Tuesday, December 4, 2012

Greek Week - Greece From the Bottom-Up

Greek Week - Greece From the Bottom-Up

Most of the financial reporting about Greece has been from a top-down prerspective.  It has not been pretty to say the least.   But I’ve always been a bottom-up guy.  I’ve also seen how negative news can lead to cheap equity valuations that actually decrease the risk of losing money.

I also got sick-and-tired of hearing what seems to be secondary reporting.
So I went there in mid-July 2012.

“Be greedy when others are fearful”, Warren Buffet

But I had to go.  The reason was that Greece reminded me of Indonesia and SE Asia between 1997 and 2002, which is better known as the Asian Financial Crisis.  Negative GDP growth. Protests in the streets. Political confusion. Plunging stock market.  

In retrospect that was an ideal time to invest.  Since the depths of 1998 all SE Asian stock markets have risen substantially.   More importantly the structural changes made in the depths of the crisis led to a more sustainable economic and political situation.  Indonesian and most of SE Asian economies are growing, and most of the equity markets are close to all-time highs.

But it is not only SE Asia that may be a somewhat valid comparison.  I was told that others, mostly US-based deep-value managers, are poking around Greece.  They are comparing present day Greece to South and Latin American markets after they had undergone their own financial crisis.  As Mark Twain is believed to have said, “History doesn’t repeat itself, but it does rhyme”.

The chorus of negative news and uncertainty surrounding Greece seemed to reach a crescendo just before the June elections when what was considered to a far-right party was polling high.  I quickly bought the US listed Greek ETF (GREK) a few days before the elections as this seemed to be the point of maximum uncertainty.  Timing was lucky and the GREK rallied 30% soon after.  I made enough paper-profits to almost pay for the trip.

Greek markets were, and remain, inexpensive. Several articles noted that Greek equities were the least expensive in the world on several valuation metrics.  One report from July 2012 valued Greece at 3.6x long-term earnings, almost one-third the valuation of the next cheapest market (Belgium at 9.1x).  Another noted that Athens listed companies were amongst the cheapest in the world. Other articles looked at the situation from a behavioral finance angle and came to a similar conclusion.

At those prices I thought that one stands a much lower chance of a permanent loss of capital than in 2006 when the Athens market hit its all-time high.   I also think that over the long-term buying a piece of a quality company at these valuations is less risky than buying something more expensive. 

Two books also helped form an investment case for my trip and for subsequently pulling the trigger.  The first one is “This Time is Different”, (Carmen Reinhart, Kenneth Rogoff).  This book looks at financial disasters over the last eight hundred years and comes up with observations on how these tend to unfold.  An earlier read, “Thinking, Fast and Slow” (Daniel Kahneman) helped me recognize and deal with my own emotions that had kept me on the sidelines from other market bottoms.  Both are highly recommended.  (Although an investment contact here in HK has issues with the Reinhart/Rogoff book as they seem to have left out some financial crises).

“It’s All Greek to Me”, Anonymous

My goal in going to Greece was to find 2-5 quality companies. Companies that I felt comfortable owning shares of for the next 3-5 years - or even better forever.  I also did not want to spend much time and effort monitoring the investments for two reasons.  Keeping up to date would be difficult, as we just don’t get much Greek news-flow in Hong Kong. Secondly, and most importantly, I wanted to sleep at night.

Readers should bear in mind that before March/April 2012 I knew almost nothing about Greece, its economy, politics, stock market, listed companies, etc. I still don’t know much.  Most of my career and interest has been looking at emerging Asia.  This was my second time to continental Europe, my first time in Greece, and the first time analyzing anything in Europe.

My only real advantage was that I had lived through a similar situation. I also had the advantage of being outside of the storm and disinterested.

I can only imagine the mood in Athens in May/June 2012 as being very bleak.  The FTSE/ATHEX 20 index had fallen over 40% in the previous four months.  And this was after an 88% decrease from its October 2007 index high.  According to figures from the World Federation of Exchanges, between October 2007 and May 2012, the value of all companies listed on the Greek exchange fell from US$270b to US$26b.  This put the total value of all 286 companies traded on the exchange at about 1/20th the value of Apple Inc. (APPL).

I also had no way of buying Greek equities.  My “global” broker sold its Athens operation just as I became interested in Greece.  I interpreted this as another buy signal.  The same broker shut-down most of its SE Asian research offices close to the bottom of the Asian Financial Crisis, and just those before those markets entered a multi-year bull-run.   

It would have been easier not to go to Greece, but there are not many choices outside of Athens and, surprisingly, very little information on Greek companies and businesses.  Outside of Greece domiciled shipping companies listed in the US and UK, non-European investors are basically stuck with three choices - the Greek ETF (GREK), Coca-Cola Hellenic (CCH) and National Bank of Greece (NBG).  

“…the crisis occurs at the end of the problem – not the beginning.  The crisis actually initiates the process of repairing whatever problem created the crisis.” Frederick K. Martin, from ‘Benjamin Graham and the Power of Growth Stocks’.

My Athens trip was arranged very similar to investment trips I took when I was first looking at emerging markets in the early 1990s (Jakarta, Karachi, Mumbai, Colombo, Shanghai).  About half of my visits were with the companies and the other half with anyone who could tell me anything about leading corporate personalities, listed companies, etc.  This included journalists, stockbrokers, investors, advisors, taxi cab drivers, waiters/waitresses, etc.  I was also helped by fellow CAIA professionals in Athens. I’m a big fan of the CAIA program and try to meet other CAIA members/candidates when I travel. 

I came away from Athens relatively impressed with the place.  Life is tough there, the average Greek is having a difficult time and many are having to work harder for less money.  Former civil servants and professionals are driving taxis.  Full-time limo drivers are working seven-days per week instead of four or five.  The rate for independent financial analysts seems to have halved. Many professionals are looking abroad for better opportunities.

However virtually everybody I talked to said that the current system is not working and things had to change.   I also felt that many realised things were unusually good during the last decade or so and that the current status quo is unsustainable.

There was also the feeling that Greece is falling behind its regional neighbors.  And that this is a blow to their national pride. For instance, the country’s traditional rival, Turkey, is doing well.  According to the World Bank, the Turkish economy grew by 9.1% in 2010 and 8.5% in 2011. It stock market was (and is) trading close to an all-time high.  Greece’s economy fell by 3.5% in 2010 and a further 6.9% in 2011 and its stock market has given up many years of gains.

I was also told that several poorer and less advanced Balkan countries are more business friendly than Greece.  Supposedly in one of these, citizens can form a company over the Internet in a few hours.  But in Greece it is an arduous process that few attempt.  I was told that it takes considerable effort, time and bribes to secure a corporate license.  (This has supposedly been reformed).

But Greeks also want to stay within the EU and I got the sense that many citizens realize that they need the financial discipline that EU membership entails.  They polled by overwhelming margin – something like 70% I was told - to stay in the Eurozone and EU.  Several people told me that Greeks want to see more European involvement in their government.  I got the impression that they acknowledge that something is wrong, they can’t seem to fix the system, and that they collectively feel the need to let an outside and more powerful entity to make and enforce the necessary changes. 

The analogy here, at least to me, is China’s December 2001 WTO membership. This gave Beijing technocrats outside leverage to change policies that lead to faster growth and development.   

But bear in mind that I have no particular insight beside my week of talking to as many as I could.  There is obviously more than a bit of wishful thinking here as I suspect there are powerful interests that are doing very well under the present system and will do as much as they can to resist change. 

Familiar Structure

One thing I like to look at before investing is ownership and control.  This is because in the Asian markets I’ve looked at most listcos are controlled by either the government or one of several prominent business families/groups.  This means that minority investors have little-to-no-say in the way companies are run, who is running them and how capital is allocated.  Knowing who is ultimately pushing the buttons and which person or group respects minority shareholders helps me sleep at night.

Luckily, control of Greek listcos is very similar to S.E. Asia and other emerging markets I’ve looked at. In addition to a handful of large government controlled companies (OPAP, PPC, NBG), several business families control a large portion of the local market capitalization.  This includes the Latsis, Vardinoyannis, Stasinopoulos, and Mytilineos families who control numerous companies, both private and public. 

Many of these are involved in more than one business line.  For example, the richest family, the Latsis’ and its Swiss based EFG group not only control the largest Greek oil company (Greece Hellenic Petroleum), but also one of its largest banks (Eurobank EFG), a property company (Lamda Development), and the only listed REIT-type entity (Eurobank Properties).  This does not include the family’s shipping and related entities, or even its larger holdings outside of Greece.

“The recession’s so bad that women now marry for love”, Athens taxi driver quoting a newspaper article, July 2012

From the top-down Greece looks bad. From the bottom-up things look much different.  I met with very switched-on management of some very good companies.  I stayed away from the banks as I never really like analysing them. I prefer to stick to businesses that are simpler and that I feel I have a good chance to understand.  These include consumer goods, retail, energy, etc. Some take-aways:

  • Strong companies are taking advantage of the economic downturn.  One retailer I met stepped up their expansion program due to much less expensive and attractively located real estate.
  • Some companies are doing well.  One increased staff bonuses in 2011.  They figured giving their staff more money at a time when it went further is a good way to retain key people. It could do this because it operates a very efficient plant with much of its earnings coming from outside Greece.
  • Companies are also restructuring.  OPAP, the state-owned lottery and sports betting monopoly, is in the process of selling 33% of itself.  I was told that PPC, the state-owned electricity generator, might do the same.
  • All companies I met have Euro-exit contingency plans or had made preparations. One thing that one does not read about is that management has had many years to prepare for a possible exit from the Euro. This has mostly been making sure loans are with Greek banks rather than non-Greek banks.  Thus if Greece leaves the EMU, money borrowed from Greek banks will be repaid in the new, likely weaker, local currency rather than what most assume will than become a more expensive Euro.  Thus an EMU exit will actually benefit companies with non-Greek derived earnings, as they can pay down likely cheaper local currency/Drachma loans with more dearer Euros, USD’s, etc.   This is very different than the SE Asia financial crisis as rapid and adverse exchange rates left many companies with expensive currency mismatch between revenues and debt. (See example here)

I came away from the trip feeling reasonably positive that things are changing.  More importantly I came away with about ten solid investment ideas, and put money to work in six later adding a seventh. 

The best part is that the market downturn made virtually everything inexpensive.  Quality, as well as non-quality companies, had been sold down to what I thought were good entry levels.  At those levels I think there was a decent enough margin of safety to compensate for my lack of local knowledge. 

I still hold the Greek ETF.  I added to my original position as the price started to increase soon after the June election. The reason for holding the ETF is that it provides exposure to solid companies that I thought were too expensive at the time such as Coca-Cola Hellenic (CCH).  It also gives me exposure to the banks and financial companies that I could not bring myself to directly invest in despite trading at 0.1-0.3x book value. 

The result has been good so far.  After investing at the end of July the prices of my individual picks rose between 5% to 90% or about 60% on average.  So far this is similar to the GREK ETF.  So in a way my trip did not pay for itself as I could have easily bought the ETF through my HK based broker.   The trip however did give me enough confidence to go against the news flow and increase exposure.  And with a multi-year time horizon, I’m feeling confident that my picks have a good chance of doing well and perhaps even better than the index. 

It was also a great trip.  It was an intense learning experience and great fun ‘finding’ good/great companies at what I think are attractive valuations.  The people are nice and friendly; there is good food and drink; and quite a few tourist spots to hang out at.

“I’ve got staying power. Just when you think it’s over, I’ll come right back again”, “Staying Power”, by Barry White (from album of the same name)

The market and GREK ETF up some 70-80% since the June low.  This should put the market’s long-term valuation at about 6-7x earning, still amongst the cheapest in the world.  It is hard to recommend something that’s gone up so far so fast, but at these valuations I suspect a long-term buy-and-hide strategy should yield a decent return.

However, one needs to be prepared for a potentially wild ride. Large risks remain and prices could tank at some point.  Between 1997 and 2002 the Indonesian stock exchange rose and fell by over 30% no less than five times.  And this does not include currency changes.  After rallying by 108% from its March 1998 bottom it subsequently fell by 42% between July 1999 and March 2001.  A long-term sustained rally did not commence until 2002, five years after the Baht broke.  But the rally was strong and long. Between October 2002 and Feb 2008, the Indonesian index increased by 5.4x.  Indonesia is now trading at around its all-time high having increased over14x since its October 1998 low. 

Disclosure.  One should assume that the author has a position in one or all of the stocks listed above.