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Invest with Style

August 30, 2011
Geoff Gannon

Geoff Gannon

414 followers
Someone who reads my blog sent me this email:

Geoff,

Apart from reading books and doing analysis... What else I can do to become a better investor?


That’s a great question. I’ve seen a lot of new investors screw this up. They’re eager little learning machines at first. Reading everything they can get their hands on. Taking sides. Picking heroes. Graham or Fisher? Plato or Aristotle? They know.

But then they have trouble putting it all together. They can’t move from theory to practice. Andrew Schenck has a great blog post on this topic. About getting stuck between reading everything about value investing and actually applying it all.

A lot of gung ho new value investors fall into this trap.

More than anything though, they simply fail to be different. That’s the biggest problem I see with most well read investors. Without realizing it, their ideas tend to clump up in exactly the same place as every other value investor. They know everything. But they still can’t stand out in the crowd.

You wouldn’t think flair is useful to a value investor. But it’s important to see things your own way. To have a unique take on the investment universe. To sift through thousands and thousands of options without generating a wish list that matches everybody else’s.

Somewhat controversially I call that unique take "style."

Yes. Silly as it sounds — I believe investors need style.

It’s what separates great investors from good investors.

We’ll talk about style later.

First, let’s talk about how investors start growing their own style — whether they want to or not.

Have Skin in the Game

Buy stocks you pick yourself. Not mutual funds. Not index funds. Specific stocks you pick. Stocks you can only blame yourself for if they lose you money.

This seems like such an obvious step that it isn’t worth mentioning. But you’d be surprised how many people call themselves investors and still hide behind owning mutual funds or buying a stock because they heard Bruce Berkowitz or David Winters or Warren Buffett owns the stock. There’s nothing wrong with coattail investing. I do it myself when I think someone who owns the stock can be an activist where I can’t. That kind of coattail investing is fine.

What I’m talking about is outsourcing the hard work. The hard work isn’t just analyzing a company and handicapping the situation. It’s putting your own money — and your own ego — on the line. Having no one to blame but yourself.

A lot of new investors get stuck on this part. They don’t make the transition. They keep reading books about value investing, listening to interviews with great investors, and checking out blogs like mine.

That’s fine. As long as you are spending even more time hunting down promising bargains and buying them for yourself.

You have to have skin in the game.

You have to risk taking a self-inflicted blow to your money and your mind. Because, ultimately, that’s what investors do. So it’s better to start now.

Some of these fence sitting newbie investors think they are being reasonable, cautious and thorough. They’re really being cowardly. If you aren’t confident in your investing skills yet — and you feel you shouldn’t be investing all your money yourself — then you need to open a separate account for your own stock picks. You can leave half your money with Berkowitz in one account and invest the other half yourself. But don’t let the two portfolios appear on the same statement. That just gives you a way to muddy the waters. And rationalize your mistakes.

The most important part of investing is trying, failing, experimenting, and adapting on your own. The earlier you get started down this path and the more time you spend figuring out your own unique process – the better an investor you will become.

Great investors invest with style. Their own style. Try to find yours early on.

You do this by actually investing your own money in your own stock picks. And by thinking about your own thinking. Watch yourself work under real world stress. And be brutally honest about what you see.

Keep an Investment Diary

Take 10 minutes every day at the exact same time and just write down whatever thoughts you have. Stocks you are looking at. Predictions. Hopes. Fears. Put it all on the page at the end of each day. Write whether or not you feel like writing. Write every day the markets are open.

Then keep it. Never get rid of anything you put in that journal. Months from now and years from now, your memory of what you were feeling and what you read in that journal won't match. I guarantee it. You'll remember wrong. And you may not recognize the person who wrote those things. You'll have changed as an investor without realizing it.

Keep an Investment Bucket List

If you had to put your family’s money into five stocks before you died, which five stocks would they be?

Study companies regardless of their stock price. Keep a list of your favorite companies.

Imagine the following limitations:

· You have to invest all of your family's net worth in stocks.

· You can never sell a stock once you buy it.

· You can only buy five stocks between now and the day you die.

Forget about price. Look at all companies of all sizes around the globe. Which five companies would make the list? Keep the list updated. You can't add a new company unless you bump off an old company. New ideas have to be better than old ideas.

It’s amazing how quickly this exercise will force you to distill your thinking.

You may even notice a specific style running through those five names.

I promise you, you'll never forget the companies on your bucket list. That’s why today’s price doesn’t matter. If the stocks on your list sell at 40 times earnings today, in 2016 or 2021 or 2026 they might sell at 14 times or 4 times. You don't know. But you'll be prepared to buy them when they come down to your price.

I've made a few great investments in my life. In the majority of those cases, I was familiar with the company years before I bought their stock.

We recently chatted about Nintendo (NTDOY). Well, the last time I bought a video game stock was in 2001. And that was adding to a position I already owned. So, 10 years passed without me thinking a video game stock was worth buying. And I liked the industry a lot. I was very eager to buy a video game stock. But sometimes prices aren't right for 10 years. That doesn't mean you should stop studying the merchandise. Someday it will go on sale again.

That’s what the bucket list is for.

Tom Murphy – CEO of Capital Cities when Warren Buffett was a big investor in the company – used to keep a pad of paper on his desk with the names of companies he’d like to acquire.

This is your version of that list.

Practice

You need a lot of real world practice.

Here's a non-investing example. I write three hours a day, 365 days a year whether I feel like it or not. That's 1,100 hours a year. If I just wrote when I felt like it, I might write 100 hours a year. People wonder what separates a decent writer from a terrible writer. It's the extra 1,000 hours.

Everybody wants a secret. The only secret is that there is no secret. My teachers never told me becoming a better writer was about learning to write when you didn't want to.

Well, I’m telling you the secret they never told me.

Work more.

When authors list Warren Buffett's investing secrets they don't mention that he read every book on investing in the Omaha public library by the age of 11. That he owned stocks in high school. That he took a train down to Washington and knocked on GEICO's door. That he went to annual meetings of companies he knew Graham owned stock in even though he was only a student and Graham himself wasn’t going. They don't mention that Warren Buffett worked harder than anyone else. That he always made an absurd effort.

And when the same authors list Ben Graham's investing secrets, they fail to mention this one:

"I took my job of self-education very seriously. I got myself a small looseleaf notebook, and on each page I wrote the salient data about a given bond issue in convenient form to be memorized. After all these years, I can still remember the appearance of that black notebook and some of the entries in it. The first was 'Atchison, Topeka, & Santa Fe, General 4s, due 1995: 150 mil.' There must have been a hundred different issues entered; I memorized their size, interest, maturity date, and order of lien. Why I wanted to memorize facts that could be readily obtained from manuals or my notebook I am at a loss to explain... I had become something of a walking Railroad Bond Manual."

Graham was a 20-year-old bond salesman at the time. There was no reason for him to know those facts. But he probably did something nobody else on Wall Street had done.

Which brings me to the two things Buffett and Graham did that you can do too:

1. Work an absurd amount.

2. Become an expert .

Lots of people do a lot of writing related work. They start projects. Think about things. Talk about writing. Read about writing. Read other people's writing. Few people actually have their butt in chair and fingers on the keys for 1,000 hours a year. If you wanted to become a better writer, you'd start by making sure you were one of those few.

Lots of people do a lot of investing related work. Few read a 10-K a day. Why not be one of those few?

Become an expert. You've sampled some different stocks now. Studied them. You've had a taste of Indian stocks, U.S. stocks, Japanese stocks, micro caps, big caps, net-nets, hidden champions, etc. What interested you? What stock was the most fun to research? What did you think you really "got"? What area was that stock in? What kind of analysis — competitive analysis, quantitative analysis, sum of the parts, etc. did you do?

Think about what area you might want to learn more about.

Then become an expert in that area.

Pretty soon, you'll develop your own investing style.

Invest with Style

You'll have a circle of competence to work from.

Two of my favorite books are "A Christmas Carol" and "Animal Farm." Think about these two books for a second. Where do stores shelve them? What genres are they in?

In both cases, it’s actually very easy to see which genre they were written in. A Christmas Carol is a ghost story. Animal Farm is a fairy tale. There’s really no disputing those facts. Although if you Googled either book you’re unlikely to find them described that way.

Why?

Because of who wrote them. Genre is not style. It’s more personal than that.

For most people, the defining mark of "A Christmas Carol" is its sentiment. And the defining mark of "Animal Farm" is its politics.

Well, that’s just a roundabout way of saying the defining mark of each book is its author.

Dickens’s style was sentiment. And Orwell’s style was politics.

That doesn’t make A Christmas Carol any less of a ghost story. Or Animal Farm any less of a fairy tale. It just adds style.

The distinction between genre and style is ignored in most discussion of investors great and small.

Are you a value investor? Or a growth investor?

That’s genre.

Genre is how a specific stock fits in an overarching top down tradition.

Style is how a specific stock fits into your personal system. The way you think.

Do you buy turnarounds? Hidden champions? Wide moats? Brands? Companies with surplus cash? Family controlled companies? Food and beverage companies? Companies with mind share? With cutting edge tech? With a lack of change? Young companies? Old companies? Low cost operators? Stocks in industries with little price competition? Stocks with an activist banging at the gates?

For a blog with style, read Variant Perceptions. All about turnarounds. How about net-nets? Try Cheap Stocks. And notice that Greenbackd doesn’t have exactly the same style as Cheap Stocks even though he’s covering pretty much the exact same ground. Finally, check out The Interactive Investor Blog. Definitely a value investor. But definitely not the same style as Variant Perceptions, right? You can tell the two blogs apart instantly. Same genre. Different style.

You’ll find that even if you decide to become an expert on net-nets, you won’t like all net-nets equally. Net-net retailers are very different from net-nets with lots of surplus cash. You don’t analyze them the same way. And very few people like the two groups equally. Personally, I avoid net-net retailers and scoop up all the consistently profitable net-nets with piles of cash.

Why?

Style.

I don’t have any evidence that net-nets with histories of good returns on capital, high free cash flow margins, lots of surplus cash, and almost no liabilities outperform retail net-nets. In fact, some retail net-nets clearly end up being among the best performing net-nets in any year. Sure, this might be because some retail net-nets succeed terrifically while others end up in bankruptcy. Regardless, buying retail net-nets sounds like a winning strategy as long as you diversify.

So why don’t I buy them?

Style. Personal preference. Knowing myself. My process. What I’m comfortable with. And where my circle of competence ends.

I’m an awful judge of retailers. Check out my investment in Barnes & Noble (BKS) for the gory proof. People send me emails asking my advice on retail stocks all the time. Mostly, I just tell them I’m not the guy to ask. I’d start with non-retail net-nets if I was them. It’s easier to find a couple safe net-nets outside the retail space.

None of this has anything to do with the superiority of one approach over another. It only has to do with my own skills and my own process.

Why didn’t Orwell write the ghost story and Dickens write the fairy tale?

Why didn’t Fisher buy Northern Pipeline and Graham buy Motorola?

Style.

If you really want to understand what I’m talking about when I tell you to “invest with style”, just watch an interview — any interview — with Tom Russo. He did a good one with Consuelo Mack recently. And you can also find three lectures he gave over at Columbia.

Tom Russo is a buy and hold investor. He is a global investor. He likes brands. He likes food and beverage companies. And he likes family controlled companies. He wants a high return on capital and the ability to reinvest that capital for many, many years to come. He cares about price. But he’s a lot more flexible on price than most value investors.

That’s style.

Tom Russo is a value investor. But he’s got a style all his own. A style that’s unique even among value investors. He’s got a certain way of sorting the universe of available stocks that is different from everybody else.

That’s what you need.

And I think that’s really what Warren Buffett is talking about when he says “circle of competence”.

He’s talking style.

Warren Buffett’s style is interesting. He’s sometimes called a big cap growth investor. Remember, that’s genre not style. Some computer is counting up the price-to-earnings, price-to-tangible book, growth rate, and other metrics on the stocks Buffett buys and saying that constitutes Buffett’s style. It doesn’t. The same thing would happen if you asked a computer to analyze Animal Farm. The computer would say: “Well, the language is pretty plain. There are talking animals. And it’s short. So, it’s got to be a fairy tale.” That’s genre. Not style. Any checklist a computer can run is unlikely to see the principle operating in the background. The real reason behind a story. The real reason behind a stock purchase.

But we humans think we see Buffett’s real reason right away.

Think about Posco (PKX), Burlington Northern, and Bank of America (BAC).

Would you have guessed Buffett was going to buy those stocks ahead of time?

Maybe. Maybe not.

I’m leaning towards not.

But didn’t you understand the purchases after he made them? Didn’t they suddenly seem to fit his style?

Whether or not these were value stocks — they were Buffett stocks.

That’s style.

That’s what you need.

So stop reading.

Start working.

And grow your own style.

Follow Geoff at Gannon On Investing

About the author:

Geoff Gannon
Geoff Gannon


Rating: 4.0/5 (41 votes)

Comments

noblepaladin
Noblepaladin - 3 years ago
Completely agree! It is like a huge football fan that knows every tiny detail about the game. He knows exactly what is going on, what the players are doing right, what they are doing wrong. But if you put him on the field, he can't throw the ball cause he never did it in his life before. It is one thing to know what you need to do, but it is another to execute. Only way to learn how to execute is to actually play the game, or in this case, actually invest your own money.

Many value investors talk about behavioral finance, are you capable of navigating the minefield of mental traps? Can you develop confidence in your own thesis without the confirmation from another guru? Do you even like digging through 10Ks. Most investing "fans" do not, they like to follow the investing world and they probably do stomp the market averages investing with their favorite "teams" (Buffett's Berkshire Hathaway, Berkowitz's Fairholme Fund, PIMCO's Total Return Fund, etc). And that is perfectly fine too. For most people that is the ideal way to invest because they personality and lifestyle isn't suited for securities analysis. If you are this type of investor, it is very important to know. Some people think they are a guru because they made huge returns in Berkshire, then they start picking stocks themselves. It's like a football fan stepping onto the field to play against a professional NFL linebacker.
jayb718
Jayb718 - 3 years ago
Great article!
tliptay
Tliptay - 3 years ago
Spot on.
rijue
Rijue - 3 years ago


Excellent stuff.
cubsfan
Cubsfan premium member - 3 years ago
A very different and insightful article. Great perspective.
sontungdt7
Sontungdt7 - 3 years ago
Thank for great article.

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