The most influential investor you never heard of is betting on Outbrain

"The most influential and successful investor you have ever heard of," is how Seth Klarman (64) has often been described in the American media. The nickname "The Oracle from Boston", inspired by Warren Buffett's nickname "The Oracle from Omaha", has also been given to the CEO and chief investment officer of the Baupost Group, which manages around $31 billion.

In his only book, Margin of Safety from 1991, Klarman explains his concept of investment management. The self-published book had only 5,000 copies, but a sort of cult of investors was formed around it.

Although the book originally sold for $25, today it has a vibrant second-hand market, old copies sell for $700 and the price of newer, good condition copies can go as high as $4,000. In many leading universities’ libraries, Klarman's book has long waiting lists and is often "lost" by students who managed to get their hands on a copy.

On Wednesday, Baupost announced an investment of $200 million in Israeli internet recommendation company Outbrain, in the group’s first significant move for a position in an Israeli company. The fund also recently participated with a smaller amount in ironSource’s fundraising, which began its trading on Wall Street through a SPAC merger at an $11 billion valuation last week.

To this day, Klarman has seen Israel primarily as a philanthropic destination, part of his Jewish identity. However, his new activity in the local high-tech ecosystem is another sign of a new era for the startup nation, with the emerging involvement of entities like Blackstone and Tiger Global in Israel.

The recent fundraising rounds valuations have been discussed at length, however, it is important to note the type of the new investors as well. In the current exits, especially in recent unicorn IPOs such as monday.com and SentinelOne, there is a list of Israeli venture capital funds that were among the first investors in those companies. It will be different in the next batch.

More and more investment and hedge funds are pouring hundreds of millions of dollars into Israeli high-tech companies, even at relatively early stages. Along the way, they disrupt investment management perceptions, expectations, and especially set new rules for the game, and Baupost is a great example.

Like Buffett, in winning and losing

Baupost Group was formed in 1982 by Klarman and his partners, who included Harvard professors when the concept of hedge funds was still in its infancy. Over the years, despite his best efforts to avoid the media, or rather because of them, he became a “guru” that everyone was waiting to hear from on where the markets were going. Historically, Klarman was one of Wall Street’s major contributors to the Republican Party, but with the election of Donald Trump, he officially stated that he did not agree with his views, and during his presidency, Klarman donated to the Democratic party.

Klarman, like Warren Buffett, registers to the Benjamin Graham school of thought, which believes in value investing and acquiring assets others do not believe in. Precisely because of this, like Buffett, Klarman missed the “tech train,” characterized by growth stocks, the complete opposite of value stocks that the two oracles believe in (both incidentally admire each other and Buffett even once said he has Klarman’s famous book at home). The miss cost Klarman but did not sway his beliefs, however when it comes to investing in technology companies he showed a changed attitude.

Surprisingly, Klarman believes that technology stocks, which yielded extraordinary returns last year, still have meat. Klarman, who also has an Israeli connection in the form of a holding in the Times of Israel, believes in Internet advertising, as reflected in his recent investments. In the past year, Baupost bought a share package of tech giants Google and Facebook, reaching a billion-dollar exposure in the two companies. It is very possible that the Outbrain deal was also inspired by an interest in the field.

From the beginning of 2021 Klarman has been increasing his group’s presence in technology stocks, ostensibly contrary to his perception, and has even purchased shares and increased his holdings in Intel and Micron, and in eBay. Intel, which had a difficult year, and as such may meet Klarman’s requirement for a short-priced stock, has in the past year become the largest investment of Baupost in the U.S.

The letter

Klarman’s annual letter to his investors has become a sought-after commodity over the years, especially with the disappointment of investors from the group’s performance over the past two years. Contrary to Buffett's letters, Baupost’s letter is not public, but this year the Financial Times managed to get their hands on it, and revealed quite a few interesting statements. Klarman has directly criticized the policy of the US Federal Reserve, which has been flooding the market with money since the beginning of the coronavirus outbreak. "With all the government funds flowing in the past year, any attempt to figure out what the state of the economy is, is like taking the temperature after a large dose of paracetamol has already been taken," he wrote in a letter published in late January this year. "Investors have become a kind of frog that cooks slowly until it boils without recognizing the risks," he wrote about what he sees as the Fed's relentless intervention in the market, which also has implications for the general public of investors.

Outbrain’s “Baupost interest”

While Klarman’s investment adds a big name to Outbrain’s list of owners, the prospectus’ fine print reveals a much more complicated reality. Baupost’s investment was made through convertible bonds, a tool that incorporates stock options and bonds but can also be a double-edged sword due to its inherent timeliness, meaning that the profitability of an investment in Outbrain will be determined by when it will begin trading on Wall Street.

At the end of the day, Baupost’s investment in Outbrain will give a massive incentive to shareholders and company executives to go public with a valuation of more than $2 billion, otherwise, the investment will cost the company much more.

Baupost does not think like a venture capitalist, rather as a hedge fund, and as such, it has to hedge its risks. It is likely that it would have preferred to enter the company at a lower cost, but Outbrain did not want to be diluted right before the IPO. Seemingly, there have already been indications from underwriters that the offering could be completed in the coming weeks at a value of more than $2 billion.