I Beg to Differ

Key Highlights

• Investing in high-yield bonds in 1978… “I quickly recognized that my strong performance resulted in large part from precisely that fact: I was investing in securities that practically no-one knew about, cared about, or deemed desirable”
• If you seek superior investment results, you have to invest in things that others haven’t flocked to and caused to be fully valued. In other words, you have to do something different.
• Assertion - the route to superior returns by necessity runs through unconventionality
• You can’t take the same actions as everyone else and expect to outperform
• You have to do something different
• Active investors place active bets in an effort to be an above average investor
• Every active bet placed in the pursuit of above average returns carries with it the risk of below average returns
• You can’t hope to earn above average returns if you don’t place active bets, but if your active bets are wrong, your return will be below average
• Investing strikes me as golf, where playing conditions and the performance of competitors can change from day to day. To win, you have to either do a better job than others of selecting your approach or executing on it, or both
• If you hope to distinguish yourself in terms of performance, you have to depart from the pack. But, having departed, the difference will only be positive if your choice of strategies and tactics is correct and/or you’re able to execute better
• The basic idea behind second-level thinking is easily summarized: In order to outperform, your thinking has to be different AND better
• First-level thinking
• “The outlook for the company is favorable, meaning the stock will go up”
• Second-level thinking
• What is the range of likely future outcomes?
• What outcome do I think will occur?
• What’s the probability that I’m right?
• What does the consensus think?
• How does my expectation differ from the consensus?
• How does the current price for the asset comport with the consensus view of the future, and with mine?
• Is the consensus psychology that’s incorporated in the price too bullish or bearish?
• What will happen to the asset’s price if the consensus turns out to be right, and what if I’m right?
• Convo with son, and a terrific point made - “readily available quantitative info with regard to the present cannot be the source of superior performance”
• Superiority has to come from an ability to:
• better understand the significance of the published numbers
• better assess the qualitative aspects of the company, and/or
• better divine the future.
• Charlie Munger “Anyone who thinks there is a formula for investing that guarantees success (and that they can possess it) clearly doesn’t understand the complex, dynamic, and competitive nature of the investing process”
• Contrarianism
• If the extreme highs and lows are excessive and a result of the concerted, mistaken actions of most investors, then it’s essential to leave the crowd and be a contrarian
• Joel Greenblatt, an exceptional equity investor, provided a very apt observation regarding knee-jerk contrarianism: “...just because no one else will jump in front of a Mack truck barreling down the highway doesn’t mean that you should.”  In other words, the mass of investors aren’t wrong all the time, or wrong so dependably that it’s always right to do the opposite of what they do.  Rather, to be an effective contrarian, you have to figure out:
• what the herd is doing;
• why it’s doing it;
• what’s wrong, if anything, with what it’s doing; and
• what you should do about it.
• “Most great investments begin in discomfort”
• Active investors must understand that every attempt at success by necessity carries with it the chance for failure. The two are absolutely inseparable
• In a market that is even moderately efficient, everything you do to depart from the consensus in pursuit of above average returns has the potential to result in below average returns if your departure turns out to be a mistake
• Overweighting something versus underweighting it; concentrating versus diversifying; holding versus selling; hedging versus not hedging – these are all double-edged swords
• Pursue superior returns at the risk of coming in behind the pack, or hug the consensus position and ensure average performance
• A question I find paradoxical
• That you should be cautious, because cautious people seldom make mistakes? Or that you shouldn’t be cautious, because cautious people rarely accomplish great things?
• The fortune can be read both ways, and both conclusions seem reasonable. Thus the key question is, “Which meaning is right for you?” As an investor, do you like the idea of avoiding error, or would you rather try for superiority? Which path is more likely to lead to success as you define it, and which is more feasible for you? You can follow either path, but clearly not both simultaneously.
• Unconventional behavior is the only road to superior investment results, but it isn’t for everyone.  In addition to superior skill, successful investing requires the ability to look wrong for a while and survive some mistakes.
• And as in so many aspects of investing, there’s no right or wrong, only right or wrong for you.
• David Swensen (ran Yale Uni Endowment from 1985+)
• ...Active management strategies demand uninstitutional behavior from institutions, creating a paradox that few can unravel.  Establishing and maintaining an unconventional investment profile requires acceptance of uncomfortably idiosyncratic  portfolios, which frequently appear downright imprudent in the eyes of conventional wisdom.
• Idiosyncratic  – When all investors love something, it’s likely their buying will render it highly priced.  When they hate it, their selling will probably cause it to become cheap.  Thus, it’s preferable to buy things most people hate and sell things most people love.  Such behavior is by definition highly idiosyncratic (i.e., “eccentric,” “quirky,” or “peculiar”).
• Uncomfortable  – The mass of investors take the positions they take for reasons they find convincing.  We witness the same developments they do and are impacted by the same news.  Yet, we realize that if we want to be above average, our reaction to those inputs – and thus our behavior – should in many instances be different from that of others.  Regardless of the reasons, if millions of investors are doing A, it may be quite uncomfortable to do B.
• Uninstitutional behavior from institutions
• We all know what Swensen meant by the word “institutions”: bureaucratic, hidebound, conservative, conventional, risk-averse, and ruled by consensus; in short, unlikely mavericks
• In such settings, the cost of being different and wrong can be viewed as highly unacceptable relative to the potential benefit from being different and right
• For the people involved, passing up profitable investments (errors of omission) poses far less risk than making investments that produce losses (errors of commission). Thus, investing entities that behave “institutionally” are, by their nature, highly unlikely to engage in idiosyncratic behavior.
• Swensen’s behavior was certainly idiosyncratic and uninstitutional, but he understood that the only way to outperform was to risk being wrong, and he accepted that risk with great results.
• Key Qs on investors’ minds: i) the outlook for inflation, ii) the extent to which the Federal Reserve will raise interest rates to bring it under control, and iii) whether doing so will produce a soft landing or a recession (and if the latter, how bad)
• But we really shouldn’t care about the short term – after all, we’re investors, not traders.
• Two of the six tenets of Oaktree’s investment philosophy say (a) we don’t base our investment decisions on macro forecasts and (b) we’re not market timers.  I told the London audience our main goal is to buy debt or make loans that will be repaid and to buy interests in companies that will do well and make money.  None of that has anything to do with the short term.
• No strategy - and no level of brilliance - will make every quarter or every year a successful one. Often this poor performance will be due to unforeseen and unforeseeable developments.
• An analogy on ‘sticking to your guns’
• If you wait at a bus stop long enough, you’re guaranteed to catch a bus, but if you run from bus stop to bus stop, you may never catch a bus