My Amazon Review of David Sanger's "New Cold Wars: China's Rise, Russia's Invasion....."

Pre-War, Not New Cold Wars

 

New York Times national security correspondent David Sanger is way too close to his sources, National Security Advisor Jake Sullivan, and Secretary of State Antony Blinken, which is both an advantage and a disadvantage. It is an advantage because Sanger puts us behind the scenes to give us a very real sense of the diplomatic events of the past four years, especially the tick-tock of America’s warning to the world about the 2022 Russian invasion of Ukraine.  It is a disadvantage, because instead of being a clear-eyed reporter, he was sucked into the world views of Sullivan and Blinken, an apologia, if you will.  He buys into the idea that we will give enough aid to prevent a Russian win, but not enough to allow for a Ukraine victory.

 

In 2014 after Russia’s invasion of Crimea, I noted that this would the start of something big and both the U.S. and Europe would have to respond forcefully. (See:  Shulmaven: The Ukraine: What is to be Done )However, both the E.U. and the Obama White House accepted Russia’s aggression as a fait accompli. Thus, too me it was no surprise that given the lack of will in the West, that Putin would sooner or later go in for the kill.

 

 

If you want to put dates on the start of the new cold wars between the United States and Russia and China, you can start at the 2007 Munich Security Conference where Putin decisively separated himself from the West. In the case of China, you can use Chairman Xi’s 2013 address to the Communist Party where he girded the party cadre to prepare for the struggles ahead. Simply put, the whole policy framework that brought China into the global economy was a failure. In both cases Russia and China returned to their dictatorial roots with Putin viewing himself as the “new Tsar” and Xi as the “new Mao.” (See: Shulmaven: My Amazon Review of Fiona Hill and Clifford Gaddy's " Mr. Putin: Operative in the Kremlin")

 

Sanger rightly spends much time on the ongoing cyber war with both Russia and China being aggressors attacking both governmental and private web sites. It is here where such private companies as Microsoft, Google and Palantir play leading roles in defense of our country. We also can’t forget Elon Musk’s StarLink system initially saved the day in Ukraine.

 

Sanger picks up on Sullivan’s industrial policy views where the U.S. is now in the business of subsidizing America’s chip production. Because computer chips are at the core of both the modern economy and defense hardware, it makes little sense to import most of our chips from abroad, especially where the bulk of those chips come from very vulnerable Taiwan. (  Shulmaven: My Review* of Chris Miller's "Chip War: The Fight for the World's Most Critical Technology") Indeed, in the new Cold War, Taiwan is the new Berlin.

 

Sanger is too casual in his discussion of the new Russo-Chinese alliance that was formed at the Beijing Olympics in 2022 where the two partners stated their relationship was “without limits.” Hello, this foreign policy nightmare happened on the Biden Administration’s watch.  If Kissinger got credit for splitting the Soviets from China, shouldn’t the Sullivan/Blinken team get the blame. Within days Russia invaded Ukraine.

 

What is wrong with Sanger’s book is that he does not discuss defense policy. If we are in new Cold Wars with Russia and China, our stagnant defense budget certainly does not reflect that. Biden in his 2023 State of the Union address called attention to Franklin Roosevelt’s 1941 address discussing how dangerous our world has become. However, he did not mention that a week before Roosevelt called for America to become “the arsenal of democracy.”  ( See:  Shulmaven: President Biden's State of the Union: Strong on Form Weak on Substance) The defense budget would quadruple in the following year.  Similarly, Biden has yet to make the equivalent of the 1947 Truman Doctrine speech and Sanger has not reported any national security council memorandum equivalent to the 1950 NSC-68 which called for “a massive build-up of conventional and nuclear weapons.”

 

Sanger hardly discusses Iran and North Korea who are objectively aligned with Russia and China, a serious omission. It seems to me the world is a far more dangerous place than the new cold wars that Sanger suggests that are now with us. To me, we are in a far more dangerous pre-war period that we are ill-prepared to deal with it. (See: Shulmaven: Shulmaven Anticipates Hal Brands Foreign Affairs Article on Pre-WW II and Today)

For the full amazon Review see: Pre-War, Not New Cold Wars (amazon.com)

 

 

The Defanging of the Stock Market

 

April has brought with it the defanging of the stock market where the hitherto invulnerable FAANG stocks crashed and burned bringing with it a full-fledged bear market in the NASDAQ Composite Index. FAANG stands for Facebook (now Meta Platforms) Apple, Amazon, Netflix, and Google (now Alphabet). From their respective 52-week highs Meta is down 48%, Apple is down 13%, Amazon is down 33%, Netflix is down an astounding 73% and Alphabet is down 23%. Taken as a whole the NASDAQ Composite is down 23%. The weakness in these five stocks which at one time accounted for nearly a quarter of the market value of the S&P 500 brought that benchmark index down 14%.

 

Market behavior of this type is reminiscent of the 1973-74 and the 2000-02 bear markets. In the 1970s the so-called Nifty-50 group of one-decision growth stocks which were trading at 50-60X earnings experienced declines in excess of 50 -80% during the course of the bear market. In the collapse of the 2000 dot.com bubble such stalwarts as Cisco, Microsoft, Intel, and Oracle (a group of stocks that I then characterized as “The Four Horseman of the NASDAQ”) which traded at multiples in the 80-100X range lost about three quarters of their market value. Indeed, just as today, the stock market was bracing for a tightening of monetary policy. Needless to say, the history is not encouraging.

 

There are, however, two distinct differences between then and now. First, from 1972-74 the 10-year Treasury traded in a 6-8% range and in 2000-02 it traded in a 5-6% range far higher than the current 2.9% yield. Second, with the exception of Netflix valuations are nowhere near as demanding with Alphabet trading less than 20X earnings, Apple at around 25X, Meta at a below market 14X earnings. As a result, even if Treasury yields rise to 4%, my sense is that the worst of the declines in FAANG and the market as whole are behind us.

 

To be sure, we could soon be looking into the teeth of a recession triggered by a very aggressive Fed and continued high inflation which would haircut earnings estimates across the entire market. We are sure to have a recession at some point, but I do not believe it is soon. Simply put the end of the pandemic is fueling a consumer boom and capex remains strong fueled technology and energy related spending of all types. Thus, it will take more than 250 basis points of tightening to break this economy. Of course, if we are in a rerun of “That 70’s Show,” all bets are off. (Shulmaven: Roaring 20's or That 70's Show)

 

As I wrote in February(https://shulmaven.blogspot.com/2022/02/the-unravelling.html), my sense is that we are in a structural bear market in bonds and in for a very volatile stock market. Whether or not the lows are in or not, I do not know, but the world will not look as bad in December as market participants feared last week. Net, net although 2022 will be a down year for stocks, the market will end the year higher than where it is now.

My Amazon Review of Bruce Greenwald's et.al. "Value Investing: From Graham to Buffett and Beyond" 2nd. Ed.

 

In Search of Value

 

As a value investor, I have the highest respect for Bruce Greenwald and his colleagues. Unfortunately, in recent years value investing has failed to live up to its billing. Indeed, over the past two decades Warren Buffett’s Berkshire Hathaway has performed roughly inline with the S&P 500. (I am a shareholder.) My history with value investing goes back to reading Graham & Dodd in 1964 while attending Baruch College. Further I own the classic 1940 edition of that book and Greenwald’s first edition of this book. Nevertheless, I did find my way to owning Microsoft, Apple, and Alphabet.

 

Nevertheless, Greenwald’s new book is worth a careful read. He is very wise in dismissing modern portfolio theory’s Beta as a measure of risk. Why? The beta measure of risk is independent of stock price. He is also very cautious about using discounted cash flow over long periods of time because the results are extremely sensitive to small changes in the discount and growth rates.

 

Greenwald plows over old ground in his discussion using net reproducible assets and earning power as a method for determining value. He then goes one step further by introducing franchise value into his valuation paradigm. Simply put franchise value is created by the ability of a firm to earn significantly higher returns over its cost of capital over a sustained period. Those returns arise from the existence of a protective “moat” around its businesses. Greenwald also recognizes that over time a firm’s franchise value can decline, and he thus introduces a decay factor to account for this factor.

 

The question arises is why hasn’t value investing been successful in recent years. There are at least two explanations. First is that the economy has shifted from tangible asset based to intangible asset based. That means GAAP accounting does not put on the balance sheet such intangibles as trademarks, patents organizational efficiency and research and development platforms. Greenwald adjusts for these factors, but there is higher error term surrounding the valuation of intangibles than tangibles. Second the Fed’s zero interest rate policy coupled with quantitative easing has likely distorted many of the historical metrics defining value.

 

The book was written before Berkshire Hathaway made its $735 million investment in Snowflake, a cloud computing software company. At Berkshire’s price, the company was valued at $34 billion and had trailing twelve months revenue of just under $500 million. Whatever one can say it is hard to make a valuation case for this company. Nevertheless, the stock more than doubled after Berkshire’s IPO purchase.

 

Greenwald has a very long discussion about Intel, the semiconductor giant, which at times in its history represented true value. He blames Intel’s recent problems on value destroying acquisitions. That is true in part, but Intel’s real problems run deeper. Its franchise value has deteriorated as it vaunted R&D operation failed to keep up with advances made by Applied Micro Devices, Nvidia and Apple. Moreover, its edge in manufacturing disappeared as Samsung and Taiwan Semiconductor surpassed it in the production of the latest generation of chips. In other words, Intel’s “moat” was paved over by competition despite its spending 19% and 22% of revenue on R&D and capital spending in 2019, respectively.

 

An added attraction of the book is that it includes vignettes from star value investors as Warren Buffett, Mario Gabelli, and Seth Klarman, among others. I read the book in the Kindle version; given the number of tables, it would have been an easier read in the hardback version.

 

Lastly, I recently started a position in a stock that currently trades at 10 times earnings and is trading at or below in my estimate, the reproduction costs of its assets. So, hope springs eternal and I will close with the opening quote that Graham & Dodd used in their classic text “Security Analysis: Principles and Technique,” from Horace’s Ars Poetica, “Many shall be restored that now are fallen and many Shall fall that now are in honor.”

For the full Amazon URL see: In Search of Value (amazon.com)