A couple weeks ago, I flew to Los Angeles to listen to Charlie Munger at the Daily Journal annual meeting. These days, you can read the transcript of these events or even watch it on YouTube, so there is less of a practical reason to attend the actual event. But the main reason I enjoy these events is to meet with people. I have as much fun at the peripheral gatherings as I do at the main event. It’s nice getting to see friends of mine in the investment business who I don’t often see. It’s also great to meet up with clients who might live in the area of these events. That said, I have no doubt you can get more out of attending the event than you would watching it on YouTube. Hearing it straight from the horse’s mouth is good; but when the horse is in the same room as you, even better.
As usual, Charlie was full of Mungerisms, and while everything he said has probably been uttered by him previously, there were still a number of things I found relevant and worth highlighting. Nothing most investors haven’t heard, but it was very clear to me that these general principles were a very important part of the foundation that Charlie Munger used to help build his investment record over the last half-century.
Here are three topics from the meeting that I thought were worth mentioning:
Takeaway #1: Patience—The Importance of Focusing on Your Best Ideas
As Charlie has said many times (including in my favorite talk he ever gave—The Art of Stock Picking), the ability to patiently wait for only the exceptional opportunities (and the ability to capitalize on them when they come along) has been a big edge for him over time.
At the meeting, Charlie talked about how his grandfather built a fortune in the Midwest by focusing on just one or two really good ideas. I believe Munger said he owned banks, and then at a few key times, opportunistically bought farms during recessions. The concept of doing nothing for years and then capitalizing on opportunity makes a lot of sense in most areas of business, but rarely is practiced in the stock market. Munger is probably the closest I’ve seen to someone actually implementing this concept.
Charlie made a comment about when he was starting out in his original investment partnership, he sat in his office at the law firm and sketched out a few basic ideas about portfolio management:
- He said he figured he hold the average stock in his portfolio 3 or 4 years
- He figured he might have 40 years or so to invest
- Given the above two assumptions, he wouldn’t need more than 4 stocks in his portfolio to be adequately diversified
I think what he’s basically implying here is that if he has a 4 stock portfolio and he does this for 40 years, he’ll make 40 or 50 investments over the life of the partnership (assuming a 3 or 4 year hold time).
He said numerous times throughout the afternoon (as he’s said all his life) that:
- You won’t get that many great ideas
- You don’t need that many great ideas
Again, this is all stuff that has been repeated ad nauseam, but it is a very valuable idea to keep in mind—and given the contents of most portfolios I look at from other investors, it’s advice that’s very rarely followed.
In Saber Capital’s 2016 Investor Letter, I outlined some of the reasons for why I think this “do as I say, not as I do” dynamic exists in professional money management.
Takeaway #2: “Things Are Harder Now” (Or Different Now?)
The typical NBA offense used to be much more centered around the big 7 footer. You needed a star big man if you expected to be a title contender. But the game has changed. To be successful, you need to spread the floor with sharp shooters and your offense relies much more on the three-point shot. It’s not harder to win a championship than it was 30 years ago, but it would be if you were forced to implement the same game plan now that you used back then.
I’ve heard a lot of larger, well-known successful investors repeat the general idea that “investing is harder than it used to be”. Klarman said it in a recent letter, and I’ve heard probably three or four well-known top-tier investors repeat something similar in recent years. Munger repeated this same idea at the meeting. Basically, their feeling is that due to much greater competition, it’s harder to find the really low-hanging fruit and thus harder to beat the market.
However, I think that this view is influenced to a much greater degree by the size of the portfolios that these guys manage than it is by the actual competitiveness of the market. Of course it’s going to be hard for Klarman to do what he did in the 1980’s—he’s got somewhere around $25 billion or so to allocate now.
This is not to say that investing isn’t competitive—it’s one of the most competitive fields out there, as competition tends to be commensurate with financial rewards, and the rewards are almost unlimited in this particular field. I also don’t want to imply that beating the market is easy. It’s extremely hard to do over long periods of time, as evidenced by the staggering long-term win/loss record of the S&P 500 vs portfolio managers.
I also agree with Munger that the style of investing that he and Buffett used to trounce the market in the early years of their careers (mostly buying and selling really cheap stocks of decent businesses that nobody was following) is also much harder. There are no Western Insurance’s at 1 P/E anymore. Those stones have been turned over long ago.
But where I might cautiously disagree with Munger is on this point: the edge they had in the 50’s no longer works as well, but that doesn’t mean that there aren’t edges to be had in the stock market. As I’ve talked about a few times in recent posts, I think there are three general potential advantages that can be gained in the markets:
- Informational edge
- Analytical edge
- Time-horizon edge
Most people only really consider the first advantage. I think Munger—when he talks about things being harder today—is simply saying that the informational advantage that he and Buffett gained by simply looking through Moody’s manuals—is obviously no longer there. The availability of information and the quantity of people analyzing it has largely arbitraged this general advantage away. This concept has really solidified for me over the past year or two. It’s still worth turning over stones, and certainly there are more inefficiencies with smaller securities, but I completely agree with Munger that the low-hanging fruit is gone.
But I think the reasons why this advantage has been mitigated in recent decades has also helped create a different edge—long-term thinking. Better technology and easier available information have made it impossible to locate a solid business like Western Insurance trading at 1 times earnings—that opportunity would have been “arbitraged” long before it got to such a crazy valuation. But the speed and pace of information flow combined with the short-term demands of the owners of capital (or their proxies) have helped widen the “arbitrage” opportunity for those who don’t have to play that game. Stocks were held over 10 years on average when Buffett and Munger were plucking the low hanging fruit—today the average stock is held for just a period of months. These buying and selling decisions are largely made for reasons other than the intrinsic value of the security in question, and thus create volatility in stock prices that don’t always correspond to volatility in business operations.
Basically, time arbitrage is an advantage that I think is much stronger than it was in Buffett and Munger’s day. It’s a different game, and this edge probably isn’t quite as large as the information edge of yesteryear, but I think it’s still quite significant.
So I think that when great investors made fortunes using a particularly technique and that technique is no longer working, they feel the game is much harder to win. Their big 7 foot center isn’t as dominant as he was in previous decades. But I think that just like competitive advantages in business evolve, or general strategies in sports evolve, the strategies that are successful in beating the market have also evolved over time.
I know of numerous small professional money managers that are beating the market over a decade plus, and I personally know a few people who are trouncing it, and have been for years. They are using the same principles that Munger used, but their tactics are different. Time will tell if these people have been better lucky than good, but I would bet on their record continuing until the point that they become whales. I would also bet heavily that if Munger, Klarman, or any other of the greats who long for the good-old-days were given a clean slate with a smaller sum of money, they’d too be able to once again trounce the market.
Buffett himself has talked at length about his size becoming too high a hurdle for great performance, but he recently said that if had started a new investment partnership in 2004, he would have been 100% invested in Korean stocks. At the DJCO meeting, Munger mentioned China as a place he would be actively looking for opportunities today.
So advantages evolve over time in business and investing, as do tactics and areas of focus. Were these great investors to start from scratch today, they might have to focus more on the metaphorical three point shot as opposed to their bigs, but I bet they’d bring home a few championships.
Wishing for the Good-Old-Days is Nothing New
One last point on this concept that “It’s harder now than it used to be”: I’ve not just heard this point recently, I’ve read about great investors who have said this point at various times throughout history.
In the mid 1970’s, Graham began to feel that the investing field had become too competitive and that his method of rigorous security analysis would no longer work as well. At this same time that Graham had felt the time in the sun had passed for the stock picker, Buffett was just getting his Berkshire snowball rolling.
In the late 90’s, famed stock picker Julian Robertson closed the doors of his enormously successful hedge funds, citing that the market had “changed”, and that the strategies he used for decades were no longer working. At this same time, a new class of small stock pickers like Dan Loeb and David Einhorn were busy stacking up 30% annual returns in their early years when their funds were still small. I think it wasn’t that Robertson’s strategies didn’t work or that the market had changed, it was just that he was too big.
Today Loeb and Einhorn are big, and both have hinted that things are different now. I think two takeaways from this section are that:
- Size makes things harder
- Sometimes tactics that were once successful don’t work as well. This doesn’t mean investing success is no longer possible, but it might mean that different tactics have to be utilized.
Takeaway #3: Great Ideas Are Obvious
Munger is incredibly sharp for being in his early 90’s, and while he sat for a couple hours in front of hundreds, he also took questions in front of a smaller group afterward. I wasn’t at this gathering, but the videos can be found here.
In the video I linked to above, he mentions that he has read Barron’s for 50 years and got one idea from it that made him $80 million. He gave that $80 million to Li Lu who has turned it into $400 million. Munger jokes that most people wouldn’t have the patience to read Barron’s for 50 years and only come away with one idea. But his point had nothing to do with Barron’s—it had to do with the concept of patience, and the idea that there won’t be that many great ideas out there.
The stock he bought was a cigar butt (as he categorized it)—some auto parts supplier that he bought for $1 per share and then sold it a couple years later for $15. Munger said it took him an hour and a half to decide to buy it. This tells me a couple things.
- Munger thought it was an obvious idea and didn’t need long to realize that.
- Although he spent 90 minutes on this idea, there was an immeasurable amount of preparation time led up to that decision, so that when the opportunity came, he was prepared to quickly evaluate it and capitalize on it.
Munger talked about how for his entire life, he has read four newspapers each and every morning and that he always has had two or three books going at once. This is how he has approached his life and his investment process. He enjoys doing this work, and he has used that strategy of compounding knowledge over time with an extreme amount of discretion and patience to build a great investment record.
All of these concepts are widely acknowledged, but it always helps to sear them in deeper every so often.
Have a great week.
John Huber is the portfolio manager of Saber Capital Management, LLC, an investment firm that manages separate accounts for clients. Saber employs a value investing strategy with a primary goal of patiently compounding capital for the long-term.