Sahil Alvi

Tag: Equities

Alpha Trade: Winner take all…

by sahilalvi on Jul.18, 2012, under Media

I had an idea about a capital markets game the other day. It is discussed below.

Context:

The oldest, the most universal, and perhaps, the greatest game in the history of human kind is: Trading.

It is hard-wired in our DNA to engage, to deal, to play, to out-wit, to conform, to rebel…to trade.

We like to play games.

We like to flirt…with risk.

The thrill of a “killer” deal satisfies our reptilian mind.

Trading harnesses our intellectual, emotional, and physical energies.

It is, therefore, a powerful visceral experience.

To paraphrase Prof. Robert Schiller, it connects us with our “animal spirits.”

Also, lest we forget, from the bazaars of ancient India to the souks of medieval Silk Route to the high streets of Victorian England to the dark pools of global finance, trading has always been (and always will be) as much a “social” experience as it is a “transactional” one.

In essence, trading is the widest (if not the lowest) common denominator of social interaction for human kind.

Elevator Pitch:

It is in this context, Alpha Trade is proposed as a global, multi-platform, real-time game where ‘Alpha Traders’ compete in a “winner take all,” real money contest for generating the ‘Alpha Trade.’

Game Description / Rules of Engagement:

  • Alpha Traders pay a “commission” of $9.99 per trade of ‘real’ US dollars to put on a trade worth $100,000 of ‘Alpha Dollars’ per trade in a single security or asset.
  • Notably, Alpha Traders can put on as many trades as they like so long as they pay $9.99 per trade.
  • The Alpha Trader chooses the entry and exit prices for his/her trade at the time of putting on the trade.
  • At the end of each trading session, the trade that generates the highest absolute return earns real money in US$ worth the entire sum of “commissions” placed by all the “Alpha Traders” for that specific trading session. The ‘Alpha Champion’ takes it all.
  • Larger the number of trades, bigger the ‘Alpha Pool’ of commissions, and greater the size of the prize.

Relevance:

Alpha Trade sits at the intersection of three powerful and sustainable global forces where: Behavioral Finance meets Social Networking meets Online Gaming.

The game is laced with skill, thrill, intuition, risk, luck, timing, emotion, intelligence, knowledge and much more.

Why the game will have legs is because it is also a pure, unvarnished meritocracy.

Rules are plain and simple.

Winning is clear and absolute.

Hence, the Alpha Trade is also, at once, incredibly timely and utterly timeless.

After all, in a world where the “other 99%” feel the game is increasingly rigged, Alpha Trade is a “fair” trade; a “just” game.

You pick the right stock, you will win. You don’t, you won’t.

You eat what you kill.

And yet, it also has elements of an “asymmetric trade” as a $9.99 gets you ticket to the dance where you can:

“Win it all!”

Target Market:

The target demographics are: 15 to 65 year old expert, intermediate and beginner traders. The game has incredibly wide and global appeal due to the reasons stated in the context discussion above.

Revenue Model / Streams:

The Alpha Company will be the developer, marketer and distributor of the Alpha Trade game.

The company’s revenues would come from the following sources:

  1. Advertising;
  2. Transaction Fees ($1 per trade);
  3. Sponsorships;

The advertisers (and sponsors) could be institutions who are looking for new brokerage clients, or money/asset management clients, or high quality trading talent, or simply, for support within the buy-side community to meet their commercial and marketing objectives. The advertisers could be:

  • Retail Brokerages
  • Mutual Funds
  • Investment Banks
  • Universal & Retail Banks
  • Money Management Firms
  • Hedge Funds
  • Financial Media (Bloomberg, Thomson Reuters, CNBC, Financial Times, Wall Street Journal, etc.).

In due time, additional revenues could be generated through:

  1. Licensing (for TV and Movie deals);
  2. Merchandising.

Marketing:

In order to initially generate “buzz” and comfort, a “floor” will have to be set for the minimum daily cash prize for the “Alpha Trade of the Day” prize. For example, a minimum of: $1000.

This $1000 cash prize will be one of the best marketing expenses in the initial phase of the Alpha Game’s launch.

In a steady state, this prize floor can be achieved by approximately 100 trades made by Alpha Traders in any trading session. Let us remember, each Alpha Trader is allowed to make unlimited number of trades in any given trading session.

Access & Distribution:

‘Alpha Trade’ will be available to anyone, anytime, anywhere through almost any device.

The game will be launched for the web interface and for Apple, Google-Android, and potentially, the Microsoft tablet/smart phone ecosystems.

Coverage & Ubiquity:

There are three major trading sessions each day around the world:

  1. Asia-Pacific;
  2. Europe;
  3. Americas.

Following are the asset classes that Alpha Traders could trade:

  1. Stocks;
  2. Commodity Futures;
  3. Currencies.

So, in effect, Alpha Traders could trade almost any time in these major liquid asset classes around the globe within any given 24-hour trading cycle.

Critical Success Factor(s):

  • Alpha Traders to put on trades on a regular basis;
  • The group of Alpha Traders to grow at a healthy pace.

Competition:

Stock Wars is, perhaps, the only other tangentially similar competitor with a weak following where users are asked to develop portfolios not pick specific trades. Tradefields is another, even weaker competitor.

Product Extension / Scalability:

Phase 1:

In Phase 1 of the game’s launch, there would be one “Alpha Trade of the Day” winner across the three different trading sessions (Asia-Pacific, Europe, and Americas) in a 24-hour cycle in one asset class: Stocks.

Phase 2:

In Phase 2, there would be “Alpha Champions of the Day” winners across four different asset classes (Stocks, Commodity Futures and Currencies).

Phase 3:

Eventually, Alpha Traders could choose to place trades for any of the following trading periods depending on their preferred time horizons across the four asset classes:

  1. Day Trading Period
  2. Weekly Trading Period
  3. Monthly Trading Period
  4. Quarterly Trading Period
  5. Annual Trading Period.

Key Uses of Funds:

  • Product Development
  • Advertising & Marketing
  • Recruitment
  • Business Development & Strategic Alliances

Amount of Financing Required:

TBD.

Cost Breakdown:

TBD.

Burn Rate:

TBD.

Gross Margins / Bottom line:

TBD

Financing Sources:

  • Seed Round: TBD – better done in-house within Kapitall
  • Series A, B, C, etc. Rounds: VC’s and Strategic Investors.

Potential Strategic Partners / Investors:

  • Financial Information Providers: Bloomberg, Thomson Reuters, CNBC, Marketwatch, Google Finance, Yahoo! Finance, etc.
  • Retail Brokerages: Interactive Brokers, Schwab, Fidelity, TD Ameritrade, ETrade, etc.
  • Gaming Companies: Zynga, Sony, Microsoft, Electronic Arts, Activision Blizzard, etc.

Exit Strategy:

  • Acquisition or IPO within a 3-year window.

Conclusion:

Alpha Trade has the speculative immediacy of a daily opportunity “to win” and “to win big.”

There is a sense of tension, timing and momentum investing on the day trading contests.

There is a greater sense of skill, independent thinking, and value investing baked into the quarterly and yearly trading contests.

There is a bit of both on the weekly and monthly trading contests.

There is something for all stripes of investors.

As the winning amount of cold, hard cash is unknown on any given trading session, there is a sense of mystery, adventure and attraction for Alpha Traders to keep coming back to the game.

On the other hand, there is a minimum “floor” for the cash prize.

Notably, most games in the online world take people’s real money for them to buy virtual goods, and it ends there.

In the Alpha Game, you stand to get more – much more – back in real money.

So, the Alpha Game will be unique, trend-setting, game-changing (pun intended), and to use a 90’s dot com word, a “sticky” one.

Day in and day out…around the world…over the years.

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Value Investing Ideas: Edition #1

by sahilalvi on Mar.30, 2012, under Finance

With a view to informing the readers of this blog of value (and sometimes, ‘deep value’) investment opportunities on a regular basis, I am launching this blog-stream that will offer up a few specific investment ideas.

Before I get into specific names, let me define ‘value’ as I see it. There are certain metrics which — either in combination or on their own – will qualify specific investments as deep value in my view:

1. P-E Ratio: Any equity trading less than P-E ratio of 10 or less.

2. 52-Week Trading Range: Any equity that trades within 25% of its 52-week low (in combination with the other metrics).

3. Dividend Yield: Any company that offers a Dividend Yield of more than 3%  (in combination with the other metrics).

4. Positive Cashflow Entity’s Negative Event-driven Moves: Any cashflow positive company with net margins of 10% or more  whose equity has seen more than a 20% price reversal within a week (in combination with the other metrics). Such equities are particularly well-suited for tactical, opportunistic, event-driven ’snap-back’ trades.

Now that we’ve defined ‘value,’ let us move on to the first edition of ‘value’ recommendations. In this edition, I would like to cover a few mining stories:

1. Vale (NYSE: VALE):

  • The world’s largest iron ore producer trades at a modest P-E multiple of less than 6.0
  • This Brazilian miner offers a generous dividend yield of 5.1%
  • The stock is currently trading roughly 15% above its 52-week lows

2. Anglo American (PINK: AAUKY)

  • This large, diversified global miner trades at a P-E multiple of a little over 7.5
  • It trades within roughly 20% of its 52-week lows

3. Cliffs Natural Resources (NYSE: CLF)

  • This American-headquartered miner trades on a multiple that is a little over 6.0
  • It offers a healthy dividend yield of 3.5%

4. Barrick Gold (NYSE: ABX)

  • The world’s largest gold producer trades on P-E of just over 9.0
  • The stock is trading within 5% of its 52-week lows

5. BHP Billiton – ADR (NYSE: BHP / NYSE: BBL)

  • The world’s largest miner trades both its ADR’s on NYSE below P-E multiples of 8.5
  • Both of the company’s ADR’s provide a dividend yield higher 3%

In the coming weeks and months, more such ‘deep value’ investing ideas are to follow.

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Newmont Mining: A Value Stock in a Growth Sector

by sahilalvi on Jul.31, 2011, under Finance

Newmont Mining - North AmericaWhat gold producer sells at 2 times book value?

Which global miner has the lowest beta among its peer group?

Which resources company trades lower than 12 times its earnings?

The answer: Newmont Mining (NEM).

Newmont Mining — a Gold and Copper exploration and production company with mining operations spanning five continents around the world with “proven and probable gold reserves of 93.5 million attributable ounces, copper reserves of 9.4 billion attributable pounds” and an aggregate land position of approximately 27,458 square miles (71,118 square kilometers).

In 2010, the company had attributable gold sales of 5.4 million ounces and equity copper sales of 327 million pounds. Its recent acquisition of the Conga Project in Peru and Tanami Shaft Project in Australia will be adding “400,000 attributable ounces of gold and up to 100 million pounds of copper production per year” by 2015.

According to Newmont’s website, these were but a few highlights from the company’s performance in 2010:

  • Record revenues of $9.5 billion, up 24% from 2009;
  • Record net cash from continuing operations of $3.2 billion, up 109% from 2009;
  • Gold operating margin increased 30% from 2009 on an average realized gold price increase of 25%.

Pick any one of those highlights and one can assume that the company being discussed is a growth company (with a momentum stock).

The stock, however, has been trading in a fairly narrow 52-week range of $50.05 and $65.50 with a P-E multiple that is more reflective of a value stock.

Is there a reason why it should not break out above its upper limit of the trading range?

According to Vickers Stock Research: “NEM pays an annual dividend of $1.20 which, at its current stock price, produces a yield of 2.16%. This is the largest of any company in the Gold & Silver industry, where the average yield is 1.56%…”

According to a company press release: “The third quarter 2011 dividend of $.30 per share (a 50% increase over $.20 per share for Q2, 2011) was declared in consideration of Newmont’s second quarter 2011 average realized gold sales price of $1,501 an ounce .”

In contrast, the company’s 2010 Gold Operating Margin is $737/oz.

At the time of writing this piece in late July, 2011, Gold has crossed the $1600 per ounce mark and is trading comfortably above that level. In a “risk-off” environment, when Gold keeps breaching its all-time highs on a regular basis, Newmont Mining (one of the largest Gold producers) deserves to enjoy a little more buoyancy in its stock than what it has experienced in the recent past. On the one hand, given its exposure to gold production, Newmont is poised to gain in a continued period of “risk-off,” de-leveraging global economy where fiat currencies are being debased across several major jurisdictions. On the other hand, even in a “risk-on” environment when Copper demand begins to soar again thanks to expansionary tailwinds in a rapidly urbanizing global economy, Newmont — being one of the largest copper producers in the world — is positioned to perform exceedingly well as a “long Copper” play.

At an operating margin of over 42% and a net profit margin of approximately 32%, Newmont is one of the most profitable minerals and metals producers — large or small — in the world. The miner enjoys gross margins that are more than 10% higher than its peer group. Furthermore, Newmont is sitting on cash and cash equivalents of more than $4 billion within an asset base of $25.7 billion.

Over the last 5 years, the company’s Earnings per Share (EPS) has grown a staggering 49.41%.

Newmont Mining - AsiaAt a P-E ratio that is higher only to Freeport-McMoRan (FCX) within its peer group, Newmont is a “value” stock in a growth sector.

Kinross Gold (KGC), for example, trades at a healthy 16.37 its earnings and Goldcorp (GG) trades at almost twice as much as Newmont at a P-E multiple of 22.13. By the time one gets to AngloGold Ashanti (AU), one is looking at an unbelievable P-E multiple of 105.85.

Whether you look at Return-on-equity or Return-on-assets, Newmont ranks among the top 3 of its peer group.

Here’s a tale of relative value analysis that is as stark as it gets for companies that are delivering virtually identical numbers: The company that Newmont resembles most in terms of gross revenues, net profits, net profit margins, and a whole host of other metrics is Barrick Gold (ABX).

Exhibit 1: Profitability

Company

Net profit margin

Gross margin

EBITD margin

Operating margin

Newmont Mining

32.92%

63.48%

53.57%

43.67%

Barrick Gold

29.45%

61.54%

42.56%

42.1%

Here’s a rhetorical question: Which company is more profitable?

Exhibit 2: Debt

Company

Long-term debt to assets

Total debt to assets

Long-term debt to equity

Total debt to equity

Newmont Mining

16.30

17.31

31.34

33.28

Barrick Gold

20.04

20.08

35.03

35.10

Which of these two companies is less indebted?

Exhibit 3: Returns

Company

Return on avg assets

Return on avg equity

Return on investment

Newmont Mining

13.1

19.17

16.27

Barrick Gold

10.65

18.48

11.92

Again, which company provides a higher return?

Exhibit 4: Pricing

Company

P/E ratio

Price-to-

book ratio

Price-to-

sales ratio

Newmont Mining

11.56

2.13

3.33

Barrick Gold

12.4

2.52

4.42

Finally, let us look at the all important metric of reserves:

As of December 31, 2010, Newmont had “proven and probable gold reserves of 93.5 million attributable ounces, copper reserves of 9.4 billion attributable pounds.” Barrick, on the other hand, had “140 million ounces of proven and probable gold reserves. In addition, Barrick has 6.5 billion pounds of copper reserves and 1.07 billion ounces of silver contained within gold reserves.”

Barrick has roughly 50% more gold reserves — which admittedly would allow it to command a premium over Newmont based purely on the metric of gold reserves. Gold, however, is not the complete story. When it comes to copper reserves, Newmont Mining has roughly 1/3rd more than Barrick Gold.

In a certain snapshot in time, if we consider valuations based purely on gold reserves (and silver within it), Barrick should be roughly 50% more valuable as a company. That said, given that Newmont has a third more copper than Barrick, it would recoup approximately 7.5% of the value back (adjusting for the price of copper vis-a-vis gold).

Here’s the clincher: With all these metrics where Newmont beats Barrick Gold consistently (except in the key metric of gold reserves), guess which company is more valuable (as of late July 2011)?

It is Barrick Gold at $47.54 billion.

And, what’s Newmont Mining’s market cap?

$27.45 billion.

So, the market is placing 75% more value on Barrick Gold than it does on Newmont Mining. It is established, however, that even when considering mining reserves as a sole determinant of value, Barrick is a little over 40% more valuable than Newmont.

So, which company would you pick based on the above valuations? What company’s stock would have greater upside potential?

In conclusion, one can’t help but wonder: Is Newmont undervalued…by as much as 35% or more?

Seth Klarman: How’s that for margin of safety?

Michael Burry: Is this enough of a value stock for you?

Need one say (or question) more.

Sources: Reuters, Google Finance, Vickers Stock Research, Cooper Financial Research, Barrick Gold, Newmont Mining.

Disclosure: The author owns a long position in the company. All data has been sourced from publicly-available sources.

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Vale: The performance and promise of Brazil and Basic Materials packed into one

by sahilalvi on Dec.04, 2010, under Economics, Finance

Vale

According to the company itself: “Vale is the world leader in iron ore and pellet production and the second biggest nickel producer.”

Coming out of The Great Recession, Vale (NYSE: VALE) is poised to gain from expansion of the manufacturing base — particularly in markets like China, India, Asia-Pacific, Middle East, and Latin America. The second-biggest miner in the world already, Vale has a growing global footprint of 38 countries with an exposure to most of the world’s high growth markets — not in the least its home country of Brazil.

Furthermore, there are very real geological and geo-political constraints on the supply of minerals Vale (or any of its competitors) can extract, process and sell on the world markets. This demand-supply dynamic has both secular as well as a cyclical themes interwoven. Hence, the global demand-supply dynamic for Vale’s products bodes well for the company’s growth prospects and profit margins for a long-time to come.

Vale is also showing an enormous appetite for bottom-line results with Net Profit Margin almost doubling from a 2009 margin of 21.6% to the Q3, 2010 figure of 40.9% . Even as of 2009, the company was only 310 basis points (in net profit margins) behind the industry’s most profitable of the large mining and metals companies: BHP Billiton.

Vale’s Net Profits are just as noteworthy because the Brazilian company generates revenues that are approximately half compared with another industry leader Rio Tinto — whose top-line figure for 2009 was US$ 41.8 billion compared to Vale’s US$ 23.3 billion. Yet, Vale’s 2009 Net Profits were US$ 5 billion compared with Rio Tinto’s US$ 5.8 billion — which makes Vale’s profits merely 15%  less that that of Rio Tinto’s.

In light of the positive fundamentals, the company is on massive expansion drive with a planned capital outlay of US$ 24 in 2011 alone. To contextualize Vale’s ambitious growth plans, Xtrata — the Anglo-Swiss rival has planned capital outlays of US$ 23 billion over 6 years from 2011 through 2016.

In
2009, Chinese demand represented 68% of global demand for seaborne iron ore, 44% of global demand for
nickel, 39% of global demand for aluminum and 40% of global demand for copper. The percentage of our
operating revenues attributable to sales to consumers in China was 38% in 2009.

There are — however — large, concentrated, inter-connected and material risks to Vale’s growth story. Two that are particularly noteworthy:

1. China, and

2. Steel.

According to Vale’s 2009 annual report:

“In 2009, Chinese demand represented 68% of global demand for seaborne iron ore, 44% of global demand for nickel, 39% of global demand for aluminum and 40% of global demand for copper. The percentage of our operating revenues attributable to sales to consumers in China was 38% in 2009.”

If China slows down, Vale’s (and most metals and mining companies’) revenues and profits decline. Furthermore, the company’s heavy exposure to the global steel market makes it vulnerable to fluctuations in the fortunes of this industry — particularly from a downstream steel consumption perspective in industries like infrastructure, transportation, construction and real estate.

The annual report goes on to say:

“Iron ore and iron ore pellets, which together accounted for 59% of our 2009 operating revenues, are used to produce carbon steel. Nickel, which accounted for 14% of our 2009 operating revenues, is used mainly to produce stainless and alloy steels…The prices of different steels and the performance of the global steel industry are highly cyclical and volatile, and these business cycles in the steel industry affect demand and prices for our products.”

There are other lesser risks such as:

  • Price volatility of nickel, copper and aluminum that are actively traded on global commodity markets;
  • Capacity expansion gestation periods and consequent constraints to meet demand in the short-to-medium term;
  • Geo-political considerations given that many of the mineral-rich countries have unstable political and regulatory regimes.

All that said, the company has a growing and diversified geographic market with 50% of its sales coming from the growing continent of Asia. Vale also has a swath of valuable mines being developed in resource-rich Latin America, Africa and Central Asia, among other mineral-rich locations around the world. Over several decades, the company has developed an extensive, defensible, and hard-to-replicate production and distribution capability — again with a global span. With the insatiable demand for basic materials in developing and frontier markets, Vale is a growth story based on strong fundamentals.

Not to mention, given the company’s healthy cash flow generation capability, Vale can be expected to pay out steady dividends in the forthcoming years.

As of December 3, 2010, Vale’s ADR (NYSE: VALE) traded at approximately 14.2 times earnings compared with its other global metals and mining peers’ ADRs:

  • Rio Tinto (NYSE:RIO): 14.9
  • BHP Billiton plc (NYSE:BBL): 16.8
  • BHP Billiton Ltd (NYSE:BHP): 19.5
  • Xstrata (LON:XTA): 29.1
  • Anglo American plc (PINK:AAUKY): 40.2

Since I added Vale’s ADR to my simulation portfolio on Sept 17, 2010, the position has gone up by 23% in merely two and half months (as of Dec 3, 2010).

Moreover, it is a highly liquid ADR — consistently ranking as one of the highest traded ADR’s on NYSE.

The target P/E one could set for the ADR is a value of 20 times its earnings per share compared with its current P/E of 14.2. Even at a P/E of 20, it is worth “taking stock” (no pun intended) rather than sell-off the entire position.

Given Vale’s exposure to the twin forces of Brazil’s breathtaking economic expansion coupled with the insatiable global demand for minerals and metals that Vale produces, the company’s stock and ADR are poised for a significant upside.

In essence, Vale is really a “buy and hold” play over the medium-to-long run.

Disclosure: The author owns no stock of Vale and has written this research note purely based on publicly available information.

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