“This just in: you can’t take the same actions as everyone else and expect to outperform…The real question is whether you dare to do the things that are necessary in order to be great. Are you willing to be different, and are you willing to be wrong? In order to have a chance at great results, you have to be open to being both.”
– Howard Marks
Even in the tit for tat political environment which the Ukrainian situation has become, one could still find humor in the tongue in cheek offer made last month by a Russian politician for Russia to purchase Alaska back from the US for the purchase price plus inflation since the original sale of the over 375 million acres in 1859. The original purchase price of $7.2 mil was roughly two cents an acre and yet at the time the world viewed Russia as fleecing the US through the ineptitude of then Secretary of State William Seward. In that same year the US government ran a 29% surplus on its $491 Million in revenues so the money to purchase Alaska was close to pocket change, and yet, the purchase of Alaska, which became the 49th state in the Union, became commonly known as “Seward’s Folly”.
While Mr. Seward spent many a lonely political year and had to deal with continuous derision in the press, his investment became one of the best investments of all time. Not only did the land mass become of great geopolitical value as a buffer between Communist Russia and the USA after World War II, the purchase taken only as investment dollars has provided (and continues to return) untold income for the US government and its citizens. The Alaska Permanent Fund dividend, which is paid out yearly to residents of Alaska, is expected to distribute between $1300 – $1400 per resident this year alone. The total payment will be somewhere around $832 Million, or 115 times what was paid for the purchase of the territory. Remember, this is only the amount paid out to Alaska residents for a SINGLE year and doesn’t include any of the tax revenue collected by the state or federal government for that same year. In short, Seward’s Folly was a fabulous use of funds.
Howard Marks, founder of Oak Tree Capital Partners, often states the overlooked obvious in his client letters that the only way to outperform the market is to do something different than the rest of the market. Most market participants say they want to outperform the market but at the same time are unwilling to fail to a greater degree than the market so they follow the market, therefore making any outperformance impossible. He uses an oversimplified matrix to illustrate what he is saying:
|Conventional Behavior||Unconventional Behavior|
|Favorable outcomes||Average good results||Above-average results|
|Unfavorable outcomes||Average bad results||Below-average results|
As we witnessed with the tech bubble, the real estate bubble, and now again with the stock market, a very large percentage of investors are momentum investors. That is to say they “invest” into what is currently most popular in the belief that popularity will drive the price higher and they will be able to exit their position before a future price correction. This is very different than value investing in that the focus is on investing with everyone else as opposed to finding something not appropriately priced by the “everyone else” where the expectation is over time the “everyone else” will come to appreciate that the asset is priced incorrectly and the price will adjust.
The difficulty lies in that making investments out of favor with your friends, associates, or common knowledge can be quite scary and will nearly always be lonely. When markets are booming and everyone is bragging about their 30% market gains on the year, who is going to want to hear about your 20% gains obtained with ½ as much risk? Or who is going to celebrate your success with you when the market is down 20% for the year but you are up 8%? Plus, we humans are wired for a couple things that work against us as investors.
The first allows our greed to focus our attention on the possibilities at the expense of paying attention to the warning signs. This is because we get caught up in the hope instead of the reality. As John Galbraith pointed out in his book A Short History of Financial Euphoria, “When the same or closely similar circumstances occur again, sometimes in only a few years, they are hailed by a new, often youthful, and always supremely self-confident generation as a brilliantly innovative discovery in the financial and larger economic world. There can be few fields of human endeavor in which history counts for so little as in the world of finance. Past experience, to the extent that it is part of memory at all, is dismissed as the primitive refuge of those who do not have the insight to appreciate the incredible wonders of the present.”
The second part of our human wiring working against us is the tendency to put more confidence in the observations and thoughts of a group than in our own observations and thoughts. In his book Influence, The Psychology of Persuasion, Robert Cialdini discusses a study done in the 1950s in which the those being studied were asked to make judgments about things they were being shown. What the study subjects didn’t know is that everyone else around them looking at the same items and also passing judgment on those items were plants placed by the scientists and told to give a certain responses regardless of what they actually saw. As a result the true study participant was surrounded by people giving answers that very obviously disagreed with what they had just witnessed. A high percentage of the subjects ignored what they had seen and went along with everyone else in the group, either doubting themselves or not having the confidence to be different. Pure and simple, this is peer pressure at its best.
Standing alone is difficult, and few can do it, which is why there aren’t many Warren Buffets or Howard Marks in the world. So what is a mortal investor to do? Do we acquiesce to the fact that we will never be about to achieve outstanding returns? Or do we do what is necessary to obtain the outstanding returns, and if the answer to this question is yes, then how are we to do it?
My answer, as the author of this article and as a partner in Altus as investment principals, will be different than yours. Because we do not charge any asset management fees the absolute amount of investment we have under management is largely irrelevant. We get paid on success, so it is far more important to us that we are making investments we believe will succeed on their own accord. More importantly, because our investors choose to work with us on a particular investment or investment strategy, we don’t have the pressure of groupthink pushing us in the general market direction. In effect we have created our own group of likeminded people on each investment who believe in the possibility of gain of that investment.
That doesn’t mean it is easy. Just this past week I was looking at a 160,000 sq ft industrial complex with a broker that has decent current cash flow, some issues to be remediated, and huge potential upside. Overall it looks like a fantastic opportunity and yet it just fell out of contract and prior to that contract had been on the market a substantial amount of time. I caught myself asking the broker why no one else had jumped on the opportunity. While a valid question, the real focus should have been, and now is, on what needs to be cleaned up for this opportunity to come to fruition. That previous investors didn’t see the potential in the situation is their loss and our gain.
And for readers of this article to be able to avoid the traps of mediocrity? Like anything else, I believe excellence in investing comes with practice, and not just any practice, but focused practice. Are we as investors willing to do the hard work of reviewing our past investments to see why they were or weren’t successful? Are we willing to be patient and let opportunities pass by when everyone is jumping on the bandwagon when we know those opportunities don’t fit our investment needs? Can we be cynical? Can we be contrarian? Can we be strong enough to stand alone in our beliefs in an investment? If investing is a game, then these are the things that are needed to win. William Seward was willing to do these things and we as the beneficiaries of his conviction didn’t just win, we won big.
Before closing this month’s article I should note that at the request of several of our investors Altus is expanding our fix and flip business into the Pacific Northwest and our apartment acquisition business into several emerging markets in the western part of the country. Our first project in Seattle is already up and going. We will have more information about our growth in the mid month update. If you have any interest in investing outside the state or in emerging markets please contact us so we can make sure we supply you with opportunities as they arise.
About the Author: Forrest Jinks is CEO of Altus Equity Group Inc and a licensed real estate broker. Forrest has decades of experience as principal in a variety of alternative investment segments including real estate (residential rehab, in-fill development, multi-family, office and retail), debt, and small business start-up (online marketing and site retail). He can be reached at firstname.lastname@example.org.