Wednesday, June 27, 2007

On Running A Concentrated Two-Book Portfolio

I was looking at Amazon the other day for new books to read and thought I would do a quick search for Seth Klarman's Margin of Safety and Mohnish Pabrai's Mosaic. Both are regarded as must-read value investing books, and both also happen to be out of print.

Klarman's book was published in 1991, it cost $25 (according to the best information I could find) and now goes for $1,700 on Amazon. Pabrai's tome was first released in 2004 - I think for $15 but correct me if I'm wrong - and sells for $340 (also on Amazon).

Put another way Klarman's book has logged an annual return of 29.1% over the past 16 and half years, while Pabrai has clocked up an annual return of 144% since it has been published. The S&P 500 meanwhile has returned 9.8% annually since 1991 and 9.2% since 2004. In fact, I think the returns on both these books is probably even better than the returns on the funds that Pabrai and Klarman manage themselves.

So, what is the lesson here? Well, basically all you need to do is either:

a) diversify by buying a basket of books from good hedge fund managers and wait a bit for some capital appreciation


b) (what value investors prefer to do) conduct fundamental analysis of a universe of money managers who have publishing deals, read the books you believe to be promising and then buy only those you consider to be both of sufficiently high quality and likely to go out of print. You should then go onto bag returns in excess of 25% per annum with far less volatility than the S&P 500.

OK I admit, the last part on volatility was made up. I haven't tested what the price volatility for either of these two books since their publications has been, what their covariance is or what the standard deviation of a two book portfolio composed of Mosaic and Margin of Safety is - and yes a two book portfolio could only have existed since 2004 when Pabrai published Mosaic. Still whichever way you look at it you would need to run a very concentrated portfolio of value investing books to generate these returns.

But hey, both Pabrai and Klarman run concentrated portfolios so no-one could fault you for not trying to emulate their investing style.

Actually, I've read both these books, and while both are very good reads - and I think both of these guys are very good investors who I admire greatly - these two books are definitely NOT worth their price tag.

I guess that's easier said when you've read them as that's the only possible way you could really know whether they are worth their price.

Actually no. I can think of no book on investing that is worth $1,700. I might shell out a few hundred bucks for a Ken Kesey and Tom Wolfe-autographed copy of The Electric Kool Aid Acid Test, but $1,700?

What are people thinking? Well, I admit, at one point I did consider shelling out substantial sums for Margin Of Safety. Luckily I got my hands on a loaned copy and read it.

Yeah, it's a good read and has an interesting slant; I liked the focus on being aware of risk, also the section on valuing a spin-off was useful. But it's nothing that I couldn't have got from doing a lot of Google searches and reading other decent books not out of print, like Greenblatt's How To Be A Stock Market Genius.

(Brilliant book btw, but talk about a value trap; price appreciation on it has been terrible since its publication in 1997, you would have lost money on it as you can get a second hand copy for $6.55 on Amazon and its regular retail price is $14.00, although not sure what the 1997 original price was. Still if they take it out of print maybe it will rise, I'm still holding onto my copy till then.)

Why would I have bought MOS then? Well given Klarman's record and all the newspaper articles, and hype surrounding the book it seemed pretty tempting in a perverse way. Hey and when I was looking at it the thing was only $700 bucks a year and a half back so I could have bagged a decent return too (are book sales capital gains tax free btw?).

So who is paying so much for this stuff? Well I guess, mainly speculators (sorry rare book collectors) and people convinced that the stuff in both books is worth the price tag on them and a route to becoming a great investor, which it ain't.

Let's face it, if you really are a value investor there is no way in hell you should be paying that much for these books, however great the authors are and however sound the content is. Don't be swayed, cast around and you'll find the same information elsewhere and most likely for free.

These book prices are in a bizarre way a good lesson in value investing, there is a difference between price and value. However good the company is, at some point it becomes overpriced; don't be tempted into overpaying for something because of the hype and rarity factor (unless you're a rare book collector, or something).

Oh and by the way, past performance is no indication of current or future performance/results. Your two book portfolio may tank tomorrow unless you know what fair value for them is.

(Also my comparative return statistics may be slightly off the mark as I was only able to get the year that the two books were published in, not the exact month and day, so I assumed both were published on January 1 and then compared to it to the S&P's return over the same period.)

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