One needs to ignore the near term prospects which are being overly discounted by the market, and focus on the long term
The trouble starts when one does not know what kind of an investor you are? A lot of people think they are long term value investors (as somehow that is fashionable these days), but act like day traders – selling and buying over weeks. If you do not get your time horizon and investment approach consistent with each other, then you are in trouble as your will quickly tire of holding the stock and sell just before the inflection
3 kinds of edge in stock market investing:
1- The information edge is now more or less gone with tools for quantitative analysis and wide dissemination of information by management (look at the number of conference calls hosted by companies!). One has to rely on analytical and behavioral edge to make above average returns.
2- I personally think that analytical edge too is over rated as it is not possible to consistently have a superior insight with all your positions. Assuming that you are smarter than the rest of the market at all times, is pure hubris.
3- The only sustainable edge left for an investor is the behavioral one and being patient in an age of distraction and immediate gratification is at the core of this edge. Being patient is therefore not a moral imperative or something you need to do for the good of humanity, but is a logical necessity to do well in the market in the long run as a value investor.
The final edge – behavioral is the most sustainable and at the same the toughest one to maintain. This involves being rational about our decisions and maintaining a long term orientation. If you look at the annual turnover of mutual funds and other investors, most of them are short term oriented with a time horizon of less than one year. In such a world of short term incentives, an ability to be patient and have a long term view can be a source of advantage.
If one can identify good quality companies at a reasonable price, then the returns over the long term will track the performance of the business (more on it later in the note). The value approach works over time, even if it does not work all the time
The outperformance goal ties very closely with my portfolio approach and construction. We typically have around 15-18 stocks in the portfolio, bought at 60-70% discount to intrinsic value on average. Most of the companies we hold have an ROE of around 20-25% and are growing around 18-20% annually. These numbers may vary, but on average they will cluster around the above figures over time.
G&D: How do you think about valuation, whether it‘s a real estate or a non-real estate asset, and could you perhaps give us an example of your approach?
SZ: I start by not paying much attention to the market. I think the Street reflects the value of the last share traded, but the true value of the asset may be more or less than what‘s indicated publicly. In the same manner, I don‘t make investments predicated on the assumption that there‘s a greater fool out there who‘s going to buy it from me for more than I paid for it. I look for situations that logically make sense to me... Now, you tell me I‘m a genius but the truth of the matter is that the information I‘ve laid out was available to everybody. All anyone had to do put the pieces together. For some reason, that‘s what I do well. I see things differently.
So that‘s the way I look at things. It isn‘t like there are six rules of investing or something like that – certainly there haven‘t been in my life. One of my criticisms of business schools is that the definition of an MBA graduate is someone who knows how to do the numbers; they just don‘t know what the numbers mean. This is the product of business schools emphasis on formulas. In other words, business schools teach how the pieces should be put together. But for me, there is no formula.
And yet, like many others in my career, most people thought I was crazy. I‘ve spent my whole life listening to people explain to me that I just don‘t understand, but it didn‘t change my view.Many times, however, having a totally independent view of conventional wisdom is a very lonely game
G&D: Are there any other key tenets of your investment process?
SZ: I philosophically believe that if you can‘t delineate your idea in one or two sentences, it‘s not worth doing...Simplicity is critical. Additionally, one of the greatest risks of any investment is execution risk, and I think it is highly overlooked. I have great respect for execution risk and am always sensitive to people coming up with ideas that don‘t have all of the t‘s crossed and i‘s dotted with respect to how the plan is actually going to be executed.
G&D: What is it about your personality or process that has allowed you to be so successful?
Number one, I always seemed to have a lot of selfconfidence so I didn‘t pay attention to conventional wisdom.
Number two – you may have heard the quote, – common sense isn‘t so common – I‘ve always been a great believer in logic. I have a lot of common sense and I see things differently. Many people see problems, but entrepreneurs see solutions, and that‘s really what I do. I recognize differences that other people don‘t seem to see.
Third, and most importantly, what I have been able to do is to assess risk and reward accurately throughout my career. The definition of a great investor is someone who starts by understanding the downside. You must make the judgment in advance as to how much downside risk you are willing to take. I knew that I could always survive the good days, but the critical element is to be able to survive when the market isn‘t doing well or the investment isn‘t performing. I always focus on how much exposure I am taking. Investors stumble when they take risk and don‘t receive commensurate reward. Investors stumble when they get bull-headed or when they shift to doing something that is outside of their core competencies. My success has been related to being a very good observer, having opinions and being willing to implement them, and understanding and believing in the Bernard Baruch saying nobody ever went broke taking a profit.
Lastly, in the simplest philosophical phrase, I‘ve always believed in going for greatness. I‘m highly motivated and I‘ve always been highly motivated, not necessarily because it translates into dollars, but because there‘s a great satisfaction in achievement. I think, more than anything else, that is what has always driven me and been a major contributor to my success.
Warren Buffett once noted that the moral of a story, as told in his 2005 Annual Report, is: “For investors as a whole, returns decrease as motion increases.”
John Bogle (the founder of Vanguard) explains it this way in his book, The Little Book of Common Sense Investing:“The way to wealth for those in the business is to persuade their clients, “Don’t just stand there. Do something”. But the way to wealth for their clients in the aggregate is to follow the opposite maxim: “Don’t do something. Just stand there.” For that is the only way to avoid playing the loser’s game of trying to beat the market.”
Charlie Munger stated:“The general systems of money management [today] require people to pretend to do something they can’t do and like something they don’t. That is a funny business because on a net basis, the whole investment management business together gives no value added to all buyers combined. That’s the way it has to work. Mutual funds charge two percent per year and then brokers switch people between funds, costing another 3-4 percentage points. The poor guy in the general public is getting a terrible product from the professionals. I think it’s disgusting. It’s much better to be part of a system that delivers value to the people who buy the product.”
I am an architect by degree so when I recall the famous quote by Ludwig Mies van der Rohe, “Less is More”, I suggest everyone apply it to investing as well.
I made some money and I lost some money but the most important lesson was what I learned about myself (trading is often a reflection of yourself, your emotions, your beliefs, etc.). I also finally learned that the market is rigged, rigged against the common guy with fees, commissions, taxes, marketing schemes, front running, etc. You name it and it’s being done. Can “dumb money” (retail investors) beat Wall Street’s “smart money”, the professionals?
I love the market. I love researching stocks, viewing charts, writing on this blog and throwing my thoughts onto social media but even I have noticed that I do less and less of it each year. Why, because of index funds. It’s easy, it’s quick and it wins. Mathematically, it can’t be debated. The “sales guys” and “marketers” on Wall Street will debate you and continue to sell you but don’t buy into their false pitch.
A few trades in my investing life have taught me to truly follow the idea that:“The real money in investment will be made not out of buying and selling but of owning and holding securities.” – Benjamin Graham
I have lost more money, not by buying incorrectly but by selling (far too early). If I would have held some of my early trades in $GOOG, $AAPL and others, I would be a far richer individual today. But I needed the action and wanted to scalp the quick profit – well, the quick action cost me big time over the long run. In every instance, I would have been better off today, if I held through to TODAY.
A few years ago Nassim Taleb offered useful insight that was broad based including that (paraphrasing) everything we need to know about finance we learned from our grandmothers; don’t get into debt, save your money and don’t lend money to other people.
Housel begins by noting that with the tens of thousands of finance books and billions words in those books, it all boils down to “work a lot, spend a little, invest the difference.”