Asimov’s Foundation | The Acquirer's Multiple®

During their recent episode of the VALUE: After Hours Podcast, Taylor, Brewster, and Carlisle discussed Asimov’s Foundation. Here’s an excerpt from the episode:

Jake: All right. Let’s jump into it. I’m going to start off with a quote from Isaac Asimov. He says, “The individual molecules of a gas move quite erratically and randomly. No one can predict the direction of motion of a single molecule at any particular time. But you could predict the total behavior of the gas very accurately using the gas laws.”

Asimov in the Foundation series, which is being hopefully made into something decent, I think Apple’s the one who took that on. Looking forward to that one.

Tobias: Yeah, that will make me subscribe, genuinely.

Jake: Yeah, I’ll [crosstalk] on for that, for like, one free trial for a month and then you bounce out, right?

Tobias: That’s it.

Jake: [chuckles] He has this character whose name is Hari Seldon. This guy is what he calls a psychohistorian. What Asimov says is that you can explain the aggregate behavior of societies. You can’t tell what anyone man’s future looks like, but you can explain the aggregate behavior across galaxies and across time because there’s these principles that hold. Where this happens to fall, why I think Toby’s strategy is genius is that he’s doing a very similar thing where he’s looking at the aggregate behavior of a population and not the individual ideas necessarily.

When someone asks him, “Toby, what do you think about stock XYZ?” It’s a stupid question, because it’s very irrelevant to actually what he’s doing. It’s more the emergent of this whole portfolio of what, over enough timeframe, you could expect from that portfolio.

Tobias: Yeah, that’s fair.

Jake: Yeah. Bill, anything to add to that at this point?

Bill: Not at this point.

Tobias: I just love the Foundation book– I forget it, is it first Foundation or Foundation– The first book? The first book is the first Asimov book that I ever read and absolutely loved it.

Bill: I know nothing about this guy, so I’m not going to be particularly good at this.

Tobias: I’m a massive Asimov geek.

Bill: Well, he thinks you’re a genius.

Tobias: No, [chuckles] JT does.

Bill: Look, I guess, at this point, if I have to add something, what I would say is, I think that Toby’s strategy, as I perceive it, as described in books and everything that he does, because he’s as authentic as it comes, makes a ton of sense. The idea of buying a basket of companies that have the catalyst of returns of capital to shareholders, makes a lot of sense to me. The only outstanding question that I have is whether or not it would be better to hold that portfolio, as it’s introduced into the portfolio, for a year or two, or if the term benefits, but I know you’ve done the work and you found that the term benefits but that’s only like–

Tobias: Well, it’ll be held for a year. They are held for a year at a minimum unless there’s some deterioration that makes them– become no longer tenable, but they’re held for a year at least.

Bill: [crosstalk] -balance slightly more frequently.

Tobias: The rebalancing is quarterly, but that means that there’s four quarterly portfolios rather than– it’s not quite as simple as that. But that’s roughly the idea. But I do like the idea of setting up a much longer-term vehicle that would trade much less frequently, and just try and pick them out of the bottom and then hold them for maybe five years or more.

Bill: Yeah.

Jake: So, the next part of our discussion then is that I think another part of the genius of how you’re structured it is that things are equally weighted. I think people get into a lot of trouble not having the humility enough to consider equal weighting. I think we’ve been told, “Oh, why put more money into your 15th best idea when your best idea is available?” That that assumes that you really know maybe it’s often more than you actually do about the universe. We’ve talked about this dark matter, and how there’s a lot of information that’s hidden from us in this game.

Well, I think an exercise that everyone should do, if you’re serious about this, is go back and look at your 1/N portfolio. And so what that just means is, take all the positions that you’ve held at different time periods and equal weight them as opposed to how you weighted them, and see how did that perform relative to your performance? I bet you would find a lot of people would have better 1/N portfolios than they do their individual weighting portfolios, which would tell you that maybe you’re not adding a ton to the actual portfolio process by deciding how you weight things, but you really don’t know that until you test it. I don’t think that’s a very common practice, like a lot of people are blind to that, but I would encourage you to try to figure out a way to do that.

Tobias: It’s hard. There are some folks who do outperform the equally weighted portfolios. Icahn is one, historically outperformed. So, he is identifying– probably because he’s the creator of the catalysts, so he can size up into a position and then force the catalyst and then take it down as he’s got the big bump.

I think probably Buffett must be another one too because I think that he probably performs an equal-weight version of himself. But for the most part, it’s extremely difficult because there’s so much randomness, particularly even at 30 names, there’s a lot of randomness in those portfolios. There’s no reason why things have to get equivalently discounted from intrinsic value before they start moving back up again.

Somebody could have been waiting for a long time and they’ve got the money to move the market back up again. I think that equal weighting is just an admission that you can’t control it if you’re already weighed down into that concentrated portion of the market. That’s sort of the way that I do it.

Jake: Yep. I think that’s smart. I think we could all use that humility, at least check to see, are you adding value there or not?

Tobias: There’s also a rebalancing benefit to it where you’re taking down positions that have worked and you’re taking up positions that haven’t worked, so you’re doing what a value investors should, which is buying a little bit when the stuff has gone down.

Jake: Oh, I got to let my winners run, what are you talking about?

Tobias: But you’re not necessarily selling out, you’re just selling down. So, they could be in there and you get that Shannon’s demon effect in your portfolio. It works in the long portfolio, works a little bit better long, short.

Bill: I got nothing.

Jake: [laughs]

Tobias: I do love those Foundation books.

Jake: Thanks for playing.

Bill: Well, I have no idea. You look at somebody like Russo and Akre, I just think– I guess my gut and this is completely not on data, so don’t listen to it, but I’m on a podcast, so whatever. I do think if you’re going to take this strategy of letting your winners run, I find it very, very hard to really let them go. And I think you’ve really got to let them go if that’s going to be how you’re going to play that game. That I think is harder to actually stomach than many people may think when they’re thinking through like, “Oh, I can let my winners run.” Can you really? Because it’s going to become a big part of your portfolio and it’s going to feel really rich at certain times.

Tobias: That’s the challenge. You can see it in market cap-weighted portfolios. The S&P 500 appear at– various times, it’s been 40% Exxon. Now, I bet that makes people nervous right now. I bet at the time, people are like, “Well, that makes perfect sense that you’d have Exxon biggest and best company in the world is your 40% waiting,” but I’ll bet you right now people get really nervous when they think about that, and they think, “I’d much rather have a good company like, I want Google.”

Bill: FAATMAN.

Tobias: I want FAATMAN to be the 40% waiting. Exactly, right.

Jake: Are they nervous about that? I feel like they’re pretty bulled up on that idea at this point.

Bill: I’d rather own FAATMAN than some of the smaller ones.

Tobias: Yeah, that’s a fair point. But at the time, at the peak, people felt good about Exxon too. Not necessarily the peak, just [crosstalk] get some.

Jake: Peak oil? Like oil’s going to like $400 a barrel? Exxon looked like a dream come true.

Bill: People, sometimes they’re like, “Well, you’ve got to buy the best,” and it’s like, “I know, you dumb shit, but it’s not offered at the same odds. Like that’s the whole fucking game.”

Tobias: [laughs] That’s the hard part.

Bill: Yes, I agree. If I had the fastest horse with the best jockey at the same odds, I wouldn’t bet on the fat one.

Tobias: [laughs]

Bill: It’s not how the game works.

Tobias: I’m just looking for the fat one to show, it doesn’t have to win. I just want the slow one to show.

Jake: Just finish.

Tobias: Yeah.

Bill: Frustrates me so much because people, “Don’t you want to own a better?” Yes, I want to own a better business. I get it, I get it. I’m not like somebody that’s looking through garbage and thinking it’s [unintelligible [00:13:15]. I just think you’re paying too much.

Tobias: That’s kind of Buffett’s genius. Buffett, aside from the fact he’s smart, it’s the discipline to say, “I’m going to wait for Google,” or, “I’m going to wait for Apple to fall into that really cheap basket, and then I’m going to buy it and then I’m going get that bump when it goes back to its value. But then after that, I’m going to get the growth too, so I don’t have to sell it.” He’s not trying to meet with the space station– He’s not trying to get the rocket to meet the space station in space. He’s just stepping over the one-foot hurdle on Earth.

Bill: Yeah, I think that’s fair.

Jake: Game’s passed him by. I don’t know what you’re talking about.

Bill: Well, that would be like one of my knocks on Wells is, how much is it really going to grow and what are the returns on capital really going to be? But you could still get double-digit returns on equity and the probability underperforming I think is pretty low, but we’ll talk about that one when we get there. But like that was what made [unintelligible [00:13:15] so freakin’ smart. The returns on capital were so good and it had such a long growth runway and he made a lot of money for a really long time. That may arguably be cheap now.

Tobias: Do you think it’s a mistake not to sell it when it gets expensive? The way that he thinks about it is, it is so hard to get into these things. When you get one, then you just take the ride and if it gets expensive, then so what? You got it really, really cheap and now you own the business.

Bill: I think he’d sell a lot more frequently if he was you and I. He said it before, he said that his turn would be a lot higher if he was a lot smaller.

Tobias: Has he?

Bill: Yeah. I think if you’re Berkshire and you have that huge of a capital gain, then how the heck do you get out of it? And then when you get out of it, you’ve got to disclose, and it goes down further. And he’s probably just like, “Whatever. Screw it. We’ll just own more from the buybacks.” It’s too hard to figure out how to sell and buy back in. I think in that entity, his behavior is forced to be the way it is, but I don’t think he would argue that’s ideal behavior.

Tobias: You don’t think it’s– He never incurs tax. Yeah, that’s what I think too.

Bill: Yeah, well, that’s fair. Yes, I think the way he set up Berkshire– he’s playing in the better mousetrap. Within that mousetrap, I think there are some costs that maybe are not theoretically perfect, is I guess how I would say it.

Tobias: Focuses the mind a little bit too. Can’t get out of this easily.

Jake: Yeah, you can’t get out, what do I do? Better make sure I’m doing a good thing getting in.

Tobias: Better make sure I like it.

Bill: Yeah, I think that’s fair.

Jake: To say buy value and hold growth, is that–?

Tobias: Yeah.

Bill: No. No more value, that’s gone.

Tobias: Value is dead.

Jake: [chuckles] Oh, yeah, I forgot.

Tobias: Value is dead is dead.

Jake: I needed that memo 10 years ago.

Tobias: I’ll tell you what, if we’d been doing this yesterday, I would have been much more inclined to believe that. Yesterday for those who don’t know, because I track FAATMAN, the definition has changed as I’ve gone along, but it’s Facebook, Apple, Amazon, Tesla, Microsoft, Alphabet, Netflix. I just track it as like– Did I miss Amazon? Alphabet, Amazon, Apple–

Bill: We might have to tap an S on that for space.

Tobias: I know. I track space too, because I think it’s funny but I don’t include FAATMANS. Yesterday, so FAATMAN over value was more than 5%. That’s a big move.

Bill: Dude, did I see Amazon tacked on 8% yesterday?

Tobias: Possibly, yeah.

Bill: That is a big day.

Tobias: Tesla might have done that too. Tesla might have been more than that. Might have been 9% or 10%.

Bill: What is that?

Jake: It added a Ford yesterday.

Bill: Is that $80 billion? Is that what it is? That make sense?

Jake: Yeah, it’s something like that.

Tobias: That was punishment for my hubris calling it Icarus.

[crosstalk]

Bill: Yeah, they used to be a lot of money back in the day. Hmm. Oh, well.

Jake: [crosstalk] — market cap is an antiquated concept anyway. Don’t worry about it.

Tobias: Yeah.

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