In his recent conversation at The Morningstar Investment Conference, Bill Nygren discussed a number of topics including how to pick the winners in a disruptive world. Here’s an excerpt from the conversation:
Nygren: I’ve been doing this long enough that I remember when newspapers were viewed as about the safest business that there could be. So, the idea that disruption is something new is a little bit off. Disruption has been going on throughout the American economy since the economy started. To try and differentiate between fads and what might be long-lasting tailwinds, I would say to look at the benefits for the customer. If a product is clearly superior, and the customer benefits from it, it’s much more likely that it can be persistent.
Nygren: Back in 2000, investors were willing to pay an unreasonably high multiple for large-cap growth, and that dominated the S&P. We were seeing traditional businesses getting knocked out of the large-cap universe by these small companies that had very, very high multiples on them. The pockets of the market to us today that look overvalued are not the FAANG stocks that dominate the market weighting in the S&P. We own a bunch of those. Other technology companies, areas like SPACs [special-purpose acquisition companies], have gotten to inflated valuations. There’s this part of it that looks like speculative excess, and then we’ve got banks at 10 times earnings and oil stocks that have 15% free cash flow yields.
I’m not going to sit here and argue that it’s a generational opportunity to buy equities or anything like that. But given where interest rates are, owning an equity like the S&P that pays almost a 2% dividend yield and has earnings that are growing at 6% or 7% a year, compared to a long-term bond, is an easy choice to make.
Nygren: Negative cash flow doesn’t really scare us, even as a value investor. Most companies, even industrial companies, go through negative cash flow periods when they start out. The difference is that accounting allows them to report profits, because their investments tend to be in plant and equipment. But if you make the adjustments for that, as we’ve had to do on companies like Amazon.com (AMZN) or Netflix (NFLX), these companies are building value, even though GAAP accounting doesn’t recognize it. We aren’t limiting ourselves to companies that are below market multiples and generating tons of cash today.
Nygren: The behavioral bias that you need to be most concerned about is overreacting to short-term events. As value investors, we’re always trying to take advantage of that when we think investors have overreacted to negative news. The overreaction potential with disruptive investments is that you get excited and lose your skeptical hat.
You can find the entire conversation here:
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