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How long do you wait to achieve expected return?


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In one of his books, James Montier references research as to the time frame of out performance. A basket of value stocks generally outperformed the markets but the biggest piece of the performance comes in years 3-5 from when it became undervalued. The median holding period for value managers was also found to be somewhere between 4-5 years.

 

It seems that somewhere around 3-5 is the sweetspot for relative out performance. Application wise, if it hasn't done much by year 3 or 4 it might be time to call it quits. If it has, holding another year or two may not be a bad idea.

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That's a great question and the only person who addressed this that I know of is Peter Lynch. I read one of his books many years ago and I don't remember the details but he said his experience is that it usually takes 2-3 years for his thesis to play out. That is something that I always keep in mind.

 

I agree with the 2-3 yr case where you own an undervalued smallcap and it languishes with no significant bad news, then by 3 yrs it should turn, that's my experience, in fact my experience is 1-2 yrs.

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If I understand Joel Greenblatt correctly - I believe he says 2 years. If you do good work, and your analysis is solid, the market should

agree with you in 2 years. So I've tried to be much more patient in that regard and my preferred hold target is 2 years. If it appreciates

a lot before then, I'll reassess the time period.

 

If it's a wide moat stock with great compounding potential, then I think you need to be much more careful about selling.

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Interesting discussion. I wonder though how much of these timeframes are the product of recent experience? 3-5 years seems rather short. There were times in the 50s,60s,70s where one had to wait much longer. The other issue is what happens if you are wrong on the undervaluation? If this happens one may get out just when the stock actually gets cheap. Well, really this question is kind of like marriage if you are a long term investor :)

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Time is the biggest structural advantage you have as someone with permanent capital.

 

Especially if you are buying really cheap businesses that have issues.

 

How 95% of professional managers have to think about return horizons is part of why you should be able to outperform over time.

 

You don't ever have to worry about "well we got downgraded to two morningstar stars, so now we can't sell retail, and the consultants hate us because our 1 and 3 suck relative to the universe".

 

Brandes has a great piece on their website that shows that managers with great 10 year+ numbers usually have significant periods of underperformance. 

 

Look at how long it took some really smart value guys to get paid on housing stocks.

 

Personally I tell people 5, but I think 10 is a better number

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Time is the biggest structural advantage you have as someone with permanent capital.

 

Especially if you are buying really cheap businesses that have issues.

 

How 95% of professional managers have to think about return horizons is part of why you should be able to outperform over time.

 

You don't ever have to worry about "well we got downgraded to two morningstar stars, so now we can't sell retail, and the consultants hate us because our 1 and 3 suck relative to the universe".

 

Brandes has a great piece on their website that shows that managers with great 10 year+ numbers usually have significant periods of underperformance. 

 

Look at how long it took some really smart value guys to get paid on housing stocks.

 

Personally I tell people 5, but I think 10 is a better number

 

Agree wholeheartedly about the 10 plus time horizon. Re: outperformance what jumps to mind is Munger's comment "We (Berkshire), have to be simply better than the idiots, of which there is a large supply". The lack of the structural advantage of time is really a key part of the idiocy that goes on. I'd also argue that the prolonged boom we saw since the early 90's calls for an even longer time horizon than 10 years. For someone like Munger/Buffett, this is easy, not so much for others. Sitting out of the overvalued market for such a long time and investing for 15, 20 or 50 years sounds good, but is simply not done.

 

 

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Time is the biggest structural advantage you have as someone with permanent capital.

 

Especially if you are buying really cheap businesses that have issues.

 

How 95% of professional managers have to think about return horizons is part of why you should be able to outperform over time.

 

You don't ever have to worry about "well we got downgraded to two morningstar stars, so now we can't sell retail, and the consultants hate us because our 1 and 3 suck relative to the universe".

 

Brandes has a great piece on their website that shows that managers with great 10 year+ numbers usually have significant periods of underperformance. 

 

Look at how long it took some really smart value guys to get paid on housing stocks.

 

Personally I tell people 5, but I think 10 is a better number

 

hi there, I think you are talking about a different thing from what scropion is discussing, or at least what I was discussing.

 

In general a fund manager's result deal with many macro, market etc etc issues.

 

But regarding a single security, that is undervalued, assuming that the thesis is correct, in general markets that would take 2 yrs or so, that is my belief and Greenwald and Lynch. This case is different from the buy and hold quality stocks where Buffett says the holding time is forever. I mean he has no choice he cannot flip $1 billion dollars of a single security. But when he was running his partnership in the 60's his turnover was quite high, probably 2-3 yrs, my guess.

 

 

 

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no - that's really what I meant.  A portfolio is an accumulation of single security ideas if you are a bottoms up investor - which I presume most of us are.  Sure - you may end up expressing some macro view - but that's something more to worry about from a risk perspective than anything else.

 

and this doesn't mean that buying something where you know you'll know if you are right in two years is wrong, but to only look at it on that short of a time horizon is doing yourself a disservice. The flip side of that is that you need to be prepared to admit you are wrong at any time as well.

 

Turnover isn't the same thing as what your investing horizon is.  If you were buying things in fall of '08 there was a decent chance you didn't hold them even a year in order for them to hit your original assessment of intrinsic value.  But you bought them because you knew that if it took five or ten years for the business to mean revert and for the market to revalue the business the IRR was going to be pretty good.

 

Shorter time frames imply smoother returns, but the evidence is that the returns to value investing are very lumpy. Indeed. That's why it works.

 

 

 

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With Ben Graham investing you almost have to sell out after 3-5 years if your return expectation is buying a 50 cent dollar and getting 20% and it doesn't happen. So actually the next question becomes if your return expectation isn't met, do you bail or do you set a new period of lower expectations? Suppose you wanted to get 20% and after 5 years you end up getting 0%. Do you now say, ok, I'm willing to settle for 13% and give it another 5 years or maybe even still have the same goal but extend the yardstick or just start from scratch again and try to find a new security that you know as well as the one you own?

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That's a sunk cost fallacy.

 

You don't have a choice between accepting a 13% or selling and looking for something else.  If the research is still in your opinion correct, its still a 25% return idea.  You might have other 25% return ideas - and it would be rational to view those as interchangeable, but just because they are new 25% return ideas doesn't mean they are better.  Actually assuming you are investing in businesses that accrete book value or grow cash flows over time you'd normally think your estimate of intrinsic value should have increased over five years - so it you earned 0% on it, it should be an even better idea today.

 

 

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everyone always seem to latch on to buffett's buy and hold, but back when he slaughtered the DOW, he was mostly trading in and out of stocks. If I find something with 100% upside, and discount closes (and compounds a little bit) and now upside is only 30%, and there is no strong catalyst, I will invest in another stock if I can find it with 100% upside.

 

Obviously if the one with 30% near term upside is a compounder and could have 80% upside over 3 years with little risk, and the one that offers bigger upside right now has a deteriorating business or more risk, then you should stay in the compounder with 30% near term upside.

 

He said that buy and hold is his strategy now, but he also says he could do 50% a year now on 1 million$. I can assure you that is not with buy and hold. That is probably by finding microcaps taht are mispriced, and always staying in the cheapest microcaps (up to a point).

 

I think that catalysts and how big of a compounder they are is very important. Also operating leverage, pricing power and risk is important (see's candy's very good example of pricing power). So you have to work on a case by case basis probably. That is probably where true skill of an investor comes in, knowing how to judge these situations and know when to trade them in for another one. Not sure I am at that level yet.

 

And finally capital allocation is important, you can trade in and out purely on multiples, but if capital allocation is really good then that could provide some hidden upside (or downside in opposite case) as well.

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There is a difference between buy and hold and having a longer-term horizon to realize intrinsic value.

 

And trading out of something with a 30% return to intrinsic value for something with a 100% return to intrinsic value isn't counter to having a longer horizon either. 

 

 

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I was wondering how long do people here hold a stock before passing judgement on their expected return? Do you wait 5 years, 10 years or longer? And if it does not meet your expectations at these benchmarks what % do you sell down (if not all of it?)

 

To me it is completely dependent on what is going on with the intrinsic value.  IV should be growing at greater than 10% per year.  If not then you have to make sure you are not in a value trap, or just betting on a buyout.  Time is the friend of a good business because it should be worth more each year.  If the stock languishes like DTV did for awhile, I don't worry it is just a coiled spring (IV is growing and eventually the stock price will catch up).  This is when you should buy more like Buffett did with Washington Post in the 70's.  If my thesis is not based on growing IV but a sum of the parts or a future event then you are in danger of having missed something important in terms of timing or cost. 

 

Having said all that I constantly think about my existing stocks.  I am not waiting 5 years for the thesis.  I am evaluating every new piece of information to see if it confirms or contradicts my thesis.  So far I have only held a few stocks for 5 years.  I believe you marry for life, but you can change stocks as often as you like.     

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There is a difference between buy and hold and having a longer-term horizon to realize intrinsic value.

And trading out of something with a 30% return to intrinsic value for something with a 100% return to intrinsic value isn't counter to having a longer horizon either.

 

The reality is that you are not going to buy XYZ today, & do absolutely nothing with it for X years.

You want your cash back asap.

 

Therefore you either bought something paying a dividend (cash every quarter), you are repeatedly writing out of money calls for premium (every quarter), margining to buy something else (profits recovering outlay), are hedging by periodic sale & repurchase (hedge gain as cash), or are taking directional trades. And you are using your liquidity & long horizon to mitigate your risk.

 

SD

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no - that's really what I meant.  A portfolio is an accumulation of single security ideas if you are a bottoms up investor - which I presume most of us are.  Sure - you may end up expressing some macro view - but that's something more to worry about from a risk perspective than anything else.

 

and this doesn't mean that buying something where you know you'll know if you are right in two years is wrong, but to only look at it on that short of a time horizon is doing yourself a disservice. The flip side of that is that you need to be prepared to admit you are wrong at any time as well.

 

Turnover isn't the same thing as what your investing horizon is.  If you were buying things in fall of '08 there was a decent chance you didn't hold them even a year in order for them to hit your original assessment of intrinsic value.  But you bought them because you knew that if it took five or ten years for the business to mean revert and for the market to revalue the business the IRR was going to be pretty good.

 

Shorter time frames imply smoother returns, but the evidence is that the returns to value investing are very lumpy. Indeed. That's why it works.

 

Ok then, we are talking single stocks. I just find it hard to imagine holding on to a mispriced stock for 5-10yrs. Mind you I had STZ for 3-4yrs then sold for almost nil profit... fast forward to today? it is at 7x!!!!

 

I think the scorpion was referring to something that I always struggle with. I put a chunk into a stock, I feel good about my thesis, NOW WHAT? Well, I remind myself it typically takes 2 yrs for things to play out (if I am right).  That's not a deadline, it is the expected realization time for a correct thesis. It is mental preparation for the strains that will inevitably come with investing.

 

For example, right here we have a thread about Hanover Foods, it is a cigar butt trading at about 1/2 book. I just bought it. Posters are fretting about oh how it will be perennially this cheap. I don't necessarily know better than the others, but if they asked me I'd say, heck wait a couple of years, odds are something good will happen and the stock will move closer to book.... just a practical example of my viewpoint.

 

 

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"If my thesis is not based on growing IV but a sum of the parts or a future event then you are in danger of having missed something important in terms of timing or cost.  "

 

Unless it's losing money, every company should be increasing IV by some amount. Although sometimes the IV is a drip. Then there is the issue of cyclical businesses. Low points in a cycle could add maybe 5% per year to IV but it has to be averaged out with the good times. It seems a business cycle would be a good proxy for holding period. Not sure if there are any studies showing the ebb and flow of American business cycles over the years to see how long they generally last.

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no - that's really what I meant.  A portfolio is an accumulation of single security ideas if you are a bottoms up investor - which I presume most of us are.  Sure - you may end up expressing some macro view - but that's something more to worry about from a risk perspective than anything else.

 

and this doesn't mean that buying something where you know you'll know if you are right in two years is wrong, but to only look at it on that short of a time horizon is doing yourself a disservice. The flip side of that is that you need to be prepared to admit you are wrong at any time as well.

 

Turnover isn't the same thing as what your investing horizon is.  If you were buying things in fall of '08 there was a decent chance you didn't hold them even a year in order for them to hit your original assessment of intrinsic value.  But you bought them because you knew that if it took five or ten years for the business to mean revert and for the market to revalue the business the IRR was going to be pretty good.

 

Shorter time frames imply smoother returns, but the evidence is that the returns to value investing are very lumpy. Indeed. That's why it works.

 

Ok then, we are talking single stocks. I just find it hard to imagine holding on to a mispriced stock for 5-10yrs. Mind you I had STZ for 3-4yrs then sold for almost nil profit... fast forward to today? it is at 7x!!!!

 

I think the scorpion was referring to something that I always struggle with. I put a chunk into a stock, I feel good about my thesis, NOW WHAT? Well, I remind myself it typically takes 2 yrs for things to play out (if I am right).  That's not a deadline, it is the expected realization time for a correct thesis. It is mental preparation for the strains that will inevitably come with investing.

 

For example, right here we have a thread about Hanover Foods, it is a cigar butt trading at about 1/2 book. I just bought it. Posters are fretting about oh how it will be perennially this cheap. I don't necessarily know better than the others, but if they asked me I'd say, heck wait a couple of years, odds are something good will happen and the stock will move closer to book.... just a practical example of my viewpoint.

 

I've always felt that 2-3 years was practical and 5 years was about the most before throwing in the towel.  This time range seems well supported by Graham, Schloss, Lynch and others who aren't buy and hold investors like Buffett.

 

Funny you mention Hanover.  I purchased them when they were in the $80s per share and a few people told me at the time it was dead money that will NEVER appreciate.  Someone went as far as sending me a strongly worded email saying it was a bad decision and that it's likely the shares would be trading in the $80s 15 years from now!  Seeing as how the price is up 45% since my initial purchase I'd say that person was off.

 

There are a few companies that are actively working to keep their value hidden, ones like Vulcan International.  I'd suggest you stay away from those.  But for most others within 2-5 years the price will likely appreciate towards fair value.

 

I want to echo Tim, I've rarely had to wait that long.

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Keep in mind that with most value investments, it is very obvious that a small improvement in business outcome will improve price dramatically. It is the 'when' that something may happen, that we have to cover. So ... a 2-5yr holding period - for the best possibility of capturing that business improvement.

 

Consider all the buys/sells you made over the last 3 years. We put it to you that in the vast majority of cases, the thesis was basically correct; but the timing was off - by years. So ... you need a process to cut losses, let winners run, and remove the timing issue from yourself (as you're so bad at it).

 

One alternative is to give your $ to somebody better than you.

Most of us realize that yes they will make more than you, but after fees & risk adjustment - you usually end up making less.

 

Another alternative is the much maligned cyclicals, where it is far easier to identify where you are in the cycle.

Simply buy & sell the cycle, invest in just the top 5 players, rinse & repeat. No cigar butts, minimal research requirements, simple, simple, simple.

 

SD 

 

 

 

 

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Right - exactly.  Figuring out how and when that improvement could happen is a big part of the investment process.  And your willingness to participate in that idea should be a function of the IRR for the shares assuming earnings/CF mean revert on some confidence interval surrounding that time frame.

 

Figuring out timing on the way in is hard enough when you know you are willing to wait it out.  But its even harder when you say you'll throw in the towel at some date in the future.

 

The reality is that most research above say the $100 Mil Market Cap in the Developed markets is something like a commodity.  It's really having a process that uses that information correctly and the patience and temperament to implement that process which matter.  When you set a two year time horizon you are giving up on a lot of that for no good reason.

 

Peter Lynch was doing something that is different from how I define value investing - and in the context of what he was doing, sure I can see why you'd want to operate on a shorter time frame. 

 

Buying Cigar Butts is a different thing - they have to work on a shorter time frame because the IV is shrinking over time. 

 

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I like Monish P.'s approach, namely, don't sell for 2 to 3 years at a loss unless you can reasonably estimate that the stock's current price is overvalued.  This has happened to me on 2 occasions (sold) one with Lodgenet and the other with Oi.

 

Packer

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One alternative is to give your $ to somebody better than you.

Most of us realize that yes they will make more than you, but after fees & risk adjustment - you usually end up making less.

 

SD

 

woah, you can predict a priori who is better than you? Assuming an investor knows himself, his floor is the market (by buying an index fund). So I presume he invests because he thinks he can beat the market. And so you know someone who can beat the market by more than you by managing your money? Can you give me a name of someone who will invest your money and beat the market? The only person I can think of who will take my money and beat me is Prasad. I believe various bloggers can beat me but they won't take my money......

 

This is all before fees, if this is a close call then of course fees would sway the balance in our favour.

 

My assumption is that all of use in this forum are all above average investors who have found a niche by buying what we know or smallcaps or whatever, so we can beat the experts.

 

And what do you mean risk adjusted?

 

thanks

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no - that's really what I meant.  A portfolio is an accumulation of single security ideas if you are a bottoms up investor - which I presume most of us are.  Sure - you may end up expressing some macro view - but that's something more to worry about from a risk perspective than anything else.

 

and this doesn't mean that buying something where you know you'll know if you are right in two years is wrong, but to only look at it on that short of a time horizon is doing yourself a disservice. The flip side of that is that you need to be prepared to admit you are wrong at any time as well.

 

Turnover isn't the same thing as what your investing horizon is.  If you were buying things in fall of '08 there was a decent chance you didn't hold them even a year in order for them to hit your original assessment of intrinsic value.  But you bought them because you knew that if it took five or ten years for the business to mean revert and for the market to revalue the business the IRR was going to be pretty good.

 

Shorter time frames imply smoother returns, but the evidence is that the returns to value investing are very lumpy. Indeed. That's why it works.

 

Ok then, we are talking single stocks. I just find it hard to imagine holding on to a mispriced stock for 5-10yrs. Mind you I had STZ for 3-4yrs then sold for almost nil profit... fast forward to today? it is at 7x!!!!

 

I think the scorpion was referring to something that I always struggle with. I put a chunk into a stock, I feel good about my thesis, NOW WHAT? Well, I remind myself it typically takes 2 yrs for things to play out (if I am right).  That's not a deadline, it is the expected realization time for a correct thesis. It is mental preparation for the strains that will inevitably come with investing.

 

For example, right here we have a thread about Hanover Foods, it is a cigar butt trading at about 1/2 book. I just bought it. Posters are fretting about oh how it will be perennially this cheap. I don't necessarily know better than the others, but if they asked me I'd say, heck wait a couple of years, odds are something good will happen and the stock will move closer to book.... just a practical example of my viewpoint.

 

I've always felt that 2-3 years was practical and 5 years was about the most before throwing in the towel.  This time range seems well supported by Graham, Schloss, Lynch and others who aren't buy and hold investors like Buffett.

 

Funny you mention Hanover.  I purchased them when they were in the $80s per share and a few people told me at the time it was dead money that will NEVER appreciate.  Someone went as far as sending me a strongly worded email saying it was a bad decision and that it's likely the shares would be trading in the $80s 15 years from now!  Seeing as how the price is up 45% since my initial purchase I'd say that person was off.

 

There are a few companies that are actively working to keep their value hidden, ones like Vulcan International.  I'd suggest you stay away from those.  But for most others within 2-5 years the price will likely appreciate towards fair value.

 

I want to echo Tim, I've rarely had to wait that long.

 

I hear ya Oddballstocks. I started my blog touting my biggest holding WLP, and one of my first responses was "TOTAL GARBAGE". Of course it didn't sway me, in fact, in confirmed the potential of WLP. 2 yrs later it is 2x.

 

So, my only comment to such hysterics is from Einstein: "Great spirits have always encountered violent opposition from mediocre minds"

 

Now I am not saying we are in the same league as Einstein or Newton, but we are still original thinkers.... whatever brilliant original idea you have will inevitably attract comments like that you described.

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woah, you can predict a priori who is better than you? Assuming an investor knows himself, his floor is the market (by buying an index fund). So I presume he invests because he thinks he can beat the market. And so you know someone who can beat the market by more than you by managing your money? Can you give me a name of someone who will invest your money and beat the market? The only person I can think of who will take my money and beat me is Prasad. I believe various bloggers can beat me but they won't take my money......

 

This is all before fees, if this is a close call then of course fees would sway the balance in our favour.

 

My assumption is that all of use in this forum are all above average investors who have found a niche by buying what we know or smallcaps or whatever, so we can beat the experts.

 

And what do you mean risk adjusted?

 

thanks

 

OK. Just for the hell of it ...

 

Pretty sure that a priori, WEB, Munger, etc. are better than we are - even after fees. Theoretically we should just give them our money, & they should accept it, making us both wealthier. Pretty much everyone on this board should all be holding Berkshire Hathaway - but we don't because we're never going to get to be that good unless we practice, & the opportunity cost is our annual tuition fee.

 

But we're greedy - & hold a hedge fund with a 3 & 50 fee structure  ;D

No way this fund can get away with the 50% fee unless they are taking far more risk than their 2% & 30% fee counterpart - & either winning by luck or manipulation. The SML tells us that for more risk, we need a higher return - excluding the jail possibility.

 

So ... after a great year, our fund charged us 3% + 30%, leaving us with a 27% return. In the same year, our alternate (WEB) made 22% & the market was up 15%. If I want an additional 10% for the additional risk our fund is taking, the fund had to return 32% (WEBs 22% + the 10% risk premium) to us. The bums only made us 27% - so we fire them.

 

.. we also say a very big thank you that they didn't blow up while we foolishly held them!

 

SD

 

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