Part of the discipline of value investing is having conviction in stock picks, and the stomach to ride out short term volatility in favor of long-term investment performance. This quarter, we explore another practitioner of value investing, Michael Price, and how discipline and patience play into his success.
Beginning in the mid-1970s, Price ran a successful value mutual fund, Mutual Shares (Franklin Resources, Inc.), The fund grew to over $15 billion in assets in the mid 1980s when investors were returning to the stock market from commodities, real estate and other investments.
Price’s value investing process includes mandates which keep his portfolio consistent and relatively free from irrational decision-making on a day-to-day basis. First, he employs a strict investment process that isn’t corrupted by enthusiasm in the marketplace. He found that “cheap” stocks, or value stocks, in his fund were less susceptible to instability in down markets. He also found if stocks were selling at a discount based on their fundamentals, they were less vulnerable to large market swings.
Price maintains his investment discipline by steering clear of stocks that are trendy and have yet to prove their worth. In the late 90s when the first tech boom emerged, many funds moved to stocks where profit was nonexistent. Price was aware of the perils of Wall Street sponsorship, whereby the incentives to finance deals and structure IPOs are far more lucrative than stock commissions. Therefore, he kept away from companies where investors were waiting for the company to become profitable. Similarly, Price takes sell-side research into consideration, but does not use it as a sole basis for owning a company. He feels that since the investment banks issue research on the very same companies with which they establish deep banking relationships there is likely to be considerable bias. For some investors, it is nearly impossible to avoid jumping on to the excitement surrounding stocks. As we saw during the first tech boom, investing this way can have catastrophic effects on a portfolio.
Price also favors patience and focus. For the most part, he ignores macroeconomic forecasts in favor of bottom-up research. As noted previously, his focus is primarily on finding cheap stocks. He searches for stocks that are selling at 40% below his intrinsic value calculation. He takes a look at the management, the competitive environment, similar companies, balance sheet ratios, and considers all share classes. He searches for stocks that offer a control premium, as cheap stocks are often consolidation targets since they are bargains to purchase. Price also seeks a catalyst whereby the stock price, over a period of time, will appreciate to its intrinsic value. He doesn’t chase the stock, but rather relies on his investment process to guide his long-term investment decisions.
Price and his methods share a lot with the tortoise of the old fable. A true value investor demonstrates patience and discipline when making portfolio decisions.
References: Benjamin Graham, The Intelligent Investor, 4th Revised edition. Greenwald, Kahn, Sonkin and van Biema, Value Investing, From Graham to Buffett and Beyond.
