Value Investing

1. Value Investing Buying Good Companies that Are out of favor with the market. …CHEAP!

2. Main Theme Tonight Making $ in Financial Crisis

3. Value Investors • To name only two of many: • Warren Buffet • David Dreman

4. Making Market Panics Profitable • Be fearful when most others are investing aggressively. • Invest aggressively when most others are fearful. • But invest selectively • Think: Panic, time to make $$$ ! Warren Buffet, approximate quotation

5. Tell ‘em what y’ur goin’ a tell em • I hope you read Dreman’s book. • This evening we’ll define Value & Growth Investing • Show you how to find Value companies • Given examples of “out-of-favor” companies • And how to use CF, Book Value and the SSG to evaluate them • Talk about dealing with the psychological barriers • Discuss when to sell them

6. Handouts, etc • GE Cash Flow Statement from Sept. 2009 • JP Morgan Cash Flow Statement • TEVA Income and CF Statement, latest quarterly, (6-K)

7. Value vs. Growth • Value: Any company (growth or mature) that has come upon bad times and whose price has dropped. • Growth: A company whose sales and earnings are growing well above the market averages or GDP • Growth in normal times if the stock is at a bargain price

8. Value vs. Growth • Value dominates opportunities when economy is in crisis • But also a few value opportunities in normal times • Again: Growth in normal times when the stock is at a bargain price. • Longer time horizon

9. Possible Value CompaniesWe’ll check out a few of these • GE • FRE, FMA, SMA • AIG • WFC, BOC, JPM, GS, C, • GM, F • Some of these will go out of business • Like Bear Stearns, Lehman Brothers • Don’t just buy them!!

10. Finding Value Companies • The press dramatizes these and helps drive the price down • Take advantage of it • Screen for them, maybe • Sales growth up, p/e down, cfo up, future market opportunity = TEVA • Then the SSG screen and more analysis

11. Using SSG for Value Co.s • Look for RR Tracks • Acceptable in prior years 2 through 5 • Okay if broken in current years IF • You can find evidence the company will recover. • Run SSG

12. Go to SSG’s of • GE General Electric • FRE Freddie Mac • JPM JP Morgan Chase • TEVA Teva Pharmaceuticals

13. Consider Buying Companies that … • Had reasonable RR tracks in normal times • Are still financially sound with good management. • Were slammed by events beyond their control • Can come back… gorillas, • Are way under valued • Are not necessarily “growth companies” • Then, if a mature company, sell when the p/e and earnings reach historical levels.

14. Have an Exit Strategy • If a mature company • Price growth may flatten when normal times return • This is a shorter term situation • Thus, sell when price growth flattens; buy a growth company

15. Financial Crisis Strategies • Set aside cash reserve to last several years. Buckets of Money approach, (Ray Lucia). • Put aside additional cash early to invest “at the bottom” • Get out early. But there is a danger of not having a real crisis

16. Consider the Business Cycle…an econometric model Just a taste… Consider doing more research on this if interested.

17. Qinsight’s Insight High at about 14,200 Oct. ‘07 Ease Off Early Revival Ease off Close to Plunge Plunge Dow 05 06 07 08 09

18. Financial Crisis Strategies • Leading indicators: Wait for the “plunge” to end and start value investing in sound undervalued companies in early revival phase. • After “plunge”,Continue to buy regularly to dollar cost average back into the market. • Sell the mature companies you bought when their valuation reaches fair value

19. Qinsight’s Insight High at about 14,200 Oct. ‘07 Ease Off Early Revival Ease off Close to Plunge Plunge Dow 05 06 07 08 09

20. Leading Indicators • Raise cash before “plunge” • Begin re-investing in “early revival” • Go to www.qinsight.com/ • Read the free weekly advisory • Subscribe if you find the weekly advisory helpful and you want more.

21. Risks of Buying Value Stocks • Bankruptcy • Breakup of Company • Sale of Company • Sale of Assets or Chunks of Company while the company survives.

22. Bankruptcy • General Motors Investors • Common Shareholders are the last to eat at the carcass. GM Common Stock went to zero • Bond holders are among the first to eat at the carcass. GM Bond holders recovered some or all of their investment. • NO More on GM… Now for GE

23. Breakup or Sale of Company • Generally sells at “premium to the market price” • Generally the shareholders get a piece (s) of the buying company. • Risk is buying above the buy out price • Reward is buying below the “premium price”

24. Company Sells Assets to Raise Cash • For example Kodak and GE • Companies are in weak bargaining position • Companies often hold on for years at a low price. • See “Comcast Advances in Deal For NBC” • Why is GE selling NBC?

25. GE selling NBC • About half of GE’s business comes from GE Capital Services (commercial real estate) • Big downtown office towers, etc. • Commercial real estate is undergoing financial problems as small businesses collapse • GE needs the cash

26. Things to Consider • Cash Position of the Company • Does the company have liquid saleable assets? • Is it “Financially Strong Enough to Weather the Crisis?”

27. Things to Think About • Get a higher return for more risk. • Is the company cheap because of the general economy? • What controls the company’s destiny? • The market? • The government? • International events?

28. Key Questions • Are they still the gorilla in their market? • Has their stock price hit the bottom and bounced at all. • What would be your sell strategy if you bought this company? If they get back to their high price, will they continue to grow, or will they flat line?

29. David Dreman’s Rules • From: CONTRARIAN INVESTMENT STRATEGIES, The Next Generation • Rule 29: … Buy during a panic • Rule 30: … Analyze reason for lower prices • Were they the company’s own doing? • Is the management still in place?

30. Plan for the Next Panic • Condition yourself • Emotional response • Over reacting • Plan ahead • Have dollars to invest • Understand how to identify value situations • Allow situations to lead you to value stocks • Think: A panic… Great! Time to make $

31. and now Nancy

32. Psychological Barriers to Thoughtful Investing Or How to Avoid Going off the Deep End Adapted from Contrarian Investment Strategies By David Dreman

33. Common Reasons for Bad Decisions • Over Reaction • Pressure of ‘social reality’ • The consensus of the group • Group peer behavior • Psychological pressures • Powerful under conditions of uncertainty • Unrecognized cognitive bias

34. Understand Them! • Understanding these pressures is the best protection against stampeding with the crowd, but easier said than done.

35. Cognitive Bias • Limitations of Information-Processing Capabilities • Systemic Bias of Information-Processing ‘Shortcuts’

36. Shortcuts • Shortcuts highly efficient and timesaving • Swamped with information • Can react only to part of it • We use rules of thumb to simplify handling avalanche of data • Shortcuts work systemically against us in the marketplace. • Reach different conclusions than what we should. • Produce distortions about true odds

37. Cognitive Bias: Representativeness • Draw analogies and see identical situations where none exist • Give too much emphasis to the similarities of events or samples • Give too little emphasis to the probability they will occur • May reduce the importance of variables that are critical in determining the event’s probability

38. Dreman’s Rule to Overcome trap of Representativeness • Look beyond obvious similarities between a current investment situation and one that appears equivalent in the past. • Consider other important factors that may result in a markedly different outcome

39. Cognitive BiasLaw of Small Numbers • The smaller the sample used (or the shorter the record), the more likely the findings are chance rather than meaningful • We over-generalize the meaning of a small number of supporting facts • Limited statistical evidence seems to satisfy our intuition no matter how inadequate the depiction of reality

40. Dreman’s Rules to Overcome the Law ofSmall Numbers • Don’t be influenced by the short-term record of a money manager, broker, advisor or pundit • Don’t accept cursory economic or investment news without significant substantiation • Don’t rely solely on the detail of the present situation: take into account the known prior probabilities of profit and loss

41. Cognitive Bias:Ignoring the Regression to the Mean • Over the long run, things trend back to the average instead of becoming more extreme • Prevalent belief is that extreme returns, both good and bad, will persist. Actually, they are outliers

42. Dreman’s Rule to Overcome Trap • Don’t be seduced by recent rates of return for individual stocks or the market when they deviate sharply from past norms. Long-term returns of stocks are far more likely to be established again. If returns are particularly high or low, they are likely to be abnormal

43. Cognitive Bias: Inputs and Outputs should be Closely Related • Demanding immediate success invariably leads to playing fads or fashions currently performing well • Actually, the value (input) is often not recognized in the price (output) for quite some time

44. Dreman’s Rule to Overcome the Trap • Don’t expect a good strategy to prove a quick success in the market; give it a reasonable time to work out

45. Cognitive BiasAvailability • A mental rule of thumb by which people assess the frequency or the probability of an event by the ease with which instances of occurrences can be brought to mind. • Usually recall events more easily that have occurred frequently • Recall can be distorted by • Recency • Emotional charge • Extremely good or bad characteristic • These distortions move judgment away from long-term probabilities

46. Summary • Cognitive biases are locked more firmly into place by group pressures • When our own biases are reinforced by the powerful influence of experts and peer groups we respect (and who interpret information in the same way we do), the pressure to follow becomes compelling.

47. Summary • We are too apt to look at insufficient information in order to confirm a course of action • We are too inclined to put great emphasis on recent or emotionally compelling events • We expect our decisions to be met with quick market confirmation • We need protective rules against the tug of prevailing fashion

48. Time for a Break !

49. Will the Company Survive? Check the Financial Statements

50. Will the Company Survive? • Necessary Financial Strength • Can they service their debt? • With Cash • Or by selling Marketable Securities • Saleable Assets • Book Value (ultra conservative)