A Software Engineer Turned Value Investor: How Mohnish Pabrai Made It Big

23 Mar, 2021

8 min read

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A Software Engineer Turned Value Investor: How Mohnish Pabrai Made It Big - Smart Money
One of the most successful value investors of his time, Mohnish Pabrai, considers Warren Buffet his investment guru.

Following Buffet’s value investment philosophy, he successfully invested in the stock market. His long-only equity portfolio earned a return of 517 percent against 43 percent of S&P 500 since the inception in 2000. However, compared to Warren Buffet, Mohnish is a late bloomer. He hadn’t heard of Buffet until he was 30. but when he did, he started following Buffet’s investment principles to become a successful investor himself. 

Pabrai Is An Indian Born American Investor

Pabrai grew up in Mumbai. He went to the USA to study computer engineering. After graduating, he started working in the research and development department at Tellabs. 

Pabris embarked on his entrepreneurial journey in 1991, established a successful IT consulting and systems integration company, TransTech, Inc. He sold his company in 1999 and started Pabrai Investment Fund in the same year. In the beginning, the fund had USD 1 million as an asset under management (AUM) which reached USD 570 million in 20219. The fund outperformed S&P 500 by 1103 percent till 2013 by heavily investing in India and other developing nations since Pabrai feels there aren’t many mispriced or under-valued stocks in the US market. 

As an investor, Pabrai is a follower of Warren Buffet’s theory of value investing. He once even spent USD 650,000 to have lunch with Buffet. 

Milestone In Pabrai’s Success Path

  • Pabris is one of the world’s most successful value investor, follows Warren Buffets fundamentals of value investing.  
  • Pabrai Investment currently manages half a billion dollars from investors. Pabrai has continuously outperformed the benchmark, earning profit for both himself and investors 
  • With his current networth of more than USD 100 million, he gives back to the society through Dakshana Foundation, which he founded to help the poorest in India  

Investment Philosophy

Understanding ‘low risk, high uncertainty’ investing  

In a book that he wrote called Dandho Investor, he explained that a combination of low risk, high uncertainty is unusual since the two parameters move in the opposite directions. High risk means higher chances of loss, while uncertainly refers to a wide range of possible outcomes. When the market is confused between Risk and Uncertainty, he pointed out those moments as profit opportunities.  

Pabrai suggested that investors need to think like entrepreneurs who search for low-risk business opportunities with high return. 

Invest in well-established businesses with a slow rate of change

According to him, investing in well-established businesses with a well-defined business model ensures long term return. These businesses are less risky than startups, but they can earn a decent profit even with a slight change in their business strategy. He quoted, “look for mundane products that everyone needs. Following this requirement alone eliminates 99 perrcent of possible investment alternatives.” 

Pabrai prepared a checklist with seven questions, which will tell investors the merit of an investment, which are as follows.

  • Do I understand the business, and does it fall within the circle of competence?
  • Do I understand the intrinsic value of the business today? Am I convinced about the inherent value? What is the possibility of the value changing in the future?  
  • Is the stock largely undervalued, and is the situation likely to continue for 2-3 years?
  • If I must invest in this business, will I put a large portion of my wealth into it?
  • What is the extent of a downside?
  • Does the business have a moat, which means its ability to withstand competition and make a substantial profit?
  • Is the company management honest and able? 

Asking the above questions will help investors get clarity on investment judgement. These fundamental questions establish the foundation of value investing, which Pabrai proposes. 

Pabrai famously quoted, ‘heads I win, tails I don’t lose much.’ The quote summarises his philosophy as an investor.  It means picking up less risky stocks, but, on the upside, it also has a wide possibility of profit. Pabrai emphasised that investors of value investment must focus on the following parameters.

  • Buying an existing business with an established track record rather than picking risky startups. Pabrai follows his guru Warren Buffet, who also, as an investor, never invested in startups.
  • Buy simple businesses in industries that change very slowly. Aggressive investors often avoid these stocks, but value investors pick up these shares to create value in the long run
  • Buying stocks from distressed businesses in distressed industries where the margin of safety results in attractive value opportunities 
  • Invest in businesses with durable competitive advantages or profitable moat. These stocks are the favourite of Warren Buffet
  • Invest heavily when market odds are in your favour and wait for the market to serve an attractive return on your investment
  • Buy stocks of businesses that are grossly undervalued and are likely to remain so for a period of 2-3 years 
  • Look for low risk, high uncertainty businesses because often the market doesn’t understand the actual value of these businesses and undervalued them
  • Look for arbitrage moments when for a short-period these businesses become super-profitable  

 Pabrai suggests investors follow the footsteps of another successful investor rather than innovating a strategy.  He emphasises being patient to let the market work. As an investor, he picks up stocks with low P/E ratio and high yields, typically unfavourable stocks. When he identifies such stocks, he stacks the odds of success by creating a wide margin of safety and then bet big. 

Pabrai has written several books on value investing. The most popular one is  Dhando Investor, where he described his value investing formulas. He also shares his investment ideas on his website Chai with Pabrai. Like many other value investors, he too is inspired by the investment philosophies of Warren Buffet and follows his footsteps in selecting businesses with strong fundamentals for investing. He looks for cheap stocks with strong business and financials and runs those through his Dhando framework.

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Comments (1)

Srijan Shah

25 Jun 2021, 12:08 PM

worth read

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