This chapter is from the book
This chapter is from the book
This chapter is from the book
Intelligent Global Investing
Five simple recommendations for investing in a colliding world
Much of the presented strategies can be reduced to the following five recommendations/observations for moving to a more global posture for value investing and deal-making.
Point #1: The World Has Changed—and Our Worldview Must Change with It
Dislocations such as economic crises—and wars—often reveal changes that have been quietly accumulating. The 2009 financial crisis revealed that a global economy defined for the past two centuries by dominant Western markets and systems has become just one part of a much larger and more complicated global economy.
From 1950 to approximately 1995, the investment world can be described as "Western-centric" or "unipolar," as shown in Figure 1.1. The world's developed economies all had advanced legal and regulatory systems and were relatively comfortable places to do both domestic and cross-border deals and investments. Investors between London, New York, and Tokyo were fairly good at doing deals together.
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Figure 1.1 The 1950s to the 1990s: The Western-centric investment worldview
Beginning in the early to mid-1990s, interactions with the developing economies began to grow exponentially, as shown in Figure 1.2. American factories were moved to China, Saudi investors were buying office buildings in London, and call centers were moved to India. Western investors began tentatively "reaching out" from their home markets to these very different systems. But investments and deals were conspicuously limited, mainly because of a lack of comfort. Large risks were perceived and avoided. Activities were circumscribed to what was similar to Western investment strategies and operating methods. In practice it resembled classic value investing, but with a larger, and often impractical, margin of safety demanded.
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Figure 1.2 The 1990s to the 2000s: A Western-centric accommodation to a changing world
There is the impression that for the past 15 years, we have been awkwardly stretching out from this unipolar core, trying to apply familiar techniques to fundamentally different economic systems. But as the world evolves further and further from what we knew, we are stretching and contorting ourselves more and more.
To create wealth in a multipolar economy, we need a mindset free of the Copernican model of Western developed economies as the centers of gravity with developing nations circling us. The biases of this Western-centric strategy are profoundly limiting to investing across national borders.
The international capitalism of the U.S. and Europe has now been joined by the state capitalism of places such as Russia and China and the "godfather capitalism" of places such as the United Arab Emirates (UAE) and Singapore. The world now has more systems, and many of them are fundamentally different. Competitive dynamics, the role of government, the role of the press, the rule of law, cultural traditions, governance practices, and many other important investment factors are very different depending where you are. Capabilities, particularly management ability, also vary dramatically depending on the location. The world is multipolar.
It is also colliding and surprisingly local. We are witnessing a great migration of capabilities from developed economies to developing. The migration of professional management is the most important, but many others exist, such as technology, brands, products, and business models. The increasing collision of differing ecnomic systems is an important part of the value worldview. And this collision is increasingly being fueled by local competitive pressures. As will be discussed at length, the multipolar world is not only colliding but increasingly local.
Point #2: The Key Is to Reapply Graham's Thinking to New Environments
Ben Graham's value principles are the key to direct investing within this multipolar, colliding, and local worldview. However, the starting point is not in his conclusions—Mr. Market, intrinsic value, and margin of safety—but in his method. We look at the value approach before many of the developed economy assumptions were incorporated into the methodology. "Graham's Method" turns out to be far more valuable than any particular strategy. My own approach for translating fundamental value to different landscapes is to combine security analysis with uncertainty analysis and hands-on deal-making. So I have followed Graham's Method but reached a different methodology. In this book, I focus less on measuring a margin of safety and more on strengthening the claim to the enterprise. I talk less about Mr. Market and more about Mr. Government. To be honest, I am somewhat pleased with this, as I have never really liked the term Mr. Market. It sounds odd in Chinese (shi chang xian sheng) and ridiculous in Spanish (Señor Mercado).
Graham's Method could be considered the scientific method for investing. His assertion that a company has an independent value is very similar to scientists' assertion that the world has independent natural laws to which it adheres. And although it is somewhat common to argue that finance is alchemy without any sort of independent or stable natural laws, this underestimates the insights to be gained by testing measurements against an independent and stable thesis. It also overestimates the actual consistency of most natural laws. Newtonian physics and quantum mechanics work only in specific situations and fail in others. Seeing where a thesis holds and where it fails can be equally valuable. Much of this book is about studying the margins where traditional value investing breaks down.
For the purposes of this book, I have taken some liberties and inferred Graham's Method to be the following three steps:
- Eliminate the uncertainties in both your direct measurements (past versus future revenue, tangible versus intangible assets) and your calculated values (cash flows, intrinsic value). Calculating an answer is fairly easy. Calculating the uncertainty around an answer is the real challenge.
- Quantify the risk. Remove the human element, and set a standard quantitative measurement for the risk of loss from the investment. Note that I am claiming something different from the usual statement that value investing is about minimizing risk. The real insight in Graham's Method is to quantify risk and then to invest only in situations where it happens to be acceptable.
- Invest surgically, and make your returns at the time of investment.
Using Graham's Method on public stocks in the U.S., you naturally derive the well-known value investing methodology (buy when Mr. Market is 30% below a stable intrinsic value, and hold). However, when using Graham's Method on developed, developing, and cross-border environments (the global landscape), you derive a broader methodology that combines both value investing and value point concepts. Mr. Market is joined by Mr. Government. Sustainable competitive advantage is joined by the concept of defensible investments. And the search for value is complemented by the search for the opportunity to add value. Traditional value investing in developed economies can be seen as a simplified subset of a longer equation.
This makes intuitive sense. As we move from U.S.-style developed markets to a larger global investment landscape with multiple types of investment environments, we lose many of our simplifying assumptions. We should expect our methodology to expand and our tool kit to get larger.
Point #3: Seen Through the Prism of Value, the World Is Full of Inefficiencies and Opportunities
Value investing and value point methodologies show a global landscape full of attractive opportunities. And it appears much larger, more varied, and more inefficient than the investment landscape previous generations had to work with. But its biggest inefficiencies and its most attractive opportunities turn out not to be the ones frequently considered when going global. Western-listed companies with exposure to India are not terribly compelling, and Hong Kong pre-IPOs are nice but not thrilling. However, family-owned private companies in China and India are a deep pool of mispriced value. And crane-leasing companies in the UAE and infrastructure deals in Saudi Arabia offer huge upside. At the moment, agribusiness deals between Chinese state-owned enterprises and Mexican companies get my attention. As will be detailed, a chaotic, developing, and colliding world is full of market inefficiencies and value opportunities, but they are not necessarily in places where investors are comfortable. But what you see depends on the prism through which you look.
Point #4: It's Still About Price and Quality
Value point is a more complicated and hands-on version of value investing but seeks the same end result: a quality company purchased at a low price, relative to value. The higher the company's quality and the lower the price, generally the higher the returns.
In fact, value point is, for all effective purposes, a series of techniques to significantly expand the number of companies that can be targeted and to boost the margin of safety. Logically, that is the only way to eliminate the additional uncertainties and instabilities of many global landscapes. As we move to more developing-type environments, we need to significantly increase the margin of safety, both at the time of the investment and long-term.
Point #5: A Value Personality Is the Same Everywhere
With the right worldview and a consistently applied value methodology, we seem to naturally evolve in our mindset and posture to the "intelligent investor" that Graham described so well. We are value-focused. We don't speculate. We are microfundamentalists. We are on the ground and in the trenches, spending our days studying the details of specific companies. We are skeptics, constantly retesting our assumptions and always doing all our own research. We invest only when we are assured of making money, and we never lose money. And when we do find an investment that meets our criteria, we go in big. We don't diversify. We concentrate (and obsess).
Most importantly, we are optimists. Whether this is by personality or a natural result of a rational approach to business and life, we see a world of attractive investment opportunities. That makes us optimistic about business and investing. None of this changes when going global. A value framework and personality are the same everywhere.