Introduction
In
my 2008 book MONEYWISE, I suggested that one’s investment results are more a
function of how one spends his or her time on investing and giving than the size of
the original capital or the initials after one’s name. This week I had reasons
to think about what George Soros, Jesse Livermore, Irving Kahn, Warren Buffett,
and two bank CEOs have said. Each of
these gentlemen had worthwhile messages for investors, perhaps particularly at
this time when so many people are indecisive as to their investment posture.
George Soros
and Jesse Livermore on market direction
[While
I have met Mr. Soros and supplied his firm fund information in the past, I do
not really know him but respect his skills. Jesse Livermore may well have
traded a margin account through my Grandfather’s brokerage firm, I did not know
him.] The source of the thoughts that I share with you is from a reader who
publishes his own personal weekly blog, Teddy Lamade of Brown Advisory. Teddy
quotes George Soros as saying, “Markets are constantly in a state of
uncertainty and flux. As a result, money is made by discounting the obvious and
betting on the unexpected.” This is in effect the motto of those of us who have
been called contrarians. On the other hand, Jesse Livermore said, “The public
wants to be led, to be instructed, to be told what to do.” He indicated that
people will become a mob as they want the comfort of others going in the same
direction.
I
am not being diplomatic, but analytical when I state that both of these
managers are correct. One should recognize that George Soros above all else
wished to survive and go on to future paydays. Jesse Livermore was much more
interested in the size of his winnings during the game.
My
current investment outlook is that for awhile the trading instincts of
Livermore will lead us to higher levels of stock prices as the crowd of
investors on the sidelines or in broad market index funds and ETFs will become
a mob chasing various pundits and politicians in the obvious trends that Mr.
Soros feared. This in turn will lead to financial and psychological collapse.
This is the psychological underpinning to my +20%/-20% call which could happen
sometime soon either this year or next.
The hard
search for value
The
dichotomy between Soros and Livermore is why finding great investment value is
so difficult and is the basis of the lesson that Charlie Munger taught Warren
Buffett after Buffett’s training by Benjamin Graham. Livermore was a believer
in price momentum as all who participate in the ultimate bullish phase of a
market surge. Ben Graham’s point of departure in seeking value was price. When
he started his writing as a guide to students at Columbia University, he was
ably assisted by Professor David Dodd, who for many years had the difficult
task of teaching myself and others Securities Analysis. In addition, Graham had
a teaching assistant named Irving Kahn who just passed away at 109 years young.
(More on my friend Irving will be found below.)
Dodd
had much more of an accounting background than Graham. This is why he
instructed us to reconstruct financial statements before we applied any ratio
analysis. For example, writing in the Depression Era of the 1930s he wrote down
or completely off any inventory, particularly work in process and raw
materials. He wanted us to include unfunded pension amounts before determining
book value. We then had to do similar exercises on competing firms. Often he
had us look at corporate financials from the standpoint of the bond holder. In some
cases with proper analysis the stated equity value should have been greatly
reduced. With bonds selling at steep discounts from their par value, if one
could get enough bonds one could force the corporation into bankruptcy with the
bond holders representing the new equity. That practice as is being done today
is called “loan to own.” In some ways Graham, Dodd, and Kahn in their Graham
Newman fund became the equivalent of today’s activist investors, but often
using bonds as their entry point. Max Heine, who later founded the Mutual
Shares Fund that eventually Mike Price sold to Franklin Resources, played a
similar game. Others had followed similar practices on railroads so much of the
rolling stock of America fell into financial hands. Thus, many so-called value
investors were essentially adjusted book value investors looking for the
ultimate liquidation or sale of their companies. As we came out of the
Depression and World War II periods, general prosperity lifted stock prices so
it was more difficult to find statistically cheap investments. In recent years
it became even more difficult. In the past it might takes months that stretched
into quarters of the year to find suitable candidates. Today with almost all
the financials available on easy to manipulate data banks and a large number of
activists who want to play, the number of statistically cheap investments has
shrunk.
As
with almost all trends that eventually are played out, newer versions appear.
Irving Kahn, Ben Graham’s teaching assistant and founder of Kahn Brothers, was
a successful broker/investment adviser who became the prototype of the new
Value investor. Irving went beyond the numbers into what was the company’s
particular advantage. Often he found some gems through his life-long interest
in science and often found some pioneering work at reasonable stock prices.
Irving believed in the global professional securities analysis business. While
he was an important founder of the New York Society of Securities Analysts, he
was also a member of the London Society and
had some successful investments in Japan when few others did. Until recently he
traveled extensively and we met his late wife with him on one of his many
analysts’ trips.
Irving
got started in the investment business in 1928 and was conscious of my Grandfather’s
firm on which he was complimentary. As a future- oriented investor he was aware
of periodic market declines which is why he combined what many might have said
was aggressive stock picks with half his portfolio in or near cash. Basically
what he did was to redefine value to include the corporate advantage that some
today call moats on top of his statistical analysis. He and his sons would
require managements to keep shareholders first in their deliberations. In many
ways he was among the first modern investors.
The lessons
that Warren Buffett learned
Like
many followers of Berkshire Hathaway, Saturday morning was devoted to reading
this year’s letter from Warren Buffett and Charlie Munger. While I could devote
a lot of time and space as to what was said and why most investors in the stock
will be happy with it, I would like to finish this post with comments about
value investing.
In
Buffett’s early years he followed Ben Graham’s model of investing in “mediocre
companies at bargain prices” which produced gains but with some losses. That
changed with the advent of Charlie Munger on the scene who converted Warren to
buying great companies at fair prices. This has worked much better than the
value-oriented investments in the past. The other general comment that is
worthwhile to all investors is the need to be prepared for periodic 50% drops. (I will be happy to discuss my other
comments on the Berkshire letter. At some point I may devote a lot of space to
it or hold it to report with my impressions of the Berkshire annual meeting
weekend.)
What to do?
As
Shakespeare would say “to your own self be true,” follow your instinct. If you
are a growth investor enjoy the crowd’s surge and ride out periodic dips of
50%. If you are a value investor you will need to practice patience and look
for value beyond what is just plain cheap.
The
beauty of the L Time Span PortfoliosTM is that either or both growth
and value oriented managers can be utilized. In most of our managed accounts we
use both in different proportions based on the individual accounts needs.
Question of the Week:
Where are you on the Growth-Value spectrum?
__________
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