Novice investors regard cloning as “low life” activity and are averse to it
One surprising reality of life is that most novice investors are averse to the practice of cloning i.e. copying the stock picks of eminent wizards. While the novices listen intently and with deep interest into what stocks the wizards have bought, they are loath to buy some for their own portfolios.
One can see a stark representation of this in the talk that Mohnish Pabrai gave to the students in Prof Sanjay Bakshi’s elite value investing course.
A participant asked Mohnish (@44.27) about the techniques that he used to screen companies and pick them. When Mohnish, in all seriousness, explained that it is better to look at established stock pickers and their stock picks instead of venturing off unescorted into the Wild West, the Querist was deeply disappointed and made her feelings clear. This stung Mohnish and he retorted:
“You know, like I said, I am low life … Aap ne pedestal pe lagaya hai (you have put me on a pedestal). I am so sorry to destroy your pedestal and for suggesting that you stoop low”.
This interaction highlights the reluctance of novice investors to take the easy path. Instead, they were expecting Mohnish to give them “high funda gyan” about investing and when he did not do that, they were disappointed.
“Too late to buy … price is inflated … it is a trap to dump the stock”
One reason for the aversion of novice investors to clone the stock picks is the apprehension that the stock is overpriced and the juice has been drained away.
Some investors also nurture the fear that the hype and publicity concerning the stock pick may be an attempt to inflate the stock price so as to provide the wizard with a “safe exit”.
Eminent researchers prove that the apprehension is baseless
A group of eminent academicians have conducted a systematic and dispassionate analysis of what the outcome would have been if novice investors had cloned the stock picks of Warren Buffett over a period of several years.
The researchers have made the astonishing discovery that even if novice investors had copied Warren Buffett’s picks much after the news was made public and the stock price had flared up, they would still have made an immense fortune.
“A hypothetical portfolio that mimics the investments at the beginning of the following month after they are publicly disclosed also earns significantly positive abnormal returns of 10.75% over the S&P 500 Index,” the eminent researchers observed with awe in their tone.
E-Book on the science of cloning stock picks
Meb Faber, the founder of a hedge fund called ‘Cambria Investment Management’ and a well-known stock market expert, has written a detailed treatise on the subject titled “Invest with the House – Hacking the top hedge funds”.
In this, he has given an explanation of how and why cloning is a salutary practice for novice investors and also given pointers on how to systematically collect the data and analyze it.
In fact, Charlie Munger also endorsed cloning as an investment technique as is made clear by his immortal words:
“I believe in the discipline of mastering the best that other people have ever figured out. I don’t believe in just sitting there and trying to dream it up all yourself. Nobody’s that smart.”
Mohnish Pabrai & Fei Li develop top-secret algorithm to find the best stocks
Now, the big news is that Mohnish Pabrai and Fei Li (an expert on quantitative analysis) have put their heads together and developed an algorithm that scans the data filed by the fund managers in Form 13-F with the SEC and identifies the best stocks from them.
Mohnish and Li have explained the entire technique in detail in an article in Forbes.
The precise technique adopted by the duo is not intelligible (to me) because it involves coding in “R” programming language and the use of “mathematical constant Pi” and other complex aspects that are beyond (my) comprehension.
However, we can rest assured that the technique works because Pabrai and Li have done rigorous back testing to ensure that there are no bugs in the code and everything works as expected.
“Shameless cloning works!” the duo has exclaimed.
“The Shameless Portfolio blew the lights out! It beats the pants off the S&P 500 by 10.7% annualized! It also beats the Small Dogs of the Dow by 7% annualized!” they added.
Understandably, the code itself has not been made public given the enormous money making capability that it has.
Five stocks to buy applying the cloning algorithm
Mohnish Pabrai knows better than anyone else that novice investors need more than just theory to make ends meet.
So, he has handpicked five top-quality stocks by applying the top-secret algorithm and prepared what he calls the “Shameless Portfolio For 2017”.
The five stocks are:
1. Oracle (ORCL)
2. Berkshire Hathaway (BRK-B)
3. Apple (AAPL)
4. Microsoft (MSFT)
5. Charter Communications (CHTR)
It is notable that all five stocks are blue-chip large-cap stocks. They are the typical ‘fail-safe’ buy-n-hold stocks.
Mohnish has confirmed that the said five stocks are “the highest conviction ideas of 9 value managers”.
He has also assured that the said “Shameless Portfolio” is likely to “trounce the S&P 500 in the years ahead”.
This is indexing -on steroids! It's the Shameless Cloning Index :-). Likely to trounce the S&P 500 in the years ahead. https://t.co/bPM3q9VfI4
— Mohnish Pabrai (@MohnishPabrai) February 24, 2017
What about Indian stocks from the mid-cap and small-cap space?
At this stage, we have to note with regret that Mohnish Pabrai’s algorithm and stock recommendations are not of much use to us. This is for two reasons.
The first is that the stocks identified by the algorithm are of companies which are quoted only in the US markets. This is of no interest to us given that Indian stocks have far greater potential than their US counterparts.
The second is that all the stocks are large-cap blue-chip stocks. This is also of little interest to us given that we are hunting for small and mid-cap stocks which can effortlessly become mega multibaggers.
Clone Mohnish Pabrai’s Indian portfolio
The best way for us to resolve the impasse is to clone the Indian stocks picked by Mohnish Pabrai for his own portfolio.
According to my own top-secret algorithm, Mohnish presently holds the following two mid-cap companies in his funds:
|Fund||Stock||Nos of shares (Lakhs)||Value (Rs Cr)||CMP (Rs)||YoY Gain (%)|
|The Pabrai Investment Fund II||Rain Industries||127.58||108||85||188|
|Pabrai Investment Fund 3||Rain Industries||162.55||138||85||188|
|The Pabrai Investment Fund IV||Balaji Amines||6.07||20.34||335||158|
As one can see, both stocks have delivered enormous gains on a YoY basis.
I have earlier drawn attention to an initiating coverage report issued by IDBI Capital in which Rain Industries was recommended to be bought for a target price of Rs. 82.
51% gain in just two months
That target price has been effortlessly breached by Rain Industries and gains of nearly 51% are on the table in merely two months since the recommendation.
According to a report by Jwalit Vyas in ET, Rain Industries will benefit immensely because of an impending shortage in pet coke and coal tar, which has caused their prices to increase by 15-20%. He has explained that a number of other parameters such as lowering of debt, increase in EBITDA margins, reasonable valuations etc auger well for the Company’s prospects on the stock market.
This implies that Mohnish Pabrai can look forward to more gains from Rain Industries.
Rain Industries update-Play on US growth story. Competitior Koppers Holdings announced closure/sale of 7 out of its 11 CTP facilities.
— Rakesh Laroia (@r_laroia) February 6, 2017
Balaji Amines is no slouch either when it comes to showering mega bucks on investors.
The stock is a favourite of Porinju Veliyath and Shyam Sekhar. Both stalwarts have pocketed gains of nearly 300% from the stock.
The stock has a target price of Rs. 405 according to a research report by Nirmal Bang.
Mohnish Pabrai’s confident assertion that “Shameless cloning works!” is very reassuring to us given that we have already been following that practice and copying the stock picks of eminent wizards. Perhaps, if Mohnish can tweak his algorithm to pick Indian stocks and that too from the small and mid-cap space, we can also take our practice of cloning to a more systematic and sophisticated level!