White Swan and New Picks

In Fooled by Randomness, a black swan is described (more or less) as a predictable, but improbable, event that, if it occurs, has disastrous results that are not adequately planned for. I had a small white swan today.

Since last week, the market has inspired only one thought, "Youch." It had been something like 6 straight days of dramatic downturns. Yesterday was my scheduled 'buy' day. You know how they say to stay in cash during a downturn, but they also say that no one can call a bottom. In this case, I think that these sayings were giving me contradictory advice, so I went ahead with my scheduled buy. And today, the market rebounded in a big way. My portfolio did about as well as the NASDAQ, but the point is that there was more in my portfolio than there might have been otherwise. It's amazing how large an affect this had on my IRR. My total portfolio of stocks went from a 24% IRR yesterday to a 30% IRR today; my MFI portfolio was 8.4% yesterday, and 15% today.

Especially of note, I invested more in Ctrip. I first invested at $49, it went up to mid-70s, and now dropped back to about $57 when I bought it again yesterday. It was up 5% today. Also, I see that Optimal Group, my newest MFI stock prior to today, swung to profitability in Q4. It's up 16% after hours.

Oh, and my new MFI picks? WIRE, BLDR, NTRI and MTEX. After all of my complaining about evaluating companies in previous entries, I went somewhat more in depth to arrive at these four. It was still more based on hard data rather than judging things like management conference calls and CEO letters in annual reports - taking what data I could and using that. So I scanned the MFI lists (top 100 of $1M or greater market cap) for high insider ownership, recent insider purchases, increasing EBIT over several years, and a large discount relative to the 52 week high. (This last is based on the 'Blue Light Special' study that Marshall did; his data suggest that MFI stocks that have gone down by 20% tend to recover and do better than stocks that did not drop.) These criteria narrowed the list of 100 stocks to 21. Then I ranked all stocks based on these criteria as well as Earnings Yield and ROC (the MFI criteria), Piotroski F-Score, analyst coverage and market cap (less is better for these last two [arguable, but I think the Tweedy Browne study showed these to be true]). I also ranked them on corporate governance, the semi-black-box statistic on the Yahoo! Finance Profile. These four companies scored highest on these criteria, with the exception that EGY and THE were third and fourth of the top six. I was torn about buying another oil company (after WNR); also, I have been interested in EGY for a while but THE is a recent HG recommendation. In the end, I decided to wait.

I think it's worth mentioning how I looked at an increasing EBIT. I was looking for the fastest rate of growth of EBIT from 2001 to 2006. Using Randy's plug-in for Excel, I was able to easily download these numbers. Bringing them to my handy graphing program, I fit each EBIT to a linear function, and took the slope. (I think that I should have normalized the EBITs to, say, the most recent year. I'm a little upset that I didn't think of this before.) One thing that is becomes clear, especially when you compare the WIRE data with that of other companies (see figure) is that what you actually want in this analysis is an exponential increase, not a linear increase. An exponential increase in EBIT means that the company is efficiently using its resources to efficiently generate a return on capital. Conversely, a linear increase means that the company is doing less business with more cash on hand. I'm not 100% sure that this logic is correct, but I'm basing it off of the Buffett principle that % return is what's important rather than earnings.

Hopefully, today signalled a turnaround from the last few days, rather than a small bump in a continued spiral. One thing about stock investing - it's almost never boring!