William Smead
Chief Executive Officer
Chief Investment Officer

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Dear Clients and Prospective Clients:

Among our most golden rules for investing is the rule that says to avoid or sell investments which are being most heavily promoted after a lengthy stretch of success. Here are the first few paragraphs of an offering announcement from May 27th on Bloomberg:

Claymore Investments Inc. has raised $400-million for its new gold bullion fund — an amount that could swell to $460-million, making it the largest structured product offering and one of the largest initial public offerings in at least two years.

The fund, which includes a number of novel features, including a hedge against the U. S. dollar, capitalizes on seemingly unquenchable thirst for the metal amid growing concern over inflation and the outlook for the greenback.

Notice in the second paragraph that it “capitalizes on seemingly unquenchable thirst for the metal”. Language like this happens at the top of the market and every single hot market that we have witnessed in the last 29 years seemed unquenchable until it was quenched by massive offerings like this. Isn’t it interesting that oil and gold are right back at the forefront of popularity even though Oil peaked at $147 per barrel one year ago and gold has gone relatively dead now that it doesn’t have Financial Armageddon stirring up investors. We covered oil earlier in the week, so let’s take a shot at gold while we’re in the mood.

Gold was $800 per ounce while I was in college in the late 1970’s. If it was such a good inflation hedge, why have folks who owned it so long lost their purchasing power?

Gold pays no dividends and has no earnings power, so you lose whatever you could have made in a productive investment like common stocks or bonds or CDs (Opportunity Cost). Lastly, the vast majority of demand for gold comes through the acquisition of jewelry. Jewelry sales are down 20-30% this year from last year and it is safe to say that it would be surprising that expensive jewelry would be the first category to bounce back in the new and more frugal environment of the next few years.

We at Smead Capital Management don’t buy the hyper-inflation story. Lending and securitization of loans has been permanently damaged in the recent credit crisis/panic and Americans will establish permanently higher savings rates than the last two decades. Excess capacity in manufacturing and services will persist for years and unemployment will take years to work down from the 9-10% levels. We add it all up and conclude that we want to own the premier companies with the strongest balance sheets, most recognizable brands and the most consistent customer bases. Besides, how can you thirst for a solid anyway?

Best Wishes,

William Smead

The information contained in this missive represents SCM’s opinions, and should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results. The securities identified and described in this missive do not represent all of the securities purchased or recommended for our clients. It should not be assumed that investing in these securities was or will be profitable. A list of all recommendations made by Smead Capital Management with in the past twelve month period is available upon request.

William Smead
Chief Executive Officer
Chief Investment Officer

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Dear Clients and Prospective Clients:

The biggest pollution problem in the United States in 1900 was urban horse manure. Horses need to eat. According to one estimate each urban horse probably consumed on the order of 1.4 tons of oats and 2.4 tons of hay per year. This also means that a great deal of those tons of oats and hay were converted to manure. The estimates are that horses disposed of between 15 – 30 pounds of manure a day. Eighty-six percent of local transportation was by horse and buggy. Remember, there were only 4100 automobiles sold in the U.S. in 1900. Automobiles were even named after horse drawn buggy’s, a “carriage” or “car” for short!

Technology solved the urban horse manure pollution problem. By 1925 Americans had purchased 3.7 million cars in a single year and by 1929 there were 26.5 million autos in use in the U.S. How do you think the price of horse drawn carriages, oats and hay did from 1900 to 1930? I ask this question for a simple reason. Why do many of the “experts” and many of the portfolio managers that I admire invest heavily in the idea that a limited supply of Oil and Gas will result in higher prices? And why are they so excited about the companies who make a living supplying drilling equipment and oil rigs to the oil and gas industry?

Our popular new President, Barack Obama, has laid out ambitious goals for gas mileage and even Bill O’Reilly thinks they are a good idea! The only way that those goals can be reached is by dramatically increasing the number of hybrid and electric-only vehicles in use. Today’s number one polluter in major cities in America is the gasoline fueled internal combustion engine. When the sun shines for a week straight in Seattle (yes, that actually happens a few times each year), a brown haze engulfs the low horizon. In cities like Beijing, you can barely see in the distance.

The only bear market rally going on in Wall Street today is the rally in the share price of oil and gas related companies. At Smead Capital Management we believe technology will eviscerate a great deal of demand for oil in the next ten years, just as it did for oats and hay just after 1900. We are happy to be under-represented in oil and gas companies, but are looking for investments in electricity that meet our strict criteria. And that is no manure.

Best Wishes,

William Smead

The information contained in this missive represents SCM’s opinions, and should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results. The securities identified and described in this missive do not represent all of the securities purchased or recommended for our clients. It should not be assumed that investing in these securities was or will be profitable. A list of all recommendations made by Smead Capital Management with in the past twelve month period is available upon request.

William Smead
Chief Executive Officer
Chief Investment Officer

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Dear Clients and Prospective Clients:

Economists, policy makers, regulators and investors spend most of their adult life worrying about the worst Economic calamity of their early adulthood. From 1946 to 1973, every time we had a recession it brought intense fear of the next “Great Depression” happening. Despite hyper-vigilance on the part of economists and policy makers, it took 30 years for investor’s to trust stocks thereafter. They should have been more confident as the Dow Jones Industrial Average rose from 92.92 on April 28th, 1942 to 995.15 by February 9th, 1966. This appreciation does not take into account dividends. The great run in the stock market in the 1950′s happened while we worked off the debts incurred fighting the Depression and World War II.

Inflation reared its ugly head in the 1960′s and 1970′s. Economists like Alan Greenspan and Paul Volcker have caused us to be hyper-vigilant since then to not allow inflation to find its footing. Despite the fact that inflation fell all through the 1980’s and 1990’s, investor’s did not trust stocks until the late 1990′s and by then most of the good money had been made.

Today the biggest economic calamity in the minds of economists, policy makers, regulators and investors has been the over-capitalization of real estate and high levels of debt attached to our economy. Economists like Nouriel Roubini and policy makers like Barnie Frank are leading the charge to remind us to not let the animals out of the barn, now that they are already out.

We at Smead Capital Management believe that the real estate markets will be tame for years. Working down our current debt levels the next ten years will indelibly etch better and healthier attitudes into borrowers of all kinds. We believe that rather than waiting 20 years to trust good quality stocks, we should trust them right now.

Best Wishes,

William Smead

The information contained in this missive represents SCM’s opinions, and should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results. The securities identified and described in this missive do not represent all of the securities purchased or recommended for our clients. It should not be assumed that investing in these securities was or will be profitable. A list of all recommendations made by Smead Capital Management with in the past twelve month period is available upon request.

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William Smead
Chief Executive Officer
Chief Investment Officer

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Dear Clients and Prospective Clients:

I believe that an individual’s income is close to the average of their ten best friends. This could be why an estimated 35,000 people sought to make friends with Warren Buffett and Charlie Munger in Omaha on Saturday at the Berkshire Hathaway Annual Meeting. Buffett is the Chairman and Chief Investment Officer of Berkshire and is the world’s third wealthiest man, while Charlie is Vice-Chairman and has a $1.5 Billion net worth (which is not chump change). Even at the ages of 78 and 85, respectively, these two billionaire investors can hand out the wisdom.

What I find the most interesting about what these men say about investing is the clarity and simplicity of their investment decisions. Unfortunately for most investors, the part that holds most people back from imitating these great investors is the patience, contrarianism and humility associated with executing a non-widely diversified buy and hold common stock investing style. At Smead Capital Management we seek to practice these virtues.

Here are examples from last weekend of these separating virtues:

On the subject of patience, Charlie Munger said Friday, “I think the reality is that if you hold a stock for a long long term even though it’s screamingly successful as an investment, you will have huge declines in the value of that stock two or three times in half a century. And I don’t think that should bother long term holders all that much.”

While everyone is scared to death of banks, the ultra contrary Buffett said, “I would love to buy all of US Bancorp or I would love to buy all of Wells Fargo, if we were allowed to do it.” Buffett spoke again about Wells Fargo and the $9 price it had earlier this year. “If I had put all my net worth in one stock, that would be the stock.” This is a stock he started buying in the last major financial crisis in 1991.

On the search for a Chief Investment Officer to replace him in the future, Buffett shared that he has found four good potential replacements. Instead of chasing recent out-performance (like most investors do), he shared that none of them had beaten the S&P 500 Index last year (which means they lost more than 37% of their beginning year value). He and Munger also added that sitting on large amounts of cash to avoid last year’s decline did not impress them or influence their decision.

On another note of humility, Warren had to eat some humble pie. “Buffett said Saturday that he was ‘disappointed’ when Moody’s cut its Berkshire ratings, though he said the decision was lamentable mostly because it led to a 1oss of ‘bragging rights’ – not because it will materially raise Berkshire’s borrowing costs.” Maybe it is God’s way of getting him back for undercutting the municipal bond insurance companies and then using information they had shared with him to compete in the bond insurance business in the middle of the panic and the credit crisis last year. Warren needs to relearn the Mike Milken lesson of the junk bond era of the 1980′s. Leave some business for everyone else and not just crumbs.

On simplicity, both men reiterated that if you need a calculator for making an investment decision or if your investment relies on computing some sophisticated mathematical formula, in their minds it is a bad idea. I always told my kids that all the math you need to learn to make a great deal of money in investing or in business is learned by the end of 7th grade.

Reading and listening to these two great investors over the weekend makes those of us at SCM that much more excited about the great companies we own, the investors who are along with us for the ride and how much money we could make in the aftermath of the recent fire sale in the stock market. You supply the patience and we’ll supply what we think are the great companies because the stock market has already handed out the humility!

Best Wishes,

William Smead

The information contained in this missive represents SCM’s opinions, and should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results. The securities identified and described in this missive do not represent all of the securities purchased or recommended for our clients. It should not be assumed that investing in these securities was or will be profitable. A list of all recommendations made by Smead Capital Management with in the past twelve month period is available upon request.