HedgeRoll

Seth Klarman's presentation to Bruce Greenwald's Columbia Business School class

6/18/2015

I hope you enjoy Klarman's presentation as much as I did. It's is a bit long but worth the time.

Like Greenwald says in the beginning, the founder of Baupost Group needs no introduction. Klarman's remarks begin around the five minute mark. If you aren't familiar, he also wrote this book (link).

As usual, my notes are below. You may find Baupost Group 13F here, but it represents only a fraction of total firm AUM.

My Notes:

Baupost Group started with $27 million, three families as clients in the summer of 1982, met them at HBS.
Came to value investing while working for Michael Price before business school.
Believes people are naturally risk adverse, Greenwald said in the intro he is among the most risk adverse investors.
The invest business has a herding behavior. The benefit of swinging for the fences does not outweigh the risk of under performance.
He believes in absolute performance, not relative performance. He wants to make absolute dollars. Note from Emory: You can't spend your Sharpe Ratio.
He believes it is impossible to be successful in a Top Down approach to investing.
Focus on Risk before Return. Risk is not price volatility, not beta, not VaR. Most people focus on return.
It is hard to measure risk. It's easy to measure return.
He doesn't really short stocks too much, does not seek to be market neutral.
His team hunts for opportunity. Two things are scarce: Capital and Time. Focus capital in the best values, and reduce time spent on bad opportunities.
Mispricings caused by: Emotion, fear, surprise, complexity, stigma. For example a major bankruptcy, or disaster.
Example for bonds: bankruptcy, rating downgrade can result in non-economic sellers.
Example for equities: removed from index, spin offs can result in non-economic sellers.
Psychology is really important. Investing is the intersection of economics and psychology.
You must be emotionally conditioned to be a good investor. People are relative performance oriented.
"Relative Performance Gun to Your Head" - you will do the wrong thing every time.
"We like to pretend we are Warren Buffet."
"The only way to do well in the long term is to ignore the short term."
"We don't time the market by holding cash, we time opportunity by holding cash."

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Today's opportunity set will soon be gone and tomorrow, the next day there will be new ones.
Uses no leverage, with the exception of non-recourse debt in real estate investments.
We put 100% of employees net worth in the fund.
Part of his edge are great clients. Wealthy individuals and US Endowments/Foundations, not sovereign wealth.
Sometimes you lose money on a mark-to-market basis to make money by buying a lower price.
A very flexible mandate is part of his edge. His portfolio has gone from equities and distressed debt to many different asset classes.
Doesn't silo capital, we may allocate all money into the best opportunity/asset class.
At the time of this presentation (2010) one could buy a building at 1/3 to 1/2 the value of a REIT.
Firm structure and culture is part of his edge.
Relationships with people who source investments are part of his edge.
Flow of an investment idea within Baupost: Broker calls trader, who forwards it to the head of the group, hands it to analyst, analyst delivers research back to head of group, who hands it to Klarman for approval.
Build broker relationships when times are good, so that they come to you in times of market stress.
Example of real estate investment: Troubled properties, rents falling below debt coverage levels, debt is coming due and can't be rolled, tenants moving out, tried to convert apartments to condo's and failed.
Just as stock can be over or under valued, so can a building.
Our reputation helps us get real estate deals. If we say we are going to do it, we do it.
We try stay out of the press, as a risk management tool.
He sees that much of the excesses of pre-credit crisis are back with different structures.
Mutual fund managers: "Monkeys with money looking to put it to work in the least objectional way"
Need to aware of outcomes that we've never seen before.
At time of presentation he had 8% in equities, 12% Real Estate, 5% in private deals, 30% in cash.

Q&A:

On catalysts:He doesn't need a catalyst to unlock value but he likes catalysts.
He likes to get out before fully valued: 85% to 90% on the dollar.
Catalyst help investor psychology. You can wait for the catalyst.
Equity doesn't naturally have a catalyst like debt does, maturity, debt covenants, ect.
If he wrote a new book: he would write about the new asset classes he is involved with, not just stocks and bonds.
He believe value investing applies to all asset classes even venture capital.
How do invest as an individual or small fund manager: Narrow your focus, specialize, go smaller (microcap), look non-US.
On inflation: Invest bottom up, worry top down. You can't trust TIPS. Bought way out of money interest rate Puts. Have lost money so far.
How to approach a new investment opportunity: Impossible to value a company precisely. Look at many metrics, should be cheap on many metrics that are applicable to that business.
However one valuation approach they focus on is DCF, but they don't get fancy with the discount rate. They run sensitivity/scenario analysis.
The work they do is not hard, but the discipline and patience is hard.
Advice on clients to someone starting a firm: Go to people you know, our fee's are below average. If your client is a bad person, you going to have trouble.
How to do the right thing: WSJ cover test, Football field test (don't run near sidelines, might go out of bounds)
How do you think about discounts: if the discount never closes you don't make money, we don't have a discount level we target, we like to think about potential returns.
Attributes of a good investment process: Teamwork, putting team ahead of you, playing for results not statistics. Do the best you can possibly do, and the results will be good.
During the crisis: We were buying every single day, and the office was calm. That was the outcome of our process.

1 Comment

No Cash Flow? No Investment.

12/20/2010

0 Comments

One of my least favorite trends is referring to items which have traditionally been consumption items as "investments". When I was shopping for an engagement ring for my (now) wife, the sales clerks frequently referred to diamonds as an investment. Needless to say, we had a difference of opinion.

I recently came across a May 2010 interview with Seth Klarman of the Baupost Group, value investor extraordinaire. He nicely summarized my thoughts on the matter:

“Buying anything that is a collectible, has no cash flow, and is based only on a future sale to a greater fool, if you will—even if that purchaser is not a fool—is speculating. The “investment” might work—owing to a limited supply of Monets, for example—but a commodity doesn’t have the same characteristics as a security, characteristics that allow for analysis. Other than a recent sale or appreciation due to inflation, analyzing the current or future worth of a commodity is nearly impossible.

The line I draw in the sand is that if an asset has cash flow or the likelihood of cash flow in the near term and is not purely dependent on what a future buyer might pay, then it’s an investment. If an asset’s value is totally dependent on the amount a future buyer might pay, then its purchase is speculation. The hardest commodity-like asset to categorize is land, an asset that is valuable to a future buyer because it will deliver cash flow, not because it will be sold to a future speculator.”

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hedgeroll

Seth Klarman's presentation to Bruce Greenwald's Columbia Business School class

No Cash Flow? No Investment.

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