Idea Brunch with Dan Schum of NoNameStocks
Idea Brunch with Dan Schum of NoNameStocks
Welcome to Sunday’s Idea Brunch, your interview series with great off-the-beaten-path investors. We are very excited to interview Dan Schum!
Dan is currently the author of NoNameStocks, a respected blog on deep value in the microcap and nanocap space. Dan is an engineer by training and has been investing his personal capital for the last decade. Dan is up ~2,000% since 2013 according to his blog.
(Editor’s note: We recently launched a new, 100% free publication, Cool Stock Tweets, that sends you 10-15 interesting long-biased stock tweets every Sunday. Perfect for idea generation – sign up here.)
Dan, thanks for doing Sunday’s Idea Brunch! Can you please tell readers a little more about your background and why you decided to launch NoNameStocks?
My college degree is electrical engineering with a minor in computer science and I’ve had no formal financial training. Growing up in Catholic school, even the pursuit of money was looked down upon. I was born an engineer, constantly breaking and fixing things my whole life. I didn’t know what a PE ratio or really what stocks were until age 32. After college, I got an engineering job and didn’t think much about money. I did open a 401k since my work did a match and one year I put my $100/mo raise into a Roth IRA, but all the money was just in mutual funds. I didn’t know or care about anything financial beyond just putting some money away for retirement. I met a wonderful woman, got married, and we started having kids. After the 2nd child, my wife paused her career since it no longer made financial sense and at that point my whole family was 100% dependent on my salary.
I was working for a startup electric car company in Los Angeles that went bankrupt in early 2013. I found a new job quickly so we sold the house and moved to San Diego. I watched my wife cry as she said goodbye to friends and family which left a bad taste in my mouth. Luckily the kids were too young to know what was going on but that experience hammered home how dependent my family was on my salary. It became clear I needed to educate myself financially to diversify my family away from my 9-5 job.
I started reading books. My wife had got me an audiobook subscription and I heard a commercial on the radio for Rich Dad Poor Dad so I tried that. I listened to 3 of those books and he talked about starting your own business which is not for me then I remembered this guy my roommate used to watch on TV because he was funny, Jim Cramer. So I listened to a few Cramer books which got me thinking about the stock market. I figured maybe that’s something I could do on the side but Cramer is all over the place so I couldn’t follow him. I had heard of someone named Buffett so I searched that and listened to a few Warren Buffett books and that is what really got me going. He used numbers and logic which spoke to my engineer self.
I took about 5% of my retirement mutual funds and figured I’d buy some stocks and see how it goes. My first purchases were huge stocks like MSFT, ORCL, etc. I used to follow my stocks on Seeking Alpha and quickly became overwhelmed with the amount of information. Every day there were new articles about these stocks filled with incredible detail. The analysis was very impressive and I started wondering how I could possibly compete with all these smart people. After all, I'm just someone who read a few books.
On the side, I had started following bloggers like OldSchoolValue, Whopper Investments, OddballStocks, and OtcAdventures and they were just amazing. They would find amazing deals and do all this great research and none of them were getting paid for it. They were like me but better and focused in a more reasonable area of the market. Around that time I also read F Wall Street then decided enough of the big stuff. I sold all my big stocks and started filling my portfolio with microcaps and nanocaps.
I started writing sort of by accident. In a chat room someone asked me what stocks I’m into so I typed up a response on one stock GLGI which got so detailed I thought, wow this could actually be a real write-up! I posted it on a small message board and got really great feedback. Most importantly I got to know the stock better than anything I had ever owned. Writing about a stock forced me to think about all angles and defend my position so it’s really a selfish benefit. A few months later I decided to write up GLGI again as there had been some interesting developments and I posted it on Seeking Alpha. I got a lot of hits and good feedback but they hide everything behind a paywall which I hate.
It was then I decided to start a blog. I figured I might have a good enough idea to write about 4 times per year. I had a couple of ideas and wrote up some articles and it has just snowballed. I never expected it to go as well as it has. I get emails all the time from blog readers and have developed friendships with a number of people. I never thought about the side benefit of people sharing ideas with me, but that’s how I come up with all my stocks. One blog reader in particular turned into a mentor and I have basically taken his approach as my own. Almost all my ideas come from my mentor. He introduced me to dark stocks and over time I have just gone more and more obscure. I feel no need to follow the crowd.
I am a full-time engineer with a wife and three kids. I now manage all of our retirement funds as well as our savings. It’s all in the little stocks I talk about on my blog and each year in April I post my annual results and current portfolio. This is my hobby and I do it all in my spare time. I’ve done much better with stocks than I imagined but still keep my day job to provide for my family. If I was single, I might be investing full-time. I’ve read maybe 30 books on investing from the classics like Graham and Greenblatt to different charting books. I love it.
In your previous podcasts, you’ve said you focus on stocks typically under $2/share, stocks near all-time lows, stocks with less than 20 million shares outstanding, stocks cheap on traditional metrics, and stocks that aren’t widely followed by other microcap investors. Can you speak a little about why you use these criteria and what types of companies typically fit your profile?
The stock market is a big competition so I go to the least and worst opponents. If you want to win a basketball game you should not challenge professionals and I’m applying that same logic here. I look where there is no coverage. I look at the small, the ugly, the forgotten. I go for smaller companies because funds and professionals manage too much money to compete with me. Anyone really good gets too big to be bothered with the tiny stocks.
It also fits my style and personality. Growing up I sat in the back of the classroom and kept to myself, learning best on my own. I don’t seek opinions or confirmation.
I’ve read some studies, such as Tweedy Browne’s What Has Worked in Investing, which show higher returns for smaller and less liquid stocks. The first couple chapters in Richard Evans book Finding Winners Among Depressed and Low-Priced Stocks show higher returns come from past losers than past winners, and from lower absolute priced stocks.
There’s a reason all the items on shelves in the grocery store checkout line are low priced. Think about the gum and candy and trinkets people grab right as they’re checking out. Humans will buy something that costs only a couple bucks without thinking twice because why not, it’s cheap. They don’t even spend much time thinking about whether that is a good value because whatever, it’s just a couple bucks. That logic carries over to the stock market and is a big reason I buy only stocks with a low absolute price. It is rare to see a hundred dollar stock double but you see five cent stocks double all the time. If a stock is over $5 it better have some strong characteristics or I’m not even looking at it.
Of course, I am in the stock market to make money so I want stocks that move. It’s all supply and demand so ideally the share count is low and the action illiquid because when that demand comes I want the price to be forced up high. I will see stocks jump 30%, 50%, 100%, and sometimes hundreds of percent in an instant when good news comes because the supply is low. Oftentimes it’s those spikes I sell into because momentum carries the stock far over its true value.
You can think about it in terms of market efficiency as well. Fewer shares, transactions, and participants results in a less efficient market than something like MSFT with its infinite liquidity and eyeballs. I am after lower efficiency because I try to buy what is too cheap and sell what is too expensive.
All that is to say I look for a low share count, low liquidity, low market cap, and low absolute share price. Ideally below a dollar with less than 10 or 20 million shares outstanding. I hold 50-60 stocks and they all have a market cap below $50m with most less than $10m.
You’ve had several stocks go up over 1,000% and one, HemaCare (OTC: HEMA), go up ~8,500%. What do your most successful investments have in common and can you please walk us through what went right with HemaCare?
Yes, I’ve had several stocks go up 5x, 10x, and more. The only way you get movement like that is some sort of change. A stock’s value is equal to the business value plus public perception so one of those two has to undergo a big shift.
Oftentimes I look at half-dead little companies struggling to keep the lights on. They go through existence with highs and lows as products and markets evolve. As old business dries up people will sell out, pushing the stock down to the bottom. The company tries what it can to stage a comeback. It might be new management, new focus, or new products. That is where I get excited because for a half-dead stock to work out all it has to do is not die. Of course, some do vanish and I’ve had many stocks that drop to nothing but one home run can make up for a lot of strikeouts.
I made about 10x on TCCO which is a tiny stock in the defense tech industry by selling into spikes that come from announcements. It’s a tiny, money-losing company with very few shares outstanding, and over the years when they’ve announced good quarters or orders the stock has shot up hundreds of percent and I will sell into those (note I don’t hold TCCO now). I made over 10x on SIMA and the only change there was me publicizing how cheap the dark company was.
I’ve owned BMRA for years and made about 7x in 24hrs selling into a spike during COVID caused by their announcement of selling COVID test kits. I made 10x on CLSI years ago (note I don’t own now) when the stock shot up over speculation surrounding a new owner. The company had been dark and didn’t communicate much for years then the shell was sold to a new owner and I sold into the hype.
The change can be any number of things. It can be an old sleepy company catching fire with a new product. Maybe new management comes in and revives the business. Sometimes it’s a dark or near-dark company whose founder finally sells the biz for several times the market cap. The TCCO, BMRA, and CLSI examples above were all changes in perception that didn’t really carry through to long-term business improvements but that’s fine with me since gains are gains.
HEMA was the perfect storm. It was a money-losing blood bank priced at ~$3. They sold off divisions to keep the lights on and brought on new management. The company de-registered from the SEC and stopped all communication while the stock dropped to ~$0.10. In the darkness, the company started a new division and turned over the board. No one knew the business was picking up steam unless they went to the annual meeting. I started buying at $0.30. The new business took off and the company started communicating at the same time. I wrote it up on my blog and a few others followed. The new business was a rocket and I rode it up to a takeout at $25.40 a few years later. It just had everything. An old company struggling to survive. Stock dropping to all-time lows. Desperation and new management followed by perfect execution, increased communication, and I’m sure a good bit of luck.
How do you go about position sizing, accumulating positions, and deciding when to sell? Have you experienced liquidity problems buying and selling your positions?
Much of my activity is governed by liquidity. There’s a stock I’m trying to buy now that will take years to get a good position. I usually have a number of stocks I would buy if given the opportunity so I’m just constantly watching the bid/ask to see what’s available. I will buy stocks over the course of months and years. Many of them I simply cannot buy as much as I’d like.
I hold about 50-60 stocks. Partially because I don’t go very in-depth on the business and also I don’t have confidence I can ever really know any stock or company that well. But the larger reason is opportunity. I just see stocks going up all the time everywhere and I don’t want to miss out. Every stock I purchase has the potential to be a 5x or 10x gain under the right circumstances. If they just get one good order or if the old management would sell out and retire. If the public gets hot for a certain theme or if the company would just communicate better. I see so much potential out there so I buy a little here and a little there.
I have held stocks for years and years. I’ve held IEHC for about 10 years now. I don’t sell often. I really try to buy what is undervalued and don’t sell until it’s overvalued. As the stock meanders I will follow and read, buying when it seems good and otherwise waiting. Many times my sales are into a huge spike like say 100% or 200% in a day. I’ll see the movement and check the news then sell if it’s gone too far.
I’m always looking for the home run which has positives and negatives. That’s how I held on to HEMA through the huge rise but I’ve also missed out on a lot of gains that went up and dropped back down. I’m an optimist, always thinking about what great potential could be realized. Sometimes that thinking comes back to bite me and I’ll miss a 3x or more gain as it drops back.
Generally to sell I need a big event because I hold way more than a day’s worth of volume. I made like 10x on FRTN years ago (I don’t hold now) and selling out of that took me about a month with almost daily activity.
Most of my investments are in my retirement funds so I can be slow. I am fine holding for years without a chance to sell. Really what I’m more concerned with is having a position when that movement comes.
I will buy up to a 5% position max, maybe near 10%. I have gone higher but that was when my portfolio was smaller. I have no hard rules and often I buy just a percent or two. It’s very dependent on how much stock is available and how much cash I have available at the time.
Governance can be notoriously bad among small companies. How do you evaluate the shareholder-friendliness of your portfolio companies? Have you ever engaged in friendly (or unfriendly) activism within your holdings?
I don’t do activism. The farthest I’ve gone is being contacted by other shareholders who asked if I would vote with them on board changes. I can do that and contact others since I have a good network of investors. But going through all the work myself is really not me. I don’t have the time and it doesn’t fit my personality. I much prefer to just buy and wait.
I talk to management sometimes, depending on what questions I have after reading some reports. I judge management mostly by the filings then adjust with position sizing. One reason I hold 50ish stocks is I don’t feel like I can ever really know any company good enough to concentrate. So if I think management is not to be trusted or enriching themselves I might just buy a little but keep the position small, if I think there is good potential for movement. I’ll look at things like how long management has been there, how much stock they hold, and their compensation. Do they give themselves stock, warrants, etc or maybe super voting shares? Sometimes you can tell by how promotional their press releases are. If they use all the latest buzzwords then it might just be a lot of fluff. I own GVP which has horrible management who pay themselves way too much, but the stock is cheap and I think it has a good chance to be a winner so I hold and have bought more as it fell.
You can make money on fluff and you can make money on shady management so sometimes it still makes sense to buy. Sometimes the public goes crazy and I’m always trying to think what the crowd might do. Years ago I made over 5x on DPW when it got taken over by Todd Ault due to the hype. Since then the stock has dropped into the toilet as the world realized what a scammy piece of junk AULT is but hey, 5x is 5x. They changed the name from DPW to AULT and are constantly diluting, merging, and doing weird insider transactions. I sold out and would not buy again but at the time it was a big change from the sleepy old DPW business; that change is what caught my eye.