September 18, 2017 • Investing
Book Review: Big Money Thinks Small: Biases, Blind Spots, and Smarter Investing, by Joel Tillinghast
We recently read Big Money Thinks Small: Biases, Blind Spots, and Smarter Investing, a new book written by Joel Tillinghast, long-time lead manager of the Fidelity Low Priced Stock mutual fund (the Fund). Over the past five, 10 and 15 years the Fund generated annualized returns of 13.2%, 7.3% and 10.2%, respectively, compared with 13.7%, 6.9% and 9.2% for the Fund’s Russell 2000 (smaller U.S. stocks) benchmark. Given that the Fund invests significantly in international stocks (currently 38% of the portfolio), we believe the relative performance is very impressive, as international markets have lagged the U.S. substantially over the last 10 and 15 years.
Tillinghast is true value investor, much in the mold of Warren Buffett. The Fund has an unusual mandate, calling for 80% of investments to be made in stocks priced under $35 per share (although stocks may appreciate well beyond this level and continue to be held). The purpose of the $35 per share price limit is to have the Fund invest in smaller companies (Morningstar estimates that 62% of the Fund is in small and mid cap stocks), although higher priced stocks also can be bought at appropriate valuations. Over very long periods, smaller stocks have outperformed larger stocks and value stocks have done better than growth – thus the small, value focus of the Fund.
Tillinghast sets forth five broad investment principles that have guided him:
- Make decisions rationally
- Don’t get caught up in the “fear of missing out”.
- Look at the long-term history of a company – track records are important and enlightening.
- Avoid behavioral biases; including focusing only on the recent past, anchoring, perceived patterns based on only a few events, confirmation bias, overconfidence.
- Invest in what you know; don’t assume you know more than you really do.
- Stay within your circle of competence.
- Work with honest and trustworthy managers.
- Avoid businesses prone to obsolescence, high competition and that are commoditized. Seek businesses with sound financial structures that have staying power.
- Value stocks properly – compare the stock price with a rational determination of intrinsic value.
- Intrinsic value is a multiple of operating cash flow less sustaining capital expenditures.
As he looks for investments, Tillinghast focuses on whether the business has a “distinctive capability”. He states that, “… companies are not well run if they are not constantly striving to be ever more valuable to customers. Unless customers would miss a company if it went away, eventually it will. Companies need products distinctive enough to justify high profit margins, plus a barrier to entry (or “moat”) to protect those high profits.” In addition to focusing on the company’s value to customers, Tillinghast also evaluates management’s capital allocation decisions, as this is a measurable way to determine if the managers are running the business well and in the best interests of shareholders.
Finally, Tillinghast emphasizes that value investing requires a certain temperament (including patience) and intellectual honesty that many investors have a tough time attaining. For these types of investors, if they’re doing it on their own, Tillinghast believes passive indexed investments may be a better route to go. But for those interested in and suited for active value investing, we believe Tillinghast’s book does a great job presenting a viable and successful framework.