Is small beautiful?

I can only post fairly infrequently at the moment as I have a lot on my plate, what with planning our DIY summer wedding and simultaneously embarking on the most important work project of my career so far. It’s been a lot harder to make time for the blog. I do intend to keep it running, but at a slower pace for the time being.

A recurring issue I’ve been grappling with recently is whether I should be trying to shift my focus more to smaller businesses. Instinctively, it feels like the smaller cap space should be a more productive hunting ground for a small private investor like me. I’d expect small caps to be less well researched and the markets more illiquid, giving greater scope for shares to be mispriced. On top of that there should be greater scope for growth when you start from a smaller base. However, in practice I’ve found that identifying high quality is much harder in the small caps space. Should be trying harder? Continue reading

Invest in the best (no compromise)

In my view, the most important empirical result in equity investing is just how unevenly long term returns are distributed across different businesses. This has important implications, yet is often overlooked. It provides the clearest rationale for why focusing on quality is the main, or perhaps even the only, thing that matters in the long run. Continue reading

Do acquisitions really destroy value?

This post was prompted by an article I stumbled across, describing a recent presentation by Aswath Damodaran. I found a version of this presentation here, though this version may well be a bit out of date. In it, he argues that there is clear evidence that acquisitions tend to destroy value for the shareholders of the acquiring business. I’ve heard this plenty of times before but haven’t thought much about the consequences for my own investments. On reflection this seems negligent. Base rates matter. I should really have a better idea of what the evidence actually says.

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Impulse control

I expect you’ve heard of the Marshmallow Test. It’s the one where you leave a four-year child alone for a few minutes in a room with a marshmallow on the table, promising further rewards if they can restrain themselves from eating it. After initially trying to hold out for the reward, most four-year-olds find the immediacy of the marshmallow too much to bear. The interesting part of the original Marshmallow Test, carried out in Stanford in the late 1960s, is that the children who gobbled up the marshmallow generally went on to do worse in life according to various measures. Like many psychology experiments, there is a fair amount of controversy around what the Marshmallow Test actually shows. It could demonstrate that an ability to be patient and exercise self-control is a crucial life skill, or alternatively it may be that some other unobserved factors were at play (e.g. socioeconomic background, intelligence, trust). I don’t think it takes a huge leap of faith to believe that patience is an important life-skill. One area where I’m pretty confident that gobbling up marshmallows is likely to cost you is in investing. Continue reading

Benchmarks for valuing growth

When making investment decisions, I focus much more on whether a business is high quality than on its valuation. However, I don’t think this means that valuations should be ignored entirely. Sometimes even high quality businesses become overvalued. In practice I am often put off buying businesses where the valuation doesn’t seem to be justified by the growth prospects. But I’ve found this very hard to judge – am I getting it right? Continue reading

Are corporate profits sustainable?

Next time your investments are on a roll and you catch yourself feeling the familiar symptoms of overconfidence, I recommend you check out the Hussman Fund’s market commentary. I’ve found the relentlessly bearish perspective put forward in all of Hussman’s articles to be a sobering antidote to any euphoria I might be feeling at the time. I disagree with some of the reasoning and certainly with the conclusions, but he does raise an issue that piqued my interest and is the subject of this post. Aggregate corporate profit margins are about as high as they’ve ever been. How sustainable is this?

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Tea leaves and entrails

I could feel the uncomfortable prickling of sweat on my back as I peered through the smoke at my host. The scrawny tattooed shaman was excitedly prodding at the embers of the now-extinguished fire and etching out strange patterns in the sand with a burnt bit of stick. Every so often he would look up at me and solemnly utter incomprehensible phrases, waiting for me to acknowledge with a nod. I could pick out a few words from his unfamiliar dialect: ‘candlestick’, ‘shoulders’. However, I did not understand their meaning. My guide had warned me not to question the shaman as he worked. The guide would translate for me later.

After a few minutes of this the shaman began to get agitated. He had carved out a large cross into the ground and was repeating the same phrase again and again, looking up at me with a troubled but imploring expression. I looked at my guide who was also starting to look worried: ‘he says there is a Death Cross. Bad news coming. Maybe the Fed. We must go. Now’

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