Tobias Carlisle Reddit AMA

Tobias Carlisle did an AMA on Reddit a while back. But I’ve compiled and sorted it into categories for easier reading.
I thought some people might be intimidated and confused by Reddit threads, so hopefully, by sorting and categorizing in a post, someone might find this useful.

I haven’t included all questions and answers from the post. Just pulled the ones I found most interesting and insightful.
Only edits I’ll do will be for capitalization and punctualization purposes.

I blog at Greenbackd.com, and I’ve written two books on value investing: Deep Value: Why Activists Investors and Other Contrarians Battle for Control of Losing Corporations (2014, Wiley Finance), and Quantitative Value: A Practitioner’s Guide to Automating Intelligent Investment and Eliminating Behavioral Errors (2012, Wiley Finance).

I am the founder and managing director of Eyquem Investment Management LLC, and serve as portfolio manager of the Eyquem Fund LP and the firm’s separately managed accounts.

Prior to founding Eyquem in 2010, I was an analyst at an activist hedge fund, general counsel of a company listed on the Australian Stock Exchange, and a corporate advisory lawyer. As a lawyer specializing in mergers and acquisitions I have worked on transactions across a variety of industries in the United States, the United Kingdom, China, Australia, Singapore, Bermuda, Papua New Guinea, New Zealand, and Guam.

I am a graduate of the University of Queensland in Australia with degrees in Law (2001) and Business (Management) (1999).

Tobias Carlisle Reddit AMA introduction.

On Investing

What are your 3 worst investments? What was your thesis and why did it not work out the way you had predicted.

It’s so hard to narrow it down to just 3. I can tell you one in particular that I often think about and cringe over. Before I was fully systematic, I had a position in The St Joe Company (NYSE:JOE) in 2010. I’d done a lot of research on it, including reading Einhorn’s old 2007 short thesis when it traded in the $80s, and speaking to Jon Heller (who writes the excellent Cheap Stocks blog), who was long in 2007, Sham Gad, and a few other guys including Bruce Berkowitz. I bought it around $23 and it floated up to around $26 or $27, basically where I’d bought it, but up a little, so I felt good about it.

I went to the 2010 Value Investors Congress in New York, and I was sitting beside Jon Heller after lunch waiting for Einhorn to speak. You don’t know the names that each speaker will cover, but you get to see the title of the talk. Einhorn’s title was “If you build it, they won’t come.” I turned to Jon and said, “This couldn’t be St Joes, could it? He was short at $80+ four years ago, but now it’s in the high $20s. It would just be cruel and unusual to still be short in the $20s.” Einhorn delivers his customary 200+ slide deck presentation, and sure enough he’s short JOE, and says it’s going to zero. The stock tanks during his talk to about $17. I saw Berkowitz talk that day or the next, and when they asked him about JOE he kind of shrugged like the Fonze and said, “Ehhh, it’ll work out.” My blood ran cold. I got this feeling like Einhorn was all over the detail of the business (he’d driven the streets and taken photos of the development) and Berkowitz wasn’t. JOE was a “battleground” stock in the media for the next few weeks with Einhorn and Berkowitz trading shots at each other. I did some more research, read Einhorn’s report, and sold it at $17.

Of course, $17 was the low, and it proceeded to rally back to where I’d (edit:bought) it over the next year or so. I’m not proud of it, but I panicked. You shouldn’t be influenced about what other investors think, but I clearly was, probably because I think Einhorn is one of the smartest guys around

In retrospect, I didn’t give Berkowitz enough credit. He lives in Florida and he knows the area well. The full St Joe Company story is yet to be written.

I’ll have to think about two more that don’t make me look like such a donkey.

Do you have any advice on how you’ve approached people like Berkowitz and what’s worked vs. what hasn’t?

Either find a contact, or contact of a contact; or just write your thesis into a single paragraph and drop them an email, maybe attaching the full thesis.

You could also try submitting to the Value Investors Club. There are a number of famous investors in there. It won’t take long to figure out who’s who.

How do you begin the process of generating investment ideas? Any tips or ideas for managing this process and making it more efficient?

A good screen can make the process better. I have customized screening software that uses a model built in the writing of Quantitative Value (QV) that sifts opportunities for me. I stick closely to the output of that model. The best idea is to figure out the big drivers of investment performance, build them into your model, and then stick to the model’s output.

There’s an idea in QV that the application of statistical prediction rules (SPRs) outperforms the best expert intuition. We think that the SPRs are the floor to which we add, but they’re really the ceiling from which we detract. A model/screen is an SPR, and for the best performance we shouldn’t “cherry pick” the output. The “Broken Leg” problem is an idea I discuss in Deep Value best illustrated by an example. Say we have an SPR that predicts when John goes to the cinema on Friday. He breaks his leg. Should we be allowed to override the SPR and incorporate this information into our decision? The answer is “no,” and the reason is that, while it might be valid in any individual instance, we find more broken legs than there really are, and exercise our discretion to override the SPR too frequently. In investment, lots of undervalued stocks have broken legs, but that’s often the reason that they’re cheap. If the SPR says “buy,” I do.

Do you think that what Walter Schloss did (buying a diverse basket of cheap stocks with almost no field research) is now obsolete – or at the very least superseded by computerized quantitative investing?
What about what Nate at Oddball Stocks does (buy a diverse basket, with each position sized small, of micro-cap cigar butts)? Is some degree of scuttlebutt or even activism necessary to justify manual stock-picking over quantitative value investing or even just factor-weighted indexing?

Not at all. I try to model my own investment process after Schloss, even if it’s mostly systematic. Nate does very well and will continue to do so, IMO. Only to the extent that it improves returns. I’m reasonably confident that Schloss could still get his returns today.

Is it just that somehow, someone like Schloss was the rare breed who didn’t make the behavioral errors that most succumb to? I suppose the problem, and the whole rationale for “dumb” quantitative value, is that you don’t know in advance who these people are (unless you are a “super judger of character”) and that these qualities are so rare.

In Alice Schroeder’s The Snowball she writes that Schloss was the red-headed step-child to Buffett’s golden-haired boyat Graham-Newman, and that he was bullied by Graham’s partner Newman. He was regarded as a little slow (maybe it was true in comparison to Buffett, but who wouldn’t be slow in comparison to Buffett?). There’s nothing to suggest he would generate 20%+ over 50(?) years.

What’s most impressive is that he managed those returns working 9 to 4; didn’t ever visit management despite the fact they might be a few blocks away; borrowed his copy of Value Line from Tweedy Browne; and worked with his son for most of his life. Sounds like a good life to me. He was probably humble, and calm, both of which make for a good investor.

What do you think about “fundamental” indexes, such as what Rob Arnott or Wisdom Tree do? Greenblatt recommended them wholeheartedly over market-cap weighted indexes in The Big Secret for the Small Investor, but John Bogle (as well as Vanguard and others) have said that the outperformance of these alternative index funds does not outweigh their increased fees. On the face of it, however, 1-2% outperformance would seem to justify an increase of 0.25% or so in the expense ratio – but I suppose the question is whether that outperformance is persistent. To my mind, it does seem persistent – since it is just, as Greenblatt says, randomizing the errors of market-cap-weighted indexing, but I also do know that people always find ways to mess things up and pay more fees along the way besides.

I think fundamental indexes are better options than market indices for all the reasons Greenblatt identifies.

Shorting bottom-decile Magic Formula stocks. Too dangerous when those stocks might go parabolic?

Yes. Over the long run, the value decile will outperform the glamour decile. But there are occasionally long periods (5 years or more) when the glamour decile outperforms, and by a wide margin (the late 1990s for example). If you’re short the glamour decile, that compounds the pain of value underperforming the market and introduces the risk that you go bust.

Would you mind sharing with us your experience in starting your own investment partnership?

It’s a difficult and expensive process. If I had to do it over again, I’d just run separately managed accounts. It’s better for the investors because it’s lower cost and they retain custody of their money and it’s lower regulatory pain for the manager as a result.

How do you structure fees for your managed accounts? How do you get clients? How do you manage discrepancies between accounts due to timing of inflows/outflows?

I offer domestic, international and global universes, long-only and hedged. Long only is 0.99 and hedged is 1.25 percent annually, charged quarterly. Add another 0.25 percent for international and global.

I put investors into whatever the model is at the time so the accounts vary, but they sync up at the end of the second year.

What compelled you to move to a more systematic approach to investing, which contrasts the (ostensibly) thorough investment process at an activist fund? Also, when did you know you were ready to launch your own fund?

I looked at my own returns out of 2009, and compared them to the correct index (Wilshire 4500) and an ad hoc index of net current asset value stocks. Discovered that most of the return was due to the underlying value stocks and not anything special that I had done (if anything, I could have done better by sticking closer to the model). Started investigating the theory behind statistical prediction rules and saw that it was a better method for me.

What are your thoughts on net-nets? If you had between 200k – 1m in capital to invest would you look towards net-nets?
I remember reading somewhere Buffett saying that if he was managing a small amount of capital he thinks he could do 50% a year. Do you think his strategy would be to chase down ‘cigar butts’?

I love net nets as an individual investment strategy (Deep Value discusses net net investing in detail). There’s some James Montier research to the effect that global, developed market net nets have done something like 35% compound. I suspect you’d quickly have [edit:too] much capital to get those returns, but that’s a good problem to have.

What alpha do you think deep value investors should look for and what is the best index for them to benchmark against?

Don’t worry about alpha, just look for crazy undervaluation and the performance will eventually take care of itself. The index is a question more for outside investors than managers. You should be benchmarked against the same pool of assets as you invest in, so a guy who only buys S&P 500 should be benchmarked against the S&P 500 or the equal weight version, and someone who can draw from the Russell 5000 should be benchmarked against that index.

What do you think is a more important skill for analysts: DCF modeling or channel checking?

I don’t do either. Good modeling is hard. As Richard Feynman says, “The first principle is that you must not fool yourself – and you are the easiest person to fool.” I prefer much rougher metrics and just look for outstanding value.

What do you use the most to value an investment opportunity: qualitative or quantitative data?

Easy one: I’m 100% quantitative.

How do you decide how long to wait before making the decision that the market is not going to agree with your valuation of an investment? If the fundamentals change, this is possibly an easier decision but if your original thesis is still intact how do you decide to pull the plug?

I wouldn’t bail out of an investment that was still undervalued simply because the market price hadn’t moved. It depends a little on what the underlying intrinsic value is doing. If it’s compounding away, don’t tell anyone about it and just keep buying it. If it’s deteriorating, you’ve got to have some line in the sand beyond which the margin of safety is gone, and you’re better off out of it. I can’t tell you the number of times I’ve got impatient and sold just before the stock goes on an epic run. I’ve learned that lesson enough times that I hope not to make that mistake any more. I’m pretty patient these days.

MISC

Thanks for doing this. What your favorite books that most influenced your way of thinking (both biographies and otherwise)? How about periodicals/magazines?

I’ve read Fortune and The Economist since undergrad, when I got an special undergrad deal for both together. (They hook you on the low rates then they jack up the price!)

Investing books: The ’34 edition of Security Analysis, O’Shaughnessy’s What Works On Wall Street, Greenblatt’s The Little Book That Beats The Market.

Biographies: Goldsworthy’s Ceaser, Screech’s translation of Montaigne’s Essais, Renehan’s Dark Genius of Wall Street, Mlodinow’s Drunkard’s Walk, Bruck’s The Predators’ Ball, Henriques’ The White Sharks of Wall Street, Poundstone’s Fortune’s Formula, Fox’s The Myth of the Rational Market. I’m missing a few here, but these are all incredible.

What would you suggest doing in college to help prepare for a career in finance and investing?

  1. Read every investment book recommended by Buffett, and all of his letters.
  2. Open your own account and start investing for yourself.
  3. Start a blog and write about your positions publicly.

Do you have any interests outside of investing?

My wife and daughter, rugby, NFL, poker, swimming, chess, reading biographies, and drinking good coffee, wine and scotch. (Edit: And arguing about the relative merits of all of the preceding, excluding the wife and daughter.) Not necessarily in that order, and not necessarily independently. 

Want some more AMA’s?

Leave a Reply