Walter Schloss' 16 Investment Principles
Discover 's 16 investment principles that guided his success as a superinvestor. Learn actionable rules for disciplined, value-driven investing.
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This time I want to share with you Walter Schloss’ “Factors needed to make money in the stock market”. Walter wrote this great piece of his investment principles back in 1994.
So I'm going to share with you the summary of his principles and at the end of the post, you’ll be able to download Schloss’ full document.
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Walter Schloss may not have the same level of fame as Warren Buffett or Benjamin Graham, but within the value investing community, he is considered one of the greats. Schloss, who managed to achieve compounded annual returns of 15.7% over 45 years, was a disciple of Benjamin Graham and a firm believer in the power of simplicity and discipline in investing.
Despite his remarkable track record, Schloss kept a low profile, preferring to let his results speak for themselves. His approach was grounded in a deep understanding of value investing principles and a steadfast commitment to his investment philosophy. This post will delve into the 16 key principles that guided Walter Schloss throughout his illustrious career, offering insights into how these principles can be applied by today’s investors.
By the end of this post, you’ll have a clear understanding of the fundamental rules that helped Schloss consistently outperform the market. These principles are not just theoretical ideas; they are practical guidelines that can help any investor, regardless of experience level, build a strong, value-driven portfolio.
TL; DR
Focus on price and value, not speculative earnings predictions.
Successful investments require time; avoid the temptation to rush.
Companies with minimal or no debt are inherently safer.
Holding a variety of stocks helps mitigate risk.
Target stocks trading below book value or near their 52-week lows.
The Simple Rules of a Superinvestor: Walter Schloss’s 16 Investment Principles
Price is the most important factor to use in relation to value
Schloss believed that the price you pay for a stock relative to its intrinsic value is the most crucial factor in investing. He focused on buying stocks at prices that were significantly lower than their intrinsic value, ensuring a margin of safety in his investments. This principle is at the core of value investing, where the goal is to buy undervalued assets and hold them until the market corrects its valuation.
Try to establish the value of the company
Understanding that a share of stock represents ownership in a real business, not just a piece of paper, is fundamental. Schloss emphasized the importance of thoroughly understanding the true value of a company. This involves analyzing the company’s assets, liabilities, and overall financial health to determine its intrinsic value.
Use book value as a starting point
Book value, which is the net value of a company’s assets, was a key metric for Schloss. He often looked for companies trading below their book value, as this typically indicated that the market was undervaluing the company. Walter also emphasized ensuring that a company’s debt did not exceed 100% of its equity, as high debt levels could signal financial instability.
Have patience
One of Schloss’s most important traits was his patience. He understood that stocks don’t always rise immediately after purchase. Instead, he was willing to wait for the market to recognize the value in his investments. This patience often led to substantial gains over the long term.
Don’t buy on tips or for a quick move
Walter warned against buying stocks based on tips or the expectation of quick gains. He believed that such behavior was more akin to speculation than investing. Instead, he advocated for making decisions based on careful analysis and long-term value, leaving short-term moves to the professionals.
Don’t sell on bad news
Reacting to bad news can lead to hasty decisions that may not be in the best interest of long-term investment goals. Schloss advised against selling stocks purely because of negative news, suggesting instead that investors reassess the fundamentals of the company before making any decisions.
Don’t be afraid to be a loner
Value investing often involves going against the crowd. Schloss wasn’t afraid to be contrarian, buying stocks that were out of favor with the broader market. This independent thinking often allowed him to find bargains that others overlooked.
Be careful of leverage
Schloss was wary of companies with high levels of debt. He understood that leverage could magnify losses just as easily as it could magnify gains. For this reason, he preferred to invest in companies with little to no debt, as they were generally more stable and less risky.
Buy assets, not earnings
Earnings can be manipulated, and relying on them can be risky. Instead, Schloss focused on the value of a company’s assets, which are generally more stable and predictable. By investing in companies with solid asset bases, he aimed to minimize risk and ensure that his investments were backed by tangible value.
Look for low P/E stocks
A low price-to-earnings (P/E) ratio can indicate that a stock is undervalued. Schloss often looked for companies with low P/E ratios as part of his investment strategy. This approach aligns with his broader focus on finding undervalued stocks that the market has overlooked.
Check insider ownership
High insider ownership was a positive signal for Schloss, as it indicated that the company’s management had a significant personal stake in the company’s success. This alignment of interests between management and shareholders was an important factor in his investment decisions.
Diversify
Schloss was a strong advocate of diversification. He often held up to 100 different stocks in his portfolio, which helped spread risk and reduce the impact of any single investment going wrong. While he believed in concentration in stocks he understood well, he also recognized the importance of having a broad enough portfolio to withstand market volatility.
Limit losses
Schloss believed in cutting losses early to preserve capital. If an investment wasn’t performing as expected, he was willing to sell and move on rather than holding onto a losing position in the hope of a turnaround. This discipline helped him avoid significant losses over his career.
Sell when you reach your target
Schloss typically sold stocks after they had risen by about 50%. This simple rule helped him lock in gains and reduce the emotional component of investing. By setting a clear target, he removed the temptation to hold onto stocks for too long, which could result in missed opportunities or losses.
Don’t worry about being perfect
Schloss understood that it’s impossible to always make the perfect investment. Instead of waiting for the ideal opportunity, he focused on finding good opportunities that met his criteria. This pragmatic approach allowed him to keep investing and compounding returns, rather than getting stuck in analysis paralysis.
Trust yourself
Finally, Schloss believed in trusting his own analysis and instincts. He made investment decisions based on his research and understanding of the companies, rather than following market trends or outside opinions. This confidence in his own judgment was a key factor in his long-term success.
Summary
Walter Schloss’s 16 investment principles offer a roadmap for anyone looking to succeed in value investing. His approach, characterized by simplicity, patience, and discipline, stands as a powerful testament to the enduring value of these principles. By focusing on price relative to value, avoiding debt, and diversifying wisely, Schloss built a track record that remains impressive to this day.
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Schloss was a great investor, but of a different era. His thinking was not too dissimilar to that of Benjamin Graham, but they lived in a time when companies were rich in tangible assets. This approach is not easy to read across into today's investment landscape.
- Buy assets, not earnings:
This is really difficult to apply in practice to a business which has developed something inhouse, which has been expensed rather than capitalized and so doesn't even appear on the balance sheet. Consider Coca-Cola's secret recipe. If the business was ever acquired, that asset would appear as Goodwill on the acquirers balance sheet and it would be enormous, but it doesn't appear on Coca-Cola's balance sheet at all. The same is true with tech companies. The issue is that accounting was designed to facilitate tax collection, not to facilitate investing.
-Look for low P/E stocks:
This is a fallacy. In 2022 Ford had a trailing P/E of around 5. It is a solid company with a remarkable history and at that P/E it looked cheap. Yet if you had bought it in 2022 at $20 a share you would be down almost 50%. Contrast this to Amazon, which many avoided for years because its P/E appeared to be eye-wateringly high, and you would have done remarkably well. $10,000 invested in Amazon at its IPO would be worth more than $25 million today. This article explores the fallacy of price centric investing in greater detail: https://rockandturner.substack.com/p/the-fallacy-of-price-centric-investing
-Diversify, Schloss often held over 100 stocks in his portfolio
This contrasts with the approach of Buffett and Munger who always said “Diversification is protection against ignorance. It makes little sense if you know what you are doing.” They backed this up by asking, 'why would you put money in your 25th favourite company when you could instead put it in your top two or three?' This speaks to the opportunity cost inherent in investing - the only time that you should diversify across 100 companies is if you are not able to assess opportunity cost - in which case you shouldn't be investing! In truth, there are very few good companies worth investing in over the long term and so if you find them, you swing hard and bet big. This idea was explored in greater detail in this article which reveals that long term stock market returns are driven by only 4% of companies https://rockandturner.substack.com/p/the-4-of-companies-worth-holding
-Use book vale as the starting point
This is old fashioned thinking. Buffett moved away from using book value in the mid twenty-teens. Think about Apple. It's book value has reduced by over 50% in recent years (primarily because equity has been destroyed through overpriced buybacks to offset egregious stock based comp), but does that make it a bad company? It's market cap has more than doubled over the same period.
I could go on, but I think that the point has been made.
I welcome your comments.