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The Ben Graham Centre for Value Investing had a great video conference with Seth Klarman of the Baupost Group on March 17th, 2009. These are my notes. Mr. Klarman has produced a net annual return of over 20% since 1983 with only one down year and no use of leverage. Source – H/T to Todd

-Graduated from Harvard Business school in 1982 during a time of high interest rates (12% U.S. treasuries going to 14%) and with a stock market at Dow 700 which had done nothing in 18 years
-Worked for Mutual Shares for couple of years when it was a $40 million no-load mutual fund
-Value investing is a risk-averse approach – first focus is on risk before you focus on return
-Ben Graham, Buffett, and himself started with a small amount of capital rummaging around for mis-priced situations. He likes to find the reason for the mis-pricing and a catalyst to cause you to make money
-He is not in favor of investing by a few simple math formulas like P/B, P/E, P/CF, and dividend yield. Value investing by itself only adds 1-2% a year vs. the market. Why trust a blind formula when you can do better with your own analysis?
-He can tell if something is superficially cheap from 1) inventories being obsolete 2) receivables being uncollectible 3) bad assets on the books 4) off balance sheet liabilities like litigation and environmental problems
-He suggest following value principles, but improve upon them through in-depth fundamental analysis and detailed research
-3 underlying pillars: 1) Focus on risk before return using multiple scenarios. How much can you lose? What are the probabilities of each scenario? 2) World is oriented to relative performance as everyone is an asset gatherer. He is focused on “absolute returns” 3) importance of being bottoms-up, not top-down (macro)
-When he formed Baupost in 1982, he wanted 1) flexibility from his clients for a broader mandate. He wanted more weapons at his disposal to investing in real estate, equities, debt, or stay in cash 2) He put his own money alongside his clients 3) He identified his “edge” that is legal and legitimate and reasons why he thinks he will out-perform. a) biggest edge is long-term orientation. Since he only has clients that are wealthy families and institutions. No fund-of-funds, pensions funds, sovereign wealth funds, and public mutual fund money. How can you invest for a 3-5 years long-term hold when you might get a redemption in 6 months? b) relationships with best brokers. He wants to be the best or 2nd best client, especially in real-estate where he gets first shot at mis-priced assets and can move fast
-He doesn’t think they are the word’s best business analysts. He does think they are very good at complicated situations, “the messier the better.”
-His favorite areas are 1) distressed debt. Senior debt has it’s own catalyst going into a bankruptcy. There is a huge constituency of forced sellers as many of owners can’t own debt in a bankrupt company. You wanted to buy when people don’t know what they are doing. 2) spin-offs 3) index changes.
-For equities, he likes off-the-beaten path type ideas that have some kind of event catalyst. He wants egregious mis-pricings, low risk/high return situations, and is very careful with his analysis
-They never hold for the last nickle. They sell near fair value. If a stock is worth $20 and they bought it at $10, they are out by $18-18.50. Always sell too soon and always buy too soon. Never use margin, don’t use leverage, and have minimal short exposure. Position sizing is 3-5% and at times 8-10%. Always act with integrity
-To hedge they use out of the money put options for disaster insurance. He doesn’t think shorting adds any value most of the time. It makes you focus on short-term analysis, whether they will beat or miss a quarter. This impacts your thinking into a short-term orientation, which is not good for a long-term investor
-They entered 2008 with 35% cash (did he mean 2009?). They are in the high-teens/low 20s now
-Financials got to be 40% of SP500′s earnings. In early 2007, he realized things could be really bad as the housing market started to turn down
-When doing analysis, they look for a range of value using book value, PV of CF, P/E, P/CF, sum of parts, and private market value. If it’s below this range, it’s of interest. If it’s in the middle of this range, it’s not interesting. Try to look at things differently than consensus. When the world thinks of a stock as a business, he thinks of it as pile of assets.
-He owns a couple Oil/gas LPs that are trading at 20% and 30% yields and 1/2 or 1/3 of their reserve value.
-He owns PDL Biopharma, which he thinks as a 30% IRR due to its royalty stream
-He like News Corp. Fox News is incredibly valuable. He thinks break-up value is $10-20 today and $20-30 in a normal environment. Debt maturities are 10 years out. They bought it too soon, but they have been adding
-He admires Buffett and Munger. On long-only side, he like Bob Rodriguez at FPA Crescent, Southeaster Management, and Tweedy Brown. On hedge-fund side, he likes Paul Singer, David Abrams, Perry Capital, Jeff Hallis at Tindall (sp?), Mike Lowenstein at Kensico, Steve Mandel at Lone Pine, and Brookside Capital