Blessed by the Potato

For those following along with my adventures in investing, May was a fairly interesting month. I last left off lamenting about Migao, which was in the pits for no real reason I could understand. It recovered a bit since then, and then there was an earthquake in China and Migao said that they hadn’t suffered any damage but were shutting down for a day just in case. Not fully trusting that, I bailed, realizing a slight loss. Since then it’s continued to rally, but oh well, I’ll be watching good old POT and wishing I was smarter instead.

Not quite trusting the spike in oil prices, especially since it seemed to be partially driven by temporary(?) violence-related supply issues in Nigeria, I didn’t end up buying any XEG after my update last month, and that ETF continued to rise impressively. Oh well, at least I got a some benefit of oil’s run up from my ownership of the TSX-Composite on the indexing side of things. Speaking of indexing, I’m still proceeding with the currency neutral US index largely out of fear and uncertainty of what might happen with the Canadian dollar. My index holdings are now up to 5% of my overall portfolio, and keep growing as I plow my new savings and dividends into them.

GE has slid a little further since I bought it. I still think it’s a good long-term value, and am tempted to buy a bit more to “dollar cost average”. However, the commissions and moreover, exchange rate fees to buy this US stock make me less inclined to give that a try for “just” a further 6% drop. This is exacerbated by the fact that the Canadian dollar has dropped in the past few days, so in Canadian terms, GE is only down about $1 from where I bought it (vs. the $2.10 it’s down nominally). I’m also tempted to cost-average into YLO.UN, as it’s dropped another buck to the $10 range and is now yielding over 11%. I’ve already done this once before, and YLO is already a pretty hefty portion of what I own, so I’m pretty hesitant to buy more. However, there is nothing I can find that contradicts my view that this is a quality company with a safe yield and a sound, stable business.

Finally, the banks are still declaring new writedowns and uncertainty about their future profitability abounds. However, we appear to be past the worst and this might be the time to buy. I’ve always had a preference for Canadian banks, but the risk discount seems to have gone out of them with recent rallies. In the US however, Bank of America (NYSE:BAC) and Citi (NYSE:C) are both still looking pretty beat up. Yes, they both have some uncertainties in terms of how much more money they stand to lose, whether their dividends will be cut, and if/when they will return to taking in money hand over fist. Of course, that’s kind of the point when going out shopping for value bargains: I’m essentially going to be gambling that the market is over-stating the risk and thus driven the share price of these banks below what they’re “actually worth”. I can’t say whether that’s the case yet, as I still have a lot more reading to do on that matter, but that’s what I’m looking into right now.

Wayfare and I were talking about housing and about how it seems like any halfway decent place in Toronto is out of our reach — when we realized we weren’t quite certain what our reach was. We had some very vague ideas based on our savings and estimated income, and some rules of thumb (e.g.: you can afford a house that costs about 3 times your yearly pre-tax income). However, I didn’t think a lot of those were very realistic: what if we had a lot of debt, or liked a lavish lifestyle, or were frugal and wanted to spend more of our income on a house? Plus, as nice as some of the rules of thumb are, they seem to have been largely blown out of the water by the current housing market (which I think may be due for a flatlining or correction, but that’s a topic for another day). So to help us look at our options and lay out a few future scenarios, and also to see where all the figures and calculations were coming from, I made a spreadsheet. It was actually a rather good spreadsheet if I do say so myself, and I took the time to put a bit of formatting into it, so I decided to share it with you here.

[Note for those reading this via a feed: you may need to come to the web site proper at www.holypotato.com/?p=499 to download the excel file]
I am not a financial advisor, nor do I even own my own house. This spreadsheet will likely contain errors and is simply an attempt to share my efforts with you, don’t take it as accurate financial advice. Use it, edit it, redistribute it to your liking. Attribution is appreciated but, in this case, not required.

The heater control in my car broke last week. I was turning the heat up, and there was a loud “thunk” and then the heater knob didn’t have any resistance to it any more. Fortunately it was stuck on just a few notches up from full cold — cold enough that with the A/C on the car is livable in the sun, but warm enough that it’s not a completely ice box for these spring nights (though it is a little too chilly for good defogging). I hoped at first that the plastic knob just broke; this has happened twice before, and is a $5 part to replace. Unfortunately, that was not the case this time, and a mechanic told me that the cable that connects the control knob to the actual baffle/damper thing that controls the airflow broke. It’s a cheap part to replace, but would require 3 hours of labour to take apart the dashboard to actually get at it. He actually sent me away because he didn’t have the time to fix it, which is a bad sign.

My dad said to think about whether I want to keep the car before going out and spending more money on repairing it. (He also joked — I think it was a joke — about how convenient it was that my heater was broken, so I’d need a new car as soon as the weather started getting cooler around, say, October)

So Wayfare and I did exactly that yesterday, going through the pros and cons of replacing the car. Our target replacement vehicle would almost certainly be a new Prius for a number of reasons (including that I want one, that I want a new car at least once in my life and that my next car might be the last car I ever get as I anticipate the revival of public transit and the end of cheap oil, and finally that used Priuses are just not depreciated enough to bother with anything that isn’t new).

On the one hand, after this heater repair I’ll be closing in on $2000 of repairs done or planned for this year, and the car is only worth about $2000 — and that’s one rule-of-thumb about when to replace a car. Of course, after these repairs we hope that we’ll get another year or two of trouble-free operations. Plus all the repairs have been for relatively minor things: heater, muffler, new tires, brakes, radiator; the engine looks to still be in great shape and the transmission is holding in there. For all the issues and trouble lights, the car has never stranded us somewhere, so it still meets the bare definition of “reliable transportation” — and my fuel consumption average is around 8.5 L/100 km which is not too shabby.

Factors that would also lead us to buy sooner rather than later include the $2000 federal rebate that is, sadly (damn you, Flaherty/Harper!) going away after the 2008 model year. Two grand is nothing to sneeze at, and in fact provides a very good reason for buying now rather than trying to squeeze the last bit of value out of a $2000 car with unknown repair bills or summer roasting in store (air conditioning don’t fail me now!). We’d also save about $600/year in gas due to the lower fuel consumption of the hybrid. Interest rates are low right now, but should go lower in the next month or two as the bank/Toyota rates catch up with the Bank of Canada rates — this is still a factor that favours early switching, just for next month rather than next week. If the plan is to buy a house in 2-3 years, then it might also be beneficial to have 2-3 years of good payment history on a car (though the extra loan may work against us there… credit ratings can be so confusing).

Wayfare and I actually took a quick trip down to Competition Toyota today to have a look at one in the flesh as it were. We didn’t take one out on a test drive, and they didn’t offer, though there were a half dozen on the lot (putting to lie the reports about the supply problems right now due to the gas price spike). The salesman said just yesterday he had someone turn in my exact car as a trade-in, and that the wholesale price was $500 if I was lucky, which was a little disappointing (I know that if it comes to it we’d have to negotiate, but I thought it would start higher than that). He spent a while telling us about the difference between buying and leasing (I wanted to stop him, but just found I was too polite to butt in, and it was a slow day over there anyway), and then finished off by saying that he’d “love to sell [us] a car today, but honestly the interest rates will probably be better later in the summer.”

While we could afford it, it would not be a completely painless purchase — cars are expensive. And of course the fiscally prudent thing would be to just buy a quality used car that’s already had most of its depreciation taken off, kind of like I did 8 years ago. While that’s not quite what I desire, it is a better idea. And if we go that route, there really is no time pressure on when to do it except for when operating the current Accord becomes uneconomical. So we decided to hold off for now, which is probably the right decision. Especially since we don’t really know what the future holds: if my PhD goes poorly and I lose my scholarship funding and have to live off next-to-nothing starting 2 years from now, or if I graduate and then can’t find work then the burden of a new (or newer) car could be even more painful. Plus the Rogers contest isn’t over yet, so I might win one anyway :)

The Canadian Capitalist just ran two posts on the hidden costs of “currency neutral” mutual funds.

There are of course, the non-hidden costs of currency hedging. For the TD e-series funds that track the S&P 500 in the US, the currency neutral version has a MER that is 0.15% higher than that of the single currency (USD or CAD) version (0.48% vs 0.33%). To me that seemed like a very small cost for protection from any further rises in the Canadian dollar (or weakness in the American one). I didn’t know about or consider that tracking error might be worse with the currency neutral version, so now I’m going to have to re-think how likely I think more increases in the Canadian dollar are likely, and maybe make my asset allocation more complicated by having some of my US exposure in currency neutral, and some straight-up depending on that likelihood…

Another thing that I hadn’t considered is that some of my US buying has been in USD (e.g., the Dow Jones index from TD). I thought at first that it wouldn’t matter which currency I bought the index in, and that possibly the USD version would track better. However, after checking more closely, it looks as though I may be losing out to the tune of 1-2% in the currency exchange rate by buying the USD version. Since this will only affect me when I buy and sell, and since I plan to hold it for many years, this should wash out as being pretty negligible and I won’t get upset about what I’ve already bought, but perhaps in the future I’ll buy the version of the fund that’s in Canadian dollars to make the most of my money (though I don’t know if that exchange fee is then lost within the fund as a tracking error).

There is a saying that hindsight is 20/20, but when it comes to the stock market I don’t think that’s necessarily true: even after seeing a stock’s price move, you might never square away why in your head. Plus, of course, there are so very many ways to drive yourself stark raving mad by constantly looking back at all the coulda-woulda-shoulda moments the market provides. Don’t beat yourself up about past mistakes is one of my dad’s pieces of advice, don’t worry about what happened in the past since you can’t change it, and the market will be offering up another opportunity if you look for it. There are many times when I wish I had a time machine to go back and do something differently, and I try not to dwell and obsess since it is far too easy to do both. However, I can’t help but feel that since I still have so much to learn, that it couldn’t hurt to look back and see where I went wrong. I already had one brief retrospective back in January, so let’s start by following up from there.

Then, I talked about falling knives, and boy, did the bank stocks fall in March when Bear Sterns went under. I came seriously within one mouse click of buying some TD that day, but was afraid (stupid emotions!) of repeating my knife-catching mistake, so I called my dad for some sober second thought. He said to just steer clear of the whole sector since there was so much uncertainty, and that there was no real way to know how liquid or profitable any of the banks really were in these times. Even though I thought TD was a quality bank that was being sold off due to fear, I wasn’t sure, and started to fear myself that such a big downswing must be for a reason, and that maybe somewhere out there was a group of investors who knew more than me, so I steered clear, and still haven’t bought in, as much as I’ve been kicking myself for it the last few days as the whole banking sector seems to be recovering. Taking advantage of other people’s emotional selling is supposed to be what I was all about, and I missed what might have been the biggest deal (that I was actually close to making) of my investing career. Of course, my dad was not completely wrong either: there was risk there, and if TD had come out the next day saying that it was the next Bear Sterns, I could have lost it all.

Russel Metals, the falling knife I mentioned in that previous post, has come back nicely. Quite nicely, in fact. While my timing was not great, I did buy what I considered a quality company at a value price. From the broker reports I read on it and my own crude attempt to value the company, I figured that in a year or two, it would be up to $30 — 25% gain on top of a 7% dividend in a year or two would be very decent indeed. It turned out to be much better than that, hitting $30 this week, so I decided to sell. I might be making yet another mistake in shooting the running horse, but I think, today, that I’ve gotten my full value out of RUS and it might just stagnate for the next year or two from this point (or, correct to a point where I can get back on and ride the pony again). While I could have made almost twice as much by having better timing back in January, that buy doesn’t look to be such a big mistake any more.

The big thing I wish I could go back in time to buy is oil. I’ve been talking about peak oil for years yet somehow, that never translated into thinking about actually investing in oil. Even just a few months ago when I was looking at possibly investing in Petro-Canada, I was thinking more about the looming recession in the states and a possible short-term downturn in the price of oil than the 10-year gain peak oil thinking would lead me to. Of course, now oil (and PCA) has had a huge run-up in just the last few months, and again I’m waffling about whether or not to invest in it (and, again, what form an investment in oil should take: I don’t know how to just buy a few barrels at the mercantile exchange, and am not sure if I should look at an ETF like TSE:XEG or a single company like Petro-Canada). I think there’s a good chance of a correction in the next few months, especially if Nigeria and the middle east settle down for a little bit. However, I think in the long term that’s not necessarily going to matter so much, and even buying at these record prices might be a real bargain 10 years down the road. A third option is to try to avoid the necessity of timing the market (whether I want to or not) with a lump-sum investment in one company or ETF by instead buying into the TD mutual fund for energy, which has a low minimum investment (~$100), so I can just keep buying as oil goes up or down, and don’t risk either missing what good times are left, or any bargains to come. Unfortunately, that mutual fund is not an “e-series” one, and the 2% MER is not very appealing.

In a similar vein, my dad and I were talking a few months ago about “big concept” investments for the long term. One “theme” that we both agreed would be very big in the years to come was the development of China and India. Specifically, in terms of their diets. As the people of those countries found themselves feeling wealthier, they would want to expand their diets to include more high-quality, fertilizer-intensive food, including meat. So we looked for companies to invest in that would be in a good position to make money off of the demand for fertilizers to come. The big name in the business is of course Potash Corp. of Saskatchewan, which we quickly determined was not “value priced” at $100/share and a P/E of something over 25 at the time. Instead, we looked at a smaller “potash producer” in China (but listed on the TSE) called Migao. Not 6 months later, and my dad looks like a freaking genius as potash prices hit incredible new records due to demand in China, and Potash Corp. of Saskatchewan has just about doubled in price. Of course, getting the idea, the “investment theme” right doesn’t always lead to riches as we found out: Migao is down 15% in that time, and neither of us own Potash. There were two things working against Migao, and one of them we should have forseen if we had done our due diligence properly. You see, Migao is in the fertilizer business, and it does sell potash products. However, unlike Potash Corp. of Saskatchewan, Migao doesn’t actually dig the potassium-based chemical out of the ground and sell it to put on crops. That digging it and selling it business is a sweet deal when prices rise this quickly due to demand, because the cost to dig it up is basically fixed, so the unprecedented increase is pretty much all profit. No, Migao buys potash fertilizer (from a company in Russia mostly) and chemically refines it further for specialty applications. When prices go up like this, it has the potential to hurt their bottom line. Somehow, I didn’t catch that little detail when looking at the company, which I’m sure either demonstrates a valuable lesson about how important really doing your homework in the stock market is, or about how you can never really predict how well a company can do (I think probably more the former). As it turns out, Migao has basically a fixed percentage mark-up on its potash products, so it is managing to pass along the increased cost of potash to its customers and is making more money off the potash craze (though not to the degree POT is). That still makes one wonder why the stock price is down then, when they’re making more money. I don’t have a good answer to that, though it may be due to rumours that the Chinese government may, in light of the emerging food crisis, put a cap on Migao’s profiteering. That could be worrying, but I couldn’t even find a source for those rumours. So anyway, be sure to add POT to my basket of stocks to buy with that time machine.

Priszm, which I mentioned as looking decent near $6 in February has had a bit of a roller-coaster ride. Right after that post, QSR moved up to above $7, and then slid back down to $5 where it sits now. I honestly can’t figure that one out. The company is really not doing all that great, admittedly, but it was paying out 20% at $6. That was of course due to the risk premium investors would demand since, as the company is not doing great, there is a good chance that distribution will be trimmed down. However, at $5/share the current distribution is more like 24% — even if the future payout is cut in half, that’s still a 12% return, and I think it’s more likely that the distribution will only be trimmed by about a quarter (to 18% for someone buying in at $5). As much as I have trouble understanding why it might be so low, I’m not tempted to buy any more since I already have quite a bit. I might wish I had sold at $7 (to buy back at $5) with that time machine, but I think holding it for longer has not been a terrible move… yet. I’ll be sure to revisit this one in my next time machine retrospective post in the months to come.

Finally, the index funds are doing quite well for the most part, because, well, the stock markets in Toronto and New York are recovering. At least they don’t require this much work and second-guessing!