Dear Fellow Investors and Friends

Hello again. Thanks for signing up. I’m Piet Viljoen.

Today is Thursday, the 7th of December. On the 8th of December 1980, John Lennon was fatally shot by Mark David Chapman outside his apartment in New York. At the time, I clearly remember being in Plettenberg Bay, celebrating my surprisingly (at least to my father) successful navigation of 12 years of school when I heard the news.

I couldn’t understand how such a thing would happen. Why would you kill such a talented artist? Apparently, Chapman thought the murder would make him famous, transforming him into something other than “a nobody”.

Obviously, he was delusional.

Here’s another example of a delusion: the Seattle “windshield pitting epidemic” in March 1954. It was characterised by a widespread observation of previously unnoticed windshield holes, pits and dings, leading residents of the Seattle suburbs to believe a common cause was at work. It was originally thought to be the work of vandals, but the pitting rate was so great that residents began to attribute it to everything from sand flea eggs to nuclear bomb testing.

Police initially believed the work to be vandals using BB guns, but soon, it was also reported in surrounding towns. Eventually, the so-called “pitting epidemic” reached metropolitan Seattle. As the newspapers began to feature the story, more and more reports of pitting were called in. Motorists began stopping police cars to report damage. Car lots and parking garages reported particularly severe attacks.

Several hypotheses for the widespread damage were postulated:

  • Some thought that a new million-watt radio transmitter was producing waves that caused physical oscillations in glass.
  • Some believed it to be the work of cosmic rays.
  • Some reported seeing glass bubbles form before their eyes, believing it to be the work of sand fleas.

Eventually, close to 3,000 windshields were reported as affected, which prompted the mayor to call for help from the President, Dwight Eisenhower.

Finally, a Sergeant from the Seattle police crime laboratory, after diligent research, found that the pitting reports consisted of “5 per cent hoodlum-ism, and 95 per cent public hysteria.” By April 17, the “pitting” suddenly stopped.

The “Seattle Windshield Pitting Epidemic”, as it is called, has become a textbook case of collective delusion. Although natural windshield pitting had been going on for some time, it was only when the media called public attention to it that people looked at their windshields and saw damage they had never noticed.

Quote of the Day

“I can calculate the motion of heavenly bodies but not the madness of people.”
Sir Isaac Newton

Here in South Africa, we are also suffering from a delusion, or social contagion – one that is reinforced every time we look outside our windows and see a general degradation of infrastructure, brought about by a combination of

  • an inept, hopelessly corrupt government;
  • a massive trust deficit between this inept government and a hamstrung private sector, which is increasingly being exploited by people of a less than salubrious character on both sides of the table;
  • a skills shortage driven by cadre deployment on the one hand and increasingly strident race-based policies on the other.

And I’m sure I have just scratched the surface in trying to identify the problems we face. Like the root system of a wild fig tree, our problems are deep and wide – but unlike the root system, they are there for everyone to see daily. As Johann Rupert put it so aptly at the Remgro shareholders meeting this week, “Capital does not go to a place where they call each other comrade.” (We do need to talk about his investments in China through Reinet, though).

It is no wonder we are so increasingly pessimistic about the investment opportunities in South Africa. But I think it has reached the stage where we suffer from a mass social contagion of delusion.

I say this because we are ignoring so much evidence to the contrary.

Every day, a South African business reports losing money in its offshore operation. Operations which have usually been acquired at great expense to shareholders, but to the great relief of management, who can now claim to have “diversified” the business outside of that terrible place, South Africa. On the other hand, the South African subsidiaries of these self-same companies are doing okay.

Here are just a few examples from results over the past while:

  1. Spar – massive losses in Poland; weak profitability in Switzerland
  2. AECI – increasing losses in Germany; doing fine in South Africa
  3. PBT Group – selling loss-making Australian operations; South Africa doing fine.
  4. Aveng and Murray & Roberts have both lost tons of money in Australia, while their SA businesses are chugging along.
  5. Sibanye is downsizing its US investment, Stillwater. You don’t downsize when things are going well.

The list goes on and on; I’ve left many out and haven’t even included the likes of Old Mutual, Brait, Woolies and Steinhoff, who lost big money after management sold the offshore dream to their shareholders. Of course, the money lost wasn’t that of management. It was shareholders’ money being incinerated, all while they were cheering on management for their “offshore diversification” efforts. In all cases, management walked away scot-free, with shareholders holding the bag.

If that isn’t delusional, I don’t know what is.

There are success stories like Bidcorp/Bidvest, Outsurance and Nepi Rockcastle – but they are the exception that proves the rule.

Here are two more data points:

  1. In Regarding… Vol 1 no. 4 (The Path of Least Interest) I shared a chart which showed how a cash deposit in South African Rands has outperformed a cash deposit in the US$ over the long term. Our high interest rates have compensated investors for the currency’s depreciation rate. And continue to do so.
  2. Just over two years ago, an investor placed R500 000 in various offshore funds, chosen by renowned financial advisor Magnus Heystek, and simultaneously invested R500 000 in the SCI Merchant West Value fund. This fund invests exclusively in shares listed on the South African Stock Exchange. I manage this fund together with my colleague Brian Pyle. As of last count, the local fund was around R100 000 ahead.

Also, consider how shares have done – in US$ terms – in the two basket cases of the world economy, Argentina (first chart) and Turkey (second chart):

Argentina
Turkey

Not too shabby for a pair of basket cases!

Is the South African economic and social environment worse than that of Turkey and Argentina? I don’t know, but the stats around inflation, exchange rates, and debt levels seem to suggest otherwise.

This begs the question: does one recognise this collective delusion we are suffering and counteract it by investing all of your hard-earned investment funds here in South Africa?

In short, that would be insane – no point in moving from delusion to insanity. You would be even worse off.

So, what to do?

  1. Recognise that social contagion is a real thing and that you might be subject to it.
  2. Recognise that there might be a vested interest in moving your funds offshore, as the commissions earned can be substantial.
  3. Recognise that the absolute incompetence of our government to fulfil their primary role – creating an environment in which the private sector can produce and serve – also creates opportunities for the private sector to step in and make money.
  4. Recognise that this is hard, and growth rates are lower than they would have otherwise been, but the opportunities are there. Many companies in South Africa are taking advantage of this opportunity and making money from it.
  5. Recognise that it can be advantageous to your investment outcome to allocate a portion of your investment to this opportunity.
  6. Recognise that by investing in the Index or in the funds of large institutions, you are basically buying shares in Naspers, Prosus, BHP, Richemont, AB InBev, Anglo American and British American Tobacco, none of which address inefficiencies in South Africa to the benefit of their shareholders.

And once you have recognised these incontrovertible facts, allocate a portion of your investments to the local economy. Not a big portion, for we face significant existential risks here on the southern tip. Don’t be insane. But don’t ignore the opportunity because it’s comfortable in the herd.

Another Quote of the Day

“Whenever you find yourself on the side of the majority, it is time to pause and reflect.”
Mark Twain

“New highs are bullish”

1. Coinbase

Only one this week: Coinbase. I could include Bitcoin, but I don’t want to upset too many people; I think I’ve done enough for this week.

Coinbase

It hasn’t recovered to the previous highs yet, but it seems to be well on its way. More importantly, Coinbase is at the nexus of the future of Bitcoin and crypto generally. I mentioned Bitcoin in Regarding…Vol 1 no. 9: “Salads and scrums”, and I will expand on it sometime in future, but for now, this is what we know about Coinbase:

Coinbase is an unregulated exchange for crypto assets. Unlike many others – some of them scams, like FTX – it operates in the USA. What it wants to be is a prime broker for crypto. What is a prime broker, you might ask? I didn’t know either, so I looked it up for you:

  • Custody – looking after a fund’s assets.
  • Bank accounts – running multi-currency cash accounts on behalf of funds.
  • Margin lending – lending on margin to funds against the value of their holdings.
  • Lending stock so that funds can short-sell stocks they don’t own.
  • Synthetic prime brokerage – providing funds with derivative exposure on assets via synthetic equity derivatives like single stock swaps or total return swaps.
  • So-called “Delta One” services – offering hedging instruments like index swaps.

We’re starting to get into the weeds now; I also don’t know about the last two points.

The nitty-gritty is that to do all those things, you need to deal in securities. And to deal in securities – in the USA – you need to be regulated by, amongst others, the SEC. Coinbase says they are not dealing in securities but in crypto what-what. So, the SEC has taken them to court to define the product they are dealing with.

The Howey Test, an important tool for evaluating blockchain and digital currency projects by determining whether or not a transaction is an “investment contract,” serves as a guide in the decision-making process for this trial. Ultimately, it comes down to the court’s interpretation of who is in the right based on the Howey Test standards. The outcome of this lawsuit will redefine the cryptocurrency landscape in the U.S.

My take: The market is smart. It knows.

“New lows are bearish”

1. BTI (and most tobacco stocks)

British American Tobacco is probably one of the most over-owned shares on the JSE. It’s offshore, has a stable earnings stream, pays a good dividend, and is connected with Johann Rupert. What could go wrong?

Yesterday, the market said “hold my beer”.

BTI

The share price dropped 10%, as the market reacted to an asset impairment of £25bn(!) – and the stock is now lower than it was ten years ago.

Two things are working against it:

  1. Its main product, cigarettes, eventually kills its customers. And it stinks, but not always in that order. Unsurprisingly, they have fewer customers every year.
  2. The product revenues they hope to replace these lost revenues with are from vapes. Here, the Chinese are undercutting them dramatically.

My take: For a value investor to get excited, stocks must be cheap and unloved. This one is cheap. And I’m a value investor. I own a little, and it’s too much.

2. Farfetch

The chart says it all:

Farfetch

In case you can’t read the Y-axis (I can’t), the share price has gone from $55 to $1,20 in less than three years.

To fill you in:

  1. London-based Farfetch operates a global marketplace for luxury brands.
  2. It IPO’d in 2018 at $25.
  3. Repeat after me, don’t buy IPOs.
  4. It made a big bet in China, via JVs with Richemont and Alibaba.
  5. This did not work, and Richemont presciently sold its online offering to Farfetch, becoming one of its largest shareholders.
  6. Last week, Richemont said it did not see itself lending to or investing in the company any further.
  7. Mr. Rupert (The Chairman of Richemont) is not stupid.
  8. Farfetch then surprised investors by saying it would not report third-quarter earnings as planned.

My take: I am generally not a buyer of their products. But if I were, I wouldn’t buy it online. I want those salespeople in the physical shop to slaver all over me as I take my time to browse through their overpriced merch. I want to see them repacking their neat little piles after I haven’t found my size. Which I then want them to try and find in the back, flapping around as they do so. All the while drinking their coffee and mineral water and observing the spectacle.

And then I want to decide I don’t want it.

Online shopping is much less fun. I have no position in this stock.

Did you know?

1. Sanctions don’t work, at least not in the short term

Anyone who lived in South Africa in the 70’s and 80’s knows that. People are intelligent and can generally run rings around government-imposed regulations, however well-meant.

German exports

Is Kyrgyzstan undergoing the economic boom of the century, or is it a conduit for German goods destined for Russia?

My take: Your guess is as good as mine. But I know what you’re guessing.

2. Despite all the furore at OpenAi, Nvidia and others, the impact of AI might be less than we think.

AI

Source: @HiddenValueGems

In this regard, Stratechery has a fascinating take in his column this week, where he coins the term “regretful acceleration”:

“We don’t have a unitary online world designed by a master architect driving offline interest; we have a churning mass of users absent their humanity coalescing around Schelling points that are in many respects incidental to the mass hysteria they produce. The result is out of anyone’s control.

I suspect we humans do better with constraints; the Internet stripped away the constraint of physical distribution, and now AI is removing the constraint of needing to produce content. That this spoils the Internet is perhaps the best hope for finding our way back to what is real. Let the virtual world be one of customised content for every individual, assuming it is all made-up; some may lose themselves to the algorithm and AI friends, but perhaps more will realize that the only way to survive online is to pay it increasingly little heed.”

For interest sake, here is an amazing video showcasing what AI can do.

My take: technology is good at creative destruction. As investors, we should be even more careful than usual.

3. Bison walk into snowstorms, not away from them

These are the only animals that do it, as they instinctively know that walking into the storm will get them out of the weather quicker.

It also makes for some epic pictures:

Bison snow

My take: We should all try to be more like bison.

What I’m reading

I own all three editions of “Poor Charlie’s Almanack: the wit and wisdom of Charlie Munger” – and they are all signed copies, so I’m loathe to browse through them arbitrarily. This is what one should do with a book, especially this one!

But then one of my colleagues pointed out this excellent online version compiled by Stripe Press. Now I can browse to my hearts delight. And so can you.

What I’m watching

For those of you who are investing offshore – which I guess is everyone(!) – here is a short video clip by Dan Rasmussen from Verdad Capital on the pitfalls in global markets and some tips for dealing with them.

What I’m listening to

Shane MacGowan of The Pogues fame died last week at the ripe old age of 65. How he got to that age is another story, given his propensity for massive substance abuse.

Here is a beautiful obituary written by Nick Cave – in which he coincidentally also mentions Sinead O’Connor, another troubled creative spirit who died this year.

And here’s a playlist I made of his best songs (according to me), available on Spotify and Apple Music.

Let’s be careful out there!

Piet Viljoen
RECM