Hello Everybody,

2015 has started with tremendous volatility.  The major issues are the continued rise in the U.S. dollar, declining commodity prices and turmoil in Greece.  We are now in year 6 of a bull market so it is to be expected that it would get more difficult to make money and volatility is to be expected.  Fortunately, for value investors, it is the fundamentals of the businesses that we invest in which will ultimately determine our success or failures.  Our largest positions by far are in the financial sector.  Some of these positions have sold off recently, because with the economy showing signs of weakness, many believe that the Fed will not raise rates in the middle of the year as was previously expected.  Because financials should benefit from rising interest rates, this is seen as a short-term negative.  I don’t believe rates will go up by the middle of the year either, but market participants are underestimating the financials once again.  These are multi-faceted businesses with a lot of different ways to make money.

For instance, while continued low interest rates pressure net interest margins for banks, we are now seeing a huge resurgence in refinancing and mortgage origination, which is very positive for earnings.  The biggest lawsuits are now in the past and the companies have cut costs aggressively, so profits are likely to go much higher.  Capital is up and risks are down.  Most importantly, the prices we paid are extremely cheap relative to value, and price is the most important determinant of investment success.  Below are some basic calculations of current prices relative to conservative estimates of intrinsic value for a few of our major investments.


AGO– Stock trades around $25, conservative liquidation of $35 and going up.

BAC– Stock trades around $16, conservative liquidation value of $20 and going up.

C– Stock trades around $49, conservative liquidation value of $60 and going up.

DB– Stock trades around $28, conservative liquidation value of $40 and going up.

AIG– Stock trades around $51,  conservative liquidation value of $70.


These are our biggest positions and these liquidation values are far below our estimates of intrinsic value.  All of the companies have greatly increased capital and should see much higher earnings over the next few years.  Also, all should begin increasing dividends and stock buybacks with the only possible exception being DB, which is a little earlier in the recovery process but is also the cheapest company in the group.

Other prominent investments that we own such as General Motors, will be big beneficiaries of lower gas prices and consumers elect to buy the more profitable SUVs and trucks.  Also, most accounts have very large short option values, which is basically your unearned premium.  We made the prudent decision to sell long-term options, which allowed us to get the greatest amount of protection and premium possible.  This creates a situation where we either generate an attractive income stream or we end up owning stocks at large discounts.  When volatility spikes, that can cause shot-term mark to market losses, but what ultimately matters is where the stocks are at expiration relative to the strike prices.  I’d expect the situation to look quite attractive by January of 2016,as most of these options expire.  It is also important to note that in general, we don’t use any leverage or anything like that like many speculative groups that use options do and tend to give them a bad name.  Below are two recent research reports that I’ve written on HP and ESV in the energy sector.  I hope that you enjoy and if you have any questions or if I can assist with anything at all, please don’t hesitate to call me at 805-886-8140.  Thank you very much!