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Jae Jun
Jae Jun
Articles (212)  | Author's Website |

The Checklist Investor Crushing the Market by 1,100%

Mohnish Pabrai is a classic value investor

December 10, 2015 | About:

With an outperformance of 1,100% compared to the market since inception in 2000, Mohnish Pabrai (Trades, Portfolio) is a classic value investor and household name.

I heard about Pabrai around the time he and Guy Spier famously won a lunch with Warren Buffett (Trades, Portfolio) for $650,100 in 2008.

Pabrai is the perfect model of what ordinary people can do when they find something that they love and have the plan, perseverance and discipline to do it.

Here’s a quick background on how Pabrai became an investor.

The relatable super investor

Pabrai is an Indian-born investor who came to the United States to attend Clemson University in South Carolina in 1983.

He didn’t major in finance.

Pabrai was an engineer by trade and running a successful IT business and never heard of Buffett until he was 30. In fact, the first investor Pabrai discovered was Peter Lynch, not Buffett.

Anyway, here’s the part of the story that resonates with a lot of investors.

I found it very strange how you can have an entire industry which does not function with a solid framework. To me, it is like people doing brain surgery by just ‘winging it.’

That is how I saw mutual funds work – they were just winging it, or they come up with any nuance or ‘flavor of the day’ they want to pursue.

I had a thought that if novices like me simply adopted Buffett’s approach and invested in the equity markets with a concentrated portfolio, etc., that I was likely to do better than most of the industry professionals.

So I said it was worth testing this hypothesis out. I was lucky at the time in 1994; I had about $1 million in cash. I had just sold some assets of my business and I decided to go ahead and manage that in a Buffett-style concentrated portfolio, buying things I understood, etc. That is how I got into value investing.

He was an immigrant, didn’t have any formal investing training and realized how nonsensical the investment industry was.

Starting with his own money to launch a fund, it’s a good thing Pabrai “got” into value investing.

Pabrai’s long-only equity fund has returned a cumulative 517% net to investors vs. 43% for the Standard & Poor's 500 Index since inception in 2000. An outperformance of 1,103%.
- H/T Valuewalk.

Did he have a unique process to achieve such returns?

No.

If you go through the material available on Pabrai, you’ll realize what a diehard Buffett and Charlie Munger fan he is. From an old interview in 2008, he said that he read "Poor Charlie’s Almanack" seven times.

And if you listen to any of his interviews, it’s full of Buffett and Graham lessons.

Monish Pabrai’s investing philosophy

In a nutshell, Pabrai’s investment framework is:

Focus on long-term investing and the power of compounding based on Buffett’s “moat-based,” Graham’s “Special Situations” and Munger’s “Latticework of Mental Models” approaches to investing.

Pabrai lays out his framework in his book "The Dhando Investor" (highly recommended on my must-read book list) where he discusses the Dhando framework:

  1. Focus on buying an existing business.
  2. Buy simple businesses in industries with an ultra-slow rate of change.
  3. Buy distressed businesses in distressed industries.
  4. Buy businesses with a moat.
  5. Bet heavily when the odds are overwhelmingly in your favor.
  6. Buy businesses at big discounts to their underlying intrinsic value.
  7. Look for low-risk, high-uncertainty business.

Nothing new.

Just super common sense along with application of Buffett’s timeless principles.

The difference is that he stuck with it while his peers were rushing to find the next shiny object, the next big thing.

One of the takeaways he got from his lunch with Buffett was this very idea when Buffett asked him:

‘Would you prefer to be the greatest lover in the world and be known as the worst, or would you prefer to be the worst lover and be known as the greatest?’ And [Buffett] said, ‘If you know how to answer that correctly, then you have the right internal yardstick.’

The checklist investor

Pabrai probably talks about checklists the most (along with Guy Spier).

He is known to have a set of checklists accumulated throughout his investment career. He stated that he doesn’t talk about too many specific parts of his checklist because it is his competitive advantage.

Makes sense.

However, he provides plenty of high level information on how you should build a checklist and the types of things he looks at.

Here’s one of his checklist presentations you should check out and a quick summary of how Pabrai and Munger use checklists from "The Checklist Manifesto."

It just comes down to putting in the time to create your own checklist.

Instead of constantly being on the lookout for new stocks to buy, take a step back and go over your past mistakes.

Pabrai simply started making his checklist by studying the mistakes of Buffett and as of 2013, he had 97 or 98 broad questions on his checklist that take about 15 to 20 minutes to run through.

He also saw that most of the mistakes made by the guru investors fell into five groups:

  1. Valuation.
  2. Leverage.
  3. Management and ownership.
  4. Moats.
  5. Personal biases.

A good starting point, if you don’t use a checklist, will be to focus on these five parts.

So for example, Berkshire Hathaway (NYSE:BRK.A) (NYSE:BRK.B) lost money on Dexter Shoes, when they bought Dexter Shoes. A question that comes up on the checklist is, is this business a business that can be affected negatively by foreign competition? Can it be affected negatively by low-cost labor in other countries? Those came out of the Dexter Shoes example. – source

Since I put the checklist in place, in 2008 until today, we have made I think more than 30 different investments in the last five years or so. We only have, so far, we invested about $200 million. We’ve already exited a bunch of positions, and we’ve exited with about $500 million on those positions, and we only lost money on two investments. And the total amount of money we lost from those two investments is less than $5 million or $6 million. And I think a large part of that is the checklist significantly brought down the error rate.

If you need some guidance on how to build a checklist or want a template to start, I have a checklist collection that I share with people

If you want to make it easier on yourself, you can download a collection of checklists that I’ve compiled. Just click the image below and enter your email to get the download link.

Pabrai’s holdings

What you also have to know about Pabrai is that he has nerves of steel and has conviction in his own ideas.

He only holds seven total positions total with his biggest position being Fiat Chrysler (FIATY), followed by General Motors warrants (NYSE:GM.WS.B) making up close to 70% of his portfolio.

A lot of people on boards on the Internet criticize Pabrai for continually averaging down on Horsehead Holding Corp. (ZINC) – which goes back to that lover analogy Buffett told Pabrai and Spier during lunch.

Everyone thinks he is a loser for holding and buying Horsehead Holding, but he believes otherwise.

The other thing to remember is that you also have to put things into context.

Ridiculing an investor like Pabrai by isolating Horsehead Holding is absurd. Whether it’s a mistake or not is yet to be seen. Everybody is going to make mistakes, but the key is whether you make a mistake with your 48% holding or your 5% holding.

Must-read books related to this article

Further reading and related links

Interview and discussion with Pabrai

About the author:

Jae Jun
Old School Value is a stock grader, value screener and valuation tool for busy value investors.

Visit Jae Jun's Website


Rating: 4.5/5 (16 votes)

Voters:

Comments

michaelno
Michaelno - 3 years ago    Report SPAM

I respect him for getting good long-term results, but I don't think he is a great investment mind and don't pay much attention to what he says. He himself says that he is a "clone" and just largely piggy-backs off other peoples ideas. If anyone can find a year-by-year report of his results please share.

He talks about being an admirer of Buffett and Munger, but then buys cyclical companies that are unpredictable. Horsehead is only 5% of his portfolio because it is down almost 85% this year...it used to be an 18% position before the drop. Posco is down 45% on the year and it still makes up 9% of his portfolio. You are looking at over a 20% hit to your portfolio from those two stocks. Fiat and GM may be attractive in the short-term, but long-term automobile companies are risky due to changing tastes and business cycles. If Fiat had a Volkswagen-like event it would be devasting to his portfolio.

Buffett and Munger put a much greater emphasis on managing risk and buying high quality, predictable companies. Alphabet is an outstanding company and was a "Four Filters" stock.

Kyle Ferguson
Kyle Ferguson premium member - 3 years ago

Very good article Jae Jun :)

ThinkValue
ThinkValue - 3 years ago    Report SPAM

Great article ! Filled with great information. Pabrai is a great investor and thinker.

Tuxster
Tuxster - 3 years ago    Report SPAM
Actually, Mohnish Pabrai (Trades, Portfolio) is not a household name.

Household names include Warren Buffet, Peter Lynch, and Bejamin Graham.

nametwo
Nametwo - 3 years ago    Report SPAM

Does he hold FCAU or FIATY. In the article, the text says one and the table below it shows another.

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