Jack Schwager’s interview with Kevin Daly in Hedge Fund Market Wizards is another example of a trader who has literally nothing in common with my approach. Despite the radical differences in our approaches to trading, there were still plenty of things in the conversation that I found valuable. This shows us, once again, that certain concepts apply universally to all forms of trading.
Top Five Quotes from Market Wizard Kevin Daly:
He wasn’t afraid to keep buying. The way he responded taught me that you have to stay focused on the value of a business and see past exogenous crises events. Stocks get cheaper than fair value. It may be painful to buy into a panic over the short run, but over the long run, it can pay off if you are buying stocks well below their value. – Kevin Daly
Daly is speaking about his experience visiting with Chuck Royce during the 1987 stock market crash. He paints a clear picture of the difference between the calm manner in which Royce was operating compared to the shock and panic he saw in other managers he visited.
This is one of the best examples of keeping emotions in check that I have ever read. We all know that we need to avoid panicking and trading “on tilt,” but that is often easier said than done, especially for those of us that have not traded through major bear markets. The way Daly describes Royce will be a great reminder to stay calm during the next market crash.
I failed to appreciate that in a market where Internet stocks with little or even no earnings and minuscule revenues could magically levitate to stratospheric levels based on silly metrics like sales per engineer, there was no telling how high a “real company” like Newport could go. Later that year, the stock eventually topped out at $570 per share! – Kevin Daly
As a value investor, Daly makes it clear that this is not regret talking. He still prefers to buy undervalued companies and then exit those trades when the companies reach full value. He does not feel comfortable holding companies that he believes to be overvalued.
Of course, the example he is using here is a classic example of trend following. Ed Seykota would argue that there is no reason to exit a position that continues to grow the way Newport did here. This demonstrates for us, once again, that there are many different approaches that can be successful in the market, and at any time there can be traders with many different styles looking for very different things in a given market.
Good ideas don’t come that often. But the wider you cast your net through reading, screening, and speaking with others, the greater the likelihood that you will succeed in finding good ideas. – Kevin Daly
I believe that Daly made this statement in reference to finding undervalued stocks to invest in, but the advice has a much more broad appeal. The same could be said for trading approaches in general, or business ideas, or even dating. The wider you cast your net in any endeavor, the more likely you will be to find something worth while. Of course, the trick is being able to identify something worthwhile when you find it.
I think it’s easy to avoid value traps. The trick is to stay away from companies that can’t grow their cash flow and increase intrinsic value. If I think the business is a “melting ice cube” like newspapers, yellow pages, and video rentals, to name a few bad businesses, then I won’t invest in it, no matter how cheap it is. Conversely, if I invest in a business that can be purchased at a discount to its intrinsic value, and that value is growing, then all I have to do is wait and be patient. As Buffett says, “Time is the enemy of the poor business and the friend of the great business.” – Kevin Daly
In this comment, Daly is addressing a question about the fact that many value approaches lack a timing mechanism. There is no way to know when an undervalued stock will realize its full value, which leads many would-be value investors sitting in positions that aren’t making any money.
I found it interesting that Daly points out that he avoids stocks that have poor or declining business models. Traders like David Ryan and Mark Minervini would avoid these stocks as well. That means that traders with completely different approaches can all agree that stocks with lousy business models are not worth their time.
Some approaches predict when a stock will grow its earnings. Some approaches react to stocks that are already growing earnings. Some approaches strictly trade price moves (that generally result from earnings growth). I haven’t seen any approaches that focus on stocks with poor or declining earnings.
I try to keep emotions in check. Having a lot of emotion about investing doesn’t do you any good. – Kevin Daly
With this quote, Daly circles back to the emotions he talked about in the first quote. This was the biggest takeaway of the interview for me.
Learning how to separate emotion from trading has been a very tough thing for me, and I have certainly not mastered it at this point. However, I have come a long way from the dude who kept buying Coinstar a few years ago because it was supposed to go up. I let my emotions control my trading there. I wanted so desperately to be right that I couldn’t envision being wrong.