This conversation is part of our special series, Intelligent Investing 100. Every week for one hundred weeks we bring you an exclusive segment with a recognized thought leader in the field of investing. Stay tuned for a new release every Thursday at 11:30am ET.
We continue this series with insights from Edgar Wachenheim III, chairman of Greenhaven Associates, a firm Ed founded in 1987. Greenhaven had assets under management of more than $9 billion as of early 2024, having handily beaten the major market indices over nearly four decades. Ed is also the author of Common Stocks and Common Sense.
In this rare fireside chat, held at MOI Global’s Latticework summit in 2018, Ed shares timeless insights into the art of contrarian, value-oriented investing. This approach, while neither popular nor particularly exciting, has served Ed and his investors spectacularly well over several decades. In a get-rich-quick world that ultimately fails to deliver, Ed has succeeded in building massive wealth slowly and methodically over time.
Ed spoke about his investment philosophy with fellow fund manager and MOI member Saurabh Madaan, founder of Manveen Asset Management and former managing director of Markel Corporation.
The following transcript has been edited for space and clarity.
Saurabh Madaan: I could not be more delighted with the opportunity to have a conversation with someone I look up to. He’s a truly special person, a fantastic investor successful by all yardsticks you would want to apply. I feel so privileged to have had the opportunity over the last two or three years to meet with him, interact with him, and get to know him.
Ed Wachenheim is a graduate of Williams College and Harvard Business School, where he was a Baker Scholar. After three years at Goldman Sachs, he joined Central National Corp. as an analyst and then portfolio manager. In 1987, he founded Greenhaven Associates. He’s a value investor, married, with four children and six grandchildren. His interests include modern art, tennis, the outdoors, and photography.
Ed is the vice-chair of Central National-Gottesman, an international paper company with revenues of about $6 billion. He is also the chairman of WNET (National Education Television), trustee and chair of the finance committee of the Museum of Modern Art, as well as life trustee of the New York Public Library and Skidmore College.
I should also mention that one of my prized possessions is a book written by Ed Wachenheim, Common Stocks and Common Sense. I have an autographed copy which I cherish, and I like it a lot. This is a fantastic book because many times, we talk about theories and concepts. This book talks about stocks as case studies. Thank you so much, Ed, and welcome!
Edgar Wachenheim: Thank you for that generous introduction.
In late 2015, Delta Airlines purchased a 777 airplane for $7.7 million. A new plane sells for close to $200 million. There were a lot of used 777s around on the market at that time, and a number of hedge fund managers jumped on this. So did a friend of mine, who shorted or sold the stock on the basis that if there are a lot of 777s around and they’re selling for low prices, many airlines will cancel their orders with Boeing for new airplanes and buy an inexpensive 777. After all, they can fix it up and it will be just as good. Boeing’s stock declined late in 2015 and into 2016, trading below $120. This was below 10x what the company could earn two years hence. The analysts were focused on this one negative and were emotional about it. A year and a half later, the stock had doubled and is selling at about triple that $120 price.
At about the same time, Airbus, the competitor of Boeing, not only was tarnished with this concept that there were too many wide-body airplanes around but also was having startup problems with its A320 airplane. Such problems are quite common. In the case of Airbus, they included not getting a sufficient number of jet engines from Pratt & Whitney and lavatory doors and seats for the A350 airplane. The stock of Airbus fell to about $55. It is now selling at about twice that. Again, analysts were focused on the two negatives of the wide-body planes and the startup cost and ignored everything else.
Currently, I think General Motors is selling at not much above $35. The short-term, negative concept is that automobile sales in the United States, which are running at about a 17 million car rate, are too high and will come down, and therefore, stay away from General Motors. We look at it differently. First of all, it’s not an automobile company anymore. It’s a truck company – its revenues are $65 billion, and over 60% of its profits come from pickup trucks, commercial vans, and SUVs on truck bodies, not automobiles. It should be General Motors Trucks. The truck business, where General Motors and Ford have enviable positions with barriers around it, is a great one, with operating margins typically at 16%, 17%, or 18%. Thus, you have this company with an excellent business selling now at 6x, 7x, 8x earnings, (depending on what you use), and we think it could earn $8 two years hence, which would be less than 5x for a great company. Again, the analysts have focused on one negative at the expense of everything else.
One other example could be the home builders. My friend who shorted Boeing in early 2016 has been shorting the homebuilders this year, and they are down 15% on fears that interest rates will end the housing cycle. Interest rates are one consideration, but there are many others. We’re underbuilt as a nation. Lennar, which I consider an extremely well-managed company and strongly positioned within the industry, should earn maybe about $8.50 per share two years hence, and its stock is selling in the low 50s. It’s down about 15% this year. The home building industry is improving. I’d say it was not a particularly good business 10 to 15 years ago because it’s asset-heavy. However, it is becoming an asset-light business because the companies are purchasing much less land. They are following a company called NVR, which for years has purchased very little land. As a result, it has had large cash flows, which it reinvested in purchasing its own stock. Lennar, in my opinion, should now be selling at 13x, 14x, or 15x earnings, and if you multiply that by $8.50, you’ve got a home run, if I can use a baseball analogy.
I’ve noticed this over the years. I’ve been in this business for a long time. Analysts and portfolio managers constantly over-focus on short-term negatives, and usually one short-term negative, not considering in their own minds all the other positives and all the other fundamentals of a company. I started to ask myself why they did this. Since they do it over and over and over again, I think it is part of their DNA. It’s hardwired. People become emotional; they become short-term-oriented, and I think often too negative.
How did it become part of their DNA? I have a thesis for that. Our DNA today is about 99 point something the same as it was 200,000 years ago, when we were hunter-gatherers. What happened when we were hunter-gatherers? Let’s take this room and divide it in half. The left-hand side has the emotional people who are short-term-oriented. When they see a negative situation, they want to react and react immediately. The other half of the room has hunter-gatherers. They are part of a different band, more intellectual, not as emotional, and not as short-term-oriented. They weigh all the considerations. Let’s say it’s a beautiful evening, and they are all gathered around. They’ve got a fire going, some pigs roasting, some fruit and some nuts. It’s been a wonderful day, and things are really great. All of a sudden, a scout comes and says, “Help! There’s another band out there. They are two or three times as many as we are. They’re heading in this direction. They look mean and stronger than us. They’re carrying spears and clubs and have paint on their faces. I’m really worried.” What happens? The emotional, short-term side of the room says, “We’re out of here,” and they flee in a negative reaction to a short-term event. The other side tends to stay and say, “Let’s think about it. We’ve got this pig here. It’s a beautiful evening. Maybe they’re not going to come here. Let’s see if they get closer. We’ll take a look. We can always get away later on. Maybe we can talk to them and negotiate,” and they stay.
Over a 200,000-year period of time, this scene probably happened 10 or 20 times a year, millions of times. Enough of the times, that band out there looking like enemies were enemies, and those who stayed got defeated, killed, or, even worse, eaten. The emotional and short-term-oriented group were the survivors, so the gene that survived over 200,000 years was the emotional, short-term, negative gene. The right gene to survive as hunter-gatherers is the wrong gene today to survive and do well as investors, and that’s my thesis. I can’t prove it, of course; I can’t go back and be a hunter-gatherer. There wasn’t a recorded history at that time. But it seems logical. It seems that so much of human behavior is genetic and goes back to the time we were hunter-gatherers. There have been some books written about this.
As investors, the only thing we can do about it is realize this and then spend time analyzing ourselves. About 10 or 15 years ago, I realized I spent countless hours analyzing companies and industries and almost no time analyzing myself as an investor. How do I think? What decisions do I make? Why did I make them? What have I done right? What have I done wrong? What can I do better? How do I spend my time? I think most of you would admit that you don’t spend enough time analyzing yourself as an investor. Self-analysis is a difficult thing to do, but it helps overcome some of the negative attributes of being in our business, of being emotional and short-term-oriented. I’ve been doing a lot of thinking about this.
Madaan: You say in one of the first chapters of your book that you have a method for taking the pulse of the market, seeing where it is in terms of normalized levels as far as the S&P 500 is concerned. Could you share what you think of the market today and talk a bit about the methodology?
Wachenheim: We never have an opinion on the market. If I did, I’d be wrong. I studied mathematics in college, and from a mathematical point of view, there are just too many variables when it comes to something like the stock market. When we look at an investment, I like to stay I’m buying the stock because of one of two things. If there tend to be 10 or 20 things, there’s a greater chance I can be wrong. If I could identify the variables to analyze them and come to some reasonable conclusion, and then to know what everybody else already has concluded about the market (for example, I think the market is too high, but everybody else already thinks so as well), this piece of information is not good. If I could do all that, then there’s going to be some new piece of information I never thought about – and nobody’s ever going to think about – that would upend all previous considerations.
It’s not productive to predict what the market is going to do. We simply have a trend line for it: If the market’s above trend line, we become more cautious. If it is below the trend line, we become more aggressive, if anything.
Let me give you an example. The market is clearly above trend line today. I was looking at the stock of a company I knew earlier this week. The first thing I did was look at the balance sheet, and it had become more adverse. The company has made two acquisitions since we bought the stock; it has more debt and a lot of goodwill. Given the height of the market, I’m more risk-averse than normal. I’m just not going to spend any time on the company. That’s what we do.
Madaan: One of your recent interviews – I believe it was with Jim Cramer – was headlined “The best investor you’ve never heard of.” In this interview, you mentioned Citigroup and Goldman Sachs. Can you share your thoughts on those?
Wachenheim: Frankly, we’re having a field day today. Value stocks have been out of favor, and our stocks are really out of favor. Citigroup is so simple. We had our own projections of getting to somewhere between $8 and $10 per share in 2020. This is what we do. We look out two years. We judge the quality of the company, the cash flow, and everything else others judge, and we put a PE ratio on that, which becomes our goal. Then, in July 2017, management had a presentation, and in their own projections (this is before the decrease in corporate taxes), they had us going from roughly $5 per share for the 12 months ended June 2017 to $9 a share for 2020. We didn’t take the numbers at face value. We scrubbed them, and we came out with the same logical conclusions they did. Half of that gain comes from share repurchases. The company has a big DTA, meaning it’s generating more cash than it’s reporting for earnings. It’s over-capitalized, and it is buying back a lot of stock. It was just given permission by the Fed to distribute to shareholders $22.6 billion worth of cash.
Madaan: The market cap is $160 billion relative to that, roughly.
Wachenheim: It can buy back $22.6 billion paid out in dividends. I think it’s going to do $17.6 billion in share repurchases for the next four quarters. It’s a big percentage of the outstanding shares. But if you look at the company, it’s a pretty darn good one. It has a division called Treasury and Trade Solutions, which contributes about 18% of the company’s earnings. That’s a great business. Citigroup and JPMorgan dominate globally in that. It has to do with some complicated transactions related to trade. It has an investment banking business that has about 9% of earnings, and that business takes almost no capital, so it generates a lot of free cash flow. What’s the risk in that business? I would put a 15 or 16 multiple on that. If you put a 10 multiple on all the rest, the company’s worth 12x or 13x earnings. It was $9 a share based on a 33% tax rate. The tax rate now is 24%, so that adds $1.20. We’re estimating between $9.50 and $10 in 2020. If anything, it’s ahead of schedule. It’s maybe a $120-$130 stock, and it is today about $71. It’s a field day.
Madaan: Do you see similar stuff in Goldman Sachs?
Wachenheim: Not quite as exciting in Goldman Sachs. You’ve got a parallel situation of having two really good businesses in investment banking, where Goldman is a giant. To me, that business is worth 20x earnings. It earns about $7.50 per share. Then, there is investment management, which is a good business, but Goldman isn’t doing a very good job of it. Still, it has got $1.5 trillion under management, and that generates about $3.50 per share. Let’s say you put a 15 multiple on that. You put a 10 multiple on its market making, investing, and lending, and we think the earning power of the company is about $29 per share. In the first six months of this year, it ran a $26 per share rate, just a little under. Put a 13 multiple on $29, and you’ve got a $400 stock. It’s about $240 today.
The important thing, the thing that gets me excited, is that you’re buying a high-quality company with a strong balance sheet, and really strong management with a deep edge. I mean, Goldman hires among the best and the brightest in the nation year after year, and some of those stay and reach the top. I used to work at Goldman Sachs. I’ve known some of the people around the company, and they are fabulous people. This close after the financial crisis, I worry less about Goldman Sachs doing things I would not approve of in terms of risk-taking. To me, it’s an exciting opportunity.
Madaan: There is or appears to be a short-term misunderstanding or pessimism about issues facing some of these businesses. In your book, you talk about your friend, whom you call Danny Dinner Date, who would want to wait for the first sign of things turning around. Could you share some of those thoughts?
Wachenheim: Danny Dinner Date, whom I actually had breakfast with, is a really smart and intelligent man, and smart and intelligent are two different things. He’s a graduate of Yale and did great academically there, but he’s a mediocre investor. He’s too short-term-oriented, too emotional, and too negative short term. He makes mistake after mistake, and I talk to him about them because I want him to learn. But he keeps making them and saying, “You’re right. I’m going to do it differently in the future,” and then he makes these mistakes again. This is why I think so much of investing is behavioral to begin with, but hardwired secondarily.
Madaan: You talk about that behavioral aspect in the book. You say sometimes it takes a number of years for the prices of undervalued shares to increase to their intrinsic value or be brought by positive events. How important is patience during that time, and in the interim, how do we distinguish being patient from being incorrect?
Wachenheim: Number one, you’ve got to train yourself to be patient, and you have to train your clients. Luckily, I’ve got one huge client, one family, and they understand it, so I don’t have to train them. You can’t make short-term decisions to please your client because you want to sell a stock that looks bad or to have good performances. You make a lot of mistakes doing that. Having the right clients and training them becomes mandatory for taking this longer point of view. When we bump into an unanticipated problem, we go back, look at the company and say, “Is this still a sound company with one little problem here, or did we just make a mistake?” If you made a mistake, you’ve got to recognize it, reverse yourself and sell the stock.
Whirlpool would be an example of a solid company with a temporary problem. To us, this is an extremely strong company that has encountered an integration problem. It acquired a European company called Indesit and is having much worse startup problems than it ever thought it would, so its current earnings are hurt. With Whirlpool, 60% of revenues and the bulk of earnings come from the United States, and the company is doing great in the United States. It’s also doing well in other countries. You don’t sell a stock because a business is doing badly in one part of the world, where its problem is startup cost that can be resolved as opposed to having a bad position, being obsoleted by competition permanently, or some other permanent problem. It’s a temporary problem.
