Recap of ‘Time for an All-Terrain Investment Portfolio’

Since the time was right for it, Vitaliy Katsenelson just resend his article Time for an All-Terrain Investment Portfolio to me today. Since I guess, this article will for always stay on my Best-Of-List, I decided to write a small recap.

I strongly recommend to read his article (not only my review) in addition!

Why do the recap then?

Well, I like to use writing to structure thoughts and I believe it will be easier for me to structure my investment process, as well as to improve it and to stay (more) true to my plans.

Looking in the rearview mirror today?

Since the first paragraph is just perfect, I just copy it as a perfect metaphor for todays situation and the risk to use a all to easy short-cut for portfolio construction that could turn out to be disastrous in the future

As investors today we feel something like a traveler preparing to drive across an unknown continent. A look in the rearview mirror tells us we should pick a race car, and if the road continues to be as it has been, then our trip may be fast and uneventful. But what if the road that lies ahead is rocky, full of holes and maybe even strewn with giant boulders?

Make it to the finish line, if need be as 2nd or 3rd

Second paragraph constructs a general picture of how to construct a personal portfolio (today)

A sports car will not get past the first potholes. What we need is a four-wheel-drive, all-terrain vehicle. This monster will not have the speed or the sex appeal of the shiny red convertible, but it will complete the journey. Its position at the finish line will depend entirely on one unknown — the road ahead. If it is a smooth, unbroken route, then our Land Cruiser will be left in the dust by the Ferraris and Maseratis. It will complete the journey; it just won’t be the first to cross the finish line. But if my prediction is correct, you’re going to be mighty glad to be in the ATV — you might even end up at the head of the pack.

He describes his firm’s three-dimensional analytical view of stocks, his explanation are to the point and very reasonable, but in my quick words:

Quality means the company has a comparative advantage & profitability, sound balance sheet, good management. Buffet framed it as being comfortable to own a company if the stock market is closed for 10 years. Great question = framework! Vitaly is focusing a lot on quality these days (I am not there, yet…)

Valuation means you should be able to buy into the company with a significant discount to its fair falue (buying the dollar for fifty cents), over time there is a very logical effect pulling the Price (per Share) towards the fair value (per share). That is the believe and underlying concept of value investing. The mentioned discount is also called margin of safety or MoS. MoS should be higher for lower-quality companies.

Growth refers to Earnings, being a function of revenue minus costs, and Dividends, being payed out of Earnings/Cash Flows. Earnings and Cash Flows should converge in the long run so here kind of same. Growth is increasing the above mentioned Fair Price over time, so the mentioned dollar is transitioning to two dollars over time, and the mentioned pull effect is getting even stronger. That’s why Growth is so important. If a company is growing, time is on your side!

Best, s4v