Transcript #533

QAV 533 CLUB

Cameron  00:06

Wel­come back to QAV. This is episode 533. We’re record­ing this Wednes­day the 24th of August, 9:03am on the east coast of Aus­tralia, prob­a­bly late in the after­noon in LA, and I men­tion that because our guests — to wel­come back on the show, his first time back since July 2020 when we were all going “oh my god, we’re all gonna die” — is Tobias Carlisle from Acquires Funds. Author of two of the best books on val­ue invest­ing, The Acquir­ers Mul­ti­ple and Deep Val­ue, co-host of The Acquir­ers pod­cast — that’s when you know you’ve real­ly made it, when you get your own pod­cast — cho­sen as val­ue invest­ing month­ly mag­a­zine’s Sex­i­est Val­ue Investor 2022. I just made that up. But if it’s not a thing it should be…

Tony  00:53

Who came sec­ond? War­ren or Char­lie?

Cameron  00:58

There’s not a lot of com­pe­ti­tion.

Tobias  01:02

I’d be one of the young ones.

Cameron  01:05

Roger Mont­gomery is a good-look­ing dude. It’d be between him and Roger Mont­gomery, I think.

Tobias  01:10

He’s a good look­ing fel­low.

Cameron  01:11

Yeah. Wel­come back to the show, Tobias Carlisle.

Tobias  01:15

Thanks Cameron. Thanks, Tony. Thanks for hav­ing me.

Cameron  01:18

Mate, how’s it been for you the last cou­ple of years? Last time we spoke to you, as I said July 2020, we were in peak COVID lock down. In Bris­bane, it was pret­ty cruisy. We went through the next cou­ple of years with hard­ly any cas­es, hard­ly any lock downs. Syd­ney was a lit­tle bit hard­er. Mel­bourne had it real­ly tough as I’m sure you heard; they were locked down pret­ty much for a year. I was in LA just recent­ly, and peo­ple were still walk­ing around wear­ing masks every­where. It was a bit of a cul­ture shock to me to go from Aus­tralia where we haven’t had masks for a long time, or lock downs, what­ev­er, to see LA. I know the gov­er­nor there, or some­body, was talk­ing about, “oh, we might have to go back into lock­down.” This is about a month ago, I left. What’s life been like for you? We’ll get into invest­ing, but how’s the last cou­ple of years been for you? COVID-wise, busi­ness-wise, all that kind of stuff?

Tobias  02:07

Yeah, I most­ly ignore COVID, and I don’t wear a mask or any­thing like that. The whole fam­i­ly caught it real­ly ear­ly on and I haven’t wor­ried about it since. So, it’s been a non-event for me, too. I always find it a lit­tle bit odd when I go out and see peo­ple in their masks, I always for­get that that’s going on. Oth­er than that, you know, busi­ness is good. I would like val­ue to get its bid, but I’m guess­ing we’re going to talk about that a lit­tle bit. But aside from that, you know, I can’t com­plain.

Cameron  02:36

As the pod­cast goes, you guys always seem to be hav­ing a lot of fun on that. Its a good, fun show.

Tobias  02:41

Yeah, it’s real­ly fun. It’s, you know, the idea is that it’s sup­posed to be the way that we would talk to each oth­er in a bar after a con­fer­ence, like that was the idea: “val­ue after-hours”. So, its sup­posed to be pret­ty loose and it’s sup­posed to be what we would talk about. It ends up being a lit­tle bit more struc­tured than that, but that’s the idea. Basi­cal­ly, we just bring some­thing that we’ve seen and that we want to talk about. It’s very easy to do and I like talk­ing amongst the guys.

Cameron  03:07

And, what’s going on in the world of val­ue for you? Find­ing any­thing under the rocks when you’re turn­ing them over?

Tobias  03:15

So, in my uni­verse I’ve got two funds. I’ve got the Acquir­ers Fund, which is mid cap and large cap domes­tic US equi­ties; and I have anoth­er fund too, Acquir­er’s Deep Val­ue Fund, which is a small and micro fund and that’s also domes­tic US. In both of those funds, the hold­ings, I think, nat­u­ral­ly, I think that they’re deeply under­val­ued. But I think that any­time there’s any exter­nal analy­sis of those funds, they always score very high­ly on a few fronts; they score very high­ly on the val­ue ratios which you’d expect — I mean, they’re cheap on a val­ue ratio — they also score quite well on a return on cap­i­tal basis, which you prob­a­bly would­n’t expect. But I think that we’re in this unusu­al time in the mar­ket, and the same thing hap­pened in 2000 as well, where the val­ue port­fo­lios are high­er qual­i­ty than the expen­sive port­fo­lios. And the dri­ver of that is that we’ve had a lot of incred­i­bly expen­sive prof­it­less tech mak­ing up the most expen­sive stuff, and that has come back. But I don’t think peo­ple appre­ci­ate that if you have prof­it­less tech and it comes back 90%, it can still be expen­sive down 90% — and that’s what I think is the case. In 2000 we had prof­it­less tech go, then more prof­itable tech went sec­ond, and the rest of the mar­ket went third. I think we saw that this time as well. We’re in this fun­ny space now where If I had to bet on it, and I am, I would say that this is a lit­tle Bear mar­ket bounce, and we prob­a­bly haven’t seen the full extent of the sell­ing yet and that’s com­ing. I don’t think that’s a very pop­u­lar point of view, but I think that’s where the data lead me.

Cameron  04:58

What do you think, TK?

Tony  04:59

We prob­a­bly have a dif­fer­ent per­spec­tive. I don’t real­ly look at the cycles in the mar­ket oth­er than, I agree with you, the last two years felt like 1999 and 2000 again in that growth was just ridicu­lous­ly being bought with a FOMO men­tal­i­ty with­out try­ing to val­ue the com­pa­nies of all. And we’ve had growth investors on the pod­cast and ask them what their met­rics were and how do they val­ue a com­pa­ny, and it was like, “val­u­a­tion. Don’t wor­ry about it.

Tobias  05:28

“That’s what’s hold­ing you back.”

Tony  05:29

If you buy a stock and you get the val­u­a­tion wrong, it’ll only go up two times, not three times. Yeah right. I’ve found in my expe­ri­ence is I still find good com­pa­nies in all sorts of mar­kets, and they regress to the mean. And it’s, it’s the fact that a lot of the mar­ket divides itself into these box­es like tech and growth and val­ue that gives you the oppor­tu­ni­ties to buy things that are out of favour and wait until they become in favour. There’s a lot of macro stuff going on in the world at the moment; Chi­na’s still cut­ting inter­est rates, there’s prop­er­ty prob­lems over there, there’s the Ukraine war — which I thought would be wrapped up with­in a month, it’s still going on — there’s gas short­ages in Europe, infla­tion I saw yes­ter­day is pre­dict­ed to go to 19% in the UK. So, there’s still a lot that can go wrong which could be the start of a bear mar­ket. But again, who knows? And who knows what the sec­ondary effects of all those things are. So, I per­son­al­ly ignore the macro. What about you, Tobias? Do you pay atten­tion to macro in how you invest?

Tobias  06:32

It does­n’t enter into my invest­ment process at all, but I do pay atten­tion to it just because it’s, it’s fun. You know what they say, it’s astrol­o­gy for men. That’s basi­cal­ly the way I feel about it. It’s not so much that it’s just unpre­dictable, as you say, you can be right about the event, and you might be com­plete­ly wrong about how the mar­ket reacts to that event because every­body thought that was what was going to hap­pen and that was what they were prepar­ing for. And I’ve seen that plen­ty of times in com­pa­nies. I do some merg­er arbi­trage some­times, and it’s that uncer­tain­ty that is what cre­ates the dis­count. And in that uncer­tain­ty, you have the best-case out­come and the worst-case out­come, and some­times, or often, the worst-case out­come is what actu­al­ly man­i­fests. That’s what hap­pens. And you still get a ral­ly on that, because the mar­ket prefers the worst-case out­come to the uncer­tain­ty.

Tony  07:28

Yeah.

Tobias  07:28

And so, you are agnos­tic to it, but I just try to use it to tem­per my own expec­ta­tions about what the port­fo­lio will do. Because, if we go into a big draw­down then it’s inevitable that the port­fo­lio fol­lows, so I nev­er let myself get too excit­ed about the future. I’m always assum­ing the worst and hop­ing that we can sur­vive it or posi­tion­ing to sur­vive it.

Tony  07:53

Well, how do you posi­tion, then, if you’re hop­ing for the worst. Do you go to cash? Do you hold any cash, or are you ful­ly invest­ed?

Tobias  07:59

No, that’s the obvi­ous ques­tion. No, I don’t do that. I assume in every posi­tion that I put on that the worst-case sce­nario will man­i­fest after I put it on. And so, I want a com­pa­ny that can sur­vive through its worst-case sce­nario. We were talk­ing about this this morn­ing when I record­ed the pod­cast: it used to be very sim­ple to go back and look ten years back, and you’d always have a reces­sion or depres­sion to give you an idea how a com­pa­ny per­formed through that peri­od of time. Now, it’s been so long in the States in any case, and Aus­tralia I think it’s even longer, right? You can’t find out what hap­pened. I remem­ber doing some analy­sis on the Aus­tralian banks — this was quite a long time ago, this was prob­a­bly in 2010 — and run­ning the banks back and try­ing to find a reces­sion and going through copies of data and had to go back to like 1993, or some­thing like that.

Tony  08:48

’93 was the last reces­sion in Aus­tralia, yeah.

Tobias  08:51

That’s crazy. That’s amaz­ing. So, we’ve solved that, we’ve solved the busi­ness cycle.

Cameron  08:54

Well, they were try­ing to solve it for us, I think.

Tony  08:57

Yeah, maybe. I mean, cer­tain­ly the Reserve Bank thinks they’ve solved the busi­ness cycle, and they just print mon­ey when things look tough. But, that chick­ens gonna come home to roost, I have a feel­ing.

Tobias  09:10

How is it going to come home to roost? What do you think hap­pens?

Tony  09:13

Yeah, but, like, infla­tion in Aus­tralia is high-ish but not enough to inflate away debt quick­ly. It’s got to get way up there before that’s going to hap­pen. And that’s a bad thing for the econ­o­my any­way, so, yeah.

Tony  09:13

Well, if you’ve got lots of debt still sit­ting there, it’s got to get paid off at some stage — or writ­ten off. So, it’s going to be a hit either way.

Tobias  09:21

Or inflat­ed away.

Tony  09:22

Or inflat­ed away, yep.

Tobias  09:24

Seems to be their pref­er­ence.

Cameron  09:26

Sor­ry, explain that to a dum­my like me. How do you inflate away the debt? How does that work?

Tobias  09:43

There’s gen­er­al­ly a drift. We’re gen­er­al­ly print­ing mon­ey over time, there’s gen­er­al­ly more mon­ey out­stand­ing. Any asset or debt is denom­i­nat­ed in that token that you’re print­ing more of all the time. The pur­chas­ing pow­er of that token goes down. The val­ue of that asset denom­i­nat­ed in that token goes up, even though on a pur­chas­ing pow­er basis it might be sta­t­ic, and the val­ue of that debt on a pur­chas­ing pow­er basis goes down. So, the debt fig­ure, you might just be pay­ing back the inter­est and leav­ing the prin­ci­ple there. But you know, what would have seemed like an extra­or­di­nar­i­ly large amount of mon­ey fifty years ago, or thir­ty years ago, is a very mod­est sum of mon­ey these days. To be a mil­lion­aire used to be some­thing real­ly impres­sive, and now that means you’ve paid off your house, or some­thing like that.

Tony  10:31

And that’s prob­a­bly the best exam­ple that peo­ple might relate to. If you take out a mort­gage for $500,000 in twen­ty- or thir­ty-years’ time, it’s gonna be so insignif­i­cant you’re not even going to wor­ry about it because the house val­ue’s gone up and the cur­ren­cy’s inflat­ed, so $500,000 is worth prob­a­bly a cou­ple $100,000 in the future. The same thing with gov­ern­ment debt, right, over time what might be in the bil­lions now won’t seem that bad in twen­ty-thir­ty years’ time because infla­tion has just inflat­ed mon­ey past it.

Cameron  11:03

Okay, thanks.

Tony  11:05

It also assumes that you don’t keep bor­row­ing at the same rate. And that’s, you know, that’s the oth­er side.

Tobias  11:10

There’s the prob­lem.

Tony  11:11

If gov­ern­ments have got­ten used to win­ning elec­tions because they make lots of promis­es and then bor­row to pay them, that’s not going to stop quick­ly.

Tobias  11:18

Some­one’s got a great line like that, where they say, “an elec­tion is like an auc­tion on future spend­ing,” or some­thing like that. I for­get who said that it’s prob­a­bly one of the Aus­tri­an econ­o­mists.

Tony  11:30

Well, it’s become a real busi­ness plan in Aus­tralia. You see the gov­ern­men­t’s here will stop spend­ing in the last two years of their term so they can save it up to promise as one big hit at elec­tion time.

Tobias  11:41

Ah, clever.

Tony  11:43

So, you grew up in Aus­tralia so you would have paid atten­tion to the Aus­tralian mar­ket, but your funds are US based. Can you tell me what the dif­fer­ence between the Aus­tralian mar­ket and the US mar­ket is? I know you have quar­ter­ly report­ing over there, we have six month­ly. If I was look­ing at a bal­ance sheet for an Aus­tralian com­pa­ny, do I have to trans­late it to US speak, or is it essen­tial­ly the same thing? Is oper­at­ing cash flow in Aus­tralia the same thing as oper­at­ing cash flow in the States, for exam­ple?

Tobias  12:09

They are most­ly equiv­a­lent. They’re large­ly equiv­a­lent. It’s just it’s a slight­ly dif­fer­ent lan­guage, because GAAP is US GAAP, and Aus­tralia is Aus­tralian IFRS, that’s Inter­na­tion­al Finan­cial Report­ing Stan­dards. And so, every coun­try that’s not the US or Cana­da has IFRS, and they have their own local imple­men­ta­tion of IFRS. I used to know it much, much bet­ter than I do now because I’ve got lazy, because I don’t real­ly look out­side the US much. I’m most­ly focus­ing on GAAP and all my sys­tems are built for GAAP. Aside from the report­ing, though, there are some sig­nif­i­cant struc­tur­al dif­fer­ences between the mar­kets. One of them is that they have mar­ket mak­ers here. So, I don’t real­ly under­stand the func­tion of the mar­ket mak­ers, I think they’re unnec­es­sary because we don’t have them in Aus­tralia and the Aus­tralian mar­kets func­tion per­fect­ly fine. The oth­er big dif­fer­ence is sec­tor com­po­si­tion. So, Aus­tralia is heav­i­ly finan­cials, it’s half finan­cials, which is most­ly the big banks. And then it’s 15% basic mate­ri­als, some­thing like that, and then every­thing else is squashed into that remain­der and so there’s very lit­tle tech. Where­as, if you look at the MSCI World, which is the World Index, tech tends to be about eleven sec­tors, and then the US has a heav­ier weight­ing towards tech. I for­get now, it might have been a lit­tle bit overblown by the bub­ble that we went through over the last two years, but I would guess that it’s set­tled some­where around 13 or 14 or 15%, some­thing like that. And that’s a big dif­fer­ence between the US, and real­ly the rest of the world, that it does have these big con­sumer dis­cre­tionary busi­ness­es. You know, like a Google or an Apple that don’t real­ly exist in oth­er coun­tries. So, it would be very easy to con­struct a port­fo­lio here if you’re try­ing to keep your sec­tor weight­ings rea­son­ably equal where­as it’s quite hard to do that in Aus­tralia, because the Aus­tralian mar­kets just like the Cana­di­an mar­ket, it’s more heav­i­ly focused on finan­cials and basic mate­ri­als.

Tony  14:01

Yeah, very much so. What about the size of the US mar­ket? I mean, I kind of feel, hav­ing invest­ed for a long time in Aus­tralia, I very rarely come across a com­pa­ny I don’t know much about because it’s been a rea­son­ably sta­t­ic mar­ket with two thou­sand stocks for a long time. Are you drink­ing from a fire hydrant in the US? Are you just focused on one sec­tor, or do you focus broad­ly?

Tobias  14:25

Yeah, I focus across every­thing because you have that advan­tage that if one sec­tor… because sec­tors and indus­tries tend to get cheap, all of the com­pa­nies in the sec­tor or the indus­try tend to get cheap at the same time or expen­sive at the same time because there’s a mania going on, or there’s some sort of localised depres­sion, or some­thing like that. So, it’s good to be able to go across bound­aries and do that because my two funds are slight­ly dif­fer­ent uni­vers­es, but I’m try­ing to express the same strat­e­gy in those two dif­fer­ent uni­vers­es. Although, it’s rea­son­ably easy to research them and they are all com­pa­ra­ble to some­thing else. But that’s, yeah, you’re right, I remem­ber being in Aus­tralia, the guy that I used to work for in Aus­tralia, he could just sit there with the announce­ment scrolling down the screen, and he would know — he was look­ing for cap­i­tal returns and things like that — he would know the com­pa­ny and he could react to it very quick­ly. Where­as you could­n’t open up the announce­ments, there’d just be too many, you just could­n’t stay on top of them. So, you need to do a dif­fer­ent type of screen­ing on cri­te­ria for val­u­a­tion or for qual­i­ty, or some­thing like that, bal­ance sheet strength, all those sorts of things.

Tony  15:35

Which is what you do with The Acquir­ers Mul­ti­ple. It’s a sim­i­lar sort of process to what we do, which is to down­load the data and then look for ratios and look for qual­i­ty and val­ue. How did you come across that? Was that some­thing that evolved out of what you were doing?

Tobias  15:48

So, when I was at UQ I used to go to the Social Sci­ences Library, and I’d go — and this was pre all of this stuff being in online data­bas­es. We were doing CD ROMs, but these jour­nals weren’t on CD ROMs. I just used to go and grab the, you know, they had the finan­cial ana­lyst jour­nal and var­i­ous oth­er jour­nals, and I would just go through the index, lit­er­al­ly just run­ning my fin­ger down the index, and see if they had any­thing that men­tioned val­ue. And I found one, there was a guy who is a Har­vard legal and eco­nom­ics guy, Michael C. Jensen is his name, and he did a whole lot of research in the 80s on takeovers. What he found was that… You know, aca­d­e­mics iden­ti­fy these things and say them in ways that every­body already knows is to be the case, but they kind of for­malise it a lit­tle bit. He just said, when you find these com­pa­nies that have enor­mous amounts of free cash, those are the ones that are tar­get­ed by the lever­aged buy­out com­pa­nies because they can redi­rect that cash flow. And then he came up with all these rea­sons why that was a good thing, because it would sort of tie man­age­men­t’s hands; they could­n’t expand, they were com­pelled to return cap­i­tal and redi­rect those cash flows into ways that real­ly ben­e­fit­ed the share­hold­ers who remained. Because, you know, to get out of the way of a lot of the lever­age buy­out guys, a lot of these com­pa­nies did a div­i­dend lever­age recap where they would just pay out a big div­i­dend and then they’d do the on-mar­ket lever­age buy­out. And so, I read a lot of his stuff and I read a lot of these things. One of these arti­cles that I read, or one of these jour­nals that I read, they said think about, it was EBITDA to enter­prise val­ue, as being the “acquir­ers mul­ti­ple”. And so, it just stuck in my mind. That was the late 1990s, and that was when dot coms were very pop­u­lar, and I thought this stuff is all old stuff from the 80s, this will nev­er… we’ll nev­er see this again. And then after 2002 it became a pri­vate equi­ty buy­out, activist mar­ket again. And I thought, well, that’s inter­est­ing, so these things do seem to go in cycles. You have a tech mania and then you have a finan­cial mar­ket, and then you prob­a­bly go back into a tech mania. And fun­ni­ly enough, that seems to have been what has hap­pened. Although we’ve come to the end of the tech mania, maybe the next thing is a finan­cial mania. But I just had that idea. And then, when I moved to the States, I did some research with a guy who was at the Booth School of Busi­ness, which is the old Chica­go School of Busi­ness. We went and found every bit of indus­try and aca­d­e­m­ic research we could find on fun­da­men­tal analy­sis and test­ed all this stuff in a mod­el that he had built, and the idea was we were going to track down… There were these old ratios that were invent­ed in the 30s to look at man­u­fac­tur­ing com­pa­nies to work out where they could stay sol­vent, whether they were cred­it wor­thy, and the ques­tion was, do these apply to things that aren’t man­u­fac­tur­ing com­pa­nies? Do these things con­tin­ue to apply to this day? Because they all have these real­ly com­pli­cat­ed for­mu­las, and they’d have these lit­tle coef­fi­cients for each of the days payable out­stand­ing, and that’d be 0.27. Now, why is that 0.27, I have no idea. But when they’d done the lin­ear regres­sion by hand, like least-squares method by hand, in the 30s they’d found that this was the best fit through the data. And so the ques­tion was, does this stuff con­tin­ue to work, or has this stuff stopped work­ing? Or did it nev­er work, and it was just pure­ly an acci­dent of look­ing through this data? So, we test­ed it and we found what had worked, what did­n’t work, what could be made to work again if we just made a lit­tle adjust­ment to it. So, a lot of peo­ple will know Piotrosky’s F score; he looks at com­pa­nies that ship on a price to book val­ue basis, and then he goes through and basi­cal­ly looks for, are they sol­vent? Do they have too much debt? Do they have, you know, all of the oth­er ratios chang­ing in a bad way? Are they chang­ing in a good way? And he gives them scores and if they score enough points out of nine then they’re good, and if they don’t score enough points out of nine, they’re bad. And we found that you could just adjust that a lit­tle bit to make it… One of the things that he looked at was share issuance, or shares bought back, and since he did that research share-based com­pen­sa­tion has become a much big­ger part of the mar­ket. So, we changed it to net shares issued rather than, or net shares bought back rather than the net shares issued. So, we did all those changes, then we put that all togeth­er into a sin­gle mod­el, and we wrote about that in a book called Quan­ti­ta­tive Val­ue that came out in 2012. And so, that real­ly was the basis for the way that I think about the mar­ket. One of the things that we found when we com­pared all of the val­ue ratios… So, we looked at price to book, we looked at all the flow met­rics (earn­ings, cash flow, oper­at­ing cash flow, free cash flow), we looked at account­ing met­rics like EBIT or EBITDA, and so on. And we test­ed them all and we found that the EBIT and EBITDA, basi­cal­ly you could­n’t sep­a­rate them rel­a­tive to scale to enter­prise val­ue. If peo­ple don’t know what enter­prise val­ue is: mar­ket cap­i­tal­i­sa­tion is the share price mul­ti­plied by the num­ber of shares that are out­stand­ing, and then enter­prise val­ue adds in the debt that the com­pa­ny holds and oth­er things that are like debt, so pref­er­ence shares. It looks to see if they’ve got any minor­i­ty inter­ests that mean that they don’t have all of the eco­nom­ic val­ue accru­ing to them, and any­thing that’s quite qua­si-debt, adds it all togeth­er. So, to give the house exam­ple that we had before, the pur­chase price of your house might be a mil­lion dol­lars and you might bor­row $800,000 and put down $200,000, as your deposit, so the mar­ket cap­i­tal­i­sa­tion of that house is $200,000. But it miss­es the fact that you’ve got this mort­gage sit­ting there for $800,000. And so, enter­prise val­ue is $1 mil­lion mar­ket, cap­i­tal­i­sa­tion’s $200,000. So, that’s what we’re try­ing. And you might get lucky and find there’s a safe buried in the back­yard, and when you open up the safe there’s $500,000 in the safe, so you have to adjust for that. And that’s basi­cal­ly what the enter­prise val­ue does. When you scale enter­prise val­ue to EBITDA, that’s like oper­at­ing earn­ings; any oper­at­ing earn­ings fig­ure like that, so oper­at­ing cash flow, EBITDA, oper­at­ing income, they all give you rough­ly the same answer. And it’s just basi­cal­ly com­par­ing what you’re pay­ing, which is the enter­prise val­ue, that’s the real cost, ver­sus what you’re get­ting, which is the account­ing mea­sure of cash flow, basi­cal­ly, EBITDA. We found that that one per­formed best in the study that we did through to 2011.

Tony  22:11

Yeah, wow. So, you used that to invest for your­self first? Or were you run­ning peo­ple’s mon­ey from day one, or what hap­pened there?

Tobias  22:19

No. I had been using it before then because I just liked the met­ric. I like the intu­ition of the met­ric, because I had read about it in that book, and I liked that 80s style of analy­sis where you were look­ing into things that could get bought out. And so, I was find­ing in the US in par­tic­u­lar, you’d find that there are lots of these lit­tle com­pa­nies that I think — there are few­er now, which I think is caused by Sar­banes Oxley — but at that time, there were lots of these com­pa­nies around. And there were these guys at this bank, Piper Jaf­fray did this research, and they found that there were count­less num­bers of these com­pa­nies that were too small to be in any good index. So, they might not even be in the Rus­sell 2000, which is the small­est two thou­sand of the biggest three thou­sand. And I think that there are about four or five thou­sand list­ed stocks in the states on these index­es. And so, these com­pa­nies were basi­cal­ly orphaned, they weren’t in any of the index­es, and they were all very cheap. Oth­er­wise, they meet all the cri­te­ria that we would look for; they’re grow­ing pret­ty quick­ly, they got a lot of cash gen­er­a­tion, pret­ty clean bal­ance sheet, basi­cal­ly run by the found­ing fam­i­ly. And these guys said, there’s this pref­er­ence in the mar­ket for big­ger, bet­ter, growthi­er com­pa­nies, and these things will nev­er get tak­en out. Ini­tial­ly, they called them endan­gered species, then they start­ed pub­lish­ing this report which they called the Endan­gered Dar­win’s Dar­lings because they were all com­pa­nies that weren’t going to sur­vive. I think that was what cre­at­ed all the dry tin­der for the activism that explod­ed in the ear­ly 2000s, because it was a very sim­ple mat­ter to come in and find these things, trad­ing two or three times enter­prise. So, EBITDA to enter­prise val­ue, which basi­cal­ly means that they pay them­selves off. You buy them and they get enough mon­ey back in a few years to jus­ti­fy the pur­chase price. And then these are run by fam­i­lies, so they’re not going to do any­thing too sil­ly. They don’t sell at sil­ly prices — although, one thing that they do is that they would team up with pri­vate equi­ty and get tak­en out at a price that I was always a lit­tle bit miffed about, because it was way cheap­er than I would’ve ever solve these things. You know, you’d buy them at two or three times, they’d get tak­en out at five times. It’s not such a, it’s not a huge loss. It’s a good return, but it’s not as good as it could have been. So, they’ve gone away a lit­tle bit because the mar­ket has just trend­ed towards big com­pa­nies, and com­pa­nies have tend­ed to come pub­lic lat­er and big­ger. Where­as pre­vi­ous­ly they would have list­ed and grown, now they wait until they’re going to hit the big index­es because they don’t want to be orphaned. That was the strat­e­gy, and then after I got rea­son­ably com­fort­able with doing that, that was when I start­ed match­ing out­side mon­ey.

Tony  25:01

And so, you have two funds now, and I think one of them is an ETF? Or are they both ETFs?

Tobias  25:06

They’re both ETFs, yeah.

Tony  25:08

They’re both ETFs. Why did you choose ETFs? And in Aus­tralia, an ETF nor­mal­ly means low fees, is that the case with your funds?

Tobias  25:16

Yes. So, they’re low­er fee than you would get in a mutu­al fund or in a lim­it­ed part­ner­ship, which would be a hedge fund over here. The huge advan­tage of an ETF is, unlike a mutu­al fund or lim­it­ed part­ner­ship, or even a man­aged account, is the deci­sions that I make as the port­fo­lio man­ag­er to buy or sell don’t cre­ate tax­able events for the peo­ple who hold the ETF. So, it’s not like if you have a unit trust in Aus­tralia, which is the way that a lot of the funds are set up, when they buy some­thing and they sell it and they have a cap­i­tal gain, that cap­i­tal gain then flows through to you as the ulti­mate hold­er of the unit trust. That’s not what hap­pens with an ETF because they have this cre­ate-redeem func­tion where basi­cal­ly, it’s a lit­tle bit like get­ting script to script rollover in the takeover. If you get tak­en over and they offer script, you take script. Then you’re able to roll over your cap­i­tal gains tax until you even­tu­al­ly sell the share your­self. So, that is basi­cal­ly how it works in the back end of the ETF, which is incred­i­bly pow­er­ful. One of the things that you find after you’ve been invest­ing for a lit­tle bit of time is that the tax drag on suc­cess­ful invest­ments is mas­sive, and the dif­fer­ence between short term cap­i­tal gains and long-term cap­i­tal gains is so huge if you then com­pare them on a like for like basis. If you get 15% and you nev­er sell and you just allow some­thing to com­pound, that’s worth about 40% in short term cap­i­tal gains because that’s basi­cal­ly a mar­gin­al rate. The effort to pro­duce the after-tax return, after fee, is so much low­er in an ETF than it is in any of these oth­er struc­tures. That’s the main attrac­tion, because most peo­ple who have been invest­ing for a while become pret­ty sen­si­tive to tax­es I’ve found, and I cer­tain­ly got that way. So, it’s an incred­i­bly tax effi­cient strat­e­gy.

Tony  27:14

Is the oper­a­tion of an ETF the same as if it was a list­ed fund? I know, for exam­ple, if it’s an ETF that tracks an index there’s some­thing called a mar­ket mak­er sit­ting under­neath. So, if some­one joins the ETF and they need to buy some more shares, there’s some­body work­ing spin­ning the wheels under­neath to do that. Is that the same with your fund?

Tobias  27:35

That’s right. The names for them are a lit­tle bit mis­lead­ing, because, you know, there’s this idea that there’s pas­sive and that there’s active. So, a pas­sive fund tracks an index, and the index can have a huge active share. So, active share is just the devi­a­tion from what­ev­er broad-based index you have. So, the S&P 500 is a mar­ket cap­i­tal­i­sa­tion weight­ed float adjust­ed index of five hun­dred names in the States, and any­thing that devi­ates that because it’s got a val­ue tilt, or its small­er, has a big active share. But it could be an index prod­uct with an active share. So, the way that I have struc­tured Deep as an index for his­tor­i­cal rea­sons, because I took it over from some­body else — it had been oper­at­ing for a while, and it was an index fund — ZIG is an active Fund, which means that I trade the shares, but it did start out as an index fund. They made a change to the cap­i­tal gains tax over here where pre­vi­ous­ly it had to be an index fund to get the cap­i­tal gains tax treat­ment; when they changed that it was just a way for me to chop out a bit of costs out of the busi­ness. And I’m a val­ue guy, so I chop any costs out that I can. So, I got rid of the index, and now I’m man­ag­ing active­ly. But there’s no dif­fer­ence to the way that it was man­aged before, there’s no prac­ti­cal dif­fer­ence for the hold­er of a unit in ZIG. The mar­ket mak­er func­tion is inde­pen­dent of whether it’s an index or whether it’s an active, every ETF has that mar­ket mak­er func­tion. And that is so if you invest in the ETF, the ETF might nev­er trade, but if you invest always as liq­uid as the under­ly­ing secu­ri­ty — so, if the fund holds very large S&P 500 com­pa­nies, it’s as liq­uid as those under­ly­ing com­pa­nies. If the under­ly­ing is a bond that does­n’t trade very often, then it will be very illiq­uid, even if the unit’s chang­ing hands pret­ty reg­u­lar­ly. So, that is some­thing that you should watch out for, but the hold­ings in my funds are very liq­uid. There’s lots of liq­uid­i­ty there and the mar­ket mak­er stands, so if there’s nobody sell­ing, the mar­ket mak­er will make the sale. And that’s how mon­ey actu­al­ly ends up flow­ing to the fund: they have inven­to­ry, and they wait until they get a lit­tle bit short, the units of the fund, and then they do a cre­ate. And the way that a cre­ate works is some­body, these high fre­quen­cy traders typ­i­cal­ly, they cre­ate the port­fo­lio, they recre­ate it in the mar­ket, then they exchange it for units in the fund. So, the fund grows by accu­mu­lat­ing addi­tion­al hold­ings. The clever thing is that you can do this in a cus­tom way; so, if I want to sell some­thing out, I can use that cre­ate-redeem func­tion to sell it out and I can exchange it for units, or I can exchange it for oth­er com­pa­nies in in the mar­ket that I want to buy at the same time. So, it’s a great vehi­cle for invest­ment, because it’s very, very liq­uid. If you decide tomor­row that I haven’t done a very good job and you want to sell out, you can liq­ui­date your hold­ings imme­di­ate­ly on the mar­ket and nev­er have to speak to me again. And if you want to buy it, any­body can do it out of a bro­ker­age account.

Tony  30:40

So, you said one of the funds is a val­ue index fund. We don’t real­ly have that in Aus­tralia, but when we’ve looked into it– I think they do pub­lish index­es for val­ue — but when we looked into it, they were basi­cal­ly just tak­ing the top ten low­est PE ratio stocks with­in an index (top 200, or what­ev­er it was here). Is that the kind of sim­ple method­ol­o­gy for val­ue index fund in the States as well?

Tobias  31:07

So, I con­struct the index, all that means is that I put togeth­er a port­fo­lio on a quar­ter­ly basis and I send that to my index mak­er, which is a Ger­man firm by the name of Selac­tive. They then pub­lish the index and then the traders, the trade desk for the fund, have to match that index. So, it rebal­ances on a quar­ter­ly basis. But the way that the index is con­struct­ed, that has been the prob­lem with val­ue index­es, and con­tin­ues to be the prob­lem with val­ue index­es in the States. So, the big­ger, old­er index­es like the Rus­sell 2000 val­ue or S&P 500 val­ue, there are lots of these, every index now has var­i­ous sub-index­es that are bro­ken into valu­able growth or ESG, or what­ev­er the case might be. The val­ue index­es haven’t been great because they use price to book as their val­ue met­ric. And they do oth­er sil­ly things too, they’re not par­tic­u­lar­ly valu­able. They might look at the num­ber of employ­ees, it makes no sense at all. I’ve looked at a few of their method­ol­o­gy doc­u­ments, and they just, I don’t know what they were try­ing to achieve when they put it togeth­er. And then the per­for­mance is, as you’d expect, pret­ty ter­ri­ble from those, because price to book has­n’t been a par­tic­u­lar­ly good… I don’t know that price to book was ever a par­tic­u­lar­ly good met­ric, but it’s now devi­at­ing so far from the way that finan­cial state­ments are con­struct­ed that it’s just not a par­tic­u­lar­ly use­ful met­ric. The only sav­ing grace that it had is that val­ue has done so bad­ly over the last few years, price to book did least bad­ly of all of the val­ue met­rics because it was not track­ing val­ue very well.

Tony  32:43

Yeah, it’s inter­est­ing. I’ve con­sid­ered myself a val­ue investor for a long time, and I get puz­zled when I hear mar­ket com­men­ta­tors talk about val­ue doing well, or val­ue doing poor­ly com­pared to growth. And I’m think­ing, well, I’ve just been invest­ing, and it’s been going fine, so I don’t get that val­ue ver­sus growth. But there is a kind of pigeon­hol­ing going on there, as you say, when they try and con­struct an index for it. And that’s what they’re real­ly talk­ing about, isn’t it?

Tobias  33:06

There’s this idea of val­ue as a phi­los­o­phy, and val­ue is sort of, you know, “the val­ue fac­tor” is what the aca­d­e­mics call price to book. And so that has sort of seeped out into the invest­ment com­mu­ni­ty where the core val­ue is the extent to which attracts the val­ue fac­tor, and you can do these analy­ses and see. And so, my hold­ings… Because the start of my process is the acquir­ers mul­ti­ple, I tend to not score very well on a price to book basis because the book val­ue is irrel­e­vant to the process. I’m not look­ing at book val­ue at all. It’s a flow met­ric. And you can find that there are lots of busi­ness­es and lots of exam­ples of that. So, McDon­ald’s is a good exam­ple. McDon­ald’s is so good at return­ing cap­i­tal to share­hold­ers that now it has a neg­a­tive book val­ue. So, when you try to do a book val­ue analy­sis on it, you get a non­sense answer. But it’s not a dif­fi­cult process to do a val­u­a­tion on McDon­ald’s, because it’s a pret­ty sim­ple busi­ness and it’s been pret­ty steady, but it just fails the price to book, that tra­di­tion­al sort of analy­sis. So, flow met­rics have always been my pref­er­ence. The only thing to say though is that flow met­rics are volatile, earn­ings are more volatile than book val­ue. That’s the only sav­ing grace for the book val­ue argu­ment.

Tony  34:28

That’s what we find, too, is I can turn over my port­fo­lio twice a year because the flow met­rics change every time they report, from six months to six months. So, some­thing that was cheap can have a new set of num­bers and it’s not cheap going for­ward.

Tobias  34:43

We’re talk­ing about val­ue as a phi­los­o­phy here. So, val­ue is a phi­los­o­phy, you’re not look­ing at a sin­gle report at a sta­t­ic num­ber and then cal­cu­lat­ing a ratio from that. Prob­a­bly what you’re doing is look­ing at a series of reports try­ing to find a rough esti­mate for a growth rate of earn­ings or return on invest­ed cap­i­tal over time, and then look­ing sub­se­quent­ly to see if it can con­tin­ue to gen­er­ate these kinds of returns into the future. What’s that worth? What’s my oppor­tu­ni­ty cost when I look at oth­er things? So, over here I would look at the ten year, I think that’s a rea­son­able proxy to match the dura­tion of these busi­ness­es. This is the prob­lem, though, the ten year’s been so crushed that every­thing looks cheap rel­a­tive to the ten year. But if you run the ten year back towards his­tor­i­cal — it’s sub 3%, I think, at the moment — but his­tor­i­cal­ly, it’s been around 6%, on aver­age it has been around 6%, which is about a PE of 15 or 16. So, any busi­ness that is trad­ing at a high­er PE than 15 or 16 has to be grow­ing fast and have a high­er return than the ten year. That’s the way I think about it, any­way. But that’s val­ue as a phi­los­o­phy.

Tony  35:51

Yeah, it’s a lit­tle bit dif­fer­ent to what I do but I under­stand what you’re say­ing. That’s what I think is inter­est­ing in the mar­ket, is because of the index mar­ket com­men­ta­tors often talk about val­ue and growth as those index­es, but real­ly everything’s val­ue. Why would you over­pay for some­thing? So, it can be as wide as you want. And you know, at cer­tain stages, the growth stocks are val­ue invest­ments as well when they come back enough. So yeah, you’re right.

Tobias  36:16

The way that I think about it is to slight­ly reverse the process. I say, if some­thing has a rate of growth that is high and the cur­rent fun­da­men­tals of the busi­ness are low rel­a­tive to what you’re pay­ing for it, you’re imply­ing that you expect the rate of growth to be very high, for instance. Which may not be a bad bet, that might be the right thing to do, that might be per­fect­ly sen­si­ble in any giv­en case. It’s just that’s the explic­it bet, or the implic­it bet, that you’re mak­ing, and when you’re doing that, that’s a growth invest­ment because you require this busi­ness to grow mate­ri­al­ly to jus­ti­fy the price that you’re pay­ing. Where­as there are oth­er busi­ness­es… So, I own HPQ, which is Hewlett Packard, that’s the print­er busi­ness. There are two HPs for peo­ple who don’t know this: HPE and HPQ, and HPE is the enter­prise that’s all the sexy con­sult­ing, that’s the bet­ter busi­ness, and HPQ make print­ers. They’re the ones who are respon­si­ble for your print­er that does­n’t print, and every­body’s got like a $200 print­er that they use every now and again that does­n’t work very well. So, why would you buy that busi­ness? Well, they don’t have a lot of com­pe­ti­tion, they gen­er­ate a lot of cash flow, their man­age­men­t’s been very good at buy­ing back under­val­ued stock, and the stocks done pret­ty well as a result. That would be a more tra­di­tion­al val­ue invest­ment where there’s no growth — real­ly, if any­thing it’s shrink­ing — but that’s not nec­es­sar­i­ly a bad thing. If it’s under­val­ued and you buy that stock, you can still do quite well. And I regard that as being a deep val­ue invest­ment where I know that the busi­ness isn’t that great, but on a risk adjust­ed basis, risk to reward is pret­ty good. And the oth­er things where, yeah, it’s a stel­lar busi­ness, but it’s so expen­sive that it’s risky as an investor to take a posi­tion because you are requir­ing growth from it to jus­ti­fy the price, and that can be a dif­fi­cult thing. Ide­al­ly, you’d get things that are stel­lar busi­ness­es that aren’t very expen­sive, and that’s, that’s the Holy Grail…

Tony  38:14

That’s the Holy Grail, exact­ly.

Tobias  38:16

We’re try­ing to tri­an­gu­late towards that. But you’ve got­ta take your oppor­tu­ni­ties when you get them, they’re not always there. And so, you’re always look­ing for the ide­al and pick­ing the bits of hair off of the thing that you have to see if you can jus­ti­fy why you’re buy­ing it, that it’s worth it.

Tony  38:29

Yeah, neg­a­tive oil was a pret­ty good indi­ca­tor that it was time to get some ener­gy.

Tony  38:29

Yeah, no, I agree, and the stel­lar ones only come about every cou­ple of years, I find. For us a few years ago, it was oil stocks, right? The oil price was at $30 a bar­rel and the oil indus­try was going to crash because all the tanks were full, and tankers were off the coast of Chi­na and could­n’t unload and all the rest, and so no one was buy­ing oil stocks. But it was the best time to buy oil stocks. So, they’re the stel­lar returns.

Tony  39:02

Exact­ly. Let me just ask you some ques­tions about the US envi­ron­ment. I mean, if some­one’s inter­est­ed in invest­ing over there, and or buy­ing into your fund, for exam­ple, what do they watch out for from a com­pli­ance frame­work point of view. Like, for exam­ple, in Aus­tralia if you were going to buy into a fund, you would check to see if it was licenced — so, had an AFSL. Is there a sim­i­lar sort of regime in the US that we need to look at?

Tobias  39:28

Yeah, so I have to have a licence. I’ve had to pass this, they call them the series 65, series 7, a vari­ety of these sort of things in order to oper­ate an IRA. The IRA must be licenced in order to have a pub­lic com­pa­ny — sor­ry, in order to have a pub­lic fund. A pub­lic fund is not quite as com­pli­cat­ed as hav­ing a pub­lic com­pa­ny. I don’t have an inter­nal com­pa­ny sec­re­tary and those things, but the back end of that I share one. I sit on a trust, and the trust has four­teen or fif­teen funds on it. The back-office oper­a­tion for that is run from Mil­wau­kee because it’s a low­er cost state, and they do all of the bits and pieces that go into the back end. And that’s high touch, there’s a lot of work that needs to be done there. So, you would­n’t be able to have an ETF with­out being licenced and there’s an enor­mous amount of pub­lish­ing of updates and so on that go to the SEC. I would rec­om­mend that you look at the SEC fil­ings to make sure that the com­pa­ny’s prop­er­ly, the fund is prop­er­ly con­sti­tut­ed, then you can check to see the man­ag­er has the appro­pri­ate licence. And usu­al­ly that is a CRD num­ber, or if you Googled Acquires Funds LLC, all the fil­ings would come up at the SEC and also with FINRA, which is the body that gov­erns the man­agers like mine. So, we have report­ing oblig­a­tions at all of these dif­fer­ent lev­els, and it’s also state based to make it even more com­pli­cat­ed. So, there’s a Cal­i­for­nia ver­sion as well. So, there’s three gov­ern­ing bod­ies that that I have to deal with.

Tony  41:14

And what about for the pod­cast? Like, I went out and got my CAR for an AFSL, because ASIC here was crack­ing down on peo­ple giv­ing finan­cial advice in new media. What about for your pod­cast?

Tobias  41:28

I don’t men­tion the tick­ers of the funds and I don’t dis­cuss any ETFs and things that we’ve seen in the mar­ket, and a lot of that tends to be about per­son­al­i­ties. So, Julian Robert­son who was the Tiger founder passed away today. So, we men­tioned Julian Robert­son has passed away. That’s the sort of stuff that we’re inter­est­ed in, rather than pro­mot­ing the tick­ers, which I would nev­er do. I can’t do that on my own pod­cast with­out going through com­pli­ance. So, any­time that we want to men­tion a tick­er, or dis­cuss any­thing like that, it would need to get through com­pli­ance first before it’s released. It’s con­sid­ered a big no-no. If you do it, you’re mak­ing a release with­out hav­ing it approved first. So, it’s approved by a com­pli­ance group who have a rela­tion­ship with FINRA and they sub­mit things to FINRA before they’re released pub­licly. So, you need to be very care­ful. You could do it your­self, but you’d be faced with a num­ber of changes. Any­time that I actu­al­ly make a release it all gets red lined, and it costs me a few thou­sand dol­lars every time I do it, for the advice. So, I’m ret­i­cent to do it.

Tony  42:30

Sor­ry, the com­pli­ance group, was that a com­pa­ny that you sub­mit them to?

Tobias  42:34

I call it my com­pli­ance group; it’s actu­al­ly called Fore­side Quasar which is the name of the enter­prise that looks after it.

Tony  42:43

Okay.

Cameron  42:44

And this is just because you have a fund, you need to be care­ful? If you did­n’t have the fund, would you talk about stuff like that on your pod­cast?

Tobias  42:50

Yeah. Because I am licenced and because I have… the way the regime is struc­tured over here, it’s struc­tured around the tick­ers. So, any­time you men­tion a tick­er or the name of the fund, then that has to be signed off by com­pli­ance. But aside from that, you’re okay pro­vid­ed not giv­ing finan­cial advice. So, that’s why you often see every­body has the dis­claimer that this is not finan­cial advice.

Cameron  43:16

Yeah. And if you have the dis­claimer, that’s it, you’re free and clear if you just use the dis­claimer?

Tobias  43:23

If you made the dis­claimer and then you went on and pitched your tick­ers, you’d be in trou­ble. They would look at the sub­stance of what you’re say­ing. So, there are many investors who man­age accounts rather than a fund the way I do it. If you man­age an account, then you can talk about what­ev­er you want and you can pitch your­self as much as you want. It’s just the moment that it’s a prod­uct, you’re gone.

Tony  43:52

Are you talk­ing about your tick­er? Or are you talk­ing about, like, just as we did before, you spoke about McDon­ald’s? Can you talk about McDon­ald’s open­ly?

Tobias  43:59

I can. Yeah, so I can’t pro­mote my own tick­er.

Tony  44:02

Gotcha.

Cameron  44:03

Before we wrap up, Tobias, I know a lot of the folks that lis­ten to our pod­casts are learn­ing to be val­ue investors and are try­ing to get in the mind space of a val­ue investor, and they’re try­ing to think long-term. It’s been an inter­est­ing cou­ple of years to be a val­ue investor. In 2020 when we had you on, at least in Aus­tralia, it was very much all the growth stocks that were still sexy, and BNPL play­ers and all that kind of stuff, and cryp­to, and we spent a lot of our time say­ing, “yeah, ignore all of that, ignore all of that, ignore all of that. Let’s just focus on fun­da­men­tals, and we’re look­ing for busi­ness­es that pro­duce a lot of cash and are under­val­ued,” etc., etc. And we were doing okay, our port­fo­lios were doing okay back then. They weren’t doing okay if you com­pared them to the high end of the tech stocks — they weren’t grow­ing at 100% a year — but we were get­ting our 20% a year, it was okay. The last year it’s been pret­ty rough with a lot of the stocks that we were invest­ed in here; min­ing, with the Chi­na slow­down and all that kind of stuff, and Ukraine and blardy, blardy blar, it’s tak­en a beat­ing. As a long-term val­ue investor, can you give our audi­ence some hints or insights into how you stay cen­tred? How do you stay dis­ci­plined? How do you stick to your cir­cle of com­pe­tence despite all of the noise that’s going on around you, about this sec­tor, or that sec­tor?

Tobias  45:40

I talk about this a lit­tle bit on my web­site, acquirersfunds.com. There’s not much con­tent on it, it’s just the first page. This is some­thing I talk about a lit­tle bit, and I think this is what Buf­fett has said, too; to suc­ceed in the mar­ket, you real­ly don’t have to hit home­runs, you just have to make sure you don’t die on the way. You’ve got to sur­vive to the end, and the longer you sur­vive, the more you learn, and the more you learn about ways that you can lose mon­ey. So, I have stud­ied all the ways that peo­ple have blown up in the past; they’re all obvi­ous stuff, like don’t take on too much debt, don’t buy com­pa­nies that have got too much debt, watch out for par­tic­u­lar types of busi­ness mod­els, there are some busi­ness mod­els that get ruined every time they go through a reces­sion. And so, you just sort of have to avoid those, or be very scep­ti­cal when you see them. There are also things like style drift, some­thing that is more a prob­lem for fund man­agers, but I think is a prob­lem for investors, too. This is a thing where what you’re doing is not work­ing, what those guys over there are doing is work­ing, it’s very tempt­ing to start going towards what those guys are doing. But I think the real les­son is that there are these, you know, they call it “the law of ever-chang­ing cycles”, or min rever­sion, which is the idea that what is out of favour does tend to come back into favour. And so, you’ve got to train your­self to go to what is out of favour and hold what is out of favour know­ing that or trust­ing that at some point it’ll come back into favour. So, I spend a lot of time avoid­ing style drift. I’ve done a lot of work, I’ve done a lot of research, I have a very defined uni­verse of things that I will con­sid­er at any giv­en point in time. Most of them are going to be too expen­sive. The ones that are offer­ing a rea­son­able risk-reward is where I tend to go, but I don’t have any idea… I always have in the back of my mind that the mar­ket is prob­a­bly right and I’m prob­a­bly wrong. There aren’t any free lunch­es in this mar­ket, you’re pay­ing some­where else to hold these things. And so, what I found is that my strike rate is about 50%, it’s about 50/50. But the idea is that the ones that hit return a lit­tle bit more than the ones that miss, because I’m con­cen­trat­ing on the down­side first. So, when I’m wrong, there’s anoth­er way that I’m not going to lose mon­ey; whether it’s a bal­ance sheet strength or some­thing else there. And then if I’m right, the mar­ket should rerate. Because it’s expect­ing the worst, the worst does­n’t man­i­fest, and you tend to get a rerat­ing. So, an exam­ple of that right now is Face­book: every­body’s got an opin­ion on Face­book, the prod­uct, and I don’t real­ly know what the future holds for Face­book. If we just look at the finan­cials of Face­book, it’s earn­ing way too much mon­ey for where it’s trad­ing and they are doing a very sub­stan­tial buy­back. They’re also spend­ing mon­ey on the Meta­verse and doing oth­er things like that. I appre­ci­ate that Face­book has a lot of prob­lems, and it real­ly does touch the gag reflex for me, too: I don’t like the blue site, and var­i­ous oth­er things. But pure­ly quan­ti­ta­tive­ly look­ing at the finan­cial state­ments, I do think that it looks too cheap to con­tin­ue. If it can con­tin­ue to earn the way it seems to, and I watch the met­rics of this busi­ness, every time they pub­lish their dai­ly active users, mon­e­ti­z­able dai­ly active users, that’s the sort of stuff that I look at. Is it falling or is it grow­ing? And then I think Zuck is a scary dude in many ways. He’s a fero­cious com­peti­tor, and I like that. He’s buy­ing back stock; he’s got all of this mon­ey in it. He’s pret­ty smart. So, that’s the sort of bet and bunt, that could eas­i­ly be wrong. So, if it works out, it might be a 7% posi­tion. If it does­n’t work out, it might be a 3% posi­tion. So, I kind of think I’d buy it after it’s had its big col­lapse. I’ve only bought recent­ly, but it’s one of those things that if some­body makes… I talk to peo­ple all the time who know why Face­book is not going to work and I agree with them, it’s just that on the finan­cials I have to con­sid­er some­thing like that oth­er­wise I’ll nev­er do any­thing.

Cameron  49:42

I’m sur­prised by that. I would have thought that Face­book would­n’t be any­where near a val­ue investors radar, so that’s inter­est­ing.

Tobias  49:49

It’s in the cheap­est 10% on an enter­prise mul­ti­ple basis of stocks in my uni­verse. So, it’s well and tru­ly in my investable uni­verse, and it’s got a mas­sive return on cap­i­tal

Cameron  50:00

Wow.

Tony  50:02

Yeah, inter­est­ing. I want­ed to unpack a cou­ple of things you said there. So, give us the red flags that you look for. So, you were say­ing before you find that there are com­pa­nies which won’t sur­vive a reces­sion. In Aus­tralia, for me, that would be aggre­ga­tors, any­body who men­tions address­able mar­ket in their first slide, all that kind of stuff. But what are the red flags for you when you see a pre­sen­ta­tion?

Tobias  50:25

Well, I think if you lim­it your investable uni­verse to com­pa­nies that are actu­al­ly gen­er­at­ing mon­ey, imme­di­ate­ly you don’t have to think about a lot of things. That nar­rows down your uni­verse pret­ty quick­ly. But then, I also look at things like com­pa­nies that are here that lend mon­ey for con­sumers; you know, like, Rent-A-Cen­ter or Syn­chrony Finan­cial, all these kinds of busi­ness­es. Those sorts of busi­ness­es, they look great when every­body feels good and they’re going out and get­ting new TVs and rent­ing their TVs, but they look ter­ri­ble when they go through reces­sions because nobody wants to pay for the TV, or they give them back. And if those com­pa­nies don’t hold all that, they don’t like to hold all that debt on their bal­ance sheet — they all used to do that — what they do now is they bun­dle it up and they sell it off to some­body else. And that sec­ondary mar­ket of buy­ing that debt is becom­ing increas­ing­ly smart. And so, now a lot of these guys are stuck with this stuff sit­ting on their bal­ance sheet. That would make me extreme­ly ner­vous. I won­der if there’s a price that they can get cheap enough where I would con­sid­er it — there prob­a­bly is, I don’t want to say that there’s not. But that would not be a reg­u­lar val­ue invest­ment, that would not be some­thing where I would say, “oh, it’s half price, it’s worth hav­ing a look at.” That would be some­thing where I would say it would have to be in extremes, it’d have to be priced as if it was a donut, and now I’ve got a lit­tle bit of option val­ue in it and that would be some­thing that I might con­sid­er, but not in the ordi­nary course. So, that’s the kind of busi­ness mod­el that I’m try­ing to avoid, the busi­ness mod­el that can fail or go rapid­ly back­wards; and banks are finan­cial­ly often like that.

Cameron  51:58

There’s one of those that’s at the top of our buy list at the moment over here: TGA, isn’t it? Thorn group. They own radio rentals.

Tony  52:05

It’s a radio rentals busi­ness, yeah.

Cameron  52:07

Their score on our check­list each week… It gets a real­ly high score on our check­list. It’s real­ly cheap, I think, and maybe that’s why.

Tony  52:16

Could be , yeah. There’s cer­tain­ly been a lot of fear over here about a com­ing reces­sion, and so those com­pa­nies get marked down. I guess it’s the same in the States for you. And that presents oppor­tu­ni­ties, as well, because the reces­sion may not hap­pen.

Tobias  52:28

Right. As I was say­ing ear­li­er, there’s always that bal­anc­ing act between “is this cheap because it’s risky, or is it cheap because it’s just out of favour?” And so, I think that’s kind of the dis­tinc­tion that I try to make, that’s one of the red flags. So, I look at busi­ness mod­el, I look at bal­ance sheet, and then I want them to actu­al­ly be a busi­ness. I don’t like sci­ence exper­i­ments, and there are lots around. Although, hav­ing said that, you know, a sci­ence exper­i­ment with a lot of cash on the bal­ance sheet, I think about biotech. So, there’s a huge uni­verse of biotechs here, and they’re all trad­ing net cash. You know, they’re burn­ing the cash, so you don’t have any expec­ta­tion of get­ting the cash back. But, if you would­n’t take a port­fo­lio of these things and treat them as lit­tle options, and you’re get­ting them for a dis­count to cash, good things hap­pen his­tor­i­cal­ly. I tend to avoid them, but every now and again when there are a lot of con­di­tions that are right, I might buy a bas­ket.

Tony  53:26

I remem­ber going to the US just after the dot­com crash, maybe a year lat­er, and being told biotechs are the future. And, you know, being in San Fran­cis­co and dri­ving past this big shiny new cam­pus for some biotech com­pa­ny, and I just thought, it has­n’t changed. The mon­ey has just moved from tech to biotech.

Tony  53:50

I’ve noticed the same thing.

Tony  53:51

No one learnt.

Tobias  53:53

It’s not that the mania goes away, it just moves some­where else.

Tony  53:56

Yeah, it’s like a float­ing crap game.

Tobias  54:01

It’s been a fun­ny thing over the last few years, because it’s gone from cryp­to to prof­it­less tech, and then it was in NFTs.

Cameron  54:12

To get back to what you were say­ing before, though, Tobias, in terms of stay­ing focused and dis­ci­plined and avoid­ing style drift — I like that term — it sounds like you’ve just got con­vic­tion that your think­ing, your mod­el for invest­ing, is long term secure, and you just stick to it. Stick to what you know because you believe long term it’s going to pay off. Even if there are good years and bad years, long term you’ll end up bet­ter off if you just stick to what you know, what you believe.

Tobias  54:47

I do think that that’s the case, but it’s also the case that I can look at the com­pa­nies that are holds and I can look at what they’re earn­ing, and I can look at what I’ve paid for them, and I have a con­fi­dence in those com­pa­nies that I hold. So, at the moment, the com­pa­nies and port­fo­lios that I have over earn on their assets rel­a­tive to the S&P 500 or the Rus­sell 2000. So, S&P 500 is in an unusu­al place where I think that it is high­er qual­i­ty than it has been in the past, just because it’s Google and Microsoft and Ama­zon, those com­pa­nies at the top, rather than Exxon or some­thing like that, which is much more cycli­cal. In the Rus­sell 2000 small­er com­pa­nies, there’s real­ly a lot of junk in there that you real­ly paid for being a care­ful val­ue investor in the junky stuff. It’s going to be hard to beat the index for a while, I think. Hav­ing said that, my port­fo­lio still over earns both of those port­fo­lios and it’s trad­ing at half the price of both of those. And when I see that, I think it’s just a mat­ter of time. Mean rever­sion will push those com­pa­nies clos­er to the index, at least. And I still think they’re bet­ter than cash, there’s enough mar­gin of safe­ty built into them that I think… ZIG, the aver­age PE across that is like 8.3. And for Deep, the aver­age PE across that is 7.8, some­thing like that. They both earn bet­ter than… So, the S&P 500 earns 13% on its assets, and these all earn about 25/26% on assets. So, my view is that at some point either they will out­grow that val­u­a­tion and it does­n’t require any change in the mul­ti­ple, or the mul­ti­ple uni­vers­es, and either of those two sce­nar­ios should lead to out­per­for­mance. But it takes time.

Tony  56:31

The last time we spoke, I think you said that you rotat­ed your port­fo­lios on a quar­ter­ly basis, per­haps? Are you still doing that, or are you buy­ing and hold­ing them for longer?

Tobias  56:41

I don’t sell, all I’m doing is rebal­anc­ing. So, what I’m doing is, if a com­pa­ny trades up a lot over a quar­ter but it’s still oth­er­wise under­val­ued, I would just sell it back to equal weight. And if a com­pa­ny trades down, I would just buy it back to equal weight. Because I found that about 20% of the return comes from that rebal­anc­ing over time, and then even­tu­al­ly things get too expen­sive and they get sold out, or I’ve made a mis­take and they get sold out. So, the turnover reg­is­ter is about 80%, but that’s a lit­tle bit mis­lead­ing. I’m not sell­ing that many com­pa­nies, I’m just trim­ming back or adding to keep it rough­ly equal weight.

Tony  57:22

And in terms of con­cen­tra­tion, how many stocks are in the port­fo­lios?

Tobias  57:27

Thir­ty In ZIG because that’s mid cap, large cap. One hun­dred in Deep, which has small and micro, just because they can be very small, they’re not as finan­cial­ly secure and it’s hard to get mon­ey into them. Some of them are some­what Illiq­uid.

Tony  57:40

Do you find the hun­dred stock port­fo­lio is track­ing the index clos­er than the more con­cen­trat­ed one?

Tobias  57:47

No, it’s fun­ny. It’s because it’s a — well, they both devi­ate quite sig­nif­i­cant­ly from the index — but it’s because the index, there’s a lot of junk in there. Just avoid­ing junk deliv­ers a lot of per­for­mance, that’s out­per­form its index quite sub­stan­tial­ly. And I think Buf­fett says some­thing like, you know, if he was going to improve the index the first thing to do is just go out and throw out all the junk. You know, rather than try­ing to pick the win­ners just try to pick out the losers, avoid the losers. And I think that that’s an effi­cient way of invest­ing for the most part.

Tony  58:19

Absolute­ly.

Tobias  58:19

I don’t know whether one thing is going to work or not. I know that some things are not going to work, and so, just avoid­ing those things I think helps.

Cameron  58:27

That’s pret­ty much the basic def­i­n­i­tion of how QAV works, right, Tony? It’s designed to sort out the junk, and what­ev­er’s left is what we invest­ed in, real­ly.

Tony  58:38

Yeah. You can buy the bar­rel of apples, or you can go through and pick out the bad ones and the ones that are left are much bet­ter to eat, yeah.

Tobias  58:46

I like that approach.

Tony  58:47

It’s like when you go — I’m a golfer — and some­one is sell­ing sec­ond-hand golf balls at the side of the tee, and you can buy, you know, ten for $20 or some­thing, if you just have to grab ten as a hand­ful you’re gonna get some crap­py ones in there. But if you can go through and pick out the ten best ones, it’s a real­ly good deal.

Tobias  59:05

Yeah, I like that. I think that’s the eas­i­est thing to do.

Cameron  59:08

Yeah. All right. Well, we should let you go, Tobias. Lis­ten, if peo­ple are new to The Acquir­ers Mul­ti­ple, where’s the best place to send them? To The Acquir­ers Mul­ti­ple web­site, acquirersmultiple.com? From there they can find the books and the pod­casts and the funds and all your world of stuff.

Tobias  59:25

That’s the eas­i­est way to do it. Acquirersmultiple.com, or Acquires Funds — there aren’t very many links. So, Acquir­ers Mul­ti­ple is the best place to go, and then I’ve got the books and the pod­cast. There’s a free screen­er and some oth­er stuff on that site. The bloke who runs it is an Aussie by the name of John­ny Hop­kins, he does a great job of pulling up all these excel­lent arti­cles. So, he runs the blog and that, and he does a fan­tas­tic job with that.

Cameron  59:50

Good stuff. Well, thanks for com­ing back on and chat­ting to us, man. That was good fun, as always.

Tobias  59:56

My plea­sure. Thanks, Cameron, thanks, Tony. It was real­ly good.

Tony  59:59

Love­ly to hear from you again. And a Queens­lan­der, ex-UQ alum­ni like myself.

Tobias  1:00:05

Yes, Roma in west­ern Queens­land and then UQ.

Tony  1:00:09

Wow, okay. No, I grew up in Bris­bane, but I think I was there before you. i was there in the ear­ly 80s.

Tobias  1:00:16

Yeah, I got to Bris­bane in ’96, I think. ’95, some­thing like that.

Cameron  1:00:20

Thanks mate. Take care.

Tobias  1:00:23

Thanks, fel­las. That was a lot of fun. Appre­ci­ate it.

Tony  1:00:26

Alright, see ya.

Tobias  1:00:27

Take it easy. Bye.

Cameron  1:00:29

All right. Oh, well, he’s gone. We’re still here. How was Fiji, Tony?

Cameron  1:08:27

QAV Pod­cast is a pro­duc­tion of Space­craft Pub­lish­ing Pro­pri­ety Lim­it­ed, autho­rised rep­re­sen­ta­tive of AFSL 5204426 AFS rep­re­sen­ta­tive num­ber 001292718. Please don’t make any invest­ment deci­sions based sole­ly on lis­ten­ing to this pod­cast. This is pre­sent­ed as gen­er­al advice only not per­son­al finan­cial advice. We don’t know your per­son­al finan­cial cir­cum­stances. Please see a finan­cial plan­ner before mak­ing any invest­ment deci­sions.