VALUE: After Hours (S04 E026): Market Valuation, Historical Bears, And Artificial Intelligence

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In their latest episode of the VALUE: After Hours Podcast, Bill Brewster, Jake Taylor, and Tobias Carlisle discuss:

  • Bulk Of The Selling Still To Come
  • Why Artificial Intelligence Will Never Beat the Stock Market
  • Investing Lessons From Golf Pro Matt Fitzpatrick
  • Another Lost Decade For Market Returns
  • What The Current Market P/E Is Telling Us
  • Three Phases Of A Sell-Off
  • The Market Is Over-Hedged
  • Charlie Munger Investing In Stonehouse Corp
  • The Impact Of Sentiment On Investment Decisions
  • We’re In Freefall Until We Hit The Bottom
  • FAANG Becomes MAMAA – Meta, Apple, Microsoft, Amazon, Alphabet
  • Elon Musk Twitter Lawsuit Fast-Tracked
  • More Net-Nets Available Today
  • What happened to Xerox?
  • Could Someone Make A Printer That Works

You can find out more about the VALUE: After Hours Podcast here – VALUE: After Hours Podcast. You can also listen to the podcast on your favorite podcast platforms here:

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Full Transcript:

Tobias: Looks like we are live. It is Value: After Hours. It’s 10:30-ish AM on the West Coast, 1:30 PM on the East Coast. Special Edition of Value: After Hours. It’s just JT and I. I don’t know if we’ve got enough words to fill up in an hour, JT. What are we going to do?

Jake: We do not. So, we will be—


Jake: This one could be a bit of a slog. So, buckle your seatbelts.

Tobias: Billy’s on vacay for a week or two. We got people in the Caribbean, Scotland, Germany. Cool.

Jake: I was in Vail last week for VALUEx, Vail that Vitaliy puts on and it was quite a good get together. I enjoyed a lot of the people. Really sharp, some good pitches. I don’t know if there’s any money to be made but I had a good time and I– [crosstalk]

Tobias: You are going to need to extend. You’re going need a lot more.

Jake: Yeah, that’s all I got. [laughs]

Tobias: This might be more bearish than ordinary because we need Billy’s sunny optimism to keep bearish, Jake and I are on track, but so, this might be the markets in turmoil.

Jake: Ooh, Bill said everything was going to zero last time. So, I don’t know. [laughs]

Tobias: I don’t want to speak for Bill because he’s not here. I think he’s happy with the underlying and he’s being facetious about the multiples.

Jake: I think you’re right.

Tobias: All right.

Jake: Now, I’m calling in from the basement in Michigan visiting some family. So, hopefully, there’re kids that don’t come in and try to play darts or shuffleboard because we’ve got that sweet Midwest basement action that we don’t have in California.

Tobias: It looks good. I’ve just come off a podcast with Zach at Know Your Risk Radio. Let’s go through a few of things. Because I think we’ve been trying to work out a little bit where we are through this process and I’m happy for everybody to chime on the sides. We’re going to need some audience participation to fill the ads–

Jake: [laughs]

Bulk Of The Selling Still To Come

Tobias: It’s impossible to know what sort of bear we’re in. We don’t know if it’s 2016 or 2018 and there’s a pretty big bounce today. Everybody’s bottom fishing around here trying to find the bottom, trying to call the bottom.

If this is a 2016 or 2018, and I’ve got no idea. It would probably just rally back up. Who knows? And then I think we’re hanging around waiting for a big crash after that. But if this is a 2000, 2002, 2007, 2009 type drawdown, then we haven’t had the bulk of the selling yet. [crosstalk]

Jake: [laughs] That’s a happy thought. Well, a couple thoughts there. First of all, the level of overvaluation, overprice was at a very, very large extreme if you looked at last year. Even coming off a fair amount as it has. When you start from so high and you have– I’m a little skeptical that we’re completely, we’ve rung out all of the excess exuberance at this point given–

Not that there hasn’t been plenty of pain, which is there has and there hasn’t really been anywhere to hide, but the party that led up to that, this would be going on a multi-day Vegas bender, just absolute holds barred. And then, you wake up the next morning and you’re like, “Ah, I’ll pop one Advil and I’m feeling pretty good and I’m done.”

Tobias: Get some Pedialyte.

Jake: I don’t think that’s how it worked. [laughs]

Tobias: I think that’s a good analogy because I think that’s right, I think we’ve had the first blowout and people can rally for day two. It’s day three or day four that really separates the men from the boys.


Jake: Well, I will say though that if you are finding good value in a company that you feel you understand and you like the price of it, I would not let any of this other talk dissuade you from purchasing. I think that’s still the smart thing to do. The idea of trying to time these things I think is foolhardy. If you like what you can potentially scoop up right now and you think it’s a good deal, then I would encourage you to, not that this is investment advice, but buy what you know when you like the price of it. I think you’ll do just fine.

Tobias: Yeah, I agree that. Absolutely unpredictable. Who knows? If it rallies from here, you’d be very upset you didn’t buy some of these things around here. I think I also like to be prepared mentally for very big drawdowns when they come. So, not too panicked in the middle of it. I think through all of the nasty scenarios that could be confronting us. We haven’t seen mega bears for so long, but I think people forget what they look like and what they feel like. One of the characterizations of them are these multiple rallies on the way down to the bottom. I forget, not 2008, 2009, but I think it was like 14, 17-

Jake: 16 or 17, right?

Tobias: -something just relentless.

Jake: Heartbreaker rallies.

More Net-Nets Available Today

Tobias: Rallies that got sold and it was exhaustion. I was buying net-nets and I was amazed at how many net-nets were there around at the time or probably didn’t appreciate that how unusual that opportunity was at the time. I started looking at net-nets again this time. There aren’t more net-nets around, but it’s not the fire sale that we saw and it may be that screenings too good and so on, but I still think it’s just exuberance in the market still here.

Jake: Yeah, it’s less for sure. I think everyone that seems recognizes that this is a healthy correction. Do you bottom when everyone is still pretty happy with what they own and real happy to be buying the dips. That’s not really what capitulation looks like, is it?

What The Current Market P/E Is Telling Us

Tobias: No, it’s exhaustion. Before we sold off, we’re Shiller P/E in the high to mid-30s, which in contrast to 2000, it got to 44. So, we’re not nowhere near, but it wasn’t quite as bad as it was in 2000. And now, we’re sitting just under 30 on the Shiller P/E. And the single year P/E is just under 20. Problem with the single year P/E is that if you have– [crosstalk]

Jake: Monster E, last year.

Tobias: Yeah. The E is flattered by two years of stimulus. Well, the other problem with the E too is in 2008 and 2009 because the bank losses was so great.

Jake: Yeah, negative.

Tobias: They wiped out all the other earnings of the S&P 500, you get a negative print, and then you get an infinite P/E. Probably, at the time it was a pretty good time to be buying.

Jake: Yeah.

Tobias: Shiller P/E is said, it was long run value at that point, long run average.

Jake: Something I’ve been thinking about recently is, the way that– Okay, let’s back up a little bit. Complex systems like what we’re operating in the global economy markets, they are series of networks. The tighter the density of the network, we’ve talked about this on the show before, the faster that things propagate through it. So, contagion happens faster, virality happens faster. And predictability is increasingly difficult of these types of things because you get small changes to inputs and very, very large changes in outputs, the whole like butterfly flapping its wings scenario.

I’ve been wondering if in today’s world of TikTok and Twitter and collective ADD of just moving on– We get bored with topics incredibly quickly. There’s a new strain of COVID that’s going around the US and no one cares anymore. They’re just over it, they’re done, they’re bored with that, they’ve moved on to something else. When was last time you checked Ukraine and Russia updates? Like, “Yeah, everyone’s already bored with that.

They’ve moved on to something else.” Is it possible that people get bored with the markets, too? They were fascinated by the markets last year. You saw a lot of retail participation. But if prices aren’t going up, and it’s not exciting, and it’s not hitting that dopamine for you hard, do you start to get bored with it and then just, “Ah, whatever. So, I don’t even care about the price anymore. I don’t do that. That’s for suckers games” like you talked yourself out of it. That would be interesting to see what happens with that. Do you have any thoughts, TC?

Tobias: Yeah, the same thing happened in 2000. It became the rooms full of people who were day trading and then it just went away. Most people, I don’t think really– Everybody on this call, and you and I in the markets all the time. Most people aren’t paying attention at all. They don’t really know. I used to get the update at the end of the year from my retirement funds tell me how much money I’d made or lost in the year. You just didn’t pay attention. Didn’t really know.

Jake: [crosstalk] back when you’re a happier man?


Tobias: Back when I was a lawyer. So, it’s a little bit hard to tell. I’m not particularly good at assessing sentiment, because I just think that most people don’t follow particularly. They did seem to be a lot of day trading going on over the last few years. I haven’t really heard much. I did my Google check for the NFT. Occasionally, that’s not looking good for the NFT holders. I’m sorry. That’s approaching 52-week lows on Google interest in NFTs.

Jake: Oh, [crosstalk] Well, that’s unfortunate, if someone put too much money into that. [chuckles]

Tobias: Did you see that [unintelligible [00:10:29] presentation that did the rounds?

Jake: I did.

Tobias: Is that how you say it? [unintelligible [00:10:35]?

Jake: [unintelligible [00:10:36]. I don’t know. That’s how the French would say it.

Three Phases Of A Sell-Off

Tobias: I think they had a pretty interesting analysis. I thought that was a really interesting presentation anyways, they compared 2000 to today and they said there was three phases of that. Did you share this chat to me? I’m just explaining to you what was in that chat that you shared it to me? [laughs]

Jake: Yeah, I sent that to you. [laughs]

Tobias: I went and read the whole presentation subsequently.

Jake: Oh, so good.

Tobias: I feel I’m qualified to now speak on this topic.

Jake: Good. Yeah, take it. Run with it.

Tobias: I’m stealing it. But to be fair, this was JT’s idea. But the first third of that drawdown was they call it profitless tech had a crash. Profitless tech this time round might be Ark that type of the ETF, Cathie Wood’s ETF Ark. I haven’t heard that one for a little while.

Jake: That’s profitless tech.

Tobias: Lot of profitless tech. The chart for that is pretty nasty. It falls 70% or 90%, and then proceeds down to just nothing, and it flatlines. And then there was profitable tech, which was the second phase that got hit. And that wasn’t quite as precipitous, didn’t force fire and did eventually recover. And then it was just the general market, which was the final stage of the sell off. I feel we’re coming into the third stage at some point. Who really knows? I don’t think that the timing of it is easy to figure out, but we’re not there yet. I think it’s like Q3 or Q4. I guess, we’re in Q3 now. So, end of Q3, Q4, or Q1 next year before we really see the fireworks,

Jake: The more broad fireworks. Is that what you mean?

Tobias: The broader market fireworks. Yeah.

Jake: Yeah. You never know this really, although, I guess some smart people knew that housing, who was swimming naked in housing. But who’s over levered today other than governments that would be in trouble if they can’t get refinancing? You hear about all these zombie companies. Those have to be candidates for this. A big wipe out basically.

Tobias: Lehman moment.

Jake: Taking equity to zero. Yeah, there’s bankruptcies.

Tobias: That’s a good crowd question. You guys got any ideas about that? Yeah, hard to know. Was there that moment in 2000? Was there the Lehman moment in 2000, did that occur?

Jake: Well, I have to imagine that Canada had that with Nortel. Nortel was 35% or something, 40% of the entire Canadian index, one company. It was super dominant. When that tipped over, I have to imagine that felt pretty Lehman-esque.

Tobias: Yeah. 2007, 2009 was a credit crunch. And so, you’re worried about your counterparties so that why Lehman filing was significant because it meant that you had genuine counterparty risk and you couldn’t rely on the government to backstop you counterparties, which is why– [crosstalk]

Jake: I guess that’s happening in crypto today.

Tobias: Yeah, is that systemic? Is that spread out?

Jake: Yeah, I don’t know. Probably not too much to the rest of– I don’t know. I think we’ve asked before like what percentage of people have exposure to crypto? It has to be under 50%, I would think.

Tobias: Yeah, I don’t know.

Jake: Probably under 25%, I would guess.

Tobias: Are you allowed to talk about the call that you dialed into?

Jake: I don’t know.

Tobias: Is it public?

Jake: Which one are we talking about? [laughs]

Tobias: UTIMCO.

Jake: Oh, yeah. That’s public. Well, it’s not that interesting a story, but there’s some good slides in UTIMCOs. UTIMCO is the University of Texas endowment.

Tobias: Is that Kyle Bass’?

Jake: I’m not sure.

Tobias: Is that the one that Kyle Bass sits on?

Jake: I’m not sure.

Tobias: Wasn’t he the one who went and bought all the nickels?

Jake: Yeah, I don’t remember this. I don’t remember which entity that was for. But they have regular updates publicly available and they do presentations. They have got in their most recent one some decent slides with some good historical figures in there that are interesting. They do some pretty good work actually. That was what I was talking about before we came on.

Elon Musk Twitter Lawsuit Fast-Tracked

Tobias: Twitter.

Jake: Twitter and Elon, huh?

Tobias: What do you think?

Jake: This is definitely Bill’s category.

Tobias: I feel it a little bit. I saw they were Musk’s lawyers are asking for a February date for the hearing. It seems like a long way out to me.

Jake: Yeah, that’s apparently just this morning, I guess the chancery came back and sounds like it’s going to be more fast track than that.

Tobias: What’s the date?

Jake: I don’t know.

Tobias: Good.

Jake: [unintelligible [00:16:07] Bill.


Tobias: I’m getting it all secondhand, but it didn’t look to me particularly promising for Musk.

Jake: Yeah, basically, like what?

Tobias: Expedited.

Jake: Yeah, it sounds like it’s going to be expedited, sounds like it’s going to happen more on the timeline of Twitter’s preferences as opposed to the defendants,

Tobias: September, October.

Jake: So, Musk could be– He’s got a lot of money to throw at the legal team, so they can– [crosstalk]

Tobias: “5-day trial in October!” Yeah. The only chart that matters is the ratio of Tesla valuation to Twitter valuation. At the time of the bid, it was 19 times and now it’s 12 times.

Jake: Okay. Then what.

Tobias: So, Twitter is materially more expensive than it was when the bid started.

Jake: Measured in Elon bucks.

Tobias: Measured in Elon bucks, in Tesla currency.

Jake: Yeah. That makes sense. That’s probably actually a pretty insightful metric. If you’re of the tinfoil hat opinion that the whole Twitter thing was just a ruse for him to dump a bunch of Tesla shares like liquidate them, so, he could do something else with them?

Tobias: With a billion-dollar break fee?

Jake: Ah, that’s nothing.

Tobias: There’s got to be an easy way of doing that.

Jake: That route is zero.

Tobias: Can’t you just tweet it out?

Jake: [laughs]

Tobias: Well, fair. But it’s real cash though. Because he’s leaving.

Jake: Yeah, that’s true.

Tobias: There’s some price in there where he gets a margin call. It is hard to meet for Tesla. I don’t know where it is, but I think it could be 500 or 350, or something like that. Wild things happen if the market falls over. This isn’t funny prints.

Jake: Wild things happen for it to get up to that low. [laughs] It’s a bit of a historical anomaly on its own.

The Market Is Over-Hedged

Tobias: When I look at all of the other analogies that we have for this market as it’s rolling along, I still get the feeling that we haven’t had that. One of the things that I look at particularly is the VIX. And if you look at the VIX, it’s a little bit elevated relative to where it was last year. But it’s nowhere near where it looked like in 2007 or 2000. We’re nowhere near those numbers or even March 2020. We haven’t had a March 2020 moment yet in this drawdown, which is the thing that makes me most nervous because I think that’s probably still coming.

Jake: Yeah, it’s an interesting question for all of the tail risk funds that hedge that way. If you get the slow meltdown like an old man getting into the bathtub style of market corrections, it’s possible that those tail risk hedges don’t pay off even in a dramatically down scenario, which the whole point of them was to protect you against that kind of thing. But if you never get that real punctuated VIX spiking type of drawdown, then you don’t get that triggered asymmetry of the upside of the options exploding upward and then you don’t get paid and basically your house burns down, but because it burns so slowly, the insurance company doesn’t pay it out.

Tobias: I wonder if it’s because there’s so much hedging out there at the moment. I saw a tweet this morning that said that, “The market participants have never been this hedged up this far offer of a drawdown-”

Jake: Really?

Tobias: -with 20% down and there’s still or hedged up like there’s another 40% to go,” which would just get us back to the long run Shiller P/E average.

Jake: Yikes.

Tobias: Just to scare everybody a little bit?

Jake: Yeah.

Tobias: With 41% over the long run Shiller P/E average, which implies 2250, 2300 on the S&P 500, just for [unintelligible [00:20:22]

Jake: That was 10 years of strong profit margins. Real strong.

Tobias: If anything, it might be overstated. Yeah.

Jake: Might be a little bit overstated on a historical context.

Tobias: That seems crazy to say.

Jake: [laughs] So, you’re telling me there’s a chance.

Tobias: There’s no guarantee that you stop at the long run average either.

Jake: No. Even in 2009, we bounced right off of the average and went back up.

Tobias: Do you think people just go on vacation? Summers, it’s just the vacuum tubes trading back and forth between each other-

Jake: Right now?

Stock Returns Correlated With The Weather

Tobias: -and then everybody gets back and forth? I’m like, “Oh, my God. It’s definitely bad. Sell. Sell, Mortimer.”

Jake: Yeah. I thought you guys are going to fix this by now.

Tobias: And then it is getting darker, days are getting shorter, it’s getting cold.

Jake: That’s right. Yeah, everyone’s mentally, they’re just in a grouchy mood.

Tobias: Yeah. Has anybody tested that?

Jake: Yeah. I’ve seen that study on that before about sunlight and the amount of sunlight and returns, and it was positively correlated. Let’s see if I could track down the study. I can’t remember where I found it.

Another Lost Decade For Market Returns

Tobias: What’s your update on the pieces that moved? You don’t have to give us an update? Just a reminder of it, you know margin rates.

Jake: Yeah. Well, there’s not really an update per se. I had backward looking numbers for 10 years that showed the decomposition of returns. Is that what you’re talking about?

Tobias: Yeah.

Jake: And then I’ve put my own theories together as to what I would be willing to underwrite for the next 10 years. But any of that time period in between that small doesn’t really have– there’s not much to speak about.

Tobias: Do want to give us an update? Let us know where we are.

Jake: [laughs]

Tobias: Where is the most pressure do you think in there? Margins, multiple?

Jake: Yeah, I think certainly, I’m comfortable underwriting 3% for the growth rate top line sales. So, basically GDP growing. Who knows? There’s a fair amount of government printing that happens in that 3% previously. So, if that keeps going, I don’t know. But long, long term, that 3% has been pretty solid. We can underwrite that. Profit margins, yes, that currently like 13% is way over. And if you believe that Grantham is not stupid when he says that “Profit margins are one of the most mean reverting datasets in all of finance,” if you believe Buffett’s not an idiot when he says that, “Do not expect more than about 6% to be yielded to capitalism share of the pie to the owners.” So, we’re at 2x that and we have been for quite a while. I have a hard time imagining underwriting it growing from 13% to 20% or something to give you a bunch of returns.

And then lastly, yeah, share count is another component there. We’ve levered up a bunch in the last 10 years to do share count to do buybacks, which if rates are rising and corporate debt doubled over that time period to do those buybacks, I’m not sure you can pull that lever again for the next 10 years. And then lastly, the multiple which as you know has a very high– The multiple from 2011 to 2021 gave you almost 6.5% of per annum compounding return for you in the expansion of the multiple from 2011 to 2021.

As you mentioned, Cape is high. They all sit like Cape is a crap that doesn’t tell you anything about timing, but it does rhyme with all the other valuation metrics like market cap to GDP, Tobin’s Q. They all tell you the same thing that things are still very expensive. So, you probably have to fake multiple a little bit. You add all those things up– And the dividends will probably give you a good 2%-ish, I would think. But it’s hard to get a much above zero for the next 10 years in one of these levers. And I don’t know which of these, where I’m wrong on these, but I’m sure I’m wrong somewhere. I just don’t know how wrong am I and in what direction. [chuckles]

Tobias: Looking back in 10 years’ time with the Shiller P/E at 60. You’ll say, “Well, that was the problem.”

Jake: Yeah. You’d say– [crosstalk]

Tobias: You didn’t expect margin expansion, too.

Jake: Well, yeah.

Tobias: I mean, multiple expansion.

Jake: Yeah, exactly. We get full Japan 1989 Shiller P/E at 100 or something. “Oh, well, that’s how we were wrong.”

Tobias: China hit a 100, Japan hit a 100. The US has never hit a 100, 44 is the top in April 2000. If you take that Shiller P/E and you assume that it mean reverts to the average over 10 years that’s John Hussman’s method and I use that– It’s just I calculated on a rolling basis. I have a little app that calculates that for me. The expected return now, so that assumes 2% in interest rates sorry, 2% in dividends, you get multiple compression over 10 years from– It’ll be 30 to about, I think it’s 16.6 or 16.7.

Jake: Yeah, 17-ish is the long run right now, I think.

Tobias: You get 3.3% compound including about 1.7% in dividends. And so, when we look back, the highest that it’s been in recent memory was March 2020 when it got to like 5.3, I think, as a forward return that was at the very bottom. But before then, we’ve had periods of time where it’s delivered reasonably good forward returns. It’s just that we’re not now. Late last year, it was at 0.6%, which is just insane.

Jake: Oh, yeah.

Tobias: Particularly, when the 10-year is at a discount– The 10-year gave you more yield.

Jake: Yeah. Well, that’s not good [laughs] if you’re right back there.

Tobias: Is it a zero-forward return from your calculation?

Jake: My underwriting, I’m looking at more like a minus two.

Tobias: Yeah. For 10 years compound?

Jake: Yeah.

Tobias: Is it 10 years? Is that the period?

Jake: That’s minus 20, total-

Tobias: Yeah. Well.

Jake: -which is sobering. I hope I’m wrong. I hope that that’s a little too pessimistic on one of those variables and that we don’t see– Maybe margins don’t compress as much. Who knows? You can see five different ups and downs in the middle of a decade. But it’s just the starting point of this particular decade. It started at such a tiptop similar rhyming to 99, how that looked and how it took. It was the last decade from 2000 to 2010 as well. So, it wouldn’t surprise me to have that same phenomenon play out.

Tobias: The weird thing was, we now remember the dotcom boom as being dotcom boom. That was fairly localized into a handful. They got very big, but it wasn’t just a dotcom bubble. It was that bubble in all the other really high-quality stocks, too. The ones that I always remember a lot.

Jake: Even just big versus small, the large cap was very, very expensive at that point.

Tobias: Once I always mentioned at Microsoft, Walmart, and GE, because that was right at the end of the Neutron, Jack’s reign, and everybody loves GE, even though it was– I do remember some articles at the time saying, “The return on equity has deteriorated quite a lot in GE and it’s taken on quite a lot of debt.” So, those two things together weren’t good. But it was one of the most respected companies around. And then he had Walmart. It had been winning for 25, 27, 28 years, something like that at that point. And Microsoft, of course, went really expensive. And 15 years later, they were trading exactly where they were in 2001, not on a multiple basis, the stock price was trading where it was-

Jake: Yeah.

Tobias: 15 years later.

Jake: You have to grow into those kinds of lofty expectations that are baked into a high stock price. That can take a while.

FAANG Becomes MAMAA – Meta, Apple, Microsoft, Amazon, Alphabet

Tobias: The only differences, I wouldn’t say that FAANG, whatever you want to include on the top is a little bit of a moveable feast. I guess, you just dropped the one that’s not working. So, it used to be FAANG, it’s not FAANG anymore.

Jake: Yeah, Netflix– [crosstalk] You haven’t been doing well enough, you’re out. Now, you’re in.

Tobias: And MIT has changed. If anymore sought it out, I don’t know what the current acronym is. You guys know what the current acronyms is for that thing? I’ve got no idea. I’d say it’s Facebook, which has been beaten up for Facebook specific reasons. Then you’ve got Amazon, and Apple, Microsoft, and Google is not G anymore, either. That’s an A, so it’s just Ms and As at the moment. MAMA, something like that.

Jake: Jesus. [laughs]

Tobias: I wouldn’t say that they’re egregiously expensive as a group and that’s the bulk of the index that’s 25% of the index something like that.

Jake: Yeah, that’s true. There could be some weight carried-

Tobias: MANGO.

Jake: -for the next 10 years, MANGO.

Tobias: What’s the O? MANG. Yeah.

Jake: Come out MANG.

Tobias: It’s that [crosstalk] G and we’re dropping Netflix. So, it’s MAMA or something like that. [unintelligible [00:30:16].

Jake: Oh, boy. [crosstalk]

Tobias: You know, where this is going to go? [laughs]

Why Artificial Intelligence Will Never Beat the Stock Market

Jake: MAGNA? Is that what it was? All right, shall we do some veggies? Vegetables?

Tobias: Give us some veggies? You’ve been resting enough, so it’s time for you to do some work.

Jake: Yeah. I feel like the donkey carrying the load here. [laughs] This week we’re going to be talking about Learning Environment. We always touch on some of these subjects in the show, but I haven’t done a full treatment of it, yet, I don’t believe. A lot of it’s based on Robin Hogarth’s work, who is a researcher that studied different learning environments. And she separates them on a spectrum from kind to wicked. The thing to remember about it is that in kind learning environment, patterns recur, the situation is constrained, so think about like a chessboard, the pieces have knowable, movable options and they don’t deviate from those.

Every time feedback is quick, and obvious, and 100% accurate, and all the information is available. Like a chessboard, you’re looking, you could see all the pieces. On the one end, very extreme side, we have something like chess. Golf also falls within there, because it’s not like– Well, I have lost a fair number of balls, but theoretically, all the information is available where your ball went. But you get feedback readily as soon as you hit it, watching the flight path, all of that stuff.

Now, on the opposite end of the spectrum, we have the wicked environment, which is the exact opposite of all that stuff. Information is often hidden, feedback is delayed, it’s infrequent or even nonexistent. Wicked environments reinforce the wrong type of behaviors. You could think like, “All right, well, where does the investment world fall when it comes to kind versus wicked learning environments?” I think it’s pretty far on the wicked side, myself. Toby, what do you think?

Tobias: Yes, it’s wicked, for sure.

Jake: [laughs] Okay. I’m glad we’re in agreement. But Hogarth has this famous example that he talks about. There was this apparently, like very eminent, prominent physician. He came to prominence because he could accurately predict when someone would get typhoid weeks before they had any symptoms. He did this by somehow, like, palpitating their tongue with his bare hands.

Tobias: Like giving a typhoid?

Jake: It turned out was that he was actually giving them typhoid.

Tobias: [laughs]

Jake: [laughs]

Tobias: Sorry. I didn’t know that was actually going to be the answer.

Jake: No. Yeah, he’s learning the completely wrong lessons. Because he’s introducing a fair amount of error into the system. In chess, let’s go back to that as an example. It’s relatively easy to automate chess for a program to solve it, because it is so constrained and because the feedback loops are easier to be closed between what becomes a winning move or not. So, that’s how it could be automated, you can create programs. If you store enough data about different moves and where they lead to, you get this repeating patterns that happen.

I think that markets actually do have this. There are some repeating patterns that you can learn from and in businesses as well. There’s a lot of repeating patterns within businesses that I think the best investors recognize, and they see something that, and it rhymes with something else that they’ve either owned or studied, and that gives them some insight as to why it might be mispriced. But it’s not as clear to me that it’s as easy to figure out is something like chess, all which means, I would be surprised if AI was a thing that we really had to worry about in the investment world within our lifetimes. What do you think about that?

Tobias: [sighs] I think that the experience with poker and the experience with GO. GO is a more fluid game than traditional chess. And then poker, I think that AI has been trained to play heads up. So, it plays one on one. The problem was always that good professional poker players can deduce not facial tells, but they can look at the betting of the machine and they can start figuring out. Because the machine is just too literal. We had to teach the machine-

Jake: To be more sneaky.

Tobias: -to teach to bluff. But once they taught it to bluff, it became hard to beat. As a learning machine, I think that in heads-up poker, the best heads-up poker player is now a machine. And that happened a few years ago. I think the next step beyond that is playing with multiple players in a hand, which– I think that if anything that might be easier than heads up, it seems to be a problem to solve. I think it’s solvable. I think that machines could solve it, but doesn’t necessarily mean that it’s over for humans because you’re looking for the things that have become cheap. That’s the signal. That’s the sign that you’re looking for, right?

Jake: Yeah.

Tobias: So, you can still find those was my point.

Jake: Yeah. Right. I guess, the question would be, is there some reason to expect like the AI will get so much better at matching patterns that there’s no room left for human creativity?

Tobias: No, I don’t think so. I think that the best ones will always be, what are they call that Centaur?

Jake: Centaurs, yeah.

Tobias: Humans with chess machines. I think that’ll be that will be the best thing in the market. That’ll be something like a human with a computer helping make the decisions.

Investing Lessons From Golfing Pro Matt Fitzpatrick

Jake: One last story in this veggie segment. There’s this golfer named Matt Fitzpatrick. He won in some big amateur in 2013, He was young. But he just won the US Open this year. The interesting thing about him is that for the last 13 years, so, since he was 14 years old, he has been writing details about every shot that he’s taken. Whether it was a practice round with friends or in the US Open, he has a little book that he writes down. He’ll write like, what club, the lie of the ball, how the wind was, and then the result. And every single shot without fail. What’s even more important actually is that he writes down what his intentions were versus what actually happened.

You see him, and he hits it, and the ball is to the right of the pin by 10 yards, well, he’s the only one who knows that he was actually aiming 20 yards to the left of the pin, so that it ended up being, he was actually 30 yards off, but no one could really tell. By the way, all of these the data that he records on this stuff guides his practice, so that he goes back and he realizes, “Oh, man, I’ve been having trouble with this particular lie, maybe with this approach or this club.” Whatever combination of it is. And so, he works on those types of things. His practice is guided by his– the feedback loops that he’s closing by reporting.

I have to imagine that if you are serious about this game of investing like Matt is serious about his golf game, you have to be writing down some of these types of things like, what you’re seeing, what your intention was, how you think things are going to play out, so that you can go back and see like, “Okay, where am I making mistakes consistently? How can I close these feedback loops?” By the way, Golf is a much kinder learning environment where the feedback is readily available to you. It’s unambiguous. All the information is there.

The investing world is not kind as we have already– I think both agree. It’s even more imperative that you write these kinds of things down and keep track of this stuff, because otherwise, I think you’re playing behind the eight ball so much. I don’t know how you’re not going to get beat by someone who else is.

Tobias: I think you might have mixed your metaphor there mate.

Jake: Yeah. That’s what I’m good at.

Tobias: Do you know of any service that can provide that kind of recording, a feedback loop?

Jake: I’ve heard of one. Yeah. That might be coming out soon. That would be good for that. [laughs] Still working.

Tobias: You wearing the shirt last week.

Jake: I was. Yeah.

Tobias: You can do that.

Jake: Yeah, we can say it. It’s a program that I’m building called Journalitic. But there’s still a lot of stuff to be built that’s going to make it even better.

Tobias: Don’t want to get it out too early. Yeah, I couldn’t agree more. You need to build in a feedback mechanism for investing. Otherwise, it’s just impossible to remember what you were thinking at the time. Even if you could, everything that happened subsequently covers the way that you think about something. If the stock goes down a lot, you become probably less enthusiastic about it and if the stock goes up a lot you become more enthusiastic about it.

The Impact Of Sentiment On Investment Decisions

Jake: Well, I think about this all the time. If most people and I think this is probably true is that the price really colors how they’re feeling about a particular stock? What ends up happening is that, when it’s down and you go pull up the next 10Q that comes out and you go– You start seeing negative stuff. The price will drive the interpretation of the numbers and what the management is saying. Or, the other way as well, where it’s been rocketing up, you’re going to see all kinds of amazing things in the numbers that just came out and justify why you’re so smart, why this is working so well, why it should keep working.

It’s just human nature to extrapolate these things too far upwards or too far downwards. If you’re not doing something to keep track of how you’re feeling and put a check on that, and really know what your sentiment in real time as you’re doing it, I think you’re very likely to overshoot one way or the other.

Tobias: There’s also a lot of momentum in the results, too, If it’s going in your direction, then it’s justified you’re smart. If it’s going against you, then it’s a value trap and you should be out. Whereas if you’re buying these things, it probably already sold off quite a lot and they’re having some problems at a business level. It’s just a matter of figuring out when they can resolve that issue.

Jake: Yeah. I don’t think that describes most people’s approach, though. I think most people are buying something that’s really been working and they think it’s just going to keep working.

Tobias: That might be where I’m going wrong.

Jake: [laughs]

Tobias: The stuff that’s been working,

Jake: Yeah. Wait, you can get them when they’re working? That’s the thing?

Tobias: Dudes, if you’ve got any questions, throw them in. We’ll answer questions for the last 15 minutes.

The Vaccine For Hindsight Bias – Annie Duke

Jake: I got one more quote real quick from Annie Duke that I really like. She says, “Writing down the key facts, informing your decision acts like a vaccine against hindsight bias.” So, we probably got canceled because we said vaccine, but there goes our– [crosstalk]

Tobias: [laughs] We are recommending a vaccine in this instance.

Jake: Oh, shit.

Tobias: Are you not allowed to do that either? I don’t know.

Jake: No, I can’t do anything.

We’re In Freefall Until We Hit The Bottom

Tobias: Yeah. This has been a frustrating period, I would say, particularly for value because it’s been beaten up and then when it looked like it was going to rally a little bit, it’s caught the systemic drawdown.

Jake: Which I thought you said hadn’t even started yet. [laughs]

Tobias: Well, it’s definitely started. It’s just not finished.

Jake: Phase 3 of the systemic.

Tobias: Phase 3. But I went back and I looked at– back-tested my models through that 2000 drawdown and 2007 drawdown and you’re basically just in freefall until you find the bottom. There’s that pervasive myth probably from the early 2000s when value just been so beaten up going into the drawdown that it recovered. First of all, everything else was in shambles while the profitless tech was still selling off.

Jake: So, you’re saying your data don’t support that?

Tobias: No, not ordinarily. Everything just sells off. It doesn’t matter whether it’s undervalued or overvalued. You don’t want to be in the overvalued stuff. It does seem to send some off more.

Charlie Munger Investing In Stonehouse Corp

Yeah. I don’t know this stunt. Charlie Munger has invested with this Australian private company that the guy is trying to build the Australian Berkshire Hathaway. It’s called Stonehouse. I think it’s really cool. It’s exciting to see it happening. But I don’t really know anything about it. I’d never heard of the gentleman before the article came out. I think it was a Wall Street Journal article. Did you send that to me as well?

Jake: I think I did.


Jake: You got to spread out your news flow. [laughs] Yeah, that’s pretty cool for that guy. I’m sure his phone is ringing off the hook and I’ve heard that he’s closed outside investors.

Tobias: To raise some more money.

Tobias and Jake: Yeah.

Jake: Good for him, though.

Could Someone Make A Printer That Works

Tobias: Yeah. I don’t really want to talk about any individual stocks, though. I continue to hold HPQ. I’ve held it since I’ve launched the thing that I do and I continue to hold it. It’s all the things that I like it. It’s throwing off cash flow and buying back stock and it’s cheap.

Jake: That’s a good combination. That’s a combination that wins over the next 10 years.

Tobias: Well, I hope so. Yeah, I got no view on the market for printers. I got one. It didn’t cost me much. I turn them over every few years and I spend less on them than I did the time before. But none of them work.

Jake: No.

Tobias: I think it’s just an absolute. Maybe we’re all just moving to completely paperless offices. But I imagine if there was a printer out there that worked then that’d be a billion dollar idea, at least like a billion dollars.

Jake: Yeah, printer, but one that works.

Tobias: Why is nobody thought of that before?

Jake: I don’t know.

Tobias: You can’t sell that razorblade model with the ink cartridges. I never use cyan. Why is that the one that’s always running out?

Jake: [laughs] I’ve never print anything that color.

Tobias: I was printing black. You are telling me that’s pretty. I’ve got a black cartridge. Why is it printing all three colors? Yeah, I did just talk about it. You’re right. There you go. I’ve talked about HPQ.

Jake: Oh, okay. Yeah.

Tobias: Yeah, I’m not going to talk about that gentleman. I regret putting him in one of my books. He got what he deserved probably. Yeah, big bounce today. Who knows why? Any given day, it can be just-

Tobias and Jake: Noise.

Tobias: -short covering. Maybe, it’s all over. Maybe, we’re just rocketing back to all-time highs.

Jake: Rock on.

Tobias: Anything can happen. “Xerox at half times book?” Yeah, I don’t know. I don’t know. I don’t know it at all.

Jake: That sounds like HPQ.

Tobias: It does. That make printers, I guess.

What happened to Xerox?

Jake: [laughs] Well, isn’t that a good–? Was there a hotter, more futuristic company than Xerox in the 19 what 60s?

Tobias: Did you see that ad? It was on Twitter last week, where there was showing Xerox PARC that had this– I think this is in the 80s. They’d set up this office and they were able to receive email. [crosstalk] Yeah, they were able to see this email. And the guy would just went through the letters that he had been sent on electronically.

Jake: Np way.

Tobias: And it was just showing him—He’d got one and he thought, “There’s some other people who need to see this.” So, he then forwarded it onto other people and it was just absolutely Space Age stuff at the time. Impossible. Like the future will never be like– They call it pretty well as– That’s exactly what happened. You’ve got no idea what great functionality the carbon copy is.

Jake: Whatever the darling business that you’re in love with, at some point could trade at half of-

Tobias: Just a commodity.

Jake: -book value, right?

Tobias: Totally commodity.

Jake: [laughs] It doesn’t matter.

Tobias: Yeah, I’m excited for the Stonehouse gentleman. I just don’t know. I’ve never heard of him before. Sorry, guys. [laughs]

Jake: I thought everyone knew everyone in Australia.

Tobias: Yeah, I should probably pretend like I do. I know lots of people. My six degrees of separation to Charlie Munger was really short. I know lots of people who know Charlie Munger. I just don’t know Charlie Munger including my cohost here, Jake Taylor. He got prank called– Hello, you’ve gone. It’s just me. JT’s hung up. So, it’s going to be 10 minutes of me talking to the camera. Where are you, JT? [laughs] Is that Seritage, SRG? I don’t know, guys. That’s an ugly one.

Folks, I guess this is going to be a soliloquy from me if I don’t hang up now. Thanks everybody for listening. We’ll be back next week with three people. Still no Bill. But it’ll be Jake, and somebody else, and then me. But–

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