You Have an Advantage Over Institutional Investors

Bill Ackman is a stellar investor… His track record speaks for itself.

In 2002, the then-36-year-old Ackman rose to fame for shorting bond insurer Municipal Bond Insurance Association (“MBIA”). He noticed something amiss with billions of dollars in business linked to mortgage-backed securities.

His hunch paid off during the 2008 financial crisis, when he made $1.1 billion in gains for his hedge fund Pershing Square Capital Management.

Then in 2009, Ackman rescued the nearly bankrupt mall operator General Growth Properties. He netted a whopping $1.6 billion return on a $60 million investment.

But Ackman’s investor résumé includes both hits and misses. After astounding success for over a decade, Ackman put up a string of abysmal years. Those losses would have ended just about any other hedge-fund manager’s career. It didn’t stop Ackman though. That’s because, right before his rough run, he completed a masterstroke move that kept him in business.

And it’s a move that allowed him to act more like you – the individual investor.

You see, individual investors have several advantages over the biggest Wall Street titans…

Individuals don’t need to worry about losing support from their backers. They back themselves. And Ackman’s plan was to capitalize on that. But he had to be good to succeed.

Ackman started his fund, Pershing Square, in 2003 and pulled off double-digit returns in six of his first seven years. That period included the financial crisis of 2008. When the market fell 38% that year, Pershing Square only lost 13%.

By 2015, the cover of Forbes magazine dubbed Ackman a “Baby Buffett.” That year, Pershing Square’s assets under management soared to at least $16 billion. As a focused value investor, Ackman must have realized that, were his career a stock, it would have been priced extraordinarily high at that time.

That’s when Ackman developed a scheme to raise capital for his hedge fund in a publicly listed closed-end fund, or CEF, that trades in London.

You might be wondering what exactly a CEF is. Let me explain…

A CEF raises capital from investors. That capital is put to work by an investment team. Meanwhile, shares of that pool of capital trade on the open market. If investors want to get in or out of the fund, they sell their shares to someone else.

You see, a hedge-fund manager needs to convince institutions and high-net-worth clients to keep their capital invested with him or her. The best way to do that is to deliver returns that beat the market.

But even the world’s best investors have poor quarters and years. When performance lags, the capital flows out, leaving even good investors to struggle.

Ackman raised $3 billion in the CEF, which went into Ackman’s hedge fund. Anyone could own a piece of it by buying shares on the London exchange.

Here’s the key point… That CEF money doesn’t leave the hedge fund, meaning that it can’t be withdrawn. It’s permanent capital.

When Ackman’s losing streak started a few years later, the financial outlook wasn’t good. The fund lost 20.5% in 2015 and 13.5% in 2016. But that doesn’t really capture how bad the investment mood was.

Ackman lost billions in huge, high-profile investments, like the troubled Valeant Pharmaceuticals and a short of health-supplement company Herbalife Nutrition. And while he eventually turned 2016 around to a degree, he was down 25.6% in the first few months of that year.

While many investors would have liked to withdraw their funds (after whatever lockup periods they faced) during this losing streak, the capital in the publicly listed fund couldn’t go anywhere. It was locked in, so investors could not redeem their shares from Ackman. And that gave Ackman the freedom to keep pushing forward.

By having permanent capital, Ackman survived the rough years without getting shut down.

More recently, he has shown that he hasn’t lost his touch. The last two years have been phenomenal. That permanent capital has brought huge returns… 58.1% in 2019 and 70.2% in 2020.

But again, Ackman can only do that with permanent capital. Most fund managers wouldn’t have lasted this long without it. And here’s what I want you to understand…

You have permanent capital.

It’s your money, your capital, and it’s not going anywhere. You can either manage it and make good returns, or you earn 0.1% in a bank account. You won’t lose your money if you trail the market for a quarter or two.

This is one of the only advantages an individual investor has… and you need to capitalize on it right now.

Look, everyone knows this market is crazy. We all understand that stocks have premium valuations that can’t be sustained indefinitely… And many have valuations they can’t conceivably grow into.

Since you have permanent capital and don’t have to outperform the S&P 500 each quarter, you can invest through the cycle of ups and downs.

You can hold on to quality businesses while the market panics because of Omicron. You don’t have to give into fear (or give into greed by buying stocks with absurd valuations.)

In other words, you should be willing to hold investments that promise solid returns, even if they aren’t the hottest holdings in today’s market. That’s because your performance is beholden to no one’s expectations but your own.

Do your best to ignore the noise in the market and take advantage of your permanent capital.

What We’re Reading…

Here’s to our health, wealth, and a great retirement,

Dr. David Eifrig and the Health & Wealth Bulletin Research Team
December 8, 2021