Value investing – simple but not easy!April 4, 2016
By Neha Idnany
“Investing is simple, not easy” remarks Warren Buffet. Or to be more matter- of- fact, as his partner at Berkshire Hathway, Charlie Munger says, “It’s not supposed to be easy. Anyone who finds it easy is stupid.” Understanding that a 1 rupee opportunity is available for 50 paise is simple. Understanding the circumstances which lead to the opportunity being valued at 1 rupee is simple. Figuring out the probability in which the circumstances hold true is also simple. However, pulling the trigger and putting a large sum of one’s money to work on the idea is not easy. Or for that matter, remaining steadfast with an investment for the long term, when markets are buckling is not easy.
Value investing is an art and a science, as any school of investment banking might teach. The art far supersedes the science. The mind far surpasses intelligence. Strength of character far outshines mathematical ability. One need not be a genius to be a brilliant investor. But one does need complete self-awareness to be an outstanding investor. Patience, humility, discipline, curiosity, imagination, accepting and learning from one’s mistakes, knowing one’s limitations are some of the requisite qualities in the makings of a great investor.
Value investing is a journey not a destination. The first step in the journey is selecting a business to understand. It begins with the ability to pass on a business as ‘too difficult to understand’. It begins with the ability to say ‘no’. Warren Buffet has been good friends with Bill Gates, founder, Microsoft for many years. He, however, does not own a single share of Mircrosoft as businesses in the technology domain lie beyond his ‘circle of competence’. At the start of the 21st century, people at Wall Street wrote off Buffett’s investment career as history, since he rigidly refrained from investing in technology companies while they touched new highs. Fast- forward to December 2015, over the last 51 years the per-share book value of Berkshire Hathway Inc, Buffett’s investment vehicle has grown from $19 to $155, 501, a compounded annual growth rate of 19.2%. Not too bad an outcome for sticking within one’s circle of competence!
The next step to the investing journey is understanding the business at hand. Today is the digital age where the competitive advantage of information is passé. Data collection is simple. The ability to look at the data with an unbiased eye and analyze and interpret it for it’s worth is not easy. One needs to be curious. Cross-referencing and co-relating the present circumstances with other industries enables one to determine probabilities of outcome. One needs to be a constant learning machine. Knowledge of history gives a path to the future. Understanding psychology enables one to guesstimate how the markets would react to an occurrence. As Howard Marks of ‘Oak Tree Capital’ says, one needs to train the mind to think at a second level. A style of thinking, where one doesn’t just look at data and think what it represents but also pushes the envelope and thinks about how people who look at the data would think.
The third step in the investing process is to ascertain a value to the business at hand and wait patiently until Mr. Market, our manic depressive friend gives us the opportunity to invest. Discipline in not making an investment at any price and waiting for the chance to invest at the right ‘margin of safety’ is what differentiates a great investor and a good investor. Once committed, one needs to re-visit the original thesis and compare and contrast it with the actual outcome. Humility in accepting a mistake and cutting a loss on the one hand and fortitude in staying with an investment if the thesis is panning out, irrespective of what the stock price suggests, on the other hand, makes one the return as anticipated.
Although it may seem that the path to being a value investor is simple to understand but not easy to follow, one needs to know that on reaching the destination, one will be a patient, humble, curious, self-aware and extremely wealthy individual. An outcome which many would be happy to commit to.
Imarticus is soon launching a Certification in Value Investing course that is meant to train new investors on investment secrets by great investors, along with frameworks and processes of investing in a way that manages and preserves capital.