Joel Tillinghast is nothing if not persistent, which explains how an obscure economist came to launch the market-beating Fidelity Low-Priced Stock fund nearly 28 years ago. In the early 1980s, he made a series of phone calls to superstar Peter Lynch’s Boston office. The famed manager of the top-performing Fidelity Magellan fund tells the story in his foreword to Tillinghast’s new book, Big Money Thinks Small. Lynch writes that his secretary eventually put Tillinghast through, saying there was a “sweet guy” from the Midwest who kept calling. She thought he might be a farmer. Lynch said he’d give him five minutes. An hour later, he said, “We’ve got to hire this guy.”
Since the fund (ticker: FLPSX) launched on Dec. 27, 1989, it has returned 13.8% a year, compared with 9.6% for its benchmark, the Russell 2000 index, and 9.7% for the Standard & Poor’s 500. It is a quirky proposition, to use a value style to pick stocks priced below $35, then waiting for the market to recognize their promise. The fund currently owns 889 stocks, and Tillinghast could tell you about every one of them.
A deeply thoughtful man, of medium height, with a shock of graying blonde hair, Tillinghast, 59, is an ardent reader and gardener. In his Beacon Hill backyard, he keeps hydrangeas, tomatoes, basil, rosemary, and a Japanese maple. Managing money, he says, is like planting a crop. “You plant a seed. It takes time to see results. Sometimes you can just contemplate the plants, and as long as they aren’t howling for water or sun, you can just enjoy them and watch. But they do need weeding and nurturing and attention.”
Tillinghast joined a group of future stars at Fidelity that orbited around Lynch, people like Will Danoff and Jeff Vinik. Danoff would go on to run Fidelity Contrafund (FCNTX), the firm’s largest actively managed fund; Vinik would go on to run Magellan (FMAGX) and later his own hedge fund and become a part-owner of the Boston Red Sox.
Peter Lynch owned more than a thousand stocks, and top analysts regularly came through his office. But Tillinghast distinguished himself with his discipline and unflappable demeanor. In a vote of extreme confidence, Lynch and Ned Johnson, the firm’s chairman, gave Tillinghast their own money to manage, seeding Low-Priced Stock. He was just 31 years old.
A Wesleyan College graduate with an MBA from Northwestern University’s Kellogg School of Management, Tillinghast worked at Value Line VALU 2.2235576923076925% Value Line Inc. U.S.: Nasdaq USD17.01 0.37 2.2235576923076925% /Date(1502485200155-0500)/ Volume (Delayed 15m) : 587 P/E Ratio 16.022984174830444 Market Cap 161557747.980347 Dividend Yield 4.232804232804233% Rev. per Employee 188929 More quote details and news » as an analyst and at Drexel Burnham Lambert and Bank of America BAC -1.077943615257048% Bank of America Corp. U.S.: NYSE USD23.86 -0.26 -1.077943615257048% /Date(1502485221369-0500)/ Volume (Delayed 15m) : 65621350 AFTER HOURS USD23.87 0.01 0.041911148365465216% Volume (Delayed 15m) : P/E Ratio 14.202380952380953 Market Cap 237595999751.311 Dividend Yield 2.0117351215423303% Rev. per Employee 464942 More quote details and news » as a research economist. From there he went to Fidelity. He is legendary for his work ethic. He’s frequently in the office late at night and on Saturdays. He reads company documents on all the stocks in his fund and all the ones he’s looking at, too. And he focuses on stocks with low price/earnings ratios, with decent returns on equity and a history of cash flow-generation, with sustainable business models and runway to grow. And he rarely sells: Turnover is just 9% a year.
“I always said I was a stockpicker, but I used a macro blueprint to help guide me. Joel is singularly focused on finding good companies,” says Vinik, who tried to hire him for his hedge fund. Tillinghast said, no, thanks; he liked the resources at Fidelity—where company managers traipsed in and out all day, and he could work with 25 dedicated small-cap analysts and 135 global analysts—too much.
Adds Jim Lowell, an authority on Fidelity funds and an investment advisor whose clients have nearly $400 million invested in Low-Priced Stock, “Joel has consistently been able to outperform his benchmark time and again, and he’s crushed the S&P 500, even with the albatross of 40% of his portfolio in foreign stocks. That’s one way you can really understand you’re in the presence of a truly skilled stockpicker.”
Several years ago he embarked on Big Money Thinks Small, which will be published this week by Columbia Business School Publishing. He had been in Tokyo at a company meeting in 2011 when the massive earthquake struck. A favorite uncle died a couple of days later. And friends of his were in financial distress after borrowing money to bet on story stocks that they barely understood. He wanted to share what he had learned, so he took a four-month leave and started to write.
“I don’t think that any investing book can turn a reader into Warren Buffett,” he says. “But I do hope my book will help most readers be a bit better than average by avoiding pitfalls and mistakes.”
He has, he says, come to learn that a huge part of investing is knowing your limitations and avoiding mistakes, “the stuff that drags down returns.” One way to do it was to study the mistakes of others—and, of course, his own. At Drexel, Tillinghast tried to develop a stock market timing system, using his own money. He failed miserably. That set the stage for him to devote his life to picking stocks instead.
It’s precisely to avoid mistakes that Tillinghast likes to quote Berkshire Hathaway Vice Chairman Charlie Munger’s saying, “Invert, always invert,” which suggests looking at a problem by working backward. When Tillinghast meets a CEO, he avoids questions about the near term, or how big the company will be in 10 years. Instead, he asks, “What causes companies in your industry to fail?”
That’s a question others at Fidelity now ask when companies come to visit Fidelity’s 14th floor. Tillinghast’s long-term orientation and his inclination to trade less are widely admired. “Joel has had a profoundly positive influence on me,” says Danoff.
Tillinghast recently sat down with Barron’s for a wide-ranging interview on the eve of the book’s publication. For an even deeper dive, check out an excerpt on Barrons.com, and pick up his book.
Barron’s: What’s it like to run a $40 billion fund?
Tillinghast: I’ve tried to be a dancing elephant or a whale subsisting on plankton; I’ve adapted to not being particularly nimble and made up for it with support from a lot of people and by taking a longer-term view. Peter Lynch was amazing, because he could take a very short-term view and suddenly shift to a longer-term one. That didn’t really work well for me.
Do you still get the same thrill from picking stocks that you did 25 years ago?
Yes, when I’m right. Seeing the future is impossible, but it’s a thrill when you see it a little better than others.
How do investors get tripped up?
As a curious person, I can understand why you would say, “Wow, Elon Musk is just so cool.” But that doesn’t make his stock a Buy. Can you estimate what the future will bring? How much do electric-vehicle sales depend on infrastructure that we don’t have? Have they really solved the range issues? What does Tesla do that General Motors GM 0.143348623853211% General Motors Co. U.S.: NYSE USD34.93 0.05 0.143348623853211% /Date(1502485240311-0500)/ Volume (Delayed 15m) : 6359892 AFTER HOURS USD34.92 -0.01 -0.0286286859433152% Volume (Delayed 15m) : P/E Ratio 5.550435390580309 Market Cap 50827416868.9661 Dividend Yield 4.35156026338391% Rev. per Employee 733009 More quote details and news » can’t? If you are in a place like Massachusetts with high electricity costs, what is your cost per mile driven compared with gas? How do you convert that into an estimate of future cash flows? That said, Elon Musk is a very cool man.
What key lessons from running your fund have you incorporated into the book?
Finding and sticking to a range of competency is a big one. I had no idea how to understand American International Group AIG -0.5555555555555556% American International Group Inc. U.S.: NYSE USD62.65 -0.35 -0.5555555555555556% /Date(1502485210335-0500)/ Volume (Delayed 15m) : 3657891 AFTER HOURS USD62 -0.65 -1.037509976057462% Volume (Delayed 15m) : P/E Ratio N/A Market Cap 56914578369.1406 Dividend Yield 2.043096568236233% Rev. per Employee 952996 More quote details and news » when it went into the financial crisis. Another is management quality. I’ve had more experience with company-specific crooks than I cared to. Another is obsolescence risk. I invested in Baldwin Piano. When my sister moved, she had to pay someone to take her piano away.
I want to show people how not to be stupid, rather than telling them how to be brilliant. I’m hoping my book will allow the average person to be an above average investor.
What is the role of the active manager today? What will a good active manager look like in 10 to 20 years?
The role of an active manager is to not invest emotionally. Robo-advisors are probably a great idea, but we won’t know until we see if people stay the course when the market is down 40%. Active managers stick to what they know, know what they own, and think about that more consciously. They also evaluate management on their integrity and capital-allocation skills. A quant screen could tell you that two companies with earnings up 20% are equally good. But an active manager will be able to say one of them is wildly cyclical and the other is not. Or a business that’s going through obsolescence—active managers can gauge the sustainability of earnings. Most of the quants are all about fast-moving, high-frequency data. They aren’t really thinking about where earnings will be in five years. That’s the role of active managers. What a company is worth is a mosaic. A P/E or a price-to-book doesn’t tell you what something is worth. It still takes a human to tell you that. The role of active managers is to think about obsolescence and value.
Let’s talk about the FANG stocks.
They aren’t in my benchmark, but they’re a source of deep frustration for small-cap investors. In the ’90s, when Apple had a huge product cycle coming, there were a dozen other stocks you could pile into. Today I have just one—Hon Hai Precision Industry [2317.Taiwan], a contract manufacturer. The Russell 2000 has a lot of victims of Amazon. AMZN 1.1568365171592192% Amazon.com Inc. U.S.: Nasdaq USD967.99 11.07 1.1568365171592192% /Date(1502485200210-0500)/ Volume (Delayed 15m) : 3424400 AFTER HOURS USD968.75 0.76 0.07851320778107213% Volume (Delayed 15m) : P/E Ratio 245.68274111675126 Market Cap 459685226062.842 Dividend Yield N/A Rev. per Employee 439731 More quote details and news » How do I participate in Amazon? Maybe through forwarders and shippers like UPS. UPS 0.4688063469166967% United Parcel Service Inc. Cl B U.S.: NYSE USD111.44 0.52 0.4688063469166967% /Date(1502485210480-0500)/ Volume (Delayed 15m) : 2052953 AFTER HOURS USD111.67 0.23 0.20638908829863603% Volume (Delayed 15m) : P/E Ratio 27.380835380835382 Market Cap 96142569030.5652 Dividend Yield 2.979181622397703% Rev. per Employee 144422 More quote details and news » But Amazon plays them against each other and beats them up on pricing. If all the action is in Facebook, FB 0.4062126642771804% Facebook Inc. Cl A U.S.: Nasdaq USD168.08 0.68 0.4062126642771804% /Date(1502485200423-0500)/ Volume (Delayed 15m) : 13629741 AFTER HOURS USD168.15 0.07 0.041646834840552115% Volume (Delayed 15m) : P/E Ratio 38.287015945330296 Market Cap 485850527793.378 Dividend Yield N/A Rev. per Employee 1945860 More quote details and news » Amazon, Tesla, TSLA 0.694991558806978% Tesla Inc. U.S.: Nasdaq USD357.87 2.47 0.694991558806978% /Date(1502485200178-0500)/ Volume (Delayed 15m) : 4317121 AFTER HOURS USD358 0.13 0.036326040182189066% Volume (Delayed 15m) : P/E Ratio N/A Market Cap 59311636438.678 Dividend Yield N/A Rev. per Employee 566241 More quote details and news » small caps don’t have much relative attraction.
How does this market feel to you?
How do you describe a party where everybody is sloshed but nobody is having any fun? People look for a very short list of stocks where biographies of the founders are selling copies. They buy ETFs: Markets flow differently because people express bullishness by buying an index ETF. Then there’s the sobriety of people who lost bundles of money in the ’08-’09 crash and are looking for yield and not finding any, so they look at highly levered tobacco stocks. There’s more desperation than euphoria.
You hang on to positions for so long that even people who’ve worked for you for 10 years can’t figure out your sell discipline.
I sell when I think a stock is at its intrinsic value and when I don’t have much confidence in my estimate. One of the stocks I’ve held is Ansys [ANSS]. Do you want to test what happens to an airplane wing when the wind is hitting it a particular way and it’s raining? Ansys ANSS 0.19558308206340153% Ansys Inc. U.S.: Nasdaq USD122.95 0.24 0.19558308206340153% /Date(1502485200154-0500)/ Volume (Delayed 15m) : 317974 AFTER HOURS USD123.3129 0.3629 0.29516063440422935% Volume (Delayed 15m) : P/E Ratio 39.533762057877816 Market Cap 10401022427.1292 Dividend Yield N/A Rev. per Employee 369221 More quote details and news » has the software. It has a great leading position in a growing market. But it’s a high P/E of 32. I mostly haven’t sold because there is a very long runway.
Where are you finding value today?
Japan still has the biggest pockets of value, partly because the number of listed companies isn’t that much smaller than in the U.S., despite a population that’s only 40% as big. We own Dvx [3079.Japan], which trades at 13 times trailing earnings and distributes cardiovascular products. It has a debt-free balance sheet, a pile of cash, sales and earnings have been growing nicely, and the aging population in Japan needs more medical care. We also own Central Automotive Products [8117.Japan], which distributes specialty products for automotive cleaning and coating and has grown moderately. It has a P/E of 11, a 2.3% dividend yield, and cash is 30% of the stock price.
In Korea, I like Nice Information & Telecommunications[036800.Korea], a credit-card payment network. It is debt free and trades at seven times earnings. We also like Korea Electric Terminal[025540.Korea], which makes connectors and sensors, including for airbags. They have grown nicely, and may benefit from more electronics in cars and the Internet of Things. It trades at 11 times earnings and is debt free.
Europe has some pockets of value as well. In Ireland, we own a house builder called Abbey [ABBY.Ireland] that sells for one times book value and seven times earnings. They have basically no debt. The Gallagher family owns a lot of stock, so its interests are tied with ours.
And I like Norwegian sparebanks [savings banks] generally, and in particular Sparebank 1 Øestlandet[SPOL.Norway], a conservative underwriter, with low loan/value ratios and a very strong capital position. The bank hasn’t had a loss year since World War II. It is trading just above book value, 11 times earnings, with nearly a 5% yield.
Anything in the U.S.?
Pretty much all the things in the U.S. are like retail, where there’s more mortality risk than I’d really like. The next recession will probably be triggered by the bankruptcy of a major retailer. Sears Holding SHLD 1.4857142857142858% Sears Holdings Corp. U.S.: Nasdaq USD8.88 0.13 1.4857142857142858% /Date(1502485200258-0500)/ Volume (Delayed 15m) : 733182 AFTER HOURS USD8.88 % Volume (Delayed 15m) : P/E Ratio N/A Market Cap 938577489.852905 Dividend Yield N/A Rev. per Employee 150321 More quote details and news » [SHLD], for example, still has more employees than the entire coal industry. That’s a problem for retail REITs and a lot of employment in smaller towns.
The offerings of bargain-priced stocks are so few and far between. If the best opportunity that you really understand is selling for 110% of its intrinsic value, should you buy?
What is your advice for young people who want a career in investment management?
Don’t do it unless you really are fascinated by stock markets. Don’t do it if you are afraid to hold unpopular opinions and to contradict people. You can make a lot of money in this business, it’s true, but it’s exhausting if you don’t. You won’t be very good if you don’t hold cussed and sometimes wrong opinions. And just because you get good feedback today doesn’t mean you are doing the right thing.
Money management is contracting. There is a role for humans. Quants haven’t thought much about the long term. That’s the opportunity. It’s a great adventure and I would probably still do it. But I would have to think longer about it if I were 25.
What are you reading?
I’ve just finished Deep Work, by Cal Newport. The takeaway is that everything really valuable comes from deep work and concentrated attention. Don’t overindulge in social media. I’m partway through Adaptive Markets by Andrew Lo. Sometimes investors are trying to act rationally for an environment that no longer exists.
I’m still trying to learn from my mistakes. I saw a sign in Orlando 25 years ago that said “Bungee Jumping! Perfect safety record. $80.” Down the street was a sign that said “Bungee Jumping! $40.” As a value investor, I still don’t know which was best.
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