I am a big newspaper reader as well as tracking news across a variety of web sites. If you follow the news today the only possible conclusion is that the geopolitical situation right now is just ugly. The conflict between the Shiites and Sunni in the Middle East threatens to blow up into a full scale regional war. China is making friends with Iran and building them a pipeline. Greece is making goo-goo eyes at Russia. Russia is going whatever it wants including apparently hacking the White House. 30,000 cases of hummus have been recalled. Iran’s Supreme Leader wants all sanctions lifted if they sign on the nuke deal. Yemen is collapsing. Oil is cheap and the dollar is rich. China and Japan are still arguing over a few islands. To make matters worse election season is starting and taxes are due next week.

Sitting up and worrying about the world we live in has been a sport for doom and gloomers, nay- sayers and pundits for generations. I confess that I am concerned about all of these things and more but I simply cannot let them guide my investing activities. If many of these situations worse they could have consequences for the market. If we have a hummus shortage my wife and daughter are going to be a tad testy. However many of these things won’t happen or they may happen and the markets just won’t care very much. I have to be guided by valuation and valuation alone or I would go crazy trying to guess events and outcomes. Even worse I would consistently lose money as predicting both the event and magnitude of the markets response is something about as likely as the Minnesota twins making it to the World Series this year.

I am a dyed in the wool value investor but as a well-known and wildly successful speculator once told me if it can be tested, it must be tested. If you read Real Money you know that I have spent this week testing many of my value oriented strategies this week and I am happy to report they do work and the work very well. As I expected the returns to my basic value approach of buying safe and cheap stocks worked very well over time with very high returns over time. However the returns are very lumpy, as Warren Buffett once said, with much of the gains made in the first three years after a bear market bottom. After that the approach struggles to keep up with the market. In spite of that returns are around 20% annually for the last 15 years.

Part of the lag in advancing markets is because the strategy has what I call a soft timing element. After a sustained advances in the stock market shares become more richly valued and it is simply tough to find bargain. Stocks that were purchased earlier are now fairly valued are sold and cash balnces advance. In 199 for example the portfolio had just 6 stocks at the end of the year. At the end of 2006 cash levels would have been at 50%, just about where we are today. Of course this leaves you looking pretty foolish for many months as markets continue to move higher and you are sitting there with stacks of cash and lagging badly. This would appear to confirm that Hetty Green, Andy Beal and Mr. Womack have the right idea after all. As Charlie Munger has pointed out it takes a great deal of discipline to sit with cash waiting for opportunity to appear.

There was one screen that actually outperformed most of the time. Using the simple 2 step system proposed by Ben Graham of buying 30 stocks that trade with PE of less than 10 or the inverse of 2 times the AAA bond rate outperforms over the 15, 10 and 5 year time frames. That’s pretty solid given that Graham had studied it since 1926 and found that it returned around 15% annually and Tobias Carlisle and Wesley Gray reported that from 1976 to 2011 this simple approach earned about 17% a year. Outperforming for a period of 89 years is pretty consistent. I would have to say it is proven. We will be adding this portfolio to the monthly edition of the Deep Value letter going forward. Going further I found that you could increase the number of stocks substantially and the performance did not materially change. The only drawback is that you to stay fully invested so if we have a bear market you do take the full ride. However it does recover much faster and stronger than the broader market.

We have talked about small bank stocks quite a bit of late so I am not going to mention the fact that community bank stocks purchased below book value have averaged 21% a year for the past 15 years or that the 5 and ten year returns are actually higher. I certainly will not be discussing the timing element of bank stocks that leave you dramatically underinvested before disaster strikes. We can talk about all that another time.

There is a lot of stuff going on in the world. Some of it matters. Some of it does not and never will. The truth is that most of the stuff we worry about never happens. If you focus on value you and ignore the noise of the news your returns should improve markedly.

Cheers,

Tim

If you let the news overly influence you, it quickly becomes a

https://www.youtube.com/watch?v=oSNh2dNVOHE