Three Ex-Third Avenue Employees Launch Moerus Capital Management – Introduction LetterVW Staff
Moerus Capital is a firm that was recently founded by Amit Wadhwaney (former PM) and two other former Third Avenue Management employees ( Michael Campagna, CFA and John Mauro). The hedge fund managers are long-term value oriented investors with a very unique investment philosophy. Below you can read their first letter to investors.
See the full letter from Moerus Capital below
In 2015, we founded Moerus Capital Management, LLC. Having worked together for nearly a decade identifying, researching, analyzing, and investing in opportunities worldwide, the three of us formed Moerus with the overarching goal of doing one thing, and doing it very well: applying what we believe is a unique style of value-oriented investing that we have developed and utilized throughout our careers across a global universe of securities. Moerus is, and always will be, an investment research-centric organization that is dedicated above all else to seeking to generate attractive long-term returns for our investors, while maintaining a keen focus on mitigating downside risk. In the following pages, we would like to provide a brief introduction to our investment approach and how we look at the universe of potential investment opportunities.
The Moerus Capital Approach
Through a fundamental, bottom-up value-oriented investment process, we aim to buy securities of companies that trade at substantial discounts to our conservative estimates of intrinsic value. The portfolio is unconstrained by geographic, industry, or index-related considerations, resulting in a portfolio that is built from the bottom up and based on what we believe are the best absolute value opportunities currently available. In short, we are willing to go wherever the most compelling opportunities are.
Some of the key attributes of our investment approach and philosophy are highlighted below.
Moerus Capital – Long-term investment horizon
We are patient, long-term value investors. In general, for each investment we envision a holding period in the range of three-to-five years, although we will hold investments for longer periods than that as long as the investment case remains compelling. We do not buy or sell based on quarterly earnings or other short-term considerations. We believe that this long-term investment horizon allows us to take advantage of significant stock price declines due to temporary factors such as, among others:
- Poor near-term business results.
- A challenging (but temporary) environment facing the industry and/or geography in question.
- A macroeconomic and/or capital market shock that spooks markets, but which we deem to be temporary.
- Company-specific missteps that result in sharply declining share prices, but which could be overcome over the longer term.
Focusing instead on the long-term intrinsic value of the business and its underlying assets, we can respond opportunistically to compelling bargains that occasionally become available only because of such temporary bumps in the road.
Moerus Capital – Bottom-up focus
We invest and build our portfolio based simply and completely upon our judgment of what the most attractive individual opportunities are at the time. Our investment decisions are not driven by any overarching macroeconomic view or Index-related considerations. As a very simple example, suppose 15% of Index ABC is composed of investments from Country A, or that 10% of Index XYZ is made up of stocks belonging to Industry B. While such details might be of importance to investors who try not to stray far from benchmarks, they are completely irrelevant to us. We will never invest in a security just because it is included in an index, or because we “need to be invested” in certain industries or geographies so as to not be “too different” from benchmark indices. Our portfolio consists of investments which are selected based upon their individual merits and their fit within the overall portfolio, not upon top-down or external factors. As a result, we expect our portfolio’s overlap with indices to typically be very low and country/sector exposures to be very different from various indices, as we continue to pursue attractive opportunities wherever they exist, regardless of such index-related considerations.
Moerus Capital – Macro-myopic, but macro-aware
At this point, we should qualify our point regarding our bottom-up investment approach. It is extremely important to note that although our investment approach is resolutely bottom-up in nature, we do not simply ignore or neglect to consider the broader macroeconomic landscape that might be relevant to any potential investment. Far from it. On the contrary, we strive to develop a deep awareness and understanding of the wide range of macroeconomic risks (and opportunities) that might come with any prospective individual investment.
One of our main goals as analysts and investors is to identify investments that in our opinion offer compelling risk-adjusted bargains on an as-is basis, based on what is known here and now. Our investment analysis does not place significant weight upon assumptions or forecasts about the future – conjecture that typically comes with top-down analysis – simply because of our observation that historically, most macroeconomic forecasters have failed to consistently predict future economic conditions, most importantly the turning points in such conditions. Instead, in our experience we have found most macroeconomic forecasting to be biased towards an extrapolation of recent trends. For example, as crude oil prices generally ranged between $80 and $105 per barrel for the better part of the current decade, how many economists and investment houses warned about the sustained, dramatically lower prices to come – until of course, after prices started to collapse in the second half of 2014? By focusing on the attractiveness of a given security based on what is known here and now, we avoid the risk of basing our investment thesis upon forecasts of the future that we believe have generally proven unreliable.
As described above, we do not spend time forecasting future macroeconomic unknowns and basing investment decisions upon such predictions. However, we do spend a significant amount of time considering the macro risks to which an investment might be exposed. In particular, it is important to assess the sensitivity of a given investment to extremely adverse scenarios (macro as well as micro) that tend not to be addressed by top-down forecasts, which generally tend not to veer far away from extrapolations of the recent past. We do not trust our own or anybody else’s ability to predict extremely adverse scenarios with any degree of reliability. Instead we focus our efforts on mitigating the downside risks to our portfolio from future unknowns by constantly evaluating the potential for, and the magnitude of, any negative impacts of “tail events” that could derail otherwise attractive investment opportunities.
For example, consider the vulnerability of a given company’s business model or balance sheet to significant currency mismatches. Suppose a Brazilian company generates the bulk of its revenues in Brazilian real (BRL), but a meaningful amount of either the debt on its balance sheet or its operating costs is denominated in U.S. dollars (USD). We suspect that few, if any, would have predicted that the BRL would have depreciated by over 40% (vis à vis the USD) between April 2014 and December 2015, a decline which likely would have severely impaired such a company’s profitability and ability to service its USD-denominated debt. But even without having the luxury of such a prescient forecast, the mere evaluation of the vulnerability of a given business model or balance sheet to severe adverse shocks in advance, before any adversity strikes, allows for a more robust awareness and understanding of the risk profile facing a prospective investment before our first investment dollar is or is not committed. In this sense, while macro-myopic, we continuously strive to be quite macro-aware.
Moerus Capital – Very risk averse
The discussion of an awareness of macroeconomic factors, and what could possibly go wrong, dovetails with another key attribute of our investment approach at Moerus: we are very risk averse. At the beginning of this memo we discussed our objective of generating attractive long-term returns, while mitigating downside risk. To be clear, the risk that we strive to limit and avoid is not market risk, i.e., the day-to-day fluctuations or volatility in securities prices. Instead, the risk that we seek to avoid is the risk of permanent loss of capital or impairment to the business. We spend much of our time carefully considering potential risks to the business at the security level as well as portfolio level risks.
Risks to a business that must be considered include factors both internal to the company as well as external. Risk is a critical topic that we will discuss in the much greater detail that it deserves in a separate, forthcoming memo, but in summary, internal risks to the company include, among others:
- A weak, highly leveraged balance sheet.
- The need for recurrent access to capital markets to continue operating the business.
- Inept and/or dishonest management.
- Inappropriate corporate governance and/or the potential for self-dealing by control groups.
- Risks stemming from the business model (for example, one with embedded currency mismatches, as discussed above).
Sources of risk that are external to the company include, but are not limited to: risks of government meddling or involvement, either official or by suasion; macroeconomic shocks facing an industry or geography; and changes in industry structure. Moving beyond the individual business(es), at the portfolio level we must carefully consider and avoid any unreasonably large aggregations of overlapping risks that are shared by multiple individual holdings.
See full Moerus Capital PDF below.