|Summary: US fund manager Bruce Berkowitz was recently named Investor of the Year by gurufocus.com. What makes him the best? His investment strategies, which have translated into a return of more than 300% since his fund started in 1999.|
|Key take-out: Applying a price-to-book value ratio across a portfolio is likely to show up investments with unattractive price fundamentals.|
|Key beneficiaries: General investors. Category: Growth.|
The world’s best investor is a distinguished title – no doubt about it. And a lot of names are regularly thrown around – Warren Buffett, George Soros, Bruce Berkowitz, David Tepper, John Paulson, Peter Lynch, to name a few.
We introduce to you the ‘Investor of the Year’, according to gurufocus.com and seek to identify what makes his investing technique so special. More importantly, we are looking for lessons and trading ideas.
Introducing Bruce Berkowitz
Without boring you with his life story, Bruce Berkowitz was Morningstar’s ‘Investor of the Decade’ through the tech wreck of 2001 and the GFC in 2007-09. What is most impressive is that the Fairholme Fund, which Berkowitz manages, has returned a cumulative 306.49% since it commenced in 1999 versus a total benchmark return of just 24.39%! In fact, he has outperformed the index in 94 out of 97 rolling five-year periods (and investors should know how hard it is to outperform the index at all).
Getting down to what matters…
To be practical for us, we want to know what makes him a great investor. Most people would agree that an impeccable track-record over the long-term is the evidence that separates a good investor from a great one.
But the track-record is an outcome, not a formula. A great investor must have an investing philosophy which enables them to either a) pick the winners or b) avoid the losers. Sounds pretty simple, but any investor worth their salt understands how hard this can be.
Lessons for Australians
Thankfully, Berkowitz speaks publically about his investing style, which creates a fantastic opportunity for us to learn valuable lessons. Below is a summary of the key principles that have allowed Berkowitz to outperform exceptionally:
- Find the intrinsic value of a business. “People like to predict rather than price”.
- Take a five-year view. “We go back five years to measure five-year performance”.
- Don’t try to perfectly time your entry into assets. “I have proven time and time again that I can’t time the bottom of the market, but when I see $1 selling for $0.50, I buy and my feeling is if I’m early and the price goes down further, I have the chance to buy more. With being early, you look wrong until you’re right”.
- Only diversify if you don’t know what you’re doing. “Why would I own my tenth best idea when I can own more of my best idea?”
- Find businesses that are selling at a discount. “I want to buy stocks that other people hate”.
- Use history as your guide. “History doesn’t exactly repeat itself, but it does rhyme”.
- Nobody is perfect. “Oh, there are always hundreds of mistakes”.
Berkowitz’s key advantage?
It appears that Berkowitz does his best work while analysing the balance sheet of a business. In this sense, he is very similar to Warren Buffett. But while the average investor will find it very difficult to replicate his methodology, Berkowitz loves to refer to the “Price to Book Value ratio”.
In simple terms the price to book value ratio is a comparison of what the market implies a company is worth (i.e. the share price) versus what the accountant thinks it is worth.
It also has one of the best records in history. A quick Google search will reveal numerous PhDs which confirm that a low P/BV results in significant outperformance over the long-term, whereas a high P/BV has the opposite effect.
This has become one of Berkowitz’s keys. Berkowitz loves to find a business that is worth more dead than alive, meaning that if the doors were shut they would get more money than what the current shareholding is worth.
Should we rely on P/BV?
Using common sense, it is unsustainable for the P/BV to perpetually expand or shrink, except in the event of a business failure. Therefore, it is natural to see that this ratio should normalise in the long-run, creating opportunities in companies with an abnormally low P/BV.
You will note that the lowest P/BV opportunities are often unloved stocks, at least temporarily. This is the perfect hunting ground. Beware that this ratio doesn’t work all the time (if it did, everyone would follow and it wouldn’t work) but don’t be mistaken because it has proven to work in the long-run and across multiple countries.
How you can copy Berkowitz?
Screening your portfolio for P/BV is the recommended starting point. The odds are it will show one or more of your investments have unattractive fundamentals.
The other key lessons are to be relentless in finding bargain prices, don’t follow the crowd, have conviction and be willing to accept that prices may move the wrong way in the short-term.
This is an edited version of an article which first appeared in The Investing Times. Scott Dixon specialises in providing investment insights.