The idea behind this blog is to catalog my investing ideas and thoughts. Over the years I’ve come to realize that the only way to crystallize your thoughts is to put them down in writing. I’ve done much reading but have not put in nearly enough practice due to a combination of my own lethargy and personal circumstances over the past few years. Better late than never!!
The Philosophy : I adhere to a (mostly) strict value investing philosophy. For the uninitiated, value investing is the idea that each security has an intrinsic value that can be estimated. In addition, as Ben Graham, the father of value investing so succinctly put it, in the short term the stock market is a voting machine but in the long term it becomes a weighing machine.In essence, the true intrinsic value of a security is eventually reflected. In addition, I also have a strong belief in the power of compounding over long periods of time and our natural inability to grasp this idea. The philosophy is obviously influenced by Buffett, Munger, Graham and younger investors like Mohnish Pabrai and Allan Mecham.
The process : For every potential stock purchase I will initially perform bottom up analysis to estimate intrinsic value per share. This will then be compared to the current stock price. If the discount to the current stock is meaningful, we have a potential purchase opportunity and margin of safety. This margin of safety ensures 2 things, above average returns if the difference between stock price and intrinsic value is narrowed. Alternatively, if I have made an error in calculating intrinsic value the margin of safety potentially prevents a permanent loss of value.
The Return : The goal is to beat the average stock indices by 5 to 10% per annum. This objective is quite presumptuous if you consider that fewer than 5% of professional money managers beat their benchmark/index. I’m I any smarter? No, but I believe following a value investing framework, taking high conviction bets, and investing in smaller, less liquid situations that are not on the radar of large funds can help achieve this. The average return of the S&P 500 has been approximately 10% from 1928 to 2014. Amazing considering the world experienced 2 major wars, several economic cycles and much else. I believe the next few decade at least will have lower returns for several reasons (governments are highly indebted, stock markets have mostly recovered from the financial crisis so fewer bargains exists, global economic growth might be partly artificial from increased money supply and low interest rates). So my estimate for annual return of stock indexes going forward is 5%, thus our return objective is 10-15% per year.
Risk: To avoid permanent loss of capital. Volatility (movement of stock prices day to day) is not risk. Permanent capital loss is real risk and can happen in two main ways:
1. The actual business behind the stock is damaged permanently. For example, In June 2007 the Apple iPhone was introduced, at that time Blackberry was a dominant mobile phone company and the company had a market value of $90B, Fast forward the 2017 and Blackberry is a marginal player, iPhone dominates, and Blackberry stock has a $5B market value, which translates to a 95% permanent loss of value.
2. The stock was purchased at a price too high relative to the company’s value. For example, in the year 2000 during the heyday of the Tech Bubble, Microsoft net income was about $9B and the company had a market value of about $550B, so it traded at a multiple of 61 times earnings (=550/9). Fast forward to 2017 and Microsoft earned about $21B in the past 12 months (increase of 130% from 2000) but its market value is still roughly the same $550B and a holder of stock has not made money. This is not a typical permanent loss of value since no actual money was lost but when you think in terms of the opportunities missed the error becomes clear. Over the same period Warren Buffett’s Berkshire Hathaway increased in value by 358% and TD Bank increased by 267%. In 2000 you were paying too much for the future earnings of Microsoft, however rosy the future turned out to be.
In conclusion, I hope I can bring some value add to my investing process and the value investing community. Feedback welcome.