The Value of Patience

Relative to recent periods in the market, the third quarter was reasonably quiet, allowing us to take a wait-and-see approach. It’s not that we haven’t been actively looking for opportunities. But as the legendary hedge fund manager Seth Klarman pointed out, “value investing requires deep reservoirs of patience and discipline.” 

As contrarians, we look for prospects not in what the herd is buying but what it’s selling or ignoring. Going against the crowd can be difficult because it takes a willingness to be “initially wrong” for extended stretches, Klarman noted, until rational thinking returns to the market. It also demands the fortitude to wait until investments trade at prices that are truly attractive relative to their intrinsic value. That’s how we have always invested—and what we’re focusing on right now. 

We’re willing to take as many pitches as needed until hanging curve balls start coming over the plate. Our approach is to only swing when we see companies with attractive risk/reward characteristics fitting our 10 Principles of Value Investing™. 

We wouldn’t be surprised to start spotting more of those opportunities soon, as we expect choppiness ahead. Part of that is seen in how poorly small caps have been doing lately, compared to the largest stocks (see chart below). The relative underperformance is disconcerting and suggests more volatility to come as the long lags of Federal Reserve interest rate hikes gradually work their way into the broader economy and markets. To us, this is a sign to remain patient in the months and quarters ahead.

The markets are presently operating under a couple of assumptions that could be the source of yet more turbulence. First, there’s the notion that the Federal Reserve has largely won the war against inflation after raising rates since March 2022. Given the unprecedented flood of stimulus during and after the pandemic, we’re not convinced this is true—at least not yet. 

The narrative of a “soft landing” for the economy is up for debate too. Banks continue to tighten lending standards while consumers are being pinched by the combined effects of rising interest rates, still-high inflation, and now flattening job growth. Consumer loan delinquencies have been climbing while expectations for the coming six months have been falling. 

Amid all of these questions, we believe the message of the market is to look inward at one’s investment process, not outward at the economy. As we wait for hanging curve balls, we are guided by our 10 Principles of Value Investing™ and are laser-focused on identifying well-managed, financially strong companies with resilient balance sheets trading at compelling prices.

We feel good about the opportunities ahead of us. But we are content to keep our powder dry if we don’t find what we’re looking for, as we agree with Seth Klarman that value investing requires deep reservoirs of patience and discipline.

Fundamentally Yours, The Heartland Team