How Undervalued Are US Equities?

I started my online writing career with The Motley Fool back in the mid 90’s when they were an AOL darling. I not only learned about investment principles from the Dave and Tom Gardner, there were some professional editors who taught me how to write for general audiences. I’m much better off financially and professionally due to the investment and writing coaching.

I used to write about investing on this blog in the early days, but really only in relationship to investment decision making. It’s a good time to make some comments.

Times like this make longterm investors very happy, at least if you have investable cash. If you’re happy with companies you currently own, then these gyrations in markets and economies don’t really affect investment decision. But when the market is driven lower by news that has no predictive value, like a down grade in the US soveriegn credit rating, it can be time to invest.

In the well known book Stocks for the Long Run, there’s a neat analysis of the sources of variability in stock price. The largest effect is overall moves in the market itself. We’ve all seen days where the market moves up and down in concert. I compare it to currency fluctuation- the dollar has gained value relative to the entire universe of equities. Since equities are now moving down in the short-term, there is potential gain as they regress to the mean of steady upward increased value. Clearly, the time to initiate long term investment is now, in crisis, not at times of peak optimism.

The best longterm metric for valuing the universe of equities is to compare the cash they generate compared to lending money. The most common value used for US equities is the S&P500, the 500 largest US companies. The value for lending money is a bit more debatable, but 10 year treasury bonds are commonly used as a safe longterm indication of the cash generated by lending.

The earnings history for the S&P500 is available as an Excel download here (registration required). I’ll use the price to earnings ratio for the full year 2011 which is half historic and half estimates. I could use either 12 month historic data or 12 month projected data and the numbers will shift a bit.

The 2011 P/E is 12.68. I actually want the reciprocal which is the earnings in dollars for each dollar of stock of the index I own. That’s 1/12.68 or 0.079 earnings yield. Yields are always percentages, so we’ll call that a whopping 7.9% earnings yield. The yield on the 10 year treasury this morning is 2.39, [a near historic low][4].

So you get more than 3 times as much cash earnings today from equities than long term bonds an unusually undervalue signal for stocks. If you believe, as I do, that the value of companies will regress to the mean over the next few years, buy solid companies you understand.

My current portfolio? Apple (AAPL), Pacific Health Labs (PHLI), Barrick Gold (ABX), Walmart (WMT), and Williams Sonoma (WSM). And outside of my investment portfolio, my employer, PAREXEL International (PRXL).

How BIll Gates Takes Notes

Note taking apps are proliferating. Everyone agrees that note taking is “a good thing” Have you thought about why? Here’s a now famous example.

Back I n 2003, Rob Howard described a meeting with Bill Gates

The first thing I notice as the meeting starts is that Bill is left-handed. He also didn’t bring a computer in with him, but instead is taking notes on a yellow pad of paper. I had heard this before – Bill takes amazingly detailed notes during meetings. I image he has to, given all the information directed at him. The other thing I noticed during the course of the meeting is how he takes his notes. He doesn’t take notes from top-to-bottom, but rather logically divides the page into quadrants, each reserved for a different thought. For example, it appeared that all his questions were placed at the bottom of the page.

This is an anecdote that continues to be retold whenever the subject of note taking comes up on the web. Perhaps It’s most remarkable that Bill Gates would come into a room with nothing more than a yellow legal pad. And then proceed to take detailed notes. After all as a computer visionary and one of the richest men in the world, Gates could have an assistant take notes. He could ask for a detailed minutes and summaries from all meeting attendees. Or he could sit back as the senior guy in the room and observe the meeting, remaining aloof from the give and take of the project review.

Taking notes during a meeting sends a powerful message. It directly demonstrates that the notetaker is listening and processing the discussion. It shows that what is being said is important enough to record permanently. I make my living providing strategic advice and oversight to drug development teams. I’ve learned to watch for note taking in the meeting as a signal of significant information. When the pens come out, something important has been said. I can gauge my own impact by whether or not anyone writes down what I say.

For the note taker, the act of recording promotes active listening. Without making the effort, it’s all too easy to just follow the flow of presentations and discussion without being intellectually engaged. Synthesizing the information into a set of useful notes requires another stage of processing beyond simple understanding. Certainly it enhances the ability to recall and present the discussion later on. The fact that Gates didn’t have a computer makes him seem almost naked in the room. With nothing besides blank paper in front of him, he had to be focused on the meeting, not scanning and sorting the hundreds of emails he certainly receives in the course of a day.

If the meeting is important enough to be physically present, then it should be important enough to be mentally present as well.

Rob’s other interesting observation was that Gates used a structured note taking system. All we learn is that he divided the page into quadrants and used the bottom area to record questions.

The Cornell System

I’ve never been able to find any more information than this, but I assume that Gates picked up the Cornell system or some variant at some point in his life. Details on the Cornell system can be found at Cornell’s site. and there’s even a pdf generator to produce prepared templates for note taking.

The Cornell system is very simple, but was created to help college students record lectures and study for exams. A vertical line is made about a quarter of the way from the left margin. The large right side is for notes, the smaller left side is for “Cues”, questions based on the notes that can be used to clarify and recall the information in the notes. A bottom area of about 2 inches is for summarizing the notes on the page for easy reference.

I modified the Cornell system for my own use by using the cue area a place to record decisions and next actions. Taking Gate’s lead, I used the bottom for questions to pursue during or after the meeting- often topics or ideas to record later for my own use. I’ll freely admit that this sometimes becomes a distraction from active listening, but it keeps me in the meeting and away from email and social networking.

That takes care of the meeting. Once you’ve captured a few pages of notes, then what? First, even if the notes were never referenced again, the act of taking notes itself has been valuable in and of itself. But most of the time some processing is in order. And that simply means getting what’s useful into the other systems used to keep information available. Gathering next actions and appointments into lists and calendars, for example. Updating project summaries perhaps.

What I’ve personally find most useful is to file the notes in a project folder that comes out of the filing cabinet when I work on the project in the future. This kind of active note taking is a great aid to memory, vividly bringing back the logic and emotion of previous discussions and decision making. There’s the good and the bad, the “I told you so” notes and the “How could we have been so naive” notes.

Using meeting notes to bring the past vividly to mind leads to better decision making that always allowing the past to be a vague shadow that clouds our thinking.

User Experience: Sony NEX-5 As Travel Camera

Elevated

Over the last few days I’ve posted some images captured on a trip to San Francisco. It was one of my first opportunities to spend a few hours shooting with the Sony NEX-5 in my usual travel style.

I have two requirements for a travel camera. First, it needs to stay out of my way both in use and in transit. My Nikon DSLRs are just too heavy and complex to meet my needs. I start carrying a spare lens or two with the camera and I have a kit.

I find myself making decisions about lenses, focus, exposure that are great for contemplative landscape photography, but not my photographic mindset when walking around a city.

I shoot quickly and by instinct. If something looks interesting, I’ll focus, frame and shoot. If I’m worried about the exposure, I’ll check the image on the LCD, but mostly I grab shots and keep moving. Sometimes I stop and capture people as they pass,but its the same approach- the subject is moving instead of me.

Over the past few years I’ve created images with my Leica M6ttl on black and white film. I love the look and the Leica’s simplicity fits the shooting style. I’ve also gotten great images with the Sigma DP1. Its very slow to store a RAW image and be ready for the next shot, but that isn’t a big problem when I shoot in that slow rhythm of look and capture, look and capture.

The second requirement is that the images respond well to post processing. Exposure needs to be right on and the RAW contain enough information to re-imagine the scene using Photoshop. Both the film and DP1 meet this need in different ways. Film really auto-creates the re-imagining. The visual world rendered on TRI-X is not our world,but rather one of contrast and shading. The DP1 images have a clarity and solidity that fits my visual impressions of the world well. Both are limited by either fixed focal length (DP1) or small selection of primes (M6). Other cameras just haven’t been as responsive.

The NEX-5 is my best experience yet on both needs. It’s small and light. I don’t have a camera strap on it. I can walk with it balanced on fingertips hooked around the grip. It looks oddly proportioned but its balance as a tactile object is nearly perfect. It focuses quickly and accurately. I’ve found that using it like a rangefinder works best, keeping focus set to center spot then reframing after achieving focus. The rear LCD works well to compose. I rarely crop, preferring to frame in camera, moving until the image “looks like a photograph”.

I’m also really pleased with the sharpness and color depth in the raw files coming out of the NEX-5, These images are all captured with the kit lens, a typical midrange zoom that helps with framing and relative focus when needed. I’d like a wider angle at times, but generally in the city, my game is one of getting close and isolating as in this image.

I’ll be in Europe for a longish trip next month and expect that it will be the NEX-5 that comes along for shooting during the time off.

Blinded by Deciding

Pool

The combination of multiple options, uncertain outcome and important consequences seem to add up to making a decision “hard”.
Decision making is hard for us compared to ants and birds not only because we care about the outcome, but we are able to contemplate the complexity of the world and imagine a future we can’t control.

“People where you live,” the little prince said, “grow five thousand roses in one garden… yet they don’t find what they’re looking for…

They don’t find it,” I answered.

And yet what they’re looking for could be found in a single rose, or a little water…”

Of course,” I answered.

And the little prince added, “But eyes are blind. You have to look with the heart.”

— Antoine de Saint-Exupéry (The Little Prince)

In focusing on the decision we may lose sight of where we already are and already have.

Mindful Decisions

Steps Toward

Mindful decisions require awareness. Most decisions are made by the brain without active consideration in awareness. A select few decisions reach awareness in the stream of consciousness.

Memory also requires awareness. All activity occurring outside of the stream remains unrecorded or at least inaccessible to our narrative memory. There’s a difference between asking two different questions: “Do recall making this decision?” and “Why did you chose this option?” One requires a subjective report of recall, the second is a request for rationalization and is subject to reconstruction effects if the decision wasn’t a mindful one..

The power and strength of narrative memory depends on emotion. Interestingly it depends not only on emotion in the moment, but memory can be strengthened over time by being recalled, strengthened by being repeatedly brought back into awareness. If an action seemed trivial at the time and the decision was not made with awareness it won’t be remembered. However if that trivial event takes on great significance later, the memory of the action will be stronger and the retrospective choice made can become the memory of a decision made rather than a mindless action taken.

An thoughtless remark, barely remembered might cause the end of a friendship. Regret and guild may build a strong, lifelong memory of the seemingly insignificant words.

Emotion also drives moment to moment awareness since we pay attention and place awareness on the meaningful. We find significance in things that matter, things we care something about. Of course we’re often in an open, exploratory mindset in which nothing in particular has engaged awareness through emotional significance. In the moment we don’t know what’s important until the stimulus occurs. Stimulus leads to response and it is that space between stimulus and response in which mindful decisions can be made. How will we respond to our child’s request? With annoyance or with openness?

This seems to be a foundation of mindfulness. There’s a moment of opportunity in moving from unengaged to mindful. S
o fleeting but potentially so very important.

The Purpose of Art

Post Light

While I’ve recently been exploring the new cognitive neuroscience stance that mind is a verb, I’ve long believed that art is a verb. I never understood the endless debate around “Is it art?” I see art as something people do and if it communicates at some level, it can be considered art. I never saw how art could be a category of thing as the notion of art is tied to the intent of both the creator and the witness, whether the art is visual, aural or the written word.

I never stopped to consider the more interesting question of “Why art?” There is a drive among people of diverse cultures to communicate through art, a drive that appears to date to earliest origins of man. It seems uniquely human and very important. Those who make art know the urge, the need for self expression. And while some artists never publicly show their work, this seems to be borne out of fear of rejection rather than any notion of a private art. Art is communication, but why does it need to be said?

In his book, Steps to an Ecology of Mind, Gregory Bateson offers an interesting suggestion. Offering art is a request for affirmation. The artist is showing others how he or she perceives or constructs the world. The audience, by recieving that communication provides feedback about the artists worldview.

This at least provides a framework to explain how the most abstract of art can be a mode of communication. Perception, feeling, concepts- ideas that have no words attached can be communicated through art. Shared and providing affirmation to the artist.

It also provokes some interesting speculation about why some of us are driven to produce works of self expression. Being heard and understood is important. Producing art is intensely personal precisely because it asks others to respond not only to the work but to the vision of the creator.

I was walking down the street in San Francisco. That camera was in my hand because I wanted to show others how I see the city, how I respond to the urban landscape and the light upon objects. I choose photography because its an efficient means to show you what I saw. The essay is useful to communicate what I thought while reading Bateson on the flight home.

On Sunk Losses

Sometimes the uncertainty of the world leads us not to fear but to hope. There’s a commonly expressed belief that “anything is possible”. I’ve worked closely with executives who seem to believe that they can bend the world to their desires by sheer force of will.

Of course this doesn’t work in reality. Our control over future events in a complex world is very limited. Often the path we’ve chosen turns out to be an illusory path. Generally its not a bad thing because the new perspective will usually open up new possibilities and new choices that weren’t apparent at the beginning.

At some point, the odds of success may have dwindled so much that continuing on seems pointless. Admitting defeat is painful, but embracing failure and recognizing mistakes is an important part of learning how to make better decisions in the future.

One must avoid continuing on just because of past efforts. It appears to be a deep seated tendency to consider investment when making future decisions.

There is a reasonable rule that equates investment with current value. Any object which required great effort to obtain has great value because of the cost that would be required to replace it. We have to pay more to buy a gold ring than to buy a siver ring- so we perceive the gold as more valuable than silver. We’d have to be offered more to give up the gold than to give up the silver.

Equating cost with value doesn’t always work because value changes over time. If I pay a lot of money for a diamond and then a year later the market is flooded with diamonds from new sources, my diamond will be worth less.But because I equate cost with value, I’ll feel that my diamond “should” be worth more than its current value because of what I paid. In truth,its only worth what some one else is willing to pay for it. The same effect has been seen in studies of stock market transactions. Owners of shares that have lost value tend not to sell them, believing that they should be worth more and are resistant to accept less than what they paid for them. Sadly, this prejudice leads to investors making the often poor decision to keep their losers and sell their winners, when the exact opposite may be the case. Good decisions in the past are represented by those shares that have gained in value. They may represent the successful, growing companies.

In buying and selling, only the present value should be considered. Cost is known only to the owner and has no effect on current or future value. The losses up until now are often referred to as “sunk losses”. This is money or effort that has been spent, is gone and have no bearing on current value and need to be ignored when making decisions. Its as if every day is newly created and decisions to buy or sell have to be made only on the basis of the current market and belief about the future right now.

SImilarly, past efforts and plans have no effect on the chances of success now. There is only the current situation and belief about the future. Every day is new. We must decide which way to go at every moment as if the past had not occurred. This is why a plan is only a formalization of belief about the future and may need to be changed or abandoned if events unfold in unexpected ways. Mistakes need to be embraced, not covered over. New information must be constantly evaluated for impact on expected chances of success.

The Illusion of Complexity

Making the right decisions is necessary for success. it doesn’t matter how well one executes on the plan. If the wrong choice was made at the outset, the result is wrong.

The challenge is making decisions under conditions of uncertainty. It’s not knowing what will happen in the future that makes the choice hard now.

Much complexity is illusory and really nothing more than uncertainty. The apparent complexity is in the mind. There is no complex system in the world that maps onto all that thought. In the real world, the die may be cast. We may be entirely unable to influence the state of the world. Yet we build castles of anxiety in our minds worrying about what will happen when it already has.

The Drive To Create Stories

A large part of our brains is devoted to making sense of the world. Visual perception is of no use without object recognition. Object recognition is of no use unless objects can be categorized as animate or inanimate, food or poison. Our brains constantly pour meaning into the world.

I’m sure we do this as we percieve our own thoughts and intentions. We are each the hero of our own personal narrative. That story provides ego strength and reasons to make decisions that move the story along toward the next desired event.

But what if that story is denied us? We know that short term memory loss leads to confabulation- without access to memory of events the brain is often happy to make up a plausible tale from available facts. How about a whole world?

In a Tiny Universe,
Room to Heal – At Home With Mark Hogancamp – NYTimes.com
: ” Feeling shunned by the outside world, he created his own world, a tiny society called Marwencol.
Made from scraps of plywood and peopled with a tribe of Barbies and World War II action figures, Marwencol grew along the side of his trailer home near Kingston. (Mr. Hogancamp named his new world after himself and Wendy and Colleen, two women he had crushes on.) Narratives surrounding a downed American fighter pilot rescued by Marwencol’s all-female population began unfurling against a backdrop that was nominally a World War II setting, in Belgium. The themes, however, were Mr. Hogancamp’s own: the brutality of men, the safe haven of a town of women, the twin demons of rage and fear. Mr. Hogancamp captured his stories with thousands of photographs, shooting on an old Pentax with a broken light meter. The noirish images, complete with blood flecks in the snow, are riveting and emotional.”

We always say that soap opera amnesia, forgetting personal identity, never happens. But its clear that sections of memory for personal history can be lost. Hogancamp seems to have a complex situation combining alcoholism, traumatic brain injury and post traumatic stress.

Resulting in story telling. Resulting in art.