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PJ Pahygiannis
PJ Pahygiannis
Articles (149) 

9 Questions With Value Investor Joseph Calandro Jr.

'Very few people take the time and effort to read and understand all available financial information'

March 27, 2017

1. What is the best investment advice you have ever been given?

“Investment is most intelligent when it is most businesslike” – Benjamin Graham

The trick, of course, in applying this advice is defining exactly what “businesslike” is.

2. What level of math is needed in order to understand the entirety of finance and investing?

It depends on your specialization. For example, if you’re a quant the math is obviously advanced. Conversely, with most forms of value investing all you need is a solid grasp of business math. (As an aside, my favorite quants are Ed Thorp, the late Fischer Black, Nassim Taleb and Cliff Asness. You can learn a great deal from their writings even if you are not a “quant.”)

Far more important than math is deployment of the proper approach to execute your investment strategy. For example, if you work for Warren Buffett (Trades, Portfolio), you would not want to propose buying/selling based on the output of a model. Similarly, if you’re a trained value investor, you will likely have to deploy a different framework if you are managing an institutional portfolio. This is important and frequently overlooked: because “value” is subjective, it can be defined and framed differently in various contexts. As such, if you are out of sync with a given context you likely will not succeed even if your strategy performs well (e.g., there was just too much volatility, too much correlation, etc.)

3. Is "value investing" (Warren Buffett and Benjamin Graham approach) a good investment strategy for long-term goals like investing for retirement?

Value investing is an overused and often misunderstood term. While Graham and Buffett generally agreed on a set of principles that have come to be referred to as “value investing,” they deployed those principles very differently (for information on value investing general principles see my paper here). That said, the primary objective of “value investing” is informed and intelligent buying, which is obviously a good strategy for people of all ages.

4. What should I know before I start value investing?

To paraphrase the great Chinese strategist Sun Tzu: If you know Mr. Market and know yourself, you need not fear the result of a hundred boom-bust cycles. If you know yourself but not Mr. Market, for every investment success you will also suffer a loss. If you know neither Mr. Market nor yourself, you will fail.

Also, value investing is not easy, and it never has been easy. If anyone tells you it is, ignore them as they: (a) don’t know what they are doing, and/or (b) are trying to scam you.

5. What are examples of sustainable competitive advantages?

The older I get, the more I think there is only one “sustainable competitive advantage,” and that is an information advantage. In other words, you know something that pretty much no one else knows and as a result can outperform them over time. For example, consider the long-term track records of Buffett, Mario Gabelli (Trades, Portfolio), Seth Klarman (Trades, Portfolio), and Mitch Julis/Josh Friedman of Canyon Capital Advisors: they are not only superior investors but also highly successful businessmen in a brutally competitive marketplace, and yet they have been able to outperform their competition decade after decade.

6. What are the absolute best, most crucial tips/ideas to succeed in long-term investing?

To succeed over the longterm you must invest for the long term, not by quarter, year, etc. Needless to say, long-term time horizons are very rare, especially today.

7. What discount rate do you use in your valuation?

Countless books and articles have been written on discount rate estimation so I’d like to profile my view.

Most investors are familiar with the capital asset pricing model (CAPM). Academic proponents of this model and corporate finance in general – mistakenly equate volatility with risk. Volatility is not risk. For example, nonperforming corporate debt will have a high beta (given volatility expansion) but for a distressed investor (i.e., someone skilled in the evaluation of nonperforming corporate debt) such debt could represent a near-riskless investment, especially in cases with large margins of safety (e.g., the Lehman bankruptcy). However, this does not mean that volatility statistics in general, and factor models like the CAPM in particular, offer no insight into discount rate estimation.

To explain, first consider that risk transfer is often priced in the insurance industry via the volatility-adjusted expected loss of a risk at some level of confidence. In simplified form, this is effectively what the CAPM does for security pricing: adjusts a base, risk-free rate by the amount a security covaries with the market (covariance being a volatility metric). Understanding the implications of this within the context of an investment and/or corporate finance strategy could be invaluable. For example, I have written about a factor model used successfully in the insurance industry to both estimate insurance company discount rates and to help identify ways of achieving required insurance returns over time (the paper can be found here).

Please note that I am not advocating a mechanical approach to discount rate estimation; rather, I am suggesting that the select use of certain analytical techniques such as factor models in a value investing context could help contribute to an information advantage. The reason for this is that very few people deeply understand what a reasonable discount rate for a given investment or firm is, what makes it reasonable and why, and how a firm could practically go about earning that return over time.

8. With just public information, how can you be confident that your valuation is correct while the market is wrong?

The phrase “just public information” presupposes all public information is read and understood. In my experience, this is rarely the case; meaning, very few people take the time and effort to read and understand all available financial information. To the extent that you do, you will have a relative information advantage over Mr. Market and thus be able to estimate the probability you are right and “he” is wrong. Needless to say, such estimates are always probabilistic.

9. What are the best books about special situations investing?

My favorites are “Distress Investing” by Marty Whitman, who got his break in distress when the Penn Central Railroad filed for bankruptcy in 1970 (yes, 1970!), and “Creating Value Through Corporate Restructuring” by Stuart C. Gilson of Harvard Business School, a brilliant teacher and an award-winning researcher.

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