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Outperformed the market by 1100% over 12 years
Mohnish is a Mumbai-born, American-Indian who spent the early part of his career in the tech space working for Tellabs between 1986-91, and then went on to set up his own tech business in 1991 with an initial capital of US$ 100,000. He sold this business in 2000 for a cool US$ 20 million, and then launched himself into his second innings - this time as a value investor and an ardent follower of Warren Buffett and Charlie Munger. In 2000, he set up Pabrai Investment Funds, which is a family of hedge funds, and now manages around US$ 475 million in assets. Hedge funds are not the most transparent of vehicles, except to their own investors, but a glimpse of just how successful an investor Mohnish is, can be fathomed from a September 2013 Forbes article, which ran a bold headline:
In a market where fund managers struggle to deliver alpha, MohnishPabrai's eye-popping long term investment performance puts him straight up in the league of the most successful US investors. There are of course thousands of professional value investors in the US - what then makes Mohnish so special? It's a unique and winning combination of understanding value investing from legends like Warren Buffett and simultaneously imbibing entrepreneurial traits from the highly successful US Gujarati community.
The Dhandho Investor
This delectable amalgam is what he presents in his book, "The Dhandho Investor". His investment philosophy is what every investor dreams of, and most professionals think does not exist: a low-risk, high return approach. His classic one line explanation of his approach is "Heads I win, tails I don't lose much". He talks about learning from the US Patel community, who came into US and started buying up motels during a prolonged downturn, and today own half the motels across the US. He talks about learning from Lakshmi Mittal, who made his fortunes buying up steel businesses in distress around the world. In both cases, the entrepreneurs understood the business, understood how to turn around the fortunes of distressed firms, and bought them at a fraction of what they would be worth, under more competent and resourceful managements.
Understand the difference between risk and uncertainty
There is a very important point that he makes, which perhaps is the key to his stupendous success: the difference between risk and uncertainty - a critical distinction that many investors fail to make. Risk he says, is the potential for capital loss, while uncertainty is a wide range of possible outcomes. Confusing uncertainty for risk frequently leads to underpriced securities. Investors who understand this difference, stand to make a lot of money. He shares an example of how he applied this distinction in an investment he made in Stewart Enterprises, a company that "rolled up" hundreds of locally-owned, mom-and-pop funeral homes, but amassed too much debt in the process. Worried about the potential of default, the market pummeled the stock. Pabrai wasn't fazed. He calmly assessed the company's major alternatives: reselling some locations to their original owners, refinancing, or restructuring via bankruptcy were the most likely options. Then he assigned a probability to each, and estimated the share price that would result from each option. He decided that the bankruptcy would leave enough of the business intact to break even, and the other two options would give him a large profit. Uncertainty was high, but the risk of loss was low. The important thing is he thought like the entrepreneur would - not like a stock investor usually does. That's where "dhandho investing" comes handy - think like it's your own dhandha - or dhandho in Gujarati.
The single biggest advantage of a value investor is not IQ - its patience
Here's another gem from Mohnish: the single biggest advantage a value investor has is not IQ - it's patience and waiting. Mohnish perhaps makes only 2-3 investments in a year. He is prepared to wait for long periods of time, and invests only when he has considerable margin of safety - ie when he is convinced that a stock is trading at significantly below its intrinsic value. And after he buys, he waits again. He normally gives any stock at least 3 years to perform, and does not consider exiting it before that period, unless of course he sees compelling evidence that he has read the stock incorrectly. He makes an interesting observation: very often stocks tend to underperform after an initial rush of purchasing is seen in the stock. That's when momentum investors exit and retail investors get confused whether the stock's direction has changed. You must allow this "manthan" to play out, without allowing your view to get impacted. Its only much later that the stock's real big move then begins.
Moats are critical
Like all value investors, Mohnish also believes in buying only businesses that he understands and businesses that he believes have considerable moats - sustainable advantages over competition, which will drive profits and therefore enterprise value.
High conviction, big bets
Investing says Mohnish, is a game of probability. Enter only when the odds are overwhelmingly in your favour. And, after you have done your homework and developed conviction about the value in a stock, bet big. He believes in having a portfolio of no more than 10 stocks - 10 high conviction big bets.
Invest in the copycat, not in the innovator
Another interesting angle to his investment philosophy - rather than betting on an innovator, he would much rather bet on a great copycat. And, if you think about it, this fits in rather well with his low risk philosophy. Innovation is high risk. But companies that are adept at lifting innovations, cloning and scaling are great businesses to own. If he were an active investor in India, our pharma companies would perhaps appeal to him, from this perspective! Come to think of it, he himself is a great copycat - he is a self-proclaimed disciple of Warren Buffett - but a damn good one at that! There are thousands of followers of Mr. Buffett in the US - may be millions around the world - but few have done as splendid a job of copying as Mohnish Pabrai has, to an extent where he is now outrunning the guru himself!
Content is prepared by Wealth Forum and should not be construed as an opinion of HDFC Mutual Fund.
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Wise Advice
In June 2007, the world sat up and took note of a gentleman called Mohnish Pabrai, who outbid everybody else to win a charity lunch with Warren Buffett, who Mohnish revers as his guru. His winning bid - for just one meal with the legend - was an eye-popping US$ 650,100 (that's over Rs. 4 crores at today's exchange rates!). But that's perhaps the only flashy act of an otherwise low key, hugely successful value investor, who stood conventional investing wisdom on its head by mastering the art of low risk - high return investing.