Talking Deep Value w/ Tobias Carlisle (@TheAcquirersPodcast)

Hi, I'm Tom and welcome back to the channel. Today I have a slightly different style of video and in this one I had the opportunity to speak with Tobias Carlyle. Now Toby Carlyle is a quantitative style

value

investor that many of you may already be familiar with. I've also written several books on the topic of

value

investing, including this one I'm holding in my hands, The Acquirers Multiple, which I've also done some videos on on the channel in the past, so I was very excited to receive it. opportunity to talk to Toby about all things investing, we basically start from the beginning with some of his background in terms of starting out as a lawyer in Australia and then moving on to becoming a value investor in the US, we went into Lots of details about his specific investment strategy and at the end we also gave Toby some audience questions from a community post I posted here on YouTube yesterday, so I hope you enjoyed this one if you want to see more of Toby and all his The links will be down in the description below, but for now, let's get right to it and I hope you enjoy it.

We have Toby Carlisle on the channel. Thanks for joining me, friend. How are you? Thanks tom. Good thank you. Thanks for having. Not me, I'm happy to have you. I've been following the podcast for a couple of years and I'm not sure if you can see it behind me, but there is a copy of Aquarius. There are several somewhere where I started about a year ago, so I've been following you pretty closely and I'm excited to chat with you, so I guess my first question is you've got something pretty interesting. Back story, it's not the traditional kind of path that you grew up in a small town in Australia and then became a value investor in the US, so yeah, talk to us, tell us about that part of your life, I grew up in Rome, which is in western Queensland, that is. about six hours west of Brisbane, uh, for people who don't know, my parents moved there when I was about two weeks old and I saw that I spent the first 15 years of my life in grade 12.

Grades 11 and 12 They were at a technical school, so I went to a boarding school for grades 11 and 12 and then I went to the university of queensland and I did business and law and I graduated, I went to work for one of the big firms in the city and then they transferred me. to coiners and eventually they transferred me to the states, so they had an office in San Francisco and that's where I met my wife. We returned to Australia for a while, where I was general counsel for a telecommunications company, pipeline networks that were sold in. 2008 or nine, I don't remember exactly, but I had a little money and a little free time and I wanted to learn about investing, so I met a guy who was doing something very traditional, old school. uh undervalued asset situations with a catalyst and that's what I wanted to do so I sat there it was like a quasi activist shop.

I always said that he never intended to become an activist, but he would ask them to do so. some things and they would never do it, so they didn't end up becoming activists of these guys, yeah, great, that's how I started, yeah, well, and this is all in Australia, the activism part or was it in the United States. Also yeah it was just Australia I started running that ended mid 2010 so I started running my own partnership I basically didn't switch desks I just stayed at the same desk because he was managing his own money and I started write. a little blog at the time called greenback which was just a way to keep a diary of what I was doing and post it publicly so I could interact with people without really thinking much would come of it, but it did.

It was a good experience because I met a lot of people doing it and it served as a pretty good record of what I was thinking when I started doing all this and I just did it. I focused on the states because I didn't want to get into conflict with the guy I was in the office with and I was of the opinion that I would eventually come back here, which is what ended up happening. Yes, it's good and is it fair to say it's me? I guess you're known now for being more of a quantitative mechanics style investor.

Is it fair to say that you were more focused on getting to know individual companies in those early days? Yeah, my initial strategy was, uh, you. Know the net subliquidation net worth licked with a catalyst in the form of typically I like to see an activist there because I thought that's how you're going to get your money back, there's someone there pushing to sell the assets or get the company liquidated or whatever be the case and I looked at the end of 2010. I took a look at what I had done over the last two years and I had done pretty well, as you can imagine if you look

deep

ly into 2009 and 2010.

Your returns will look pretty good, but I went through it and I chose it as if it were a net universe, which I had a pretty good idea of ​​what I had done and just by the fact that I had selected it, you know? I've had my own bias there, which is buying things that already have activists involved and some other things like that, they underperformed what I might have done if I had bought all the stocks in those screens, okay, and I thought, uh , there's something strange going on here, like what I've been missing, is that I'm doing this to myself and I found James Montier, who is a pretty well-known researcher and writer.

He wrote an article called Ode to Quant, which was about these ideas that I'd never heard of before, about why it's better to have a more systematic process, so I started researching, I started writing a little bit about, I connected with a guy who's doing his PhD at the Booth School of Business, which is the old Chicago Business School around here, it's a very good school for quantitative research, it's where the cliff solidity comes from and the family teaches there, it's kind of a good quantitative school in the states and I said. For him, I want to write a book about this like I've never heard of anyone doing quantitative value before, although there are a lot of people who do it, I just haven't heard of them, it's more of my own limitation. which like they don't exist, so wes and i did this analysis of we found all the academic and industry research we could find that went back to 19, you know, grammite type stuff, benjamin graham type stuff like before 25, yeah and If you've ever looked at those studies, you know some of them are based on them, you know they're like trying to find a company's risk of financial distress, so they use, they looked at manufacturing companies and they have all of this as what the other paydays are blowing up like all these kinds of things like that that as a fundamental investor you might look at to see if a company is in some kind of trouble or not, they're just doing it in this kind of quantitative statistical approach, but They end up with these weird coefficients because they were basically doing linear regressions by hand, you know, the least squares method is a lot of work, so we're wondering if these ideas still apply today.

This is this book that came out in 2011, but I went back and took a look at it. Do you know how an undivided company is found? How do you find a financially sound company? What does fraud or statistical fraud look like? What is statistical earnings manipulation? What is statistics? The risk of financial distress looks like this: How do you find out that you know good margins and all this kind of stuff? We put them together in a model and tested it and the book is called quantitative value, which sort of talks about our process of undertaking it.

I look into which of the individual components continue to work and that's, very broadly, how I do it today just because I think there are a lot of behavioral mistakes that they help you avoid and you know, in addition to that, I've spent a lot of time thinking about the portfolio construction, so this is just one way of doing it, it's really a way of minimizing the mistakes that we would otherwise make and trying to create portfolios that provide similar performance to the underlying value and quality factors. I had to do it, I hate to say that word, but it's unavoidable.

You can see the experience of the last 12 months, like when the value does well, you know, as a factor, my portfolio, my fund will do better. will do better you know when my funds will do worse will do worse as will you as an investor you, whether you know it consciously or subconsciously, have some kind of preference for these factors and it will appear and you may find that you have a performance poor for a period of time and you don't know why, and then if you maybe do a factor regression on your portfolio, you'll see that I'm a quality investor and quality hasn't been working. very well for the last two years and that's why it's nothing I'm doing wrong and I don't need to change my process, I just need to understand my own style a little better, so that's the only reason. that I use it just helps me contextualize where I am, figure out where I am, within the investment world, yeah, that's super interesting and how are you, I guess, how are you defining value because you talk to several different investors um, I guess potentially you'll have a more academic definition of that and some people are maybe more dcf style investors and I know you hate having this quote thrown at you, but you know Buffett says that growth and value are joined at the hip.

Okay, so how do you define value and how do you structure your portfolios? So value is any price metric relative to a fundamental relationship, so any business security has a price metric, which is the market capitalization plus the debt backing any type of The cash and the market capitalization in yes it's a price it's a price ratio and then you just compare it to a fundamental metric like it could be book value it could be earnings it could be cash flows it could be revenue, you know, whatever you determine is best. What I use is kind of a combination of all those things for um and then I like on the fundamental side of the combination on the price side as well, so you're just looking for the cheapest things on the market and then inside within That universe, I try to separate them into those that have better balance sheets and better businesses, so my definition of a pretty good business is one that has very wide margins or growing margins or very stable margins, all those things together because that is what?

Do they pay their suppliers? What do they get from their clients? How much do they stay in the middle? And then you might want to look at how they are earning relative to their assets. Now I've written a lot about why I don't. I don't like return on invested capital as a metric because I think rolling it back is very bad, but it's clearly not as simple as saying you don't want the worst return on invested capital because that doesn't tend to roll back to where you want it. What I want to be is that there are a lot of companies that are just being created or a lot of companies that are just being created to spend money, so like the biotech company that doesn't have a product, they just spend money hoping that they can do it.

I'm going to find one and that's true for a lot of technology companies, there's nothing wrong with that necessarily, it's just that there's no, there's no, you know, that company doesn't mean reversing the way that a company that has gone very well at some point has entered a period in which they have a lot of competition or their inputs are very expensive or you simply know what happened, their end customers are not buying what happened, that company has the conditions established for the mean reversion, so the other companies don't So that's how I think about it, but the growth guys don't necessarily look at return and invested capital as their metric or what they're looking for is just pure revenue growth. we can test that as a proposition as an idea of ​​what is revenue growth or growth in some other fundamental aspect, how predictive is performance in the stock market and it's clearly not very predictive over a lot of data that we have, so your best bets are If you want it to be cheap on some metric, it doesn't really matter, but I prefer flow metrics, you know, and I prefer an enterprise value type calculation because it includes debt in there.

I use ebit because I use operating profits based on ebit. profit so I can build it from the top of the financial statement down here when you add things from the bottom when you add things to the net profit to try to figure out where it is, you can add some things not recurring items so I just build from the top down, it's a very simple way and then I compare it with the company. It's a very simple way to get a rough idea of ​​how much we're paying, what's in it, and then we can spend more time figuring it out.

If this is something that we really want to own, it has good margins, it has a good balance sheet and then what management is doing is buying back shares, they are issuing shares, they are paying themselves a lot of money,They are buying shares themselves. I think all of those things are um, there's kind of tradeoffs: you never get the perfect setup, very occasionally you get the perfect setup, but you're almost never at a disadvantage, well, it's a little bit more expensive, but it's a little bit Better is a little bit worse but it's a lot cheaper, management is doing the right thing or they're issuing stock, but you know everything else is fine and you have to try to sort through all those things and identify the best opportunities that have ever happened. at one point, so that's something like that.

That's how my model works for finding things and that's why I prefer you know that I prefer the value that has the conditions set for growth rather than something that has demonstrable growth that shows up as some kind of income series, which Whatever, yeah, that's great. interesting and it seems like you're typically looking at and looking for a basket of stocks, um, you're looking for the cheapest basket of stocks relative to everything else that's available or you have some kind of absolute valuation, um you know, the ceiling below the which you're trying to get at when you're building these portfolios as long as I've done it based on an absolute valuation simply by virtue of the fact that everything has gotten more expensive over time and we're at the most expensive point we've ever seen, so every time you try to add some kind of absolute measure, you invariably underperform because you got out earlier and earlier throughout your data set, so I think it's easier to just figure out what the best opportunities are in the market. and it's not just a value, this is a value, plus, know the other quality metrics that I mentioned so I can weigh them both together and see which ones I prefer, but still I still have a preference for things to be cheaper just because I think you know that there are a lot of companies that people pay for and you know when you go backwards when you go backwards in what they are paying and what they have to do to beat the market, is it pretty heroic what the company has to do or I just prefer it to be, Do you know if this company can continue doing what it is doing without the market recognizing it?

It's doing well, you know, it keeps earning and paying that dividend and it keeps reinvesting the part that doesn't pay, if that over time is going to generate pretty good returns, then that's the kind of position I want to put in. because then I don't really care what the market view is on the mult on the multiple, I don't need a multiple expansion, although in many cases that's what you end up getting in the short term, yeah, very good and um. I guess I probably should have read these books in a different order, but I actually read the multiple acquisitions first and then went and read Joel Greenblatt's Magic Formula or the little, what is it, the little book that still outperforms the market.

I think with their approaches they compare you all the time. I found it fascinating to read his book. I guess Joel Greenblatt takes this kind of combined approach to have some kind of proxy for the quality of the business and some kind of proxy for uh, just cheapness or valuation and he kind of combines the two to make almost, I guess, a style approach by Warren Buffett, like taking the traditional Ben Grab approach of looking for cheap stuff and then adding the quality component on top and I found it. It's fascinating that focusing exclusively on valuation seems to work best.

That's what you wrote about and multiple acquisitions. Do you have an idea why that is the case? Why isn't there a return on invested capital or something like that included? it helps with performance when when I really like his approach and I also like the way he did it because he sat back and said what does the buffer do how can I simplify that? Let me try it and see if it works and then I found out that it actually worked and I published those results, which is basically the way I think this research should be done because many of you know that computers are now as powerful as machines, whether whether they do it through machine learning or if they're just doing straight line regression analysis on the data set, you can pull data and find these relationships that aren't real, they just exist because you get a correlation that has no meaning, but they are correlated.

There is a great website you can go to. and you can find all these, they're called spurious correlations, they're like the number of swimming pools in backyards, you know, and milk consumption or something, and the original study that talked about it was butter production in Bangladesh predicted the closure of the SP and it is because you have 10 years of butter production in Bangladesh, it is as if you have data series from all over the world, you just have to find the one that is closest to the SP 500, the best, yes. and then Bangladesh's butter production turns out to be the only data series among the hundreds that you could have chosen that fit, and of course then the authors wrote it up and said, look, this is clearly the butter production that Bangladesh doesn't. predicts. the closure of the sp 500, but it just shows that you can find these correlations that are not real and, uh, the guy that the public said, of course, as soon as we posted that there were people coming up to us to see, you know, How's the butter?

Production will take place this year in Bangladesh, so he did his research the right way. And I'm the kind of person who picks a scab when I read the book. It immediately occurred to me that the way he does it. Does he rank each stock based on its valuation using ebitd? The same metric that I use ranks each stock based on return on invested capital and then just adds up the ranks, so if you have 2,000 stocks and it's the cheapest stock and it has the uh, it gets a rank. of one and if it's the best stock it gets a rating of one so its combined rating would be two and it does that for all 2000 stocks and it occurred to me that you could have the cheapest stock on the market and it would be the worst company in terms of return on invested capital or you could have the best company in terms of return and invested capital and it could be the most expensive stock on the market and I always understood that investing is something that you have to find where the market is. is wrong about these things and if it's the most expensive stocks and the best stocks, the market hasn't gotten that right or some combination of that, so I thought well, what's the factor driving the returns here?

Is it the low price? it's quality and when we test it we find and I've done this many times and many different data sets now but in many different countries and it's always the same answer basically that all returns and more are driven by value and Return on Invested Capital tends to drag down returns, so if you just use Return on Invested Capital, you're going to end up with worse returns in the market because you're trying to buy these better companies but you're paying too much money. for them, so how do you approach this problem? Because you don't want to, you know, maybe you don't want bad companies in your portfolio, but maybe you don't care, maybe you just want really good performance.

So what I've found is that return on equity investors tend to pick these companies near the top of their business cycle and you just get them when everything has gone well for them and they are expensive because everyone recognizes that everything has gone well and They assume that it will just continue to work fine and what happens is that they tend to disappoint because they tend to mean going backwards, so I think a better approach is to use the cheapest things on the market, where everything has gone wrong for them in many cases, that it is appropriate.

They are priced appropriately and they keep going down about half the time, it's wrong, but the other half of the time the market makes a mistake and buys these positions and you get a small change in the performance of the business and all of a sudden the price of the stocks stocks skyrocket because they have been mispriced and the magnitude of the returns of those that work even though the frequency is about 50 50 you end up doing better than the market and better than the magic formula The downside of my combined approach, While it tends to outperform across the entire data set, it tends to be a little more cyclical, whereas the quality metric or the return on invested capital metric tends to keep you up to speed and helps you stay on track. with the market through periods of time like we just went through until the late 1990s was a similar period where you were better off with some type of quality metric just because the market preferred better quality companies and then, The value metric held you back, but the value metric worked much better in the early 2000s.

The last 10 years have been another period of time where it has been better to have a greater focus on quality, but there seems to have been changed again recently and the stock seems to be outperforming for about the last six. to nine months, so I hope we're back to a value type market, but there's a reason you might want to use the quality metric as well and that's because it'll help you keep up with the market for this type of market. periodic metrics. boomlets we went through yeah I hope you're right and it's changed too so why do you think that is?

Why do you think that approach is so cyclical? Yeah, I don't know, honestly, it's just I think the market goes through these regular cycles between euphoria and the opposite of euphoria is depression and when there's euphoria no one cares about the valuation, they're really just looking at, you know, this It's a cool company, is it doing cool things? than you know what the financial statements look like, but if the financial statements also grow rapidly year after year, revenue grows rapidly, the most important thing is that those are the type of companies that attract attention and the type of things that me like, don't you know that these are already reasonably difficult things to understand, like you have to dig into the financial statements and determine which of them are cheaper and which one you want to own and it takes a long time to do that?

The quality of the business takes three to five years to solve. I think for the quality of the business to be more important than the price you're paying, so in the short term you know it's a voting machine, as they say, in the long term. Generally speaking, it is a weighing machine, but you may spend a long time waiting for the weighing machine to work. Do you have any personal advice on how to stick with it during those cycles? Well, what do you want? uh you want the world to know what you're doing so you have this external consistency bias that you have to stay consistent with what you're doing but that's a double edged sword because the world changes and you might be. go down with the ship and it's hard to know if you're doing the right thing and digging

deep

er or if you're, you know, a mistake with the manufacturer and the world is moving to a different place, but consistency bias is a good way to force yourself to do something and stick to it publicly, the other thing is because I'm data driven, I look at, you know, when I try it, I'm trying to decide whether something works or not, I'm looking at a very long data period and I can see the entire data set, people say accounting has changed and business has changed and people have changed, so that might not be appropriate, so I would say well, let's look at the last 20 years and then look at the last 25 years, let's look at the last 10 years and see in those time periods why we get paid better or it makes sense that the world has changed this way and that's how it's always going to be and I think because of the value in particular, you know, I could look at the, so I have a smaller micro background called deep and I set it to deep.

We got the deep control in June of last year and then upgraded to a smaller micro in October. and I could see in the small and micro universe that the returns were around six percent, which is huge in a sub 1 world, since it was sub 1 then, a world of 10 years plus the growth was like reaching 20 because they were just reinvesting at these very high rates and I thought, if this doesn't work, do I really care if this if the market doesn't recognize that these companies are not? Know? Do I care if they are not recognized and what form they would be?

What you recognize is getting that multiple expansion and you could calculate the performance assuming you don't get that multiple expansion, if the multiple stays the same you will outperform the market with those businesses so I think what you want is you want to be consistent with what you do. and you want to change very slowly by looking at the historical data and then you want to think what does it do, what does the opportunity set matter as a value, can I go through it and value it. things and part of the value is like what is a fixed number that I would be willing to sell this for here and another way to value something is to say what kind of return am I getting, what kind of growth am I getting here, that return? and growth work better than other alternatives I can consider, such as the market or expensive stocks, and inIn both cases I thought they were being unfairly punished and that the long-term data set had shown that there were many periods where we had gone in and out of a higher growth market and then back into a value market.

The thing about value is that it actually underperforms more often than it outperforms, it's just that when it outperforms it does better, so you have to be there during the periods when it performs and So knowing all those things made it a pretty easy decision for me, yes, fantastic and it seems that yes, from what I've seen you, you timed it pretty well when starting the deep fund to get lucky, that's the secret of this business, have luck, yes, but I think it's also important to keep in mind that you're doing the math behind the scenes and it's just one of those things that hits you over the head and says, how can this?

It didn't work well, it was getting to that kind of levels, the problem is in this business, everything is very short term, everything is judged in a very short period of time and there is a lot of randomness, so you can be right and you can look . like you're wrong for a long period of time and that's the hard thing for people because you know once you've been doing it for two or three years you think there's no way this thing I'm doing is Look well, the performance is so bad that I have to switch to what works right now of course that's a trap because that's what everyone does and that's why most people have returns that tend to be worse than the market with the time, yes, it's something like that.

Reminds me of Michael Barry and the big bet where all of his investors are very unhappy with him while he waits for it to fall apart. Very similar, I've never had that problem, but I can imagine it. how stressful was that, yeah how much time do you really spend? I mean why are both funds ETFs? They are not hedge funds where you deal with individual investors. How is that? I mean, are you taking calls from investors on a day to day basis or something or is it largely hands off now that everything is set up there's a lot of hands off there's also a lot of people reaching out all the time with questions about what you're doing or what they want to happen and I always answer as much as I can to the kind of legitimate questions, there's a lot, there's a lot of spam and trolling there too, if you're a loser guy, yeah, that's fair. enough you're um you're quite a veteran at this point you're um if toby

carlisle

even retires in courage I think it's probably a good time to come in because you're going to be the last one, yeah That's right, I want to be the last man standing, that was my plan, to be the last man standing, because just for a minute, you know, part of the to be an investor, you need power not so much.

I think it's useful to be contrarian, but you don't just want to be a lecture, you want to do the work behind the scenes to make sure the position is justified, but you don't want to be happy with that. you're far from the market or you know that it makes you sad that the crowd is with you, but having said all that, you know when you are, when you find these situations where you can train and you feel like you're right, like it's potentially It's a very good setup for some good returns, some outsized returns and you know there's some credit that goes to that, like Barry has done it a few times, now you know he did it with the big short that they made the movie with. about and then on gamestop you know he was in the game about 18 months before it all started so at some point Barry gets some credit for what he does but right now he's short on Tesla so we'll see how everything works.

Yeah we'll see how it goes, it's hard to say with the 90 day delay because it's also surprisingly short term, it may be here yeah, and I actually have a friend who also has a YouTube channel who cloned Michael Barry on Gamestop. so he's also a very happy man right now, yeah, one of the interesting things that you also do, I don't know, maybe there are other value investors that do it that I'm not very familiar with, I mean, Michael Barry is a good example, but you know people like Buffett and Pabraya are very open about not shorting stocks and I know you do a little bit of short selling, so how does that fit into your strategy?

Creating a short portfolio into a long portfolio is based on the model that I've built, so what kind of strength sorts everything into all of this and then the shorts aren't necessarily the reverse of the longs because it's not as much valuation that you want. . Being short just for the fact that you know something can be two times overvalued and continue under five, ten or twenty times and your signal doesn't improve when it happens, so the things I'm short are financial. angst statistical fraud manipulation of statistical learnings and then if we can come to a short valuation, I would like it to be extremely expensive on top of that and then I wanted to have negative cash flows and you know, a lot of debt, all of these things together mean that they have some short-term financing needs and therefore the market will support your asset.

You know how your stock sells and so the way I determine whether you're going to do it or not, I just look at the stock. done in the last 12 months, if it goes up 30 then they can probably shove a lot of stock down the market's throat, if it goes down 30 it's going to be a tough ask and they'll probably have to take another big cut to save those stocks so I use sort of I'm looking for fundamental issues with the company and a very overvalued share price and sort of a lack of momentum in the stock when all those criteria are put together, then that's pretty good. short like a portfolio um and then I keep them really small so you know it's pretty well known when when Gamestop blew up a lot of guys took off their shorts and uh it became hard to be that short for that period of time very briefly and so I had a fourth quarter disastrous last year because all the shorts piled up.

The first trimester wasn't so bad because I already ruled out the things that are shorter. um, I've never been to ground zero with all the shorts. We were getting into this stuff, um, but because everything sped up so much, I got caught even at the edges, the shorts rolled up and all the shorts tried to get out, you know, that pushes up the short positions, um , short positions, but then that reversed. this quarter so I don't mind selling short I think it's a I don't see why it's so different from being long other than it's a little riskier you need to keep the position shorter and they tend to They are slightly shorter positions and I reevaluate them periodically and we shoot them down if it goes against me.

This is the big difference between long and short. If the length goes wrong, you just lie in bed under the covers. and that problem solves itself, yeah that's not true with a short, it keeps becoming a bigger and bigger problem, but you have to have some kind of process around it, so I reduce it if it goes against me. I'm just downsizing the position all the time and it doesn't really matter if he starts running in my direction, he might start taking the position again so I just have to be very disciplined with them and I don't.

I don't worry too much about any individual position, I look at it more like a portfolio and I look at it as I look at it, like if the market goes down because of this kind of thing, it gets really toxic in a market that's going down, no one wants to hold things that are losing money and overvalued and poor quality balance sheets, so they go down more and that provides a little bit of balance to the long portfolio which would hopefully go down less because it tends to be net cash and therefore the real portion of That It's beta if you want, it's lower, it's like you have lower leverage in the market, that's the theory anyway, yeah, I got you and I'd be interested to hear maybe some updated thoughts from you on this because I saw some data. from aqr which I think you talked about initially about this value spread concept that is ungodly wide right now, do you think that's, uh, I mean, presumably it's the ideal environment to set up this type of strategy with the right hope? that that spread compresses over time, yes, so when I launched the strategy in May 2019, that was my argument at the time, the spread is so wide that the spreads just don't get as wide as they do right now, very , very. many times in the data, so I thought the risk here is that I would miss out, so I had to go for it, although ideally I would want to launch a value strategy closer to the bottom of the market, but that spread was so wide that "I thought there's a chance we could go through a Y2K scenario where expensive things just go down and are reduced by 80 or 90 percent.

The market could go down 50, but the value could recover here and it would be a disaster." if, as a type of value, you" We are not prepared to capture that performance. Turns out I was a little early and spreads have continued to widen over the two years I've been running the fund, though I think in the last three months or more. so the spread has started to close and you know I can, it feels good in the portfolio when it happens because it means both sides of the portfolio are up, which almost never happens, but I would like to see more of that.

I still think I still don't think we've really seen the end of the growth phenomenon because I think it really takes a big market crash to shake everyone up and remind them that there is risk because I think what we've seen over the last 12 months is that the market has gone up a lot and there have been so many of these 20 exchanges, you know if they are in cryptocurrencies or in these little games like stop or or some of these other more rising names it is that type of lottery ticket behavior that makes people I come back thinking that they can pick that lottery ticket, but when everything goes down a lot and you feel that pain for a long period of time, then I think March 2020 was like a sudden drop, it went down a lot, it was like an 87 fell very quickly, but what makes me nervous is more like, you know, if you go into a 2007 2009 2000 type scenario and 2002 Scenario where 18 months to two years go by where each rally sells off and a lower low is found until you can count them in 2000, 2007 or 2009, I think there were 15 rallies that were sold and you know you've been in it for two years and you're down 50 and all 15 rallies are sold, that's what makes people leave the game and you know it's the best time to be in, it's the best time to be in, yeah, 100 and I guess that's the kind of counterargument to that value differential would be um rates, bro, and that's, uh, that those higher stocks growth perhaps deserve higher multiples, potentially, do you buy that at all or do you think this is something that just has to compress over time?

Yeah, I don't really know. like the duration argument, where you think that higher growth stocks are like a longer-term bond, like a 30-year bond, and if you think that if you go back to your financial 101 class when you have a higher-term bond duration, it is much more sensitive to interest rates than a shorter duration bond and when you lower interest rates, which is what we have seen, you get the duration, long duration bonds go up much more, so stocks of growth because all cash flows are backend. loaded, they're not making anything now, they're going to make all their money in the future, they're more like those 30-year bonds, while the value stocks, which you can see right now, have a higher yield now that they're sort of like a shorter-duration, shorter-term bond, so they're much less sensitive to it, but they also tend to be a little bit, their businesses tend to be a little bit, you know, they're not.

Net borrowers tend to be, they tend to have cash and make money off of cash, so there are a lot of influences and impacts when trying to make this estimate in what way or how they are affected, so I think this is what you're looking at. you mean before aqr did this research where they looked at the slope of the interest rate yield curve, different interest rate levels, you know, using the 10 year bond, using different ones, they used everything they could. and they couldn't find anything. statistically significant there and I talked to Cliff, I asked him about this and I said it's a shame because it's one of those things that intuitively makes a lot of sense to me, but empirically you can't find any evidence, so you know what's going on. and he said at the time that I think I can brute force a response and I'm going to write a blog post instead of a formal academic paper that just shows how you can brute force a sensor, but it never comes out, so maybe he I can't show it, I wish it was as simple as that since they are tariffs, um, but then you know, if they are actually tariffs, then we also have a bit of a problem in the United States because that's what I do.

I don't think they can get tenure above two percent before all federal government revenueare consumed by interest payments on the debt, so it can't increase much, so the Fed like the Baj was supposedly independent of the uh, the diet or the Japanese government, but when it came time to support the jgbs, they had to step in and do that and I think the same thing will happen in the states, as you can see, tenure increased pretty quickly from when it was less than 0.6 and ran until I think it got to 1.7 or 1.8 or something like that , but I think the feds saw it get there and we'll just set that thing under two and it's been there for the last month, which is exactly the period of time where all my time value was going up and it just stopped.

As soon as that happened, we've been adrift for about the same period, yeah, it's a little scary every time you start comparing yourself to Japan, isn't it because that's a good place to be? It has been quite painful. and I and I don't think the states are the only ones that have money printed at global rates, yes it's definitely global on a much smaller scale here in New Zealand but with a pretty similar approach I think the Western world is in all. the western world is doing it, I mean everyone, everyone in the world, not just western China is doing it too, so I don't really know what the endgame is because I don't think anyone has done anything like this.

I was surprised before that it hadn't been reflected in inflation and it's one of the things I always ask the guys who come on my podcast who are more Austrian economic types or those who are worried about money. printing and inflation so you know what you've been printing all this, we've been printing all this money like globally, where it's all showing up and like no one really has a good answer so I don't think anyone really knows what's going on. at this point and I include myself in that group yes, well, it's an interesting movie to watch anyway, yes, you live in interesting times, it's the old Chinese curse, I think we're going to find out, yes, absolutely, absolutely, Hey, I'm just leaving. to move on to um, i was telling you that i think about this, but yesterday i posted a community post on youtube just to answer some subscriber questions, so if that's okay with you, i think we could jump to some of those, so um and We've actually already covered several of these, but we had a pretty good question about basically how many positions you have.

I think you tend to have about 30 positions in a portfolio. Is it that correct? Is there a reason why? The strategy does not suit more concentrated portfolios or more diversified portfolios. What is the reason behind the 30 stocks there? I wrote a book called concentrated investing where I went and looked at academic approaches to portfolio construction and they're all based on efficient criteria hypothesis of the markets and the idea is you know there was a period of time where we didn't have a sp 500 index fund. So how is the market replicated? What is the smallest number of positions you need in a randomly selected portfolio to sort? to match what the market does because it was not a trivial exercise to go and buy 500 shares, you had to go, it was better to take a sample and, from that research, they say that between 20 and 30 positions you get rid of all the idiosyncratic positions . risk and you have a randomly selected portfolio that should mimic market performance and then you know additional positions beyond that, it might be too expensive to place them now, the value guys have a completely different approach to this. one and their focus is basically what are the chances of a certain position blowing up wiping out the entire portfolio, so if you have one position you're gone, if you have two positions you know half your portfolio has blown up, three positions, it's a third of his portfolio, yeah, etc., I just looked at a survey of all the value investors we talked to, like you know Munger is very, very focused, but then look at what he's focused on, he's focused on Berkshire Hathaway, which has a very diverse number of holdings, yeah, so it's not as concentrated as it, as you know, might appear on the surface, but then I can test that as well so I can run my model again through all the data. and what I have.

What I found is that basically the main considerations are the type of volatility of the portfolio versus the returns and I just found out that 30 positions were for my model through the backtesting data that I had, gave me the best balance between performance and volatility so I can get higher returns if I reduce it to 20 positions or 15 positions or 10 positions but then you get this really alarming portfolio behavior where it might do nothing for three years and then it might go up three times in a year and it just has this very volatile return path, whereas if you get to 30 positions the volatility looks like the market, but the performance is a little bit better and I thought it's probably a pretty good balance and 30 or so what the academics They say it's what Graham said there are a lot of people smarter than me who have been doing it for years, for decades, they've joined in around 30, so it's really just a matter of taste, I thought.

It gave the best balance between performance and volatility, yeah, yeah, interesting, and presumably, as you say, once you start getting super super focused, presumably the performance must drop because you have these blowups if you have three stocks and stuff, well, I know I think potentially that's true. I think I'm lucky simply by the fact that the stocks I like to buy are ones that are pretty good and have pretty strong balance sheets, so there aren't too many of them. you donate there, so three or five they give you again, they only give you that, it's much more volatile like you, it's just your performance is dictated by what the three stocks in your portfolio do and you think, you know, there are three in the states where there are basically 3,000 stocks large enough to fill some sort of institutional portfolio.

You're saying I'm going to take three out of three thousand, so I'm going to take one-thousandth of the shares that are available at any given time. I think it is dificult. Even with 30 stocks, it's hard to tell the difference between the best value and the 30th because they are so idiosyncratic that the 30th position could catch a bid when you enter it and it goes up 35. or something like that, my thought process was that if one of these explodes, there will be a 3.3 percent hole in the portfolio and I can live with that, yes, you can survive that, yes, it's like Buffett calling himself the chief risk officer at Berkshire and the recent annual meeting , it's basically there, right?

I think that's the only way to approach it. I really think that's the secret: take care of his risk first and then take care of that. you take a lot of options off the table and then you go into the lowest risk type of portfolio and then you try to generate the highest return possible yeah yeah I like that okay the next question we have is from Stefan Do. do you have data on the effect of insider ownership on stock returns, yes, there has been one that has really been difficult for me to show whether it works or not because it makes a lot of sense that if you have a concentrated insider who knows what he is doing. you are doing that at least they will be aligned with you we are aligned with you as a shareholder the problem is that it does not seem that it is not easy to show it in the data and there is not a level of concentration that is significant.

I think probably the most important thing is what proportion of the share is relative to this person's net worth, yes, and that's not something that can be easily determined, so if something is like that, you know if it is if you have a share of three percent in a company. and you're the CEO, but it's like 99 of your net worth, I bet you're watching it very closely, yeah, but if you make 35 percent, you know you can't like it, can't you own a great part? but it's like a minuscule thing, it's a 100 million dollar company and you're worth 18 billion and you have a big hole, you're not particularly focused on what that position does, I've never found a good way to show it.

There are papers showing that there is an association between concentrated insider ownership and good performance, but in real time it is very difficult to disentangle and show it. I think a better metric is kind of a buyback metric because that gives them a catalyst for them to do something that you can see while they're buying back shares and if the company has the free cash flow to do that, that's kind of a test of that, in fact, are generating real actions. free cash flow instead of free cash flow with air quotes that then has to be reinvested in capital expenditures and if it is some kind of material buyback, then it has to be that the amount of shares that they are buying back relative to the The fundamentals of the business have to be proportional, so if you have a very expensive company that is buying back, they simply cannot buy back many shares because the shares are very expensive relative to the size of the company, whereas if the business is quite solid and generates a lot of cash, but they are very, very cheap, they can buy back, you know, 10 or 15 percent of the outstanding shares, which over a period of years is very important to the performance of the business. so I prefer buybacks to insider ownership.

I like insider ownership, but I think it works better if you're a discretionary investor and you find that there's a big CEO and he or she owns a lot of stock in the business, then that's probably a good sign, but it's not really a good sign. quantitative metric. Yeah, I agree that one of the stocks I've been looking at pretty closely over the last year was serious growth properties, and until recently you saw Buffett own about five percent, but it's like a 50 position. million dollars on a net worth of one hundred billion dollars, so where does he lose sleep at night?

Here the growth properties go up or down. I think probably not so much. I like what you're saying then. Next week, the next question we will have is from Karan Ghanani. Koran is actually the guy I mentioned before who cloned Barry into and at Gamestop about a year ago, so Quran is asking a Charlie Munger-style investment question and says, uh. What are the requirements to be a bad investor? Yes, then you will want to be very emotional every time something happens to your actions. Whatever the stock price does, that's how you, that dictates how it behaves, so if it goes up a lot, you buy. more if it goes down a lot, you buy it, you sell it and you want to have the highest possible leverage because that takes away that decision when it goes down a little bit, you just get your margin call and they throw you out, yeah, so emotion is really the enemy you have What to be, you want to dig into the fundamentals of the inside of the business rather than being dictated to based on the price and that's one of the good things that I really like about value is that before you look at the stock price, you can go and get financial statements or go to the drop down menu of your data provider, you can do your analysis, make your valuation of this and then you can go and see where the market is and a lot of times the market is right about where their valuation is or a little bit off. north, but occasionally you have a big discount and then all you have to do is every quarter or every six months, no matter how often they report updates. your valuation and seeing where the share price is is quite simple, very, very, a reassuring approach to the markets, I think it's peaceful, yes, absolutely, I like it, I know, Guy Spear, I think he's talked recently about His new hobby is simply not looking at stocks. market, so it's a pretty peaceful way to do it.

I do the same. I don't look at it while the market is open. I think that's enough to look at it when it's closed. I would not do it. Even look at it when it's closed, it's just that I have people who want to talk to me about how the portfolio is doing. I don't think that's acceptable, so I don't know, but I would love to be able to say that, yeah, yeah. Okay, next question is from Brad Kelner. What percentage of people who start using the multiple acquisition strategy do you think will stick with it for more than 10 years?

Well, it depends on when you start, if you start it in a time period where, you know when everything starts working then you're probably convinced that it works and if you start it in a time period where it's not working then you probably think that it doesn't work and so it's dictated by that and we've been through Yeah, I started it in 2015 and it's been probably the absolute best for that strategy and it's been a very difficult kind of six, five and a half difficult years in the last six months, they've been pretty good for that strategy, so I think um.

I think you know I have some people that have been with me for a very long period of time and that's you know they started when the strategy seemed a lot better and thenmany people came. In the meantime, but I think anyone who's joined over the last nine months has fired up inside, so it feels pretty good. Yes, it sure is fascinating to see the ebbs and flows in which people tend to invest their money now. I know, I'm blanking on the guest name, but you had some guests on the after hours value episode recently and you're

talking

about the um, the total, uh, the dollar waiter returns from the ark funds getting close to zero or maybe. even below zero right now and I think the arc innovation fund is up like fivex or something in the last seven years, that just shows those massive flows, it makes a lot of sense just when the market goes up more money goes into them and that's what drives the underlying strategy as well because the dollar is kind of so big relative to the companies that it invests in, it's recycling those cash flows into those companies, which increases returns and causes more money to flow. .

There's a great example from an investor, Ken Hebner, who ran this CGM focus fund, I think I wrote. about this in quantitative value i forget the exact time period but i say it was like 2000 2010 or 2001 to 2011 the cgm focus fund made 18 compounds during that time period and the average investor in cgm focus found they lost 11 compounds during that same period. of time and that's because when it goes up the money flows in, when it goes back out the money goes back out and when it goes up again the money flows back in, so people just stayed with it throughout the whole thing. that period. like 18 a year compounded, that's a gigantic return and he was the morning star manager of the decade even though the cash on cash returns on the fund for investors were negative, that's pretty horrible, some of the emotions that arise with these things, don't they?

It's a difficult game, yes, I heard something similar with um, I don't know if it was as dramatic, but with Peter Lynch and the Magallanes Fund I think something similar happened and I think you may have even mentioned it. On a podcast episode a while ago, you ran into a guy who actually did it in the right order and basically, like dollar cost averaging in pabrae mutual funds, he does it right, that's right, that's right, his approach. It was every time he went down, he gave him more money and because of that he outdid himself, which is really the only time I've heard of anyone doing that, but I've also noticed it in the funds that I manage when you know in depth they had this great race from October to February. without seeing any flows and then there was a morning Bloomberg article about this and it had all these flows, but of course, it's just in that period of time where you know, it just hasn't done anything for a month and so on. all that money is there, I feel like I really need to get some return now to get these people out there, you know, yeah, yeah, it's tough, it's tough, we have some questions about how your investment has been going.

The strategy has changed over time and I guess we kind of covered it earlier with some of the more net investments in the transition to a more quantitative approach and kind of the second part of that question which is, I guess you would run? a personal account exactly the same as the one you run, like what you are doing in the funds or is it a little more. Would you be more interested if you knew that individual companies are emerging and dabbling in some of those things as well? On a personal account, I have evolved over time.

I don't really know exactly how it happened, but I probably have more regard for the quality of the business as it progressed than I did in the past. I had a pa until I started running the ETFs because I just didn't think it was a good idea to have a pa with the ETFs and now I just invest in the ETFs, but before that, you know, my favorite strategy is like a jump or me I like to use options because options are, you know? I think if there are very few places where you have an advantage, we have a clear advantage, but as a valuable options person, I think you have a clear advantage because the options price tends to be based on mathematical models of black schools, and you know, That's not as simple as there is.

Everyone knows that the tails are thicker than the normal distribution of black shells would imply, so they are not perfectly priced on a black. shell model and you have a very wide bid offering, but having said that, as someone who values, you can often find these scenarios where it's a binary outcome and it's not a price like you know, on the one hand you lose, you know how much If you're going to lose, on the one hand, you can make quite a bit, so the price is wrong, if you do enough of those, you'll get a pretty good return, so in my dad I was doing that kind of thing and I was doing quite a bit good.

I would continue to do so. Do that so it's still basically exactly the same model that I use for my investments and all I would do is just take the list of large cap stocks and go through it and find the ones that had the lowest volatility the lowest intrinsic value the calculation of intrinsic volatility iv and that was often something that was a very good business, it just got too expensive in 2000 or you know it's too expensive at some point and it just drifted to one side for a long time over a period of time. , even though the underlying fundamentals were great and it was growing, it just takes so long for it to grow to its valuation and people get mad at it like it hasn't done anything for a long period of time, so I'm out of this stock or I'm just not going to bid on it and then I would find those things that I thought were trading cheaply, there's no volatility and then I would buy a two year jump, yeah, and that's the call option. which expires outside of 12 months and therefore you can often find them, they usually like January 20th.

The 23 are probably tradable now something like that so that's the kind of thing I just did original options trading and if there's a lot of volume I might sell a port to access it or something yeah that's really interesting , I guess, like a Microsoft or a Walmart or something like that would be like the classic example, some of those things, right, Walmart was one of my One of my big hits around 2015 was exactly that scenario, the underlying one was great, it had just gotten too expensive, suddenly it was very cheap and there was no volatility and it was funny that they were all pretty big stocks at the time.

It was a really good time to do it around 2015. I haven't done it since I haven't looked since 2019. Yeah, yeah, cool, okay, let's ask one last question because I know you'll have some thoughts on this. So this is a question from Greg Beaumont Buffett who highlighted in shareholder meetings that great companies may not exist in 30 years, but he also says to never sell great businesses, so how do you identify which of your businesses won't? ? Be strong 30 years from now and even if they have a moat, I'm guessing you're probably not someone who will hold a position for 30 years.

I understand you're rebalancing quite frequently, but do you have any thoughts on what the buffer was? Yeah, so I've been doing a big project in the background on exactly this question because I'm interested in never selling as a proposition and what I've been doing is getting that I can form a portfolio that goes back over 20 years and So normally you know what happens with the system is that you just tell it when to rebalance and it rebalances on a regular schedule and buys new shares, reduces everything to the same weight and then runs that portfolio for the time that you have specified. and I had to rebuild the system a bit to do this because it wasn't set up to do it, so the system now does this, so I've been playing with it for about six months, I was just interested in knowing what the criteria are that predict a very long holding like success over long holding periods and honestly it's difficult because you and I might agree that some quality things are like we would like to get a return on equity over 20 we might want margins big, fat brutes, very tall. returns on our invested capital and all that kind of stuff and you form a portfolio and you find that's all that's predictive, you know, up to about five years and not very predictive up to about five years.

The most predictive thing really is the initial valuation and that lasts about five years, but beyond that, you don't really care that much about the initial valuation, now you care more about the quality of the company, but you think about what happened as a company with a high return on invested capital over five years if you're earning 20 a year, so you're paying half and you're reinvesting half, meaning over a period of time you've reinvested more than a third of your money, It's a third bigger than it was or 50 bigger than it was and, um, it can be. quite a different business over that period of time, so it's not very difficult to predict which of them will work and which won't, so what I came up with is that you basically don't even think about the portfolio for the first five years, you just you shape it and let it run and at the end of the five years, if it is working and it is up, then you keep it and if it is not working and it is down, then you just liquidate it. that and those things that are going up, you know they tend to be like they're all the winners, right, they're all the things that are the famous stocks, so you end up with this portfolio for a period of time that looks like you.

I've bought all the winners over the last 20 years, which is exactly what you've done, you just trimmed, you just pulled out the weeds, but then I think about the way a lot of guys talk about how they form this way. an old war, a kind of Wall Street wisdom and that's one of the things they like to water the flowers and pull the weeds, which is exactly what the strategy does and you end up with this portfolio that anyone who knows what is doing can look at the portfolio and they'll say: oh wow, you have, you know, you have Microsoft, you have Netflix, you have Facebook, you have everything that worked and you really seem like you know it. what you're doing, but there's a little secret at the bottom of that: you're just letting your winners run and you know how to kill the things that don't work, so I find that you know a lot of things.

Things go back and forth in that portfolio too, like you have to be prepared to see something go up three times and then go back to zero. All of that is easy to do in backtesting and would be very difficult to do in real time. I don't know how you do it in real time, but it's kind of. I would love to see this in the wild. I would love to see this working. I just don't know if anyone has that. Yeah, you know, this, anyone has something like that. I don't know if you could really do it in real life.

I think you'd be too tempted to play with the portfolio because you're going to get there. There are some crazy overvalued things there and you're desperate to get them out of your wallet, you know, because you know they're too expensive, but five years later they went up another two or three times, so that would have been a mistake, it's just that it's difficult, it's very hard to do, yeah, you probably have to be the guy sitting here to do that kind of thing, that's all, you have to be Charlie, well, you just have to say we'll never sell, let's buy this stuff and I'll tell him to everyone from the beginning and you know that a lot of these things will be a wrong idea, but for some of them it will be a good thing, yeah, super. interesting, well I know you're a busy man Toby so I'll let you go, I really enjoyed chatting to you so for those who somehow haven't met you before, we can now, where can people go? follow what you're doing, yeah, I have a uh, my Twitter account is g-r-e-e-n-b-a-c-k-d.

I have a website adquirentesmultiple.com and my fund is the z-ig acquirers fund is the ticket and it spins until it acquires the deep value fund is the smallest micro and the ticker there is deep and any of that stuff, uh, you'll be able to reach me and send me a note if you want to chat great, that sounds awesome and I'll leave that whole link in the description of the YouTube video. and also the show notes on the podcast if you're listening to just the audio format, but um, Toby, thank you so much, hey, thanks so much for having me, Tom, and thanks for not mentioning the reds, all good, cheers.