Forget the fads – the keys to high conviction investing
Given the continued market uncertainty, the big investment themes of ‘best value’ or ‘high growth’ can overshadow the immediate point of concentrated investing - to make gains over time.
When it comes to building a portfolio that can produce consistent returns, Bob Desmond, Portfolio Manager of the Claremont Global Fund says it pays to stop thinking just about markets and pay attention to each company’s long-term potential.
“Don’t get sucked into themes – decide what sort of return you want to get out of that stock and what you want to get out of that portfolio,” Desmond says.
In this short video, he takes a look at the lessons he’s learned from years of concentrated investing and how valuation is just one part of the puzzle.
What's the difference between stocks on your A-list and the ones in your portfolio?
It's purely valuation. The A-list is fully modelled out. We've got a very good price where we want to get in. Often we'll wait years, literally wait years, until we get to that price.
But then when it gets there, we don't really want to muck around too much, because you're not going to get too many opportunities.
Are sell decisions also contingent on valuations?
Same both ways, because generally your idea coming into the portfolio should at least be better than the average value discount across the portfolio.
In an ideal world we'll be going, okay, we want to buy this. Let's say the average discount to value across the portfolio is 20%.
Well, the stock coming in should be at least that discount to value and also be making the portfolio better in terms of organic growth, margin, earnings growth, et cetera. In a way, it's not dissimilar to the way a conglomerate would look at a certain business.
They go, well, I'm trying to get this whole collection of businesses to a certain organic growth, a certain margin. Generally, the one going up might be a 20% premium to our valuation, let's say, and the one coming in could be a 10 to 20% discount to value.
But, basically, if you're running a 10 to 15 stock portfolio, the one that's coming in is pushing another one out. That's the beauty of concentrated investing. Because we can only hold 15 stocks, it forces you to get rid of the weakest link.
I think the thing I would say to people who ask, is stop thinking about markets and think about businesses and build your portfolio one stock at a time. Decide what sort of return you want to get out of that stock and what you want to get out of the portfolio.
For our portfolio, we want to get an 8 to 12% return over time. As you said at the beginning, that's just a function of earnings growth, multiple contraction or expansion and dividends. Like I said to the team, it's basic maths.
Then buy something you understand where your probabilities of being right are high. The theme at the moment is the US is expensive. Buy Europe and Japan, because they're cheap, and buy value stocks.
But you can also edit that to saying, okay, sell all your really good businesses to buy more cyclical businesses because the world's uncertain, and we're concerned about the economy.
Now, if you are running a conglomerate, there is no way, as a rational business person, you would be shedding all your good businesses to go and buy a whole lot of rubbish or more cyclical businesses.
You have to be disciplined on valuation, but don't give up winning great businesses just because you want to go and trade some lesser quality business.
Obviously, if a great business becomes overpriced, you're not going to get your 8 to 12% return, so you have to sell it. The media keep talking about value, growth, US, Europe, Japan, big themes.
Don't get sucked into themes as well. There's all sorts of themes out there now. Decarbonisation, Bitcoin, all sorts of themes, and you have to be really smart and there are people who can do it.
The average person — I put myself in that bucket — can't do that. I feel much more comfortable just buying a business one stock at a time, and there are fleeting moments when you can get them at a good price. Normally there's a hiccup, and you must buy them, and buy them meaningfully.
One of the things investors, in my opinion, get consistently wrong is they look at the potential return without looking at the probability of making that return.
Generally, we will pass up the really big opportunity right at the beginning of a business's life. But by the same token, we also pass up on the big losses if we are wrong.
Truly great businesses will be around for decades. Sometimes you're better off waiting. Sure, you'll be paying a higher multiple and a higher price, but the probabilities of you being wrong and torching a whole lot of capital are much, much lower.
If you think of Google, we weren't in there at the beginning in 2003. If you look at 2003, there'd been probably five search engines. I can't remember.
There was Google, Yahoo, AltaVista — there'd been a few — but by the time Google was well established, sure, you had given up a lot of the upside, but there was still a long, long runway to come ahead.
But where now you were, if you like, investing more than speculating, you'd narrowed down the range of probabilities and the chances of you being wrong were much, much lower.
At the end of the day, you've got to go back to saying, what am I trying to do? What we're trying to do is get 8 to 12% per annum. That's it.
We don't have to get 50% per annum. We're willing to forgo that. What we don't want to do is lose 90% of the capital in that position, because that's what causes our clients to sleep really badly at night — and us too.
High conviction investing
Claremont Global is a high conviction portfolio of value-creating businesses at reasonable prices. Stay up to date with all our latest insights but clicking follow, or visit our website for more information.
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