Brian Gaines on Investing and Joel Greenblatt

We are pleased to bring you this conversation with Brian Gaines, founder of Springhouse Capital Management, which was founded in 2002 with the backing of famed value investor Joel Greenblatt.

Since inception in November 2002 through August 2009, Springhouse has generated a compounded annual return of 17.12%, net of fees, versus 4.15% for the S&P 500 Index. The fund is up nearly 24% this year.

MOI Global: Tell us a little about the genesis of your firm. What goals did you have at the outset, and what operating principles have guided you since then?

Brian Gaines: The way Springhouse started was slightly unusual in that I never sat down and had any grand plans to start a firm. I had worked for Gotham Capital as an intern and then full-time during my second year of business school at Wharton and had plans to join them upon returning to New York in the fall of 2002. Upon arrival, Joel Greenblatt sat me down and asked if I wanted to start my own fund, which would be seeded initially with their capital. I could work out of their offices, use their infrastructure, and focus all my time on company research. For anyone who loves picking stocks as much as I do, this was a dream scenario. Despite the tendency for hedge funds to become larger and more institutionalized over the last several years, I always knew that I wanted to focus on picking stocks and not managing people. As a result, Gotham still manages all of my infrastructure today. This allows me, along with my partner Jeff Graf who joined me in 2005, to focus nearly entirely on investing.

In terms of investing principles, I have always believed that you can generate above average returns if you focus most of your time on the downside of investments, wait for situations where you have at least 50% upside to a reasonable outcome, and take oversized positions when those opportunities do arise. My background prior to business school was in high yield and distressed debt, both in banking and for an investment firm. Bond investors focus more on the downside of an investment since there is no equity upside. I think this background helps me maintain a healthy level of skepticism and focus primarily on not getting burned, which is crucial when taking larger positions. I know concentrated investing is out of style today as some high profile investors have had tough times, but it seems more appropriate than ever to wait for great situations and take oversized positions. The key for us is waiting patiently for the right opportunities and making sure we are doing great work on the downside.

MOI: How do you constitute the portfolio while you wait for a proverbial “fat pitch”? Are you content with holding a large amount of cash, or do you prefer to make “placeholder” investments, such as special situations that will play out in the near term or highly liquid companies that may be undervalued, such as Berkshire Hathaway or Microsoft?

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