I had a chance this week to talk with one of my stock market heroes when I spent an hour or so chatting on the phone with Edward Thorpe. Thorpe is the founding father of both card-counting for blackjack and quantitative investing and is one of the most fascinating men in the history of the markets.
His first two books, "Beat the Dealer" and "Beat the Market," are must-reads for any serious investor or would-be gambler. You can add his new book "A Man for All Markets" to the list of must-read books. I am doing a review for my son-in-law's magazine and got an advance copy of the book and think it is one of the better books on investing and life I have read in a long time.
For those of you unfamiliar with Thorpe, he used a quantitative approach to the market to compile a remarkable track record. His Princeton Newport Partners averaged 19% a year from 1969 to 1988 with no down years. Remarkably, in the period from November 1986 until year-end 1987 they earned 33% while the rest of the world was decimated by the Crash of 1987. They did things such as warrant and convertible arbitrage, statistical arbitrage and other math-based strategies and spent very little time thinking about what the broader market was doing from day to day. In 1994 he opened Ridgeline Partners to invest in his strategies with a focus on statistical arbitrage, and over the next eight-and-a-half years earned about 18% a year for his investors.
When we talked yesterday, I asked him if he thought trying to beat the market was still a task worth pursuing. He said it was a tough question as the average investors could do very well with very little effort at all by using an index fund or owning something such as his favorite investment, Berkshire Hathaway (BRK.B) , and ignoring the market altogether. I suggested a similar strategy earlier this week with the private equity stocks and also favor that approach with high-quality REITs such as Brookfield Properties (BPY) and Colony Capital (CLNY) . Buy them at a bargain price and just sit tight forever. If they go down, that's fantastic as you can buy more at a lower price. If they go up, that's also great as you feel good about the increase in your net worth.
Thorpe said that to beat the market consistently he thought the Warren Buffett approach would work pretty well. He wasn't just talking about the value-oriented "buy a crash" investment approach that Warren uses, but rather a lifelong, full commitment to the business of investing. If you have the type of superior math and analytic skill that Thorpe has you also probably could do very well as long as you had access to rapid, low-cost execution, but the quantitative edge is no longer as significant as it once was as the field has gotten quite crowded.
We also discussed two approaches that Thorpe used during his career to earn market-beating returns that may offer advantages to investors today, too. He has been practicing the fine art of thrift conversion for more than 25 years and still uses it to pile up profits. Longtime readers are aware that thrift conversions are a bread-and-butter approach for me and have been for many years. While Thorpe takes the time and effort to fly around the country opening accounts at various thrift so he can take advantage of the original offering price, I have done quite well buying in the first few days after an offering when shortsighted flippers are providing plenty of liquidity and we still can buy at less than 80% of tangible book value. Over time he makes a bit more than us, but I do a lot less flying around the U.S. opening accounts, so I view it as a wash.
He also talks in his book about buying heavily discounted closed-end funds and then agitating for a tender offer or liquidation that forces the share price to trade at or close to the net asset value. While Thorpe did the agitating himself with a great deal of success, I have found that by tracking the 13d filings of the leading closed-end fund activists we can come close to replicating his results while someone else does the heavy lifting of battling management for us.
Thorpe repeatedly talks in his new book about setting his investment business up to maximize not just profits but also his time doing the things he enjoys and spending time with those he loves. He found an edge that he could exploit over time and was not tied to a screen tracking every tick of the market. He succeeded wildly at both, and I think that by using approaches such as long-term investing in quality companies and assets as well as value propositions such as thrift conversions and discounted closed-end funds we can achieve similar results.
