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Profile Of A Value Investment- Prem Watsa's International Coal History

While value investing is practiced by a small minority of market participants, even fewer understand, or have the patience to see it through. Many people think it is as simple as buying a stock that is cheap, and then it goes up from there, typically within a few months to a year. Sometimes investments do turn out like that, but usually higher returns are generated by dollar cost averaging, and being willing to hold the investment over a 3-5 year period. In Fairfax Financial's annual report Prem Watsa shows a wonderful example of the often painful, yet rewarding practice of value investing.

Purchases of International Coal Sales of International Coal
# of Shares Cost Per Share Total Cost # of Shares Cost Per Share Total Proceeds
2006 1.4MM $4.58 6.4
2007 19.7MM $4.39 86.3
2008 9.1MM $1.81 16.5
2009 15.MM $2.87 43.1
2010 22.6MM $7.26 $163.9MM
2011 22.6MM $14.6 $329.6MM

Total 45.2MM $3.37 152.3 45.2MM $10.93 $493.5MM

Total Realized Gain: $341.2MM
Profit %: 223%

At TTCM we utilize the practice of selling puts to get us into stocks (that we already find attractive) at cheaper prices. Often this entails taking a short term mark to market loss. As a stock goes down we tend to add to the position either by buying the stock outright or selling more puts. We'll only sell puts if the rate of return earned by the puts expiring worthless is extremely attractive. Often newer clients think that it is our desire to have all puts expire worthless, but the largest returns are actually made when we get exercised on puts in a period of high market volatility, and then we are able to ride the stock up over the next several years.

If you look at the financial stocks that we have been buying for clients you will see this activity put into practice. We started acquiring the stocks at significant discounts to intrinsic value, and things have gotten cheaper allowing us to dollar cost average. Implied volatility has been extremely high which has allowed us to collect ample premiums on the put options. Depending on the stock, strike price, and expirations, we've seen many expire worthless which generates cash, and others get exercised allowing us to acquire the stocks at cheaper price. If the financial system doesn't blow up (which we don't expect) we believe that the returns over the next 3-5 should be in excess of 20% on an annualized compounded basis. Obviously there are no guarantees but as always the goal is to constantly educated, communicate openly, and most of all make money!