Vitaliy Katsenelson is Chief Investment Officer with Investment Management Associates and a well-known author of two books, The Little Book of Sideways Markets, and Active Value Investing. In addition, his articles have appeared in major financial magazines and journals.
Vitaliy runs a blog called ContrarianEdge.com, which could give you some idea of the kind of investor he is. Conformity is not his style. In fact, he says, his style can best be described as being able to see things that others don’t; often that means doing the opposite of what the market’s doing and being your own person.
It’s not clairvoyance
Vitaliy says that the vision of great investors has nothing to do with crystal balls but with having the right mental models; it’s the ability to see value where others don’t and following a consistent investment process time after time after time.
To further explain his position, when analyzing an investment, Vitaliy asks himself these questions:
Do I want to be in this business?
Do I like the management?
How well do they allocate capital?
Do they have a process I can relate to?
The contrarian way
Sticking to your position, not conforming to the accepted view isn’t easy in any aspect of life. For an investor, especially operating under the pressure and responsibility of handling other people’s money, it’s especially difficult. You may know you’re right, but it takes courage to explain to your clients and get them to accept the contrarian mindset, especially when your decisions may seem wrong for a long period of time.
When you have a situation where the market seems at odds with your instincts, Vitaliy follows a procedure that involves conferring with other respected investors to see all sides of the situation while figuring out what a company is worth. That takes work and a strong belief in your contrarian method.
But sometimes you change direction.
As committed as one may be to a credo, Vitaliy says it’s important for an investor to be able to change his mind. Using Warren Buffett (whom he greatly admires) as an example, Vitaliy states that even though Buffett has been quoted as saying he would never own an airline or a technology company, he eventually bought IBM and just recently purchased airline stock.
The mark of a great investor is success and along with that is the ability “to constantly learn and then change your mind when you get an insight.” Something true of Vitaliy and all great investors.Read The Entire Transcript Here
Steve Pomeranz: It’s time to welcome back one of my favorite investors and writers. Vitaliy Katsenelson is Chief Investment Officer with Investment Management Associates and he’s a well-known author of two books, The Little Book of Sideways Markets, and Active Value Investing. Also his many articles have appeared in major financial magazines and journals. His blog is ContrarianEdge.com.
Hey, Vitaliy, welcome back to the show.
Vitaliy Katsenelson: Steve, it’s my pleasure. Thank you.
Steve Pomeranz: Years ago I was reading a book about contrarian investing. My wife saw me and she saw the word contrarian. She gave me the dirtiest look, like, “Oh God, now you’re reading on how to be contrarian.” She didn’t understand it was an investment term. She thought it was talking about how to not accept anything she wanted me to do. Contrarian, in this case, fellow listeners, we’re talking about doing the opposite of what the market’s doing and being your own person. Anyway, Vitaliy, as I said, welcome to the show. I’m doing these segments on great investors, what’s in their wallet. I’d like to get your idea of what makes a great investor. What do you think?
Vitaliy Katsenelson: It’s not just one trait. I think it’s multiple different traits. One of them is be able to see things that others don’t. I’m not talking about clairvoyance, though that could be one as well. I’m talking about looking at the same stock or an investment does, and seeing something that others don’t, seeing the value that others-
Steve Pomeranz: Is that a quantifiable thing, or is that something that has to do with experience or the mind’s creative ability to see many things at once?
Vitaliy Katsenelson: I think it’s having the right mental models, I guess.
Steve Pomeranz: Okay.
Vitaliy Katsenelson: As a value investor, let me give you an example. Sometimes you’ll find a company that everybody hates. The hate usually is already in the stock.
Steve Pomeranz: The price, in the price of the stock.
Vitaliy Katsenelson: Yeah, exactly. A lot of times what we might do, we try to stress different scenarios and say that even if what the market is afraid of happens, it’s not going to kill the stock because the stock’s already cheap enough. That would be one example. I keep thinking one of my favorite investors, obviously, is Warren Buffett. I’m a value investor, so that comes with the territory. When he looked at American Express when it was during their oil-
Steve Pomeranz: The Salad Oil-
Vitaliy Katsenelson: Salad Oil scandal, right?
Steve Pomeranz: … Deal, yeah.
Vitaliy Katsenelson: Yes. He had an insight that he believed that even if their worst fear played out, American Express would be fine.
Steve Pomeranz: Yeah, that was a long time ago.
Vitaliy Katsenelson: Exactly. That allowed him to make American Express a very large position, which ultimately became a very successful investment. Also, when I think about investors that I respect, number one, they would have this ability to see things in plain sight, that others don’t. Another trait would be they have an investment process that they follow, the consistent investment process they follow time after time after time.
Steve Pomeranz: What would be a couple of those processes? What comes off the top of your head? Give me an example of a consistent investment process.
Vitaliy Katsenelson: I think the investment process would be when basically analyze investment in a very consistent way. An example would be, when you look at a company, you ask yourself a question, “Do I want to be in this business? Is this okay?” Then you ask yourself a question, “Do I like the management? How well they allocate capital?” That’s the process we go through. If they have a process that I can relate to, those investors would become somebody I would follow closely. I’m sure you’re going to ask me the question of investors I respect, David Einhorn, for instance, of Greenlight Capital, I have tremendous respect for him. I can relate to his investment process. In fact, I’m sure I borrowed a lot of his insights over the years, from his investment process. Also, I think one of the most important traits, and I think you mentioned this when you started the show, is the ability to be contrarian which is incredibly difficult.
Steve Pomeranz: Very hard. Why is it so difficult to be a contrarian as an investor?
Vitaliy Katsenelson: Let me give you just an interesting example. I am trying not to be political and I won’t be. I just watched a clip on YouTube of everybody who predicted, who was laughed at the idea that Donald Trump could ever be American president. There was this clip from Bill Marshall where Ann Coulter, when she was asked, “Who do you think is going to be American president, next American president?” She said, “Donald Trump,” and everybody laughed at her. My point is, as a contrarian, a lot of times you are in this position where you arrive to conclusion that is extremely unpopular. You own a company that when you turn on CNBC, you hear all these horrible things about the company. The public, basically, everybody hates it. You like it. Being able basically stay in minority and stick to your views is incredibly difficult.
Steve Pomeranz: As human beings, it’s anathema to us to not be with the crowd, to be under social pressure as being different. As an investor or an investment manager, like yourself and others, there’re investors whose money that they’re managing also has pressure. They have pressure to perform. Contrarian investors can be right, but it could take a long time for them to be right. They could look wrong for a very long period of time.
Vitaliy Katsenelson: That’s right. I think as a money manager, my job is not just to be a good investor, but also the ability to communicate to my clients my views and explain them why if you buy the company and it’s a very unpopular stock, which often happens with us, why they’re doing this, to get or not, to basically help my clients join the contrarian camp.
Steve Pomeranz: You wrote recently about a stock you’re following. We don’t want to mention any names. It’s a pharmaceutical company. You get one part of that pharmaceutical company for the current price of the stock, and you get the other very important part of the company for free.
Vitaliy Katsenelson: Yep.
Steve Pomeranz: The reason you’re in that situation is that the stock is depressed. Nobody believes in it right now. The longer that goes on, the longer you hold that position, I’m sure the more pressure you’re under and the harder it is you have to keep going back and making sure that … Here’s a question, over time, don’t you get to a point where you may doubt yourself?
Vitaliy Katsenelson: You constantly doubt yourself. This is why I think having a process … When we analyze that company, we build a lot of models. I try to actually talk to investors I respect, my friends who I respect and say, “Here is a stock we own. Here is our thesis. What are your thoughts?” Try to get the other side of the argument, to see if I’m missing something. Going through this exercise is extremely therapeutic in a sense because you’re trying to stick to your process in the sense that you’re trying to figure out what the company is worth, even though the market disagrees with you. This could be like this for a long period of time. If your process leads you to believe that you’re still right, you stick with that. It’s not easy, though.
Steve Pomeranz: No, it’s not easy and that’s why so many investors are not successful or they don’t become great investors because they don’t really have the discipline or the knowledge. They may just follow trends or momentum or very simple formulas in order to think that they can somehow outwit the market. Most of those don’t really, or actually the vast majority don’t work. Who are some of the people that you consider great investors? You mentioned David Einhorn. Who else is on that list?
Vitaliy Katsenelson: I think Seth Klarman would be a great investor.
Steve Pomeranz: Seth Klarman?
Vitaliy Katsenelson: Yeah. Let me explain how I look at great investors. There is a lot I can learn from Seth Klarman on his investment strategy, but his stock picks don’t really interest me because we have a slightly different style. Let me give you an example. Seth Klarman would buy pharmaceutical companies that are … He has analysts who understand them. There is no way I can understand them.
Steve Pomeranz: What kind of companies?
Vitaliy Katsenelson: Some very speculative. Very speculatively buy pharmaceutical companies, I have no insight in them. With David Einhorn, when he buys a new stock, I always take a look at it because we basically swim in the same pond.
Steve Pomeranz: When I was interviewing Tom Russo, he invests a lot in foreign companies, these big, multinational foreign companies, Nestle and the like. He was asked why he does this. Actually, Warren Buffett was asked why doesn’t he have more foreign companies in his portfolio. The answer was, Warren Buffett said, “I like to step over one foot fences and not twelve foot fences.” I guess Tom Russo is comfortable with twelve foot fences.I think what you’re saying is that following David Einhorn, that’s a one foot fence for you.
Vitaliy Katsenelson: That’s right. That’s right. Just let me make this comparison. At the same time, Warren Buffett says all those things, and then he has the ability to change his mind. It’s the great example. For 25 years he was saying, “I will never own an airline company because-”
Steve Pomeranz: Yeah, I remember.
Vitaliy Katsenelson: … Until this week when he bought it. I think it’s very important for an investor to be able to change his mind, not to be like a flip-floppy politician which changed his mind every time the wind is blowing, but to be able to constantly learn and then change your mind when you get an insight. I think this was great about Warren Buffett because he has grown over the years. He got better every single year. He, for a long time, said he would never own a technology company, and then he bought IBM.
Steve Pomeranz: Yeah, and Apple. Well, I don’t know if he bought it.
Vitaliy Katsenelson: That’s right.
Steve Pomeranz: His firm bought it. I’m sorry, we’re out of time, Vitaliy. My guest, Vitaliy Katsenelson, Chief Investment Officer of Investment Management Associates. Get his books, The Little Book of Sideways Markets. It’s a terrific book. It’s on my nightstand actually. Also Active Value Investing, and also he can be found at his blog, which is ContrarianEdge.com. Vitaliy, we’ll have you back. Thank you for being so gracious for spending your time with us.
Vitaliy Katsenelson: It’s my pleasure. Thank you.