Saturday, July 1, 2017

Moats & Knights, Part Deux

In December, I wrote about the rare and powerful "moat and knight" combination - a company with a defensible competitive advantage led by top-notch capital allocators. 

Since coming across that concept a few years ago, I've wrestled with the relative importance of the two factors. What's more important: moat or knight?

In a recent post, my former office mate at Motley Fool UK, Maynard Paton (who you should follow), paralleled my current thoughts on the subject quite well:

Years ago I used to believe that traditional business ‘moats’ — such as brands, patents, regulations, economies of scale, network effects, and so on — were the most critical feature of any investment . 
But these days, such ‘barriers to entry’ appear increasingly at risk of being challenged by intrepid startups that can use the Internet to gain customers much more quickly than ever before. This investment paper cites a good example of Gillette and Dollar Shave Club. 
Over time then, I have become far more convinced about the importance of management to an investment. 
Put simply, I’d like to think a business is more likely to enjoy long-term success — and fend off intrepid startups — with a loyal and committed executive at the helm. 
(Indeed, a company’s positive and adaptive working culture — instigated by a loyal and committed boss — can in itself be a difficult-to-replicate ‘moat’.) 
On the other hand, I am no longer so sure about professional ‘salarymen’ executives, who may be quite happy to run things in a customary way and risk becoming complacent when it comes to fresh competition.
Spot on.

There was likely a time when the advice to "go for a business any idiot can run" made sense. Find a wide moat business and be patient. All management had to do was look the part and not screw things up too badly.

That time has passed.

Today's raiders have new siege weapons and it's critical to have a knight - or ideally, a number of knights - implementing nimble defenses.

Run away! Run away!
This isn't to diminish the importance of economic moats - a knight defending a grass hut doesn't do anyone much good - but it is worthwhile to spend more time considering who is manning the ramparts.

Here are five questions you can ask about management before making your next investment.

  1. Has management been forthcoming about competitive challenges or do they downplay the threat of new entrants?
  2. Does management have the right financial incentives in place or has the board set up low hurdles to make sure large bonuses are realized, regardless of performance?
  3. Does management know what the company's advantages are and have plans in place to extend and strengthen those advantages?
  4. Does management have meaningful personal ownership in the business (and thus have skin in the game) or are they akin to mercenaries? 
  5. Does management have a track record of sacrificing short-term results for long-term results or do they seem to play the quarterly earnings game?
Stay patient, stay focused.

Best,

Todd

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The opinions expressed here are the author's and not those of his employer. For a full disclaimer, please click here


Friday, May 19, 2017

Making the Leap from a Liberal Arts Major to a Finance Career

I recently heard a presentation by Paul Smith, the president of the CFA Institute. One of the data points he shared was that, among CFA Charterholders over the age of 50, about half had liberal arts undergraduate degrees. For those under 50, liberal arts degrees were just a small minority.*

As one of those liberal arts Charterholders, I found this statistic troubling - but not at all surprising.  

There are many reasons for this shift - more majors today, more specialization, etc. - but there's a massive opportunity for liberal arts majors to make an impact in the investing field today. 

Namely, the quantitative side of the business is becoming increasingly industrialized and overwhelmed by computing power. What's still missing are the "softer" skills (e.g. critical thinking, reasoning, writing, etc.) that are cultivated in liberal arts courses. 

Just as important - investing is a liberal arts major's dream job. In fact, there's a thoughtful book written on the topic: Robert Hagstrom's, Investing: The Last Liberal Art. As you develop as an investor, you'll increasingly call on a vast array of knowledge sources - drawing from the sciences, history, philosophy, etc. - in an attempt to weave them together into original ideas.

For these reasons, I'm an advocate for more liberal arts majors in the investing field. When I speak with college students who are undecided on a major or liberal arts majors wanting to make the leap into finance, here's the advice I give.

Minor in business (or audit an accounting course)

If it's not too late, major in a liberal art (something that you're passionate about) and minor in business. The reason I recommend a liberal arts major is two-fold.

First, the vast majority of what you need to know about finance you'll learn on the job. Minoring in business will show companies that you're not completely clueless.

Second, once you graduate, you're unlikely to find a company that will pay you to study ancient philosophy. They will probably, however, help you pay for an MBA or a valuable industry certification. Capitalize on the precious time you have to study liberal arts as an undergrad. 

If you're a senior or just out of school, at least audit an accounting course. Accounting is the one subject companies will struggle to teach you on the job, but it's absolutely critical to know if you want to work in the field.

Start looking into the CFA or CFP programs

Employers should look favorably on the fact that you've started down the path toward a professional certification. It shows that you're committed to the industry and are less likely to jump ship your second week on the job. 

Take a bottom rung job and make an impression

One of my early mentors explained that your undergraduate achievements are like a Christmas present to the company - wrapped up nicely, with a big bow, and full of promise. What really matters is what happens once the present is opened on day one. 

If you don't have a shiny finance resume, your present might appear wrapped in old newspaper to the employer. But that's okay. The key is getting in the door, even if it means starting at the bottom. Once you're in, you can show off your qualitative skills.

For example, with the benefit of hindsight, the best thing I did at my first job (working as a registered rep at one of Vanguard's call centers) was to write a research paper on currency risk. I hadn't the slightest idea what currency risk was before I started, but I knew it was a major topic being asked by investors. It made an impression and led to more opportunities for advancement. 

Focus your first job search on larger financial institutions

It's much easier for a liberal arts major to get an entry level job at a large financial firm. Small firms don't have the resources to let you learn the job on the fly - they'd prefer to hire someone who can hit the ground running. Large firms typically have dedicated training staff and are comfortable with developing talent for the long term.

Bottom line

Making the leap from a liberal arts major to a finance career isn't easy, but then again, nothing worthwhile in life is. The key is to not get discouraged by the fact that you have a liberal arts degree. The businesses that you'd want to work for in the first place should embrace cognitive diversity and value your background.

Stay patient, stay focused.

Best,

Todd

*The CFA Institute is working to get me the actual data. I'll share it if/when I receive it.

Some of you have asked why I haven't updated the blog in a while. I've been helping launch my employer's blog, writing a monthly column here, as well as doing some writing for Monevator and Investors Chronicle. Thank you for your interest - and my apologies for not communicating this better.

The opinions expressed here are the author's and not those of his employer. For a full disclaimer, please click here