I have long held to one of the same beliefs expressed by Peter Lynch, the renowned former manager of the Fidelity Magellan Fund during its heyday, that the prudent individual investor could generate investment returns higher than professional money managers in particular and the overall market in general. This belief was based upon the fact that they were working with much smaller sums of money that would have no impact on the share price of a business when shares were purchased.
As an early investor in the Fidelity Magellan Fund when it was run by Mr. Lynch, I learned to pay close attention to what he said and give serious consideration to any advice he offered. I studied investing and business valuation and began to manage my own investment accounts made up of individual stocks. Given my penchant for making my own investment decisions, it is almost ironic that the investment opportunity I have found today is in a business that manages money for other people. So a guy who doesn’t want to pay others to manage my money is going to put money into a business that manages other people’s money?
Take your profits where you find them
One of the practices that has helped me immensely with my investing over the years has been the development and use of stock screens that provide me with a list of businesses that meet certain financial metrics that I specify based upon business attributes I find attractive. I can quickly scan these results and identify businesses that meet my other requirements such as offering products or services that are critical to maintaining the existence or standard of living of its customers. I also like to invest in businesses that provide products or services to their customers that weave them into their customers’ daily existence and simply become an integral part of that existence.
I love performing investment analysis and comparing my own results to those of “professional money managers.” It takes a tremendous amount of time to do it and do it effectively; but I have turned it into a competitive challenge in which I can engage on my own. From my casual conversations with friends and acquaintances, it has become very apparent to me that my passion for this particular pursuit is not widely shared in the general population. I have institutions that are also lacking in their ability to effectively oversee the daily allocation of their investable resources. Smart people and smart organizations understand that, if allocation of investment capital is not your passion and expertise, it is best left to those for whom it is. Finding those entities who meet this criteria are very good at what they do and are attractively priced at the current valuation can make for a very ironic investment opportunity for those of us who manage our own money to profit from those who manage money for people who don’t want to do it themselves.
Money flows where it's treated best
Capital goes where it's welcome and stays where it's well treated. – Walter B. Wriston
This statement could well have formed the basis of the currently used derivative that money goes where it is treated best. If that statement is really true, and I believe it is, then the business I have found today is an exceptional caretaker of other people’s money based upon the solid growth record of assets under management.
It is worth noting that during the global financial meltdown of 2008, the company only experienced a reduction in assets under management of about 10% and had effectively recovered that amount by 2009 –Â and has maintained an impressive growth record in this metric ever since.
If you are wondering which financial service-related business was able to withstand and recover from the greatest economic collapse since the Great Depression with such great resilience, the answer to that question is Fortress Investment Group, LLC (FIG, Financial).
The consistent and rapid increase in funds under management provides pretty solid evidence that the customers believe their money is treated very well by the team in place at FIG.
The customers like it; how does it treat investors?
It may sound a bit odd, but other than well enough to keep them around, as investors, we are far more concerned with how the business treats the owners (shareholders) than how it treats its customers. I want to own businesses that treat customers well but not so well that it impairs the return on my capital. After all, I am an investor to make money for myself, not to keep someone else satisfied.
It is fairly easy to value a business based on its past performance, but investing is about what is going to happen. in the future. In the case of this business, as indicated in the chart below, the company has met or exceeded analysts’ expectations in six of the last 8 quarters. The ability to deliver results that so closely conform to the analysts’ expectations can help to build some level of comfort when using those projections to establish an estimate of the projected future value of the business.
Fortress is currently projected to earn $0.82/share this year and $0.91/share in 2015. This equals a year-over-year forward earnings growth of 10.97%. Interestingly enough, the past five years' earnings growth rate for Fortress has been 12.50% annualized, but the projected five-year forward growth rate is currently forecasted as 52%! I have found this estimate on several sites; I have not been able to establish any reason that justifies this kind of explosive growth in the earnings potential for this business. Since I have not been able to ascertain with certainty what is expected to drive the future growth being projected in forward earnings, I am choosing to simply base my growth estimates as if the annual growth rate of 11% projected from 2014 to 2015 will be maintained going forward. This allows for the growth to slow about 10% from the 12.5% annualized earnings growth achieved over the past five years. I prefer the more conservative metric simply to provide a little extra margin of safety.
A business capable of growing earnings at 11% or 12% on a consistent basis over multiple years is well worth serious consideration. When it produces a very respectable dividend yield of 4.8% on top of that, it is effectively creating a reasonable expectation of delivering a combined return to investors of 15% to 16% per year over the next 3-5 years.
What is Fortress worth today?
It is very exciting to find a solid business where customers are lined up to give it money that also has exceptional prospects for future growth. It is even better when the business has a track record of being able to meet and exceed analysts’ earnings expectations on a regular basis. Unfortunately, it is not enough to justify investment of capital by the most prudent of allocators. In order to justify that action, it is required that a business also be currently priced at a very attractive level in order to provide an extra layer of safety and the prospects for producing spectacular, not just exceptional returns. Since not all of our investments will result in a favorable outcome, it is imperative that they offer the potential for producing spectacular results in order to achieve exceptional results across an entire portfolio on a long-term basis.
Here is how Fortress stacks up in that regard. At the current share price of about $6.90/share and current year’s projected earnings of $0.82 for 2014 and $0.91 for 2015, FIG trades at quite reasonable, even cheap, price to earnings multiples of 8.41 and 7.58 respectively. Based upon the analysts’ projections of 52% for earnings growth over the next 3 to 5 years, the current valuation is insanely cheap. Based upon my own assessment of a forward growth rate of 11% over the next five years, this is still one cheap business.
One of my favorite metrics for establishing current fair value of a stock it to take the projected earnings growth rate between the current year and next year (2014 to 2015 in this case), which would be 11% for Fortress, and add the dividend yield (4.8%) and multiply that number by the current year’s projected earnings. This produces the following calculation:
([{(0.91/0.82)-1}+0.048]*100)*$0.81=$12.77/share current fair value.
Calculated against the $6.90 closing price last on October 24, 2014, this provides the stock with a potential gain of 85.07% just to reach my current estimated fair value from which it could still be expected to produce annualized gains of 14% to 16% using the earnings growth rate plus the dividend yield to project annual returns on capital.
An 85% gain just to fair value?
I work with enough numbers and read more than enough sets of company financial statements to know that valuations can be manipulated in quite a few ways. Even when looking at the numbers I generate myself, I am always looking for other opinions that confirm or disprove my own assessment.
In the case of Fortress, there are analysts who have published their price targets for the stock. When analysts publish target prices, they are usually based upon the short to intermediate-term expectations for price movement. The current targeted price range from the analysts covering FIG ranges from a low of $8/share to a high of $14, within which my current fair value estimate (FVE) of $12.77 fits quite nicely.
Based upon the work of professional analysts with far more available resources than I have, I think their valuation range for this business provides even a bit more assurance. While I have a great deal of confidence in my own analysis, in all honesty, I never object when professionals are in agreement with my determination that a business is grossly undervalued. Another positive aspect of agreement from analysts on undervalued stocks is that their views might actually help create interest in a stock I own that can help drive the price higher. When it comes to pushing the share price higher on a position I hold, I will take help from anywhere I can get it.
Final thoughts and actionable conclsions
Even in aging bull markets, such as the one we find ourselves in today, careful observation and analysis can almost always unearth fine businesses performing well and trading at depressed valuations. That certainly appears to be the case with Fortress Investment Group today. It provides services that are critical to its clients' well-being both present and future and has a track record of being able to survive and even thrive through one of the worst financial collapses of our time. This business is not just fairly valued with good future prospects, it is priced as if it were a distressed asset with mediocre prospects for the future.
Most people who don’t do it on a regular basis simply can’t understand why it would be difficult to lean over and pick up money off the floor when you see it lying there. For me, I am always concerned as to why it is there and what might happen to me when I pick it up. That feeling still haunts me each time I make a deep value trade, and I think that ever-present fear of loss makes me more successful as it drives me to find out what I have overlooked. Fear is not a bad thing as long as one is capable of allowing reason and fact to overcome it.
Today, reason and fact tell me to overcome fear and pick up the money off the floor by buying shares of Fortress Investments Group at about $6.90/share.
