My thoughts on why you should run your own fund

Discussion in 'Asset Management' started by Kai1, Mar 14, 2016.

  1. Kai1

    Kai1 New Member

    It is the thing seemingly every student gunning for the City or Wall Street always means to do “sometime soon”, especially starting university some of these resolutions seemed plausible and legitimate too. After all, years of fascination of the field must have given the one or the other some serious itchy feet to get their hands dirty before some respectable investment bank or asset manager finally snatches them up.

    Whatever has become of such endeavours some years later? Has anyone dared to put principle at risk (principle permitting) or at least sunk himself or herself into a meaningful book on strategy and given this some real thought?

    Taking LSE as my case study here the answer is surprising, given common perception of the indebted student in the UK at least. Forex CFDs, Index certificates, some short term equity trading are all found amongst people’s stories and some claim to have made some decent money doing it too. Of course it is quite unlikely one would admit otherwise, for there seems to be no loss-making in non-professional investing; it’s only the professionals that do.

    The big issue with most of their strategies is duration. Young as we are we often fail to see what speck of dust today, this quarter and even this year is on the long chart of stock market history. There is a desire to see an increase in the price of an asset held rapidly, instead of holding an asset for what it is worth intrinsically for a number of years. Capitalism, however, has so much more to offer: it gives us the chance to invest into some of history’s greatest success stories; into institutions that have stood and will stand the test of time be it through war, stagflation, monetary reform and even the Greatest of Depressions. Some of these stocks have managed to preserve their value when almost all other paper, even money itself, was near worthless, and most that we admire so greatly has been known to come from some of them. To think we can still invest in the company that symbolized the birth of electricity or once formed part of an ancient dynasty that at one point single-handedly bailed out the US government is truly astonishing.

    So what makes profitable investing so hard and has seen many fail resulting in substantial loss of principle in what the public generally deems “speculation”?

    Having grown up in an environment of rather risk-averse middle-income households, I have had to realise that most do not understand the fundamentals underpinning an investment in the equity of a company and what rights it entails. This does, of course, not mean that they couldn’t tell you, they just don’t properly realise the gravity. Most are married to the idea that when they wake up one day, call up their broker and realize the market has dropped, they have become poorer and face imminent loss of principle. A stock is seen as the piece of paper that so memorably lined the floors of Wall Street around the stock market collapse of 1929; only worth what someone else is willing to give you for it today. This is the first idea that needs to go. Benjamin Graham’s analogy of Mr. Market is very clear on why this is the case: Very elegantly the idea of the market is combined into a single individual “Mr. Market”, who shows up on people’s doorstep every day offering to buy(/sell them) their houses. Every morning he roams the streets, sometimes energized by some external shock like an increase in his salary, maybe good weather or because the daughter of his niece got married to some lucky fellow. Some other days his luck has left him, the weather is bad he is moody and quite frankly he doesn’t want your house, hence quoting you an unduly low price. Yet I would instead consider myself even luckier to be indoors on those rainy days and may consider my asset instead more valuable, but certainly not less. So do you consider the value of your house to fluctuate with his opinion of what your house is worth to him and sell in panic expecting further declines? – I hope not.

    So there is a particular value that we place on our houses, which does not depend on what other people are willing to give us for it. This is probably clear to us as we can see the proper use of this asset, the benefit of having a roof over your head seems like a valuable thing even in the absence of money. Having understood this, there is no reason for us to look at common stock any different. We should really learn to see our stake in the equity as the residual claim to all its physical assets after liabilities, plus the right to what the company earns in its possibly long future. While we cannot use these assets per se, we are still the legal part-owner and the income stream through dividends and possibly price appreciation should not be neglected. What has always baffled me is that if you could buy a whole corporation many of them would make back their entire value in about 10 years in net earnings before personal income tax. This would leave the cash we get from selling the actual company again as pure profit. So given no substantial adverse developments we can double our money without depending on the market to quote us a higher price than today’s. Notably at current values many powerful corporations fall into this kind of category and to assume that a well-established institution like Credit Suisse, to name one, could survive and be resold for a similar value in 10 years is not outrageous. It would truly require some serious bad luck to be pushed into loss-making territory given we are willing to sit out the vicissitudes of the future. Now why should we regard partial ownership of said corporation any different?

    Therefore given a long enough time horizon to sit out temporary (but maybe yearlong) downturns makes many stocks with great record, reasonable security and promising prospects together with prudent diversification, a great investment. This, of course, only if you are with me on the optimistic assumption that human kind will partake in another wave of growth in average productivity and living standards; such that long-term prospects for the world economy are sufficiently bright. Looking at the rapid development from simple agricultural nations to full-blown industrial powers in the West over the last centuries, for me, suffices to make this reasonable. We can arrive at the same conclusion from even just what we have observed in our own lifetime so far; from the landline phone to mobile cellular computers with a whole new industry emerging to name just one.

    In practical terms this means, however, gaining experience in this sort of investment strategy is a very long-winded process, which takes years to come to some sort of fruition. It only requires some work on the side, reading books and some more researching target companies, but will turn into some actual experiencing in what we can truly call investing. Over the years, there will be opportunities to test one’s endurance and mental strength when everyone else in the market loses their head and losses within days accumulate to double digits percentage points. These, however, I have found to be the most valuable sort of lesson. The only voices I have learnt to let into my head then are those of old-school positive minded investors, like Benjamin Graham, who once advocated looking at a stock market collapse like a warehouse sale: 40% off, 50% off, perfect to go bargain hunting in. Indeed one of the most important qualities of an investor may very well be this emotional detachment, or how David and Thomas Babson once put it, referring to the successful lifetime investor: “..he has faced uncertainties in the business or market outlook with equanimity, not allowing himself to be distracted from his prescribed course by ominous predictions or tempting speculations.” These are all practical qualities that cannot be taught in class rooms, but are experienced and shape an investment professional’s character. And if it saves us from making only one mistake when things finally do matter in our professional work after university, it was all time well spent.

    So I am convinced that for someone endowed with as much time as many students are, to not conduct some sort of portfolio rigorously, be it real or not, is a missed opportunity that should not be taken lightly. This sort of experience with the market often proves invaluable and not only enlarges one’s professional capabilities but ensure financial viability throughout a lifetime all the way into retirement. Be this through the investment concept described above or some other, the attitude towards investing obtained in the process is invaluable and every year doing it gives new insights into the task, as well as into one’s own character.

    So there is no time to lose!

    Advisable readings that have helped me are:
    - Benjamin Graham "The intelligent investor"
    - edited by Charles D. Ellis with James R. Vertin "Classics an investor's anthology" compiled by the CFA
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