Introducing The Buyscreener!

This is bittersweet. I’ve been struggling with how I should pay tribute to Charlie Munger – the man who’s taught me more about investing than anyone else, even Buffett. I’ll save the tribute for tomorrow. Today, I’ll show you how I’ve applied the most important lesson I’ve learned from Charlie.

In the meantime, here’s my Charlie Munger Mental Model (a term I learned from him) which I had created many years ago. Click here to read Charlie Munger’s best quips about investing.

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Today, I want to focus on my favorite one because it is the foundational pillar of everything I do (in investing anyway):

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“To us investing is the equivalent of going out and betting against the pari-mutuel system. We look for a horse with one chance in two of winning and which pays you three to one. You’re looking for a mispriced gamble. That’s what investing is. And you have to know enough to know whether the gamble is mispriced. That’s value investing.”

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It’s so simple, the way he put it. But this was eye-opening for me. I came across it about 10 years ago in the book Poor Charlie’s Almanack, and it flew in the face of everything I had learned in business school, the CFA curriculum, and even what I was told on the job. That quote resonated loudly with something I had been “feeling” for a long time but couldn’t quite articulate.

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Upon reading Charlie's quote, this notion kept swirling in my mind. Investing is a game of expectations - yours vs. the market's. Nobody had ever told me that before. I had been needlessly obsessing over the best way to calculate "Intrinsic Value".

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I sat on Charlie's quote for years because I didn’t really know how to apply it in my portfolio. There were 2 roadblocks:

1. Nobody gives you the odds of winning. So, you have to calculate it yourself.
2. Investing is not exactly a race. “Winning” means different things to different people.
3. The odds of winning are quantifiable but never accurate; any quantification needs a subjective overlay.

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Then a few years later, after I had started The Buylyst, I stumbled upon Michael Mauboussin and his concept of Expectations Investing. Bingo! I finally found a framework with which I could solve Charlie’s pari-mutuel puzzle.

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Here’s how I executed it:

1. Start with the payoff. Define it at the onset. What do you want the payoff to be?
2. Now that you have a definition of “winning”, let’s do rough calculation of the “odds of winning”. We’ll worry about the subjective component later.

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To quantify the odds of winning, I borrowed heavily from Mauboussin’s framework. In a nutshell, I back solved form the pay-off, which I defined as my desired return from a stock, to “what needs to happen in the underlying business to – rationally – expect that pay-off?”

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I needed to do this for every investment idea I came across. I needed to automate as much of the process as possible. And that’s how The Buycaster was conceived.

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Eventually, I extended the same concept to The Bankcaster – because bank stocks are different beasts.

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And then after a lot of blood, sweat, and tears, I was able to roll up the calculations and insights of The Buycaster and The Bankcaster right up to the fund level in The Fundcaster. Finally, I had forward-looking, bottom-up, actionable insights on ETFs, based on deep-dive fundamental analysis.

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Now armed with 3 tools, I had the power to dig into any potential investment idea in seconds – in a very deep way. But then what about sourcing ideas in the first place?

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I get investment ideas from a variety of places – magazines, newspapers, the supermarket, the street, movies…the list is never-ending. But I wanted a way to sort the world based on Charlie’s horse-race analogy.

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“Give me the stocks and ETFs that have a one-in-two chance of winning and pay me three-to-one…”

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And that’s what the new Buyscreener does.

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Here’s how it works…

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Recently, I came across a chart from Topdown Charts (I recommend you follow them if you aren't already!) that depicted the inevitability of an aging world.

I’ve read about this inevitability before. But their chart got me thinking about my exposure to Healthcare. Thematically, at least, Healthcare seems like a no-brainer for long-term investors.

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I do have Healthcare exposure in my portfolio – in the form of XLV SPDR Healthcare ETF. But it turns out that in The Fundcaster, XLV is rated as having an “OK” Rationality Rating. That’s not bad, I wondered, what other Healthcare stocks or ETFs have a HIGH Rationality Rating?

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Cue in The Buyscreener.

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Here’s a snapshot of the criteria I selected in The Buyscreener:

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?Here’s a snapshot of what The Buyscreener spit out - with the following criteria:

1. Rationality Rating: High
2. Market Cap Bucket: Mega Cap & Large Cap
3. Sector: Healthcare

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These are some of the stocks that are worthy of my time. From the time I saw the that Aging Demographics chart, it took me about one minute to get a list of Healthcare stocks that – at least quantitatively – have the highest odds of winning (delivering my desired return).

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Now that the numbers look reasonable, I can spend all my time on the subjective part of the question, “what are the odds of this horse getting me my desired return?”

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Lo and behold, Charlie had a lot to say about the touchy-feely, soft, subjective part of the analysis too. More on that tomorrow.

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RIP Charlie. Thank you for everything.

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P.S. If you’ve made it this far, I salute you. And for being a supportive friend to this newsletter, I’d like to extend my thanks by giving you 30% off The Buylyst Full Stack quarterly plan. I’ll keep the coupon window open for a week, so you have time to think on it. Use the code when you checkout: RATIONALYST-30-23. Cheers!