Graham Versus Buffett
After an entire day of devouring a certain company’s annual report, my mind is fatigued from scrutinizing its accounting policies, its rebate policies, its revenue recognition policies and more. The idea is to actually figure out what management’s intentions are and to see the things that they are seeing. That is what makes investing fun. It is almost as if one is doing a sort of a detective work. Sometimes, you are looking out for shenanigans. And at times, you just want to understand the incentives that pervade management culture. It’s incentives that we must beware of. If an investor can understand incentives, the concept of a margin of safety, investing nirvana is just around the corner.
So I retreated from the scrutiny of what management does to a meditative mode. I do that all the time. And I reflect on my investing journey and how better I can improve on my slate of tools which I have practiced for a while now.
And I came across this from Shakespeare.
“This above all : To thine own self be true.”
What does this have to do with investing anyway? For me it does. I had to figure out the hard way as I have written about so often in my books on net current asset value investing and deep value investing. Each investor has to find his or her own unique inclinations and bring it to the game as best as they can.
A long time ago, I was an avid reader of Buffett’s letters and reverse engineered many of the companies he had invested back in the day. Well, we have heard of the recent. We have got IBM, Apple Inc etc. And then we have got some of his earlier purchases like Washington post, Coca Cola and much more.
One thing is certain.
I cannot for the life of me decipher what is Buffett doing sometimes. And there are instances of Buffett’s buying of some large large assets such as Burlington Northern Santa Fe, which appear fairly valued but turn out undervalued anyway. I could not understand the purchase of IBM and many others as well. The thing is Buffett’s form of value investing has morphed from the old days of cigar butt investing such as working capital bargains, net nets, single digit PE issues to GARP or growth at reasonable price where value and growth are joined at the hip as he will call it. And these days, it seems that his investments look like “Growth At Less Than Reasonable Prices”. I understand that there are a lot of Buffett followers and fans and I am one too. But I have to say that that is what I have been observing. For instance, the Kraft Heinz deal with 3G Capital was one of the worst I have ever seen. It definitely was not Graham-like. Graham would not have agreed with that very deal. But let’s put it all on me. Yes it is on me. My world view, does not put me in the vantage point capable of understanding all of Buffett’s investments. That, I admit.
But back to the my perceived problem on paying a price for growth.
The problem with growth is that many investors overpay for it, believing that the economics of the business is sustainable and then realizing their assessment of the moat was wrong later.
Investors who have tried to mimick Buffett’s brand of value investing have fallen short of a good performance. The problem is this. The price that we pay for growth can make or break us when we attempt to invest in GARP like scenarios. Typically Buffett spends years following up on a company. He has an inside-out idea of the capabilities of management, pricing power, the working capital position of the company, the necessary levels of capital expenditures and the right view on the capital allocation skill sets of management. I mean do we really know how the cost of raw materials are going to affect gross margins ? Is growth in sales revenue a probable thing for most companies we invest in? Are operating expenditures going to change? Do we really understand the cash conversion cycle of the business and how it affects cash flows? Or are we just prone to extrapolation bias? I think for most of us, me included, the latter bias is highly functional in our programming. So I am guilty as charged. And that is what Warren knows. He knows that these biases are laden in him as well.
He understands all of this deeply and not just on a superficial manner that most investors look at and he takes extra care not to fall into these biases most have. But for folks like us, it is not easy. Most investors who try to attempt a GARP like purchase do so based on the earnings growth and sales growth of a company. That is frankly quite amateurish and superficial to say the least. Sales growth and earnings growth can be manipulated and are also subjected to a lot of uncertainty. I have seen that happen one too many times. Financial shenanigans are more common than we think them to be. It is just a matter of the extent of it and whether it is acceptable to an investor.
On the whole, Buffett has spent years investigating Coca Cola even before investing in it. Some investors spend days looking at an issue and decide that it is worth investing in. They decide in a few days that they can understand management and its intentions. Is that the right thing to do for most investors? I think not. To really understand a company the way Buffett does, it takes a tremendous amount of Philip Fisher style investigation.
Hence, the truth of the matter is that most investors are far better not investing the way Buffett invests currently. Instead, one should look to Graham. Graham’s brand of investing is more quantitative and can be more forgiving for investors starting out. I mean you can carve out an entire profession around just some of Ben’s ideas. And that was what Walter Schloss did. He spent a huge part of his time in his earlier years buying up working capital bargains, net nets and low price to book issues. For example, Graham didn’t really focus too much of his time on the managers. If the numbers looked good, there was compromise in a sense that he was willing to ease up on the management factor when it came to deciding which stocks to invest in. In this way, you don’t have to have the kind of in depth knowledge that Buffett has on the company, the products and services, pricing power, volume and growth considerations and much more.
Graham’s role in the investing world has diminished, largely due to the stories that we and the media tell ourselves. I know of an acquaintance who claims to be a Buffett practitioner but when I look at his stocks, he is buying single digit PE stocks, which are situated in highly competitive industries and have short runways of growth. To me, he is more like a Grahamite but the chap does not know it because all we hear about mostly in the media is “Buffett, Buffett, Buffett”. And if you look at what Buffett has done, his best performance was the first 10 years of his investing career where he invested in cigar butts!
So I morphed along the way recognizing that I was no Buffett. I am happy to use Ben Graham’s ideas on investing for a long time to come. And I would be more than happy to specialise in deep value investing and be a master on just “one trade” if you know what I mean. This is the same idea around Howard Marks idea of Specialisation where each portfolio should have a single investment specialty.
As Shakespeare said eloquently : This above all. To thin own self be true … And so it is in investing. To yourselves be true. Find your way, the way that resonates with your heart.
As always, may you be blessed with prosperity, health and happiness! And may I add as well , thank you Benjamin Graham. May your soul be blessed!
The Man Who Made $300 Million
Man Of Mystery : Learn about a business executive from Hong Kong that seized a once in a lifetime opportunity during 2008-2009 to earn hundreds of millions of dollars. One deal was all it took for him. That is also the reason why contrarians are the gods of the financial world. And I will keep this man a mystery for now. His story is unknown and yet needs to be told. After 100’s of hours of sleuthing through annual reports and other filings, I have an idea of how he made 100’s of millions. I intend to give this information in the form of a talk or in a video presentation or via an article someday. So if you are interested in this story, and consider yourself a high net worth individual capable of going against the grain, this may be for you. I have to also caution that this may not be for everyone. Just leave your email below.
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