The spirit of a holding company (part 2)

Investors can learn much from Buffet and notable South African investors.

I want to start off by thanking Mr “jblack” for his comments on part 1 of this 2 -part essay. If I have been unclear, and reading Mr Black’s commentary I have been, then I want to clear up any misunderstanding in what follows.

I argued in part 1 that Warren Buffet can justifiably be described as an investment master of the first order for three principal reasons. Firstly, the rate of investment return he has generated over many decades has been phenomenal. Secondly, he has done so by making multiple decisions. Lastly, and this is where I must have been unclear, he purposefully situated his investment activities within a vehicle that is different from the regular unit trust managers’.

His capital allocation mastery included the realisation that a vehicle that allows the short-term redemption of capital (a unit trust for example) is a vehicle that will put significant irrelevant pressure on his allocation decisions. Therefore he established a structure that gave him access to permanent capital, Berkshire Hathaway. Berkshire allowed Buffet to practice capital allocation without the possibility of negative market sentiment robbing him of precious investable capital exactly when he would most likely have wanted to deploy it in earnest.

In summary, not only is Buffet a genius at allocating capital, he was very smart when he created a structure within which he has arguably been more effective in practicing his genius than would otherwise have been the case.

That was the argument of part 1 of this essay. Part 2 will argue that investors can learn much from Buffet, and notable South African investors, even if they do not have the opportunity to set up an investment vehicle with access to permanent capital.

Companies such as PSG, Brait, Remgro, and HCI shouldn’t be unfamiliar to South African investors. These investment companies have made a significant number of people fabulously wealthy. (On a side note, it seems the wealth of these companies have been very good to luxury SUV’s dealers in Stellenbosch, one could be forgiven for thinking that we have no tarred roads down here)

Essentially, these companies are structural copies of Berkshire in that they have access to permanent capital that they have profitably used to buy companies or parts of them in the past and at present. Is it a coincidence that some of the richest people in our country situate their own capital allocation practices within permanent capital structures? I think not.

Although we may never have the opportunity to set up investment vehicles like Buffet, Christo Wiese, Johann Rupert, and Jannie Mouton, I will argue that we are still able to do in spirit what they have institutionalised in structure. Permanent capital structures create a framework that allows long term investment decision making to be very natural and unconstrained. As previously mentioned, no investment manager with a long term investment philosophy in a permanent capital structure has to worry about short term market movements leading to capital redemptions under his or her watch.

A permanent capital structure allows capital allocators the freedom to focus on the essentials of what makes a good investment. And what matters fundamentally are not short-term market gyrations caused by who knows what, but the economic quality and purchase price of the investment under consideration. An added benefit of having a long run focus is that you don’t have to be very active in the short term. You are able to wait for the right opportunity at the right price. Conversely, one of the most pernicious challenges facing many unit trust managers is the pressure to do something in the short run, even when they really shouldn’t.

Learn from the permanent capital boys. Do not do something when there is nothing to do. Relax, read, and then read some more. Have the attitude (spirit) of someone that invests within a holding company structure. If you see your investments as “holdings” the result may be that you actually hold them for longer. This could lead to less trading costs and taxes incurred in your portfolio. Not a shabby result for purposefully easing off the inclination to trade. My own business (Futurewealth) is a holding company in spirit. It may not be one in structure (yet), but I invest like it is. And the results have been very pleasing.

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