What 4 fund managers learnt from their investment mistakes

by Sally Patten in the Australian Financial Review 13th March 2018

Every investor makes mistakes. The important part of making mistakes is to learn from them. We asked four professionals about their memorable mistakes and how they became better investors as a result.

Jun Bei Liu, Tribeca Investment Partners

Individual investors should take comfort from the admission that the professionals have to work continuously to keep their behavioural biases in check. Correcting them is not a one-off exercise. Indeed, it is more like a lifetime's work.

In the meantime, as Jun Bei Liu, deputy portfolio manager at Tribeca Investment Partners, says: "You make mistakes and move on."

Liu nominates ignoring the herd mentality as one of her toughest mental challenges as an experienced asset manager. Liu is in good company. The world's greatest investor, Warren Buffett, understood the problem well when he said, "be fearful when others are greedy, and be greedy when others are fearful".

Recently Liu was reminded of the importance of not getting swept up by the prevailing market sentiment when she sold a portion of the fund's holding in computer and games retailer JB Hi-Fi six months ago. At the time, the market was full of doom and gloom about the arrival of retailing platform behemoth Amazon in Australia and weak consumer confidence. Later, Tribeca surveyed the broker community and found that all fund managers were of the same view as Tribeca. However, retailers had not reported a downturn in trading. In early December Liu topped up her position in JB Hi-Fi.

"You have to take a step back. You need to take a 12-month or 24-month view. And you need to have an anchor point about what the stock is worth," Liu says. "You have to constantly work at your behavioural biases, especially when you feel the most fear. The lesson is not to follow the herd mentality."

Nick Griffin, Munro Partners

In 2013 Nick Griffin, head of investments at global equities manager Munro Partners, bought shares of social media platform Twitter. At the time it had 280 million users and Griffin assumed that would be sufficient to attract substantial digital advertising dollars.

It wasn't. Facebook was by far the dominant platform and was luring the bulk of advertisers. Griffin held the stock for less than 12 months and took a 20 per cent bath on the stake.

The lesson?

"What we learnt is that in the digital world, don't invest in the No.2 company because it's cheaper. It never works. Digital businesses end up with very few winners and lots of losers."

It's all about the network effect, or the phenomenon that greater usage of a product by any one user increases the product's value for other users. In a digital world, the network effect is amplified because it can be achieved on a global scale.

Looking at what happened to Twitter through the network lens gave Griffin an understanding of the power of companies such as Amazon, Facebook and Netflix, all dominant in their fields of online trading, social media and television.

"Our mantra is only to invest in the No.1 digital businesses," Griffin says. "Valuations in the early phase of growth are not that relevant versus the earnings power a dominant digital business can generate once it is established. You need to take a longer-term view."

The Twitter experience allowed Griffin to avoid investing in instant messaging company Snapchat. Snapchat listed in March last year, raising $US3.4 billion, but is trading only just above the listing price.

"Once you see the dominance of one company, you get some insight into what dominance in other sectors will mean in terms of earnings," Griffin says. His fund's top holdings include Amazon, Netflix, Alphabet (owner of Google) and Facebook.

Jamie Nicol, DNR Capital

A mistake that stands out in the mind of DNR Capital's chief investment officer, Jamie Nicol, is buying shares of ABC Learning. The company was once the world's largest provider of early childhood education services but collapsed in 2008. When he bought the shares in 2006, Nicol was attracted to the company because of its good market position, the level of government support and the rising workforce participation of women. He sold out in early 2008, having lost between 30 per cent and 40 per cent on the investment.

It was a good lesson in the need to look at all aspects of quality, including, crucially, governance. It also highlighted the need to be circumspect when company managers spruik their business under the guise of giving insights.

"With ABC governance was a big issue," Nicol says. "And we listened a little too closely to insights about improvements to the business.

"We did tighten up our processes on all aspects of quality. Some of the softer aspects [of quality] get overlooked."

DNR pays close attention to areas such as a company's succession planning, key performance indicators, the quality and experience of the board and the board's level of "skin in the game".

Nicol stresses the latter point. "Boards want us to believe in them. It is astonishing how little equity boards have in their companies."

David Macri, Australian Ethical

David Macri's worst investment mistake was getting caught up in the tech bubble of the late 1990s, which was subsequently followed by the tech wreck. Macri entered the investment industry in late 1998 and had started to buy and sell stocks privately. In his private name, he bought some highly speculative technology stocks, most, if not all of which have long been consigned to the bin. In retrospect, he says: "They had no business models. The valuations were insane. They'd be dead now."

Luckily at the time Macri didn't have much money to invest, so his losses were tempered. Still, it left quite a mark. "I could see people making a lot of money," Macri says. "When it happened, it was all I had. I felt sick. It was terrifying."

But it "absolutely" made him a better investor. The lesson was to be aware of the fundamentals of the business and to fully understand the risks. "Don't get swept away in the euphoria," Macri says. "Always be scrutinising and questioning companies and analysts' forecasts. You should be doing your own research."

Macri says it is critical to be clear about your investment thesis. "If things change, it is easier to sell if you have articulated that."

Macri says the experience of the early 2000s meant he was prepared for the global financial crisis and has stayed away from some of the more recent market darlings. He hasn't ventured near the lithium sector or the stocks that have risen sharply on the back of enormous demand from China.