An Alternative Approach to Helping Investors Reach their Long-term Investment and Retirement Goals
Our firm manages a concentrated (typically 20-35 stocks), all-capitalization portfolio of stocks that derives a significant majority of its value add or alpha from mid-and smaller-cap stocks. The strategy’s style is inherently value biased. Still, it can be construed as “core” or “blend” because our definition of value is dependent on a stock’s purchase at a price below our calculation of intrinsic value (as opposed to other relative value-based investment methodologies).
Our Investment Philosophy
Market Efficiency (or Inefficiency)
“In the short run, the market is a voting machine but in the long run, it is a weighing machine.”
— Benjamin Graham
Stocks are inherently volatile assets due to the sheer number of participants involved, the diversity of their motives, and the wide range of emotions they employ. Stocks are frequently prone to excessive volatility when emotions particularly run hot. We believe this excessive volatility is a sign of short-term stock market inefficiency. However, we believe the stock market is more efficient over the long-term as rational investment behavior reasserts itself. Similarly, excessive volatility causes the market prices of stocks to deviate from their intrinsic values.
As time progresses, the market prices of stocks generally return to their intrinsic values. We believe that stock market inefficiency, as represented by excess volatility, is exploitable and represents an opportunity for profit. In our experience, excessive volatility can and does extend to all manner of companies and stocks. Even the best companies and their stock can be affected by stock market inefficiencies and come to exhibit excess volatility, creating exploitable investment opportunities for the astute investor.
The Main Source of Risk to Long-term Investors
“We steer clear of the foolhardy academic definition of risk and volatility,
recognizing, instead, that volatility is a welcome creator of opportunity.”
— Seth Klarman
We believe that the investment community’s definition of risk as volatility is inappropriate and generally does not apply to all participants. Although the effects of volatility can be particularly disastrous to investors with near-term income or liquidity requirements, long-term investors can and should be less constrained by it. As opposed to gambling or speculation, we believe that investing is, by definition, a long-term strategy.
We believe that stock market volatility is a source of investment opportunity for long-term investors, especially when excessive. Investors with a strategy to benefit and exploit stock market inefficiencies and excessive volatility should concern themselves with (and try to avoid) greater risks. These risks include a permanent loss of capital, the risk of outliving their wealth, or the failure to meet their long-term investment and retirement goals.
Diversification (or Not)
“Wide diversification is only required when investors do not understand what they are doing.”
–Warren Buffett
We believe the idea of portfolio diversification is counter-intuitive and works against our active management goals. The concept of diversification is meant to reduce the impact of stock market volatility. We believe stock market volatility represents an exploitable investment opportunity. Therefore, limiting the opportunities we seek to exploit would seem rather perverse. Diversification is a sliding scale. Too little and you risk putting all your eggs in too few baskets; too much and your portfolio and expected return mimic the broader stock market (index).
We believe excessive diversification (in addition to high investment-related fees) is a main contributor to poor active management performance relative to passive/index investing. We think investors who seek excess returns above and beyond what one could expect to receive from the broader stock market should choose an investment manager that minimizes fees and seeks to differentiate their investment portfolio to ward off the indexing-like characteristic of diversification.
“Risk is not inherent in an investment; it is always relative to the price paid.
Uncertainty is not the same as risk.
Indeed, when great uncertainty – such as in the fall of 2008 –
drives securities prices to especially low levels, they often become less risky investments.”
— Seth Klarman
Our Focus
- Exploit short-term market inefficiency to add value,
- Recognize that a permanent loss of capital (and not volatility) is the greatest threat to investors,
- Minimizing loss of capital by investing in quality companies that sell at a commensurately wide margin of safety,
- Employ discipline, patience, and a long-term investment strategy to maximize the opportunities presented,
- Invest with confidence and conviction in a portfolio that is highly differentiated from the market,
- Utilize a concentrated 15-40 stock portfolio, &
- Maintain an average holding period of 3-5 years.