Mohnish Pabrai, managing partner of Pabrai Investment Funds, speaks during the Value Investing Congress in New York. Photographer: Daniel Barry/Bloomberg News
Since inception, Mohnish Pabrai has beat the stock market by triple digit returns. What was the key to his success? Pabrai would argue nothing unexpected or surprising. In fact, he attributes his massive success to a keen sense of cloning other super-investors like Warren Buffett and Charlie Munger. On the investing podcast, Pabrai discussed a range of topics to help explain his way of thinking and methods for achieving such strong performance.
Preston Pysh: [2:29] You have an IT background that not a lot of people know about. Would you have taken a different career path if you had found value investing first?
Mohnish Pabrai: In my undergraduate studies, I was an engineering student with deep interests in business. So even though I was an engineering major, I took a lot of classes in the business school. I noticed that I was outperforming business majors in my accounting and finance classes, and after a few classes, one of my professors even advised that I should major in finance instead of engineering. However, in my twenties, my impression was that business was easier than engineering. Business courses came easily to me, and I wanted to stay with my challenging engineering classes. About 10 years later as an engineer running an IT company, I found out about Warren Buffett quite randomly while reading a book by Peter Lynch. My decision to sell my company and to start investment partnerships was not driven by greed for money; it was because I realised my true calling. Life is a very random journey, and the lesson I have learned is that we must be a little adventurous and willing to take risks when new interests arise. The first part of my career was not a waste of time. I am a better investor because I am a businessman. The reason I found my college finance classes simple was not because I was smarter than my classmates, but it was because my father was a small entrepreneur. Growing up, my brother and I were like his board of directors as we figured out how to keep his business running with available resources. By the time I was 19 years old, I had so much business experience helping my father that it was as if I had finished several MBAs. When you find your calling, you need to go all in. Most great business leaders have had significant experiences related to business growing up. This is because the human brain is set up to develop the most during adolescence. The sad thing about our society is that we expect children to be good at everything — instead, I think there is a tremendous advantage to let children specialise at early ages.
Stig Brodersen: [16:57] You said in an interview that you do not like to have analysts. I suspect that the reason might be because one would unconsciously be influenced to invest in a company simply for the sake of investing not necessarily because it is the right decision.
Pabrai: Before starting my own investment funds, the only models I was aware of were those of Warren Buffett and Charlie Munger. Their models made a lot of sense to me, so I cloned them. There are several aspects to the way Warren and Charlie run their business. What I discovered only several years later was that their rules were not random. Rather, they were thought through intensely. One of the rules they hold is that they have no analysts and even today, Buffett does not have analysts. This might seem odd for a huge company like Berkshire Hathaway. I used to assume that this decision was based on keeping costs low and focusing more on performance. Later I realised that it is advantageous to not have an investment team because having analysts means you are missing out on learning about the businesses you are investing in. Buffett has said previously that no part of the investment process should be outsourced. A young analyst has once told me that he was assigned to study U.S. railroads. The problem with this is that the question should not be which railroad company is the best to invest in. It should be which companies are the best investment options out of all the possibilities of various different industries.
Brodersen: [23:14] Even if you have 13F filings from other fund managers as a source of inspiration, do you still talk to your friends like Guy Spier about your investment picks?
Pabrai: I used to not talk much to anyone about my investments. But I remember when I met Charlie in 2009, he told me that it is very important for an investor to have people to talk to. Talking to people is beneficial if you can identify the right people to share ideas and discuss decisions because everyone has blind spots, and others can sometimes catch yours. I think an investment team is a bad idea, but it is a good idea to talk to trustworthy individuals who do not have biases or interests.
Pysh: [27:22] What is the most profound experience you have had with Warren and Charlie?
Pabrai: First, when I was in third grade, I had very low self-esteem. I remember always feeling lost in school, and I still recall being ranked 67 out of 70 on my report card. I figured that I did bad in school because I was a below-average person. This continued until ninth grade. I switched schools often, but I went to a very good school with high-caliber students in ninth grade. The school performed an IQ test in our class, and surprisingly, I ranked number one with a perfect score. When I asked the test giver how my test score was so high but my grades were bad, his answer was simple; I was smart but I was not applying myself. With this realisation, I just took off. Every few months, my ranking in the class moved up. By the time I graduated high school, I was ranked third, and when I graduated college, I was number one in my class. Charlie has repeatedly complimented me as an investor. I am in disbelief because I naturally have a low self-esteem. However, even though I do not believe what he tells me, I believe in his belief. Charlie and Warren have provided me with many different perspectives and helped me build my confidence. Second, both Warren and Charlie have set up their lives very strategically. They execute everything carefully according to their systems. For example, Warren believes that the real control he has is in the selection of the CEO of the business. He believes that he cannot tell the CEO what to do — he can only pick the person. They are successful because they have relied on their wisdom, not their smarts, to simply make less mistakes than others.
Brodersen: [1:02] Despite your massive success, you humbly call yourself a “cloner” of other fund managers. How can we learn to follow Buffett and Munger’s footsteps?
Pabrai: Warren and Charlie have been very generous as they have shared a lot of their wisdom in the public domain. The first question for people that want to follow the footsteps of Warren and Charlie is are you wired for it? The psychological template of who you are as a person is determined by genetics and early childhood experiences, which cannot be easily changed. If you are wired to be a high-speed trader, you are probably not going to be happy with Warren and Charlie’s style of investing. Figuring this out is not easy as it takes effort to evaluate the choices of how you spend your time and the amount of satisfaction you get from doing certain activities. Warren and Charlie have an intense passion for reading and learning new things. If that is also a part of your intrinsic personality, then you are on the right path of following Warren and Charlie. It is not a path for everyone, but people can certainly pick up great habits to align with their approach.
Preston: [4:20] I think that Warren and Charlie understand credit cycles better than most people think, and there is a large amount of cash on the Berkshire Hathaway balance sheets. What are your opinions on it?
Pabrai: Warren and Charlie have a very simple system. They are not trying to hoard cash. If a sensible opportunity shows up, they will simply put the cash to work. They are not particularly concerned with what happens in the economy or the country in the short term or even in the long term. Rather, they execute solely based on the understanding of the business. If you analyse Warren’s purchase of BNSF Railway, it reveals his understanding of the infrastructure of the railroad industry. The company was sold to him at such a high value in terms of its true intrinsic value that it did not matter what happened in the economy in the short term. Now, BNSF is worth three to four times more than what Warren paid for. Warren and Charlie spend the most of their time in figuring out the business. I truly believe that they understand a lot of the macro, but that the micro trumps the macro in their perspective. They are seeking to purchase businesses well below the intrinsic value with strong staying power.
Pysh: [9:05] Where do you think Warren and Charlie are drawing a threshold on the value of returns?
Pabrai: They are not concerned with the details of the S&P 500 or the 10-year treasury. They are looking to purchase exceptional assets with great managers. If you look at Warren’s purchase of Coca-Cola in 1988 up to now, the economic cycles are irrelevant. It is the performance of the business that matters. It is hard enough to figure out the future of the business. Do not try to figure out the future of the country or the world, focus on the business.
Brodersen: [11:20] Berkshire Hathaway just bought holdings in airline companies. The interesting thing is that based on the enterprise multiple, the companies have actually looked attractive right before Berkshire bought them. What are your thoughts on the airline industry?
Pabrai: The airline investment is a good example of how Warren only selects the manager and does not interfere with the business itself. Many years ago, GEICO did not accept American Express as a payment method. Berkshire had a large holding in AmEx, so the AmEx CEO contacted Warren to ask the CEO of GEICO to answer his call. Warren declined because he did not want to interfere between GEICO and AmEx. Warren told the CEO of AmEx to continue trying but that he would have no say in this interaction. I think the airline situation is similar to the railroad situation in that the industry has bad economics. There is a duopoly in purchasing aircraft, the workforce is unionised, and the products are commodities. You have no control over fuel prices, which means that you are unable to control a third of your operating costs. However, many of these things are no longer issues. For example, I do not think we will see high fuel prices for a long time because the United States is a swing producer. The United States cannot be controlled because thousands of entrepreneurs make the decisions. The airlines used to be a brutally competitive industry with a lot of players, but now we are left with a few, leaving it to be an oligopoly of a sort. Airline CEOs are now more focused on profits than the market share, so I think the industry is in great shape right now.
Brodersen: [18:27] Could you tell us why you recently chose to invest in Southwest Airlines and not in other airline companies?
Pabrai: I have analysed at all the airlines, but Southwest Airlines is an extremely unusual company. For a long time, Southwest blew the performance of Berkshire Hathaway even though the airlines is a volatile industry. Southwest has an unusual culture. They do not allow any type of art on the walls of their headquarters. Instead, they only allow pictures of the employees’ friends and family. When Southwest hires, they are far more concerned with the psychological makeup of the person than his or her capabilities. They believe they can teach capabilities but cannot change psychology. I feel happier riding coach on Southwest than flying business on American or United. I do not know why that is, but the thing is, Southwest is a happy place. They have hired a certain type of people that have the freedom to make the aircraft a happy place. Other companies have tried to copy Southwest, but they could not make it work because it is almost impossible to clone their culture.
Pysh: [24:28] What was your biggest learning lesson from a mistake you have made?
Pabrai: Mistakes and adversities are blessings. When I look back in my life, I learned the most when I made mistakes. I made one of the biggest mistakes just before I started the Pabrai Funds. I thought I had found a way to ride the dotcom boom, and I raised $4 million in capitals, and of that value, $2.2 million was my own. The outside investors and I all saw that go to zero. We lost the $4 million and we all felt terrible. But I believe that the profits of over $100 million we saw in the next several years would not have been possible without the initial loss. It was a good thing to get hit hard at that time.
Brodersen: [29:19] Could you recommend a few books for our audience?
Pabrai: If I’m not allowed to include Graham and Buffett’s books, then I would suggest people read Poor Charlie’s Almanack. It is a book I try to reread every year. I find a new insight every time I read it. Business autobiographies are also really good resources. For examples, Sam Walton’s book, Made in America, provides great insights into the industry.
This Mohnish Pabrai interview was conducted on The Investor’s Podcast. If you would like to learn more about Mr. Pabrai, he has a blog called Chai with Pabrai and he has recently created a new ETF called Dhandho Junoon ETF.
The original article, authored by Preston Pysh appears on Forbes.com and is available here.
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