A Lesson from Eddie Lampert on How to Invest Like Buffett

A February 6, 2006 story in Fortune, entitled “Eddie Lampert: The best of his generation”, said the following:

“His hedge fund, ESL Investments, has delivered average annual returns of nearly 30 percent, after fees, since its 1988 launch, according to several of its investors, who include Dell founder Michael Dell, media mogul David Geffen, and the Tisch family. Geffen, who gave Lampert $200 million to invest in 1992 (when Lampert was just 29), says that had he not periodically taken money out for diversification, he would have $9 billion today. As it is, says Geffen, “I’ve made more money from Eddie than from all the businesses I’ve created and sold.”

Lampert is wealthier than Warren Buffett was at his age. And his $15 billion fund has outperformed Buffett’s Berkshire Hathaway during its 18-year span (though of course the bigger Berkshire is a heavier load to move). Unlike other hedge funds, ESL doesn’t typically short stocks, or trade derivatives, or dabble in currencies, or use aggressive leverage.

Lampert buys cheap stocks and holds them for long periods. He made his first big money in the 1990s with IBM and financial stocks like Wells Fargo, and became a billionaire by buying AutoNation and AutoZone, which have tripled and quadrupled in value, respectively, since he invested in them.”

So, how did Lampert achieve such mind-boggling success? A November 22, 2004 article in BussinessWeek, “The Next Warren Buffett” provides some insight.

“Lampert has carefully studied Buffett for years. He started reading and rereading Buffett’s writings while working at Goldman after college. He would analyze Buffett’s investments, he says, by “reverse engineering” deals, such as his purchase of insurance company GEICO. Lampert went back and read GEICO’s annual reports in the couple of years preceding Buffett’s initial investment in the 1970s. “Putting myself in his shoes at that time, could I understand why he made the investments?” says Lampert. “That was part of my learning process.” In 1989 he flew out to Omaha and met Buffett for 90 minutes, peppering him with questions about his investing philosophy.”

Part of the objective of this blog will be to go back and carefully look at Buffett’s past purchases. I’ve already started with Commonwealth Trust Co., which you may want to look at, if you haven’t done so already. The point is to get crystal clear in our minds what we should be looking for. Buffett likes to talk about waiting for the perfect fat pitch to come across the plate. The lesson most often taken from this is to be patient, and rightly so, but it’s also about making distinctions. Will you recognize the “fat pitch” when it comes? Not without hard work.

Ted Williams, the great baseball hitter who inspired Buffett’s “fat pitch” metaphor actually mentally divided the strike zone into seventy-seven baseball-size areas. To be a .400 hitter, he knew he had to hit the ball in only three and a half of those sub-zones. This required an ability to make distinctions that only yielded itself to careful study and determined practice.

Tomorrow, I’ll take a look at Geico and write about why it is not only a text book example of the types of things to look for in a prospective investment, but also why the story of how Buffett came to own it provides a model of how to find and research a stock.

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