How to Make Money: Buy Companies That Are Worthless

Mish

Companies with tangible net value of less than zero have increasingly outperformed the market for decades.

Bloomberg comments Capitalists Without Capital Are Ruling Capitalism

Some 40% of public stocks quoted in the U.S. have negative tangible book value, meaning that their tangible assets aren’t worth enough to repay all their debt. Two decades ago, this was only true of 15% of companies, according to Vincent Deluard of INTL FCStone Inc., who has carried out intensive research on the subject.

Such companies sound dreadful. In tangible, material terms their share certificates aren’t even worth the paper they are written on. And yet, incredibly, a “negative-value” fund, composed of the shares of companies with negative tangible book value, would have beaten the main U.S. stock market, represented by the Russell 3000 Index, by 24% over the last 20 years. That outperformance has almost all happened since the financial crisis — before that, the negative-value fund had roughly tracked the benchmark.

Extreme Zombification

This is of course a result of Fed-sponsored zombification by keeping real interest rates negative for most of the last decade.

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Real Interest Rates

Real means inflation-adjusted.

I created the above chart by subtracting year-over-year Consumer Price Index (CPI) from the Effective Fed Funds Rate.

Yet, the CPI is a fatally-flawed measure of inflation.

It fails to factor in housing prices and dramatically understates the rising cost of medical care.

Yet, even though inflation is hugely understated, real interest rates have been mostly negative since 2002.

This encouraged speculation in spades.

Meanwhile, thanks to Fed bubble-blowing policies, companies that have no tangible value can keep rolling over debt and even adding to it to pay the bills.

Mike "Mish" Shedlock

Comments (29)
No. 1-10
Casual_Observer
Casual_Observer

The choices in 2020 are to either keep the current systems in place or blow it all up completely and start over. Mish on one hand you criticize the Fed and the current system and on the other you say Warren and Sanders are nuts. At the end of the day the choice is between status quo or upheaval. You don't seem to know what you stand for more than what you stand against.

Bam_Man
Bam_Man

The extreme level of share buybacks is THE major factor here. It isn't that these companies are not profitable (although of course some are), it is just that their balance sheets are hyper-leveraged due to share buybacks.

And this is why the next recession will be absolutely devastating for the stock market.

L.Ron.Hoover
L.Ron.Hoover

Kind of makes sense to buy zombie stock. What is dead cannot die.

Maximus_Minimus
Maximus_Minimus

"Yet, the CPI is a fatally-flawed measure of inflation. It fails to factor in housing prices and dramatically understates the rising cost of medical care."

Plus property taxes, utilities, and insurance. Only my humble personal experience.

Jojo
Jojo

Zombie companies are typically brought as shell companies to build some kind of scam or money laundering scheme upon.

Stuki
Stuki

Creating actual value in a competitive environment, is not entirely trivial. It does take some modicum of talent and effort. Hence requiring that one creates any value, in order to make big bucks, is not compatible with the policy of transferring as much wealth as possible to the sort of idle, connected, hardly literate idiots which can be relied on to mindlessly cheer for The Fed, Dear Leader and The Syyyyyystem.

So instead, a less demanding of the recipient way to transfer all wealth from productive people to useful idiots was needed. And financialization fit the bill. Such that, by now, reliably cheering idiots both own and control virtually all wealth in the US. The dumber the richer, and the stupider the more powerful. Just as intended.

Mish
Mish

Editor

“Mish on one hand you criticize the Fed and the current system and on the other you say Warren and Sanders are nuts. Since when are these two positions in any way dependent on one another?"

They aren't and I never said they were. ironically it was @Casual_Observer who implied they were when he said "You don't seem to know what you stand for more than what you stand against."

Quite idiotic.

I am against the Fed I am against war I am against socialism I am against unions

I am for market setting interest rates I am in favor of the US minding its own business instead of being the global leader in war activities I am for capitalism I am for a free market in money I am in favor of right to work laws

I have stated the above countless times, so much so that any regular reader should know what I am for and what I am against.

Indeed, they are opposite sides of the same coin.

Thus @Casual_Observer's comment "You don't seem to know what you stand for more than what you stand against." is down right idiotic

RedQueenRace
RedQueenRace

Negative tangible book value and even negative equity are meaningless on a standalone basis. TBV is a measure of liquidation safety, which is not the same thing as operating safety. Cash flow, while not the be-all and end-all, is very important for the latter.

In reality, a positive tangible book value isn't even a good measure of liquidation safety. Assets are sold at market value, not book value, and that tends to drop as a company approaches operational failure, aka insolvency. There are companies that currently have positive TBV that will fail in a nasty recession and companies (e.g., PM) that have negative TBV (in fact, PM has negative shareholder equity) but will survive just fine.

Also, TBV can be understated because asset BVs include depreciation / amortization / impairment charges. An asset could be written down to 0 and still be used in the business and have market value.

TumblingDice
TumblingDice

Mish is right the CPI is a fatally-flawed measure of inflation. However, the Fed and "supposed economic experts" have convinced people that inflation is 0 - 2%.

  1. I purchased Microsoft - ticker MSFT - at $26.45 in the fall of 2012. Dividend at the time was $0.92 or 3.4%.
  2. MSFT has recently been trading over $150 a share, which puts today's share price return at 467% if I sold.
  3. Today's MSFT dividend is $2.04, so my original purchase ($26.45) is earning 7.7 % return.
  4. Does anyone have a Certificate of Deposit at the bank earning 2%?
  5. In fairness MSFT is my best return for a stock.
  6. However, in the 2012 - 2014 timeframe, I bought 11 dividend paying stocks, 10 of these pay dividends of more than 4% from my purchase. Five pay more than 5%. Four of these stocks have doubled in price.
ndre avo
ndre avo

Thanks Mish for chart ! Walking Dead Market has been around us since house bubble's crush. Can you share your thoughts about your approach to stock pick ? Thanks


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