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Eric Houssels
Articles (5983) 

Expanding the Circle of Competence

December 06, 2010

Buffett’s famed notion of the circle of competence remains one of his more powerful contributions to the body of investment management knowledge. It is easy for capital allocators to succumb to the temptations of the “action” and put hard-earned capital to work in endeavors that stimulate and pencil out large rewards; however, decisions derived from emotion and hope largely result in the transference of wealth from the capital provider (buyer) to the capital acceptor (seller). Know what you know and stick to it is the advice, and it is sound. This being said, one of the great compliments heralded on Buffett is the description, from Mr. Munger, of Buffett being a “learning machine” and constantly improving his investment acumen. I highly doubt that Mr. Munger is referring to Buffett becoming smarter and wiser with regards to just Coca-Cola, American Express, Wells Fargo, and the other handful of companies/industries that he mastered pre-1990. No, I believe Mr. Munger’s compliment is directed at the ability to learn not only of more of what you already know but some of what you do not already know as well. In other words, the endeavor of expanding one’s circle of competence is a worthwhile one (provided we tread carefully, of course).

An area that I have recently been expanding my own circle of competence has been with internationally-listed companies. Five years ago, I would have said that any international company not named Diageo or Nestle was simply too risky for my conservative philosophy. The reported numbers were suspect, and the governments were unacceptably likely to confiscate foreign capital when the going got tough. Somewhere along the way and with consistent prodding from intelligent colleagues, I began to peak at a name or two domiciled and traded outside of the United States. In going over their financial reports, I found myself surprised, more often than not, by these companies’ legitimate and stable businesses, focused and capable management teams, and conservative capital allocation policies (often with dividends far greater than what US investors have grown accustomed to).

One name I recently studied is Ford Otomotiv, which is based and trades in Istanbul, Turkey. When I first saw the name, per the circle of competence dictate, I felt I’d be able to extinguish this from the new idea list in prompt order. What I discovered, and relatively quickly to boot, was that this company is one of the stalwart enterprises in an enterprising and growing country of 70 million plus whose fiscal situation, while certainly not “China-perfect,” is preferable to that of my own beloved homeland. Ford Otomotiv is a JV between Ford, Koc Holding - one of the dominant conglomerates of Turkey, and public shareholders. I believe the company to be of “blue-chip” classification: it maintains a dominant market share (15-35% across its various product lines) in very large multi-billion dollar markets, is consistently profitable even through the worst of economic times (e.g. 2009), and consistently returns its considerable profits to shareholders in the form largely of cash dividends. Furthermore, the company is positioned to grow both domestically and, increasingly, as a lower-cost exporter of Ford products to the surrounding regions. The current valuation level is open for discussion, in my opinion, but the quality of the company really is not. This is a fine enterprise and one that will be there for years to come. If (more like when) the speculators of the world raid emerging market ETFs, buying Ford Otomotiv at those days’ prices would, in all likelihood, be a no-brainer!

Clearly our knowledge and abilities are not and should not remain stagnant. The daily challenge for we the living remains to grow or to die. As investors, we should constantly be learning and stretching our knowledge. Buffett’s praise of the circle of competence stands, nonetheless. We should do things that we know about; but we should also seek to know a little more each and every day.

Eric Houssels is the co-founder and managing member of Houssels Capital Management, LLC, a money management firm based in Las Vegas, NV. The firm focuses on investments in the stocks of publicly-traded companies of all capitalizations that possess, preferably, significant earnings power or, alternatively, assets that can be (re)deployed to achieve significant earnings power and are trading at reasonable valuations. Houssels Capital Management was founded in 2000.

Rating: 2.8/5 (12 votes)


Halis - 7 years ago    Report SPAM
Someone in the money management business calling an investment a no-brainer? How nervous are your clients?

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