Hi, Welcome to the 18th Special Edition
Brief Overview of What We will cover in this Issue
Detailed Key Takeaways from the book I am reading Currently
5 Decent Articles to read and Key Takeaways from them.
6 Hunting Ground for finding Multibagger Stocks
Buying cheap is not a value Investing (Video Clip)
Investment Masterclass Session (Found from 9+ Hour Marathon Video)
Quality Investing with Margin Of Safety (Video Clip)
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Invest Like A Dealmaker: Secrets from a Former Banking Insider (Part-2)
CREATING WEALTH— OR WHAT MAKES STOCKS RISE
De la Vega did us a great favor by writing a book called Confusión de Confusiónes, which gives us important insights into the markets of the time. He was also somewhat poetic in his descriptions. “The bulls are like the giraffe which is scared of nothing,” he wrote, “or like the magician . . . who in his mirror made the ladies appear much more beautiful than they were in reality. They love everything, they praise everything.” The bears, on the other hand, “were completely ruled by fear, trepidation, and nervousness. Rabbits become elephants, brawls in taverns become rebellions, and faint shadows to them appear as signs of chaos.
De la Vega advised being neither a bull nor a bear, but an opportunist. “ Trim one’s sails according to the wind,” he said. De la Vega wrote about how stock prices could take big swings based on news and gossip. How a fall in stock prices caused more sellers to surface from frightened investors just as the “leaves tremble in the softest breeze.” “ Clever people,” he wrote, “make skillful uses of these advantages.”
Markets are no different today. There are still panicky sellers, and there are still opportunists who take advantage of market prices— as opposed to letting those market prices dictate their actions.
Real estate is an example people understand more intuitively. So we’ll start with that. There are companies that own significant land holdings or significant real estate. Sometimes it is incidental to the business— for example, a retailer that happens to own the land its stores operate on. Sometimes it is very much a part of the business— for example, a hotel company. In either case, any increase in the value of the real estate does not show up in earnings per share. Over time, of course, the value of the real estate could be huge— indeed, it could dwarf the value of the underlying businesses, as happened with the railroads. Such opportunities are usually rare, as you would expect.
Real estate is just one example, as I’ve said, of a company creating wealth outside of the usual earnings per share that investors so lovingly follow.
In his book Value Investing, Whitman describes four ways in which companies create value or wealth:
1. Earnings
Free cash flow
Resource conversion
Access to capital markets
Let’s look at each one in a bit more detail. Earnings from Operations
Earnings are not cash, as I’ve shown. But the creation of legitimate earnings, even if no cash is immediately produced, is a way to create wealth. Because at some point in the future those earnings will convert to cash.
Let’s say that the earnings generated are largely reinvested in the business.
Free cash flow means that an excess of cash is generated over the amount required for the business. This is money left over after accounts receivable, inventory, and reinvestment needs are met.
In any event, if you stop your analysis here—and think about cash flows instead of just thinking about earnings— you will already be well ahead of most investors.
Resource Conversion Activities This includes a lot of things: converting assets to higher uses, operating under other ownership or control, or both; financing asset acquisitions, refinancing liabilities, or both. Under this umbrella is the whole edifice of mergers, acquisitions, restructurings, and more.
Sometimes you’ll find a company that is suffering from nasty short-term earnings worries but that owns top-quality assets. Such a company can be bought cheaply because people worry about short-term earnings, even when the long-term looks pretty good. These kinds of situations are great opportunities.
Focusing only on earnings per share is too narrow a focus and misses a great deal of this activity.
In the approach in this book, we look at the many different ways a company could evolve or change, and that analysis must take into account the quality and quantity of the company’s resources that could be used in conversion activities.
In any event, companies can create wealth by Accessing the capital markets at super-attractive rates. If you have the ability to tap into the bond markets and raise debt at, let’s say, a 5 percent rate when most people have to pay 7 to 8 percent, you have the ability to create wealth where others cannot. Your lower financing costs translate into better cash flows on your investments. In addition, this ability allows you to swing deals and take advantage of opportunities that are unavailable to others because they don’t have the financial strength.
Just because an investment has something wrong with it doesn’t mean it can’t be a great investment.
Whitman on tax implications of creating wealth :
The basic idea is that owning companies that have lots of capacity— whether in excess cash or excess assets— and low amounts of liabilities— whether in debts or pending litigation or growing pension obligations— is a great way to make big profits in stocks. This combination of lots of capacity and low amounts of liabilities represents the amount of slack a company has.
The market is often impatient and does not look favorably on a company that is not firing on all cylinders.
WHERE TO LOOK
To be a good investor and get good returns, you have to go through a lot of names. It’s like being on one of those old trains where some industrious fellow has to keep shoveling in the coal to keep it going. It’s the same with investors: You need a constant steady stream of names and ideas to investigate further.
Be prepared to turn over a lot of rocks and say no to a lot of ideas before you settle on one. Then the process starts all over again.
HUNTING GROUND #1: TAKING A PEEK AT WHAT THE GREATS ARE DOING
Scary though it may seem, you have to pull the trigger on any buy based on your own reasons and conviction. Otherwise, the next time the stock takes a dip, you’ll get scared out of it. Worse, you won’t know when to sell.
Creating investing returns is not like mixing flour, yeast, and eggs to make bread. It’s like using a recipe and only sometimes getting what you expect. Sometimes you get something much more, sometimes much less.
I recently read Barton Biggs’sbook Hedgehogging. Biggs was with Morgan Stanley for thirty years, during which time he created their research department and became a national figure as an investment strategist. Hedgehogging is an entertaining and impressionistic memoir that covers a lot of ground. But one piece in the book really brings home this idea that you don’t have to beat the market every year. Indeed, most of the greats rarely do.
As Biggs writes: “None in the group always beat the S& P 500 probably because no one thought that was the primar yobjective.”
If you think the professionals are any better at this, you’d be wrong. One of the striking things in reading Biggs’s book is the number of times professional investors— people with hundreds of millions of dollars— buy near tops and sell near bottoms.
Biggs notes the study done a few years ago by Dalbar, an investment research organization. Dalbar’s study showed that the average mutual fund earned a return of 13.8 percent per year (during the great bull market that ended in 2000). Yet, the average investor earned only 7 percent per year. Why? Because the average investor was switching his money in and out at the worst times. He takes his money out when the market has a bad year and puts it back in when things are back up. It seems clear from experience that beating the market every year is a pointless goal.
HUNTING GROUND #2: THE NET TANGIBLE ASSET VALUE SCREEN
The basics of the screen are so simple that you could go to Yahoo! Finance and use its free screener. Just plug in the following criteria:
Market cap greater than $ 150 million ( just to strain out the micro-caps)
Price-earnings ratio greater than 1 (gets rid of the companies losing money)
Price-to-book ratio less than 1
Debt-to-equity not to exceed 0.30
That’s it. Then you get a list of names, maybe 15 to 25, depending on the market. Not too long, but long enough. Now you are ready to sort through them.
You should have a short list of good candidates to consider. Many of these names will be scary. But don’t be put off too easily. Look at these stocks individually and stick with those that have the best - looking balance sheets — lots of cash and little debt. Often these opportunities are worth betting on.
HUNTING GROUND #3: SPIN-OFFS AND OTHER SPECIAL SITUATIONS
In 1985 a man named Joel Greenblatt started the private investment partnership Gotham Capital. Greenblatt made it his bread and butter to work in the special situations arena. He writes about his experiences in his book You Can Be a Stock Market Genius, which, despite its moronic title, is a serious treatment of investing and contains a lot of good advice. Much of the book consists of case studies in which Greenblatt shows you how various spin-offs unfolded— Host Marriott from Marriott International, Strattec Security from Briggs & Stratton, American Express from Lehman Brothers, Liberty Media from Tele-Communications Inc. (which netted investors 10 times their initial investment in less than two years), and many others.
let us consider the various reasons why companies engage in spin-offs at all:
To spin off an unrelated business. Big unwieldy conglomerates that are involved in everything from insurance to restaurants may decide to separate an unrelated business to unlock the value in that business.
To separate a“ bad” business from a“ good” business. Sometimes a company with a profitable core of operations will spin off a laggard that is draining resources and management attention from the main group. Once separated, each of the businesses can stand on its own merits, often to the benefit of all.
To unload debt or other liabilities. Sometimes a spin-off will be loaded up with debt, freeing the parent company but leaving an overleveraged business in its wake. The spin-offs that have failed have often been of this kind. However, this maneuver can be lucrative for the parent company, as you might imagine.
Totake advantage of tax benefits. A spin-off can qualify as a tax-free event and may be the most efficient way to pass value on to shareholders. If the company were sold outright, for example, the cash distributed to shareholders would be taxable.
→ Greenblatt points out, the biggest gains from spin-offs often come in the second year, not the first.
→ Why Wall Street Misses Spin-Offs The first reason is simply that Wall Street and the big institutions don’t want spin-offs. Shares in a big company and you are getting some small distribution of shares in a spinoff, it’s easier for you just to sell the shares rather than dedicate any resources to try to figure it out. Again, the spin-off is too small to worry about.
Plus, if you invested in an insurance company and suddenly this insurance company is spinning off its smaller credit card operation, do you get excited? You’re not interested in credit cards— you’re interested in the insurance company. As Greenblatt notes,“ Generally, the new spinoff stock isn’t sold, it’s given to shareholders who, for the most part, were investing in the parent company’s business. Therefore, once the spinoff shares are distributed to the parent company’s shareholders, they are typically sold immediately without regard to price or fundamental value.”
This usually creates selling pressure on new spin-off shares as institutions unload their stock. Since many spin-offs are small, they have little, if any, analyst coverage. And a freshly minted spin-off is not likely to be an immediate user of WallStreet’sservices.
As Greenblatt says, the inefficiencies in the spin-off market are “practically built in the system” and should continue. Knowing this, how can we take advantage of spin-offs? Greenblatt points to three characteristics of a winning spin-off:
1. Institutions don’t want it (for reasons such as those discussed here). Sometimes very large companies spin off companies that are still quite large and attract a lot of attention. Investors are likely to find the buried treasure in smaller companies.
Insiders want the spin-off.
A previously hidden investment opportunity is uncovered by the spin-off transaction.
If you can capture a couple of these or even one of them, you stand a good chance of having found a potential spin-off winner— and outperforming the market by 10 percent or more. Heck, you could do a lot better than that if recent history is any guide.
HUNTING GROUND #4: GREENBLATT’S “MAGIC FORMULA”
Greenblatt is one of the all-time greats, even though, strangely, he is not all that well known among casual investors. Well, Greenblatt has done it again, this time in a new book titled The Little Book That Beats the Market. In it, Greenblatt divulges his “ magic formula ” — a strategy that, over the last 17 years, has returned 30.8 percent versus only 12.4 percent for the S & P 500 over that time. The basic goal of Greenblatt’s screen is to find good companies at bargain prices . To do that, Greenblatt relies on two simple clues — and both are concepts that have been used by value-minded investors for decades.
Those two simple clues are really just two ratios. All of the inputs are readily available on a company’s financial statements. The first is the return on invested capital (ROIC) and the second is earnings yield (EY).
The first is a measure of quality. When comparing businesses, all other things being equal, the higher the return on invested capital the better.
Greenblatt puts his screen to the thousands of stocks on the market today and ranks them from highest to lowest. But that’s not all. This first test measures quality. We need something else to measure cheapness. We all know Microsoft or Wal-Mart is a great business but is it cheap? Just because a business is great doesn ’ t mean its stock price will rise.
That’s where earnings yield comes in. The basic idea is to compare what a business earns to what its price is in the market (enterprise value). Enterprise value is the market cap of the stock less cash plus debt. Basically, it’s how much, in theory, you’d have to pay to buy the whole company at current market prices. Therefore, the higher the EY the better. It means more earnings for your dollar.
Greenblatt’s magic formula takes these two ratios, ROIC and EY, and screens thousands of stocks, ranking them from highest to lowest. The idea is that you should stick to buying good companies (ones that have a high return on capital). And you also want to buy those companies only at bargain prices (at prices that give you a high earnings yield).
And ideally, such a formula should be hard to stick with all the time. Otherwise, everyone would use it and the profits would soon disappear. Graham’s net-net idea was like that. Most of the net-nets were troubled companies. Investors hated these companies, which is why they were trading where they were. And it’s also why the formula was able to work. It goes against human nature. People read it, they understand it, but they can’t follow it. Like those trying to follow the tenets of a religion, the vast majority of investors find that there are just too many other temptations and they are unable to stay on the righteous path.
HUNTING GROUND #5: INSIDER BUYING
They buy their own stock with their own money only because they think the stock will go higher. Insiders sell for all kinds of reasons, but they buy for only that one. And when you consider how much of their livelihood is already tied up in their company’s fortunes, they are really making a big bet when they reach into their own pockets.
In this section, we’ll take a look at the secret world of vulture investing, or “distressed investing,” if you prefer.
A Compelling Irony: Investing in Troubled Companies Lowers Risk and Increases Returns
The investing world is full of ironies, just as an old barn is full of bats. For example, many newcomers to investing find it hard to swallow the idea that you can make a lot of money buying things nobody else seems to want. (Conversely, they find it hard to resist the fatal urge to jump in and buy what everyone else is buying.) Yet it is a nugget of investing wisdom that proves itself time and time again. Which leads us to buying bankrupt companies.
As Klarman notes, “When properly implemented, troubled-company investing may entail less risk than traditional investing, yet offer significantly higher returns.”
Yet not all is cakes and ale. As with any investment strategy, investing in troubled companies can lead to disastrous losses when done poorly.
So You Want to Be a Vulture Investor? “Vulture investor” is the name given to those who invest in bankrupt companies, after the ugly black bird with a taste for carrion. These practitioners often object to this label, because it smears them with the image of being rapacious speculators.
The process essentially creates cheap common stocks as old debt is swapped for new stock in the refurbished company. When Penn Central went down, the secret was out. The bankruptcy of the Penn Central Railroad in 1970 was a watershed event in the history of investing.
Max Heine, a German immigrant, had a passion for investing. According to Hilary Rosenberg in her indispensable book The Vulture Investors, “ Heine took advantage of the gap he saw between the price of a bankrupt company’s stocks and bonds and the value of that company’s assets.” His guiding principle is: Don’t lose money.
Heine would prove an invaluable teacher to such modern investors as Michael Price and Seth Klarman. He is a seminal figure, like a Ben Graham for vultures, yet there is little out there about him. I would bet that today ’ s investors could learn a lot from Heine.
One of the Best Distressed Investment Firms in the World: It has been called many things—a conglomerate, an investment holding company, a younger, smaller version of Berkshire Hathaway. To some, however, it is simply the best-distressed investment firm in the world. This latter view is most apt in my mind. Leucadia National (NYSE: LUK) has been around for a long time. Since 1978, the company has compounded its equity at a 20 percent annual clip. Every dollar invested in Leucadia in 1978 turned into over $ 900 today— a track record that lays waste to the return on the S&P 500 over that span, beating it 16-fold.
Leucadia relies on a handful of investment principles that stitch together the apparently unrelated investments that make up its portfolio.
Don’t overpay.
Buy companies that make products and services that people need and want and that provide them as cheaply as possible with consistently high quality. Search out candidates in out-of-favor industries that have turnaround potential. Our record as midwives to resuscitating disorganized, unprofitable, bedridden, and moribund companies are pretty good.
Earnings sheltered by net operating loss carryforwards are more valuable than earnings that are taxed by the IRS.
Pay employees for performance and expect hard work and honesty in return.
Don’t overpay.
HUNTING GROUND #6: THE EXPANDING PIZZA SLICES
some of these companies repurchase shares from time to time, such that the number of shares outstanding falls over time. It’s like sharing a pizza with fewer people. Suddenly, everybody’s slice is a little bigger.
The key caveat here is simply that for this to work, the company’s stock price should be cheap. You don’t want management wasting shareholder money buying back its own shares if they are too pricey.
James Montier’s Global Equity Strategy report for November 2006, published by the investment bank Dresdner Kleinwort. He was citing a paper by Bali, Demirtas, and Hovakimian titled “ Corporate Financing Activities and Contrarian Investment. ”
Basically, they found that you can beat the market solidly with a simple value strategy: Buy the cheapest 20 percent (by price-to-book ratio) of the market whose shares outstanding are also falling. According to Bali et al., this would have given you a 5.5 percent edge per annum over the years they studied (1972 to 2002)
SUMMING UP: YOUR GENERAL GUIDE TO FINDING GREAT HUNTING GROUNDS
Now that you’ve got lots of places to look for names, you should have no trouble finding candidates to work on. In fact, you’ll probably have lots more names than you know what to do with at first. That’s okay because once you start to work through them, you’ll see the same names pop up often. After you’ve been doing this for a while and you’ve checked out a lot of names, each of these hunting grounds will yield only a few new names for you each quarter or month. It gets much more manageable over time.
Excerpts and Learning from Articles/Blogs
1) Learning from Julian Robertson about Investing
“Smart idea, grounded on exhaustive research, followed by a big bet.”
There is profit for an investor in going to where the competition is weak.
Competing in markets that are less well researched gives an investor who does their research an advantage.
Charlie Munger was once asked who he was most thankful for in all his life. He answered that he was as most thankful for his wife Nancy’s previous husband. When asked why this was true he said: “Because he was a drunk. You need to make sure the competition is weak.”
Warren Buffett makes the point that the way to beat Bobbie Fisher is to play him at something other than chess
When the right entry point is found in terms of price, an investor can make a mistake and still come out OK financially.
Someone can be a great analyst and yet a lousy trigger puller. Successful trigger pulling requires psychological control since most investing mistakes are emotional rather than analytical.
Warren Buffett on Gold 👇👇
Sometimes the world changes so much that it is time to either take a break or hang up your cleats. Druckenmiller and others decided to mostly retire when they saw that their methods were no longer working. In 1969, Warren Buffett wrote a letter to his partners saying that he was “unable to find any bargains in the current market,” and he began liquidating his portfolio. That situation of course changed and Warren Buffett emerged with a new competitive weapon in the form of the permanent capital of a corporation rather than the panicky capital of a partnership.
2) Bill Ackman’s Letter To Shareholders
Investors in funds generally commit more capital when funds are generating strong absolute performance. During the ebullient market which preceded this year’s decline, investors committed more capital to funds which put the money to work at higher valuations. Investments at higher valuations are destined to generate lower returns.
Bill Ackman’s View on Music Streaming (Not a stock recommendation)
Bill Ackman’s View on QSR (Not a stock recommendation)
3) Why Do Investors Fail?
Lack of knowledge. This process of digestion would entail multiple times reading the book and trying to find where this knowledge is applicable while investing. So reading and re-reading are important. I would like to put up a list of good books I found very useful. 1. One up on wall street by Peter Lynch. 2. Five rules for successful investing by Pat Dorsey. 3. How to make money in stocks by William O Neil. 4. Zebra in Lion country by Ralph Vanger. 5. The Next Apple by Ivayly Ivanov. 6. Minervini books if you are into momentum investing.
Not knowing yourself as an investor. It’s difficult for investors to practice all investment styles at the same time. Over time, people do tend to evolve as investors.
Looking at bits and pieces. A lot of investors get stuck with only a few pieces of the puzzle while analyzing a company and in the process miss the complete picture, or the big picture.
Having preconceived notions.
Over-analysis. Many people tend to analyze companies to such an extent that it paralyzes them in terms of decision-making. They get lost in a lot of irrelevant details. The idea should be to have a checklist of points in order of importance/relevance and take a call.
Execution. A lot of people make beautiful write-ups on companies with all the necessary details and still cannot pull the trigger when it comes to buying…
Lack of Flexibility. Some investors are absolutely rigid in their views and their beliefs. A fundamental example is someone who keeps believing that the company is going to deliver in spite of many poor quarters and unacceptable explanations by management.
Losing balance and poise at precisely the wrong time. We often have to avoid getting scared out of our positions. Stocks often correct 10-20% of our purchase price without any rhyme or reason.
Lack of independent thinking. A lot of investors try to follow what XYZ or ABC investor has bought and try to base their decisions on these mundane things. While analyzing a company, we should have our own template and take a call based on that.
And most important of all, have faith in the ability of investments to create serious wealth. A
At the end of all the above learnings, the most important thing is to put in enough money so that serious wealth is created
4) The Attention Span. "Eight Investing Gems."
5) SPIVA: the evidence against active funds
Small Video Clips
Rakesh Jhunjhunwala-5 key Multibagger Lessons From the Legend
How and Why S Naren invested in Telecom and Metals when no one is ready to look into those sectors | S Naren (9:03 to 12:47)
Selling at Top/ Peak Valuation | Samir Arora (21:34 to 23:480)
Why buying cheap companies in India is not a value Investing and why it is not working | Rajeev Thakkar (01:26:40 to 01:28:26)
What is true Value Investing | S Naren (01:03:27 To 01:06:02)
Quality Investing with Margin of Safety (Rajeev Thakkar on Saurabh Mukherjea's Approach: BAAP) | Rajeev Thakkar (01:38:09 to 01:40:50)
6 Great Speech with a timestamp from marathon 9+ Hour MegaConclave
S Naren Speech Topic - Value Investing (1:00:33 to 01:21:10)
Speaker - Rajeev Thakkar Topic - Value Investing (01:22:15 to 01:43:08)
Speaker - Vivek Kaul Topic - Investing Risks (A very good session) (04:12:21 to 04:30:13)
Speaker - Sandeep Parekh Topic - Are Mutual Fund over-regulated? (5:59:06 to 06:29:09)
Speaker - Sandip Tondon (CEO Of Quant MF) Topic - Quantitative Investing (06:30:16 to 06:58:56)
Speaker - Vijay Kedia Topic - Investment Masterclass (Excellent Must watch Session) (08:35:11 to 09:17:12)