The Week That Matters (5-9 Feb, 2024)
"If you are in the right companies, everything else is secondary." Philip Fisher
In defense of growth investing
Most of the public women the author admires unfortunately get cancelled: JKK Rowling, Tulsi Gabbard, Giorgia Meloni. It’s got so bad that he’s decided not to pass comment on anyone. Cathie Wood is another example. It’s incredible how willing people are to throw her under the bus.
Morningstar this week called Cathie Wood the “worst wealth destroyer” out of a family of ETFs. The headline was worthy of a tabloid, not an organization we rely on for our fund advice. It was typical of the lack of critical thinking common in finance.
First, it’s not even true and needs to be put into perspective. The financial world has seen many more harmful “wealth destroyers” than Cathie. What about Jeffrey Immelt? What about Ken Griffin in 2008? More recently, what about Chamath? How much money was lost on the Andreesen Horowitz’s blockchain fund? In economics, aren’t we also supposed to factor in opportunity cost? How much will Norges miss out on not owning enough Space X?
Secondly, the statement reminds the author that in an industry based on numbers, a lot of the stats aren’t put into context. Morningstar argues she lost over $14bn. This might sound flippant but that’s small fry compared to some of the greats out there. Let’s get real.
We love to criticize public growth investors, who have had a couple of bad years. But we somehow allow those with a value bias, who underperform year after year, to get away with it. (Curiously no one pays much attention to VC firms not returning capital. Maybe the parties are just too good!)
In an episode of the Masters in Business podcast, David Einhorn this week said:
“Our thinking before used to be: if we buy this at this times earnings, and they’re going to do 20% better than everybody thinks, and the multiple re-rates as a result of that, we’re going to do terrifically.”
He went on to complain that “the value industry has gotten completely annihilated.” He blamed passive and quant investing. The interviewer just nodded his head. He was asleep at the wheel!
The author has heard similar excuses since the GFC. Value guys have always got someone or something to blame for their underperformance. They never self-reflect. They do like talking though. Does Jeremy Grantham ever stop?
Value investing gives people a set of parameters to think about the market. They often sound smart with their tried and tested statements but they often cause you to lose a lot of money! It was an issue on trading floors during the author’s career. It’s a bigger issue for the public now that Grantham has discovered social media.
The truth is Sir John Templeton was wrong. “This time is different” aren’t the four most dangerous words in finance. Using outdated metrics and old fashioned thinking might be more painful for your portfolio in a time of change like the one we live in. Maybe it’s appropriate for them to embrace new ideas. Perhaps it’s high time for them to think “critically.”
Warren Buffet: a value investor at heart?
“Bottom up critical thinking” does not drive the fund management industry. Instead, a top down consensus is manufactured, which invariably falls short (“higher for longer,” “this will be China’s century,” “every company will be a fintech”). If you want to raise money, you embrace those themes. If you don’t, you try to be original. In an industry where it should pay to have a differentiated idea, it’s surprisingly difficult to get off of first base if you have something unique to add.
One of the consistent top down directives is the worship of Benjamin Graham, the Godfather of value investing. Warren Buffet, who understood building a cult around what he did long before Ray Dalio, has been Graham’s most ardent advocate. He says he changed his life. It’s a nice narrative. Whether it’s true or not, this author is too dumb to know. It definitely gives Buffet a framework he can claim he follows at his cult meetings every year in Omaha. Like any cult leader, however, what he says and what he does can be at odds with each other.
Not what he seems?
There is very little that’s cuddly or “salt of the earth” about Buffet. Buffet’s edge has always been asymmetric information flow and access to deals, backed up by consistent capital from his insurance business. The 1960s were his best years in terms of absolute returns. That’s when his Dad was a Senator. (There’s nothing new about the way Nancy Pelosi allegedly made her fortune).
And Buffet has made a considerable amount of money being close to the investment banks and government in times of crisis. Didn’t he almost double his money on the GS deal in 2008? Hasn’t he invested in the Japanese trading companies, which are very much like the merchant banks of old, to get access to their deals? Have you looked into Buffet’s foray into Californian insurance?
To be fair, although he has been pushing the value mantra since he was a young man, he has shown a very liberal attitude to Benjamin Graham’s doctrine when it suited him. There was nothing “value” about Geico, one of his best investments. And some of his other big wins were not typical Graham names either. Most were relatively cheap, to be fair, but their share price success was driven by “financial engineering” like buy backs and share cancellations. Think KO. Think AXP. And of course, think APPL.
BRK vs S&P500
Recently Barron’s pointed out Berkshire has been underperforming the market for at least 10 years. Why this is news is a mystery to the author. Like most of the old timers in the fund management game, Buffet has just not kept up.
And one has to wonder what would have happened to Berkshire if the late, great Charlie Munger hadn’t forced Buffet into buying Apple. Would Berkshire have gone the way of GE? The author thinks so.
Presumably it’s because the press give Buffet even more breaks than they do the other old timer, value biased fund managers. If we always saw 1 year, 5 year, 10 year performance data and AUM growth/decline over the previous 10 years, everything would become very transparent, no? Americans love stats for their sport stars. It’s strange they don’t push for it from their financial titans.
In defense of public equities
Cathie Wood has effectively been “cancelled,” but growth investors are always the best investors: Peter Lynch. George Soros. Baillie Gifford at different times. Getting things right every 8 years by being a bear isn’t effective as a way to build wealth. Being optimistic is. And having an imagination about what could work out helps too.
Think about it. How much could you have made if you bought Walmart in 1981, Microsoft in 1992 or AutoZone in 1999? Nvidia in 2010? How much more money would you have made if you had played for the recovery in 2009 instead of listening to the bears like Howard Marx and Stanley Druckenmiller?
Equities are about growth with a little “kaizen” thrown in. In any kind of normal or up market, you need patience and imagination. You have to cultivate your longs because if you don’t get the generational wins like HUBS, SMCI, GOOG or AMZN, you are kind of missing the point. If you want 10-12%, there’s no shortage of wealth managers out there with a list of private credit products for you. Equities are for upside!
What’s interesting to the author is we are so willing to make bets on crap shoots in the private venture space at seed stage. We are told to be “plausibly optimistic” about what a floppy-haired kid from a fancy suburb has to say about his new app’s projections. On the other hand, we do not seem willing to entertain the same levels of optimism about what could go right with companies that trade (and have liquidity) in the public markets. The author believes that’s a mistake.
There is no reason to be surprised by the strength of the Magnificent 7. As discussed before, we live in a Victorian Age of technology, where the top 7 tech companies become a much bigger part of our lives. Everything grinds towards them. It’s that simple.
It doesn’t mean things aren’t dynamic. The top 7 companies will command a large part of the economy but there is room for others. Silicon Valley has urged investors to run the gauntlet with companies that need huge amounts of money (read lucrative fees for the VC fund with the best narratives!) to reach critical mass (most fintech; lots of vertical SaaS plays). We live in a “winner take most” economy. You go big or go home.
The good news is there are many companies emerging in public markets, which have done exactly that. The author is obviously excited about what might be in store for Uber, now it is cash flow positive and has Dara Khosrowshahi (ex-Expedia) at the helm. The author is also fond of Draftkings and Hubspot. But it’s Shopify that gives him sleepless nights.
Shopify
There are two sins you can commit as a growth investor. First, you can overpay. With enough time, you will be forgiven for that one. Second, you can invest in a business with a wide moat that’s becoming a business with a moderate moat. For that sin, you will not be forgiven.
Shopify used to be in category one. Then the author thought it was in category two and so reduced his position. Part of him now believes it has gone back to category one again. This week it raised prices, which is a sign it feels confident about its position in its industry. It seemingly has become the go-to-brand for retailers globally. Separately, it seems, at least from the author’s experience, its tech stack works very well for scalable B2B enterprise deals. The others don’t really.
The issue is it is horribly expensive now. Any slowdown in growth would be catastrophic for the stock price. Remember Bill.com? If this is 2010 though, as the author believes, and a recovery is starting, does its growth accelerate? We know the e-commerce industry will grow to over $8 trillion by 2027 from just under $6 trillion now. Can its excessive multiples be sustained? Answers on a postcard. The author is struggling. Sell or even add?
CHINA MARKET RECOVERY?
If you were an investor in Chinese equities in 2015, life sucked. Things only got better at the end of January/beginning of February of 2016, with some upbeat comments on the economy and some intervention from the government. Almost 8 years later (the author is getting old), the same thing seems to be happening. Of course, the Chinese economy is in a worse state than it was back then as deflation takes over the economy but there is reason to believe we might see a 40-50% rally in the market and that might be all we need for 2024 to be a great year globally.
The Chinese market has been an underperformer for the last few years driven by the economy and partly because China is increasingly turning inwards. The last few months have been particularly bad given the unwind of structured product that derivative desks have told the author were not in any way small.
It’s easy to forget how significant China was for the world in 2016. The IMF were petrified about China systemic risk. In response, the leadership focused once again on growth and that helped a cyclical bottom in global PMIs tick up nicely that year. The author doesn’t believe it will play out the same way in China this time but the fact that the government is making an effort to support its market is another reason to not be too bearish with your portfolio. China is arguably where Japan was in the 1990s with respect to its deflation story but Japan had violent cyclical upturns during that decade too.
As always, thanks for reading. Wishing you the best in business, family and trading.
Best regards
Mateen