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Gal^Stad
Investments Inc.

spacer July 2007
Commentary

While one of us meandered through the supermarket last month, an elderly gent stopped him and said, "You're Contra the Heard." After being assured that this was the case, the oldtimer continued: "I love watching you guys, but I don't agree with everything you say." The response: "That is very wise."

Unfortunately, dear reader, as long as we have been playing with Contra, and as far into the future as our crystal ball can see, mistakes have and will be made. The best that can be done is to try to learn from them, apply the lessons, and accept that future errors will occur. All of this, while trying to ensure sufficient sleep at night.

In many ways, last October's Commentary was a delightful review of who we are. By running the world's second-largest spreadsheet -- the largest and most expensive, we have heard, is that gun-registration thingy -- we not only confirmed our perceptions about the Contra methodology, but also found out a few things that had remained on the analytical sidelines. Now, by scrutinizing mistakes on both a micro and macro level, our hope is that further depth will be reached, proffering better results in the future.

It is an interesting exercise to look at the current portfolio and use that wonderful tool called hindsight to see what might/should have been done differently.

Commencing with Abitibi Consolidated, our purchase was directly related to the softwood lumber agreement with the United States. In retrospect, it appears that too much weight was placed on this deal, especially since it was a poor one in many ways for the northern side. While this "settled" a long-standing dispute and offered clarity to future transactions, it probably was already priced into the market.

And given the financial state of Abitibi, more emphasis should have been focused on the corporate statements, rather than believing that this agreement was the tipping point to a major upturn.

Our second purchase of this enterprise was likely far wiser. If we had been willing to jump ship on a catalytic announcement, then the merger with Bowater would have been a good one to choose. Given the excitement this generated, accompanied by a jump in the share price, plus the fact that no cash component was included, it would have been a good opportunity to exit. In the future, mergers without a cash component coming our way between beleaguered enterprises will be scrutinized more judiciously.

Cygnal Technologies was integrating a bevy or so companies when we hopped in. Joining just a couple of firms, as will be the case with our forestry outfit, is difficult enough. But a whole messy bunch? That has to lead to difficulties, and these were underestimated. The subsequent decision to average down was perhaps a bit hasty.

While we have lots of faith in CEO Jos Wintermans, he is not enough of a name to make a stock price move based solely on his entry. And it is natural that a new man at the helm in situations like this will make moves that appear negative -- leeching the patient, so to speak, to return it to health. Patience, before averaging down, would have been beneficial. As mathematics concludes, better to buy a company later at a similar price than earlier.

In future, we'll delay purchases when many hands are joining as one. We'll also be more leery when companies we own borrow money from lenders of last resort.

Our little oil-and-gas play, Kelman Technologies, was indeed bought after having been in business for ten years. However, in the mid-'90s it switched directions from being a mining play to the seismic arena. We should have given the firm more time to establish its footings in the new field before jumping in. While the purchase in 2000 should have been avoided, the one in 2006 fit the Contra criteria in a much better manner.

Our "octogenarian" in the portfolio, High Liner Foods, was bought under the earlier mantle of National Sea Products. When the bad news was aplenty on fish stocks, this corporation took a beating and we swiftly trapped our piece of the action. Waiting longer to catch a drowning fish would have been better.

And when it tilted past our Initial Sell Target a few years ago, we should have reeled in someone to take our shares. An attempt was made, but given the relative illiquidity of this stock, a bit more elbow grease would've been necessary.

Nashua was under careful consideration in November when it fell below our purchase price. However, maybe "timidity" set in, given that it was first purchased in the '90s and never came close to bearing fruit. Knowing this company as well as we did, the correct response would have been to double down when it cooed our name.

In reasonably short order after joining the portfolio, especially given the percentage gain, Novell was kind enough to pass our Sell Target. What did we do? We raised the target. Oopsie: it hasn't come close since. Wiser, more disciplined hands would have sold at least half.

Penn Treaty American did that hated thing, a stock consolidation, when in our possession. And afterwards, it did what many newly reconstituted shares do: it had a brief spike. Though not close to our target, it presented a wonderful skipping-out opportunity. Since then, it has followed the path of many that do the dreaded reverse split and plopped backwards.

The funeral sector has not been played well to this point. Previously, Stewart Enterprises passed our target, with a higher, nirvanic level seeming reasonable. Didn't happen. Right now, it looks like deja vu might be happening all over again as Service scooted above the target this past quarter. Timing our exit for that higher level later this year, our prayers currently remain unanswered.

You may have noted that other positions in the portfolio have been ignored. They include ATS, Analysts, Franklin Covey, Saskatchewan Wheat Pool, Solectron and Zarlink. While some of these are on the downside of our purchase price, overall we feel they were played well to this point. However, fallibility being eternally on the schedule, that could change.

On a broader scale, one mistake that has bedevilled us the past couple of years has been selling winners in the last few months of the year. This has reduced returns. While both Air France and NQL Drilling gave us boffo numbers, if we had waited until the following annum, the results would have proven much better. It will be hard to convince us to ever sell winners towards the end of a year again, even if calamity might be in the cards. The mantra of sell in May and go away has definite applicability, and we should have participated in that traditional January run instead of completely exiting these positions.

On a semi-related note, we plan to wait till after January 1 to buy our 2008 calendars. Something tells us they're cheaper then...

One area that could haunt us, if we allowed it to, is that of opportunities lost. Pretty much every year there are some stocks that merit strong consideration as a buy, and we hem and haw over them. For whatever reason, some do not make the grade, but, alas, they soar. Conversely, of course, there are those that almost survive the cut, don't, and either don't do much at all or implode.

Fortunately, for the most part, our heart of hearts has learned to accept that there will always be excellent buying opportunities that aren't capitalized on, and when they fly, we'll try to glean something from their good fortune.

While the last three years of Contra results have been excellent compared to historic stock market returns, relative to contemporary markets, they have not been stellar. Performance is still far better than during the 1998-2000 period, when our overall return was negative.

The interesting thing, though, is that that desultory period is a component of the ten-year annualized return of 23.4 percent. So, even with 30 percent of the time frame looking like a dog's breakfast, the hurdles have not been insurmountable.

Looking ahead, if this year does not perk up, both the five- and ten-year numbers will drop as we lose the returns of 47.3 percent from 2002 and 53.2 percent from 1997. We knew the five-year of 29 percent was an aberration, but the ten-year has held firmly around 25 percent for a long time now, which may no longer be the case come 2008.

Overall, as we badger ourselves about mistakes, our learning continues. With that, it is reasonable to surmise that the returns should do as well or better in the long term. But as we all know, the disclaimer that past returns are not necessarily indicative of future results has some negative connotations.

Prematurely, perhaps overly optimistically, here's a toast to the results when we look back, circa 2015.


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