Reading Assignments; The Institutional Imperative


All Enrollees in the DEEP VALUE COURSE should have been emailed Security Analysis and The Intelligent Investor.

Please read Chapters 42 – 45 (on the Balance Sheet). Especially focus on Chapter 43, Significance of Current Asset Value in Security Analysis, (pages: 548-613)

Read Chapter 15 in the Intelligent Investor (pages 376-402)

Chapter 22, Graham’s Net-Nets: Outdated or Outstanding in Montier’s Value Investing,  (Pages 229-235)

Chapter 2, Contrarians at the Gate in Deep Value, (pages 19 -34)

Chapters 1 & 2 in Quantitative Value (pages 3 – 59)

A total of about 168 pages.   This is to give you an early start for next week.  If you are short on time, then just read Ch. 2 in DEEP VALUE. 

If you didn’t receive any of those books, then 1) check your spam folder, 2. email me at with the title BOOKS and what you are missing.  3. if you receive an email with material that you have already received, then ignore/delete.

The Institutional Imperative
Sometimes institutions get caught up in the moment as well.  A company I used to work for held the Fairholme fund in two separate strategies in 2010.  At the end of 2010 I was able to convince the group to completely sell out of the fund in the smaller strategy, but it remained in the larger strategy.  In 2011, the Fairholme fund lost about 32% when the S&P 500 was up 2%.


At the end of 2011 I (the author of this article, link below) was able to convince the group to add the Fairholme fund back to the smaller strategy, but was unable to convince them to even maintain its weighting in the larger one.  Instead the group decided to cut the allocation in the larger strategy in half, despite my objections.  The argument was that the volatility and amount of underperformance (What about Regression to the Mean?) was too great.  The amount of underperformance was one of the reasons to add it back to the smaller strategy and in my experience returns trump volatility as volatility can actually be your friend.  In 2012, Fairholme was up about 35% which almost beat the S&P 500 by 20%.  In the end it was the clients that were hurt as the investment group followed the herd, on the larger strategy at least, keeping a manager after great performance and selling them after poor performance.  Read more….

The institutional-imperative

Institutional Investors and Analysts tend to herd-like behavior by acting late after trends are established.

Goldman cuts oil outlook, so NOW you tell us! (Perhaps, a tad late on the ADVICE!)

Working at Goldman Sachs


9 responses to “Reading Assignments; The Institutional Imperative

  1. John.. Some of us didn’t get the security analysis and intelligent investor books. Please make sure you send them to the group again.

    • OK, I will RESEND in TWO emails this morning. Make sure your spam filter lets them through.

      Thanks for notifying me.

  2. It’s disappointing to see that the Fairholme Fund seems to be just a high-beta version of the SPY. Despite being awarded Fund Manager of the Deacde, there doesn’t appear to be too much evidence of skill there. Large-cap value investing is a tough, tough game in which it is difficult for active managers to outperform naively-constructed value indices. Even Buffett seems to be struggling.

    “Markets won’t be seeing $100-a-barrel oil again” Never say never. Having said that, I hear that they are using tankers to store oil. That’s a little zany. Unless demand picks up, someone’s going to have to cut production, otherwise they’re going to run out of places to put it.

    I’ve been looking at a plot of oil on the FT. The interesting thing is that the Arab gentleman may be right. Everyone is anchoring $100 as the “normal” price, but they may be wrong. In 2000, it looked like oil was at about $30 a barrel, a level it was at in around 1980. In the early 2000’s, it then started to explode in price. Even at $100, that price is well above the 2000-2005 period, which was $50 at most. So, despite what everyone thinks, $50/bl may not be as wacky as it sounds.

    I have always felt, though that, LONG term, the price of a barrel of oil must increase in real terms? Why? Because, unless oil becomes obsolete, there will always be a need for it. It is a finite resource. As current resources are depleted, less economic fields must be developed. Although technology can introduce efficiencies, there’s only so far it can go. Inevitably, marginal costs of production must increase. In equilibrium conditions, marginal revenues must match marginal costs. Therefore, the price of oil must increase.

    If you believe that argument, then it follows that shale oil cannot be killed indefinitely. The Arabs can keep selling oil until their reserves run much lower. As their production slows, prices will rise. As prices rise, shale oil becomes increasingly viable as a means of production.

    Note that this is a long-term scenario. It’s not a prediction as to where the price will be in 5, or even 10, years.

  3. Well, as a deep value investor you can, FOR EXAMPLE, seek out companies with strong balance sheets that may benefit from the carnage by buying assets cheaply (by waiting for the obvious) Mgt. good capital allocators? at (RES) has cash last time I looked. Or you can buy CRR under tangible book value if the price declines further. (don’t forget natural gas companies!) Of course, when the oil price declines, then the worry is write-down of inventory. You have to be able to assess asset value with earnings power value ad/or normalize earnings over long cycles. The good news is that you have the 2008/2009 prior collapse as a marker of how these companies handled stress. YOU can choose YOUR pitch. I am more focused on the despised sector of the market–gold mining and royalty companies.

    The main point of this post is Goldman writes that oil will drop AFTER a 55% decline. In 2013/2014, Gold will go to $1,000 AFTER a 40% decline. All these analysts do is use a ruler for extrapolation after a year or so of trends (The obvious) without considering REVERSION/REGRESSION to the MEAN. The cure for low/high prices is lower/higher prices. Do the basic laws of supply and demand come into consideration?

    Mcturra2000, I am looking for you to volunteer for a challenging assignment. Do you want to tackle the subject of VALUE TRAPS?

  4. I have so much I could say about resource companies – although that is far from me being able to actually render a verdict offhand on whether or not they are cheap.

    I will say this though: they say that nobody rings a bell when the market has bottomed, or topped. Well, I think sometimes they do. I seem to recall that in the late 90’s, Greenspan said the US had a Goldilocks economy. Could you have asked for a better contrarian indicator?

    Also, I seem to recall that around 2007 (IIRC) UK Prime Minister at the time said that economists had conquered economic cycles. If I was going to write a list on how to spot market tops, that would certainly be in my top 10, if not top of the list.

    On the other side – and this is what we’re hearing just lately – a classic sign of a bottom is “and experts say they will go lower”.

    It’s interesting what you say about gold. The problem about reversion to the mean is “which mean are you referring to?”. In 2006, it looks like the price of gold was about $500. In 2002, it looked to be about $300. So, are you expecting reversion to $1700, $500, or $300?

    You might dismiss the idea of super-cycles, but I think 2000+ has been a fantastic bull market for commodities. Prior to that, there was a commodities bear of about 20 years. So cycles can last a lot longer than you might expect.

    If you take a look at BLT (BHP Billiton) for example, its operating margins over the last decade have been around 37%. BLT is something of an outlier, mind. Still, it’s difficult to believe that a simple dirtshifter could have made so much money for so long.

  5. Actually, what’s fascinating is how opinion changes so quickly.

    In August 2014, reported “As the top oil producing nation for 2014, the U.S. has steadily left the world behind”. “this has been achieved on the back of robust boom in the energy extraction of shale rocks”. “The production growth outside the US has been lower than anticipated, which has kept the global oil prices high”.

    Oh man. They underplayed the fact that the Sauds could turn on the taps, and lead to oversupply.

    A few months later, in November 2014, they then report: “The sharp oil price fall from $100 last summer to below $80 in just three months will bankrupt small US oil producers … the dream of US energy independence may never realize”.

    Crikey! That’s a complete about-face in the period of 3 months.

    I think it’s fair to say that nobody – but nobody – can really predict where commodities will be.

    What we’re seeing is quite interesting, though. I’m hearing (on the news) that Americans are likely to increase their purchases of larger vehicles (I’ll leave aside the question as to why many people would need those gas-guzzlers). I’m not sure the cost of production in the North Sea; was it around $50? I heard shale costs around the same (I think $80 may be a little high).

    So if you wanted to construct a bull case, you could look at producers who could produce at no more that $50 a barrel. The theory would then be that more expensive producers would be knocked out, tending to put a bottom on the price.

    I also think there’s a fair case to be said that the Sauds are trying to “signal the market”. This theory behind this is to send a message that they would be prepared to accept wacky prices in order to discourage new entrants to the market. This is similar to the history of when big oil companies sent the co-ops out of business by selling at a loss. When the co-ops exited the business, the big companies jacked up their prices. Whilst that was a ploy in sales, the curent situation might be regarded as a ploy from the production end.

    So you could construct a theory that lower prices will stimulate demand, and deter competition. Increased demand will tend to increase prices; although it will of course also tend to attract competitors again. The Sauds aren’t stupid, of course, they will want the price to be as high as possible. But it may suit them to have prices which discourage entrants.

    It’s just a theory, though.

  6. Its also interesting to consider knock-on effects of the precipitous decline in oil and other commodities. With all the high-yield debt issued to small E&P companies, how is the junk market more broadly impacted? Investors like Klarman, look for deep value in distressed-debt as it seems like an inefficient market despite the purported sophistication of its participants.

    The greatest deep value opportunities may not be in equities but rather in credit markets. Of course, the barriers to entry there are difficult for individuals and small funds. Perhaps this barrier is what may help sustain the competitive advantage for value-focused credit funds.

  7. I see that copper is down sharply today, causing many miners to be hit.

    It has to make you think that people are fond of concocting stories to apparently explain events that they see. There has been a lot of focus on what the strategy of Opec is and its implications for the oil price.

    But hold on, whilst the actions of Opec are likely to affect oil prices, it’s difficult to see what that’s got to do with copper. Commenting on copper today, the FT reports “The last bastion of commodity price stability crumbles following what is effectively a wholesale exodus from physical commodities”.

    That does raise the obvious question, naturally with an obvious answer: if true, and everybody else does want to be a seller, then what do I want to be?

    Some miners have been knocked down by 20% in a single day on no news. I can’t help feeling that traders are sniffing an opportunity for quick profit, and choosing non first-tier miners as their shorting targets. it makes sense when you think about it. It’s easier to create self-fulfilling (negative) momentum in the smaller caps. If there are many “stop-losses” on a share, then this would further facilitate the cascade.

    Or perhaps I’m just inventing stories of my own. It will certainly be interesting to see how this plays out in any event.

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