Value Investing: Lessons from the World’s Top Fund Managers

I’ve heard my friend Meb Faber say that investors have one of two psychological makeups: value or trend/momentum. These are two very different attitudes towards stocks and towards markets. When Ben Graham said, “The market is there to serve you, not to guide you!” he summed up the entire value philosophy. A momentum investor might say the opposite—they would say that the market is there to guide you.

Both styles have worked very well in the past—the key is finding the style that best suits your particular psychology.

Relative to momentum, value is a tougher test of your resolve, but it is a pretty simple strategy—most of what can be said about value investing has been said. Everyone talks about some combination of 1) owning part share in a quality business, 2) buying good companies at good prices, 3) finding moats, 4) insisting on discounts/margins of safety, and 5) making contrarian bets (buying stocks under duress).

Because most of what you read on value is more of the same, I was pleasantly surprised by the book Value Investing: Lessons from the World’s Top Fund Managers. It explores the personal stories of several great managers and details the lessons they’ve learned. Jerry Seinfeld has a joke about the many options for painkillers in the drug store: “this one is fast acting, this one is long lasting. When do I want to feel good? Now, or later?” The managers in this book would certainly choose “later.”

Across the twelve managers discussed (who come from all over the world), two common themes emerged.

First, the best investors realize they do not (and cannot) know everything, there is wisdom in admitting one’s ignorance.

“Because I don’t like stress and prefer to avoid it, I never focus too much on market news and economic data. They always worry investors! Besides, I am not good at market timing, so when people ask me what I think the market is doing, their guess is as good as mine.”

“Besides, some of the best analysts I have dealt with have enjoyed explaining complicated situations and how a company could turn itself around and so forth. I always tell them that they are smart, but the more complication they try to read into the story, the higher the probability that they will make a mistake. I tell them that there is nothing wrong with making money through simple investment ideas.”

The most important and powerful realization I’ve had as an investor is that the future is almost completely unknowable. When I’ve tried to make predictions I’ve usually been wrong, often immediately. Some people will always get rich betting on future outcomes and being right, but there is too much luck involved in that strategy.

What matters instead is finding opportunities with very low current consensus expectations for the future. We know that among these low expectations (value) stocks, there tend to often be gaps between perception and reality, and it is those gaps that represent persistent market opportunities.

“There is no point asking about a company’s earnings outlook because if we are investing for the long term, then short-term earnings never affect our intrinsic value calculation. Asking management about long-term plans is also pointless to me because the world changes. No one can predict what will happen, and so what is more important for us as analysts is to discover the underlying strengths and weaknesses of the business ourselves.”

A stock’s current valuation is a consensus forecast made by the market for that stock’s future. Given how hard it is to divine the future, these forecasts (prices) are wrong often enough to create opportunities.

Legendary investor Philip Fisher wrote in Common Stocks and Uncommon Profits, “The amount of mental effort the financial community puts into this constant attempt to guess the economic future from a random and probably incomplete series of facts makes one wonder what might have been accomplished if only a fraction of such mental effort had been applied to something with a better chance of proving useful.” Echoing Fisher, Buffett once said, “Forecasts may tell you a great deal about the forecaster; they tell you nothing about the future.”

As the saying goes, “A good business may not necessarily be a good investment, and a good investment may not necessarily be a good business.”

Second, keep it simple and do what works for you.

“When I buy a stock, I never visit or talk to management because I think that a company’s financial figures are good enough to tell the story. Besides, management always says something good about the company, which may affect my judgment. I know a lot of good investors who like to talk to management and visit companies, but that’s not me. I don’t like that kind of stress, and if I had had to run around visiting so many companies, I would have been dead after a few years!”

Value investing is as much about temperament as it is strategy. V-Nee Yeh of Value Partners Group is quoted in the book:

“I think many investors and even investment books like to discuss what the right investment style or method is, but I do not think we should get too bogged down with what is the right or wrong way in the first place. Instead, it is more appropriate to understand oneself before deciding on a specific investment style. “If you are a calm and patient person, then the value investing approach may be right for you; but if you are jumpy and aggressive, then a more trading-oriented style may be more suitable. Investing is not about finding a fixed form, but about understanding your temperamental compatibility towards investing and improving your strategy through time and experience. Otherwise, you are always fighting against yourself!”

I wish we had concrete data on Meb Faber’s notion that we either have a value or momentum personality. My guess is that “value” types would be in the small minority (indeed there are far fewer “value” mutual funds than “growth” funds). The mindset required is rarer, and is best summed up by Emerson:

It is easy in the world to live after the world’s opinion; it is easy in solitude to live after our own; but the great man is he who in the midst of the crowd keeps with perfect sweetness the independence of solitude.

For a fun read filled with good personalities, check out the book.

If you are a fan of books, check out the book club that I run: I send 3-4 of the best books I’ve read to you in an email each month, culled from the best of the 100 or so I read per year. You can sign up here.