Arquitos Capital Partners returned 15.8% net of fees and expenses in the third quarter of 2014, bringing the year to date return to 41.0%.
Learning how to think really means learning how to exercise some control over how and what you think. It means being conscious and aware enough to choose what you pay attention to and to choose how you construct meaning from experience. – David Foster Wallace
Dear Partner:
Arquitos Capital Partners returned 15.8% net of fees and expenses in the third quarter of 2014, bringing the year to date return to 41.0%. The fund has cumulatively returned 121.6% since inception on April 10, 2012 through the end of Q3 2014.
Fundamentally investing is about decision-making. Analytical research provides the foundation to properly inform decisions, but research by itself isn’t enough. After research provides necessary information, judgment must be applied.
Arquitos Capital: Investment strategy
Better research helps, of course, but the bigger challenge is to learn how to become a better decision-maker. The proper environment is important. That means not paying attention to the commotion from CNBC or the opinions of superficial thinkers. Ignore the day-to-day noise. Intellectual honesty is crucial. Without it, how can we learn the right lessons? Being more self-aware helps as well. What are our strengths and weaknesses? Are we humble enough to review past decisions without emotional baggage?
It’s particularly difficult to become a better decision maker as an investor, because in investing it is particularly easy to reach the wrong conclusions. The feedback loop is often skewed. On occasion we can be right, but lose money, and on other occasions we can be wrong, but make money.
We can only control the inputs: The conclusions reached from the research and the decision to buy or not. We can’t control the price. The stock of a company may be overvalued, but it can, and often does, get pricier. There was no mistake to pass on the purchase of that company despite the fact that it would have made money. Alternatively, there may be a company that is cheap and has good prospects where something beyond the control of the investor, and even management, can cause the end results to be negative.
Arquitos Capital: Improving the odds of success
We have to play the odds that over the long term the underlying investment philosophy will succeed despite occasional short-term hiccups or irrationalities. The partnership has had a very, very nice run since inception, but the nature of the markets makes it inevitable that there will be difficult periods. Measure our results over a three to five year period, and don’t get caught up in the monthly or quarterly results, good or bad.
Because we can only control the inputs and not the results, it helps significantly if we can trust the decision-makers at the company we are invested in. We can improve our odds of success if there is confidence that the decision-makers are likely to make good decisions. We can also improve our odds of success if proper incentives are in place for them to make good decisions.
As investors, we are outsiders and as much as we try to learn how the day-to-day operations at a company are going, we don’t fully know. We don’t know all of the threats to that business, or their opportunities. We have to rely on the managers to, first, not do anything stupid and, only after that, take advantage of opportunities or protect against threats by properly allocating the company’s capital.
Arquitos Capital: SWK Holdings’ NOLs
SWK Holdings Corp (OTCMKTS:SWKH) is a company that encapsulates this well. It’s another of our holdings that has a significant amount of Net Operating Losses (NOLs). These NOLs offset the company’s tax liability and when properly understood are a very important asset. NOLs not only allow more cash to accumulate, they also provide the incentive to the company to focus on proper capital allocation.
See full Arquitos Capital Partners – Q3 2014 Investor Letter in PDF format here.
