🔑 Key Takeaways
- Avoid emotional investing, focus on rationality and patience. Success in value investing comes from valuing stocks properly and avoiding businesses prone to obsolescence or financial ruin. Time is your greatest ally.
- Investing requires diligence, risk management and strategic thinking. Don't follow the hype and crowd psychology; instead, focus on sound research and understanding the underlying value of the securities in which you're investing.
- To make informed investment decisions, investors must understand all aspects of a company's business, including growth drivers, competitive advantage, profitability, and potential threats. It's important to have a strong understanding of the company's industry and business model. Beware of perma bears and gold bugs who predict disaster scenarios with little consideration of intrinsic value and new information.
- To reduce investment errors, consider starting small and remain open to changing opinions based on changing facts. Also, avoid tying your identity to your investment approach and consider the complexities of investing internationally.
- When investing internationally, focus on countries with the rule of law that are relatively cheap, and invest in industries with no substitutes and companies with no competitors for the best returns. Commodity industries tend to have mediocre profits, but oil businesses are an exception. Build conservatism into your investment approach by assuming lower future oil prices and looking for low production in stable countries.
- Look for undervalued companies with high earnings yield, a moat, stable finances, and a long-term outlook. Assess your own capabilities and limitations when choosing an investment strategy. Cheap and diversified companies with high returns on capital are ideal for success in the stock market.
- Brown and Brown Insurance has steadily grown its revenue, net income, and free cash flows. They allocate capital wisely through acquisitions, share repurchases, dividends, and capital expenditures. The CEO and his father own a significant percentage of the company.
- Brown and Brown's consistent growth may make it a good long-term investment, but higher interest rates and debt to equity ratios may pose risks. Constellation Software, led by Mark Leonard, is also worth considering.
- Finding great managers in investment requires experience, better judgment, and the ability to recognize masterpieces. Personal trust and the importance of that personal element is crucial in managing your capital successfully.
- Constellation's success lies in their approach of acquiring, building, and managing industry-specific software businesses with a focus on ROI and employee loyalty. By prioritizing economic value over diminishing intangible assets, their exceptional performance in acquisitions has led to a high multiple and an average annual return of 24% over the past five years.
- Constellation Software's strategy of acquiring smaller companies, avoiding debt, and incentivizing managers to allocate capital effectively has resulted in impressive returns and a long-term oriented approach that instills trust among all constituents. A great example of a successful company with an admirable leader.
📝 Podcast Summary
Investment Principles from a 36-Year Fidelity Veteran
Joel Tillinghast, an investment legend who has managed money with Fidelity for 36 years and manages 70 billion, shares his principles for avoiding investment mishaps in his book 'Big Money, Thinks Small'. He emphasizes investing rationally and patiently, avoiding businesses prone to obsolescence and financial ruin, and valuing stocks properly. Tillinghast has outperformed the Russell 2000 and S&P 500 by nearly four percentage points a year and over 27 years, $1 grew to $32 in the Fidelity low price stock. He warns against investing emotionally and chasing fads, fast-changing industries, or commoditized businesses with a lot of debt. The key to successful value investing is being patient and letting time be on your side.
The Perils of Crowds and Speculation in Investing
Crowds are easily impressed by spectacle, images and myths, leading to the spread of misinformation and exaggeration. The South Sea Bubble is a historical example of excessive speculation based on hype without tangible earnings to back it up. Investing involves thorough research, managing risks and uncertainty, and anticipating challenges and opportunities that have not yet presented themselves. Speculation, while a key part of our daily lives, should not be based on share prices, commodity prices, or crowd psychology. Instead, it should focus on speculating whether management will make the right decisions, whether an industry is prone to failure, and securities' values. Investing in individual stocks should only be done in businesses that are well-understood and thoroughly researched.
The Dangers of Bias in Company Familiarity for Investors
Investors should not solely rely on familiarity with a company, as it can lead to bias towards a particular company. To understand a company, investors need to understand the different pieces of the business such as what drives their growth, competitive advantage, profitability, and potential threats. It is also important to have a strong understanding of the company's industry and business model to properly analyze it. It is okay to have a limited circle of competence with a select few companies that one has conviction in. Be cautious of perma bears and gold bugs who predict disaster scenarios with little consideration of intrinsic value and new information. Gold may be a store of value, but it has no intrinsic value and does not produce income.
Different Approaches to Investing & Considerations to Reduce Errors.
Investing is about making money, and there are multiple ways to do so. Both macro investors and stock pickers must fearlessly seek the truth. The traditional value investor believes that stocks are the best performing asset class in the long run. Gold bugs believe that high inflation is inevitable, while some believe in Bitcoin. To counter the complexities of investing, Tillinghast advises to think small to reduce errors. Investing internationally adds another layer of complexity that some may want to avoid. It's essential to have the freedom to change one's mind when the facts change. Tying our identity to an investment approach makes it harder to change our opinions.
Expanding Your Investment Opportunities Internationally
Investing internationally expands your opportunity set, but don't focus only on countries with high growth in GDP per capita. Instead, invest in countries with the rule of law that are cheap on a relative basis. Warren Buffett's circle of competence principle involves investing only in businesses he is highly certain about, eliminating potential risks. Industries with no substitutes and companies with no competitors tend to deliver the greatest value and enjoy the highest returns. Commodity industries tend to have mediocre profits and be capital intensive. Oil businesses are an exception due to inelastic demand and limited supply. Tillinghast builds conservatism into his investment approach by assuming lower future oil prices and looking for low production in stable countries.
David Tillinghast's Four-Part Checklist for Investing in Undervalued Companies
David Tillinghast makes sure to only invest in undervalued companies by using a four-part checklist. He looks for high earnings yield, companies with a moat, businesses built to last, and stable finances. He believes that having stocks with all four qualities is the key to success. Tillinghast's checklist does not catch every undervalued stock, but it does coal out the most common sources of disappointment. He also suggests rationally examining one's own motives, capabilities, and limitations to choose the right path for investing. Additionally, he prefers cheap companies that are diversified. Investing in high-quality businesses with high returns on capital and a long runway ahead is also a good strategy according to Chris Mayer, the author of the book 100 Baggers, whose approach and philosophy is aligned with Trey Lockerby's.
Brown and Brown Insurance – Growing Steadily with Great Capital Allocation
Brown and Brown Insurance is a well-performing insurance broker that primarily sells property, casualty insurance, and employee benefits. They have increased revenues from $1.2 billion to $3.4 billion in the most recent year, and their net income and free cash flows have steadily increased over time. They are the fifth-largest insurance broker in the country, with 450 locations. Their primary source of revenue is commissions paid by insurance companies, and their operating margins are consistently in the mid to high 20% range. Additionally, they are good capital allocators, investing in acquisitions, share repurchases, dividends, and capital expenditures. The company has been growing organically and through acquisitions, and the CEO and his father own a combined 15% stake in the company.
Growth and Risks for Brown and Brown and Constellation Software
Brown and Brown, a stable and consistent business, has experienced a growth rate of around 15% annually over the past decade. With projected growth rates of 10% for the first five years and 7% for the next five, the intrinsic value of the stock equals around $68, whereas it currently trades at around $58, indicating a possible 17% discount. While family-owned companies tend to focus more on long-term value creation, higher interest rates and their debt to equity ratio may serve as potential headwinds for Brown and Brown in the future. Meanwhile, Constellation Software out of Canada seems promising due to its extraordinary leader Mark Leonard, according to Francois Rochon.
The Importance of Identifying Great Managers in Investment
A great CEO is a great human being with an owner-oriented culture, who stands out as a business leader and is trustworthy enough to manage your capital, even if you're away for 10 years. Identifying such great managers comes with experience, better judgment, and the ability to recognize masterpieces, just like identifying great art. Personal trust and the importance of that personal element is often underestimated within investments. To be a successful investor, one needs to read a lot of annual reports, study companies and business people over the years, and gain more experience, better judgment, and the ability to identify great managers and businesses.
Constellation - A Software Company Focused on ROI and Employee Loyalty.
Constellation is a software company that specializes in acquiring, building, and managing industry-specific software businesses. Their focus on return on invested capital and employee loyalty sets them apart from other public companies. Their exceptional performance in acquisitions has led to a rich valuation on a multiples basis. Mark Leonard, the CEO, writes annual letters in a way that's relatable to fellow business owners and speaks to a good owner-centered culture. Despite being headquartered in Canada, the company has delivered impressive results for investors, with an average annual return of 24% over the past five years. Their continued success in acquisitions has led to a high multiple today, but the company's commitment to economic value instead of diminishing intangible assets sets them apart as one to watch.
Constellation Software's Approach to Acquiring Companies for High Returns.
Constellation Software follows a Buffett-like approach of buying smaller companies that deliver strong returns and incentivizing their managers to allocate capital effectively. They specialize in acquiring smaller companies, avoiding debt, and have a unique philosophy to align the incentives of managers with those of the shareholders. CSI seeks attractive returns, sustainable competitive advantage, and the ability to deploy large amounts of capital outside of VMS. Mark Leonard's letters reflect a long-term orientation that requires mutual trust between the company and all its constituents. While there are risks involved in acquiring companies, CSI's management team has a track record of producing high returns on invested capital. CSI is a great case study for what makes a great company with an admirable leader at the helm.