Guest Interview: Kermit Capitál
(Edition Number: Nine)
Today, we are bringing you the ninth edition of the Investment Talk Guest Interview series, whereby I bring you some discussion with a selection of my favourite investors in the Fintwit environment.
Today’s guest interview features Kermit Capitál.
With a background in systems engineering, and various roles across operations and data analysis, Kermit has developed a unique skill-set that lends itself well to his investing process. Interestingly, I have always found that those coming from this background have a strong sense of curiosity for solving problems, and understanding how those solutions can be manifested, which pairs nicely with identifying potential winners.
I am personally a big fan of Kermit’s work. What I most appreciate is that Kermit is able to have discussions with me, in a civilised manner, about areas of the market we have polar-opposite views on. It is my opinion that the contra-arguments to your thesis are as important as the ones that coincide with your own view.
Today we are welcoming Kermit Capitál, a refreshing and ethical voice on Twitter, where he posts under the handle @KermitCapital.
In today’s interview we cover Kermit’s investment process, portfolio concentration, favoured sectors, Ark Investments, and the Facebook bear thesis.
As well as sharing quality work on Twitter, Kermit also posts deeper research and insights over on his blog, where you can also schedule a call with this gentleman.
Kermit also hosts the Stock Detective Podcast alongside fellow host Dhaval Kotecha, who is another excellent mind on Fintwit. The show features a blend of company deep dives, as well interviews with some sharp minds in the investing sphere. A few favourite episodes of mine:
• The Amazon Deep Dive
Entrée consumed, let us now move on to the interview.
Welcome Kermit. Thank you for agreeing to field some questions today, I am looking forward to this one, and I am sure the readers are too.
I typically start these things off by asking the guest to share with the readers a little bit of historic backdrop.
So, if you could introduce yourself, and take us through the sequence of events that led to you where you are today, and perhaps some flavour on the kind of work that you are up to.
Hi Investment Talkk. Thanks for your interest and reaching out with these questions.
While I don’t have a formal education in Finance or Accounting, my degree in college was in Industrial and Systems Engineering. To this day, I think that background is what helps inform many of my investing decisions.
I was introduced to active investing via stock-based compensation (RSU grants) at the publicly traded companies that I’ve worked for. I started my career as an Operations Manager at an Amazon Fulfilment Center. After 3 years I accepted an offer to work in delivery operations at GrubHub and eventually worked as an Analyst there. For my first 5 years owning stocks, my portfolio was just AMZN and GRUB. One of those two was a good investment.
Having that level of concentration made it pretty tough for me to sleep at night, primarily because of the volatility of GRUB shares and my general ignorance around investing in stocks. I funnelled that anxiety into a long term commitment to learn how to run my own money. I’ve been doing that for about 3 years now.
I hopped on FinTwit about a year ago, mostly to just learn from other people. Eventually I started being more active. Most people who follow me have done so primarily because of the daily Ark trade recaps (which I’ve been taking a short hiatus on recently). Tweeting out the daily Ark Trades has accelerated my learning. Many thoughtful people have shared their commentary on the companies that Ark is trading and being able to engage with those folks has helped me become aware of the opportunities in the market and frameworks to think about them.
My favourite investments are companies that give themselves optionality, so naturally I’ve been looking for that same quality in my own life. I have been doing my best to take advantage of this time during the pandemic to build skills that may unlock value for me down the road. Outside of investing, I work full-time as a Data Analyst for a private start-up building software in the CRE space. In December, I finished a 6-month full stack dev bootcamp which has helped me learn how to build products. I’ve also been doing some creative writing; among other things a TV pilot about my time working at Amazon.
Having the creativity to generate ideas and share a compelling narrative coupled with the technical aptitude to build on those ideas can be a powerful combination, if done well. Threading that needle has been kind of my bigger picture goal and being an active investor has the benefit of showing you other people’s successes and failures in these kinds of endeavours.
It appears to me, that within your investment approach, you are currently focused on; advertising, payments, cloud computing, cyber security, retail, and healthcare. Perhaps you could take us through why you have opted to focus on these sectors. Moreover, could you outline your investing approach to us, explaining what you seek in an investment, and perhaps detail how/if this relates to your own personality?
While the sectors you’ve outlined are aligned with my investments and I’m generally optimistic about the secular growth prospects of each of them, I’d be lying if I told you that the theme was the determining factor of those investments. It’s my conviction in that particular company that pushes me over the edge to initiate a position.
I think the best way to answer this question would be to state my goal as an active investor in publicly traded stocks. My goal is to hold a concentrated portfolio of companies that I have maximum long term conviction in (relative to the opportunities that I’m aware of) and with some minimum level of non-correlation.
For every incremental buy or sell decision that I make, the questions that I’ve presumably answered “Yes” to are:
“Will this buy/sell decision increase my long term conviction in this portfolio?”
“Will this buy/sell decision make my portfolio more concentrated overall?”
As far as my approach is concerned, I find myself becoming more and more aligned with Peter Lynch’s view of investing: “Invest in What You Know”. My version of that is to invest in value propositions that I can deeply understand and appreciate. I have a really hard time initiating a position in a company where that is not the case.
As a retail investor with the portfolio goals that I have, I pass on a lot of ideas that might be great investments but they won’t be great investments for me because I won’t have the long term conviction necessary to hold through periods of uncertainty. Some examples are Tesla, Peloton and MercadoLibre. These are all companies that operate in sectors whose futures I’m optimistic about (EV’s, At-Home Fitness, Retail) but whose products and services I’ve never used before and there’s a good chance that I might never use them. In my view, it doesn’t make sense for me to invest in those opportunities over companies that I use on a regular basis: Roku, Amazon, Square.
This approach limits the number of invest-able opportunities for me but it makes managing decisions much simpler which has the benefit of improving “return on time and effort spent” which is a framework that Dennis Hong uses at ShawSpring Partners.
Next, I wanted to discuss position sizing. Everyone I interview has a different outlook on this topic, so I find it useful to gather perspectives from several different investors. I have noticed that, at times, you allow certain positions to hold a significant chunk of your weighting. For instance, at the beginning of 2021, Tradedesk, Amazon and Square accounted for ~55% of your holdings.
So, I am wondering if you can provide us some colour on your allocation approach. Is there an upper-bound that you will allow a position to grow into? What are your thoughts on the sizing for new positions? I would be keen to hear you share your thoughts on this matter.
I tend to think of each company that I own as its own discrete investment with its own particular investment goal. For the companies that I have the highest level of conviction in, I want to size those positions appropriately.
Let’s use The Trade Desk as an example. I was long the stock starting the summer of 2019 and initiated a position in August when the market cap was $11.6B. I believed then and continue to believe now that The Trade Desk will be a $100B+ business in the next 5-7 years. When the valuation dropped below $9B in 2019, I grew that into a full position. A “full position” for me is an amount that has the opportunity to grow into a life-changing amount of money if my thesis were to play out in just that one stock. For that reason, I have no intention of selling or trimming The Trade Desk to reallocate into other positions. I bought a relatively large position in an exceptional company with a bright future ahead at a phenomenal price. The reality is that it’s rare to get that opportunity.
I view my investments in Amazon, Square and Nintendo through a similar lens as the one outlined above.
For anyone who follows Kermit on Twitter, they will know that he frequently provides a lot of colourful insight into the activities of Cathie Wood and her team at Ark Invest. I am wondering, what is it about Ark Invest that resonates with you personally?
In my opinion, Ark’s investment philosophy of investing in disruptive innovation has a bit of a zero-sum view on the future in terms of winners and losers in the global economy. That dystopian view of the future sort of resonates with me. I think it resonates with a lot of people and that’s one of the main drivers for their popularity.
Before I had become familiar with Ark, I had been learning about the history of Vanguard and Jack Bogle. I still have a lot of money in Vanguard index funds and will continue to contribute to those over time but I can’t help but shake the feeling like the continuous rise of passive investing may cause unforeseen problems down the line.
If you go on whale wisdom and search any company, it’s not uncommon to see that Vanguard or some other passive entity owns 8 - 10% of that company. To my knowledge, they’re not engaged in what management is doing, not taking a board seat, not voting etc. When you extrapolate this out further, how does this play out? Cathie talks about value traps hiding in plain sight being invested in by these passive entities. That makes sense to me.
Otherwise, I think their track record speaks for itself. The returns are incredible. You could have a long discussion on how they achieve those returns but at the end of the day they’ve done a phenomenal job.
If you had to sum up the lessons that you learned last year, in 2020, how would you frame this, and how do you feel this has made you a better investor?
Over the short term, I have no edge. There are a bunch of examples of situations that I was certain would play out over the course of 2020 but I ended up being completely wrong about. It turns out that sitting on my hands despite every urge to not do that was the best decision that I could have made.
For example, in March I was certain that Square’s valuation would nosedive as the Seller ecosystem would be decimated. While I was right that the Seller ecosystem was negatively impacted, it was not decimated and I was dead wrong about the valuation because of the rise of the CashApp and adoption of Bitcoin. Selling Square in March would have been an awful mistake.
So my take-away from this is to buy high quality companies with strong management teams and give them the opportunity to prove their resilience in the face of adversity. Let the adversity test them, not your speculation.
Following the theme of self-reflection, I always like to ask guests about their mistakes, as I feel there are some great lessons to be shared there. So, I would like to ask a two-pronged question.
First, what are some of your biggest investment mistakes, and how have they allowed you to grow?
Second, how has your investment process changed over time, and what was the impetus for those changes?
My biggest investing mistakes tend to be situations where I didn’t invest in a company that I should have owned. I should have owned Netflix, Chipotle, and Atlassian a long time ago. I specify those three because I understood the value proposition deeply for each one of these companies early in their life as public companies.
When I first started looking for investment opportunities I wasn’t prioritising owning what I know. I ended up looking at a lot of companies that I’ve never heard of doing business in some sector that I have no experience in.
Understanding the bull thesis behind Roku was a bit of a game changer for me. It’s a product that’s persisted in my life over 10 years and 3 different TV’s that I’ve owned. It was hiding in plain sight and under the hood there was a clear narrative of a mediocre business transforming into an excellent business. Those are the ingredients to an investment that I really like.
This question is purely for me, as I enjoy listening to your opinion on Facebook. Despite being long Facebook, I am very aware of the negative influence of confirmation bias and find that listening to you critique of the company keeps me grounded in that respect.
So, if you would be so kind, could you possibly provide a brief bear case for Facebook? If you wish to discuss the company in general, as opposed to a specific bear case, that is fine too.
I wanted to say that while I despise this company and their management team, I appreciate the discussions I’ve had with you about them. I think that learning the “why” behind what makes a business a good investment is valuable whether you invest in that particular name or not. So thanks for engaging with me on this.
Tobi Carlisle was on Business Brew with Billy Brewster recently and they talked briefly about Facebook. The argument was basically that making powerful enemies introduces risks that are difficult to predict. I think that is at the core of my bear thesis for Facebook.
I understand that they have a lot of optionality. I understand that Instagram is the new digital mall, WhatsApp is ubiquitous internationally and that Oculus could be a total game changer for the business. What I don’t understand is how they ever recover public trust enough to fully exercise all of the call options that they theoretically have available to them.
Here’s an example: Facebook has at least 12 data centres around the world. Will their reputation prevent them from providing an IaaS competitor to AWS, Azure and GCP? I tend to think so, especially when you consider how competitive government contracts like JEDI are. In order to continue to grow your EV, you need to tap into large revenue sources and government contracts are a big one.
Fisher once said: “Usually a very long list of securities is not a sign of the brilliant investor, but of one who is unsure of himself”
What are your thoughts on this from Fisher?
While I tend to agree with that sentiment, Peter Lynch and David Gardner are two examples of investors I highly respect and have a very long list of securities.
A question I like to ask everyone now. Could you please explain three books that you have gained the most value from? This can be related to any aspect of life of course.
“The Outsiders” was probably my favourite book that I read in 2020. I particularly enjoyed the chapter on Katharine Meyer Graham, who became the CEO of the Washington Post after her husband’s suicide and managed the company through the Watergate scandal. I find it interesting that both Warren Buffett and Jeff Bezos, the two best capital allocators of all time, were both owners of this company. There’s some evergreen intrinsic value to high-quality journalism, especially when it’s focused on the federal government, that I think our society is much worse off for not appreciating in the current climate. I do think high-quality journalism is wildly undervalued right now and if a company can solve that problem effectively there’s a lot of value to unlock.
I also enjoyed “100 Baggers” by Chris Mayer.
As far as non-investing books go, “The collected poems of Langston Hughes” is one that I’ve found some comfort from in this wild world we’re living in.
What is your process for identifying potential positions, and if split between various locations (screening, networks, etc), what weighting would you roughly assign each one?
There are certain investors whose opinion matters most to me. Dennis Hong is #1 for me because the way he manages his portfolio at ShawSpring Partners is pretty ideal in my opinion. I read his letters and keep up with his holdings. I think the only stock we have in common is Square but I’ve learned a ton from his letters and I think being able to recognize those same qualities that he highlights in other businesses is more valuable than blindly following his ideas. From listening to Dennis, I’ve become aware of other investors like Rob Vinall, Fred Liu and Andrew Rosenblum. I keep tabs on their letters and holdings too.
Bessemer Venture Partners and Atreides Management are two firms that I watch relatively closely. And then of course I look at the trades of Ark Invest. What I’m mostly looking for are their largest positions across all ETF’s as well as companies that they own a high % of.
As far as weighting, I don’t know that I could really quantify that. Once I’ve stumbled on a company that’s interesting I try to evaluate it on it’s own merits and try to avoid confirmation bias as best I can.
Luck. Skill. Mindset. Three very influential components to investing.
My question to you, is how do you view the relationship between these variables in investing, and to what extent would you say each is important over the short and long term?
I think Mindset is the main Skill and the most important of all three. There are obviously other skills like being able to analyse the financials or being able to evaluate management etc. but in my opinion none of that work matters if you don’t have the right mindset going into an investment.
My mindset is that I’m looking for resilient companies with long runways ahead that I can hold for many years with high conviction and high concentration. That eliminates a lot of decisions for me and reduces the amount of skill and luck that I need to be successful.
I am not sure if its just my perception, so correct me if I am wrong, but I get the impression that ethical companies are important to your selection process. So, I was wondering how you feel about this theme? Not necessarily ESG, but perhaps more so about investing in companies that are ‘doing good’ in the world.
When you’re making an investment nowadays, you need to consider all of the stakeholders involved. If you don’t, then you might not be underwriting all of the risks embedded in the investment thesis. Those stakeholders include the customers, the employees and others impacted by the business decisions made by the company.
Over the next 10+ years, companies will need to adapt to hire and retain Gen Z employees. This is a generation that has become increasingly more conscious of their impact on society and they will not tolerate silence or inaction from their employer on issues that matter to them. That trend is headed in one direction and companies that are unable to adapt to that change are likely to be less competitive.
This applies to varying degrees across different industries but if you’re investing in Tech companies I think it is most relevant to your companies.
Lastly, I like to round-off this segment with my favourite quote, that comes from Graham. The one concerning the short-term voting machine and the long-term weighing machine. I find it helps me reconcile the irrational price action in the near-term. I do not know who first coined it, but another of my favourite quotes is “If you don’t laugh, you’ll cry”. I find this quote helps me appreciate the randomness of life and the lack of control we have over external factors.
What is your favourite quote, and why? Feel free to pick a few if you like.
“It is highly possible that what is called 'talented behaviour' is simply a greater individual capacity for experiencing. From this point of view, it is in the increasing of the individual capacity for experiencing that the untold potentiality of a personality can be evoked.” -Viola Spolin
I like this quote because it speaks to the power of being open-minded. Being open to new experiences and ideas is a mindset. Being evaluated as “talented” is an outcome of that mindset. You can’t have the outcome without the mindset.
Questions from Twitter:
In this segment, we collected questions from the Twittersphere, and present them to Kermit.
Questions from Twitter:
@h8XqUTCcUa7nfSY: “Very curious on his view of the genomics sector – is there a clear direction/focus for investment or are we going to continue to see a slew of startups?”
I believe that the number of genomics related companies will increase significantly over time and the level of difficulty for a retail investor to pick individual stocks will likely be too high for most. I include myself in that bucket. In my view, ETF’s like ARKG are likely to gain more traction as the years progress.
@HowIWithWolf: “Do you have a specific industry or geographic focus for your investments?”
I tend to have a bit of a bias towards consumer-facing companies in tech and retail. When it comes to consumer-facing companies, I tend to stick with companies that have a presence in the US. They don’t need to be headquartered in the US (ex Nintendo) but if I can’t experience the product or service myself it’s going to be difficult for me to invest.
@HowIWithWolf: “What metrics are you tracking when considering an investment?”
It depends on the investment. I think the single most important thing that an investor should be evaluating is the management team over a long period of time. I let them tell me what metrics are important to the business and see if they are consistent and rational.
@HowIWithWolf: “How many investments do you make per year, and what is your typical investment size?”
In 2020, I made 7 new investments and added to many existing positions. I expect to make fewer new investments in the years ahead. My typical initial position is 2% and over time I may add up to a 5 - 10% position depending on my conviction.
That wraps up today’s guest newsletter, which marks the ninth edition of this series. I want to thank Kermit for taking the time to answer these questions today. It’s been a blast watching you grow.
Be sure to check out his work over at the Stock Detective Podcast, as well as his Twitter page.
Stay tuned, as we have some excellent calibre guests lined up for you in the coming weeks.
You can find previous editions of the guest interview series below:
• Edition One: Bill Brewster
• Edition Two: Kris FromValue
• Edition Three: ValueStockGeek
• Edition Four: AdventuresInFI
• Edition Five: Brian Feroldi
• Edition Six: Brad Freeman
• Edition Seven: Mostly Borrowed Ideas
• Edition Eight: Richard Chu
• Edition Nine: Kermit Capitál
• Edition Ten: Liviam Capital