While I was growing up, I was something of a music snob. I refused to like music that I had decided was “mainstream.” That is, if it was something everyone else liked, I convinced myself not to like it – even if I actually liked the lyrics or sound of a particular band/artist. You know the kind of person I’m talking about. Think John Cusack in High Fidelity: ”Books, movies, music…these things matter,” or “It’s what you like, not what you are like.” On some level, I must have been insecure about something or other, because as you get older you kind of just like whatever you like. You don’t apologize for it. You don’t try to tailor your taste to the undiscovered. Something original that the masses haven’t discovered yet isn’t necessarily better (but it was easier to like back then for some reason). Luckily, this level of foolish pride hasn’t crossed over into my investing beliefs.
This post is about generating investment ideas. There seems to be a myth that you have to be the first person on the scene to succeed investing. That’s just not true. I’ve said on this site before that investing in large cap stocks is typically a tough game. It’s much tougher to find pricing inefficiencies in those big, well known stocks, because you have 250 analysts looking at those stocks as a full time job. Even if you were doing this full time, and were very good, you’d have a lot of competition. When inefficiencies do exist in the big stocks, the big institutional investors make sure they don’t last long, as long as enough liquidity exists in the market (an exception that probably exists right now). I think this makes what Warren Buffett has done in large caps even more amazing. I’m not, of course, saying that you can’t make money in large cap stocks, because I know you can. Lots of people do. What I am saying, is that the most blatant market inefficiencies a value investor can find tend to be in smaller companies.
Smaller companies usually don’t have 250 analysts following them. They grab fewer headlines. They usually aren’t household names. Small cap investing is a totally different ball game. It’s not the Peter Lynch “invest in what you know” philosophy that so many people know and love. For many value investors (see this post for a brief explanation of value investing), however, it’s the best way to earn superior returns. The problem you’re likely to encounter with a small cap strategy is coming up with investing ideas. That’s the inspiration for this post. If you’re interested in do-it-yourself small cap investing, I think you should consider stealing ideas from investors whose strategies you admire and understand.
Pirating ideas from other investors poses several peg leg-like challenges. If you’re a value investor, you’ll want to have a fair value estimate with regard to the stock you’re investing in. Having your own fair value estimate gives you a sell point, and selling tends to be one of the hardest gambits in investing. You also don’t know what price the investor you’re emulating got into the stock at. You don’t know when they’ll sell (although you can find out after the fact from their SEC filings). You don’t know the original reason they invested, or whether the premise underlying the investment still holds true. Keep those risks in mind if you decide to try these strategies.
There are multiple ways to get information regarding what your favorite investment pros are investing in. Before we get into those, I would encourage you to learn a thing or two about the people you might be emulating. What is their investing philosophy? What have their historical returns been like? Does their appetite for risk match yours? For instance, if you’re risk averse, and every true value investor likely is, you might like an investor like Seth Klarman, who typically beats the market overall even though he often keeps almost half of his portfolio in cash. I recommend Klarman, Michael Price, Marty Whitman, Joel Greenblatt and of course Warren Buffet as good starting places for any value investor who wants to steal good ideas. Price and Klarman, in particular, tend to focus on small caps.
Anyway, after much ado, here’s how you find the goods:
- Call a fund managed by a manager you’re interested in and request a prospectus (this probably won’t work with a hedge fund). Find a site for the fund online, click on investor relations, and simply call the number and request a prospectus.
- Keep an eye on portfolio updates on sites like Seeking Alpha and Tech Ticker.
- Guru focus is actually a site devoted to this very idea. Check them out as well. They have blurbs on lots of famous investors, as well as keeping up with the latest news and portfolio changes with regard to the investors they follow. Tickerspy.com is another similar resource.
- SEC filings – EDGAR…this is what most investors use as one of their primary sources of information.
- Clubs. Make sure the members have some credibility. If you’ve got the chops, apply to the very selective Value Investors Club.
- Newspapers and magazines can be a great source of ideas as well. Check out the Value Line Investment Survey or, of course, The Wall Street Journal.
If you have other ideas, please email me or share them in the comments. I’d like to make one final comment about this approach. Get your ideas anywhere you can, but do your own research. Pick and choose. Trust yourself, don’t invest in anything that doesn’t make sense to you. If you don’t know your way around a financial statement, check out The Interpretation of Financial Statements by the father of value investing, Benjamin Graham. Or, if you have time, take a financial accounting class at night. If you know how they’re prepared, they’re easier to wade through. Send your best ideas to me and I’ll dance at your wedding. Thanks for reading.
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An interesting thing that came out of reading Warren Buffet’s biography The Snowball was how much he hated people riding on his ideas. He’d call it coat-tailing.
Interesting, as his mentor Ben Graham encouraged it.
I agree you can get excellent ideas from watching legendary investors.
The world’s politicians seem to have been copying Buffet’s Goldman preference share deal, for instance.
It’s important to do your research on the companies and emulate those who are successful…not only in their investment choices, but in their investment ideologies.