MSFT

[onyx1]

Buffett sees MSFT as a value play at current levels....

 

http://uk.finance.yahoo.com/news/Buffett-says-held-back-good-reuters_molt-973332293.html?x=0&.v=1

 

Whew...glad I added more on Friday's pull back.

[biaggio]

Ericopoly,

 

"$4.25 I paid for $65 strike calls"

 

If you don t  mind I have a very basic question (sorry it mind be dumb)-

 

you pay $4.25 for the right to buy JNJ for $ 65. It s currently selling for $65.75.

 

If in 1 year we have a correction or cash + say JNJ trades for $54, your re thinking that these options will not be much lower than $4.25? (I forgot was the expiry date 2 years from now?) Why would these options not be significantly lower especially if there is a lot of fear etc

 

On the upside I can see the logic, as if JNJ trades for $90 then your option will be worth significantly more than $4.25 (closer to $25 which is sweet)

 

Or are you thinking that at $54 you would use your cash holdings (the cash that you don t have to spend today because you are using options to control a certain # of JNJ shares) to buy the share outright.

 

Sorry I am a novice.  Find your strategy interesting.

 

Appreciate you sharing your ideas with the board.

[augustabound]

To all the MSFT fan boys ( or gals ) - if the windows franchise is under threat, MSFT has no room to go up. It will be a value trap for a long time. They should continue to buy back shares.

 

I don't follow MSFT that closely, but Doug Kass tweeted yesterday "repeating for emphasis - msft is a value trap". 

No explanation given though, unless he said why on Fast Money on Thursday. 

[ERICOPOLY]

Ericopoly,

 

Why would these options not be significantly lower especially if there is a lot of fear etc

 

 

Options are cheap when people are not fearful, and expensive when they panic.  When KO was $40 the 20 month calls cost $8 at-the-money.  But at the same time the $30 strike KO put was $3.  So people would pay 10% premium for an option 25% out of the money. 

 

A repeat crisis would put the $60 strike JNJ call at about $6 or maybe more if stock dropped to $53, and the $50 strike call would probably be about $12.

[zippy1]

Ericopoly,

 

Why would these options not be significantly lower especially if there is a lot of fear etc

 

 

Options are cheap when people are not fearful, and expensive when they panic.  When KO was $40 the 20 month calls cost $8 at-the-money.  But at the same time the $30 strike KO put was $3.  So people would pay 10% premium for an option 25% out of the money. 

 

A repeat crisis would put the $60 strike JNJ call at about $6 or maybe more if stock dropped to $53, and the $50 strike call would probably be about $12.

Eric,

Is there a way to get historical price for options?

 

It would seem to me that if JNJ fall to $54 due to general correction, it would be the time to load up.  But it sounds like the call prices actually would not change much just because the volatility would be way up.

[biaggio]

Eicopoly

 

Thanks for the reply

 

"Options are cheap when people are not fearful, and expensive when they panic."

 

That makes sense.

 

I am still having trouble believing that the value of the option would be more dear.-would people not be panicking and selling indiscreminately ?  Price should decrease if there are more sellers?

 

And would it matter that some time would pass, let us say ~ 1 year would pass so instead of 20 mo, expiry date would be in 8 months with price of common down to $54 from $65.

 

 

[ERICOPOLY]

 

I am still having trouble believing that the value of the option would be more dear.-would people not be panicking and selling indiscreminately ?  Price should decrease if there are more sellers?

 

 

People seem to panic and clamor for puts -- maybe it's overeager speculative shorts.  I don't have an answer as to who drive up the prices..  That drives up the price of calls too (put/call parity).  There are some exceptions for HEAVILY shorted stocks (like SHLD in 2009), but generally speaking a stock like JNJ will have put/call parity.  Or maybe it's not panic itself that drives the price up -- maybe it's lack of liquidity (less capital to support the options market leads to less eager options writers).  I don't really know, but I know that volatility premiums explode in a crisis, and I know the put/call parity is reality in the shares of companies that aren't the most hated on the street.  

 

Some funny stuff happened during those times... when KMX was on the way down... maybe around $15 or so  I wrote a $12.50 naked put for about $2.50 (thinking I'd make 25% return on the $10 at risk).  Pretty soon the stock was down around $7.  Does this mean I would lose money?  Well, surprisingly not yet...  Because the puts were now fairly deep in the money, I could by them back without much premium.  I think I bought them back for about $6 or so (don't really remember).  So I was down about $3.50, so far losing about 35% of the $10 that I'd put at risk.  Don't worry though, I come out alright!  At that time LUK was trading around $17 but the $15 put was selling for $5.  So I wrote that put.  Now, $5 is a 50% return on the $10 that I'm putting at risk.  So now I'm down 35% on KMX but I'm going to make it back almost whole getting 50% return on LUK puts.  Well, after LUK drops to $10 I buy those puts back at $6 (lost additional 10% on LUK), and turn around and write $10 strike RWT puts for $5 (stock was at about $12 at the time).  Now, I'm going to make my money back and make a profit to boot!  And I did -- the RWT puts made me 100% return ($5 premium over the $5 put a risk) -- the stock never traded below $12 if I remember correctly.  I spread it around a bit more than RWT, but I'm just using RWT only in the example to simplify.

 

This is something people don't really fully realize about writing far out of the money naked puts...  if you get caught in a crash of that magnitude, you can bail water and right the boat with this kind of trading strategy.

 

 

And would it matter that some time would pass, let us say ~ 1 year would pass so instead of 20 mo, expiry date would be in 8 months with price of common down to $54 from $65.

 

Yes, time matters.  But 21 month options decay very slowly at first and then accelerate.  They won't decay by 1/21 in the first month.  The time value will decay mostly at first, then the volatility will sort of remain valuable up until a few months before expiration.  You'll note that options expiring in a month are not 1/21 as costly as the ones expiring in 2013.  I am using 21 months in my example because really that's what these options are -- expiry was just 2 days ago for the April options.  (Feb, Mar, Apr) -- 21 months.

 

I can live with a few dollars a share decay in the calls.  Primarily, worst comes to worst I will be taking delivery in 2013 of JNJ at forward 11x earnings.  So fry me in hot oil!!!  And if the stock is $54 at the time, I'll be getting 10x forward earnings instead of 9x (if I had never bought the calls today).  Man, what a tough life.

[ERICOPOLY]

 

Eric,

Is there a way to get historical price for options?

 

It would seem to me that if JNJ fall to $54 due to general correction, it would be the time to load up.  But it sounds like the call prices actually would not change much just because the volatility would be way up.

 

If there is such a place where they keep a history of prices, I don't know about it.

 

Anyhow, if we get another crisis like that I likely won't get JNJ.  There will be things down 80% again.  The JNJ calls are largely my idea of getting a phenomenal deal in 2013.  We can get the big crash this summer, I keep the JNJ calls, I use my cash instead to buy LUK at $10.  Then LUK recovers by 2013 and I look forward to JNJ at 11x P/E.  Lots of variability here -- lots of optionality (hey, that's why they are called options).

 

But I don't just want to sit around waiting for the crash... and I don't want to stay invested in smaller companies with low margin of safety and wind up down 60% in another 2009 crash. -- I want to confidently know that I've got an amazing set of deals lined up on my calendar -- January 2013 to be precise.

 

And by amazing I mean the kind of bragging rights I'll have fun telling my son about when he is 25 and JNJ is at 20x.  Son, back in my day you couldn't avoid tripping over companies like JNJ at 11x earnings.

[ERICOPOLY]

Perhaps here is an easier way to look at it.

 

The $55 strike 2013 JNJ calls presently trade at $11.55.  Break even cost basis at expiration is $66.55, which is only 85 cents higher than present market price.

 

But in a panic like 2009 where it gets down to $54 again and volatility is once again 20% of at-the-money price, then the calls are likely to be worth about $11 still.  Maybe $10.  So in a mega-crisis, you lose a whopping 3% of today's market price for JNJ, but in the event of getting no crisis and stock goes up peacefully, you only paid 85 cents in volatility premium.

 

 

 

 

[ERICOPOLY]

The valuation of MSFT is comical when expressed in these terms:

http://online.wsj.com/article/SB10001424052748703655404576293303706505770.html

After Friday's selloff, Microsoft is trading at 7.1 times expected fiscal 2012 earnings, excluding cash. That isn't a whole lot better than Research In Motion, which after dropping Friday on lowered expectations, is trading at the equivalent multiple of 6.4. And it doesn't make much sense.

 

Microsoft is a much more diversified company than the BlackBerry maker. Even as Windows' profit growth has flattened, Microsoft Office continues to power ahead. With revenue rising 21% in the quarter, Office contributed 55% of operating income. That it sells on Macs, and Office products are available in some way on some tablets, insulates Office somewhat from what happens in the PC market.

 

Microsoft's server business, meanwhile, has emerged as a significant contributor to profits. And with the success of the Xbox Kinect product, the entertainment and devices division is even showing increasing profits albeit at much lower margins than the software businesses. Microsoft's partnership with Nokia means Windows Phone will gain significant market share, although the revenue potential remains uncertain.

[sswan11]

I take it you plan to exercise the JNJ calls in Jan 13 (presuming they are in the money), whatever the price.  Interesting, I've never exercised options - do you just tell your broker?

 

You can see historical prices (for current options only - not already expired) in ETrade through the graphing function (hit "Details"). 

[ERICOPOLY]

I take it you plan to exercise the JNJ calls in Jan 13 (presuming they are in the money), whatever the price.  Interesting, I've never exercised options - do you just tell your broker?

 

You can see historical prices (for current options only - not already expired) in ETrade through the graphing function (hit "Details"). 

 

Yes, any time you feel like it you exercise them.  Just call the broker and tell them to do it.  The price tag of the options gets added to the cost basis of the shares, deferring your capital gains until you sell the shares.

[ericd1]

I let my in-the-money call options simply expire - they are converted to shares , which you pay for (#option contracts x 100 x strike price) and the shares show up in the account the next day.

[onyx1]

Buffett sees MSFT as a value play at current levels....

 

http://uk.finance.yahoo.com/news/Buffett-says-held-back-good-reuters_molt-973332293.html?x=0&.v=1

 

 

I guessed that Mr. Market would have taken this information and bid it up much like when BRK takes any new position in a public company.  Wrong!  MSFT down on the day.  Wow, not even a Buffet endorsement can lift MSFT.

[ERICOPOLY]

His opinion doesn't get much respect these days.  How many agree with him that the housing market will turn by year end?

[Guest VAL9000]

His opinion doesn't get much respect these days.  How many agree with him that the housing market will turn by year end?

 

On that one, it's all about the jobs.  I'm pretty confident that we'll see continued improvement in employment over the next 6-12 months in the US.  Assuming these are sustainable jobs then the housing market should begin to rise along with employment.

 

I did some reading of KB Home's annual report and earnings calls recently.  Some trends they are seeing in housing:

- flexible (read: smaller) floor plans are used to scale up/down new builds

- energy efficiency is becoming a sales tool for new homes vs. resell market (e.g. you can save $100 per month on energy costs by buying new)

- improvements in the home building market are highly localized (i.e. san antonio and austin are doing well, but houston is not)

 

What I like about home building vs. the housing market in general is its ability to adapt.  Currently, personal budgets are pressured and investments in real estate are considered risky.  Home builders can adjust to the market sentiment by offering smaller, more energy efficient homes.  They will also continue to focus on geographical markets with high job growth.  Resellers are sorta stuck with the house on the lot (granted they often benefit from the three most important factors in real estate).

 

I'm mulling around the idea of investing in home builders.  I like that they're out of favour and have some nice advantages that might be clouded by the overall view of the industry they operate in.

 

[Myth465]

Buffett is interesting. I agree with him on just about everything he says, but also feel that he is misquoted sometimes. I think the housing market will turn, but dont see great profits for anyone. He will make a decent return, due to his business being tied to new home starts, but I dont think its reason to buy a house.

 

His comments are usually tough to argue with, but are very easy to misunderstand. They can be taken pretty much however you want. I dont think he has great insights into MSFT, I just think he sees a monopoly with a PE below 10, and tons of cash on the books. Hard to argue with that. Even if the moat is being shredded (which I dont think it is), they still have another decade of tech dominance inmo.

[Guest Bronco]

I don't know who would be better to predict, considering he reviews brick sales, material sales, carpet, etc. 

 

I would think that the turn may happen but will be quite slow.  The banks are still a mess, even with all of Bernake's gifts.

 

 

 

 

[rjstc]

Concerning housing. In the area that I live in central CA in an area that is usually pretty strong because it's on the central coast and in demand. However this time there are still a lot of short sales, foreclosures and such. Because of the extra inventory there is very little home building and lots of commercial space vacant. It's hard to see any strong turn around here between here and the end of the year.

 

Microsoft. Seems like quite a strong endorsement from Buffett.

[txlaw]

The problem I'm having is that there are too many companies in the sectors I'm looking at -- large tech, telecom, pharma, insurance cos, the big banks, and housing-related  -- that are trading at very attractive levels.  

 

Way too many.  I like to concentrate my investments, so it's difficult for me to decide what to go with.

 

For example, I own C, but WFC is also cheap, and the CFO just bought some stock.  And both MSFT and GOOG are clearly cheap.  I prefer GOOG, but those MSFT LEAPS look very tempting.

[Myth465]

 

Way too many.  I like to concentrate my investments, so it's difficult for me to decide what to go with.

 

 

TX I have the same problem. I usually focus on growing / turn around small cap (FBK, ATSG) deep value type stuff. Usually pe less than 5 or so with mass concentration. Right now large caps are retardedly cheap (sorry if that offends anyone). I find myself questioning my strategy. I dont see any clear doubles, and dont like to buy on the hope of revaluation, but see easy singles between Big Tech and Pharma.

 

I may just do one quick writeup called cheap large cap, and buy a basket of these with 25% of my port. Leaps on J&J, MSFT, GOOG, APPL, BBY, and a few others.

[finetrader]

ERICOPOLY,

 

How much were the 'at the money' leaps (percentage of stock price) on Fairfax when you made the trades back in 2006?

 

Thanks

[ShahKhezri]

I started building a positing in MSFT...thought this was interesting from Bill Fleckenstein (from friend's subscription):

 

It's All In Everyone Else's Head Recently I have received a number of emails on the (seemingly unrelated) subjects of silver and Microsoft. Some of the silver emails have bordered on giddy, although others have taken me to task for not believing in the manipulation theory (myth) that has been floating around for years, which I have debunked many times. Similarly, every time Microsoft swoons I get a batch of messages wherein readers tell me their thesis as to why it is weak. In thinking about those emails, I realized they were connected and illuminate a very important subject when it comes to investing, that being the power of psychology, which is the "force" that persuades people to hate what is cheap and love what is expensive.

Today, silver is popular and quite frothy, while Microsoft is somewhere between loathed and forlorn. As recently as 2004, silver changed hands for a little more than $4. Thus, in the last seven years, it has appreciated eleven-fold, although at that time it was regarded even more pitiably than Microsoft is today. People can at least acknowledge Microsoft as a viable investment. Silver in 2004 was thought of as barely even an "industrial metal," one whose price was destined to decline as photography went digital, thus why would anyone ever want to own it.

Conversely, though off its 2000 high, Microsoft changed hands at twenty times earnings in 2004, though that was approximately the same $25 the stock sells for today. Since then its earnings have doubled, from around $1.26 per share to something north of $2.50 this year; thus, the price-to-earnings ratio has been cut in half. Microsoft stock trades as it does not because of some enormous flaw in its collective business strategies, but because it has become unpopular, for a variety of reasons. The biggest of these is probably cloud computing concepts, followed by mesmerization with all things Apple. People are enthralled with Apple's doodads even though life in the business world could easily go on without Apple, while it could not without Microsoft. But MSFT is not alone. Other large-cap tech stocks also trade similarly, I just focus on Microsoft because I think it is positioned so much better than Intel, Cisco, or other comparable companies.

 

Still, the madness of crowds is what makes the investment business so difficult (and why it is called investing or speculating, not winning). Sometimes it is quite straightforward to ferret out what a company may do, but how that will be perceived is often anyone's guess. That is why conventional wisdom argues for diversification: one can't really know how the other wildebeests on the plain will react to a potential change in the wind.

In any case, I hope that discussion of two ideas that seem so disconnected -- i.e., silver and Microsoft -- helps folks navigate future fluctuations in ideas or asset prices that they care about. As unsatisfying as it is to say, on a short-term basis psychology matters a hell of a lot more than underlying company fundamentals.

 

The Company You Don't Keep What people seem to fear could be the case with Microsoft actually is true for Research In Motion. Various readers have emailed me trying to make the case that RIMM was cheap because it, like MSFT, was trading at ten times earnings. In fact, it is a classic example of a company that looks inexpensive but actually isn't, because its business is in the process of imploding and management is not to be trusted, for reasons I have pointed out over the years.

The fact that RIMM stopped giving out certain individual bits of guidance a couple of quarters back was one signal that it was in trouble. However, it was hard to be short it due to money printing (it is one of the potential shorts that has "worked," barely). RIMM's tablet won't save it and the stock is headed much lower in my opinion. It is a closed-system commodity hardware maker and history is littered with such companies ending up on the trash heap.

In any case, Microsoft is not RIMM, but some variation of that seems to be what people are afraid of (even though RIMM itself has gotten the benefit of the doubt time after time). Thus, the former continues to be unable to get any traction. Most of big-cap tech is priced similarly; however -- as I have said many times -- I think Microsoft is much better positioned, and cheaper, too.

 

 

[ERICOPOLY]

Even CSCO trades at 8.3x forward earnings.  (if you back out the $4.50 per share net cash).

 

[ERICOPOLY]

ERICOPOLY,

 

How much were the 'at the money' leaps (percentage of stock price) on Fairfax when you made the trades back in 2006?

 

Thanks

 

They were fairly inexpensive.  I believe the 2008 $100 strike was about $10 when the stock was at $92 on June 23rd -- or maybe it was $10 when stock was $100.  It's been a long time.  I don't remember what the $90 went for.  On that day 2008 $140 strike was $2.05.  That morning was the bottom.  During that trading day Fairfax put out a "no new corporate developments" news announcement and it seemed to sooth the market a bit.