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Best of: The 'Humble' Investor Says Sell Private Equity, Sell US Tech, Buy Polish Small Caps · Merryn Talks Money

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  Speaker 1: Bloomberg Audio Studios, podcasts, radio news.
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  Speaker 2: Hello Maren Talks Money listeners. Before we come back with
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  Speaker 2: our new shows next week, wanted to republish another of
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  Speaker 2: my favorite episodes from the year. It's a conversation with
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  Speaker 2: Daniel Ramerson, founder of Verdad Advisors and author of The
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  Speaker 2: Humble Investor, How to Find a Winning Edge in a
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  Speaker 2: Surprising World. We talk about the book, where he thinks
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  Speaker 2: all forecasts are wrong, and his take on us TECHTOCS
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  Speaker 2: and artificial intelligence. Enjoy Welcome to Meren Talks Money, the
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  Speaker 2: podcast in which people who know the markets explain the markets.
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  Speaker 2: I'm Meren Sunset Work. This week I'm speaking with Dan Rasmussen,
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  Speaker 2: founder of the investment management firm Verder Advisors. Before starting Verda,
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  Speaker 2: Dan worked at Baine Capital, Private Equity and Bridgewater Associates.
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  Speaker 2: And he's got a book coming out which I have
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  Speaker 2: read already, called The Humble Up, How to Find a
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  Speaker 2: Winning Edge and a Surprising World. It's available for pre
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  Speaker 2: order now and out in bookstores in early February. I
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  Speaker 2: strongly recommend that you order it. The underlying theme, as
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  Speaker 2: Dan puts it, is the future is hard to protect
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  Speaker 2: vctually impossible to predict so don't assume you really know anything.
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  Speaker 2: The best approach is a humble one. The best investment
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  Speaker 2: opportunities come to you when you can see other people's arrogance,
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  Speaker 2: identify where they are too confident, be they too optimistic
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  Speaker 2: or too pessimistic. We're going to get into all that,
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  Speaker 2: plus his thoughts on investing during stock market bubbles are
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  Speaker 2: we in one now by the way, European and UK equities,
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  Speaker 2: Japanese equities, and what he is most bullish on. Dan,
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  Speaker 2: Welcome to Marin Talk's Money.
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  Speaker 1: Thanks for having me.
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  Speaker 2: It's a pleasure now. I am excited to have been
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  Speaker 2: one of the first outsiders to have read your book.
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  Speaker 2: I finished it this morning and it is excellent, And
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  Speaker 2: as I said to you before we started talking, it
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  Speaker 2: fits with so many of my biases that I particularly
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  Speaker 2: enjoyed it. Every page and affirmation of thoughts I have already.
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  Speaker 1: Nothing works passes, Oh.
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  Speaker 2: God, absolutely absolutely. We'd be having a different conversation if
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  Speaker 2: I'd gone through the book going no, that's not what
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  Speaker 2: I think already. Don't try and persuade me about things
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  Speaker 2: like that. Now. I wanted to start. I see at
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  Speaker 2: the very beginning of the book, what you talk about first,
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  Speaker 2: which is this idea? And it's particularly important this time
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  Speaker 2: of year, by the way, when we are overwhelmed, not
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  Speaker 2: me by forecasts from everybody in the market about what
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  Speaker 2: they think is going to happen in the coming year.
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  Speaker 2: And we know, we know you, and I am pretty
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  Speaker 2: much everyone else in the market from my years of experience,
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  Speaker 2: that every single one of those forecast is wrong, well
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  Speaker 2: not all of them, they'll be one in the middle
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  Speaker 2: by happen chance that is correct. So I wanted to
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  Speaker 2: start by talking about that forecasts, you say, fore costs
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  Speaker 2: meet reality.
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  Speaker 1: It's probably the single idea that most changed my career,
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  Speaker 1: which was, you know, I started out in investing, like
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  Speaker 1: many of us, do you know, building these discounted cash
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  Speaker 1: flow models, the LBO models that forecast revenue and profits
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  Speaker 1: years into the future. And there was so much emphasis
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  Speaker 1: put in on getting these Excel models right right, or
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  Speaker 1: you know whatever right, meant that I never stopped to ask,
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  Speaker 1: how good are we predicting what's going to happen three
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  Speaker 1: or four years from now and the side and I didn't.
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  Speaker 1: I didn't start out and I didn't study finance or
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  Speaker 1: accounting or economics, and undergrad and so when I started
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  Speaker 1: work in investing, I talked to my sister and a
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  Speaker 1: few other folks who are in the business, and they said, well,
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  Speaker 1: wanted to go read as much as you can, And
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  Speaker 1: so I started reading all these books about theory and
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  Speaker 1: academic research and investing. And one of the ideas that
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  Speaker 1: I came upon was phil Tetlock's work on forecasting, and
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  Speaker 1: Tetlock finds that experts in their fields are no better
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  Speaker 1: than non experts at forecasting things, even in fields in
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  Speaker 1: much they're experts, and the only difference is that they're
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  Speaker 1: more arrogant about it. And I said, you know, gee,
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  Speaker 1: I wonder if our growth forecasts are are right? You know,
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  Speaker 1: how would I sort of figure this out? And I've
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  Speaker 1: done a variety of studies since having that original question,
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  Speaker 1: and the answer that I've come to is that our
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  Speaker 1: forecasts are really bad. At we really don't know much
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  Speaker 1: about the future, and the farther into the future we
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  Speaker 1: try to peer, the worse we get. In fact, Andre
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  Speaker 1: Schlipher at Harvard has done this wonderful study where he
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  Speaker 1: shows that long term growth forecasts are actually a perfectly
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  Speaker 1: negatively correlated with stock market returns. In other words, the
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  Speaker 1: more optimistic you are about long term growth, it's actually
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  Speaker 1: a totally contrarian signal. Now short term growth, you know,
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  Speaker 1: next year, for example, there's a little bit more accuracy.
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  Speaker 1: People have some good, decent chunk of ability to forecast. Okay,
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  Speaker 1: when we're talking about revenue or EBIT das for example,
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  Speaker 1: or profits, you know what's going to happen in twenty
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  Speaker 1: twenty five. The problem is that it doesn't actually help you.
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  Speaker 1: So I just finished this wonderful study where in Japan
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  Speaker 1: almost all companies are required to issue one year forward
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  Speaker 1: guidance on revenue and net income, and so you can
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  Speaker 1: take you know, I took twenty years of this data
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  Speaker 1: and said, you know, how accurate are they? And then
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  Speaker 1: what does it mean for the stock prices? And what
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  Speaker 1: I found is that if you divide it into slow, medium,
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  Speaker 1: and high growth on a one year forward basis, Japanese
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  Speaker 1: companies are about fifty percent accurate. So thirty percent would
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  Speaker 1: be pure chance, you know, one hundred percent would be
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  Speaker 1: totally accurate, fifty right, the other That sounds good, It
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  Speaker 1: sounds okay, right. But the challenge then is if you say, okay, well,
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  Speaker 1: let's say you're forecasting really high. You know, you then think, oh,
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  Speaker 1: I should buy all the companies that are forecasting really
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  Speaker 1: high growth because you know, if they achieve that growth,
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  Speaker 1: it's going to be great. Well, it turns out that
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  Speaker 1: the companies that achieve high growth have sort of average returns. Right.
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  Speaker 1: They forecast high growth and they achieve high growth, and
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  Speaker 1: they have average returns because that high growth was priced
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  Speaker 1: in with the time the guidance was issued. But the
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  Speaker 1: fifty percent of the time those companies that forecast high
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  Speaker 1: growth don't have high growth, their stocks collapse and so
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  Speaker 1: you end up doing worse in the companies that forecast
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  Speaker 1: high growth or about you know, average and total, but
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  Speaker 1: a little bit worse. Whereas if you go to the
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  Speaker 1: companies that are forecasting low growth, yeah, fifty percent of
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  Speaker 1: the time they hit low growth, right, But then when
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  Speaker 1: they do, the stock returns out average, they re turned
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  Speaker 1: the same as the high growth firms that achieved high growth.
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  Speaker 1: But when the slow growth firms achieved high growth, which
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  Speaker 1: they did fifty percent of the time, their stocks do
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  Speaker 1: really well.
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  Speaker 2: Okay, So knowing the growth thumbs in advance doesn't help
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  Speaker 2: you any even if you did. And is it also
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  Speaker 2: true to say that over those very short periods, so
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  Speaker 2: over a year or so. What we're not necessarily saying
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  Speaker 2: is that anyone is particularly good at forecasting anything out
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  Speaker 2: over a year. What we're saying is that people are
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  Speaker 2: jolly good at extrapolating the future, the short term future,
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  Speaker 2: from the past, and unless something goes wrong, it's quite
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  Speaker 2: likely that the next year will be similar to the
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  Speaker 2: previous year exactly.
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  Speaker 1: And this is where things get that quite interesting, because
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  Speaker 1: I think you're exactly right, Marion, that the way people
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  Speaker 1: form their forecasts is they look at the recent past
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  Speaker 1: and they extrapolate that forward. That's the most common forecasting
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  Speaker 1: method in markets, which is why you see all the
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  Speaker 1: S and P five hundred forecasts for next year cluster
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  Speaker 1: around exactly what the S and P five hundred day
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  Speaker 1: last year. And there's a wonderful study that I updated
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  Speaker 1: have done, you know, through for the last twenty years
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  Speaker 1: of data, where I look at the level and persistence
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  Speaker 1: of growth rates, and so you basically say, okay, let's
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  Speaker 1: look at every you know, every company's trailing growth over
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  Speaker 1: you know, let's say a one year, three year, five
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  Speaker 1: year period. Does that forecast their growth rate over the
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  Speaker 1: next one, three or five years, and what you find
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  Speaker 1: is that revenue on a one year basis is a
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  Speaker 1: little bit forecastable, and then everything else is total chance.
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  Speaker 1: It's just pure coin flips. There's no relationship between past
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  Speaker 1: and future growth. And that's probably the single hardest thing
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  Speaker 1: for people to understand because it's just so against our views,
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  Speaker 1: right because if you said, well, gee, Microsoft and I
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  Speaker 1: don't know the gap, or some apparel retailer I'm trying
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  Speaker 1: to think of something very boring have an equal chance
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  Speaker 1: of having high growth over the next five years, you'd say,
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  Speaker 1: come on, that's absolutely notty. There's no way that that's true.
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  Speaker 1: But statistically it is true. And I think that when
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  Speaker 1: you start to understand that, and you can buying that
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  Speaker 1: with the insight about what's priced in and what's not,
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  Speaker 1: you start to see how the importance of understanding the
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  Speaker 1: structure of forecasts is to being a good investor, because
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  Speaker 1: I like to say that investing is not a game
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  Speaker 1: of analysis, it's a game of meta analysis. It doesn't
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  Speaker 1: matter what you think, it matters what you think relative
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  Speaker 1: to what the market thinks, and so you need to
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  Speaker 1: understand what other people are forecasting, knowing that everyone else
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  Speaker 1: is forecasting, and then you have to think, well, what
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  Speaker 1: if they're wrong? You know, how would I make money
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  Speaker 1: if they're wrong? And that I think is my sort
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  Speaker 1: of key to unlocking or starting to think about what
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  Speaker 1: should work as an investing strategy based on behavioral economics.
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  Speaker 2: Yeah, I mean it's not just we'll come back to that.
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  Speaker 2: I've wanted to talk about an anecdote that you had
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  Speaker 2: in the beginning of the book about the weather and
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  Speaker 2: because one of the things that we often talk about
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  Speaker 2: is why don't we bother with these forecasts? I mean
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  Speaker 2: this not just at the company level, but at the
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  Speaker 2: inflation level, GDP level, interest rates, etc. They're always wrong,
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  Speaker 2: and we have these GDP full costs come out over
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  Speaker 2: and over from all our governments selling us GDP is
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  Speaker 2: going to be whatever it is with a couple of
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  Speaker 2: decimal points off to it. And we look at him
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  Speaker 2: like that it's a nonsense. We know it's nonsense. Why
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  Speaker 2: do we listen? So tell us this lovely little weather
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  Speaker 2: anecdote from from the book which explains it.
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  Speaker 1: Yeah. So this is ken Aarr, the famous economist, was
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  Speaker 1: in the weather core in World War two, uh and
• 9:20
  Speaker 1: being the genius that he was he's and by the way,
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  Speaker 1: that the Weather Core asked for one year forward weather forecasts, uh,
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  Speaker 1: and so so they could plan troop movements and things
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  Speaker 1: like that, you know, when of the road's going to
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  Speaker 1: be too muddy, when they're once they're going to be
• 9:34
  Speaker 1: snow by day. And so he was tasked with creating
• 9:37
  Speaker 1: these and and you know, he did a little bit
• 9:39
  Speaker 1: of research and he found, you know, these these forecasts
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  Speaker 1: are completely wrong. They're completely useless, and so we just
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  Speaker 1: stopped doing them. And I'll just send you the historic
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  Speaker 1: average table and just use that. And he sends a
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  Speaker 1: note to the General and and and and saying, you
• 9:53
  Speaker 1: know that the laying out his argument, and he gets
• 9:55
  Speaker 1: a one sentence one back, and it says, you know,
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  Speaker 1: the General knows that the forecasts are useless, but he
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  Speaker 1: needs them for planning purposes.
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  Speaker 2: And that that's exactly it isn't it. We need something
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  Speaker 2: to anchor what we're doing around even if we know
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  Speaker 2: it's wrong. We need the anchor.
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  Speaker 1: We need some way to plan. And even if we're
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  Speaker 1: not doing it consciously, we're often doing it subconsciously. And
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  Speaker 1: so you need some alternative way of thinking. And I
• 10:23
  Speaker 1: think you know a lot of the research on forecasting
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  Speaker 1: suggests that the best way to make forecast is to
• 10:29
  Speaker 1: use base rates. Right, So you take a long historical
• 10:32
  Speaker 1: time and you sort of say, what's the average over
• 10:35
  Speaker 1: this long period of time, and that's generally the best
• 10:38
  Speaker 1: you're going to get. And so I think that in
• 10:41
  Speaker 1: my mind, the game of investing, the way to make
• 10:43
  Speaker 1: good investment decisions is, on the one hand, to take
• 10:45
  Speaker 1: those base rates, to study history to understand what the
• 10:49
  Speaker 1: context is over a long period, not one year, not
• 10:51
  Speaker 1: three years, but what's a ten twenty year context, and
• 10:55
  Speaker 1: what's the sort of distribution of potential outcomes, And then
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  Speaker 1: to secondarily to say, because we know everyone else's planning,
• 11:01
  Speaker 1: we know everyone else's forecasting, where are they concentrating their
• 11:05
  Speaker 1: excessive optimism and their excessive pessimism, And those are the
• 11:08
  Speaker 1: places where we're likely to be able to find an
• 11:13
  Speaker 1: arbitrage just betting that nobody knows, right, Like, nobody knows
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  Speaker 1: is AI going to truly revolutionize the economy, or is
• 11:20
  Speaker 1: that one trillion these companies are spending going to be
• 11:23
  Speaker 1: a waste of money. Maybe no one knows, you know,
• 11:26
  Speaker 1: And if no one knows, you know, what's the bet
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  Speaker 1: that we.
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  Speaker 2: Should make Yeah, if everyone else is betting that they will,
• 11:32
  Speaker 2: but we know that nobody knows, then we should bet
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  Speaker 2: that they won't exactly. And that brings us to this
• 11:37
  Speaker 2: idea of investing being not a game of analysis, is
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  Speaker 2: a game of meta analysis.
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  Speaker 1: That's right.
• 11:41
  Speaker 2: It's all about the relativity, all right. So with that
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  Speaker 2: in mind, that would make almost all the models that
• 11:47
  Speaker 2: we use at the moment irrelevant. I'm one of one
• 11:50
  Speaker 2: of the models that you talk about in the book,
• 11:52
  Speaker 2: the dividend discount model the Way of Investing, by saying,
• 11:55
  Speaker 2: you know, every company, every egguity is worth the value
• 11:58
  Speaker 2: of all the dividends it'll be paid to the owner
• 12:00
  Speaker 2: of that equity in the future. And people spend hours
• 12:03
  Speaker 2: on these models, don't they days days working out has
• 12:06
  Speaker 2: actually worked, But as they have absolutely no idea whatsoever
• 12:10
  Speaker 2: what those dividends are going to be, the final number
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  Speaker 2: they come up with is nonsense.
• 12:14
  Speaker 1: Call before you do the company. You know, you're the
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  Speaker 1: world's leading expert on you. So just tell me what's
• 12:20
  Speaker 1: your year end bank balance going to be in twenty
• 12:22
  Speaker 1: thirty And by the way, what's your income pre and
• 12:24
  Speaker 1: post You know, your pre tax and post tax income
• 12:27
  Speaker 1: exactly for the next five years and just model that first.
• 12:30
  Speaker 1: And if you can't do that accurately, you know, why
• 12:32
  Speaker 1: do you think you can do it for Coca cola?
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  Speaker 2: Yeah right, Okay, interesting, So it's let's go move then
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  Speaker 2: to what you think might work. So if none of
• 12:45
  Speaker 2: these models that most people use, that everyone who has
• 12:48
  Speaker 2: an MBA ETCA sits around making these breadsheets all day,
• 12:51
  Speaker 2: none of these work. What does? And the thing that
• 12:53
  Speaker 2: you say is that one thing that never changes and
• 12:56
  Speaker 2: you can extrapolate from is human psychology, which brings us
• 12:59
  Speaker 2: back to this idea of the meta analysis. And in
• 13:04
  Speaker 2: this section of the book, you use the analogy of
• 13:06
  Speaker 2: ships because you spent some time observing how shipping works. Right,
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  Speaker 2: And this is one of my colleagues when I was
• 13:12
  Speaker 2: first starting as a broker, explained this to me in
• 13:14
  Speaker 2: terms of of chips, in terms of semiconductors, but you
• 13:16
  Speaker 2: do it much better with ships.
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  Speaker 1: Well, it's a wonderful paper by a consulting economist here
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  Speaker 1: for dad Sam Hansen as oppressor at our business school.
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  Speaker 1: Really brilliant guy, and I love the shipping industry. Actually
• 13:29
  Speaker 1: spent a summer in college working at a Greek shipping company,
• 13:31
  Speaker 1: and I find that endlessly fascinating of the personalities involved
• 13:35
  Speaker 1: and the dynamics and the way it interacts with global trade.
• 13:39
  Speaker 1: I mean, it's just so cool. But there's this fascinating
• 13:41
  Speaker 1: insight that these economists have by looking at shipping companies.
• 13:45
  Speaker 1: And what happens is that shipping rates are very variable, right,
• 13:49
  Speaker 1: so sometimes it's very expensive to ship rate. Sometimes it's
• 13:52
  Speaker 1: very cheap when rates are very high, and you plug
• 13:56
  Speaker 1: those rates into a model of whether you should invest
• 13:59
  Speaker 1: in a new ship or not. It turns out that
• 14:02
  Speaker 1: investing in a new ship looks really profitable whenever shipping
• 14:05
  Speaker 1: rates are high, and so people plug these into their model. Now,
• 14:09
  Speaker 1: the challenge is that it takes three or four years
• 14:11
  Speaker 1: to build a new ship, and so these Greek shipping
• 14:14
  Speaker 1: companies they see the high rates and then they go
• 14:18
  Speaker 1: and they order ships from these South Korean shipyards, and
• 14:21
  Speaker 1: then three or four years from now, the ships are delivered.
• 14:24
  Speaker 1: And what ends up happening And he calls this competition neglect,
• 14:28
  Speaker 1: which I think is such a wonderful and relevant term
• 14:30
  Speaker 1: to what's going on in AI. By the way, competition neglect,
• 14:34
  Speaker 1: they don't realize that all their other buddies also ordered
• 14:37
  Speaker 1: ships at the same time, because they all also did
• 14:39
  Speaker 1: the same math, and they plugged the same shipping rates
• 14:42
  Speaker 1: and the same cost to build a ship. And so
• 14:44
  Speaker 1: there's this lot of ships that then show up on
• 14:46
  Speaker 1: the market, all at the same time, three or four
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  Speaker 1: ears down the road, and all of a sudden, shipping
• 14:51
  Speaker 1: prices crash because there are too many ships. And so
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  Speaker 1: you see the competition neglect. The inability of these shipping
• 15:00
  Speaker 1: companies to anticipate that their competitors are doing the same
• 15:03
  Speaker 1: thing is what's exacerbating the cycles and driving shipping rates
• 15:08
  Speaker 1: too high and then too low, and then too high
• 15:10
  Speaker 1: and then too low, and then everyone seems to be
• 15:12
  Speaker 1: getting burned at the same time. And I think that
• 15:14
  Speaker 1: that's such a wonderful analogy to what's going on in markets.
• 15:18
  Speaker 1: Right you sort of say, wow, like AI is such
• 15:20
  Speaker 1: a great opportunity, I should buy into it. What if
• 15:23
  Speaker 1: somebody else figure this out before me, or what if
• 15:25
  Speaker 1: the fact that I thought it means that everyone else
• 15:28
  Speaker 1: is thinking at the same time.
• 15:29
  Speaker 2: So do you think that there is overinvestment in AIO,
• 15:33
  Speaker 2: too many companies investing at the same time and the
• 15:35
  Speaker 2: same things, like the ships, Well, I think there has.
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  Speaker 1: To be, right. I mean, you just think about how
• 15:39
  Speaker 1: many of these AI companies there are. All of them
• 15:42
  Speaker 1: are trying to build pretty much the same thing as
• 15:44
  Speaker 1: far as I can tell. And I think there are
• 15:47
  Speaker 1: a few things that are are are clear, right, Like
• 15:50
  Speaker 1: we can study the history of the Internet, and one
• 15:52
  Speaker 1: of the things that we observed that tends to be
• 15:54
  Speaker 1: winner take all the best model tends to work. Google
• 15:58
  Speaker 1: wins search, Amazon winds retail, you know, Microsoft winds productivity.
• 16:03
  Speaker 1: So why should we think that AI will be twenty
• 16:06
  Speaker 1: percent chat GBT twenty percent, Gemini twenty percent, right, like
• 16:10
  Speaker 1: Claude twenty percent anthropic. It just is it's not plausible
• 16:14
  Speaker 1: based on the history of the of the of the
• 16:18
  Speaker 1: tech industry.
• 16:18
  Speaker 2: And we can't choose them, and we can't choose the winner.
• 16:21
  Speaker 1: And we can't pick the winners. So like, some of
• 16:23
  Speaker 1: these things are just incinerating capital, right, They've got to be,
• 16:26
  Speaker 1: Like probably probably all but one of them are incinerating capital.
• 16:31
  Speaker 1: We just don't know which of them is incinerating capital,
• 16:33
  Speaker 1: which of them are, and which of them aren't.
• 16:35
  Speaker 2: And does that mean that as investors we should avoid
• 16:37
  Speaker 2: all of them?
• 16:38
  Speaker 1: I think so. I think they're all terrifying that there's
• 16:41
  Speaker 1: too much hype, too much optimism. How long have we
• 16:44
  Speaker 1: thought that we would have robots that could think like us? Right? Like,
• 16:47
  Speaker 1: this isn't no idea. Humans of are perpetually attracted to
• 16:50
  Speaker 1: the idea of anthropic robots that can speak and think
• 16:54
  Speaker 1: like us. And every time we've tried to do it, it
• 16:56
  Speaker 1: has worked, and it's not going to work this time.
• 16:58
  Speaker 1: I don't think why do we think?
• 16:59
  Speaker 2: Why do you think we're attracted to it? Is it
• 17:00
  Speaker 2: because we're lazy and we're just hoping to be able
• 17:03
  Speaker 2: to invent something that can do everything for us?
• 17:06
  Speaker 1: Well, it's the It's the ultimate vanity to create something
• 17:10
  Speaker 1: in your own image, isn't it the closest complex?
• 17:15
  Speaker 2: Okay? One of the tiny questions not that any.
• 17:18
  Speaker 1: Of our friends in the tech industry.
• 17:19
  Speaker 2: Of god Cox absolutely this idea about the measure analysis,
• 17:24
  Speaker 2: What does that lead us to? What does that tell
• 17:26
  Speaker 2: us about how we can actually invest? How can we
• 17:29
  Speaker 2: really do it? What works?
• 17:31
  Speaker 1: Yeah? So I think that if we step aside and
• 17:33
  Speaker 1: we say, gee, you know, forecasting doesn't work and the
• 17:37
  Speaker 1: future is too unpredictable and actually markets are too volatile,
• 17:41
  Speaker 1: which is another thing. This is what Robert Schiller won
• 17:44
  Speaker 1: the Nobel Prize for us, this idea of excessive volatility,
• 17:47
  Speaker 1: which Schiller did so brilliantly. You know, if the dividend
• 17:50
  Speaker 1: discount model is right, and the net present values equal
• 17:54
  Speaker 1: to some of the future cash flows uh discount by
• 17:57
  Speaker 1: the interest rates, and if we know future cash flows
• 17:59
  Speaker 1: and we know future we can tell you what the
• 18:01
  Speaker 1: net present value of the stock market should have been
• 18:03
  Speaker 1: at any given time and how much it should have
• 18:06
  Speaker 1: moved as those things changed. And he finds that about
• 18:11
  Speaker 1: eighty plus percent of stock market volatility is inexplainable by
• 18:14
  Speaker 1: changes and fundamentals.
• 18:15
  Speaker 2: Okay, so even if you had the information for the model,
• 18:18
  Speaker 2: it still wouldn't work exactly.
• 18:21
  Speaker 1: Even with full pressions, you can't explain a very high
• 18:24
  Speaker 1: percentage of volatility. And so where is this excess volatility
• 18:27
  Speaker 1: coming from? And I love this theory by this Stanford
• 18:31
  Speaker 1: professor Mordecai Kurtz, and he comes up with this theory
• 18:35
  Speaker 1: that what's happening is that everybody's making forecasts and then
• 18:39
  Speaker 1: the future happens, and eighty percent of people realize they're wrong,
• 18:43
  Speaker 1: and so they sell and they buy something else, and
• 18:45
  Speaker 1: then they make new forecasts and then the same thing happens, right,
• 18:48
  Speaker 1: and it's that dynamic and he should use some fancy
• 18:52
  Speaker 1: match so that could explain it. All. Right, that's what's
• 18:55
  Speaker 1: going on. And I think what I sort of love
• 18:57
  Speaker 1: about that idea. And we're so focused on efficient market theory,
• 19:01
  Speaker 1: and efficient market theory is so many wonderful implications, right,
• 19:05
  Speaker 1: and it's so useful. But I think one challenge to
• 19:07
  Speaker 1: efficient markets theory is that it often gets interpreted as
• 19:10
  Speaker 1: the price is always right. But anybody who's actually invested
• 19:14
  Speaker 1: in markets at any point knows how frequently they make mistakes.
• 19:19
  Speaker 1: And not only how frequently they make mistakes, but how
• 19:21
  Speaker 1: frequently the market seems to make mistakes. Right. I mean,
• 19:23
  Speaker 1: how could a stock be down thirty percent in a
• 19:27
  Speaker 1: day if it wasn't a mistake yesterday? Right? I mean, like, yes,
• 19:30
  Speaker 1: the new news came out, but clearly the market didn't
• 19:32
  Speaker 1: get that right, otherwise the price wouldn't have moved as
• 19:34
  Speaker 1: much as it did. And I think trying to reintroduce
• 19:37
  Speaker 1: this idea of mistakes back into our vocabulary when we
• 19:40
  Speaker 1: talk about markets and make it more human. Right. Of course,
• 19:43
  Speaker 1: mistakes are an integral component of investing. How could they
• 19:47
  Speaker 1: not be How could anybody who's ever experienced markets not
• 19:49
  Speaker 1: know the mistakes are part of things? And how is
• 19:52
  Speaker 1: that therefore driving rebalancing decisions? And then how can we
• 19:55
  Speaker 1: as investors think through if other people are making mistakes,
• 19:57
  Speaker 1: if we're making mistakes, how should we build portfolios that
• 20:00
  Speaker 1: take into account the idea that we are going to
• 20:03
  Speaker 1: make mistakes and that everyone else is making mistakes too,
• 20:05
  Speaker 1: and that that's part of the dynamics of what's driving
• 20:08
  Speaker 1: market volatility.
• 20:10
  Speaker 2: Okay, so what's the answer? How are we going to
• 20:11
  Speaker 2: build that portfolio?
• 20:13
  Speaker 1: What we're looking for is some barometer of optimism or pessimism, right,
• 20:17
  Speaker 1: could if we could just have some barometer of how
• 20:19
  Speaker 1: optimistic or pessimistic the market was about an individual security
• 20:22
  Speaker 1: about the market as a whole, gee, then we'd be
• 20:24
  Speaker 1: in very good stead because we'd have a very good
• 20:26
  Speaker 1: way of saying, you know, here's the stuff that's too
• 20:28
  Speaker 1: extreme on one end or the other and going long
• 20:30
  Speaker 1: or short that it turns out, in fact that we
• 20:33
  Speaker 1: have a very simple metric for doing that. And in
• 20:36
  Speaker 1: the stock market, it's valuations. Right, you can pick almost
• 20:39
  Speaker 1: any multiple, right, revenue multiples or book multiple and you
• 20:42
  Speaker 1: can erase to hooks on a on a ranking system,
• 20:47
  Speaker 1: and you'll find that the ones that are the cheapest
• 20:48
  Speaker 1: end up doing the best and the ones that are
• 20:50
  Speaker 1: the most expensive end up doing the worst. And that
• 20:53
  Speaker 1: value reliably predicts stock returns. And in fact, over the
• 20:57
  Speaker 1: last few years it hasn't in the United States. We
• 21:00
  Speaker 1: should talk about why, but it has even internationally people
• 21:03
  Speaker 1: have declared the death of value investing. But value investing
• 21:07
  Speaker 1: are the idea of ranking stocks by their relative optimism
• 21:11
  Speaker 1: or pessimism and going along and things other people are
• 21:13
  Speaker 1: pessimistic about and short things they're optimistic about should work.
• 21:17
  Speaker 1: And I think you can also, and we should talk
• 21:18
  Speaker 1: about this separately, apply that to thinking about whole markets
• 21:22
  Speaker 1: and whole economies. But I think in the context of
• 21:25
  Speaker 1: single stocks, what we've seen over the last few years
• 21:28
  Speaker 1: has been some of the worst performance of value investing
• 21:31
  Speaker 1: over its history. The last time it did this badly
• 21:33
  Speaker 1: was in the late nineties during the tech bubble, and
• 21:36
  Speaker 1: so we have to reckon with that, right, So I
• 21:38
  Speaker 1: think it's all well and good for me to argue
• 21:40
  Speaker 1: that we should use valuation ratios as a metor optimism
• 21:44
  Speaker 1: or pessimism and that we should be long things other
• 21:46
  Speaker 1: people are pessimistic about. And there's an intuitive logic to that,
• 21:49
  Speaker 1: but there's also grappling with the fact that that hasn't
• 21:52
  Speaker 1: worked recently in the United States. Again, it has worked internationally,
• 21:55
  Speaker 1: it has worked in the US, and so why And
• 21:57
  Speaker 1: actually there was a period from COVID until the release
• 22:01
  Speaker 1: of chat GBT when it did work, and then chat
• 22:04
  Speaker 1: GBT just totally new to value investing again. And so
• 22:08
  Speaker 1: what I like to say about value investing what's going
• 22:10
  Speaker 1: on in the market today is that we've had a
• 22:13
  Speaker 1: period from in the twenty tens where there were a
• 22:17
  Speaker 1: very small number of companies where they were forecasts grow fast,
• 22:22
  Speaker 1: and then they grew faster than the forecast, and they
• 22:24
  Speaker 1: did that a few years in a row. That was
• 22:27
  Speaker 1: the sort of fan mag stocks, as they were called them.
• 22:30
  Speaker 1: What is that a tribunal too, I'd say it was
• 22:32
  Speaker 1: an innovation wave. And these innovation waves happen. They do.
• 22:36
  Speaker 1: They happen with the Internet, they happen with railroads, and
• 22:38
  Speaker 1: when they happen, they are these abnormal profit pools that
• 22:41
  Speaker 1: are earned by the innovators. Now that doesn't last that
• 22:44
  Speaker 1: long because at some point the customers need to benefit
• 22:46
  Speaker 1: more than the innovators, and at some point the innovation
• 22:49
  Speaker 1: get commoditized, and so these innovations don't last forever, but
• 22:53
  Speaker 1: in early windows they can be huge, huge booms. And
• 22:56
  Speaker 1: that's what we're in the middle.
• 22:57
  Speaker 2: Of, in the middle of or towards the end of.
• 23:00
  Speaker 1: It depends on the future of AI and everything hinges
• 23:02
  Speaker 1: on that. Ye. And again that's what you saw right,
• 23:04
  Speaker 1: like the sort of tech mania seemed to actually peak
• 23:08
  Speaker 1: in COVID right in twenty twenty one, and then with
• 23:09
  Speaker 1: the release of the vaccines, you had all that stuff
• 23:13
  Speaker 1: clearly coming off. It all gone too far. Zoom had
• 23:17
  Speaker 1: gone people were using Zoom too much, right, the people
• 23:19
  Speaker 1: were buying too much on Amazon. It was peak Internet.
• 23:23
  Speaker 1: And then it declined, and then it looked like we
• 23:25
  Speaker 1: were going to sort of return to a normal market
• 23:27
  Speaker 1: where value investing worked again. And then chat GPT was
• 23:31
  Speaker 1: released and it's just unleashed this total mania again and
• 23:36
  Speaker 1: it now feels like we're back at twenty twenty one peaks.
• 23:39
  Speaker 1: I mean, you know, you look at things like fart
• 23:41
  Speaker 1: coin and it's even worse than the SPACs, like at
• 23:43
  Speaker 1: least the SPACs or companies well the hell is fart coin,
• 23:46
  Speaker 1: and yet it's valued at most more than you know,
• 23:48
  Speaker 1: ninety percent of Japanese companies, for example. You have to
• 23:51
  Speaker 1: understand that, you know, markets are are reflective of human
• 23:56
  Speaker 1: history and human events, and it's not it's not a
• 23:59
  Speaker 1: line math problem. And we know that there are certain
• 24:03
  Speaker 1: things that we can rely on and should rely on,
• 24:06
  Speaker 1: which is betting against hubris right, betting on things others
• 24:10
  Speaker 1: are pessimistic about and being skeptical if things are too
• 24:13
  Speaker 1: optimistic about. But sometimes the optimists are right, and they
• 24:16
  Speaker 1: were right during the twenty tens. And the question is
• 24:18
  Speaker 1: now the only question that matters for markets right now?
• 24:21
  Speaker 1: In my mind, the most important question is are they
• 24:24
  Speaker 1: right about AI or not?
• 24:26
  Speaker 2: I mean, the other thing you can say, surely is
• 24:27
  Speaker 2: that value investing doesn't work during a bubble.
• 24:29
  Speaker 1: It doesn't work during a bubble.
• 24:31
  Speaker 2: Answer, it doesn't work during a bubble, And so you
• 24:33
  Speaker 2: can then make the case. So you might have might
• 24:35
  Speaker 2: not want to make the case that the last few
• 24:36
  Speaker 2: years are being suggestive of a bubble in the US market,
• 24:39
  Speaker 2: And you look at the valuations, and these are bubble valuations.
• 24:42
  Speaker 2: So that could be the simplest way to look at it.
• 24:45
  Speaker 1: I think so too. And I have this piece in
• 24:47
  Speaker 1: the book about the nineties because I spent a lot
• 24:49
  Speaker 1: of time thinking about bubbles. I went back and I
• 24:52
  Speaker 1: read a bunch of investor letters from the great investors,
• 24:55
  Speaker 1: Ray Dalio, Peter Lynn Choward, Mark Seth Clarman. You know
• 24:59
  Speaker 1: what were they saying in the nineties. And it was
• 25:01
  Speaker 1: really interesting because all these great investors knew it was
• 25:05
  Speaker 1: a bubble. They all wrote a boute about it. Ray
• 25:09
  Speaker 1: Dalio said, we're approaching a blowoff phase of the US
• 25:12
  Speaker 1: stock market. Peter Lynch said, not enough investors are worried.
• 25:17
  Speaker 1: The only problem is that those two quotes are from
• 25:19
  Speaker 1: nineteen ninety five, So you know, investors are often you know,
• 25:25
  Speaker 1: smart data driven people. You can pick up on these
• 25:27
  Speaker 1: things and say the evaluations are too high. The problem
• 25:30
  Speaker 1: is that smart investors tend to be way too early. Right.
• 25:32
  Speaker 1: The bubble didn't burst for five years, right, yeah, and
• 25:35
  Speaker 1: eked up on ear and each subsequent year it doesn't burst.
• 25:41
  Speaker 1: You look stupid, and the people that supported the bubble
• 25:43
  Speaker 1: look right. And I think that that's the type of
• 25:46
  Speaker 1: situation we're in now. And it actually turned out that
• 25:48
  Speaker 1: value investing, if you looked at it from ninety five
• 25:50
  Speaker 1: to ninety nine, it looked like the stupidest investment strategy
• 25:53
  Speaker 1: on the planet. So did international diversification. So right, but
• 25:57
  Speaker 1: if you just fast forward two or three years the
• 25:59
  Speaker 1: bubble or so quickly that value investing, international diversefication, all
• 26:03
  Speaker 1: these things came out ahead with only one or two
• 26:05
  Speaker 1: years after the bubble. And so I think that having patients,
• 26:09
  Speaker 1: and I think understanding that there's historical context, being patient,
• 26:13
  Speaker 1: but being guided by a sensitivity towards these behavioral insights
• 26:18
  Speaker 1: that it doesn't you know, don't overthink it. You don't
• 26:21
  Speaker 1: have to in some ways, you don't have to have
• 26:22
  Speaker 1: the ends. I don't need the answer to any I.
• 26:24
  Speaker 1: I don't need to know that extended will succeed. All
• 26:27
  Speaker 1: I need to know is are people too optimistic about
• 26:29
  Speaker 1: it or not? And what it would be the signs
• 26:31
  Speaker 1: of that excessive optimism. And if people are excessively optimistic,
• 26:35
  Speaker 1: you know what should I do? I should stay away.
• 26:38
  Speaker 2: And so there is this sense from you anyway that
• 26:40
  Speaker 2: investors in general overinvested in the US, underinvested outside the US,
• 26:45
  Speaker 2: overinvested in AI, and underinvested.
• 26:47
  Speaker 1: In value absolutely, And I think one interesting sort of
• 26:52
  Speaker 1: dynamic that's been going on, right is the rise of
• 26:54
  Speaker 1: passive investing, which is a wonderful thing. Right. There are
• 26:59
  Speaker 1: many reasons why passive is a wonderful, wonderful thing for investors. Right,
• 27:02
  Speaker 1: It's been great for consumers. I love passive investing. I
• 27:05
  Speaker 1: love Vanguard. The only problem I see, and maybe there
• 27:10
  Speaker 1: are others that other people can talk about, the real
• 27:12
  Speaker 1: problem I see with passive investing is that when people
• 27:15
  Speaker 1: go passive, they don't say, I'm going to put my
• 27:18
  Speaker 1: money in the S and P four hundred mid Cap
• 27:21
  Speaker 1: Europe Index if such a thing exists. They think, I'm
• 27:24
  Speaker 1: gonna put in the S and P five hundred or
• 27:26
  Speaker 1: the Vanguard Total Stock Market Fund.
• 27:28
  Speaker 2: Yeah.
• 27:28
  Speaker 1: And I think when I last did this math about
• 27:31
  Speaker 1: eighty percent of Vanguard's assets or either in the S
• 27:34
  Speaker 1: and P five hundred or in the Vanguard Total Stock
• 27:37
  Speaker 1: Market Fund. Yeah. Right. In other words, passive has hurted
• 27:41
  Speaker 1: people into the same idea and when Mordecai Kurtz, who
• 27:46
  Speaker 1: has had that idea of rational expectations. So the thing
• 27:48
  Speaker 1: we need to be most careful of is correlated beliefs, right,
• 27:52
  Speaker 1: Correlated beliefs are there will create risk when when investors
• 27:56
  Speaker 1: beliefs are too correlated, when everyone thinks the same thing,
• 27:58
  Speaker 1: that's the problem.
• 28:00
  Speaker 2: There was an interesting bit in the book where you
• 28:01
  Speaker 2: note that around seventy five percent of the US relative
• 28:05
  Speaker 2: APT performances come from valuation changes as opposed to revenue
• 28:08
  Speaker 2: and profitability changes. And that's really interesting because it reflects
• 28:12
  Speaker 2: pure optimism as opposed to reality.
• 28:14
  Speaker 1: Which is always the case, Marion, because if you go
• 28:17
  Speaker 1: back to Schuller's work, it's always valuation changes. It's always
• 28:21
  Speaker 1: changes in our expectations about the future that drive the
• 28:23
  Speaker 1: majority of stock market balto is always the case.
• 28:27
  Speaker 2: And then you say, which again I thought was an
• 28:28
  Speaker 2: interesting way to look at it, that perhaps investors who
• 28:30
  Speaker 2: want to think about this but a little bit more closely,
• 28:32
  Speaker 2: should look at not necessarily at market cap when they
• 28:36
  Speaker 2: come to invest internationally, but look perhaps at percentative revenues
• 28:40
  Speaker 2: or net income that comes from the US against other countries,
• 28:43
  Speaker 2: and that would be about thirty percent US, right, So
• 28:46
  Speaker 2: that in fact, if you were going to look at
• 28:47
  Speaker 2: it in terms of the revenues from each country, you
• 28:49
  Speaker 2: should have about thirty percent of your efforts in the
• 28:51
  Speaker 2: US as opposed to what you probably do at the moment,
• 28:54
  Speaker 2: which is more like sixty percent maybe more exactly.
• 28:56
  Speaker 1: And I think the sort of negative side. We've been
• 28:59
  Speaker 1: talking so much about being skeptical of bubbles, but we
• 29:02
  Speaker 1: should also and this is a big part of my
• 29:04
  Speaker 1: investment strategy, be excited about things people are pessimistic about.
• 29:07
  Speaker 1: And when we see people giving up, when you see
• 29:09
  Speaker 1: magazine covers about the death of that's the time that
• 29:12
  Speaker 1: I get really excited about things. And I think there's
• 29:15
  Speaker 1: actually a lot to be excited about right now. It's
• 29:18
  Speaker 1: just not where other people are looking. I actually love
• 29:21
  Speaker 1: the UK and Europe.
• 29:23
  Speaker 2: Just give the Europe. But we love to hear you
• 29:24
  Speaker 2: love the UK, you know.
• 29:28
  Speaker 1: And actually it was funny. I was visiting with a
• 29:31
  Speaker 1: friend who was a big Brexit supporter, and I follow
• 29:35
  Speaker 1: politics as closely as any normal person, but I honestly
• 29:39
  Speaker 1: didn't follow the UK stuff so much. And I said, well,
• 29:42
  Speaker 1: you know, reading the Ft and the Economist, I've come
• 29:44
  Speaker 1: to the you know, it sounds like it's been a
• 29:46
  Speaker 1: complete disaster and what were you all thinking? And he said, Dan,
• 29:49
  Speaker 1: you know, pull up your computer and look at UK
• 29:52
  Speaker 1: GDP growth since Brexit and then compare it to continental Europe.
• 29:56
  Speaker 1: GDP growth since Brexit, and so I went and did it.
• 29:59
  Speaker 1: All sudden I found the UK had grown faster than
• 30:02
  Speaker 1: continental Europe, and he was like, that's the only argument
• 30:04
  Speaker 1: I need to make, you know, And and I sort
• 30:06
  Speaker 1: of thought to myself, you know, if my narrative about
• 30:09
  Speaker 1: that was a little bit wrong, you know, maybe maybe
• 30:11
  Speaker 1: the common narrative about Europe as a whole is wrong.
• 30:14
  Speaker 1: And I thought, I do.
• 30:15
  Speaker 2: I hate to say this down, but you need to
• 30:16
  Speaker 2: go and look up GDP per head growth in Okay,
• 30:20
  Speaker 2: all right, that might be a little bit of a
• 30:22
  Speaker 2: downer for you, I'm afraid, but I'm with the sentiment
• 30:25
  Speaker 2: that breaks it really hasn't been so bad so far
• 30:28
  Speaker 2: and could even have well, it's likely to have very
• 30:31
  Speaker 2: positive rammications in the future. But gdpeeperhead doesn't tell the
• 30:34
  Speaker 2: same story as GDP. We've had a very fast growing
• 30:36
  Speaker 2: growing population.
• 30:38
  Speaker 1: Sorry, all right, no, no, that's that's helpful moment. I'll
• 30:43
  Speaker 1: go back and readvisit my analysis. But I think, you know,
• 30:46
  Speaker 1: when I look globally at valuations, what you see is
• 30:49
  Speaker 1: that Europe is phenomenally cheap. It's cheaper, way cheap relative
• 30:54
  Speaker 1: to long term marriage, is way cheap relative to the
• 30:56
  Speaker 1: US UK in particular, and what's sort of the second
• 31:00
  Speaker 1: layer of that analysis, because you don't want to just
• 31:03
  Speaker 1: be a contrarian for the sake oftarian, and you don't
• 31:06
  Speaker 1: want to buy cheap things just to buy cheap things.
• 31:08
  Speaker 1: If the cheap things are bad, you want to buy
• 31:10
  Speaker 1: cheap good things. And one of the interesting things if
• 31:13
  Speaker 1: you look at return on asset type metrics or my
• 31:15
  Speaker 1: favorite gross profit to asset, European companies are really high
• 31:19
  Speaker 1: quality businesses. They're very well run, they're very high merged,
• 31:23
  Speaker 1: and they're very high return on asset. And in fact,
• 31:26
  Speaker 1: the sort of leanears have actually that sort of capital
• 31:30
  Speaker 1: starvation has forced the return on assets to go higher.
• 31:33
  Speaker 1: They created higher discount rates, higher bar for new investments.
• 31:36
  Speaker 1: And so when you look at Europe, you're not just
• 31:38
  Speaker 1: buying really cheap companies, you're buying really cheap, really well run,
• 31:41
  Speaker 1: really higher recur assets.
• 31:42
  Speaker 2: Absolutely, and same in the UK. You know, we have
• 31:44
  Speaker 2: some really brilliantly run businesses here and they're incredibly cheap
• 31:48
  Speaker 2: relative to similar businesses in.
• 31:50
  Speaker 1: The US exactly. And it's funny. I did this analysis
• 31:54
  Speaker 1: where I took share of revenue in the US and
• 31:59
  Speaker 1: then I whether it's listed in the US. So it
• 32:01
  Speaker 1: was a two part regression. And what I found is
• 32:04
  Speaker 1: that because there are a lot of great UK companies,
• 32:06
  Speaker 1: for example, that have fifty percent or plus of their
• 32:08
  Speaker 1: revenues in the US, right, I mean, it's not unusual.
• 32:12
  Speaker 1: And it turns out that the share of revenue in
• 32:15
  Speaker 1: the US doesn't matter at all, and all that matters
• 32:17
  Speaker 1: is where the company is listed. And I think that
• 32:19
  Speaker 1: sort of relates to this sort of passive investing or
• 32:21
  Speaker 1: the sort of structure of investing that a London listed
• 32:24
  Speaker 1: company is just treated differently than the US. Last.
• 32:26
  Speaker 2: Yeah, I mean the problem for US there is that
• 32:27
  Speaker 2: lots of these companies are now looking at whether they
• 32:29
  Speaker 2: can relist somewhere else get a higher evaluation. So we
• 32:32
  Speaker 2: don't want that to happen. We don't want that to
• 32:33
  Speaker 2: happen because we rely on the infrastructure of our capital
• 32:35
  Speaker 2: markets in the UK, so it's a big part of
• 32:38
  Speaker 2: our economy.
• 32:39
  Speaker 1: It's in my mind, the greatest trade available at the
• 32:42
  Speaker 1: moment is to buy high quality, cheap European businesses. Sometimes
• 32:47
  Speaker 1: when everybody understands that there's a problem, you almost know
• 32:50
  Speaker 1: it's going to get fixed. So you know, what are
• 32:52
  Speaker 1: the big problems facing here? But what is this Ukraine war, right,
• 32:55
  Speaker 1: which is dragged down valuations a lot, And you wonder,
• 32:58
  Speaker 1: like how far off is that from getting fixed? Right?
• 33:00
  Speaker 1: How far off of a piece deal? Are we? Maybe
• 33:02
  Speaker 1: closer than we think? And I think, second, you know
• 33:05
  Speaker 1: this regulatory burden which is just obviously a problem. And
• 33:09
  Speaker 1: you say, like the UK, for example, Brexit has given
• 33:12
  Speaker 1: the UK an option on deregulation. They haven't exercised that option.
• 33:16
  Speaker 2: Okay, certainly not exercising yet, we have not.
• 33:19
  Speaker 1: But they bought the option. Brexit bought them the option,
• 33:22
  Speaker 1: and there's a path, the potential deregulation. And if you
• 33:25
  Speaker 1: can in Europe can deregulate, and if they can solve
• 33:28
  Speaker 1: the Ukraine issue, right, like, why wouldn't valuations go up?
• 33:32
  Speaker 2: Is the other big problem in Europe under the UK's
• 33:34
  Speaker 2: energy prices right, particularly in the UK stunning lehigh industrial
• 33:38
  Speaker 2: electricity prices.
• 33:40
  Speaker 1: Right, And who knows how that's get solved, but there
• 33:43
  Speaker 1: seems like there'll be a lot of pressure on people
• 33:44
  Speaker 1: to solve it. Yes, and there are paths to do it.
• 33:47
  Speaker 2: Yeah, yeah, okay, brilliant. Now that is all fascinating and
• 33:51
  Speaker 2: as I say, fits neatly with lots of my verses.
• 33:52
  Speaker 2: Thank you very much. The other thing I really wanted
• 33:54
  Speaker 2: to talk to you about. You have a chapter in
• 33:56
  Speaker 2: the book about is private equity. And I know that
• 33:59
  Speaker 2: you are very concerned about private equity. And you make
• 34:01
  Speaker 2: this great point that people talk about it as though
• 34:04
  Speaker 2: it's a diversifier. It diversifies us from our equity holdings.
• 34:08
  Speaker 2: But of course private equity is just equities aren't listed.
• 34:11
  Speaker 2: They're exactly the same, and we should treat them in
• 34:13
  Speaker 2: the same way. And your concern is that there's trouble
• 34:16
  Speaker 2: brewing in that SECTI there are.
• 34:17
  Speaker 1: A few sort of very important facts to know about
• 34:20
  Speaker 1: private equity that for the first, you know, what is
• 34:21
  Speaker 1: private equity? Well, what is a private equity? You know,
• 34:24
  Speaker 1: as opposed to a public equity, And it's really two
• 34:27
  Speaker 1: things are different. Right. The first thing is that private
• 34:30
  Speaker 1: equities tend to be much smaller than public equities. That
• 34:33
  Speaker 1: they're all microcaps. They have about a two hundred million
• 34:36
  Speaker 1: dollars valuation in on equity market cap on average, right,
• 34:39
  Speaker 1: And that's compared to say thirty billion or something for
• 34:42
  Speaker 1: the S and P five hundred, right, and the large
• 34:44
  Speaker 1: end of the microcap in nex is fourtu million. So
• 34:46
  Speaker 1: the first thing you know is that they're really small companies.
• 34:48
  Speaker 1: What do we know about small companies. We know that
• 34:51
  Speaker 1: small companies have hired default rates than big companies. We
• 34:53
  Speaker 1: know they're riskier, they're less diversified, their lower margin. Right,
• 34:56
  Speaker 1: all of these things are stylized true facts about small companies.
• 35:00
  Speaker 1: Of course, Right, once you get bigger, you're more stable,
• 35:02
  Speaker 1: you're more diversified, you tend to scale vages, higher margins, right,
• 35:05
  Speaker 1: less volatile, et cetera. But these are small companies, not
• 35:09
  Speaker 1: just small, but really small. Right. So if you love
• 35:12
  Speaker 1: private equity but don't love public small caps or public microcaps, right,
• 35:16
  Speaker 1: ask yourself why what's the disconnect? The second thing you
• 35:19
  Speaker 1: have to remember is that private equity backed companies are
• 35:23
  Speaker 1: very levered. Generally, fifty to sixty percent of their total
• 35:28
  Speaker 1: valuation is funded by debt, and that's mostly coming now
• 35:31
  Speaker 1: from private credit, and it's usually coming at very high rates.
• 35:35
  Speaker 1: And I joke that lending is the second oldest profession.
• 35:38
  Speaker 1: There are no new innovations in lending. And so if
• 35:41
  Speaker 1: a company has to borrow at very high rates, the
• 35:43
  Speaker 1: reason they have to borrow at high rates is that
• 35:45
  Speaker 1: they're very risky. And so you're looking at equity that's
• 35:48
  Speaker 1: subordinated a very high interest rate debt issued by these
• 35:52
  Speaker 1: private credit firms. That is reflective of the underlying risk
• 35:56
  Speaker 1: and the underlying volatility of these businesses now and people
• 36:00
  Speaker 1: don't think it's risky is because it's private, and so
• 36:03
  Speaker 1: you only get a mark once a quarter. And who
• 36:05
  Speaker 1: does the mark accountants? Well, if you look at the
• 36:08
  Speaker 1: volatility of private equity marks, it's about as volatility as
• 36:10
  Speaker 1: the volatility of book value of public companies. It just
• 36:15
  Speaker 1: isn't related to the market. And so what people get
• 36:17
  Speaker 1: fooled by that lack of volatility into thinking that these
• 36:20
  Speaker 1: tiny little companies with a ton of debt really aren't
• 36:23
  Speaker 1: very risky, And of course they are. They're very risky.
• 36:27
  Speaker 1: We just haven't realized that risk yet because we've had
• 36:29
  Speaker 1: a period of very declining rates. And then I think
• 36:32
  Speaker 1: coincidentally or not coincidentally, but importantly, you know, private equity
• 36:38
  Speaker 1: over the past ten years has massively shifted in its
• 36:41
  Speaker 1: sector composition to focus heavily on technology stocks, and that's
• 36:45
  Speaker 1: been a boon, but any turn in the future of
• 36:49
  Speaker 1: these tech the tech industry is massively going to hurt
• 36:52
  Speaker 1: private equity. It's become a highly levered bit on microcap
• 36:57
  Speaker 1: software companies and also very expensive.
• 36:59
  Speaker 2: One of the is a but to when when the
• 37:01
  Speaker 2: whole idea that you should invest in private equity is
• 37:03
  Speaker 2: a massive diversify. But thus began was private equty companies
• 37:06
  Speaker 2: but very cheap, right you could get them at a
• 37:09
  Speaker 2: stunking discount to publicly listed equities. And now, of course
• 37:12
  Speaker 2: that is no longer true, and in fact, the valuations
• 37:14
  Speaker 2: of private equity companies tend to come in above those
• 37:16
  Speaker 2: of publicly.
• 37:16
  Speaker 1: Listed right, Like, why should I pay more to have
• 37:20
  Speaker 1: a higher risk a smaller, smaller, more risky, more levered
• 37:24
  Speaker 1: company that I can't buy and sell every day? Why
• 37:26
  Speaker 1: should that be more expensive? It just boggles the mind.
• 37:30
  Speaker 1: And I think, you know, we've seen this, this correlated belief, right,
• 37:33
  Speaker 1: it's a correlated belief. But from all these pension funds
• 37:36
  Speaker 1: and college endowments and fancy investors that you need to
• 37:39
  Speaker 1: invest like Yale, you need to invest like David Swinson,
• 37:41
  Speaker 1: you need to have maybe forty percent of your assets
• 37:44
  Speaker 1: in private equity. And I did the simple math, which
• 37:48
  Speaker 1: is to say, you know, if you take the aggregate
• 37:51
  Speaker 1: size of private equity back to companies. You know how
• 37:54
  Speaker 1: big are those companies relative to public companies, And they're
• 37:59
  Speaker 1: about two to four percent of the total revenue of
• 38:02
  Speaker 1: public companies. Right, So it's a tiny, tiny, tiny set
• 38:06
  Speaker 1: of companies. And so to have forty percent of your
• 38:09
  Speaker 1: assets and two percent of the company and two percent
• 38:11
  Speaker 1: of the revenue share of the companies, right, because there
• 38:13
  Speaker 1: are a lot of small companies, they just don't make
• 38:15
  Speaker 1: much money.
• 38:15
  Speaker 2: That seems completely insane when you put it like that,
• 38:18
  Speaker 2: completely insane, But it's very nice for fund managers or
• 38:22
  Speaker 2: for people managing large pools of money, because it looks
• 38:26
  Speaker 2: better with this mothing. It looks less volatile, it looks
• 38:29
  Speaker 2: it looks calmer, it looks like a diversify. IM's quite
• 38:32
  Speaker 2: relaxing for you. Really, you don't have to deal with that,
• 38:35
  Speaker 2: you know, pricing every day nonsense.
• 38:38
  Speaker 1: Exactly, And you get this veneer being able to tell
• 38:40
  Speaker 1: everyone that you improve companies, right, Like I'm a hedge
• 38:43
  Speaker 1: fund manager, I buy and sell shares. You know, what
• 38:45
  Speaker 1: do I contribute to society? What do I know about companies?
• 38:47
  Speaker 1: How can you feel that good about investing? Like maybe
• 38:50
  Speaker 1: I'm a little smarter, you're right, Like, well, with private equity,
• 38:52
  Speaker 1: you know, I've been on the board and I really
• 38:54
  Speaker 1: helped the company grow, and I've talked to them about
• 38:57
  Speaker 1: this new product and then we you know, we open
• 38:59
  Speaker 1: a new factory. It's sounds better. And I think it's
• 39:02
  Speaker 1: actually hogwash, right, Like you know, and you sort of
• 39:05
  Speaker 1: know it's hogwash by just looking at the LinkedIn profiles
• 39:08
  Speaker 1: of who works in private equity, right, Like they're all
• 39:11
  Speaker 1: former bankers, right if.
• 39:12
  Speaker 2: This is exactly the point where I say to all
• 39:14
  Speaker 2: the listeners, send your hate mail directly to Dan. Don't
• 39:18
  Speaker 2: send it to us. Directly to Dan. He's ready.
• 39:22
  Speaker 1: But it's like, you know, when, when did the two
• 39:24
  Speaker 1: years you spent building Excel and PowerPoint models as a
• 39:27
  Speaker 1: junior banker, you know, give you this great insight on
• 39:30
  Speaker 1: how to run like mid market industrial companies in Germany? Right?
• 39:34
  Speaker 1: Why does that logical? I'd be like, oh God, it's
• 39:35
  Speaker 1: going to do so much better under private equity management.
• 39:37
  Speaker 1: It's like, okay, so the junior banker from Goldman is
• 39:40
  Speaker 1: going to do that much better of a job than
• 39:42
  Speaker 1: like the fifty year old veteran if you're running that
• 39:44
  Speaker 1: business that year it seems much more plausible that what
• 39:48
  Speaker 1: the banker is really good at is adding a lot
• 39:50
  Speaker 1: of debt to the balance sheet and doing that on
• 39:52
  Speaker 1: acquisitions and maybe you know, dressing it up for sale
• 39:56
  Speaker 1: that they seem good at. But the idea that they're
• 39:58
  Speaker 1: better at running companies just seems a little great.
• 40:00
  Speaker 2: Well, we'll find out soon with me because a lot
• 40:02
  Speaker 2: of private equity companies they're going to have to start
• 40:03
  Speaker 2: moving assets on and they can't keep handing them around
• 40:06
  Speaker 2: between each other. So there's going to be surely a
• 40:08
  Speaker 2: spate of listings coming up where we will see what
• 40:11
  Speaker 2: private equidey companies are really worth in public markets, and
• 40:13
  Speaker 2: that will be fascinating. Okay, interesting, right, something completely different.
• 40:18
  Speaker 2: Do you talk about gold a little in the book
• 40:21
  Speaker 2: and when and when you shouldn't invest in gold? And
• 40:23
  Speaker 2: we have a lot of gold bug listeners, and I'm
• 40:25
  Speaker 2: a little bit of a gold bug myself, so maybe
• 40:27
  Speaker 2: we could talk a little bit about your views on
• 40:29
  Speaker 2: gold and where they fit in this where it fits
• 40:32
  Speaker 2: in this cycle.
• 40:34
  Speaker 1: Yeah, I think gold is a very important portfolio tool,
• 40:39
  Speaker 1: and if you think about why it's an important portfolio tool,
• 40:42
  Speaker 1: we need some low risk, diverse fying assets right, and
• 40:45
  Speaker 1: one low risk diverse fying ac is bonds, and one
• 40:48
  Speaker 1: low risk di burst fying acid is gold. The challenge
• 40:51
  Speaker 1: with bonds is that they react very neatively to inflation,
• 40:54
  Speaker 1: and our country economy has had a bit of an
• 40:57
  Speaker 1: inflation problem with LID and gold and in the opposite way,
• 41:01
  Speaker 1: or reacts positively to inflation because you can inflate the currency,
• 41:04
  Speaker 1: but the price of gold should be unaffected. And so
• 41:07
  Speaker 1: what I think is that you should depend your low
• 41:10
  Speaker 1: risk portfolio should alternate between bonds and gold depending on
• 41:14
  Speaker 1: your views of whether inflation is present. If you're worried
• 41:16
  Speaker 1: about inflation, you should have more gold and fewer bonds,
• 41:19
  Speaker 1: and if, on the other hand, you're worried about deflation,
• 41:21
  Speaker 1: you stole more bonds and less gold. But the idea
• 41:24
  Speaker 1: that gold has to be a tool that you're using.
• 41:27
  Speaker 1: It's so important and it trades so differently that it
• 41:32
  Speaker 1: gives your portfolio more degrees of freedom if you include
• 41:34
  Speaker 1: it in the parameter of things you're considering, and you
• 41:37
  Speaker 1: don't have to have a big allocation for it to
• 41:38
  Speaker 1: make a big difference.
• 41:40
  Speaker 2: Okay, and what about bitcoin? You I notice you do
• 41:43
  Speaker 2: not mention at all in.
• 41:44
  Speaker 1: The book, Oh dear Bitcoin.
• 41:48
  Speaker 2: I mean that you clearly are not going to say, well,
• 41:50
  Speaker 2: bitcoin is digital gold. It's the same thing. I'm not
• 41:52
  Speaker 2: hearing you saying that.
• 41:54
  Speaker 1: I'm not saying that because I don't think it's true.
• 41:56
  Speaker 1: I said that gold was a low risk asset. Right,
• 41:59
  Speaker 1: Look at the volatility of gold. It's like the volatility
• 42:01
  Speaker 1: of bonds. It is a low risk asset. Bitcoin has
• 42:03
  Speaker 1: the volatility of a the nastac or microcaps. Right, It's
• 42:07
  Speaker 1: crazily vollatile. So it's not low risk, it's high risk.
• 42:10
  Speaker 1: And then what's it correlated with?
• 42:12
  Speaker 2: Right?
• 42:12
  Speaker 1: Gold is sort of anti correlated. Gold is its own thing.
• 42:15
  Speaker 1: It marks to its own tomb. That's why it's valuable.
• 42:19
  Speaker 1: But bitcoin is not. Bitcoin is very correlated with say
• 42:22
  Speaker 1: that Goldman Sachs highly shorted basket of US tucks. It's
• 42:25
  Speaker 1: very correlated with Robinhood stock. Right. It's correlated with any
• 42:28
  Speaker 1: type of gambling activity that you see in public markets.
• 42:31
  Speaker 1: And I think it's part of a broader trend towards
• 42:35
  Speaker 1: people finding gambling opportunities in public markets as opposed to
• 42:39
  Speaker 1: find them betting on sports teams.
• 42:41
  Speaker 2: Yeah. Interesting, do you think now as that there's lots
• 42:43
  Speaker 2: more institutional interest in it, and there's even to be
• 42:45
  Speaker 2: a lot of passive investment into bitcoin that it might
• 42:48
  Speaker 2: get caught up in the same sort of momentum trade
• 42:51
  Speaker 2: as perhaps a lot of the US tech companies have
• 42:53
  Speaker 2: over the last couple of years.
• 42:55
  Speaker 1: I think it certainly will, and I think institutional adoption
• 42:58
  Speaker 1: of bitcoin today is out as smart as institutional adoption
• 43:01
  Speaker 1: of investing in China and twenty seventeen or twenty eighteen.
• 43:04
  Speaker 1: It's equally as much of a mania, and it's equally
• 43:06
  Speaker 1: as dumb.
• 43:07
  Speaker 2: Okay, I think we have a very clear view there.
• 43:09
  Speaker 2: And again, just let me repeat hate mail direct to
• 43:12
  Speaker 2: Dan Donk. Can we find you on Twitter so they
• 43:14
  Speaker 2: can send your hate mail director you on Twitter, because
• 43:15
  Speaker 2: that's where I get most absolute What's your handle there?
• 43:18
  Speaker 2: Just to make apple sure it goes to you, not me.
• 43:20
  Speaker 1: It's at verdad cap.
• 43:21
  Speaker 2: Okay, everybody, if you feel strongly about bigcoeen, feels strongly
• 43:24
  Speaker 2: about private equity, strongly about any of those things, please
• 43:27
  Speaker 2: let Dan know directly, and do not copy me into
• 43:30
  Speaker 2: your aggressive tweet. Thank you.
• 43:33
  Speaker 1: Okay.
• 43:34
  Speaker 2: So at the end, I normally try and ask people
• 43:36
  Speaker 2: what they would invest in now, but I think we
• 43:37
  Speaker 2: have a pretty clear steer from you on the value
• 43:39
  Speaker 2: front that you're interested in UK equities, you're interested in
• 43:42
  Speaker 2: European equities. Is there any sector in particular of that
• 43:45
  Speaker 2: interests you, or any part of the market, or any
• 43:47
  Speaker 2: even any particular company that you're finding fascinating at the moment.
• 43:51
  Speaker 1: You know, I actually like Eastern Europe. I find a
• 43:54
  Speaker 1: lot of interesting things in Poland, and I think that
• 43:56
  Speaker 1: people have tended to overlook Eastern Europe in particular because
• 44:00
  Speaker 1: the Ukraine War. But I think it also is the
• 44:01
  Speaker 1: most leveraged any peace deal going through that you'll make
• 44:05
  Speaker 1: money in Polish equities. They're very thinly traded. You have
• 44:08
  Speaker 1: to buy small caps, but I think it's quite attractive.
• 44:11
  Speaker 2: Okay, that is interesting polysh small caps have never come
• 44:14
  Speaker 2: up on this podcast before. So thank you very much
• 44:17
  Speaker 2: for that. Congratulations, something you something youre go? Okay, last question.
• 44:24
  Speaker 2: Your book I think is excellent, and just to repeat
• 44:26
  Speaker 2: again everybody by this book, it's excellent. Everything we've talked
• 44:29
  Speaker 2: about is in the book, plus a whole load more.
• 44:31
  Speaker 2: And we didn't get onto private credit. Another fascinating chapter
• 44:34
  Speaker 2: in it, so and the bond chapter also excellent. Do
• 44:36
  Speaker 2: read that. But Dan, if you were going to recommend
• 44:39
  Speaker 2: one book written by somebody else, is there anything you've
• 44:42
  Speaker 2: been reading recently that you've really enjoyed and think that
• 44:44
  Speaker 2: would be helpful for our listeners.
• 44:47
  Speaker 1: Well, I don't know about helpful to your listeners, but
• 44:49
  Speaker 1: by far the best book that I've read recently is
• 44:51
  Speaker 1: The History of the Conquest of Mexico by William Prescott,
• 44:55
  Speaker 1: which came out in eighteen thirty, and it tells the
• 44:58
  Speaker 1: unbelievable story of how Cortez conquered Mexico in fifteen tens
• 45:03
  Speaker 1: and as a story that I like glossed over in
• 45:05
  Speaker 1: the history textbooks, but it is unbelievably fascinating, you know,
• 45:09
  Speaker 1: eight hundred men conquering several hundred thousand a person civilization
• 45:15
  Speaker 1: in It's just an insane story and beautifully written. So
• 45:19
  Speaker 1: if you're looking from a break from markets, I recommend it.
• 45:22
  Speaker 2: I imagine people are going to be looking for a break
• 45:24
  Speaker 2: from markets relatively soon this year, but we'll see. Dan,
• 45:28
  Speaker 2: thank you so much for joining us today and gratulations
• 45:30
  Speaker 2: on an excellent book. Thank you, Mareon, Thanks for listening
• 45:39
  Speaker 2: this week's Maren Talks Money. If you like our show, rate, review,
• 45:42
  Speaker 2: and subscribe Wherever you listen to podcasts and keep sending
• 45:44
  Speaker 2: questions or comments to Marin Money at Bloomberg dot net.
• 45:48
  Speaker 2: You can also follow me and John on Twitter or
• 45:51
  Speaker 2: x I'm at Marin sw and John is John Underscore Stepic.
• 45:55
  Speaker 2: This episode is were hosted by Me Maren Sumset Web
• 45:57
  Speaker 2: was produced by some Saudi production support Moses and and
• 46:01
  Speaker 2: special thanks to Dan Rasmussen h