Someone who reads my articles asked me this question:
Hi again Geoff,
âŚI am in a position of having a lot of capital not invested. I am about 30% invested, 70% in cash. I only want to invest in equities. I don't have the time or desire to focus on Net Nets. I have a long term approach and don't want to buy and sell often. I have a high risk tolerance. I want to only own equities. Ideally, an investor would deploy cash to buy the best companies in times like 2008 when the market crashed and companies were selling off far below intrinsic values. Do you think it makes sense to wait for âblood running in the streetsâ and times when one could âbe greedy when others are fearfulâ or to just buy wonderful companies at fair or better valuations? I could be a whole lot greedier in market duress if I didn't deploy my 'lump sum' now. What would you say? What would Buffet say? What if you received a sum of money, inheritance. Should you invest when you believe you can receive 15% return on that money with X margin of safety? How much margin of safety? I was buying in August last year when Greek debt was causing selloffs, it's just easier to pull the trigger when the market seems irrational. But if you have a lump sum and then just regular monthly earnings for the next 20 years, should that lump sum wait in the hope of a market crash? Or should it just be deployed and bought BRK, bought WAT, bought BDMS, bought your next month's pick until I have about 6 high quality companies and then sit back and read annual reports?
Thanks again,
Tom
You say you have no time or desire to invest in net-nets. Thatâs fine. If you are not inclined to make those sorts of investments, you should focus on only the highest of high quality companies. And you should focus on the very long-term.
Iâll tell you a secret. There are two ways to almost guarantee satisfactory returns in the stock market. One is to buy the very cheapest stocks around. The other is to buy the very best businesses. Everybody tries to do something in between. They want to pay 13 times earnings for what they think is probably an above average company with some wind at its back for the next few years. Or they want to pay 8 times earnings for a company that â letâs face it â probably isnât above average and just might be below average. These are the two ways to get yourself in trouble. And yet itâs here that most investors spend all their time and analysis. Trying to tell the difference between what stock should have a P/E of 8 and what stock should have a P/E of 18.
Itâs not easy work. And the payoff is slim.
No. The way to get consistently good results is to adopt one of two programs â and limit yourself to only focusing on your chosen field:
1. Buy companies that are clearly selling for less than their conservatively calculated value to a private owner
2. Buy companies that will earn high returns on capital while growing quickly for many, many, many years to come
Whichever strategy works for you is the one you choose. But donât try to dabble outside of that.
And donât fool yourself about what #1 and #2 mean.
For example, I own 6 Japanese net-nets. When I say buy companies that are clearly selling for less than their conservatively calculated value to a private owner â I mean it. Every single one of those 6 Japanese net-nets (and both my American stocks when I bought them) were selling for less than the surplus cash they had. In each case, I essentially paid for the companyâs cash and got the operating business for free. And in every case, the operating business had not posted a loss in the last 10 years.
Now, you donât have to be an expert on valuation to know that a business that has earned money in 10 of the last 10 years is probably worth more than zero. Perhaps a lot more than zero. And if you buy 8 of these businesses â theyâll work out. So thatâs what I did. Not all at once. Itâs hard finding stocks that cheap â you usually donât have the good luck of getting 8 at once. But I focused on just those super obvious bargains. I didnât try to get too fancy thinking I know enough about the prospects for all sorts of different businesses. Basically, I just bought the best companies I could find that were selling for less than their cash.
Okay. But thatâs not your style. Thatâs fine. But you have to bring the same level of focus and selectivity to your investments. Have you read Phil Fisherâs Common Stocks and Uncommon Profits? If you are going to be a buy and hold investor, these are the books to read:
¡ Common Stocks and Uncommon Profits
¡ Hidden Champions of the 21st Century
¡ Built to Last, Good to Great, How the Mighty Fall, and Great By Choice
The idea here is that you should â like Warren Buffett and Charlie Munger â see yourself as a business analyst rather than a stock analyst. I know this is an odd point to stress for a value investor. But if you are heading down the path of true buy and hold investing â you must start by totally ignoring a stockâs price. That canât be part of your process. At the end of your process, you can pass on a stock because itâs too expensive today. But you have to start with the idea that you are trying to find the company you would buy if you had to put 25% of your net worth into something today and couldnât take out a dime of that money for the next 20 years.
Which company would you buy?
Now, if that company is trading at 40 times earnings today â you can pass. But if you are going to be a buy and hold investor, you shouldnât start by looking at stocks with a P/E of 14 instead of 40 and hoping youâll come across a great business. You want to start by looking for a great business and then keeping it in mind for the day when you can get it at a decent price.
Thatâs got to be your focus. Now, when you really do find a company that is so terrific in its ability to grow year after year after year for a long time â when that happens â you can buy it no matter what is happening with the market. You may take ugly losses for 1 to 3 years or something. But, if you picked a Phil Fisher stock right â youâll make money in years 4 and 5 and 10.
Now, if youâre the kind of person who will sell during those first 3 years when this stock â along with the rest of the market â was going down, then you shouldnât buy it. If you canât take steep drops in the stock market that last a couple years, you really shouldnât be buying now. Because stocks arenât so cheap that I can promise you they wonât get a whole lot cheaper. They could easily fall from here and stay down for years. Even a really good company could.
But if you can definitely hold a company through a tough market that lasts a few years â then you can look for a wonderful business to buy and hold at any time. In any market. I found some lovely businesses around the time of the 2000 market peak. They just werenât big caps, dot coms, etc. They were smaller more mundane businesses. In at least one case â Bio-Reference Labs (BRLI, Financial) â I made some money (it seemed like a scary big amount at the time) holding the stock for about 2 years but I wouldâve made a whole lot more if I had just held that one stock through till today. And even now BRLI seems a fine stock to keep holding. So, you see I couldâve saved myself a lot of trouble by holding something for more than 10 years. And it wouldnât have hurt my performance at all. In fact, BRLI has beaten the market by a lot for a very long time. And, yes, the price I paid for BRLI happens to be the most I ever paid for a stock relative to its record earnings. So, I paid a very high price â for a value investor like me â for a stock that promptly went on to return around 20% a year for the next 10 years and is now back at almost the exact same P/E ratio where I first bought it.
I mention this only to reinforce the idea that there is more than one way to make money in the stock market. And itâs best not to get confused about what you are doing. You can pay 16 times earnings for a super high quality company. And you can pay 85% of cash for a net-net. You just donât want to confuse the two and try to compromise somewhere in between by paying 13 times earnings for what you think may be a moderately high quality company. You are looking for really obvious cases.
As far as whether you should buy when the market is irrational â I have a hard time knowing when the market is irrational. There are exceptions. I knew in early 2009 â and it was easy to buy then. Basically, I just bought the highest quality companies I could at around 10x free cash flow. I knew that 10x free cash flow is less than stocks are generally worth. And I knew that if I bought the very best companies available at that price â the ones I considered safest competitively â it would work out.
But there is no reason why you have to buy during these moments of market duress. In fact, it may just make you feel better. Since it allows you to understand âwhyâ you are getting a bargain â people are panicking. The idea that something can simply be a good value at its current price â somehow that seems more mystical.
In the Bio-Reference Labs example, the market has returned something like 4% to 6% over the last 10 to 15 years. While BRLI has returned 20% to 30%. So, you could have bought at quite a few different times when stocks generally would give you quite poor long-term results and yet this one particular stock could make you rich if only you had the good sense to hold it all that time (as, alas, I did not).
You mention that you have a lump sum. In investing, there is nothing worse than having a lump sum. You asked me if I received an inheritance whether I would put it to work immediately â no, never. But not because of todayâs stock prices (which I believe are overvalued in historical terms but fairly valued or even a bit undervalued relative to bonds and cash). I would never put cash to work quickly because that is when I make big mistakes. All of my worst decisions come when I have too much cash. I very rarely make mistakes when I have to sell one thing to buy another. My batting average when Iâm about 50% in cash and would like to put some of it to work is not so good. I hit one homerun when I was in that position. But Iâve had a couple stocks on which I got literally zero return â for a lot of time and frustration â and I blame the fact that I had almost half my portfolio in cash when I was researching those investments.
So, I would never put a lump sum to work all at once. I would give myself one year. I wouldnât buy more than 1 stock every 2 months. I would make it that formal. Iâd use rules as rigid as that. Because Iâd be very concerned about making a big mistake.
Donât focus on the market. Focus on yourself. On your own process. See if you get sloppier the faster you pick stocks. I know I do. I would be careful to space out your purchases. You want to âliveâ with each stock for a while after youâve started seriously researching it and before youâve made the actual buy decision.
Read those books I recommended and try to find the very best businesses regardless of price. If you find some wonderful businesses that are too expensive now, thatâs fine. Itâs good information to have. Because prices change a lot faster than businesses.
Finally, if you havenât been invested in a lot of stocks for a while, it may take you longer â or at least it should take you longer â to fill a portfolio. It is relatively easy for someone like me â intellectually at least â to fill a portfolio in the midst of a market crash because I know exactly what companies Iâd like to own but have never been able to buy because of price. I already have a shopping list.
But if you are committed to a long-term buy and hold type strategy the one thing you always need to keep at the front of your mind is that price isnât everything. You are very unlikely to cause any sort of catastrophic problem for yourself just by overpaying for the right kind of company. Buying the wrong company is your biggest risk.
Take your time.
But donât wait for a market crash.
Just wait for an obviously wonderful business selling for the kind of price a normal stock sells for in normal times.
Ask Geoff a Question about Waiting for a Crash
Check out the Buffett/Munger Bargains Newsletter
Check out the Ben Graham Net-Net Newsletter
Hi again Geoff,
âŚI am in a position of having a lot of capital not invested. I am about 30% invested, 70% in cash. I only want to invest in equities. I don't have the time or desire to focus on Net Nets. I have a long term approach and don't want to buy and sell often. I have a high risk tolerance. I want to only own equities. Ideally, an investor would deploy cash to buy the best companies in times like 2008 when the market crashed and companies were selling off far below intrinsic values. Do you think it makes sense to wait for âblood running in the streetsâ and times when one could âbe greedy when others are fearfulâ or to just buy wonderful companies at fair or better valuations? I could be a whole lot greedier in market duress if I didn't deploy my 'lump sum' now. What would you say? What would Buffet say? What if you received a sum of money, inheritance. Should you invest when you believe you can receive 15% return on that money with X margin of safety? How much margin of safety? I was buying in August last year when Greek debt was causing selloffs, it's just easier to pull the trigger when the market seems irrational. But if you have a lump sum and then just regular monthly earnings for the next 20 years, should that lump sum wait in the hope of a market crash? Or should it just be deployed and bought BRK, bought WAT, bought BDMS, bought your next month's pick until I have about 6 high quality companies and then sit back and read annual reports?
Thanks again,
Tom
You say you have no time or desire to invest in net-nets. Thatâs fine. If you are not inclined to make those sorts of investments, you should focus on only the highest of high quality companies. And you should focus on the very long-term.
Iâll tell you a secret. There are two ways to almost guarantee satisfactory returns in the stock market. One is to buy the very cheapest stocks around. The other is to buy the very best businesses. Everybody tries to do something in between. They want to pay 13 times earnings for what they think is probably an above average company with some wind at its back for the next few years. Or they want to pay 8 times earnings for a company that â letâs face it â probably isnât above average and just might be below average. These are the two ways to get yourself in trouble. And yet itâs here that most investors spend all their time and analysis. Trying to tell the difference between what stock should have a P/E of 8 and what stock should have a P/E of 18.
Itâs not easy work. And the payoff is slim.
No. The way to get consistently good results is to adopt one of two programs â and limit yourself to only focusing on your chosen field:
1. Buy companies that are clearly selling for less than their conservatively calculated value to a private owner
2. Buy companies that will earn high returns on capital while growing quickly for many, many, many years to come
Whichever strategy works for you is the one you choose. But donât try to dabble outside of that.
And donât fool yourself about what #1 and #2 mean.
For example, I own 6 Japanese net-nets. When I say buy companies that are clearly selling for less than their conservatively calculated value to a private owner â I mean it. Every single one of those 6 Japanese net-nets (and both my American stocks when I bought them) were selling for less than the surplus cash they had. In each case, I essentially paid for the companyâs cash and got the operating business for free. And in every case, the operating business had not posted a loss in the last 10 years.
Now, you donât have to be an expert on valuation to know that a business that has earned money in 10 of the last 10 years is probably worth more than zero. Perhaps a lot more than zero. And if you buy 8 of these businesses â theyâll work out. So thatâs what I did. Not all at once. Itâs hard finding stocks that cheap â you usually donât have the good luck of getting 8 at once. But I focused on just those super obvious bargains. I didnât try to get too fancy thinking I know enough about the prospects for all sorts of different businesses. Basically, I just bought the best companies I could find that were selling for less than their cash.
Okay. But thatâs not your style. Thatâs fine. But you have to bring the same level of focus and selectivity to your investments. Have you read Phil Fisherâs Common Stocks and Uncommon Profits? If you are going to be a buy and hold investor, these are the books to read:
¡ Common Stocks and Uncommon Profits
¡ Hidden Champions of the 21st Century
¡ Built to Last, Good to Great, How the Mighty Fall, and Great By Choice
The idea here is that you should â like Warren Buffett and Charlie Munger â see yourself as a business analyst rather than a stock analyst. I know this is an odd point to stress for a value investor. But if you are heading down the path of true buy and hold investing â you must start by totally ignoring a stockâs price. That canât be part of your process. At the end of your process, you can pass on a stock because itâs too expensive today. But you have to start with the idea that you are trying to find the company you would buy if you had to put 25% of your net worth into something today and couldnât take out a dime of that money for the next 20 years.
Which company would you buy?
Now, if that company is trading at 40 times earnings today â you can pass. But if you are going to be a buy and hold investor, you shouldnât start by looking at stocks with a P/E of 14 instead of 40 and hoping youâll come across a great business. You want to start by looking for a great business and then keeping it in mind for the day when you can get it at a decent price.
Thatâs got to be your focus. Now, when you really do find a company that is so terrific in its ability to grow year after year after year for a long time â when that happens â you can buy it no matter what is happening with the market. You may take ugly losses for 1 to 3 years or something. But, if you picked a Phil Fisher stock right â youâll make money in years 4 and 5 and 10.
Now, if youâre the kind of person who will sell during those first 3 years when this stock â along with the rest of the market â was going down, then you shouldnât buy it. If you canât take steep drops in the stock market that last a couple years, you really shouldnât be buying now. Because stocks arenât so cheap that I can promise you they wonât get a whole lot cheaper. They could easily fall from here and stay down for years. Even a really good company could.
But if you can definitely hold a company through a tough market that lasts a few years â then you can look for a wonderful business to buy and hold at any time. In any market. I found some lovely businesses around the time of the 2000 market peak. They just werenât big caps, dot coms, etc. They were smaller more mundane businesses. In at least one case â Bio-Reference Labs (BRLI, Financial) â I made some money (it seemed like a scary big amount at the time) holding the stock for about 2 years but I wouldâve made a whole lot more if I had just held that one stock through till today. And even now BRLI seems a fine stock to keep holding. So, you see I couldâve saved myself a lot of trouble by holding something for more than 10 years. And it wouldnât have hurt my performance at all. In fact, BRLI has beaten the market by a lot for a very long time. And, yes, the price I paid for BRLI happens to be the most I ever paid for a stock relative to its record earnings. So, I paid a very high price â for a value investor like me â for a stock that promptly went on to return around 20% a year for the next 10 years and is now back at almost the exact same P/E ratio where I first bought it.
I mention this only to reinforce the idea that there is more than one way to make money in the stock market. And itâs best not to get confused about what you are doing. You can pay 16 times earnings for a super high quality company. And you can pay 85% of cash for a net-net. You just donât want to confuse the two and try to compromise somewhere in between by paying 13 times earnings for what you think may be a moderately high quality company. You are looking for really obvious cases.
As far as whether you should buy when the market is irrational â I have a hard time knowing when the market is irrational. There are exceptions. I knew in early 2009 â and it was easy to buy then. Basically, I just bought the highest quality companies I could at around 10x free cash flow. I knew that 10x free cash flow is less than stocks are generally worth. And I knew that if I bought the very best companies available at that price â the ones I considered safest competitively â it would work out.
But there is no reason why you have to buy during these moments of market duress. In fact, it may just make you feel better. Since it allows you to understand âwhyâ you are getting a bargain â people are panicking. The idea that something can simply be a good value at its current price â somehow that seems more mystical.
In the Bio-Reference Labs example, the market has returned something like 4% to 6% over the last 10 to 15 years. While BRLI has returned 20% to 30%. So, you could have bought at quite a few different times when stocks generally would give you quite poor long-term results and yet this one particular stock could make you rich if only you had the good sense to hold it all that time (as, alas, I did not).
You mention that you have a lump sum. In investing, there is nothing worse than having a lump sum. You asked me if I received an inheritance whether I would put it to work immediately â no, never. But not because of todayâs stock prices (which I believe are overvalued in historical terms but fairly valued or even a bit undervalued relative to bonds and cash). I would never put cash to work quickly because that is when I make big mistakes. All of my worst decisions come when I have too much cash. I very rarely make mistakes when I have to sell one thing to buy another. My batting average when Iâm about 50% in cash and would like to put some of it to work is not so good. I hit one homerun when I was in that position. But Iâve had a couple stocks on which I got literally zero return â for a lot of time and frustration â and I blame the fact that I had almost half my portfolio in cash when I was researching those investments.
So, I would never put a lump sum to work all at once. I would give myself one year. I wouldnât buy more than 1 stock every 2 months. I would make it that formal. Iâd use rules as rigid as that. Because Iâd be very concerned about making a big mistake.
Donât focus on the market. Focus on yourself. On your own process. See if you get sloppier the faster you pick stocks. I know I do. I would be careful to space out your purchases. You want to âliveâ with each stock for a while after youâve started seriously researching it and before youâve made the actual buy decision.
Read those books I recommended and try to find the very best businesses regardless of price. If you find some wonderful businesses that are too expensive now, thatâs fine. Itâs good information to have. Because prices change a lot faster than businesses.
Finally, if you havenât been invested in a lot of stocks for a while, it may take you longer â or at least it should take you longer â to fill a portfolio. It is relatively easy for someone like me â intellectually at least â to fill a portfolio in the midst of a market crash because I know exactly what companies Iâd like to own but have never been able to buy because of price. I already have a shopping list.
But if you are committed to a long-term buy and hold type strategy the one thing you always need to keep at the front of your mind is that price isnât everything. You are very unlikely to cause any sort of catastrophic problem for yourself just by overpaying for the right kind of company. Buying the wrong company is your biggest risk.
Take your time.
But donât wait for a market crash.
Just wait for an obviously wonderful business selling for the kind of price a normal stock sells for in normal times.
Ask Geoff a Question about Waiting for a Crash
Check out the Buffett/Munger Bargains Newsletter
Check out the Ben Graham Net-Net Newsletter
