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Subject:
A view of Western Economies from a Value Investor
Hugo
10/21/2009 8:04:42 AM
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| Transcript for David Einhorn?s Speech at Value Investing Congress
(October 19, 2009) One of the nice aspects of trying to solve investment puzzles is recognizing that even though I am not always going to be right, I don?t have to be. Decent portfolio management allows for some bad luck and some bad decisions. When something does go wrong, I like to think about the bad decisions and learn from them so that hopefully I don?t repeat the same mistakes.
This leaves me plenty of room to make fresh mistakes going forward. I?d like to start today by reviewing a bad decision I made and share with you what I?ve learned from that error and how I am attempting to apply the lessons to improve our funds? prospects.
At the May 2005 Ira Sohn Investment Research Conference in New York, I recommended MDC Holdings, a homebuilder, at $67 per share. Two months later MDC reached $89 a share, a nice quick return if you timed your sale perfectly. Then the stock collapsed with the rest of the sector. Some of my MDC analysis was correct: it was less risky than its peers and would hold-up better in a down cycle because it had less leverage and held less land. But this just meant that almost half a decade later, anyone who listened to me would have lost about forty percent of his investment, instead of the seventy percent that the homebuilding sector lost.
I want to revisit this because the loss was not bad luck; it was bad analysis. I down played the importance of what was then an ongoing housing bubble. On the very same day, at the very same conference, a more experienced and wiser investor, Stanley Druckenmiller, explained in gory detail the big picture problem the country faced from a growing housing bubble fueled by a growing debt bubble.
At the time, I wondered whether even if he were correct, would it be possible to convert such big picture macro-thinking into successful portfolio management? I thought this was particularly tricky since getting both the timing of big macro changes as well as the market?s recognition of them correct has proven at best a difficult proposition.
Smart investors had been complaining about the housing bubble since at least 2001. I ignored Stan, rationalizing that even if he were right, there was no way to know when he would be right. This was an expensive error.
The lesson that I have learned is that it isn?t reasonable to be agnostic about the big picture. For years I had believed that I didn?t need to take a view on the market or the economy because I considered myself to be a ?bottom up? investor. Having my eyes open to the big picture doesn?t mean abandoning stock picking, but it does mean managing the longshort exposure ratio more actively, worrying about what may be brewing in certain industries, and when appropriate, buying some just-in-case insurance for foreseeable macro risks even if they are hard to time. In a few minutes, I will tell you what Greenlight has done along these lines.
But first, I?d like to explain what I see as the macro risks we face. To do that I need to digress into some political science. Please humor me since my mom and dad spent a lot of money so I could be a government major, the usefulness of which has not been apparent for some time.
Winston Churchill said that, ?Democracy is the worst form of government except for all the others that have been tried from time to time.? As I see it, there are two basic problems in how we have designed our government.
The first is that officials favor policies with short-term impact over those in our long-term interest because they need to be popular while they are in office and they want to be reelected. In recent times, opinion tracking polls, the immediate reactions of focus groups, the 24/7 news cycle, the constant campaign, and the moment-to-moment obsession with the Dow Jones Industrial Average have magnified the political pressures to favor short-term solutions.
Earlier this year, the political topic du jour was to debate whether the stimulus was working, before it had even been spent.
Paul Volcker was an unusual public official because he was willing to make unpopular decisions in the early ?80s and was disliked at the time. History, though, judges him kindly for the era of prosperity that followed.
Presently, Ben Bernanke and Tim Geithner have become the quintessential short-term decision makers. They explicitly ?do whatever it takes? to ?solve one problem at a time? and deal with the unintended consequences later. It is too soon for history to evaluate their work, because there hasn?t been time for the unintended consequences of the ?do whatever it takes? decision-making to materialize.
The second weakness in our government is ?concentrated benefit versus diffuse harm? also known as the problem of special interests. Decision makers help small groups who care about narrow issues and whose ?special interests? invest substantial resources to be better heard through lobbying, pub |
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