Thursday, March 24, 2005


The past few weeks have not generally been kind to my family portfolios. Many of our long-term positions have come well off their highs. EBAY has been one of the worst but it and several others deserve a good rest. We will hold the long positions without worrying about them. Our timing was excellent in regard to the Gold hedge. We made a nice profit and took it off before the big rally in the dollar.

We have added and added and added to our airline positions. We have a lot of patience when it comes to turn-around plays. Ironically, our airline stocks have out performed our oil drilling stocks over selected time frames in the past couple of years. The airlines hit lows and bounced. The stocks tested the lows and now are in the long process of recovery. Some may not survive but my bet is that my family will own several survivors that will do extremely well over the next five years or more. The recent fare increases are encouraging. Fuel prices are only the excuse needed to raise fares. The reality is that the market supply and demand conditions currently allow the carriers to raise rates.

Diversification is often used as a means to avoid taking a stand. Many intelligent investment advisers hide behind the concept of diversification. These folks sometimes lack confidence and do not want to take a stand. Others are simply avoiding the potential of law suits while earning fees for placing clients in "products". Others are correctly diversifying portfolios for those who truly have a main goal of preserving capital; those who are happy with average returns of 6 to 9% provided they don't ever suffer draw downs of equity. A few are carefully analyzing markets and diversifying into securities that offer high probability of success for the customers, these advisers typically take a reasonable fee but do not place clients in the highest cost funds.

Investors certainly need to be careful. They certainly need to understand relative risks. If an investor has the goal of stock market returns of 11% or better, he must take the risk of being in the market. One problem I often see is that in order to avoid risks they do not understand, investors often unnecessarily accept large fees in the attempt to guarantee against large losses. Paying 2% of assets to invest in a covered option fund is a bad risk since the long-term track record of option funds is not good.

John Maynard Keynes was one of the most successful investors of all time. He is responsible for the large endowment enjoyed by Oxford University. This is the fund that gave Bill Clinton and thousands of other Americans full scholarships. Mr. Keynes spent only a few hours each week investing the Universities funds. He did much of his work from his bed as he was very ill for many years. Perhaps it was his pending death that allowed him to perceive that risk is a necessary evil. He was known to concentrate his investments into as little as 6 companies or industries. He decided which industry was ripe for profits and "loaded up the truck".

One interesting phenomenon is that from time to time Americans decide to start their own businesses. These Americans are typically unhappy with the returns of their portfolios, tired of their jobs and ready to seek their fortune. Ironically they often sale diversified retirement accounts and sink their life savings into a very risky proposition. The long-term history has been horrible. About 90% of all of these folks close their businesses at huge losses within 5 years.

Owning a large position of shares in DAL, CAL, AMR, and NWAC is a risky proposition. However, not nearly as risky as owning the same total investment in any one of these stocks. Although my investment is not evenly divided, for sake of discussion if one puts 25% in each of these stocks and if one liquidates while the other three are five year home runs, the total return will be 300%!

Owning shares in these large companies is certainly less risky than starting the typical small business. The owner of a small business must typically give up his job and investment income in the hope that the business will pay-off. The buyer of airline stocks does not have this problem.

Diversification is a good idea. Even John Maynard purchased 6 or more industries. Many other famous investors have held and currently hold concentrated positions. Perhaps Mark Twain's insight serves to make the point. Twain said he had decided to put all his eggs in one basket but he would watch the basket.

In truth, Twain was not very smart with money. My recollection is that he died without any. The idea here is to encourage all to think carefully about the concept of diversification and not blindly purchase high cost funds as a place to hide. As Mr. Keynes once said, perfect diversification would lead to zero profit.