IMA is not for everyone. I'm fine with that!

How great alignment with clients creates the perfect recipe for long-term compounding. (And I get to drive my kids to school.)

You can listen to a professional narration of this article below:

Article available in Spanish here.

Today I am going to do something I rarely do: share a note I received from an IMA client and my rather lengthy response. For obvious reasons I removed any private information about the client and changed his name to “John”.

There are many investment lessons, and more importantly, insights about how to choose a money manager in the letter below. I’ll provide additional thoughts on the topic in the postscript after the letter.

Here’s the email from the new investor with IMA, “John”:

We transferred $3M to you to invest on our behalf 3 months ago,

As of yesterday the $3M had increased by 3.3% plus or minus, to $3,105,000

During the same period, the S&P Index, which we could have invested in via Vanguard (with whom we have an account), had increased by 8% plus or minus. If the same $3M had been invested there, the value now might be $3.24 million plus or minus. This comparative difference has maintained itself over the 3 months (we check our Schwab account frequently).

So how do you think we feel at this point? I appreciate, from reading the notes from VK, that your team would probably respond that your investment choices are intended to weather the bad times ahead (SUV value stocks vs. sedan growth stocks).

The results are an incentive to invest any wehavenowelsewhere—andtoseriouslyconsiderreducingthe we have invested with IMA.

Dear John,

Thank you so much for your email. I am glad you emailed us now, early in the relationship, because this gives you an opportunity to take a corrective action which I’ll discuss at the end of the letter.

You are right, we are building an all-weather portfolio to handle any environment the economy sends our way. Our aspiration – whether we’ll achieve it or not only time will tell – is to do better than the broad market. However, this is not where our energy is focused: Our main goal is to preserve and grow your wealth over the long run. This may sound contradictory to our aspiration to do better than the market. It is not.

Over the last few decades, investors achieved good returns with ease, simply by buying a broad market index. This is unlikely to be the case over the next decade or two. Stocks are expensive, global debt is high, and future economic growth has more headwinds than tailwinds.

As you have noted, we have a portfolio of all-terrain SUVs. We don’t know when the terrain will turn from a flat, well-maintained highway into a rocky, rutty track. We are investing as if we were in the rocky part already. If the road ahead remains as it was over the last decade, then what we do will likely produce below-market returns. But if the excesses of the past catch up with the market and the economy, then our SUVs should handle the tough terrain while the sports cars will be left behind.

To finish first, first you must finish. We are focusing on the finishing part; being first (beating the market) would be a nice bonus.

But this is not why we are up 3% and the market is up 8% over the last three months. To be totally honest, I don’t know why our stocks are up, not down and the market is up 8% and not up or down 15% in the three months you’ve been with us.

Though the army of experts on CNBC may sound very confident and convincing when they opine on what the market will do over the next three months or years, nobody actually knows. Nobody! I’ll phrase it slightly differently. We simply don’t have the tools to predict the future or what our stocks will do in the coming months and years. Thus we don’t even try. I’ve been investing for more than two decades, and I am yet to meet someone who has done market timing successfully in the long run. And the behavior of stocks in the short run is completely random.

We are long-term investors. Actually, the preceding sentence has a redundancy – you cannot be an investor in the stock market and not have a long-term time horizon. We are investors. In our analysis we approach the stocks we own as businesses. Our attitude is not that we are buying digital bits stored on a mainframe, but real businesses. As we study each company, we analyze management, build financial models, try to “kill” the business, come up with a guesstimate (and it is a guesstimate) of what the company is worth, and then patiently look to buy the company at a significant discount to what it is worth. We do all this looking a decade out.

And then:

Every day we come to the office and Mr. Market – millions of investors – opine on what our businesses are worth by buying and selling them. We spend very little energy agonizing over these price changes, because they are completely random. The price you see today on any stock in your portfolio is an opinion, not a final judgment. In fact, our companies’ fair value changes very little every day. On average it may go up a tiny, tiny bit every day, since in the long-term (key word here) our companies will grow their earnings and accumulate cash. In the long run, stock prices should converge with businesses’ fair value. Historically they have.

You mention that you are monitoring your brokerage account “frequently.” You’ve said it with pride, like you are doing your part of the homework as a responsible steward of your family’s capital.

I can understand the intention, but I’d argue that looking at your portfolio daily will do you more harm than good. First off, what you are observing on a daily basis is complete and utter noise.

But it’s not harmless noise.

This noise has a net negative impact on your (and on anyone’s) mental state. We humans are wired in such a way that a 10% loss deals us more pain than the pleasure we experience with a 10% gain. In other words, when you observe your portfolio, in a span of three months, going from $3M to $2.7M, then to $3.3M and back to $3M, while your net worth has not changed, your emotional state has suffered a little. You would have been a lot better off if you had just looked at your account after three months and seen that your portfolio’s market value was unchanged.

Early in my career I was glued to the flickering stock market screen all day long. I thought it was a responsible thing to do. It took me a while to realize that I was poisoning myself with worthless, toxic noise that shrank my time horizon and made me less happy. Today I look at clients’ portfolios and our watch lists once a day. I do it for opportunistic reasons: I am looking to buy stocks on our watch list, add to stocks that have declined, and sell stocks or reduce positions that went up. I also don’t want to miss important news.

My advice to you and to all clients: Don’t look at your portfolio more than once a quarter. If you are a long-term investor, you have little to gain from it. We will suffer the toxicity of the stock market on your behalf; this is why you hired us.

When you hired IMA, you made a leap of faith. I am humbled by it and don’t take my responsibility lightly. I have both skin and soul in the game: The bulk of my family’s liquid net worth is invested in the same stocks you own. I don’t have any other equity investments. I pour every ounce of my soul into what I do. I love it! I am IMA, and so are the team of individuals who work here. I would not dream of doing anything else.

Hiring IMA should have liberated you from worrying about your nest egg. Worrying should be our problem.

Now, I’d like to address whether you have made the right decision in hiring IMA. We put a lot of effort into educating prospective clients on what we do and don’t do. Unlike other firms, which will take money from anyone who can fog a mirror, we are selective and request three things from clients:

1 - Buy into our investment philosophy.
2 - Have a long-term time horizon.
3 - Do their homework: read the in-depth letters I write three or four times a year.

The front page of the IMA website reads: “We grow your wealth. You don’t worry about the market.” These are not empty words to us, but neither the growth nor the worrying part will work if even one of the three things above is missing.

Your email indicates that though you entrusted your assets to us, you have not bought into our investment philosophy, nor do you have a long-term time horizon. The growth part will not work without those two things. You’ll end up doing what most investors do – buying high and selling low. This is why being the right fit with IMA is so important. I don’t want you to fire us when our portfolio is down, thus cementing your losses due to volatility. I don’t want what we do to end up harming you.

I don’t know if you have read my latest letter and the writeups on the companies we bought for you. If you have not, when you look at your IMA portfolio or statement, all you see is a collection of random tickers, not a carefully chosen group of businesses.

I spend 30+ hours on each letter I write to you for a reason: I want your portfolio to stop being Vitaliy’s portfolio and become John’s portfolio. Thus, when the market takes a 30% hit – and at some point, it will – the volatility of your blood pressure will not spike. You’ll understand that while their prices may have declined, what this carefully assembled collection of businesses is worth has not.

During the last three months we’ve been in a benign market – it actually went up after a significant decline. That won’t always be the case.

Based on your letter, I get the feeling that we are missing at least two out of the three, or maybe all three, of the required attributes for us to be a good fit. My advice to you is to seriously rethink our relationship. I am attaching our brochure in both PDF and audio formats. Please reread it carefully and evaluate if what IMA does and asks for from clients is for you.  If the answer is yes, we welcome a long and prosperous relationship.

If you decide to terminate our services, there will be no hard feelings from us. I won’t take it personally. We’ll help you to transition to Vanguard or wherever else you’d like to move your assets.

Enjoy Life and Prosper,

Vitaliy

My (Vitaliy’s) Additional Thoughts:

It is easy to villainize Wall Street and large investment firms. The mega-giant mutual fund complexes, which manage hundreds of billions of dollars, get very little sympathy. We can accuse them of having a short-term time horizon, hugging benchmarks, having no soul in the game.

They are all that.

But if you peel off a few layers from these corporate behemoths, you find that these companies are full of people who are just responding to incentives. Inflows and outflows of capital into their funds are driven by their short-term performance. They outperform the benchmark for 3 months, 6 months, a year, and they get inflows and thus huge bonuses.

Underperform and the capital will outflow into the fund of a competitor who had better short-term returns. In this game long-term doesn’t and cannot exist. If you stayed away from investing in dotcom 1.0 or 2.0, you did the responsible thing. Instead, you bought undervalued companies with real cash flows – and you massively unperformed your competition.

As a disciplined, value-oriented mutual fund manager, it was a financially rewardless activity.

When the dotcoms predictably turned into dotbombs, declining 70%, you celebrated a pyrrhic victory. Your mutual fund was up, and most importantly, you preserved your clients’ capital. The problem is just that 90% of your clients are gone.

Capital from your strategy seems to have flowed out to apparently “greener” pastures, which were actually just brown minefields painted green by the bull market. You’ve been fired by your firm as an old has-been after years of underperformance, and lack of assets to manage. You are divorced, trying to kick an acquired cocaine addiction, and your kids are driven to school in a fancy car by their new stepdad (who has great hair), that played the short-term dotcom game, wiping out his clients’ assets in the subsequent bust but raking in giant bonuses in the process. Now he’s starting a new fund with a slightly different name to capitalize on the latest fad, which won’t end well either but will make him even richer.

Alright, I may be overdramatizing a little here. Sure, some value mutual funds survived. But many others went out of business, and some large mutual fund companies removed the value investing style box from their product offering. But the point still stands: If you are playing the long game on Wall Street you had better be right in the immediate short term (and the next one and the next one) or you won’t have the capital to be there to see the long term.

So it’s rare to find someone playing a long-term game, but they do exist.

If you want to have a sustainable business and still have soul in the game, you’d better have the right clients. Clients who are fully aligned with what you are doing. Mutual funds don’t get to choose their clients. Their funds are bought and sold like canned soup in a grocery aisle.

Since IMA provides a service not a product, we have the opportunity to choose our clients. I say this, but it’s only partially true. What we have discovered over the years is that clients who come to us have usually read my articles for a while and thus have their eyes wide open about what they are getting into. Occasionally we get a client who is not a good fit for us, and we’ll ask them to reevaluate whether our services are for them, because we won’t change our fundamental approach to investing.

I will never be on the Forbes 100 list. IMA will never be the largest kid on the block. I am absolutely fine with both. But, I get to wake up in the morning, look in the mirror, and feel good about the decisions we are making for our clients. I get to work with wonderful people who have every ounce of their soul in the IMA game. And most importantly I get to drive my kids to school.

Post-Script:

John said that he “got the hint,” and we helped him transition his assets out of IMA.

Drawing is by my brother, Alex Katsenelson. Prints available on ArtistUSA.com.

Grieg Piano Concerto

Today I wanted to share with you the Piano Concerto in A Minor by Norwegian composer Edward Grieg, the only piano concerto he wrote.

It is one of those concertos that you have to listen to with eyes closed.  (That is why I am including it at the bottom of my article, not above).   I was going to write about Edward Grieg, but then I stumbled on Arthur Rubenstein’s performance of this piano concerto (he was 88 when he performed it), and then started reading about Rubenstein and found a wonderful obituary of Rubenstein from the NY Times in 1982.  There are a lot of great gems in it, so I’ll quote liberally from it.

Rubenstein was born in Poland to a Jewish family in 1887 and died in 1982 at the age of 95., For 85 of those years he played the piano in public.  He was extremely famous in his day.  He loved life … and women.  At the prime age of 90 he left his wife for a 33-year-old woman.

He once said:

"It is said of me that when I was young I divided my time impartially among wine, women and song. I deny this categorically. Ninety percent of my interests were women."

''What good are vitamins?'' Mr. Rubinstein demanded when he was asked, at the age of 75, to explain his youthful vivacity and fire. ''Eat a lobster, eat a pound of caviar – live! If you are in love with a beautiful blonde with an empty face and no brains at all, don't be afraid. Marry her! Live!''

Practice for its own sake, however, was not Rubinstein's notion of how to extract music from the printed notes. ''I was born very, very lazy and I don't always practice very long,'' he said once. ''But I must say, in my defense, that it is not so good, in a musical way, to over-practice. When you do, the music seems to come out of your pocket. If you play with a feeling of 'Oh, I know this,' you play without that little drop of fresh blood that is necessary – and the audience feels it.''

''At every concert I leave a lot to the moment. I must have the unexpected, the unforeseen. I want to risk, to dare. I want to be surprised by what comes out. I want to enjoy it more than the audience. That way the music can bloom anew. It's like making love. The act is always the same, but each time it's different.''

I can relate to the last paragraph.  I used to teach a graduate investment class at the University of Colorado.  After my first year teaching I stopped preparing for lectures.  I’d spend 20 minutes before the class thinking about what I wanted to talk about, and that was it.  That way, every time I taught I discovered something new for myself.

People like Warren Buffett and Arthur Rubenstein show us that it is always possible to become better at something you’ve been doing all your life.

[H]e recorded the Schumann ''Carnaval'' at 65; and when he recorded the piece 10 years later ''there was no question but that it was a better performance,'' in the opinion of Harold C. Schonberg, then The New York Times music critic.

"His colleagues consider him a miracle, geriatric experts mumble when they talk about him and nobody will put up much of an argument when he is called the greatest living pianist,'' Mr. Schonberg wrote on Rubinstein's 75th birthday….

One of his stories concerned the time he and Albert Einstein played a violin and piano sonata. The physicist missed a cue in one passage and came in four beats late. They started again, and once more Einstein missed the cue. Rubinstein turned to his partner in mock exasperation and exclaimed ''For God's sakes, professor can't you even count up to four?''

Click here to listen.

Also, you can watch a great interview with him when he was 90.  In this interview he talks about Grieg’s piano concerto (see minute 8).  When he studied in Germany in the early 20th century, “Grieg was considered a small fry … he was looked down upon.”  When Rubenstein came to the United States, he was asked to play the  “great Grieg concerto”.  His wife made him learn it. It took him three days, and then he recorded it.  He had Sergey Rachmaninoff at his house, and he remarked that Grieg’s piano concerto was the best concerto ever written.

Click here to listen.

Vitaliy Katsenelson is the CEO at IMA, a value investing firm in Denver. He has written two books on investing, which were published by John Wiley & Sons and have been translated into eight languages. Soul in the Game: The Art of a Meaningful Life (Harriman House, 2022) is his first non-investing book. You can get unpublished bonus chapters by forwarding your purchase receipt to bonus@soulinthegame.net.

Please read the following important disclosure here.