Buy-price, but no sell-price?
Third & final part of essay series: On internal consistency across elements of an investing approach, including hold forever.
Hold forever philosophy makes many uncomfortable. If I have a well-considered buy-price, how can I not have a sell-price at all? Worse, I refuse to even entertain the idea. How can I be so inconsistent after preaching internal consistency? Any more hypocritical, I’d be writing for NYT.
I’ll discuss consistency across different aspects of my approach to investing, including but not limited to hold forever. Let me start with my outcome objective: adequate long-term returns. All words matter, along with what’s unsaid. If I take a Rupee from others, I am (philosophically, not precisely) aiming to grow it into fifteen Rupees after two decades rather than two Rupees after three years. Over shorter periods, I neither control nor promise any particular return. I deliberately frame it in terms of absolute return, as that’s how I think. Relative returns are a consequence, hopefully adequate too.
To reliably achieve this outcome objective, I have four process objectives:
1. Avoid ruin
2. Seek quality
3. Pay sensibly
4. Own forever
It’s understood that forever holds only if there’s no change to ruin or quality. This preamble is intended to frame consistency in a broader sense, across all five objectives. Not narrowly framed between (3) and (4), which is what initial buy-sell-price question did. After three verbose essays on the topic, you’ll also note than ‘own forever’ is about a lot more than just sell price. Now, here’s how I think about internal consistency, in a holistic but loosely structured manner.
Finicky in, finicky out
Rejecting over a thousand businesses to end up with a consideration set of under a hundred is extremely finicky. Owning a business entails a steep climb up many slopes: governance, people, focus, industry, company, competitive position, track record, balance sheet, return on capital, capital allocation, idiosyncratic risks, valuation. On rare occasions when I reach the summit, isn’t it reasonable to simply enjoy the view rather than be in a rush to get down? Descending before even catching my breath is absurd. I can’t forget that of N variables that perfectly lined up for me to become owner, N-1 are still aligned. Consistency is being as finicky on the way out as on the way in.
Valuation always comes last
This process doesn’t start by asking “What’s cheap”. It starts with “What’s safe and good”. I spend 99.9% of my time on risk and quality. Until I get past these, I don’t even think of price. When I do, it takes minutes to work out a reasonable price. I inadvertently depicted equivalence across process objectives, with my (1), (2), (3) nomenclature. Valuation comes last. It’s relatively less important. Errors on risk or quality do substantial non-linear damage over the long run, compared to valuation errors that tend to be linear. Consistency is keeping valuation last, both on entry and on exit.
Last doesn’t mean immaterial. As delivering adequate long-term returns is non-trivial (over 80% fail), I am unlikely to achieve it unless valuation is a tailwind over my investment horizon. Only way to ensure this is by not overpaying on entry. But, I don’t have to burn this candle at both ends.
Risk matters, but as a means to an end
This process is risk obsessed. Paranoid about recognizing and avoiding ruin. Quality is risk-mitigation against deterioration. Paying sensibly is risk-mitigation against my stupidity. Trouble with this obsession is that I can take it too far, losing sight of my zeroth objective of adequate long-term returns. Risk is means to an end, not an end in itself. My investors can’t spend risk. To deliver adequate long-term returns, I have to balance two risks: avoid bad but not miss out on good. With a selective process and a cautious bent of mind, latter may well be larger risk. My bigger regrets aren’t what I erroneously bought but what I missed out on due to undue caution. My biggest regret of all is a wonderful business that I prematurely sold. Consistency is balance across both risks and across process and outcome objectives.
Yin and Yang of safety-margins
Based on the above, how should I think about margin of safety? Differently for buy and sell decisions. To begin with, I own nothing. I should have good reason to own something. This is conventional margin-of-safety, to limit downside, adopted by my fearful half. But I can’t always be this way. I won’t even buy with conviction, let alone give time after investing. At some point, I have dust off my greedy half so that I don’t miss out on good. I have to switch from “What if I’m wrong” to “What if I’m right”. A selective process, soundly implemented, is way more right than wrong. Once I own an outstanding business, I need good reason to give it up. This is unconventional margin-of-safety, to realize upside. Maybe, we call it negative margin-of-safety or margin-of-greed. How greedy I get depends on how selective I was. This isn’t very Graham-esque. However, this is the switch Buffett-Munger made decades back in combining wonderful businesses with permanent ownership. Since I don’t know anyone else who turned $10 million into $500 billion, I am inclined to go with them. Consistency is this duality between fearful and greedy.
Reluctance to sell on valuation is a natural culmination of a process where bar is high, business comes before price and missing opportunity is the bigger risk to meeting our ultimate objective. Getting back to our opening question, prudent buy-price and greedy sell-price are consistent. It’s a question of how greedy. No precise answer. More selective on way in, more greedy on way out. But, since infinitely greedy is an absurdity, there is an eventual sell price. Question is, how do we think about it? Answer that’s most consistent with above objectives is “Don’t, for the most part”.
For reasons linked to psychology, best odds of doing the right thing arise from having the right default setting. Before investing, my default setting is ‘Reject’. ‘Own’ becomes an exception, after jumping through many hoops. After investing, default setting of ‘sell at a price’ becomes equivalent of asking “Are we there yet?” throughout a journey. It’s not merely tedious, but biases us towards prematurely selling outstanding businesses. After investing, my default setting is ‘Own’. Assuming risk and quality hold up, selling becomes the exception. If valuation is nonsensical enough to make me sleep badly at night, I’ll evaluate changing setting.
There’s internal consistency across both default settings. If I know that I’ll own for good, I better reject most and be super selective about what I own at all. Also, both settings are in the direction of doing nothing. Default is inactivity. There better be a compelling case for activity. Empirically, inactivity is remarkably consistent with good sleep and good returns.
A personal note on this essay series
I write in first person singular as I’m solely accountable for what I write. However, I have clarified that anything useful in my essays is from my ongoing apprenticeship at Nalanda Capital. This is especially true of permanent ownership, which is the most valuable idea I have assimilated over my investing career. And there’s zero chance I’d have ‘got’ it on my own.
I was disastrous when I started investing. Unlearning nonsense that was in my head and internalising four aforementioned process tenets happened solely because of who I work with. I still don’t have most answers, but I ask better questions. Of the four, internalising ‘own forever’ took longest. Switching from working out sell price to blanking out sell price took me nearly a decade. This essay-series is a synopsis of my journey. If you found a phrase or a framing to be particularly resonant, it’s unlikely to be mine. Let me close with an argument that I have plagiarised: “Richest people in the world are those who own one outstanding business and never sold a share. If we’re lucky enough to own a basketful, why squander it?”.
PS. I’ve combined all parts of ‘Hold forever’ essay series into a single pdf at