AmateurInvestor 15.4% 10 yr return beats S&P (5.2%), Berkshire Hathaway (8.69%) for Oct 2015.

My portfolio beat the market this year as well as for the past 10 years. I also beat the 10 (8.69%), 5(10.92%), 1(-8.77%) and YTD (-10.49%) returns of Berkshire Hathaway (Brk.a).  Just saying.

This year’s outperformance is partly due to a realization that the focused portfolio is focused for a reason.  In late 2013 and early 2014 I added some stocks which seemed to fit the criteria to be an Eternal Company, but I could not explain fully why they did.  I did this because owning no more than 4 stocks (V, SBUX, MSFT, PM) felt a little unsettling.  I felt that stringently requiring that they manifestly exhibit the required criteria seemed unrealistic, given that so few companies with these qualities exist.  And so I acquired some more companies, described below, and later sold them. Performance will have been improved by pruning  these companies.

The good results were also related to investments in new additions to the portfolio  which have become permanent investments and have contributed to growth.

In 2015 my portfolio ended with 5 stocks, V, SBUX, MSFT, ADBE, CNI.

This chapter resulted in a few lessons learned.  In the search for Eternal Companies, possibly it is difficult to be adequately motivated to research the company unless you have an ownership stake.  I am reminded that the ValueAct Capital hedge fund acquires a small stake in prospective investments after having done preliminary research, and then continues to perform intensive investigation sufficient to enable a profound understand of how the company makes money and the issues facing growth, before making a definitive investment.  ValueAct is a focused fund.  I suppose I will need to find a way to be more conscientious about researching new opportunities.

The reality that there are very few qualified Eternal Companies does not mean that  investments made in companies that fail to qualify as such will still be as good.  Rather, the dearth of Eternal Companies means an investment strategy focused on these will indeed result in a relatively focused fund.  There is no way around this.  Having proved this more fully to myself, I now feel more content remaining with my exclusive selection of companies.

Another lesson is that I am still capable of making errors.  Fortunately, I am scrutinizing my own execution fully enough to correct errors before they cause serious damage.  Conversely, I am still capable of learning.

Here may lie the most important lesson. Namely, that I can improve the way I invest.  What tools might be best to address the issue at hand, that of picking a company which does not demonstrably meet the required criteria?  One tool might be to write out the reasons justifying investment, as well as any weaknesses with the company, prior to buying.  The narrative would cover a checklist of criteria critical for a good investment. Judgement regarding the criteria is gained by reading, as well as experience. The final analysis should be subject to a critical reading, in which the key assessment can be characterized as asking the question, “does this investment jump out at me as an obvious great investment?” There should be no doubt.

What are the most important qualities of an Eternal Company?  First, the existence of a durable competitive advantage.  This means other companies are not able to compete with the company in its markets.  Second, management consistently  anticipates or reacts to changes in the market or competitive landscape by finding ways of extending the company’s competitive advantage into new markets in a profitable way.

Note that this is entirely different from simply using its financial strength in a attempt to establish a foothold in markets which are entirely new to the company.

Below is a comparison of my returns with those of some renowned value investing mutual funds.

Fund/index Expense ratio (%) 10y (%) 5y (%) 1y (%) Ytd (%)
S&P 500 5.12 11.75 1.06 1.46
Amateur Investor   15.4 22.4 22.0 21.14(as of 11-25-15, est.)
Oakmark Select Fund (OAKLX) 0.95 7.68 14.67 -2.08 -1.08
Sequoia Fund (SEQUX) 1.0 7.28 12.14 -7.71 -8.68

Data is taken from Morningstar.

Following is a brief outline of the qualitative changes to the portfolio in the last couple of years. The companies I bought and subsequently sold at minimal loss – to  – modest profit were as follows:   Fomento Economico Mexicano (FMX, the Mexican Coca Cola bottler and owner of the Mexican convenience store chain Oxxo); Ebay (EBAY, operator of the online auction platform, online conventional merchant marketplace and PayPal, the latter subsequently spun off); Cerner (CERN, the largest dedicated electronic medical records provider); Intuit (INTU, with a dominant market share in desktop personal finance software with Quicken, small business accounting software Quickbooks, as well as growing businesses in consumer electronic tax returns with TurboTax.

I discovered two companies which have become permanent investments.  One is a true Eternal Company, Canadian National Railroad (CNI, one of the seven remaining class I railroads in North America, has the lowest operating ratio of any rail on this planet, and other features that enable it to grow by focusing on growing their customer’s and their own business as opposed to competing on price).

The second addition to my portfolio is Adobe (ADBE software dominates the market for creative professionals, Adobe is now increasing profitability as well as market by shifting from permanent to subscription licensing in the cloud, and in a related market has created software to manage digital media campaigns which is growing in dominance.

Finally, I sold, with some sadness, an Eternal Company for which growth in earnings has recently become stunted partly by a slowing of its market growth, and in addition by the effect of the strong dollar, since its earnings are all outside  the US: Philip Morris International (PM, which has the strongest portfolio of cigarette brands outside the US and is innovating in reduced risk cigarettes).  It cannot match the growth of my other stocks.

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