Novel Investor

Compounding investing wisdom...

The Teledyne Buyback Effect

by Jon

Henry Singleton was one of the best capital allocators and Teledyne was his masterpiece. Stock buybacks were a big part of its success.

Singleton started Teledyne in 1960 but it wasn’t until 1966 when the story really begins. The year prior, it’s stock jumped from $15 to $65.

Singleton took advantage of an enthusiastic market and went on a shopping spree. By 1970, he had acquired 130 companies using Teledyne stock trading between 40x to 70x earnings. The shares outstanding quadrupled from 1965 to 1970 (mostly through acquisitions via stock, but also a 3% stock dividend — a dividend paid in shares rather than cash — paid on four of those years).

Then ’70s bear market hit. Teledyne stock tanked. It’s P/E dropped below 10.

An outsider only looking at the stock price would see a horrendous picture. An investment in Teledyne in 1966 would rise 235% by 1968, then tumble to a 40% net loss by 1974. It was a devastating round trip for anyone who hung on. Continue Reading…

Wise Words on Handling Market Gyrations

by Jon

Market volatility always picks up a couple of times every year and somehow investors seem surprised about it. That can lead to mistakes that feel right at the time.

And the mistakes are numerous and inevitable. Behavior is at the root of it.

It’s only natural to get caught up in the gyrations of the market. Why is it happening? What’s gonna happen next? What should I do about it? The poor “advice” for those questions, and more, are endless. It’s important to remember that things rarely are as bad or as good as they seem.

The real solutions, however, tend to be few. For most people doing nothing is the best response in the long run, despite it feeling wrong sometimes.

The other is to remember that stocks represent businesses that can become mispriced at times. The only way to seize those opportunities is to be prepared in advance.

But don’t take my word for it. Here are some wise words on market volatility — the mistakes, misbehavior, and opportunities — from brighter minds than me: Continue Reading…

Old Idioms of Wall Street

by Jon

Finance has a language all its own, with unique phrases that go back a few centuries. A few good examples can be found in an 1875 sales pamphlet book from John Hickling & Co.

Readers got the total Wall Street experience — they snuck in a weekly newsletter and “improved” trading system sales pitch — while learning about the Men and Idioms of Wall Street (not much has changed).

Promotions aside, the idioms are spot on and still offer a few lessons. So I thought I’d share a few that stood out: Continue Reading…

Howard Marks: The “Negative Art” of Investing

by Jon

Howard Marks once describes his investment philosophy like this:

My philosophy of investing was built primarily on experiences but also on things I read: John Kenneth Galbraith’s ideas about cycles, the importance of contrarianism and being a countercyclical, and the importance of not being a forecaster, and Charlie Ellis’s article on “The Loser’s Game” — the desirability of just keeping the ball in play rather than trying to hit home runs.

Strategies that swing for the fences can experience random catastrophic strikeouts that ruin a game. Marks wants to stay in the game as long as possible, so he’ll forgo home runs for singles, doubles, and even walks. It’s like a small ball approach to investing, to continue the baseball analogy.

The point is, Marks wants to avoid as many mistakes as possible and not lose. To do that, he follows a process he learned from Ben Graham called the negative art. Here’s how he described it: Continue Reading…

Daniel Kahneman: Loss Tolerance

by Jon

What’s your risk tolerance? How do you identify it? Both are important questions that I doubt investors spend a ton of time thinking about at first. They’re also abstract questions thanks to all the convoluted definitions of risk.

During an interview, Daniel Kahneman was asked his thoughts about identifying risk tolerance. He suggested a better way to frame the question: what’s your loss tolerance? How much loss can you endure before hitting the breakpoint where emotions push you to change your portfolio?

By reframing it, Kahneman forces you to think in terms of dollars, not percentages. That may not seem like a big difference, but emotions trigger in dollar terms.

Lost dollars can be quickly equated to missed goals and dreams — less money to spend, a canceled vacation, a postponed retirement — that make you nauseous in ways that a percentage won’t.

Kahneman went on to explain its importance in minimizing regret and how to fit it into portfolio construction. Here’s what he said: Continue Reading…

Benchmarks and the Relative Return Bias

by Jon

Absolute returns get a lot of lip service, but we have a relative return bias. Peter Bernstein weighed in on the bias and suggest benchmarks don’t help.

The downsides are fairly obvious. Relative returns feel great during bull markets. But when a year like 2008 comes around, you beat the benchmark but still lose big.

To add to it, fund managers (and advisors) also have career risk that feeds the relative return bias. All of it leads to more opportunities for short term thinking and poor behavior.

Seth Klarman simplified the problem perfectly: “You can’t think straight with a gun to your head. If you have a relative performance gun to your head, on the way down and on the way up, you’ll do the wrong thing every time. You’ll be liking them when they’re up, and hating them when they’re down – when you should be doing the opposite.”

Absolute returns should be the answer but investors contend with a powerful force: return envy. You have to be comfortable with “losing” to the Jones or an arbitrary index in any given year. What matters is “Are you earning a good return?”

Here’s what Bernstein had to say: Continue Reading…

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