“An astute investor whose abilities we highly respect has observed that stock prices are much more volatile than the businesses whose ownership they represent. Thus, well established profitable businesses tend to be stable, consistent, even surprisingly predictable, and are capable of withstanding periods of adversity without lasting damage. In contrast, stock prices are uncertain, variable, capricious, unpredictable and highly responsive to short term transient influences. It is ironic that so many investors devote so much effort to the exceptionally demanding challenge of predicting these volatile short term price movements. We prefer to direct our energies toward accumulating the basic knowledge necessary to identify and value the essentially stable, profitable, superior business enterprises in which we have an investment interest.”
– George Michaelis, 1979 Letter to Investors
The concepts needed to become a successful investor are very simple. As Joel Greenblatt says, “figure out what something is worth and pay a lot less for it.” Doing that over and over will produce outstanding results over time.
I like the highlighted quote above because Michaelis provides the “secret”, if there is such a thing, to successful long term investing. Basically, the key is to understand that market prices fluctuate much more (both up and down) than the true values of the underlying businesses they represent. This was true in 1979 and it remains true now. It’s the reason value investing has worked for the last 100 years plus…
The average stock fluctuates 80% between the 52 week high and the 52 week low each year. The average business doesn’t fluctuate in intrinsic value anywhere near that much on a yearly basis. Here is how we make money as patient investors. Buy when prices are below intrinsic value, and sell when they appreciate to fair value or more. Because of human nature, this phenomenon will always present us with a conveyor belt of new opportunities.
Michaelis mentions how he is surprised why so many people spend so much time on prediction, and very little time on “accumulating basic knowledge” to value businesses. These simple concepts worked for Michaelis, and he averaged 18% annual returns while managing his fund. As Warren Buffett has said, if he taught an investment course, he would teach only two things:
- How to value businesses
- How to think about market prices
Notice there is no course on economics, geopolitical (macro) analysis, technical analysis, or anything else. Just two simple topics that use simple concepts. Understanding those concepts and creating a process to execute daily is what we’re focused on here at BHI.