Powerful Engines

FAM_MutualAdviceNewsletter_2015Included in the Semi-Annual Chairman’s Letter is a boating analogy that effectively illustrates how our equity investment approach differs from that of many investors. It is worth highlighting and developing a bit more as longtime divergence continues. It’s an ongoing debate about whether to let macro and market conditions determine your investment strategy and the direction your wealth is heading, or a small collection of handpicked, quality businesses that can fuel your portfolio.

We are often asked about our view of global macroeconomic and geopolitical events and how these issues might affect our investment strategy. Of course we are always happy to give our view, for what it’s worth. However, our answer to the second part of how they influence our investment approach is that “they don’t.” Those who do not know us well are sometimes incredulous. They assume that investors’ strategies must be contingent on these events since they dominate the headlines. We pay close attention to global macroeconomic activities and monitor the pulse of our nation, but this is not the key to long-term wealth creation based upon our experience. The fundamental question is, “What type of investor are you?”

Let’s liken investing to boating. To state that one is a boater is ambiguous. There is a vast difference between, say, a sailor and a powerboater. Sailors assess the strength and direction of the prevailing wind and position their sails in an attempt to harness it. Environmental conditions — namely the wind — will determine their course and how fast they reach their destination. By contrast, powerboaters focus on their motors. Winds and conditions are a factor, but a strong and reliable engine propels them to their endpoint. Many investors who are widely diversified in broad index funds or ETFs and “own the market” are like sailors. Environmental issues such as Greece’s debt problems, Federal Reserve actions, and oil price fluctuations will determine their returns over a typical holding period. For these investors it is understandable that they are constantly monitoring macro events as a sailor does the wind.

By contrast, we are more like powerboaters. The collective growth in value of the relatively small number of businesses in which we invest will determine our potential returns over our investment horizon. These companies are our motors. We spend much less time on deck assessing the wind and more time fine-tuning our motors. We devote hours to tasks such as examining SEC filings, analyzing financial statements, visiting our holdings, meeting with management teams, participating in quarterly conference calls, and creating detailed financial models to try to ensure that our Funds have the strength and reliability to carry us through all conditions.

At FAM Funds, we see quality businesses as economic engines that have the potential power to generate positive returns and create value for shareholders over a considerable distance. We focus on four core tenets to make sure that these companies are fit to make the trip. They must be: quality businesses that we understand and have a competitive advantage; financially durable with above-average profitability and the ability to generate cash profits; well-managed by people who have both skill and integrity; and available at a reasonable stock price relative to what we estimate the operation is worth. With premium, powerful engines we believe we can reach our long-term destination safely regardless of headwinds and stormy weather.

Please see Fenimore Disclosure.