Why Are Value Investors Willing To Share Ideas?

Published on January 13, 2011 at 10:30 am

There is a healthy sense of skepticism among investors when faced with websites, blogs, newsletters, conferences and other sources of information that claim to offer investment ideas.  After all, good investment ideas are valuable and rare.  Why would anyone willingly share actionable ideas with others when doing so in a competitive environment could eliminate the opportunity? After all, even for successful paid sources of information, the profits to be made selling ideas may pale in comparison to the profit of keeping an idea to yourself and committing capital to the opportunity.

Whitney Tilson, writing in his annual letter (pdf) to partners of his hedge fund, explained his motivation for sometimes going public with his analysis.  Last month, Mr. Tilson published an article on Seeking Alpha regarding his short position in Netflix which prompted a response from Netflix CEO Reed Hastings.  Mr. Tilson’s comments regarding why he chose to communicate in this situation appear to have broader applicability:

It’s not for marketing or ego reasons, nor is it an attempt to move stock prices so we can exit at a better price – we are value investors, not traders, and harbor no illusions about our ability to move markets. Rather, it helps us make money, in four primary ways:

1) It helps clarify our thinking to put our investment thesis in writing, especially on complex and controversial positions. For example, on June 11th we published an 11-page analysis (www.tilsonfunds.com/BP.pdf) of why we were buying BP’s stock amidst the panic at that time (it was then at $33.97 and closed the year at $44.17).

2) When it is widely known that we have a position in a particular stock, we often hear from other investors who share valuable information or analyses.

3) Invariably, some people have the polar opposite view of a particular stock and, in sharing it with us, they can help us identify things we might have missed in our analysis. If information or analyses exist that would cause us to change our view, we want to hear about it!

4) When we share our ideas, it creates reciprocity and others share their best ideas with us.

Apparently these positive aspects of sharing information outweigh the potentially negative impact of sharing the analysis.  For example, when Mr. Tilson published his analysis of BP in June, he took the risk that the response may have pushed up BP’s share price which could have prevented him from building up his position as the shares continued to drop in the subsequent weeks.  After all, Mr. Tilson’s track record has easily exceeded market benchmarks over the past  decade and investors pay attention to his views.

Value Investors Exploit “Time Frame Arbitrage”

In a traditional arbitrage situation, an investor exploits temporary differences between the price of similar or identical securities in situations where some type of catalyst will soon occur to correct the pricing anomaly.  While there are all sorts of different arbitrage opportunities ranging for commodities to merger risk arbitrage, typically such opportunities are exploited rapidly.

Value investors, while also sometimes participating in traditional arbitrage opportunities, have the additional advantage of practicing “time frame arbitrage”.  Most professional investors have extremely short time horizons because they are measured against benchmarks on a quarterly or annual basis.  Individual investors, while lacking external pressure to hit short term benchmarks, usually impose such limits on themselves encouraged by prevailing Wall Street sentiment.

This type of thinking allows value investors to participate in opportunities that could take several quarters or multiple years to play out.  As an example, consider an investment that could be made today that has an excellent chance of appreciating by fifty percent over the course of two years but could very well underperform the market in 2011.  This opportunity may not be very attractive to a manager who cares about beating a benchmark in 2011.  Indeed, such a manager could very well prefer an investment that appreciates by ten percent a year for the next two years if that would clear market benchmarks even though the ultimate result would not be as lucrative.

Seeking Contrary Opinions

No matter how thorough the research process, it is always possible that even very experienced analysts will miss one or more key facts that invalidate an investment thesis.  Many investors collaborate with a close circle of colleagues and independent thought may be encouraged.  However, exposing an investment thesis for a wide audience to dissect can attract contrary points of view that may be missed by like minded people who work together closely.

Charlie Munger often speaks about “destroying your best-loved ideas”.  The point is not to lack self confidence in your analysis but to be open to contrary evidence that may have been missed and could lead to a different conclusion.  Sharing ideas widely is a great way to attract this type of contrary opinion.  Of course, ill founded criticism or attacks are often found on message boards and investment websites and an investor must be able to separate valid criticism from the “noise”.

Reciprocity

Perhaps the most compelling reason to share ideas is the reciprocity that often occurs as a result.   As Mr. Tilson points out, some investors have shared their best ideas with him as a result.  Reciprocity is a basic human tendency which has been described in detail by psychologists and discussed at length by Robert Cialdini in Influence:  The Psychology of Persuasion. While the reciprocity tendency can be used in unethical and questionable ways, the basic human tendency is helpful for those who are interested in a fair exchange of ideas with other investors.

Value Investing Congress — West

The Value Investing Congress is a good opportunity to gain insight into the decision making process and investment ideas of a number of prominent value investors.  At past events, some presentations had a major impact such as David Einhorn’s bearish thesis for St. Joe at the October 2010 Value Investing Congress in New York.  Readers of The Rational Walk qualify for a $1,700 discount for the Value Investing Congress to be held in Pasadena, California on May 3 and 4.  The discount expires on January 20, 2011. Disclosure:  The Rational Walk receives a referral fee for registrations generated by this promotion.

Click on this link to read more about the Value Investing Congress


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Posted on Jan 13 2011. Filed under Featured Articles, Investing. You can follow any responses to this entry through the RSS 2.0. Both comments and pings are currently closed.

10 Comments for “Why Are Value Investors Willing To Share Ideas?”

  1. Kevin McFadden

    Nice post.

    I agree with Tilson, all the things he said are valid.

    One thing I found that relates to this is – at its core – it’s the “Scientific Method” –

    The scientific method — the method wherein inquiry regards itself as fallible and purposely tests itself and criticizes, corrects, and improves itself.

    with a little Socratic Method thrown in.

  2. A key aspect is that value investors virtually always share information AFTER they have established a position, not before. This begs the question about moving the price. It might not be a short-term goal like a trader, but it’s still a component.

  3. That is an excellent point and the motivation of value investors who share ideas *after* taking a position should be scrutinized particularly if the stock in question is illiquid.

    One point that I neglected to bring up in the article is that Warren Buffett would almost certainly *disagree* with the overall premise. I remember reading in one of the biographies (I think it was Lowenstein) that Buffett (presumably jokingly) said he was afraid to talk about stocks while in bed because his wife might overhear the conversation. Buffett never spoke about stocks except to very close associates like Munger, Walter Schloss, and a few others.

    On the other hand, the one exception that springs to mind is Buffett’s article on GEICO that appeared in the early 50s (“The Security I Like Best”). He held shares at the time and presumably would have purchased more. I guess that article was the equivalent of a blog post in the early 50s, although it went out only to a small number of people reading the industry journal it was published in …

  4. Great article. David Einhorn mentions in his book that he a lot of time exchanged ideas with other great investors and he loved hearing and debating both the bull and bear cases. I believe in a recent interview he mentioned that he discussed an idea with Dan Loeb, and Loeb was so convincing that Einhorn decided not to buy the stock

  5. Well, someone strongly disagrees with this article:

    http://ultimibarbarorum.com/2011/01/16/so-do-you-want-to-hear-about-my-brilliant-idea-then/

    I think this guy has a pretty cynical way of looking at the world but am open to the possibility that I’m just incredibly naive. But I doubt it – I think most (but obviously not all) value investors generally are not trying to pump and dump. How long would they be taken seriously if they make a habit of doing so?

  6. Hi Ravi, actually I don’t really disagree with your article. Neither do I think you are naive! I readily accept the accusation of cynicism, however, I find being cynical about what people say about stocks is very healthy indeed.

    Reciprocity and thesis-checking are great reasons for sharing ideas, especially between individual investors. But when it comes to professional hedge fund players, while the same reasons pertain in the same way as they do for smaller guys, no manager that I know would talk up a stock before he is loaded up in it. It’s just good business practice.

    Also, please note this is different from pumping and dumping — which is just wrong. There’s no reason an investor can’t tell people about a stock he owns, hoping they see how great an idea it is and buy it too, and still plan to own it for the long term. Indeed, if a hedgie gets caught telling his colleagues about a stock he owns and how great it is and he gets caught selling it the next day, he very quickly becomes persona non grata. As you imply would be the case. . .

    • Thanks for your comments – I definitely agree with the need to be cynical regarding most investment ideas promoted by hedge fund managers. It’s tricky business to go public like this, and I don’t think Buffett himself would have ever done so in the 1950s or 1960s, even when he was unknown and few would automatically copy his moves.

  7. Is there is any way I can get a email message whenever you post new article on your website.

  8. Pete

    Interesting post, if a little convoluted to my reading. I reckon Buffett puts it much more simply, though at first glance we’re all on the same page

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