I used to think most Hollywood movies lacked educational value and were merely tools for evil Hollywood production companies to sell mindless entertainment and popcorn. Little did I know that Hollywood producers had tricked me into learning some of the most important value investing principles by passing their wares off as entertainment. So my apologies go out to directors and screenwriters. Here's what they taught me:
Quote: Showwww me the moneyyyyyy!!!!!
In this scene, Tom Cruise, playing a sports agent in Jerry Maguire, has to yell this phrase very, very loudly in order to convince client Cuba Gooding Jr. that he will fight to get Cuba a big payday.
What I learned: Value investors should be equally enthusiastic as Tom Cruise about asking potential investments to show them the cash, the green, le fric, el dinero, the cabbage, the moola or whatever else you want to call it. When evaluating a company, value investors eschew accounting earnings in favor of free cash (or cash equivalent) flow. Like they say, cash is king. After all a company might be able to pay this year's bills with a one-time gain on sale of undervalued, non-core real estate, but will the company be able to show you the money next year? If not, then perhaps it's time to keep looking.
Quote: Your eyes can deceive you. Don't trust them.
In this scene, Obi Wan in Star Wars is teaching his apprentice, Luke Skywalker, to ignore his external emotions, such as fear and greed, and trust his inner feelings.
What I learned: Value investors should do the same. When the public is in a bull market frenzy, sending the stock market and paper net worths flying into the stratosphere, value investors know to ignore that sickly feeling of jealousy in their gut as they miss the bull market party. In contrast, when the masses gets skittish and sell stocks below their intrinsic values, Jedi value investors know to ignore the pervasive feeling of fear as paper wealth is evaporating and, instead, trust their inner gut, close their eyes, find the force, and start buying hand over fist.
Quote: The point is, ladies and gentleman, that greed, for lack of a better word, is good. Greed is right. Greed works. Greed clarifies, cuts through, and captures the essence of the evolutionary spirit. Greed in all of its forms -- greed for life, for money, for love, for knowledge -- has marked the upward surge of mankind.
In this scene, Michael Douglas, playing corporate raider Gordon Gekko in Wall Street, tells a room full of shareholders why he believes in greed.
What I learned: Wait. Time out. Didn't I just say that emotions such as greed should be ignored? Yes, I did, but hear me out. Sometimes greed is good. When Michael Douglas says greed is good, he's talking about how greed induces the capital markets to seek out and profit from inefficiencies. Whereas Gekko used insider information, which is illegal (please don't try that at home), value investors should channel their greed into motivation for seeking out companies trading at below intrinsic value. When the market is inefficient, such as when American Express' (NYSE: AXP ) stock traded off almost 50% after the salad oil scandal in 1963, which was clearly a non-recurring loss and should not have cut the stock in half, Warren Buffett put 40% of his investment partnership's portfolio in the company. When you've done your homework and know all the angles, it's time to do what George Soros does and go for the jugular. Or as legendary Goldman Sachs' (NYSE: GS ) partner Gus Levy used to say, Yes, we're greedy at Goldman Sachs, but we're long-term greedy.Quote: I promise. I will never let go, Jack. I'll never let go.
In this scene, Kate Winslet in Titanic promises Leonardo DiCaprio (Jack) that she will never forget him as he meets his demise.
What I learned: Value investors should make the same promises to the stocks they hold. The simplest explanation for this is, investing with a longer-term horizon forces investors to become extremely selective and look for really, really, really cheap companies that will earn them superior investment returns for a long time. Better yet, making a good long-term investment means you don't have to put energy into reinvesting that money, which frees up time to find other undervalued companies. Best of all, an investment isn't taxed until it's sold, and long-term capital gains are taxed at a lower rate than short-term gains. This is a HUGE difference. Buffett's Washington Post (NYSE: WPO ) investment was bought for $11 million in 1973 and is now worth $1.3 billion. In other words, a single smart investment earned Buffett more than 20% annual returns for more than 30 years. Not only did he not have to work on finding reinvestment opportunities to earn that $1.3 billion, but he also hasn't had to pay any capital gains taxes.
I didn't realize that watching Titanic (because my girlfriend made me, of course) could be so beneficial to my development as a value investor, but there you have it. In summary, value investors should seek out free cash flow, be selectively contrarian, and buy to hold.
Here's a related article about what Borat can teach us about the capital markets.
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