Jun 2006

Fortune magazine has an excellent piece on Ken Heebner, the "mad genius of mutual funds" (their description). Heebner, a grizzled veteran of the investing business, runs $6-billion-plus from a harbor front tower in Boston, spread out over four funds. Known for his strong contrarianism and top down orientation, in the past few years he has made an incredible string of calls. Fortune reports:

In 2000 he [Heebner] made a bundle short-selling tech and telecom stocks. In 2001 he made a huge - and hugely profitable - bet on homebuilder stocks, which soared over the next three years.

Yet despite the fact that he became a vocal cheerleader for the sector, he never fell in love with his winners as so many investors do. Just as the housing boom neared its peak, he grew worried about the proliferation of what he termed "funny-money mortgages." Heebner ruthlessly unloaded every homebuilder share he owned by early 2005 and plowed the proceeds into energy stocks - even in the Realty fund - right before oil prices took off.

Then, in late 2005, he doubled down on commodities with a big bet on copper, the price of which has risen 67% year to date. "Ken is one of the best big-picture thinkers I've known," says his friend Chuck Clough, the former Merrill Lynch chief investment strategist. "He does the research, and he's got the courage of his convictions."

Heebner swings for the fences, and acts with the courage of his convictions when he feels strongly that he is correct. How does he do it? In his own words:

My huge outperformance occurs when I find one of these very contrarian strategies -- something supported by a lot of deep analysis -- and implement it in a concentrated way in the portfolio. Like investing in oil in 2004, when everyone thought it was going back to $25 a barrel. Or buying savings-and-loans in 1982, back when interest rates were 15%. I wish I could find one every year, but I can't.

So what does this have to do with Smallball vs Longball?

Smallball and Longball are baseball terms. Thanks to their adoption by revered poker player Dan Harrington, they are also poker terms.

Smallball refers to tactical, conservative play; not going for the glory, just taking modest calculated risks. Longball refers to the big, bruising home run game; swinging for the fences, looking to crush the ball.

When it comes to investing, Heebner is an example of a great Longball player. But he readily admits that home-run caliber ideas don't come along like clockwork. Some years they show up, some years they don't.

And here we have a key to successful trading and investing; you want to know the dynamics of Smallball vs. Longball, and be comfortable with both.

Smallball is grinding it out, keeping it tactical and conservative. Capital is built up slowly through this process. Frequently there is a lot of back and forth, with slow progress at the surface level. Much of Smallball in this context is jockeying for position -- getting a feel for the market, getting involved with opportunities on a modest scale as they develop, reserving the right to commit more capital later on. Without Smallball, it's harder to be in position when the true Longball opportunities arise.

In contrast, Longball is about really pushing an edge for all its worth -- betting big when the conditions and timing and opportunities all line up. Longball is where the big money is made, but the opportunity to swing from the heels doesn't come on a set schedule. Patience is required, plus the courage to act aggressively when called for.

Understanding the Smallball / Longball analogy helps in two ways. First, it encourages traders and investors to keep the typical risk profile small; not trying to get rich with the everyday plays, just trying to accumulate consistent profits over time and gain steady ground. Second, it encourages more aggressive positions when the situation truly warrants it, because such opportunities need to be maximized.

If you think about building up serious long term gains, and think about how gains are typically distributed by markets (hint: extremely lumpy), this should help drive home the Smallball vs Longball analogy too. There are lots of opportunities to act, but rarely do those opportunities turn into a score of spectacular proportions. They are thus better suited to conservative risk management, with a series of smaller rewards spread out over time.

And if you can grind out a cushion of profits through a series of quality Smallball plays, there will be a nice risk buffer in place when it's time to take that big swing.