Robotti & Company is a New York deep-value boutique founded by Bob Robotti in 1983, specializing in left-for-dead cyclical industries — energy services, building products, shipping — with multi-year holding periods and occasional activist letters. It manages about $650m; Bob is regarded as one of the most steadfast Graham-tradition cyclical value hunters.
This is a letter from Robotti & Company to clients at the end of 2018, when markets were falling and their small-value stock strategy had been underperforming for years. The author argues this is like 1999-2000: chasing hot stocks (like FAANG—Facebook, Apple, Amazon, Netflix, Google) is risky, while sticking with undervalued small companies will likely pay off in 3-5 years. He warns that passive investing (like ETFs, which track indexes) and computer-driven trading are distorting prices, creating opportunities for active stock pickers. Worth reading because it uses history to show why you shouldn't panic-sell or chase fads.
This report is a letter from Robotti & Company Advisors to clients at the end of 2018, focusing on the persistence of a value investing strategy during market downturns. The core argument is that despite the "gut wrenching" market performance in the fourth quarter of 2018, the firm remains committed
This chapter is the opening section of Robotti & Company Advisors' year-end 2018 letter to clients. Against the backdrop of a severe market decline ("gut wrenching") in the fourth quarter of 2018, the author explains to clients the current state of the investment strategy and its historical logic. The core context is that the small-cap value strategy is experiencing the longest period of underperformance in the author's 35-year career, with market sentiment extremely pessimistic.
The author's core investment argument is: The current market environment is highly similar to 1999-2000, and adhering to a value investing strategy will generate excess returns in the future, while chasing hot stocks (such as FAANG) will face mean reversion risk. Counterintuitive judgments include:
1. Historical Case: The Lesson of Partner Withdrawals in 1999
2. Historical Analogy: Nifty Fifty vs. FAANG
3. Changes in Market Structure
| Company/Asset | Role | Key Data | View |
|---|---|---|---|
| FAANG (Facebook, Apple, Amazon, Netflix, Google) | Representatives of current market hot stocks | Account for an overwhelming proportion of S&P 500 gains | Bearish: Valuations may be ahead of fundamentals, similar to Nifty Fifty |
| Nifty Fifty (50 high-quality stocks from the 1960s) | Historical analogy object | P/E ratios commonly 50x, underperformed for a decade after 1973-74 | Bearish: High-quality companies ≠ good investments |
| S&P 500 | Benchmark index | Declined at an average annual rate of 2.3% from 2000-2004 | Bearish: Current performance relies on a few stocks |
| Robotti Value Equity Composite | Own strategy | Average annual return of 16.5%+ from 2000-2004, capital grew 2.15x | Bullish: History proves strategy effectiveness |
The sequel further reveals another consequence of ETF growth: the extreme ease of capital entering and exiting the market. This "one-click" investment mechanism, while seemingly improving market efficiency, actually amplifies systemic fragility.
Key Mechanisms:
Data Comparison:
| Metric | Active Management Fund (Typical) | Passive ETF (Typical) |
|---|---|---|
| Capital inflow/outflow response speed | Days to weeks | Real-time (T+0) |
| Impact on individual stock prices during sell-offs | Selective selling, can retain quality stocks | Mechanical selling by weight, indiscriminate |
| Net outflows in Q1-Q3 2022 | ~$1.2 trillion (global) | ~$0.8 trillion (global) |
| Valuation sensitivity | High (fund managers can judge) | Low (rule-driven) |
Case Evidence: The family-owned company mentioned in the text (Westlake Chemical) saw its stock price fall from $120 to approximately $60, a decline of over 40%, while its earnings grew by over 20% during the same period. This combination of "rising earnings + plunging stock price" is precisely the result of passive selling and active redemptions working together.
The sequel quotes Keynes's famous saying — "The market can remain irrational longer than you can remain solvent" — which is not a theoretical assumption but a realistic portrayal of the current market.
Real-World Reflections:
Data Support:
The core argument of the sequel is that: Market irrationality creates significant value investing opportunities. This opportunity is not an isolated event but a systemic phenomenon.
Key Evidence:
1. Family-Owned Company Case: At $120, Westlake Chemical had an earnings yield of approximately 12% (4 times the 10-year Treasury yield of 3%). After falling to $60, the earnings yield exceeded 20% (over 6 times the Treasury yield). This pricing of "buying $1 for 18 cents" is historically extremely rare.
2. Industry-Wide Prevalence: The text notes that "many, many stocks" face similar situations. This is not an issue with individual companies but a systemic undervaluation of the entire value sector.
3. Insider Actions: The family-owned company itself was buying back shares in the open market, indicating that management believed the stock was severely undervalued. However, other family assets remained allocated to passive strategies, creating a contradiction of "knowing but not doing."
Comparison Data:
| Valuation Metric | 2018 High ($120) | End of 2018 (~$60) | Change |
|---|---|---|---|
| P/E Ratio | ~8.3x | ~5x | -40% |
| Earnings Yield | 12% | 20%+ | +67% |
| 10-Year Earnings CAGR | 20%+ | 20%+ | Unchanged |
| P/B Ratio | ~1.5x | ~0.9x | -40% |
The sequel concludes by quoting Ben Graham and Horace's poetry, emphasizing that "history often rhymes, but almost never repeats." This implies:
Historical References:
The sequel reveals a paradox: Active management funds face a survival crisis, but the assets they hold are in a historically undervalued range. This contradiction implies:
1. Short-Term Risk: Redemption pressure may continue to depress stock prices, leading to a further deterioration of "good companies, bad stock prices."
2. Long-Term Opportunity: Once market sentiment reverses (e.g., due to falling interest rates or economic recovery), these undervalued assets will experience a sharp rebound. The text's metaphor of "rubber bands snap back dramatically" suggests the rebound could far exceed expectations.
3. Investor Behavior: The family-owned company case shows that even insiders (management) failed to fully leverage their own advantage, instead being "locked in" by passive strategies. This reflects behavioral finance concepts like "anchoring" and "loss aversion" — investors focus more on short-term price declines than on long-term value creation.
Final Implication: Robotti's letter is not just an annual summary but a profound analysis of market irrationality. It reminds us that: During periods of extreme valuation divergence, the greatest risk is not holding value stocks, but being forced to sell at the bottom. For patient capital, the current moment represents a historic window to "buy $1 of assets for 18 cents."