Sunday, May 8, 2011

The Aggressive Conservative Investor: Chapter 10

Martin Whitman founded Third Avenue Value Fund some twenty years ago. Over that time period, the fund has beaten the returns of the S&P 500 by several points annually. In The Aggressive Conservative Investor, Whitman collaborates with Martin Shubik to discuss a concept that they call "safe and cheap" investing.

Many variables attributable to a stock or company can be either good or bad, depending on the context. But the market tends to take simplistic views; long-term investors must consider each of these variables in context, however, and in this chapter is a discussion of several such variables.

For example, low profit margins are often cited as a chief reason for avoiding a stock. However, if low margins are temporarily low, they may not be a problem for the long-term investor. Furthermore, slight improvements in productivity will have much larger effects when margins are low, while high margins attract competition.

Liberal accounting policies are also seen as a negative variable for many investors. This allows less scrupulous managers the ability to make profits seem higher than they are. The authors describe examples, however, where such companies have been able to use their stock as currency to purchase valuable assets.

Low net asset value is another variable that can be either good or bad, depending on the context. While it is true that a company with a low net asset value has the higher return on investment, and is therefore perhaps a more efficient and well-run company, it can also be the case that a company with high net asset value has an opportunity to shed unneeded assets and thus boost shareholder returns in two ways (both through the sale of assets, and through the earnings boost that would accompany a more efficient operation).

Investors must not take dogmatic views of company variables. Instead, each variable must be taken in context in order to properly value the enterprise under consideration.

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