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| Curtis Jensen |
Forbes: Curtis, good to have you with us again.
Jensen: Thanks for having me, Steve.
Forbes: Let’s go start at the beginning. You guys say you’re safe and you’re cheap.
Jensen: That’s correct.
Forbes: How do you see yourself as differing in any major way from legendary Marty Whitman?
Jensen: Well we think about, really, the same philosophy across all our strategies, across all our managers. The safety really derives from three primary areas: First of all, we look for companies that are extremely well financed. It’s kind of the cornerstone of our philosophy. We look for companies with very conservative financial positions because we know that in the life cycle of a company they’re going to hit some headwinds or a speed bump. Having a strong financial position is important for those periods – the staying power in the business.
Secondly, we look for companies with good management teams. We look for management teams whose interests are aligned with those of our own shareholders.
Forbes: Meaning they own a lot of stock.
Jensen: Ideally, they own a lot of stock, or the incentive program is designed to build the business over long periods of time. We not only look for good operators, but we look for management teams that have proven themselves as capital allocators as well – good capital allocators in the business.
Thirdly, we just try to find businesses that we kind of get a sense of the economics of the business and how they’re likely to grow. We need to have some tangible path towards growth in the business. So all of that recipe has to come at the right valuation, and that’s the cheap part. We try to put together, really, a conservative estimate of what we think the business is worth based on the economics of the business, and buy it at a discount to that.
That also protects our down side, and that’s probably the most important thing for us. Question number one for us is what protects our down side, what’s going to protect our capital, before we start asking ourselves, “How much money are we going to make?”
Forbes: So as you say, it’s down side first?
Jensen: It’s down side first. Look down before you look up.
Forbes: Now, you’re in small caps.
Jensen: Right.
Forbes: People into small caps, they don’t think of conservatism. They think of companies that are either growing or are on the margin.
Jensen: Right.
Forbes: How many do you find in that category?
Jensen: Well, our portfolios tend to be concentrated, and that includes our small-cap strategy as well. We tend to own 40 to 50 stocks in any given portfolio. Really the stocks that we own in our small cap product are just like the other stocks and all the characteristics I just described. They’re well-financed, we think they have above-average management teams, we can see how they’re growing over time, and they’re priced at a discount.
And I would say that you get two ways to win with small caps. That is, where the public markets don’t appreciate the values and the assets that you own, you always invariably have the private markets coming in – whether strategic buyers or financial buyers – coming in and realizing the value for you. Not true if you owned Microsoft or Pfizer, where there are really no takeover prospects. You’re beholden to the public markets for your value realization.
Trouble With SarbOx
Forbes: Now, talking about small caps, how damaging has SarbOx, Sarbanes-Oxley, been to allowing these companies to get out?
Jensen: I think it’s been troubling for companies of all sizes, in terms of just being more onerous in terms of the expenses and the energy that management spends in order to comply with the regulations. Small companies in particular are hit a little harder because they’re essentially having to spend the same amount of money that any big company would spend just to stay within regulatory compliance.
So the effect, I think, has been to push more management teams to think about going private or partnering with bigger companies to sort of absorb those expenses and burdens. The first thing you hear a lot of management teams talk about when they merge with another company is the cost of being a public company, for the acquired company, are going to disappear. It can be significant.
Forbes: How much harm do you think this has done to the country and the ability to innovate? Yes, people will find ways – maybe merging, private buying – but it’s not the same thing as going public.
Jensen: I think the whole environment, in terms of the regulatory environment, has been more difficult in the last couple of years. You can think about the energy area, you can think about health care, you can think about the financial industry – the regulatory environment. I hear CEOs complain all the time that it’s the uncertainty around a tax regime or a regulatory regime that has made it very difficult in some cases for businesses and executives to move ahead. They haven’t done hiring in some cases, or spent capital, because they’re waiting to see how things evolve.
Forbes: So if you could wave a magic wand, you’d get rid of SarbOx, among other things?
Jensen: I don’t know about – I’m sure there are positive elements to it.
Forbes: If you look hard enough.
Jensen: I don’t know that it’s worked exactly as planned. But I think there are probably pieces to all the regulation, sensible pieces, SarbOx included.
Why A Small Portfolio?
Forbes: Now, you mentioned you have relatively few holdings. Why is that better than having a whole slew, where if one goes bad it’s not going to have much impact on the portfolio?
Jensen: We believe you don’t protect yourself by owning 300 or 400 stocks in a portfolio. We believe that an investor can protect himself or herself much better by knowing more about fewer things and spending your energy focusing on those things.
You think about the greatest investors in the world, whether it’s Warren Buffett, whether it’s the Tisches, Carl Icahn, they don’t own hundreds of stocks. They own a handful of things. They can adequately diversify themselves with just six or ten stocks, focus their energy on those, and control the risks in those things, and that’s what we try to do as well.
Forbes: So that means low turnover.
Jensen: It tends to mean low turnover. At Third Avenue, we tend to hold things for several years at that time. The data would suggest we own things for four, five, six years at a time on average. And our idea is to try and compound our money and our shareholder and client money over time as the business grows.
Forbes: So what kind of metrics do you use to determine how successful you are? Putting aside people coming in and out of the funds, which is another category – that’s emotions.
Jensen: Right.
Forbes: Do you have certain benchmarks? In other words, is it three years, five years, ten years? Because sometimes you don’t do as well as your peers.
Jensen: So, for fund managers like Third Avenue, it’s sort of a balancing act, right? We think about absolute returns. In my case, I put more weight on absolute returns, that’s what really puts bread on the table. On the other hand, we live in a competitive world, right?
We’re competing against other funds, indexed funds, so on and so forth. So we have to produce good relative returns as well. But absolute returns, for us, probably get the greater weight. We do eat our own cooking; we’re invested in our own products alongside our shareholders and clients on the same terms as our shareholders and clients. And so for us to compound our wealth and our partners’ wealth over time, the great weight goes towards absolute returns. We think about absolute returns in terms of what’s happening to a realistic measure of inflation and the cost of living, not sort of what the government is telling us what inflation numbers are. But when we look around in the real world –
Forbes: What you might call cash inflation.
Jensen: Cash inflation is a good term for it.
Beat The Index
Forbes: Now, looking at your returns, how do you go to shareholders and say, “Come with us instead of indexing”? Because the purpose of indexing – they say you save fees, you don’t get whip-sawed, you’ll do just fine with indexing.
Jensen: I think Third Avenue and others like us make good sense as part of an overall plan for investors, right? We’re not saying to people that we ought to be the only thing that people invest in, but I think we do complement well what people are doing in other equity areas because we are different if you look at our holdings, you look at our process and the kinds of ideas and the kinds of portfolios that we construct. We’re quite different in some ways.
We tend to zig when the market zags. So if most of your savings is in an index fund, we tend to have less correlation in the markets. And I think that’s valuable for people.
Forbes: Now, in terms of your categories, you have a lot of international assets in these portfolios.
Jensen: Right.
Forbes: Do you think that’s a more valid way? Say having small cap or real estate, but you encompass the world rather than saying, “I have international, I have domestic”?
Jensen: The firm is broken down into different strategies, including a strategy that’s focused just on international. But our core flagship fund, Third Avenue Value Fund is also invested heavily outside the U.S. The small cap fund and our real estate products all have an element of their portfolios invested outside the U.S.
Starting several years ago, we kind of looked around and said to ourselves, “We ought to cast the net fairly wide.” There are some fantastic companies that are outside the U.S. You think about the wealthiest people in the world, whether they’re in Asia, the Middle East, Latin America, they tend not to have all their assets invested in their home currency.
They tend to be spread around the globe. We said we ought to be thinking about that, and we thought about the direction of the U.S., quite frankly, when we started the war in 2003 and how we were spending money in this country and what might happen to the dollar. The light kind of went off and said we ought to be thinking about putting some of our client assets outside the U.S. Today, most of that money is invested in Asia, including Hong Kong and Singapore and developing areas in south Asia.
Forbes: Now, in terms of distressed debt, you’ve been an advocate of that. Explain. Is this just a one-time thing, or is this an ongoing focus?
Jensen: At Third Avenue, we have a long heritage and a strong foundation in investing in distressed debt and the debt of bankrupt companies, going back more than 25 years. So the crisis in 2008-2009 really fell right into our sweet spot in terms of our own experience and our resources in the business. Some fantastic bargains were found. You had to be willing to withstand some of the jaw-dropping mark to markets that were really a function of panic selling in the markets over the course of a couple of quarters. We used to get calls from trading desks saying, you know, the senior executive at Morgan Stanley said get rid of that paper by December 31st. And we knew it was panic selling, or such and such a hedge fund had to get the paper out.
So we hung in there, fortunately, and our investors stayed with us and we were able to make some great investments. But it is a little bit cyclical. That said, today, there are select opportunities in the high-yield market, and I think that’s a good place for investors as well.
Focused Credit Fund
Forbes: So what took so long to get the focused credit fund up, since you had a real feel for this kind of market in a way that others don’t?
Jensen: We had some resources and confidence in the organization, but developing a specific fund around that – we had client demand for it. It took some time to develop a team and build up a team that we felt was in place and would protect the thing – protect it from a financial standpoint, protect the reputation of the firm, protect our client capital. All of those things came together in August of 2009 and we launched and I think it’s exceeded our expectations for sure, and I think we’ve done a good job there.
It’s differentiated from the vast majority of high-yield funds and credit funds in that it is focused. Today it has about 60-odd holdings and it’s a mix of different kinds. It’s not just high yield, it’s not distressed. So you really get something that’s very different from anything out there.
Forbes: Do you short in this fund?
Jensen: We have the capacity to short. We don’t have any shorts on at the moment, although we’re sort of getting to that point in the credit cycle where risk premiums have shrunk and it’s something to consider, to go on the other side of the trade at this point.
Forbes: How about U.S. Treasuries? Would you buy a 30-year bond at these prices?
Jensen: It’s difficult to see how buying treasuries at this point is going to help you meet your goals over long periods of time, on nominal terms.
Forbes: So wouldn’t they be a good short candidate over a couple years?
Jensen: Maybe. But I think as you’ve just seen, these intermittent flare-ups, like the disaster in Japan or North Africa – it’s still considered a safe haven, so shorting can be very dangerous at points in time as well.
Will REITs Keep Running?
Forbes: Talking about distress, probably few categories were as distressed as REITs were in early 2009. Did you foresee the huge run-up and the continuing run-up in REITs?
Jensen: We were invested in some very high-quality REITs within our real estate strategy and our value fund. We were also invested in some of the distressed debt of various real estate companies. So we tried to play it a little bit more conservatively than others.
We were investing in the debt of some of these companies where the return profile would give us something like 20% to 30%, which we thought was adequate in terms of the risks. However, if you had gone into the equity at that point in time, you might have tripled your money by now. So we had very satisfactory investments. If we look back to 2010, it’s hard to see a lot of bargains today in the U.S. REIT market. Our real estate fund has the vast majority of its assets outside of the U.S. There are select opportunities today.
I think investors went to it as part of the flight to income sort of trade, you saw it in the high-yield market, you saw it in REITs and other kinds of vehicles that would produce income for investors. And some of it makes sense when you think about what’s happening on the ground in the real estate market, where the supply side of things is still very, very bullish for certain markets. You don’t see a lot of new supply coming into certain markets on the commercial side. So it makes some sense where we are today, but valuations in many cases are very full.
Forbes: What about the big shoe that everyone is waiting to drop on commercial real estate? Does that sort of drop in a gentle way? We’re just letting time cure that thing?
Jensen: Maybe the extend-and-pretend phenomenon has cured some of that and allowed operators to get through the storm. And we’ll see where it goes. I think there are select opportunities that you can sort of see that some of the companies – they’ll have some refinancing coming up in the next year or two. It will be interesting to see if the markets are open at that point, right? And if not, have some cash ready to invest because there will be opportunity.
Forbes: Talking about cash, you seem to be a little reluctant to put cash to work parts of last year. Has that reluctance continued?
Jensen: We’re very price conscious at Third Avenue. We tend not to chase things. We don’t believe in being fully invested just for the sake of being fully invested. Our recent history in the markets would suggest that it’s always a good idea to have some cash at the ready. And within our portfolios, we always have 5% or 10% cash. It’s kind of the dry powder that enables us to act opportunistically. You know, as far as the last quarter or two, we believe in repairing the roof while the sun is shining.
Sell the farm when it’s sunny and buy when it’s raining, I guess is the saying. The markets have been very sunny the last couple of quarters. So to the extent the fundamentals of our investments tell us to sell, that comes on our radar screen and it’s a candidate for either trimming or resizing positions.
Forbes: Yet you don’t have target prices.
Jensen: At the outset of an investment, we develop a range of value for an investment and for a company. That value changes over time, right? Business is dynamic, the value of the business is dynamic; it goes up and down in time. So if we’re doing our job right, that value tends to grow over time. And to the extent that’s happening, we’re happy to hold on.
Biggest Surprise in ’08-‘09
Forbes: So what was your biggest surprise in 2008-2009? Irrationality of investors, or what? What shocked you?
Jensen: I suppose it was. It was the sheer panic. As an equity investor, you tend to think long term, and you see the economic values of businesses. To see the reaction in the markets was pretty incredible in some cases, where there was just a huge disconnect both in the equity markets, the credit markets, and in some cases commodity markets as well, right, between sort of longer-term fundamentals and the short-term panic.
You knew it was a panic, and I guess if there were ever a time when there was the proverbial blood in the streets, that was it. But for us to see that – it was a surprise. I mean, it worked for us because we were ready to go. We tend to be opportunistic and we have cash ready to go, so fortunately, it worked out for us.
Forbes: When you got hit hard, did you reexamine what you were doing? Did you say to yourself, “Maybe this time is different? Should we get out?” Or did you say, “We’re going to stick this thing through”?
Jensen: As a fundamental bottoms-up-oriented investor, we look at stocks one by one. We tended not to give – we certainly don’t do macro forecasts internally. But I suppose today our eyes are always on the horizon looking for storm clouds. And while we’re not forecasting macro-economic trends, we’re certainly cognizant of them and we’re paying attention to them. We have a tremendous dialogue, I suppose, in terms of what’s changed in our own research process around various trends – at the industrial level and as well at the macro level – and I think that’s been a very healthy process for us. Try not to be dogmatic about our philosophy. Try to be a little bit flexible. But having that framework is was very reassuring when the markets were falling apart.
Trust In Foreign Investments
Forbes: Talking about overseas investing, how do you trust the numbers? How do you account for – maybe they do things a little differently than we would do here?
Jensen: Well, in the vast majority of cases, investors have protection because of where the stocks are listed, say even at Hong Kong or Singapore, Europe. And in terms of accounting, in most cases – certainly within a G7 country – it’s done within IFRS accounting rules and conventions. So there’s an awful lot of –
Forbes: Transparency is not a major issue.
Jensen: There’s an awful lot of protection, we feel, through that.
Forbes: Oil and gas. Looking at the price of oil, do you feel, even though you weren’t alive then, in the 1970s, when oil when from $3 to $40 a barrel, looking back –
Jensen: I remember the lines.
Forbes: Most of that turns out to have been inflation. Inflation was conquered, oil came crashing down.
Jensen: Yeah.
Forbes: How much of the price today, putting Libya aside, is people treating it as an investment category, speculation, inflation? And how much is what you might call real, or real market price, real supply/demand versus artificial supply and demand?
Jensen: Well, at some point, you have to respect the markets. There’s always an element of speculation, whether it’s commodities or stocks and bonds. Today, it’s hard to say exactly how much. Undoubtedly, there is a risk premium built into the price of oil. Oil, as you’ve pointed out, is completely disconnected from natural gas prices.
So one has to wonder, right? If you believe OPEC, you’d say the market is well supplied, fundamentals don’t – at least longer-term fundamentals – don’t justify the current price. Certainly, the markets are saying we don’t know how long this conflict in Libya will go on and whether or not other Arab or North African nations will suffer the same thing in terms of the disruption to output.
Forbes: Now, you are consistent in your investment approach. Investors in your funds – how much panic selling did you see when they got out when they shouldn’t have gotten out?
Jensen: We saw a bit of panic selling. I mean, there’s no question we got redemptions, I suppose like everybody else. And just a general flight from equities really out of 2009. I suppose if you were part of that generation that’s looking retirement and only having 10 or 20 years left and you have to ask yourself, “My nest egg has just been clipped by 20%, 30%, how much more can I take?”
And, unfortunately, a lot of people sold at the wrong time. We always believed that, unless we were going into a depression, those prices did not reflect longer-term fundamentals. It was just a total disconnect from business value and what the market was saying businesses were worth. We’re in the business of investing in equities. We believed in the companies that we owned. We recognized that they were well financed and could likely weather the storm and we held in there and tried to communicate as well as we could with our investors about our position in various companies and how our portfolios were positioned.
Not Tempted By ETFs
Forbes: Tempted by ETFs?
Jensen: You know, we don’t do much in ETFs. It has been a source of competition for the mutual fund industry. But as far as what we do in the funds, it hasn’t been a factor for us.
Forbes: Any reason why? Or just feel?
Jensen: Well, our focus really has been on individual companies and industries, and that’s what we’ve tended to be comfortable with. There’s a way for us to come up with values, understand fundamentals, talk to management teams and make an investment based on all of that.
Forbes: And finally, do you get a sense from your investors that they are more interested in doing options, currencies, futures than they might have been in the past? Some others have said, “Yeah, people are starting to wade in there.”
Jensen: I see a bit of that behavior. We get questions periodically. Most of our investors come to us with questions about our companies. We don’t know too much about how they behave outside of our funds, but certainly we see in some of the companies we’re invested in where some of this stuff is showing up for investors, whether it’s currencies or options.
We try to get people focused on the long term. We think equity investing is a long-term game. Really you need to have money set aside for three, four, five years at a time considering equity investment, and that’s where we try to get people focused.
Forbes: Curtis, thank you.
Jensen: Thank you, Steve.
Forbes: Appreciate it.
Jensen: I really appreciate it, thanks.
source: forbes.com
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