Benjamin Graham's favorite allegory was that of Mr. Market. He said that Mr. Market turns up every day at our door offering to buy or sell his shares at a different price. Often, the price quoted by Mr. Market seems plausible, but often it is ridiculous. We are free to either agree with his quoted price and trade with him, or to ignore him completely. Mr. Market doesn't mind this, and will be back tomorrow to quote another price. The point is that we are better off not being concerned with Mr. Market’s often irrational behavior except when we can benefit from it.
If Benjamin Graham is right, if market prices are frequently nonsensical, then we would be foolish to use price as a sole indicator of performance. Although this is true, the majority of the investment industry is focused only on price. If prices go up, most investors assume something good is happening, and if prices go down they assume something bad is happening. I prefer not to base my actions on the ups and downs of market prices.
This problem is compounded by the foolish habit of evaluating price performance over very short time periods. Not only do most investors depend on the wrong thing, i.e. price, they also look at it too often. I believe this price based, short term mentality is a flawed way of thinking. I don’t check stock quotes every day and I don’t buy and sell at the snap of a finger.
I do not want to participate in the senseless short term game of chasing performance, measured totally by price. There is considerable pressure on portfolio managers to generate short term performance numbers. These numbers attract a lot of attention and are praised by financial reporters. This fixation on short term price performance attracts a lot of new deposits into the top performing funds. I do not believe that focusing on short term performance is sustainable. Shareholder wealth in businesses is created over time and therefore I expect my investments in great businesses to follow this trend. I believe that any other approach all but guarantees underperformance. Warren Buffett states that we have to drop our insistence on price as the only measuring stick, and we have to break ourselves of the counterproductive habit of making short term judgements.
My approach opens itself up to short term underperformance. Shahan showed that investors focusing on short term performance will inevitably achieve it, but at the expense of long term results. I accept that in order to achieve long term results I have to be indifferent to short term performance. Examining portfolios managed by Buffett, Munger, Ruane, Simpson and Keynes shows that on average their portfolios underperformed the S&P500 26% of the time during the lifetime of the fund. Munger and Ruane’s portfolios respectively underperformed the market 36% and 37% of the time, with Carlie Munger trailing the market by 37 percentage points at one time. These superinvestors all experienced trailing performance at one time or another, some having to endure years of trailing the market.
I therefore know I could be trailing the market for some periods of time. If I know that price is not a good measure of performance I have to define an alternative. Here I follow Warren Buffett’s lead. Just like Buffett I believe that my economic fate will be determined by the economic fate of the businesses I own. I believe that shareholder value and operating results are the correct measures of performance. I let the economics of the business dictate whether I am increasing or decreasing the value of my holdings. I believe, like Buffett, that the market will at times ignore business success, but eventually confirm it.
In conclusion, I believe there is a strong correlation between the operating earnings of a company and its future share price, given the appropriate time horizon. In other words, the longer the time period, the stronger the correlation. Warren Buffett says that a strong business will eventually command a strong price. He does caution that the translation of earnings into share price is both uneven and unpredictable. Benjamin Graham gave the same advice saying that in the short run the market is a voting machine but in the long run it is a weighing machine.
My investment horizon is measured in years and I am in no hurry to affirm what I already know is true. What is important to me is that the intrinsic value of my investments is increasing at a satisfactory rate.
Be extraordinary!
Myles Rennie
If Benjamin Graham is right, if market prices are frequently nonsensical, then we would be foolish to use price as a sole indicator of performance. Although this is true, the majority of the investment industry is focused only on price. If prices go up, most investors assume something good is happening, and if prices go down they assume something bad is happening. I prefer not to base my actions on the ups and downs of market prices.
This problem is compounded by the foolish habit of evaluating price performance over very short time periods. Not only do most investors depend on the wrong thing, i.e. price, they also look at it too often. I believe this price based, short term mentality is a flawed way of thinking. I don’t check stock quotes every day and I don’t buy and sell at the snap of a finger.
I do not want to participate in the senseless short term game of chasing performance, measured totally by price. There is considerable pressure on portfolio managers to generate short term performance numbers. These numbers attract a lot of attention and are praised by financial reporters. This fixation on short term price performance attracts a lot of new deposits into the top performing funds. I do not believe that focusing on short term performance is sustainable. Shareholder wealth in businesses is created over time and therefore I expect my investments in great businesses to follow this trend. I believe that any other approach all but guarantees underperformance. Warren Buffett states that we have to drop our insistence on price as the only measuring stick, and we have to break ourselves of the counterproductive habit of making short term judgements.
My approach opens itself up to short term underperformance. Shahan showed that investors focusing on short term performance will inevitably achieve it, but at the expense of long term results. I accept that in order to achieve long term results I have to be indifferent to short term performance. Examining portfolios managed by Buffett, Munger, Ruane, Simpson and Keynes shows that on average their portfolios underperformed the S&P500 26% of the time during the lifetime of the fund. Munger and Ruane’s portfolios respectively underperformed the market 36% and 37% of the time, with Carlie Munger trailing the market by 37 percentage points at one time. These superinvestors all experienced trailing performance at one time or another, some having to endure years of trailing the market.
I therefore know I could be trailing the market for some periods of time. If I know that price is not a good measure of performance I have to define an alternative. Here I follow Warren Buffett’s lead. Just like Buffett I believe that my economic fate will be determined by the economic fate of the businesses I own. I believe that shareholder value and operating results are the correct measures of performance. I let the economics of the business dictate whether I am increasing or decreasing the value of my holdings. I believe, like Buffett, that the market will at times ignore business success, but eventually confirm it.
In conclusion, I believe there is a strong correlation between the operating earnings of a company and its future share price, given the appropriate time horizon. In other words, the longer the time period, the stronger the correlation. Warren Buffett says that a strong business will eventually command a strong price. He does caution that the translation of earnings into share price is both uneven and unpredictable. Benjamin Graham gave the same advice saying that in the short run the market is a voting machine but in the long run it is a weighing machine.
My investment horizon is measured in years and I am in no hurry to affirm what I already know is true. What is important to me is that the intrinsic value of my investments is increasing at a satisfactory rate.
Be extraordinary!
Myles Rennie
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