If you have trouble viewing these clips, click here.

The information contained in this tv appearance 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 tv appearance 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

Printable Version
Subscribe to the Missives Podcast
Click here to listen to this Missive

Dear Clients and Prospective Clients:

If there is any agreement out there among investors, it surrounds the measures being taken by the Federal Reserve to stabilize the financial system and prevent a 1930’s style contraction. These same investors agree that these actions to revive our economy will lead to high levels of inflation. We’ve rarely seen a future expectation get baked into the stock market as quickly as this topic. People from the political right (who bash Obama) and those from the left (who like Warren Buffett love him) are in agreement. Money could be made by playing the devil’s advocate. At Smead Capital Management, we’d like to make the case that this crowd could be wrong. To understand why, we have to take you back to childhood games of Monopoly.

In the winter when we were trapped inside or in the summer when baseball was over, my friends and I played hours of Monopoly. The game is played on a board representing four streets or neighborhoods. Each player starts with $2000 in cash and collects $200 for every time they pass Go. The bank exists for collecting payments for the purchase of properties and buildings. Its second function is paying rewards that can be reaped by landing on certain favorable squares. While one travels around the board, they can use their money to buy properties. If you accumulate two to three properties in the same neighborhood, you can buy houses and ultimately hotels to place on your properties. When an opposing player lands on your property, they pay you rent. The more real estate you own as well as the amount of additions (houses and hotels) to the property, the greater the rent that is paid. The object of the game is to create monopolies and eventually bankrupt your opponents.

To this point the actions of Fed Chairman Ben Bernanke and the Federal Reserve Board have been both systematic (backing money-market funds) and stimulative (dramatically growing the money supply). They sought to and succeeded in driving down interest rates and reestablished normal inter-bank borrowing in the process. Both conservatives and liberals are convinced that the huge increase in the money supply (printing of money) will result in an economic recovery which is followed soon after by very high levels of inflation.

Bernanke’s actions are the equivalent of doubling the amount of money held by the bank in the game of Monopoly. If the bank has twice as much money and you pass Go, they give you $200 just like when the bank had less. None of the bank paid rewards change because of the bank having more money. The only way to inflate the game or inflate the economy is to directly put money into the hands of the players. Ironically, to speed up the game as kids, we did just that and gave each player an extra $2,000 or stuffed the center area with thousands of dollars. The more money players had, the faster they bought property and buildings. The faster the Monopolies developed, the faster that everyone but the winner went bankrupt.

The Federal Reserve has increased the money supply immensely, but the institutions and systems for putting the money into the hands of the players are not functioning. Banks are building capital to meet stress tests and working hard to work through existing loans on the books. Non-bank lenders have practically disappeared from lending and securitization is nearly non-existent. Savers sit in CD’s and money-market funds at dismally low interest rates and borrowers cut spending to pay off prior debts and build meaningful savings. They are passing Go and getting the same $200 even though the bank has twice as much money as they did before. Investors have twice as much cash in money market funds as any historical low point in the stock market for forty years. The lower rates are great for getting through the existing debts, but are a big drag on the incomes of conservative fixed-income investors.

Unless the Federal Reserve starts paying $400 for passing Go or people who have learned all the negatives about borrowed money suddenly start borrowing again, the inflation fears are over-blown at best and possibly dead wrong at worst. We will see you at Boardwalk or Park Place if these fears prove incorrect.

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

Printable Version
Subscribe to the Missives Podcast
Click here to listen to this Missive

Dear Clients and Prospective Clients:

Mike Myers is a very talented writer and comedian. His Austin Powers movies really hit my funny bone. In the second Austin Powers movie, Austin’s arch nemesis Dr. Evil clones himself. His clone looks just like him, but is less than half as tall and attempts to be just as evil on a pound for pound basis. Mini-Me, as his clone is called in the movie, creates strife between Dr. Evil and his son, Scott. Scott was the product of Dr. Evil’s dalliance with Frau Farbissina, a loyal employee who he “got weird” with.

Bespoke Investment Research reported yesterday that Oil has now gone up 108% in price per barrel in 118 calendar days. It is the sixth best bull run in the commodity since 1986. Four of those bull runs occurred in the huge secular move from $11 per barrel in late 1998 to the peak at $147 one year ago. This one and the 164% increase when Saddam Hussein invaded Kuwait in the summer of 1990 are the most violent in the shortest amount of time. The four other 100% plus gains in price lasted a minimum of 453 days to a maximum of 542. The huge run from $11 to $147 per barrel culminated in a Malthusian orgy and sought to validate a theory called “Peak Oil”. This theory held that the un-interrupted growth in emerging economies around the world was coinciding with the peak of worldwide oil production. In effect, Dr. Evil (those countries producing Oil and companies involved in producing it) would hold the rest of the world hostage and demand “Millions” of dollars (he meant billions and trillions) in ransom.

In the minds of Smead Capital Management there were at least four big problems with all the excitement about “Peak Oil”. First, it was predicated on uninterrupted growth in emerging markets and that has already been debunked. Second, high prices and fat profit margins caused over-production as every country or company which could find and produce oil did. Third, and most importantly, it assumes that the largest oil consumption country (U.S.A) will not permanently modify its behavior. We believe that we will move away from gasoline powered transportation producing air pollution, just as we moved away from horse transportation activated by oats and hay (resulting in manure) between 1910 and 1925. Everything moves faster nowadays and the huge economic reset of the last year and the will of the Obama Administration seem to have jumpstarted the process. Lastly, the move from $11 to $147 per barrel culminated in a “bubble”. And “bubble” markets can have bounces, but they don’t get put back together for a minimum of 5 to 7 years from what we read and know of history.

This year’s run from $32 to $72 per barrel looks and acts like last year’s activity, but we think it is a Mini-Me among oil rallies. It is predicated on the idea that emerging economies will lead us out of the worldwide recession. Under that assumption, the use of oil and other commodities would be at the forefront of the economic recovery. Today’s oil bulls think oil is the best place to be because the building of infrastructure, in their minds, will dominate the economic recovery. This compares to U.S. consumers who have permanently reset their spending at lower levels. We think they are wrong. Even though China or India have one billion people their consumers still control a pittance or Mini-Me level of buying power in comparison to the average American. An old and true business adage says, “If nothing is sold, nothing is produced.” Most production is held hostage by retail sales. Just ask any automobile company today and they will reinforce us. If the U.S. economy doesn’t come back, don’t hold your breath waiting for everyone else to get their “Mojo” back.

We believe we are in the midst of what we think is a Mini-Me rally in Oil which is attracting the same kind of hot money that it attracted in the first half of 2008. It would like to hold our economic recovery hostage and hog up investment capital. Don’t believe this rally in Oil. We think it is “catnip for clones”.

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

Printable Version
Subscribe to the Missives Podcast
Click here to listen to this Missive

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.

 Subscribe to the SCM Roadshow Audio Podcast