Long-Term Value, Long-Term Values


If there was a Mount Rushmore of value investors, Seth Klarman would almost certainly be on it. Klarman's Baupost Group has racked up impressive returns over a long period. He's also the author of a value investing tome, Margin of Safety, whose reputation has been enhanced by its scarcity. In addition to his investing prowess, Klarman is highly respected in the industry for his personal integrity and his philanthropic contributions. So, it was notable that he recently gave a speech highlighting the importance of "longer-term societal challenges such as climate change or unaffordable entitlement programs." I'm hardly a Klarman scholar, but to my knowledge, this was one of the first times he had publicly mentioned climate change as an issue with which he was concerned. It raises the question of why so few value investors - famed for their long-term orientation - have become advocates for dealing with climate change. GMO's Jeremy Grantham is a clear outlier with his devotion to the cause, and more recently, Tom Steyer (formerly of Farallon) has taken up a sharp political stance on the issue. But you're still far more likely to hear value investors inveighing against the long-term consequences of fiscal or monetary laxity.

I see a few compelling reasons why value investors should be natural allies with climate hawks:

1) Long-term orientation: One of the most vexing things about climate change is that its worst effects are far in the future. But value investors are particularly well-suited to maintaining a long-term focus. After all, the Klarman speech that sparked this post is about the "hard choices" that society faces over the long run. Investors who decry the financially unsustainable choices of a management team or government should have no problem training their vision on environmentally unsustainable practices such as increasing greenhouse gas emissions. It's just good investing to make changes now to forestall large, painful future outcomes. (There may, however, be differences among various strands of value investors. "Cigar butt" investors may be less concerned about long-term prospects than "business franchise" investors. Furthermore, less talented value investors may repeatedly find themselves sucked into "value traps". An attraction to superficially cheap businesses is sometimes complemented by a refusal to appropriately value things such as firm culture and brands, which do not show up on balance sheets but generate powerful economic moats and earnings. This group may find it hard to accept the concept of negative but intangible externalities.)

2) Margin of safety: Despite the best efforts of science communicators, climate science is complex. But the best investors are used to operating in complex adaptive systems. One rule of thumb for survival is to demand a margin of safety in investments (a term pioneered by Benjamin Graham, but of course popularized by Klarman's book). So it's strange when some investors point to uncertainty as a reason for inaction. If anything, the uncertainty demands a larger margin of safety. This is particularly true as we contemplate dire tail risk events such as climate feedback loops.

3) ESG allies: I'm not a huge fan of the term "ESG", since it seems to slap together three things (Environmental, Social and Governance) that are quite different. But value investors have long been champions in the governance arena, with Benjamin Graham spearheading modern activism in 1927 against Northern Pipeline's management. Conrad Black famously called value investors Tweedy Browne "corporate governance terrorists" for their dogged criticism of his malfeasance. Traditionally, highlighting these governance concerns has been purely financially motivated. Perhaps savvy value investors will become ESG investors in a positive sense as they start to embrace the business opportunities needed to deal with climate change in areas such as low carbon energy, transportation and infrastructure.

Intriguingly, climate change is already a theme (voluntarily or involuntarily) for value investors. Involved in Puerto Rico's distressed debt? Better factor in the effects of an altered climate on an already parlous fiscal situation. Considering a stake in California utility PG&E? Better consider whether the company will be held liable for devastating wildfires in the state or if it can point to climate change as something outside its control. Of course, a major investor in both those arenas is none other than Klarman's Baupost Group. While his firm undoubtedly has the financial acumen to negotiate these complexities, it's great to see him using his standing as a leader in the industry to convince value investors of all stripes that climate change is as much of an issue as unaffordable entitlements. That, at least, shouldn't be a hard choice.