giofranchi

There is no “excellent business model that has substantial potential for expansion”, unless someone has decided to allocate capital, and/or time, and/or brain power to it. This is something every entrepreneur knows and understands from the start. --Jean-Baptiste Say, around 1800 Of course, there is luck! But would you really jump in a “wonderful boat” stirred by someone who has just been lucky? Well, then good luck to you! ;) Gio

Liberty, I get your point! And it is funny. ;D ;D The truth, though, is simply I see those methods as tools, nothing else. Would you prefer to have them at your disposal or to have them not? Then, when they are at your disposal, it is up to you to decide how to use them. And you must know your own situation and its needs to make the best decisions possible. ;) Gio Absolutely. I do the same thing as you, and I certainly don't consider myself on the level of any of the people I try to draw inspiration from. One more thing, and this must be very clear: by “the best decisions possible” I mean the ones you are most comfortable living with. Not necessarily those that will maximize your returns in the long run… Between a 15% annual + peace of mind and an 17% annual + anguish, I go for the first choice anytime! ;) Gio

Liberty, I get your point! And it is funny. ;D ;D The truth, though, is simply I see those methods as tools, nothing else. Would you prefer to have them at your disposal or to have them not? Then, when they are at your disposal, it is up to you to decide how to use them. And you must know your own situation and its needs to make the best decisions possible. ;) Gio

No problem at all, frommi! I don’t see anything bad in participating in a vibrant economy like the US through the use of an index fund! And I am sure the combination of that simple strategy with the earnings of my operating businesses might keep me wealthy for a very long time, running almost no risk. It is a great combination that you have suggested! But, as I have told you, I am a little bit more ambitious… and I have the goal of compounding capital at 15% annual. That’s why I am trying a different strategy. But it surely is riskier. And which one will prove to be better in the end is still an open bet! ;) Gio

-Warren Buffett on June 25, 1999 (Business Week) Well Joel, when I say “you are not in Buffett’s camp” I mean exactly that! We all have different situations: some of us are private investors who work only for themselves, others are private investors who work for themselves and their families (big difference!), others manage money for themselves plus a bunch of friends, others manage money for themselves and a lot of other people (big difference!), some of us are business owner, and some must be involved in the day by day operations of their businesses, others enjoy the luxury of only be involved in strategic decisions, once again a big difference! Etc. You see? You simply cannot come out with a quote by Mr. Buffett and infer that is the best way to do business, because that quote is true only in the context it was uttered: that is to say from the perspective of one among the most successful stock pickers of all time! Do you feel to be among them? Have you a family to care for? Have you clients to care for? Have you a business to care for? How much of your time those cares consume? If the answer to question 1 is YES, to question 2, 3, and 4 is NO, and to question 5 is ZERO, then I agree with you: you need no cash! But you see? It just depends too much on the circumstances… Everything else is just theory. Models and spreadsheets might be elegant, but I have never found them very useful. This is also imo only theory. First of all, let me ask you a question: now I have 4 ideas that I think are great. In this market 4 ideas are not bad at all! To be fully invested, I’d put 25% in each idea… And what if my full position in idea n.3 and n.4 is just 15% of managed capital? How should I behave, if I don’t feel comfortable to invest in idea n.3 and n.4 more than 15% of my firm’s capital? Second, let me be very clear about this point: if someone is fully invested now, he will most probably be fully invested forever! My experience is that if you WANT to find “great bargains”, you will always find a way to justify them. I still remember Value Line that in November 2007 gave the highest mark on Safety to BAC, forecasting Annual Total Returns of 13% - 17% for the next 5 years… the stock was then trading at $46.27!! (See file in attachment) Look, when I see complacent behavior and greediness, I raise my cash reserve. Period. You know what I find extremely funny about “macro”? That I invest in LRE, which most probably will do very fine no matter what the economy in general does, and nonetheless I like to keep my eyes open and observe what happens around me. Instead, those who invest in BAC, which is a “systemically important institution”, and therefore is intrinsically and deeply connected with the US and the global economies, and therefore will surely suffer if the US and the global economies suffer, insist they don’t care about “macro”… Gio BAC_-_Value_Line_-_23_nov_2007.pdf

Way too kind, original mungerville! :) Thank you very much, Gio

To be clear: it is exactly because I read almost everything they post that I am convinced Packer, Kraven, Eric, etc. are outliers, and those who think they can imitate them are wishful thinking. With probably the only exception of Kraven, though I read what they post, I still don’t clearly understand how they manage to do what they do… I wouldn’t imitate them, even if I had the time to do so. Because, though their methods work fabulously for them, I never do anything unless I think I understand it quite well. ;) Gio

On the contrary, I read almost everything Packer, Kraven, Eric, and others post. And I think I have learned a lot form them! But I am a business owner. And I run three different businesses. Of course, I am involved in strategic decisions, and little in day by day operations, but it takes time anyway. Therefore, it would be most impractical for me to try to imitate them. An index fund would be fine indeed. But I guess it would be difficult to grow my company’s BV at 15% annual, relying solely on operating earnings + the returns from an index fund. Instead, I think the strategy of partnering with great entrepreneurs might give that little boost to my company’s portfolio returns, in order to achieve my goal of capital compounding. If I remember well, you also are a business owner, and you should be able to understand what I mean. ;) Gio

But, Tom, most of those people you refer to have only the illusion to know what they are doing! And that illusion is kept alive by nothing more than a market which went up 30%+ in a year! You really think everyone can jump in and out of a lot of different businesses, only because someone like Packer is successful in doing that?! I am sure I cannot!! Let me put this very clear: Right now I am fixating my whole attention on just 5-6 businesses, and I have the general conviction that they are undervalued, but no real idea which one is most undervalued! Even devoting a lot of time to follow each one of those businesses, because they are few and therefore I can follow them closely, I don’t think I can truly pick-up one and say with great confidence this is the most undervalued of the bunch! Let alone make comparisons among each one of them! This is not how businesses work! Businesses are complicated, constantly evolving things. And our experiences are very limited indeed! If you put together a portfolio of 100 statistically cheap stocks, like Kraven does, that’s a whole different story, and I might agree with you a constant rebalancing of that portfolio might work out just fine! But it is simply not what I do… Neither I am interested in putting together a virtual museum! But I would like to minimize my decisions of buying and selling. That’s why I have come to the conclusion that to partner with great entrepreneurs and to let them do their work is the most sensible course of action for me. And I will sell my holdings only when greatly overvalued. Like Packer has suggested, if one of them is deeply undervalued, while the others are above fair value, I also think it is safe enough to shift some capital from the fairly valued to the deeply undervalued… but that is where my trading activities will stop! Gio

Thank you Packer! And this I understand better, even if I don’t like it much, because it assumes too much buying and selling on my part. The more I buy and sell, the greater the chances I am making stupid decisions! ;) Anyway, I strongly believe that all 4 investments of mine are trading below fair value right now! Imo they are not even at fair value! That’s why I am grateful I have some cash to take advantage of good opportunities. Gio

Mine was a rhetorical question…! There is no doubt it is better to have cash, which has not depreciated, than to use a currency which instead has depreciated, like the price of my 4 investments… and a market correction hasn’t even begun! Anyway tombgrt, listen, I don’t jump in and out of stocks. I want to increase my holdings of those 4 investments of mine over time, not decrease them. And at the same time I want to be able to seize any great opportunity that comes my way. To hold some cash makes it easy to achieve both goals. If on the other hand you think you can “move around the level of portfolio concentration and leverage and focus on certain stocks depending on market conditions”, well… then good for you! I have some difficulties even to understand exactly what you mean, let alone implementing it! That’s why I don’t like math in investing, even if I am an engineer and I have always loved math and always been very good at it: because I want to keep it as simple as possible, in business I have yet to find something difficult that works well in the end. ;) Maybe you are right about VRX. But you also know that, when the price is a fair one, I pull the trigger. Then, if I get the chance to, I average down as long as I might. I will start buying around $100-110, and go on buying to the $60-$70 range. Gio

Nothing more to add. Thank you, writser and Myth, I guess the reason you always feel compelled to challenge my posts is simply I cannot sport outstanding results. I certainly don’t have the results of a Packer or an Eric… And this is actually a very good reason! No doubt about it! ;) As far as the “confirmation bias” is concerned, that’s why a like the board so much! Because there is a writser and there is a Myth, who constantly challenge my posts and investment ideas! By doing so, you strongly mitigate the risk of a “confirmation bias”! You have not succeeded in convincing me to change my approach of doing business yet, but please keep on trying!! ;D ;D Gio

FIRST: --2012AL Besides, look at the numbers at 2013 year end: $48 billion of cash, or 21% of equity; $29 billion in bonds, or another 13% of equity; they also have businesses that bring in almost $24 billion of new cash each year, or 11% of equity. Have you ever tried to put together a portfolio that yields 11% in cash and still can grow in value over time? I have! And have come to the conclusion that without leverage it is almost impossible! When people say “I am in Buffett’s camp”… My first reaction is to think: “No! You most definitely are not!” ::) SECOND: In business I experience quite often that it is much better to do nothing, rather than to embark in any venture that presents itself at any time. In business there is certainly no such thing as “a constant flow of good opportunities”… I have just an extremely hard time to believe that the stock market, which is a market of businesses, works so much differently from business itself, and always has to offer some good opportunities. ??? THIRD: Presently I run a very concentrated portfolio: FFH, LRE, ALS, and BH. They have all come down and I think they all are cheap. Yet, VRX and ENDP, which I like, have come down much harder and are approaching my target price for buying more and do so aggressively. If you were in my shoes, would you prefer to have some cash on the sidelines to purchase VRX and ENDP, or be forced to sell some of my 4 investments, even though they also have come down and I think they are cheap? ;) Gio

Who? Mr. Franklin? Mr. Vanderbilt? Mr. Sage? Mr. Baker? Mr. Mellon? Mr. Templeton? Mr. Getty? Even Mr. Buffett and Mr. Munger? No, I don’t think I am assuming anything… They have been the richest and most successful entrepreneurs in history. Period. I certainly don’t know if studying their methods and imitating them might lead to the highest returns possible over the long term… But I am confident enough those returns will be satisfactory. ;) Gio

Joel, I have really a very hard time to believe in models and spreadsheets. Usually in all the models I have seen, put in the slightest of changes, and you get completely different results. To imitate great entrepreneurs of the past and their behavior, or at least try to, is still the most sensible policy I have come up with. ;) Gio

Joel, I understand pretty well what you are saying. But probably the heart of the matter lies in the fact I am trying to run a business, not a portfolio. My portfolio of investments is just a part of my business. A very important part, but still only a part. And I look at and try to imitate great entrepreneur of the past. As far as I know, they have never talked about models nor spreadsheets… Instead, they all agree on one simple truth: they all have repeatedly said never to regret the time when cash was not enough. ;) Gio -J. Paul Getty Gio

Joel, I understand pretty well what you are saying. But probably the heart of the matter lies in the fact I am trying to run a business, not a portfolio. My portfolio of investments is just a part of my business. A very important part, but still only a part. And I look at and try to imitate great entrepreneur of the past. As far as I know, they have never talked about models nor spreadsheets… Instead, they all agree on one simple truth: they all have repeatedly said never to regret the time when cash was not enough. ;) Gio

Joel, How do you know this? Do you have their results on a 5 and 10 years basis without equity hedges? If so, could you please post them and tell us where you have found them? If they weren’t better than the indices, a long/short strategy (while waiting for some great opportunities to present themselves) would be sheer folly… Why do you think Mr. Watsa would have done that, if not convinced their stocks selection could beat the indices?! ::) Gio Well, why does it matter what it is without hedges? They did hedge, and those are their results over that period. I'm sure they beat it without hedging as they are good at investing, but they did choose to hedge, so why would I give them credit as if they didn't? No, no… I didn’t explain myself correctly… There is no denying they have been waiting! While everybody else is rushing to make money, they have made none. Instead they have been waiting. You might say it is wrong to wait. You might even say it is ALWAYS wrong to wait. I don’t know… I clearly think it is not so… but I might be wrong. Anyway, what I meant is there are basically two ways of waiting: the first is to sit on cash, the second is to employ a long/short strategy, which earns some alpha but is more volatile. Either way you are supposed to “be waiting”, and to be waiting means to make no money, but neither to lose it (like the post I commented was suggesting instead!). Gio

I agree. But they don't have to stay at 80% indefinitely. And, if it makes sense to change, things will change. Gradually, of course, never in a hurry. But things are not carved in stone. And the transition to acquiring more and more operating businesses will certainly help a shrinking of their bonds portfolio. Also, equity hedges are not here to stay. They will be removed, even at a substantial loss, if they finally are not justified anymore. Gio

Vinod, I asked Mr. Watsa my question exactly because of that concern I share with you. As they keep buying more operating businesses, and building earning power, they might be able to transition to a balance sheet more similar to BRK’s today (where bonds amount to barely 8% of total assets). That way regulatory constrains will become less and less significant. And they have time: interest rates might not come down much more from present levels, but it is not likely they are going up soon either. Also Mr. Watsa’s answer tells me they will find good value propositions wherever they might be (more equities and/or high yield bonds): it might be done and I don’t have any reason to believe he was not in earnest while replying to my question. :) Gio Thank you! My pleasure! We will see. :) Gio

Vinod, I asked Mr. Watsa my question exactly because of that concern I share with you. As they keep buying more operating businesses, and building earning power, they might be able to transition to a balance sheet more similar to BRK’s today (where bonds amount to barely 8% of total assets). That way regulatory constrains will become less and less significant. And they have time: interest rates might not come down much more from present levels, but it is not likely they are going up soon either. Also Mr. Watsa’s answer tells me they will find good value propositions wherever they might be (more equities and/or high yield bonds): it might be done and I don’t have any reason to believe he was not in earnest while replying to my question. :) Gio

Ok, guys! Sorry… I have tried to answer all your points, but it is too daunting a task! I give up. Let me conclude by saying this: in the past FHH has averaged a return on their portfolio of 8.9% annual. Given the amount of float they manage today, a 7% return on their portfolio is enough to compound BV at 15% going forward. Which is 21% worse annually than what they have achieved in the past. I asked Mr. Watsa at the AM my long term concern n.1, which is that in the past FFH has benefited much from a secular bull market in bonds that is now over and won’t probably be repeated for a very long time. He answered they will be opportunistic and they might invest more in equities, in private businesses, or in high-yield bonds. Basically what I had hoped to hear. He didn’t know I was asking him such a question. Therefore, he hadn’t had the time to put together a more elaborate answer. Yet, it seems to me he was very prepared. No one knows the future, but I decidedly like what I see. :) Gio

This makes absolutely no sense. Simply because you cannot judge FFH by BV today. As is always the case, you must know what you own. Gio

Joel, I don’t know which studies you have performed… But it seems very unlikely that in every situation possible the best percentage of cash to hold, by a strictly mathematical point of view, is always zero! How is this possible? Zero, always?! In 1929 as in 1933?! In 1937 as in 1950? In 1950 as in 1968?! In 1982 as in 2000?! In 2003 as in 2007?! In 2009 as in… today?! I am no mathematician, but as an engineer I know some of math and statistics… and your conclusion seems at least unexpected to me! Let alone the fact that in investing math and logic count only up to a certain point. It is psychology that counts the most. All the great capital allocators of the past knew this very well. And they all managed to always keep strong with a substantial cash reserve. Because that gives you calmness, and calmness gives you clear thinking, and clear thinking leads you to better decisions. Either we like it or not, we are all dealing with the future… math imo cannot get you very far. ;) Personally, I try to manage my cash reserve, and let it grow when I see frothy behavior around me, while shrinking it when some great opportunities come along. Gio

How do you know that, though? Someone could have written the same thing a couple years ago. What if the market goes up another 30% in the next few years and the real economy picks up a lot? That's the problem with trying to time macro. Over the past 100 years, there were always reasons to think the sky was about to fall, yet our economy mostly keeps driving forward. How many points was the dow jones 100 years ago? Markel and Berkshire will participate fully in a good economy, but they'll also do well if things go to hell. If things go well, FFH will create value more slowly than they would otherwise because the hedges are like a huge weight tied to their ankles, but if things go to hell, they'll just rewind the tape a bit and get back some of the money they lost in the past few years. On the long-term net, I don't think they'll come out ahead unless there's something just as bad or worse than 2008 that happens soon, in which case their other equity holdings would probably suffer more than the average company since they tend to be somewhat distressed situations (how would Blackberry do in a collapse? probably worse than Wells Fargo and Johnson & Johnson, I'd guess). I would rather have seen them reduce their leverage or raise minimum cash to 2b at the holdco level or something like that. That reduces risk, but it's less directional, so that if things don't go the way you think, you still move in the right direction. Gio, what do you think of FFH's performance if you remove the first few years when they were really small? It looks like both BRK and MKL have done better for quite a long time despite not having successfully bet on CDS in the GFC and such. Again, I think FFH could just reduce its leverage a bit and it would make them have to be a lot less paranoid about macro, which is never a position you want to be in anywyay... Liberty, I don’t see it that way… and I suspect neither Mr. Watsa does… though I wouldn’t presume to know what he thinks… Just let me tell you how I see things: All these market prices going up and up are sustained basically by two facts: the printing of an unprecedented amount of money, and the no mark to market policy huge financial institutions are able to employ worldwide. In some way, market prices going up and up are themselves a macro bet! An optimistic bet, not a pessimistic one, but still a macro bet they are! In other words, they are not supported by a significant difference between prices and values. They weren’t in 2012, nor in 2013, certainly not today! This is not an environment in which FFH is finding great opportunities. Therefore, they wait: huge amount of cash, and a long/short equity portfolio. But, and this is key, they have constantly one finger on the trigger, always ready to shoot in case the environment changes for the better! As soon as there is evidence values are much higher than what they think they are today, almost by definition great opportunities will abound, and that will be the time to drop the long/short policy, and to deploy all that cash. What I mean is people assume their long/short policy and their cash burden will go on, unless some market crash comes along… But I don’t think it is true! Absolutely not true! As soon as they see great opportunities, they will seize them. And their asset allocation strategy will change accordingly. They have began doing so with the acquisition of private businesses. But, as I have always said, not in a hurry! You must get comfortable with doing things, unless you risk committing serious mistakes…, and you get comfortable only gradually. But, as they go on acquiring private businesses, the whole process will accelerate! Also their view of the stock market might change, without the need of a market crash, if things develop for the better, and values much higher than prices start to appear once again. After all, if you don’t see a clear difference between values and prices, everything else is “macro”, one way or the other… right? ;) I wouldn’t talk about WFC, because I don’t really know it nearly enough, but I have owned JNJ in the past and I continue to follow it: my idea is that at current prices it is a mediocre investment at best! Like I have already said, take away the first year, ok, but try and take away the last three years too! And compare FFH to BRK and MKL in the remaining 24 years… My guess is FFH would compare favorably. During the last three years Mr. Watsa has been waiting. :) Gio