Legendary Investor Series: Martin Whitman - The safe and cheap man

"We are cowards." That's how Marty Whitman, the octogenarian dean of deep-value investors, describes himself and his colleagues at the firm he founded, Third Avenue Management.

Why? Simple, Whitman explains: "We hate to lose money."

Martin Whitman is a veteran value investor with a long, distinguished history as a control investor. He is Co-Chief Investment Officer of Third Avenue Management and has successfully identified value in securities for more than 50 years.He has managed the flagship Third Avenue Value Fund since its inception. Mr. Whitman has also taught at the Yale School of Management for over 30 years.

Driven by that fear, Whitman and his crew focus on finding stocks that are "safe and cheap." Talk to him about his investing philosophy and those two words come up regularly. And always in that order: safe, then cheap.

Safe, to Whitman, means companies with rock-solid financials and managers whose interests are aligned with those of their stakeholders. Rather than focus on near-term earnings projections, which aren't always a reliable guide to a company's health, Whitman looks at assets, and prefers companies with holdings that can be readily valued - a bias that often leads him to financial and real estate concerns.

He and his team search worldwide for companies that can grow what they call net asset value, or NAV (Third Avenue's calculation of the company's intrinsic worth), by 10% annually. They buy only when a stock is selling at a discount to net asset value. "We buy growth - we just don't pay for it," Whitman likes to say.

"Safe and cheap" makes for a comforting mantra. Rather than timidity, though, Whitman's approach actually calls for remarkable fortitude. It requires the nerve to pick through distressed companies that others are ignoring and demands the conviction to see big gains come to fruition.

Turnover at Whitman's flagship mutual fund, Third Avenue Value runs at less than 10%, meaning that the average holding period for a stock is more than ten years.

In the long run Whitman's patience has been handsomely rewarded. Over the past five years, for example, his fund has delivered annualized returns of 22.5%, topping the S&P 500 by more than seven percentage points. During the past decade Third Avenue Value has delivered about 12% a year, some five percentage points better than the S&P.

With a record like that, it's no wonder that even at age 83, Whitman says he intends to continue at the firm as long as he is "compos mentis." "If I could be a tennis pro, I would do that tomorrow," he quips. Instead, the avid tennis player recently signed a contract to stay on at Third Avenue for five more years.

Whitman's willingness to go against the crowd was on display this summer. As investors were bailing out during Wall Street's wild ride, "We were buying like crazy," he says. To ensure he had a margin of comfort, he stuck to well-financed companies that would not need regular access to new funding from capital markets in the next few years. Here are three of his purchases.

"You have to accept the fact that you're not going to buy the bottom and you're willing to ignore what might be a chaotic operating picture over the next two to four years," he says, "there are fantastic bargains."

Whitman's focus on strong managers and great values has led him to invest alongside some other smart investors. He partnered profitably with Eddie Lampert to buy Kmart bonds before the retailer emerged from bankruptcy.

Another pro Whitman admires is 42-year-old J. Bruce Flatt, who, Whitman says, has been described as Canada's Warren Buffett. Flatt runs Brookfield Asset Management, a Toronto-based firm.

MYOB understands that the TAVF is only open to US residents. A pity. However, TAVF has a heavy Asia focus (check out their largest holding) and TAM has opened a Singapore office.