Contributed By : Ashwini Damani,CFA
At the 2nd Value Investing Pioneers Summit, Samit Vartak gave a talk on ‘Buy and Forget’ vs ‘Active Investment Management’.Below are the key notes –
- Samit was trying to clear dilemmas which Value Investors might be facing due to recent underperformance. He was worried that despite doing everything right in the process, the returns were not matching up and so he wanted to find answers as to what is better – ‘Active Investment Management’ or ‘Buy and Forget’.
- He delved on the fact that recent returns in stocks were favoring the following themes:
- High Quality overvalued stocks
- Avoiding looking foolish – ‘Not going wrong’ is being valued more by decision makers due to job security
- Avoiding Landmines is more important than aiming for higher returns.
- Due to all this, he was forced to think as to what is a better approach
- diving deep and finding undervalued and unappreciated stocks and holding them till Value is discovered (active investment management) or
- buying ‘Quality’ stocks and holding them forever.
- Unable to resolve the dilemma, he turned to Warren Buffets performance and actions to find clues.
- Samit mentioned that Warren Buffett’s returns can be broken down into multiple decades and if we look closely the returns of each decade matched the earnings growth of the stocks in which he invested.
- So the key to earning profits then is to look for earning growth in long term. It is the consistent earnings growth that investors value the most and are willing to pay high valuations for it.
- Also important will be what price you pay for the earnings growth. Samit showcased important data points about the NIFTY FIFTY Stocks in US which were listed in 1970s. Due to a sustained Bull Run most of the NIFTY FIFTY stocks were quoting at 70-80 PE. If one ignored valuations and bought into these companies, one would have earned only single digit returns till date, because even though earnings increased, the PE’s just kept getting compressed.
- He shared example of many stocks where returns were made more recently due to PE Expansion (rerating) as investors were convinced of ‘high quality’ of the business after a few years of consistent earnings growth. But in many such cases, once growth slowed down there were questions on the sustainability of the growth and the resultant high multiples given to these stocks :
- Avanti Feeds : Earnings grew 131 times but market cap grew 350 times in 7 years
- Bajaj Finance : Earnings grew 30 times but market cap grew 87 times in 8 years
- La Opala : Earnings grew 26 times but market cap grew 74 times in 6 years
- PI Industries : Earnings grew 9 times but market cap grew 41 times in 7 years
- All the above are good stocks but returns for them have been already made in 3-5 years. The abnormal returns and outperformance may not sustain going forward as the high earnings growth period may be over. Returns over the next few years may not be as exciting as things normalise.
- He then guided on what should be the key to Active Investment Management
- Most importantly realize active investing is HARD WORK
- Stay away from BIG Blunders
- One should aim to generate market returns for 80% of the portfolio (market returns ~ 13%/yr). Avoiding blunders generally assures this.
- And to add alpha, 20% of the portfolio should turn out to be from the top 30 performing stocks during the decade (average return 40%/yr)
- If you can achieve the above, your returns would be double of the market (25%/yr)
- If investor’s goal is to beat the market by 4-5%, he or she should not bother about this hard work. Easier way would be to invest in a steady long term portfolio of businesses, sit back and relax.
- Samit ended his session with an advice that all investors will do well if they follow a process. Like Krishna tells Arjuna in Geeta -“Do your duty, but do not concern yourself with the results”, Samit’s advice was to “Set your heart upon your process and not its rewards”. If the process is good, the rewards will follow.
Link to complete presentation-