Not many investors have been likened to Warren Buffett in their investment career. Besides numerous other aspects, you would need to have an incredible track record for one, and most of the Investment Masters, despite having enviable track records themselves, have found it difficult to match Buffett and his long history of success.
UK based Neil Woodford has been likened to Buffett in the past, and for a while enjoyed both the financial success and the celebrity that came with it. Right up to the point where he didn’t. The recent demise of The Woodford Fund has been well-publicised and well-analysed, with a lot of reasons for its downfall.
‘The glittering career of Neil Russell Woodford, touted as the UK’s answer to legendary American investor Warren Buffett, lies in tatters. The UK financial regulator has turned on him, long-standing investors have collectively pulled billions of pounds from his funds, and a reputation built over four decades of front-line investment management has been ripped to shreds.” Barrons, June 2019
One factor that likely contributed to the downfall was Mr Woodford’s decision to publicly disclose all his positions. Now it has to be said that taken by itself, his disclosure would not have led to the downfall of the fund, but after the dust settled, it seems disclosure added to its woes.
“Woodford will publish only the top 10 holdings of his three funds while redemptions from the LF Woodford Equity Income Fund are halted, the firm said in a statement on Monday. The move is an abrupt shift from a longstanding commitment to provide transparency about investments; the fund previously disclosed all holdings at the end of each month.” Bloomberg, June 2019
Many managers release their letters publicly. While a letter’s purpose is to inform a fund’s investors, it can also be used to help clarify the manager’s own thinking. In many cases the letters are a marketing tool to help attract new funds. At times, managers use letters to explain how and why the fund’s performance differs from others. Some manager’s hope the information conveyed in their letters will encourage others into the investment, a catalyst to close the gap between an under-priced stock and its fair value.
Despite the many who do disclose, some choose not to publish letters, or if they do, they’re very hard to find. Others choose to disclose little about the positions that make up the fund.
Why is this so?
Front Run - Squeeze
Without doubt, The Woodford Fund’s woes were exacerbated by the market’s knowledge of the positions. For those unfamiliar with what transpired, the ‘star’ UK fund manager stopped redemptions after facing a multitude of problems; a cocktail of illiquid assets, poor performance, riskier assets and questionable management actions. This resulted in a mass exodus by investors. Market knowledge of the stock positions attracted predatory shorts which moved ahead of, or front-ran, the unwind of the fund. The UK’s FT noted:
“Mr Woodford’s ambition for full transparency on his holdings may have been enlightened, but recent weeks have shown the risks of such openness. Short sellers have been able to exploit his difficulties, driving down the prices of investments they know he will be under pressure to sell.”
It’s one reason managers can be reluctant to disclose positions.
“Our Fund is concentrated in relatively few large positions and greater disclosure than that required could make it more difficult to deal when we are building or divesting from positions in the Fund, and enable other market participants to “front run” our dealing activity to the detriment of the prices we can achieve.” Terry Smith
And size positions appropriately.
“Being too large in an activity enables the rest of the market to pick you off or ‘gun’ for you. We once did an option trade that was so compelling that we built much too large a position. We found that as market participants sensed the size of our positions, they ‘ganged up’ on us. The options that we bought at cheap prices just got cheaper and cheaper, people anticipated our ‘rolls’ from one option to another, and every trading action we took seemed to increase our losses. As soon as we unwound the position to stem the losses, prices rebounded to near normal levels. It was quite an expensive lesson for people who were used to trading quietly in the market, rather than being the focal point for attack.” Paul Singer
I suspect Bill Ackman knows that feeling all too well. In 2012, with much fanfare, he announced a $1 billion short position in Herbalife. Ackman opened the attack publicly with a three hour, 342-slide presentation at the New York Sohn Conference. Like a red rag to a bull, hedge funds, including Dan Loeb’s Thirdpoint, piled in on the long side, squeezing Ackman. Soon after, billionaire activist Carl Icahn whaled into a 25% stake, predicting at the time Ackman’s investment could produce the “mother of all short squeezes.” In 2017, when Ackman finally capitulated and closed the position, he’d dusted $500m.
Ackman survived the ordeal. But one of the most infamous funds that faced a ‘run on its positions’ and didn’t survive was Long-Term Capital Management. It almost took the US financial system down with it. Once highly secretive, as liquidity problems emerged, the fund was forced to seek capital, requiring a higher level of disclosure. Roger Lowenstein’s brilliant book, ‘When Genius Failed’, noted:
“As it scavenged for capital, Long-Term had been forced to reveal bits and pieces and even the general outline of its portfolio. Ironically, the secrecy-obsessed hedge fund had become an open book. Markets, as Vinny Mattone might say, conspire against the weak. And thanks to Meriwether’s letter, all Wall Street knew about Long-Term’s troubles. Rival firms began to sell in advance of what they feared would be an avalanche of liquidating by Long-Term. ‘When you bare your secrets, you’re left naked’.”
“Knowledge of Long-Term’s portfolio was, by now commonplace. Salomon was, and had been, pounding the fund’s positions for months. Deutsche Bank was bailing out of swap trades, and American International Group, which hadn’t shown any interest in equity volatility before, was suddenly bidding for it. Why this sudden interest, if not to exploit Long-Term’s distress? Morgan and UBS were buying volatility, too. Some of this activity was clearly predatory. The game, as old as Wall Street itself, was simple: if Long-Term could be made to feel enough pain - could be squeezed - the fund would cry and buy back its shorts. Then anyone who owned those positions would make a bundle.”
It’s little wonder many manager’s are careful about publicly disclosing positions, especially shorts.
“As you are aware, we are guarded in disclosing our shorts to anyone.” Andreas Halvorsen
"The danger is you get squeezed on that short. Bob Wilson, a very famous short seller, famously said that nobody ever gets rich publicising their shorts. You want to get rich quietly. I don't go on CNBC trying to talk a stock up." Leon Cooperman
Commitment Bias
Ackman’s nemeses in Herbalife weren’t confined to the hedge funds that squeezed him. The enemy was also within. The fact he was on the record in a big way [342 pages!] and had committed tens of millions in research and publicity costs meant he was all-in. While Ackman recognised the ‘commitment bias’ in Wall Street analysts he may have missed his own short comings.
“When one shares an investment thesis publicly, it can be more difficult to change one’s mind because the human mind has a tendency to ignore data that are inconsistent with a firmly held view, and particularly so, when that view is aired publicly. That is likely why Wall Street analysts continued to rate MBIA a buy until it nearly went bankrupt. And, I believe it is why analysts will likely keep their buy ratings until Herbalife is shut down by regulators or the company faces substantial distributor defections.” Bill Ackman
Many of the Investment Masters understand the risks of sharing positions, ideas and thoughts on the record. Talking up a big position can make it harder to change one’s view when contradictory evidence emerges.
“The more public you become with your positions the harder it is for your ego to let go of a position. You can’t let your ego slow you down when the facts change. Don’t talk openly about your positions until you are strong enough to change your mind in front of the crowd.” Ian Cassell
“When you pound out an idea as a good idea, you’re pounding it in.” Charlie Munger
“I avoid letting my trading opinions be influenced by comments I may have made on the record about a market.” Paul Tudor Jones
Competition
Great ideas are few and far between. Disclosing positions can lead to unwanted competition, meaning higher prices or potentially better performance by a competing fund. Funds management is a competitive industry and most funds are seeking to attract capital, not give their competitors a leg-up.
Despite Buffett’s openness with regards to his investment philosophy, business and industry insights, you won’t find him talking about the specific stocks he’s buying and selling.
“We cannot talk about our current investment operations. Such an “open mouth” policy could never improve our results and in some situations could seriously hurt us. For this reason, should anyone, including partners, ask us whether we are interested in any security, we must plead the ‘5th Amendment’.” Warren Buffett, Partnership Letter 1964
"Despite our policy of candor, we will discuss our activities in marketable securities only to the extent legally required. Good investment ideas are rare, valuable and subject to competitive appropriation just as good product or business acquisition ideas are. Therefore, we normally will not talk about our investment ideas. This ban extends even to securities we have sold (because we may purchase them again) and to stocks we are incorrectly rumored to be buying. If we deny those reports but say “no comment” on other occasions, the no-comments become confirmation." Warren Buffett 1983
"Our never-comment-even-if-untrue policy in regard to investments may disappoint "piggy-backers" but will benefit owners: Your Berkshire shares would be worth less if we discussed what we are doing." Warren Buffett 1998
Buffett’s not alone in this regard.
“The less definition offered, the less positions revealed, the less statistics applied – all the better for the portfolio that aims for these supra-normal returns. Hence, the fund’s individual positions may not be revealed except at the discretion of the manager.” Michael Burry
“We will publicly discuss our transactions in marketable securities only when we believe such disclosure will be to your advantage. Good ideas are scarce, and the output of our research efforts is your exclusive property.” Frank Martin
“I follow Buffett’s perspective. He has said that specific investment ideas are rare and valuable and they’re like intellectual property and subject to being lifted. Therefore he only discloses them to the extent required by law. That’s pretty much what we follow.” Mohnish Pabrai
“One reason we don’t disclose our holdings is that we don’t want competition. If the stock goes lower, which is quite possible, we’ll want to buy more.” Walter Schloss
“While I was at Graham-Newman, a man called up and said he’d like to speak to Mr. Graham. Because he was out of town that day, I asked if there was anything I could do in his stead. He said, “I just wanted to thank him. Every 6 months Graham-Newman publishes their portfolio holdings. And I’ve made so much money on the stocks that he had in his portfolio, I just wanted to come by and thank him. That was one of the reasons I decided never to publish our holdings. We work hard to find our stocks. We don’t want to just give them away. It’s not fair to our partners.” Walter Schloss
“I don’t want to disclose things pertaining to what positions we’re going into and why.” Ray Dalio
"I really don't like to give out ideas." Bruce Berkowitz
“We do not disclose information that would create a competitive disadvantage for the funds unless we are legally required to do so.” Bill Ackman
“We try not to talk very much about the companies in our portfolio and we certainly never talk about ones that are coming in and going out.” Chuck Akre
“If I figure out something really clever, I’m not going to go out and tell anyone, I’m not even going to tell my clients. I’m just going to do it in privacy and tell them later, “Hey, we made a bunch of money.” Maybe I’ll tell them what it was if the opportunity falls over.” David Abrams
“Given our larger AUM and the ease of disseminating our letters across the internet, we think it’s risky to detail our thesis about our scarce ideas. I’ll do my best to provide commentary without tipping our hand or revealing future intentions” Allan Mecham
“I think, as any businessman, you’d rather keep proprietary what you’d like to keep proprietary and only tell you what you have to or choose to. It’s one of the odd paradoxes why the money management industry has not fought back on the SEC’s disclosure rules for long investors who are not in an activist campaign or not in a corporate control campaign because there were all kinds of people that follow investors in their portfolios. And for investors who don’t turn their portfolios over a lot, they’re, in effect, giving away their intellectual property for free.” Jim Chanos
“We have discussed the dysfunctional of disclosing specific investment ideas. The problems are mainly psychological and include the locking in of an idea, the desire to seem consistent, the wish to seem prudent in other people’s eyes and so forth. There is then the effect of copy-cat investing, brokers trading against us and, as Walter Schloss found out, dealing with nervous-Nellies and so on.” Nicholas Sleep
‘Book Talking’
The process of talking up your investments is often referred to as ‘book talking’. Some managers see it as a way to attract interest in a name once it’s purchased, a catalyst to closing the gap between the stock’s trading price and ‘fair value’.
Unsurprisingly Buffett takes an unconventional view on this particular activity. While he doesn’t talk individual stocks, theoretically, he’d be more inclined to talk them down than up.
"We get asked questions about investments we own, and people think we want to talk them up. We have no interest in encouraging other people to buy the investments we own. We or the company are likely to be buying stock in the future. Why would we want the stock to go up if we’re going to be a buyer next year, and the year after, and the year after that?
But the whole mentality of Wall Street is that if you buy something — even if you’re going to buy more of it later on, or if the company is going to buy its own stock in — the people seem to think that they’re better off if it goes up the next day, or the next week, or the next month, and that’s why they talk about “talking your book.”
If we talked our book, from our standpoint, we would say pessimistic things about all four of the biggest holdings we have, because all four of them are repurchasing their shares, and, obviously, the cheaper they repurchase their shares, the better off we are. But people don’t seem to get that point.” Warren Buffett
Conclusion
Without the benefit of the many investor letters I’ve read over the years, I’d be less than half the investor I am today. Notwithstanding this benefit, there are risks that can arise from disclosing too much information. When you combine the market knowledge of a portfolio of illiquid or very large positions with redemption requests, things can quickly turn from manageable to disastrous. Just as telegraphing short positions can be asking for trouble.
It’s important to not let the public disclosure of positions blind you to evidence that you may be wrong. The courage to admit a mistake in the face of public disclosure is quite often difficult if not downright impossible for many investors.
Ultimately, like most things when investing, it really comes down to common sense. Remain open-minded and consider worse case scenarios.
Don’t let your disclosures get the better of you or your fund.
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