#61 – Mr Common Sense

BOOK RECOMMENDATIONS

Unsurprisingly, Rich doesn’t read many investment books so he recommended one by his friend Joel Greenblatt – You Can be a Stock Market Genius: Uncover the Secret Hiding Places of Stock Market Profits.

Get it on Amazon and donate to our featured charity.

Rich also recommended a recent read, The Power Broker: Robert Moses and the Fall of New York by Robert A Caro. Steve had intended to read this on his summer vacation, but then found it was 1312 pages and not available on Kindle. 

Get it on Amazon and donate to our featured charity.

How Steve Knows the Guest

Steve met Rich when he was presenting at The New York edition of the Value Investing Conference in 2025. He invited him on the podcast and as Rich was appearing at the same conference in London, they arranged to meet up. Thanks to Andy Williams at Pzena for organising.

Chapters

00:00 – Foundations of value investing
09:24 – Starting a small cap fund
25:38 – Investment philosophy and analysis
48:09 – Challenges of going public
01:01:20 – Navigating market changes
01:16:44 – Lessons from investment failures

Transcript

STEPHEN CLAPHAM: Hi, I’m Steve Clapham and welcome to the Behind The Balance Sheet podcast, where we meet leading investors and commentators and educate ourselves about the world of investing and the world. Our mission is to remove some of the mystique around investing and improve our understanding of successful investors’ strategies and tactics.

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STEPHEN CLAPHAM: In this episode, I sat down with Rich Pzena on a recent visit to London. He’s the founder of the eponymous 80 billion value investing firm Pizina Investment Management. We discussed his childhood observations of his father’s stock market portfolio gyrations, how he started a value firm just in time to be crushed by the dotcom bubble.

STEPHEN CLAPHAM: By February 2000, he was underperforming the S&P by 60 percent and he was ready to sell the firm. But he explains the extraordinary turnaround which then happened. We dig into what business quality really means, how to distinguish temporary problems from permanent impairment, and why, as a value investor, 40% of your positions can lose money, but you can still deliver a good performance.

STEPHEN CLAPHAM: We also get into position sizing and holding periods, the discipline of selling at fair value, why Pizina rotates sector coverage for analysts, and how they think about mentoring young analysts and talking to CEOs. I think you’ll really enjoy this episode. It’s a masterclass in deep value from someone who’s lived through some really difficult cycles.

STEPHEN CLAPHAM: So, Rich, I’m really pleased to be sitting down with you in London. Last time I saw you was in New York. And we always start with the same question. Did you always want to be an investor?

RICH PZENA: Depends how far back you mean by always, I guess.

STEPHEN CLAPHAM: But half the people on this podcast did a newspaper round and invested the money. And the other half had no idea what they wanted to do and just ended up in it.

RICH PZENA: Yeah, it’s interesting. I never thought of it as a career. So for me, I grew up in a household where I had a father who was an engineer. He had made a decent living, but he wanted to be Rich. And so he invested in the stock market. And it was dinner, timetable, conversation my whole childhood.

STEPHEN CLAPHAM: Oh, really?

RICH PZENA: And it was highly cyclical, OK? However he did was his mood. It was either he was happy or he was not happy.

STEPHEN CLAPHAM: Oh, dear. And did you, what sort of stocks?

RICH PZENA: You know, at the time, he just told stories about things. I remember, we’re going back 50 years, and he was talking about fuel cells.

STEPHEN CLAPHAM: Oh, really?

RICH PZENA: So it was, he was an engineer. He was way ahead of his time about electric, about cars powered by fuel cells.

STEPHEN CLAPHAM: Oh, wow.

RICH PZENA: And I watched. As these things went up, they went down, but they were, I didn’t really know what his style was. I couldn’t have discerned what his style was, but I listened. And I think there was a time when he reached a million dollars. Which would mean a lot of money then. Which was a lot of money. It started with, I think, $20,000 in the stock market. And he was on margin. And then it was $20,000 again.

STEPHEN CLAPHAM: Oh, no.

RICH PZENA: So I was exposed to it. Let me just. Put it that way. Then I went to school, and I never thought of it as something that you would do as a career.

RICH PZENA: I wound up going to Wharton, and I got a bachelor’s and an MBA. I took a finance program, and there was a class called security analysis.

RICH PZENA: It was the class I hated the most. Oh, really? Okay. The teacher made it. Wrote and quantitative, not discovery and intellectual. And we were taught about regression analysis and that kind of stuff. Useful. It’s useful, but it didn’t turn you on, right? No, sure. And I didn’t think about pursuing a career. And this was, I graduated in 1980.

RICH PZENA: And one of my close friends told me he’s taking a job at Fidelity. Out. At that point, you didn’t really know what Fidelity was. No, it was quite small. But to be an analyst. And I said, why would you want to do that? I don’t really get it. But he did, and he wound up running the Fidelity Contra Fund, and he was retired at 36. No. Something like that, yes. And then he pursued a different career.

RICH PZENA: So, but that— At that time, I didn’t know any of this. At the time, I thought, okay, that doesn’t sound interesting. And I now, I’m sure what he said I did wouldn’t have sounded interesting to him, but I went to work for an oil company doing and you have to go back to 1980 because in 1980, we were going to run out of oil.

RICH PZENA: And it was over 30 percent of the S&P 500 at the time. And so it was kind of an exciting area. And the first day I got to school, I got to work, I formed an investment club.

STEPHEN CLAPHAM: Oh, really?

RICH PZENA: And by the way, I forgot one step. While I was at Wharton, they required an advanced study project, they called it. And you did it with a group. So in my group was a guy named Joel Greenblatt. I’m sure you know. Oh, yeah, of course. And another guy, Bruce Newberg, who wound up going into the trading, a Wall Street trading business.

RICH PZENA: Anyway, we chose as our topic redoing the original research that Benjamin Graham did on buying stocks that sold below their net net working Capital. And… At the time, this was in the 70s, you remember, we didn’t really have computers to do the analysis.

RICH PZENA: Of course. We had the standard and poor stock guides that we flipped through. We realized that we couldn’t go through the whole. So we picked stocks starting with the letter A or B. That was our universe. And we documented that this was a still effective strategy.

RICH PZENA: And it wound up getting published, actually, in the Journal Of Portfolio Management back in 1981. So I went off to the oil industry and I said, I did this great thing. Why don’t we pool our money and we’ll invest in these kinds of things? So that’s how I thought of it as a hobby.

RICH PZENA: And we did okay. And the oil industry was booming. So I wound up going to Amoco, transferred me to New Orleans to work on oil and gas exploration. And then they moved. And I was sort of on an accelerated career path.

RICH PZENA: And then I moved back to the corporate headquarters and they put me in charge of. The five-year plan. And then I reached the dreadful point of working in a company because the management didn’t care at all about the five-year plan, but they did one.

RICH PZENA: Really? Because this was an oil company at the time was people who drilled wells, and they loved drilling wells. And if you went into board meetings there when I got a chance to observe, you’d see maps spread out over the table.

RICH PZENA: And geologists pointing out where they want to drill. And it’s just excitement. What are you going to plan for? Are you either going to find oil or you’re not going to find oil? And the price is going to go up or it’s going to go down.

RICH PZENA: So I got called by a headhunter who said, would you like to be an oil analyst? I said, no. And they said, well, why? I said, well, I read the analysis that came out of Wall Street, including writing, reading about what they wrote about Amoco, which is where I worked.

RICH PZENA: And I said, it reinforced my idea that I didn’t like security analysis. It wasn’t that good. So this headhunter said, well, you can make a lot of money. And I said, well, who would pay those people a lot of money?

STEPHEN CLAPHAM: A question that’s still valid today.

RICH PZENA: And she said to me, they do.

RICH PZENA: The guy… I think you should meet this guy. He’ll come to Chicago, which is where I was at Amico’s headquarters, and talk to you. So I said, OK. And I wound up meeting the guy who became my boss. We hit it off. I got a different impression of what this was. And then I was in Wall Street in my 20s as a sell-side oil analyst.

RICH PZENA: So this is a very long-winded answer to your question. We’ve got plenty of time. I apologize.

RICH PZENA: So I started publishing research on big oil companies.

STEPHEN CLAPHAM: Have you kept it?

RICH PZENA: I have. I have a lot of it. The first report I ever wrote was actually on the petrochemical industry. Then I did a report on natural gas, and then I started doing individual companies. So I do. I have some of that.

RICH PZENA: And it was… Good, but I didn’t like it. I didn’t like being a sell-side analyst focused on only one industry.

RICH PZENA: And I wasn’t managing money. And I was at Bernstein, where they had both a brokerage business and an asset management business. So I kept saying, I want to go on to the other side. And eventually, they gave me the opportunity. And I became the…

RICH PZENA: I got the opportunity to start up a new investment strategy, which is kind of crazy what they asked me to do because I was following big oil companies and they said, can you start a small cap fund for us? So I said I jumped at that opportunity.

STEPHEN CLAPHAM: Funny how finance is so badly managed. Yes.

STEPHEN CLAPHAM: But you did well.

RICH PZENA: But I did. We started it at a good time. By the time we were ready to, I mean, it was hiring the staff, it was developing the whole strategy. By the time we got our first client, they were ready to move me into another job.

STEPHEN CLAPHAM: Oh, really?

RICH PZENA: But I said, I wanted to keep this. I’ll take both jobs, which I did. I became the research director. And for a while, I also ran the small cap fund that they had started. And what made you set up on your own? And what gave you the confidence? Because you were still quite young.

RICH PZENA: I was still quite young, but I wound up spending 10 years at Bernstein. So I went from my 26 to 36. And I went. Part of that was as an oil analyst. And then part of it was as a research director. And then I became head of U. S. Equity investments. And I had a mentor there, Lou Sanders, who’s still in the industry and is still a great investor.

RICH PZENA: I respect him immensely, and I worked with him side by side for five years. Oh. And I built up the confidence at that point in time. And they wanted now me to go one step further. They said to me and they offered me. The job of global research because Bernstein was going to move into the non-U. S.

RICH PZENA: And I quit instead, right? I don’t think that was one of the outcomes that they thought I would have. But Joel Greenblatt, my friend from college, he had wild success by the time he was that age, starting his hedge fund. And he called me.

RICH PZENA: And he said, why don’t we both quit our jobs and we’ll invest our money together? So I said, that sounds amazing, but there’s one problem. I don’t have any. You have a lot and I don’t have any. So I don’t want to do that. So he offered to actually back me in starting a firm.

STEPHEN CLAPHAM: Oh, wow.

STEPHEN CLAPHAM: So he gave you his money to invest. He gave me his money. So he’s like one of the greatest investors. Correct. That’s a pretty big deal. Big vote of confidence.

RICH PZENA: He did. He did. And I left Bernstein. And for me, starting this firm was a lifelong dream, right?

STEPHEN CLAPHAM: Oh, really?

RICH PZENA: Okay. I also, the same father who was an engineer and tried to make it big in the stock market, also had this idea that you can’t make it big unless you’re in your own business.

RICH PZENA: I heard that growing up his whole life. And when you were in an, he was a mechanical instrumentation design engineer. In an economy that was highly cyclical, and he was laid off twice during my childhood. And those kind of things have an impact on you. And he said, if you were in your own business, you wouldn’t be laid off.

STEPHEN CLAPHAM: And I later learned what it meant to be in your own business when you have cycles. Yeah, it’s worse than being laid off. Yes, correct. At least when you’re laid off, you get a paycheck.

RICH PZENA: Correct, correct.

STEPHEN CLAPHAM: How funny.

STEPHEN CLAPHAM: Because you were backed by Joel, presumably people… It was easier to raise money. It’s always difficult to raise money at the start.

RICH PZENA: It was. It was. Actually, I found it easier to raise money than to hire good staff.

STEPHEN CLAPHAM: Oh, really?

RICH PZENA: The money, we wound up getting early. I mean, I don’t know. I presume this is luck and fortune. But it was the Northern Trust who had a— an emerging manager program, and they were advising other big institutions on selecting an up-and-coming manager.

RICH PZENA: And they connected me with the state of Oregon, and we got a $30 million account 30 days into starting the business. That’s fantastic. And their whole idea was they’re going to watch you and see if 30 million didn’t matter much to the state. But if you were good, then the promise would be that they would expand the relationship over time.

RICH PZENA: And so we had a good first year and a good second year. This is 1996 and 1997.

RICH PZENA: And so by the end of 1997, We were up to a billion dollars and beyond break-even and were kind of off to the races.

STEPHEN CLAPHAM: How many people would you have had roughly?

RICH PZENA: Like five.

STEPHEN CLAPHAM: So you were well beyond break-even. Yes. You must have been hugely profitable, five people.

RICH PZENA: Well, I was spending it on all the five people. I mean it was but it was these startup relationships are also relatively low fee too. Right. Because you’re saying, whatever, I’ll take whatever I can get.

RICH PZENA: And then we ran squarely into the internet bubble. So you talk about being stressed, but we went 10 straight quarters underperforming the market by a lot. This was a time when… The S&P 500 was up around 30% per year because of the internet. And our portfolio, we didn’t lose money. We were even. We were basically zero in those years.

RICH PZENA: And then in the first quarter of 2000, we had January and February, and it was more of this. And it was very depressing. We started to lose assets. I’ll tell you a funny story about one client interaction.

RICH PZENA: A woman walks into my office, she was a client, and she says to me, my grandmother’s a better investor than you are.

RICH PZENA: All you have to do is buy Cisco. Everybody in the world has figured this out except for you. So I try to say, try to do a rational explanation and say, you know, Cisco is the first company to reach half a trillion dollar market cap. If I had to buy the whole company and I wanted to make the 15 percent returns that you’re hoping to make, they would have to earn $75 billion a year. And they earn $1 billion a year.

STEPHEN CLAPHAM: They probably don’t have sales of that much.

RICH PZENA: Right. Don’t you think there’s something wrong with that?

RICH PZENA: And.

RICH PZENA: She said to me, you don’t get it, do you? And I agreed with her, and she closed her account. That was kind of typical of what was going on at the time.

RICH PZENA: So anyway, fortunately, we actually got an offer from one of the other value managers to acquire the firm. And Joel did make a little investment. In the management company and he owned a piece of it. And they would have given him his money back and given us all jobs.

RICH PZENA: And I said to Joel, you should really take this because we’re 60 percentage points behind the market. It’s not like this is not recoverable. And it’s all over at that point, right? And Joel said, don’t take it. I’ll keep funding the company during this tough period because we went back into the red at that point.

RICH PZENA: And he’s like the ultimate gentleman and partner that you’d like to have. He didn’t ask for incremental equity in the business.

RICH PZENA: And literally, he never even had to put a penny in because that’s turned around almost the next day. I mean, by the end of 2000, we were ahead of the S&P since our inception. So we gained 60%. Percentage points on the S&P in nine months.

STEPHEN CLAPHAM: Which you would have said would be impossible. I mean, I know the story, and of course I lived through that time. I know what happened. But you, I mean, you just, it would have been unimaginable. And how did you manage to cope?

STEPHEN CLAPHAM: I mean, you hadn’t had your own business before. It must have been pretty stressful. You had a young family, I guess. I did. I mean, what was it like personally? I mean, did you… Joe said, oh, you said, no, I’d rather take the job.

RICH PZENA: No, You were still up for it. We turned down the offer. We turned down the offer.

STEPHEN CLAPHAM: But in your head, how long did you think it would take you to get back to break even against S&P?

RICH PZENA: It’s funny because I don’t think you really think that way at the time. I thought that the worst, I’ll be able to get a job. I never doubted that I would be able to get a job. Okay. I mean, I was young.

RICH PZENA: I mean, I probably could have gone back to Bernstein. I don’t know what they would actually say, but I think I probably could have gone back there. I had a pretty reasonable 10-year run with them. And I had that kind of experience. So I think when people think about failure and the people that are going into these kinds of businesses or anybody starting up a company, they get overly worried about failure.

RICH PZENA: And that’s what… Hinders everybody. And my view of failure is, well, I just go back to doing what I was doing before and I’d be in the same position. How is that failure? You know, I’d have gained some experience over the few years. So I didn’t have that.

RICH PZENA: I said, I told my wife at the time that we would, we’re just not going to, we’re just going to buy groceries. We don’t need to do anything else until, so I never felt that. I felt more concerned about losing money for the or not participating not making money for our clients.

STEPHEN CLAPHAM: It’s funny because I interviewed Jeremy Grantham a couple of months ago and he said that they lost half their clients in the dot-com boom.

RICH PZENA: Yeah.

STEPHEN CLAPHAM: And, of course, when they came out of it, they were one of the top performing funds. Right. He said not one of the clients came back. Did any of your clients come back? No.

RICH PZENA: No. Same thing. We lost half, about half. Same thing.

RICH PZENA: And so, but we got different clients, right? Yeah, sure.

STEPHEN CLAPHAM: And obviously, you’re a lot bigger firm today. But you’ve endured another difficult period, right? I mean, value has not been very easy for the last, I don’t know, 10, 15 years. I mean…

RICH PZENA: No, it’s not. But it’s not been that different from the past, right? The difference is in the comparison to growth. But the difference in absolute returns is not that big.

STEPHEN CLAPHAM: So that was a worse period because you weren’t delivering.

RICH PZENA: We were zero for those two years. This time we’re making almost the same that we were making.

RICH PZENA: Over our whole entire life. The last 10 years, it’s been close to 10% a year.

STEPHEN CLAPHAM: So you’ve not been losing clients because they’ve been going to growth?

RICH PZENA: No, we have not. But we have a different business than we did back then. Back then, if you’re a startup, people are saying, okay, I’ll give you, you’re a smart guy, I’ll give you a chance, make money for us.

RICH PZENA: Now we’re hired for exactly what we do. And we’re extremely clear that this is what we do. We’re not gonna be investing in startup businesses or even… Trillion-dollar startup businesses like Anthropic. That’s for somebody else.

RICH PZENA: And so if you want us for this part of your portfolio, we’ll do what we say we’re going to do. And so it was not, right, at the time, it was mostly individual money. Now it’s mostly institutional. And the individual money that we have comes more in a sub-advisory relationship. With a sophisticated intermediary that’s not firing us.

STEPHEN CLAPHAM: Well, that’s good. Yes. And look, your philosophy is to buy good businesses experiencing temporary problems, earnings problems. You focus on normalized earnings and you invest when sentiment is extremely negative. Has that philosophy changed much in the last 30-something years? Is that exactly what you did? Exactly.

RICH PZENA: Exactly. If you looked at our sales pitch. From 30 years ago wouldn’t be that much different. It’s probably more elegant today and the graphics are better. But fundamentally, that is what we do. And there’s an endless supply of those, right? It’s not like you run out.

STEPHEN CLAPHAM: And are there more now because of the AI disruption?

RICH PZENA: Well, I mean, I don’t know if there are more, but there are plenty is the way I would put it. In fact, we… We define cheap as the cheapest quintile, so the cheapest fifth of the market. So if you’re looking at the Russell 1000, there’s always 200 stocks to buy. So the question is, how cheap are they?

STEPHEN CLAPHAM: Yeah.

RICH PZENA: Right. And today, if you measure that relative to the market, you can say there’s a giant wide gap. If you measure it in the absolute valuation, they’re a little better than average of what they’ve been over the last 30 years. Which is nice because there’s very little in the world that’s a little better than average from a value perspective. And values have declined over the last 10 years for value stocks in the U. S.

RICH PZENA: So it’s not that hard to find things today. And some of them are companies that you think might be disrupted by AI. But most are just totally unrelated. They’re just businesses that have run into some issue.

STEPHEN CLAPHAM: And on the AI disruption, I mean, it would be very odd, I think, for a deep value shop to have a tech analyst. Do you have to have a tech analyst?

RICH PZENA: No, no, no. We have tech analysts because of a few things. One, there are tech companies. Well, there are cheap tech companies. Right. Microsoft was in our portfolio. A decade ago. Google was in our portfolio a decade ago. I mean, we bought Microsoft at a single-digit PE multiple in the 20s and sold it in the 60s, thinking we had done great, and it went to 500 or whatever it went to.

RICH PZENA: So we didn’t even hear the word the cloud at the time that we had invested. But when you look at a company like a Microsoft that has a real franchise. And their franchise at the time was Windows And Office.

RICH PZENA: And those are very sticky businesses. You don’t analyze them like a technology stock, really, because I would tell you about Windows, at the time we owned it, every expert technologist said Windows is the worst operating system on the market. Oh, really? And yet it had a nearly 100% market share of the server business.

RICH PZENA: So they all the tech people all liked the things that were more techie.

STEPHEN CLAPHAM: Funny. That’s bizarre.

RICH PZENA: And Microsoft Office had become ubiquitous in the everywhere, in corporate America, but with anybody that’s doing any kind of spreadsheets.

STEPHEN CLAPHAM: It’s funny, I was talking about that this morning. We were recalling the great old days of Lotus 1-2-3, which was far better than Excel. It’s better than Excel today.

STEPHEN CLAPHAM: You’ve got three questions, three core questions, business quality, the problem being temporary, and management having a plan. I wonder if we could just talk about those. They’re very interesting. Business quality, how do you think about what’s a good business?

RICH PZENA: Business quality, the way that I would describe it is that this is a business that should make outsized returns given its characteristics. So those characteristics could be something like a dominant share position, a low cost position, a brand or a franchise that’s difficult to disrupt.

RICH PZENA: There’s all kinds of reasons that companies… Make returns in excess of their cost of Capital, but is not doing that now, right? So meaning that if the management had a business plan and you listened to the plan and you said, okay, that sounds reasonable, and it failed, you would say it’s worth trying again.

RICH PZENA: It’s not a business you walk away from because of the characteristics. So either another management team would come in. The board would replace the management. Or a buyer would come in and say, I think I can do this better. It’s just a kind of thing that is kind of obvious that you wouldn’t walk away from, even if it’s doing poorly today.

STEPHEN CLAPHAM: Yeah.

RICH PZENA: And so that’s what I mean by quality.

STEPHEN CLAPHAM: It’s interesting.

RICH PZENA: And then the problem is temporary versus permanent. Well, you know, it’s you don’t know, of course, but when you can specifically point to some bad decision they made that caused something to happen or some industry cyclical condition and you and you have a history of things going being good, it’s not that hard to figure out if it’s temporary or permanent.

STEPHEN CLAPHAM: But that must be the most that must be the most tricky thing.

RICH PZENA: It is.

STEPHEN CLAPHAM: Decision, because value traps are temporary problems that haven’t gone away, right?

RICH PZENA: They are. They are. And, you know, part of being a value manager is that you’re going to make mistakes. And you’re not going to think it’s a value trap at the time. I mean, I joke about this sometimes because the whole act of trying to avoid value traps.

RICH PZENA: Kind of makes it so you can’t be a value investor. Because you have no idea which are going to be the value traps and which are not. I mean, people say they know. I don’t know how they know.

RICH PZENA: You know, one of the things you do know are that companies that have weak balance sheets, whether they’re value traps or not, they may not have enough time to fix the problem. Companies that are in decline, where the business is in decline.

RICH PZENA: And I… You hear this when a company, they don’t use these exact words, so this is my paraphrasing with clear liberties taken. We don’t like our business, so we’re going to try another one. We avoid those kinds of things.

RICH PZENA: But when they really believe what their competitive strengths are and they can document them and they can tell you, this is what we have to do to fix it. And most of the time when you’re listening to managements on this, these are not short-term fixes, okay?

RICH PZENA: Because if it was obvious that they could turn this around in six months, it just wouldn’t be cheap.

STEPHEN CLAPHAM: Yeah.

RICH PZENA: And the odds that we figure it out that it’s going to turn around in six months and nobody else does is not a reasonable expectation.

STEPHEN CLAPHAM: So what are the signals that— would make you go yes or no? I mean, is it something the management says that confidence?

RICH PZENA: It’s logic.

STEPHEN CLAPHAM: Okay.

RICH PZENA: Most of the stuff is common sense. Oh, really? Okay. So I’m going to give you what will make us sound almost foolish.

RICH PZENA: And this was even before. This was when I was at Sanford Bernstein. So it was more than 30 years ago. Sears. Got cheap. Okay, now Sears was, now Sears is gone, right? But at the time, Sears had a long, long history of around a 4% margin.

RICH PZENA: And they had some great or perceived great businesses, Craftsman Tools. I don’t know if you know these brands. I’m not very familiar with the brands. And they had their own brand of… Of appliances, Kenmore appliances.

RICH PZENA: And we went to visit. The margins had eroded from four to one, and the stock price got killed, and the management was widely viewed poorly. And we went and visited and the CEO, the basic question is what’s going wrong and what are you doing? And he said, we don’t know.

RICH PZENA: Our systems are so bad that I don’t know which stores make money and which stores lose money. This is 50 years ago, 40 years ago. I don’t know which of our segments are profitable and which are not. Come back in six months and we’ll have finished this work and I’ll be able to give you a better assessment. That’s what the guy said to us. Wow.

STEPHEN CLAPHAM: I mean, that’s pretty honest. Yes.

RICH PZENA: We bought the stock immediately.

STEPHEN CLAPHAM: Just because?

RICH PZENA: Because we figured he would figure it out and then fix the problems. Okay. And he came back to us and gave us what I thought was the most shocking set of conclusions. We’re getting killed in the tool business because of Home Depot. We’re getting killed in the appliance business.

RICH PZENA: We make tons of money in women’s apparel, okay? And this was a discount department store, basically. And total shocks. So here’s what we’re going to do. We’re closing the tool business. We’re changing, we’re reconfiguring completely from only selling our brand to carrying all the brands and just being a reseller. And we’re expanding the size of the women’s clothing department. The margins went back to 4%.

STEPHEN CLAPHAM: Now, how do you gauge whether that’s going to be successful?

RICH PZENA: You don’t know, right? You don’t know. You just have to watch and see. You have to say that that’s what so many people can’t understand about value investing, real deep value investing. People think you have to know before you invest. We think you have to know what the range of outcomes is. So if you think that going back to from 1% is going to cause the stock to double because that would make logical sense.

RICH PZENA: Okay, so your upside is a double. The downside is, well, it’s priced as if they’re not going to improve anything. So what risk am I really taking by seeing if this works? They’re not financially insecure that they’re going to go out of business. It took 25 more years before that it would go out of business.

RICH PZENA: So the point… That I’m making is you’re just making a judgment based on what you know about the business, about the competitors, about the market and environment they go with, combining that with the plan that they have and said, OK, this has a chance of working. But we want to underwrite these holdings so that if we’re only 50-50 in our judgment, we’ll do OK.

RICH PZENA: And if you can be 50 percent chance that you double your money and 50% chance that you lose 25%. If I gave you that bet, you would take it any day of the week. But almost nobody in the stock market will take that bet because they don’t think about what the downside is versus the upside. They just think this is bad. I don’t know why you’d want to own this.

RICH PZENA: And in fact, I always joked that the most common question I got from our investors, and you also have to put the perspective back 30 and 40 years, is don’t you read the newspaper? Everybody knows that Sears is dead and it’s mismanaged.

RICH PZENA: So my perspective is I’ll take those every day of the week. And if I can be 60-40, because I have a bit of an edge by doing all this work, then I’ll have a great record over time. And we’ve managed to be around 60-40. But losing on 40% of your investments is not something that people readily admit to, but it’s been the reality.

STEPHEN CLAPHAM: And what’d you do with the 40%? I mean, how did you know when to sell? I mean, when did you give up?

RICH PZENA: You give up.

RICH PZENA: You have to have some sort of a systematic process of knowing what’s cheap and what’s not. Our process is just comparing the price to what we estimate the normal earnings should be in recovery.

RICH PZENA: So if you come to the conclusion that you were wrong, that the normal earnings of Sears is not $4 a share, it’s $1.50 a share, then you Mark it to $1.50 and say, wow, this is no longer cheap, and I exit. That’s how we do it. Similarly, if you think it’s still $4 and it’s still cheap, we would buy more.

RICH PZENA: But when it got to the point where it was fairly priced relative to that $4, then we would exit. So to me, the discipline is the same. You just have to constantly be I almost say be obsessive about did you get it right. And you have to be open to not fall in love with these companies and say and I think that’s what a good portfolio manager does. It’s more on how you behave when you got things wrong that dictates your success.

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RICH PZENA: Well, so one of my partners who unfortunately… Passed away from cancer at a young age. But this is a while ago. But his first doc, this is a good example. He worked on Agco, which was Oh, yeah.

STEPHEN CLAPHAM: Tractors. Right.

RICH PZENA: Agricultural. They were kind of the number three player in the world.

RICH PZENA: And he did all this analysis on why The cycle should be good and this company’s earnings should grow. And the stock fell 50% in the first six months.

STEPHEN CLAPHAM: 5-0.

RICH PZENA: 5-0. Right.

RICH PZENA: And we reviewed it again. He was, like, suicidal, I’ll tell you, because that’s what you think about when that’s your first company you worked on. It can only get better.

RICH PZENA: But we redid the research. And we concluded that he had gotten it right and we doubled our position. And eventually it was like a 4x on the lower price and maybe a 3x on our average price. But it’s such an important learning experience for an analyst. And he focused too much. On what he thought the long-term normals should be and not on the path.

STEPHEN CLAPHAM: And do you worry about the path?

RICH PZENA: Well, we try not to buy while a business is deteriorating. Right.

RICH PZENA: If you wait till it’s obvious. You missed out. So that’s the trick. I mean, it’s an art. It’s not a science. So we do. We worry about, you know, mostly businesses don’t. Behave in a V-shaped pattern. They deteriorate. The management tries to do something about it. Then it bumbles along the bottom for a while. That’s one we’re trying to buy. But it could have another leg down, which is what Agco did. But then you reanalyze it, stabilizes again, and you say, I still like the risk-reward tradeoff.

RICH PZENA: So but sensitivity to what could happen if you get it wrong is such an important thing for an analyst to learn firsthand. And it’s fine. He probably was worried about his career. And we would have he would have been my successor. If he hadn’t passed away. So it’s because he was really smart and he did good research. And in the end, he did get it right.

STEPHEN CLAPHAM: Yeah. Agco is a funny one because it was very sensitive to commodity prices. Because I used to play around in the agricultural space. There’s quite a lot of different ways of playing it, plantations to tractors. Right. I thought it was always very interesting. It was quite good data, particularly in the United States on agricultural yields. Yes, absolutely. So you could watch the cycle. And just occasionally, the cycle, the stocks got completely out of sync.

RICH PZENA: They did.

STEPHEN CLAPHAM: They did.

RICH PZENA: And the interesting part about the agricultural business is that the tractor installed base is roughly flat, right? So it’s a replacement cycle. The You can do pretty decent long-term arithmetic. You can’t know what the commodity cycle is going to be.

RICH PZENA: So if that goes against you, it goes against you. But you know that people have to replace their tractors when they wear out and they have a useful life. So that in and of itself gave you some confidence that this was an okay business.

STEPHEN CLAPHAM: I was looking on your website. You’ve got lots of funds and you’ve got a wide range of number of stocks.

RICH PZENA: So Yeah. The U. S. Best ideas is 15 to 25. Global best ideas is 20 to 30. Global value is 60 to 95.

STEPHEN CLAPHAM: I wonder, is that because of the preferences of the lead PM or is it to do with the sector?

RICH PZENA: It’s the client preferences. Oh, really? Okay. So not everybody wants your highest octane product. And so the best ideas are highly concentrated. They’re more volatile. They take bigger… Sector bets and bigger individual position size bets. They’re also our highest fee products, and they have the best records. But they’re more volatile.

RICH PZENA: Other people would say, I don’t want to pay that fee, or I don’t want that kind of volatility. And particularly when you’re dealing as a sub-advisor to a retail client base, they want— More deference. Yes. And so we’ve been so it’s the same philosophy on all of these, on doing the research. But and we started as a purist that we’re only going to do the best ideas.

RICH PZENA: And then you run into we can’t take this. And it winds up you wind up negotiating into a new product is what happens. And so we have that range from folk we have kind of three levels best idea focused and then the and if you’ve got like a 10 to 15 stock portfolio do you equally weight it how do you know it’s a risk it’s also weighted by conviction by cheapness what.

STEPHEN CLAPHAM: What would be the maximum you would hold in a single stock or in two or three?

RICH PZENA: So we would hold 10%

STEPHEN CLAPHAM: Well if you’ve got 10

RICH PZENA: We don’t have 10 anymore. The minimum 15 to 25.

STEPHEN CLAPHAM: Sorry. So you yeah, 10.

RICH PZENA: So it’s we can hold 10 percent at cost and 15 percent at market if it goes up. And that’s a sort of hardwired. And that’s a hardwired saying we have to start trimming it back just for risk exposure. But those are big Position sizes for is not they’re not for the the tame at heart.

STEPHEN CLAPHAM: No, no, no sure And, how long typically does an investment take to work?

RICH PZENA: Besides some of these our average holding periods around three and a half years Some of them work fast some of them drag out and It’s rare that it’s within a year because we are looking at, for almost certainly, at companies that will take more than a year to fix their problems because that’s what comes as cheap, right? That’s what screens up as cheap.

STEPHEN CLAPHAM: Because you tend to be early.

RICH PZENA: We tend to be early. We also… Tend to have a higher threshold for how cheap it is. I mean, it has to have a lower valuation. We’re not saying the Russell 1000 value index is a 22 PE portfolio and we want a 19 PE portfolio. No, we want a single digit portfolio. And to get single digit, it’s the people have to have given up on this company. The market has to have given up.

STEPHEN CLAPHAM: Do you have any other ways of assessing whether people have given up rather than the cheapness? I mean, I used to like the conferences. So I used to ask, are there any stocks where nobody wants to see the management?

RICH PZENA: No, actually, we’ve never done that. But no, it’s all based on valuation. We’re doing it based on valuation.

STEPHEN CLAPHAM: I remember one of the first investment conferences I went to, CLSA, a big conference in Hong Kong. And won the stocks. You couldn’t get a seat. I just thought, oh, no, no. Well, of course, we were long and short, so we could have shorted it. And just talk a little bit about your firm. Am I right in thinking you went public at one point?

RICH PZENA: We did. So Joel Greenblatt, who was the funder, the funder, not the founder, the funder. After we had some fairly big success post-internet bubble, he had put his shares in trust for his children. And it was now a valuable asset that was concentrated in a sole asset in a trust for children. And he had some pressure to sell. And we barely had a handshake agreement, really.

RICH PZENA: And he had no way to get out of his—so he asked. How can I sell part of my shares? And we started a process in 2005, roughly, to look at ways that we could raise the money to buy him out or buy half of his stake out, which is what he wanted.

RICH PZENA: And at the time, this was pre-financial crisis, so the bank money was scary available. I mean, it was, we’ll give it to you with a low. Low interest rate, long term, no covenants. Just like today. And I said, don’t you understand? I was saying this to J. P. Morgan.

RICH PZENA: Don’t you understand that people can fire us at will? They just send an email and we’re fired and we don’t have any revenues anymore. There’s no guarantee about our future. And they were trying to reassure me. You have a sticky business. I said, I’m not borrowing money. I’m sorry. I’m not going to do it.

RICH PZENA: And then we went to private equity firms and there was a parade of them that came in. And the whole process of this kind of stuff always amazed me because you’d have a one-hour meeting and you’d get a term sheet from a private equity firm.

RICH PZENA: Now, it was subject to due diligence and all of that. But the terms were always very similar, which was it’s temporary Capital. You know, we’re in a fund. After five years, we’ve got to sell it. You’ve got to either help us get out. You’ve got to redeem.

RICH PZENA: And I just figured, do I really want to spend my life finding another partner every five years? I don’t want to do that. So we hired a banker and we tried to find a strategic partner that would take a permanent position.

RICH PZENA: And we did. We actually found a European bank. That would do it. But when we got the actual terms in writing, it was clear that they weren’t going to leave us independent. They wanted control over everything, even though they had a very small stake.

RICH PZENA: And the banker said, why don’t you go public? You’re going to get the best valuation because the markets are a little frothy. It wasn’t even for me. It was for Joel.

RICH PZENA: You then will have liquidity for yourselves long term. So we thought that that was a good idea. Turned out not to be a good idea.

STEPHEN CLAPHAM: Why wasn’t it?

RICH PZENA: Because we really didn’t have liquidity, right?

RICH PZENA: And I was not smart enough to figure that out at the time. If I sold one share, the stock price would crater. And I always thought, you know, if we’re doing really well and we continue to do well, we can sell a little bit at a time.

RICH PZENA: And then over the years, the business became profitable. It doesn’t require a lot of Capital. So we distributed all our earnings. And then I never worried about having to sell it anymore. So I lost that and the market enthusiasm for traditional asset managers and particularly value asset managers disappeared.

RICH PZENA: The valuation was ridiculously low and so we went back private again. This time we did borrow the money but we had a much, much more diversified client base that had much more stable characteristics than we did 20 years ago.

STEPHEN CLAPHAM: You sold it at what multiple and bought it back at what multiple? Half? Roughly.

RICH PZENA: Yeah, we sold it at around 20 times after-tax earnings and bought it back at 11 or something like that.

STEPHEN CLAPHAM: Funny, isn’t it? And what did you learn from being the CEO of a public company that you never wanted to do that again?

RICH PZENA: Well, I mean…

STEPHEN CLAPHAM: It must have been interesting to be on the other side of the table, no?

RICH PZENA: Yeah, yeah. I mean, we were… Nobody paid attention to us. So we were a very small cap company. We only sold at the end, we only had like 22% of the company was listed. We had shareholders that would talk to us. But it was not distractive at all.

STEPHEN CLAPHAM: Oh, really?

RICH PZENA: It was not. We were… Very clear that we were running the business the way we would run the business. We retained voting control.

RICH PZENA: And if you want to be on along for the ride, that’s great. And we’re happy to talk to you. We had an investor relations person that got questions, but it wasn’t a big burden for me. What happened was the costs of being public started really going up with D&O insurance. Fancy accountants, you have to have fancier accountants than you really need for a kind of a simple business of collecting fees and paying salaries.

STEPHEN CLAPHAM: No, come on. When you’re buying stocks and they’ve got not the Fancy accountants, you’re not worried?

RICH PZENA: Yeah, that’s why you have to get them.

STEPHEN CLAPHAM: Yeah.

RICH PZENA: Right? So we had to get them. And they charge twice as much as the not Fancy accountants.

RICH PZENA: So, you know, it was a multimillion-dollar bill to be public that we wouldn’t have to pay. As a private company. And there was no value. There’s no liquidity. The valuation was terrible. The costs were high. You say, why are you doing this? So we exited the markets.

STEPHEN CLAPHAM: The team, I mean, some of your original partners are still with you, I think. Is that right?

RICH PZENA: Three founders are all still there. Two of us have given up our day-to-day responsibility. So I’m no longer running the company. Just an investment guy and part of the investment team. And my partner, Bill Lipsy, is not running the business side of it, but he’s still getting involved in big transactions and big clients and some startup investment products that we have.

RICH PZENA: But neither of us are in the office five days a week. I’m a three-day-a-week guy in the office now.

STEPHEN CLAPHAM: Can you function like that?

RICH PZENA: Oh, yeah, because, well, I mean, it’s not like you’re turned off the other days. No, sure. But I don’t, I, you can, yes. When you don’t have, when you’re not the person who has deliverables on a daily basis and you’re mostly acting as a mentor and a coach and trying to develop the younger analysts into better investors and trying to take the portfolio managers and challenge them.

RICH PZENA: And we’re not a very active trading firm, so the answer is yes, you can. I can do this for, I think, until they kick me out because I’m not helping, you know.

STEPHEN CLAPHAM: And talk a little bit about mentoring people and how you train people in the firm.

RICH PZENA: Well… We tend to hire our investment people at a not right out of college level. It’s people that have had some experience and are maybe more like 30 years old.

STEPHEN CLAPHAM: Why is that?

RICH PZENA: Because they’ve gained some maturity. We tried the young people, and they just had trouble interacting with CEOs. They were intimidated.

RICH PZENA: They just weren’t mature enough. That’s the bottom line. There’s a lot of smart people. And we also wanted people who had some kind of. Business experience more so than investing experience. Right.

STEPHEN CLAPHAM: Okay, that’s smart, yeah. And so that’s presumably particularly helpful if you’re looking at the path to recovery.

RICH PZENA: Correct. Yeah. Correct. We figure the investment part of it is easy. If you get the business right and you know the price and you know what’s going to happen, it’s not that hard to decide whether to buy it or not. But the hard part is, can you really analyze this business properly?

STEPHEN CLAPHAM: And you rotate sectors. We do. This is… Quite interesting because I was talking to one of my clients, a very big hedge fund, and the founder, one of the founders said to me, he said, you know, the analysts get too bogged down in their they fall in love with the stocks and they’re and I said, well, you know, Fidelity, rotate the analysts.

STEPHEN CLAPHAM: He said, well, really? He said, maybe that’s what we should do. He hasn’t done it yet. But talk about that. Why did you do that?

RICH PZENA: Look, when I was still at Bernstein and I was the oil analyst, they asked me. To be a mentor to the retail analysts that were coming in. Bernstein hired two retail analysts and asked me to mentor them. And the process there was they had a lot of experience in retail.

RICH PZENA: Both came out of the industry. They knew way more than I knew about the retail industry. But we put them in an office for six months while they write their first research report. It was a big, thick black book. That’s what Bernstein was famous for.

STEPHEN CLAPHAM: Yeah.

RICH PZENA: And then— Still. Still, and then you would launch them to the clients. So I had one meeting that I’ll never forget.

RICH PZENA: We went to this guy, and I can’t come up with his name right now, but he said to me, the reason I love Bernstein Research Reports is because the initial report your analyst writes are the best research on Wall Street. And I…

RICH PZENA: That really had an impact on me because I kind of observed that. Like the first year an analyst does work on an industry is the best.

RICH PZENA: They bust their butts, right? They read everything. They build models. They gather data. They go to conferences. They call everybody.

RICH PZENA: And after a year, they kind of think they’ve got it figured out.

RICH PZENA: So in year two, I think the workload drops 80 percent, right?

RICH PZENA: And by year three, and this is being somewhat facetious, they play golf.

RICH PZENA: You know, they go to the conferences, but they’re more there to meet people than they are to learn something. So I said, why are we having them continue to— Follow these companies.

RICH PZENA: And by the way, when you’re hiring people and you tell them you only cover an industry for three or four years and then we rotate you, they love it. Ok, they love that concept because they’re not from Wall Street generally. And the idea that you’re going to get stuck doing one thing for the rest of your life is unappealing.

RICH PZENA: It also develops better portfolio managers. So if you’ve had a chance to see… Five or six or seven different industries over the course of your developmental stage, then become a portfolio manager, you’re better. Third, it means you have more than one expert in the firm on everything. You’re not just one person. And so there’s some healthy debate.

RICH PZENA: And there’s always the new guy that’s taking over for the one that’s giving up the coverage. The new one always thinks, oh, I’m going to show this guy up and I’m going to do a better job. Find out what he did wrong. And so you get a fresh think-thought process. And finally, I think you keep analysts longer when you challenge them intellectually.

STEPHEN CLAPHAM: Interesting.

STEPHEN CLAPHAM: When there’s a rotation, I’m assuming this will be a firm, wide rotation, or is it you do one or two at a time?

RICH PZENA: Yeah, it happens constantly. Oh, right. So it’s not like everybody changes places. There’s a new person that comes in and they get one of the old ones and you it’s like a musical chairs. The research director orchestrates this.

STEPHEN CLAPHAM: Right, they’re able to coordinate, I imagine. But when somebody new takes over, do you ever get that insight and go, actually, we should get rid of this stock?

RICH PZENA: Yes, absolutely. Absolutely.

STEPHEN CLAPHAM: How often does that happen?

RICH PZENA: Not that often, but, you know, I can think of a few examples where we… We changed the whole thought process on an industry because the new person had a different perspective.

STEPHEN CLAPHAM: That’s interesting. You don’t fall in love with your stocks, obviously, do you?

RICH PZENA: No. I mean, first of all, we’re always doing research on new things and we’re always fully invested. So if you want to buy a new thing, you have to sell something. You just have to choose what you’re going to sell.

RICH PZENA: So our discipline is when it reaches quote-unquote fair value, which for us is we’re ranking stocks from cheapest to most expensive. When it reaches the midpoint, it has to be sold. No questions asked. Even if you don’t have something to replace it with will hold cash for some period of time.

STEPHEN CLAPHAM: Oh, really?

RICH PZENA: Yes. I mean, and that happens occasionally. Sometimes there’s friction because you didn’t finish doing work on something. But more often than not, it’s you want to buy something, you don’t have any money.

STEPHEN CLAPHAM: Yeah.

RICH PZENA: So you say, okay, what’s close to fair value that we would sell and replace it with something that’s very cheap? And that’s how the process works.

STEPHEN CLAPHAM: And it’s usually one in one art, I think.

RICH PZENA: Yeah.

STEPHEN CLAPHAM: And you said it’s second nature for you to go through a sheet of numbers. Is that sort of pretty much a requirement in your shop? You’ve got to be pretty volume oriented.

RICH PZENA: I know I would say no. I would say that different people have different skills.

RICH PZENA: So be like looking at a page of numbers and getting it is I have that. Ok.

STEPHEN CLAPHAM: That’s just innate.

RICH PZENA: It’s just innate. My partners who are senior partners don’t function that way, right? They have to really understand and are more verbal. They need the words. They need the dialogue with the company.

RICH PZENA: They still have the same kind of insight, but they arrive at it in a different way.

RICH PZENA: So we’re looking for a couple of skills, pure analytical ability.

RICH PZENA: Second. Is ability to get information right that to talk to a CEO of a company in a way that you get something out of it it’s a big skill well my partner John gets who is the co-chief investment officer with me that’s he’s the best i’ve ever seen at that now he was a CEO okay he he he was in work for a chemical company it.

RICH PZENA: And he ran their Asian operation. So he was a divisional CEO, not a corporate CEO. But when he goes and talks to other CEOs, it’s like a natural, you just watch it happen. It’s a gift, okay? It’s an innate gift.

STEPHEN CLAPHAM: And it’s about making them feel at ease or making them feel that they’re…

RICH PZENA: That you’re intensely interested in what they have to say, that you’re… That it’s a two-way dialogue, that you’re not just looking at your question list and then asking one and going on to the next one, that you’re, you know, I can describe it.

STEPHEN CLAPHAM: I feel embarrassed. I’ll put my question to me.

RICH PZENA: No, you’re not doing that at all.

STEPHEN CLAPHAM: But it is an important skill. And it’s one of these things that you don’t really get formally taught.

RICH PZENA: Correct. And he teaches that. Ok. But mostly by modeling it, by taking people with him and saying, you sit there and be quiet the first time you come. Second time, ask one or two questions. The third time, we’ll split it. And the fourth time, I’ll watch you. You know, something like that.

STEPHEN CLAPHAM: Okay, cool.

RICH PZENA: And then I’ll give you my feedback.

STEPHEN CLAPHAM: So this must be particularly important doing what you do because a lot of it is about the ability of that CEO to implement the plan. Correct. So are there lessons that you can share about how you judge management and you judge their ability to deliver?

RICH PZENA: Yeah, I mean, it’s an interesting comment because almost by definition, I used that Sears example before.

STEPHEN CLAPHAM: Yeah.

RICH PZENA: They have to do something stupid to get cheap, right? Yeah. So now it’s not always their fault. So I don’t want to make that. That’s an exaggeration of the statement. But… They’re managing an enterprise that is not doing well. And most people judge a management’s capability by the results.

RICH PZENA: They have no other basis for judging them. And we sort of look at this and say, okay, that’s true, but everybody is fallible and makes mistakes. We all have made mistakes in our career, and sometimes those mistakes can have a big impact on the earnings of a company. So. We’re more judging it based on the plan.

STEPHEN CLAPHAM: Sometimes it might not be their fault. I mean, it’s something, an exogenous event. Correct. But they must be in a very defensive… Position at this point because their investors hate them, their employees hate them.

RICH PZENA: Yeah. One of the things that’s true, the investors definitely hate them. So when we show up and we say we really are thinking about buying the stock and we have a lot of questions because we are not going to go into this without really understanding, are you willing? Now, when you’d have nobody that wants to talk to you, you’re generally very willing.

STEPHEN CLAPHAM: Well, the only people who want to talk to them are in pod shops that want to short the stock.

RICH PZENA: Yes, right. So we get access mostly by convincing the investor contact that we’re worth talking to so that we’re asking serious questions. We’re not trying to get them to divulge something about the current quarter so we could trade it and make a buck. We’re trying to understand should we be an owner of this business for a long time?

STEPHEN CLAPHAM: But you’re not going to be there for that long, are you?

RICH PZENA: No, and we tell them, all right, we’re going to once.

STEPHEN CLAPHAM: But they’re so desperate that any friend is a friend.

RICH PZENA: Correct. And when you’re in favor, you’re having plenty of shareholders. You know, you’ll be happy to see us be gone because it’s not good for you when you’re our shareholder.

RICH PZENA: And they kind of understand that message and they respond to it.

STEPHEN CLAPHAM: So we have generally good access. I’m sure you do. That’s really fascinating. Really fascinating. And you’ve been doing this for such a long time. The market structure has changed tremendously. You know, there’s passive, there’s pod shops, there’s fewer active managers around.

STEPHEN CLAPHAM: I mean, David Einhorn famously was complaining that, you know, the Fidelity and Capital guys weren’t there for him to sell on his positions to, you know, that used to pass the parcel. You know, dude. What’s your observations after all this time in markets? I mean, is it a lot more difficult today?

RICH PZENA: Well, I mean, to some extent, it creates better opportunities. So I understand what you’re asking. It’s more difficult in that if you’re beholden to your relative performance against a benchmark, it’s very difficult. So we make it clear that we’re not.

RICH PZENA: If you want somebody that’s going to beat the S&P 500 all the time, I don’t even know how to tell you. I wouldn’t even try to do that. I don’t have a clue. If you want somebody who’s going to buy cheap stocks and sell them when they’re not cheap, independent of what the market’s going to do, okay, we’ll hire you. And I know you’re going to evaluate us against the market anyway, but…

RICH PZENA: There are institutional funds that have explicit review processes for managers. And they say if you underperform your benchmark for four consecutive quarters, you go on the watch list and then two more quarters and you’re out. So I say to the people, we’ll definitely be on your watch list.

RICH PZENA: So are you sure you want to hire us? Because we’ll definitely be on your watch list. Because there are going to be times when what we do is not related to the benchmark. Or, you know, especially, you know, the more interesting question is how the benchmarks have changed.

STEPHEN CLAPHAM: Yeah.

RICH PZENA: Right? So the Russell 1000 value, I don’t know if you know how those are constructed, but there’s equal market weight in the Russell 1000 growth and the Russell 1000 value. So the Russell 1000 value has 900 stocks in it, 900 of the thousand are in the, so everything is in the Russell 1000 value except for the highest flying growth stocks.

RICH PZENA: Not what I would call our universe, right? We would, most of the stocks we wouldn’t own. So if you’re going to evaluate us compared to that, I don’t have a better benchmark. I mean, I really don’t. I could, I could create one, but it’s not a publicly available benchmark.

STEPHEN CLAPHAM: Sure.

RICH PZENA: So.

RICH PZENA: If it’s important to you that we look like the value index, we’re not the right people to hire.

RICH PZENA: I believe in the long run we beat the value index because it’s not just a dumb construction. It’s not value. And value works. We’re going to beat it in the long term. But there could be long periods where we don’t.

STEPHEN CLAPHAM: And you There’s nowhere you won’t go. Is that right? I mean, you won’t own stocks in China or…

RICH PZENA: Well, no, we own stocks in China, particularly when… When somebody says a market is uninvestable, I mean, you should just load up.

RICH PZENA: And China is not. Like, when you look at the Chinese market, it’s a massively diverse market with pretty much all different kinds of industries. Some of them are not export-oriented. Some of them, I mean, they’re all different things that you can have exposure to. So the idea that you’re universally make a top-down decision like that.

RICH PZENA: Seems strange.

STEPHEN CLAPHAM: But you only invest in America, is that right?

RICH PZENA: Me personally. Yes, my part. We’re co-chief investment officers. I do the U. S. Side. My partner, John Goetz, is in charge of the U. S. Side.

STEPHEN CLAPHAM: And is there a reason for that?

RICH PZENA: Yes, because there’s a limit to any human being’s capability. And if you want to really understand the stocks that you’re in, that you can’t do everything.

STEPHEN CLAPHAM: Thank you. Just to finish off, I mean, if you were to go back and advise the young, Rich, five quarters in of the underperformance of five of the ten, what advice would you give them about being a success? You’ve been an amazing success.

RICH PZENA: I would say do what you’re good at, not what you think somebody else wants.

RICH PZENA: And if they choose not to hire you, just. Wish them luck.

RICH PZENA: It’s not personal.

RICH PZENA: And, you know, that’s why, to me, when I did a succession plan, it was so important for me that it’s an investment person that succeeds me, not a business person. Because a business person looks at the market and says, look what’s hot. We can do that. Let’s have that product.

RICH PZENA: And an investment person says, what are we good at? Let’s do that. And They’ll come if they want to come. It’s a very different mentality in the direction of a firm. And so we’ve been very religious about doing what we do and not making excuses. I mean, if we make mistakes, we own up to the mistakes.

RICH PZENA: If the mistake is a mistake of omission because we didn’t buy an NVIDIA, I would say, OK, well, you have a lot of other people that buy NVIDIA. So you should have them as your managers that do that, not us. And if you want us to make that decision, you hired the wrong people.

STEPHEN CLAPHAM: You’ve built a massive business and you’ve got your name above the door, but you’ve built something that endures without you, right?

RICH PZENA: It does, yeah. And particularly given that I never focused on the non-U. S. Part side of our business and it’s now 75% of our assets.

STEPHEN CLAPHAM: Oh, really?

RICH PZENA: Yes. So that’s where all the growth has been for us. And mostly because we were. Kind of an early as a pure value practitioner in non-US markets.

STEPHEN CLAPHAM: I see. So you were just a lead.

RICH PZENA: Yeah.

STEPHEN CLAPHAM: And there’s more competition in the domestic.

RICH PZENA: Yeah. Now nobody wants to be a value manager anywhere.

STEPHEN CLAPHAM: But it’s going to have its day again.

RICH PZENA: It is going to have its day again. Yeah. And really, the performance over the last 10 years, while it’s lagged the market dramatically, It’s not that different from what our long-term record is. So the real bet for us is that the market can’t continue to produce 15% returns.

RICH PZENA: Among the biggest companies cap-weighted based on whoever had the trailing success. I mean, the idea that the same companies are going to be the leaders in the next decade and in the past doesn’t have a lot of historical precedent.

STEPHEN CLAPHAM: But we’re in a different era.

RICH PZENA: Yeah, I guess.

STEPHEN CLAPHAM: It could be different this. I’m not saying it is, but it could be.

RICH PZENA: Of course. Of course.

STEPHEN CLAPHAM: I don’t know if you saw, there was a very good presentation yesterday by a gentleman from Boston Partners about the AI economics. Yes. I thought it was fascinating.

RICH PZENA: Yes. I thought he was very brave to do that kind of an analysis.

STEPHEN CLAPHAM: And it’s really difficult to do because I’ve tried to do it. I don’t have the technical understanding to do the sums. But no, I thought it was very interesting. And do you think the SpaceX IPO is kind of like the AOL, Time Warner, the Vodafone, Bertelsmann?

RICH PZENA: I don’t know. Yes, but I don’t have any basis for saying that. I just think that the idea that you have multiple trillion-dollar companies that are competing for a technology that isn’t resolved yet is just crazy. They can’t all be worth a trillion dollars.

RICH PZENA: And so if you bought them all with the idea that you’re going to hedge your bets, I think you would have a losing proposition. And if you knew which one was going to win, then pick it. Ok, I don’t know how to know that.

STEPHEN CLAPHAM: You’re very good at saying I don’t know.

RICH PZENA: I tell you, that’s one of my best skills. Yeah, because I think you should acknowledge when you don’t know.

STEPHEN CLAPHAM: We always finish by asking our guests to recommend a book, be a book that you’re enjoying or a book that a young person entering the industry should read.

STEPHEN CLAPHAM: Well, do you have any book recommendations? Are you a reader?

RICH PZENA: I’m a reader. Yeah. I don’t read that many investment books.

STEPHEN CLAPHAM: You probably don’t need to.

RICH PZENA: But I read Joel Greenblatt’s book. Yeah. Okay. And that’s a must for somebody entering the market. It’s like, even you can be a stock market genius. That’s not the exact title, but it’s something like that.

STEPHEN CLAPHAM: We’ll get the title right in the show notes.

RICH PZENA: And then I read a mixture of fiction and nonfiction. I read a very interesting biography recently, which I guess is, I’m very late to this because it’s been around for, but it’s called The Power Broker. It’s about. Robert Moses, I don’t even know if you know who that is.

STEPHEN CLAPHAM: I don’t know.

RICH PZENA: He is the guy who built all the infrastructure in New York City and the surrounding areas as an architect. Now, by infrastructure, I mean bridges and parkways and highways, and it’s a fascinating, fascinating book.

STEPHEN CLAPHAM: Why is it so interesting?

RICH PZENA: Well, part of it is being a New Yorker, it makes it more interesting because you know all these places. And you drive out of New York on Long Island and you pass something called Jones Beach. Well, Jones Beach was like a dream of providing recreation for the masses, OK? And it’s 100 years old now.

RICH PZENA: And on Long Island outside of New York were all the estates of all the wealthy industrial barons. And he was going to build roads right through their properties.

RICH PZENA: And so it talked about, so it was fascinating.

STEPHEN CLAPHAM: Okay.

RICH PZENA: It’s actually a Pulitzer Prize winning biography. Oh, wow.

STEPHEN CLAPHAM: Oh, fantastic. Okay. I’m going to buy that. It’s long.

RICH PZENA: It’s like a very thick book.

STEPHEN CLAPHAM: Oh, no. Okay. So I might get the Kindle version and take it on the holiday.

STEPHEN CLAPHAM: Listen, it’s been such a pleasure talking to you. I really appreciate your time. Thank you so much. Thank you. I enjoyed it myself.

STEPHEN CLAPHAM: That was Rich Pzena. I loved how candid he was about the pain of the late 1990s bubble. Ten consecutive quarters of underperformance, a client telling him their grandmother was a better investor, and a sale of the company in prospect. And there was Joe Greenblatt, persuading him to hang on, backstopping the losses, and not asking for anything in return.

STEPHEN CLAPHAM: What a friend, and how shrewd. And Rich’s equanimity, the idea that failure is rarely as final as we imagine it. He knew he could just go back to what he was doing before. His investing philosophy, buy good businesses with temporary earnings problems, focus on normalised earnings, and insist on a big valuation gap, is deceptively simple, but the discipline around it is what really struck me.

STEPHEN CLAPHAM: I so enjoyed our conversation, and I hope you did too, and it may inspire you to leave a review. And on that, hang on for another minute for something quite different. Special. If you enjoy the show, the best way of helping me spread the word is leaving a review or even just a five-star rating.

STEPHEN CLAPHAM: It gives the podcast social proof and helps attract new listeners. Each month, I’m going to read out a couple of recent listener reviews. I love that you’re honest with me, even when it stings a bit. First up, a listener calling themselves US Expat 1 in the UK store left a three-star review titled Good Content But. They wrote, Steve gets great guests, but his voice and accent are highly irritating.

STEPHEN CLAPHAM: Well, Expat One, that’s brutally honest. The guests are great, the host not so much. The bad news for you is the accent is probably here to stay. But the good news is the guests will keep doing the heavy lifting. And to balance that, here’s one from the lovely Harold from Berlin in Germany, titled One of My Favourite Investing Podcasts.

STEPHEN CLAPHAM: This is one of my favourite investing podcasts. The host, Stephen Clapham, apart from being very pleasant to listen to, knows how to ask the right questions and how to tease out previously unknown aspects about his guests. So between London and Berlin, I go from highly rating to very pleasant to listen to. That’s what I call a range of opinion.

STEPHEN CLAPHAM: If you’d like to add your own verdict, please leave a rating and review wherever you listen. Each month, I’m going to pick out two reviews. A winner will get a Behind The Balance Sheet polo shirt and a runner up. Or get a baseball cap. Just post the review then email me with a screenshot. Thanks for listening. Even you, US expat one.

DISCLAIMER: Behind The Balance Sheet and affiliates and podcast guests may own shares or have an economic interest in securities discussed in this podcast, which is aired for your education and entertainment only. Nothing in this podcast should be construed as investment advice or relied upon for investment decisions. Always do your own research.