The Manual of Ideas: Strengthening Idea Generation Process

I’m a value investor, and one that is not doctrinaire about a narrow set of principles.  Yes, I like my eight rules, but they are broad principles that admit a lot of flexibility. The Manual of Ideas introduces readers to a wide number of ways to source investing ideas that may offer value.  There are nine main areas that they highlight:

The Manual of Ideas Book Review

1) One can invest in a small number of stocks that are worth more dead than alive.  Net-net stocks show places where the downside is minimal, and profits could be made if either the company turns around or liquidates.

2) Sometimes companies obscure their value because they do multiple things.  The company would be more valuable broken into its constituent parts, which would get a higher  valuation in aggregate.

3) You can follow the magic formula, and buy stocks that have high returns on equity and low P/E ratios.

4) You can own stocks managed by talented managers, and I admit that maybe 7 of the 37 stocks I hold fall into that bucket, and I will not readily sell them.  The question is how you find those managers.  That’s not easy, and involves industry knowledge which is not available to all.

5) You can own stocks owned by smart investors, and I admit that I track this every quarter.  I get a lot of good ideas from them, but I like to look at the ideas that are cold, because they offer more potential.

6) Buy teensy stocks that no one follows, that are making money and have legitimate business models.  You can’t put a lot of money to work that way, but if you get it right, it can add value.

7) Buy companies that are undergoing a structural change that adds value.  Example: a petroleum refiner decides to spin off a pipeline Master Limited Partnership.

8 ) Buy highly indebted companies that offer the potential of huge gains if the idea works out.  Screen out companies that are more likely to lose it all.

9) Buy international companies — the scrutiny and competition are less — you may find something genuinely cheap, but make sure they play fair with outside passive minority shareholders.

There are some very good methods here, but what should you decide to pursue?  That is the one weakness of the book.  The book gives you a significant but not exhaustive tour of the ideas behind value investing.  What would have added a lot is an integrated chapter on when it is best to pursue each set of ideas. It is difficult enough for professional investors to know which method is best at a given time, much less amateurs.  The time of investors, both professional and amateur, is limited.  It would be a great aid to figure out how to prioritize the methods or ideas.

Also, more emphasis on margin of safety would have been useful.  We can never get too much of that.

But I would recommend this book strongly to all investors.  It will strengthen your idea generation processes.

Quibbles

Already expressed.

Who would benefit from this book: Most investors would benefit from reading this book.  It will aid them in idea generation.  If you want to, you can buy it here: The Manual of Ideas: The Proven Framework for Finding the Best Value Investments.

Full disclosure: The publisher sent me the book after asking me if I wanted it.

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By David Merkel, CFA of Aleph Blog



About the Author

David Merkel
David J. Merkel, CFA, FSA — 2010-present, I am working on setting up my own equity asset management shop, tentatively called Aleph Investments. It is possible that I might do a joint venture with someone else if we can do more together than separately. From 2008-2010, I was the Chief Economist and Director of Research of Finacorp Securities. I did a many things for Finacorp, mainly research and analysis on a wide variety of fixed income and equity securities, and trading strategies. Until 2007, I was a senior investment analyst at Hovde Capital, responsible for analysis and valuation of investment opportunities for the FIP funds, particularly of companies in the insurance industry. I also managed the internal profit sharing and charitable endowment monies of the firm. From 2003-2007, I was a leading commentator at the investment website RealMoney.com. Back in 2003, after several years of correspondence, James Cramer invited me to write for the site, and I wrote for RealMoney on equity and bond portfolio management, macroeconomics, derivatives, quantitative strategies, insurance issues, corporate governance, etc. My specialty is looking at the interlinkages in the markets in order to understand individual markets better. I no longer contribute to RealMoney; I scaled it back because my work duties have gotten larger, and I began this blog to develop a distinct voice with a wider distribution. After three-plus year of operation, I believe I have achieved that. Prior to joining Hovde in 2003, I managed corporate bonds for Dwight Asset Management. In 1998, I joined the Mount Washington Investment Group as the Mortgage Bond and Asset Liability manager after working with Provident Mutual, AIG and Pacific Standard Life. My background as a life actuary has given me a different perspective on investing. How do you earn money without taking undue risk? How do you convey ideas about investing while showing a proper level of uncertainty on the likelihood of success? How do the various markets fit together, telling us us a broader story than any single piece? These are the themes that I will deal with in this blog. I hold bachelor’s and master’s degrees from Johns Hopkins University. In my spare time, I take care of our eight children with my wonderful wife Ruth.