November 8, 2024 • 1hr 11min

TIP674: Outperforming the Market, Managing Risk, & Market Inefficiencies w/ Andrew Brenton

We Study Billionaires - The Investor’s Podcast Network

Andrew Brenton is the CEO and co-founder of Turtle Creek Asset Management. Since inception in 1998, Turtle Creek has achieved remarkable returns of 20.3% annually versus 8.3% for the S&P 500. $10,000 invested at inception would have grown to over $1.2 million versus $75,000 for the index. The firm takes a unique "buy and optimize" approach rather than traditional buy-and-hold, actively managing position sizes based on the gap between share price and intrinsic value.

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Key Takeaways

Buy & Optimize vs Buy & Hold - Rather than strictly buying and holding stocks forever, Turtle Creek "buys and optimizes" by actively managing position sizes based on the gap between share price and intrinsic value
Market Inefficiency - The US stock market is becoming more inefficient over time due to factors like social media, quantitative trading, and trend-following strategies
Valuation Focus - Turtle Creek only adds companies trading at >50% discount to their estimated intrinsic value
Long-term View - Uses 30-40 year DCF models and focuses on companies with strong management teams that can innovate and adapt over decades
Risk Management - Defines risk as being wrong on forecasts rather than share price volatility; maintains 25-30 holdings for diversification
Technology Integration - Seeks companies effectively using AI/technology to enhance their competitive advantages rather than pure-play tech companies

Introduction

Andrew Brenton is the CEO and co-founder of Turtle Creek Asset Management. Since inception in 1998, Turtle Creek has achieved remarkable returns of 20.3% annually versus 8.3% for the S&P 500. $10,000 invested at inception would have grown to over $1.2 million versus $75,000 for the index. The firm takes a unique "buy and optimize" approach rather than traditional buy-and-hold, actively managing position sizes based on the gap between share price and intrinsic value.

Topics Discussed

Buy & Optimize vs Buy & Hold Strategy (01:39)

Brenton explains the key differences between Turtle Creek's "buy and optimize" approach versus traditional buy-and-hold:

Position Sizing - They aim to own the "right amount" of each company at all times based on valuation
Valuation Focus - If a stock doubles but intrinsic value hasn't changed materially, they will reduce the position size
Long-term View - Still maintain very long investment horizons but actively manage position sizes

Market Inefficiency and Price Volatility (10:58)

Discussion of how market inefficiency has increased over time:

Contributing Factors:
- Social media impact on trading behavior
- Quantitative trading strategies
- Trend-following algorithms
- Institutional investor short-termism
Benefits - Greater inefficiency creates more opportunities for long-term investors to capitalize on mispricing

Technology and AI Investment Approach (28:48)

Brenton details how they think about technology investments:

Focus on Integration - Prefer companies effectively using AI/tech versus pure-play tech companies
Examples:
- Ingersoll Rand using AI for sales lead generation
- CarMax leveraging AI while maintaining human touch
- ATS Corporation using machine learning for quality control

Risk Management Philosophy (38:51)

Discussion of how Turtle Creek thinks about and manages risk:

Risk Definition - Focus on forecast accuracy risk rather than share price volatility
Diversification - Maintain 25-30 holdings to protect against company-specific events
Range of Outcomes - Consider dispersion of potential outcomes when sizing positions

Kinsale Capital Investment Case Study (52:55)

Detailed analysis of recent portfolio addition Kinsale Capital:

Business Model - Specialty insurance provider using technology advantage
Competitive Advantages:
- Superior combined ratio versus industry
- Proprietary technology platform
- Only 1% market share with room to grow
Valuation - Trading at ~30x earnings but justified by growth potential

Long-term Motivation and Team Building (1:00:02)

Brenton discusses what keeps him motivated after 30 years:

Intellectual Stimulation - Learning about different businesses and industries
Team Development - Building strong culture and investment process
Continuous Improvement - Better analysis and more opportunities than ever

Conclusion

Turtle Creek's remarkable 25-year track record demonstrates the effectiveness of their "buy and optimize" approach. By focusing on high-quality businesses trading at significant discounts to intrinsic value, maintaining a long-term view while actively managing position sizes, and defining risk appropriately, they've generated significant outperformance. Their approach to technology investments and team-based culture provides valuable lessons for investors seeking sustainable long-term returns.