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The Science of Hitting
The Science of Hitting
Articles (454) 

'Moneyball', FAANG and Buying Opportunities

Some random thoughts after a month off

October 04, 2017 | About:

For me, writing is like riding a bike. When I am putting together a new article every few days, the ideas seem to come easily. On the other hand, when I take a prolonged break, the well runs dry.

Lately, it has been the latter. I did not write in September - and not because I was particularly busy. Simply put, I did not have anything to say that I thought was worth your time.

I am writing this article to force my feet back onto the pedals. Even though I am discouraged by what Mr. Market is offering (which is partly why I do not have much to say), it is always important to remember to keep your head down; doing your homework will pay off at some point down the road.

So with that, I am going to try and get back to a regular pace of writing this month. This first article is a hodgepodge of ideas and topics I have thought about over the past several weeks.

"Moneyball"

I recently finished reading “Moneyball” by Michael Lewis. It is one of those books you cannot put down. It is that rare combination of a remarkable story in the hands of a masterful storyteller.

“Moneyball” tells the story of a cash-strapped team that managed to level the playing field against the wealthiest organizations in baseball. The general manager of the Oakland A’s (2002 payroll of ~$41 million) realized he would never win playing the New York Yankees (2002 payroll of ~$125 million) at their own game. He couldn't pay huge and growing sums to the players widely accepted as the best in the world; if the A's wanted a chance to compete in the major leagues, they needed to do something different.

In the late 1990's, key members of the A's organization realized that the evaluation of ballplayers in the major leagues had some serious flaws. The statistics that determined the true value of a player to his team were being underappreciated by the scouts. The A’s found an inefficiency in the market. What followed was baseball’s version of value investing: the A's spent the next several years acquiring no-name players for peanuts that offered as much value to the team as some of the highest paid players in the game.

The other thread in the book addresses how people (and specifically “experts”) reacted to this development. As you probably suspect, it was not encouraging. As you or I would likely do in the same situation, “baseball people” rejected new data for decades and held firm to their beliefs.

I think this quote from Steve Jobs speaks to a key takeaway from the book:

"Throughout the years in business, I found something: I always asked why you do things. And the answers you would invariably get are 'Oh, that’s just the way it’s done.' Nobody knows why they do what they do. Nobody thinks about things very deeply in business – that’s what I found… In business, a lot of things are – I call it folk lore: they’re done because they were done yesterday and the day before. That means is if you’re willing to ask a lot of questions and think about things and work really hard, you can learn business pretty fast – it’s not the hardest thing in the world."

Howard Marks and FAANG

Howard Marks (Trades, Portfolio) published a memo titled “There They Go Again . . . Again” at the end of July. Judging by the public response, the message wasn't clearly received. As a result, Marks published another memo in early September titled “Yet Again”. The second memo really struck a chord with me. I will give you a few examples.

First, Marks points to some of the responses to his original memo. A few comments hit on one of my major pet peeves in the world of finance - people who can string together a slew of words without saying anything meaningful. Much like the “business folk lore” discussed above, it seems many in our industry do not think very deeply about what they say or believe.

Marks points to this gem: “There are stocks that are past my sell points, [but] I’m letting them continue to burble higher.”

As he notes, this is either absolutely illogical or a sign of investor error and a lack of discipline – the lack of disciple you typically see in a bull market.

I think he makes another compelling argument on the FAANGs. His point – that an anointed group of super stocks is indicative of a bull market – was completely missed in the reaction to the first memo.

In his follow-up, Mark quickly makes this point and moves on: “That’s everything I have to say on the subject.” But I will take it one step further: What I find most interesting about the FAANGs (and which seems comparable to the anointed stocks of prior eras) is the discussion rarely comes back to the intrinsic value of these businesses. For example, at what price is Netflix (NASDAQ:NFLX) a sell? And if you owned the stock five years ago (when it was trading at $10 per share), what was your answer back then? I would love to see a write-up from an investor that answers these questions.

My suspicion is many FAANG shareholders do not think about it that way. They probably share the sentiment of a financial advisor recently quoted in the Wall Street Journal:

“I think FANG will define our generation… These are the companies that, well, if you’re not involved in them, you’re not really an investor.”

Investor survey

I will close with some interesting data points from a Wells Fargo / Gallup poll released last week. The results were based on phone interviews with 1,000 U.S. adults in households with more than $10,000 in investments (stocks, bonds, or mutual funds).

The survey found 26% of investors said they still have not financially recovered from the recession. As you think about that, remember the S&P 500 is now about 60% higher than it was at its peak in 2007 (before dividends). That number (26%) seems oddly high to me. If I am interpreting it correctly, that suggests some meaningful underperformance by a significant percentage of the respondents.

Here is another result that caught my eye: 27% of the investors – the highest on record – said they would see a market correction as a buying opportunity. I think it is safe to say their confidence has been reinforced by price action over the past several years. Nonexistent volatility and a quick reversal after any declines has led an increasing number of individual investors to conclude they should act aggressively when the S&P 500 falls a few points.

That has worked great lately, but at some point dark clouds will be followed by a real storm. Let’s hope for their sake these investors can stick to their guns when the environment becomes more tumultuous.

Disclosure: None.

About the author:

The Science of Hitting
I'm a value investor with a long-term focus. As it relates to portfolio construction, my goal is to make a small number of meaningful decisions a year. In the words of Charlie Munger, my preferred approach to investing is "patience followed by pretty aggressive conduct". I run a concentrated portfolio, with a handful of equities accounting for the majority of its value. In the eyes of a businessman, I believe this is sufficient diversification.

Rating: 4.6/5 (13 votes)

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Comments

maurodejesus
Maurodejesus premium member - 2 months ago
Thanks for the article.

But keep something in mind: other value investors, like Bill Nygren (Trades, Portfolio), are heavily invested in Alphabet, which they think is undervalued. And their investment thesis are public. You can check on them, not necessarily agree.

Regards

snowballbuilder
Snowballbuilder - 2 months ago    Report SPAM
Hi science

Interesting article on an Interesting (and hot) topic

First i dont own any of the FAANG stocks

That sayd i have a personal view on these theme

I would not buy any faang at current valuation but also (if i had already them in my portfolio) i would not sell (only some small fraction of the position).

You could sayd is not fully rational not be willing to buying but at same time holding on without selling... Maybe is true... But i think when you find a really great company thats the only way to extract the full potential and enjoy the power of compunding for years.. No value investor with strickly sell valuation target could enjoy an 100x ... They would Have sold a lot early. Many years early.

Chuck Akre (Trades, Portfolio) (who has 2 more than 100x... A 30 years position in brk and a 15 years position in amt) say ... If and when you find a really great one ... sitting on and dont sell.

The same tom russo with is more than 20 years position in nestle, brk, heineken and Philip morris

Or Chris Davis (Trades, Portfolio) with Amazon and Google

(or phil fisher to go back in time).

I have these mixed approach... I try to be really patient to Have a good entry valuation but if when i m sitted on the company do really well, growth, reinvest and compound i try to be extremely patient and let the real great ones run and compound for years.

I think also monish pabrai make a similar point (of the important of let the real great ones time and freedom to growth despite the up and down in valuation) in his "searching for 100 baggers" talks and he is trying to sitting fermily on google .

Just some thoughts

Best snow



The Science of Hitting
The Science of Hitting - 2 months ago    Report SPAM

Maurodejesus,

I think Alphabet is interesting (and the track record they've put up is obviously stellar). It's not in my wheelhouse at this time, but I wouldn't be surprised to see the stock do quite well over the next 5-10 years. Thanks for the comment!

The Science of Hitting
The Science of Hitting - 2 months ago    Report SPAM

Snow,

Fair point. The distinction you make is important: the investors you called out are clearly saying that they don't have a sell point. They want to buy and own great businesses for a long, long time. That's a lot different than someone who says a stock has moved past their sell point, but it's just too painful to let it go and miss the next few points higher (a sentiment I can certainly appreciate). Said differently, I can see the logic in both paths - as long as you stick to your approach. Thanks for the thoughtful comment!

stephenbaker
Stephenbaker - 2 months ago    Report SPAM

Nice thoughts - I enjoy your articles. As Buffett points out, selling requires not 1 but 2 decisions - when to sell and what to do with the proceeds of sale. Not to mention CG taxes on taxable account holdings. Selling great companies with high valuations that otherwise remain great companies is not always a good decision.

The Science of Hitting
The Science of Hitting - 2 months ago    Report SPAM

Thanks Stephen. And I agree with your comments, but would note that people become much more comfortable buying into that philosophy after eight years of multiple expansion. We'll see if they're saying the same thing when Mr. Market is less kind. UA is a great example: people were confident in the long-term thesis as long as they're making lots of money; now that it has gone the other direction, they are nowhere to be found. Thanks for the comment.

stephenbaker
Stephenbaker - 2 months ago    Report SPAM

Hi Science, I know you are high on UA and have looked at it (and keep looking at it, LOL) - I guess it remains in the "too hard" pile for now - perhaps I need to be hit over the head with the investment thesis some more. You're right about how easy it is to do nothing after a near 10 year run. It all depends how you look at investing. Personally I like great companies with (preferably rising) dividends which may have stumbled for a reason that has a fix. The long term viability of a company is far more important than the stock price and its current operations - it took me half a lifetime of investing to finally come to that realization and as always, Buffett was right. Of course it helps to have other viable streams of income with which to invest when stocks do inevitably become "cheap" so you don't necessarily have to sell existing holdings to fund future purchases, though with interest rates remaining historically low, cheap equity prices could be further away than we all believe.

The Science of Hitting
The Science of Hitting - 2 months ago    Report SPAM

Stephen,

Agree 100% - for the truly great businesses with sustainable competitive advantages (meaning decades), almost always underpriced; that's really what I think the investors cited above are saying. We are on the same page: that's a great way to get rich long-term :)

UA is a great example of sentiment changing violently - and that's when the people who were "long-term" investors at ~$50 per share aren't so sure anymore at $15 - $20 per share. Just to clarify on UA, it's still a very small % of my portfolio. Like yourself, there are aspects of it that I think are in the "too hard" pile (don't want to be overconfident). Some of those hurdles become more bearable as the price keeps falling. Hopefully single digits are on the horizon! :)

Spunia
Spunia premium member - 2 months ago

Apple is overvalued ?

The Science of Hitting
The Science of Hitting - 2 months ago    Report SPAM

Spunia,

I'm not sure! But if you own it I hope you have a better answer than I do :)

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