Sanjay Bakshi on Empathy For Intelligent Fanatics

Bakshi is one of the authorities studying intelligent fanatics. A term coined by Charlie Munger for iconoclastic leaders investors would be lucky to invest alongside. Mark Leonard, Warren Buffett, and Jeff Bezos would be intelligent fanatics. The following thoughts are from Bakshi’s lectures here, here, and here. It all begins with empathy. 

Empathize

Investors forget they aren’t the customers. Peter Lynch recommended investors start by looking at the businesses they use. But something I use every day is different from a product I can’t understand the value proposition of. 

Investors would do well to try and empathize with the existing customers. Why do they use the product? What is the important factor there? Sometimes it’s all about price. Sometimes it’s about reliability or the newest incremental features. 

Businesses don’t exist to serve shareholders. They serve stakeholders. They will serve customers and employees before shareholders, as they should. It’s not only them but the competition, entrepreneurs, and Mr. Market that the investor will need to be able to empathize with. It’s a whole lot of perspectives the investor needs to be willing to understand. 

The stock market doesn’t know how to empathize with these groups and that’s why it always has to correct itself. It relies on prejudices that underestimate — as well as overestimate — the fundamentals of the business. An opportunity for the investor who can empathize. 

Prejudices

There are many forms of stereotypes investors have on certain businesses. Some might like to call them categories. Because that’s the socially acceptable word for stereotypes. But as Daniel Kahneman noted, stereotypes are a neutral term. It’s our own prejudice towards words that give them a different meaning. 

The investing world is filled with prejudices. Some common ones are that commodity businesses suck, pharmaceuticals are busts, airlines are shit, and technology is too hard to understand because Buffett said so a few decades ago. 

Looking at the commodity industry for instance, the stereotype there is that it’s a shit industry dependent on the commodity price. It’s a volatile one where the entire industry seems to follow a collective boom and bust cycle with very few companies having any kind of advantage. This makes most investors shy away from the industry. 

But what if there was a low-cost operator that could succeed in the industry? Maybe it’s a business that sells knives in the commodity knife fight. Consider a company like Texas Pacific Land Trust (TPL) that earns a royalty on land rights for the Permian basin. They happen to own the land where most U.S. oil deposits are so they make money whenever oil companies come to drill. 

Some will cite base rates of industries to cite some as good or bad. They will hide behind base rates to say "moaty" businesses will only exist in high-margin industries like software or consumer services. They will shun low-margin industries reliant on commodities or airlines instead of bits and bytes. 

But isn’t the point of investing to find businesses that break the base rates? I’m not saying base rates should be ignored. Yet, shouldn’t the companies that provide abnormal returns be the ones that exist as outliers in the database? The ones nowhere close to the base rate?

Relying on what normally happens would’ve meant missing out on great companies like Southwest Airlines and Ryanair. Both airlines were very profitable, low-cost operators that built their own moats. 

The prejudice we have on the words of great investors is another set of such stereotypes. Instead of adhering to what they say, we should observe what they do. Investors that failed to listen to Buffett’s teachings to think for themselves instead of blindly taking what he said as fact would’ve missed out digging into the technology-enabled companies shaping the modern economy. I know I did. 

Airlines may have been out of Buffett’s circle of competence. But that’s not the true for all investors. The fact that most investors blindly followed Buffett would’ve meant the areas he ignored had less competition. 

Prejudices exist in geographies and cultures too. When asked about how an investor should deal with the unreliability of financials in Asia, Bakshi pointed out the questioner already succumbed to prejudice. It’s true. 

When I consider major frauds there were Valeant and Nortel in Canada. The U.S had Enron, Worldcom, Madoff, Ponzi and the banks that pushed the financial meltdown in 2008. Germany recently had the Wirecard fraud and Japan’s had Toshiba and Nissan.

Fraudulent behaviour is everywhere. A short seller once said all companies are fraudulent, he’s just looking for the biggest ones. It’s inevitable. In a company of thousands, there is bound to be one person who cheats. That’s true of human behaviour, not isolated to a continent. 

But this cultural divide is a stereotype many hold in the West. I don’t think it’s a coincidence that much of the fund industry is dominated by middle-class Caucasians who come from a certain culture. Cinematographer Chris Doyle lived in Hong Kong for 30+ years, making 50+ movies in the country and he said he was still learning about the culture, referring to how he may never understand the complexity of the culture. The prejudice of the West is an advantage for those familiar with the cultural predilections of the East. 

This isn’t to say that industries where the base rates say the average business is of higher quality, ones that Buffett recommends investors look at or ones governed by regulatory bodies facing greater scrutiny won’t have great companies. It’s that, everyone else knows this. Investing, being a pari-mutuel system, requires doing something abnormal to achieve abnormal results. 

One such option is to find reasonable businesses. Not great but reasonable. Everyone is looking for great. But why about a reasonable business with an exceptional person running it? In a world that eats statistics for breakfast and considers ‘data-driven’ to be religion, most people can’t justify investing in a person. Even if this is what most investors are doing without realizing it.

Buffett advised investors to seek a great business that even an idiot can run because one eventually will. But a great business is often a reasonable one turned great by an exceptional person. It’s rarely the one who spent five years at McKinsey and went to Harvard Business School. The two guys that did that ran Valeant and Enron. No, it’s the freaks and misfits I’m looking for. 

Consider the prejudice we have against freaks and misfits. It’s a representation heuristic. If we changed the label and called these people intelligent fanatics, it has a different ring to it. 

Intelligent Fanatics

The innovation cycle is that it’s ignored at first. Then ridiculed until accepted as obvious. This appears to be the same attitude the public will have towards the freaks and misfits that will later be identified as intelligent fanatics. 

These entrepreneurs will be considered insane by the market. Their brilliance will only be obvious after market dominance is achieved. But that should be normal. After all, it’ll be the rare individuals who build amazing companies. 

Doesn’t it make sense that abnormal people build abnormal companies? Of course they will look insane to the market. They must look insane compared to what the average person will do. 

Now, not all eccentric leaders are intelligent fanatics. There are more dumb fanatics than intelligent ones. Intelligent fanatics are a small % of the already small % of individuals that veer off from the average person. 

Dumb fanatics are those that go all-in on a single venture with the risk of blowing up. Dumb fanatics use a lot of leverage — an irresponsible amount — in the hopes of tackling a massive market head-on. 

Intelligent fanatics focus on carving out a niche. They make small bets and focus on sustainable success. They focus on maintaining control in their small market before branching out with more small bets. 

The dumb fanatic wants to win it all, fast. The intelligent fanatic will take it slow, delaying gratification. They will forgo the bird in the hand for the two in the bush, waiting until the moment they’re certain. 

Bakshi emphasized he wasn’t saying investors should buy Tesla or Amazon by following eccentric leaders like Elon Musk and Jeff Bezos. He considers finding intelligent fanatics to be one overlay to the basic foundations of a good business. 

“….without giving up on the idea of dominant, highly profitable businesses that are already making a lot of money and making reasonable multiples of their earnings power, particularly run by intelligent fanatics is a great combination.”

Instead, he teaches investors to consider the power of labels. Labels that are born out of prejudices we have in our society. Whether it be a culture that wants to hammer in the nail that sticks out or one that screams for innovation if it uses the existing playbook to be the next Amazon/Google/Facebook, etc… 

Intelligent fanatics don’t walk around with it tattooed on their foreheads. They’re probably ignored by the public and even ridiculed. This is the opportunity to turn labels around. To empathize from all sides and possible see some freaks and misfits as intelligent fanatics.