LC

Kiltacular's post was important: namely the part that the best assets in an inflationary environment require little capital expenditure. So you can sell inflated goods without having to spend on inflated maintenance capex.

The way I feel is that a patron can get exactly what they get at hooters (scantily-dressed women and hot wings) at just about any bar these days but without the "skeevy" factor.

Aha! This was what I was most curious about and I was having difficulty wording my question. So you do acknowledge that the swapping of risk is not a "perfect" hedge. Either you will pay additionally to ensure that you swap in a 1:1 ratio, or you have to accept something like 0.9:1 coverage. That is where this becomes so very complicated to me. Because now you are choosing from among the multitude of put options to write which will both give you an attractive downside (something like SHLD or BRK) AND whose cost will allow you to swap risk in a relatively 1:1 manner. Thanks again Eric!

The difficult part for me to comprehend is what exactly you are trying to accomplish by transferring the downside. Are you trying to protect from a systematic pullback? Are you trying to continue speculating? Are you playing off the implied vols of different options whose underlying should behave differently? And in what proportions? I assume the premiums received from writing puts on a basket will not match for premiums paid for the BAC puts.

Learning about portfolio margin helps me enormously for managing my taxable account. Now I can be 100% BAC common stock on the upside but 10% on the downside. Under Reg-T, this would blow up my margin limits in a crash and so I couldn't do it to my full satisfaction. So if I'd known about portfolio margin in the past, things would have been a lot less worrisome for me. Here is what you do. 1) Go put 100% of your portfolio in BAC common stock. 2) Purchase at-the-money puts to protect 90% of the BAC position 3) Write puts on other securities such that you now have 90% downside in those other names Reg-T rules treated this as 1.9x downside I believe, even though it's really only 1x downside. The cash from writing puts on a diversified basket of names finances the puts that protect the concentrated BAC position. I forget who wrote about this months ago...it may have been you, Eric. This is essentially transferring the downside risk of BAC to the market as a whole.

This is very insightful...you are right, I have no reason to assume that inflation will occur in a nice, linear manner at X%. That is Fed boilerplate thinking... I think I need to find an old timer and ask what the environment felt like during super inflationary times! Or at least, re-read Buffett's inflation piece.

Question...do you think TIPS will be adequate to hedge this type of event? I have a small %age of my portfolio in vanguard's TIPS ETF, however I am a bit non-convinced that it will actually function correctly as a hedge if S.H.T.F. Specifically I am concerned about a lollapalooza effect. If inflation occurs suddenly and unexpectedly, will the pent-up inflationary pressures be so great that no matter the level of TIPS exposure, will drastic increasing inflation will make the dollars worthless? Or do you think foreign holdings or commodities (see: gold) would be a more adequate hedge against drastic, sudden inflation?

Guys, I have no idea. Just sold out here as well. That said I am upset for purchasing the shares in the first place. I misread the date on the amended filing. This was total luck. Sorry for dragging people into this, I am extremely grateful that we took advantage of Mr. Market and got out OK.

We only need alternatives if human civilization exists as it does now. If we halve our population, we don't need the immense amount of fertilizers and fuels that we currently need.

Nice :) I look at this community as a place to "hone my craft". I value the criticism on my analytic and valuation reasoning, as well as the methodology of entering and exiting investment positions, so that one day I can identify a hugely undervalued business and have the confidence in my ability to buy it when others are avoiding it like the plague. And doing the same for others means we can all learn and become better investors, and in turn, wealthier! And while I'm on a philosophical slant, I see value investing as a tool for living, not simply a way to "make money". Investing time and energy in undervalued aspects of life, not just undervalued securities, is a way to be pleasantly surprised! Being a contrarian, not accepting the "status quo", standing by your own analysis and being humble enough to admit when you are wrong: these are tools for life, not just buying and selling companies.

Sunrider, thanks for that spreadsheet, very interesting! Did you notice if you insert the current IV of 32%, you have to adjust the strike-price of the warrants to $8.75 to achieve the current price per warrant? Seems that the warrants are overvalued by that notion.

It's a barbell strategy with asymmetrical and convex payoffs for most investors on the board who have had 20% to 30%+ annual returns over the last 7 to 12 years. This means ultra concentrated positions often with non recourse leverage through options or leaps or warrants for high conviction ideas. On the other hand, it means having enough in reserve to live to fight another day if a high conviction idea doesn't work out or if that idea takes longer to work out than expected. Interestingly, this strategy can be less risky (in the sense of permanent, destructive loss of value) if well thought out than conventional "low risk" strategies that equate volatility with risk. :) Can you explain further what you mean by "barbell"? I am only familiar with the barbell-style bond portfolio. Is it similiar, in that you hold a majority of short-term (and presumably low volatility) instruments such as cash or treasuries which are ready to be deployed, and then have a minority in highly-levered, high-conviction ideas? Let's say for illustrative's sakes, 80% cash and 20% BAC options? Why not simply alter the structure to use 40% cash and 60% less-levered BAC securities (commons or preferred for example)? I am very curious as I feel with your strategy (if I am understanding it correctly), if you have a string of consecutive mistakes, you can lose a large portion of capital!

Sent a PM!

Cheers guys! I'm doubly excited as I shifted a bit of my A-warrants to LEAPs recently per the discussion we've all been having with Eric. All in all a good turn of events for BAC.

LMCA is one of those stocks I bought simply because Mr. Buffett has it in his portfolio. It's hard to value for the reasons everyone mentioned, and frankly I think Malone has designed his empire to be extremely hard to value. I think it has the potential to be a great business: great content assets, strong positioning in a consolidating industry, and distribution growth. But these alone would not be enough for me to invest because it is simple so hard to value. I think Malone wants only the investors that stick around to be the ones who trust him at the helm of this empire, not necessarily investors seeing undervalued asset prices. So the way I see it, if Mr. Buffett trusts Mr. Malone, then it's good enough for me.

Gio I agree with your post above regarding what to expect in terms of gains...I'd rather take 6% for years when I have no flashes of brilliance (and believe me, there are many) and then take a 50% gain in 1-2 years when I do have a good idea. I also like this quote from Mr. Marks, because it really boils down common stock investing: And I'm only through five pages!

Eric, this is some bloody brilliant analysis. Very good job illustrating how all leveraged securities have an embedded cost of leverage, and part of their value is that cost of leverage versus the ROE of the security (or underlying). Good on you (and thanks for the free education)!

Does it? Isn't the story always the same in the insurance industry: "we just HAD to write more business!"

The low capex doesn't totally frighten me...they have about 40 employees and I think a lot of what they offer is R&D driven and patent protected. Have you guys seen anything from management regarding their patent expirations, the effect this will have on revenues, and whether they have anything "in the pipeline" to replace these revenues? Also, about 10% of the market cap is in fixed income mutual funds...do we know the details of those? I want to invest here at a more attractive price because it's a high-margin cosmetic product which does not rely on branding/marketing/the whims of consumers to sell.

Mother-flipper...My eyes glazed over it as 2013...well there's a $100 lesson on re-reading terms of special situations! Ah well, do you guys think another letter to the SEC will help? LOL

There is a small (like, $300 worth of small) special situation occurring with Fortune Industries. Here's the link to the SEC filing to get right to it: http://www.sec.gov/Archives/edgar/data/851249/000114420413013993/v337559_sc13e3a.htm The meat and potatoes is here: EDIT: Shareholders as of March 26, 2012! Shares trade at $0.23 as of today, so for $115 you will receive $305 upon completion of the merger. The risks are how long the merger takes and whether it does in fact go through, but for such a small amount it seems like a good risk/reward. All you big dogs (I'm looking at you, Eric) can move right on past this post, but for those trying to get their feet wet with special situations or managing small accounts, it's a nice little opportunity.

How do you think the fixed income market will affect the equity market? The FI market seems to be totally dependant on the Fed at this point. If the Fed raises rates and bond prices tank, the ~20x PE I'm seeing on most stocks may turn to 15x as prices fall. But the issue is, is the US healthy enough for the Fed to raise rates? I'm not going to presume to know what the Fed thinks of the US economy's health, so I guess the move is to take profits on the more liquid dividend paying stocks that the artificially low interest rates are propping up to overvalued prices. I don't think the undervalued small-caps whose revenues aren't tied to interest rates will be sold as much as a large cap dividend payer.

I hope you're right, but I make no such prediction. In my opinion, I only touch highly levered derivatives when the risk/reward is so skewed I would be comfortable "losing it all". Therefore the price has to be so depressed that a total loss would not be catastrophic, and at the same time A LOT of things would have to go wrong to lose total value. Obviously these situations do not occur frequently. I am not sure of the risk/reward or even the notional amounts of Mr. Watsa's hedging positions, but I am sure of the fact that he is very intelligent. Additionally he has created an excellent organization which would allow him to make a mistake or two if he "got nervous" and purchased such a large hedge.

All the while, of course, Mr. Buffett has been ALL OVER the press! It reminds me of what White Sox coach Ozzie Guillen would do for his team. Ozzie was such a controversial public figure that all the attention was on his antics and outbusts rather than scrutinizing the performance of his team!

the table at the top of page 19 should answer your question. CPI hedges are separate from equity hedges. there is a cumulative 1.8bln loss (which i presume is an unrealized mark to market loss---although some may have been realized as they roll over derivatives into new contracts i suppose)