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How rigid is your checklist procedure/investing criteria?


alwaysinvert
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I find that many of the value investing blogs/writeups I read adhere to a very strict procedure in regards to free cash flow, earnings history and balance sheet composure. When I review my holdings I find that almost all of my holdings break rules that I have set up for myself, but that I find the tradeoff to be good. My best investment as of yet with a gain of 300% was in a company (an ISP) which as of the date of investment had only been listed for 2 years, did not generate a lot of FCF and was micro cap, sub $15m in market cap. A quick glance through my holdings as of now gives that most of my current stocks do not fit a strict adherence to the most common value criteria. Some of the 'rules' that I break off the top of my head:

 

Earnings history

FCF history

Listed company history (only pro forma numbers)

Risk of technological obsolescence

 

So my question to the board is how rigid are your rules of investing? If you break the rules as of this moment what is your reasons to make this tradeoff? What rules would you never break? If you want to, maybe you could give a short review of a 'problematic' stock that you own and your reasons for holding it in spite of these issues.

 

Personally I can't seem to find that many companies with for example 10 straight years of FCF growth (which someone suggested as a set rule) that is still attractively priced and has reasonable future prospects.

 

Fire away!

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Rules exist to provide a framework. When the rules are rigid, you are not confident in your understanding as to why they are there.

 

Most would not relax the investment quality rules, unless very experienced. Failure results in either a write-off or a long saga of successive decisions that all have to be right - & the smarter thing is usually to write-off & move on.

 

Case in point: FBK

 

At inception this was a trust, returning capital at 5c/month. Competitive plant, iffy management, in a cyclical industry, but at $3.50/share your cost base fell 17%/yr. The MOS (non-financial) was FFH in the backround (capital discipline), & new plant that was one of the lowest cost plants in NA (minimal CAPEX requirement for some time). Should have sold at $5.50 & walked away.

 

Cycle turned, & break-even turned to loss. Should have sold but did not - small % of portfolio, MOS was still there, & we're experienced at recovery. Price fell to 20c, debs fell to < $35, bankruptcy &/or dilution was imminent. The investment became an option on a successfull restructuring. Management/Bank huddle - & they stay alive.

 

We increased the original $ investment by 4x, & injected the new funds into stock & debs. 10x the number of shares, cost base close to market, debs with cash yields > 22%, & a high % portfolio weighting. A FBK recovery mattered to our results. But it was based on evidence the MOS was working, & experience. Rest is history.

 

We've done very well, but its been maybe 6-7 yrs. In normal makets, it would have been far better to walk away at $5.50. By luck, we consequently were not that exposed to the credit crash as our focus was here, & got a opportunity gain as well.

 

Point(s) 1) Relaxing constraints can expose you to a world of pain, but it is how you learn 2) Investment is a art not a science - intuition, application, courage, & experience is also a large part of it.

 

SD

 

 

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Im not very strict at all. My biggest wins have been turn around plays that worked out well.

 

    Most of my biggest have been this way also. Usually after shamelessly getting ideas from people like Mason Hawkins, Berkowitz, Klarman, LUK, and  a few others. They have done the heavy work that I haven't got the ability to do myself. I probably wouldn't have had the confidence do some of them otherwise. Like ACF when Luk bought them a few years ago. Early 2000s DOX & PXD when they were both less then $10.00. None of them could have met a strict value criteria list. But when they work out like these you don't need do a lot of searching or a lot of other deals. Just ride them.

   So this statement from Sharper   "Relaxing constraints can expose you to a world of pain, but it is how you learn 2) Investment is a art not a science - intuition, application, courage, & experience is also a large part of it" says the rest of what I do very well." I agree with.

   

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Im not very strict at all. My biggest wins have been turn around plays that worked out well.

I'm not skilled enough to do turnarounds, but to me there seems to be a significant survivorship bias in this area. I.e the ones that work out obviously give outsized returns but there is a silent graveyard of unknown size. Not saying that there are no opportunities in the area, obviously, just that the 'soft side' of investing that Sharper talks about is even harder to evaluate in these cases.

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  Always; Don't know if you've read "Always something to do" about Peter Cundill. He has a great investing checklist in the book and it really makes me think about stocks I'm studying. He also said you'll never satisfy all items but it will give you a good guide and make you think instead of being stuck with nothing but rigid rules that sometimes give you false confidence.

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   Always; Don't know if you've read "Always something to do" about Peter Cundill. He has a great investing checklist in the book and it really makes me think about stocks I'm studying. He also said you'll never satisfy all items but it will give you a good guide and make you think instead of being stuck with nothing but rigid rules that sometimes give you false confidence.

I haven't but from what you say I will definitely add it to my next order!

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Logic is always more important than checklists and formulas. The reason people promote formulas and systems is because most people don't have logic. Which begs the question , why play when you don't know what you're doing? This leads to the conclusion that most players are beginners. At this level, systems are actually beneficial because they have a slight advantage. The system to invest in index funds produces an average result - it's the system to try for average, not the average itself however that is the key point here. At the root of systems is consistency, people have a hard time being consistent. So have a system or use logic, but be consistent, anything in-between is sloppy thinking :)

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