Gentlemen's Stock Picking Club

[greg]

twaddle:

I'd like to see a thread where folks discuss how they might 'leverage up' for a bear or bull market--if they were extremely copnfident. It'd be nice to see some extreme ideas just for education's sake. I've purchased a few out-of-the-money GE long term calls, Jan 09 and 10 $40 in hopes . . . .

 

[twaddle]

Now you're getting somewhere! Sorry, but I just couldn't think of any educational value in picking 10 stocks to go long over a 4-month period.

I used to speculate with options once in a while. But I talked myself into the "momma says you shouldn't play zero-sum games" bit and cut way back except for the occasional portfolio insurance long put.

But I do find Taleb's idea of looking for potential Black Swans kind of interesting. So my approach would be to think about possible low-probability events that the market is basically discounting to zero probability and use a very small portion of my portfolio to place bets on that outlier.

I'll have to think about exactly which events I'd like to bet on, but it would be an interesting topic for a thread....

 

[JohnEyles]

Anything like this ?

 

[twaddle]

OK, Greg, I took a walk today and thought about this. Well, I thought as deeply as I could while eating a sandwich and being followed by a large hungry stray mutt.

My success with options and directional bets in general is probably 50/50 or worse. However, a single Black Swan pretty much made ER possible for me, and that was choosing to start a little software company right before the tech bubble. So, I'm attracted to the idea of betting on Black Swans.

Taleb's basic premise, as I understand it, is to protect yourself from negative Black Swans, and expose yourself to positive Black Swans. Where a Black Swan is defined as a low-probability (or rather an uncalculable probabilty) high-impact event.

The idea of betting only on positive Black Swans is also appealing because it means hoping for optimistic outcomes rather than pessimistic outcomes (even though I'm somewhat bearish these days).

So, I'm thinking I'll create a mini-Taleb portfolio. Something like $100K in TIPS and use the real interest coupon (about $2500/year) for my "lottery tickets." So, my downside is zero in real terms, and my upside is unbounded.

Hmm, what kind of positive Black Swan do I want to hunt for? I'm going to rule out large cap stocks since it seems unlikely that we'll see a significant short-term upside to any large cap. So, I'll probably poke around the small cap or microcap sector.

That's my philosophical foundation for the game. Now it's time to do some research....

 

[wildcat]

Yeah, why can't small caps play in this game?

 

[bpp3]

Anything like this ?

"We put the 'pro' in 'reprobate.'"

 

[wildcat]

Ok, if I have to play in the large cap space, I am watching MCO - Moody's and hoping they keep falling from the credit fiasco. They may get a few lawsuits thrown at 'em or some short-term doubts about their accuracy but long term I don't see how any of this will change the business. Two dominant players that perform low capital intensive, necessary analysis services and cover a debt market that is MUCH bigger than the stock market. So burn baby burn...

 

[greg]

twaddle:

I love hi-jacks. They're often better than the original thread.

So, we're looking for high risk-high reward bets--of any kind?

Or are things limited to low risk-high reward bets, using your example of taking smaller amounts of money ($2500 from tips) and seeking out [-]unknown sticks of dynamite[/-] black swans?

And, of course, any amount of 'reasonable' leverage and/or shorts would be allowed--what ever that means (as long as it is explained)?

So , $100K in fake money; limited to three or fewer plays/choices (small caps or just about any financial instrument available to the general public allowed). And a time limit (with quarterly check ins)?

The winner gets a bat across the head for taking foolish risks?

 

[twaddle]

$100K portfolio. And the goal is to minimize downside overall, while exposing yourself to lots of upside. Anything goes as long as the investments are available to the average schmuck with a brokerage account at Schwab.

I would say no time limit. Play until we lose interest. Any educational value will be in the discussions, I think.

I'm already finding myself uncomfortable with the idea of swinging for the fences since it's so counter to the conventional wisdom.

Buying lottery tickets is a loser's game because you know the odds are against you. So how do you play if you don't know the odds? How do you create your own luck? How do you cast your net wide enough to improve your odds without diluting your upside?

Do you play in well-known speculative areas like solar energy, biotech, nanotech, etc? Or do you think out of the box, look for faulty assumptions, and try to exploit unforseen opportunities?

 

[katwoman]

Ok, if I have to play in the large cap space, I am watching MCO - Moody's and hoping they keep falling from the credit fiasco. They may get a few lawsuits thrown at 'em or some short-term doubts about their accuracy but long term I don't see how any of this will change the business. Two dominant players that perform low capital intensive, necessary analysis services and cover a debt market that is MUCH bigger than the stock market. So burn baby burn...

You and I think alike.

 

[greg]

Here's how I go on my ten stock portfolio:

Large Cap/etf

DIA 75.12 shares@ $133.12
GE 256.41 shares@ $39.00
GEX 232.88 shares@ $42.94
IAF 664.45 shares@ $15.05

Mid cap

HSE.TO 282.65 shares @ $(Canadian)37.25=$35.38 US$
EEP 193.84 shares@ $51.59
RSG 330.47 shares@ $30.26

small cap

TTEK 520 shares@ $19.23
PWI 497.76 shares@ $20.09
ALE 238.89 shares@ $41.86

The total is $99,986.00 (I had trouble with HSE.TO and the conversion to Merkin money.) I might add $16 to my cash acct.

Personally, I'm trying to beat the S&P 500, but that's my lowest expectation (other than NOT losing any money). For those partially interested in portfolio picking, you might just pick out four etfs and go up against others with different etf choices. I think that is a reasonable partial play here. Or just pick out four large caps that you think could beat out other large cap choices. Or mix and match like me. Or if you have a wee bit of wildness coursing thru your veins just pick three small caps at $10000 each and post them on this thread the day you start.

As I see it, it all goes (maybe well into 2008?) until it doesn't.



twaddle:
For the other, the Black Swan portion, I'm currently looking at calls (not puts) and Rydex double up funds. I'm about [-]90%[/-] 80% sure that the market will be up 10%-15% at the end of the year (knock on wood). I'm looking specifically for reasonable leverage (that I can understand) and a moderate mis-pricing of specific stocks or options--and a few additional days of panic, maybe. Whatever the heck that means.

 

[BUM]

Being a guy from:
small family
small town
small schools
small workplaces

I think small so my "all small cap" picks are...

VBK 469 shares @ 71.05
VBR 475 shares @ 70.08
IJR 486 shares @ 68.66

total $99,979.21

 

[brewer12345]

I'm looking specifically for reasonable leverage (that I can understand) and a moderate mis-pricing of specific stocks or options--and a few additional days of panic, maybe. Whatever the heck that means.

Options have become quite expensive lately. As for mispriced stocks, pick any bulker stock. Day rates have gone screaming upwards throughout the panic and actually hit a new all time high the week of the pit of the crash in the US. I like NM, but most any would do.

Edit: whoops! Just hit another record today.

 

[HFWR]

I like NM, but most any would do.

As luck would have it, NM in on sale today...

 

[brewer12345]

As luck would have it, NM in on sale today...

Makes no sense to me.

 

[greg]

Now you're getting somewhere! Sorry, but I just couldn't think of any educational value in picking 10 stocks to go long over a 4-month period.

I used to speculate with options once in a while. But I talked myself into the "momma says you shouldn't play zero-sum games" bit and cut way back except for the occasional portfolio insurance long put.

But I do find Taleb's idea of looking for potential Black Swans kind of interesting. So my approach would be to think about possible low-probability events that the market is basically discounting to zero probability and use a very small portion of my portfolio to place bets on that outlier.

I'll have to think about exactly which events I'd like to bet on, but it would be an interesting topic for a thread....

It took me some time to think about what you said. As I see things:

I just don't think it's possible for laymen to find black swans in the financial markets, unless they're incredibly perceptive and diligent. I think black swans are primarily found in the world of primary business ownership, as you mentioned earlier, where someone perceives a need and then fills it: if the need was big enough and the product or service good enough, then jackpot, probably after a number of years of hard work and doing without. Starting McDonalds as a restaurant chain is a good example as I see things. The idea comes and you act on it correctly all the way thru, or at least until you can hand it over to others (for a nice price). All outside the normal box of things.

The financial markets, all the stocks, bonds, derivatives, financial instruments that retail folks can buy, bla and bla, are not blacks swan possibilities--to my mind, theoretically. They are things created by others and then sold to folks. We, as retail folks, aren't privy to all the information in the vast majority of cases. And if that's true, then we are making decisions bases on partial knowledge (And right here I'm making a case for Bogle and indexing.), which almost precludes the possibility of getting enough information to do things well or correctly or to find those wonderful life changing deals/experiences--to my mind. The insiders have a larger quantity of knowledge, and they're the ones who will pick thru the pile first and with the best instruments, finding the best deals.

Brewer has been trained to find the best bond deals in the market; that's his job. How can I compete, unless perhaps if I've gone thru similar training and have access to similar tools and quantities of money? At best, I can do a job that might approach Brewer's ability and skill after a number of years of practice and mistakes. This is basically true about every single financial instrument available to us; there are alot of professionals out there ahead of me. Sometimes we can get the jump on folks if, for example, we buy into a hedge fund with a smart fellow who has a big rolodex and a couple good ideas. But we both know that now even they are doing a bit of crash and burn as they kept doing the same things over and over again with increasing leverage. What they did was a sort of black swan initially, finding a wonderful new product built around a few core services. Now it seems to be primarily a bunch of chunky lemmings waddling toward a cliff--to my mind. Not black swan material for the most part now.

There is also the fact, to my mind anyway, that there is a huge amount of money flooding the system that seems to be working its way thru gradually and pricing out any discrepancies, anomalies and bargains--much less black swans. The professionals mentioned above price all those bargains out of the market with the huge amounts of money they have at their disposal--to my mind. And they see any good stuff coming waaaay before me.

Those are the strikes that I see against finding any black swans. But that doesn't mean they're not out there.

Currently, I have a full hand (five: one gold/metals stock, a pharma, two oil, and one industrial) of individual (what I think are still) 10 bagger stocks. I can't add any more until the ones I have have a hit or miss. I'm not selling nor am I buying speculative stocks right now. I don't even want to think about them for a while because if I think about buying something speculative, then I probably will start looking; and if I start looking, then . . . .

But I currently see option calls as a reasonable way to earn 100%-200% over the next year with limited downside. That appears reasonable to me IF my optimistic view holds up in the real world and if the option market gets whacked a good one soon so that I can get some at a price I like.

I'm watching these calls for a decent dip:

GE: Options for GEN ELECTRIC CO - Yahoo! Finance

 

[twaddle]

I just don't think it's possible for laymen to find black swans in the financial markets, unless they're incredibly perceptive and diligent.

Well, I think that rather than "finding" them, you're supposed to almost stumble upon them. It's a concept I find troubling and intriguing at the same time: positiion yourself for upside explosions without necessarily expecting them.

I believe Taleb plays mostly in the currency markets, where he says you might find 7-sigma events. I vaguely recall that the Great Depression, for example, was something like a 3-sigma event. Very unlikely, but the risk of it happening was mispriced.

Anyway, I haven't yet figured out how to expose myself to such mispriced explosions, so I'll take an iterative approach and learn as I go.

Here's my $100K low-downside hopeful-upside port:

$45K in TIP (TIPS)
$45K in SHY (short-term treasuries)
$3K in DRYS (dry bulk shipping)
$4K in FXI (china)
$3K in FXY (yen)

Nothing really systematic here. No leverage. Probably too tightly correlated. Goal is to beat the S&P500 with lower downside risk. I'll price the shares later this week, after we have some more bad news.

Edit: for this to work, I think I need to swing harder for the fences. If my goal is a 10% return, and expected return on the bonds is 5%, then I'll need a 50% return on the $10K Black Swans....

 

[greg]

Well, I think that rather than "finding" them, you're supposed to almost stumble upon them. It's a concept I find troubling and intriguing at the same time: position yourself for upside explosions without necessarily expecting them.

I believe Taleb plays mostly in the currency markets, where he says you might find 7-sigma events. I vaguely recall that the Great Depression, for example, was something like a 3-sigma event. Very unlikely, but the risk of it happening was mispriced.

Stumble upon them? wtf?

Is there some web site that has his writings? Someplace where I can get a better idea of what he says--without paying for the book? John Mauldin read his book and wrote a couple essays related to it. That's the extent of my knowledge. Mauldin mostly dealt with the recessionary and negative aspects of Black Swan events (how to save/make money in a big crash) and the unexpectedness of outside the box events. I know zero about the making of Black Swan money in a positive environment. I want to know where outside the box to look--from inside the box of course.

So, Taleb is sort of doing a mix and match of currency products that when combined may go to the moon? I'd like to see his reasoning on that stuff.

 

[twaddle]

Too lazy to read the book, eh? Yeah, me too. But he responded to a couple of critiques of the book, which I found pretty insightful.

http://www.fooledbyrandomness.com/blackswandebates.htm

I think the only way to place his game is with options or other types of leverage. Otherwise, there's simply not enough upside potential to make it work.

 

[fmhealth]

Ok here we go. CFC, Countrywide Financial is selling for $19.80 as I write this. This woebegone company is the poster boy for the sub prime meltdown. Beaten down from the 40s to the high teens . Everyone hates this fellow. Nothing but bad loans, defaults, out flows of deposits to literally a run on the bank. What a mess!

PERFECT!! I remember not too long ago when MRK was being unmercifully branded as a BK candidate after they mishandled Vioxx. Same type of doomsday rhetoric. Much the same level of palpable & visceral fear & loathing. The stock was in the low 20s. Fast-foward a few years. What Vioxx problem? Stock is in the low 50s, excellent Div. & wonderful growth prospects. The analysts love it!

CFC is my choice. As a matter of fact I'm going to buy it tomorrow. Only time will tell if it proves to be a sage investment.

 

[unclemick]

Sooo - are we picking stocks on a forum trying to win a game? Or listing some of the stuff we actually parted with some hard earned cash to buy.

Playing a game is fun. Parting with hard earned cash or getting sweaty palms when I check prices is another.

heh heh heh - heck sometimes I go several months without looking at my Norwegian widow stocks.

 

[greg]

Sooo - are we picking stocks on a forum trying to win a game? Or listing some of the stuff we actually parted with some hard earned cash to buy.

Playing a game is fun. Parting with hard earned cash or getting sweaty palms when I check prices is another.

heh heh heh - heck sometimes I go several months without looking at my Norwegian widow stocks.

One unclemick enters. Two unclemicks leave (the real one and the one who plays with fake money). I don't quite know what the rules are but pick a few stocks, post the price you paid on that day and then every once in a while we'll all post our results, percentagewise or dollarwise, and maybe talk about what we all learned--or no. Don't forget to count your divis. And no turning into that [-]girl[/-] young woman from Missoula.

 

[haha]

Too lazy to read the book, eh? Yeah, me too. But he responded to a couple of critiques of the book, which I found pretty insightful.

http://www.fooledbyrandomness.com/blackswandebates.htm

I think the only way to place his game is with options or other types of leverage. Otherwise, there's simply not enough upside potential to make it work.

I read both his books. He is smart; but so is Warren Buffet and Buffet is also rich and uses a very different method.

The only kind of leverage that fits Taleb's model is options. I have a feeling that Taleb has made a lot more money from his second book than he ever made trading. In interviews he is now introduced as an ex-trader. In an interview with Consuelo Mack he clearly stated that he looks to investments as a way to maintain wealth at best; he hopes to generate wealth through his professional activities of writing, speaking, etc. Additionally, it likely would not hurt to remember that gurus are highly incentivized to lie about the more awkward aspects of their schemes.

If you were already quite rich the Taleb approach would give great peace of mind, and some upside potential. It really won't work for someone with the need to live off a small or medium sized portfolio. Like it or not, people in that position will have to continue taking a fair degree of risk.

IMO he is 100% right that for the most part people do not understand the almost open-ended risks that they are accepting in day to day investing. The background supposition of almost everyone on this board is an example of this. We do many spreadsheets and many FIRECalc runs with ever more finely drawn allocations. Meanwhile we forget that this is textbook data-mining, and also that our largest risk is outside the model- the risk that the past has not experienced what the future may bring- or stated alternatively that we don't know the distributions of the stuff we are "modeling".

The only real security is a good job, lots of various insurances, and an iron-clad pre-nup. But we all know at some level that security is a mirage.

Oh wait, I forgot one other source of economic security- a good vested government retirement plan.

Ha

 

[greg]

Ha:

So I read all the stuff that twaddle posted and will always remember this simile from Taleb:

Investing is like picking up pennies in front of a steam roller.

 

[unclemick]

Sooo - in equal amounts:

ATK at 105 - ammo and space, the solid rocket cats.
BUD at - regular season football starts soon. Saints play Indy 9/6 - good day to buy.
ILA at 3.98 - local power co. is getting hosed/sold out
TKF at 18 - those Turks are gonna wup ass on China and India business wise - all because they're secretly ticked the Europeans won't let them in the EU.

heh heh heh - couldda used a monkey and darts but he was busy. .