Market Talk is a bi-weekly Sunday issue, where I share a curation of the best things I have consumed during the last two weeks.
Every second Sunday I will share:
• The greatest articles I have read during the last two weeks
• A few stellar podcasts or interviews
Comments from Me
Personal: To be candid, I have been super busy these last few weeks, at the expense of my writing. Whilst I am still writing daily, it’s just taking a little more time to finish a memo than previously. However, this is kind of why I am taking this laid-back period, so I don’t feel under any stress to write. Things are going well, and feel free to reach out to me in Twitter DMs, or Discord (if you don’t have access, shoot me a message).
Newsletter: I am close to finishing some thoughts on Etsy’s most recent earnings, and then I am also planning to share some concise snippets of thoughts from the remainder of my holdings, as well as a stand-alone piece of PLBY (when 10-K is issued) and Lululemon when earnings are announced.
Substack App: Substack unveiled an iOS app (sorry Android) this week, and it’s actually pretty great. I am a reader of various substacks, so this isn’t me promoting anything. Simply, highlighting an enhancement to the reader experience for everyone who reads Investment Talk and other substacks.
Interesting Reads
Here is a shortlist of a few interesting pieces that I have read over the course of the last two weeks, to feed your mind.
Note, these articles are not listed in order of perceived value.
To access the suggested article, click the purple link after the source subheading.
1) Stagflation Panic Grips Stock Market
Length: Moderate Read
Source: (Ensemble Capital)
The gang at Ensemble are down 22% YTD in their equity investment fund, citing fear of stagflation, a rare economic environment characterised by low or negative real growth along with high inflation, as a potential cause.
This piece covers stagflation, its impacts on stocks, and why Ensemble feel the stagflation driven sell-off is overdone. The piece also covers musings over the performance, holdings, and structure of the Ensemble holdings. Fascinating read, and a pleasant departure from the ‘doom-porn’ that is infecting Twitter of late.
“Growth in the economy is made up of both “real growth” and inflation. Real growth refers to increased economic activity, while inflation represents increased prices. During the decade prior to COVID, real growth averaged about 2.25% while inflation averaged about 1.75%, for total growth of about 4%.
The economic cycle is generally described as having an expansionary period during which real growth and inflation are positive, and then recessions, or the relatively brief periods when real growth turns negative. In a typical economic cycle, as an expansion persists over a period of time, heightened demand builds to a level that exceeds an economy’s supply capacity. This excessive level of demand vs supply causes inflation to rise. Rising inflation causes the Federal Reserve to raise interest to reduce demand and head off inflation, and then at some point naturally weakening demand or increased interest rates from the Fed cause demand to fall below the economy’s supply capacity. Companies then cut back on workers and investing in new capital projects, and this leads to a recession. In this typical, stylized economic cycle, inflation and real growth are correlated because it is real demand rising faster than an economy’s supply capacity that causes inflation to rise. But it is possible for high inflation and slow, or even contracting, real growth to occur at the same time. This economic condition is referred to as stagflation. Stagflation has been a very rare economic condition in the US, occurring only in the 1970s.”
2) Volatility & Averaging Down
Length: Moderate Read
Source: (TSOH Research ($) & John Hempton)
This is a double shout-out really, on account of one (TSOH) being paywalled, but I’m sure Alex won’t mind me sharing a quote or two. The second article, which tackles averaging down (referenced in Alex’s piece) is from John Hempton, circa 2017.
In Alex’s memo, which covers volatility and how he is pondering his own portfolio construction, he states the following when referring to averaging down on businesses that have endured brisk drawdowns:
“What will ultimately matter most is whether you’re right about the long-term prospects for the business, not whether you added aggressively after the stock went down (at least from the perspective of a long-term investor who is focused on finding companies to own, not to trade).”
I shared some thoughts on this during the week, but it got me thinking about my own holdings. It's not about being bold and aggressive during a drawdown. Rather, it's about making sure you are right about the LT prospects of the business in the first place. Let's stick a symbol on both of those traits.
Let's say that being right about the LT prospects is (LT) and doubling down during a drawdown is (DD). Then let us also say that holding during a drawdown without buying is (H). Lastly, let us say that being wrong about the LT prospects is (W). The scenario (as basic and not all-encompassing as it might be) can follow four paths, you gain a lot, you gain, you lose a lot, you lose.
• LT + DD = Massive Return
You are right about the LT prospects being successful, and you double down during a drawdown. Over time, the business succeeds and you earn an outsized return after doubling down at discounted prices.
• LT + H = Return
You are right about the LT prospects being successful, and you don't double down during a drawdown. Over time, the business succeeds and you earn a suitable return.
• W + DD = Massive Loss
You are wrong about the LT prospects being successful, and you double down during a drawdown. You suffer significant losses after doubling down on a dud.
• W + H = Loss
You are wrong about the LT prospects being successful, and you don't double down during a drawdown. You suffer losses still, but likely to be far more conservative than were you to have doubled down on a dud.
Now, this is probably oversimplifying it, but so much about investing tries to be complicated, so humour me. If the goal is to earn suitable returns AND protect your capital it seems prudent to have patience when you are presented with a seemingly tantalising opportunity to double down on a business suffering at the hands of Mr Market.
Jones, in his article, touches on instances when you definitely do not want to invite the prospect of averaging down. He notes; “the question - is not "are you wrong". That is not going to add anything analytically. Instead the question is "under what circumstances are you wrong" and "how would you tell"?”
He continues to discuss avoiding operationally leveraged business models, but I most enjoyed his point on obsolescence:
If you are fortunate enough to subscribe to TSOH, I think both this article and John Hemptom’s will provide some valuable food for thought for those wondering whether or not they should be doubling down here.
“Warren Buffett is famously fond of "averaging down". If you liked it at $10 you should love it at $6. If it goes down "just buy more". And in the value investing canon you will not find that much objection to that view. But averaging down has been the destroyer of many a value investor. Indeed averaging down is the iconic way in which value investors destroy themselves (and their clients). After all if you loved something at $40 and you were wrong, you might love it more at $25 and you almost as likely to be wrong, and like it more still at $12 and could equally be wrong. And before you know it you have doubled down three times, turning a 7 percent position into a 18 percent loss. Do that on a few stocks and you can be down 50 percent. And in a bad market that 50 percent can be 80 percent.”
3) Stock Splits: A Re-Evaluation
Length: Moderate Read
Source: (Gary Smith)
A corporation splitting its stock should have no material impact on market value. For instance, a 2 for 1 split simply doubles the share count, resulting in the share price being cut in half. The administrative costs to split a company’s shares alone would beg the question, well why bother?
Those who remember the stock splits of Apple and Tesla over the past few years will have seen the ‘frenzy’ with which this creates, driving buying volumes higher. We can assert that this is a shareholder-friendly move, after all not everyone can afford to put up hundreds or thousands per share (in some cases). Amazon’s recent stock split (20-1) will bring their share price closer to $150 or so, ceteris paribus. But with fractional shares so accessible today, why does it matter? There are many theories to comb over here; one being the liquidity theory which implies there is an optimal price span for liquidity and by splitting to that range, the float benefits. Then there is signalling theory; implying that management is communicating private information about the firm’s prospects under the assumption that a bad prospect would not split their stock due to the cost incurred. There are plenty more opinions on that matter, which you can find in this paper. That study is somewhat more academic (or more of a mouthful) than the one I opted to share today.
The one I share today covers the same subject matter but in a more concise, and approachable way, with the question being “what is the value in splitting stock?”. Feel free to read both of them though if that tickles your pickle.
“There are positive effects of stock splits on shareholder returns, but not because splits make stocks more affordable. The more compelling argument is that corporate stock splits signal a board’s confidence in their company’s prospects. For ETFs and other funds, there is little evidence that shareholders benefit from splits or are more attracted to funds after they split.”
4) Practicing a “Punch Card” Approach to Investing
Length: Light Read
Source: (Saber Capital)
First up, here is how Buffett describes punchcard investing:
“I always tell students in business school they’d be better off when they got out of business school to have a punch card with 20 punches on it. And every time they made an investment decision, they used up one of their punches, because they aren’t going to get 20 great ideas in their lifetime. They’re going to get five or three or seven, and you can get rich off five or three or seven. But what you can’t get rich doing is trying to get one every day.”
The reality for most folks is that they don’t think about investing in this way. On the contrary, as humans, we are drawn to activity to make it feel like we are doing something to influence whatever goals we have set ourselves. Say your typical LT investor, who professes to “buy quality companies, hold forever, only sell when the thesis changes, good management, etc” buys as many as 250-300 different securities in their lifetime. Not only are they engaging in self-defecating behaviour that contradicts their “north star” but they are also implying they may have as many as 250-300 great ideas in their lifetime. To quote Liberty.. “¯\_(ツ)_/¯”
This piece from 2016, by Saber Capital, addresses this punchcard practice, what it actually entails, and the bias that we have towards activity. If you are still longing for more on this topic, “Don’t Be a Chicken”, by Ian Cassel is a great follow-on.
“But Hempton brings up a good point: lots of people talk about it, but very few people actually act this way. His reasoning for why people don’t follow such a sound approach is that it is hard to sell to clients. If you bought one stock every year or two, and you have a portfolio of say 7 or 8 stocks at a time, it may appear to clients (who see hardly any activity in their portfolios for months, sometimes years at a time) that you might not be working all that hard. Trading activity has a way of making clients think that work is actually getting done. However, trading activity is almost always inversely correlated with investment performance. The client would be better off with the manager who charged his or her fee for selecting the punch card investments and then just sitting and waiting.”
(5) The Maturation of an Investor
Length: Light Read
Source: (MicroCapClub)
I wanted to share this post from Ian Cassel (2016) this weekend because I suspect many investors have undergone a self-reflection period over 2020 through 2022. I, aged 25, certainly have, which is only natural. At 18, I thought I knew everything. Naturally, as I matured, I realised I didn’t. In 2018, despite market turbulence, I was humble enough to know I was still learning. Then 2020 came around, and everyone became a little drunk, myself included. With each cycle of hubris, the aim is that the next potential pocket of hubris that the market unlocks will be more subdued. That is to say, next time I feel like I am smart, I can remind myself of how things went last time I felt like that. Fine if you learn the lessons, damned if you don’t.
I now utilise significantly more capital than I did at aged 18, but in the grander scheme of things, I suspect I will feel the same way at 35, looking back at when I was 25. The price of admission, the price to make mistakes and learn, is still low in my eyes. Anyway, this short memo from Ian covers this subject matter eloquently.
“The market loves to destroy egos because only through humility can it prepare your mind to accept truth. Just like military training, the market needs to tear you down and destroy all your selfish beliefs and tendencies before it can build you back up. It is no accident that the greatest lessons occur when we are the most confident. My biggest losses have all occurred after my biggest wins. During periods of over-confidence is when we decide to get lax with our checklist, analysis, maintenance due diligence, or expand outside our circle of competence into areas we don’t have competence. This is when the market comes in and destroys our ego again. It is not surprising that many successful investors are not arrogant or brash, but self-reserved and humble.”
Other Items I Read
Note: ($) indicates there is a paywall on this content.
• Doomberg: On the Cusp of an Economic Singularity
• Karo India: The Business of Delhivery
• Stratechery: Tech & War
• Of Dollars & Data: When was the last time the market was fairly valued?
• Value Stock Geek: Cheap vs Moats
• Net Interest: Commodities Trading
• Musings on Markets: The Bottom Line
🕵️ Company Insight 🕵️
• Value Stock Geek (GOOGL): Google Write-up
• Twitter Blog (TWTR): Twitter (finally) unveil Shop feature
• Hindenburg Research (NTRA): Short report on Natera
• SemiAnalysis (NVDA): Nvidia Hacked - A National Security Disaster
• Golden Lake (TOST): Toast Write-up
• Marketplace Pulse (TGT): Target is not scaling its marketplace
• Cedar Grove Capital: (SG): Sweetgreen Write-up
• Giro (NU): Nubank Write-up ($)
Great Listens
There is a huge range of Podcasts to listen to, and the choice can feel quite saturated at times. Here, I will share three podcasts I listened to during the last two weeks, that I feel are worth your time.
(1) The Art And Science Of Valuation, With Professor Aswath Damodaran
Money Concepts
A truly fantastic conversation between 10-K Diver (the education thread machine) and Aswath Damodaran, the Dean of valuation. Slightly more academic subject matter here, but conducted in a way that is accessible to everyone. Topics of discussion include valuing different kinds of businesses, the cost of capital, risk premiums, education, ESG, and so much more.
If you have the time (it’s nearly 2H long) this is great for anyone looking to learn or sharpen their understanding of fundamental investing. Sadly, this podcast was not shared via traditional means, it’s located on Callin, a new podcast platform for creators and the like. However, it is accessible, free of charge, to listen to without an account. I will drop the link below.
Guest: Aswath Damodaran
(2) Mark Zuckerberg: Meta, Facebook, Instagram, and the Metaverse
Lex Fridman Podcast
A fantastic conversation between Lex Fridman and Mark Zuckerberg about all things meta. Spotify gave me the option to watch this one, and I think that’s certainly the best experience, given that the conversation turns quite uncomfortable at points as the host, Lex Fridman, has its own views on social media’s role in the world.
The conversation tackles; identity in the metaverse, security, Instagram’s whistleblower, mental health & social media, morality, and a bunch more.
Guest: Mark Zuckerberg
(3) Discord: Jason Citron
How I Built This with Guy Raz
I personally love listening to Guy Raz interview founders. As a youngster, in my late teens, it was part of what got me so enthused about start-up culture, and investing generally. The tough questions, the soothing background music, it’s a good vibe. Candidly, I don’t listen to every episode like I used to, but I will always jump into one that I find of interest to me (podcast saturation, ya’know).
This episode features James Citron, one of the founders of the popular messaging platform, Discord, which now boasts over 150M, active users. Once a hub for gamers, Discord has grown to become a place for communication and community more broadly.
Guest: Jason Citron
Something Interesting (and kinda sad)
Yen Liow’s fund, Aravt Global, appears to be shuttering its doors. I have previously written about Liow (“Learning from Yen Liow: Game Within the Game”), shared many of his talks, and learned a lot from him as a young investor. So, this news was sad to hear.
After being open for more than 7-years, the fund, which had drawn adoration through its professing of buying high-quality moaty compounders, lost 8.5% in 2021, followed by a double-digit decline in 2022 through February. Larger positions in Five Below, PayPal, and Visa were some of the culprits.
Liow later stated in his closing letter that “When we launched in 2014, I made a promise to return capital if I ever lost conviction in our ability to deliver superior absolute returns sustainably. I believe our flagship long/short equity strategy has reached that point”
You can find more about this closure in this WSJ article.
Conor,
Author of Investment Talk
Appreciate the shout-out!
“To quote Liberty.. “¯\_(ツ)_/¯””
¯\_(ツ)_/¯