As famed market strategist Richard Bernstein has pointed out, investors should pattern common stock selection after the investment style of the Mafia. What causes the Mafia to get such good returns? How do they spot opportunities? Why should we as investors in publicly-traded common stocks emulate their behavior near the end of 2017?
First, the Mafia invests in areas where no one else is willing to invest. Usually, in their case, it is because the business is illegal. Second, the Mafia demands very favorable terms and seeks high cash-on-cash returns. Many times, they are the only ones willing to provide capital. Third, the Mafia tends to let the investments come to them. Think of Sollozzo coming to the Godfather in the first movie in the series. He asked for an investment of $1 million and political protection for dealing drugs in the New York area. He offered 30% of the ongoing profits to Don Corleone.
John Maynard Keynes said the same thing to investors in publicly-traded common stocks: “Investing is the only sphere of life where victory, security, and success go only to the minority and never to the majority.” As we approach the end of 2017, a group of powerful technology companies have gained a historically and inordinate share of overall index returns. Simultaneously, the success of these tech giants has made certain industries nearly un-investable. In the eighth year of a bull market in stocks, these un-investable companies are getting blasted by tax-loss selling and treated like what they do is illegal. Retailers, old media, and pharmacy/drug distribution are good examples.
Out of this comes extremely favorable terms for long-duration common stock buyers. At Smead Capital Management, we invest in companies which fit our eight criteria for common stock selection and like the Mafia, are extremely attracted when offered unusually favorable terms. We want to buy companies with long histories of success that gush free cash flow, have defendable moats and are very profitable amid being attacked by today's most popular disrupters.
