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Inoculated Investor Interview

Inoculated Investor Interview

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Published by benclaremon
This is an interview between myself and Miguel Barbosa of Simoleon Sense. Topics covered include my investment philosophy, my investing role models and lessons learned during the crisis. I think it is a very good review of a number of value investing principles.
This is an interview between myself and Miguel Barbosa of Simoleon Sense. Topics covered include my investment philosophy, my investing role models and lessons learned during the crisis. I think it is a very good review of a number of value investing principles.

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Categories:Business/Law, Finance
Published by: benclaremon on Sep 08, 2009
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09/18/2010

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The Inoculated Investor http://inoculatedinvestor.blogspot.com
Interviewer: Miguel Barbosa of Simoleon SenseRespondent: The Inoculated Investor
1.
When did you first become interested in allocating capital?
The funny thing about me is that I was a value investor before I had ever heard of value investing as adiscipline. In my former life I was a commercial real estate professional and one of my duties was to be asteward of my family’s capital. In that role I analyzed hundreds of opportunities to purchase existing buildings or develop new properties. I think it is a testament to my discipline that from 2003 to 2007 therewas only one deal that I actually advised my family members to invest in. During that span I had dozens of what turned into contentious discussions with real estate brokers who were desperately trying to convinceme that this was a great time to buy and that paying a 4% cap (which is like an earnings yield on a stock)for a Walgreens in Indianapolis made ultimate sense. I feel bad for the people who were swindled by these brokers and bought near the peak of the bubble. Luckily, even before I had heard of Ben Graham Iunderstood that the return you receive has to compensate for the risks you are taking.When it comes to stocks, the indoctrination into value investing that has led me to want to manage money professionally all started when I read Ben Graham’s
The Intelligent Investor 
. I know it sounds almostcliché, but there is something about the investment philosophy that Graham details in this book that justclicked with me. If you look at my blog site, I have two quotes from prominent investors that articulate myattraction to value investing better than I ever could:Seth Klarman (Baupost Group): “It turns out that value investing is something that is in your blood. Thereare people who just don’t have the patience and discipline to do it, and there are people who do. So it leadsme to think it’s genetic.”Mohnish Pabrai (Pabrai Funds): “Warren Buffett has said many times that people either get value investingin five minutes or they won’t get it in five years. So, there is something in the human brain--that for someof us--makes all the difference in the world right away and the patience it requires is part of the wiring process.”
2.
Currently you work as an analyst and run the Inoculated Investor Blog. Why did you start the blog?Where do blogs like yours fit in among the financial journalism and equity research spaces?
Well, my days as an official analyst are over, at least until I graduate from UCLA with my MBA. However,I plan to continue working on the blog as much as I possibly can. The reason I started the blog was that Iliterally had a running dialogue about the markets and economy in my mind. It was actually driving me alittle crazy and I badly needed an outlet. Fortunately for me I was able to launch the site with content thatwas quite unique. I attended this year’s Berkshire Hathaway annual meeting and I was literally the only
 
The Inoculated Investor http://inoculatedinvestor.blogspot.com
 person out of the thousands there who was crazy enough to try to write down every word that Buffett andMunger said. As a result, my meeting notes were more complete than those of others and after I postedthem the entire value investing portion of the blogosphere was linking to me. It was a very good way tostart off my blogging career.Since then I have focused solely on adding value to my readers. My goal is to try to make what can be verydifficult material accessible to non-professional investors as well as people who work in the markets. Ithink my particular niche lies directly in between the financial articles you read in the Wall Street Journaland the equity research created by analysts. I often find the articles in the financial publications to beincredibly cursory and that the research barely scratches the surface. On the other hand, in depth companyspecific equity research is really only compelling to professional investors. So, as opposed to using my blog as a glorified version of Twitter, I try to walk the line between boring readers with too much detail andoffering insight that any novice could come up with. For example, I often post links to other sites withcommentary so that I can expand on the topics covered by others. But I also have a section of my site thathas samples of theactual equity research I presented to my bosses. I like to think that this makes my site somewhat unique.
3.
Mark Sellers stresses the importance of clear writing as proxy for clear thinking. You’re a fantasticwriter- How does this skill translate into thinking through investment ideas?
What I love about Seth Klarman and Howard Marks is how articulate they are. Something about the waythey talk about value investing resonates with me. Along with Buffett, they are my role models as a writer.For me writing is the best way to present my ideas. I readily admit that I am nowhere near as articulate or  persuasive when I speak about investing. It is something that I obviously hope to get better at. I have seenfirsthand that the way portfolio managers talk about their investment philosophy and discipline can dictatewhether investors are comfortable or not.Until I am fortunate enough to have investors of my own, my focus will be on presenting my ideas inwritten form. As an equity research analyst, you are only as good as your written research. You have to beable to present your ideas and recommendations concisely without sacrificing the obviously necessarydepth. PMs are often very busy and you must avoid wasting their time or even the best idea will get pushedaside. For me, I sometimes don’t even know how I feel about a stock until the write up is complete. Untilthat point everything is so abstract and the information is so segregated in my mind that I don’t have acomplete picture. But, once all of my research is aggregated I feel much more comfortable makingrecommendations and explaining the investment thesis.
4.
Which investors do you admire? Besides these investors who else has influenced you?
 
The Inoculated Investor http://inoculatedinvestor.blogspot.com
I have already discussed this to some extent but I am happy to elaborate. In my young career I have beenmost influenced by Buffett and Klarman. I actually launched my blog with a  post in which I discussed myvision of the optimal portfolio.Ideally, it would contain some Buffett stocks (great companies at a fair  price) and some Klarman stocks (fair companies at a great price). I think these men frame value investingin a way that no other people can. It is not a surprise that the best quotes I have ever read regardinginvesting come from these two luminaries. I also lump Howard Marks in that group even though Oaktreedoes not focus on equities. The fact that Marks’s words strike me as so profound even though he invests inanother asset class is more proof that value investing is a universal discipline that does not necessarilyrequire a specific context. It also shows that the language translates well across asset classes and can eventeach some very valuable life lessons.
5.What is it that you like about value investing specifically? In other words, what about it attracts you?
This is an easy one for me. Anybody who knows me is aware that I am a little cheap. I have been so ever since I can remember. While that translates into plenty of backhanded complements in my social life, Ithink it makes me uniquely predisposed to value investing. I am just not geared toward taking large risks or investing based on an optimistic future. I know that humans are terrible at forecasting and I would rather focus on what a company is worth right now rather than what it could be worth if all these assumptions prove to be right. I think that is why Graham’s analysis was so intriguing to me. He searched for $.50dollars almost exclusively by focusing on the balance sheet and refused to pay up for growth. I amgenerally very cautious when it comes to money and Graham’s investing style that focuses on a margin of safety is perfectly suited for a careful and deliberate person like me.
6.
What’s your approach to fundamental analysis? What’s your edge?
The development of my edge is a continual process but based on early returns I would suggest that my edgeis made up of my willingness to dig and to look where few others are looking. Regarding the former, Idon’t look at companies as single entities. Most companies have a number of different operating units or  products that have different costs and margins structures. Accordingly, as I dig my goal is to understandeach individual business component in terms of what drives profitability, what generates costs and what theopportunities or headwinds are. More and more I have become a margins guy in that I assess the quality of a business based on the operating margins it produces. There is no question that for the company as a wholefree cash flow is paramount to me. However, before I can determine whether cash flows are sustainable, Ineed to understand a company’s competitive advantage. This is an element that I believe can be evaluatedusing operating margins. Thus, I think it is the granular knowledge that I require in order to be comfortablewith an investment that distinguishes me from investors who focus mostly on earnings.Additionally, I am not foolish enough to think that I can add a whole lot of value to an analysis of Microsoft. I see huge companies that are well covered by the sell side and are widely owned and researched by institutional investors as basic proxies for the S&P 500. In other words, these stocks are by in largegoing to move with the market, barring extraordinary company specific news. While large cap stocks can

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