Wednesday, February 13, 2008

Vince Farrell of Scotsman Capital-Verbatim

From: vince farrell
Sent: Wednesday, February 13, 2008 6:25 PM

If you surround yourself with people that are better than you are, you will walk through the world on the shoulders of giants. I think Sir Isaac Newton said that first, but I read it from a philosopher named Santayana, who taught at Harvard where they ponder such weighty things. This is notably true in the investment business. Mike Manning had a post on RealMoney.Com Wednesday regarding natural gas. He recommended a couple of names and, as I said the other day, our favorite is EOG Resources. Mike believes, and I concur, that the future looks bright for the industry. In addition to Mike's reasons available on the web site, consider this. The BTU, or heating equivalent, between natural gas and oil is 6:1. Six mmbtu's (million British thermal units) of gas equals the heat equivalent of one barrel of oil. The price relationship the past 10 years has been 7.8:1 for a whole lot of reasons. Some have to do with it being a U.S based industry and politically safe, transport differences and other things that change the 6 to 1 heat exchange to 7.8 to 1 dollar exchange. With oil at about $93 a barrel, a heat equivalent price of gas would be almost $12 per mcf (million cubic feet). Gas has been bouncing around $8 per mcf, so it looks like there is a big cushion and the industry, in general, has been replacing its production at such a prodigious pace that I feel M&A is around the corner.
Another worthy scholar, Chris Grisanti, weighed in on my piece on AIG. Chris agrees with my analysis completely (he must own even more than I do) and was able to expand on our knowledge base. While it's true AIG brilliantly stopped insuring subprime/CDO credit default swaps in late 2005, the rules of the game allowed some newer, probably junkier stuff to seep in. The way a CDO works is that as mortgages are paid off, new ones are put in and, thus, some latter day maybe toxic waste showed up. Today the old CDO's that are insured have about 12% of new stuff in them. Got that? So now figure out how to price it. The modified binomial expansion technique (which I think is illegal in certain counties in the more backward sections of the U.S.) might not be the answer we are looking for. The undeniable strengh of AIG's balance sheet and the rock bottom price to book value comfort me.
And, of course, on this day in history, a bunch of Al Capone's boys wished a bunch of other thugs a Happy St. Valentines day in a warehouse in Chicago. Maybe equally important, in 842 Charles the Bald swore an oath of allegiance to his French and German lords. Gotta love the name.

1 comment:

Leisa said...

Vince mentions Santayana who is one of my favorite authors...I describe The Life of Reason as my favorite book!