Podcast Summary
Market Debate: New Norm or Temporary Aberration?: Understanding historical context and considering various perspectives is crucial for making informed investment decisions.
The current market conditions could be the new norm or a temporary aberration. While some believe the Federal Reserve will regain control and interest rates will drop, others argue the last 18 months represent a shift from the previous decade of low inflation and easy access to capital. This debate has significant implications, as it affects investors' perspectives on current interest rates and the potential for mean reversion. Aswath Damodaran, a professor of finance at NYU Stern School of Business, suggests that the latter perspective may be more reasonable, given historical context. This discussion underscores the importance of understanding market history and considering various perspectives when making investment decisions. Additionally, the episode emphasizes the value of resources like Tigus, which streamline the research process and enable investors to focus on analysis rather than data aggregation.
A return to higher interest rates and inflation could be the new normal: Companies may need to adjust strategies, potentially leading to changes in debt-equity mix and a focus on inflation-beating returns. Investors may no longer be able to hold cash, and risk capital availability could decrease, preventing unsustainable business models.
The economic landscape we've experienced in the last 18 months may not be as anomalous as it seems when viewed in the context of longer-term historical trends. If this is the case, the new normal could mean a return to higher interest rates and inflation, which would have significant implications for businesses and investors. Companies that have grown accustomed to low costs of capital may need to adjust their strategies, potentially leading to changes in the mix of debt and equity and a renewed focus on generating returns that beat inflation. For investors, the era of idle cash may be over, as holding cash becomes a losing proposition in a high-inflation environment. Additionally, the availability of risk capital may decrease, which could help prevent the proliferation of borderline sociopathic entrepreneurs and their unsustainable business models. While some aspects of the last decade's economic environment may not return, the damage caused by the rise and fall of such businesses serves as a reminder of the importance of sound economic policies and careful capital allocation.
Understanding natural rate of interest and inflation for predicting interest rates and valuing companies: The natural rate of interest and inflation are crucial factors for predicting interest rates and valuing companies. Inflation impacts growth rates and pricing power, while the natural rate of interest serves as a long-term anchor. Adaptability and flexibility of companies keep the market stable in a low interest rate environment.
Understanding the natural rate of interest and inflation is crucial for predicting interest rates and valuing companies. The natural rate of interest, which is the long-term expected rate based on inflation, is a more meaningful anchor than short-term fluctuations. Inflation, as a persistent macroeconomic factor, significantly impacts valuations by affecting growth rates and pricing power. The speaker's approach to valuation is to keep it insulated from macro variables by using a low cost of capital, which can push up value but is offset by lower growth projections due to the same low inflation environment. Despite the low interest rate environment, the market hasn't imploded because companies are adaptable and flexible to changing economic conditions. Inflation, as a stage hogging uncertainty, continues to dominate discussions on the economy and interest rates.
Companies' exposure to China's macroeconomic risks: Investors must consider the potential consequences of China's political shifts on their investments as multinationals reassess their reliance on China as both a manufacturing hub and a consumer market.
Companies' vulnerability to macroeconomic risks, particularly political instability and crises, is a significant concern for investors. China, as the second-largest economy in the world, poses a significant macroeconomic risk due to its interconnectedness with multinational corporations. The Chinese government's shift from predictability to unpredictability has created discontinuous risk for businesses, and companies are now reassessing their reliance on China as both a manufacturing hub and a large consumer market. This dilemma will impact multinationals worldwide, and investors must consider the potential consequences of these geopolitical shifts on their investments. The speaker emphasizes that while political risks are a concern, companies are increasingly recognizing the limitations of their Faustian bargain with China and are taking steps to mitigate their exposure.
US Equity Market Dominance May Fade: The US has led equity markets in the 21st century, but its dominance may not continue due to shifting economic landscape and companies reconsidering China presence. Diversification and considering international equities is crucial.
The dominance of the US equity markets in the 21st century may not continue indefinitely, especially as companies reconsider their presence in China and look for alternative markets. The US has been the leader due to its favorable environment for tech companies, but this may not be the case for the next wave of growth. International equities, which have been overlooked by many investors, could become more interesting as the global economic landscape shifts. However, it's essential to be diversified and not bet on a single geography or sector. The recent success of US tech companies, such as NVIDIA and Tesla, may not be replicated by the next generation of market leaders. It's unclear where the next big market will emerge, but it's likely that a combination of factors, including geopolitical developments and technological trends, will determine the winners.
NVIDIA's Dominance in the AI Market: NVIDIA leads the $350B AI market with an 80% share and 50% margins, built on 20 years of big data collection and chip advancements.
NVIDIA is a leading player in the rapidly growing AI market, estimated to be worth $350 billion, with an 80% market share and impressive 50% operating margins. AI, which has gained significant public attention recently with advancements in technology like ChatGPT and DALL E, is not a new concept but rather the culmination of two trends - big data collection and the increasing computing power of chips over the last 20 years. The implications of AI are vast and could significantly change the way we live and work, making it a promising and potentially disruptive technology. However, it's important to remember that the hype around AI and its potential applications should be balanced with a realistic understanding of its capabilities and limitations.
Skepticism about the automatic benefits of AI: Historical examples show that AI may bring new challenges and downsides, and a realistic perspective is needed on its potential impact on industries and jobs
While AI has the potential to bring about significant changes and improvements, it also comes with its own set of challenges and potential downsides. The speaker expresses skepticism about the notion that AI will automatically lead to a better life for everyone, citing historical examples where technology was supposed to make our lives easier but instead led to new forms of mechanical labor or information overload. The speaker also questions the business models of many AI companies and expresses concern that as more and more industries become automated, traditional investment firms and active investors may lose their relevance. Ultimately, the speaker urges caution and a realistic perspective on the potential of AI, recognizing that there will be winners and losers in this technological shift.
The Role of Active Investing is Changing: Active investing is becoming more challenging, even for experienced investors, and the number of active investors may decrease as markets become more efficient.
The role of active investing is changing and becoming more challenging. The speaker notes that in the past, active investing might have been successful for longer periods, but now it's becoming increasingly difficult. He also mentions that even PE and VC, which have historically benefited from low interest rates, didn't have a great decade. Furthermore, he questions whether there is truly "smart money" in investing, as even the most experienced investors can be wrong. The speaker is open to the possibility that more of the valuation process can be automated and is already working on it. He also believes that the number of active investors will eventually decrease as more mistakes are eliminated and markets become more efficient. The speaker emphasizes the importance of continuously questioning the value of active investing and being open to new technologies and approaches.
Investing Philosophies and Personalities of Successful Investors: Successful investors possess patience, ability to withstand peer pressure, and adapt to changing markets while maintaining a consistent philosophy and personality.
Successful investors come in various forms, from value investors like Warren Buffett to growth investors like Peter Lynch, and even macro traders like George Soros. Despite their different approaches, they all share a core philosophy that remains consistent throughout their investing lifetimes and a personality that matches their philosophy. Patience and the ability to withstand peer pressure are essential qualities for value investors. Finding the right investment philosophy for oneself involves introspection and understanding one's own comforts and discomforts. As markets shift, it's crucial to adapt and expand one's philosophy without abandoning its foundation. For instance, during the dotcom boom, some investors, like the speaker, had to reevaluate their approach to valuing disruptors, recognizing that these companies could potentially expand the total market size.
Learning from past mistakes in investing: Investors can improve their strategies by acknowledging past mistakes and adapting to new realities, recognizing the evolving value of franchises beyond gate receipts and merchandising to media revenues and team visibility.
Recognizing and learning from mistakes is an essential part of the investing process. The speaker shares his experience of underestimating the market potential of companies like Uber and Airbnb and how he applied this learning to his valuation of other businesses, such as sports franchises. He emphasizes that the value of a franchise is no longer just based on gate receipts and merchandising but also on media revenues and the team's visibility. The speaker also notes that the motivations for buying a franchise can vary, from generating cash flows to simply being a desirable possession. By acknowledging past mistakes and adapting to new realities, investors can make more informed decisions and improve their investment strategies.
Billionaire investors transforming sports and entertainment industries: Disruptive technologies and shifting business models require agility and adaptability in sports and entertainment industries, with billionaire investors reshaping the landscape through new business models and technologies
The worlds of sports and entertainment are being transformed by billionaire investors who view these industries as toys rather than businesses based on value. This trend, which has been evident in the increasing prices of sports franchises, means that financial fundamentals may no longer be a reliable guide to understanding the pricing of these assets. In the realm of entertainment, the business model has also undergone significant disruption, particularly in the music industry. The rise of streaming services and the decline of traditional album sales have forced the industry to adapt, with streaming companies like Spotify and Apple Music now dominating the landscape. This shift in business models has led to new ways of producing and distributing content, with Netflix leading the charge by investing heavily in original programming to attract subscribers. Despite initial skepticism, this strategy has proven successful, with Disney also joining the fray and investing billions in content production. Overall, these developments underscore the importance of staying agile and adaptable in the face of disruptive technologies and shifting business models.
The Future of Content Provision in the Entertainment Industry: The entertainment industry is in flux due to streaming services, but adaptable companies that stay true to their vision will thrive
The movie and broadcasting industry is undergoing significant changes due to the rise of streaming services, but the future structure of content provision is uncertain. Companies like Netflix, Disney, and HBO are experimenting with different models, but none have solidified a successful business plan. The demand for entertainment remains constant, but the industry's instability leaves room for adaptable companies to succeed. Patagonia and Birkenstock are examples of companies that have found internal consistency and profitability by staying true to their vision. Ultimately, the entertainment industry's future remains uncertain, and companies must adapt to the shifting landscape to thrive.
Instacart's Overhyped Valuation: A Reminder of Consistent Narratives and Reality: Investors' tunnel vision and market mood can lead to overhyped valuations, but consistent narratives and reality are crucial for companies' success.
Consistent narrative and actions are crucial for companies, and Instacart serves as an example of this. Instacart, a company valued at $39 billion during the height of the pandemic, is now seen as a niche business worth around $8-9 billion. The inflated valuation was due to investors' tunnel vision and the mood of the moment. The company's narrative of online grocery shopping becoming the new norm was overwrought, and the reality is that most people prefer shopping for groceries in person. Instacart's story is a reminder that VC investors are not always smarter or better gauges of businesses than the public. The Adani Group, an Indian infrastructure company, is another interesting case. Despite facing accusations of fraud and manipulation, it is valued at 8.5 to 60 times EBITDA due to its position as the missing infrastructure piece in India's growth story. Overall, understanding the importance of consistent narratives and avoiding overhyped valuations is essential for investors.
Company valuation goes beyond economics: politics and government connections matter: Political connections and uncertain legal environments can complicate company valuation, while traditional investments carry risks like duration mismatches and deposit instability.
Company valuation involves more than just economic factors; politics and government connections can also impact a company's value. The Adani Group, for instance, presented a complex valuation scenario due to its political and economic strengths, as well as potential fraud allegations. Some companies, like Moderna or those operating in uncertain legal environments, may be challenging to value due to a lack of understanding of the industry or uncertainty surrounding ownership rights. The financial crisis involving banks served as a reminder of the risks associated with traditional investments and the importance of understanding the potential dangers, such as duration mismatches and deposit instability.
Deposit stickiness in the tech startup industry: Factors like age, business concentration, geography, and growth rate influence deposit stickiness. Older depositors, those spread out across the country, and low growth banks are preferred. The overselling of ESG investing led to a backlash, but impact investing may offer a more balanced approach.
The assumptions about deposit stickiness in banking can be challenged when dealing with specific groups of depositors, such as those in the tech startup industry who are highly interconnected. This was exemplified by the case of SBB, where the bank went from healthy to effectively dying in just two days due to the interconnectedness of its depositors. When evaluating deposit stickiness, factors such as age, business concentration, geography, and growth rate should be considered. Older depositors, those spread out across the country, and low growth banks are preferred. The sudden shift in attitudes towards Environmental, Social, and Governance (ESG) investing may have been influenced by the low-interest-rate environment, leading to an overselling of its benefits. However, the backlash against ESG investing is due in part to its overselling and the missed opportunity to create a healthier movement that balances good intentions with realistic outcomes. Impact investing, the potential successor to ESG, also faces similar challenges and requires careful consideration of approach and outcomes.
Impact investing may not yield desired results in reducing fossil fuels: The argument for increasing cost of capital to reduce fossil fuels may lead to unintended consequences, including an increase in private equity investments in fossil fuels and lack of progress in alternative energy production. Focus on sustainability, discipline, and finding a niche for successful impact investing.
The argument for increasing the cost of capital to reduce fossil fuel exploration and promote alternative energy may not yield the desired results, as someone else will eventually step in to meet the energy demand. Instead, the outcome could be an increase in private equity investments in fossil fuels and a lack of significant progress in alternative energy production. It's crucial to consider the potential unintended consequences of impact investing and to question the assumptions behind the chosen alternative energies. Additionally, the pursuit of above-average returns through active investing is a human desire that is unlikely to disappear, ensuring that a significant portion of capital will continue to be allocated towards active investment strategies. To be successful in impact investing, it's essential to focus on sustainability, discipline, and finding a niche rather than striving for excessive growth.
Relying too much on the Fed for market direction: Recognize markets are driven by demand and supply, trust its judgments, and allow time for new insights.
The excessive focus on the Federal Reserve and its actions in the financial markets has led to a lack of focus on fundamental analysis and individual responsibility. This reliance on the Fed for market direction has become a harmful trend, leading to a standstill in the investing world whenever an FOMC meeting occurs. Instead, it's essential to recognize that markets are ultimately driven by demand and supply, and inflation is a result of our own behavioral factors. The answers to the future lies within the market itself, and we should trust its judgments, despite its mistakes. Additionally, having an open schedule and allowing oneself time to think and explore new ideas can lead to valuable insights and discoveries.
Understanding Intangible Assets' Role in a Company's Value: Intangible assets like brand name, style, and technology contribute significantly to a company's value, but their exact percentage cannot be easily quantified or separated. Instead, accept aggregated values on financial balance sheets.
The value of a company, particularly in terms of intangible assets like brand name, style, and technology, cannot be easily quantified and separated. This was discussed in relation to the Mattel case, where the company, which is over 250 years old, experienced a new lease of life under the leadership of an outsider CEO. The speaker emphasized that it's less important to know the exact percentage of value that comes from each intangible asset, as they are not separable and cannot be sold off independently. Instead, it's more useful to accept aggregated values on a financial balance sheet. The speaker also highlighted the difference between financial and accounting balance sheets, with the former being forward-looking and the latter backward-looking. The importance of understanding the role of intangible assets in a company's value was emphasized, as was the passion and curiosity of the speaker in the investing world.
