The Aggressive Conservative Investor by Martin J. Whitman & Martin Shubik

The Aggressive Conservative Investor by Marty Whitman and Martin Shubik is a classic book in the value investing field. First published in 1979 the latest version is dated 2005. If you haven’t read it and you are a fan of the Intelligent Investor or Security Analysis you are going to like this one for sure. Whitman is in my opinion one of the most influential, successful and best adaptive investors to the classic asset focused value investing philosophy laid out by Benjamin Graham in the above mentioned books. If you don’t take my word for it here is a short video where Whitman tells you all about it:

The book is structured around four characteristics for outside investors and what makes an attractive equity investment. This is know as the financial-integrity approach:

  1. The company ought to have a strong financial position, something that is measured not so much by the presence of assets as by the absence of significant encumbrances.
  2. The company ought to be run by reasonably honest management and control groups.
  3. There ought to be available to the investor a reasonable amount of relevant information.
  4. The price at which the equity security can be bought ought to to be below the investor’s reasonable estimate of net asset value.

In addition to the four essential characteristics, the authors write about supplementary factors that can make an equity security attractive. These factors are structured under three subheadings—going-concern factors (e.g. increasing profitability or dividend), stock market factors (e.g. cooperative valuation and macroeconomic variables) and asset-conversion factors (e.g. refinancings, mergers and acquisitions, liquidations, changes in control and large-scale distributions to common stock holders).

Please comment if you have read the book and what you thought of it. Also, if you have found a worldly wisdom in the book that you think I should have included please comment on that as well. I’m very interested in what caught your eye while reading and why.

Five worldly wisdom’s from the book

It has been our observation that the most successful activists have had much the same approach to investing that the most sophisticated creditors have had toward lending. Essentially, these people approach a transaction with two attitudes, the first having to do with their order of priorities. In looking at a transaction, the single most important question seems to be, What have I got to lose? Only when it seems that risks can be controlled or minimized does the second question come up: How much can I make? The second attitude has to do with a basic feeling that risk—how much one can lose—is essentially measured internally, not externally. The possibilities of unsatisfactory results from an investment or loan are to be found internally in the performance of the underlying business and the resources in the business, not externally in the market prices at which a company’s securities might trade. Successful activists and creditors, while not unmindful of the “value messages” that are delivered by markets, tend not to be overly influenced by such messages. Their attitude is, As far as my objectives are concerned, I know much more about the situations in which I invest or in which I lend than the stock market does. (p.17-18)

The wherewithal to weather a temporary setback is particularly important for the investor who believes, as we do, that he can know more about an issue than the market does. It is an important condition for investors following the financial-integrity approach. It is suicidal to ignore the general market unless you have the resources and inclination to sit tight, or can actively influence the business. Any approach that minimizes market factors can give only a margin of safety in terms of investment risk. We do not know how an outside investor can guard against stock-price fluctuations unless he has the resources to ignore them. (p.75-76)

Astute financial people do not measure potentials simply by reference to the risk–reward ratio. It is not sufficient to calculate that, say, there is five times as much chance that the investment will appreciate from one to twenty points as there is that it will depreciate from one to twenty points. Such a calculation reflects only odds. The astute person examines consequences as well as odds. For example, consider the situation where the odds are five to one that an investment will appreciate, but that if it fails to do so, the investor will become insolvent. He might well conclude that the consequences of disappointment are so dire that the particular investment is unattractive, notwithstanding the favorable odds. (p.76-77)

The standard of investment behavior for passivists as well as activists should be, Don’t worry about the investments you did not make. Rather, concentrate your worries on the ones you made, but which you should not have made. The only people who logically ought to worry about investments they did not make are total-return traders who are attempting to maximize or beat the market. This book is not directed to them. (p.166)

Most people who trade common stocks (as opposed to those who hold common stocks) seem to be more interested in the near-term outlook than in anything else. They will not purchase a security if the near-term outlook seems bad or uncertain, regardless of the price at which it is selling. An investor who is able to take positions based on other factors increases his chances of finding outstanding long-term bargains, since there is a relative lack of competition in the market in which he is buying. Given that market values will be determined by future earnings, and given also that most investors rely primarily on the past earnings record of a company in predicting future earnings, a good past earnings record will probably be reflected in a high market price. However, although they may also be an indicator of good future earnings, large high-quality asset values will probably not be reflected in a high market price for the stock. Thus, by placing primary weight on present asset value rather than on past earnings, an investor should be able to realize higher appreciation potential and lower risk of loss in the long term. (p. 202-203)

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