The Third Pig: Risk Archives

March 24, 2009

"Rich Dad" Article At Bizzia

Tisa Silver over at Bizzia noticed a post I did a while back regarding Robert Kiyosaki and his questionable math skills. She republished the article there and gave her own take on it as well. That article underscores why investors should always question, always investigate and always think for themselves.

Check out some of Tisa's other stuff as well here, here and here.

Below is an exerpt from the original post I wrote:

Dear Robert Kiyosaki,

I've read a few of your books. I must say that when I first read Rich Dad, Poor Dad I loved the general premise of “become financially literate”. That made sense to me. But I must tell you, my feeling on all the subsequent books that have come out of the Rich Dad camp has been that the books (as well as your advice) have become more and more absurd. For instance, what's up with the figures in your book, Who Took My Money?. ...

... Throughout Who Took My Money?, you suggest that simply by heeding your advice, an investor can achieve returns of 180% per year. Forgetting, that we don't know how you came up with that figure, let's look at what an annualized return of 180% would mean.

Let's say a 25 year old has $20,000 to invest and is able to receive an annualized 180% return over his investment lifetime – about 50 years. At that rate of return, and at the end of that period that 75 year old would have a comfortable nestegg of…drum roll please…

$455,965,058,160,294,000,000,000,000!

This is not a misprint. That investor, by investing in single family homes, would be a SEPTILLIONAIRE 455 times over. Now, Rob, are you really telling me that I can be 455 quadrillion times richer than someone who is a mere billionaire? Seriously? If you are, I just have to say that that seems a little far fetched to me. Especially when you consider that, according to the Federal Reserve's 2001 Survey of Consumer Finances, there was only $44 trillion dollars of wealth in the U.S. that year. If we applied an extraordinary rate of growth of 5% to that $44 trillion, in 50 years total U.S. wealth would reach,

$502,905,811,102,164.

Now Rob, are you telling me that by following the investment program you lay out in your book, that in 50 years, with one $20,000 investment, I can be 907 billion times richer that the entire U.S. population? I have to say Rob, I'm not buying this. But I'm sure this letter is falling on deaf ears. However, if the New York Times Bestseller list is any indication, a lot of people are buying it.

Sincerely,
Benjamin B. Taylor

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Posted by Benjamin Taylor at 11:25 AM |
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November 24, 2008

5 Things To Be Thankful For In This Market (Part 3)

The last couple of posts (here and here), I have been listing some things to be thankful for in this market. Here's # 3.

3. The Inevitable Market Rebound

This bear market has been the most severe we have seen since the decline of 1929. The good news is that we are not likely to see precipitous declines from here. So, although it is impossible to pick the exact bottom, it would be my guess that we are in the “bottom range”. I feel strongly that over the next 3 to 5 years, the market will be much much higher. And according to the data below, most of that recovery will come in the first few days and months.

On average, using the last nine bear/bull markets as a proxy, 87% of the S&P 500’s high has been recovered in the first year of the market bottom. On average, all of the prior high, and then some [122%], has been recovered by the second year. This is represented in the following chart [click image for larger view]:

For example, on August 25, 1987 (light blue highlight) the S&P 500 reached a high of 336.77. Then it began a drop over the next three months, which included the infamous Black Monday when the market dropped more than 20% in one day, and by December 4, 1987 the market had fallen to 223.92, representing a 34% drop over that period and a loss of 112.85 points off the index. However, within one year of the bottom, the market had returned to 277.59, rebounding 53.67 points, a 24% return, from the bottom and recovering 48% of the loss of the previous high. By the second year, the market had stood at 348.55, recovering a full 110% of the previous high of 336.77.

In fact, in most instances, you will recover a full third of what you’ve lost in the first 40 days into a new bull market. Buy and hold is not dead. No one can time the market so it pays to stay fully invested even in times of uncertainty.

Disclosure: I and the clients of Brick Financial Managment, LLC hold positions in iShares S&P 500 Index ETF (IVV) and ProShares Short S&P 500 Index ETF (SH) but positions may change at any time.

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Posted by Benjamin Taylor at 05:10 PM |
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August 16, 2008

Netflix Flub Fixed

Credit: http://flickr.com/photos/beautyredefined/2389559961/

If you are a movie lover like me, even a casual one, then there is a good chance you are a subscriber to Netflix. Netflix (NFLX) has been providing online movie rental subscription services for the last decade or so. It allows subscribers access to a library of movie, television, and other filmed entertainment titles on DVD and delivers them to your home. Cool right? The company serves over 8.4 million subscribers – I am one of them.

Over the past three days, Netflix flubbed. For some reason the usually reliable company had a technology problem that disrupted the delivery of its DVDs. Netflix was able to ship some discs on Tuesday and Wednesday but none on Thursday.

In what seems to be the company’s personality it was proactive in acknowledging a problem existed and subsequently offered a 15% credit to affected customers. Although the company could have been more forthcoming with the cause of the technology glitch, it swiftness in correcting the problem earns them some points. However, the credits could be costly to the company, estimated at as much as $3.6 million in revenue lost per day of delay.

Netflix’s shares are up about 17% year-to-date. Interestingly, the news of the week barely moved the stock’s needle. In fact the shares are up about 1% week-over-week. This is probably good news for the company as its customers seem to be an understanding crew, and the market seems to think these glitches won’t hurt Netflix’s bottom line.

I was expecting my Netflix yesterday but have not received it yet. I will give the company a break though. They seem to be on top of it.

Disclosure: I did not, nor did the clients of Brick Financial own any shares of Netflix, Inc (NFLX) at the time of this writing. I however, am waiting for Strange Wilderness to arrive in the mail at any moment

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Posted by Benjamin Taylor at 08:30 AM |
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February 25, 2008

How To Measure Risk: 3 Ways

Excerpt from Brick Financial's December 2007 Client Letter:

There are several goals we have in running our [Core] portfolio and if met will demonstrate its risk relative to the market. They are:
          1. limit the frequency of negative return 3 to 5 year periods,
          2. limit the magnitude of the loses in those losing multi-year periods relative to the market,
          3. limit the magnitude of “peak-to-trough” drops in value to 25% or less and fewer than once in any 3 to 5 year period.

…we have had no negative return 3-year periods easily passing the first litmus test of reasonable risk. [Additionally] the Core Portfolio has never lost to the market in any three year period since inception. Finally, in the five-plus years of the Core Portfolio’s existence, we have had one “peak-to-trough” period of greater than 25% lasting a period of four months. Just as the best investment managers have all had periods of year-to-year underperformance, they have had peak-to-trough losses of 25% or greater at least once or twice every decade or so. Once again, we are in good company.

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Posted by Benjamin Taylor at 10:06 AM |
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January 11, 2008

Volatility Is Not Risk

Red Dice Excerpt from Brick Financial's June 2006 Client Letter:

We believe that risk should be measured as the probability of permanent loss of capital. Too many professional and novice investors alike measure risk in terms of price fluctuations. An unfortunate byproduct of this view is that the more risk one takes on, the higher one’s potential returns. In other words, high beta stocks should garner high returns. As it turns out this is not really true. We pointed to Robert Haugen’s book, The New Finance, in our February Client Letter as providing evidence that low beta (low risk) stocks actually perform better in the long term than do high beta (high risk) stocks. Another side of this coin is labeling stocks risky or not risky by the beta or fluctuation compared to the market is foolhardy.

By way of example, let’s say we buy the stock of a company for $50 per share. In our analysis we have estimated the stock of this company should be selling for something close to double that price in the range of $90 to $110. In this example, we have very little risk as we wait for the market to recognize what we have and close the price to value gap by purchasing the stock at increasing prices. But if the stock suddenly falls in price to let’s say $30, the beta of the stock actually increases. The stock has become more volatile thus conventional wisdom says it has also become more risky. If the value of the company has remained unchanged, then the reality is the stock has become less risky as its price to value ratio has become more favorable – the proverbial margin-of-safety has increased. In this example an investor would have the opportunity to by an asset worth a $1 for just 30¢. Prior to the price decline that investor would have only been able to by that $1 for 50¢ although a fifty cent dollar is nothing to sneeze at.

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Posted by Benjamin Taylor at 12:42 PM |
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August 15, 2007

Actions in the Absence of Opportunity

Excerpt from Brick Finanacial's June 2007 Client Letter:

Prices are increasing when underlying values seem not to warrant it. The private equity firms, flush with cash, are fueling this fire. For the moment, there are not too many companies we have much interest in based on valuation. Part of what we have done in the last quarter is move our money into a couple of the index ETFs.

This might seem counter intuitive as we just told you the markets are showing some value trends we don’t necessarily like. But we are simply following a line of reasoning practiced by many value investors. We have to place our money somewhere while we wait for individual investment opportunities. One of the places we can park our money is the market itself. We think investing directly in the market is a sound approach if, relative to individual positions that interest us, the market offers safety in principal with some potential return. (As of this writing we have increased the allocation of our client portfolios in cash and bond holdings.) For a more complete discussion of where to invest in the absence of an immediate individual opportunity, check out the December 2005 Client Letter.