Thinking Points
- This is part 3 of my series covering takeaways from my last trip to Tokyo.
- We met with one of Japan’s top performing fund managers, which got me thinking about having an edge in investing.
- Sometimes, having an edge can simply mean looking at the same well-covered companies from a different angle.
In case you missed it, this is part 3 of my series covering a few things I’ve learned during my Tokyo trip with a fund manager. Here is part 1 on management and part 2 on shareholders. This will be the final part of the series, and we’ll talk about “edges”.
Work that miracle
Put frankly, my client is a “wonderful company at a fair price” kind of guy. And he’s surrounded by colleagues with a similar mindset. Naturally, he was interested in finding a Japanese fund manager with a quality focus and a history of solid investment performance.
Well, he found one. Not just anyone either, but a guy who’s delivered the best long term fund performance in Japan. Unfortunately, I can’t share his name. He keeps a low profile and doesn’t normally meet with people. Somehow, my client and his broker managed to work a miracle.
This Japanese fund manager agreed to meet my client… with one stipulation: He will only meet with two people. My best guess is that between my client’s charming French accent (and secondarily, his value focus) along with his broker’s long and respectable history, they managed to organize this meeting.
Now, can you guess who the lucky second person was?
Yup, you guessed it, me!
Meet the Legend
To be clear, I don’t have the French charm or the long and respectable history. But I guess luck was on my side – we had an hour with a top performing, quality focused Japanese fund manager.
First impressions? I thought he was a mob boss… Until he smiled and started talking openly and enthusiastically about his investment approach. And if my past encounters are any indication, it seems like many value investors share this trait – being somewhat introverted until you start talking about investments (or some other mutual interest).
His investment approach, in one word, is growth. Actually, let me clarify: GROWTH. The all-caps distinction here is important. And it’s not like he buys into momentum or is swayed by Mr. Market’s mood swings. He takes long-term, concentrated positions in high growth companies.
The argument against growth investing and high valuation multiples often starts with data point extrapolation. You can’t have growth to infinity, and if your growth rate assumption is off, you might be losing your a$$.
Admittedly, I’ve come across a good chunk of the names in his portfolio. Many of which I looked at current multiples and instantaneously passed on. Not that I think my approach is bad (it’s only a heuristic), but it’s fascinating to learn how talented fund managers analyze these companies.
Let’s talk about edges
Last week, I mentioned that fund managers don’t always have the liberty to invest in the smaller (think sub-$400mm USD market cap) high growth companies, often for liquidity reasons. While this spells opportunity for individual investors, competent fund managers find other ways to gain an edge.
The informational edge is probably familiar to most, and another key reason for individual investors having the opportunity to excel in micro/small caps. But there are other edges too, like the analytical edge and investment horizon (i.e., time) edge. And basically, this fund manager leverages the latter two – he takes a different angle while looking at the same mid-to-large cap companies as everybody else, and stays invested over a longer period of time.
One thing was abundantly clear with this fund manager – he only cares what the company will be worth a few years out, and whether the growth characteristics will still be there then. Much of his time is spent on figuring out the growth equation.
My client isn’t as growth-focused, but like I mentioned earlier, he is definitely in the “wonderful company at a fair price” camp. Fortunately, there are benefits to managing large sums of money, like better access to research tools, management teams, and industry people. My client uses all of these to construct his edge.
One example he mentioned (I’m not naming companies) is that he likes digging into multi-segmented companies with rapidly growing small segments. Occasionally, this small-but-high-growth segment can be overshadowed by a mediocre or flailing segment.
Another example he mentioned is margin expansion/contraction. Again, no specifics here, but directionally… he attends industry conferences and also talks to industry people. Piecing together his collection of information, he discovers big industrial company A is starting to vertically integrate the production of critical component 1. Critical component 1 is the bread-and-butter high margin business of big industrial company B, which company A currently purchases from. Presumably, margins will be affected. While both companies trade at lofty multiples and the information didn’t lead to an investment, it’s a valuable insight to have. All you need is one good idea every so often.
The bottom line
In talking to my client and a top performing Japanese fund manager, I couldn’t help but think about edges. Though fund managers often face certain restrictions – like liquidity requirements – the competent bunch figure out how to work to their strengths. In many cases, this simply means looking at big, well-covered companies from a different angle.
