In their latest episode of the VALUE: After Hours Podcast, Tim Travis, Jake Taylor, and Tobias Carlisle discuss:
- Housing Crisis Phenomena
- The Bull Case For Oil
- Buying Bonds In Commercial Banks And Offshore Drillers
- Opportunities In Real Estate REITs
- Insurance Companies Pulling Out Of Florida
- Selling Too Early
- Investing Lessons From Tardigrades
- Munger’s Mistake On Alibaba
- Everything Is So Expensive
- Wind Farm Companies Struggling To Deliver
- President Biden Continues to Drain America’s SPR
- Who Owned The Credit Default Swaps Or Had Short Positions In SVB?
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:
Tobias: This meeting is being live streamed. This is Value: After Hours. I’m Tobias Carlisle, joined, as always, by my cohost, Jake Taylor. Special guest today is Tim Travis of TT Value. How are you, Tim? Good to see you again.
Tim: Hey, thanks for having me, guys. Good to see you, guys.
Jake: Welcome back, Tim.
Tobias: Good to see you too. I always think of Tim as being an expert in– Sorry, I’ve got this–
Jake: Strong start.
Tobias: –feedback in my ear. Sorry about that, Tim. Tim’s an expert in financials and value mostly, but financials in particular. So, I like getting you on and having a chat. I think it’s a good time to get you back on because we had some carnage in regional banking, and I just want to get an update. Have you followed that? Where do you see all of that now? How do you think about financials right now?
Who Owned The Credit Default Swaps Or Had Short Positions In SVB?
Jake: I think last time you were on, it was right as Silicon Valley Bank was teetering.
Tim: Exactly. Yeah, it was. No, absolutely. Yeah, I’ve been following it super closely. What I’d say is that I think it’s a lot more calm now. And I think that really, if you look at the results, it speaks to how unique Silicon Valley and Signature were with their duration mismatches, and just the strangeness of the deposit base. Those companies were growing deposits at such rapid rates. It’s not something you see very often. And so, they basically projected that growth would continue and it wouldn’t matter that they’re locking in 20-year government bonds at 1.75%, or issuing a 30-year mortgage to Mark Zuckerberg for whatever it is, 1.5% or whatever ridiculous rate it was. Most banks aren’t like that.
Jake: It turns out the liability side, half of it was one day money.
Jake: That was literally one day callable. [laughs]
Tim: It really was a run on the bank. That’s what, honestly, I found very frustrating from that period is that people were forecasting, “Well, what if Bank of America has a run on their bank with these mark to market losses on their held to maturity portfolio?” There’s a reason why there are specific actions to not have bank runs. There still hasn’t been a lot of clarity as to exactly why that occurred with Silicon Valley.
Tobias: It was those VCs stoking the flames?
Tim: Yes, exactly. I still wonder who owned the credit default swaps or who had short positions on that. I think that that’s curious. But if you look at most banks, a lot of the regionals, they’re paying up or deposits. So, net interest margin is contracting a bit. They’re reducing their growth. In some respects, they’re streaking, they’re focusing on efficiency a lot more. But a lot of them, they have core deposit bases. And so, there is a certain amount that companies and individuals like to keep in a bank. I’m no exception. I’m sure you guys aren’t exceptions either.
So, obviously, if you have surplus, it makes sense to put it into CDs or Treasuries or bonds or whatever. A lot of the banks, they have their own brokerage division, so they’re not necessarily losing the deposits. They’re just transitioning from maybe non-interest bearing into interest bearing, but once again you get back to that core deposits. It’s really similar to numbers we saw pre pandemic. Like, non-interest-bearing deposits had grown quite a bit after the pandemic and the lockdowns and all the stimulus money. And now they’re still above, but they’re going to a more normal level again.
Tobias: What about that bank term deposit plan or whatever–? What are they calling that thing now?
Jake: Alphabet soup acronym was.
Tobias: It’s not BTFD. It’s BTPs. It means the same thing.
Jake: Missed opportunity there, huh?
Tim: Yeah, that’s helpful.
Tobias: It seems to be growing.
Tim: Yeah. Well, they’re able to deposit securities like mortgages or Treasuries with the Fed, so that they don’t have to sell stuff in a rush or anything like that. They get paid at par on it for a year. And so, if they have liquidity needs, it’s nice that there’s not a mass exodus. They don’t have to sell a know right away. So, that definitely stemmed the pressure quite a bit. I’m honestly surprised that they didn’t have to do more of an explicit guarantee on the deposits or raise the deposit limits. I think that that would have been effective at least to raise the limits. But yeah, it’s worked out okay.
In the absence of panic, really, it’s– Look at what happened with Credit Suisse. It’s not like Credit Suisse was thriving for the last several years. There really wasn’t a specific event that preceded it other than just the general pessimism and fear. If you guys remember right after that occurred, Deutsche Bank, all the Twitter and stuff and all the rumors were about Deutsche Bank and talking about the trillions and swaps, and then it just petered away.
Jake: Moved on to AI.
Tim: Yeah, basically that’s what happened. All the money flowed to the AI and the new girl on the block. That’s where all the attention went.
Tobias: I had a look at Nvidia today. It’s basically at an all-time high. I think it’s unbelievable running that thing, although it’s flattened out a little bit. It’s only up 12% or 13% over the last month.
Tobias: Let me give a shoutout to the crew. We got Riyadh. Brandon, Mississippi. Dubai. Chapel Hill, Santa Domingo, Pittsburgh, What’s up? Nashville. Gulf of Mexico. Stirling, Scotland. Cromwell, New Zealand. North Miami. Toronto. Savonlinna, Finland. Barrie. Jupiter, Mendocina, California. Tallahassee. Asheville. Philly. Norberg. Surrey, British, Columbia. An incredible spread here. Wanaka, New Zealand. [laughs] Someone wants to know where’s the oil rig? I think he said the golf. Yeah, we need to know where the oil rig? How are you, JT? What’s news?
Jake: Life is good. I was back in Michigan visiting family all last week. It still amazes me that I was in my background here I’ve got a picture I took yesterday afternoon. I’m sitting at a baseball game in Comerica Park watching Tigers play, and then sleeping in my own bed later that night.
Jake: Like, what a world we live in where you can do that? Just it still boggles my mind.
Tobias: Yeah, that’s cool. We took the kids out to the– there was a tennis exhibition. Got Taylor Fritz and a few of the– Gael Monfils, a few of the big fellas hitting. Because it was like half empty stadium, so we were right up close to the front. Those guys are units. Taylor Fritz is 6’5″, Gael Monfils is 6’4″ but like filled-out 6’4″, he’s a unit.
Tobias: They flogged that ball at each other. It was good.
Tobias: Try to inspire the kids a bit.
Tobias: How’s the market look to you, Tim? How do you feel at the moment?
Tim: It’s been a good year overall. It’s been interesting. Right before we got on the call, I was listening to Richard Pzena’s firm was having a webinar, so I caught part of it. They were talking about– The first half was the second worst first half for value with the exception of 2020.
Tobias: On a relative basis.
Tim: Yes. And so, then the third and fourth, he said, “We were in the tech bubble, naturally.”
Tobias: Did he say the first half or the first quarter?
Tim: I think it was the first half. I was getting ready and then listening on the side. So, don’t quote me specifically.
Tobias: I think you said first. That’s probably what it was. I thought it was a garbage– Yeah, February to the end of May was terrible.
Buying Bonds In Commercial Banks And Offshore Drillers
Tim: Yeah, January was great. And then, really, until the banking crisis thing happened, it was really good for value. And then it took a pretty big break, everything went into AI, and then the last month’s been pretty good. When you’re making money, it’s less of an issue than when you’re losing money. Yeah, the relative difference– As you mentioned with Nvidia, the valuations are looking really stretched to me on both the overall market and then also on the tech side of things. And so, it’s funny. JT, you mentioned Comerica. And then when we’re looking at where people are watching us from, you mentioned an oil rig. And so, the last couple of weeks, I’ve bought bonds in Comerica, and I’ve bought bonds in Transocean. So, that tells you.
When the banking crisis was engulfing the market a little bit, we were able to buy bonds on some of those regionals like Comerica, for instance, at, I believe 13% or 14% yield to maturities. So, that’s quite good. Those spreads have gone down quite a bit now. And Transocean, we had bought bonds in them quite some time ago, and it was high teens yield to maturity, maybe even 20%. I’m not sure. But if you look at how things are progressing, I think 40 of the last 50 major oil discoveries have been offshore. They’re one of the few ones that didn’t go bankrupt, but they do still have to fix that balance sheet, but they’ve termed it out pretty well and they have cash flows and they’re building up their backlog.
It’s interesting because you can still get an 11.3% to 11.6% yield to maturity on some of those bonds, even the ones that are closer to expiry, I believe 2027. So, I thought that that was interesting. [chuckles]
Tobias: Do you feel like in rig, there’s enough value there that the bonds get made whole there?
Tim: I think it depends on the market environment. I wouldn’t want to see that. What I’ve seen in the Benjamin Graham net asset value or book value liquidations, I think it can be challenging because the lawyers really eat into a lot of that and stuff like that. So, I wouldn’t want to necessarily bank on that. But the stock is at multi year highs. I believe the market cap, I think last I looked was around like $7 billion. And so, they do have an at the money equity issuance program. And so, I think it’d be very sensible to raise equity. They don’t necessarily need to do it, but I think having some conservatism and understanding how cyclical oil can be– But it’s a bullish play on oil, really. I’m optimistic on oil. I do think your downside would be limited because of the security that’s in there. No one’s ordering new rigs right now, so supply is constrained.
President Biden Continues to Drain America’s SPR
Tobias: Well, let’s talk about oil a little bit. We had the Seawolf fellas on a few weeks ago. I think the two things that we were talking about there, the SPR continues to be drained almost immediately after that there was another– I saw another update to that. So, that’s a few weeks. So, I don’t know, in the interim what it looks like, but it was definitely being drained until at least a couple of weeks ago. I saw other stat this morning that China is now importing, and it’s closer back to where it was pre-pandemic. It’s spiking in that direction anyway. So, that seems to be there’s plenty of demand.
I’m terrible at predicting where commodity prices would go, [Jake laughs] but I’m interested to hear like, tell me why my big bullish bet on oil is a good one is basically what I’m saying to you, Tim.
Jake: [laughs] Yeah. And if it’s not, just– [crosstalk]
Tobias: Give me some confirmation bias.
The Bull Case For Oil
Tim: I tend to agree with you. I think the bear case hinged on recession. China’s recovery hasn’t been as strong as it is, but it’s been coming out that China’s really focused on stimulus and doing more there. The economy, a lot of people think that we might avoid– Now people, all of a sudden, over the last two weeks think that we’ll have a soft landing or whatever. So, I think that that speaks to bullishness. I don’t know if that’s true or not, but I feel the same way. The SPR, it’s difficult to see them refilling that, let’s say, prior to the election. Lower oil prices, less inflation is definitely more attractive.
Then Russia has no incentive other than they need the not. They’re not going to be able to increase supply that much. Saudi Arabia is hell bent on reducing supply. So, I like the bet, and I think the real negative is just, if you’re not that optimistic on the economy, that’s why I’m playing it like this. I think that you’re going to have to find production offshore like Guyana and the Mediterranean. They’ve had some important developments that need rigs and stuff like that. So, that’s one of the ways that I’m playing it is through the bonds.
Tobias: What do you think, JT?
Jake: [crosstalk] I don’t know, it’s tough with is $70. The right price is $80, $90, $50, I don’t know. From here, these middle ranges are difficult to really say what direction you go from here. When it was negative $37, I felt pretty good about that it was [Tobias laughs] likely to go the other direction, and I felt okay making a bet on that. But it’s a little tougher when you’re around the more normal price level.
Tobias: I feel more comfortable with these more normal price levels, because I think that when it spikes up, that punctures everything else, and that’s when you get the recession. When it’s really low, that’s something else weird is going on there. I feel most comfortable when it’s just trading around $65, $75, $80, whatever we’re seeing out.
Jake: They make pretty good returns on equity, a lot of these companies, at $70 oil. If they just cruise along there for a long period of time, they’re going to be reducing a lot of shares, they’ll be cleaning up balance sheets, they’ll be giving you a lot of dividends. That probably is your best-case scenario is you just “muddle” through $70 oil.
Tobias: We’re still at that point. We’re still early enough in the cycle. We’re close enough to negative $37 oil that they’ve still got a little bit of religion about-
Jake: [laughs] Discipline.
Tobias: -looking after the balance sheet. Yeah, looking after cap stack and all those other things. But if it goes crazy, if it gets really high, then all bets are off. Everything goes nuts. Probably rolling out at that point.
Wind Farm Companies Struggling To Deliver
Tim: Absolutely. I was reading about just the inefficiency of wind, it’s tough. Those companies are really struggling to deliver what they say they’re going to deliver from an efficiency level, and then also from a profitability level. I read, I believe it was Wall Street Journal, was that a lot of the dollars in the stimulus package are actually they’re changing the laws or something individual states to direct more of that money which was supposed to go to the consumers to the actual companies to make it viable. So, it’s tough. It’s really tough to detach yourself from these.
We were talking about traveling. I travelled to Europe over the summer– Yeah, I remember were driving out to Tuscany, and I spent a lot of time there in my life. There was wind turbines there and just not a place you’d really think to see them.
Tobias: Look good?
Jake: Yeah [chuckles]
Tim: Didn’t look great to be honest. [laughs]
Tobias: A couple of good datapoints from the hive mind. Chris Backes says, “It went up by 1000 barrels last week (smallest measurable increase). Looks like the only increase after they resumed draining it in April.” And Christian Calderon says, “Reduction in U.S. SPR since 2022 equivalent to the proven reserves of a multi-billion-dollar company…” That’s a lot of oil to be drained out.
Jake: Sure is. Kind of short sighted, doesn’t it, as a society? [laughs]
Tobias: That’s what I think too. You start treading into political orders– [crosstalk]
Jake: I know.
Tobias: It’s not even a political–
Jake: It’s not.
Tobias: Both parties have done it. So, it’s not political. Yeah, I agree. I wouldn’t do it.
Jake: It’s a physics– [crosstalk]
Tobias: Isn’t it there so you can fight wars? Isn’t that the purpose of it? It seems like a dumb idea to me to be managing the oil price that way, but whatever. How about the market, Tim? Is Tim frozen? Still there?
Jake: Well, he’ll come back.
Tim: Okay, I can hear you guys now.
Tobias: Into the matrix, mate.
Tobias: How do you feel about the market generally? You’d say, you feel it was a little bit overvalued?
Tim: Yeah, it’s just tough for me to– I don’t know, I– [crosstalk]
Tobias: You just can’t find opportunities, how do you think about it?
Insurance Companies Pulling Out Of Florida
Tim: So, I think you look at individual bonds are like– Even real estate companies, some of these real estate investment trusts or even operating companies, you can find bonds at 9%, 8.5%, BBB, BB+ type credits. I think that that space is interesting. I think the financials are interesting. If you think of the insurance market for Fairfax for Berkshire, for AIG, for Arch Capital, it’s still a hard market. It looks like that’s going to continue for a little bit. And then if you think about it, look where they’re able to redeploy capital and premiums right now. It’s a great environment for them. So, yes, some of them have duration issues, but they don’t have a deposit base, so they have some mark to market losses that ultimately will amortize and burn off or be reinvested.
I think you’re going to see returns on equity go up in that space. So, I think there’s some opportunities there. I like energy. I like natural resources as well. I love copper here, but I think the stocks aren’t super, super cheap relative to current prices. But I would say, I’m in that boat.
Tobias: Yeah, it’s Southern Copper Co, but it ran away from me a little bit too much, so I rolled out of it.
Jake: I think I agree with you on the insurance companies right now that generally– It’s probably favorable, especially those who didn’t chase yield, didn’t go out and take duration risk. I think they’re likely to see quite a bit of interest income coming back in. It could be pretty material actually for their earnings. So, I think they’re in pretty good shape, I think.
Tobias: What do you make of the insurers pulling out some markets in Florida and-
Tim: Or, California.
Tobias: -I think it was California as well?
Tim: Hey, we’re not immune to this. Yeah.
Tobias: Yeah, I saw that recently too.
Jake: We have to get our area Florida man back on the show and we’ll ask him.
Tobias: [laughs] Yeah, that’s right. We got a man on the ground.
Tim: Yeah, I don’t know. It’s because they limit the pricing, right? I think there’s limits to how I think that’s– [crosstalk]
Tobias: Is that? Yeah, that’s right. They can’t reinsure. That’s right. They can’t include the cost of reinsurance-
Tobias: -in California.
Tim: In my area, it’s horrible because we’ve had some wildfires not too far, and we’re just somewhat rural for Orange County. You’ve seen it, Toby, but–
Tobias: Looks like toasting it.
Tim: It’s really hard to get insurance here. I was worried, because State Farm pulled out, and that’s who we have it with. But they said that they’ll keep existing clients, which is good. That brings us to housing though really. It’s confounding to this economy, because I think we can understand why housing prices have held up, because you just have very few existing homes being sold. You have new builds where there’s demand needed there, and so people are starting there. The builders have more flexibility on the financing rates that they can offer, because they have their own internal mortgage companies, so they can rejigger things a little bit there.
But at some point, people are going to have to– There’s going to be more supply out there, and you’re going to have arms and stuff like that will have to be reset. And then you also have the student loan moratorium ending, which is a huge deal. So, there’s got to be some impacts to that. And so, I think I’m a little more skeptical on the economy than most people are as of recently. [chuckles]
Housing Crisis Phenomena
Tobias: I saw a few of those. It’s like bear porn, doom porn on the housing market. They talk about the short-term rentals, the Airbnb phenomenon, that there are a lot of people who own many, many Airbnbs, and they get pretty good yields out of them because they rent them at a premium price. But this last six months, they’ve seen a big drop off in the number of people using them, which puts a lot of stress on those guys, because they’re so heavily levered and they’re running them cash flow running them for the smallest amount of cash flow possible.
Jake: I saw an interesting chart on– It was spend profile of COVID suspended student loan cohort. So, this is like people, what were they spending their money on instead when they didn’t have to make student loan payments? Most exposed in this little chart were Peloton old navy, and then let’s say like HelloFresh, the food delivery. So, it’s interesting little correlations there. I don’t know, if it means anything.
Tim: I wonder if those are the buy now pay later type companies, because yeah, the credit side, they’re not going to lose– Most originators, let’s say an ally or even someone like a one main financial that’s subprime lender, they’re not going to lose sight of the fact that there’s the moratorium in there. But some of those buy now pay later companies were more focused on loan growth and originations.
Jake: Is that a firm?
Tim: Yeah, I would look there for signs of weakness, for sure.
Tobias: Yeah, that’s interesting. I wonder to what extent that– There’s a few phenomena going on. One that you were mentioning about the new builds can sell and they can buy down the mortgage rate, which means that– Usually, there’s a big premium for a new house over an existing house in terms of price, but that premium is completely narrow, just because there’s so little supply around. There’s also been the moratorium on the evictions still hanging on since COVID moratorium on student loans. All of those things roll off somewhere around here, and so at some point, you start seeing a fair bit more supply into that market. I think that’s very negative for housing prices generally when that happens. That has a big knock-on effect to the rest of the economy.
Jake: Has there been any precedent of this before in human history where, for whatever reason, rates went up dramatically and you ended up with an ossified real estate market? Basically, you can’t move. You can’t change your rate effectively. It’s probably a very US specific phenomenon, because we have a 30-year fixed-
Jake: -which is very anomalous in the world. So, probably not too much precedent for that, but I’d be curious to know like, what are the longer-term societal impacts of lack of mobility? Does it create a more ossified job market then, because you can’t move to take a different job in a new city as readily? I don’t know, some of the math changes a little bit.
Tobias: Then you can work from home. Work from home is another big phenomenon that’s come out of that. So, maybe you don’t have to move.
Jake: Maybe. Do you have less kids, because you can’t get a new bigger house potentially? Can you not trade down if you’re retiring and you’re empty nesting? I don’t know, I’m just trying to think through some of these second, third order.
Tim: Yeah, that’s an interesting one to think about. Yeah, because it really is hard. Even if you see a decent deal for a house, the financing costs are so prohibitive, yeah, it’s a challenge. Orange County is a big place for mortgage originations. I have a lot of friends in the business. The banks are laying people off crazy. It’s amazing how low the volumes have gotten and it’s very understandable. You’ve got the originations for the new homes. And if you’re not in that niche, then it’s tough.
Tobias: I think his name is– He tracks the number of sales per real estate agent, and he said he’s got a chart showing it was the lowest sales per– Going back to however far back they tracked that data, 1985 or something.
Jake: Are there more agents than deals right now?
Tobias: It’s close.
Tim: I bet.
Tobias: It’s 2.3. I’m going to get this the wrong way around. Agents per deal or deals per agent, I’m not sure which–
Jake: [laughs] Well, either way, that doesn’t work very well.
Tobias: Yeah, it’s not enough. I don’t think that’s enough.
Tim: You were talking, Toby, about the Airbnb thing, and I don’t know, I guess I was just in the mood. So, Friday, I was watching The Big Short again.[laughter]
Jake: Weekly viewing?
Tim: Yeah, and it’s like with the dancers at the Gentleman’s Club, how they talk about– I have like 10 houses or whatever the number was.
Tim: The people that have Airbnb houses-
Tobias: [crosstalk] thing.
Tim: -it’s not always just one. There’s a lot that have built little empires. And same with apartment rental homes that have more full-time tenants. There’s a lot of leverage in the system there. Prices are going down for rents.
Jake: Tim, do you have any insight on commercial real estate?
Tim: I follow it pretty closely.
Jake: Looking into all the regional banks, especially, I think, have a lot of exposure to that?
Tim: Yeah. [laughs]
Tobias: [crosstalk] particularly right?
Opportunities In Real Estate REITs
Tim: Yeah, I’ve looked at Vornado, I’ve looked at SLG, and I think that some of the more interesting place– So, I do own some bonds in Vornado. We’ve sold some puts on some of those stocks, and it’s actually worked out pretty well so far. They’ve rallied quite a bit after SLG sold. I believe it was a 50% stake in one of their buildings for a really nice price. That market has rallied quite a bit. But I think the more interesting ones are more of the diversified REITs. So, a WP carry that has some commercial real estate, but then they also have a lot of industrial stuff like that or some of the medical office REITs which are a little less exposed to the work from home phenomenon.
I think there’s value there, especially if you’re not someone that thinks that rates are going to keep going up much more or not necessarily stay up for a very long time. If you get a recession and rates go down, a lot of those REITs have massive potential with both dividends and appreciation. But yeah, some of the ones like Vornado, I think is too hard to build a big position, especially in the equity. And I feel the same about SLG. But you work up the line a little bit, there’s opportunity.
Tobias: When you say it’s too hard to build a big position, it’s too illiquid or what do you mean–?
Jake: Delever to scary.
Tim: No, I don’t mean that.
Tobias: Too hard to analyze.
Tim: Yeah, heart attack, anxiety, stress, I don’t want it. I don’t want to bet big on offices. I don’t feel passionately– We were looking at office space. You could name the price. You get the most beautiful offices I’ve ever seen. They were basically begging me to take them. So, it’s not a space I want to bet big in, but has it gone too far, at least at one point did it? Maybe, yeah.
Tobias: My wife wanted to buy some sage for a sage blessing. I don’t want to get into it, but basically, it’s a crystal shop. And so, we went looking for this thing, and it’s in this primo office park, and there’s nothing else there.
Tobias: It’s completely empty. But they’ve got a crystal store down the bottom, so I think business is good for those guys. Not the crystal store. I’m being completely sarcastic. Business is terrible in that place.
Jake: [laughs] Let’s just not even unpack that one.[laughter]
Tim: It seems like it’s pretty specific though to the offices though. Strip malls are doing okay. I used to be an investor in Store Capital, and they own a lot of the Chick-fil-A type stuff or the Chipotle, a lot of those chains. That’s a pretty good business. That held up really well during the lockdowns. They got bought by, I believe it was Blue Owl, which is one of those private equity companies. I think they’re still doing pretty well, but that’s another one where you could buy the bonds at high single digits, 8%, 9% yield to maturities that I think are interesting.
Tobias: I find this market kind of a little bit hard to analyze, because to me, the data looks so bad. The leading economic indicators have all been terrible. Maybe they’re due for a bounce because they’ve been so bad. Maybe the market is just front running that bounce. I have no idea. Maybe the market front runs the leading indicators as well. The traditional path where you went– by the time that employment cracked, that was close to the bottom for the market. [crosstalk] Well, say it again.
Jake: Your hope, housing something, something employment?
Tobias: No one cares about the O and the P, housing op employment. At the end, when employment cracks, that’s the signal to get back into the market, because the market takes off. But we bounced well before any of that happened. All of the traditional metrics either, they’re just broken because it was an unusual– we had the shortage, then we had the glut. Every single commodity chart looks exactly the same. It runs up 10 times and then it runs back to where it was. We saw it in lumber, we’ve seen it in energy, we’ve seen it in housing, we’ve seen it in just about everything.
That’s one of the things that I find confounding about the housing market is that it’s run up, but it hasn’t run back down, but interest rates are well up, pinned right up. And so, there are two parts that are either housing prices come down or interest rates come down. Powell seems to be saying that he’s not going to pull interest rates down, although saying that and doing that are two different things. I don’t know how it resolves itself, because it seems to me that the market’s expensive, so the reward isn’t there, but there’s certainly a lot of risk there. But you say that, which I just think that’s just reality, but that makes you bearish. I don’t know, disabuse me, tell me where I’m wrong.
Jake: [laughs] I think that there are times when it’s easier to understand what’s going on and times when it’s harder to understand what’s going on. I think we’re living in a harder to understand what’s going on phase.
Tobias: So, as a long only guy these days, that’s not a good set up for a long only guy. I’d much rather see the other way around where everybody’s depressed and it’s all bombed out, but there are signs of life, signs that are taking off. I feel more confident taking a punt there than I would here, where the risk reward just seems wrong to me.
Tim: Well, not to go too far into it, but that’s why I think the bonds are so attractive. I know, Toby, you got in the industry kind of a similar time when I did. In the last 20 years, there really hasn’t been an opportunity or an attractive opportunity to own bonds. 2000 Treasury bonds were decent relative to the indices, but of course, nobody wanted them then.
Jake: Yeah, I think it’s 7%.
Tobias: That was still like 6%. Yeah.
Tim: Yeah. But right now, and yes, the 10-year Treasury at 3.8. I don’t know if that’s immensely attractive unless you see rates go right down, I don’t think that’s great. Short-term Treasuries are pretty attractive. But then you can go a variety of different durations on the corporate side if you’re willing to take a little bit of credit risk. I think in a portfolio, and we’re investment advisors, and that’s a really attractive way to reduce risk of having too much equity, because more older people than ever have 100% equity allocations. As we’re talking about, the risks are pretty skewed in my opinion. I don’t think that’s going to end great.
Jake: Tim, what if you could buy a bunch of bonds inside of another container at roughly $0.90 on the dollar, which might be a good description of Fairfax.
Tim: Yeah. No, you’re right. Well, I like that. There’s some CLO type stuff that also fits that description, but absolutely. The insurance companies are really interesting. AIG still trades at a discount to book. They have stellar management now. The job that they’ve done in improving their underwriting is just exceptional, yeah, as they redeploy. The one overhang is they have their annuity business that they are selling off. And so, whenever they’re selling off a subsidiary like that, there’s pressure on that price, which impacts the ultimate recoveries that they get once they sell it off. So, that’s a little bit of an overhang. But I agree with you. I think that insurance companies are really. really interesting.
Investing Lessons From Tardigrades
Tobias: JT, you want to do your–?
Tobias: I’m being a little presumptuous, but you do have veggies for us today? You’ve never failed me yet.
Jake: Yeah, I was going to say, “What’s the streak? What do we have to get to–?” [crosstalk]
Tobias: I don’t want to just assume. I shouldn’t just assume.
Jake: All right, I’m changing my background, so that this will explain for this particular–
Tobias: That’s the tardigrade.
Jake: Yeah, I’m surprised I haven’t done a segment on this before, because we are talking about the ultimate in biological resilience when we talk about the tardigrade. I’m such a huge fan of resilience, and I like biological analogies. So, I feel like this has been one that’s such a layup. These little guys in the picture, as you can see, they’re colloquially referred to as water bears or moss piglets. For those who can’t see, they look like this little eight-legged kind of gummy bear or maybe a little tiny manatee with legs. They’ve been on Earth for about 600 million years, which precedes the dinosaurs by 400 million years. We’re talking such an incredibly long track record. They’re older than sharks, they’re older than trees. This is something that is really built to last.
Tobias: They can survive space as well, can’t they? They can survive– [crosstalk]
Jake: Toby, come on–
Tobias: Sorry, I don’t want to get stepping all over your work. Sorry, mate.
Jake: [laughs] So, the phylum that they inhabit is, within the animal kingdom is, much closer to lobsters or crabs or spiders than it is to bears. They’re these tiny little things. They’re 1 mm in size, which is about four one hundreds of an inch. Very, very small. They’re found all over the world, mountaintops and the Himalayas, the deepest sea, trenches, tropical rainforests, even Antarctica. It’s amazing.
They feed on plant cells, algae, and sometimes, other small invertebrates. Despite looking like they’re kind of squishy, they’re actually covered in this tough cuticle, it’s called that’s more similar to the exoskeleton of a grasshopper or some other insect. Just like other insects, they have to shed their cuticle in order to grow. So, they basically slough off their skin and then grow into a bigger one. I’m sure everyone at home was wondering about their mating habits. So, [Tobias laughs] let’s get into that.
Jake: Yeah, finally. So, these little water bears, they actually do some kind of courting before mating. I don’t think it’s buying flowers, because I don’t think this is all that romantic, because it turns out researchers have found that up to nine males aggregate around a female to mate.
Tobias: Just like humans at the clubs. I’ve seen it happen.
Jake: Oh, man. [laughs] So, to get into what Toby was referring to as far as their survival stats, which are absolutely mind boggling. So, these are conditions in which they’ve survived. -460 degrees Fahrenheit, which is just above absolute zero.
Tobias: Are they still moving at that level?
Jake: No. Plus 300 degrees Fahrenheit, pressure six times greater than the Mariana’s Trench, the vacuum of outer space as Toby stepped all over. Going without food or water for more than 30 years only to later rehydrate forage and reproduce. One report found a leg movement in a rehydrated 120-year-old specimen.
Jake: They can withstand 1,000 times more radiation than other animals. They handle these extreme conditions. They enter basically this state of suspended animation. They curl up into this little ball. It’s called a tun, when they’re in that state, T-U-N. Their metabolism lowers to one-100th of a percent of normal, and their water content drops to 1% of normal. So, they basically freeze dry themselves when conditions are difficult. And a study out of Tokyo in 2015 found that less than 1.2% of their genes are the result of horizontal gene transfer. Meaning that they really evolved as their own distinct creature. That same study found that this high expression of this novel tardigrades unique specific protein that has this suppressed like DNA suppressing or DNA damage suppression effectively. And so, these little moss piglets are basically Mother Nature’s ultimate and resilience. So, let’s see if we can torture some analogies back to and stick to landing.
Tobias: This is the best part.
Jake: Yeah. So, number one, one is reminded of Charlie Munger putting the Daily Journal portfolio into hibernation, lowering the metabolism of it, and into nothing but T bills. And then when the environment becomes more conducive to investment, he’s back at full strength, like, just the ultimate impatience, just like a tardigrade would. Being very small actually allows them to go nearly anywhere on Earth. There’s a similar advantage in managing money where you can go anywhere and exploit small pockets of inefficiencies when you’re very small.
From a life perspective, I think maybe Munger talks about this a lot, like, one of the greatest hacks for happiness and contentment are to lower your expectations. And likewise, from a personal finance point of view, I think your best defense against inflation is likely maintaining a low-cost structure, so, a low metabolism. Keep a low surface area for inflation to attack you. So, basically, living within your own your means is a great way to be resilient, kind of similar to what a tardigrade does when it’s facing a difficult as.
As John D. Rockefeller said, “Save when you can, not when you have.” So, tardigrades don’t share a lot of genetics with other species, and so they’re their own distinct creatures. I would say that the best investors are also their own unique creatures. They usually share some DNA with other successful investors, but they aren’t copycats. They usually find their own style that’s authentic to them. And then the last thing, tardigrades have that unique protein that we talked about that suppresses DNA damage. I think we can strive to control our environments as best we can to express the mental proteins of resilience which suppress investment related brain damage.
So, I often think that a lot of investments aren’t really worth the headache, and so maybe steering clear of some of those where the return on brain damage just doesn’t justify it. So, there’s Mother Nature’s ultimate resilient animal, and maybe a couple of things that we might be able to adopt from them.
Munger’s Mistake On Alibaba
Tobias: I love that story about Munger after being that patient, then deciding that he wanted to buy one of the banks, whatever it was, and having to pull his car over on the side of the road to call the broker, like, I couldn’t even wait to get back to the office. Clearly, there’s some strong FOMO. You just got to fight the FOMO.
Jake: That’s wild, isn’t it?
Tim: He’s the best.
Jake: Basically, practically bottom ticked it.
Tobias: Yeah, he was right.
Tobias: How did he go so wrong with, what’s it called–?
Tobias: Alibaba. Yeah.
Tim: The financials are, it’s a steal on that level, but you have the Taiwan risk, so everyone’s scared of it and just all the other stuff with China, but maybe it will end up paying off and he got the timing wrong. You never know.
Tobias: Get an option size position in it.
Jake: At the end of the day, it’s still a goddamn retailer. Is that what he said?
Tobias: Yeah, I don’t know if that was the right conclusion.
Tim: I would agree on that. Yeah.
Jake: That might be one that has a lot of brain damage in it too. You’ve got a lot of things to figure out. You got like tech issues, you’ve got China issues, you’ve got what do you actually own issues. There’s a lot of stuff going on there.
Tim: Don’t they have their own AWS type business within Alibaba? I’m pretty sure that they do. So, if that was a US company with the same metrics, they have a very large net cash position. You look at what even Meta or any of these are trading for right now, they are not– Meta is cheaper than some of the other ones.
Tobias: Not by much.
Tim: I think Taiwan.
Tobias: Not much of a discount anymore. I think a lot of that discounts going away. But I agree with you on Baba. Baba, that’s a no brainer aside from the China risk, I think.
Jake: Probably, you get as much AI happening there as other places, don’t you think?
Tobias: What? Not much? Mostly marketing.
Jake: [laughs] No. Come on, Toby, don’t be so cynical.
Tobias: That’s all marketing spend.
Tobias: It’s funny to see that. I tracked the NFT chart. Google searches for NFT. The NFT index, it just got–
Tobias: I had to give it up because it was getting too sad. I couldn’t tweet it out anymore. I felt bad. But ChatGPT has followed the same path.
Jake: I saw an NFT of Jack Dorsey’s first tweet bought for $2.9 million. Now valued at less than $4.
Tobias: Yeah, I saw $1.14. Is somebody, that’s the offer, is it? He’s like, “Well, that’s the bid.” $1.14, not prepared to sell at that level.
Tim: Can’t even imagine. I never really got into that. I never really thought that it was very interesting. So, I’m glad I didn’t waste the brain space on it.
Tobias: You didn’t have ill-gotten gains to launder through it?
Jake: Oh. So, yeah.
Tobias: Limited your interest in it?
Tobias: Because you can be anonymous right on both sides of the transaction. I just sold an NFT for $70 million. What are the chances?
Tim: Are you giving tax advice too? [laughs]
Tobias: Well, I’d be happy to. You’re happy to pay the tax on your ill-gotten gains because that launders, it turns it into the real thing.
Jake: Cleans them up.
Tobias: Now you can spend it in the real world.
Tim: Good point.
Tobias: Crazy. So, where do we go from here, gents? We’re super bearish on the market. We like energy. Financials, not too bad. So, where’s the danger? Big tech? Big tech over earning like 31% of the index by market cap 20% of the index by earnings? Got to come back.
Tim: We’ll have to see how earnings play out. I believe Netflix and Tesla both went down quite a bit after reporting earnings that were good, but just the expectations were pretty high. We’ve got all the big ones coming out the next week or so. So, it’ll really just be, are they meeting expectations and their guidance? Nvidia will be huge, because remember, they reported that amazing quarter and then that amazing guide, which really took this AI rally to a new level.
Tobias: It was more a guide than a quarter, wasn’t it? The year on year it was down in terms of revs. It was like still 6 or 7 for the year and then guided to 11 or the 12.
Tim: ASML said– What are they? They’re Dutch, aren’t they? The really high-tech manufacturer of equipment? They were saying that inventories are really high right now, and that’s not looking to resolve itself anytime too soon.
Jake: It’s an interesting piece from Dan Rasmussen or Verdad. It might have been someone else writing it, but just talking about interest, expense, and taxes as a headwind for net income going forward. If you look at the charts as far as how much did companies typically pay interest expense, and what was the corporate tax rate, both of those are these basically from 1982 down to today are just this pretty much straight line down and going to roughly zero for both of them in a lot of ways. But if you’re going in the other direction, then there might not be as much net income available to the owners of the businesses, which is at the end of the day, what drives what you should be paying for a company. So, that could be a headwind going the other direction that our entire lifetimes has been going one way.
Tobias: Federal government’s coming up on a trillion dollars interest expense too?
Jake: Is that a lot?
Tobias: That’s getting chunky?
Jake: Yeah, just print it. It doesn’t matter.
Tobias: Wow, that’s true. Technically, they’re different parts of the– The Fed is completely independent, so there’s no guarantee that they’re going to do that, just like the DOJ.
Tim: Yeah, no doubt about that.
Tobias: Totally independent. Then again, Powell has been hiking. Maybe Powell is-
Tobias: – Volcker. Yeah.
Everything Is So Expensive
Tim: It’s tough though, because I think some of the commodities are starting to rally again. So, you almost just get in that. Something ultimately seems like it would have to break. It’s tough to get that happy median. Like you said, with that type of government debt, it’s tough to imagine us not having to inflate our way out of it. So, how long? If we do get inflation really receding aggressively. The numbers have been good lately, but if that does happen, at what point does all that debt interest catch up to us?
Jake: They’re good-ish. But if you still look at cumulative inflation over the last couple of years, it’s pretty goddamn painful. [crosstalk] reversing.
Tobias: It’s [crosstalk] That’s 3%. It’s down from 8%.
Jake: We’re back down to– [crosstalk]
Tobias: Yeah, it’s not down. It’s still up 3% from where it–
Tobias: That’s right. It all adds up.
Tim: Oh, man.
Jake: It’s not just how quickly is the elevator moving. But what floor are we on? That matters too.
Tim: It’s amazing. You go to the grocery store or you get lunch– It’s amazing how expensive it is every time. It’s really shocking. I usually get the same thing at different places. I honestly think it’s 50%, 60% over the last three or four years.
Tobias: I use mint, so I can track it. Yeah, it’s 40%, 50% rolling year on year at the moment. It’s extraordinary. Yeah, with no real change in lifestyle. I guess, we were in–
Jake: Changing down from steak to hamburgers?
Tobias: Fortunately, not quite in that position yet. I still like the steak, but yes. [laughs] Not that bad, but yeah.
Jake: Weren’t you listening during the whole control your cost of living and–? [laughs]
Tobias: It’s funny. The difficult thing, all of these comps, including my own personal income statement– You’ve got 2020, 2021 rolling out of that, so that was suppressed artificially, and then maybe coming out the other side, that comp is wrong. But it’s still up and to the right over the last five years, not through increase in lifestyle. That’s just what things cost.
Tim: Yeah, it’s brutal. Fortunately, there were the pay increases and stuff like that. It’s hard. You wonder how some of these people get by– Especially, now that people have to pay on the student loans and stuff like that, it’s going to be challenging. We’ll see how that dynamic plays out. I think that’s a bigger change than most people are really factoring in.
Tobias: When I look at the things in my portfolio currently that have worked, a lot of it tends to be, it is real estate related. It’s the home builders who’ve been selling to new homes. Williams Sonoma stuff that sells into that kind of market, all that kind of stuff, unless so, the more defensive stuff like heavily consumer cyclical. We’ll see. I think it’s on a little bit of a knife edge at the moment, but you wouldn’t know from the market.
Tim: It’s a good point. A lot of people like the younger investors, they probably don’t remember the fact that after the housing crisis, Home Depot, what did it get to? It was $20 stock, maybe even less than that. Them and Lowe’s, they improved their efficiency a lot, but they’ve also had a really nice tailwind on the housing recovery. But all of those, like you said, those housing related stocks builders, that’s amazing. I remember when the fund started building a position in there, I thought it might be a mistake. They had low PEs, but the earnings were so high. You were right. The earnings have just gone up and the near term looks really bright still.
Tobias: Well, I certainly didn’t predict the path that it was going to take. I just thought they were cheap. We were talking about this a lot of the time, because the argument was they’re cheap for a reason.
Jake: Yeah, baiting the earnings.
Tobias: My thesis was we’d underbuilt for 10 years, and so there might be some more building coming through. The reason that they were beaten up so severely at the time was lumber. Lumber had that silly run. Everybody remembers lumber spiking. We were a lumber podcast for a while.[laughter]
Tobias: And clearly that hurt their earnings, and then lumber came back down, and then we had this silly thing where now everybody’s buying new homes rather than existing homes, because there are none for sale. None of that was predictable. That’s basically my whole strategy is just to buy cheap and hope.
Jake: Yeah. Almost as if sometimes a quant value strategy is– I’m agnostic to macro and things are going to happen, you can’t predict it.
Tobias: That’s why I talk about macro so much on this podcast.
Tobias: I can’t express it anywhere. It’s the talking hedge, the psychic hedge.
Tim: Even though we’re all somewhat bearish, we’re still invested. You find the best opportunities or stuff that the negatives are overly priced into the equity or whatever part of the capital structure that exists. So, I think we all see opportunities still. Yeah, it’s tough to justify. Look where rates are and look where the price to earnings multiples are. Look at the free cash flow yields on some of these companies that are huge components of the index. It’s going to take some pretty heroic growth rates to validate that over the long-term.
Tobias: Right. I think you’re getting twos and threes on some of those big tech companies, and you can get the 10 years at like five, five and a half, something like that. Actually, I say that very confidently. I don’t know, I haven’t looked– [crosstalk]
Tim: 10 years at like three, eight. But yeah, no, you’re right. Some of those free cash flow yields are the low single digits, for sure. On huge companies too. Obviously, look at Cisco. It’s not that the internet didn’t perform well in the 2000s. It did amazing, if not exceeding expectations, but Cisco still hasn’t gotten to those highs. We’ll see.
Tobias: Yeah, Cisco got cheaper. Some of that old tech got cheap a few years ago. They got cheap through the bubble run.
Jake: Microsoft and Apple? [laughs]
Tobias: Yeah, I wasn’t that smart.
Tobias: I was buying Cisco. What’s the database company? Oracle.
Tobias: I’ll look at– [crosstalk]
Jake: Probably, you had to at one point be buying some hard drive manufactures. [laughs]
Selling Too Early
Tobias: Yeah, probably. The time to buy Microsoft was when Whitney Tilson was pitching it at Value Investing Congress in about 2010, 2011. That was when they’d had that one-year– [crosstalk]
Jake: Revenue roll over.
Tobias: Revenues had gone down. Steve Ballmer was running it. I think maybe Google had brought out Sheets and a few other things like that. So, it looked like they were going to be left behind, because everybody was going to be downloading their Office Suite, the Google Office Suite. That would have been a good time to buy it. That would have been a good time to buy Microsoft and get lucky and just hold on.
Tim: We bought it, but we just didn’t hold on as long as we should have.
Tobias: Yeah, you get 20% bump.
Jake: Yeah– [crosstalk]
Tim: Yeah, that can be the tricky part. It’s a lot of those.
Jake: You made all the easy money. [laughs]
Tobias: That’s what I feel about Meta a little bit. I think Meta probably does just continue to work from here. Whatever the bump I made out of it, I don’t know, I haven’t calculated it, but it’s like a percent, and then 10 years from now, it’ll be multiples.
Jake: You know how I reframe that a little bit for myself from when I’m trying to fight that counterfactual is, I look at it and I say, “Okay, I deserved to make the return that I did, because that’s what I’m comfortable with as far as what I view as the risk and reward.” When it tips to the other direction and I sell and it keeps going up, I didn’t deserve those other gains. I wasn’t smart enough to figure them out, and that’s okay. I just have to know which part I’m comfortable in and be okay, and run my own race and not get too upset about it.
Tobias: I agree. Although I think it’s funny that even know Buffett– Buffett said quite a few times that buying Berkshire was a mistake, because Berkshire was a terrible business. And then they basically transformed it by buying See’s and National Indemnity and so on.
Jake: Yeah. So, throw off a fair amount of cash over that entire–
Tobias: But he did say, I think in last year’s note or this year’s note or something like that, he said, it was still like a 40% CAGR on the investment. If you just bought it and sold it back to Stanton. If you just sold back into the buyback, you’d have made 40% annualized. So, that have been pretty good. Good job there.
Jake: Yeah, he’s all right at this.
Tobias: You can live on that, [Jake laughs] if you can find them every year.
Jake: Yeah, that’s true.
Tobias: Where do we go from here? What are we going to get wrong? When you come back, what do we wrong?
Jake: Oh, up into the right.
Tobias: When we get Tim back? Next time you’re on Tim, what do we get wrong?
Tim: No, I’m in the same camp as you, guys. I’ll mention one more. We were talking about the banks. I think last time I was here, I talked about it a little bit. But Ally is interesting, because they’re generating mid-teens return on tangible common equity, even in a trough period, this trough earnings for them. Credit is still pretty good, but they have to provision for future losses and everything. But then you have the net interest margin, which was around 4%. That’s contracting to about 3.4% just as the deposits reprice. But they’re originating.
So, so many people have pulled out of that space like Capital One. A lot of these banks have pulled out. So, they’re getting prime and super prime paper on the retail side, and they’re getting huge rates. Their average origination rates now around 10 over 10 on those. And so, obviously, those are secured quality FICO scores and everything like that. Then on their commercial side, dealers are having more inventory because of the supply chain issues being worked out. And so, 100%– [crosstalk]
Jake: is this for cars?
Tim: Yes, sir. So, 100% of their exposure there is adjustable rate. So, if you look at where earnings will be a year, two years from now, I think it’s pretty robust. They actually did grow deposits by a small margin over the last quarter. So, I think on the same premise as the insurance, I think if you can look 18 months, 24 months out, and if we don’t have that pure panic, like the banking crisis was ill founded panic, in my opinion, I think you’re going to see a pretty robust recovery on some of those financial names.
Tobias: Yeah. I give you credit, Tim. You did say that at the time too that the panic was ill founded when we had you on around about that time.
Jake: Who would have thought we’d move on so quickly from it though too.
Tobias: Yeah, [crosstalk]
Jake: That was surprising.
Tobias: I did not. I was in the other camp.
Tim: AI, man.
Tobias: Say it a few more times for the algo. A-I-I-I-I-I.
Tobias: Thanks, fellas.
Tim: AI podcast. Thanks, guys. Appreciate you.
Jake: Thanks, Tim.
Tobias: Thanks for coming on, Tim. Folks want to get in contact with you, Tim, quickly, how do they go about doing that?
Tim: Yeah, ttvalueinvesting.com is the website and all the contact info is there.
Tobias: And you’re on the Twitter at?
Tim: @timtravisvalue one, I think.
Tobias: Good stuff. All right. Thanks, folks.
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