“The research task does not end with the discovery of an apparent bargain. It is incumbent on investors to try to find out why the bargain has become available. If in 1990 you were looking for an ordinary, four-bedroom colonial home on a quarter acre in the Boston suburbs, you should have been prepared to pay at least $300,000. If you learned of one available for $150,000, your first reaction would not have been, "What a great bargain!" but, "What's wrong with it?"
The same healthy skepticism applies to the stock market. A bargain should be inspected and reinspected for possible flaws. Irrational or indifferent selling alone may have made it cheap, but there may be more fundamental reasons for the depressed price. Perhaps there are contingent liabilities or pending litigation that you are unaware of. Maybe a competitor is preparing to introduce a superior product.”
Margin of Safety - Seth Klarman– Page 153-154
I have been thoroughly enjoying reading Seth Klarman’s book, Margin of Safety, the past little while. When I read this passage my mind instantly went to ATPG, and all the backlash regarding my comments on the stock. Almost all comments and articles highlight the huge value in ATPG while completely ignoring any potential issues.
On the flipside, hardly any analysis was spent examining or questioning why the shares sell for such a low price. No discussion of any problems going forward that could significantly impact the company. Many pretended like their leverage was not a big deal. One speculator even tried telling me that 12% isn’t a high interest rate. Instead the analysis consisted of reading ATPG’s over-hyped corporate presentation.
Where was the critical analysis of ATPG? I dared to mention a few issues I saw in their 10-K and it was as if I was run over by a bus carrying ATPG shareholders. Standing alone isn’t hard it just takes the right personality. As Buffett (or Munger) has said, “you’re neither right or wrong because the crowd agrees with you, you’re right or wrong because you’re facts and your reasoning is right.” This is where a guy like Prem Watsa excels. It is also why the “magic formula” works. The “magic formula” removes the emotional aspects from investing and solely focuses on the numbers.
Lastly, perhaps one of the biggest problems many investors make is looking only valuing the upside. They only see dollar signs. This is completely backwards from the value investing. I have heard it said that Warren Buffett’s first criterion is to thoroughly understand the downside risks. Once that hurdle is passed Buffett must be able to understand the company and it’s economic advantage. Lastly, and once the second criteria is met, Buffett determines what the company is roughly worth. If the market price then offers some margin of safety from his best approximation of it’s intrinsic value, he makes the purchase. He shoots for a 15% “owner earnings” yield as a minimum.
Now that process isn’t overly hard, it only requires patients and an analytical mind. Generally outstanding companies don’t sell that cheap, so you must also be comfortable with doing nothing for long periods of time.
I know many investors believe Buffett avoids technology because he’s a technophobe. That is not true. He avoids technology because of the rapid change of technology (downside risk). As he has said time and time again, change is the enemy of the investor. You cannot accurately make any predictions regarding the future of technology (other than their will be more). This is why many technology companies have huge amounts of cash and no debt. Apple (AAPL, Financial) would be a great example. They need to constantly reinvent themselves in order to stay ahead of the competition. The creativity of Steve Jobs definitely helps. If I asked what Apple will look like in 20 years from now, most everyone would have a different opinion. What would you say? Perhaps only Buffett and Munger are honest enough with themselves to realize they don't have a clue.
On the flip side, a boring consumer products company that has been doing the same thing for 100 years is much easier to make predictions about. That not to say there is no risk in those types of businesses, but change will always be much less dramatic.
The same healthy skepticism applies to the stock market. A bargain should be inspected and reinspected for possible flaws. Irrational or indifferent selling alone may have made it cheap, but there may be more fundamental reasons for the depressed price. Perhaps there are contingent liabilities or pending litigation that you are unaware of. Maybe a competitor is preparing to introduce a superior product.”
Margin of Safety - Seth Klarman– Page 153-154
I have been thoroughly enjoying reading Seth Klarman’s book, Margin of Safety, the past little while. When I read this passage my mind instantly went to ATPG, and all the backlash regarding my comments on the stock. Almost all comments and articles highlight the huge value in ATPG while completely ignoring any potential issues.
On the flipside, hardly any analysis was spent examining or questioning why the shares sell for such a low price. No discussion of any problems going forward that could significantly impact the company. Many pretended like their leverage was not a big deal. One speculator even tried telling me that 12% isn’t a high interest rate. Instead the analysis consisted of reading ATPG’s over-hyped corporate presentation.
Where was the critical analysis of ATPG? I dared to mention a few issues I saw in their 10-K and it was as if I was run over by a bus carrying ATPG shareholders. Standing alone isn’t hard it just takes the right personality. As Buffett (or Munger) has said, “you’re neither right or wrong because the crowd agrees with you, you’re right or wrong because you’re facts and your reasoning is right.” This is where a guy like Prem Watsa excels. It is also why the “magic formula” works. The “magic formula” removes the emotional aspects from investing and solely focuses on the numbers.
Lastly, perhaps one of the biggest problems many investors make is looking only valuing the upside. They only see dollar signs. This is completely backwards from the value investing. I have heard it said that Warren Buffett’s first criterion is to thoroughly understand the downside risks. Once that hurdle is passed Buffett must be able to understand the company and it’s economic advantage. Lastly, and once the second criteria is met, Buffett determines what the company is roughly worth. If the market price then offers some margin of safety from his best approximation of it’s intrinsic value, he makes the purchase. He shoots for a 15% “owner earnings” yield as a minimum.
Now that process isn’t overly hard, it only requires patients and an analytical mind. Generally outstanding companies don’t sell that cheap, so you must also be comfortable with doing nothing for long periods of time.
I know many investors believe Buffett avoids technology because he’s a technophobe. That is not true. He avoids technology because of the rapid change of technology (downside risk). As he has said time and time again, change is the enemy of the investor. You cannot accurately make any predictions regarding the future of technology (other than their will be more). This is why many technology companies have huge amounts of cash and no debt. Apple (AAPL, Financial) would be a great example. They need to constantly reinvent themselves in order to stay ahead of the competition. The creativity of Steve Jobs definitely helps. If I asked what Apple will look like in 20 years from now, most everyone would have a different opinion. What would you say? Perhaps only Buffett and Munger are honest enough with themselves to realize they don't have a clue.
On the flip side, a boring consumer products company that has been doing the same thing for 100 years is much easier to make predictions about. That not to say there is no risk in those types of businesses, but change will always be much less dramatic.
