In their latest episode of the VALUE: After Hours Podcast, Justin Carbonneau, Jack Forehand, Jake Taylor, and Tobias Carlisle discuss:
- What Impact Will AI Have On Investing?
- Why Factor Timing is So Hard
- Disciplined Rationality – Warren Buffett’s Greatest Attribute
- Investing Lessons From Tunicates
- 5 Stocks Are Driving The Entire Market
- Cathie Wood Missed Nvidia
- EBIT/EV Spread Indicates Value Will Outperform
- This Is A Valuation Adjustment Market
- The Best Growth Strategy Is Price Momentum
- How Useful Is Historical Data For Today’s Investor?
- YouTube CEO Has A Plan to Win Over Anyone Watching TV
- Why Home-Builders Are Showing Up In Value Screens
- Which Factors Have Worked?
- Reduce Drawdowns Using A Robust Multi-Asset Portfolio
- Spread Between Market-Cap Weight And Equal-Weight At Historic Levels
- The Relative Strength Momentum Component
- The Benefits of Self-Publishing
- The Benefits Of Walking Treadmill Desks
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: We are live, gents. This is Value: After Hours. I’m Tobias Carlisle, joined as always by my cohost, Jake Taylor. Joined today by special guests, Validea, Justin Carbonneau and Jack Forehand. What’s happening, fellas? Good to see you.
Jack: How’s it going? Thanks for having us.
Justin: Hey, guys, thanks for having us. I appreciate it.
Jake: Welcome.
Tobias: Give everybody a little flavor of what Validea is.
Justin: Yeah, Jack, maybe I’ll start. We have two different businesses here. We have an investment research business, where we build models off of famous investors and other strategies that have been put out there in the public domain, either books or academic papers. And then using that product or tool, individual investors and professionals use it for stock screening. We have model portfolios. It basically is like a research tool to help the everyday, I guess, active investor that’s interested in these types of strategies. That business has been around since 2003. Some of the models on Validea, we’ve actually tracked since that time period. So, it’s a good real live test of how some of these strategies actually– [crosstalk]
Tobias: What’s the live–? [crosstalk]
Jake: In sample.
Tobias: What’s the in sample–? [crosstalk]
Justin: Okay. Are you ready?
Tobias: Yeah.
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Which Factors Have Worked?
Justin: So, if I gave you this list, a model based on Buffett, a model based on Lynch, a model based on some of Jim O’Shaughnessy’s work, a model based on Martin Zweig’s work, a model based on David Drummond’s work, a model based on the Motley Fool, and a model based on John Neff. Who would you think?
Tobias: I don’t know John Neff well enough, but probably– Is it [unintelligible [00:01:46], because it’s a hold forever, more techie kind of thing?
Justin: You got the answer right.
Tobias: [laughs]
Jack: I don’t even know the answer, but that was going to be my answer too.
Tobias: [laughs]
Justin: It’s not that as much as it is. It’s really like a small cap growth strategy, how it really manifests because we base it on the Motley Fool investment guy that they wrote way back, they don’t even follow that anymore. But it’s got a lot of good components to it. Really, it does.
Tobias: What are the good components? What’s worked?
The Relative Strength Momentum Component
Justin: There’s a relative strength component that’s very– It looks for stocks with relative strength of at least 90. So, it wants to see the momentum.
Tobias: What does this 90 mean?
Justin: It means that if a stock has a relative strength of 90 or better, it’s in the best performing group of stocks.
Tobias: Out of 100?
Jack: Yeah, outperform 90% of other stocks technically.
Tobias: Okay.
Jack: Like, trailing one year return.
Tobias: Got it.
Jake: Is this stock Amazon? If yes, buy.
Justin: Yeah.
[laughter]Jack: That would have been the all-time best quantitative model, if we could have come up with that.
Justin: Well, what is interesting is, one of our models is based on Meb Faber’s shareholder yield, and that freaking thing picked up GameStop, when it was going crazy. And so, it really jacked up the performance. It’s a good lesson we like to talk about, like you always want to look under the hood at what’s driving the performance of something, because that’s obviously, it was luck. Maybe there was value there, but not 2500% value like it did in the craziness.
Jake: How early did it pick it up? If it’s early enough, shoot.
Jack: Yeah, before the huge run, definitely. Yeah, our models are all very focused. So, when you run 10 and 20 stock models and you’ve got one stock in there that does that, it changes the entire performance history. And so, you have to be careful when you’re judging it going back, it’s saying like, “All right, that’s a huge part of the performance. I need to carve that out and look at the rest of the model on its own.” It can be a challenge with these really focused models.
Justin: Now, one of the things we do on the site that I think is pretty cool is that for all of the portfolios, you can go back to any rebalancing date and see what the portfolio is holding at the time. I like to use it, like, if I’m looking backwards, like thinking about 2008 or thinking about COVID and how these strategies perform in downturns, and then looking at the actual holdings and saying like, “Okay, what was this thing picking up at the time?” And then you can get a sense of maybe the positives or negatives with an investment strategy.
Tobias: You think it can help you identify the cycle of the strategy itself, how value sucked for so long, but value used to do okay? But if you looked at value, probably when Jake wrote his 2015 article about this value spread being very tight, you would have picked up that they were pretty junky compared to what you could– You weren’t paying much of a premium for the higher quality stuff at that time in about 2015, which I think preceded the whole run that we’ve had.
Jack: Yeah, I remember you talked about that when you came on our podcast. We’ve never really looked at saying, what is the spread and then, what does that tell us about which models we should be in? We run them as long-term models, and we’ve never looked at that. But that’s an interesting idea. We should look at that like a regime type thing or what’s going on with spreads.
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Why Factor Timing is So Hard
Tobias: I don’t know if you can factor time. I don’t think– it’s almost like factor timing. I don’t think it works, but–
Jack: Yeah, we’ve tried a little bit of factor timing. It’s really, really, really hard. The other problem with it is it requires you to have a really strong stomach, because you’re going to always be early. And so, you’re going to be sitting there and underperforming for a while. So, to me, of all the stuff we’ve looked at in factor timing, I think momentum is the best way to do it, because momentum at least is like price is truth. So, you’re actually seeing what’s happening. You’re not going to get into value because spreads are really wide and sit there for five years. You’re at least going to wait till things turn a little bit. But it’s all really challenging. All the factor timing stuff we’ve done is very, very difficult.
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EBIT/EV Spread Indicates Value Will Outperform
Tobias: Speaking of which, the Alpha Architect guys brought out their spread for EBIT/EV today.
Jake: Where are we at? What’s it look like, Toby?
Tobias: It’s widened again, [Jake laughs] but it’s the third widest. So, when it gets wider, value underperforms. When it gets narrower, value– But it’s much, much wider than 2000, 2009.
Jake: Outperforms when it gets wide, right?
Tobias: Underperforms when it gets wide.
Jack: Underperforms to get you there.
Tobias: Sorry, you’re right. Underperform’s getting wide, outperform’s getting narrow.
Jack: When was the widest? Was it also this year?
Tobias: Yeah, it was like-
Jake: Last– [crosstalk]
Tobias: -it was two months ago. So, it’s wider than last month, but not as wide as the preceding month, which was– I guess they’ve just given us the– [crosstalk]
Justin: Now, do they show the corresponding rolling 5-year, 10-year returns of value coming off of those periods in the paper?
Tobias: No.
Justin: No.
Tobias: I haven’t seen that. No.
Jake: This is more like a dashboard that just keeps-
Justin: Oh, I see.
Jake: -keeps it updated.
Justin: Got you. Yeah.
Tobias: I’m just going to look now. Just see–
Justin: I love that chart that shows value versus growth, and then hopefully when it gets really bad, value does start to turn, but we’ve been here for a while now. It’s getting ridiculous.
Tobias: It’s amazing, really. It’s amazing– [crosstalk]
Jack: It seemed like we got our turn coming out of 2020 and then we didn’t get our turn again. [crosstalk]
Justin: Well, that’s one of the things though. I think doesn’t value aren’t the returns pretty–? They’re very concentrated. When you look at the value premium– I think 2007 probably is the exception. I think most of the value premium is coming out of the recessions and the troughs of bear markets. This degree of underperformance is very wide, but I’m wondering, like, if a lot of the concentration value comes in a very short period of time.
Jake: Yeah, [crosstalk] to time it the chances of catching only when it’s fully working probably impossible. You end up with, call it, a 1% delta, but that 1% came in a very tiny slipper of time where you were totally trouncing.
Justin: Right.
Jack: 2000, 2003 is a great example of that. You underperform forever and then you just got massive, massive returns in a really short period. But it’s what makes value so hard to stick with for people, because you have to sit through this torture for such a long time to get this huge burst of returns. It can be especially concentrated value. You can make it really hard to stick with.
Tobias: Yep, over the last 30 years–
[laughter]Jack: I guess we all know that all too well.
Tobias: Over the last 30 years, which gets you back to 1993, which is a terrible thought, but since 1993, there’s been about five years of outperformance and it was 2002 to 2007, something like that. There’s not been a lot of joy for value in that period.
Jack: Hopefully, it’s coming back here soon. I don’t know, before this year, I thought we were in good shape and now we’re reversing back the other way.
Tobias: Ah, it was like September 2020 to about May 2021 had this great run and it’s just given background since then.
—0
Spread Between Market-Cap Weight And Equal-Weight At Historic Levels
Jack: Yeah, we were talking before we came on about– you were asking what our best performing strategies are this year. I was thinking, in the first couple of months of this year, it would have been all of our value strategies, and now it’s completely reversed. I was just looking at before we came on, and now it’s all the growth strategies. It’s done a 180 in the past few months and gone completely the other direction.
Justin: But it is amazing the overall market, the average stock was doing so well through the end of February. The SVB thing happened, and then basically, we all know it’s like a handful of names now leading the market higher. The S&P is up 9% for the year, whatever it is, and your average stock is far, far less than that.
Tobias: I looked at the equal weight S&P 500. I think the equal weight is either flat or down over the last 12 months, and it’s probably-
Jake: Wow.
Tobias: -down for the year, which is amazing.
Jack: Somebody tweeted the spread between market cap weight and equal weight is at historic levels right now in terms of performance. Like, how much market cap weight is– I don’t know if it was trailing year or what it was. Like, how much market cap weight is outperforming equal weight? It’s really, really wide right now.
Tobias: It wasn’t me, but–
Jack: Okay.
Tobias: I’ve seen that chart.
—
Let me give a few shoutouts. Santo Domingo, Dominican Republic. Bendigo, that’s a good one. Victoria. Riyadh. Dubai. Cardiff, Wales. London. Bretton Woods. Bangalore. Airport. Camas, Washington. Nashville. Paris in Canada. [laughs] Tallahassee, North Miami, Florida. Kennesaw, Georgia, what’s up? Kingston. Toronto. Townsend.
Jake: Wow.
Tobias: Cool.
Jake: Worldwide.
Justin: Love it.
Tobias: Do you know anything about these zero day to expiry options? Have you followed this at all?
Jack: Not a lot. We’ve had some option guys on the podcast, and we’ve learned a little bit about it, but I’m definitely not the guy to ask, in general.
Tobias: What do you know? Because I know nothing. So, I’m just–
Jack: Well, it seems like, in general, it’s a volatility dampening thing, but if we were to get a significant decline, it could make that decline a lot more– [crosstalk]
Tobias: The other way.
Jack: When we talked to Jim [unintelligible [00:10:48] we had in the podcast. When we talk to people like that, that’s what they say is it tends to be volatility dampening, but then it could turn a 4% decline into an 8% decline really quickly, if things go the wrong way.
Jake: How does it change– [crosstalk]
Jack: So, [crosstalk] something I don’t know a lot about, but–
Tobias: Yeah. How does it dampen vol? Do you know?
Jack: I don’t know. No. That’s one of the things we’ve been trying to do with the podcast, is have guys like that on who know about areas that we don’t know a lot about. Like, I know very little about options and their impact on the market, but that was the general take. I know I can’t explain it in detail.
—
Tobias: Any of the model portfolios holding Nvidia?
Jack: I don’t believe so.
Justin: I think so. It has a price to sales of 50 or something like that. So, that wouldn’t really meet–
Jake: [laughs]
Tobias: What about just the momentum?
Justin: Yeah. You know what? We do run a pure momentum based on Wes Gray’s quantitative momentum model that he outlined in that book. I wouldn’t be surprised if that came in just given the momentum.
Tobias: Because it wouldn’t have had a lot of momentum. It was down over the last year until it took off again recently, I think. So, maybe it wasn’t– [crosstalk]
Jack: [crosstalk] question, because that model has that momentum consistency component, whereas it favors stocks that have consistent momentum versus the ones that are all over the place, so that could knock that out. I’m not sure how consistent the momentum has been, but that could knock it out, but I’m not sure.
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Why Home-Builders Are Showing Up In Value Screens
Justin: One of the things that you asked before, Toby, about trying to time the models and is there anything that you can see, one of the things that I have found interesting is, thinking back to late 2021, a lot of the value strategies loaded up on energy. So, I remember seeing this overexposure to energy and that actually ended up being a good thing for some of our strategies. The other area that’s perking up and that’s been in the portfolios is these home builders, which I’m a little bit surprised just because of where rates are, but for some reason, a lot of these momentum models and also from a fundamental standpoint, the home builders look pretty healthy.
Tobias: I think it was the lumber. Lumber went up so much that it crushed them. And then when it fell, they had really great margins while they were selling all of these houses with– For whatever reason, house prices remained pretty elevated. So, they creamed it for a while through there. I was the same. I held energy. Well, I still hold energy. I held a lot of the home builders, but I’ve sold them off as we’ve gone along, but still got a few in there. They’re still like the best performing things in there.
Jack: I think they’re benefiting a lot from supply issues. There’s no supply of existing homes. So, I think despite the high rates, homebuilders are actually doing okay just because there aren’t a lot of existing homes to buy, so they can sell what they’re making.
Tobias: Well, there was a foreclosure moratorium through COVID. So, there was two years of none of the foreclosure supply. So, that pushed it all into the new homes, I think. It’s a little bit hard to get a read on what is happening on a fundamental basis, because there’s so many of these– Every single chart has that big lump, whatever it is, going through the python.
Jake: Pig.
Tobias: The pig going through the python. Thank you. Everything looks like it’s massively over earning and the multiple looks cheap, but it’s just because it’s either had a really, really good last few years or really bad last few years. It’s hard to normalize through it.
Jake: Yeah.
Tobias: That’s why we’re trading at such a high level in the market. Everybody thinks it’s just going to work out.
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What Impact Will AI Have On Investing?
Jack: Yeah. No, this is part of why I became a quant investor, because I’m so bad at trying to analyze this stuff and I’m like, “I might as well try to find some models that work over time and just try to follow them,” although they can still be hard to stick with. But yeah, part of it is, like, my recognition that I’m not very good at analyzing these kinds of things.
Justin: Don’t worry. We can just throw into ChatGPT and they’ll give us all of our answers and we’ll be all set. [chuckles]
Tobias: That’s so neat.
Jake: I was going to say we are changing the name of this podcast to AI: After Hours.
Justin: There you go.
Tobias: [laughs]
Justin: All right. You guys are going to blow out.
Jake: A hot– [crosstalk]
Tobias: Value: After AI. Maybe that’s what we call it.
Jake: Ooh.
Jack: [chuckles] Okay. That’s actually an important thing to think about though what value is going to look like after AI.
Tobias: Yeah. What do you need–? The thing I like about value is that it picks up a whole lot of stuff. Like, it gets energy when energy is cheap. It gets the home builders when they’re relatively cheap. And then, it seems to work out– I think that continues to happen, doesn’t it? Value, it only likes it if nobody else likes it. That’s what everybody’s worried about, AI is going to get smart and pick this stuff up, but doesn’t it then definitionally not fall into value?
Jack: Yeah, I would say. And also, on the side of actually picking stocks, I’m not sure AI changes things all that much. I don’t think there’s going to be more alpha available in the market because AI is present. So, maybe it becomes like AI is competing other AIs to pick stocks or something like that. But I don’t know if it fundamentally changes like the way investing works. You’re still going to have periods where you struggle. You’re still going to have periods where your strategy doesn’t work. In terms of picking stocks, I’m sure on the high frequency side, it makes a big difference. But I’m not sure in the type of stuff we’re doing that it really makes that much of a difference. I don’t know what you guys think.
Jake: Well, I think about where do the three advantages come from. You have a data advantage, you have analytical advantage, or you have a behavioral advantage. Which of those three vectors is AI going to radically change compared to what’s happening today? It’s not clear to me that any of those are really that have a lot of juice in them. The datasets are pretty well–
Tobias: Data mined.
Jake: Yeah, everyone’s pretty well mined the shit out of them, [Tobias laughs] present company included, certainly. And then analytically speaking, I’m not sure what’s AI going to suss out about– Perhaps, there’s some correlations there that still haven’t been found between economics and business results. It’s possible, but I’m a little skeptical about that. Then behaviorally, unless AI, I guess, is making less mistakes than the humans. But to me, it seems like AI would make different mistakes, repeatable mistakes. So, I don’t know, it’d be interesting. [crosstalk] Humans can harness it to do a lot more, which will be, I think, amazing, but I don’t know if it’s like– I think augmented intelligence is probably more the apt AI, so than artificial intelligence.
Jack: Yeah. In a lot of ways, things stay the same. People are analyzing the crap out of the data. Like you said right now, if you have information that other people don’t have right now, you have an advantage. If an AI has information other people doesn’t have, it has an advantage. So, in a lot of ways, it’s a lot of the same type stuff. Maybe the changes are going to be more on the actual job side of Wall Street. You need less analysts, that kind of stuff. We just did a podcast about this. So, we’ve been thinking about this a lot. But I would say that’s what it is. The good analysts become a lot better, and you need less analysts, maybe stuff like that versus on the actual stock picking side.
Justin: The one thing with us though is, we’ve been talking about, we have proprietary data. We have almost 20 years of rating individual equities through anywhere from 12 strategies when we started to 20. Well, actually, in total, there’s 45 different models that we run, but not all of them are on the Validea site. But could we utilize AI to improve our investment process? I’m sure there’s something we could do there, but then it becomes a big back testing exercise, and you got to be careful with that too, because you’re just looking at the past historical data and saying, “Okay, what has worked the best?” But in terms of having a– [crosstalk]
Tobias: Hoping that 20 years–
Jake: Yeah.
Tobias: Hoping that 20 years is representative of what comes before and after?
Justin: Right.
Jake: And you are not overfitting the model in a big way?
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How Useful Is Historical Data For Today’s Investor?
Jack: Yeah, exactly. You have data mining issues. And also, we just did an episode of our podcast. Toby knows because he was on. We have that standard closing question, what’s the one lesson you teach the average investor? We put them all together into 70 people, and the one Adam Butler said, “It keeps haunting me when you talk about what you were just talking about,” which is this idea. He said, “The past is just one sample draw in an infinite series of sample draws.” And so, the idea is, even if I have massive amounts of data, the past could have been completely different. So, when I’m running these tests, I have to be really careful about– The last 40 years, interest rates are falling the whole time. I can test all kinds of stuff that works great in the last 40 years, but what does it tell me about what’s going to happen in the next 40 years?
It’s important to keep in mind, the amount of randomness, even in really long data series. That’s tough for quants, because you obviously want to use data, but you also have to think about what does it actually mean.
Jake: Toby, what was your answer to that question.
Tobias: Oh, I can’t remember. Patience.
Jack: Write it down. Write everything down.
Tobias: Was that [crosstalk] That’s a good answer.
[laughter]Jack: Oh, yeah. I remember these, because I put aside to compile this whole thing together. So, I remember them.
Justin: He’s just ripping Jake off. He had nothing else on his mind, but we know Jake knows this stuff.
Tobias: He’s Journalytic.
Jake: That’s basically write it down in a fancy version.
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The Best Growth Strategy Is Price Momentum
Tobias: When I chatted to you guys on the pre-recorded podcast, I think I asked you at that time, like, what was the best strategy that it worked for that period? I think it was Partha Mohanram had that G-score?
Justin: Yeah.
Jack: Yes.
Tobias: How’s the G-score done since? Did that pick up any of the Ark type things? Did it participate in that big run up?
Jack: Okay, Justin.
Justin: Yeah. In the last three years, if that’s what we’re looking at, that strategy is, let’s say, it’s in the 2022, it’s number whatever, it’s eighth from last. So, there’s a lot of strategies that are better than that in the last three years. Over the last five years, if you roll it back to that period when growth was doing better, it’s in the number two position. It really was through March or April of 2020 that that strategy was ripping, and then when value turned that dropped off, I guess.
Tobias: Sorry. I was just going to describe for everybody what it was. Basically, it was like a Piotroski F-score, like a fundamental score to look for balance sheet and business health, but it was only applied in the most expensive quintile or decile third of stock. So, he was intentionally screening for the most overvalued stuff. And then, it was long-short out of that group, and it was long the healthy stuff, and short the ugly stuff. My recollection, because I talked to him subsequent to you guys, he said that a lot of the returns were generated on the short side, except for that period of time where unusually, in whatever it was, 2019 and 2020, the returns were generated on the long side.
Justin: Oh, interesting. Yeah.
Tobias: Yeah. [crosstalk]
Tobias: Is yours long-short? Or is it long–?
Justin: No, it’s long only.
Jack: Long only.
Tobias: Yeah. Okay.
Jack: Yeah. So, one of the things I’ve always thought would be interesting with that is the idea of starting with expensive stocks, I don’t necessarily love that idea, obviously, because expensive stocks are not the greatest thing to invest in. I thought about, what if you come up with some sort of earnings growth or some sort of growth criteria instead of just the fact that they’re expensive, and then apply the criteria after that, would it do better? We’ve never run it, but I think that’s an interesting thing. I just hate the idea of having a strategy where the starting point is, like, give me the most expensive stocks.
Tobias: Yeah.
Jack: Because it’s against everything I believe as a value investor. So, I thought about, is there some other way we could define growth and then apply the criteria?
Justin: Well, we do have that twin momentum model that it looks at price momentum and fundamental momentum. I don’t know, there’s five or six different fundamental criteria, and then it looks at the improvement in the growth rate of those things. Return on assets might be one of them. I don’t know, Jack, what are the variables in that twin momentum?
Jack: I don’t know them off the top of my head.
Justin: Oh, okay. I could look at it. But that’s another interesting one that does look at the fundamental momentum.
Tobias: Is it dual momentum? Twin momentum [crosstalk] difference.
Jack: Twin momentum. Yes.
Justin: Yeah, twin momentum. That’s not the dual.
Tobias: Okay.
Justin: This is based on a research paper. The guy’s name is Dashan Huang. I think he’s out of Singapore or something like that. But the fundamental momentum is– So, it’s using a combination of earnings return on equity, return on assets, accrual operating profitability to equity, cash operating profitability to assets, gross profit to assets, and the net payout ratio. And then we’ll– [crosstalk]
Tobias: So, it’s to get good momentum, but there’s no value to that at all.
Justin: Right. No.
Jack: Yeah.
Tobias: How’s it doing? Pretty good?
Jack: Yeah, you’ll see a lot of debate with momentum investors on that one, because a lot of momentum investors believe the fundamentals is encapsulated in the price momentum. So, you don’t really need the fundamental momentum. And then other people say, the fundamental momentum actually adds value. I think there’s two reasons it’s good. One is, I think it’s a little less volatile. If the fundamentals are improving along with the momentum, the strategy is a little less volatile. So, I think that’s a positive relative to standard momentum.
The other thing is, I think it’s easier for investors to stick with a little bit, because investors, sometimes, when you try to explain momentum to them, they’re like, “All right, I’m just buying the stock because it’s going up, and there’s really no other reason I’m buying it.
Tobias: This is going up a lot.
Jack: Why would I want to do that?” And so, I think with fundamental momentum, you can at least say, “All right, the fundamentals are going up along with the stock price,” at least you have some sort of fundamental underpinning. So, I think people like that a little bit more. But I think it’s mixed in terms of whether fundamental momentum actually adds return to a pure momentum strategy.
Tobias: Jack at Alpha Architect once told me that, “The best growth strategy was price momentum.”
Jack: Yeah, I think that’s right.
Tobias: He said, “The price momentum tends to lead the fundamental improvement a little bit like the market does seem to have pretty good information there.”
Jake: There’s been some interesting– [crosstalk] No, go ahead, Jack.
Jack: I was saying the one challenge is, as a price momentum investor, sometimes you’re owning the things like you don’t want to own as a growth investor. You’re owning the value stuff. And so, for people who want to be growth investors, they end up with these steel companies or whatever, and they’re like, “What’s going on here?” But as long as you understand that, I think he’s totally right about that.
Tobias: That’s ideal, really. That’s one of the nice things. I think Corey Hoffstein pointed that out to me that momentum is a little bit of a moveable feast. Like, sometimes it’s value and sometimes it’s growth, and sometimes, like, whatever’s going well, which is a good thing, I guess. It got smoked in 2007, 2009. It was down 90% or something like that. That was the big momentum, like, the 200 years of momentum crash there. And then values had its subsequent to that, values had its really bad crash too. But that seemed to be disqualifying for momentum for me, for a little bit there. The crash was so big.
Justin: Yeah.
Jake: There’s this concept in medicine that’s called efficacy versus effectiveness. When you hear those two words, they sound like that’s the same thing, right? But in a medical context, efficacy is what it would look like– If you were able to run it under ideal conditions. 100% compliance, and this is like the best it could be, ideal scenario. Effectiveness is, what do people actually do and follow, and what could you actually expect to happen in the real world? I think that the disconnect between those two is often very interesting to examine and think about– A lot of times, maybe being suboptimal, like you said, people following– they need like a fundamental reason to add in there just to keep the effectiveness up, even if maybe you’re giving up some of the efficacy.
Tobias: I think that’s one of the arguments for using the magic formula over my Acquirer’s Multiple that the magic formula is much more– [crosstalk]
Jake: The ROIC part adds good business that makes you stick with it.
Tobias: But also, it does not perform as much through the big bubbles.
Jake: Oh, right.
Tobias: You survive 1999, 2000, you survived 2019, 2020.
—
Do you have veggies today? Are those your veggies?
Jake: No, that was just a free bonus, appetizer. [laughs]
Tobias: Amuse-bouche.
Jake: Ooh.
Tobias: Do you want to do veggies?
Jake: Yeah.
Tobias: You guys know veggies? Jake has some learnings make benefit glorious nation of Value: After Hours.
Justin: Yeah, love that.
Jake: I want that to be the intro every time.
Tobias: [laughs]
—
Investing Lessons From Tunicates
Jake: It seems like the animal ones are always some of the most popular ones. So, I have animal one for us today. And this is the humble tunicate, which I don’t know if you’ve ever heard of this before, I had not. It’s spelled T-U-N-I-C-A-T-E. This is a sea squirt that looks a little bit like a clear tube in the ocean. It’s born with this tiny brain, that’s called a cerebral ganglion. It has a little tiny eye that can sense light. It’s got this primitive organ called an otolith, which allows it to sense gravity to orient itself horizontally or vertically, okay? It spends its larval stage with this little brain swimming around and it’s looking for a rich feeding ground. Eventually, when it finds that a promising area, it then cements itself headfirst to the seafloor, and then it dissolves its own brain, and it spends the rest of its days filtering nutrients from the passing water with no burden of having to worry about having a brain.
So, the first observation of this life of the tunicate is that, scientists have hypothesized that mother nature evolved our brains, these chunk clumps of sails in our heads, basically to primarily plan and execute movement. So, moving our bodies is central to getting the most out of our brains. There are important connections between moving and thinking. Henry David Thoreau once wrote, “Methinks that the moment my legs begin to move, my thoughts begin to flow.” There have been countless famous walkers throughout history. Virginia Woolf, Albert Einstein, Charles Darwin, Beethoven, Nietzsche, Steve Jobs, and of course, Socrates and Aristotle use walking as part of their pedagogical processes.
So, go for walks, plan in-person walking meetings, which are some of my favorites. I’ve been trying to increasingly ditch Zoom and instead have a walking phone call with somebody, which I find to be much better.
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The Benefits Of Walking Treadmill Desks
Jake: And then Toby, speak to your treadmill desk situation.
Tobias: Yeah, I’ve got a walking desk. I’ve had a walking desk since 2010, something like that. I’m on my second one, which is actually just broken down. I’ll be on my third one. But yeah, I swear by them. I used to set it at a mile an hour. Now, I set it at 0.8 miles an hour. I read this– There’s a New York Times 2006 article about people who have restless leg syndrome, people who jitter, what do they call that, neat, non-exercise something activity, whatever it is. But it’s basically, people who bounce their legs and can’t sit still lose some amount of weight every year. And so, the researchers who are studying this installed walking desks in their offices to take advantage of this. I try to do the same thing. But I do I feel euphoric after a weekend when I start walking on it on a Monday makes me feel much better. I’m a big advocate. Everybody should get one. It’s easier to walk than it is to stand. You guys standing?
Justin: I’m standing now. Usually on my podcast, I stand. Yeah. Jack sitting. Yeah.
Jack: I should actually start standing.
Justin: If you had it on whatever,0.5, 0.8, you could manage that and just still do work and be able to type, especially once you get used to.
Tobias: It’s easier than standing, because I find my knees get sore if I stand. But if I walk, then there’s something more elastic about it. You’re pumping the lymph as well. It’s just good.
Jack: I think I figured out how to do Value: After Hours with everybody walking outside.
Tobias: [laughs]
Justin: Well, no, that– [crosstalk]
Jack: [crosstalk] you could livestream.
Justin: Jake, you back to your– What were you doing? The hike–
Jake: Hikecast. Yeah.
Justin: Hikecast. I was like, “This guy’s brilliant.” It was so original. I remember I used to hear the birds in the background, and sometimes you guys would be going up hills and you’d be a little bit out of breath like, “Okay. So, I’m going to ask you–”
Jake: [laughs]
Justin: Toby, you did it with him a couple of times, I think, right?
Tobias: I did, yeah.
Justin: Yeah.
Tobias: All of that noise was added in post. None of that’s real.
Justin: [laughs]
Jake: [laughs]
Justin: You guys really weren’t hiking. You were just fooling everyone.
Jake: Yeah.
Tobias: Just with a background. We should do it again, JT. You put that background on. I’ll borrow that background. We’ll do it with–
Jake: Do [unintelligible [00:32:14]
Tobias: I’ll do it. Actually, walking on the machine.
Justin: Those were great.
Tobias: That’s terrible.
—
Disciplined Rationality – Warren Buffett’s Greatest Attribute
Jake: So, second observation from this humble little sea squirt is, I think that you have to keep seeking, learning, growing, exploring, if you want to have use for your brain. How many people do you know who might have maybe figured out a little bit of some stuff early on, but they get stagnant and their brains just turn to mush? They’ve lived the life of the tunicate.
Tobias: How dare you?
Jake: Once they think they have everything figured out, you metaphorically you cement your head to the ocean floor and then become a passive tube, usually just filtering the confirmation bias out of the ocean of information.
Tobias: That’s literally the quant strategy. You do all of the work, and then you’re not allowed to change the strategy. So, you got to dissolve your brain and cement your head to the floor of the ocean?
Jake: Fair enough.
Tobias: Turn into a feeding tube.
Jake: [laughs] I didn’t want to have to make that analogy, but I’m going to let you make that one.
Tobias: We’re all quants here. So, we’ve got to acknowledge that’s the case.
Jake: Well, I think Munger continually highlights how important it is that Buffett’s, like, one of his greatest powers is that he’s a learning machine. They both of them have kept getting better for decades. My takeaway is that, I think it’s important to still protect your curiosity and keep swimming and not cement your head to the floor.
Tobias: Yeah, good advice.
Jack: I don’t know, if you guys have seen this, but the smarter people are we’ve talked to on the podcast, the more they admit what they don’t know. Jim O’Shaughnessy talks about that all the time. He’s always saying, “I don’t know.” In our space, he’s one of the smartest guys there is. So, if those guys that can say I don’t know all the time and they can admit what they don’t know, I’ve got to be able to do it. So, it’s hard to do. Then like Toby said, it’s hard with quant strategies when you cement the thing in to say, “All right, maybe the world’s changed. Maybe we got to look at this, because there’s also the tendency to rely on short-term things to make changes,” which you can’t do. It’s like this balance between the long and the short-term, but still, if those guys can say, I don’t know, all of us have to be able to say that.
Justin: Jack, do you remember what Lawrence Cunningham said about Buffett? Was his key attribute to–? Wasn’t it disciplined rationality?
Tobias: Disciplined Rationality. Yeah.
Justin: But he talked about the learning a lot too. But we had Larry Cunningham on, who’s awesome, and he’s like a scholar on Buffett. It was like Buffett’s ability to stay disciplined and rational, but also his willingness to, I guess, adjust and pivot and change and learn, which is what those guys do, which is why they’ve had the success they’ve had.
Jake: Yeah. It’s amazing to see the tension between– I don’t feel like the principles haven’t changed, but the tactics, the execution has been more malleable to the environment.
Justin: Did you guys go to the Berkshire meeting?
Tobias: Yes, we did.
Justin: Sweet. Jack and I were saying, we got to get out there at some point.
Jack: Yeah, I’ve never gone. [crosstalk]
Tobias: Go to the next one.
Jake: Yeah, what’s the rush?
[laughter]Jack: Yeah, that’s true, actually.
Justin: Well, that’s true.
Jack: Probably do need to do that pretty soon.
—
Tobias: JT’s got his camouflaging.
Jake: Oh, my shirt. Yeah, it’s too close to my green screen. Justin, you could go win the 5K race.
Justin: Oh, yeah. Did you run it?
Jake: I did not.
Justin: What was the winning time, do you know?
Jake: I don’t know.
Justin: I’ll have to look it up.
Jake: I’m sure, you could beat it.
Justin: I don’t know. I bet there’s so many people. I bet there’s a lot of good runners that go.
Jack: You win the race at pretty much any conference [crosstalk] into an event that exists. So, I’m sure you’d win this one too.
Justin: I don’t know. Yeah, that was back in my day. Actually, yesterday I did Murph. You guys know what Murph is?
Tobias: Yeah.
Justin: So, I didn’t do it weighted. I do it unweighted, but it’s still a brutal. I’m freaking sore today.
Tobias: What is it? 100 chins, 200 pushups, 300 squats?
Justin: Yeah. So, it’s run a mile. 100 pull ups, 200 pushups, 300 air squats, run a mile. My miles were like 630-ish, which was pretty decent. I can make up a lot on the running. And then, surprisingly, the air squats are what slows me down. It’s a weird thing. I’ve got runners– [crosstalk]
Jake: How many days do you have to do all these?
Tobias: Yeah. [laughs] What’s the time? Over a week, right?
Jake: Okay.
Justin: [crosstalk] Monday.
—
Cathie Wood Missed Nvidia
Tobias: I’ve said this a few times, but there’s an emblematic mutual fund often that is the one that people remember from the booms. I think in 2000, it was the Janus funds which got very big. Because of their performance, they raised more money and they put it into the money losing tech stocks and had a brief period of working really well. Then this time around, of course, it’s been Ark. Do you think that the fact that Cathie missed Nvidia? Is that the death knell for Ark?
Jack: She sold it in the fall, is that right?
Tobias: At the low. Yeah, on valuation.
Jake: Really?
Jack: What was funny is, she was actually on Twitter talking about it, I think, today, and she was highlighting– I guess they have some other chip maker that they own. Might be– I don’t know what it is, but that they were saying is great. But I was surprised she was even bringing attention to the Nvidia thing right now. [crosstalk]
Tobias: Well, she’s on Bloomberg on Friday night, I think.
Jack: Yeah, no, it’s definitely a big miss. One of the things I’ve learned with those types of funds though is, Eric Balchunas talks about this like, “People tend to use that for a really small portion of their portfolio.” I think that’s part of why they can continue to do well and people don’t, because one of the things with that fund is it’s continue to have inflows despite really bad performance. That could be part of why it’s such a small portion of people’s portfolios is they’re adding to it when it goes down versus doing something else. Whereas if they had a huge position in it, they’d probably be liquidating. I’ve never been able to explain that, but that’s the one thing come up.
Justin: I’m interested in the business side of it. I know we’re getting off investing a little bit, but I think she bought back Ark at the peak. And so-
Tobias: That’s right.
Justin: -clearly, she either financed it or had outside investors or however that worked. Now, I don’t know where her assets are at relative to where they are today, but I would imagine they’re down significantly. Unless they structured the deal in such a way where if assets went down 50% or something like that, she could adjust the sale. I don’t know. I’m just interested in the viability of the business a little bit. I don’t have any data to question it. It’s just I’m more curious as being in the investment management business and thinking about those things, like, what’s going on there, it’s interesting.
Tobias: Well, she had the option in it that an outside firm had that she bought back at the peak. Just the performance, they’re off 80%. I don’t know what the assets are off, but 80%, probably. 80% plus a little bit of inflows. That’s a big differential in terms of valuation.
Jack: Just in general, running anything focused in the investment management business is very, very tough, because you’re going to have your periods where you just look awful. Not to compare her to deep value or what we do or anything like that, but it’s true of all focused things, she puts it on steroids. But all these strategies on the business side of things are very, very hard, because it’s hard to get people to stick with them when they’re struggling. She’s done a pretty good job of that.
Tobias: She had the period of good performance, unlike deep value.
Jake: [laughs] Yeah.
Justin: Right.
Jack: We’re still waiting for ours, I guess.
Justin: I think at the peak, her five-year numbers, when it peaked, it may have been some of the best active manager mutual fund ETF performance ever. It might have been something like compounding at 40% over a five-year period, which was ridiculous. Listen, a lot of those companies will be great companies. Some of them won’t. I feel like given the fact that we’ve all went through the dotcom boom and bust, and I know Cathie did too. So, it’s weird that like– You can never see it coming, but eventually, this has to end. Eventually, these things that are trading at 20, 30, 40 times sales, not earnings, sales. They’re going to go down and they’re going to get hit hard. That’s exactly what happened.
If you’re like a young investor in your 20s that you’re investing for the first time and you’re taking flyers like that, you haven’t seen that type of market environment before, that’s one thing. We’ve all been through it. So, she was obviously not respecting history, I guess, on that– [crosstalk]
Tobias: I don’t know when she launched, but it was around that 2015 period of time. At that time, you weren’t paying much for those little tech options. Between 2010 and 2015, all the big tech got cheap and all the tech was just super cringey through there. It was probably the right time to be launching something like that.
Jack: We launched almost to the day [crosstalk] Justin. We had our value ETF.
Justin: We launched– [crosstalk]
Jack: Yeah. So, we basically picked the exact wrong strategy to launch at the exact wrong time, snd she picked the exact right strategy to launch at the exact right time.
Justin: It’s really the same week. We were like, “Oh, it’s this disruptive fund. It’s not going to do it.” [Tobias laughs] It was a great period to be just in that type of stuff.
Tobias: Innovation. [crosstalk] of innovation.
Jack: Yeah. We were like, “Value is really cheap back in then.” We’re like, “Value is a great opportunity right now.” Obviously, it didn’t play out that way.
Tobias: Yeah. Value still looks like a great opportunity.
Jack: It does. That’s right. Eventually, it’ll be realized.
—
Justin: We’ve talked about it. ETF businesses, you’ve done great, Toby. [crosstalk]
Tobias: I’m not allowed to talk about it.
Justin: Oh, yeah. Okay. Got you.
Tobias: I’m not allowed to talk about it on this podcast.
Justin: Right. Yeah.
Jake: [laughs] Hypothetically, you’ve done okay.
Justin: Yeah.
Tobias: Yeah. It survived. At least we’re surviving.
Justin: Yeah. Good.
—
The Benefits of Self-Publishing
Tobias: Yeah. I got a question about the book. I’m still working on the book. It’s getting close to being finished. It just needs to be polished up. It’s almost done. I’m trying to get it out inside the month, I think. Yeah, that’s what I’m trying to.
Jake: Any day now. Really?
Tobias: We’re trying to get the rough draft finished and then I’m going to force it on a few people and force them to read it.
Jake: Oh, boy.
Justin: Are you self-publishing or–?
Tobias: Ah, I don’t know.
Justin: Okay. Yeah.
Tobias: It’s my preference, because it’s easier to do. But I’m going to talk to a few publishers first. If I self-publish, it’ll come out faster.
Justin: I have my copy of The Rebel Allocator right down there.
Jake: I love that.
Justin: Yeah, love it.
Jack: On the self-publishing, Toby, it was a really good episode recently. You should listen to of Infinite Loops, Jim O’Shaughnessy’s podcast, where they went through that entire thing. They brought people onto it. I don’t know, you may have already listened to it, but the idea of self-publishing a book, they went through the entire thing and why you should do it these days. It was really, really good.
Tobias: I self-published the last one, and that’s by far and away the most successful one I’ve had, because you can charge less.
Jack: It doesn’t seem to matter. It seems like the big publishers rely on you for distribution anyway-
Tobias: Right.
Jack: -that they’re not adding that much– [crosstalk]
Tobias: It’s like 95% Amazon. And then Amazon will take the more successful books and put them in airport bookshops. They have their own little bookshops around anyway, or they put them in bookshops anyway, so you’re not missing out on anything self-publishing. The only thing is that the publishing house sometimes has a marketing arm that can help you sell the book. But if you look at the cut that the publisher takes under the most favorable circumstances is 40% of what you get, which is a small portion of what they charge on the cover of the book. So, they have to sell– If you think about them taking 40% of the 100%, you have to sell 66% more books just to break even.
So, for them to justify their position, they got to be able to sell two-thirds more books than you would otherwise sell. They’re coming to me for the distribution of the marketing place. [crosstalk] It just doesn’t make any sense.
Jack: It seemed like the only thing they had that could be an advantage is, if you get a really good editor at a publishing house, that can help. That can make the book a lot better. But it seemed like other than that, there weren’t too many advantages to go on.
Tobias: I’ve never had an editor. There’s a line in it where they go through and they make sure that you cited everything correctly and capitalized all of your sentences and stuff. It spelled all the words correctly, that thing. They make just as many mistakes as I do. But then I guess, there’s the style editor or something who says, “The idea isn’t clear enough here.”
Jake: Oh, yeah.
Tobias: But you can pay for that too. All of those things are modular. You can just go through the Amazon, whatever their publishing system is called, all of that stuff is available, and then you just got to pay for it up front. That’s the big difference, I guess. The publisher pays for it up front, whereas the author pays for it. But the payback period is so much shorter for self-publishing. I think it would be hard to justify using a publisher unless you were somebody famous and it was like a big publishing house where they can get you on, I don’t know, the daytime talk show shows or something like that.
Jake: I don’t think they sell that much anyway though based on my research. Like, TV doesn’t convert.
Tobias: People who watch TV don’t buy a lot of books.
Jake: Yeah, exactly.
Justin: [laughs]
Tobias: People who watch daytime TV don’t buy a lot of books.
Jack: You see what the authors do these days, I mean, they go on podcasts. So, it seems like that’s the best way to sell books. They just do a tour of a bunch of podcasts, and it seems like that works better than anything else.
Tobias: That’s been my plan. I found that– [crosstalk]
Jack: That’ll be our excuse to get you back on for your [crosstalk] excess returns.
Tobias: I’d love to. I’ll can come back on.
Jack: Colin Roche has now taken the title of most frequent guest. He’s now four to your three. So-
Tobias: Who is it?
Jack: -you got to write that wrong.
Tobias: Who’s going?
Jack: What’s up?
Tobias: Who’s been on more?
Jack: Colin Roche.
Tobias: Oh, really? Interesting.
Jack: Yeah.
Tobias: Okay. You guys like that macro.
Jack: We do.
Justin: We’ll talk about the Fed and stuff like that. Jack and I have kicked around the idea of trying to take that standard closing question, which is, we always ask like, if you could teach one lesson to the average investor, what would that be? And then trying to wrap all of those responses up in a book.
Tobias: That’s a good idea.
Justin: So, it’d be like a compilation book of all investing wisdom with some cool title. And then we obviously reach out to all the people to make sure that we could use their insight or whatever, but I think it would be cool, maybe. Books are just so much work though.
Tobias: Oh, for sure. But if you get a few hundred of those and you can get somebody to put all those together, that’s enough. That’s a book.
Justin: Get on it, Jack.
Jake: [laughs] Yeah, I’ll get going tomorrow. [crosstalk] My strength.
—
5 Stocks Are Driving The Entire Market
Tobias: What’s Colin’s take on the Fed and the markets?
Jack: We haven’t had him on for a while, actually. With him, [crosstalk] we tend to do these primers. So, we wanted to do a primer like what investors need to know about inflation, or what investors need to know about Fed policy, because he’s really, really good at that stuff, like, making it understandable for people what’s going on. So, we ask less about predictions, and we ask more about teach us what we need to know about inflation and what drives it, or teach us what we need to know about what the Fed is doing. We tend to do stuff like that with him.
Tobias: Is inflation still running hot? It’s not reported on anymore.
Jack: It depends on who you ask. I guess, it depends on what number they’re throwing. That Truflation website is showing that it’s running the threes now.
Jake: Is that right?
Tobias: Truflation says in threes.
Jack: Yeah. So, lower than a lot of people think, but then a lot of other people are saying, it’s running four or five. [crosstalk]
Tobias: I thought it’d settled into a 5% range, like it’s two years of 5%, something like that.
Jack: Yeah. This is something that’s definitely beyond my pay grade is trying to figure out inflation and all the different measures of it and all the things that go in it. There’s just so much going on. It seems like it’s calmed down, but it certainly hasn’t calmed down near where the Fed wants it to be.
Tobias: A big run up in Nvidia and all of the tech stocks following must mean that they’ve got headroom to keep on raising rates.
Jake: [laughs]
Tobias: There’s still a fair bit of speculation out there as far as I can see.
Jack: I think that’s the problem. I think they’re going to keep going.
Jake: [crosstalk] spirits.
Justin: To your question about the market– [crosstalk] Sorry, Toby.
Tobias: Yeah. No, sorry. [crosstalk]
Justin: I was just going to say to your question about the markets, because we work with a lot of individual investors. I think people were frustrated a little bit with the losses last year, but it was accepting to some extent, because the market was down, whatever, 18%. You hung in there and there was no place to hide.
Tobias: You’re probably still up over five years, right? You’ve well and truly up over [crosstalk] depending on when it started.
Justin: But I do think that when people are looking at the last two and a half years and seeing that they’re flat, I think it’s somewhat frustrating. But I don’t get the sense that individual investors at least are overly worried or scared. I had some conversations around the debt ceiling. For some clients, we did some small adjustments just in case something went haywire. But it’s a weird market. I don’t know if that means it’s complacent. I don’t know if it means that we’re just in this, we got to just grind it out. It’s hard for me to see why this thing rips higher, but then again, maybe if the market starts to sniff out that the Fed is going to move, you’re probably going to see better performance out of many stocks, probably. It’s just a weird market these days, I feel like I know. Jack, what do you think?
Jack: Yeah. No, I’m just hoping it’ll widen out some for the type of things we do the five stocks driving the whole market is not where you want to be.
Tobias: [laughs]
Jack: There’s really no factor you can use that gets you at five stocks driving the market, I guess market cap.
Tobias: Market cap.
Jack: Yeah, exactly. But that’s not one of the better ones over time. So, we were just talking to a client about this the other day like, this idea that, if you look at what works over 100 years and you look at what’s worked over a much shorter period, they’re totally opposites of each other. And so, it’s a tough thing for clients to digest and think about. We try to bring people back to what’s worked over 100 years. What’s worked over 100 years is not by the biggest companies that have the most price appreciation. That’s not really what it’s been. And so, we try to bring people back, but it’s hard when these big stocks are driving the market like they are.
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Reduce Drawdowns Using A Robust Multi-Asset Portfolio
Justin: One of the things we have been doing too is, I think I mentioned this to you, we’re trying to build for clients that need it more robust portfolios. So, for example, we run a strategy that takes a version of the permanent portfolio, a version of the all-weather portfolio basically with trend following, and then does this other asset class rotation type thing. And so, this very robust multi-asset class portfolio that uses trend following momentum, and it can go to crash protection mode when things get really bad. It looks like over most periods of time, I don’t know, maybe 50% equity, 30% bonds, and then 20% alternatives, but then the cash value can flex depending on what the momentum is. We don’t know where the world’s going. So, let’s use a bunch of different strategies that have these components and try to manage risk, but get some decent returns too. And that seems to be something that’s resonating with people.
Tobias: What is the return on something that look like? What does it do?
Jack: It’s similar to a 60/40 type portfolio return. It’s much more diversified and you’d see less drawdowns than a 60/40, because it’s using momentum to rotate among asset classes. So, it’s probably a fairly comparable return.
Tobias: What’s it doing, like a 2022–?
Jack: It’s down, but not as much as stocks and bonds, because it’ll pick up commodities when they have momentum. It’ll pick up gold. [crosstalk] It’ll pick up other stuff. So, yeah, not as much down, but that’s the real strength of something like that is drawdown management, because you think that four quadrant thing people always talk about with economics, it’s robust to all four quadrants. So, it has something for inflation, it has something for deflation, it has something for strong growth. In the up markets, you’re not going to keep up with the S&P, but in the down markets, you usually have something that’s working.
Tobias: The reason I ask is just because so many hedged or even the 60/40 portfolio, everything had a bad year last year because bonds traded so badly last year. Volatility was shocking last year too. So, traditional hedges were just added to your misery. [crosstalk]
Justin: I think we may have come into that year. In our testing, we may have had a historical drawdown on that portfolio going back to 2006 of something like 9%, but I think last year– So, we would have had the max drawdown actually was 2022 for that strategy. Something like, I don’t know, it was 12% or 13%, something like that down.
Tobias: It’s amazing how drawn out this whole thing has been that we’re– February, 2021 is when Ark topped out. So, more than two years, we’re two years and four months past that now. And this market fell over at the start of last year or at the end of the year before. So, it went out 17, 18 months into this drawdown. It doesn’t feel cheap to me here. It doesn’t feel like it’s– [crosstalk]
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This Is A Valuation Adjustment Market
Justin: No, but that’s the thing. You weren’t taking losses because of a recession or growth really slowing. You were taking losses because the market was adjusting from being overvalued, in some parts, wicked overvalued to this reasonable or valuation given the new world of interest rates and where inflation is, I think at least. That’s the big thing, right? If we go into a recession– I don’t think stocks are discounting. You guys might disagree. A middle of the road recession, it’s been a valuation adjustment more than a growth slowdown adjustment story. So, if we come out of this like, “Okay, yeah, stocks are probably reasonably priced here in some places more than others.” But if we go into recession, that’s where– I’m probably just stating the obvious, but that’s how I think about what’s transpired here in the markets.
Jack: What’s interesting in terms of stocks being reasonably priced is that that’s such a tough thing to judge right now, because when we look at the median valuations, those are actually very, very reasonable right now. Your median valuations on all stocks, but then when you look at the market cap weighted valuations, they’re a lot less reasonable. So, in the world we live in, where we’re equally weighting stocks and we’re using fundamentals, valuations actually don’t look too bad. But if you look at the overall S&P 500 valuations, they look a lot worse. So, it’s an interesting thing. I don’t know if that opportunity will be realized, if that will narrow, but it’s just an interesting space right now, because you’re seeing two different valuation stories depending on how you look at it.
Tobias: When you say the median valuation, so median valuation of equal weight stocks, it doesn’t look too bad. How are you making that assessment, comparing it to preceding years of median valuations of equal weight stocks?
Jack: Yeah. We have a tool on our website that does this. So, effectively, we just take whatever valuation metric we’re using. We sort the entire database by that valuation metric. We take the middle value, and then we take that middle value, and we graph that over time.
Tobias: Okay.
Jack: That value right now is below average.
Tobias: Okay.
Jack: So, it’s not crazy cheap– [crosstalk]
Tobias: Going back to 2006.
Jack: Yes, it’s below average. Whereas if you did that on a market cap weighted basis, it would be very, very high. So, you see this huge separation between what the valuation of the average stock out there is and what the valuation of the most expensive companies is. I don’t know how that resolves itself, but it’s an interesting thing that we’ve been seeing for a while, but we’re seeing it a lot more this year because the large companies are starting to take off again.
Tobias: You run it back earlier than 2006.
Jack: We’ve done it through other things. We don’t have it on our website beyond– We do it on a daily basis, and I didn’t have the daily data. So, on our website, it’s only back to 2006.
Tobias: Yeah, right. [unintelligible [00:57:11]. That’s interesting. I would say, even through that period of time, 2006 to date, mostly it’s an overvalued market on a CAPE basis, anyway.
Jack: Yeah, definitely. Almost the entire period, I would think. Maybe not in beginning of 2009 or something, but for most of the period, yeah.
Jake: Well, margin profiles looked quite a bit different too over that period. So, that’ll be interesting to see what happens there. Based on Monier’s work about why that happened, mostly government deficits contributing to corporate profit margins, if that’s something that keeps going, which, who knows? But how do you underwrite some of these bigger giant things like that? It’s not the easiest thing in the world.
—
Tobias: The Cheshire Cat just disappeared into his background then?
Jake: Oh, did I? Oh, good. Just my head floating.
Tobias: There you go. That’s cool. What are you guys looking forward to over the next 12 12 months? What’s going to work? What’s going to work professionally? It’s going to work personally. That’s good.
Jack: I wish I knew.
Justin: Yeah. Toby, I’m going to send you a link to the market valuation tool, because your listeners-
Tobias: Yeah, I’ll put that out.
Justin: -they can access part of it for free.
Tobias: That’s all right. it’s sounds good.
Justin: Yeah. Cool.
Jack: Yeah. But for us personally, I don’t know, we’ve really been enjoying doing the podcast. So, what I look forward the most is probably that. It’s been an opportunity for us to talk to people who would never talk to us otherwise. So, that’s cool. We’ve been studying Mr. Beast and stuff and trying to figure out what does the YouTube cover have to look like [crosstalk] how you love to be.
Tobias: I hope you become huge.
Jack: Yeah. I don’t think we’re going to be Mr. Beast, and I don’t think we’re going to put out the kind of content that would do that. We’d have to be a little more aggressive than we– [crosstalk]
Tobias: Giving away $1,000 to the first five people I find who are following me.
Jake: [laughs]
Jack: Or, we would need to have you on the podcast, and you’d have to mention in there somewhere that you think the market’s slightly overvalued, and then we’d have to be like, “Carlisle calls for crash.” And then, find a picture or a screenshot when you’re on there of you looking completely shocked, and that needs to be the cover.
Jake: Yeah.
Jack: If we could do that, we would probably get a lot more views, but we’re trying to not do that. So, without doing that, we’re trying to figure out how to grow a channel on YouTube, which is actually cool. It’s a very interesting thing.
Tobias: I just put up my screen cap for later. I’ll put that up in a bit.
Jake: yeah. [laughs]
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YouTube CEO Has A Plan to Win Over Anyone Watching TV
Justin: There was a good article in the Journal over the weekend that was talking about the guy that is head of YouTube. There was just some interesting– People can google it. I don’t know if it’s on the front page anymore, but it was just how big that is– It was more his leadership style and mapping history at Google. I think he was in the ad business at one point and then he’s– I think at YouTube and viewing it, they’re like modeling it after TV in the sense that they’re trying to make, I guess, some of these more– I think one of the points of the article, they want to get bigger advertisers like you would get on TV.
They obviously have big advertisers on there– The Motley Fool is also running ads on there or Benzinga is also running their options. They’re looking to come up in terms of advertiser quality.
Jake: Proctoring– [crosstalk]
Justin: I found that interesting. Yeah, exactly.
Tobias: Fellas, we’ve made it to the full-time mark. Justin and Jack, let everybody know how to get in contact with you, what they can do to follow along with you, guys?
Justin: Yeah, so people can go to validea.com. It’s V-A-L-I-D-EA dotcom, like Validea or Validea Capital Management. You can google that. And then I’m on Twitter at @JJCarbonneau. You can check out the podcast, Excess Returns. That’s on all major podcast platforms and on YouTube. And Jack, go ahead.
Justin: Yeah, you covered most of it. I’m on Twitter @practicalquant.
Justin: Appreciate it, guys.
Tobias: Thanks, Justin.
Jack: Thank you for having us. It was awesome.
Tobias: Thanks, Jack. We’ll see everybody next week same–
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