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What Do We Do Now? – Part 2
Last week we discussed the need to 'sit' in regards to gyrating markets. As Winston Churchill said “If you are going through hell, keep going”. Well guess what, the theme of this week was the complete opposite to last week, with concerns over the global economic recovery and European debt issues fading and investors saying the market had been “oversold” and provided cheap buying opportunities. The Stoxx Europe 600 Index rallied 5.4% this week with the MSCI Asia Pacific Index rising 4 percent this week which included a 3.7% rise for the S&P ASX 200.
The morale of this story is let’s not get to infatuated with short term movements and focus on the big picture. Short term sometimes can be a matter of years not days or weeks.
Continuing on from last week, we are going to look at how the share market is not a gauge of how the underlying investments performing, it is merely a gauge of investor sentiment. This being the case the share market will simply show if we are getting good value for assets, be it as a buyer or seller. History has been littered with examples that demonstrate that the share market is not an efficient mechanism, furthermore, it cannot be as its influenced purely by human behaviour.
There is arguably plenty of opportunities to buy businesses at the moment on the share market where the current price of the associated share grossly underestimates the future profitability of that business. However, the old adage “something is only worth what someone is willing to pay for it” is totally correct, only if you must sell. If you can be more patient this is definitely not the right way to value these assets. However, there are more straight forward examples currently of where the “actual” value of the assets, as determined by a market, this itself is then severely discounted and this is the price reflected in the share price. Here are a couple of examples.
We have exposure to a listed investment company, a company thats business is to invest in shares of other listed businesses. In theory this company on any given day could sell all its shares on the share market and then have cash left over and pay this out to the share holders. One such investment company is trading on the ASX at about 25% discount to what this cash value would be if they sold all their assets. Therefore what this investment company is doing is buying its own shares back from those that want to sell because they are making a riskless return of 25% on the transaction immediately the benefit of which flows to its shareholders...ie us.
We have exposure to a number of property assets through the share market. One company has properties worth $400 million as valued by valuations and transactions of similar buildings. They have debt of roughly $200 million which means there is equity in the business of $200 million. By purchasing the shares on the share market today you are effectively buying a pro-rata share of the $200 million equity for $80 million, a sizeable discount. During the lows of the GFC the value of the $200 million was as a low as $25-$30 million as measured by the “efficient” share market. In regards to the biggest opportunities they are usually where there is blood on the floor - can I interest someone in a retail shopping centre portfolio in Europe? There are other issues with banks etc, however of importance they are still supportive and the gearing involved is less than a lot of the Australian piers facing similar issues. As of December they had assets of $966 million with debt of $672 million leaving equity of $294 million. We can purchase this equity in these assets today on the ASX for $15 million. Even if worst case scenario is factored in there is plenty of “safety margin”.
The morale of this story is let’s not get to infatuated with short term movements and focus on the big picture. Short term sometimes can be a matter of years not days or weeks.
Continuing on from last week, we are going to look at how the share market is not a gauge of how the underlying investments performing, it is merely a gauge of investor sentiment. This being the case the share market will simply show if we are getting good value for assets, be it as a buyer or seller. History has been littered with examples that demonstrate that the share market is not an efficient mechanism, furthermore, it cannot be as its influenced purely by human behaviour.
There is arguably plenty of opportunities to buy businesses at the moment on the share market where the current price of the associated share grossly underestimates the future profitability of that business. However, the old adage “something is only worth what someone is willing to pay for it” is totally correct, only if you must sell. If you can be more patient this is definitely not the right way to value these assets. However, there are more straight forward examples currently of where the “actual” value of the assets, as determined by a market, this itself is then severely discounted and this is the price reflected in the share price. Here are a couple of examples.
We have exposure to a listed investment company, a company thats business is to invest in shares of other listed businesses. In theory this company on any given day could sell all its shares on the share market and then have cash left over and pay this out to the share holders. One such investment company is trading on the ASX at about 25% discount to what this cash value would be if they sold all their assets. Therefore what this investment company is doing is buying its own shares back from those that want to sell because they are making a riskless return of 25% on the transaction immediately the benefit of which flows to its shareholders...ie us.
We have exposure to a number of property assets through the share market. One company has properties worth $400 million as valued by valuations and transactions of similar buildings. They have debt of roughly $200 million which means there is equity in the business of $200 million. By purchasing the shares on the share market today you are effectively buying a pro-rata share of the $200 million equity for $80 million, a sizeable discount. During the lows of the GFC the value of the $200 million was as a low as $25-$30 million as measured by the “efficient” share market. In regards to the biggest opportunities they are usually where there is blood on the floor - can I interest someone in a retail shopping centre portfolio in Europe? There are other issues with banks etc, however of importance they are still supportive and the gearing involved is less than a lot of the Australian piers facing similar issues. As of December they had assets of $966 million with debt of $672 million leaving equity of $294 million. We can purchase this equity in these assets today on the ASX for $15 million. Even if worst case scenario is factored in there is plenty of “safety margin”.
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