Investing Lessons from a Top Mutual Fund Manager

Investing Lessons from a Top Mutual Fund Manager

What does it take to beat the stock market? Well, one of the ingredients would seem to be a large helping of “sticktoitiveness” – the ability to focus on the long-term potential for your investments rather than allow yourself to be distracted by short-term market noise – coupled with an ability to make some of that short-term turbulence your ally.

Just ask Mark Mulholland. He’s the manager of the relatively small Matthew 25 fund (MXXVX). It has only about $250 million in assets; far short of the billions overseen by some of its peers. But so far this year Matthew 25 is ahead 35 percent, nearly double the return generated by the S&P 500. Over the three last calendar years, the fund is up an average of 30 percent a year, compared to 15 percent for the S&P. Over the last five years, Matthew 25 is ahead an annualized 6.54 percent; the S&P is up only 1.13 percent. The margin narrows in the ten-year period, according to data from Morningstar, but Mulholland’s fund is still ahead, it widens out again for the 15-year period, in the fund’s favor.

Mulholland also is beating his peers of late. At the end of every quarter, I sit down and review which mutual fund managers have done best over the last 12 months, and talk to some of them for an article that appears in The Wall Street Journal. For the last three quarters, Mulholland has led the pack. I’m not specifically recommending his fund, but I am suggesting that there are a few things you can learn from the way he thinks about investing.

Mulholland tends to go anywhere; he is reluctant to be confined by rigid categorizations like “growth” or “large cap.” So his portfolio ends up owning Apple (AAPL) as its largest position – but the second-largest is Cabela’s (CAB), a Nebraska-based retailer of outdoor equipment for hunting, camping and fishing. He owns positions in credit card companies and REITs; in technology firms and a hedge fund management business. The common element? Each holding has been intensively researched, Mulholland says, and he’s confident each will outperform.

Which brings me to my main point. In the final week of the third quarter – last week – as stock prices were falling and volatility looked as if it was on the rise once more, Mulholland wasn’t worried, unnerved or distracted. While others were selling, he was quietly buying shares of stocks like Caterpillar (CAT) despite the fact that the company warned investors earnings wouldn’t be as high as originally estimated.

That’s the kind of near-term forecast that Mulholland shrugs off. He’s more interested in the long haul – as investors should be – and figures that the apparent rebound in the real estate market should be enough to give Caterpillar a boost down the road. Last week’s volatility was an opportunity to add to holdings of companies he still believes are undervalued.

Of course, neither Mulholland nor anyone else is infallible; we all will make mistakes in our conclusions about when a stock is undervalued, or we’ll be blindsided by some event that forces us to change our view of a company. But as Mulholland pointed out to his investors in his 2012 semiannual report in June, we’re too prone to view downside volatility – better known as a market selloff – as something that is entirely bad. Sure, it’s no fun, but like many of his peers, he views it as an opportunity.

“The problem is the natural fear that comes when a stock or the stock market is dropping. It is normal to think that something has changed for the worse in the decline and that the sellers may know something that we (the potential buyers) do not know,” he wrote. “I am sorry to say that will happen sometimes but it will be the exception and not the norm. Most volatility does not lead to permanent loss of capital; it is the normal result of market activity.”

If that sounds like the old market mantra, “buy the dips,” you’re only partly right. What makes sense is to buy some of the dips, some of the time – and certainly not allow yourself to be stampeded into selling in periods when the market is spooked. Does whatever news has caused the herd to stampede affect the fundamental, long-term outlook for the companies in your portfolio? Has anything else altered with respect to those companies; do you still view them as having upside potential? If so, why are you thinking of selling them? Wouldn’t it be more reasonable to take advantage of the opportunity to add to your positions and reduce your average cost per share, assuming that you have some cash available to do that and that the purchases wouldn’t throw your asset allocation out of whack?

What Mulholland is describing and doing is common sense investing 101. The reason he is outperforming is because so many investors are doing exactly the opposite.