How we define risk
Risk is any variable that affects, or has the ability to affect, the durability of our pro-rata cash flows. The more extreme version of loss is the total loss of capital.
The usual, but ignored versions of this are Dilution and compensation paid in stock are risks because they reduce what accrues to us.
Management that is not aligned with owners is a risk for the same reason. The other measures such as volatility, beta etc., that the industry busies itself with are irrelevant to us.
What we will own
We only invest in businesses we can value and understand, and only after we have accounted for our own cognitive biases. If we cannot state in plain language how a business turns effort into cash, it sits outside our circle and it stays there.
What we read, and what we ignore
We do not watch financial news and we do not make macro predictions. We limit our exposure to anyone whose living depends on our attention. We read books. We read Graham to learn, and Soros for inspiration.
Portfolio size
We hold no more than ten businesses. Our minimum holding time is 5 years.
How we measure returns
We measure return by cash flow accrual on a pro-rata basis, and by the growth of those pro-rata cash flows. A quoted price is not a return, a gain on paper is not a return, and a year of outperformance tells us nothing about whether the businesses we own are compounding what belongs to us.
The irrelevance of Price
We use price only to determine the aggression with which we buy. Outside that, it is irrelevant.
“If you do not understand it, don’t do it.”
The pinnacle of understanding any concept in life is to be able to define it in simple terms. If we cannot do that with a business, we do not understand it.
We make money by doing nothing
The hardest thing to do is to do nothing. Action is the anxiety pill of weak minds. Most of what passes for work in this business is activity that quietly removes return, so we sit still unless a business we already understand is offered at a price worth our aggression.