VD 107: Bet Selectively
In this issue:
Bet selectively
Stock in focus: Hal Trust
The Rationality Test: Schneider Electric
What I’ve been reading these past few weeks
News from our companies
Doubler Portfolio update
Bet Selectively
Last week, I was at ValueX Klosters, the annual event hosted by the well-known investor Guy Spier. For me and my partner in the fund, Joël Schols, this has been a fixed tradition since 2020 that we always look forward to immensely.
The conference has truly changed me over the years. There is a saying attributed to the Chinese philosopher Confucius: “If you are the smartest person in the room, you are in the wrong room.” At ValueX, I’m definitely in the right place. The mix of young talent and seasoned veterans ensures you always walk away with something new.
More than 60 ideas were presented. While I picked up a lot from them, I often learned more during breakfast, morning walks, or dinners than from the short pitches themselves. Still, there’s a good chance I won’t actually act on a single one of those ideas. It made me think of something I once read by Warren Buffett. Thanks to Gemini, I found the source quickly. In the 1993 shareholder letter, Buffett wrote:
“Charlie and I decided long ago that in an investment lifetime it’s just too hard to make hundreds of smart decisions. That judgment became ever more compelling as Berkshire’s capital mushroomed and the universe of investments that could significantly affect our results shrank dramatically. Therefore, we adopted a strategy that required our being smart – and not too smart at that – only a very few times. Indeed, we’ll now settle for one good idea a year. (Charlie says it’s my turn.)”
Charlie Munger also said regarding this:
“To me, it’s obvious that the winner has to bet very selectively. It’s been obvious to me since very early in life. I don’t know why it’s not obvious to very many other people.”
I bet selectively. I only invest when I fully understand the thesis and share the vision, which is often not the case. That’s why I’ll study most of these stocks, but I won’t trade them. That’s the beauty of ValueX: there are so many different interests and opinions walking around.
Topics that received a lot of attention were oil, the decline of software companies that was in full swing at the time, and the announcement of massive capital expenditures by the big tech players. Especially regarding the latter two, the conclusion among all these smart minds was consistent: there will be clear winners and losers in this story. This aligns with what I wrote when we briefly looked at Constellation and Adobe.
There was also discussion about who those winners might be. My conclusion? I can’t tell. Every company is now shouting that they are ‘AI-first,’ sometimes backing that claim with mass layoffs. However, my current assessment is that AI developments are moving so fast that people within those companies don’t even know where it’s headed yet. By the time an application is implemented and a company seems like the ‘top of the class,’ the next innovation is already here. A competitor that started later can easily leapfrog you.
So much is being written about it right now that in a few years, investment gurus will undoubtedly emerge who made the right predictions (or guesses). Whether that was luck or skill will unfortunately only become clear in the next round.
Raising the bar
That’s why it’s crucial to stick to your circle of competence. Within my own circle, I come across many companies where growth, combined with valuation, could yield an expected annual return of 9% to 12%. That’s not nothing; many investors would be very happy with that. A portfolio of 50 to 100 of these types of companies would likely deliver that average. The problem, however, is that you need a whole team to monitor such an extensive portfolio. I can’t monitor 50 companies with the same depth as the selection we currently have in our portfolio.
Besides, I wonder if that expectation is enough to start a new position. With a portfolio of holdings, I have the same return expectation but with much less work. Therefore, I aim for a higher expected return. This used to be easier to achieve through the revaluation of undervalued companies. However, those revaluations have been absent for the past five years; on the contrary, solid European companies often just became cheaper.
In the past, my thesis was often: a combination of profit and growth yields 10% to 15%, and a revaluation over a period of 3 to 5 years adds another 2% to 3%. Then you have a solid investment. In recent years, profit and growth were slightly lower due to the weak European market (still between 9% and 12%), but instead of a positive revaluation, 2% to 3% was actually shaved off. That’s why I’m setting the bar higher today and investing in fewer stocks. Bet selectively.
Rotation to value stocks?
Following this, I was asked if the rotation from growth to value stocks has truly begun. The honest answer: I don’t know. But if I had to guess, I’d say no. We are seeing some sectors with a ‘growth label’ dropping, but the S&P 500 has barely moved.
There is still a shift happening from money managed by people who think to managers who don’t have to (ETFs). Europe saw record inflows again, and in America, more than half of invested assets are now in ETFs. If a shift is happening today, I think it’s more factor-driven: investors rotating from one ETF to another with value characteristics. In my view, that isn’t value investing. Value investors look at the underlying companies and try to determine the intrinsic value.
I also see investors who definitely think for themselves but, despite ten years (or more) of experience, really only know a bull market. They focus on the right things—figures, growth, and the moat—but they often trip up on the valuation. They work with an exit multiple (like a P/E ratio) of over 20, simply because the company has always traded at those high multiples in the past.
The growth required to justify such a high exit multiple is almost always unrealistic. It has worked well for the last 15 years, and those who calculated more conservatively were proven wrong for the time being, but that offers no guarantees for the future.
My apologies, but what’s underneath is only relevant to the Dutch speaking readers.
Do you want to learn how to value companies yourself? Or understand what assumptions about growth and valuation lie behind those multiples? Then read Luc Kroeze’s new book: Niet alles wat blinkt is goud (Not all that glitters is gold).
In the past, I regularly received feedback on my own book (also only in Dutch that the principle of value investing was clear, but people missed the practical execution. With Luc’s book, that answer is now here.
Finally, I want to emphasize that although Luc is often associated with quality investing (he also wrote The Art of Quality investing in English), he proves with this new book that he is a true value investor. His niche, or his circle of competence, simply consists of stocks that are often classified as quality stocks.