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In This Issue
bullet Cale's Notes: Taking a Step Back.
"Thoughts on Greece, Frodo and one dumb iPhone app."
bullet About the Tarpon Folio: More about our Spoke Fund®.

Letter to Investors
For April 2010

www.islainvest.com csmith@islainvest.com (305) 522-1333             


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Cale's Notes

Cale Smith

Dear Investors,

I am writing this month's letter under the presumption that even those of you who don't pay much attention to the stock market are feeling more perplexed than ever after the week that just ended. As a result, I've scrapped my usual format. Instead I'm going to tell you what I expect to happen in the market next, and what I intend to do about it. Then I'll update you a bit more on Tarpon.  Next month - more on my recent trip to Omaha.

Before I Begin

First, I'd like to start with a request. If you're feeling particularly anxious about anything - your investment here, the economy, the price of tea or your Labor Day travel plans - call me. Or email me. Stop by the Dynamite building. Text me. Whatever is easiest. Please remember that this is not a mutual fund. You and I...we can talk.

Second, a simple request:

Turn off your television.

Seriously. It may seem like there are three dozen reasons to go hide under your house right now, but there are probably only two that might still be meaningful for your portfolio this time next month. In the meantime, please take a deep breath, grab a Post-it note, and scribble this down to stick on your bathroom mirror:

"Fear and uncertainty are the friend of the long-term investor."

Third, please realize that attempting to predict what will happen the next few months in the stock market, let alone the next few trading days, is something for which I have shown zero aptitude. Nobody can do it well, actually, despite the number of people who seem to believe otherwise. So, take my opinions below as just that.

Finally, to those new investors in Tarpon who have been onboard for just a little while, I'd like to say, "This is how value investing works. There is no such thing as outperforming the market without going against the grain, and because Tarpon is a focused portfolio, things will jump around on us. In the long-term, though, that's going to be a very good thing. And all the while, we will unequivocally be in it together."

Oh, and this: "PS. When I launched Tarpon in late 2008, some very smart people thought I'd completely lost my mind. But things worked out well. And this is not quite that bad."

Where We Are

There is one signal in the market noise lately that has had an outsized influence on recent market results - the credit crisis in Greece. Here's a short column explaining Greece's woes that I wrote for the local paper a few weeks back. And here's where things stand now from an investor's perspective:

After the close on Friday, the market appeared to me to be either (1) braced for a real catastrophe or (2) in yet another bout of temporary insanity. The actions I have taken and will likely continue to take with our money are based largely on my belief that what we're currently seeing is that second option. The reasons are many, but one incident that I believe underscores that the market is not behaving very rationally is the brief, mysterious 9% "trading glitch" drop on Thursday. In the time it takes to microwave a Hot Pocket, a trillion dollars of wealth effectively vanished - and no one seems to know why. I have my own theory, mind you, but my point is that it wasn't the type of problem that happens in an excessively rational enviroment. There are inefficiencies in the market right now, and I feel it's my job to exploit them.

That said, there is often a fine line in value investing between being opportunistic and just plain stupid. The two can be indistinguishable for a while. While I'd like to think I know on which side of that line I am currently standing, it's entirely conceivable that you may not be certain for months. Here are two character traits of mine that might be useful for you to know as you attempt to divine the difference:

I have little fear of looking foolish if it means saving or making money.

For instance - and my daughters will one day be mortified I'm admitting this - I often cut my own hair. I also drive a fifteen year old car in dire need of a muffler. Buying unpopular stocks at seemingly inauspicious times just comes with the territory.

I believe I am more comfortable with short-term uncertainty than the average investor.

See that "launched Tarpon in '08" bit above. This is a reflection of the work that goes into each of our positions, as well as an effort to avoid false precision. I also try to be pretty rigorous in ensuring that my comfort doesn't stem from overconfidence.

I also have several thoughts regarding that point above regarding the risk of imminent catastrophe. One of the more pervasive conceits of Wall Street is that only it can foresee, understand and predict financial risk. How this belief continues to perpetuate among anyone alive in 2008 baffles me. Nonetheless, the recent sell-off would seem to imply one thing - that an omniscient Wall Street does not believe the credit crisis in Greece is going to be properly addressed.

I'm simply not buying it. At the risk of oversimplifying, the crisis in Greece is too obvious a problem. Every investor, banker and politician in the world is currently hypersensitive to the risk of another financial meltdown, and all that recent fear is, I believe, the primary reason such a catastrophe is unlikely to come to pass. Not in Greece, and not anytime soon. While it seems slightly more possible that the current woes in Europe could slow down the ongoing recovery in the U.S., this is not a fear I am currently losing any sleep over.

I suppose I should also acknowledge that "market sentiment" is poor right now, and that there is a real risk of a self-fulfilling prophecy when it comes to credit fears, but, again, I do not view either as a reason to not to invest.

What I Expect to Happen

My predictions:

1 - At some point very soon, and quite possibly by the time U.S. investors wake up Monday morning, Europe will have figured out a plan that satisfactorily addresses Greece's short-term issues and begins to reduce the threat of contagion. And the Dow will rise 251 points. Or 253 if Sagittarius is visible in the east.

2 - Despite few people talking about it, the scenario with the highest odds will actually occur. More specifically, Greece with all its woes will be able to grind things out for a couple of years, thanks to an epic bailout courtesy of its neighbors and the IMF. However, because Greece doesn't control its own currency - it's tied to the Euro - it can't inflate away its own debt, meaning the probability of default a few years down the road seems pretty likely. That day will be an unpleasant one, but it will also be far less significant than were it to occur, say, next week, if for no other reason that Europe's banks will be healthier and better able to withstand the blow.

Probably most important, however, is that in absolutely no realistic scenario related to Greece over the next few days, weeks or months can I foresee anything that would keep me from buying lots of shares of Google as it trades under $500. That's just silly.

What I Intend to Do About It

While there are certainly some risks like Greece to keep a close eye on lately, the odds of any one of them becoming a problem worthy of this recent volatility appear to be low. If those odds increase to a point at which I become uncomfortable, then I will not hesitate to move portions of our portfolio to cash and wait things out. But you should know that I am nowhere near that point.

In fact, I have been adjusting our positions in Tarpon lately to put more money to work in our most undervalued companies. Google is now our largest position. Leap Wireless at $14 is a gift. And, oh, what I'd give to be starting a brand new position in Neutral Tandem right now at $13. Not because I'm being cavalier, mind you, but because these companies seem so clearly undervalued and the short-term risks seem so overblown. In addition, despite the fact that nobody seems to want to believe it, the economy is, in fact, recovering. Yes, it's going to take a while, and, no, it doesn't mean the end of bad news, but both points are entirely consistent with the fact that we are coming out of the worst recession most of the country has ever seen.

Should my previous two predictions be way off, or if the market continues to decline anyway, there are multiple scenarios for Tarpon. The first is that, as mentioned previously, I move things to cash. The second is that through inverse ETFs, I actively short the market and/or select sectors. The third scenario, however, is most likely, which is that the Tarpon Folio begins to have larger positions in fewer names, or adds modest positions in new companies. While I'm pleased to see my watch list look more attractive lately, I'm even happier that the most attractive stocks to buy are already in the portfolio.

To summarize my intentions, then, I'd reiterate that while there is a low probability of the woes in Greece directly impacting us here, I intend to keep a close eye on things nonetheless. So, in Dynamite I will sit, watching and waiting for the day when I can go back to completely ignoring opinions about the credit default swap indexes of European financial companies.

Speaking of Tarpon

In other news, here at IIM, I'm pleased to say we've added 23 new investors since I last wrote, with more coming onboard in the next few weeks. As usual, these investors are extremely good-looking, highly intelligent and the envy of all their friends. If that describes you, too, but you're not yet an investor, then have I got a hyperlink for you.

As you might guess, I've been spending most of my time in a cave lately, in part to stay on top of the swings in the market caused by these once-every-few-decade-type events that pop up every week. Health care reform. Financial regulations. A massive oil spill. Near-catastrophic trading glitches. A blessedly moronic car bomber. The Dolphins trade for a real wide receiver. At this point, it also may be easier for Goldman Sachs to clean up that tragic Gulf oil spill than its own reputation.

Most of my time the last few months, however, has been spent looking at companies in one specific sector of the market - regional banks.

Yep, go ahead...cringing is normal.

I am well aware that saying there is real value among regional banks is kind of like saying you can get a great deal on a flat-screen TV in Kabul. Impressive values do exist, but you absolutely must be careful - and it better be one helluva TV.

I'm afraid many more banks will likely fail in 2010 - the math just doesn't seem to work - but that general fear is also hiding some attractive opportunities among what will be the survivors. It may be hard to believe, but well-managed banks are fundamentally very good businesses. And only recently does it seem we're starting to see real signs indicating which banks will win and which will twist in the wind.

So, at times the last few months I've felt a little like Frodo in Lord of the Rings. I wouldn't have made the trek to Mordor if I hadn't been strangely compelled by some kind of irresistible force. More than once I stomped my hairy feet, threw down my tiny cloak and almost gave up in despair. But despite all the nightmares, I'm now pleased to have made the journey.

Too much with the metaphors?

Investors in Tarpon can check their accounts to see which bank we now own. If you're not an investor, I'm afraid you're going to have to wait until my next letter to learn more about this latest holding. My apologies. As mentioned before, though, I've got a handful of new investors coming onboard, and I want to make sure they're fully invested before publicly disclosing the bank. While mentioning it now probably wouldn't cause the stock price to jump - it might even drop because of that Frodo thing - I am also conscious of the fact that this email is going out to a list that has somehow grown to over 600 people. And it appears some may be, well, kind of influential. (Not you, though, Greenspan.)

So, I'll be including a detailed report on Mystery Bank in my next letter. I'm putting a little more time into it than normal because, quite frankly, people are terrified of Mordor. Rest assured, though, that I believe the trip was worth it.

More Thoughts On The Way

No doubt due to the choppiness of the market lately, and even before Greece popped up last week, a few of you had expressed some unease about the economy and investing in general. I owe you all some detailed macro thoughts. Here are some quick thoughts in the meantime:

There are clearly a number of serious economic and market-related issues that we as a country need to work through over the coming years and decades. Nonetheless, I remain very optimistic about our portfolio, and again, there are clear signs that the economy is finally beginning to recover. I'm not sure how to say this without sounding masochistic, but all things being equal, I prefer the volatility we're seeing lately. If you are investing now for years to come, these wild swings provide the rare chance to accumulate meaningful positions in some amazing companies. Most investors don't think like that, of course, but as I write, the most popular free app for the iPhone is also - and I am not making this up - a program called "Ow My Balls!" So, draw your own conclusions about popular opinion.

That said, one potential macro headwind that does have my full attention is the threat of future inflation. I'll soon share some more thoughts on inflation and my plan to minimize its impact on Tarpon, too.

In the meantime, I don't blame you if you have post-traumatic-financial-crisis-syndrome. But hang in there with me. We're starting to do some buying again. 

I'll provide a more traditional update again soon. And by all means call or email if you need to.

Thank you again for investing with us.

- Cale Smith
Portfolio Manager
Tarpon Folio
csmith@islainvest.com
(305) 522-1333

About The Tarpon Folio

The Tarpon Folio is an innovative, investor-friendly alternative to the traditional actively managed mutual fund. It's built on a model we call a Spoke Fund®

It is more transparent, takes more concentrated positions and is significantly less expensive than the vast majority of mutual funds. The portfolio is managed for long-term growth using value investing principles. 

Fees are 1.25% of assets annually, assessed on a monthly basis. Turnover, taxes and trading are minimized in the fund, and investors can customize their accounts in several key ways, including tax preference. Each Tarpon Folio account is also protected by three types of insurance for a maximum of up to $11.5 million

For more information, visit our website.  

Here is our privacy policy, our Form ADV and our Fiduciary Oath.

Disclaimer

See our performance disclaimer for more. Any historical performance data contained above represent performance results as reported by the portfolio listed. The performance results are for illustration purposes only. Historical results are not indicative of future performance. Positive returns are not guaranteed.

Individual results will vary depending on market conditions and investing may cause capital loss. The S&P 500, used for comparison purposes, is significantly less volatile than the holdings of the funds listed. The performance data is net of all fees reflecting the deduction of advisory fees, brokerage commissions and any other client paid expenses. The performance data includes the reinvestment of capital gains. 

The publication of this performance data is in no way a solicitation or offer to sell securities or investment advisory services.

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