Earlier this year, I decided to chase my dream of being an independent investment manager. I kicked things off by investing my own capital, as well as that of friends and family. We launched near the end of May, and just finished the end of our first fiscal year. The portfolio is down 13.21%, compared to a gain of 15.49% for the S&P 500 Total Return Index. This is major underperformance compared to the overall market.
Although my confidence remains high, this is not the way I was hoping things would go right off the bat. It never feels good to see the capital of friends and family decrease, even if you are convinced that is just a temporary thing. I am managing an extremely small level of AUM, which gives me a major advantage over the S&P 500. I can look at the whole universe of stocks, no matter how small of a market capitalization a stock may have. Despite this advantage, the S&P has gotten off to a strong start against my portfolio.
A while back, I remember feeling inspired after coming across the quote above from Bill Belichick. After all the Super Bowls he won and all that he’d accomplished, he was intensely focused on practice that day. He didn’t have to be there though. Belichick is already considered one of the greatest coaches of all time. He has earned millions of dollars, and is approaching 70 years old. It would be insanity to still show up for your job under these circumstances unless you truly loved it obsessively.
The focus Belichick had on that one practice gives us a glimpse into how he was able to have success in his craft. If you work on getting better each day and do a good job in the one task currently on your plate, then you are bound to steadily make progress. Nick Saban is another person who consistently talks about the process as opposed to the outcome. The video below is a good tutorial on how he thinks about the process.
To truly be great at something, you have to love the process more than the results. You have to be able to ignore the noise and focus on what matters, as life will throw distractions your way. The stock market provides for a great example of this. Stock prices constantly jump up and down, producing an immense amount of noise over the short term. You can’t control if a stock goes up or down in a single day, you can only control your process as an investor. The best investments of all time had bad periods, they didn’t just go straight up.
It is even more important to focus on the process in investing than in the football examples mentioned earlier. Sanjay Bakshi, a legendary investment manager and teacher from the value investing community in India, explained this in an interview on The Investor’s Podcast. The feedback is delayed when you invest, as it might take years for a good decision to pay off. You might even get false feedback at first, as the stock price could temporarily go up or down before the true long term situation reveals itself. This is one of the reasons why I love investing. Having to make a decision and sit with it while you are hit with noise from a crowd is thrilling. That kind of pressure forces you to think about the situation differently. In the stock market, I can ignore the feedback of stock price changes and wait for a few years to see how a company’s operations develop.
What is My Process?
My process starts by sifting through 100 new stocks per day. I look for unique situations. Every once in a while, something really jumps out at me as interesting or unusual. I try to discard as many stocks as possible in a short period of time, as the universe is too large to do a deep dive on all stocks. When a stock does look interesting, I research the business further and try to see if I can understand the situation. I end up investing in a small number of stocks that appear to be low risk, high reward situations. I continue sifting through 100 new stocks per day even when my portfolio is already 100% invested. I want to make sure what we own is better than the other options available to me, and each day I try to expand the list of other options I have looked at.
Each day, I check to see if there is any news on the businesses I own. I do not mean that I check CNBC to see if some new opinion was given on a stock I own. I’m not too interested in that. Instead, I check the SEC website (or international equivalent) to see if the company filed any press releases, and I check for new disclosures on the investor relations websites of each company I own. I want to see if I can learn any additional facts about the company, or know if anything has changed in the story. Each quarter, updated financials are disclosed and I can see if the business is on track compared to where I thought it would be.
The daily stock price fluctuations have little to do with my process. Sure, if a major price change happens I may decide to take some sort of action. For example, if one of my holdings drops by 30% one day, then maybe the company disclosed new information that I should find and review. If a stock I own doubles and a stock I don’t own decreases, maybe I would become more interested in switching positions. That scenario is rare though.
The problem for many investors is when a stock you own goes up, you receive positive reinforcement from the market. When a stock you own goes down, you receive negative reinforcement. There might not be any lesson to be learned though. I don’t think I’m right just because a stock I own goes up, and I don’t consider myself wrong when a stock I own goes down.
It doesn’t matter what your record is or what your short term performance is. Are you buying quality businesses below their intrinsic value? Are you searching in areas that may be overlooked in the market? Can you personally handle waiting years through the ups and downs that are sure to happen?
As I sift through stocks each day, I have gone from A to Z on different stock exchanges in places like Japan and Singapore. I’ve found that I love it. I never could get myself excited about screening for stocks online. The data on the internet is just endless, and the information is changing constantly in terms of stock prices. This means that if I run the same screen two days in a row, the data might have changed between the two days. For some reason, this just sucked the motivation out of me.
The birth of my process started when I bought my first copy of the Japan Company Handbook. Here was a static set of data, with a set number of pages that I could see from the moment I started. As I went through the book, I found I loved the process. It felt like a treasure hunt, and I didn’t want the experience to end. Now when I am researching stocks in other countries, I try to set up the process as similarly as possible to the Japan Company Handbook. For example, when researching stocks in Singapore, I just got a list of all stocks that sell on that exchange and went through them from A to Z. This gave me a set number of companies where the order and the data wasn’t constantly changing. I like to chip away at a set list of companies until it is finished, and then I find a new list.
For the vast majority of companies, my process is extremely quick. There are hundreds of thousands of stocks, so I am trying to say no to a company as quickly as possible. If a company has been losing money for a while, has a ton of debt, or has a PE ratio of 100, then I pass on that company within 30 seconds. This might mean I miss out on a great investment, but I am willing to accept that risk. Maybe a deeper dive on a heavily indebted company losing money would show me that it actually is about to undergo an exciting turnaround and now is the time to buy. I can’t research every company, so my process is about trying to narrow the list of businesses down to the ones that I want to research. This is the home run derby, as there are no called strikes. I can sit there and let 100 great pitches go by me. I just need to make sure the pitches I actually swing at are good ones. Hopefully some make it over the fence.
In the end, it doesn’t really matter what your process is. Just find something that works for you. Find something you enjoy that is also beneficial towards reaching your goals. Focus on the process and limit distractions. Most importantly, enjoy the ride.
This newsletter has been prepared for informational and educational purposes only, and solely represents our views with respect to certain securities, markets, and other financial matters. It should not be used as the sole basis of any investment or financial decision, and should be construed to render any legal, tax, or other professional advice. The statements made herein are solely based on our research, and any forward-looking statements should not be construed to guarantee any particular outcome. All investment strategies involve risk, including our strategy of seeking out a concentration of undervalued companies in the pursuit of potential long-term appreciation. Past performance of an investment is no indication of its future returns, we make no guarantees whatsoever about any future investment returns.
Investment advisory services offered by McDonough Investments, LLC, an investment adviser principally registered in the State of Michigan and registered or exempt from registration in other jurisdictions as applicable.
Portfolio performance figures are given on a gross basis and are time-weighted returns.