I want to write about two quick ideas. I will keep them brief because I hear something slightly more interesting came out this past Saturday morning. You can read that here. (Buffett Annual Letter)
First, leadership matters. It’s difficult to quantify this idea, but it is sort of like the old saying regarding a slightly more graphic subject matter, but applies equally well here: “I shall not today attempt further to define the kinds of material I understand to be embraced within that shorthand description; and perhaps I could never succeed in intelligibly doing so. But I know it when I see it.” Managing to mediocrity is my short-hand for rot among c-suite executives whose main mission is to preserve their jobs. They are more explicitly “merely managers”, not owner-operators. I won’t further define this, so as not to trip over the famous quote, but one of the best examples of managing to mediocrity have been in GE (American Express and Wells Fargo come in a close second and third [there is a great article about the breakdown of the Costco-Amex deal, but I can’t seem to find it right now]).
If you contrast this article with this one about Facebook, you can clearly see how the “theater” of business is on full display at GE, whereas Zuckerberg is clearly more focused on the actual underpinnings and success of the business. Like I said above, it is almost impossible to quantify this sort of difference, but it is clearly present and significant to investors in the public markets.
Looking at the “cover-ups” and hide the ball attitude in GE vs. the issues with Facebook are astounding. Facebook wants to know the problem, get the problem out in the open and figure out a way to solve it. What’s the better company here, one who is consistently feeding their owners (even their own Board of Directors) a bunch of manure and putting up “consistent” results in a slow and unchanging business, or a group of owner-operators who are willing to confront the challenges in a open environment and speak frankly about solving those issues. Recognizing that our world is changing faster than it did in the past, I think investors need to be even more focused on operators who are in the second category than relying on the industry itself as a “not-changing” industry to save their investments.
Buffett may also be coming around to this view, “Betting on people can sometimes be more certain than betting on physical assets.” Buffett, 2018
Second, John and I attended the Munger Woodstock meeting in LA on Valentine’s Day. John and I love spending that day together each year. It’s always nice to see familiar faces and listen to Munger rant (his bitcoin discussion is still the best).
There were two related ideas that I would like to push back on.
“In business, where there’s mystery, there’s margin.” ~ Peter Kaufman @ DJCO annual meeting
“An uncrowded investment space [provides an investor a significant advantage].” Peter Kaufman
There is a idea in the value investing community that you need to go look under a lot of rocks to find those hidden investment ideas. This inevitably leads to all sorts of hidden, off the beaten path ideas.
I am reminded of a joke my kids tell me often.
A little boy tells his mom he is going swimming, but comes back with a broken leg. The next day, he tells her he is going swimming again, but comes back with a broken arm. (In the kid version, the number of broken bones is related to the attention span of the child). The final day, the kid says he is going swimming again and exclaims, “Today, they put water in the pool.”
Investors in “off the beaten path” stocks think that have come across a swimming pool and jump in head first without first examining the safety of the underlying business.
A business analyst starts with the question, Is this a good business?
A security analyst starting with the question, Is this an uncrowded space?
It is far more important to be a good business analyst than a security analyst.
The dirty little secret in investment management world is you are going to have a much harder time raising assets if you are pitching Apple or Google instead of your insightful analysis of the unknown Mongolian mining company (and yes, on the popular message board, Value Investor’s Club, a Mongolian mining company is among the most discussed investment ideas of the past two years).
This reminds me of that great scene from Indiana Jones where the swordsmen takes out his sword and does some amazing tricks, but Indiana just takes out a gun and shoots him. I don’t really care if you have unique insights into an uncovered, but poor business, let’s just shoot that idea down right away.
Ironically, I can give you two of the best investment ideas of recent times.
First, in May 2016, the day after Berkshire disclosed their position in Apple, the stock closed at slightly under $94. At the time, Apple was the largest company in the world by market cap and now connected to the world’s best known investor (even if it was probably Todd or Ted who bought the initial stake in 2016). How’s that for an off the beaten path idea? Apple’s stock since the day after this Berkshire disclosure has beaten the S&P by over 20% points cumulatively over the past two years.
Second, also in 2016, on the same popular message board Value Investor’s Club (“VIC”), the idea for Berkshire Hathaway was posted. The response to this idea was, “Proposal to ban VIC postings on Berkshire Hathaway.”
This was the first comment.
Obviously Berkshire is not an under the rock or off the beaten path idea, but this idea has also outperformed this S&P 500 since it was posted to VIC. It’s a myth that the best ideas are somehow under rocks or in haystacks. In fact, most haystacks don’t contain hidden needles.
Matt Brice is the portfolio manager at The Sova Group and can be reached at email@example.com. Disclosure: Matt Brice and The Sova Group clients own shares of Apple and Facebook.