounts to the net asset value of the funds. On an annualized basis the returns from liquidation are 10-30% if the underlying assets remain the same as today.

If there were specific dates as to when the liquidation would occur in either case the discount would probably be in the 2% or less range for a month or less. An investor such as myself would probably not require a giant hurdle rate to invest in liquidations of all types but I think my required rate of return is at a minimum 12-15%. So an investment in a company trading at a 1% discount that requires a 2 month investment is probably not in the cards for me but I can see the interest for different investors.

The major risk is an overall dislocation in the various geographies the funds cover. Is say a 5% correction possible in either market within 2-5 months? The answer is in the affirmative. Many funds will take the additional step to hedge out the underlying assets to eliminate said market swings. I usually do not hedge because it’s expensive and it can cause one a great deal of damage under certain low probability, high hazard scenarios.

Pre-liquidation announcement opportunities

A possibility at higher returns can be had through an investment in funds that are currently being attacked by activists. Some of the usual suspects in such activist attacks are: Bulldog Investors, City of London Investment Group, Saba Capital Management, Karpus management as well as a few others. Usually at this point the returns are slightly higher than the 5% or lower “after liquidation announcement,”-type returns. Maybe the discount to NAV is in the 7-10% range.

Third Level Thinking on Activist situations

A third level of thinking on closed-end fund activists is just to buy a poorly defended closed- end fund trading at a mid-teens + discount to it’s NAV. There are probably more closed-end fund activists in the current markets then there ever have been. There is an increased prospect of activists swooping in on highly juicy yields to the benefit of coat-tail riders. The risk is that you are likely buying into funds that either have terrible management or terrible management fees (or both) and no activist takes notice. If successful returns in this arena can be much higher but there is greater uncertainty (not risk but uncertainty).

Unusual characteristics of an Investment in closed-end fund liquidations

Some things to think about with an investment in this asset class. Unlike in regular investing, variance in stock prices of the underlying securities matters quite a bit because the only valuation input into an investment in a widely diversified closed-end fund that makes sense is the actual trading value of each security added up.

The underlying assets as a whole must be glanced at for their overall risk. On average bonds are a “safer” investment than stocks. This was certainly true before the financial crisis. Now however most bonds are probably quite risky from the perspective of short-term investors (which in the case of closed-end fund liquidations we would be). Closed-end bond funds during most time periods would be considered like-wise less risky (certainly in the price-heavy academic sense). Certain funds in emerging markets would be considered more risky, all else equal, than their developed market counterparts. Etc Etc. There is a lot more short-term risks than long-term investors are usually accustomed to in this field of investment.

Many Closed-end Funds have strong income components. Some funds in liquidation/being engaged by activists have high single digit dividend yields. This allows an investor to shift focus away from the time component of the investment. An investor in a liquidation situation where a fund pays no interim dividend that trades at a discount of 5% would need the fund to liquidate in 5 months in order to achieve a 12% rate of return whereas an investor in a fund that also trades at a 5% discount but pays a dividend of 6% per year could hold the position for 10 months and still achieve a similar annualized return.

The Five Elements of Value

Many people will say that they are either Value Investors or Growth Investors. Many of the greatest investors are both (and in a sense they are two sides of the same coin). Being a great investor often involves changing a winning game. What has worked in investing in the recent past will not necessarily work in the future. So it may be important (especially for very large investors) to reevaluate strategies.

Where I differ from many investors is that I consider Margins of Safety to be more than just a discounted purchase price. I like to incorporate all the ways that an investor can reduce risk and increase returns into my investment strategy. There are five Elements of Value that I have identified. The more elements of value the better off the investor is. No one element is necessarily better than the other.

When investing in companies there are Five Elements of Value or five ways to establish Margins of Safety:

  • Cheapness

  • Growth

  • Quality

  • Control

  • Catalysts/Liquidity


This, along with growth, is one of the easiest ways to conceptually think about reducing risk. Buying a company at 2x earnings is way less risky than buying a company at 20x earnings almost regardless of growth. If you purchased an entire company at 2x earnings the per year returns assuming no growth would be 50% on the investment. If you purchased an entire company at 20x eanings the company would need to grow earnings by 1000% in the first year in order to equal the returns for the company bought at 2x which for all but a handful of companies is impossible. Of course in the long term if the company bought at 20x earnings continues to grow the returns may eventually be larger than the company bought at 2x earnings.


Buy a company and get the growth for free. A company that sums up this strategy fairly well is Alphabet. You could have bought the company in the recent past at prices that approximate the value of the company’s search division alone and got all the other “moonshots” for free.

Growth investing is probably the area where most new investors swarm to when they first start investing. It can be a very difficult path to follow with many investments in this category often becoming massive losers (depending on the strategy). A key to the more aggressive growth approach is to diversify more heavily than one would a regular portfolio so that the losers are more than taken care of by the winners. For the growth category it is also important to have the potential for astronomical returns. In other words whereas in the typical investment in value might require a 20-50% margin of safety an investment in a growth investment may require that the company has the potential to become 10-100x larger as a company.

Another way to reduce risk in this category would be to focus only on higher quality investments.


Quality means many things to many people. It could mean the quality of a companies balance sheet or it could be the moat and defensive characteristics of a security. In the bond realm it is the creditworthiness of the issue. In the stock market it may be the makeup of the companies underlying assets such as a great brand or the location of owned real estate. The highest quality asset of a company to the deep value investor is cash. The highest quality asset to a growth investor is something that gives the company a competitive advantage.

A company that has a return on invested capital of 20% and can maintain that for a period of 20 years is much better than a company with a return on capital of 10% for the same period of time. Even if the purchase price is substantially less for the company with lower Returns on Capital the company that has the higher return will eventually be a better investment in the long run.

A quality company may be able to grow or at least hold ground during a recession. Certain quality companies even welcome a recession so that they can take advantage of former competitors that are in a weakened position.


Control is a fairly apparent way to achieve safety in an investment. The trouble is outside of real estate or startup businesses most people will never exercise this element of value. An activist investor with a large enough stake can effectively reduce his or her risk by attempting to influence the companies board of directors. If an activist buys into a turnaround situation and the company fails to perform the activist can change management or even sell the company.

Another aspect of control is that if an appropriate management team is in charge then the investment may have additional aspects of safety. For example Buffett has put in place a policy to purchase Berkshire stock if the stock runs under a certain multiple of book value. If one were to purchase stock slightly above that multiple then the downside is effectively limited by a put option. If an outstanding CEO/capital allocator steps into a dire situation at a struggling company then there is an added level of safety to the investment over a crappy CEO/capital allocator.


Catalysts are important to any investment. They are particularly important, however, to investments in bargain issues. Catalysts can be anything from an up-listing to spin-offs and mergers to liquidations.

Liquidity is meant to account for how quickly you can get out of an investment but also how quickly an investment is returned. If you invest in a merger arbitrage deal you should account for how quickly you can get your money back. Obviously a 5% return in 1 month is better than a 20% return in one year and in a sense less risky because money will be returned to you more quickly.

Illiquid investments are often referred to negatively. But most of the time illiquidity is more than made up for with a lower stock or bond price. If the returns are the same for both an illiquid and a liquid investment then one should obviously choose the liquid investment but that is seldom ever the case when comparing very similar situations.

Private business ownership is a different story. I have heard many stories of people running into trouble and not being able to save their businesses or sell them before they went under. Private business ownership is probably not more inherently risky than owning a smaller piece of a similar publicly traded company BUT they do have different risks. Illiquidity discounts can be more than made up for with control premiums.

There is no Magic Formula in investing or Business (other than THE Magic Formula)

There is no magic formula to investing or anything. That being said, there are a few guidelines that (much like bumpers on a bowling lane) can save you from going into the gutter. These guidelines aren’t 100% guarantees but will definitely put the odds in your favor.

First a note to new investors: When first starting out in investing it’s important to decide how active or passive you want to be in your investing endeavors. If you are going to actively pick stocks/investments you should know that this will take up at least a couple hours a week and may not result in you performing as well as you could by investing in a low cost index fund. The passive approach is usually an allocation approach where you or your adviser (which may or may not be a robot) decides on a breakdown between stocks or bonds and re-balances on a regular schedule. The active approach is one where the investor seeks out individual investments based on their own merit. The passive approach takes all investments given a simple criteria and buys them all. Even if they are dogs with fleas! Passive investors usually choose the S&P 500 but a more favorable category given the historical out-performance would most likely be a small cap-value ETF with sufficient diversification.

When first starting out in investing, rather than going through the specific details of what makes an investment a good deal in today’s market, it’s easier to look at individual characteristics of investments that have done well in the past.

So, what has worked in investing?

In the stock market it is Value stocks, Small Capitalization/illiquidity, certain special situations, Insider purchases or company buybacks and in a smaller subset of investments large earnings growth and high quality.

Growth Vs. Value

Low price/(earnings, assets, cash flow) investments are usually called value investments whereas low dividend yields and high price to earnings etc. are usually called popular or growth investments. Growth stocks may or may not also be associated with high returns on invested capital (ROIC) and high returns on equity (ROE) whereas value stocks may be low in regards to both categories. (Value stocks may have a low ROE simply because they have a lot of excess capital). There are many sub-styles of value investing where investors may or may not be concerned with a company being of high quality or not. Quality investing can be defined separately as investing in companies that are high ROE and ROIC or have large economic moats that competitors may find hard to penetrate.

On average and over long periods of time: value stocks perform better than growth stocks. The following chart sums this up fairly well.

Annual Returns S&P 500 Large Cap Growth Large Cap Value Small Cap Growth Small Cap Value
1992 7.62 5.94 11.12 7.84 23.42
1993 10.08 6.77 15.67 15.62 19.92
1994 1.32 0.9 -0.9 -2.06 -1.13
1995 37.58 36.05 35.8 33.77 23.58
1996 22.96 21.84 21.36 14.16 20.8
1997 33.36 29.04 31.83 12.09 30.3
1998 28.58 37.59 16.94 1.1 -6.58
1999 21.04 33.99 9.07 52.13 0.2
2000 -9.1 -21.05 4.48 -15.34 19.47
2001 -11.89 -22.15 -7.09 -11.1 15.61
2002 -22.1 -28 -17.6 -28.95 -11.32
2003 28.68 28.36 29.02 46.66 46.78
2004 10.88 6.88 14.25 12.55 21.45
2005 4.91 6.42 6.66 4.75 6.08
2006 15.79 6.9 20.27 12 20.31
2007 5.49 13.39 1.15 8.37 -7.18
2008 -37 -39.92 -36.93 -40.58 -30.87
2009 26.46 37.86 22.33 36.25 26.79
2010 15.06 15.92 14.27 27.59 25.12
2011 2.11 -0.13 -0.89 -3.16 -5.16
2012 16 15.59 16.69 14.77 16.81
2013 32.39 34.45 32.88 42.15 34.89
2014 13.69 11.69 12.23 3.79 3.63
2015 1.38 5.64 -3.74 -1.27 -7.32
2016 11.96 16.47 25.59 27.97 40.33
Average 10.690 10.418 10.978 10.844 13.037

So for the past 25 years large cap value has outperformed the S&P 500 (the standard passive investment vehicle for investors) by a measly couple hundred basis points. Whereas value has outperformed by 2 and 1/2 percent. It’s interesting to note that growth stocks on average have under-performed by a couple hundred basis points. During certain time periods, however, growth outperformed, for instance, the several years before the dot-com bust. All of these funds re-balance each year so that the constituents of the value or growth portfolios are not necessarily the same as they were the year before.

As unbelievable as it sounds. There are many companies available for sale in the stock market that are so cheap that their cash minus all of their liabilities is higher than the market capitalization of the company. For example a company may have $105m in cash and 5m in total liabilities with 50m shares outstanding. The company would have net cash of $2/share but the stock may trade for only $1. If the company makes money and is expected to into the future then the investment is a safe and cheap investment.

Many of the best individual stock investments of all time are companies that could be placed in the growth category. It would be hard to make 100x on your money from many deep value investments. To paraphrase famous Warren Buffett sidekick Charlie Munger: when you invest in a company that has a return on capital of 6% for 40 years you can’t expect to make much more than 6% a year. In other words in the short run it is very shrewd to hold onto value stocks but in the long run it probably isn’t. This brings up the issue with individual value stocks is that they can become value traps. If a company is worth $10 but never grows in value an investor that purchases the stock at $5 wouldn’t earn a decent return at all if the stock takes 20 years to realize the $10 value.

This is where THE Magic Formula comes in. The Magic Formula is a construct of Joel Greenblatt, an investor who has one of the best long term track records of all time. Taking notes from Warren Buffett’s investing style the screener attempts to find value stocks that are also high quality. The magic formula finds 30 companies ranked by the lowest earnings yield (defined as EBIT/Enterprise value) and highest returns on capital (defined as net fixed assets + working capital). The Magic Formula outperforms the market in most time periods studied. The interesting things is that, also in most periods, the Magic Formula itself under-performs just the simple earnings yield criterion by itself. This realization was tackled by Tobias Carlisle in his book, “Deep Value.”

Small Capitalization/Illiquidity

As we can also see from the previous chart. Small cap stocks of any variety usually outperform larger cap stocks. The reasons for this may be institutional to the fund management business. A fund manager with a $10b with 100 1% positions would invest $100m in each position. They can’t easily invest in many companies under $1b in market cap because they would own over 10% or more of a company which would limit the managers liquidity.

Illiquidity in and of itself is a great portender to returns solely because many investors psychologically are uninterested in being tangled up in an investment which they can’t sell at a moments notice. To longer term investors this is of no concern, particularly if the investment is a purchase at what may be considered well below what the Private Market Value of the company is. Another way to think about how irrationally the dislike of illiquidity is is that if something terrible bad happens to the company no matter if the company is illiquid or not the stock will drop.

Special Situations

This is somewhat of a catchall category that includes (and is not limited to) the following investments situations:

  • Merger Arbitrage
    • Standard Merger Arbitrage
    • Premergers
    • Bidding Wars
    • Appraisals
  • Spin-offs
  • Rights Offerings
  • Liquidations
  • Mutual Conversions

Merger Arbitrage occurs after a merger is announced between 2 (or occasionally more) companies. Mergers can be for cash, stock in the acquiring company or other securities of the acquiring company. The returns from this style of investment are usually small on an actual basis but since the investment is not tied up for a long period of time the annual returns may be substantially higher. If a merger is announced and the indicated return is 5% in 1 month then the annual return on that investment is nearly 80% on a compound basis.

Premergers are similar to merger arbitrage but they occur before a definitive agreement is in place. Premergers often times have an activist on-board of the company agitating to have the company sold at a premium.

Bidding Wars are among the best investment opportunities available in all of the markets. These occur when there are multiple acquirers that have made their intentions public. Occasionally astronomical returns can be made in very short periods of time.

Appraisal Arbitrage occurs when investors believe that the acquiring company of the investor is buying the target company for way below fair value. Investors in the target company can sue (or threaten to sue) in order to receive a greater return. Investors have occasionally been able to reap substantial returns from this strategy but investors have in very few cases actually received a lower price than the original merger price.

Spin-offs occur when a company with multiple divisions decides to simplify it’s business. A company will dividend stock in a subsidiary company so that the owner of the parent company will end up owning two different stocks at the end of the transaction. There are many angles to think about with this category which I will outline in other posts.

Rights offerings. A rights offering is when a company raises money from current shareholders of the stock. Rights offerings are particularly powerful when a company is in deep financial distress and the proceeds of the rights offering are used to pay off indebtedness.

Liquidations occur when a company decides to distribute assets to shareholders. The company may sell divisions or individual salable assets and then pay out dividends to investors. This is a particularly under-followed area of investing.

Mutual Conversions are a great opportunity for the current investment landscape. Mutual companies are companies which are owned by customers or suppliers. Most mutual conversion candidates are either insurance or bank concerns. The key about mutual conversions is that there are currently no stockholders of the company so when the company decides to IPO the proceeds go directly to the company and not to a third party. If a company IPOs at $10/ share you essentially get your $10 back and buy the company for free (minus a few investment banking fees). The initial opportunity to get in before the IPO is not often available for the outside investor. But the outside investor can take advantage of the fact that 70% of Mutual companies are eventually taken over at substantial premiums after consummation of a 3 year moratorium as required by law. This tied into the fact that banking concerns are already in the focus of the private markets only adds to the appeal.

Insider Purchases/Buybacks

Large insider purchases are an obvious indicator that an investment is cheap or it is a “tell” that a transaction may be undertaken in the future. The most recent newsworthy example of this was Jamie Dimon’s multi-million dollar purchase of JP Morgan stock during a lull in the early months of 2016. An investor following Dimon’s move would have made a ~50% return in a short amount of time.

Buybacks CAN also be a great indicator of future returns. In aggregate most companies make terrible capital allocation mistakes but a select few managers have delivered ginormous return through well-timed share buybacks. John Malone being perhaps one of the best users of this particular capital allocation tool. Several of the companies that Malone controls have bought back more than 30% of their stock in the past 10 years. An investment in Malone’s TCI corp and later various Liberty Media vehicles would have outperformed Buffett’s Berkshire Hathaway by more than 5-10% per year.

Buybacks can also be a signal in so called “mop-up” situations. A mop-up situation is where a company owns a significant portion of a publicly traded company say 89%. A company may announce a buyback of 1% in order to conduct a short-form merger. A past example of this activity was American Independence Holdings which was majority owned by Independence Holding. They initiated a tender offer which foretold an eventual take out at a price several times the going rate of the initial tender offer.

This about wraps up the preliminary post. In the future I’m going to elaborate more on the concepts mentioned above as well as write about investing in specific stocks, real estate, starting businesses and overall on the skills and knowledge necessary to become rich.