Author: DiligentDollar

I hope to share with my posts (i) investing opportunities that can arise from mismatches between short-term reactions to news and events compared to the long-term compounding of a business (ii) topics on portfolio theory (iii) general, topical macro discussions and (iv) some personal finance tips and discussions I tend to gravitate towards "ignore the headlines" type mantra. Often times, when something is going wrong with a company (typical in everyday business), the only headlines you will read is how bad things are and continue to be. This can also happen when things are going well. I think this, in turn, contributes to the mispricing of stocks, particularly as emotions get involved. In particular, I mainly cover small cap stocks that do not receive much attention by the headlines you typically see on CNBC. I believe there are plenty of opportunities in this realm to find mispriced stocks and I think by doing the homework and doing the proper diligence, you can outperform the general market.

Quick October YTD Update and Other Musings

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I haven’t been able to write as much on the blog this year do to other commitments, but wanted to do this post as a quick update on names I’ve posted on in the past and future thoughts. Can’t quite call it a mid-year update, or full year update, so think of this as a 5/6ths year update…

In no particular order:

  • $AGFS – This week Paine Schwartz announced it would acquire the company for $3/shr. They already have a very onerous pref and control a lot of votes. They clearly know the company well. That said, the offer was not subject to having financing. I’ve followed AGFS for some time and financing was always tough (hence the onerous pref) and financing is even more difficult right now. I’m closing out this position and moving on @ $2.75.
  • $NCMI – what a disaster. Cineworld declared bankruptcy and that gives them the right to restrike the deal with NCMI. Plus, advertising continues to be weak as the economy slows down. As a post-mortem, I’m comfortable with my call to buy it as a levered play on theaters recovering, but I missed Cineworld risk. I thought even in BK, re-striking the NCMI deal made no sense (they just cut the deal in 2019, NCMI is superior to alternatives, re-striking the deal creates a big claim for NCMI as a unsecured creditor, and so on). No need to dwell on all the details, mistakes were made. Moving on.
  • $BBBY ’24s – as expected, BBBY launched a distressed exchange.  The offer is pretty “meh” for the ’24s, despite swapping into either a non-convertible 2L security or a convertible one with a lower coupon vs. unsecured. However, in the non-convertible, they can call it in 1 year at 40c. In the convert, the strike is $12/share. Maybe if there’s a reddit mania again that makes sense, but pah-lease. In the meantime, they company continues to complete its ATM equity program and has raised $75MM + filed to raise another $150MM. I’ll wait for another offer….
  • $AXL and other auto suppliers – I think the auto thesis is delayed due to inflation hitting earnings plus continued supply chain problems, but the thesis isn’t dead yet. I still like auto suppliers despite what seems to be a looming recession given production is still constrained.
  • $ABM – a quiet winner YTD being up ~9.5%. They continue to grow well organically and margins are holding in. I still like it as a name no one seems to follow well.
  • $BIG – can’t escape the woes of other retailers. They have a lot of issues, but I think with prices where they are, I’ll do ok in the next 5 years (famous last words)
  • $CVEO – touches energy so no wonder it is up 58% YTD. Yet with leverage so low now and literal leverage to an energy up-cycle, why would I close out now?
  • Muni Bonds & GSEs – rates continued their march up after I posted about Munis. I still think the value is quite strong. I also think I see more signs of a deflationary bust than continued increase in inflation. Sure, it is “stubborn” for now, but the Fed’s tools are a blunt instrument and take time. The main thing that keeps me up at night is Europe and their supply shock (see bottom of post for more).

But if you ignore that, the Fed has told you it wants to get back to 2% inflation. Do you believe them? If you do, but think pain comes in between now and then, do you own stocks right now? I’m OK owning highly-rated fixed income securities for what comes on the other side but in either case, are offering 7-8% tax-equivalent yields.

I tweeted about GSEs recently too (FHLB and Farm Credit bonds). These were offering yields >100bps than the same-rated treasury securities. There are reasons for that, such as the Fed stepping out of buying MBS, but also these becoming longer duration assets as rates went up, but also banks capital rules this year mean they aren’t buyers and probably sellers this year, BUT ALSO, foreign buyers have been priced out of the market due to FX hedging…

So you’re telling me all the buyers are out and I’m getting a historically massive spread for AAA paper? I’ll take it.


As for what keeps me up at night from here, it has basically nothing to do with the Fed. It is 100% Europe. I’m not sure how they will effectively deal with such a large energy shock and unfortunately, while 2022->2023 winter looks like no one will freeze, who knows about 2023->2024 winter and beyond. And in particular, how will that impact the economy?

I recently came across this slide from a chemical service, ICIS, which showed how much capacity had been idled or reduced in Europe. It’s insane. Especially when you look at the top constituents actually tend to be more critical (fertilizers are the top 3 and then polyethylene, PTA, PET which go into a lot of out everyday products and packaging). 

If you want to convince me of a more “embedded” inflation problem, I see it there. And it isn’t related to stimulus. It’s a supply shock. 

Here’s another one, excluding fertilizers, but also shows it based on % of capacity in chemicals. 

This earnings season, companies I follow with European exposure have noted a pretty precipitous drop off in demand in Europe. It makes sense. When you are worried about heat bills, you are less worried about buying a new car, TV, window treatments, or basically anything discretionary.

This seems like a big problem. I’m normally a really optimistic guy, but if I had to be a bear, I’d point here.

How will the ECB Handle Europe’s Gas Crisis?

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We’ve all seen the headlines and charts of European electricity prices and gas prices. Each time the Nordstream pipeline is serviced, we brace ourselves for Russia to not bring it back. And we brace ourselves for Germany, Italy and likely all of Europe to fall into a deep recession with no easy way out.

Front Month Netherlands Nat Gas Contract Price

I don’t have much to add to the energy conversation other than to remember optimists usually make the most money in investing. But the situation is so untenable.

Since I have no idea how Germany’s chemical and industrial sector will deal with the loss of gas (I’ve read reports, but I don’t know the long-term solution), I decided to jot down what is happening with the Euro currency and if that’s something to stifle the blow.

Unfortunately I just don’t see it.

Here’s my scratch on what could happen. Happy to hear others thoughts

In a nutshell, the EUR has already weakened considerably against the US$. That may help tourism.

Theoretically it helps exports on paper, but this is an interesting situation. How? In fact, Europe has quickly become the highest cost producer of many chemicals and other products. Note BASF and Yara have cut fertilizer production because of the gas cost. That is likely true for many other products. Instead, Europe will need to import these fertilizers from the US.

So generically, if Europe can import products cheaper than it can make, it will have to. And that’s a lot of things at this point given the disparity in prices. It doesn’t help that commodities are typically priced in US$ either. Europe has become a high cost island.

So what can the ECB do? Raise rates? Drive the currency higher? I guess, but the magnitude likely kills the economy anyway.

Do they raise rates but provide stimulus? Do the governments try to take the whole burden? I could see the merit as this is the equivalent of war time spending. Maybe that helps the currency as investors see Europe is building a sustainable path out.

Do they do nothing? Hmm.

Should the Euro be disbanded? Maybe the countries that have cheaper power may want this. Maybe they wouldn’t.

Will the U.S. benefit? I could see our chemical and industrial sector get a larger boost as the low cost producer. But it will also drive up our energy costs, as we’ve already seen with natural gas hitting $9 again. The U.S. Fed also probably wants a stronger currency as it helps tame our inflation. But it is a bit easier being the reserve currency to strengthen when Europe is in such a troubling situation. It is also hard to imagine the US being unscathed in a major European recession.

Should the US conduct some sort of defense era production act? Drill baby drill, but in our own country? Some sort of Marshall plan? I see the merit, but do US voters?

We shall see!

More Signs of the Bullwhip Effect (part 2)

Reading Time: 4 minutesI wrote a post at the beginning of the year that the bullwhip effect was what kept me up at night. It actually was one of my most-read posts thanks to a bump from Andrew Walker (thank you sir, if you are reading). To summarize, it was a fear that while everyone else is focused on inflation, I was thinking about the after effects of a bullwhip. That is, on the way up, customers tend to see strong demand, prices are going up, and they realize they don’t want to be caught short and also want to get ahead of price increases, so they pre-buy.

Once demand tops out or reaches a tipping point, prices start to fall, customers say, “eh, I’ll just wait to buy when it is cheaper” and it is a destocking downcycle. It isn’t quite intuitive because sometimes  prices of inputs can really overshoot to the downside yet buyers are still reluctant to step in. But that is the point. The bullwhip overshoots on the way up and down.

With COVID, I think we saw this on steroids. Where customers saw strong demand, cost increases, but also supply chain challenges that made them consider having safety stocks. You can imagine why I have a fear of this upcycle-on-steroids turning into a down-cycle-on-steroids. Anything with steroids isn’t good, except for professional baseball, football…


I won’t rehash Target or Wal-Mart‘s earnings, or Bed, Bad & Beyond, which all seem to be experiencing excessive inventory in some fashion. In the latter case it completely sapped their liquidity. This could be true of Big Lots as well, we shall see but the tea leaves are not good.

But now, we have chip companies – center of the storm for supply chain challenges – calling out the bullwhip. Nvidia, which is a top 10 S&P500 company, recently came out and said,

Second quarter results are expected to include approximately $1.32 billion of charges, primarily for inventory and related reserves, based on revised expectations of future demand.
“Our gaming product sell-through projections declined significantly as the quarter progressed,” said Jensen Huang, founder and CEO of NVIDIA. “As we expect the macroeconomic conditions affecting sell-through to continue, we took actions with our Gaming partners to adjust channel prices and inventory.

Not only did they get demand completely wrong, they actually are taking an impairment charge on inventory! That is quite a change from 2021.

Here is Micron as well. They don’t just describe the bullwhip, they talk about its financial impact (demand down, but they also need to throttle back production. Doing so leads to bad decremental margins).

But they aren’t the only ones. Check out what Armstrong (a ceilings company) said about what they are seeing. I think they describe the bullwhip effect beautifully! I know it is a lot of text, but at least read the second half.

Low and behold, many other building products companies are reporting similar impacts. Here is Trex, a composite decking company, which typically viewed as a compounder, long reinvestment runway company (but also decking benefitted from the home being a sanctuary).

Their competitor Azek also mentioned similar things.

Here is Ryerson, a metal distributor:

And here is Stanley Black & Decker


So you get the point. There has been a swift change in what companies have seen and we look to have a destocking cycle on our hands. The last time we saw this was around 2015-2016, when there were similar fears of a recession, prices were correcting lower, inventory was fine so it was a perpetual down cycle.

It didn’t last long though. But you can probably guess why I was recommending municipal bonds a month ago when the 10 year treasury got to 3.5%. My bet was we actually have a disinflation problem coming, and that is starting to prove itself.

My advice would be to continue to avoid things with too-good-to-be true “demand.” Especially those that experienced strong bumps during COVID. That seems like it could unravel quite quickly. On the positive side though, I think the Fed will accomplish its goal on tamping down inflation! At least on the goods side.

Veteran Tip: ALWAYS open Friday 8-k’s $BIG

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Alright, I’m no veteran. But in my career I have learned one important tip… ALWAYS open Friday 8-k’s.

Why would a company file a “current report” that represents something “material” at Friday at 5pm? Hmmm. Seems obvious in hindsight, right? They don’t want people to focus on the said material item.

I’ve seen this a few times in my career. 9/10 times it’s benign. But one time it was a company disclosing a large loss on a hedge contract. Another it was an executive departure that gave a hint results would be bad. There’s more I can’t remember.

This time it’s Big Lots with an ominous signal! For future reference. I’m writing this at 5:30pm on a Friday after getting this notification in my inbox. While they are increasing the size of their credit facility by $300mm, to $900mm, they also are suspending the fixed charge covenant for a period of time. Hmmm

Now, Big Lots historically didn’t need a credit facility this large. But they just bought back a bunch of stock and, like other retailers, have bloated inventory now. They actually went from no debt, tons of cash, to $271mm drawn and limited cash.

The working capital is sucking liquidity, which just happened to Bed, Bath and Beyond. And now the latter is questionably solvent.

This could be a nothing burger. Or it could be an obvious sign that BIGs earnings will indeed suck like the rest of the space. That’s why they need to suspend the covenant. Perhaps they’d fail it otherwise.

I still think BIG will make it through this period and the stock will be higher in 5 years. But in the meantime… not a great sign.

Bed, Bath & BeBOND? (part 2)

Reading Time: 3 minutesWe all knew it was going to be bad, but it was worse. Bed, Bath & Beyond’s earnings were terrible, their cash got sucked up, and the CEO is out. The CEO’s credibility was already toast, but I want to pile on: their share buybacks might go down as some of the worst timed in history. Their investor day targets were laughable and I feel sorry for anyone who believed them. They also might be the fastest “great liquidity situation doing ill timed buybacks” to bankruptcy I have seen in awhile.

In my last Bed, Bath and BeyBOND post  I said,

I calculate LTM EBITDA of $190mm as the turnaround plan ran up against snarled supply-chains. Now we have changing consumer trends, which Target called out. So expectations are just $51MM in EBITDA for FY’22 (ended Feb ’23) and then going to $260MM in ’23.

This all sounds pretty bad compared to their investor day goals of $950MM. Management credibility is bad. And with everything else going on, I’m not sure many have appetite to invest in retail right now.

So we knew it would be bad, but it was Bed, Bath & BeREALLyBAD. EBITDA was negative $225MM. Woof. Expectations were negative $85MM.

As a result, their liquidity got zapped pretty quickly and they burned almost $500MM of cash. Good thing they were still buying back stock this quarter (what a clown show).

As a result, the bonds have cratered. In my last post, I mentioned I was interested in the 2034s at 50 cents. However, since that post the 2024s cratered from about 75 cents on the dollar at the beginning of June 2022 to 42 cents.

Ok – call me crazy, but I am taking a small flier on the 2024’s. The company is clearly in a distress scenario, but they also still have $900MM of liquidity. We could still see a fire sale of BuyBuyBaby (a big if), but there is value here to someone to loan-to-own, in my view.

BBBY still has $1.1bn of book value of real estate and $258MM of net working capital. I think they will start to sell down their $1.7BN of inventory over this year to generate cash and get over the 2024 maturity wall and they have room for mark downs of inventory to generate cash.

On the flip side, they still have $1.4BN of debt, but about $1.2BN of it is trading for less than 50 cents on the dollar!  So $1.3BN of real estate and NWC vs. $600MM of market value of debt (it is actually less) and $200MM of ABL. That leaves a gap of about $500MM to work with.

My pre-mortem expectation is they try to do a distressed exchange with the 2024s. They may generate enough liquidity to tender a portion of them (it is less than $150mm market value today – theoretically could use the ABL). My guess is liquidity worsens further next Q before they start to see some inflows from working capital.

One thing I know for sure – expect some coupons in the mail soon!