This is an excerpt from an interview I did with Steven Kiel of Arquitos Capital for ValueWalk back in September. Arquitos is modeled on the partnerships managed by Warren Buffett from 1956-1969.
The fund uses a bottom-up, company-specific approach, identifying situations where significant mispricing exists. And this approach has, so far, yielded some highly impressive results. Arquitos Capital’s annualized return since launching on April 10, 2012 to the end of June was 33.2%. To the end of June, Arquitos Capital was up 2.5% for 2015.
Rupert Hargreaves: How do you go about looking for prospective investments, what’s your investing process, what makes you say, “Yes, we want to invest” or “No, we don’t?”
Steven Kiel: I focus on original sources. I have various alerts set up for SEC filings, both types, and for specific companies. I have alerts set up for various situations that I like to follow. I don’t use screens, but I spend the first few hours of every day going through my RSS feed and trying to figure out what to follow-up on. In terms of the yes or no process, there is a je ne sais quoi element to it. Investing is art, not science. I’m not sure I can explain why one company or situation resonates and another doesn’t. I take into consideration the traditional value factors like a circle of competence, a margin of safety, competitive advantages, etc. and, occasionally, feel that I can make a commitment.
Buffett has referenced the Ted Williams’ strike zone picture from “The Science of Hitting.” The idea behind that image has helped me to stay very selective, and I keep a copy of the picture at my desk. Williams mapped out his batting average when swinging at pitches within the strike zone. He batted .400 on the pitches right down the middle, but only .230 on the pitches in the low outside corner of the strike zone. The point when investing is only to buy the stock of a company when the decision is obvious when it’s a fat pitch down the middle.
The final decision to buy a company comes down to your gut. You’ve done all of the analytical work to get to the buy decision, but if you feel any level of uncertainty, then you shouldn’t buy it. There are two parts to that. The first is that even if you can’t precisely identify what is causing you doubt, you have to acknowledge it. For example, it may be a subconscious signal that you are overconfident in your analysis, or that you are not being intellectually honest about your circle of competence, or that you haven’t fully considered a risk. The second part is that the short term performance of a stock is unpredictable. If you don’t have a sufficient level of commitment, then you’ve introduced a risk that shouldn’t exist. There is a danger that you’ll be selling the stock because of the price decline when in many cases you should be buying it.
This also is why envy can be so dangerous for investors. If that stock that you took a pass on goes up in value, you can’t let that negatively affect you. Be happy for the shareholders who did well by owning the stock that you passed on. You have to be okay with your decision at the time you made it. If you can’t control that emotion, then you’re going to have a lot of trouble as an investor. The feeling of regret or envy is going to negatively affect your decision-making in the future, causing you to lower your standards.