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Francis Chou Associates

“Find bargains and maintain discipline; if you can’t find bargains stay in cash…Stocks are very expensive. You have to be very careful these days…But I’m waiting for the market to break, so we can put our cash to work.” — Francis Chou

Francis Chou: Background & Bio

Francis Chou is the President of the Toronto-based Chou Associates Management Inc.  Chou immigrated to Canada from Allahabad, India in 1976 and his rags to riches background is a great example of his disciplined nature and drive for success.

When Chou arrived in Canada, he was 20 years old and had only $200 in his pocket. Chou landed a job with Bell Canada as a telephone repairman. He was quite ambitious and felt that he wanted more from life than being a telephone repairman. Despite having only a 12th grade education, Chou liked to read a lot. He became interested investing after reading books written by Ben Graham, such as “The Intelligent Investor: and “Security Analysis“.

In 1981, Chou started an investment club along with six of his Bell Canada co-workers. The club started with $51,000 and managed to turned into $1.5 million over the next five years.

In 1984, Chou left Bell Canada and became a retail analyst with GW Assets, where he met another notable investor Prem Watsa, who was also an immigrant from India.  After 18 months with GW Assets Chou left and joined Prem Watsa at Fairfax Financial Holdings Limited, as one of its original investors.

In 1986, Mr. Chou turned the investment club into Chou Associates Fund.

Francis Chou: Investment philosophy

Chou’s investment Philosophy can best be summed up in two words “Buy Bargains”. Of course, buying bargains is no simple matter. Chou can best be categorized as a value investor. Some people have called him a bottom fisher; however, he will typically look for stocks that display the following characteristics:

  • Above-average to excellent companies as measured by high ROE in excess of 15 percent sustained over 10 years or more.
  • Companies run by skillful managers as measured by good controls maintained on receivables, inventory and fixed assets.
  • Prudent deployment of capital as measured by a company’s capital expenditures, judicious acquisitions, and timely buybacks of its depressed shares.
  • A stock price which is far lower than what a knowledgeable rational buyer would pay.

Chou is a highly disciplined investor and would much rather hold onto cash than overpay for a stock. He looks to purchase stocks in companies that fit into one of these three characteristics.

Companies with “Special Situations”. When he says Special Situations he means companies that are facing short term problems that have caused investors to overreact.

Companies whose shares are “CRAP”. These are companies that cannot realize a profit. Chou believes that investors will run from companies that have losses thus leaving the stock undervalued.

Companies that are well run and have the potential for strong earnings growth but for some reason are trading for less than they are worth. This approach is similar to Warren Buffett’s, and is the investing tactic that he uses most often. When using this tactic  Chou rolls up his sleeves and does long hours of company research. He will need to know the following about the company:

  • Does it have a strong balance sheet?
  • What is the company’s cash flow position?
  • How well does the company rank when compared to its peers?
  • Is the company is run well and does it have good management?
  • Why the stock is trading below intrinsic value, and are the problems short term?

Below are some thoughts from Chou that give an insight into his thoughts on investing:

  1. Chou thinks most investors make the mistake of buying a stock because its price is going up instead of buying stocks when they are on sale – the way people like you buy their groceries or other merchandise.
  2. Chou wants his investments to be made with a margin o safety. He wants to buy a stock when it is selling for a discount of 40 percent to 50 percent from his estimate of the company’s value.
  3. Chou has no problem with making a large bet when he has conviction and a large margin of safety. At one point, he had 16 percent of his fund in Sears Holdings. Chou estimated that the company’s real estate holdings were worth $40 to $50 per share, and Chou was able to buy it at $25 per share.
  4. “Chou does not attribute his investing success to having a high IQ.” “George Athanassakos, professor of finance and the Ben Graham Chair in Value Investing at the Richard Ivey School of Business, thinks that Chou might be right: perhaps he’s not outperforming because of superior intelligence, better connections or charisma. Maybe it’s because Chou’s natural disposition just happens to be a perfect match to the investing style he’s chosen.”

Before purchasing distressed securities, he asks the following questions:

  1. What would be left if the company was forced to liquidate?
  2. How competent is the management?
  3. Is the underlying business strong enough to generate consistent cash flow?
  4. Does the company have a strong enough balance sheet to make it worth the risk?

Chou’s strategy when purchasing debt is similar to the strategy he uses when purchasing stocks.

In recent years Chou’s investments have not performed very well but the stock market in general has not performed well either. He always invests for the long term and his current investments may well turn out to be big winners.

Chou remains committed to buying battered or out-of-favor stocks. He believes that “If you stick to the principle of value investing, things will work out well for you”. Over time, Mr. Chou has proven himself to be one of the great investors.

Francis Chou Associates Management

Francis Chou (who was selected as the Canadian Fund Manager of the Decade by the Canadian Investment Awards program) runs the Chou Associates Management Firm which manages assets totaling over $1 billion. The firm was first founded in 1986.

From Chou Associates Management’s website:

The investment process followed in selecting equity investments for the Funds is a value-oriented approach to investing. This involves a detailed analysis of the strengths of individual companies, with much less emphasis on short-term market factors. Far greater importance is placed upon an assessment of a company’s balance sheet, cash flow characteristics, profitability, industry position, special strengths, future growth potential and management ability.

The level of investments in the company’s securities is generally commensurate with the current price of the company’s securities in relation to its intrinsic value as determined by the above factors. That approach is designed to provide an extra margin of safety, which in turn serves to reduce overall portfolio risk.

The Manager may decide to maintain a larger portion of the Fund’s assets in short-term fixed income securities during periods of high market valuations and volatility. This temporary departure from the Fund’s core investment strategy may be undertaken to protect capital while awaiting more favourable market conditions.

Chou works alone and refuses to follow the trends set by other investors. If he thinks that the market is too expensive, he is willing to hold a large percentage of cash assets. He has been known to hold over 40% of the firm’s assets in cash. Mr. Chou does not invest in commodities. He also avoids high tech stocks which he calls “high wrecks” and real estate.

Track record of Francis Chou’s various mutual funds.

Annualized Returns

Chou Compounded Annual Rates of Return

Annual Rates of Return

Chou Annual Rates Of Return

Francis Chou’s shareholder letters – Chou Associates Fund 1997-2013.

Excerpt from Chou’s year-end 2013 letter to investors:

“After the distribution of $3.29, the net asset value per unit (“NAVPU”) of a Series A unit of Chou Associates Fund at December 31, 2013 was $111.46 compared to $81.20 at December 31, 2012, an increase of 41.3%; during the same period, the S&P 500 Total Return Index increased 41.4% in Canadian dollars. In $U.S., a Series A unit of Chou Associates Fund was up 32.2% while the S&P 500 Total Return Index returned 32.4%…

The 20-Year Lesson Learned

We believe that the market is currently fairly valued and we sincerely doubt the overall returns from equities in general over the next five to 10 years will be compelling. On the contrary, we believe the returns may be far more modest than those hoped for by investors. Not only are the P/E ratios and price-to-book values still high and dividend yields low relative to historic valuations, but the number of companies that are underpriced is at an all-time low. In light of this scenario, and with its obvious lack of bargains, we would not hesitate to sell our investments and be 100% or 50% cash — or whatever the number may be. We were looking to see how many funds have been able to beat the markets on a long-term basis, and found a piece written by Burton G. Malkiel named “Some Timeless and Timely Investment Lessons” which highlights the difficulties of competing with, much less beating the S&P 500 Index. Based on his findings on the returns of 358 equity funds, only three equity funds were able to outperform the market by 2%-3%, and one sole equity fund beat the market by 3%-4%. No equity funds were able to outperform any higher than that…”

Francis Chou: Holdings

Chou Associates Fund; summary of the Fund’s portfolio as at September 30, 2014.

Chou fund holdings Sept 2014

Francis Chou: Quotes

“While we agree that investing in non-investment grade securities can be tricky, we have not shied away from them when we believe their prices provide us with an attractive return and adequate margin of safety. Although we have made our share of mistakes, over the long-term, we have been pleased with our results.”

“Be aware of the risks involved, including that of the manager who does not have a long history of investing heavily in that area. Caveat emptor!”

“The first step to getting out of a hole is to stop digging.”

“If you know how to spot a bargain it will make you a good investor”

Francis Chou: Articles

Francis Chou: Videos