Walter Schloss's thinking on value investing

Walter Schloss’ Presentation at The Benjamin Graham Center for Value Investing

July 25th, 2010 · 

Walter Schloss conducted a recorded video / audio presentation at the Richard Ivey School of Business’ Benjamin Graham Center for Value Investing.  If you would like to see the audio / video, we have it on our value investing resource page.  In this post, I am going to take notes on Schloss’ speech and add some commentary later in the week.  Enjoy.

• Started fund in 1955 when Graham said he was going to retire
• Schloss was left handed (I never knew that)
• Started out with 19 partners, each with approximately $5,000
• Stayed in field until 2001 (or 2003…couldn’t recall).  Son couldn’t find any good value stocks.
• Started work when his father lost his job – the family had no money.  Started off making $15/week.  Wanted in the research department.  Was denied.  Was told to read “Security Analysis”
• Question: How do you choose stocks?  Answer: Stocks that are hitting new lows.  Schloss fines Value Line very helpful.  He doesn’t have a computer and likes to look at the numbers.  He doesn’t talk to management teams.
• Went to work for Graham in the beginning of 1946
• Question: What process did you follow to minimize mistakes?  Answer: I don’t like to lose money and therefore buy stocks that are protected on the downside and then the upside takes care of itself.  Look for companies that do not have a lot of debt.  By looking at the proxy statement and annual reports, can get a sense of how much stock the directors own, who owns a fair amount of stock, and the history of the company.
• Look at companies selling at new lows.  It means the company has problems. Debt exacerbates these problems.
• Love companies with simple capital structures.  Not a lot of debt.  The company has to have history.  Management needs to own stock.
• Schloss admits he was never good at evaluating management character.  Therefore he stuck to the numbers.
• Value Line is helpful because you get a good sense of history on the company because they have 10-15 years of performance data.
• Question: If stock falls, what do you do?  Answer: If I like a company, I’ll buy more on the way down.  Stock brokers do not like recommending stocks that are going down.  The stockbrokers don’t want to look like fools. People get nervous when stocks go lower.
• Likes to try to get 50% profit.  Only long-term profits (don’t want to pay short term taxes)
• Admits that he makes mistakes in sales.  He will buy at $30, sell at $50, and see it go to $200
• Likes stocks selling below book value. Reiterates how much he hates debt.
• Read annual report.  Figure out why the company is having problems.
• If you get a stock selling significantly below book value, has a good history over 20 years, and little debt with lots of management holdings, probably a good purchase.
• Margin of Safety to Schloss is if the company’s book value is substantially higher than the market price. Companies get bought out that are trading at significant discounts to book.
• Question: Emotional mistakes? How do you control? Answer: Schloss does not get emotional about stocks. One reason he doesn’t talk to management teams is because management presents the company the way you want to see them.  Schloss is not a good judge of people.  Warren Buffett is.  Schloss says you have to look at situations logically, not the way you WANT to look at it.
• He wants to buy things the way there are, not the way they may be in the future. He wouldn’t buy a company with a prospect of an electric car just because of that prospect.
• Seems to me that he uses Good to Cancel Orders
• Question: Outstanding company at a fair price or a fair company at an outstanding price? Answer: He doesn’t want to buy good companies at what they are worth – he wants to buy these companies at a discount. Sometimes people get VERY nervous and bargains arise, but that is not too often.  You want to buy stocks that you can make 50% over a couple of years.
• He doesn’t like to lose money.  So he buys companies that are having problems. He likes companies with no debt.
• Quite often the stock market reacts emotionally.  Bad news causes troubles.  If you are managing money for other people you should not tell your limited partners what you own – Why?  Don’t want competition.  Don’t want to deal with investors emotions and don’t want to hear their complaints. If LPs are worried, don’t take them as investors.
• Question: Three traits to be a successful value investor?  Answer: Be calm and not to be emotional.  Be intellectual and look at the facts.  Never get emotionally involved in a stock.
• Distinguish between temporary and permanent problems.
• He likes companies to be a success.  If you sell early, and the stock triples, who cares?  Move on.
• Question: Is the upcoming recession worse than previous ones?  Answer: Schloss tries to stay away from what is going on in the overall economy.  He has no idea what is going on in the economy.  He buys stocks on what they are worth – and not what is going on in the macro economy.
• Stop worrying about what is going on in the overall economy or where the market is going – buy cheap stocks – if you go into a recession, you’ll have to wait longer to make your money.  Just buy cheap stocks.
• Graham liked to compare stocks that started with the same letter of the alphabet.  Intellectual exercise. Compared the stocks.
• Compare stocks in the same field.  Two liquor companies for instance.  What are their trading levels?
• Question: Has market become more efficient?  Answer: As an analyst, your job is to determine why one stock is selling lower than another. If an industry is having a problem, take a look.  A lot more competition but that being said, “value analysts” are still not happy buying stocks that are going down.
• Harder to determine when to sell versus when to buy.
• Question: Personal view on diversification?  Answer: Stay away from industries that are outside of your circle of competence.  More comfortable with very old industries. More comfortable in stocks than bonds because inflation eats up return. Very few people become millionaires buying bonds.  Bonds are for old people.
• Seems to me this guy is incredibly humble.  Jives with what I have read in the past.
• Question: Raising capital in the 50s as a young fund manager?  Answer: Not an aggressive man in going around to raise capital.  Get your feet wet with family money.  Very difficult to start a fund. You don’t want to lose money. If you like math, if you like investing, you can do it as long as you control your emotions.
• Question: Biggest mistake? Answer:  ”I forget my mistakes.”  Awesome.Schloss didn’t lose money often.  Never put a great amount of money in any one stock.  Held over 100 stocks at any one time.
• Compared value of a company versus its working capital…i.e the company was trading at 2 dollars a share but had 7 dollars of working capital per share.
• Didn’t like getting involved in legal actions
• Never focused on mistakes – including selling too early
• Question: China?  Answer: Schloss does not buy foreign companies. It is not easy to judge foreign companies. Insiders have too much advantage overseas.
• Question: When to sell / mechanics of sales? “I don’t know when to sell”  Schloss will sell at 100% profit. At Graham Newman will scale their sales.  Will usually hold stocks for 3 years. Schloss likes profit, but he has no formula for when to sell.
• If a stock gets high enough, it becomes a lot more vulnerable.
• Schloss quotes from Ben Graham from the 3rd edition of Security Analysis: McDonald’s was selling at $14, down from $35.  Graham’s arbitrage formula for return per year.
• Question: Max you would allocate to a stock in a portfolio?  If you really like, individually, you might put 20% in one stock for yourself.  In a partnership, you may put only 10% in.
• Shorted stocks in the tech bubble.  Historically never did it before.  It made him feel uncomfortable.
• Question: Research – just Value Line and Annual?  Answer:  Less than book value, not much debt.  Then you look at company itself – company might suck, but it may have a lot of book value.
• Question: How do you become comfortable with an industry?  He likes simple manufacturing companies.  Companies might have lots of growth, but stockholders might do poorly.  Simply capitalized companies.  Look at the last 20 years.  And then get an annual report.
• Buys stocks where the outlook is not good.
• Value Line: Look where stock was ten years ago.
• The point is: You do not want to lose money.  Buy stocks that are depressed, that aren’t going broke.
• Warren Buffett – very brilliant guy – but some people were reluctant to invest because there was no income.
• Question: What is the most important thing in investing and in life that you have learned in the past 50 or so years?  Answer: Honesty is the best thing you could have.

http://www.schloss-value-investing.com/2010/07/walter-schloss-presentation-at-the-benjamin-graham-center-for-value-investing/