G&D Fall 2019 Issue: Interview With Mohnish PabraiUmair Tariq
Interview with Mohnish Pabrai, the Managing Partner of the Pabrai Investment Funds, from the Graham & Doddsville Fall 2019 Issue.
Mohnish Pabrai is the Managing Partner of the Pabrai Investment Funds. Since inception in 1999 with $1 million in AUM, Pabrai Investment Funds has grown to over $580m AUM in the 2nd quarter of 2019.
The funds invest in public equities utilizing the Munger/Buffett Focused Value investing approach. Since inception, the funds have widely outperformed market indices and most investment managers. A $100,000 investment in Pabrai Funds at inception in 1999 would have been worth over $1.2 million as of June 30, 2019, an annualized gain of 13.3% (versus 7.0% for the Dow).
Pabrai founded TransTech, Inc., an IT Consulting and Systems Integration company, in his home in 1990 and bootstrapped the company to over $20m in revenue when it was sold in 2000.
He authored two books on value investing, The Dhandho Investor and Mosaic: Perspectives on Investing; with the former translated in German, Mandarin, Japanese, Thai, Korean, and Spanish.
Pabrai won the 1999 KPMG Illinois High Tech Entrepreneur award granted by KPMG, The State of Illinois, and The City of Chicago. He is a member of the Young President’s Organization, and the Founder & Chairman of the Dakshana Foundation, providing 1-2 years of coaching for Technological Institutes’ and Medical Schools’ Entrance Exam to gifted but impoverished students, predominantly in rural India. The Indian Institutes of Technology have accepted 2,146 Dakshana Scholars in the last 12 years. Since 2017, medical schools have accepted 296 Dakshana Scholars, including 55 at AIIMS, India’s top medical school. He lives in Irvine, CA and enjoys spending time with his wife Harina and children Monsoon and Momachi. He loves reading and playing duplicate bridge.
Graham & Doddsville (G&D): What’s your background and how’d you get into investing?
Mohnish Pabrai (MP): I’m an engineer by training – my undergraduate degree is in Computer Engineering. I worked in hardware and firmware design at first, then moved to international sales and marketing in tech, before starting my own IT Services/System integration company. In 1994, I was vacationing with my wife in London and I was looking for something to read on the flight back, so I picked up one of Peter Lynch’s books at the airport. I had never actually read any investing books before and I found Peter’s book very exciting to read. Then I found out there was another Peter Lynch book and read that one, too. In the second book he was talking about a guy named Warren Buffett reverentially.
I had never heard of this guy “Buffett” before. But I was lucky, because the first few books on Buffett came out in the early 90s and Lowenstein’s biography on him came out in 1995. I was just trying to find out who this guy Buffett was, and that of course opened up a massive new world to me as I went through the biographies, the Letters to Shareholders; I learned a lot from all of this material and found it very exciting. The thing that Warren Buffett figured out when he was a 10-year-old kid was the magic of compounding. He understood, even at that very young age, what Einstein said: “Compounding is the eighth wonder of the world.” And the second thing he understood was that if he could compound at high rates, even starting with a very small amount of capital, he would get incredibly wealthy.
All the useless nonsense I got taught in school, and they never taught me this. I mean, when we learn compounding in school it’s just for algebra or fractions or geometry. No one tells you it’s the holy grail. Nobody explains its magic. So I was reading Buffett’s biography by Lowenstein and I said to myself, “Wow, this kid just figured out two things.” One of those two things – the magic of compounding – I’ve even figured out now. I got it at age 30 and he got it at age 10, but that’s okay, I still have a long runway. Then for the second piece, how to compound at high rates, well Warren and Charlie are open books. They’ve freely shared how they do it.
At that time, I had just sold a small portion of my company and I had $1 million in my bank account. It was actually the first time in my professional life that I didn’t have any debt. I thought if I can compound that money at 26% p.a. for 30 years like Buffett, then through the magic of compounding the million becomes a billion – and I thought the billion was a much better number than the million. Even if I missed it by 80% or even 90%, who cares? Even $100 million or $200 million is still pretty good.
So I decided to give compounding a shot while still doing my day job running the boring IT company. I thought 26% should be a cakewalk at that time, because I had never invested before. In the first five years, the $1 million turned into $12 million – a return of 64% per year. From 1995 to 1999, I made more money from investing than my declining IT business was making, which had 200 people. Eventually my friends saw the success I was having and wanted me to manage their money too. I thought it wouldn’t be too much effort for me to place one more trade for my friends after my own trades were done; but I didn’t want to lose their money. I looked at the Buffett Partnership and modeled Pabrai Funds after that. I started Pabrai Funds in 1999, really just as a hobby, with $1 million from eight friends and $100,000 of my own money.
In the first year we were up 70%, and this was during the dot-com bubble while the NASDAQ was crashing and burning. From 1999 to 2007, the funds had returned about 37% p.a. before my ridiculous fees. Then from 2007 to 2009 we dropped nearly 70%. I learned a lot in 2008 and 2009. Adversity is a great teacher. Every time something negative happens to any of us, when we look back we usually recognize that time as one of great learning and great growth. I’m very grateful for that.
G&D: What were your mistakes during this 2007-2009 period and what did you learn from them?
Mohnish Pabrai: One mistake I made was I had several bets on levered financial institutions, and those institutions that were levered in 2008 and 2009 are not the ones that went on to live happily ever after. In fact, if you look at the returns of various banks since 2007, there’s only one bank that actually had a positive return since then: J.P. Morgan. Every other bank is negative, and some are negative by a lot. I wasn’t invested in banks, but I had some bets in sub-prime mortgage lenders, and they went straight to zero. To be honest, I continued to struggle with levered financial institutions until very recently.
It’s interesting, as an investor each of us will have certain things we’re very good at, and some things we have trouble with. For example, I have never seen Warren Buffett make a dumb bet with levered financial institutions. I think his batting average is 100%. But I’ve seen him make a ton of mistakes on retailers. If you were to sum up all the Berkshire acquisitions, their record is actually not great. But if you weight them by
actual capital deployed, their record is unbelievable. He was right with the banks – and I think now he’s given up on retailers. So in some areas, Warren is just absolutely spectacular. That’s the way for all investors. We have some areas we’re really good at and we have other areas where we still have more to learn. I still have a lot to learn. For example, I still have one levered financial institution in my portfolio. When you’re an alcoholic, you just can’t give it up. So hopefully by talking to you now the lesson is getting seared into my mind: don’t go near levered financial institutions.
G&D: Do you feel like you have certain circles of competence, maybe in technology companies, having started out as an engineer?
Mohnish Pabrai: You know, one thing that has benefited me greatly in investing was what I learned during my childhood. My father was an entrepreneur and he must have started, grown, and bankrupted at least 15 different companies in 15 different industries over his career. He had a jewelry manufacturing operation, he manufactured high-end audio speakers for Phillips, serviced and repaired high-end Japanese tape recorders, started a radio station, made a movie, had a handyman services company, an insurance brokerage, on and
on and on…
He was really good at figuring out opportunities, even in fields that were brand new to him. He was exceptional at starting and getting these businesses going, but he was always overly optimistic and highly levered. Then the first large storm would hit and the business would disappear. Then we’d be back to zero because my parents were very bad financial planners and we’d have no money for rent or groceries. Yet, somehow, he’d start another business again. My father used to say you could put him naked on a rock with nothing and he’d start a business.
Starting at the age of 11 or 12, my brother and I used to be like my father’s Board of Directors. Eventually whatever company he was running at the time would be in trouble. He’d sit down with us and we had to figure out how to make it run for one more day. Then the next night we’d figure out how to make it run for one more day, and then for one more day…
Around age 16, he started taking me on sales calls with him. I am still amazed he did that. By the time I was 18, I had finished many MBAs. I had learned plenty about business they’ll never teach you in business school.
One big advantage I gained from all this is I can understand businesses really well. I can crack business models. I can crack them on a wide range of industries, and I can do it really fast. I can look at a business and pretty quickly get my bearings on its basic economics and how it works and all that. But I can still get some investments wrong, because that’s not where the investing results start and end. You need to think fast and you need to think slow. On the thinking slow, there are a lot of humans better than me. I have very good skills on one side, but I have to get a lot better on the other side, and that’s what makes it fun. There’s still a lot of learning for me to do on the thinking slow side.
In general, it is really critical to be right in the center of your circle of competence; you don’t want to be near the edges or, God forbid, past the edge. If there are any things that are fuzzy for you, move on. We’ve got 50,000 stocks globally. Ideas are going to keep coming. If you don’t buy one particular stock, you’re still going to get rich. It doesn’t matter. There’s an unlimited supply of ideas.
See the full issue below.