HomeMost PopularCharlie Munger Reveals the Path to High Returns with Minimal Effort

Charlie Munger Reveals the Path to High Returns with Minimal Effort

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Berkshire Hathaway Company Holds 2003 Annual Shareholders Meeting

Co-authored with โ€œHidden Opportunities.โ€

Charlie Munger, the Vice Chairman of Berkshire Hathaway (BRK.A)(BRK.B) and a billionaire investor, is widely recognized for his success in value investing. He shares his wisdom and years of experience collaborating with Warren Buffett on major financial decisions. According to Munger, achieving high returns in investing doesnโ€™t necessarily require excessive effort. In fact, continuous tinkering and frequent trading may not be as beneficial as adopting a well-thought-out strategy aligned with your goals and exercising patience.

โ€œYour intelligence wonโ€™t make you a great investor if you have little emotional control. Adopt a long-term focus, stay patient, and avoid taking action impulsively.โ€ โ€“ Charlie Munger.

To become a successful investor, it is essential to master emotional control. This skill involves staying invested even during volatile markets and uncomfortable drawdowns, as long as the investment aligns with your initial requirements.

โ€œThe big money is not in the buying and the selling but in the waiting.โ€ โ€“ Charlie Munger.

Patience is key. Rather than focusing on constant trading, Munger highlights the value of waiting. By embracing a long-term perspective, investors can reap significant rewards.

Pick #1: VZ โ€“ Yield 7.5%

Verizon Communications Inc. (VZ), the largest U.S. telecom company by FY 2022 revenues, presents an attractive investment opportunity. Following aviation safety concerns reported last year, major U.S. telecom carriers, including VZ, postponed the usage of the 5G C-band spectrum until aircraft altimeters were retrofitted. Now, VZ can leverage its $53 billion purchase (from 2021) to offer improved bandwidth in 406 markets, four months ahead of schedule.

Notably, VZโ€™s capital expenditure continues to decline as its 5G and fiber investments translate into growing Free Cash Flows (FCF). This steady FCF growth contributes to dividend safety and debt reduction efforts. In FY 2023, VZโ€™s management forecasts $18 billion in FCF, comfortably covering the approximately $11 billion in annual dividend payments at a sustainable payout ratio of 56%. Analysts also project $19 billion FCF in FY 2024, providing comfortable coverage for a potential 10% increase in annual dividend spend to $12 billion.

VZ recently raised its common stock dividend for the 17th consecutive year, despite market concerns about inflation metrics and employment numbers. The current $0.665/share quarterly dividend equates to an 8.4% annualized yield. Additionally, VZโ€™s dividend payments are considered Qualified Dividend Income due to its categorization as a C-corp.

In terms of financial strength, VZ maintains an A- rated balance sheet, the highest among U.S. telecom peers. While elevated interest rates have led to investor concerns, VZ reported a net unsecured debt to EBITDA ratio of 2.6x at the end of Q3 2023. The company continues its efforts to reduce debt and reported $122.2 billion in net unsecured debt as of September 30, down from $126 billion after Q2. This positions VZ comfortably to cover short-term debt maturities.

Despite market fluctuations and pessimism surrounding potential settlements and penalties, VZโ€™s stock price has experienced notable growth since Q3 earnings. Trading at a forward P/E of 7.3x and EV/EBITDA of 6.4x, VZ is considered an undervalued stock with a safe dividend and excellent prospects for valuation improvement as FCF growth and deleveraging continue.

Pick #2: DFP โ€“ Yield 7.7%

Preferred securities, although impacted by interest rates, offer consistent income even during price drops. This aspect makes them an interesting investment option to consider. Flaherty & Crumrine Dynamic Preferred and Income Fund (DFP) is a closed-end fund (CEF) that primarily invests in fixed-income securities from banking, insurance, and utility companies.

DFPโ€™s top line, Total Investment Income, has steadily increased since the beginning of 2021, indicating the portfolioโ€™s ability to generate earnings even in a low-interest environment. However, interest expenses have simultaneously risen, negatively impacting the bottom line, Net Investment Income (NII). DFP will continue to face challenges until interest rates stabilize. Importantly, DFP does not compromise its portfolio to maintain the dividend, ensuring the potential for Net Asset Value (NAV) recovery and subsequent distribution increases once interest expense headwinds subside.

โ€œWhile higher interest rates have impacted asset values, they have also squeezed the Fundโ€™s distributable income. The Fund uses leverage to enhance distributable income, earning the positive spread between asset yields and leverage cost. A slow increase in short-term rates would have allowed for a measured transition, but the pace and size of rate hikes have caused leverage costs to increase materially and quickly. Leverage continues to provide more distributable income compared to no leverage, but the spread has narrowed, and incremental income from leverage declined. The Fundโ€™s goal is to pay out dividends consistent with portfolio earnings and not maintain an artificially high dividend that is actually a return of shareholdersโ€™ capital. Accordingly, we have adjusted the Fundโ€™s dividend lower over the course of the year to reflect its lower distributable income.โ€ โ€“ DFP Annual Report.

DFP currently trades at a substantial 15% discount to NAV, making it a compelling investment given the anticipated rate cliff in the global economy. As borrowing costs decrease, DFP will experience higher NII, which will result in higher distributions. This discounted and well-managed fixed-income CEF offers a 7.7% yield, making it an attractive addition to a rate-agnostic portfolio.

Conclusion

Contrary to common belief, achieving financial success in investing doesnโ€™t require hitting home runs or picking the next Amazon before it skyrockets. Charlie Mungerโ€™s investment insights emphasize the importance of emotional control, simplicity, and patience. An even temperament and a long-term focus are crucial for investors seeking significant rewards over time.

โ€œItโ€™s waiting that helps you as an investor, and a lot of people just canโ€™t stand to wait.โ€ โ€“ Charlie Munger.

In todayโ€™s bearish markets, there are fundamentally strong businesses available at significant discounts. By identifying income-focused picks like VZ and DFP, investors can brighten their retirement prospects with yields of up to 7.7%. Embrace a patient approach and take advantage of undervalued opportunities.

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