JOHANNESBURG (Business Day) --Journalist Michele Pireu is responsible for the Street Dogs column in the Business Day newspaper markets section - he's at the Classic Business Day studio with interesting views about fat cats, stockbrokers and share prices that are looking overpriced.
LINDSAY WILLIAMS: Michele let's review the week - should we start with Monday?
MICHELE PIREU: Monday's column repeats the story of the letter that Warren Buffett wrote to his shareholders - shareholders of Berkshire Hathaway - in 2006.
LINDSAY WILLIAMS: For anyone that's just woken up from a coma of 20 years Mr. Buffett is probably the second or third richest - maybe the richest man in the world - he's got a of cash. So he's clever?
MICHELE PIREU: Yes, indeed. I would say so, yes.
LINDSAY WILLIAMS: What did he say?
MICHELE PIREU: The point that Warren Buffett tries to put across is that the most owners in aggregate can earn - between now and Judgement Day - is what their businesses in aggregate can earn. He makes the point that while one shareholder may take advantage of another, or that shareholders in aggregate can make additional monies in rising markets, eventually it boils down to the earnings of in this case American companies. What he has a problem with is something called frictional costs - Buffett gets his point across by talking about the "Gotrocks" family. The Gotrocks family owns all of the shares on the American stock market at one point in time so they earn in aggregate the total of all American company earnings - the problem is that somebody came along and convinced them they could do better as individuals rather than as a family. Of course these helpers were called broker helpers - they came on board, they helped the Gotrocks make deals - and in so doing they took a portion of the pie if you like, they took their commission. As a result the Gotrocks earned less than they were originally earning when they were dealing by themselves - they became reasonably unhappy, and started to look for a way that they could further improve their individual positions. What they then did is they turned to the management helpers - the management helpers came along, and they assisted the Gotrocks to find the broker helpers. Interestingly enough the manager helpers continued dealing through the broker helpers - but of course they could now charge a commission of their own - so as a result the Gotrocks were making a little less money. Therefore the Gotrocks turned to another set of helpers who again obliged to help - for a small fee. These helpers would assist the Gotrocks to find the management helpers that would eventually find the broker helpers that would assist the Gotrocks to make some money. As a result of all of that the Gotrocks were earning less and less, and a smaller and smaller percentage of the overall pie to the point that they eventually had to turn to a last group of helpers, who became known as the super helpers. The super helpers were an interesting crowd - they made the claim that the problem with the management helpers - and all the other helpers - was that they simply weren't being paid enough, and that if they were paid a little more in fixed fees and additional commissions and so on they could in fact make the Gotrocks a great deal more money. Some of the more observant Gotrocks of course observed that they were pretty much the same people as they were dealing with before, except they now had name tags that said things like "hedge fund", "private equity fund" etcetera. As far as Warren Buffett is concerned that's where we are today - with these funds that are taking as much as 20% of American company earnings away from shareholders.
LINDSAY WILLIAMS: So what you've done is you've just destroyed the whole financial services industry - there are layers and layers and layers of intermediaries charging commissions, and destroying wealth?
MICHELE PIREU: Absolutely. The problem really is that they are making money while the rest of us are losing money.
LINDSAY WILLIAMS: Goodness me. So what do we do? How do we get rid of this? We can't get rid of brokers - it's not a zero sum. There isn't just a buyer and a seller - there's a buyer and a seller, and in between there's a certain amount of people.
MICHELE PIREU: In the same letter an interesting point that Warren Buffett makes is that between 31 December 1899 and 31 December 1999 the Dow Jones rose from 66 points to 11,497 points - if we want to achieve the same performance in this century, between now and 31 December 2099, the Dow Jones would have to rise well over 2-million points to 2,011,011.
LINDSAY WILLIAMS: I think Alan Greenspan might characterise that as "irrational exuberance" - so it's not going to happen?
MICHELE PIREU: No, I don't think that's going to happen, especially if you look at the fact that in the first six years of this century the Dow Jones hasn't moved at all.
LINDSAY WILLIAMS: It hasn't moved for the last five years.
MICHELE PIREU: Let's talk about bad news - the market is simply ignoring bad news, and what I noticed last week was that four companies so far this month have issued profit warnings.
LINDSAY WILLIAMS: There can't be profit warnings - we're in the golden era of the South African economy and the JSE so there cannot be such a thing as a profit warning.
MICHELE PIREU: Believe it or not, some companies are issuing profit warnings - in fact about 16 companies reported their results today, and none of them are particularly good. We're talking penny stocks here of course - we're not talking about the blue chip companies.
LINDSAY WILLIAMS: We don't cover penny stocks enough - let's talk about the ones you're talking about.
MICHELE PIREU: The reason this is important is that when markets are over-valued - when markets are bullish if you like - they tend to ignore bad news. Last week Karos warned of a possible 60% drop in headline earnings to about 1.6 cents a share - as a result of that the share priced dipped from 42 cents a share to 36 cents a share. Compare that to the fact that in 2004 Karos reported earnings of 1.2 cents a share - at that time its share price was trading at eight cents.
LINDSAY WILLIAMS: That is irrational exuberance - why were people buying the thing?
MICHELE PIREU: You have to decide where is the value? Where is the value at 1.2 cents earnings - was there value at 8 cents two years ago, or is there value at 42 cents a share today? You decide, but I know what my thinking is - that the market is seriously overpriced.
LINDSAY WILLIAMS: The Don Group was another one that I noticed this week.
MICHELE PIREU: Absolutely. The Don Group reported losses of 1.3 cents a share but the share pretty much stays at 23 cents a share - by comparison in March 2004 when The Don reported a loss of 0.2 cents a share - almost a breakeven - it was trading at five cents.
LINDSAY WILLIAMS: What have we got wrong here? The share price of Don 23 cents to 25 cents a share or whatever it was today - is that anything to do with the South African economy, and prospects for the future? Is that anything to do with the fact that it's got all these fixed assets - buildings sitting on prime land, and as that land has gone up in value so people have raised share price expectations? What is the reason for it?
MICHELE PIREU: I think the reason for it is basically expectations of where prices will go, rather than going back to fundamentals and asking: "What is the business really worth?" Maybe the business is worth more than five cents a share, but is the business worth 23 cents a share?
LINDSAY WILLIAMS: At five cents a share it was clearly to low, at 25 cents a share it's too high - from what you say that seems to be a rational explanation - is somewhere in between where we should be?
MICHELE PIREU: My answer would be to go back and look at the net asset value (NAV).
LINDSAY WILLIAMS: Which is what?
MICHELE PIREU: I don't have that with me right now, but I think you will find it much closer to five cents than 23 cents a share - again that depends on what value you place on The Don's properties. Of course we all know that property values right now are a lot higher than they were three or four years ago - that's not to say in two or three years you might not find Don hotels worth what they were four or five years ago - in other words worth whatever it was that put a valuation of five cents a share on the companies.
LINDSAY WILLIAMS: Do you prefer using NAV over headline earnings per share as a valuation technique?
MICHELE PIREU: I like to use both - I think you have to look at the value of what you are buying. Tangible net asset value is certainly a good indication of what you're buying. I could go on - Excel came out with a profit warning. Excel was trading at 63 cents a share on 10 March 2006.
LINDSAY WILLIAMS: What is Excel?
MICHELE PIREU: I don't look at what companies are about - the business of a company doesn't particularly interest me, I look at the earnings. Management for example has no impact at all on my valuations either - to really understand management and its objectives is almost impossible.
LINDSAY WILLIAMS: So if Tony Trahar suddenly took over Excel you wouldn't care?
MICHELE PIREU: No, not at all - not until it comes through in the earnings and in the tangible net asset value. Excel was trading at 63 cents a share on 10 March 2006 - on 14 March the company warns that headline earnings could drop by as much as 34% - compared with the previous year - to 3.6 cents a share. Two days later the share price goes up to 70 cents - how do you explain that?
LINDSAY WILLIAMS: That's a fair percentage - I can't explain it.
MICHELE PIREU: On Thursday a rather nice piece came from a reader that said he thought the "buy and hold" strategy was the second most misleading marketing slogan that had ever been invented.
LINDSAY WILLIAMS: That contradicts your Monday column that says intermediaries in the business are making money - taking away from the earnings of the companies, and taking away from investors - because if you buy and hold you're not generating any commission?
MICHELE PIREU: Yes. You must remember that Monday's column comes from Warren Buffett - on Thursday you're getting my own input.
LINDSAY WILLIAMS: So you've gone from Warren Buffett to some loony reader.
MICHELE PIREU: I certainly would not buy and hold. I think to buy in the down phase - in the bear markets - and sell in the bull markets makes perfect sense. To buy in the bear markets and hold through the bull markets, waiting until you've gone back into the next bear phase - how much sense does that make?
LINDSAY WILLIAMS: You've got lots of time on your hands - you can sit and watch the screens where some people can't - what else did that reader say?
MICHELE PIREU: The reader says that years ago - and who knows if it ever was the case - he feels that at one time you could buy into companies, you could hold those shares for a long time. You would get your money back in dividends, and if you bought one one-hundred-thousandth of a company 10 years later that's what you still earned. Today his feeling is that you could be buying shares from the insiders - who've been given the share options - and thereby you're diluting your own investment from the day that you make your first purchase.
LINDSAY WILLIAMS: You're buying from somebody that knows something more than you do?
MICHELE PIREU: You're buying from someone who knows more than you, but worse than that you're buying from someone who has been given a hunk of shares - a whole bunch of shares - that once the price has gone up they get rid of to really make their money.
LINDSAY WILLIAMS: Michele, you've got a different perspective on the markets to most of the commentators on Classic Business Day - we look forward to seeing you next Friday and hearing about more Street Dogs.