Buying net-nets from 2002 through to today would give you a return of 27% pa .
Most investors would be better served by ignoring a net-net for two years after they buy it. If a net-net goes bankrupt within two years of you buying it – your mistake was buying it in the first place, not forgetting to sell it.
If you buy 30 stocks exactly like our March pick, you will get good returns over time – as long as you do not sell your winners too fast. You can’t sell a net-net that rises 30% in three months just because you would like to take your profit and get out of the stock. Your result over years and years of net-net investing is going to be much, much worse if you sell your net-nets the moment they start rising.
Remember, your winners have to offset your losers. And you will have losers. The reason a stock becomes a net-net is because just about everyone who looks at the stock hates it, thinks it is a dinosaur, a fraud, an imminent bankruptcy.
Most people who buy net-nets will lose money in net-nets. They aren’t going to hold their winners long enough.
A living, breathing business is worth a lot more than net-nets trade for. So once it becomes obvious to investors that this net-net has life in it – it’s not like buying a blue chip stock at 12 times earnings and selling at 18 times earnings.
Today has only five stocks with a market cap over $10 million. And one of these is a Chine reverse merger stock. And this one – I’m not going to say the name – is clearly a total fraud. (Hint: You can tell it’s a fraud by looking at their inventories and receivables relative to sales and current liabilities).
That’s the key to net-net investing. Over a single year, something will happen to a couple of your net-nets to give you huge gains. Nothing good will happen to the rest. Some will fall lower in price. Some will fail.
Selling your net-net within one year of buying it is often going to result in you watching as that company gets bought out in a year or two or three. When you no longer own it.
For a net-net, to be a true success or a true failure we know one thing – it can’t still be a net-net. It either has something happen to raise its price above NCAV. Or it becomes a total loss.
So, to me, it looks like a net-net portfolio with 100% turnover is simply chucking half of its developing net-nets into the trash each year for no good reason. Even a net-net portfolio with a holding period of two years is probably discarding one out of every four developing net-net stories for no reason other than an urge to be active.
When I look at the numbers, I think they point to a three to five-year timetable.
The oldest and most insider controlled companies have far, far fewer big losers. In fact, the average worst loss in a portfolio of 10 old and insider-controlled net-nets is actually less than a more mainstream strategy like Joel Greenblatt’s magic formula (which actually tends to have big losers).
OK, back to me now.
Regarding backtesting, it could be that 2002 was a particularly auspicious time to start a value-based investing approach, as was 2009.
It’s interesting that a net-net strategy might actually be much more suitable for a private investor than a professional. Net-nets tend to be very small in size, so buying a zoo of them might actually be a good idea.
For giggles, I actually ran a filter through Sharelock Holmes, looking for market caps > £10m, and a GR (Graham Ratio) between 0 and 1. GR is the market cap over the NCAV. And here are the results:
1 Share_Name EPIC Graham_Ratio MarketCap 2 RCG HOLDINGS RCG 0.21 35.16 3 PV CRYSTALOX SOLAR PVCS 0.4 18.79 4 AMBRIAN CAPITAL AMBR 0.45 13.58 5 TRADING EMISSIONS TRE 0.46 66.24 6 NORTHAMBER NAR 0.51 10.98 7 RUGBY ESTATES RES 0.54 11.54 8 ARGO GROUP ARGO 0.59 10.25 9 CAIRN ENERGY CNE 0.67 1848.96 10 EMBLAZE BLZ 0.69 60.29 11 VOLVERE VLE 0.69 12.85 12 SOUTH AFRICAN PROPERTY OPPORTUNITIES SAPO 0.71 33.03 13 POLO RESOURCES POL 0.72 77.26 14 TELFORD HOMES TEF 0.74 48.31 15 GLEESON (M J) GLE 0.75 64.26 16 RENOVO GROUP RNVO 0.77 27.03 17 FRENCH CONNECTION FCCN 0.78 45.09 18 DOUGLASBAY CAPITAL DBAY 0.8 15.91 19 NORCON NCON 0.84 12.93 20 PANMURE GORDON AND CO PMR 0.86 21.51 21 BARRATT DEVELOPMENTS BDEV 0.87 1335.72 22 ANTISOMA ASM 0.89 11.12 23 ABBEY ABBY 0.89 102.81 24 PLAZA CENTERS NV PLAZ 0.91 161.73 25 WORLDSPREADS WSPR 0.91 14.55 26 CHURCHILL MINING CHL 0.92 12.22 27 BELLWAY BWY 0.94 970.66 28 HERITAGE OIL HOIL 0.94 394.04 29 MORSON GROUP MRN 0.94 19.26 30 MOUNTVIEW ESTATES MTVW 0.95 179.98 31 RECORD REC 0.96 25 32 AURELIAN OIL AND GAS AUL 0.96 100.86 33 BOVIS HOMES BVS 0.97 644.44
There are 32 companies – which is actually a good selection. I actually know nothing about nearly all of them, although there’s a couple I’m aware of. Let me take a quick shufty at what’s in there.
Top of the list is RCG. Ah yes, RCG. Bless. I’ve talked about that many times. And not in the good way.
Interesting to see PVCS, the alternative energy company. It’s down because the bottom fell out on that particular fad. Who knows, it might actually do something. It’s been around for awhile, so management might pull a rabit out of the hat. I think that one of the points about net-net investing is that you have to do some nose-holding. They’re junk, everyone knows that, and so some extent the lesson seems to be that if you second-guess these things, you could end up doing worse.
There’s some real businesses in the list: I’m talking about housebuilders (GLE, BDEV, BVS, BWY, TEF). Housebuilders have actually had a good run over the last year, and you can see that some of them are close to losing their net-net status. Just goes to show. If you had worried about what the housing market was or wasn’t going to do, you would have missed out on Bellway +9.9% against the Footsie fall of 4.2%, Bovis Homes up 6.5%, and so on. That’s at least a 10% outperformance against the index. Is that good enough for you?
Polo Resources – I actually think that’s a good company. I invested in that (don’t hold it now), and did rather well out of it. The directors have been very good at spotting undervalued resources. You’ll probably do OK on that one, actually. Think of it as an investment trust, though. It’s not really a "trading" company.
Panmure Gordon – provides corporate and institutional investment banking and stockbroking services. No doubt many many investors would have heard of them on account of their analyst reports.
What else we got in there?
Trading Emissions – a company I highlighted some time ago (at a higher price – sorry guys). That trades carbon credits. It’s a kind of trust that was set up to cash in on the bizarre idea of selling quotas on how much you can pollute the planet. We can now recognise this as a complete non-business – the trade of a mere mental construct – probably the most idiotic idea ever. It’s like someone suddenly decided to set up a corn exchange for Facebook’s Farmville, or something. Yet, despite the sheer inevitability of the collapse of the business model, it has net cash of £56m, slightly below its market cap of £66m. An activist investor is involved (can’t remember the name offhand, but it’s a bunch of activist pros), and as far as I know, the company is actually going through an orderly liquidation process. So you never know, something might actually come out of all this.
Record. It provides currency management services for institional clients. If memory serves, it didn’t do their job very well, so their clients left. Again, it’s a company where you never know. It’s sitting on nearly £20m of cash, against a market cap of £25m.
Wordspreads. That one’s an anomoly, I think. Their shares were suspended on 16-Mar-2012 owing to accounting irregularities. The short version is that they’re a spreadbetting company who mixed client money in with their own, made bets that went wrong, and now everybody’s goose is cooked. I’d like to think that there’d be jailtime involved for the guilty parties, but I wont get my hopes up. The situation is completely hopeless – a KPMG was appointed as administrators on 23-Mar-2012. On 29-Mar-2012, a receiver resigned. This one’s got no chance. Not that it matters anyway, because thankfully the shares are suspended and you can’t buy them anyway.
French Connection. This is a troubled clothes manufacturer and retailer. The directors have a significant stake of £18m, and I seem to recall that their sales in Asia were actually doing reasonably well. It’s also held by some top-class posters at Motley Fool. Richard Beddard also has it in his portfolio. So, you never know on this one. It aint dead yet, not by a longshot.
Cairn Energy. I don’t know why it’s so lowly-rated. It’s actually quite a big company. I haven’t been following the story; but presumably things can’t be that bad. Dunno.
Emblaze. I never heard of this one until I did a net-net scan, but thought I’d take a look at it out of curiousity. It’s been trading for at least a decade, and only appears to have made an operating profit in two of them. Its median ROE over the last decade is -8.1%. Yes, that’s right, over the last decade, it ROE has been negative. I think it’s safe to say that it’s not a hidden champion that has managed to secure the services of top-tier management. Interestingly, their NCAV is made up predominantly of cash. You might want to check this bucket of spit out to see if there’s a liquidation possibility here.
Ah. Net-nets. So much more interesting than investing in proper companies. You’ll laugh, you’ll cry, but you’ll certainly never be bored.
Of course, I save the piece de resistance until last. You gotta love this. That company is MUBL (MBL Group). It’s been much talked about by Motley Fool, and even I’ve mentioned it. In fact, a post on TMF was addressed to me yesterday, pointing out its connection with JD.L (JD Sports Fashion). The common connection is Peter Cowgill, who serves on both boards. Questions have been raised about the integrity and competency of management at MUBL.MUBL presses DVDs or something, which it supplies to supermarket MRW (Morrisons). MRW is a huge customer. Or I should say, was. MRW decided not to renew its contract, leaving MUBL in a place of extreme hurt, and basically bringing its whole viability into questioning. There’s also suspicion in some quarters that some director deals were, let us say, "extemely well timed". Amongst other things, the whole stink has carried over to JD. due to the Cowgill connection. Companies associated with Cowgill have also been accused of being over-remunerated. I think that leads to some questions as to whether JD can be considered investible. Anyhoo, that’s a different story. Sticking to MUBL, though … on 30-Mar-2012, the company announced an acquisition:
MBL Group plc, the UK distributor of home entertainment products, is pleased to announce that it has conditionally agreed to purchase the trade and certain assets of Listen2 ("L2"), Garden Bird Supplies ("GBS") and Garden Centre Online ("GCO") from Flying Brands Limited for a total cash consideration of £0.72m on completion.
Apparently, it quite now likes the bird seed market. For real! Of course, there have lots of cheap jokes on Motley Fool, although I haven’t read any jibes about them on Twitter.
Yes, I’m making a funny. I swear I’m not making this up, though.
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