Mohnish should be the prototype for fund managers to emulate when it comes to treating their investors. Both his fee structure, his personal investments in his funds and the structure of his annual meeting.
Notes from the Huntington Beach portion of the annual meeting Q&A session:
Q: I am a value investor by night and that's why I came here. My questions are regarding a couple of investments I noticed you made some time back. Can you talk about how you assessed the downside on Wells Fargo (WFC)? I believe you bought it around $8or so, but I don't know, that's my guess. Were you comfortable making an investment even through, when I looked at the report I saw SIV's of about 60 billion?
The second question is regarding American Express (AXP). Did you do an assessment and decide not to buy American Express when it was at its all time lows and can you walk us through the reasoning for that?
A: Thanks. I generally don't discuss current holdings in the fund. We have an investment in Wells Fargo. We did make it around the time it hit its low at about $10 a share.
I would say a couple of things. One is I made a number of bets in the financial services space at the time. Wells Fargo was one of them. It was made as a basket. So we didn't put a whole lot into it because of the concerns. Anytime you have a leveraged financial institution where the loans out are 10X or 15X of the equity, there is a chance of going to zero.
But specifically with Wells, I felt that when I looked at the spectrum of different banks, Wells is as close to vanilla as you can get amongst the large banks. It's way different from Citi (c), JP Morgan (JPM) or Bank of America (BAC). I would say you can think of Wells Fargo as a community bank. In fact they operate very much like a community bank in the communities, but they have large scale. And they've demonstrated a very strong degree of prudence in their lending.
Wells was the only bank we made an investment in during that time. We made investments in other financial institutions but they weren't banks. That was a driver behind the Wells investment. It was very distressed, and of course we also recognized that the leveraged nature of financial institutions means that you ought to tread carefully.
For the second question, I've looked at AmEx many times. It's probably in hindsight a mistake to have skipped out on AmEx. I have to go back and look at what my reasoning was, but I looked at Wells and AmEx at about the same time. They were at about the same price at the $10, $12 price range. The bet I made to myself at the time was I said, "I bet Wells Fargo goes up faster than AmEx does." And of course I would have lost that bet because AmEx went up faster. But it was a close call.
The concern with AmEx was that there were large amounts of receivables out to people on a kind of signature basis. And you had an economy that was falling apart. So the big question that I was having a hard time wrapping my arms around with AmEx was, "What's the worst case?"
With Wells, the worst case was a little bit easier to put my arms around because they had picked up Wachovia. That's one of the best acquisitions any of these guys did during the crisis. When they picked up Wachovia an unusual quirk happened with Wells. One of the bills that Congress passed allowed the deductibility of losses at Wells for Wachovia. Wells was able to very aggressively write off those losses in very aggressive time frames. The tax benefits of that deal was compelling.
Also, Citi was going to buy Wachovia. The deal was almost done and Wells came in. The difference was that Wells had earnings against which they could write off the Wachovia losses which Citi didn't have. Citi had their own losses to deal with.
Q: My question is about the macro environment and how that's affected your decision making, if at all. In the era today where the developed economies like the US and Europe are flat and the emergent economies are booming, has that affected your decision making process in any way?
A: That's a good question and it's definitely driven a lot of the decisions. We can say with high probability that over the next 20-30 years, there will be at least 100 new cities across the globe that don't exist today and they will have at least 5 million people each. Something like 100 New Yorks or 100 Dallases coming up in 30 years has very major impacts on wealth creation. Those 100 cities aren't coming up in the US or in Europe. They're coming up mostly in the East, some in Brazil and some even in Africa.
The way I look at it is I know with high probability that those cities are going to get built, and you cannot build cities without steel. You cannot have a large-scale urbanization without an increase in protein consumption. It's unlikely especially in China. If you have an increase in the cities in China, they love their protein as they move into the cities. If you look at protein consumption in China and India, both have a decent amount of land but they are stretched, especially China, in terms of fresh water. Latin America has huge amounts of very cheap, great land and lots of fresh water. My general sense is that Latin America becomes a breadbasket for the Chinese and basically that's where the soy will come from long term.
I think about these 100 cities getting built and what kind of things they need in the 100 cities. Then I start playing back and thinking about where are the choke points? What types of things become toll bridges that you have to cross to build those cities. One of those toll bridges, in fact one of the reasons I was so interested in the Teck investment, is metallurgical coal. Basically China has a deficit of metallurgical coal – they don't have enough met coal. There are some new processes that are at the fringes but generally you cannot make steel without metallurgical coal. T
he Tecks of the world which have these very large met coal assets (which is why they bought Fording) become a toll bridge. In fact, that's why China Investment Corp. invested in it. They are trying to secure their met coal needs. And in fact that's why you see now even with potash why the Chinese have a very deep interest, extremely deep interest in who owns potash. Potash is critical to protein production.
Another example is copper. You need copper to build those cities, but there's no choke point on copper. Copper's produced and shipped all over the world. But certain things are choke points. Iron ore is a choke point. Most of the seaborne iron ore trade is from Australia, Brazil and India. If you take those three countries out, you don't have iron ore trade.
If you look at something like potash, there are eight or ten countries that control most of the exports of potash so there are choke points in some of this. Another concern is that if I know China's going to grow a lot, it's very hard to invest directly into Chinese companies and in China. I mentioned at the last meeting, that the typical Chinese company has three sets of books. One set for the wife, one for the mistress and one for the government.
You don't know what set of books you're looking at, and that's a problem. Those are some of the macro overlays that I'm looking at. In general, I've more recently started thinking that I ought to understand more about Japan. One of the reasons to understand more about Japan is that first of all we have gone through a long period, more than 30 years, where the index hasn't moved. And in fact it's flat lined. And the second reason is that Japan has a declining population. If I were to invest in a Japanese company that relies on Japanese consumption, there probably won't be any tail winds in terms of growth. But there are lots of Japanese companies where most of the infrastructure may be outside of Japan, and most of the consumers might be outside Japan. Those will be more interesting.
This is one of the areas I want to start exploring. Of course one of the issues that undoes Japan is that there are lots of governance problems. It's very hard to get into Japanese businesses. For example, there's a ton of Japanese businesses that trade below cash or which trade below current assets. But you can't get to the cash, and that becomes a problem.
Notes from the Huntington Beach portion of the annual meeting Q&A session:
Q: I am a value investor by night and that's why I came here. My questions are regarding a couple of investments I noticed you made some time back. Can you talk about how you assessed the downside on Wells Fargo (WFC)? I believe you bought it around $8or so, but I don't know, that's my guess. Were you comfortable making an investment even through, when I looked at the report I saw SIV's of about 60 billion?
The second question is regarding American Express (AXP). Did you do an assessment and decide not to buy American Express when it was at its all time lows and can you walk us through the reasoning for that?
A: Thanks. I generally don't discuss current holdings in the fund. We have an investment in Wells Fargo. We did make it around the time it hit its low at about $10 a share.
I would say a couple of things. One is I made a number of bets in the financial services space at the time. Wells Fargo was one of them. It was made as a basket. So we didn't put a whole lot into it because of the concerns. Anytime you have a leveraged financial institution where the loans out are 10X or 15X of the equity, there is a chance of going to zero.
But specifically with Wells, I felt that when I looked at the spectrum of different banks, Wells is as close to vanilla as you can get amongst the large banks. It's way different from Citi (c), JP Morgan (JPM) or Bank of America (BAC). I would say you can think of Wells Fargo as a community bank. In fact they operate very much like a community bank in the communities, but they have large scale. And they've demonstrated a very strong degree of prudence in their lending.
Wells was the only bank we made an investment in during that time. We made investments in other financial institutions but they weren't banks. That was a driver behind the Wells investment. It was very distressed, and of course we also recognized that the leveraged nature of financial institutions means that you ought to tread carefully.
For the second question, I've looked at AmEx many times. It's probably in hindsight a mistake to have skipped out on AmEx. I have to go back and look at what my reasoning was, but I looked at Wells and AmEx at about the same time. They were at about the same price at the $10, $12 price range. The bet I made to myself at the time was I said, "I bet Wells Fargo goes up faster than AmEx does." And of course I would have lost that bet because AmEx went up faster. But it was a close call.
The concern with AmEx was that there were large amounts of receivables out to people on a kind of signature basis. And you had an economy that was falling apart. So the big question that I was having a hard time wrapping my arms around with AmEx was, "What's the worst case?"
With Wells, the worst case was a little bit easier to put my arms around because they had picked up Wachovia. That's one of the best acquisitions any of these guys did during the crisis. When they picked up Wachovia an unusual quirk happened with Wells. One of the bills that Congress passed allowed the deductibility of losses at Wells for Wachovia. Wells was able to very aggressively write off those losses in very aggressive time frames. The tax benefits of that deal was compelling.
Also, Citi was going to buy Wachovia. The deal was almost done and Wells came in. The difference was that Wells had earnings against which they could write off the Wachovia losses which Citi didn't have. Citi had their own losses to deal with.
Q: My question is about the macro environment and how that's affected your decision making, if at all. In the era today where the developed economies like the US and Europe are flat and the emergent economies are booming, has that affected your decision making process in any way?
A: That's a good question and it's definitely driven a lot of the decisions. We can say with high probability that over the next 20-30 years, there will be at least 100 new cities across the globe that don't exist today and they will have at least 5 million people each. Something like 100 New Yorks or 100 Dallases coming up in 30 years has very major impacts on wealth creation. Those 100 cities aren't coming up in the US or in Europe. They're coming up mostly in the East, some in Brazil and some even in Africa.
The way I look at it is I know with high probability that those cities are going to get built, and you cannot build cities without steel. You cannot have a large-scale urbanization without an increase in protein consumption. It's unlikely especially in China. If you have an increase in the cities in China, they love their protein as they move into the cities. If you look at protein consumption in China and India, both have a decent amount of land but they are stretched, especially China, in terms of fresh water. Latin America has huge amounts of very cheap, great land and lots of fresh water. My general sense is that Latin America becomes a breadbasket for the Chinese and basically that's where the soy will come from long term.
I think about these 100 cities getting built and what kind of things they need in the 100 cities. Then I start playing back and thinking about where are the choke points? What types of things become toll bridges that you have to cross to build those cities. One of those toll bridges, in fact one of the reasons I was so interested in the Teck investment, is metallurgical coal. Basically China has a deficit of metallurgical coal – they don't have enough met coal. There are some new processes that are at the fringes but generally you cannot make steel without metallurgical coal. T
he Tecks of the world which have these very large met coal assets (which is why they bought Fording) become a toll bridge. In fact, that's why China Investment Corp. invested in it. They are trying to secure their met coal needs. And in fact that's why you see now even with potash why the Chinese have a very deep interest, extremely deep interest in who owns potash. Potash is critical to protein production.
Another example is copper. You need copper to build those cities, but there's no choke point on copper. Copper's produced and shipped all over the world. But certain things are choke points. Iron ore is a choke point. Most of the seaborne iron ore trade is from Australia, Brazil and India. If you take those three countries out, you don't have iron ore trade.
If you look at something like potash, there are eight or ten countries that control most of the exports of potash so there are choke points in some of this. Another concern is that if I know China's going to grow a lot, it's very hard to invest directly into Chinese companies and in China. I mentioned at the last meeting, that the typical Chinese company has three sets of books. One set for the wife, one for the mistress and one for the government.
You don't know what set of books you're looking at, and that's a problem. Those are some of the macro overlays that I'm looking at. In general, I've more recently started thinking that I ought to understand more about Japan. One of the reasons to understand more about Japan is that first of all we have gone through a long period, more than 30 years, where the index hasn't moved. And in fact it's flat lined. And the second reason is that Japan has a declining population. If I were to invest in a Japanese company that relies on Japanese consumption, there probably won't be any tail winds in terms of growth. But there are lots of Japanese companies where most of the infrastructure may be outside of Japan, and most of the consumers might be outside Japan. Those will be more interesting.
This is one of the areas I want to start exploring. Of course one of the issues that undoes Japan is that there are lots of governance problems. It's very hard to get into Japanese businesses. For example, there's a ton of Japanese businesses that trade below cash or which trade below current assets. But you can't get to the cash, and that becomes a problem.
