Lessons From a Buffett Disciple  

By Al Shams

Many of you are familiar with Warren Buffett, the chairman of Berkshire Hathaway and one of the world’s most successful investors.

Seth Klarman is not as well known, but in sophisticated investment circles he is highly regarded. His primary operating entity is Baupost Group, based in Boston. He was born in New York and graduated from Harvard Business School.

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Klarman has deep respect for Buffett and believes he is a teacher, deep thinker and gracious person who freely shares his ideas and insights. Klarman’s long-term value investment approach is similar to Buffett’s.

Twelve basic investment principles form the core of Klarman’s approach:

1. Value investing works on a long-term basis. Invest in shares with good financials and low valuation relative to a company’s value in an arm’s-length private transaction.
2. Quality matters in a business and people. Good management is difficult to identify, but try you must. Be sure management’s interests align with those of the average shareholder.
3. Be careful not to overdiversify. Diversification is a key rule in a successful investment strategy because a diversified portfolio minimizes unforeseen risk. But Klarman believes that many investors spread their capital too thin. He prefers to hold 20 to 25 separate entities.
4. Patience and consistency are crucial. Successful holding periods should be measured in years, not weeks. Too often people overly rely on price and do not evaluate, in financial and operational terms, how a business is progressing.
5. Risk and volatility are not the same. Risk relates to a company’s financial integrity and ability to continue as a going concern and the price you pay for that business. Volatility covers the ups and downs of the stock market — the short-term fickleness of investors.
6. Be prepared, emotionally, mentally and financially, for unexpected events. Think Pearl Harbor, 9/11, Ebola, the Yom Kippur War, etc.
7. You can make serious short-term mistakes, learn from them, survive them and later prosper. Many value investors believe that a portfolio of well-balanced value stocks held with patience can tilt the odds to the investor’s favor.
8. As a company or individual, always hold some significant level of cash to support your operations during tough times. The concept of resource management is as old as the Bible. Remember the story of Joseph and Pharaoh’s dream of seven healthy cows being consumed by seven sick cows. Joseph’s interpretation was that seven good years would be followed by seven lean years. Save when times are good; to do otherwise is foolish. In a capitalist society, you cannot afford to run out of capital.
9. Investment labels can be misleading; be sure to do careful analysis. There are times when debt or preferred stock could have more risk than common stock. Look behind that label; not all foods labeled “organic” are in fact organic.
10. Consistently analyze your positions to ensure that the principal reasons for your actions are still intact.
11. Try to align your investments with like-minded long-term managers and investors. We all know of stocks that attract short-term traders and flippers.
12. Do what you love and you will never work a day in your life. Good advice for all of life’s endeavors.

Al Shams is a Sandy Springs resident, a former CPA and an investment professional with more than 35 years’ experience.