Friday, August 22, 2014

Great capital allocators who ultimately weren't

I believe that the market environment is the main determinant of which investors achieve outsized returns. For example, Market Wizards profiles trend followers who achieved great success during the 1970s. The '70s were the perfect time for trend following-- the CRB doubled in less than 12 months on two separate occasions and experienced no major corrections, not even during 1973-74 recession. The "Market Wizards" would have been far less successful in any other period.

The same is true of leveraged buyouts: the people who started private equity firms in the 1980s got rich because of rising valuations and falling interest rates. If interest rates had stayed high and valuations hadn't risen so much, their returns would been low and the PE industry would have remained small. That's not to say that trend followers and PE players aren't skilled, but their skills are much more valuable in some environments than in others.

There are a few investors like Buffett, Soros, and Druckenmiller who have been successful in a variety of different market environments, but they are exceptional.

Investors should keep this in mind when they read books like The Outsiders that lionize successful capital allocators. The Outsiders suffers from hindsight bias. It profiles people who have been successful in a period of steadily rising asset prices and doesn't consider how their fortunes will change if the environment changes. It also excludes people who pursued similar strategies during the same period but failed for various reasons.

Below is a short list of people who were once considered great capital allocators but aren't any longer. In a way, they are the real outsiders.

• Eddie Lampert
When Kmart and Sears merged, many investors believed that Lampert's capital-allocation skills would enable Sears to earn high returns despite its weak competitive position. Sears hasn't earned high returns, and Lampert's leadership seems to have exacerbated its problems.

• Ian Cummings and Joseph Steinberg
Leucadia made many bad investments in the years leading up to the Global Financal Crisis and has yet to recover. The stock is barely higher than it was a decade ago.

• Steven Feinberg
Feinberg threw away a lengthy track record by piling into housing and automotive investments during the Crisis's early stages.

• Bill Miller
Like Feinberg, Miller threw away a lengthy track record by buying the dip.

• Timothy Collins
Collins once had a lot of success doing leveraged buyouts in Japan, but his investment company's stock is down 80% since 2005 amid repeated investment losses.

• Chad Wasilenkoff
I wrote about Wasilenkoff in my review of The Outsiders. He's followed the Outsiders playbook to a T, and it's been a disaster.

• Hank Greenberg
After years of success, AIG floundered at the end of Greenberg's tenure. Later, Greenberg's investment company was the largest shareholder of a blatant reverse-merger fraud.

• Gray Pruitt
Pruitt was the CEO of McClatchy, the newspaper publisher. For most of his tenure, McClatchy significantly outperformed other newspaper companies. Then it acquired Knight Ridder right before the industry collapsed. McClatchy's stock went from $70 to $.50 in a couple of years.

1 comment:

  1. Great list. I agree there is substantial hindsight biase. But it is interesting to see the outsiders CEO all had similar MO: leverage, stock buybacks, acquisitions, decentralization, etc.

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