Investment Theory #22: Klarman’s 2000 Letter

Let’s continue our series on the 1990’s. You may recall that 2000 was the year the bubble popped and Klarman began putting his large cash balances to work.

Klarman is a well-respected value investor who founded the Baupost Group in 1982. Since then he has generated an average annual return of 19%. Klarman’s investing philosophy can be summed up by the title of his book Margin of Safety: Risk-Averse Value Investing Strategies for the Thoughtful Investor.

This series of posts will reflect on Klarman’s activity during the period 1995 to 2001. Links to past posts: 1995, 1996, 1997, 1998, 1999

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History #5: Economic Mania

If we burn our hands on a hot stove, we probably won’t touch another anytime soon. If we see someone else burn their hands on a hot stove, we can learn the same lesson but without the painful cost. History, in its own way, is a treasure trove of other people’s mistakes. If we heed the lessons of the past, we might be able to save ourselves from painful experiences in the present.

This post will focus on the mistakes littered throughout economic history: booms, manias, bubbles, and the eventual busts. An asset bubble occurs when the price of a financial asset rises to levels well above its intrinsic value. Robert Shiller, in his book Irrational Exuberance, describes it this way:

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