My post yesterday contrasting Seth Klarman with many of his more well-known hedge fund peers has generated a ton of feedback, which is cool. The one thing I did not do in the post was explain why Klarman was so influential and inspirational for me. So I’ll do so here…
I am not a value investor myself although I respect the discipline and we incorporate lots of what value investing emphasizes into our metrics. And so while other value investors may find themselves enamored with Klarman’s ability as a stockpicker or an analyst, I find myself way more impressed with the manner in which he runs his practice.
For example, short-term Greatest Trade Ever-type activity is a foreign concept to Baupost. There is no leverage, there is frequently a lot of strategic excess liquidity and there are no qualms about “underperforming” in the short-term in order to outperform in the long. Everyone says they’re all about this but I still manage to lose a client or two at virtually every short-term market top, as do many disciplined, sober money managers – there’s always some fast-talking asshole or glinting object beckoning investors out into the wild, after all. Good riddance.
But Klarman’s got his practice and its clientele figured out. From The Economist piece I linked to yesterday:
Mr Klarman is patient and confident enough to do nothing. He currently has around 30%—and has been known to have as much as 50%—of his portfolio in cash…
Given Baupost’s allure, it could easily make a killing on fees. But Mr Klarman eschews the generous “2 and 20” compensation structure typical of most hedge funds…Instead, old investors pay “1 and 20”, and newer ones (he has let them in twice, in the early 2000s and 2008) no more than “1.5% and 20”.
That is not the only way Mr Klarman has positioned Baupost in contrast to other funds. He thinks one of investors’ greatest mistakes is chasing short-term performance and obsessively comparing returns with those of competitors and with benchmarks. In the year to April, Baupost was up by around 2%, trailing the S&P 500 (which was up by 11.9%) and the average hedge fund (4.4%). He is probably the only hedge-fund manager ever to tell investors that he does not want to be their best-performing fund in a given year, as he did in a recent letter. He has deliberately maintained a sticky investor base composed almost entirely of endowments, foundations and families, which understand his investment philosophy and will not redeem after a few negative quarters.
This man is a professional in every sense of the word. He knows what he is capable of delivering and what he’s not interested in attempting. One of the most difficult concepts that money managers and their clients grapple with each day and week and month is the Action Bias. Sometimes there is no move to make and no reason to even look for one. But managers are afraid to stand still in a portfolio for fear that their clients will chalk that inactivity up to laziness, apathy or fear. This tension exists at almost every asset management shop in the country, believe me.
But not at Baupost. There are no hot money accounts to keep satisfied and Klarman does not build expectations to unreasonable levels.
This is an asset management philosophy and style I aspire to every day.
I explained the Action Bias to Felix Salmon last summer in a video for Reuters.