Marketdepth

The Last Post

All good things come to an end, even Marketdepth.  And, much as I have enjoyed unloading my consciousness into the cloud of the internet, the time has come to wind down this operation.  Things have been developing well for me, personally, in 2011 and I need to dedicate myself fully to a new opportunity at hand.

Figure 1:  The Last Post

This blog came about, as many do, from a change in employment status, in early 2009, that was not entirely positive.  I had been investigating the idea of starting an investment fund company, but soon discovered that idea  a) was a very expensive undertaking and b) required occupying oneself almost entirely with the business of asset gathering as opposed to capital allocating.

And so, after a little research into the issue, I decided to take a chance on the $7 monthly fee to Typepad and suddenly was in the blogging business.  Although I never charged for my writing, that investment ended up earning a much higher rate of return than even the best of the investment ideas covered in this space.

It was fun following along all the linking and re-posting of various pieces.  Sell the Banks was the big viral piece that, despite not yet making anyone any money, provided Marketdepth with its proverbial 15 minutes of fame.  However, the post which ultimately received the most traffic was this one, due to its featuring a picture of an apparently adorable hedgehog.  There is nothing more humbling than starting a serious investing blog and ending up as a computer resource for elementary school art teachers around the world.  

Figure 2:  An Apparently Adorable Hedgehog 

A bittersweet moment this surely is.  While I will miss the interest and exchanges of this site’s regular readers, I will certainly enjoy reclaiming the hours between ten in the evening and one in the morning that were so often the only time available to keep up this activity.

To the hardy band of Marketdepth subscribers, too many to fit comfortably in a school bus but too few to fill a theatre, thank you for your interest.  I will leave the site up for a while in case anyone wants to peruse the back posts.

So, that is it.  I had fun with the blog but, as Paul McCartney sang on that track on Beatles for Sale, “tomorrow may rain, so I’ll follow the sun.”

Shoeshine Portfolio - Thoughts for 2011

December is often a reflective moment for investors.  Nearing the end of the year, I look back on 2010 markets that have generally co-operated. 

My “Shoeshine Portfolio,” a non-marketed, unaudited portfolio that I introduced in December, 2009 and updated in a July post, is up more than 30% in the year-to-date period.  Big wins were made in gold and silver bullion holder Central Fund of Canada (TSX: CEF.A) and Silvercorp (TSX: SVM).  In addition, results were boosted by a second half double in Cardiac Science Corporation (NASDAQ: CSCX) of Bothell, Washington, which was the subject of a successful takeover bid.  A recent rally in Coastal Contacts (TSX: COA) also helped.

But this business is not about yesterday, it is about tomorrow.  And with that in mind, I thought I would share my current “work in process” thoughts regarding portfolio adjustments and re-weightings going into 2011. 

Figure 1:  Thinking about Portfolio Adjustments for 2011 

Commodities

In 2010, the Shoeshine Portfolio returns were bolstered significantly by rising commodity prices, particularly in gold and silver, which formed a 50% weight (and a 60% weight if one includes the position in Silvercorp under silver). 

This is one position I will be adjusting going into 2011, for the simple reason that precious metals have generally worked out too well.  [As an aside, I have no particular dollar price target in mind for precious metals because I actually think about my holdings here in terms of ounces rather than dollars.  The Fed and the other central banks can print as many dollars as they like and the price of the metals ought to rise in rough proportion.]  But what concerns me is that the prices of a number of other key commodities (base metals, grains, cocoa, lumber and certain fuel commodities) have not kept up with gold and silver and therefore these other commodities are developing large undervaluations relative to gold in particular.

Therefore, I am planning on adjusting the commodity mix of the portfolio to include a broader basket of commodities, with emphasis on the more undervalued. The difficulty with these other commodities is that holding costs are far higher than they are for bullion.  For this reason, I am looking at a variety of instruments: stocks, convertible bonds, exchange traded commodity futures funds etc., from which I hope to gain low cost exposure to undervalued commodities with a minimum of financial leverage.  In January I will report back with the new commodity mix, which should still constitute a large weight.

 
Banks

All year long I have held a very large short position against the shares of Canada’s major banks and financial institutions.  So far, I must confess, this trade has not been successful.  An exchange-traded fund that tracks this sector is up about 2.5% on a year to date basis and, as a short, I have also been responsible for dividend payments that cost a further 4%.

From a portfolio structure point of view, however, the position has been a wonderful balancer.  Every time the markets got worried about deflation, being short the banks was an in-the-money trade. Yet when things were going according to the Fed’s inflationary plan, few appeared eager to bid up bank shares, while precious metals, commodities and certain industrial stocks rocketed. 

Going into 2011, I think the reason for the short position still exists in spades.  The Canadian housing market is not nearly as healthy as it was this time last year and mortgage loan loss provisions are climbing.  For instance, in its recent 4^th quarter report, Royal Bank of Canada (TSX: RY) showed gross impaired mortgages at $808 million.  This number, which seems to rise every quarter, is up 26% from one year ago is more than double the level in q4 2008.

The bullish argument on the Canadian banks is that potential mortgage losses do not matter due to the fact that most risky home loans are subject to CMHC insurance.  But the problem I see is that the CMHC is woefully undercapitalized to cover a broad-scale housing decline such as we have been observing south of 49˚N.  Against over $1 trillion of mortgage insurance, securitized mortgage guarantees and outright owned mortgages, the CMHC has less than $10 billion of equity, or less than 1% of the total value it is supposed to be backstopping. 

In the event we get a sustained housing correction, the agency would need large equity infusions from Ottawa.  At that point, I suspect the chances are very high that an enterprising Member of Parliament will stand up and say something to the effect of, “Mr. Speaker, in light of the $100 billion bailout requested by the CMHC on behalf of certain Canadian mortgage originators, it has come to my attention that a large number of guaranteed mortgages were in fact underwritten without being in strict compliance to CMHC rules with respect to minimum down-payment, income verification, and borrower financial positions.  I request, therefore that the bailout be subjected to the condition of satisfying a Royal Commission’s enquiry into these matters before proceeding.”  At which point, investors, knowing full-well that such considerations are material with respect to the status of mortgage origination in this country in the past five years, would not likely wait patiently for the outcome.  Where is the bid for Royal Bank shares under this scenario?  Probably not between its current 2 and 3 times book value, in my view.

So in this position, I soldier on, lonely and unrewarded, but increasingly confident of eventual payoff.

Better Mousetraps

Back in the 1990’s, my early days as a student of the markets, earning returns was all about finding reasonably valued companies that were building better mousetraps and hanging on for the ride.  It helped if these industrials had strong relative market positions, good balance sheets, etc., all the “checklist” items that we copied down from Warren Buffett and Phil Fisher.

Frankly, these days, I treat this category as a sideline as opposed to the main event.  My general feeling is that the odds are stacked against North American companies of this type as a consequence of over-leveraged customers and generally flaccid economic conditions.  If I were running Asian equities, as I did for several years in the past decade, I would be a little more inclined to dig them up, but I find commodity positions create exposure to more or less the same driver.

At the time being I like a few local growth-type companies including Coastal Contacts, Norsat International (TSX: NII), and Vecima Networks (TSX: VCM).  These companies are all small, competitively advantaged businesses facing rather large market opportunities but without big valuation multiples.  I am always looking for more of these, so if you know of any, do let me know.  One day, when the problems of debt and currency are dealt with, I hope to return to this category as a main event.

Mining Exploration

This is a newer category for me, but I am convinced that the rise of precious metals will bring with it the return of the speculative mining issue as a mainstream portfolio component.  Hoping to front-run that trend, I am actively hunting down companies with good, competent management that has a well financed mineral exploration program with an above average probability of success.  Not stuff for widows and orphans, I know.  But in the scheme of things an attractive risk-return opportunity, in my view.

The sector is viewed as “un-investable” by most large institutions in this country.  And there is usually more money to be made from violating the various taboos of established fund managers than from adhering to them.

Bonds 

Speaking of taboos, I wanted to end on the subject of the government bond curves.  Because markets make opinions, insofar as whatever long-term trends that prevail are taken as inviolable discovered truths, there is not surprisingly a large cult following surrounding long maturity Canadian and US bond obligations.  I have handed in my objections to this trade here, here and here.  Other than a small position in an inflation indexed bond ETF (NYSE: IPE), I have avoided the sector and will be eliminating even these bonds in 2011.

My best guess is that a generational low was hit in the US 10-year yield in 2009 at a hair above 2% yield to maturity.  After the low is reached, there is nowhere to go but up.  Bonds and equity valuation multiples will bear the brunt of the pain as nominal and real interest rates rise back towards (and probably above) historically average levels. 

Figure 2:  US 10 Year Treasury Yields 1960-2010

I am voicing my opinion on this asset class in 2011 by just leaving it out of the portfolio altogether.  The best way to be short this trade is actually to take out long maturity debts to finance investments with good potential.  While we can all do this personally, I won’t layer on that complexity for the point of view of Shoeshine 2011.

Morning on Howe Street

It’s morning again on Howe Street.

That’s right, Howe Street, the ancestral home of “pump and dump,” is rising again.  This time, however, it is not the push of aggressive promotion, but the powerful pull of fundamentals that is creating opportunity for our city’s most notorious industry.

Precious metals are soaring as gold and silver become re-established as monetary standards.  Base metal demand is set to expand rapidly in the large-population economies of Asia and South America.  Metal stocks are cheap compared to bullion prices.  The world economy is desperately short mine production.  These are the opportunities Howe Street exists for.

Figure 1: The Exchange Building on Howe Street – Early Days 
 

Howe Street’s resurgence, and the return of the speculative mining issue to mainstream portfolios, will create bountiful profits for some.  Others will make losses.  As we head into another potentially euphoric period for mining equities, it may help investors to recall a little history. 

Howe Street, The First Generation 

Until the mid 1960’s, the Vancouver Stock Exchange existed as a sleepy regional market, focussed largely on timber companies.  That changed with the strike in 1965 of a rich lead-zinc deposit in the Northwest Territories by the interestingly-named Pyramid Mines Ltd.  The company’s stock which, for its time, was relatively widely held across Canada, shot from 25c to $22 almost overnight. .  Ultimately the company was sold to a senior entity, Pine Point Mines, for $33 million.  [While that doesn’t sound like much, recall at the time that a Big Mac was 15c and Berkshire Hathaway stock was trading at $18.]  

The Pyramid Mines discovery started a bonanza that brought mining investors and promoters from around the world to Vancouver.  Amongst these was the inimitable Murray Pezim, formerly a Toronto-area butcher, who quickly became Howe Street’s promoter-in-chief. 

For a while, the momentum was unstoppable.  Buy orders placed in the morning showed profits by the afternoon.  Cars stopped in the middle of Howe Street as drivers rushed into the exchange building to place trades.  

Buy on Mystery, Sell on History

And there were other successes.  Carolin Mines was another 40-bagger gold discovery.  Dia Met and Diamond Fields also worked out well later on.  But unfortunately, Howe Street’s reputation was made mostly by the scam artists who preyed on the gullible in the decades following the Pyramid Mines success. 

The schemes were often “close-ology” plays, with promoters staking nearby tracts to large discoveries.  “Wash trades” within a close circle of insiders would drive up prices steeply in advance of the release of bogus drilling results.  Hapless investors would buy in at the peak, only to watch share values plummet.  Insiders profited from outsiders.  It was the Vancouver way. 

But by the 1980’s the inflationary fundamentals that had underpinned Howe Street’s rise went into reverse.  In the era of 20% interest rates, bonds and blue chips were far better values than $800 gold bullion or junior gold speculations.  The Dow Jones Industrials grew by more than 10x from 1982 to 1999, while the VSE Composite index tanked.  Initiated at 1000 pts in 1982, the VSE Composite closed in October 1999 at 395. 

And in 1999, just as bottom of the gold cycle was being reached, Howe Street’s exchange was disbanded and merged into the CDNX.  Ironically, the end of the VSE marked the point of extreme fundamental undervaluation of this city’s mining juniors.  Alas, by 1999 those who understood the fundamentals were so discredited that no one would listen.  Buy on mystery, sell on history. The strategy of the know-nothing retail investor was ultimately applied to the VSE itself. 

What to do now

In the last ten years mining stocks have recovered and the safe money has been made.  However, my read of this cycle is that a speculative blow-off phase lies ahead.  The gold market didn’t spend 20 years bumping along around $350 per ounce to stop at a mere quadrupling, in my view.  

Likewise junior mining stocks that can deliver reserve growth breakthroughs appear to be very fertile territory.  I spend time these days looking at the tier of juniors just below the size of companies that are eligible for the exchange-traded funds.  Within this class, companies with capable management teams and decent properties should be the basis of a portfolio that can properly capitalize on the return of Howe Street.  

I’m doing my own digging into junior miners with potential, but if any of the esteemed readers of this blog have particular names they think I should investigate or avoid I’m all ears.   

 

My Lead Balloon

It has been a good year for making money.  Investors who simply allocated their capital at the outset of 2010 into gold bullion are up about twenty percent in dollar terms.

 

But what if one thinks of gold as money?  To such an investor, a twenty percent year-to-date cash return is just treading water.  One hundred ounces in January is still one hundred ounces in November.  Making money is all right, but in these days of printing presses and helicopters, the real aim is to make gold.

 

So where in this market are the best opportunities to make gold?  Scanning the local investing universe for opportunity, one is increasingly drawn towards base metals and base metal producers.  Unlike their shinier neighbours on the periodic table of the elements, most base metals are still significantly below the high prices established in the heady days of 2006 and 2007.  Since 2006, gold and silver prices have doubled, while base metals prices have declined by as much as 50%, depending on the commodity.

 

Digging into this market, I focus on lead, whose market dynamics are generally aligned with other under-appreciated base metals.  Lead’s investment thesis is supported both a current price that is well below historic averages and also a very attractive longer-term supply and demand picture.

 

Lead traded hands recently at a price of $2,500 per metric tonne.  In terms of gold ounces, it now takes about 1.9 gold ounces to buy a tonne of lead.  As recently as 2006 that ratio was between 4 and 5 ounces per tonne which is in line with the past 60 year average price ratio.  (Incidentally, the ratio was as high as 11:1 oz/tonne back in 1951).  If lead were merely to revert to its historic average value vs gold, then its price per tonne ought to be about $6000, an increase of 140% from today’s levels. 

 

 

Figure 1: Historic Lead to Gold Ratios (Ctrl +Click for larger image)

 

 
 

 

 

Backing the case for upward mean reversion on lead prices are developments in supply and demand.  On the demand side, lead is used principally in lead-acid automotive batteries which accounts for 70% of consumption.  Although the North American automobile industry still appears depressed, elsewhere that is not true.  In unit terms, global automobile sales are expected to hit new record sales in 2010, driven by a combined 55% growth in India, China and South America compared to 2008. With automobile penetration in these countries still far below Western levels, there is ample room for growth.  In Canada, for instance, there are 562 cars per 1,000 people.  In India there are less than 20.

 

Substitution is not a major risk in the case of lead-acid batteries.  The cars sold in the growth markets are generally cheaper (including for instance, India’s $2500 Tata Nano).  These are not markets experimenting with expensive hybrid technologies.  Cars in India include a standard lead-acid battery at an input cost of $60-90.   

 

In contrast with strong demand fundamentals, the supply picture for lead is much less robust.  Of the 8 million tonnes of annual demand for lead, only 3.8 million tonnes is met by actual mine production.  The rest comes from recycling, mostly related to automobile batteries.  Due to this reliance on recycled stock, a 20% increase in global lead demand, would actually require a 40% increase in mine output to stay in equilibrium.  Given the strong dynamics described above, a demand-driven squeeze in the lead market seems highly possible, in my view.

 

Risks and Opportunities

 

There are numerous investment risks associated with base metal producers, which are not known as deep cyclicals without reason.  Beyond economic exposure, certain environmental challenges exist, which for a commodity like lead have significant potential ramifications for both supply and demand.

 

However, even though I can easily imagine a scenario where this trade gets worse before it gets better, I find the base metals group to be one of the most attractively positioned sectors for the long-term.  From a stock selection point of view, there are worse places to start than Vancouver’s Teck Resources (TSX: TCK) for diversified exposure.

Change We Can Believe In

Every good skier understands snow.  Why should good investors not understand money?  This thought occurred to me as I listened to various reactions to the US Federal Reserve’s announcement of phase two of its “quantitative easing” program. 

No longer shrouded by the fog of crisis, “QE2” has laid bare the Fed’s dollar debasement strategy.  The government of the United States is now funding its entire $100 billion per month budget deficit through printing money to buy its own bonds.  Were it not for the necessity to ensure that Wall Street’s bonus pool stays filled, the Federal Reserve might as well cut out the New York middlemen and just dispatch trucks around the country loaded with “Benjamins.” 

The investing playbook for this era of quantitative easing is fairly straightforward.  Avoid anything that looks like a government bond and buy things like wheat and silver which represent relatively cheap, hoardable commodities. 

Figure 1:  Silver Quarters – Change We Can Believe In

  

But while hoarding is definitely the best investing play of 2010, it does strike me as a rather dubious long term economic strategy.  Can the troubles of excess debt and inflation be addressed by bringing back the gold standard?  Absolutely, I say.

Canada and the Gold Standard

Many people do not realize that this country has a long history of operating on a gold standard.  Canadian dollars were exchangeable into a specified quantity (23 grains of gold or 4.7 hundredths of a troy ounce) from the 1850's through to the outset of Word War I and also for a period following that War. 

Between 1933 and 1971, Canada ran on a kind of second-hand gold standard, under which the government committed to maintain the C$ value in a range relative to the US dollar (and the British pound in the early part of this period).  The US dollar was in turn fixed to gold at $35 per ounce.  Under the post-WWII Bretton Woods system, Canada and other countries maintained a virtual peg to the US dollar.

The beginning of the end for Canada’s gold standard came on December 23, 1966.  On that day, Mitchell Sharp, Canada’s Minister of Finance announced that coins of the 10c, 25c and 50c denominations would no longer be cast according to their long-standing mix of 80% silver and 20% copper.  Given that the price of silver had by then caused the coins’ metal value to pass through their face value, Sharp presented to Parliament an amendment to the Currency, Mint and Exchange Fund Act which would eliminate the use of precious metal.  By 1968, the deed was done.  Canada's silver coins were removed from circulation in favour of the slugs that continue to be stamped out by the Mint at the cheapest practical cost. 

By 1971, America's massive borrowing to fund the Vietnam War eventually led President Nixon to abandon gold convertibility of the US dollar in 1971.  Canada's implicit gold standard, already imperilled by the end of silver coinage, died simultaneously.  So if you ever wondered who really decided that Canada should have completely faith-based fiat currency, the answer is Richard Nixon.  Did I just hear someone say, “Only in Canada?”

Gold Standard Benefits

The benefits of a gold standard are simple, but unfortunately a significant period of time is required to demonstrate them.  For this reason many countries have been forced to learn the same lesson over and over again.  Fiat money leads to inflation, wealth destruction, and ultimately, chaos.

The most important feature of a gold standard is that the supply of money, and credit, can only grow in proportion to the speed at which total gold reserves can be expanded through the acquisition of mine output.  Given that we already have many centuries worth of production stored above the surface, this effectively limits the growth of money at most to a few percentage points per year.  With credit growth thus constrained, the emergence of debt-fuelled bubbles such as the dot-com fiasco or the various housing bubbles would have been well-nigh impossible. 

The allocation of resources in a society on a gold standard involves choices made in plain view of market participants.  In a fiat world, bankers and speculators can conspire to build huge asset valuations backed by easy credit.  When the inevitable crack-up follows, a government must choose between a prolonged deflationary recession or a bailout.  Under a bailout, all the bubble’s non-participants pay by pro-rata dilution of their monetary assets.

The hidden cost of fiat money is a long-run reduction of capital investment of any kind.  Investors, burned by confiscatory inflation, become hesitant to make long-term loans at any price.  The economic troubles of Latin America over the past three decades has its root causes in undisciplined fiat money regimes.  And as the West’s currency and sovereign debt problems now demonstrate, there is nothing fundamentally different about fiat money north of the Rio Grande.

However, if one were trying to fix the problem, as opposed to merely profit from it, there is of course a somewhat different prescription required.  Here is my best guess at how we might proceed.

Five Not So Simple Steps

The way out of the mess begins with 1) a recognition that the debts are too big.  I laid out some of my homework on that topic here.  The next step 2) would be to apply some kind of haircut to outstanding debts.  The better places to take the haircuts would be at the levels of private and sub-national debts, so that Canada as a nation might remains a somewhat creditworthy entity.  I would suggest forcing banks to take an across-the-board haircut on consumer debts and mortgages.  Other sub-national governments might also be moved to haircut their debts to the extent that they are not manageable. 

What cannot be achieved through debt writedowns could also be achieved through step 3) a co-ordinated, one-time emission of fiat cash.  If we want to extinguish the provincial debt of Quebec, for instance, it could be bought back with a load of freshly printed fiat cash.  It would be important that the emission of fiat cash be a one-time measure.  Another key step in the process 4) would be in the significant reduction in unfunded entitlement programs that would put Canada on a more sustainable go-forward fiscal footing.  Finally, we would reach step 5) the critical part of this process, which would be a permanent fixing of the currency of a newly solvent Canada against gold.  What the exchange level might be would depend on circumstances at the time.  If it were to be done today, the fix might be applied at C$2500 per gold ounce.

Harsh medicine, indeed.  It would make the imposition of the Goods and Services Tax look like a walk in the park.  Yet the alternative, to do nothing and twist into inevitable chaos, seems far worse.  As an investor, my bets are placed squarely on the do nothing option.  But as a citizen, I recognize that there is a plan that could pull this country from the chaos of a broken fiat money system.  Can we really leave this purgatory of excess debts and phoney cash for “change we can believe in?”  The answer is obvious.  Yes we can. 

Vecima Networks - Liquidation Value with Growth Potential

The stock market, presented on paper as mere columns of names and prices, is not fairly characterized.  In reality, the market is a huge wheel which rotates to pull stocks from the depths of obscurity to a pinnacle of overvaluation and back down again.  Looking at companies currently riding the bottom of the wheel, one finds Victoria-based Vecima Networks (TSX: VCM), a next-generation industrial company trading at a buggy whip price.

 Figure 1:  Vecima –  Rotating Downwards, then Turning Up?

 

 About Vecima

Vecima Networks, founded in 1988 by engineering professor Dr. Surinder Kumar is in the business of creating devices that manage and transfer high volume data flows, the likes of which are found in cable networks, wireless communications systems and other similar applications. 

The company’s products bridge the final network segment that connects a system directly to end-users, commonly referred to as “the last mile”, where Vecima’s special capabilities in radio frequency are employed.  Key applications of Vecima’s technology include DOCSIS standard wireless broadband services and “QAM” (quadrature amplitude modification) that allows the simultaneous provision of video, voice and data services.  Vecima’s customers include major cable operators such as Comcast Corp (Nasdaq: CMCSA) as well as large network original equipment manufacturers like Cisco Systems (Nasdaq: CSCO) with whom the company has enjoyed a productive fifteen-year relationship. 

In addition, the company operates a nascent wireless data network operator called YourLink in Western Canada.  It also acquired Burnaby-based Spectrum Signal processing in 2007 for approximately $20 million. 

Vecima had revenues of $113 million in the year ending June 30, and profits of $0.8 million.  The annual profit represented more than a 90% decline from FY 2009 net income of $13.2 million.  Share prices have followed the decline in operating performance, dropping from $7.50/share earlier in 2010 to a recent all-time low south of $4.00. 

 

Figure 2:  Vecima Networks Stock Chart 

 
Challenges and Opportunities

Vecima’s troubles in 2010 appear to have stemmed from factors both within and beyond the company’s control.  External factors include softer than expected end-demand in the US cable market, which has led to somewhat reduced capital spending by larger operators.

Controllable factors may also have contributed.  In particular, the company’s large number of small-scale market initiatives may have diluted Vecima’s competitive positioning in key areas.  For example, there appears to be little overlap between the business of supplying capital equipment to cable operators and running YourLink, which is essentially a retail operation.  Yet these and other disparate businesses compete for management’s time and corporate resources.

To management’s credit, the project of re-focussing Vecima appears to be underway.  The company has recently centralized some distributed R&D activities and more moves of this nature could be in store.  Likewise, on the marketing front, Vecima is making a concerted push into a niche opportunity related to hotel HDTV networks.  This initiative, being pursued directly as well as through a large OEM partner, addresses a market estimated at $450 million without significant established competition. 

Valuation and Risks

While Vecima’s business is a little complicated, the valuation is easy.  This is a cheap stock.  Very solid net working capital is $48 million, property and plant (at a 50% haircut) adds $17 million, and wireless spectrum assets (based on recent transaction values) are worth a further $38 million.  Net of debts, a liquidated Vecima is worth at least $100 million, or 10% more than the company’s quoted market capitalization.  Beyond liquidation, if one believes that Vecima can recover even half of its historic levels of profitability, then an $8 share price would be well supported. 

Due to a controlling stake held by Dr Kumar, Vecima is not a takeover candidate.  However, at these levels a take-private bid would not be out of the question. 

My main concerns with Vecima are more macro-economic in nature.  The growth push into hotel HDTV networks occurs at a weak moment for hotel operators, who face continuing revenue challenges that have been further compounded by the bedbug scare.  However, if we wait for the robins, spring will be over.  Although we may not be at the absolute bottom for Vecima, I believe we are close enough to be confident of a solid return from current levels.

 

Shoeshine's Modest Proposal

Last Thursday afternoon, I rushed into that print shop on West Pender for an important pick-up.  As fate would have it, the line-up was long.  And there was something vaguely familiar about the guy in front of me...

Mark Depp (of Marketdepth):  Shoeshine! What are you doing here?

Shoeshine:  Hello, Mr. Mark.  I was just running off some documents for the bankers.  Next week I am going to be making an unsolicited bid to buy BC Place stadium. 

MD: Buy BC Place stadium?  Are you going to run a sports team out of there?

Shoeshine:  Not at all.  This is a profit-seeking venture.  I am going to use the stadium to store wheat. 

Figure 1:  BC Place Stadium – 75 Million Bushel Capacity

 

MD:  Store wheat?  Have you been drinking your shoe polish again?

Shoeshine:  Au contraire, Mr. Mark.  As you well know, grains are amongst the most undervalued assets an investor can own these days. Try comparing wheat prices against equities, bonds or other commodities over the past 30 years and you will see it clearly.  Moreover demand is growing sharply in the emerging markets while the global supply picture is rather uncertain.

MD:  OK, I see why you might want to store some wheat.  But, why BC Place stadium? 

Shoeshine:  Filled to capacity, I reckon I could store 75 million bushels there, worth about half a billion dollars at current prices.  The most recent comparable stadium transaction was last November's sale of the Detroit Silverdome for $583,000.  Even if I paid ten times that amount, the stadium purchase only be 1% of the total wheat plus stadium investment. 

MD:  The Detroit Silverdome?  But this is Vancouver! 

Shoeshine:  I know, buying a Vancouver stadium is different than buying the Silverdome.  Detroit has very bad summer humidity.  If I bought BC Place, I would save considerably on climate control.  That's all worked into my offer price. 

MD:  But, Shoeshine, why don't you just buy exchange-traded funds like the Dow Jones-UBS Grains ETN (NYSE: JJG)? 

Shoeshine: With notes like those an investor runs into difficulty when the commodity is in contango. 

MD:  Contango?  Is that some kind of dance? 

Shoeshine:  No, it just means that the forward price curve of a commodity is upward-sloping.  If you own a fund like JJG that rolls over commodity futures, every time a contract expires the fund takes a hit by re-buying the same volume at a higher price. 

MD:  Is there any other reason to own the physical commodity instead of contracts? 

Shoeshine:  Well, it also reduces counterparty risk.  That's why precious metals investors typically pay a premium to net asset value to own a physical holder like Central Fund of Canada (TSX: CEF-A). 

MD:  I certainly see the logic.  But with all due respect, Shoeshine, what you are doing isn't investing.  Investing is owning businesses or real estate.  What you are proposing is better characterized as hoarding. 

Shoeshine:  Some people think that way, Mr. Mark.  But from my point of view, investing is merely the act of owning assets.  I care not whether I own capital assets or consumable assets.  I am just on the lookout for undervaluation. 

MD:  Yes, that makes sense to me, too.  Come to think of it, I have come across a scheme like this before.  Have you ever read a story about a fellow named Joseph?  The book was on the best seller lists for quite a while. 

Shoeshine:  Ah, Joseph.  A misunderstood character if ever one existed.  Some people call him a dream interpreter or a prophet.  In reality, he was just a very early hedge fund manager.  He was lucky to have such a deep pocketed backer in that pharaoh.  So, Mr. Mark, can I count on you to put up some money? 

MD:  I don't know.  If someone was going to sell me BC Place for a few million, I might want to consider turning it into a hotel/condo development. 

Shoeshine:  Mr. Mark, I am afraid you are hopelessly behind the times.  Now is the moment to turn your timeshares into ploughshares.  Join me and ride the great bull market in agricultural commodities.