I came across this quote from Jesse Livermore earlier this year and it has been ringing in my head almost every day since:
“Throughout all my years of investing I've found that the big money was never made in the buying or the selling. The big money was made in the waiting.”
I’m bored with Mr. Market’s wild daily gyrations. I believe in running with a concentrated portfolio that includes only your best ideas. I think that approach actually lowers risk as you only end up owning your very best investment ideas. What a concentrated approach however doesn’t lower is volatility. I’m ok with seeing my paper net worth jump move around significantly from one week to the next. I know what I own and am happy to buy and sell no securities for several years and let the managers of the companies in my portfolio create additional value for me. The big money is made in the waiting. At this point in my investing career my fear that Mr. Market knows more than me is virtually gone.
For fund managers who have to answer to external investors though, volatility is a little more tricky. Waiting isn’t so easy.
One fund manager who I’m a big fan of is Whitney Tilson at T2 Partners. I had the chance to read his August letter to investors in which he had to discuss a month in which his fund dropped 13.2%.
Taking that kind of information to your external investors can’t be easy to do.
If I were an investor in T2 Partners I wouldn’t be the least bit concerned with one month or one year of underperformance. Tilson runs a pretty concentrated portfolio because he is trying to make his investors the highest risk adjusted return possible. He isn’t a closet indexer whose number one concern is not straying too far from the performance of the overall market. Every successful investor is going to have periods of underperformance. The more concentrated that investors portfolio, the larger that underperformance will be.
Despite Tilson’s underperformance in the short term, he is not suffering from a wave of investor redemptions like Bruce Berkowitz at Fairholme. In his August letter he explains why that is and helps create a model for other aspiring concentrated value managers to emulate:
Armed with the knowledge that we are certain to underperform at times, we’ve built our business to withstand such periods. As Warren Buffett said at the 2009 Berkshire Hathaway annual meeting, ―You don’t want to be in a position where someone can pull the rug out from under you or, emotionally, where you pull it out from under yourself.‖ Here are the key ways in which we’ve done this:
1. We read constantly, with an emphasis on company and industry reports, market history, and lessons from the greatest value investors. We do everything we can to tune out the short-term noise so, for example, we almost never watch financial television.
2. We have never pursued hot money and, while that’s cost us in terms of assets under management, today we’re happy to say that we have no fund of funds or any institutional money whatsoever. All of our investors are investing their own money, with no intermediaries. 3. Our redemption terms – either full redemption once a year or ¼ redemptions quarterly, with 45 days notice – have also no doubt cost us substantial assets, but ensure that investors who choose to redeem, which tends to happen when our performance is worst, can’t pull the rug out from under us. We currently have virtually no redemption requests. 4. We’ve done everything we can think of to build a level of trust with our investors. We know of no other fund that communicates with as much openness, depth and frequency as we do. We want our investors to understand what we’re doing so that when tough times come, they stay (or even add to their investments). Thanks to these steps – and thanks to you – we are not troubled by the recent market turmoil. As we’ve done in the past, we are playing a strong hand and are confident that we will all ultimately be rewarded.
T2 Partners is designed to attract long term investors. This allows Tilson to wait for his concentrated portfolio of investments to create the desired results. Over time Mr. Market will figure out the intrinsic value of a company. In the short term, all bets are off.
Tilson’s recent underperformance spells opportunity for the rest of us as we can wade into his concentrated portfolio and pick out investments at prices considerably lower than what Tilson paid for them. This gives us an extra margin of safety.
Here are the worst performers in the T2 Partners portfolio in August from which we can try and pick bargains. The number in brackets is how much each investment was down just in the month of August:
- Grupo Prisa B (OTC:GPOPF) (-28.0%)
- Resource America (REXI) (-23.3%)
- Citigroup (C) (-19.0%)
- General Growth Properties (GGP) (-18.9%)
- Iridium warrants (IRDM) (-17.6%)
- Seagate (STX) (-16.6%)
- Winn Dixie (WINN) (-14.1%)
- J.C. Penney (JCP) (-13.4%)
- BP (BP) (-13.3%)
- CIT Group (CIT) (-13.0%)
- dELiA*s (DLIA) (-11.5%)
- Sears Canada (SEAR.PK) (-11.1%)
- Howard Hughes (HHC) (-10.5%).
Do your own work before buying any of these as you need to know what you own. Starting with a short list of ideas already vetted by a proven long term outperformer isn’t the end of our work, but it is a great place to start.