Armchair Guru
The Oracle Of Manitoba
Matthew Schifrin @ Forbes.com 06.16.08, 12:00 AM ET
Randolph McDuff may be the best stock picker the world has never heard of
“Discipline” and “patience” are probably the two most valuable words in value investing. It stands to reason, then, that few places would serve as better incubators for a value investor than The Pas, in Manitoba. Close to polar bear country, where Hudson Bay winds chill the air to 40 degrees below zero and the wait for spring lasts eight months, The Pas is the hometown of Randolph McDuff, a stock picker with an astounding record.
Since McDuff began running his RMG ValueCatalyst small-company fund eight years ago, he has earned a compound annual return of 36.4%. Not a single diversified stock fund in Lipper Analytical’s universe of 1,555 mutual funds can match that. Ken Heebner’s CGM Focus Fund comes closest at 32.2% a year over the same period. McDuff’s RMG Value Oriented Growth, which buys large companies like Bayer and Fresenius Medical, comes in third at 25.5%. Warren Buffett’s Berkshire Hathaway has returned a compound annual 11% over that period; the s&p 500, 1.1% (including dividends).
What’s McDuff’s secret? “The [securities] industry rewards analysts for boring, homogenous work and penalizes those who provide truly insightful views,” he says. “I typically own companies the industry doesn’t cover, covers poorly or covers with largely plagiarized reports.”
For anyone who likes McDuff’s perspective, and track record, the bad news is that you can’t hitch a ride directly on RMG ValueCatalyst because it’s a mutual fund on paper only. McDuff set up the simulation on the investing Web site Marketocracy.com, where his results are monitored and he is ranked number one among 70,000 managers. If you want to play along and have at least $50,000 to invest, Marketocracy Capital Management will mimic McDuff’s portfolio for a fee of 1.9% of assets a year.
Now living in Winnipeg with his wife, Bridget, McDuff picks stocks with a desktop computer and online brokerage account–plus the heavy research he learned to do growing up. “Because it’s so damn cold in The Pas, there was nothing to do but read,” says McDuff, 43. “I’d spend hours at the library reading financial periodicals.”
McDuff was always drawn more to the challenge of investing than to the trappings of high finance. After graduating from the University of Manitoba with an economics degree in 1986, he spent 14 years as a stockbroker with Bank of Montreal’s BMO Nesbitt Burns. By 2000 he’d saved $2 million and decided it was enough. He quit his job at age 37 to try managing money–his own and the virtual kind.
“While my colleagues were living the high life, I was saving,” McDuff says, “still driving my 1991 Toyota 4Runner and living in my $150,000 house.”
To learn if he had what it took to manage a mutual fund, McDuff signed up with Marketocracy.com. It is one of a score of sites that monitor members’ stock picking prowess (another is run by Forbes.com and affiliate Investopedia at http://stocks.forbes.com).
It’s American Idol for stock buffs. Some of these sites, like Motley Fool’s Caps and TheStreet.com’s Stockpickr, help members select stocks and share ideas. Covestor and Cake Financial tap into brokerage records, monitor performance and may soon charge members to look over the shoulders of their savviest peers.
Marketocracy.com launched in 2000 to find the best stock pickers and turn them into real money managers. It’s one of the oldest stock picking sites around, meaning its members have some of the longest verifiable track records.
McDuff joined in July 2000, less than a month after Marketocracy.com started up, and just as tech stocks were melting down. He created large- and small-cap funds seeded with $1 million each in virtual money. Separately, he has invested his own savings in all his virtual picks.
The value Marketocracy.com’s simulation adds is in exposing would-be money managers to the rigors of running a real mutual fund. Participants must declare a fund objective and avoid style drift or overconcentration in a few stocks, either of which can get a manager disqualified.
As a value manager, McDuff has a strategy best described as Warren Buffett meets Sir John Templeton. Like Buffett, McDuff looks for high operating profit margins (Ebitda divided by sales), a strong balance sheet and market power (monopoly or duopoly). Like Templeton, McDuff looks far and wide for firms that fit this bill but are also still cheap.
To McDuff, cheap means having a lower enterprise ratio than competitors. That ratio is the enterprise value (market capitalization plus debt minus cash) divided by operating income (in the sense of earnings before interest, taxes, depreciation and amortization). Analysts use the ratio under the column heading ev/Ebitda. McDuff says it beats the classic price/earnings ratio because it captures an element of balance-sheet health.
Before buying a stock, McDuff writes up a 1,000- to 2,000-word thesis on why it’s a buy and shares it on a few investing Web sites. “It’s very cathartic,” he says.
McDuff scored big early BPZ Resources. Other winners include MasterCard and diabetes care specialist Novo Nordisk.
Seven months ago McDuff began buying Nestlé. Last year the Swiss food purveyor (Perrier, Purina, Carnation) spent $9.5 billion on major acquisitions without even consuming its net income (which was $10.4 billion). Despite that, and a $195 billion market value, Nestlé trades in the U.S. on the microcap-heavy Pink Sheets. A mere three North American analysts cover the firm. Rival Pepsi, one-third the size, is followed by 17. McDuff likes that Nestlé’s managers seem to be in business to enrich the owners rather than themselves. “Senior management, including directors, took home $49 million last year,” McDuff says. “That’s about half what Pepsi’s management was paid.”
McDuff scouts for overlooked sectors, too, and is big on airports. Since airport privatization is still a foreign concept, airports are mostly ignored here, he says.
“The revenue streams are the stuff that most commercial real estate investors would kill to earn,” says his investment thesis. “Charges include departure taxes, landing fees, baggage-handling fees and aircraft fuelling costs. … Almost everyone who visits an airport pays some sort of fee. It’s not unusual for them to have [operating] margins of 60% to 70%.”
McDuff’s favorite is Beijing Capital International Airport. North Americans have missed this one in part because it trades like a penny stock, at $1.08 a share over the counter. Yet with four billion shares out, its value exceeds $4 billion. Revenues have grown 14% annually since 2000. Last year it reported $500 million in revenue and $315 million in cash flow (in the sense of earnings before interest, taxes, depreciation and amortization). Those numbers will go up. Beijing just completed Terminal 3, the world’s largest. Fast-rising revenues and an enterprise ratio of 15 tell McDuff that the shares will take off. He also likes Mexico’s Grupo Aeroportuario del Sureste, listed on the New York Stock Exchange.
For all his worldly success investing, McDuff says he’s happy making enough to live comfortably. Marketocracy.com passes on to McDuff a cut of the fees it earns from his portfolio. McDuff donates the proceeds ($1,000 in the last quarter) to the charity American Water Relief.
Tags: Marketocracy
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