Buffett's 50% per year on small sums

[bizaro86]

@Augusta All in metro Calgary. The 4 lowest priced deals were all in a small town within commuting distance. I seriously considered doing Phoenix in 2009, but backed off on concerns if I went down to buy I might buy something inappropriate if I couldn't find anything that fit, since the travel would be a sunk cost.

 

There was a guy on another forum (Financial Webring Forum) and he was also featured in Moneysense, Jim Chuong, he invested in Phoenix around that time. He was buying 2br condos and homes for $30-40k (paid in cash, so no carrying costs) and renting them out for ~$1500 a month IIRC.

 

He found a reputable property management company so trips to Phoenix are rare I think. He also has multiple properties so the PM makes sense too.

 

I've spent some time talking with Jim in the past. I considered buying in Phoenix at the same time, and didn't. I was lazy and stayed in my comfort zone. I was never negative about it, which was common among Canadian real estate investors, but didn't pull the trigger. I would have made more money had I done that.

[bizaro86]

 

What do you mean with cash flow positive exactly? Net positive cash inflow after paying for mortgage and other costs?  ??? How is that possible? Where does such an inefficient market find these stupid renters? Maybe I'm misunderstanding you. Maybe you include principal paydown in your cash flow?

 

Wouldn't even come close here. I'm renting a brand new home at an estimated 2.4-2.8% rental yield (depending on whether you include one time property taxes, which you should) for the buyer. Buying it without personal equity inlay would cost me double with an intrest free mortgage over 20 years.

 

By cash flow positive I mean cash in after paying mortgage principal/interest, condo fees, property taxes, insurance, repairs, etc. Basically everything. I do self manage, so that is a cost I'm generally not considering that I probably should.

 

I would never buy anything at <3% rental yield. Rough metrics on my best cash flow deal:

 

Purchase + renovations + closing: 160k

 

Rent: 1500/month

1st Mortgage, 120k@4%, 30 year amortisation: $570/month

HELOC for 40k, interest only at 3.5%: $117/month

Condo Fees (including heat/water/sewer): $400/month

Property Taxes: $90/month

Landlord Insurance: $12/month

Repairs/maintenance: $50/month average

Costs: $1239/month

 

That works out to a 7% going-in cap rate, which isn't unheard of for a real estate investment, although it is quite good a residential rental where I live. The condo corp (HOA) of this building was in shambles when I bought it. I had to take some (not very complicated) legal actions to get the documents in order, then get a proper building manager hired. Most of the other owners were victims of some sort of mortgage fraud, my unit got foreclosed on and I bought it from the bank.

 

I would say the market inefficiency isn't in the renters (you only ever get market rent), its in the purchase market. This condo was worth well over $200k after I took some fairly simple actions. But, most people wouldn't want to be bothered doing that.

 

I'm still holding on to my dry powder, as the foreclosures from the oil price induced economic drop here haven't made it through the system in earnest yet. If you're seriously interested in RE investment and the rental yields where you live are 2.5%, I'd just do it somewhere else. I would have done better to buy in Phoenix in 2009 than Calgary, and if I had capital that needed a home in RE I'd still put it in the US.

 

[Buffett_Groupie]

I think consensus is that 50% is hard to unachievable.

 

Arb? - not at this time.

Value stocks in foreign exchanges? - maybe. Doubtful you can get 50%, but maybe.

Moaty situations in small caps? - I doubt there's many (any?).

US micro/nanocaps? - If you select best ideas from CoBF and other microcap investors, yeah, you could make maybe 20-30% a year. I don't see 50%.

Distressed debt? - maybe, but situational. Picasso is da man.

Control situations? - really? from what I've seen here most of them are tough and rather crapshoot.

Spinoffs? - not really.

 

Am I missing any other ideas/areas?

 

Edit: I somewhat skipped really situational ideas like levered Florida houses in 2010 or so...

 

Just because Buffett stated he could achieve 50% with a smaller sum, it by no means he implies the rest of us (or everyone else) can do so!  :)

[philippoc93]

 

What do you mean with cash flow positive exactly? Net positive cash inflow after paying for mortgage and other costs?  ??? How is that possible? Where does such an inefficient market find these stupid renters? Maybe I'm misunderstanding you. Maybe you include principal paydown in your cash flow?

 

Wouldn't even come close here. I'm renting a brand new home at an estimated 2.4-2.8% rental yield (depending on whether you include one time property taxes, which you should) for the buyer. Buying it without personal equity inlay would cost me double with an intrest free mortgage over 20 years.

 

By cash flow positive I mean cash in after paying mortgage principal/interest, condo fees, property taxes, insurance, repairs, etc. Basically everything. I do self manage, so that is a cost I'm generally not considering that I probably should.

 

I would never buy anything at <3% rental yield. Rough metrics on my best cash flow deal:

 

Purchase + renovations + closing: 160k

 

Rent: 1500/month

1st Mortgage, 120k@4%, 30 year amortisation: $570/month

HELOC for 40k, interest only at 3.5%: $117/month

Condo Fees (including heat/water/sewer): $400/month

Property Taxes: $90/month

Landlord Insurance: $12/month

Repairs/maintenance: $50/month average

Costs: $1239/month

 

That works out to a 7% going-in cap rate, which isn't unheard of for a real estate investment, although it is quite good a residential rental where I live. The condo corp (HOA) of this building was in shambles when I bought it. I had to take some (not very complicated) legal actions to get the documents in order, then get a proper building manager hired. Most of the other owners were victims of some sort of mortgage fraud, my unit got foreclosed on and I bought it from the bank.

 

I would say the market inefficiency isn't in the renters (you only ever get market rent), its in the purchase market. This condo was worth well over $200k after I took some fairly simple actions. But, most people wouldn't want to be bothered doing that.

 

I'm still holding on to my dry powder, as the foreclosures from the oil price induced economic drop here haven't made it through the system in earnest yet. If you're seriously interested in RE investment and the rental yields where you live are 2.5%, I'd just do it somewhere else. I would have done better to buy in Phoenix in 2009 than Calgary, and if I had capital that needed a home in RE I'd still put it in the US.

 

Thanks for sharing Bizaro. I just got the book by William Nickerson and will read. You guys are a little more fortunate in the US in that you have so many little micro markets within the greater US housing market. There will always be some sort of inefficiency to exploit somewhere. Being from Ireland, the time for half priced € (RE on the cheap) came and went in 2009-2011, but my father also made some very good purchases off banks back then, a few office buildings and houses for 30-40% of cost of construction. People and the backs were in a real bind and just jumping at any offer to get some liquidity. Opportunity of a lifetime.

 

The market is now fully priced and the only place to make money is in development in Dublin, but the capital required is immense and the big boys have already moved in i.e. Cairn Homes.

 

My thoughts on 50% returns - definitely possible, Samir Patel of Askeladden Capital is up 56% gross for the year as per his Q3 letter. He's only 22 years old too- http://www.cornerofberkshireandfairfax.ca/forum/general-discussion/the-22-year-old-hedge-fund-manager/

 

 

 

 

[spartansaver]

@Bizaro86 - Thanks for the reply, I will definitely check Nickerson out.

[racemize]

We have several board members that have 30% compounded rates over pretty long periods.  Eric's are well over 50% in his IRA I believe.  Packer has a long 30% record.  I think Al is around there too?  Not totally sure.  My shorter record is 30%.

 

I imagine if we were Buffett and full time, we could add an extra 20%.

 

Addendum: I don't really think this matters that much anyway.  We aren't Buffett.  We are who we are.  Good returns are good enough.

[Ballinvarosig Investors]

Buffett said that if you look at stocks 52 week highs and lows, more often than not, the spread between the two is around 100%, from low to high.

 

So I think he is banking on capturing this spread when he is saying he could do 50% per year on small sums.

I would almost certainly say that this is what Warren would be doing today if he was looking for out-sized returns in stocks with a small amount of capital.

 

We know that Warren has a photographic memory, and we also know that his mental filing cabinet has a record of every listed company in America that is of any appreciable size. Let's say every week we get 20 companies that are hitting a new low. If we say 95% are hitting those new lows because they are bad businesses or are in structural decline, that still leaves us with 1 company a week that is worthy of further investigation. If you've got a 4 stock punch card for even just a year, you can be incredibly selective in choosing the four winners from those 52 stocks that are pitched to you every year. Of course, all this requires a massive amount of patience to just sit and wait for the fat pitch. It requires a massive amount of work to be able to react to the pitches without having to spend days researching a company. Most importantly, it requires a massive amount of accumulated knowledge. Remember that Warren is not just a compounder of money, he compounds information and this is what gives him his competitive advantage. If Warren gets presented Company X at $10, he can act there and then. His self-control and discipline are also off the scale. Remember the story Walter Schloss told were Warren was willing to buy a stock at $10, but as the weeks went on, he dropped his bid a few times, and eventually got the stock at even less than what he wanted to buy?

 

On this topic, I really think that Alice Schroeder really captured best how Warren would be investing with small amounts of capital. In my opinion, the below articles/videos from Alice are worth reviewing several times a year.

 

http://seekingalpha.com/article/235292-behind-the-scenes-with-buffett-s-biographer-alice-schroeder

 

Doo Dilligence - you said Warren is a closet market timer. I suspect there is a shred of truth in that. Buying below intrinsic value is obviously the most important thing, but I suspect that Warren has so much experience in the market that he has an intuitive feel on (roughly) when exactly is the right time to buy.

[Uccmal]

We have several board members that have 30% compounded rates over pretty long periods.  Eric's are well over 50% in his IRA I believe.  Packer has a long 30% record.  I think Al is around there too?  Not totally sure.  My shorter record is 30%.

 

I imagine if we were Buffett and full time, we could add an extra 20%.

 

Addendum: I don't really think this matters that much anyway.  We aren't Buffett.  We are who we are.  Good returns are good enough.

 

Around low to mid 20s after tax.... 

 

Sometimes I think this whole game is just gambling.  It all reminds me more of poker than anything else.  A really long facelss poker game against a huge number of opponents.  The hard skills of reading balance sheets and endless financial reports give you a snapshot in time of where a company, or industry may be at, which is worth knowing, if only, to eliminate most companies. The real skills that Buffett possesses are in the realm of human psychology, self knowledge, and self discipline. 

 

We hear alot of seemingly pithy quotes from Buffett such as the:

- fat man coming into a  room or 7 foot basketball player quote

- be greedy when others are fearful

- we dont want to jump hurdles - just step over one foot tall hurdle

- go where the puck is going, not where it is - okay not Buffett

Now Buffett definitely knows his financial reports but I suspect what he knows more about is their limitations.  These quotes and others show you how that he has a really strong grasp of human nature, and human behaviour.  He isn't the only one, but he is probably the best at it.  Someone has to be best. 

[netnet]

On this topic, I really think that Alice Schroeder really captured best how Warren would be investing with small amounts of capital. In my opinion, the below articles/videos from Alice are worth reviewing several times a year.

 

http://seekingalpha.com/article/235292-behind-the-scenes-with-buffett-s-biographer-alice-schroeder

 

 

Amusing quote from Schroeder in the YouTube video, Buffett has made so much money that "when he writes the check the bank bounces!"

 

 

[netnet]

This is an evergreen topic.

 

The Acquirer's multiple discusses 'what would Buffett do' (WWBD) in a podcast.

https://acquirersmultiple.com/2020/07/how-would-a-young-warren-buffett-invest-today/

 

The funny thing is I would guess that >80% of the people on this CoBF fall into this portfolio size category, yet obviously few are within spitting distance of Buffett like returns, i.e. 50%, yet I have to believe that making 30% per year is really doable, by say at least 10% of the people on this board.  Maybe it's like the joke Munger said about Mozart, if you are asking questions about writing symphonies at 15 then you aren't Mozart.

 

I think that one of the best mental models is to first set your opportunity costs to >20% per year and evaluate from there.  That would steer you away from Constellation or BRK, or all manner of value traps.

[Jurgis]

This is an evergreen topic.

 

The Acquirer's multiple discusses 'what would Buffett do' (WWBD) in a podcast.

https://acquirersmultiple.com/2020/07/how-would-a-young-warren-buffett-invest-today/

 

The funny thing is I would guess that >80% of the people on this CoBF fall into this portfolio size category, yet obviously few are within spitting distance of Buffett like returns, i.e. 50%, yet I have to believe that making 30% per year is really doable, by say at least 10% of the people on this board.  Maybe it's like the joke Munger said about Mozart, if you are asking questions about writing symphonies at 15 then you aren't Mozart.

 

I think that one of the best mental models is to first set your opportunity costs to >20% per year and evaluate from there.  That would steer you away from Constellation or BRK, or all manner of value traps.

 

There might be people who did 20% or even 30% per year in the last 5-10 years.

I am sure that I would never make myself hold their portfolios.  ::)

I am not Mozart.

 

But then if/when I look at the documented returns of pretty-famous or at least quotable people who started and run (hedge)funds, none of them have made 20%+ annual in last 5 or 10 years. In fact, most of them struggle against SP500.

[Guest cherzeca]

I once talked to an investor who made >50% annual returns consistently investing in growing businesses in Africa.  I suggested to him that I couldn't stomach the risk of not knowing the applicability of the rule of law, lack of liquidity, currency fluctuation etc.  He said all of this didn't concern him, and it was hard to argue with his results.  I prefer to look for my lost key by the lamppost were I can see, and those >50% returns are like a key lost in the darkness where the key most likely is.

[scorpioncapital]

How sure is it your friend was not lucky or following a multi year trend? Even today Robinhood investors are making good money on buying shares in bankrupt companies. Will this last forever?

[Mephistopheles]

I once talked to an investor who made >50% annual returns consistently investing in growing businesses in Africa.  I suggested to him that I couldn't stomach the risk of not knowing the applicability of the rule of law, lack of liquidity, currency fluctuation etc.  He said all of this didn't concern him, and it was hard to argue with his results.  I prefer to look for my lost key by the lamppost were I can see, and those >50% returns are like a key lost in the darkness where the key most likely is.

 

To your point, Cherzeca, I just read this article yesterday. It's about two brothers from New Zealand who have one of the best track records of all time. 36% CAGR over 20 years (1986-2006). They tended to invest in new markets where others may not be as familiar such as Brazil, Eastern Europe, Russia, before everyone else did.

 

https://www.institutionalinvestor.com/article/b150nr9k08bfxb/secrets-of-sovereign

https://macro-ops.com/the-chandler-brothers-the-greatest-investors-youve-never-heard-of/

[Guest cherzeca]

I once talked to an investor who made >50% annual returns consistently investing in growing businesses in Africa.  I suggested to him that I couldn't stomach the risk of not knowing the applicability of the rule of law, lack of liquidity, currency fluctuation etc.  He said all of this didn't concern him, and it was hard to argue with his results.  I prefer to look for my lost key by the lamppost were I can see, and those >50% returns are like a key lost in the darkness where the key most likely is.

 

To your point, Cherzeca, I just read this article yesterday. It's about two brothers from New Zealand who have one of the best track records of all time. 36% CAGR over 20 years (1986-2006). They tended to invest in new markets where others may not be as familiar such as Brazil, Eastern Europe, Russia, before everyone else did.

 

https://www.institutionalinvestor.com/article/b150nr9k08bfxb/secrets-of-sovereign

https://macro-ops.com/the-chandler-brothers-the-greatest-investors-youve-never-heard-of/

 

he had a filter of EV=3X cash flow.  he also had a somewhat unique MO of hiring recent business/accounting college grads to monitor investments in Africa...good pay and "adventure" which apparently yielded no shortage of talent...so that he did everything from his stateside desk

[Jurgis]

It's interesting. People talk Africa and unknown markets for 30%+ returns. But then you look at Fairfax India and Fairfax Africa and they've done really crappily. And small/micro cap value international investors with small capital pools that I follow have not done greatly either.

[Guest cherzeca]

It's interesting. People talk Africa and unknown markets for 30%+ returns. But then you look at Fairfax India and Fairfax Africa and they've done really crappily. And small/micro cap value international investors with small capital pools that I follow have not done greatly either.

 

it is my understanding that some the third party money this investor that I talked to used came from prominent Africa-located businessmen who offered sourcing and insight (ground-based wisdom), and were happy to have this investor wear a beard for them, offer professional investment management etc...so like everything else, you have to have good intel

[LanceSanity]

Has anyone heard of Abdiel Capital? They've been making over 50% a year for 5 years

[AzCactus]

Lance, do you have any letters or writings about their thoughts on market, portfolio selection etc?

 

[Jurgis]

https://whalewisdom.com/filer/abdiel-capital-advisors-llc#:~:text=Abdiel%20Capital%20Advisors%20is%20based%20out%20of%20New,and%20a%20top%2010%20holdings%20concentration%20of%20100.0%25.

 

Looks like mostly software/cloud growth portfolio. Not surprising that they did well, although still kudos for 50%+ annual (if true).

If they were a mutual fund/ETF, I might invest with them. Although likely right now is not a great time with growth names trading in the stratosphere.

 

Edit: I took a brief look at their portfolio.

I have to say additional kudos for investing in AYX and APPN years ago. Both of these are not your standard recent-startup-hyper-growth-gonna-conquer-the-world companies. Both have been established long time ago and apparently only recently got into (hyper)growth phase. IMO such companies are difficult to find: most old companies don't just start (hyper)growing, so the natural tendency in the growth universe is to discard old companies that have not done much for years. Noticing that old company is at inflection point can make you the 50%+ annual returns. 8) If this was not a fluke, then Abdiel seems to have done good DD.

 

See https://en.wikipedia.org/wiki/Alteryx https://en.wikipedia.org/wiki/Appian_Corporation

[AzCactus]

https://whalewisdom.com/filer/abdiel-capital-advisors-llc#:~:text=Abdiel%20Capital%20Advisors%20is%20based%20out%20of%20New,and%20a%20top%2010%20holdings%20concentration%20of%20100.0%25.

 

Looks like mostly software/cloud growth portfolio. Not surprising that they did well, although still kudos for 50%+ annual (if true).

If they were a mutual fund/ETF, I might invest with them. Although likely right now is not a great time with growth names trading in the stratosphere.

 

Thanks Jurgis.  True that they have owned some of these names for 3+ years.  But some of the names (typically smaller positions are a bit newer including Slack. 

[Vish_ram]

If you don't own growth and just focus on hard core value investing ,then making $ is very hard.

 

Over several years I gradually shifted from value to growth. I understand the absurdity of this as Buffett says they both are joined at the hip. I started making good $ for me and my clients with this approach (outperforming S&P 500 over several years).

 

Here are some thumb rules:

1) You need some core expertise in at least one area (like software, telecom, cloud , security etc)

2) Value investors don't lack the ability or knowledge, but lack the imagination to invest in growth. They want to see everything upfront (earnings, cash flow etc) before committing up front. The market is too smart for that. Market prices in potential upside.

 

Let me illustrate with an example:

Imagine Microsoft O/S that is growing well (30 years ago). If you value MSFT purely on O/S you will see that it is very expensive. The TAM may not appear to be that high. But if the company is at nascent stage of bringing ancillary products like word, excel etc then the TAM dramatically goes up over time. It hasn't happened yet, but will happen over time.

 

The leverage they've on one product will help them expand to others over time. There are many many examples in other companies as well. Market pro-actively prices it in.

 

In general MOST growth stocks are way undervalued (how else do you explain the subsequent superior returns).

 

Yes, when growth falters or margins shrink, it'll take a plunge. This was the case of MSFT during 18 years that it under performed.

 

3) Diversification is the key. This is why concentration will either produce terrible results in general. Value investors take so much pride in taking concentrated portfolio. This is the dumbest approach (you are not Buffett). Buffett should be sent to prison for few months for giving such a bad advice to his countless acolytes and ruining their portfolio.

 

4) Understanding of macro helps. If you have an approach of raising cash when yield curve inverts and Fed tightens, sell/trim when valuation of growth becomes really insane (like trading at 50-80 times sales) you'll do better.

 

5) Never get too attached to any growth stocks.

 

6) In growth investing, EARNINGS ARE FOR LOSERS. Bezos said if any of their subsidiary produces profit, they are not doing a good job.

You need to take an owner view. Say you have an omelette shop. Do you think of producing the max. profit? No ,you work on growth , reinvestment of all capital to grow more. The GAAP losses are sowing the seeds for future growth. the SG&A you incur now is building the foundation for future.

yes, it all depends on if the end state is something that can produce 20% FCF margin. This involves understanding the biz, industry, TAM, competition, and so many factors.

 

YOu constantly have to filter and refine the criteria for owning. No one understands a company fully (not even the CEO). No One knows the future. It is all calculated risk taking.

 

Even the greatest investor of all time, Buffett, started showing improved performance when he started paying up for growth.

 

 

[Jurgis]

https://whalewisdom.com/filer/abdiel-capital-advisors-llc#:~:text=Abdiel%20Capital%20Advisors%20is%20based%20out%20of%20New,and%20a%20top%2010%20holdings%20concentration%20of%20100.0%25.

 

Looks like mostly software/cloud growth portfolio. Not surprising that they did well, although still kudos for 50%+ annual (if true).

If they were a mutual fund/ETF, I might invest with them. Although likely right now is not a great time with growth names trading in the stratosphere.

 

Thanks Jurgis.  True that they have owned some of these names for 3+ years.  But some of the names (typically smaller positions are a bit newer including Slack.

 

Yes. The newer positions are much more the "mainstream" growth/Motley Fool Rule Breakers/Robinhood/momo. Which is a possible risk, since Abdiel may have less of a variant perception and the prices they are paying are way higher.

[Jurgis]

@Vish_ram touched one big point that I have raised previously: the difficulty of investing into growth stocks is that the ultimate TAM is tough to know. The ultimate TAM is what makes growth investing work. But it is also one of the big risks.

 

For successful companies like Google, Apple, Microsoft the ultimate TAM is way bigger than what you expected when you invested. E.g. if you bought Apple for iPod TAM, it was overpriced (likely), but then came iPhone TAM. Same with Microsoft (DOS -> Office -> Windows, etc.) and Google (desktop search -> mobile search -> Android -> Ads, etc.) and Netflix (DVDs -> Streaming -> Content). This might be the argument why SHOP might have (a lot of?) growth left: they could conquer adjacent TAMs that are not visible right now.

 

OTOH, you don't really know if a company will successfully shift into new TAM. For each Google, Apple, Microsoft, there's a bunch of companies that did not shift/find new TAM and pretty much burned out. Paying high growth price for such companies leads to painful results. This might not be visible now after 10 years of tech bull market, but it might be visible. Let's see how Uber does, for example. Less dramatic examples might be QCOM, INTC. Pretty dead ones might be Fitbit, GoPro, etc.

 

So it's not that trivial to predict how the TAM will evolve. Selling on sales slowdown might seem attractive, but it would have missed you huge returns on Microsoft, Apple, Netflix, etc. OTOH, it probably would have saved you from the companies that slowed down and then pretty much died.

 

Although I do diversify, I disagree that diversification is key for growth investing. If you put your money into Google. Or Facebook. Or CRM. Or Netflix. You could have retired many times by now. So really diversification is - like Buffett said - for people who don't know companies in depth.

 

I also disagree with "Never get too attached to any growth stocks.". Once again Buffett is right: for real growth stocks the time to sell is never. Let me add Akre holdings like AMT to that list. And yeah, AKREX sells very infrequently. And there are other successful growth investors who behave the same.

 

But hey, people are paying for growth now. Valuations are very high. So perhaps this is not the best time to switch to growth or to hold forever.  8)

[Tim Eriksen]

 

In general MOST growth stocks are way undervalued (how else do you explain the subsequent superior returns).

 

Yes, when growth falters or margins shrink, it'll take a plunge. This was the case of MSFT during 18 years that it under performed.

 

 

Can I quibble here?  Most growth stocks are overvalued since growth will not materialize to level the stock price is implying; however, for the growth stocks that do grow over the long term they are undervalued because they not only meet expectations but likely surpass them. 

 

Subsequent returns in the short term are often due to changes in expectations not improvements in long term prospects.