The objective of The Pabrai Investment Funds is, to over the long haul, beat all three major indices – Nasdaq Composite, DJIA and the S&P 500. To date, we have achieved these objectives. We also believe that in beating these three formidable benchmarks we would have beaten 90+% of mutual and hedge fund managers.
The reason for this objective is that most funds that have been allocated to this fund by investors would have ended up in public-equities in one form or another. The vast majority of fund managers underperform the broad indices. So a simple alternate strategy for an investor is put 100% of their investment in a given index. The ONLY reason for the existence of The Pabrai Funds is if the funds, over the long haul, outperform the indices. If that is the case then investors would have been justified in choosing this investment vehicle.
There are two types of investments the fund typically makes — investments in great businesses selling below their intrinsic value and special situations Investments.
Special Situations are investments that take advantage of market inefficiencies to generate market-beating returns. These include merger arbitrage, distressed securities, misunderstood and mispriced companies, distressed bonds, REITs in liquidation etc.
A good example of Special Situation investing was PIF2’s investment in Stewart Enterprises.
There are no options or derivatives etc. that the funds delves into at all. Typically the fund’s assets are divided between under 15 securities with the typical allocation for a given security being 10% of assets in the fund. The funds are permitted to use margin, and have historically used margin. As of September, 2002, all the funds ceased to employ the use of leverage and have no outstanding margin loans. There is no plan at this juncture to use margin or leverage in the future.
Before doing the rigorous analysis on a given company, Mohnish is looking for specific answers to the following three questions:
1. Do I understand this business well? Is it well within my circle of competence?
If the answer is no, the security is simply skipped over.
Is this a great business?
If you look at the universe at public or private companies, applying Buffett’s definition of a great business would mean a business that has some of the following characteristics:
Most businesses do not have ANY of the above characteristics and some may just have one of the above. A business that has more than one of the above characteristics is, by definition, rare.
If he finds a great business then Mohnish asks the third, and more difficult, question:
Is it on sale at a price well below its intrinsic value (IV)?
The combination of a great business and it being on sale is, by definition, an anomaly. Mohnish looks for these anomalies. When they occur, after rigorous analysis, Mohnish backs-up the truck …
There are two types of great business that are of interest to the funds:
1. Value. Great, compelling companies trading at very low valuations relative to their expected value in a private sale. These companies may have little to no annual growth, but tend to have a solid cash flow engine that’s highly predictable and are trading at very low multiples to earnings, cash flow and/or other metrics of value.
2. Growth at Reasonable Price (GARP) Companies. These companies, in high-growth markets, have shown a history of growing fast and are expected to continue to do so. They are also priced well below their Intrinsic Value, but probably not as cheap as the straight value plays.
Mohnish usually prefers GARP companies to straight value companies. The best returns will come from great, high growth companies that are available well below IV. Most of Buffett’s wealth has come from GARP-type businesses (Coca Cola, American Express, GEICO, The Washington Post etc.).
So value businesses remain in the portfolio till either:
1. They reach IV and are sold.
2. A better value business comes along.
3. A better GARP business comes along.
GARP businesses remain in the portfolio till:
1. They go well beyond IV. I hate to sell a good GARP business unless it’s well beyond IV.
2. A better GARP business comes along.
As important as our investment objectives is the type of investor we seek. The Pabrai Funds seeks out investors/Limited Partners who:
1. Are accredited investors or institutions as defined by the SEC.
2. Have a long-term orientation in investing and are comfortable getting a single data point every year on their investment.
3. Are very comfortable with the Pabrai Funds rules and understand Mohnish Pabrai’s capital allocation perspectives.