Value Investing Generates Higher Returns, Lower Risk

Value Investing Generates Higher Returns, Lower Risk

Value Investing Generates Higher Returns, Lower Risk

$BRK.A, $SHLD

GuruFocus founder Charlie Tian, PhD’s book, Invest Like a Guru: How To Generate Higher Returns At Reduced Risk With Value Investing.

Dr. Tian doesn’t have a background in finance.

He is a physicist expert in fiber optics and lasers.

Perhaps because of his non-financial background Dr. Tian approaches the investing process in a scientific way, picking apart the strategies of successful investors to see how they work.

Much of Invest Like a Guru, GuruFocus  is focused on the strategies of wildly successful value investors such as Warren Buffett, Peter Lynch and Donald Yacktman.

The dominant theme of the book is quality investing, or what I call Aristocrat investing.

Mr. Buffett famously said “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price,” and Dr. Tian spends most of Invest Like a Guru expanding on that core idea.

Chapter 6 is useful as a 20-pt checklist of criteria to look for when seeking out quality companies, including consistent profitability, capital efficiency and insider ownership.

Invest Like a Guru is full of solid advice in what to look for in a stock, but it is more useful in telling us what to avoid.

As a case in point, Dr. Tian dedicates a chapter to deep-value investing.

Deep-value investing is what Warren Buffett called “buying dollar bills for 40 cents” early in his career. Later, he mostly eschewed the strategy, calling it “Cigar-butt” investing.

The rationale is easy enough to understand: “It is hard to lose money buying a company that is worth more dead than alive. If a company’s net assets are worth significantly more than its current market price, management could sell off the company for spare parts and deliver a decent profit to shareholders. And generally, that would be the right move. Remember, if a stock is trading that cheaply, chances are good that it is a company with very deep problems.”

The problem is that it never quite works out that way.

Monetizing assets is complex, and management has a vested interest in keeping the enterprise going. And the longer they do, the more value gets eroded, and the longer they get paid.

As a case in point, consider the case of Sears Holdings (NASDAQ:SHLD).

Eddie Lampert and Bruce Berkowitz, respected value investors effectively bet their careers on Sears in the belief that its real estate and brand portfolios represented massive untapped value. The problem is that the Sears retail business continues to deteriorate around them.

They may eventually unlock the value they had hoped to, but it will have cost them dearly in money, reputational damage and perhaps most importantly opportunity cost.

Had they focused their energies elsewhere, they might have made far better profits with far less headache.

The financial media has hammered them and Sears alike.

Warren Buffett learned the same lesson with Berkshire Hathaway (NYSE:BRK-A), which was a failing textile producer when he originally bought it in the 1960’s, that’s when I met him in Newport Beach, CA with the local Merrill partner, Edward Delaney. We spent an afternoon talking about stocks and Ferraris. The one I was driving then cost me $2.2-K, recently it sold of $25-M. To my knowledge he never bought a Ferrari.

Berkshire failed, but only after Mr. Buffett had wasted untold time, money and energy trying to keep it afloat. Mr. Buffett called his purchase of Berkshire Hathaway a “$100-B Mistake.”

Dr. Tian finishes the Chapter with the simple observation that “There are better ways to make money.”

If you’re new to value investing, I recommend Invest Like a Guru.

Even if you are a seasoned investor, you will find plenty of food for thought, it a solid addition to the value investor’s library.

Stay tuned…

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Paul Ebeling

Paul A. Ebeling, polymath, excels in diverse fields of knowledge. Pattern Recognition Analyst in Equities, Commodities and Foreign Exchange and author of “The Red Roadmaster’s Technical Report” on the US Major Market Indices™, a highly regarded, weekly financial market letter, he is also a philosopher, issuing insights on a wide range of subjects to a following of over 250,000 cohorts. An international audience of opinion makers, business leaders, and global organizations recognizes Ebeling as an expert.

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