How did you get started investing?
When I was around eight years old, I played little league baseball and learned that certain baseball cards could become more valuable over time. That idea had instant appeal. So I would spend my allowance on baseball cards, and hunting through all of them for a quality player was part of the fun. Soon after, I added early edition comic books, and I accumulated boxes of them over time. This made the occasions I got dragged as a child to an antique shop or market more tolerable. I rifled through boxes of discarded baseball cards and comic books looking for a hidden gem. The idea of buying something discarded for a few cents that could be worth more in the future was an exciting discovery. Stock investing came later, right after college. I was set on law school, but my future father-in-law advised me that “you cannot opt out of the money game in life” and so he reasoned that spending at least a year or two in the financial world would create a lifelong skill. I agreed, and was very fortunate to get hired in the research department of Robinson-Humphrey in Atlanta. It was an amazing time and learning experience. This was in 1999, at the height of the tech bubble, and I was reading "Security Analysis, The Madness of Crowds," and had just met Sir John Templeton (who was shorting tech stocks at the time). In the dotcom bust, I was a junior analyst writing an earnings note on a carpet tile manufacturer called Interface, and realized that one division in the company was depressing the share price, and that on a sum of the parts basis, the business was potentially worth multiples of its share price at the time. It was a simple insight, but powerful. The stock eventually rose sevenfold during the next several years. However, long before that I knew that I was forever hooked on investing.
What is your background?
I grew up in Columbia, South Carolina. My father was entrepreneurial and sold group health insurance policies to manufacturers, professional firms and many other organizations across South Carolina. He was a hard worker, and had two daily paper routes by the time he was eight. He instilled the same work ethic in me as a child. I started pushing a lawn mower in the summers when I was 10 and was taught the concept of earning my way in life at an early age. I liked the responsibility and sense of accomplishment. In high school, when I could drive, I worked as a temp worker one summer, which was fascinating. It was exciting to learn about so many different businesses, and the feeling is no different today when I read an annual report. My mother’s family is from the small town of Orangeburg, South Carolina, where my great-grandfather owned the pharmacy on the town square along with other commercial properties. He always told my father though that his pharmacy and real estate properties represented a small fraction of what he built in the stock market over time, and those investments funded the education of myself, my brother and many cousins. As a young person that gave me a tangible connection as to what could be accomplished through investing. I went to college at Sewanee, which is where I met my wife, Lauren Templeton. As an adult I have been incredibly lucky to spend time around my father-in-law and his uncle, Sir John Templeton. They too have been significant role models for me in both investing and life.
Describe your investing strategy.
We are global value investors. Like Sir John always advised, we try to be flexible in the sense that many investments can be attractive if the price is right. Ideally though, our main focus is on purchasing quality and growth at a solid discount. Therefore, we find ourselves most active during periods of market panic, corrections, crises and bear markets. These are the moments when identifying a discount to intrinsic value becomes comparatively easy and the difficulty becomes mostly psychological. We understand that this is our source of alpha, so we are not only comfortable, but even to some degree rely upon these events to make wise purchases. The other method we have found that tends to work in bargain hunting is to seek areas where there is limited information, and therefore limited competition to buy the shares. These conditions also help depress the share price. We believe these conditions still exist in the international markets. In either case, we are really just seeking markets where we have limited or even no competition to purchase shares at a discount to intrinsic value. Since these are basically auction markets, it is really just common sense to seek out markets where there are fewer bidders.
What drew you to that specific strategy?
The logic, and the results. Lauren Templeton and I were fortunate to manage assets for her great-uncle, Sir John Templeton, at a relatively young age. He also had me work on several independent research projects. Through these working relationships, and then later studying the larger historical body of his work as an investor, we believe we gained a solid understanding of what worked. What works in investing is finding assets that are bargain priced.
What books or other investors influenced you?
There have been many influences over the years. At the top of my list of investors is Sir John Templeton. Naturally, Warren Buffett (Trades, Portfolio) and Charlie Munger (Trades, Portfolio) are important studies. Prem Watsa (Trades, Portfolio) at Fairfax is another influential investor. Benjamin Graham’s books were critical readings as a young analyst, and for that matter ever since. Philip Fisher’s book "Common Stocks and Uncommon Profits" was very influential early in my career. I have read many books on stock market history, psychology and human behavior that have all been influential. The common thread is human behavior, it is timeless.
How has your investing changed over the years?
Today it places more emphasis on finding long-term growth opportunities, but still doing so within the strict discipline of a bargain hunter. We want to find situations where the share price will be playing catch up with the growth in firm’s intrinsic value. These situations can be difficult to locate at times due to enthusiastic market conditions. We believe most investors mistakenly do the opposite, where they need the intrinsic value of the firm to catch up with a rising share price, in order to justify its expensive valuation. Ideally, the firm’s earnings and cash flow continue to expand on the basis of capital reinvestment and the shares simply track this activity over time, but still trade at somewhat of a discount to the overall intrinsic value. In this situation the holding can generate an attractive total return, hopefully available for many years, without forcing a sale due to overvaluation. This is the most ideal investment situation due to the effects of the capital compounding as well as tax efficiency. Even so, we also still make purchases in deep value style situations. Our style accommodates both. We try to stay flexible and let the market point us towards the bargains.
Name some of the things that you do that other investors do not.
Sir John kept a desk plate that read “Trouble is opportunity.” We do the same, and in many ways, you could say that we go looking for trouble, because that is where you will find an opportunity. We believe in that regard we have a psychological edge, and we are also very numbers driven in our discipline. Having a quantitative focus forces you to look at investments that you would probably ignore on a qualitative basis—much like everyone else—but that is the very source of a potential discount.
Where do you get your investing ideas from?
Our process begins quantitatively. We learned this from Sir John. He was very bottom-up and quantitative in his approach to stock selection, and he had us incorporate the same methods. He was always noted for his country allocations as a global fund manager, but they were driven by a bottom-up process, not by any type of a global-macro process. When he saw discounts accumulating in a certain country, he would investigate them thoroughly to see if they were a bargain. We try to use a similar approach.
Do you use any stock screeners?
Yes. We frequently use quantitative screens. It is important that we are also reading and processing many other sources of information on businesses and the economy also, so that we can be active interpreters of the data and hopefully spot opportunities. When we find something unusual in the screens we then investigate the individual security more closely, most often with a discounted cash flow valuation. If we find an attractive discount to intrinsic value (for example, 50%), we then investigate the security through fundamental analysis to try to learn why the shares are priced at an apparent discount, and if that discount may be temporary.
Name some of the traits that a company must have for you to invest in.
The specific metric can vary by industry, but we always look for a clean balance sheet and strong operating cash flows. We believe these two attributes can eliminate many potential headaches, or even nightmares. Next, if it is possible, we also prefer some opportunity for secular growth as this will help protect margins and returns and capital relative to a mature, slow growth industry crowded with competition.
What kind of checklist do you use when investing?
Our checklists are centered upon the quality of earnings and the balance sheet. We believe that these two outputs provide the most insight into management, and their disposition.
Before making an investment, what kind of research do you do?
Our process moves from quantitative screening to valuation to fundamental analysis, and so ideally it ends with a thorough top to bottom study of the firm. Depending upon the market circumstances though, and because we often rely upon price volatility to source many ideas, we have acted much faster. Under conditions related to heavy volatility and panicked selling we do not have the luxury to get management on the phone, etc., and so we must act on the basis of what we can learn through these processes in a given day. For example, during the swine flu crisis of 2009, the Mexican Airport Operators were closed by the Mexican government, which sent their stocks into a sudden tailspin. Given their airspace monopolies, nearly zero debt and high normalized margins, we were comfortable stepping in and purchasing that day once we had calculated our estimate of their intrinsic values and saw what we believed was a large discount. Had we waited to go through the whole research process, we would have missed a significant opportunity for our investors.
What kind of bargains are you finding in this market?
They are fewer, but some are still available. However, they are generally contrarian in nature. We bought several energy firms late last year, and early this year when oil prices collapsed. We had also been buying in the emerging markets around the same time. We see many more opportunities internationally than in the U.S., but you still need to be rather contrarian to find them.
How do you feel about the market today?
In equities, the indices appear to offer less opportunity than what you can locate searching among individual stocks, in our view. We have more concern however over the fixed income markets. Investors are reaching for yield through both longer maturities and substantial credit risk. Negative yields on sovereign debt and the robust issuance of PIK Bonds in corporate credits strike us as signs of excessive risk taking. When we consider this in the context of diminished fixed income liquidity owed to Basel III, Dodd-Frank, and the much preferred use of liquid ETFs to access the more illiquid underlying fixed income, we see potential for trouble in these markets at some point. If so, hopefully we can spot the opportunity.
Do you see it as overvalued?
Regarding the equity markets, we believe the U.S. market is overvalued, but not alarmingly so. We continue to own several U.S. stocks that we believe are deeply discounted and offer attractive long-term opportunities. For a passive holder in the S&P 500 though, we believe that the 18.5 times price-earnings (P/E) on the index applying the current average return on equity implies an underlying earnings growth rate of slightly over 5%. Given that earnings have been trending downward for six quarters, we believe eventually earnings will need to recover, or the P/E seems likely to compress. Remarkably low interest rates are creating distortive effects, in our view. We believe that passive investors in the S&P 500 are doing the opposite of what we described earlier as bargain hunting (they need a rise in earnings to justify the 18.5 times P/E). We believe the international markets are more discounted, and therefore offer more opportunity.
What are some books that you are reading now?
I keep several going at a time, but one that I recently read and would recommend is titled "The Hour Between Dog and Wolf." It focuses on human physiology and the role that it plays in investing. We have all read or discussed the roles of fear, greed, etc., in the markets, but this book probes in sharp detail their underlying causes through the lens of human biology and physiological processes at work in the human body.
What advice do you have for new investors?
Be a lifelong learner. Stay open-minded and flexible, but in the final analysis you must think for yourself in all matters. Remember that the investment industry is competitive, sales driven and full of expertly persuasive people. Therefore, you must think critically and not be afraid to challenge groupthink and consensus opinions. Be patient.
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