3 investing lessons you must never forget

By Larissa Fernand |  09-05-20 | 
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About the Author
Larissa Fernand is Senior Editor at Morningstar.in. Follow her on Twitter @larissafernand

Predicting downturns in his bow tie, he could well earn the moniker “prophet of doom” with an avuncular expression. As a market prognosticator, his track record is not great. But as an investor, he weaves fascinating tales.

Jim Rogers and George Soros teamed up in the 1970s to form one of history’s most storied investing teams (Quantum Fund).

Here is one anecdote that is so intrinsic to his swashbuckling contrarian style.

The story that should have been made into a movie.

In October 1973, the Yom Kippur War took place when a coalition of Arab states led by Egypt and Syria launched a surprise attack on Israel.

Being the holiest day in Judaism, it is a national holiday. Everything shuts, including the airport. So while it was natural for Israel to be caught on the wrong foot, it was revealing to see the apparently technologically superior Israeli forces get defeated.

Young, enthusiastic and insatiably curious about the world, Jim Rogers set to find out how the Egyptian Air Force succeeded in shooting Israeli jets out of the sky.

The Egyptians were deploying advanced electronic-warfare equipment sourced from USSR. The SA-6 was the one inflicting great damage. The latter was a self-propelled, low-to-medium altitude, surface-to-air missile, known as SAM. It would fly out parallel to the desert floor then very accurately pitch up at the target without leaving a smoke trail.

He began to connect the dots. If some of Israel’s military technology was antiquated, what did that say about the U.S., Israel’s prime supplier of weapons? Should the Pentagon not be spending millions to ensure that its hardware was not obsolete?

Rogers travelled across the country to converse with Pentagon officials and defense contractors. The U.S. Defense Science Board conducted a study of the war and concluded that in any future conflict, American planes would “have a real challenge getting through air defenses.” The board recommended development of a new kind of bomber that would evade the SA-6, by being essentially invisible to its supporting radar.

Soros and Rogers knew that defense companies had major contracts that, when renewed, would provide fresh earnings over the years. They also noted that the modern battlefield had undergone a fundamental transformation, and the new arsenal would be sensors, laser-directed artillery shells and smart bombs (which were guided to their target by laser beams). It would only be a matter of time before defense spending took a dramatic upswing.

Based on this thesis, the two began scooping up defense stocks going really cheap. The focus was on United Aircraft (now United Technologies Corporation), Northrop and Lockheed Corporation (later merged with Martin Marietta to become Lockheed Martin.)

Around this time, a group of hot-shot investors in New York got together once a month to discuss investments and share their views on the world. Jim Rogers was pleased as punch when invited to hobnob with this elite bunch of males over dinner.

As each of these young guns mentioned the stock they were betting on, Rogers put forth his bet on Lockheed.

His thesis held scant appeal because the Vietnam war was coming to an end, spending on defense was being curtailed and defense firms were not on solid ground. To top it all, the firm he was betting on was in bankruptcy, having overextended as it failed to compete successfully with Boeing.

Rogers explained that though Lockheed was bleeding profusely, the management was cutting off a huge money-losing division and starting to focus on new technologies. The company was famous for its Advanced Development Projects division, where its engineers came up with sophisticated weaponry for the Pentagon. And there were plenty in Congress who were in favour of Pentagon spending on advanced electronic warfare. The stock, in the vicinity of $2, had tremendous upside potential.

One pompous plebe smirked and stage-whispered (loud enough for Rogers to hear) his disdain for that strategy and what an absurd buy that was.

Rogers was understandably embarrassed. It was his first dinner with this group, and it was Bruce Waterfall who passed that comment; one of the few who ran a hedge fund, he had iconic status.

The best revenge is being proved right. And making obscene amounts of money in the bargain. The Lockheed stock appreciated 4,000% from 1973 to 1983.

President Ronald Reagan initiated a programme to revitalise U.S. defenses. The spending was not to be financed with tax increases but by borrowings and running a budget deficit. As a lesson from the Yom Kippur war, the U.S. began to develop radar stealth technology. The result was the Lockheed F-117, the world’s first stealth aircraft.

In 1980, after a decade in which the S&P 500 rose 47%, the Quantum portfolio was up 4,200%. He referred to that period as the “glorious and exciting years; we had gains every year.”

Besides betting on defense stocks, they shorted the Nifty-Fifty when banks and mutual funds were scrambling for them, even though some stocks were trading at 100x or 200x earnings. (The Nifty Fifty refers to the 50 popular large-cap stocks on the New York Stock Exchange in the 60s and 70s. They were regarded as solid buy-and-hold stocks and are credited with propelling the bull market of the early 1970s.)

They even shorted the pound sterling and gold. Back in the late 70s, geo-political crisis across the globe, including the Russian invasion of Afghanistan and the Iranian hostage crisis, pushed the price of gold to amazing highs. After touching $850/ounce in January 1980 it began to tumble and stayed in the $300-500 range for most of the 80s.

There is a lot we can learn from Jim Rogers, but for lack of space, let’s focus on three.

#1: Never underestimate the top-down.

Before you get down to picking your winners, come to grips with the broad social, economic, and political factors that could potentially alter the path of an industry.

In Street Smarts, he says that he found it fascinating how markets were driven by world events, and world events were driven by markets. Everything is connected. A revolution in Chile would affect the price of copper, and thus the price of electricity, and the price of houses, and so on – across various countries. So if you could figure out a revolution in Chile was on the anvil, you could make a lot of money.

#2: Invest knowing that nothing lasts forever.

Invest with your eyes on the future. As he explains in this interview, paradigms change; it’s inevitable.

No matter what we think today, it is not going to be true in 15 years. Pick any year in history, and look at what everybody was convinced was correct and then look 15 years later, and you’d be shocked and astonished. Look at 1920, then 15 years later. Look at 1930, then 15 years later. Pick any year, and 15 years later everything is going to be different.

In Hot Commodities, he wrote that both Fannie Mae and Freddie Mac were scandals-in-waiting and on the verge of collapse. He shorted, and made money when proved right in 2008.

#3: A contrarian philosophy is never built out of thin air.

Rogers was known for contrarian investing and went on to become an outlandish and colourful practitioner of this art. The trick was not to focus on the cheap price, but to get the fundamentals right.

In A Gift To My Children, he cautions that a cheap price alone is not sufficient reason to invest. If something is forever cheap, then it has no recognized value, and its stock may very well remain a worthless piece of paper. For a bargain to soar in price, there has to be a catalyst, and from an investment perspective, that catalyst is change. Whatever the change may be, it must have a significant impact within a country or an industry, and it must also be recognized as significant externally within a few years. If the change is real, others will notice the improvement, and prices will rise to reflect the new circumstances. New investors will catch on and prices can rise considerably for years.

Investment Involves Risk of Loss

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Shivaswamy Raghunath
May 10 2020 09:30 PM
 Thanks for writing a very interesting article with useful links. I went ahead and bought Rogers' 'A gift to My children' and completed reading it.

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