Sunday, May 27, 2007

How to become a billionaire investor

Charlie Munger has had a tremendous influence on Buffett's investment decisions.Many credit Munger as helping Buffett move away from the "cigar butt" style of investing to one where there is a constant emphasis on buying quality businesses.Here is a old Munger lecture from Harvard Law Bulletin where he shares his insights into investing.Sometimes the best investment advice comes from value investors such as Charlie Munger rather than overpaid financial planners.

In the Money

Alumni financiers take stock of the market and careers spent trying to beat it

Charlie Munger gave up law to pursue his fortunes as an investor. Jim Cramer never even tried to be a lawyer, and went straight to Wall Street. Jim Donovan and Todd Buchholz saw law school as an imperative step on the road to a successful business career. Sean Healey, who once dreamed of teaching law, discovered his place was in the investment world instead.

But these five HLS alumni would never say they abandoned their legal training. They just redirected it toward the place they each found more alluring: the world of high finance.

Today, they have nearly 100 years of combined experience in investing and business, and have been responsible for billions of dollars in assets. Each is wealthy in his own right and has, directly or indirectly, helped others to become quite comfortable too. And while each is at a different place in his career--one is more than half a century out of HLS, another not even ten years--all share an appetite for taking big risks for big gains. Yet, they also possess the coolheaded confidence that is essential when millions are at stake on a regular basis and market fluctuations send shivers down Wall Street.

Investment Values

The cultish devotion of Berkshire Hathaway shareholders is legendary in the financial world. After all, more than a few people have become independently wealthy as a result of the investing genius of CEO Warren Buffett.

But while Buffett's name alone has long been synonymous with Berkshire Hathaway, there is one person in the company even he looks up to: his partner and old friend from Omaha, Charlie Munger '48.

"I call myself the assistant cult leader," joked Munger.

The pair has had a prosperous partnership--spanning four decades--and they've done more together than just build a holding company worth billions. They have been stalwarts of ethical business practices, have rooted out fraud, and have even championed abortion rights and the establishment of Planned Parenthood.

Primarily involved in property and casualty insurance, Berkshire Hathaway has smaller holdings in publishing, candy, footwear, and furniture. By the end of 2000, its revenues had ncreased to $34 billion, its profits to almost $3 billion. Shares in Berkshire, just $12 each in 1965, hit $71,000 by year's end.

Munger, who is Berkshire's vice chairman, now finds himself a very wealthy man. A voracious reader and devotee of great thinkers like Ben Franklin and Samuel Johnson, he credits their wisdom for his success. "They were both utterly brilliant men. And powerful communicators. Both have helped me all the way through life. Their lessons are easy to assimilate."

Berkshire has its own interesting lessons for the world, he says, and they come from the company's high standard of ethics and its bottom-line achievements.

"I'm proud to be associated with the value system at Berkshire Hathaway," Munger said. "I think you'll make more money in the end with good ethics than bad. Even though there are some people who do very well, like Marc Rich--who plainly has never had any decent ethics, or seldom anyway. But in the end, Warren Buffett has done better than Marc Rich--in money--not just in reputation."

Even so, Munger does not pretend that what he and Buffett have accomplished is just a matter of being good guys. It also takes sharp wits, strategy, and a lot of discipline. Still, Munger contends that more people could do well in investing than actually do, if they'd employ some of the basic "mental methods" he and Buffett have used.

"The number one idea," he said, "is to view a stock as an ownership of the business [and] to judge the staying quality of the business in terms of its competitive advantage. Look for more value in terms of discounted future cash flow than you're paying for. Move only when you have an advantage. It's very basic. You have to understand the odds and have the discipline to bet only when the odds are in your favor."

And Berkshire, he says, is not in the business of making money by calling macroeconomic swings. "We just keep our heads down and handle the headwinds and tailwinds as best we can, and take the result after a period of years."

At 77, Munger is busier than ever. Aside from his work with Buffett, he is chairman of the L.A.-based legal publisher the Daily Journal Corporation and CEO of Wesco Financial Co., a subsidiary of Berkshire Hathaway. He has a large family and spends a great deal of time with his wife, children, and grandchildren. He's also a long-standing philanthropist who has bolstered education and health care causes in Los Angeles, where he has lived for five decades.

Munger quit practicing law in 1965 after 17 years, because "sometimes you're on the wrong side. Often you're dealing with unreasonable people where you can't fix things fast. It's inefficient. I like the discipline of backing my own judgments with my own money. It suits my temperament better. Of course, I also realized that the upper potentialities were better outside of law."

Now a billionaire, Munger seems somewhat surprised by just how successful he has been in his life. When he graduated from HLS, Munger said, "Practically nobody expected to be rich, or had any examples that would lead him to expect to be rich. That has totally changed. We've had the most massive creation of wealth for people a lot younger than those who formerly got wealth in the history of the world. The world is full of young people who really want to get rich, and in those days nobody thought it was a reasonable possibility."


Wednesday, May 23, 2007

Fisher's criteria for selecting potential 100 baggers

Fisher advocated a scuttlebutt approach to investigating companies.That meant speaking to suppliers, competitors, and consumers while filtering out the good companies from the poor ones through a 15 point checklist.One of Fisher's best stock picks was Motorola which later became a 100 bagger.The key is to use this checklist every time you look at a company.

  1. Does the company have products or services with sufficient market potential to make possible a sizable increase in sales for at least several years?
  2. Does the management have a determination to continue to develop products or processes that will further increase total sales potentials when the growth potentials of currently attractive product lines have largely been exploited?
  3. How effective are the company's research and development efforts in relation to its size?
  4. Does the company have an above-average sales organization?
  5. Does the company have a worthwhile profit margin?
  6. What is the company doing to maintain or improve profit margins?
  7. Does the company have outstanding labor and personnel relations?
  8. Does the company have outstanding executive relations?
  9. Does the company have depth to its management?
  10. How good are the company's cost analysis and accounting controls?
  11. Are there other aspects of the business, somewhat peculiar to the industry involved, which will give the investor important clues as to how outstanding the company may be in relation to its competition?
  12. Does the company have a short-range or long-range outlook in regard to profits?
  13. In the foreseeable future will the growth of the company require sufficient equity financing so that the larger number of shares then outstanding will largely cancel the existing stockholder's benefit from this anticipated growth?
  14. Does the management talk freely to investors about its affairs when things are going well but "clam up" when troubles and disappointments occur?
  15. Does the company have a management of unquestionable integrity?

Philip Fisher's speech to Stanford Business School

One of the greatest investing minds shared insights with students of Stanford Business School in one of his last public speeches.Buffett credited Philip Fisher with inspiring him to look at good businesses and consider intangibles such as branding,competitive position and etc.The speech is a rough summary taken from an old Motley fool discussion board post(2001).

The setting is a lecture at Stanford Business School. Phil Fisher lectured the class of his former (1961) student, Prof. Jack McDonald.

Prof. McDonald: (introduction)

- Mentions in passing to that Warren Buffett had some very nice things to say about Philip Fisher at Berkshire's last annual meeting.

- McDonald: Phil Fisher said that we ought to analyze the suppliers and competitors and customers. Modern business strategy owes a debt to Phil Fisher and we ought to acknowledge our intellectual heritage.

- Phil Fisher was a pioneer in high-tech growth investing. In 1961 McDonald's class studied Texas Instruments because Mr. Fisher was interested in semiconductors ... and Phil Fisher was one of those people who said, "Why don't we look and see if the semiconductor can be embodied in a great company like TI?"

- Thanks to Phil Fisher, Prof. McDonald enjoyed a 100-bagger. (Motorola)

- Briefly mentions Dell Computer and a member of the class who six years ago invested $10,000 -- now worth over $1 million.

- Once you get diversified with 7 to 10 stocks in a portfolio, most of the benefits of risk reduction have taken place.

- McDonald wants his students to understand that the standard in Mr. Fisher's mind of understanding a company has always been so high compared to what most of us think about ...

Phil Fisher:

- Advice: (1) Buy a house, (2) save and (3) invest for the long term.

- P/E's don't tell you what's good, just what's cheap.

- What's good? Most important is outstanding management.

- If you can recognize what to look for, you're on your way.

- A typical company gets comfortable, doesn't like change, but has competitors down the street who are thinking of something new that's going to obsolete the status quo. Your company has got to be the one running ahead of that change.

- One way to recognize proper management is to look for their response to that change. The importance of that difference may be translatable into huge market share or even survival.

- Job #1: Identify the key problem today.

- Fisher identified one major problem facing companies today: Young couples with young children. Often both parents work. Companies that successfully address this issue have an enormous competitive edge over companies that haven't.

- "It amazes me that so little attention is paid to something that produces big results. Almost nobody gets to the heart of where the problem lies. Anybody can win the loyalty of their employees by giving away the store. But that company isn't going to prosper."

- Response to attendee: "In my own management, having even as many as eight stocks is the beginning of a real danger signal."

- Fisher: "I believe strongly in diversification. But I do not believe in over-diversifying."

- Fisher: "I'm very nervous about this market ... there are too many damn fools and complete ignoramuses who have never had any finanacial experience before that own too big a portion of stocks today ..."

- When to sell? If the company deteriorates. "However, my record of holding stocks a very long time is well known. But I've still made more mistakes by selling some of these good stocks too soon than I have in any other factor of handling my investments."

- International investing? Don't think so.

- Must build up personal contacts before investing in a business, therefore traveling is a necessary evil. Neglect it at your own risk.

- If you haven't met management, you haven't done your job.

- Fisher always wants every source of contact he can get.

- Quantitative factors are overrated. Quality's what counts.

- We have a huge volume of financial data, but the quality hasn't improved much.

- Two things to look for: candor and personal commitment.

Value investing seminar in London

This video clip is 3 hours long and is conducted by Professor Bruce Greenwald from columbia University on behalf of Gabelli Asset Management. Fantastic Seminar! Enjoy!

Better and better,

Tuesday, May 22, 2007

Do what you love!

Dear readers, i recently came across this article which is awfully inspiring. Although it is not exclusively about value investing, it talks about the pleasure of doing what you love in life. Not many people find out what their true passion is. Not many people even have a clue as to what to do in life. Me and Manpreet have been extremely fortunate to be able to find our passion for life(Investing) and we hope that in the very same spirit, you'd find yours too. For if a man does find his passion, he will never work another day in his life. I dedicate this article to people who are striving to be better everyday and to people who are struggling to realise their dreams and also to a very special friend of mine that they may soon realise the value of doing what they love. Strive on people and you will eventually attain your goals. Enjoy reading!

Stanford Report, June 14, 2005
This is the text of the Commencement address by Steve Jobs, CEO of Apple Computer and of Pixar Animation Studios, delivered on June 12, 2005.

I am honored to be with you today at your commencement from one of the finest universities in the world. I never graduated from college. Truth be told, this is the closest I've ever gotten to a college graduation. Today I want to tell you three stories from my life. That's it. No big deal. Just three stories.
The first story is about connecting the dots.
I dropped out of Reed College after the first 6 months, but then stayed around as a drop-in for another 18 months or so before I really quit. So why did I drop out?
It started before I was born. My biological mother was a young, unwed college graduate student, and she decided to put me up for adoption. She felt very strongly that I should be adopted by college graduates, so everything was all set for me to be adopted at birth by a lawyer and his wife. Except that when I popped out they decided at the last minute that they really wanted a girl. So my parents, who were on a waiting list, got a call in the middle of the night asking: "We have an unexpected baby boy; do you want him?" They said: "Of course." My biological mother later found out that my mother had never graduated from college and that my father had never graduated from high school. She refused to sign the final adoption papers. She only relented a few months later when my parents promised that I would someday go to college.
And 17 years later I did go to college. But I naively chose a college that was almost as expensive as Stanford, and all of my working-class parents' savings were being spent on my college tuition. After six months, I couldn't see the value in it. I had no idea what I wanted to do with my life and no idea how college was going to help me figure it out. And here I was spending all of the money my parents had saved their entire life. So I decided to drop out and trust that it would all work out OK. It was pretty scary at the time, but looking back it was one of the best decisions I ever made. The minute I dropped out I could stop taking the required classes that didn't interest me, and begin dropping in on the ones that looked interesting.
It wasn't all romantic. I didn't have a dorm room, so I slept on the floor in friends' rooms, I returned coke bottles for the 5¢ deposits to buy food with, and I would walk the 7 miles across town every Sunday night to get one good meal a week at the Hare Krishna temple. I loved it. And much of what I stumbled into by following my curiosity and intuition turned out to be priceless later on. Let me give you one example:
Reed College at that time offered perhaps the best calligraphy instruction in the country. Throughout the campus every poster, every label on every drawer, was beautifully hand calligraphed. Because I had dropped out and didn't have to take the normal classes, I decided to take a calligraphy class to learn how to do this. I learned about serif and san serif typefaces, about varying the amount of space between different letter combinations, about what makes great typography great. It was beautiful, historical, artistically subtle in a way that science can't capture, and I found it fascinating.
None of this had even a hope of any practical application in my life. But ten years later, when we were designing the first Macintosh computer, it all came back to me. And we designed it all into the Mac. It was the first computer with beautiful typography. If I had never dropped in on that single course in college, the Mac would have never had multiple typefaces or proportionally spaced fonts. And since Windows just copied the Mac, its likely that no personal computer would have them. If I had never dropped out, I would have never dropped in on this calligraphy class, and personal computers might not have the wonderful typography that they do. Of course it was impossible to connect the dots looking forward when I was in college. But it was very, very clear looking backwards ten years later.
Again, you can't connect the dots looking forward; you can only connect them looking backwards. So you have to trust that the dots will somehow connect in your future. You have to trust in something — your gut, destiny, life, karma, whatever. This approach has never let me down, and it has made all the difference in my life.
My second story is about love and loss.
I was lucky — I found what I loved to do early in life. Woz and I started Apple in my parents garage when I was 20. We worked hard, and in 10 years Apple had grown from just the two of us in a garage into a $2 billion company with over 4000 employees. We had just released our finest creation — the Macintosh — a year earlier, and I had just turned 30. And then I got fired. How can you get fired from a company you started? Well, as Apple grew we hired someone who I thought was very talented to run the company with me, and for the first year or so things went well. But then our visions of the future began to diverge and eventually we had a falling out. When we did, our Board of Directors sided with him. So at 30 I was out. And very publicly out. What had been the focus of my entire adult life was gone, and it was devastating.
I really didn't know what to do for a few months. I felt that I had let the previous generation of entrepreneurs down - that I had dropped the baton as it was being passed to me. I met with David Packard and Bob Noyce and tried to apologize for screwing up so badly. I was a very public failure, and I even thought about running away from the valley. But something slowly began to dawn on me — I still loved what I did. The turn of events at Apple had not changed that one bit. I had been rejected, but I was still in love. And so I decided to start over.
I didn't see it then, but it turned out that getting fired from Apple was the best thing that could have ever happened to me. The heaviness of being successful was replaced by the lightness of being a beginner again, less sure about everything. It freed me to enter one of the most creative periods of my life.
During the next five years, I started a company named NeXT, another company named Pixar, and fell in love with an amazing woman who would become my wife. Pixar went on to create the worlds first computer animated feature film, Toy Story, and is now the most successful animation studio in the world. In a remarkable turn of events, Apple bought NeXT, I returned to Apple, and the technology we developed at NeXT is at the heart of Apple's current renaissance. And Laurene and I have a wonderful family together.
I'm pretty sure none of this would have happened if I hadn't been fired from Apple. It was awful tasting medicine, but I guess the patient needed it. Sometimes life hits you in the head with a brick. Don't lose faith. I'm convinced that the only thing that kept me going was that I loved what I did. You've got to find what you love. And that is as true for your work as it is for your lovers. Your work is going to fill a large part of your life, and the only way to be truly satisfied is to do what you believe is great work. And the only way to do great work is to love what you do. If you haven't found it yet, keep looking. Don't settle. As with all matters of the heart, you'll know when you find it. And, like any great relationship, it just gets better and better as the years roll on. So keep looking until you find it. Don't settle.
My third story is about death.
When I was 17, I read a quote that went something like: "If you live each day as if it was your last, someday you'll most certainly be right." It made an impression on me, and since then, for the past 33 years, I have looked in the mirror every morning and asked myself: "If today were the last day of my life, would I want to do what I am about to do today?" And whenever the answer has been "No" for too many days in a row, I know I need to change something.
Remembering that I'll be dead soon is the most important tool I've ever encountered to help me make the big choices in life. Because almost everything — all external expectations, all pride, all fear of embarrassment or failure - these things just fall away in the face of death, leaving only what is truly important. Remembering that you are going to die is the best way I know to avoid the trap of thinking you have something to lose. You are already naked. There is no reason not to follow your heart.
About a year ago I was diagnosed with cancer. I had a scan at 7:30 in the morning, and it clearly showed a tumor on my pancreas. I didn't even know what a pancreas was. The doctors told me this was almost certainly a type of cancer that is incurable, and that I should expect to live no longer than three to six months. My doctor advised me to go home and get my affairs in order, which is doctor's code for prepare to die. It means to try to tell your kids everything you thought you'd have the next 10 years to tell them in just a few months. It means to make sure everything is buttoned up so that it will be as easy as possible for your family. It means to say your goodbyes.
I lived with that diagnosis all day. Later that evening I had a biopsy, where they stuck an endoscope down my throat, through my stomach and into my intestines, put a needle into my pancreas and got a few cells from the tumor. I was sedated, but my wife, who was there, told me that when they viewed the cells under a microscope the doctors started crying because it turned out to be a very rare form of pancreatic cancer that is curable with surgery. I had the surgery and I'm fine now.
This was the closest I've been to facing death, and I hope its the closest I get for a few more decades. Having lived through it, I can now say this to you with a bit more certainty than when death was a useful but purely intellectual concept:
No one wants to die. Even people who want to go to heaven don't want to die to get there. And yet death is the destination we all share. No one has ever escaped it. And that is as it should be, because Death is very likely the single best invention of Life. It is Life's change agent. It clears out the old to make way for the new. Right now the new is you, but someday not too long from now, you will gradually become the old and be cleared away. Sorry to be so dramatic, but it is quite true.
Your time is limited, so don't waste it living someone else's life. Don't be trapped by dogma — which is living with the results of other people's thinking. Don't let the noise of others' opinions drown out your own inner voice. And most important, have the courage to follow your heart and intuition. They somehow already know what you truly want to become. Everything else is secondary.
When I was young, there was an amazing publication called The Whole Earth Catalog, which was one of the bibles of my generation. It was created by a fellow named Stewart Brand not far from here in Menlo Park, and he brought it to life with his poetic touch. This was in the late 1960's, before personal computers and desktop publishing, so it was all made with typewriters, scissors, and polaroid cameras. It was sort of like Google in paperback form, 35 years before Google came along: it was idealistic, and overflowing with neat tools and great notions.
Stewart and his team put out several issues of The Whole Earth Catalog, and then when it had run its course, they put out a final issue. It was the mid-1970s, and I was your age. On the back cover of their final issue was a photograph of an early morning country road, the kind you might find yourself hitchhiking on if you were so adventurous. Beneath it were the words: "Stay Hungry. Stay Foolish." It was their farewell message as they signed off. Stay Hungry. Stay Foolish. And I have always wished that for myself. And now, as you graduate to begin anew, I wish that for you.
Stay Hungry. Stay Foolish.
Thank you all very much.

Speech By Professor Sanjay

Fantastic article with a great deal of information. Have fun reading people!

Better and better,

Monday, May 21, 2007

The road to greatness

What it takes to be great
Research now shows that the lack of natural talent is irrelevant to great success. The secret? Painful and demanding practice and hard work

By Geoffrey Colvin, senior editor-at-large
October 19 2006: 3:14 PM EDT
(Fortune Magazine) -- What makes Tiger Woods great? What made Berkshire Hathaway (Charts) Chairman Warren Buffett the world's premier investor? We think we know: Each was a natural who came into the world with a gift for doing exactly what he ended up doing. As Buffett told Fortune not long ago, he was "wired at birth to allocate capital." It's a one-in-a-million thing. You've got it - or you don't.
Well, folks, it's not so simple. For one thing, you do not possess a natural gift for a certain job, because targeted natural gifts don't exist. (Sorry, Warren.) You are not a born CEO or investor or chess grandmaster. You will achieve greatness only through an enormous amount of hard work over many years. And not just any hard work, but work of a particular type that's demanding and painful.
Born Winner? Golf champ Tiger Woods (pictured at 3 years old) never stopped trying to improve.
Woods (pictured in 2001) devoted hours to practice and even remade his Swing twice, because that's what it took to get better.
Buffett, for instance, is famed for his discipline and the hours he spends studying financial statements of potential investment targets. The good news is that your lack of a natural gift is irrelevant - talent has little or nothing to do with greatness. You can make yourself into any number of things, and you can even make yourself great.
Scientific experts are producing remarkably consistent findings across a wide array of fields. Understand that talent doesn't mean intelligence, motivation or personality traits. It's an innate ability to do some specific activity especially well. British-based researchers Michael J. Howe, Jane W. Davidson and John A. Sluboda conclude in an extensive study, "The evidence we have surveyed ... does not support the [notion that] excelling is a consequence of possessing innate gifts."
To see how the researchers could reach such a conclusion, consider the problem they were trying to solve. In virtually every field of endeavor, most people learn quickly at first, then more slowly and then stop developing completely. Yet a few do improve for years and even decades, and go on to greatness.
The irresistible question - the "fundamental challenge" for researchers in this field, says the most prominent of them, professor K. Anders Ericsson of Florida State University - is, Why? How are certain people able to go on improving? The answers begin with consistent observations about great performers in many fields.
Scientists worldwide have conducted scores of studies since the 1993 publication of a landmark paper by Ericsson and two colleagues, many focusing on sports, music and chess, in which performance is relatively easy to measure and plot over time. But plenty of additional studies have also examined other fields, including business.
No substitute for hard work
The first major conclusion is that nobody is great without work. It's nice to believe that if you find the field where you're naturally gifted, you'll be great from day one, but it doesn't happen. There's no evidence of high-level performance without experience or practice.
Reinforcing that no-free-lunch finding is vast evidence that even the most accomplished people need around ten years of hard work before becoming world-class, a pattern so well established researchers call it the ten-year rule.
What about Bobby Fischer, who became a chess grandmaster at 16? Turns out the rule holds: He'd had nine years of intensive study. And as John Horn of the University of Southern California and Hiromi Masunaga of California State University observe, "The ten-year rule represents a very rough estimate, and most researchers regard it as a minimum, not an average." In many fields (music, literature) elite performers need 20 or 30 years' experience before hitting their zenith.
So greatness isn't handed to anyone; it requires a lot of hard work. Yet that isn't enough, since many people work hard for decades without approaching greatness or even getting significantly better. What's missing?
Practice makes perfect
The best people in any field are those who devote the most hours to what the researchers call "deliberate practice." It's activity that's explicitly intended to improve performance, that reaches for objectives just beyond one's level of competence, provides feedback on results and involves high levels of repetition.
For example: Simply hitting a bucket of balls is not deliberate practice, which is why most golfers don't get better. Hitting an eight-iron 300 times with a goal of leaving the ball within 20 feet of the pin 80 percent of the time, continually observing results and making appropriate adjustments, and doing that for hours every day - that's deliberate practice.
Consistency is crucial. As Ericsson notes, "Elite performers in many diverse domains have been found to practice, on the average, roughly the same amount every day, including weekends."
Evidence crosses a remarkable range of fields. In a study of 20-year-old violinists by Ericsson and colleagues, the best group (judged by conservatory teachers) averaged 10,000 hours of deliberate practice over their lives; the next-best averaged 7,500 hours; and the next, 5,000. It's the same story in surgery, insurance sales, and virtually every sport. More deliberate practice equals better performance. Tons of it equals great performance.
The skeptics
Not all researchers are totally onboard with the myth-of-talent hypothesis, though their objections go to its edges rather than its center. For one thing, there are the intangibles. Two athletes might work equally hard, but what explains the ability of New England Patriots quarterback Tom Brady to perform at a higher level in the last two minutes of a game?
Researchers also note, for example, child prodigies who could speak, read or play music at an unusually early age. But on investigation those cases generally include highly involved parents. And many prodigies do not go on to greatness in their early field, while great performers include many who showed no special early aptitude.
Certainly some important traits are partly inherited, such as physical size and particular measures of intelligence, but those influence what a person doesn't do more than what he does; a five-footer will never be an NFL lineman, and a seven-footer will never be an Olympic gymnast. Even those restrictions are less severe than you'd expect: Ericsson notes, "Some international chess masters have IQs in the 90s." The more research that's done, the more solid the deliberate-practice model becomes.
Real-world examples
All this scholarly research is simply evidence for what great performers have been showing us for years. To take a handful of examples: Winston Churchill, one of the 20th century's greatest orators, practiced his speeches compulsively. Vladimir Horowitz supposedly said, "If I don't practice for a day, I know it. If I don't practice for two days, my wife knows it. If I don't practice for three days, the world knows it." He was certainly a demon practicer, but the same quote has been attributed to world-class musicians like Ignace Paderewski and Luciano Pavarotti.
Many great athletes are legendary for the brutal discipline of their practice routines. In basketball, Michael Jordan practiced intensely beyond the already punishing team practices. (Had Jordan possessed some mammoth natural gift specifically for basketball, it seems unlikely he'd have been cut from his high school team.)
In football, all-time-great receiver Jerry Rice - passed up by 15 teams because they considered him too slow - practiced so hard that other players would get sick trying to keep up.
Tiger Woods is a textbook example of what the research shows. Because his father introduced him to golf at an extremely early age - 18 months - and encouraged him to practice intensively, Woods had racked up at least 15 years of practice by the time he became the youngest-ever winner of the U.S. Amateur Championship, at age 18. Also in line with the findings, he has never stopped trying to improve, devoting many hours a day to conditioning and practice, even remaking his swing twice because that's what it took to get even better.
The business side
The evidence, scientific as well as anecdotal, seems overwhelmingly in favor of deliberate practice as the source of great performance. Just one problem: How do you practice business? Many elements of business, in fact, are directly practicable. Presenting, negotiating, delivering evaluations, deciphering financial statements - you can practice them all.
Still, they aren't the essence of great managerial performance. That requires making judgments and decisions with imperfect information in an uncertain environment, interacting with people, seeking information - can you practice those things too? You can, though not in the way you would practice a Chopin etude.
Instead, it's all about how you do what you're already doing - you create the practice in your work, which requires a few critical changes. The first is going at any task with a new goal: Instead of merely trying to get it done, you aim to get better at it.
Report writing involves finding information, analyzing it and presenting it - each an improvable skill. Chairing a board meeting requires understanding the company's strategy in the deepest way, forming a coherent view of coming market changes and setting a tone for the discussion. Anything that anyone does at work, from the most basic task to the most exalted, is an improvable skill.
Adopting a new mindset
Armed with that mindset, people go at a job in a new way. Research shows they process information more deeply and retain it longer. They want more information on what they're doing and seek other perspectives. They adopt a longer-term point of view. In the activity itself, the mindset persists. You aren't just doing the job, you're explicitly trying to get better at it in the larger sense.
Again, research shows that this difference in mental approach is vital. For example, when amateur singers take a singing lesson, they experience it as fun, a release of tension. But for professional singers, it's the opposite: They increase their concentration and focus on improving their performance during the lesson. Same activity, different mindset.
Feedback is crucial, and getting it should be no problem in business. Yet most people don't seek it; they just wait for it, half hoping it won't come. Without it, as Goldman Sachs leadership-development chief Steve Kerr says, "it's as if you're bowling through a curtain that comes down to knee level. If you don't know how successful you are, two things happen: One, you don't get any better, and two, you stop caring." In some companies, like General Electric, frequent feedback is part of the culture. If you aren't lucky enough to get that, seek it out.
Be the ball
Through the whole process, one of your goals is to build what the researchers call "mental models of your business" - pictures of how the elements fit together and influence one another. The more you work on it, the larger your mental models will become and the better your performance will grow.
Andy Grove could keep a model of a whole world-changing technology industry in his head and adapt Intel (Charts) as needed. Bill Gates, Microsoft's (Charts) founder, had the same knack: He could see at the dawn of the PC that his goal of a computer on every desk was realistic and would create an unimaginably large market. John D. Rockefeller, too, saw ahead when the world-changing new industry was oil. Napoleon was perhaps the greatest ever. He could not only hold all the elements of a vast battle in his mind but, more important, could also respond quickly when they shifted in unexpected ways.
That's a lot to focus on for the benefits of deliberate practice - and worthless without one more requirement: Do it regularly, not sporadically.
For most people, work is hard enough without pushing even harder. Those extra steps are so difficult and painful they almost never get done. That's the way it must be. If great performance were easy, it wouldn't be rare. Which leads to possibly the deepest question about greatness. While experts understand an enormous amount about the behavior that produces great performance, they understand very little about where that behavior comes from.
The authors of one study conclude, "We still do not know which factors encourage individuals to engage in deliberate practice." Or as University of Michigan business school professor Noel Tichy puts it after 30 years of working with managers, "Some people are much more motivated than others, and that's the existential question I cannot answer - why."
The critical reality is that we are not hostage to some naturally granted level of talent. We can make ourselves what we will. Strangely, that idea is not popular. People hate abandoning the notion that they would coast to fame and riches if they found their talent. But that view is tragically constraining, because when they hit life's inevitable bumps in the road, they conclude that they just aren't gifted and give up.
Maybe we can't expect most people to achieve greatness. It's just too demanding. But the striking, liberating news is that greatness isn't reserved for a preordained few. It is available to you and to everyone.

Saturday, May 19, 2007

Bill Nygren Speaks

Here is an old speech(2002) by noted value investor Bill Nygren who has over the years built a terrific track record at Oakmark funds.To improve our game,it does help to learn from some of the best in the field.Hope you can glean some nuggets of wisdoms as he does go into great detail on how to identify undervalued companies.Enjoy!

Bill Nygren on Searching for Value
3/10/02 A speech from the Louis Rukeyser Investment Conference
Sunday, March 10

"Searching For Value"

"Thank you and good morning. I'd like to start by thanking all the people at the Louis Rukeyser Investment Conference -- by paying such careful attention to the logistics, they've made this an amazingly hassle-free trip. I'd also like to thank Lou Rukeyser, not just for giving me the opportunity to speak to this great audience, but also because when I was in high-school and was becoming interested in the stock market, and the financial media barely existed, there was a brand new show on PBS called Wall Street Week that quickly became a highpoint in my week, and over time, an important and ongoing part of my stock market education. Thank you, Lou.

It seems a little ironic to be in Las Vegas and be giving a speech about value investing. Value investing requires following a discipline of placing bets only when the odds are favorable and here we are in a city that's been built on bets placed when the odds were not favorable. Perhaps even more ironic, my own interest in investing started when a family vacation to Disneyland had a stopover in Las Vegas. I was ten years old and my father decided it was time for me to learn about the dangers of gambling. We walked from our motel across the street to a Kroger grocery store that had a slot machine in the entryway. Dad reached in his pocket, took out five nickels and told me that even though he knew he would lose those nickels, he was going to put them in the slot machine so that I could see just how much the game was stacked against us. He smiled, put the first nickel in, pulled the handle, then frowned. As seven nickels came jingling down, my eyes were as big as saucers. After the next nickel went in, five more nickels came out and I was begging Dad to stop while he was ahead. But he was determined to prove his point.

It took half an hour, then the smile finally returned to his face when he succeeded in losing his 25�. The lesson he had hoped to teach me wasn't quite the one I learned. I knew my father was smart and he was telling me that gambling was a loser's game but I had just witnessed this machine shooting out free money. The seed was planted for a lifelong fascination -- I wanted to learn everything there was to know about the risk and return of all different forms of speculation. I learned that if you "invested," and I use that word in quotes, 100 dollars in a typical lottery, you would get back on average, 50 dollars. At the racetrack or in slot machines, 100 dollars in bets returns about 85 dollars. 100 dollars at craps or blackjack returns 98 dollars. And most importantly, 100 dollars invested in stocks, on average, a year later was worth about 109 dollars. The stock market is very different from gambling because in any form of gambling, average results lead to losing money. I believe, in the stock market, results that are simply average lead to higher returns than almost any other form of investing.

To demonstrate just how powerful market returns can be, allow me to share another anecdote. When I lived in suburban Chicago, I rode a commuter train to the office and I often used the trip home for a relaxing game of bridge. One day when we couldn't find a fourth for a game, one of the older players shared his investment story with me. He was an engineer who had a hobby interest in the stock market. He was anxious to prove his ability, so in 1979 he set up an experiment to test his stock selection skill. He took half of his investible funds and invested in a mutual fund, and with the other half he made his own stock picks. He defined the mutual fund results as average, a result he could achieve without investing any of his own time. His success, the reward for his hard work, could be measured by the amount his stock picks exceeded the value of the fund. After thirteen years he was severely humbled as the mutual fund investment had become 25 percent larger than the individual stocks he managed. His own assets had grown eighteen fold but the mutual fund, which when he bought it had a relatively new manager by the name of Peter Lynch, had grown by twenty-three fold. He not only concluded that he had no special talent for stock picking, but felt he had wasted a great deal of time.

I spent yesterday afternoon trying to prove I have some ability at my hobby -- handicapping horses. Were I an average handicapper, I would have lost 15% of what I bet. Given that I actually lost only 5%, I proved I have some skill. So I lost money and succeeded at proving my ability, while my bridge partner grew his capital substantially and felt he had failed. That's why, for me, handicapping is just a hobby! That story shows just how powerful the stock market is -- average returns compounded over long time periods have produced amazing growth of capital. And that's exactly the point that industry professionals like John Bogle make when they promote index funds -- average returns are so good, maybe it's not worth the battle to try and do better than average. The academics say that the only way to get higher returns is to take higher risk and if you reduce your risk, you are destined to get below average returns.

But at The Oakmark Family, we've built a business that is based on our ability to achieve superior long-term returns through superior stock selection. We have seven mutual funds with a total of 12 billion dollars in assets that cover all market capitalizations both domestically and internationally, all using the same approach to value investing. Utilizing a mixture of quantitative and qualitative analysis, we identify attractive investment opportunities. Across all seven of the Oakmark funds, we look for stocks that meet each of three criteria, which we believe each simultaneously reduce risk and increase return.

Our first criteria at Oakmark is that we want to buy stocks when they are selling at a large discount to intrinsic value. Our estimate of intrinsic value is the price a buyer would be willing to pay today, in cash, to own the whole company. Then we only buy the stock if it is selling at less than 60% of that number.

Each phrase in that sentence is important:

"Estimate" -- this isn't an exercise in precision. The reality is an estimate that business value is somewhere between $50 and $60 per share is very useful if a stock trades at $30. Frequently, overly precise value estimates get published in research reports. A value estimate like 54 dollars and 62 cents always makes me laugh. That degree of precision is simply unattainable.

"Today" -- we want a best guess of what the business is worth now. That means any favorable developments need to be discounted not only for time value, but also for the possibility that they do not occur.

"In cash" -- when a buyer pays cash, you know they believe what they are buying is worth at least what they pay for it. Acquirors using stock, however, may believe an acquisition makes sense because they know that the stock they are issuing is overvalued. A couple of years ago, my daughter thought she had entered the world of high finance when she and her girlfriend traded their Beanie Babies. They would look up prices on the Internet and exchange Beanie Baby investments they thought were "worth", 500 dollars. In the end, they were just swapping 5 dollar stuffed animals. In hindsight, the parallels to some technology company mergers seem obvious! The high prices only made sense because the acquiror's stocks were so overvalued.

"The whole company" -- stocks are partial interests in a business, not just pieces of paper. We are interested in the price someone would logically pay to own that business. We don't have use for forecasts with squiggly lines that suggest where a stock price might be headed in the next few days. Because in the long run, the value of a company and its market price must converge.

"We try to buy below 60% of value" -- obviously cheaper is better. The bigger the discount we demand, the greater the potential return, but the fewer stocks that will qualify. Over time, we have found that using a 60% of value cutoff allows us the opportunity to construct well diversified portfolios and to stay fully invested through most market environments.

But the majority of stocks fail on this criteria. Most are priced significantly above 60% of estimated value. Generally, to fall below 60% of value requires an over-reaction to short-term negative news. Merck falling from $90 to $60 when 2002 earnings guidance was cut by 10%, Honeywell falling from $35 to $25 in late September when expectations for air travel declined, or McDonalds falling from $50 to $25 as mad cow disease reduced European income. All are examples of the market treating short-term problems as if they were long-term problems. All these stocks are currently owned in The Oakmark Fund. Finally, before I move on to the next criteria, a stock price being down a lot from its high is not sufficient to make a stock meet our value criteria. Today, many technology stocks are down 50-80% from their highs yet still look expensive to us. Relative to current earnings, expected earnings or even sales, most technology stocks are still priced at very high multiples relative to their historical averages, so we own almost nothing in that sector.

Our second criteria at Oakmark is that business value must grow as time passes. One of the most frequently experienced problems of a value investing approach is that it leads many value managers to own the statistically cheapest companies which are often also the most structurally disadvantaged companies. Effectively, these are stocks that trade at low prices but deserve to trade there. These companies may be worth, say, 100 dollars today, but because of market share loss or declining profitability, they will be worth 90 dollars in a year, then 80 dollars and so on. Nothing is worse for a value investor than having declining estimates of value accompanied by a declining stock price. That makes it very difficult to sell the stock -- because all the way down, it just looks too cheap to sell.

When I think of examples of companies that fail to pass the growing value criteria, I am taken back to June of 1981. I had just completed my Masters degree and started a job as an equity research analyst -- my conviction in value investing was already firmly established. I was taking part one of the CFA exam and was excited to see that the essay section asked us to compare and contrast Wal-Mart and K-Mart, and to write a buy recommendation for one of those companies. The question couldn't have been any easier. Wal-Mart was growing faster than K-Mart, but K-Mart sold at a lower P/E, K-Mart had a 5% dividend yield compared to Wal-Mart's 1%, and K-Mart was priced below book value, while Wal-Mart traded at more than three times book. Of course I wrote my buy report on K-Mart and highlighted just how cheap it was relative to a similar competitor. Fortunately I passed the test, but twenty years later, I'm not sure I deserved to! Wal-Mart stock has increased in price by two hundred fold while K-Mart has slowly gone out of business.

The statistically cheapest stocks aren't always values. What I had missed in my analysis was that Wal-Mart had much better computer systems and had a corporate culture obsessed with expense control. Being the low-cost operator, Wal-Mart had the ability to enter any city K-Mart was in and significantly underprice them. K-Mart faced two choices -- cut their prices and earn an inadequate return, or lose market share. Effectively, their choice was sudden death or slow death. They elected for a slow death. K-Mart was a structurally disadvantaged competitor that experienced a steady decline in its business value. And, its stock was held primarily by value investors for the last twenty years.

So how do we avoid the K-Marts? Over long time periods, the stock market has returned a few percentage points per year above the government bond yield, say a total return of around 8 or 9%. To achieve that return, we look for companies where the sum of dividend yield plus value growth at least matches the market. That way, if our stocks start out at 60% of value and stay at 60% of value, we should still produce a return similar to the market. If, as we expect, the valuation gap narrows, we will outperform. So with each investment under consideration, we estimate the current per-share business value, and we also project how that value will change over the next five years. We of course look at sales and income growth, but we also look at capital needs and whether excess cash is generated or cash is consumed. We incorporate those balance sheet changes into our value estimate. Consider an example we own that is especially appropriate this time of year -- H&R Block. What could be more boring than a tax preparation business? Its pretty easy to project that as population grows, the number of tax returns will continue to grow each year. The percentage of filers needing professional help has consistently risen and we expect that to continue, and H&R Block has been the market leader for years and will probably keep slowly gaining market share.

In most any economic environment, H&R Block should see good revenue growth because it prepares more tax returns each year. Small price increases will add to revenue growth, and as revenues grow, operating margins also improve slightly. Because of these higher margins, net income should grow even faster than revenues. Another great feature of the tax preparation business is that very little capital is needed to support growth. There is no inventory. Customers pay at the time of service, so there are no receivables; and capital spending is pretty much limited to new desks and chairs to expand capacity. Therefore, H&R Block should generate a large amount of cash that isn't needed to support its revenue growth. Management has recently been using their excess cash primarily for share repurchases. So five years from now, H&R Block's net income will likely be divided across fewer shares than are outstanding today. Per-share value growth should therefore be even greater than net income growth. Add in the dividend, and we conclude that value growth at H&R Block is likely to be much greater than value growth for the overall market. A superior business at a below average price, H&R Block continues to be one of our favorite stocks. This is the process we go through on any stock that we think looks undervalued.

Our third and final investment criteria at Oakmark is that we invest only in companies where we believe management is smart, honest, and economically aligned with shareholders. If, today, I was offering you the opportunity to invest in a private partnership, I have no doubt there would be many questions about the management of that partnership. Who is running it? Are they trustworthy? What is their track record? How do they get paid? All are very appropriate questions. For some reason, however, investors often neglect those same questions when they are purchasing publicly traded stocks. Our goal is to invest in companies where we are so comfortable that management is smart, honest, and acting in our interest, that even if the investment was in a limited liquidity partnership, we would still be anxious to invest. How do we learn about management? Every public company is required to present brief biographies of top management in their 10K annual report filed with the SEC. These are now all available free on the Internet.

We look at how management is performing in their current company, and also at how they performed at previous companies. A year-and-a-half ago, some shareholders thought we were crazy to be buying JC Penney stock. In the two years prior to our purchase, the stock fell from a high of 78 dollars down to 12 dollars as Penney's lost market share to discounters like Kohl's and Target and to department stores like Macy's. We hadn't had confidence in JC Penney management. But, then they hired a new CEO, Allen Questrom. Anyone reading Penney's SEC document could have learned of Questrom's success turning around Neiman Marcus, Federated Department Stores, Macy's, and Barney�s. Since we had previously been an investor in Federated, we were already very familiar with his track record. Did we think the new management made a turnaround a sure bet? Of course not -- but it sure changed the odds.

We also want company management to be honest. We talk to past business associates, current co-workers, customers, and suppliers to see if they feel this particular management has been honest with them and is trustworthy. We expect to hold a stock for several years -- during our holding period many important decisions will get made that will never be disclosed. Being able to trust management is really important. Our firm is located in Chicago so our Midwestern roots and common sense are an important part of our investment approach. As I was growing up, my dad used to say that he would rather have the word of an honest man than the signature of a dishonest man. That's the thought we try to bring to judging the character of our managements.

The last point about management is that we want their economic interest aligned with ours. Over the several years we own a stock, the company will face a handful of major decisions that will strongly influence whether or not our investment is successful. Perhaps management will consider making a large acquisition, or even consider selling our company. We want to make sure that they own enough stock or have other incentives so that their own personal profit is maximized only if our profit is also maximized. We want management to think like owners, not hired hands. We want them to get rich only if we do. And again, all of this information is in the annual proxy filed with the SEC and available free on the Internet. It will tell you how much stock the managers each own, how many options, how their bonus compensation is calculated -- everything you want to know.

Our most successful stock in Oakmark's history was Liberty Media. One of the reasons we were comfortable taking a large position in Liberty back in 1991 was that the proxy disclosed the CEO had asked to have his entire compensation over the next five years in the form of stock options. He knew the company far better than we ever would and we liked the fact that he was working for free unless the stock went up. We still own Liberty Media. Despite the strong stock price performance, business value has grown rapidly and we still believe the stock is inexpensive.

When all three of Oakmark's investment criteria are met : 1) the stock sells below 60% of value, 2) the value grows as time passes, and 3) the company is managed by people who behave like owners, we create our greatest competitive advantage -- the luxury of a long time horizon. We don't worry about when the market will recognize value, because the longer it takes, the greater our return will be.

In fact, for companies that generate excess cash, as most of our investments do, an extended period of undervaluation can be used to our advantage. A company that repurchases its own stock at a discount to fair value ends up increasing the value of all the remaining shares. At Oakmark, we have found that on average, it takes three to five years for the market's view on value to converge with our own view. Such lengthy holding periods keep our trading costs down and also are beneficial at tax time, as almost all of our gains end up qualifying for the reduced long-term capital gains rate.

I can't state strongly enough the importance of our long time frame. Most of the financial media, as well as individual and professional investors, obsess over monthly economic data and minor deviations from quarterly earnings expectations. There are seemingly endless debates about whether an economic recovery has already begun or will not happen until the second half of the year. When you think, instead, about how a company is likely to change over the next five years, the short-term issues that others focus on become trivial.

Last March, I was in Dallas for an analyst meeting with JC Penney management. This was the first time their new management spoke to analysts about their turnaround plan. During the presentations, Penney executives walked us through their five-year plan -- sales expectations, margin goals, capital needs, and so on. Plugging those targets into an earnings model suggested that earnings per share in 2005 could reach nearly 5 dollars. That was especially interesting to me because the stock price was 15 dollars at the time. I was so impressed with what I had heard that I called our trading desk from the meeting and I asked them to increase our JC Penney position before the market closed. My thinking was that many of the analysts would do the same math I had done and they would write reports about how cheap Penney was, based on expected earnings.

The next morning, I read all the analyst reports. Not one analyst mentioned how cheap the stock was based on 2005 goals. Instead, the typical report said JC Penney will earn only 60� this year, so at 15 dollars per share, the turnaround already seems to be reflected in the stock price. In the end, the rush I put on our buy orders was unnecessary because our five year time horizon had lead to an entirely different conclusion than our competitors arrived at when they focused solely on the coming year. And, while the one day result of that purchase wasn't so great, JC Penney did finish 2001 as one of the top performers in the S&P 500. The stock now at $21, in our opinion, is still inexpensive relative to its earnings potential.

I would like to use one more example, and show how our largest holding, Washington Mutual, affectionately known as WaMu, meets all of our buy criteria:

� � WaMu is the largest savings and loan in the United States. Many retail financial companies focus only on the wealthiest clients. WaMu, however, primarily serves the middle market customer. We view that as a good thing, because there is less competition, and because we believe there is less risk. Finally, their loan portfolio is composed mostly of mortgages on owner-occupied middle-market homes, again one of the lowest risk category of loans. � � Relative to our investment criteria, is the price of WaMu less than 60% of value? WaMu sells at about eight times expected earnings for this year, putting it at about one third of the S&P 500 multiple, and less than two-thirds the multiples given to other leading financial services companies. In addition, acquisitions of financial services companies that we believe were significantly inferior to WaMu, have occurred at P/E's in the teens. � � How will the value of WaMu grow over time? The current dividend yield is 3% and has been raised not each year, but each quarter for the last five years. Over the last decade, earnings per share have grown at a 17% compound rate, and we concur with management's forecast of annual double digit growth going forward. � � What about management quality? CEO, Kerry Killenger, has been CEO for over a decade, and most of his personal net worth is invested in the stock. He treats the company's capital with the same care he does his own, including a willingness to use cash to repurchase shares when they are undervalued.
Washington Mutual stock fits each of our three criteria and has a lower than average risk profile -- that's why we have made it our largest position. Unless we get lucky, and the market quickly recognizes the value we see in WaMu, we are likely to own WaMu for several years. Given the yield and earnings growth, it is easy to be patient -- the longer it takes, the more the value grows, and thus the more money we will make.

Now that we have so thoroughly covered our approach to buying stocks, I would like to spend a few minutes on the decision most investors find infinitely more difficult -- selling. I believe the reason many investors have such a struggle with selling is because they don't really know why they owned a stock in the first place. At Oakmark, our buy criteria is so explicit that our sell decisions are very straight-forward. We buy stocks that are inexpensive, selling at less than 60% of value. We sell them when they exceed 90% of value. During the time we own the stock, we are constantly evaluating fundamental changes to make sure our targets reflect the most current information.

Because most of our companies have values that are growing, this generally leads to increases in buy and sell targets. But, when the stock price rises to 90% of value, we sell it. We don't worry that it might go higher, we simply sell it and start the process over again. We have found that by reinvesting the proceeds of those sales in new stocks that are selling at less than 60% of our value estimate, we will grow our capital more rapidly and we will assume less risk than if we continued to hold a stock that had already reached 90% of our target.

That describes the sell process for our successful investments. Unfortunately, there is another reason we need to sell -- we make mistakes. Minimizing the cost of your mistakes is just as important as maximizing your successes. We are often asked if we would automatically sell a stock that fell 10 or 20%. The answer is no -- to us, short-term stock price movement is not a useful tool in defining mistakes. In fact, often times stocks keep going down after we begin buying, and our typical response is to buy more. To us, the reason a stock should be sold is that it no longer meets our investment criteria. In addition to selling our successes that increase to 90% of value, we will sell a stock if we lose confidence that the business value will grow, or if we no longer believe we invested with smart, honest, owner-oriented management.

USG Corporation, the largest wallboard manufacturer in the world, is an example of one of the biggest mistakes I've made as both analyst and portfolio manager. The stock sold at a very low multiple of cashflow, the company was the low-cost producer in a commodity industry, and it had a great management team that wisely reinvested the cash the business generated. During the time we owned USG, their asbestos liabilities were growing but seemed pretty well contained. What I had missed in the analysis was that as some poorly-financed building-supply companies went bankrupt, USG would have to pay an increasing share of asbestos judgements. When we sold USG, we still liked the management and still thought they ran a great wallboard company. But we lost confidence that any of the value growth would end up going to the shareholders -- instead, it would go to asbestos claimants. Some time after we sold our stock, USG eventually filed for bankruptcy protection to handle the growing asbestos lawsuits. We lost money on our USG position, but we would have lost far more had we continued to hold the stock.

So that's how we buy and sell stocks. If you truly have a passion for stock-picking, I encourage you to hear many successful investors give explanations of how they invest. There are many different ways to profitably buy and sell stocks. Value investing works for us because our personalities are suited to it. For me, I buy stocks the same way my mother taught me to buy groceries -- when things are on sale, I stock up. Applying our investing discipline is just a natural extension of how I think as a consumer. Whatever investment philosophy you develop, it is vital that you have total confidence in it, and that you are behaving naturally when you execute it. The stock market has an amazing ability to make you abandon your discipline just when it proves most costly! Only by picking an investment approach that is consistent with your personality, can you stick with it when it is most important.

If you're like most people, and you can think of dozens of things you would rather do than spend time researching stocks, then mutual funds provide a great opportunity for outsourcing. To most people, investing is a chore, and hiring someone to perform it for then is just as logical as hiring a cleaning service, or paying someone to cut their lawn. If you do invest in funds, I would suggest you select your funds by using a mixture of quantitative and qualitative analysis, just like we do when we select stocks.

Just as we look for good track records in our management teams, look at the long-term performance of any fund you are considering, also look at the results of other funds that manager previously managed, and look at the long-term performance record of the whole fund family. Good managers and good firms have a history of success. Select smart, honest managers who are economically aligned with their shareholders. I continue to be amazed at how many funds are run by managers who have very small percentages of their personal net-worth invested in the funds they manage. At Oakmark, each of our fund managers has more of their personal assets invested in funds they manage than in any other investment. And finally, just as we invest in a stock using a 3- to 5-year time frame, we find that mutual fund investors who invest with longer time frames tend to achieve better investment results than those who trade more frequently.

Whether you elect to invest in individual stocks or mutual funds or both, it is a great time to be an investor. When I started in this business, professional investors had much better access to information than did individual investors. Today, it's a level playing field. It is amazing how much information is available to anyone who has access to the Internet. From financial statements, to research analysis, to management conference calls -- the information is quickly and easily accessible. And the best part, to a value investor like me -- it's almost all free!

I wish you all the best of luck in reaching your investment goals and remind you of the words of Thomas Jefferson -- ' I am a great believer in luck, and I find the harder I work, the more I have of it. '

Thank you."

Friday, May 18, 2007

Time to turn bearish

The markets have been crazy i think.

With the Dow Jones Industrial Average moving from 11000 to 13 556 levels, the Nasdaq composite moving from 2000 to 2500 and the S&P moving from around 1200 to 1522 over the last one year or so, It is not hard to conceive that the market might just go into a recession soon. To be honest, we don't know when but when it happens, it might just be one big market correction ahead.

Firstly, although i am not much a fan of economics, i have to admit that the twin deficits in the US might just cause US to go into recession. When that happens, the whole world will fall alongside the US too.

In China, the stock markets have been overheated for a while now in my opinion. In india too, ordinary folks are rushing to open brokerage accounts to capitalize on the booming indian market and the ever rising stock prices of indian equity which seem to have no ceilings.

In fact, across all markets right now, when you start seeing companies with PE ratios of 40 and above, one should start to get scared. I can never imagine paying for companies with PEs of 40 and above. Standards of valuation just don't justify such high mulitples. But the thing is that people are doing it, loving every moment of it.

Bail out slowly people. Be conservative. Live to fight another day. It is simply a matter of time before the world market corrects. When that happens, be ready for it.

With that i leave you with a quote from Warren Buffet: We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful.

Better and better,

Thursday, May 17, 2007

Buffett on Life and Success

Here is an old blog post that i managed to dig up that is a beautiful example of Buffett's worldly wisdom.One has to remember the road to success is not just about chasing dollars and cents, but part of a richer journey through the alleys of Life.In this dog-eat-dog world,sometimes staying true to your values is difficult.So it does help to read about Buffett's take on Life and how to achieve success.

The following interview is a one to one session with Warren Buffett done by fellow blogger,Darren Johnson in 2005.The entire interview is written in the author's narrative.

1. Be Grateful -

There are roughly 6 Billion people in the world. Imagine the worlds biggest lottery where every one of those 6 Billion people was required to draw a ticket. Printed on each ticket were the circumstances in which they would be required to live for the rest of their lives.

Printed on each ticket were the following items:

- Sex
- Race
- Place of Birth (Country, State, City, etc.)
- Type of Government
- Parents names, income levels & occupations
- IQ (a normal distribution, with a 66% chance of your IQ being 100 & a standard deviation of 20)
Weight, height, eye color, hair color, etc.
- Personality traits,
temperment, wit, sense of humor
- Health risks

The probability of you drawing a ticket that has the favorable circumstances you are in right now is incredibly small (say, 1 in 6 billion). The probability of you being born as your prefereable sex, in the United States, with an average IQ, good health and supportive parents is miniscule.

Warren spent about an hour talking about how grateful we should all be for the circumstances we were born into and for the generous ticket we've been offered in life. He said that we should not take it for granted or think that it is the product of something we did - we just drew a lucky ticket. (He also pointed out that his skill of "allocating capital" would be useless if he would have been born in poverty in Bangladesh.)

2. Be Ethical & Fair

Continuing on the analogy above, consider this scenario:

Imagine that you were selected as the one person (out of 6 Billion) to create the systems of the world. This includes the type of government, social programs, tax systems, military systems, job markets, laws, regulations, etc.

The only catch was this: You had to come up with systems that you believed were fair and that you wanted to live with, before you were allowed to look at your ticket.

When Warren talked about this it made me reconsider the definition of ethical behavior - what type of system would you create if you didn't know what ticket you had drawn? Would you take a different position on some of the programs you are for or against if you were surrounded by a different set of circumstances?

3. Be Trustworthy

This may be a minor point that Mr. Buffett was trying to make, but he told a simple story that affected me greatly. He told of the Founder of the Nebraska Furniture Mart, one of his companies, and how she came from a poor Jewish family and couldn't read, write or speak English. She was had survived the Holocaust, spent 16 years bringing her family to the U.S. (at $50 per person), and grew the Nebraska Furniture Mart from a $500 initial investment to do $350 Million annually from a single location in Omaha.

Update: A friend of hers told Warren at one point that the way she evaluated people was simple: She simply asked herself, "Would they hide me?" What a great way to judge your instincts about whether to trust someone or not.

4. Invest in Your Circle of Competence

Warren talked at length about investing within your circle of competence. This applies as much to entrepreneurship as it does to investing in public securities. One thing that continually amazes me is how much discipline Warren has in never letting himself get excited about a deal that he doesn't understand. He understands his weaknesses, limitations, and the types of businesses that he gets.

He said that it is crucial that people clearly recognize what they don't understand, and place their effort and energy on businesses or career paths that allow them to bet big on themselves doing something that they do understand. He said that it's "not so important how big the circle is, but it's important that you know where the perimeter is, and when you're outside of it."

5. Do What You Love

Perhaps the reason that we've heard this a million times is that it's true. Warren talked at length about how excited he is to wake up in the morning and to do what he loves. He talked about how important it is to have the freedom in your life to paint your own canvas any way that you like. He said that many people talk about how they are going to just work at a high-paying job "for a little while" and then go do what they love - he equated that to "saving up sex for old age." He said to "never do something that doesn't excite you or that you dislike."

Buffet is a symbol of humility and graciousness.It is extraordinary that someone so wealthy can yet remain so humble and gracious.

For many of us, we tend to become arrogant and all-knowing even with a little success.So hopefully Buffett's message will serve to keep us humble and down to Earth.

The entire post is found here


Warms regards,

Value Investing 101

Have fun reading people!


Wednesday, May 16, 2007

Interview with Seth Klarman

Check this out people. A great read on Seth Klarman.


Better and better,

Interview on Buffet

Great interview...happy reading people


Tuesday, May 15, 2007

Sarin Technologies in Singapore!

I generally feel that this company is still undervalued possibly by a substantial margin of safety. For investors, this companys is listed in the Singapore Stock market. You can go to to have a look at some of its filings.

My opinions are such:

1) This company has got one heck of a moat. It is in an industry where there are relatively few players and its closest competitor is an israeli company which is not public listed.

2) The nature of the business is that of improving the yield of diamonds. It creates machines that help cut the diamond in a way that allows the diamond to be sold at a higher price. With little competition, its growth rates within the industry is pretty darned high and its net margins are more than impressive at 26.74%.

3) A while back, insiders were furiously scooping shares in the open market and these insiders were the heavy weights of the company.

4) It is an early bird within the industry and has got many patents surrounding its inventions. Unlike other products, this product relies heavily on its patents. The greater the ability of the product and inventions for value add to the price of the diamond, the greater the eventual market share of the product in the market. It's products are even endorsed by the gemological institute in the US.

5) Recently, Halibis Capital management increased their stake from From 7.942 % To 8.001 % through an open market purchase

6) The price right now is about 63.5 cents. It went up to 76 cents recently. Insiders scooped it up around such a price. Hence, it has a high probability of still being undervalued.

7) Its products are not one hit wonders, like Taser Guns. As long as diamonds are still around and women still love them, Sarin will have a good hold of the industry.

Hence, i still think that Sarin has a while to go in terms of realising its intrinsic value. Check it out people and do give us your feedback on the company.

You can contact us at

Better and better,

Diversification - How many stocks to own?

Diversification is a controversial topic. The academics advocate diversification while value investors advocate some for of concentration. In fact, Warren Buffet did say: Wide diversification is only required when investors do not understand what they are doing.

I won't say that i am right but i am am definitely of the opinion that diversification really can affect your investing results. To have better results, i feel that one must learn to pick their spots.

The sole purpose of diversification is to reduce non market risk which is risk inherent in a certain stock. An example of non market risk is fires in the company factory or when a particular product is not selling as well. This has to be differentiated from market risk. Market risk is the risk of being in the market. If the market drops, your portfolio drops as well and i doubt there is nothing you can do to aviod that kind of risk.

That being said, what is the optimum number of stocks that one should have in their portfolio? Statistics say that owning 2 stocks help eliminate the non market risk of owning just 1 stock. This risk is reduced by 72 % with 4 stocks in the portfolio and further reduced by 81 percent with 8 stocks. 93% is further shaved off with 16 stocks and, 96 % with 32 stocks and 99% with 500 stocks.

As you can see, you need not own many stocks. Above 8 stocks, diversification does not add much incremental benefit in the for of lowered non market risk. Hence i opine that 8 stocks is a good number. In fact, 6 - 10 is a great number to own. Another advantage of owning a lesser number of stocks is that you have more time to focus on the portfolio.


Sunday, May 13, 2007

Warren Buffet MBA talk(video)

Loads of wisdom from the man himself.. Sir Warren Buffet


You can be rich

Getting rich can be done , not overnight but slowly. Read this article to find out more.

Interview with Joel Greenblatt:


Return on equity- an important metric

The return on equity is a very important metric. Why? It can be decomposed into a formula equating to = sales/assets x net income/sales x assets/equity

Sales/Assets is the asset turnover. It is the sales generated with a fixed amount of asset base. You would want this figure to be higher than industry average as you would expect the company to maximise its assets that it has. The best case scenario in this case is high sales over low asset base. An example of such a company i would presume is a company such as See's candies. It has a low asset base and relies heavily on its intangibles to deliver a high ratio. Warren Buffet would like his companies to have strong brands for the value of a brand is priceless. Therefore, in actual fact, See's candies has a low asset base and and relatively larger portion of intangible assets which cannot be accounted for in this ratio.

The 2nd component of return on equity is the profit margins. You would want the profit margins to be higher than industry average. This would show that the company has a certain moat to it.

The case is that high profit margins and high sales turnover would magnify your return on equity. The other reason why an investor should focus on this number is that if you did invest in equity of the company, this is the metric that will tell you your returns as an investor. The higher the number, the better without an increment in debt. Beware though for all a company has to do to boost this number is take on loads of debt for that will reduce the equity base and cause the return on equity to be higher than normal. Hence, it would thus make sense to me to look at the return on equity historically for at least the past 5 years.


Friday, May 11, 2007

Interview with Monish Pabrai

I was just wondering if you guys have ever heard of Monish Pabrai. For one, he is a huge fan of Warren Buffet.He was once in the IT profession and today, He is getting amazing returns at 33% a year and less after fees...

Here are links to his interview...



Happy reading,

Thursday, May 10, 2007

Charlie munger speech

Do have a read at Charlie Munger's Speech. It helps one to understand the value of systhesis and mental models better.


Lessons in valuation

For more on valuation using discounted cashflow check this link out and my previous post....


Valuation issues

Someone once asked me how to value companies. Valuations done are never right. However, it is important to be approximately right than precisely wrong. For that reason, Me and Manpreet always feel that valuation should be done conservatively.

Here are some pointers to note:

1) Don't overestimate growth rates! In fact try to underestimate them for future years!

2)Use some form of sensitivity analysis with reference to the discount rate use

3) Since the beta concept is utter nonsense, i suggest using a discount rate of 8% - 15% to find a range of intrinsic values with regards to discounted cash flows

4) Terminal value growth rate should approximately be 2% because long term growth rate of GDP in the US is approximated at 2%

5) If possible, dont even impute a terminal value in the model! If the price is drasitically below a model without terminal value, it is a screaming buy!

You can use online valuation calculators to help you and here are some resources if you are a newbie to the game:


Monday, May 07, 2007

Selected excerpts from Buffets lecture!

Given the steady decline in the textile industry in the Northeast and the economically depressed nature of New Bedford and other companies in the industry what made you purchase Berkshire Hathaway at the time that you did?

Well in 1962 I learned from Ben Graham how to assess businesses. He also had the cigar butt analogy for buying can usually get one good puff out of it and it’s free. Berkshire made a lot of money after WWII (more than Pfizer and Merck) and then it steadily went downhill. Between 1955 and 1965 Berkshire went from 12 mills to 2 mills and they bought their own stock as mills closed. We bought 100,000 shares out of 1 million in 1962 at $7 3/8 and the company had $10-11/share in working capital...I knew I wouldn’t lose money because of the working capital. It was losing money but it was also liquefying assets by closing mills. Seabury Stanton was running Berkshire at the time and I went to go visit him. We had an agreement that Berkshire would tender $11-1/2 for my shares of the company. At this point, I could not buy any stock as I had inside information. A few weeks later I received a letter from Old Colony Trust containing a tender offer of $11-3/8. Early the following week, Seabury tendered the stock at 11 3/8. As result, I began buying more Berkshire. Other family members of Seabury Stanton sold their shares to me and I gained controlling interest in the company. The family members weren’t very happy with Seabury either really. We ran the mills until 1985. .

See’s Candy is an example of low rate of return on capital expenditures individually yet the company as a whole makes loads of money because of the great brand of See’s. We bought See’s in 1972 and every year since then we have raised the prices the day after Christmas and it never hurt the business. When we invest we ask one question, how long do you have to wait to raise the prices? If you are an airline today and you try to raise your prices, an hour later, you will be lowering them because of competition. Not the case with a good brand like See’s. If I were to give you a $100 million, I’m not going to, but if I did, you could not damage the See’s brand in the minds of 30 or so million Californians. Only See’s can do that. Their brand is their promise to provide the quality and service that people have grown to expect.

You have said that the last 50 or so years were a unique time for investing in American securities markets—numerous mis-pricings. Do you believe that something like this will happen again? And if you were 26 today and you had only a $1,000,000 how would you generate the 50% returns that you said you might do with smaller amounts of capital?

Attractive opportunities come from observing human behavior. In 1998, people behaved like frightened cavemen (referring to the Long Term Capital Management meltdown). People make their own opportunities. They will be frozen by fear, excited by greed and it doesn’t matter what their IQ, degrees etc is. Growth of 50% per year is with small capitalization, not large cap. The point is I got rich looking for stock with strong earnings.
The last 50 years weren’t unique. It’s just capitalizing on human behavior. It’s people that make opportunities when others are frozen by fear or excited by greed. Human behavior allows for success if you are able to detach yourself emotionally.

In 1951, I got out of school at 20 years old. At the time there were two publishers of stock information, Moody’s and Standards and Poor’s. I used Moody’s and went through every manual. I recently bought a copy of the 1951 Moody off of Amazon. On page 1433, there’s a stock you could have made some money on. The EPS was $29 and the Price Range was from $3-$21/share. On another page, there is a company that had an EPS of $29.5 and the price range was $27-28, 1x earnings. You can get rich finding things like this, things that aren’t written about.

A couple of years ago I got this investment guide on Korean stocks. I began looking through it. It felt like 1974 all over again. Look here at this company...Dae Han, I don't know how you pronounce it, it’s a flour company. It earned 12,879 won previously. It currently had a book value of 200,000 won and was earning 18,000 won. It had traded as high as 43,000 and as low as 35,000 won. At the time, the current price was 40,000 or 2 times earnings. In 4 hours I had found 20 companies like this.

The point is nobody is going to tell you about these companies. There are no broker reports on Dae Han Flour Company. When you invest like this, you will make money. Sure 1 or 2 companies may turn out to be poor choices, but the others will more than make up for any losses. Not all of them will be good, but some will and those will make you rich. And this didn’t happen in 1932, this was in 2004! These opportunities will be there in the next 30 years. You’ll have streaks where you’ll find some bad companies and a few times where you’ll make money with everything that you do.

The Wall Street analysts are brilliant people; they are better at math, but we know more about human nature.

In your investing life you will have several opportunities and one or two that can’t go wrong. For example, in 1998 the NY fed offered a 30-year treasury bonds yielding less then the 29-½ year treasury bonds by 30 basis points. What happened was LTCM put a trade on at 10 basis points and it was a crowded trade, they were 100% certain to make money but they could not afford any hiccups. I know more about human nature; these were MIT grads, really smart guys, and they almost toppled the system with their highly leveraged trading.

This was definitely a good time to act.

When looking at other countries Mr. Buffett, do you look at the country’s overall financial status or do you look at the financials of that specific company in a foreign country? You mentioned investing in Korean companies – do you ever look at the state of the country you are investing in?

We care about the country where the company is run. There is a disadvantage being outside of the US. A few years ago we were looking to invest in either PetroChina or Yukos in Russia. We ended up picking PetroChina because the political situation was more stable. It turned out to be a good decision. I care about the country and the geopolitical environment I am investing in.

The whole company was selling for $35 billion. It was selling for one-fourth of the price of Exxon, but was making profits equal to 80% of Exxon. I was reading the annual report one day and in it I saw a message from the Chairman saying that the company would pay out 45% of its profits as dividends. This was much more than any company like this, and I liked the reserves. If it were a US company, it would sell for $85 billion; it’s a good, solid company. I don’t understand the Chinese culture like I understand the US culture. However it said right in their annual report that they will payout 45% of their earnings as dividends, basically they say if they make money they will pay it out. I invested $450 million and its now worth $3.5 billion. I decided I’d rather be in China than Russia. I liked the investment climate better in China. In July, the owner of Yukos, Mikhail Khodorkovsky (at that time, the richest man in Russia) had breakfast with me and was asking for my consultation if they should expand into New York and if this was too onerous considering the SEC regulations. Four months later, Mikhail Khodorkovsky was in prison. Putin put him in. He took on Putin and lost. His decision on geopolitical thinking was wrong and now the company is finished. PetroChina was the superior investment choice. 45% was a crazy amount of dividends to offer but China kept its word. I am never quite as happy as I am in the US, because the laws are more uncertain elsewhere, but the point is to buy things cheap. Russia is just a bad geopolitical environment. On the other hand, China has kept their word on paying the dividends. In fact, when the dividends check comes in, it is calculated out 10 or so decimals, these guys keep their word. I don’t know the tax laws in China, but you can buy a good business cheap. At Berkshire Hathaway, you have to spend hundreds of millions of dollars to move the needle. We have a problem of finding things worth investing in.

How would you define your character? And what portion of your character do you believe contributed the most to your success?

The important qualities you need are intelligence, patience, and interest, but the biggest thing is to be rational. In ‘97-8, people weren’t rational. People got caught up with what other people were doing. Don’t get caught up with what other people are doing. Being a contrarian isn’t the key, but being a crowd follower isn’t either. You need to detach yourself emotionally. You need to think about what is going on around you. Being in Omaha helps me in that regard. When I was in NYC, I had 50 people whispering in my ear before noon. It’s hard sometimes, like when the Internet craze hit. Nobody likes to see their neighbor doing stupid things and getting rich. It was like Cinderella’s ball, I think I’ll just have one more dance, it’s not midnight yet. Sounds simple – but it is hard to leave the party. The problem with stocks is they don’t have clocks. You don’t know when it will be midnight so you can leave the party. My partner Charlie Munger and Tony Nicely at Geico are always rational. 160 IQs can say stupid things that sound good. People do silly things, whether they have 120 IQ or 160. You can always improve your rational thought. Rationality is the only thing that helps you. One thing that could help would be to write down the reason you are buying a stock before your purchase. Write down “I am buying Microsoft @ $300B because…” Force yourself to write this down. It clarifies your mind and discipline. This exercise makes you more rational.

Besides the type of management that you look for, when you look at financials you make decisions rather quickly. In regards to the financial information and the business overall what factors do you look at?

Mr. Buffett:
We make quick decisions because we have filters before we get to the point of making a decision.

Filter #1 – Can we understand the business? What will it look like in 10-20 years? Take Intel vs. chewing gum or toilet paper. We invest within our circle of competence. Jacob’s Pharmacy created Coke in 1886. Coke has increased per capita consumption every year it has been in existence. It’s because there is no taste memory with soda. You don’t get sick of it. It’s just as good the 5th time of the day as it was the 1st time of the day.

Filter #2 – Does the business have a durable competitive advantage? This is why I won’t buy into a hula-hoop, pet rock, or a Rubik’s cube company. I will buy soft drinks and chewing gum. This is why I bought Gillette and Coke.

Filter #3 – Does it have management I can trust?

Filter #4 – Does the price make sense?

Since 1972 we have made no change in the marketing, process etc. Take See’s candy. You cannot destroy the brand of See’s candy. Only See’s can do that. You have to look at the brand as a promise to the customer that we are going to offer the quality and service that is expected. We link the product with happiness. You don’t see See’s candy sponsoring the local funeral home. We are at the Thanksgiving Day Parades though.