CBA’s eye-watering profit… and valuation! February 14, 2025

In short

Podcast Summary: Motley Fool Money - Episode on CBA's Eye-Watering Profit & Valuation

Episode Details

Title: CBA’s Eye-Watering Profit… and Valuation
Release Date: February 14, 2025
Hosts: Scott Phillips and Andrew Page

Overview In this episode, hosts Scott Phillips and Andrew Page dissect the latest financial news, focusing on the Commonwealth Bank of Australia’s (CBA) recent profit report, the implications of tariffs on aluminum and steel, discussions about the government's potential buyout of Rex Airlines, and the long-term impacts of the HELP debt on borrowing capacity.

---

Key Discussions

CBA's Financial Results
Profit Results: CBA reported a profit of $5.14 billion, which was only a 2% increase compared to prior periods.
Dividends: Dividend was increased by 5% to $2.25 per share.
Valuation Concerns:
Cash Profit vs. Statutory Profit: Cash profit growth was only 2%, indicating stagnation in real terms due to inflation.
Valuation Metrics:
CBA's forward Price to Earnings (P/E) ratio was reported at 26 times, usually indicative of a growth stock, which raises concerns given the stagnant profit growth.
Price to Book ratio at 3.7 times is significantly above historical averages, suggesting overvaluation.

Tariffs on Aluminum and Steel
Impact of Tariffs: The hosts discussed how recent tariffs imposed by the U.S. on aluminum and steel could have significant implications for Australian exporters, with 10% of Australian aluminum exports directed to the U.S.
Historical Context: The episode references the historical ramifications of tariffs, highlighting the long-term negative effects such as retaliatory actions and economic downturns.
Economic Principles: Key economic concepts discussed included:
Concentrated Benefits vs. Dispersed Costs: Benefits from tariffs are visible to specific interest groups (e.g., steel workers), while the costs are spread across many consumers.
Price Controls: Tariffs are a form of price control, distorting market signals and leading to resource misallocation.

The HELP Debt Discussion
HELP Debt Exclusions: The government’s decision to exclude HELP debt from borrowing capacity was discussed, critiqued for its potential to mislead banks and borrowers about actual financial obligations.
Prudential Oversight: Concerns were raised about how banks might misjudge borrowing capabilities when ignoring such debts.

Discussion of Rex Airlines
Government Intervention: The hosts expressed skepticism about the government's decision to potentially buy Rex Airlines, pointing out the inefficiencies and past failures in running regional airlines.
Market Dynamics: They stressed that unsuccessful businesses should ideally not be rescued by government intervention, highlighting the importance of market forces in determining business viability.

---

Key Takeaways

Market Dynamics: The discussion emphasizes the importance of understanding market dynamics, especially regarding government interventions and tariff implications.
Investment Perspective: The hosts caution investors about the risks associated with investing in overvalued stocks like CBA, particularly in a market where conditions can rapidly change.
Long-Term Economic Effects: The historical context of tariffs and government bailouts serves as a reminder of the potential long-term negative impacts on economic growth and employment.

---

Closing Remarks The episode wrapped up with the hosts discussing the broader implications of these financial discussions on Australian consumers and investors. They encouraged listeners to stay informed and consider the long-term effects of governmental and market actions on their investment decisions.

Subscribe for More Insights: For ongoing financial news and insights, listeners are encouraged to subscribe to the Motley Fool Money podcast and newsletter at [fool.com.au/LiSTNR](http://fool.com.au/LiSTNR).

---

*Disclaimer: The content discussed in this episode is for informational purposes only and does not constitute financial advice. Always consult with a financial professional before making investment decisions.*

Written by AI. May contain mistakes. Listen to the episode to check what was said.

Hear the part that matters, and keep it.Open this episode in VO. Double tap your headphones to save a moment as you listen.

Get VO free

Transcript

Automatic transcript. May contain errors.

0:07Welcome to Motley Fool Money, the podcast that can now borrow a little bit more because our Help debt is not being included in our borrowing capacity. I'm Scott Phillips from The Motley Fool. He is Andrew Page from strawman.com. Not only from, he is strawman.com. It's sometimes hard to tell whether you talk to Andrew or the website. It's that uncanny. Mr. Page, how are you? I'm very good, sir. How are you? I'm very, very well. Hey, strawman.com, strawman.com, strawman.com, legally obliged. But also, more importantly, I hear Strawman's actually open to new members right now. We are. We only do it a couple of times a year.

0:44but through till this Sunday, which is, he quickly brings up his calendar, the 16th. Very good. We've got 100 spots we're opening up and it either fills up before then or it doesn't. And if you're interested, yeah, check out the website. There you go. So you'll probably be listening to this, hopefully, relatively soon after it drops because if you're listening to it too much later, you'll miss the opportunity to join strawman.com. But hopefully you get a chance. Go to strawman.com, find out what's going on. How do they look at the offer to join, mate? Is there a link on the website? out. I really, nah, they'll figure it out.

1:16Look, I don't want to push it. I want to shill too hard. Yeah. Go to strawman.com, right? You'll see the website, yeah. Alright, there you go. Strawman.com. Have a look at that. Mate, it's an interesting week to be reopening for new members of Strawman. We are in week, well, week three of the Trump presidency, week two of the Sunday afternoon tariff unveils. It's almost like Australian Idol, right? This week on Australian Idol. This week on Trump and tariffs. Let's start there because aluminium and steel are now in the gun. And it's kind of one of those weird things. We talked about tariffs last week.

1:49We don't do a whole lot more this week necessarily. But what's interesting, I thought this week is it's gone from, I don't like those countries, i.e. Canada, Mexico, China. I'm going to use tariffs to make a largely geopolitical point. Fentanyl and immigration is not exactly an economic, exactly economic issues. I mean, if you squint really hard and kind of turn halfway and stand on your head, you can make an argument that either of them might have economic ramifications. but this was largely just political and you know social policy whatever you want to call it this time around not only is it absolutely economic but it's also at least for now being applied completely indiscriminately it's not about countries it's about commodities and we've seen trump announced that all aluminium and steel going into the us from outside the us by definition is going to have a 25 tariff applied and that was interesting because and we'll talk about ramifications in a sec because it could be big.

2:43And we kind of had thought, oh, Trump doesn't hate us. You know, I'd always said it's very possible. You should assume it's going to happen. But, you know, many people thought, well, okay, it's being done country by country. He'll attack China and he might have a go at, you know, Mexico and Canada. Maybe he gets annoyed at France at some point or something. But we're allies, we're friends. We're probably, you know, we're not in the gun here. And I think what people missed was it doesn't need to be or didn't need to be country by country, but it can be applied, as I said, economically to individual commodities, to whole ranges of products, Frankly, I remember during the campaign, it was going to be 10 % on everything.

3:15It hasn't done that yet, but it is 25 % on aluminium and steel, including products coming from Australia. Yeah. I mean, I think the thing to understand with Trump is it's really, like they say, America first and Trump first more poignantly. Yes. And the old rules, I don't know if they apply as much as they used to. It's really just like everything is looked through the lens of deal-making and what can I get out of it. Now, you know, I sort of say that a little in a critical kind of way, but I suppose the job of the president is to consider the interests of their country first and foremost, and I hope our leaders would do the same.

3:56I would probably argue that good international relations are part of having our best interests at heart. Long-term as well, right? Not just now, but what does it mean long-term? Yeah. But so anyway, so the intention is we'll do this. It'll make imports more expensive. It makes us more competitive. And that's true. It's absolutely true. It's exactly what it does. Except what happens is outside of various interest groups, everyone is worse off, as we made the point sort of last week. I found a really interesting study actually throughout the week. So actually, this is a story as old as time. You can go back to the 30s.

4:34there was the Smoot-Hawley tariff of the 30s, which was a whole bunch of import taxes to protect American jobs. How'd that go? Sounded really good. And, of course, it had really big, broad public support. Yeah. You know? Who doesn't want to protect jobs? You know? Well, what happened? You know, countries retaliated, exports collapsed, you know? Economic growth, grants to a halt. Look, there was already a downturn underway, but what would have otherwise arguably been a short, sharp sort of downturn turned into a big, drawn-out economic disaster where unemployment soared, businesses closed you know and and then even more recently in 2018 trump put some tariffs on steel and aluminium that's right and and the federal reserve actually did a study on it and what they found was that for every job that was saved in the steel industry 16 jobs were lost elsewhere god i'm not laughing it's not funny people losing their jobs but it's it's not surprising well knowing that and still doing it is madness.

5:32But again, you've got to understand. I would imagine that those that are controlling the strings here aren't unaware of this, but it's just like, here's the people we want to keep happy. Here's the, I guess the point is that, what's the name for it? I'm trying to find it here as well. There's economists call it concentrated benefits and dispersed costs. Yes, yeah. Which is, let me unpack that a little bit, right? So when Trump says something like this, anyone in the steel industry goes, yay, that's really great for me. Other consumers elsewhere in the economy might notice that the cost of their car goes up a couple hundred bucks, but you can't connect the dots.

6:17I mean, it's very hard to understand, you know, the cause and effect across a whole range of different things. So it's sort of like when the benefits are really obvious to those who receive them, But the costs, and the cost is the point we're making here, the costs are very real, very significant, and generally outweigh the benefits. But those costs are spread so thin amongst so many people that you might get a little bit angry, but your anger isn't anywhere near the joy that the others feel. So from a political standpoint, you've got to separate the thing here. Economically, dumb. Politically, there's a reason the pollies keep doing it, right?

6:57It works. And I guess hopefully what little effort we can do here and others can do is just to sort of bang the drum on this and kind of go, don't be fooled by the short term little sugar hit, even if your one is like directly in sort of like the firing line of benefits here. You will be worse off. You will be worse off. And that's what's so depressing about it. It's second order thinking. We talk about it a lot for investing, mate. and your example of job losses are really important because you can't ever actually put those. I mean, even the Fed study, 16 jobs lost, you can't ever show causally that's absolutely responsible.

7:33The person who bought higher-priced steel therefore didn't buy their coffee, and that person therefore didn't have a job at the barista, so they didn't shop by a suit at the retailer, and you can't prove that causally. And so you're right. What you see is I saved these jobs or I created these jobs or US steel companies now employ this many more people. and without the and then what or and so what or where are the costs of that, it looks, politically it looks perfect as you rightly point out. I'm still not sure whether Trump doesn't know or doesn't care. I don't suspect he's a particularly deep thinker policy wise.

8:05He may well simply believe that and doesn't want to think about the consequences because he's just a first order kind of guy but it may also just be pure politics which is I'm going to fix the Rust Belt when I do they're going to think I'm a hero regardless of what everyone else has to pay to do it. And this is the ongoing challenge with economics in general. We don't necessarily blow this up to unemployment generally, but there is a degree of unemployment in the economy as a result of the inflationary pressures that happen if we have lower unemployment. And so there is a natural balance. And there's a long, you know, people do the whole, the RBA wants people to lose their jobs thing.

8:35Of course they don't. But the RBA knows that under a certain level of unemployment, like any supply and demand curve, you end up with price pressures. And there's no surprise that at the time when inflation was at almost 8%, we had the lowest unemployment in 50 years. People say, oh, so that proves we can have lower unemployment. That proves that full employment's lower. It's like, no, it doesn't. It proves that if you have high inflation, you know, those things go hand in hand, right? They just do. And so it's that kind of second-order thinking where you can't just take the good bits and say, oh, good, we've proved that full unemployment's lower, therefore we should always be able to achieve it, and then say, except it came at the cost of 8 % inflation.

9:13And the same is true with tariffs and the impacts of that as well. I mean, again, I won't flog the dead horse too much here, but I'm going to make the point again. You know, prices are how we coordinate the economy. Yep. Right? And we all get outraged. Can I take a step back because you'll want me to do this? Yep. It's not how we coordinate the economy. It's how the individual transactions that make up the economy happen. Right? So there's no central force of saying, if I price Kellogg's Corn Flakes at$3.50, I will fix the economy or we will coordinate it any meaningful way. Those millions, billions of individual transactions happen and price is the way that we individually determine what we buy and sell and as a group that bubbles up to represent the economy at scale.

9:57Sorry, mate. No, I'm really glad you made that clarification. I mean, again, we've got to deal with the way the world is, right? And the world is a place of scarcity. There is far more human demand than there are resources to satisfy that demand. So we have to somehow deal with that. We have to somehow figure out how we're going to allocate things amongst ourselves. Now, boil it down. You've got two choices. You can let the market do it or you can let politicians do it. That's right. So you can do it by decree. I mean, either way, someone's missing out. Now, do you want it to go to people who are politically connected or do you want it to go to people who demand it the most and therefore prepare to pay a higher price for it and thereby also send a very important signal out there to producers that, oh, wait a second, this is high price.

10:55I might make some more of it. It actually what coordinates the whole damn thing when we talk about steel, right? It's sort of like Thomas Sowell calls it scarce resources with alternate uses. And that's the key thing here. So steel can be used to make a myriad of different things. And there's only so much of it. So where are we going to send the steel? We're going to send the steel to where it's demanded the most is where we're going to do it, right? And it's demanded most in the place where it can put to the highest use. And the highest value use. If I can use steel to make a decorative garden planter pot and someone else can use steel to build a skyscraper and therefore sell it to somebody, rent it out, whatever, the price still is going to represent the value.

11:38How much am I going to pay for the steel pot? Well, it's good, but I can kind of replace it with something else. The guy says, actually, no, I can use this for a higher purpose, a higher value purpose, to your point. That's where it's going to go. And again, it's something that it's a preference that is revealed through these interactions. It's just that the trouble is that this really great quote from Friedman or whatever, actually, it was a Phil Donahue interview, way back in the day. And Donoghue's going, but isn't it, the problem is it's just all based on greed. And Friedman's response was, greed is there whether you like it or not.

12:12Do you think communist Russia, there's not greedy people there? Do you think in Cuba, there's no greedy people? Like, yeah, there is. I mean, you might not like this side of our character, but it exists, right? And at least this way, we harness it in a way that helps lift everything sort of up. And I guess it is an uncomfortable, it's uncomfortable in a lot of ways because at a small level, you'll see something like eggs, big political football in the US at the moment. And actually here because of the virus, right? So it's like prices go up and we all get outraged, but we get outraged for the wrong thing and at the wrong people.

12:53We tend to get angry at the supermarkets. It's like, well, of course they're putting the price up. And so some good intentioned politician will go, no, we're going to put a price cap on eggs, which all of a sudden just says to the producer, there's no point producing anymore because I don't get any extra benefit for it. And I might stop producing if I can't produce at that price. So the closer my costs go up, the price holds, eventually I'll stop doing it altogether. No, I don't make more. I start making less. I'll stop making it altogether when I can't make any money doing it. Absolutely. So, again, it's very easy to sort of get into the weeds here, but you've got to hammer these fundamental truths here.

13:21You've got to remember economics does not care about political ideology. It doesn't care about good intentions. It just doesn't. And just to come full circle, tariff is just a form of price control, which is just a way of saying it distorts price signals, it distorts incentives, and it leads to a misallocation of resources. Resources go not to where they have the highest value use, but they go to where is most politically favoured. And again, this isn't, again, you speak like this and you think you seem like a cynic on anything political. like there's just always going to be a political whenever you've got more than two people in a room you've got politics right yes and so that you will you will always have uh politics and you'll you'll have a lot of really good intentioned politicians but you know they they run under a different set of incentives and it's just it's just something that you have to be ultra ultra ultra careful of it you can go too far and say the market solves everything and i'm not one of those people um but it does sell a lot of things right and and anytime you do anything that's going to we'll talk about this actually in a little bit when it comes to some of the things that apra is is proposing in terms of lending and the rest of it whenever you distort these signals you distort markets and you lead to outcomes that are less than ideal for everyone yes and i think that's that is where this is problematic let's bring it back to australia mate um so aluminium still So firstly, again, as we said, we'll say every week, we record this on Thursday morning.

14:47Normally a day and a half is a long time. In Trump world, a day and a half is a year and a half. So anything could happen between the time of recording and going to publication. And then, frankly, whenever you listen to it, so bear with us, we record this on 10 o 'clock on the 13th of Feb. I've got to even timestamp it. No, we don't have a date stamp it these days. The tariffs at the moment, Anthony Albanese has called on Trump and said, dude, remember we're friends. That'd be nice if you could remember that when you put the tariffs in place. One other thing, though, is this is interesting. He said, don't forget America's got a trade surplus with Australia.

15:20We are one of the very, very few countries where there's a trade surplus. What does that mean? If America has a trade surplus with Australia, it means they send us more stuff than we send them. All the best stuff that we have does not come from here. Right. Until you're right now. Unless you like to pile up the coal and the iron or in your backyard. I mean, the stuff we really value as consumers is generally, as a general rule, not made here. Sorry. True. But it's also true that aeroplanes apparently are one of the largest contributors to the surplus because we buy a lot of planes. We just don't send them as much stuff.

15:51So anyway, so we get a surplus and Trump has used the rhetoric of, I don't want trade deficits with anybody. I want to fix that. Now, again, rightly or wrongly, we can argue about that. But in that case, there is no reason to put tariffs on Australia from that perspective. Now, we've already talked about the fact it's largely about jobs and politics, not actually economics. So there's that simple reality of, you know, does Trump care about the trade surplus? Does he care about steel workers who he gets to say, I created a job for you, you're welcome. Please feel free to thank me later. But there's that.

16:21The bigger one for me, mate, though, is not actually, well, steel aluminium is expensive to make. And a 25 % tariff is really, really, really problematic, sending any of that to America. We don't really send much steel to the US. Most of it is kind of the, what do they call it? It's the kind of ancillary stuff, the value-added stuff, right? We're not making big gobs of rolled steel and sending it in massive ships to the US. So there's that. So there's reasons why the steel tariffs aren't appropriate. The aluminium tariffs would really do some damage. Maybe the PM gets away with it. But the big one for me, mate, you've already mentioned coal and iron ore.

16:54The big one is tariffs on not Australian steel but actually Chinese steel. Yep. Because Chinese steel is made with, guess what, Australian iron ore. What? So that, to me, is the big watch out for the Australian economy. It's not really – and honestly, Albert can only do so much. You can't really go to bat for China with Trump because that's not going to work. But the reality is whatever economic outcomes we can avoid directly as a result of that negotiation are very, very welcome for Australian manufacturers. But the big one is something we have no say over, which is what happens to Chinese iron ore demand on the basis of lower US steel demand out of China.

17:30Yep, yep. Excellent point. And the other thing just to hammer here as well is that when you're dealing with aluminium, like any commodity, I mean, it's an atomic element. Aluminium is aluminium. It's fungible, to borrow a term from monetary theory. Fungible meaning? It's identical. Your lump of aluminium is perfectly equivalent to my lump of aluminium. In the same way the 20-buck note in your wallet is the same as my 20-buck note. They are absolutely interchangeable and we could swap and no one would care or know what it doesn't make any difference. And so when you're, I mean, you're making iPhones, well, only Apple can do iPhones, right?

18:11So you can slap a tariff on that and it's just like, well, people will have to pay up the price because there's no substitution capacity there. I mean, yes, there are other phones and let's not go down that. But for those that really want the iPhone, that is the only sort of source. When you're dealing with a commodity, it's very easily substituted, right? So that's another point. Now, this is not just directed at Australia, to your point, but it's just, it's something that we, there's nothing we can do at our end to sort of say, well, we'll just make better aluminium then. You know, there is no differentiation of product there as well, which is why as a general rule, commodities are such a brutally difficult business to sort of be in.

18:48You really are competing on a global stage, which is great, which is great for us because for us, when I say as consumers, because it means that we get, again, through this beautiful coordination of prices and revealed preferences, we get things much, much, much, much cheaper than we otherwise would. So yeah, just to make that point. I mean, I'm glad you mentioned the China thing because when the news first broke, the first thing I Googled was how big a deal is still in aluminium to Australia as an export industry. It's tiny. In terms of our major exports, it's pretty far down the list. I think it might be 500 billion or something a year.

19:26Again, we'll talk about cba's results in a minute really get to like journalists love to like it's a gazillion trillion billion you know and it's like wow that's big and that's outrageous like yes but this is a relative game and relatively it's not a major major major major market sort of for us but that's again just because of the commodity nature of things that is why china is is sort of so important again they they you know so i just you know five billion of aluminium exported every year, 10 % of that goes to the US. So about 500 million bucks according to the AFR. That's right. Sorry, I said billion.

20:00500 million. Sorry. Yes. Yes. Sorry. Get my zeros right. 500 billion probably would be pretty significant. Yeah, exactly. Pretty significant, actually. Yeah. So it's going to be interesting. It's definitely going to be interesting. We promised ourselves before we hit record, we're not talking about inflation, but just to very quickly break that. We had some news overnight that inflation's a little bit stickier than what we imagine. And again, that's, that's, this is all going to all fold back into that as well. So. Yes. Yeah. I probably won't go much further down that path, but yeah, it's, it's going to be interesting.

20:37What's the, so what? Okay. Let's, let's, let's get away from our highfalutin theory here. Like, okay. Bottom line guys, what do I do? Well, nothing. I mean, there is nothing to do with the exception.

20:54I cringe a little bit, but I'm very pleased that our thoughts don't change on this. And that is, you can't know, even now, whether or not the tariffs will be applied in a week's time. Now, again, I say now, but by publication time now, maybe we do know. But you have to, as an investor, make your decisions based on the available information and then weigh up the probabilities of your thesis being correct and at the prevailing price work out whether it's worth taking a punt on. That's effectively investing in 101. It's what we do. It's not a surprise to anybody. So what do you do? Well, if you own shares in aluminium smelter and that's 95 % of your portfolio, whether or not we're talking about tariffs, that's a silly idea with respect to everybody.

21:40Same with iron ore. If you own three iron, I own Fortescue shares, everyone knows. If you own three iron ore miners and there's 75 % of your portfolio, that's not a good idea. No. Not because they can't go well, but because you're stupidly exposed to risks of something not going well, planned or unplanned, black swan or not, the chance that something goes badly is just not a good idea. So there's two ways to do this. You can look for companies that, in this environment, 2025, aren't exposed to international trade, straight out. Woolies is not going to suffer either way, right? If there's tariffs or not, Woolies is fine.

22:14um i mean on the edges big w might have to pay more for something come out of china if china was i mean there's scenarios right but realistically they're fine um transurban toll roads pretty pretty sure no issue you can do that if you want and that that would that would take one risk off the table and that that's a completely reasonable and rational thing to do far more i think important is to build a portfolio of the best companies you could find even some that are exposed because a they might do well anyway b they might be hurt but others that are exposed that aren't hurt because they're exposed in different ways to different things flourish.

22:48There's a range. I was asked on Twitter, should we still invest in the US given what's happening? I'm like, well, I don't know. But I said before, my investing horizon is five years plus, right? In other words, my investing horizon already stretches past the Trump presidency. And so if these ones I own, Amazon or Berkshire Hathaway are better businesses in five years time, even if there's some volatility in the meantime, that's going to be worth me holding onto those shares. So running from every possible risk, we say there's a lot about economic forecasts, mate, and headlines in the fin, and there's always something that's going to destroy the market or a risk or something.

23:20And every now and again, one out of 25 of them comes through. And of those one out of 25 that come true, only one in 10 probably actually then cause damage. We talk about the Chinese property collapse. We spent a bit of time on it. What was it, a year ago, two years ago now? You know, would it happen? We didn't know. And then it did happen. Okay, well, now it's happened. What's going to happen? Well, we don't know. Is it going to collapse the entire Chinese economy? Maybe, but probably not. Now, I'm not saying we knew it was not going to be a problem. I think, I hope I said at the time, I'm pretty sure I did.

23:47I don't know what's going to happen next, but I'm not going to jump at shadows because if it happens, it happens. If it doesn't happen, then we'll be glad we're still investing. So it's both a very unsatisfying and I hope very satisfying answer, which is what am I doing differently? Result tariffs? Absolutely nothing. They own shares in Solpats. They own shares in New Hope Coal. Is coal impacted if China buys less coal because they're making less steel because the US has got its own coal, maybe? I don't know. Am I doing something different? No, absolutely not. Just to pull on that thread, I mean, did you ever buy Solpats under any assumption that there would never, ever be any thing?

24:27Who knows whether this specific thing or a million other potential things that could have happened that would have impacted the demand for New Hope's product? No. And here's the other thing, though, by the way. So if it wasn't that, it was going to be something. Or even take it outside of the commodity. Like any company you buy, are you kidding yourself? Sometimes you've got to slap yourself around the face and just look in the mirror and go, what was I expecting? You know what I'm expecting with every single company in my portfolio? There's going to be stuff that comes out of left field. You know what?

25:00And I'll bet the farm on that because that's always and forever happened. And that's business. And it might be a small thing. It might be a short term thing. It might be a very structural long term. Something will happen. And yes, I need to reassess when that happens, you know, and may think, okay. But if you're going into it thinking that, oh, it's just, there'll never be any issues. Like you just don't get what you're doing here. So what gets me really angry is because usually what happens when these kinds of news comes out, you will get the boffins going, well, you need to rotate into this.

Read the full transcript

25:34And we suggest a blah, blah, blah allocation. and it all sounds very sophisticated and very sensible because stuff has happened and I need to change. It's like you just reveal yourself as an idiot. I'm sorry in my mind if that's because it's either I've now got to predict every single macro sort of bubble that's going to happen or not predict it and then knee-jerk reaction to every time something happens. None of that is good. So your answer is a frustrating one, but unfortunately it is the right one in the sense of that's why we just, and any sensible investor bangs on and on and on about quality.

26:09Quality means, quality means not, oh, I'm resistant to any uncertainty. It just means that you're much more resilient to any uncertainty. You've got a company, I've got a company, you're loaded up to the eyeballs in debt, running a half percent margin. You know, you're an inch away from death if the world sneezes in any way. You know, I've got zero debt, get a pile of cash, you know, as big as Christmas, and I'm able to charge 50 % margins on a product that's very, you know, non-discretionary. Like, what are you going to – am I bulletproof? No. But what one are you going to choose? So that's – sorry.

26:45I took the baton and ran with it there a little bit. Sorry, Marty. I interrupted you, but that's what we mean by quality. Yeah. I do want to have one more thought, actually, which is it's also okay in a portfolio sense to realize that you're taking a little bit more risk with some of those companies because the upside is big enough to justify taking the risk in the first place. Yep. Now, the upside for winning a lotto was not big enough, ironically, to play a lotto because the maths are stacked against you. But if I could, it's the usual, mate, if I could toss a coin 10 times and it was loaded against me, right?

27:18So 90-10 against me. So if I toss it 10 times, I only expect to win once. That sounds like a really, really bad bet, except someone said to me, but I'll pay you out 100-1 on that 1-10 chance. I'm going to take that every day. Why? Because eventually I'm going to lose the first nine times. Hand over money, hand over money, hand over money, hand over money, hand over money. The 10th time, now it's not exactly what it can be 10 times, but for the sake of the exercise, I get 100 times my money. It's well and truly worth losing the first nine times. And so thinking about your portfolio in that context is horses for courses, do what's right for you financially and temperamentally.

27:50But if you can find companies that actually do give you a really big upside and have some risk, and you're prepared to realize that if you do that a dozen times, most of them will fail. Now that's financially and emotionally taxing, right? Oh God, another one blew up, another one blew up, another one blew up, but this one worked. I guess what I'm saying is it's okay to be exposed to steel and aluminium as part of your portfolio. If you have a view, you're going to be handsomely rewarded for it. And if it doesn't happen, it's not going to blow your portfolio up. There's other companies in your portfolio that will do well regardless.

28:19That's okay too. Just know, as you like to say, what you own and why you own it. Understand what risks you're taking, what bets you're making. Again, the 10 to 1 chance it pays 100 to 1 is a great bet. The near certainty that pays you$1.01 is not worth betting on. So quality is really, really important, but so is the price you pay and the long-term potential for the business. That's the maths. That's the triangulation you have to do is what do I have? How good is it? How bright is the potential future? And what's the payoff if I'm right versus what's the downside if I'm wrong? And at a portfolio level, right?

28:56I know it sounds like I'm making it more complex, but you're kind of mentally adding that together across your portfolio and saying, I don't mind having an aluminium producer because I think this will blow over. But if it doesn't, I'm okay because I also own Woolies and CBA. I'm using deliberately blue chip names, but yeah, I'm saying whatever companies that aren't related at all to that particular industry or that particular risk, it's perfectly fine. Just know that you're taking that risk. If you don't take it, don't do it. Sell and buy Woolies, right? Because you're not taking any international risk.

29:24You are taking risk of overpaying for slow growth. So that's not a zero risk either. But just be careful what risk you try and avoid in the interest of bearing those risks can be more profitable than avoiding them, I guess is what I'm saying. Let me quickly go back to the New Hope example in Salt Pats because I think what you're talking about there is a really nice example. So I've heard Rob Milner speak about it before. And they've had a position in this for 10 years or so, right? Like ages. Yeah. Now, why would they buy into coal, given all of the things we said about commodities? And don't forget, it's still on the agenda, but it was really much more in focus earlier on with the transition to net zero and so on.

30:07This is a sunset industry. You're buying a company whose products are going to be demanded, in theory, unfortunately, it doesn't look as though it's going this way because we keep opening up new coal mines every other day. But, you know, in theory, it's a sunset industry. It's a commodity, so you've got no pricing power. It's subject to all of these vagaries. It's very capital intensive, et cetera, et cetera, et cetera. Why do it? Well, over the last 10 years, now, it's not saying it's the best returning investment ever. It's actually pretty ordinary. But, you know, share prices doubled pretty much.

30:38And their view was, and I'm speaking on their behalf, but based on what they have said previously, It was like, yeah, that's true, but we're not going to net zero tomorrow. Like this transition is going to take decades. So there's a lot of money to be made in the meantime. Point two, New Hope's operations, they've dug the holes. They've got the infrastructure. It's different if you and me find this huge deposit and now we've got to pony up billions to actually build up all of the related infrastructure. They've got the hole. On the off chance, we might get a return. Exactly. They're a ridiculously low cost producer.

31:12So that's their edge. It's just like they can't charge any more for their product, but on average, they can extract it much cheaper than others. And so they took this sort of this contrarian view. And I'm not advocating for coal, but be very clear. I'm not advocating for coal. I'm not saying anyone should buy a New Hope coal. But it's a really good point of sort of saying they have gone in an area within that area. New Hope would be regarded as better quality, right? Because of all of those things that I have just said. And so, yeah, again, it's in the spotlight now, but it's always been in the spotlight.

31:46It's always been something to worry about in this sector. And yet, despite that, they have done well. Having said that, pull up a dozen other coal miners. And I'm sure, you know, on average, it's a disaster, right? So it's just like, again, just to hammer that point, quality matters here. And just to say, I've got a coal miner, doesn't tell you anything, right? Like, okay, what coal miner? Why that coal miner? How is that different from other coal miners? And it's just, that's where you get the edge and that's where you get the opportunity. Agreed. Yeah, last one on aluminium and steel, just an opportunity to think about second order impacts.

32:21We talked about that before. And most of the commentary, partly justifiably, partly a little bit naively or simplistically has been, oh my God, what does this mean for Australian steel producers? And that's not nothing, right? Well, aluminium smelters don't generally have margins that withstand 25 % margins. We should talk about that one day. So those are big deals. Far, far, far more importantly, a full third of our exports go to China and almost all of that is iron ore. Yep. Now, they're not going to go to zero, but some of it, you know, there is going to be an impact if these tariffs go ahead.

32:58And that's the second order thinking, not just Australian steel, but hang on, what about, and frankly, Australian coal, as just we said, Australian iron ore. Are those things at some risk? Yes, absolutely. What do we do about it? Well, again, have a think, as you've just said, as a nation, we don't have a think about that. What do we do in response? Are we going to have tariffs on US products as a result? On one hand, you say, well, don't let the bully push us around. Let's put tariffs on his stuff. That's our view. It makes everything more expensive for us as well as for them, so we all lose.

33:29We do nothing. We get pushed around. Is that better or worse? Well, I don't know. Again, you say, well, if you cave to the bully, if you give me your lunch money on day one, he's going to keep taking your lunch money. But on the other hand, you know, if not putting tariffs on US products means we're better off as consumers, if those planes are still as cheap, are we better off if we charge people more to buy US planes? And US everything else is that. We own bourbon or whatever else we're going to buy from the Yanks. You know, so we've got some difficult national choices to make. I don't have a strong view.

34:00I will ask you just for fun, mate. If you're Albo, and this goes ahead, do you retaliate with tariffs or do you try and minimise the damage and wait out the four years? Oh, it's a good one. Well, I don't want to get too political, but I would use it as reason to tear up AUKUS. Tony Windsor floated that idea. You've already given him$800 million. I mean, it's a terrible deal. I mean, I don't want to go down that rabbit hole and people tend to go, oh, but so you're against defence. I'm like, no, I'm not. I just think it's a bad deal. It's a bad deal. And, you know, we signed a contract which is very much more in their favour than in ours.

34:33And so we kind of go, all right, but we're paying less for the subs or we're not giving you permission to dump your waste in our deserts or all of the crappy things that come as a consequence of that deal. Yeah, I would absolutely, I would do something like that, but what I would not do is do a tit for tat tariff. So I would use it as a leverage for other geopolitical strategic outcomes and goals. I think to your point, I think this is your point, which was the tip for tariff just makes us worse. It's a bad situation. Don't get me wrong. It doesn't feel good to be pushed around, but you don't want to chop off your nose to spite your face.

35:16That's the thing I struggle with. You're probably fighting back against a bully. If the bully is 10 times your size, you're still going to keep losing. There are a lot of people who just really can't cope with the idea of being pushed around by the bully. We have to fight because we have to fight because we have to fight. I get the sentiment. I get the kind of, you know, there's a, it just feels, it feels unjust, right? And so that is a really, really strong emotion for people, and I get it. But if you're not going to fight the, you know, you fight the fight you can win, right? If Mike Tyson's pushing you around, you let him push you around, right?

35:48Like, you're just like, yes, sir, can I please have another? Right, exactly. You're walking away or, you know, you're trying to placate him, you do whatever you can so he stops hitting you. You're not going to beat him toe to toe. So, yeah, I think. Strategic retreat, you might call it, you know. You're being bullied in the playground. Irrationalise it that way. Just a strategic retreat. So I think, honestly, I think I would do that. I just don't think we... I mean, other things we should do for diversifying away from other issues, that kind of stuff. The broader... This hopefully brings home to some people, and I don't...

36:22It's a massive conversation itself, but at some point, the question of, you know, we do a lot of mineral resources and we should do those as much as we can, because why wouldn't you take the value from it? You'd do it. Yeah. But doing other things as well. So that we're talking about investing in portfolios. Yeah. Australia has a production portfolio. We have an export portfolio. Yeah. We have an economic portfolio. Would we be happy? If we owned Australia Inc., would we be happy with the diversification of our portfolio? Would we look to diversify it further? Yeah. I'm pretty sure we would. And I think that's the opportunity that...

36:52Now, I don't like governments picking winners. I don't love governments doing trade policy either. So it's a really difficult one. Yeah, that's my issue. But nationally at some level, even if it's just individual businesses going hi like Bob Weimaker said they went oops so China said no speaking of tariffs we've had the experience they went okay we've got to find other markets I think it would behove everybody you know you don't knock back the chance to do business with the US because they're massive big consumer world's largest economy do that by all means just don't be so so reliant on them that you become again in the same way we talk about portfolios so reliant that any upset in the relationship can bring us asunder yeah and oh gosh it's so hard to move on isn't it of topics but but but i just but my my my view on it is i think there's a role for government to sort of help and assist private enterprise in these in these endeavors yeah i it has no business in actually doing them themselves like we we weren't going to talk about rex i just i was gonna say exactly go for it because i was it was my next question go for it oh my god what a dumb my dear you idiots you flippin idiots like what are you doing we are i did the government has no business in running a regional airline no now does that mean that throw throw everything to the wolves no not necessarily but it's just it just like again why did it collapse there's there is definitely something to be said for mismanagement yes and and the rest of it and that's going to metro markets trying to compete against the gorillas speaking of punching mike tyson they They tried to pass my ties to the nose and got us mashed.

38:26The market, no, there is no bald, evil dude living under a volcano stroking a white cat that's making this happen. They just couldn't attract enough customers given the product that they offered and they went out of business. Now, that is sad for the shareholders. It is sad for the workers. It is sad for everyone involved. But that is the reality of the situation. When I say the market, we've just said we don't want it. They don't want it at that price. Not much of us want it. And so the government's saying, hey, you know this thing that none of you really want and 99.9 % of you are never using and never going to use?

38:59We're going to tax you some money and we're going to run it over here. And we're going to, for some reason, feel as though we can run it better than anyone else who's tried to run it. And so what we're really proposing here is we are going to take something that has demonstrated itself as infeasible and we're going to do it ourselves with your money and lose more money. and opportunity cost, the misallocation of resources there, scarcity, let's go back to that point. Like the money that's gone there has not gone to, I don't know, schools, roads, hospitals, other things. So again, we can't just look at one thing.

39:36Oh, that's really sad for that one person who worked in. Like it is, it really is. And we need good social safety nets. But let's not make a bad situation worse. I mostly agree with you with the exception that there's so this is so how do I start this one the government has done a terrible job with this whole Rex thing yep because it gave Rex 80 million dollars to keep going oh my god right it didn't no it gave we gave right okay can I just make that point the government my money your money everyone else's money sorry so I gave that to Rex 80 million dollars to keep going Under administration, right?

40:19So political decision, let's just keep this thing afloat. 80 million bucks. It then spent$50 million buying out a creditor. Why? Right? Well, I think we've never been told, as far as I know. It's 98.432 % likely that the creditor was about to pull a pin. So if you're a government who has the responsibility or is going to be tagged with the responsibility to provide regional aviation services, i.e. you let Rex die on your watch, and that creditor says to the administrator, I'm not going to play this game anymore. I want this thing put in liquidation right now. I want as much money as I can get out of this thing.

40:55Yep. And again, this is pure speculation. I don't see any other likely outcome, but I just want to be really, really clear so I'm not misleading anybody. I suspect then the government says, but if you do that, the planes get sold off, Rex dies, no one can fly from Mudgee to Orange and... Do you fly from Mudgee to Orange? It needs to be close. Mudgee to Mount Isa. I'm going to get tagged with that because I let regional services die. The paper's going to be full of bloody government, this bloody government, that. I can't let that happen. I will buy that debt from you so you don't force this into administration.

41:25And so I have a vote in the creditors meeting. I said, 98 point whatever. I said, sure, that's what happened. But that's stupid. Well, here's the question, right? I think I'm getting a very clear sense of your idea on this one. The only question for a government is to what degree governments have a responsibility to maintain what some people say is critical infrastructure. So roads, bridges, railways. If it's so critical, it wouldn't have gone out of business. Well, not necessarily, right? Because you want to be able to fly doctors and, again, simple example, you want to be able to fly doctors and nurses from Mudgie to Mount Isa when required.

42:03And that means you have to have the infrastructure to do that. And the plans aren't always full because there's not a lot of people who want to do it, but some do it when they want to. We want to have that infrastructure available. That is the argument given. And I have a – I'm pretty agnostic on it. I absolutely see both sides of this one. And the Bush people will say, hang on, you guys – we subsidise rail services, right? Sydney trains run at a loss every single year. And so the taxpayer tips in to provide train services. Yep. And we will say – we don't really question it. We just accept that's what happens.

42:30Yep. If you're living in one of the regional centres and you say, I want to fly from there to another regional centre or to the city, and we say, no, no, no, that must be done at arm's length and for profit, but I will provide, frankly, roads. You know, a road in a regional area gets done for, you know, what I'm sure is a loss-making, you know, kind of approach because ratepayers pay for it. There's no revenue at all. Trains, you have some revenue and planes, we say, no, they've got to fly for profit. We can't see a way to justify something. Now, I'm saying we shouldn't necessarily do it, mate.

42:58I'm just saying I see the rationale there. I think this is the trade-off. So my biggest criticism is actually the$130 million that's been wasted so far. Yeah. Because if as a government you're going to say, look, here's the thing. Let's be honest around the table. here if this thing goes broke we're going to buy it because either for the public good or frankly for political purposes or both we're going to have to keep this thing running and we're going to have to fund it and we're going to probably we're probably gonna have to buy it and then we'll run it at a loss and subsidize it because we think it's important and or we think it's politically important and those are not always the same thing but tend to coalesce pretty often um to what to if that is if that is the case if you're going to do it don't spend 130 million and then decide to nationalize the thing do it up front it's gone it's gone into liquid administration okay he did your administrator, I'll give you 15 cents on the dollar.

43:41I'll buy it today. That's my final offer. Take it or leave it. Instead, we let it drip feed, drip feed, drip feed. 130 million bucks so far. And by the way, the government's now said, not they said they will buy it outright, they said we will buy it if we have to at the end of the process. So what does that mean? It means the administrator now has an underbidder. They can afford to say no to everyone else who gives them opinions on the dollar offer, right? You've literally declared your hand. If you guys don't find anyone else, come to me and I'll give you the money. Well, I'm going to then come to you for the money.

44:06So you've just signaled. We're playing poker. and you've just showed me your hand. Correct. Now, someone else might still buy it, but the administrator gets to say, well, okay, I reckon I get$100 million out of the government, so I'm not going to take it off for less than that. It's going from a buyer's market to a seller's market. That's exactly what it is. So anyway, whether or not... I said I'm a little bit agnostic on whether we should nationalise it. I see the argument for it. I see the argument against it. Is it genuinely critical? Is it genuinely needed? You know, the single example of what if we need to get a doctor from here to there in a hurry or, you know, something, a councillor or, you know, what services do we owe each other as a nation?

44:43We pay for trains. Should we pay for part of planes? Probably, frankly, I don't know. But whichever way you're going to do it, the way they've managed this particular transaction has been atrocious. Yes. Well, again, it's not – I've got to frame it up better because it's not a question of do we want that. I'll just – a little bit of nuance here. The question is do we want what you're proposing there – You're not proposing. Yeah. Sorry. Do you want what's being proposed is not the right question. Do you want that more than dot, dot, dot, dot? Yes. So I did a quick bit of maths. And there's 1 ,570 public schools in Victoria.

45:26So there's a million examples you could choose. But the question is, do you want recs to stay afloat or do you want to give every public school in Victoria$120 ,000? Perfect. Great example. Yeah. Or choose. That's the question. That bridge, that hospital. It's always a question of trade-off. So whenever you say to the electorate, do you want X? The answer is yes. I want what? Is there something on offer? Oh, a creative school voucher? You know, for some rich investment banker to buy some shoes? It's insane. Of course they want it. Or Twiggy's$300 energy subsidy. Right. Do you want it more then?

46:06So I'm just, that is the better argument. Here's the other thing too. And I know I've made this point before, but let's say it goes into administration. Again, there are these human created fictions that we all exist in our minds, right? And I know it sounds a bit flippant, but it's true, right? Like these ownership structures and whatever just exist in the mental realm, in the legal realm, in the corporate realm, not in the real world. Like if an alien landed and said, show me, There's nothing to point to. There's nothing to touch, right? There's just, no, we all believe that this is true, right?

46:41Now, the planes are still there. The ground crew workers are still there. The bunkers, oh, the bunkers, the hangers, the bunkers. The hangers are still there. Maybe need a bunker. That's right, yeah, yeah, yeah. Well, maybe I'll buy one up. So let's say the government doesn't get involved here. And again, you are a forced seller, right? You're an admin. I just need, I will take cents on the dollar because I have to do it. Someone will come in. It happened with Ansett. Someone will come in and go, well, I'm not paying that. I can make it work at this really low price. So the shareholders take a bath.

47:15The creditors take a bath. Boo-hoo. Welcome to the world of capitalism and trade-offs. I'm sorry. It's how it goes. You put your money in behind something. It didn't work out. And those planes will continue to fly. And you know what? If the people out there going, but we really need it. It's like, okay, then. Well, airfares, I don't know what it is, like, you know, Dubbo to Orange, but let's say that it's a$500 flight for us to make it. Not because we're greedy capitalists, we're going to screw you all out and make millions of dollars. Just to ensure the service is viable and maintained. The fuel costs this much, the plant costs the rest of the service, the staff costs this much, the ticketing thing costs this much.

47:52$600 tickets. Yep. Oh, I don't want to pay that. Well, of course you don't. No one wants. Everyone wants everything for free. And everyone who sells something wants to sell it for an infinite price. We must reach an agreement as to what is that. Now, I say to my kids all the time, dad, I really, really, really want this. Cool. There's the car. Give it a wash and you'll get it. No, I don't want to do it. So you don't really want it. You don't. My poor kids are going to be. They're listening closely here. Oh, the psychologists are going to be well served in years to come. But clearly you don't want it.

48:25If I really, really, really want something and you're telling me I just need to do that and I will get, I'll do it. You have to make the sacrifice for it, exactly. And so someone's going, I must, it is so vitally important to me. It's like, all right, pay$600 instead of$500 for a ticket. But I don't want to. I know you don't want to. But that's the price of the service, right? That's the deal. I want the latest and greatest PC and I want it for a dollar. Well, sorry, sweetheart. It doesn't happen at that. You know, bless your little cotton socks. You have to pay what it costs. And so it sounds really, again, the framing is all wrong here.

49:00It's just sort of like, no, it's not a question of do we want this as a society? It's more a question of, well, if we want it, the market will come and meet that demand. It will, right? And if these Muppets who ran it into the ground, I'm sorry, they were. They just didn't run it well. They didn't charge it. They did not offer a service that the market deemed as attractive. And they failed. And everyone running a small business, these people usually get most fired up about it. Because you see this and it's like, I opened a cafe last year and I just worked my guts out. I mortgaged my home. I sent every last day and it didn't work.

49:40Where's my handout? And it's a legitimate question. But, you know, Terry from Blacktown doesn't get into the news as much because it's not, you know, for some reason airlines have this kind of romance around it. It's crazy, isn't it? you know, all the steel workers in Wyala. And it just, it makes you sound like this heartless thing, but it's like, okay, if we're never, ever, ever going to allow anything to fail, right down the main street of your capital city right now, there's barrel makers and shoes, you know, and none of them are making money. We're all dirt poor. There's just not enough stuff to go around.

50:12This is how we coordinate things. The government has no business doing it. I'm sorry. Yeah, I do feel a little bit better. But that's why I get angry is because that is a lot of money that could be used elsewhere. And by the way, this is from a government that's spending more than it's earning, right, on a structural basis. Well, that's the only thing I was going to say, and this is where you are 100 % right, I million percent agree with you, except that at the moment our political framing, and frankly, because it's a bipartisan disregard for fiscal discipline, it's not an opportunity cost. There is no opportunity cost, at least, as far as the policies are concerned, and they'll tell us, because like, well, I could fund the schools or the recs, or I could do both and just put it on the national credit card.

50:54Yeah. That's how they do. And by the way, that still has an opportunity cost. We just don't see it yet. And thinking of second, third order thinking, no one says debt's a problem. And as long as everyone shuts up about it and says, hey, don't worry about it. There's no such thing as too much debt. Then we just keep putting money on the credit card and we keep pretending that's okay and we keep running endless deficits are forecast from now to forever. That seems to be... What could possibly go wrong? Right. What could possibly go wrong? Motley Fool Money. For more, subscribe to the free newsletter at fool.com.au forward slash listener

51:30Out of our 12 agenda items what's your favourite one that we're going to have time for to go into? Oh I don't know actually I was going to get a hex next because speaking of governments and doing things with debt I thought that was a natural segue into that one should we do that one or do you want to do something else? Let's do it quickly because I really really want to talk about CBA Alright let me bring CBA and gold and gold as well let's just touch on that This is going to be a long podcast people Settle in Well, yeah, exactly. If you're not already. Go for an extra lap around the block. Just keep walking.

51:57We're doing you a favour. Literally. Hex and help. Speaking of bad government decisions, mate, I was not surprised but disappointed that the federal treasurer has instructed APRA to let the banks pretend that university debts don't exist. Yay, it doesn't exist anymore. It's fine. It's gone. T, look, it's gone. Oh, wait, you should have to pay it back. So it does exist. But just if you're a bank lending money to people, you can pretend it doesn't exist. Oh, well, that's cool because banks don't really, doesn't really matter to banks if you have to pay away. Actually, it matters massively and is absolutely a factor that you should consider for someone who's trying to service a mortgage.

52:34Not only that, think about your borrowing. You go to the bank and say, Mr. Bank Manager, here's my income, here's my expenses, how much can I borrow? He says, oh, she says, you borrowed three quarters of a million bucks, you're a beauty. And then you go back to the next day and say, so I can only afford to pay back$750, right? Yeah. Okay. Can you do me a favour? What if we pretend I'm not going to pay HECS? Oh, then you can borrow 800 grand. Cool. Do you not have to pay it, though? Oh, no, no, I do actually have to pay it. Yeah. But I can borrow 800 grand. Yeah, I can. Okay, well, here's 800 grand.

53:03But I can't afford those repayments because I've got to pay HECS as well. Yeah, exactly. But we're pretending they don't exist, though. Seriously. The other part of that, too, the other thought bubble. By the way, this is at the urging of the treasurer. Yeah. I'm going to put that out there. Directly instructing APRA to not make the... Now, the banks aren't made to ignore it, but thus far the regulators made them include it because of course you would because if you're a banking regulator, you say, can you please make sure you include all the debts when you're calculating the serviceability? And the bank's like, well, it's probably going to anyway, but of course, now it's in the rules, I definitely will do it.

53:36Yep. The regulator's like, actually, you know how I'm responsible for prudential oversight? That is prudentness. Make sure you do the right thing. That's what I'm in charge of. Could you be less prudent, please? The treasurer has asked me to ask you. It's okay. If you're, oh no, not can you be, if you'd like to be, that's okay with me. I'm cool with that because the treasurer said it was okay. Okay. Let's park that one. There's also, there's also, I don't know if you've read, but the property developers doing it tough, right? They're doing it. There's been a lot of, there's been a lot of, in the construction industry, I think we're seeing the highest rate of failure in, I pick your number of decades, right?

54:18because, well, they overextended themselves. They only built two bedroom units and we've got enough of them. Everyone talks about housing supply. Two bedroom units have fallen out of the sky, but the things that people actually want to live in, we don't have enough of. Anyway, so the property industry's kind of got itself into a little bit of a pickle in some areas. So the other thing that's being pushed for here is to relax financing rules for property developers. What, the ones that are failing at a historically high rate? They're not failing for lack of debt. They're failing because they've got the debt they can't pay back.

54:51This is not the problem. Let's make it easy. And you know what? And this isn't the treasure, but other vested interest groups are going, can we reduce those serviceability buffers as well? And it's just, it is, I've got no words. I've got no words for it other than, oh. No, I've got no words. The word I was going to say, I can't say on the podcast. Thank you for not doing that. Let me address the justification, only because some people will either be thinking it or have heard the treasurer do it and are believing the shtick. Let's go with that fairy tale. The idea is, hey, look, housing is expensive.

55:25And first-time buyers are finding it hard to get into the market. We need to make it easier for them to get into the market by letting them borrow more money so they can outbid the other guys and get the house. Right up until that end point, you were right. And tell us why that's false, Matt. Because it doesn't solve the problem. It makes the problem worse. But now they've got more money to bid at auction, so now I can get the house because I can now afford to bid more so I can buy the house that's available for us. Well, hey, look, if these rules are being extended to you and you alone, well done.

55:55That's absolutely true. But you don't live in a bubble. You live in a society where everyone in your situation has also got that. So it's not just me at the auction. There's other people with more money as well. There's other people at an auction, apparently. And here's the thing. it'd be one thing to derive that conclusion just axiomatically through reason and logic and absolutely arrive at the right decision, right? So that alone should be all you need to have to throw cold water on it. But we've also got a couple of decades of that exact thing, more or less, being done and not working. So it's like, you know, it's the definition of insanity.

56:32Just thinking that I'll keep trying the same thing and that this time it'll work. It doesn't work. We've done it. Logically, it doesn't work. In practice, it doesn't work. Historically, it's never worked. But let's do it anyway. And again, I've got no words. Here's the thing. So I want to flesh out your other people at the auction thing because it's not just I've got my money, you've got money, so we both bid the price higher. It's also I've got my money, you've got more money, and the other guy over there who's also got my money already is going to bid both of us regardless. Yeah. And so we both lose and housing goes up.

57:06Yeah. So it's not even that it's a competition between the two people with suddenly more money. The person with a million-dollar borrowing capacity, when I bid$800, I would have bid$750, so he would have got it for$775. I bid$800 this time, he goes, well, okay, but$825. So I still don't get... You don't get... Even though we've both got more money, neither of us get it. The other guy just pays more for it. House prices still go up. It still is unaffordable and unattainable. And by the way, here's the absolutely stupid thing, right? Let's be really... Here's where the... I hope our listeners know this.

57:35Here's where the rubber hits the road. I pay$800 ,000 to auction. Let's say it works. Let's say I get that house. So I paid$800 ,000 rather than$750 ,000. I've got the place. You've just consigned me to 30 years of mortgage slavery with a higher monthly repayment because the extra$50 ,000 is going to cost me, was it$100 ,000 probably totally over the life of the loan? Yeah. Maybe more. So I'm going to pay for 30 years every month more than I would have otherwise because rather than fix affordability, you just settled me with more debt because you were trying to solve my problem. and because I can't even get a deposit together until I'm 39 now as well that actually means I'm somewhere in my 70s when I pay this thing off assuming nothing goes wrong let's move on because we've done this I hope it's very very clear there's other government stuff I want to rant about I'm not going to because it's not overly financially related and okay really quick sentence we are being sold down the river by the duopoly who have decided to reform in air quotes political donation rules so that they get the rails run they can spend$90 million nationally, an independent candidate of whichever stripe.

58:37I don't care whether you're someone who's a libertarian or a green or whatever's in between, a teal. You can spend$800 ,000. If you're an independent candidate, you can spend$800 ,000. They can spend$90 million. Speaking of really, really awful, counterproductive and selfish political reasons, a pox on both their houses. I'm going to move on. They've got the thumb on the scale. It's just uneven. It's the fist on the scale. It's sitting on the scale. Yeah. Yeah, everyone else is fighting with one arm behind their back. Right, literally, that's what they've done. And they've voted together to screw the rest of them over.

59:08Hey, CBA's profit, I believe, came out this week,$5.14 billion. Profit was up only 2%. Dividend up 5 % to$2.25 a share if you're a CBA shareholder. The share's up another 2 point something percent on the news. It's good news for everybody, isn't it? Look, here's the thing, right? Did we say you should settle in? We said you should settle in. So the CBA has gone up 70 % or something like insane in the last little while. Let's just go through some of the half-year result numbers here. So profit grew by 6%. That's not terrible. That's not terrible for a very mature business. except when you dig below the surface here.

59:58Actually, cash profit, which is the much more relevant profit. And why is that more relevant just very quickly is because you get a lot of impairment charge adjustments. I'll come back to that actually, which sort of a chain, like very reasonable, by the way, accounting rules. But statutory profit does not indicate the amount of money that has actually come in, like the cash profit, right? So we talk about the cash profit when it comes to banks. That grew 2%. In other words, it went backwards in terms of real terms because inflation was well above 2%, right? So their profit actually went backwards.

1:00:27Okay, you know, it happens. They lifted their dividend. They lifted their dividend by 5%. That's fantastic. But you're still getting a yield that's at like 2.9%, right? Okay. The forward PE, so in other words, what they're expecting to earn for the full FY25 financial year is 26 times, sorry, the market value of CBA is 26 times that amount. Now, that's generally what a growth stock trades at. Not a stock that's growing at 2%. I know. Right? Not a stock that's growing at 2%. And here's the thing. The other one, I mentioned it before on the pod. We don't have time to get into it. But for a lot of reasons, price to book ratios are pretty handy when it comes to banks as well.

1:01:17It's 3.7 times. It's something like three standard deviations against the long-term average. Like, in other words, just a fancy way of saying it is insanely, insanely at the extreme end of what these things normally trade at. Now, this has got nothing to do with the Commonwealth Bank per se. Matt Common does not control what the market does, right? People, through their own free will and volition, are buying these shares at this point. Yep. Yeah, that's right. Exactly. I don't care. I actually don't care. I wouldn't buy it with your money. I wouldn't touch it with a barge pole at that, right? Right.

1:01:53But so here's my problem with it. What the bank can control is what's called its capital management. So like a very profitable. And again, all you turn on the news and all you hear is so many billions of dollars and everyone gets angry and rah, rah, rah. And it's just like it's actually a terrible result, I would say. There's no real growth in there. And anyway, but they've got all this extra money. And so there's two things that they can do for you as a shareholder. They can pay you a dividend. We like dividends in Australia because you get franking credits as well. So it means you pay less tax on it.

1:02:24It's really nice. It's fantastic. And so they've got all this money. And now the$10 billion has been previously flagged for buybacks. They've actually spent the lion's share of that buying back their own stock. Now, that's okay. That's actually how it happens in the US mainly because they don't have this franking system. But what it means is there's less shares on issue. So your proportional ownership goes up. So it is a return to you of value. And it's actually a very, very sensible, prudent thing to do if, there's a very big if here, shares are reasonably priced. For them to spend the remaining$700 million to buy back shares at this blue, you can sometimes, valuation is a very subjective thing.

1:03:07If we were talking about the PE at 18, 19, is it a PE? No, I don't know. Maybe it's a little bit stretched. You can sort of debate. At this point, it's just like, it's not just me, right? You open up the paper, it's like, oh, everyone is saying this is so unusual. This is so high. How can they possibly do this? It doesn't make any sense. And the bank is spending your, if you're a shareholder, and you probably are in some indirect fashion through your super fund, they're spending a whole bunch of that money on buying back their own shares. Why would they do that for? Particularly when they've got 500 million, they've got some huge bank of franking credits.

1:03:40The Commonwealth Bank can't use franking credits. All it can do is give it to you. So they're worthless to them. So if you've got excess capital to distribute, pay a special dividend, even if it's a small one. Get rid of some franking. Hooray, shareholders would be cheering in the street. Don't buy back shares. What's the advantage of buying back shares? It does help boost that earnings per share growth figure. So I can only imagine that there's two potential readings of this. One, you absolutely have no clue what you're doing in terms of capital management, and you are recklessly and wastefully spending shareholder funds.

1:04:14I wouldn't roll that one out just quietly. I know you've got to go somewhere else, but I don't think that's as unlikely as it might sound. Look. Not making that common, I'm not getting bagging, just in corporate Australia in general. For people who are paid the sums of money that they are paid, with the qualifications and education and resources that they have, you're probably right. Maybe that's what it is, right? But it's like, really? Like, how come you're on that? I'll take a tenth of his salary and I will not make that decision, right? And I'm sure there's a bunch of other people out there as well.

1:04:42The other reason is it's a craven ploy to sort of help manufacture growth on a per share basis. Right, right, right. So there is all of that. Which, again, at the right price is perfectly justified. If you can buy back shares at a good price and drive earnings per share growth, you want to do that. That's perfect. It's the price at which you're paying for those shares that's absolutely the problem. Yep. And I've made this point before, but I was going to make it very, very quickly again. Go on. If you are a CBA shareholder or any of the major bank shareholders, frankly, but let's pick on CBA because their results are out.

1:05:12Or you're thinking of buying it. I'm not mincing my words. I'm using very deliberate words here. You are pretty much making an overleveraged bet on Australian residential property. That's what your bet is. And this thing - Overleveraged and overpriced, by the way. Overpriced, overleveraged bet on - You talk about diversification. There is zero diversification within that loan book. It is all in houses. So in fact, 70 % of its loan book is Australian home mortgages. It's worse than that, though, because when you look at small business loans, again, anyone who's run a small business, generally speaking, when you borrow money from the bank, you put your house up as collateral as well.

1:05:52So they are massively exposed to the Australian property market. And again, I'm not saying that's necessarily a good thing or a bad thing. But if everything sort of muddles ahead and we've talked about affordability issues and we're at the point of the clown show now. where the only thing that keeps this going is we just like ridiculously reduce all the rules and restrictions and just throw a ton of money at it, which is what's going to happen, by the way, because they are, to use the vernacular, at least the way it's considered, too big to fail. So that's exactly what's going to happen. Otherwise, I would short the hell out of it, but I'm not because it'll most likely continue to go up.

1:06:26But again, understanding the maths here, if their loan book fell by 12%, the bank's insolvent. Now, people will be quick to point out, well, in fact, the bank did in its presentation. The average LVR loan to value ratio of all their properties is 42%. In other words, there's a massive buffer in there. There's a massive buffer in there. So you look at that and you go, well, that's very unlikely. I mean, is the Australian property going to fall 60 odd percent? Probably. Even the biggest bears probably think, no, that's not likely to happen. Ergo, it's okay. If there's one thing that the GFC, I was going to say tortoise, should have tortoise, gave us the opportunity to learn.

1:07:05We didn't learn it. No. Whereas the risk happens at the edges, right? And this is how all the PhDs got it wrong because they looked at these things and go, well, the odds of that happening are very, so therefore it's super safe. But, you know, there's 7 % of their home loans have an LVR greater than 90%. There's something like$6 billion worth of loans that are in negative equity. That's a small number overall. It's less than, I think it's about 0.9, 0.8 % of their loan book. but if just the ones in negative equity failed, just those ones, just the 0.8 % of their loan book failed, that their equity, their net asset value of the Commonwealth Bank drops by eight or 9%.

1:07:43In other words, most of their properties that they've got there on average are in good shape, a lot of excess capacity there, et cetera. But it's all concentrated in one thing and you tend to see ripple effects here. So if things started to go wrong, it's like all of a sudden those maths changes very quickly and at the tail end there, it changes. So again, I'm not, I've done, I've been bearish long enough to know that, you know, it doesn't matter how it looks, things can get crazy. So as I said, I would definitely not short it. But your bet here is things muddle forward and I continue to get a, with ranking credits, I continue to get about a 5 % yield, maybe some notional one or 2%.

1:08:24I got a very, maybe I get six or 7 % average total shareholder return over the next five years. It's okay. Not much better than what I would get in a bond, right? Which is far, far less risky. Or something happens and it doesn't have to be a disaster, but something, again, unexpected happens and I get wiped out 50%, if not more. So as you know, asymmetry is one of my favorite words. It is. It's one of the favorite things that I think you look for as an investor because there's nothing that's risk-free. So it's a question of if I'm wrong, how much do I lose? If I'm right, how much do I win? And you want to, saying it out loud, it feels stupid.

1:08:59You want a scenario where there's not much downside and there's a lot of upside. With Commonwealth Bank, again, you handicap the odds how you like. You're saying, if everything goes well, I'll make a tiny little return. If it doesn't, I'm almost wiped out. That's the proposition at the moment. And I, for one, think it's insane. But what would I know, right? Like I've been saying it for a year and here we are with Commonwealth Bank pretty much at an all-time high. So anyone who's listened to this rant before is right in sort of saying yeah, nice one, Petal, but you are so wrong as to be ridiculous.

1:09:35But I'm dying on this hill, mate. I'm dying on it. The logic and reason will prevail eventually. I think, and I think that's, your reasoning is perfect. Now I will say, you kind of said look, best you can get is 5 % or 6 % a year for the next five years. I would just only add to that. It could be a lot more, right? It could be more, yeah. The best that could be justifiably delivered is about 5 % or 6%. But we know. I mean, frankly, Commonwealth Bank was overvalued at 22 times earnings. Now it's 30 times earnings. So you look at the expansion on that, that's what, a 30 % odd improvement. You kind of go, okay, well.

1:10:06So it could be more absolutely. Anything could happen. The job of the investor is to think probabilistically. And so if you're to weigh a market, how could it be market beating from here? It could be market beating if the housing market took off again for an extended period of time. It could be market beating if investors went, well, there's no alternative. Or I really, really love my frankincredits even more. There are a range of scenarios where it's possible. This is where – nice teachable moment, mate, as we round out the podcast. It's not a case of, you know, could a thing happen or – sorry, it's not a case of will a thing happen at all.

1:10:41Because we don't know any of those things. We talked about companies earlier. We talked about steel. We talked about aluminium. We talked about other parts of our portfolios. There are, in every single one of my companies, everyone, I suppose, probably not everyone, most of them could go broke. Now, some have got enough cash that, I mean, you spend 50 years trying to go broke and you'd finally get there. But, you know, there are some that could go broke. There are some whose markets would evaporate or meaningfully reduce. There are some who will be beaten by competitors or could be beaten. There is a risk in every single company.

1:11:09There's a risk that the market halves tomorrow. There are risks in absolutely everything. Our job as investors is not to say, where are the certainties? And it's absolutely also not to say, if I close my eyes and squint, I can possibly see a future where this might double. It's to say, right, probabilistically, thinking about what I know about the company, what I know about the economy, what I know about the market, its competitors, its future, its track record, its balance sheet, all those things wrapped up. And I know that feels like a laundry list. And investing is not overly difficult, but it does take some time.

1:11:38You've got to get your head around some different concepts. It's not hard, but you've got to do the work. Simple but not easy. Right. Thank you. And you say, right, what do I think are the range of outcomes? So everything from going broke to going up 10X, every company has that range of outcomes. The chance of Woolworths 10Xing in the next 10 years is about as close to zero as you get, but it's not impossible. It could leverage itself up. It could discover gold. It could, I don't know. Is it likely? No. Is it possible? Yes. Well, I'm going to win Lotto before Woolworths 10Xs in the next 10 years, but it's possible.

1:12:08Is there a scenario where it goes broke? Well, I guess Amazon comes in, it cuts its prices, whatever. whatever, in the middle somewhere is, you know, it's probably going to grow about the rate of GDP or population or both, plus a little bit if it's really good at its job and managed to keep costs under control and gets benefits of scale. Okay, so I can kind of get a range of reasonable outcomes. That's the job. And so you think about CBA, and again, as Rem, you've just said, there's a chance it – there's no chance it goes – well, there's a chance it goes broke. Yes, absolutely. There's a chance it goes up.

1:12:38No, there's not because we'll bail them out. Well, we'll bail the deposits out. We may let the company itself go broke or not. Shells may lose everything in the process or they may not. So is there a chance? Yes. Is it likely? No. Is it really, really, really, really, really unlikely? Yes, but it's possible. Is it possible that Commonwealth Bank doubles next year? Yeah, sure, because it takes over something, gets a new deal, the government prints a lot of money, whatever, is it possible? Yes. But your job as an investor is not to say, if I close my eyes and squid, I maybe possibly can see it. You say, on balance, how likely is it that this is a worthwhile investment to own?

1:13:10And that's where the rationale that Ram just gave us is really, really important. What would have to happen for those things to be true? How lucky are those things to happen? And if you really ask yourself, if you're a CBA shareholder, you're probably squirming uncomfortably right now, but really ask yourself, given the current price, given the 2 % profit growth, given the circumstances that we find ourselves in economically, and I'm not a bear, I just, what would have to happen? It's grown in the past because it took market share and it brought competitors. So you can't even extrapolate the past.

1:13:41Woolies was that example. They grew like topsy for 20-odd years. And then got to a point where between them and Coles, they owned most of the market. The growth opportunity is gone. It's not a bad business all of a sudden. There's just not much growth left. And so you don't want to pay a growth multiple for an ongoing business. Unfortunately, that's exactly what CBA shelves are paying if they're buying today. Yeah. Yep. So buy them or where? I don't know. It just seems a bit... I think it's... We won't get into it because we're out of time, but I think it is, it is, it says something about the broader picture.

1:14:13We didn't get into it, but I mean, gold, yellow metal. Yeah. It's almost at 3000 US an hour. It has had the most incredible rate. It's outperformed the NASDAQ, you know, this year. You know, it's sort of like, I feel as though there is a lot of capital just looking for anything that is considered sort of safe, you know, and, and, and, And although everything, taking everything that I've said under consideration, I think for a lot of people, they just go, well, it's a big, it's blue chip. It's safe. Yeah, the return's not great, but I'd rather it there than in cash, certainly because inflation's killing it.

1:14:47And God knows what's happening. And tax credits and other things. And yeah. So people are just, people are desperately looking for a safe haven. You often, it's not often, but it's not uncommon, not uncommon at all, that you see what are called, we talk about meltdowns a lot in the market, but there are meltups as well. you know or it's just like there is this sort of irrational rush for quality that's why nvidia and the magnificent seven are doing so well are they worth that again we can we can debate that and i think a lot of a lot of really reasonable people sort of make the point jesus there's no question on quality they're just you're you're paying up for it but i think part of that is it's just sort of like yeah but what else am i going to do i'm going to touch this dirty government paper that's just kind of guaranteed to debase or i'm going to like put it into an already over inflated property market like what what do i do with it right and instead of like it's the acronym here is tina there is no alternative so it's a like i guess i'll buy cba at 28 times earnings or whatever it is yeah and yeah a whole and there's you know the whole lot of social proof there everyone's saying it's a blue chip it's big frankly it's gone up a lot i mean you know that that that tends to become from a lot of people its own that's all you need for most people is it going up i'll buy it it's big, everyone owns it, even to your point, the government's not going to let it go broke.

1:16:01It's like, well, the government may well let the shareholders lose some money. Don't assume just because the deposits are safe and the brand survives. We've talked before about Lloyd's in the UK, right? Lloyd's survived, in quotes, except the shareholders took a 90 % haircut. So, you know, did the banks survive? Yes. Were the deposits bailed out? Absolutely. Were shareholders taken to the woodshed? Absolutely. So, don't believe those things can't happen. Well, just on that too, this is a good problem to have, but if you've got more than 250 ,000, is it? Yeah. You're only insured up. In cash. You're only covered up to that amount.

1:16:32So if you're lucky enough, you've got a million dollars in cash in your savings account, you might want to open up some bank accounts with other institutions is all I'm saying because it could absolutely go. The other thing too is that while shareholders do take their credit, you know who is bailed out? Go on. The bondholders. Yeah, often, yeah. No guarantee, but probably. Well, if they've, yeah, if they remain a going concern, then they do. And I feel as though, I mean, bond fixed interest ranks ahead of equity holders. It's just the way that the world works. But I feel as though that's a little bit unfair too.

1:17:08It's kind of like, not only do the management that sort of made this mess sort of get to sort of live and fight another day, but all the people who lent them the money that enabled them to do this also get bailed out. And it's just a bit unfair. I'm sorry if someone bought a corporate bond from CBA and it didn't do well. But again, it's just like, well, why do you guys get bailed out and others don't? That's the part that's really unfair. I think we might leave it there, mate. Yeah. Otherwise, we'll go for another hour. We got through most of what we want to talk about, and that is a win for us.

1:17:40Sometimes we don't even get to that. So that was a very enjoyable conversation. Hey, just for those who've stayed long enough, let me declare my undying love for them. And happy Valentine's Day to the listeners who otherwise should be taking their significant others out for dinner and instead listen to our podcast. If you're listening on Friday evening, I hope you've enjoyed some time. Maybe had a glass of bubble or something while you were listening. Happy Valentine's Day or happy Singles Awareness Day, as the single people like to call it. Oh, nice. I hadn't heard that one before. And a special shout out to Hallmark.

1:18:11Brilliant. Bravo. That is just the best idea that anyone ever had in terms of a marketing idea. The Rose Growers are pretty happy too. Have you seen the markup on Valentine's Day, roses? Oh, yeah. By the way, just to our very earlier point, of course. Supply and demand. Of course it is. It should. The fact that the roses fly out the door at that price just signals that you could probably put the price up higher. That is a perfect, normal, rational, reasonable, in fact, desirable outcome when demand spikes massively. It incentivizes more growers. Rationalizes the price. It goes to the people who want to pay for it.

1:18:47I floated this idea to my wife once. It's just like, let's celebrate Valentine's Day a week later. Oh, you softy you. Because I'll get the, you get everything cheaper. Got price roses. I didn't. How'd that go? No. No, good. I love you so much. I'd rather pay half the price for the roses. I tried it at Christmas Christmas. We needed a new tree. And I said, let's just wait. Let's go one more year and we'll buy it on Boxing Day. We'll buy it for like a fraction of the price. It's still going to last. We definitely know. unless all of a sudden we choose to stop celebrating Christmas, we're going to use it.

1:19:20It's like, yeah, but I want one now. It's like, okay, we're doing that. Happy Valentine's Day and Fool on. Happy Valentine's Day. The Motley Fool and people appearing in this program may have positions in the companies mentioned. General advice only. Please speak to your financial professional to understand how it may pertain to your situation. Subscribe to the free newsletter at fool.com.au forward slash listener. The Motley Fool operates under Financial Services Licence 400691.

From the publisher

– The impact of tariffs on aluminium and steel

– The government flags a buyout of Rex

– Will HELP help, help?

– CBA’s eye-watering profit… and valuation

See omnystudio.com/listener for privacy information.

Ask about this episode

In short

Transcript

More from Motley Fool Money