Tweedy, Browne Company’s Most Important Things
Investment manager Tweedy, Browne recently released a client letter, which was filled with helpful reminders and tidbits of investment wisdom. This particular letter has a section titled, “Good Stewardship, the Most Important Thing”, with 10 principles that have guided Tweedy, Browne for almost 100 years. Madison has followed a similar blueprint since our founding 18 years ago, which includes always putting clients first, interacting in a transparent and honest manner, and not making investments for clients that we would not be willing to own ourselves. Below are several excerpts from these principles, with comments we found the most interesting. Please reach out to Madison should you like a copy of the letter for your reading pleasure.
Above all else, treat our clients as we would wish to be treated if our roles were reversed.
“This has always been somewhat of a “no-brainer” for us because we don’t invest in anything for our clients that we ourselves would not also be willing to own. We have and always will “eat our own cooking.” We have also done our best to put the clients first in the way we manage our business. We have always tried to exhibit integrity and honesty in the way we conduct ourselves. As we said in one of our client letters many years ago, clients will forgive you for your mistakes but not for your dishonesty. In essence, we have always felt that what is good for the client is ultimately good for our business.”
Focus on the long term, never losing sight of the fact that successful investing is a marathon not a sprint.“By taking a longer term perspective, we believe one is able to behave more deliberately and thoughtfully, and ultimately we feel this is a more rational and sensible way to run our business and your money. Ben Graham once said that “in the short run the market is a voting machine, while in the long run it is a weighing machine.” We agree wholeheartedly. Trying to predict the short-term behavior of investors is fraught with difficulty, and the rewards for doing so are often quite small, leading some investors to leverage such investments to enhance their returns. Certainty is hard to come by in capital markets as they are driven by people, and people are “reliably unreliable.”
Approach investing with an innate sense of caution.
“One should only have to get rich once (life is probably not long enough for a second attempt), and to that end we do everything in our power as stewards of your capital to avoid permanent capital loss over the long term. We demand a significant “margin of safety” in each and every equity investment we make on your behalf. We are also conservative appraisers of businesses, and we couple that with diversification, typically by issue, industry, country, and market capitalization.”
Recognize that underperforming an index 30% to 40% of the time is a normal part of long-term investment success.
“Our own investment record and various empirical studies of investment characteristics that have provided attractive returns in the past suggest that you are more likely to reap the rewards of a value strategy if you stick with it through good and not-so-good periods over a long period of time. Empirical research concerning successful long-term investment results indicates that underperforming the S&P 500 or a comparable index 30% to 40% of the time is not uncommon for successful investment managers. In fact, it appears to be normal. Investors who understand this are more likely to stick with a perfectly valid long-term investment strategy in the inevitable and, we believe, normal, underperforming periods. In the field of investing, it is all too human to extrapolate recent results, which have no statistical significance, rather than emphasize long-run odds and empirical data. Your own psychology and ability to handle the emotional ups and downs of investing are likely to be important determinants of your long-run investment success. We want our clients to be aware of the rather lumpy, but normal character of investment returns.”
Never put yourself in a position to be forced out of the game; avoid leverage in your business and in your accounts.
“During the financial crisis of 2008-2009, many financial institutions, which should have known better, were leveraged in excess of 30 to 1, which meant that if their asset bases declined by more than 3%, they were effectively bankrupt. The problem was that they were reassured by their models that what they were doing would be safe apart from a “100-year storm,” despite recent history reminding us that these 100-year storms have a way of showing up every 10 years or so as evidenced by the dot-com collapse of early 2000, the failure of Long Term Capital Management in 1998, and the portfolio insurance debacle of the late 1980s, among others. As one of our bond manager friends said, “You have to worry about the 1% of the time … the 99% is not the problem.” In contrast to quantitative finance, we worry a lot about severity or the “1% risk.” Although there is inherent risk of loss in all equity investing, it’s very hard for us to rationalize a potential investment where we believe there is the potential for permanent loss of capital. The Aramaic world had a word which sums up our feelings about leverage. In Aramaic, the word for debt and sin are one and the same … “hobha.” We have always maintained that carrying too much debt is a slippery slope into financial hell.”
Stick to your investment discipline.
“To be successful, value investors must be able to withstand the behavioral temptations that lead most investors astray. For most of us this means trusting our discipline, and this has not proven to be as difficult for us as perhaps for others. We have the great fortune at Tweedy, Browne to have been the beneficiaries of a framework that was passed down to us by Benjamin Graham over 50 years ago. Having begun his business career during the Great Depression, Graham had a tendency to focus on what could go wrong in an investment. He invested in stocks the way a cautious underwriter wrote insurance policies. He searched high and low for stocks trading at big discounts to intrinsic value with a quantifiable margin of safety. He overlaid that with broad diversification to get the benefit of the “law of large numbers,” convinced that if one took care of the downside, the upside would take care of itself. This was not an approach based on any assessment of near certainty to which could be applied a highly leveraged bet, but rather it was an approach that accepted that there would be accidents, or mistakes in valuation, and managed for them. It was an approach that focused on severity and the consequences associated with failed expectations, and not just probabilities. This is very much the framework within which we ply our craft at Tweedy, Browne today.”
Let the opportunities set the level of investment; avoid the lure of market predictions.
“Empirical research has shown that 80% – 90% of stock returns have occurred in spurts that amount to 2% – 7% of the total length of time of the holding period. The rest of the time, stocks’ returns have been small. With stocks, you have to “be in it to win it.” Moreover, we believe that value-oriented stocks with extreme investment characteristics are going to beat the returns from cash over the long run. We think it follows that the long-run odds of having your portfolio generate excess returns are enhanced by staying as fully invested as possible.
Adhere to the Golden Rule of Investing: never invest in anything for your clients that you would not be willing to own yourself.
“This is the ultimate truth serum and an easy one for us as we always “eat our own cooking.” We cannot understand why any investment professional would behave differently.”
(Emphasis by Madison)