I have a confession to make. Despite Warren Buffett being the most successful investor of all time, I never was really interested in him. He felt like the mega-band that everyone already knew about; like proclaiming U2 was your favorite band at the peak of Bono’s popularity. As the kids say today, it was “basic” (i.e., extremely conventional) to call Warren Buffett your favorite investor. I still read Security Analysis, the bible of value investing by his teacher Ben Graham, and the works by other value acolytes (Seth Klarman, et al.). The value style of investing makes intuitive sense to me, as it does for many others. Thus, I adopted value investing as my credo.
This past month, I finally got around to reading the go-to biography on Warren Buffett, The Snowball.
Another confession – I didn’t read it, I listened to the book on Audible. Listening to books may not be as noble as reading them, but I think it brings us back to our storytelling days around the fire, or radio, or at the pub with friends. And hey, it is 37 hours long!
After hearing Warren Buffett’s life story, from his childhood to starting the Buffett Partnerships, to buying Berkshire Hathaway, I finally get it. There is a reason why The Beatles are so many people’s favorite band of all-time and the same goes for Warren Buffett. I will not go through a book review here, other than to highly recommend it.
The book inspired me to go back and read some of the Buffett Partnership letters, from the ‘hedge fund’ that he launched in 1957. His tone and notes on value investing still bear resemblance to the annual Berkshire Hathaway letters, the latest of which just came out this past weekend.
The 1961 letter discussed some of the same issues in financial markets we see today, such as passive versus active investing. It was a year in which his partnerships were up 45% gross against the Dow Jones Industrials gain of 22%. The cumulative gain of his fund for the previous five years was 251% against 74% for the Dow Jones. He reviewed 38 other mutual funds and investment trusts for performance over the previous five years. Of those, 32 underperformed the Dow and only 6 beat it. That is a hit rate of only 16%.
For the past five years ending December 31st, 2016, there were 703 mutual funds in the large cap core space, according to Lipper. Of those, only 15% outperformed the S&P 500 Index. Sound familiar?
Over the last nine years, investors pulled over one trillion dollars from actively managed funds and put over $1 trillion into indexed vehicles.
For our part, we have chosen to index a large portion of domestic equities. Cost and tax efficiency are two of the chief reasons. What about active management? To paraphrase Head of Global Financial Strategies at Credit Suisse, Michael Mauboussin, we want to sit down at the poker table where we have an advantage against the other players. We want to look for ‘easy games,’ where active views can add value. This is, where certain asset types have lower information efficiency and higher dispersion among investment manager returns. These areas include international and emerging market equities, real estate, and across fixed income markets.
In our analysis, there are certain characteristics of successful investment managers that do not differ across regions and asset classes. Successful portfolio managers have a keen eye for understanding the value of underlying businesses and securities. There is an emphasis on purchasing assets with a margin of safety to the intrinsic value, which is the key feature of the process. Finally, the best managers steadfastly execute their process on securities within their circle of competence.
Buying cheap, out of favor asset classes and companies will not go out of style.
“Price is what you pay. Value is what you get.” – Warren Buffett
This material is based on public information as of the specified date, and may be stale thereafter. Aurum Wealth Management Group and/or Aurum Advisory Services has no obligation to provide updated information on the securities or information mentioned herein. Actual events may differ from those assumed and changes to any assumptions may have a material impact on any projections or estimates.