Learnings from Seth Klarman


pls take time out to read this.

I’m getting more and more convinced that we are moving towards a disaster. What does it mean for us as investors? Well buying gold for one.

Some time ago, if someone had suggested buying gold, i would have sneered. Gold has run up quite a lot in the past decade and being a value investor it is difficult to get into something like that esp when it is almost impossible to determine the value of gold.

But someone will have to pay for the massive QEe. One day if the day of reckoning does arrive, the currencies will not be worth much. Gold is my insurance for that day.

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I got the same feeling reading Prem Watsa’s annual letter. You can find that here:


BTW, all his letters are worth reading.

ok i have one more on how we are all going to hell :slight_smile:

Jokes aside, heard about this guy called Dylan Grice for the first time when i read this article. Very well written, with a lot of wisdom.

My notes from Seth Klarman’s Margin of Safety:

On investing

To investors stocks represent fractional ownership of underlying businesses and bonds are loans to those businesses. Investors make buy and sell decisions on the basis of the current prices of securities compared with the perceived values of those securities. They transact when they think they know something that others don’t know, don’t care about, or prefer to ignore. They buy securities to appear to offer attractive return for the risk incurred and sell when the return no longer justifies the risk.

Investments, even long term investments like newly planted timber properties, will eventually throw off cash flow. A machine makes widgets that are marketed, a building is occupied by tenants who pay rent, and trees on a timber property ultimately are harvested and sold. By contrast, collectibles throw off no cash flow; the only cash they can generate is from their eventual sale.

There is nothing esoteric about value investing. It is simply the process of determining the value underlying a security and then buying it at a considerable discount from that value. It is really that simple. The greatest challenge is maintaining the requisite patience and discipline to buy only when prices are attractive and to sell when they are not, avoiding the short-term performance frenzy that engulfs most market conditions.

On Margin of Safety

A margin of safety is necessary because valuation is an imprecise art, the future is unpredictable, and investors are human and do make mistakes. It is adherence to the concept of a margin of safety that best distinguishes value investors from all others.

There are only a few things investors can do to counteract risk: diversify adequately, hedge when appropriate, and invest with a margin of safety. It is precisely because we do not and cannot know all the risks of an investment that we strive to invest at a discount. The bargain element helps to provide a cushion for when things go wrong.

The trick of successful investors is to sell when they want to, not when they have to. Investors who may need to sell should not own marketable securities other than US treasury bills.



I am wondering if anyone of you have the ebook “Margin of Safety” by Seth Klarman. I have been reading it chapter by chapter in the rare book collection at University of Sydney. But an ebook should be handy as I can read it even while I am travelling as I cannot borrow rare books from the library.

I have done first 4 chapters.

Very apt words. There is a incident in Mahabharat when Yudhistir was asked ‘what is the biggest mystery in the world ?’. He replied - ’ Everyone knows that they have to die and leave this world. Yet everyone lives life as if he/she is going to be around forever’.
Translating in into investment terms - Most of the time people invest (esp in bull phases) as if Market is going to to high forever. In boom times, investors (me included) forget the basics of valuations and get caught up in the frenzy. So its a good idea to keep things in prespective - including buying portfolio insurance (puts, futures), diversify into gold/real estate etc. Its always easy in finance to look at things in hindsight but people generally tend to have short memories and forget the pain during deep recession/bear phases.

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On Managing Liquidity

A reason long-term oriented investors are interested in short-term price fluctuations is that Mr.Market can create very attractive opportunities to buy and sell. If you hold cash, you are able to take advantage of such opportunities. If you are fully invested when the market declines, your portfolio will likely drop in value, depriving you of the benefits arising from the opportunity to buy in at lower levels. This creates an opportunity cost, the necessity to forego opportunities that arise.

Bottom-up investors can easily determine when the original reason for making an investment ceases to be valid. When the underlying value changes, when management reveals itself to be incompetent or corrupt, or when the price appreciates to more fully reflect underlying business value, a disciplined investor can re-evaluate the situation and ,if appropriate, sell the investment. Huge sums have been lost by investors who have held on to securities after the reason for owning them is no longer valid. In investing it is never wrong to change your mind. It is only wrong to change your mind and do nothing about it.

Investors should pay attention not only to whether but also to why current holdings are undervalued.

Investors may find it difficult to act as contrarians for they can never or not they will be proven correct. Since they are acting against the crowd, contrarians are almost always initially wrong and likely for a time to suffer paper losses. By contrast, members of the herd are nearly always right for a period. Not only are contrarians initially wrong, they may be wrong more often and for longer periods than others because market trends can continue long past any limits warranted by underlying value.

On “How much research and analysis is sufficient?”

First, no matter how much research is performed, some information always remains elusive; investors have to learn to live with less than complete information. Second, even if an investor could know all the facts about an investment, he or she would not necessarily profit. Information generally follows the well-known 80/20 rule: the first 80% of available information is gathered in the 20% of the time spent. The value of in-depth fundamental analysis is subject to diminishing marginal returns.

Most investors strive fruitlessly for certainty and precision, avoiding situations in which information is difficult to obtain. Yet high uncertainty is frequently accompanied by low prices. By the time uncertainty is resolved, prices are likely to have risen. Investors frequently benefit from making investment decisions with less than perfect knowledge and are well rewarded for bearing the risk of uncertainty. The time other investors spend delving into the last unanswered detail may cost them the chance to buy in at prices so low that they offer a margin of safety despite the incomplete information.


Hi all,

I have been reading and collecting relevant points from the book “Margin of Safety”. This is for the benefit for all of us. I have summarized Lesson 1-3 and would be posting further summary on remaining lessons as I read through the book.

Margin of Safety (Seth Klarman) – Lessons Learned

Chapter 1: Speculators and Unsuccessful Investors

Mark Twain - There are two times in a man’s life when he should not speculate:
• When he can’t afford it
• When he can

Stocks represent fractional ownership to the businesses, bonds represent loans to those businesses.
Technical Analysis is based on the presumption that past share price meanderings, rather than underlying business value, hold the key to the future stock prices.

According to Albert Wojnilower, > the average holding period of U.S. Treasury bonds with maturities of ten years or more is only 20 days. Professional Traders and investors alike keep 30 year treasury bonds for liquidity and use them to speculate short term interest rate movements, while never contemplating the prospect of actually holding them for 30 years to maturity.

On differences between Successful and Unsuccessful Investors

Successful Investors tend to be unemotional, allowing the greed and fear of others to play into their hands. By having confidence in their own analysis and judgement, they respond to market forces not with blind emotion but with calculated reason. Successful investors demonstrate caution in frothy markets and steadfast conviction in panicky ones. The success of an investor depends on how he/she views the market and its price fluctuations.
Value investors who buy at a discount from underlying value are in a position to take advantage of Mr. Market’s irrationality. If you look to Mr. Marker as a creator of investment opportunities (where price departs from underlying business value), you have the makings of a value investor.

Security Prices move up and down for two basic reasons:
• To reflect business reality (or investors perception of that reality) or
• To reflect short-term variations in supply and demand.

Supply and demand imbalances can result from year-end tax selling, an institutional investor coming out of stock as a result of disappointed reported earnings, or an unpleasant rumour.

Unsuccessful Investors and their costly emotions

Greed can cause investors to shift their focus away from the achievement of a long term investment goals in favour of short term speculations.

The Search for an investment Formula

The financial markets are far too complex to be incorporated into a formula. Investors would be much better off to redirect the time and effort committed to devising formulas into fundamental analysis of specific investment opportunities.

Chapter 2: The Nature of Wall Street Works against Investors

What is good for Wall Street is not necessarily good for investors and vice-versa.

Wall Street has 3 principle activities:
• Trading
• Investment Banking
• Merchant Banking

Wall Streeters get paid for what they do, not how effectively they do it.

On IPO Markets

IPO market is where hopes and dreams are capitalized at high multiples. IPOs involve some sort of shuffling of assets through financial engineering rather than the raising of capital to finance a business’s internal growth. The deck is almost always stacked against the buyers.

Investors must never forget that Wall Street has a strong bullish bias which coincides with its self-interest. When a Wall Street analyst or broker expresses optimism, investors must take it with a grain of salt. Wall Street bias is strongly oriented towards Buy side rather than Sell recommendations. Anyone with the money is a candidate to buy a stock or bond, while only those who own are candidates to sell. There is more brokerage business to be done by issuing an optimistic research report than by writing a pessimistic one. It is more pleasant for investors to contemplate upside potential to the upside than downside risk.

Security prices reflect investor’s perceptions of reality and not necessarily reality itself, overvaluations may persist for a long time.

Investment Fads
The value of a company selling a trendy product depends on the profitability of the product, the product life cycle, competitive barriers, and the ability of the company to replicate its current success. Investors are often overly optimistic about the sustainability of a trend, the ultimate degree of market penetration, and the size of profit margins. All market fads come to an end. Security prices eventually becomes too high, supply catches up with and then exceeds demand, the top is reached, and the downward slide ensues.

The standard behaviour of Wall Streeters is to pursue maximization of self-interest; the orientation is usually short term.

Why open-ended MFs are better than Closed-ended MFs

The only advantage of a closed-end over open-end mutual funds is that closed-end funds can be managed without consideration of liquidity needs since they are not subject to shareholder redemptions. This minor advantage does not offset the high up-front commissions charged to initial purchasers of closed-end fund shares.

Chapter 3: The Institutional Performance Derby: The Client is the Loser

The great majority of institutional investors are plagued with a short-term, relative-performance orientation and lack the long term perspective that retirement and endowment funds deserve.
Most Money Managers are compensated, not according to the results they achieve, but as a percentage of the total assets under management.

Relative performance involves measuring investment results, not against an absolute standard, but against broad stock market indices.

Impediments to Good Institutional Investment Performance
• Shortage of time – Hours are diverted to marketing than on finding long shots.
• Bureaucratic Decision making process – Group decision making influences the decision.
• Institutional baggage and Emotions
• Analyst and Portfolio managers work in silos.

On 100% invested
Remain fully invested at all times is consistent with a relative-performance orientation. If one’s goal is to beat the market (particularly on a short term basis) without falling significantly behind, it makes sense to remain 100% invested.
Absolute-performance oriented investors, will buy only when investments meet absolute standard of value. They will choose to be fully invested only when available opportunities are both sufficient in number and compelling in attractiveness, preferring to remain less than fully invested when both conditions are not met. In investing, there are times when the best thing to do is nothing at all.

On Indexing
To value investors the concept of indexing is at best silly and at worst hazardous. It becomes self-defeating when more and more investors adopt it. Although indexing is predicated on efficient market, the higher the percentage of all investors who index, the more inefficient the markets become as fewer and fewer investors would be performing research and fundamental analysis. Indexing creates a self-enforcing feedback loop where the success of indexing has bolstered the performance of the index itself, which in turn, promotes more indexing. When the market reverses, matching the market will not seem so attractive, the selling will then adversely affect the performance of the indexers and further exacerbate the rush for the exits.

Investors must understand the institutional investment mentality for 2 reasons.
• Institutions dominate financial market trading; investors who are ignorant of institutional behaviour are likely to be periodically trampled.
• Ample invest opportunities exist in the securities that are excluded from consideration by most institutional investors.

Note: The book reflects the era of 1990s and some of the variable may have changed in current times. However, the fundamentals and the behavioral aspect does not change rapidly during this time.