TIP771: Money Masters Of Our Time w/ Kyle Grieve

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24:02Preston Pysh:All right, back to the show. For me, businesses that manufacture cigarettes or weapons that kill people or even pharmaceuticals don't interest me whatsoever. And I have my own reasons and you may completely disagree with them and you may have completely different reasons than I do. And this is why I think that investing and morality shouldn't be mixed. Now let's shift gears to one of my favorite investors who's profiled in this book, and that was Philip Fisher. Other than Buffett, I probably had the most notes on Philip Fisher. I've already discussed his book in a lot of detail on TIP 646. So if you resonate like I do with Philip Fisher, I recommend listening to that episode.

24:39Preston Pysh:Now the central theme I want to tackle when looking at my notes was Philip's just insistence on finding businesses that could be held for a long period of time. Philip wasn't searching for just good investments. He wanted a few outstanding ones, and that was his words. But using his method, you had to really, really nail the quality of the business to find these outstanding investments that could be held for a long period of time or deserved to be held for long periods. Businesses that deserve to be held for long periods have the following attributes that Fisher talks about. So the business should grow over the years in intrinsic value, which in turn will grow your investment.

25:19Preston Pysh:I think that's a pretty obvious one. If we want to compound our money in the market, price generally will converge with intrinsic value. The next one here is that you should be unwilling to sell your stock because it's increased significantly in price. The truly outstanding business that Fisher was searching for will tend to just grow indefinitely. So selling just because a share price had a good year means you are missing a large amount of upside. And then just to add to that point, I think that the fact that a company's share price is growing is actually really good feedback that your thesis was accurate.

25:53Preston Pysh:I know in value investing, a lot of investors love when stock prices go down so they can buy more. I do too. But the fact is, if you plan on holding a business for 10 years, hopefully, maybe if you have the right one in your portfolio, there might be a time where you want to put more money into that one position. And in that case, you might be paying more in terms of the stock price, but you might be paying a better price in terms of valuation. Let's say you initially buy it at a PE of 15. A couple of years later, maybe the price goes up a couple of times and now you can buy it at a PE of 10. That's still a rational decision.

26:28Preston Pysh:So the next one here is that outstanding businesses grow, and much of this growth is due to reinvested profits. So Fisher makes a point here that you don't really want to be looking for businesses that are paying dividends. You should actually be searching for businesses that can reinvest in themselves at high rates of return. And I've gone over the math of this, but essentially compounding machines want as much capital inside of the compounding machine as possible, which is why you'll see certain businesses that have these super high returns on invested capital utilize debt because they can oftentimes kind of juice their returns using debt.

27:03Preston Pysh:Now, the last one here is that Fisher talks about perception a lot. I think quality businesses tend to be perceived in a more positive light than lower quality comparables. This is advantageous, especially when you can purchase a quality business at a low multiple because you get the twin engines of growth in EPS growth and multiple expansion. Now, outside of this theme, I noticed that Philip Fisher was just a very rational person. For instance, when talking about conservative investments, he had a very different way of looking at them. So he didn't consider blue chip investments to be conservative, which I think the majority of people and listeners probably do.

27:39Preston Pysh:So he thought of these types of businesses as more likely to lose ground to up-and-comers and just were not conservative because of that. So he proposed that a conservative investor is one who owns winners. Dynamic, well-managed enterprises that, because they are well-situated and do almost everything right, continue to prosper, grow, and build value year after year. So the final point on Fisher I'd like to share is in regards to buying. Since many of our TIP listeners love quality investments, I think Fisher has some very good takeaways to help identify opportunities to buy quality businesses at reasonable prices.

28:18Preston Pysh:So here are some of the points I highlighted that I think are most relevant today. So there's three. The first one here is buy during the startup period of new manufacturing, distribution, or technological upgrades. This can have the effect of suppressing cash flow as the business deploys capital expenditures. The market can sometimes treat the decreased cash flow as a negative, which can often punish the share price. But if you have a keen eye for these kinds of events and understand that capex cycles are necessary for the growth of a business, then you can capitalize on these types of events.

28:50Preston Pysh:So I'll briefly mention here just Dino Polska, which I think is a really good example of this. So Dino in 2024, the top of its CapEx cycle dropped in share price by nearly 40%. So I think part of the reason for this, there's many reasons and I'm not going to get into too many of the details, but one of the big reasons is that their store count has decreased. And part of the reason that their store count has decreased is because Dino Polska doesn't borrow very much money from banks. They want basically as much funding for the business, that's for growth and for maintaining the business to come from internal cash flows.

29:24Preston Pysh:So Dino Polska lately has been increasing their distribution centers. And because they don't have access to unlimited capital, they have to reallocate money from opening new stores into these distribution centers. And the reason they are making more and more distribution centers is to help support more and more stores down the road. So you can kind of see how, if you have this view on their CapEx cycle, and you think that is correct and that hopefully the store account will once again re-accelerate, then you can see how this would be beneficial to investors who are bargain hunting for what I think to be a quality business.

29:55Preston Pysh:So the second one here is buying a business on bad corporate news. So Fisher mentions things like strikes, marketing errors, or other temporary misfortunes. So I think meta is a pretty good example of this. You can make the argument that it also has to do with CapEx, but I don't know. For this case, I'm just going to make the case that it's bad news. Mark Zuckerberg mentioned that he was going to invest$10 billion into the metaverse. And this was news that just kind of shocked and obviously was not received well by the market. So the stock had been trading at$340. After the news was announced, the stock dropped all the way down to$90.

30:32Preston Pysh:So this also coincided with the bear market. So there's kind of a Lollapalooza effect of multiple bad things happening at once. But these are the types of things where if you'd understood meta, understood the cash flows, understood the core business of it, you might've been able to identify that it was trading at a ridiculously cheap price there in 2022 and added or started a position in the business. Now, the third buying opportunity is when a business has a plant that just has poor efficiency, but that efficiency can be fixed. If a business can, say, upgrade a plant, work through some of the bugs it's having, the efficiency can often skyrocket as a result.

31:09Preston Pysh:A great example of is ADF Group, a business that I don't own. So this is a business which over the past few years has upgraded its plant to utilize automation. As a result, the net margins have just completely skyrocketed, which have drastically improved the company's operating leverage. Robert Leonard Leonard Leonard Leonard Leonard Leonard Leonard Leonard Leonard Leonard Leonard So here's how net margins have grown since 2020. In 2020, there were negative 1.2%, following year 4%. Year after that, 3.4%, then 6%, then 11.4%, and the trailing 12 months is 15%. So these are great buying opportunities for quality businesses.

31:41Preston Pysh:I think another one that wasn't mentioned by Fisher is buying when a business is negatively associated with another company. Many super high quality tech businesses had their share price just pummeled in 2022, just because the general market faced these massive sell-offs. If you have the conviction to buy during these periods, you can often pick up shares of just super high quality businesses at depressed levels. So the next investor I'll cover here is another one that probably needs no introduction, and that's Benjamin Graham. So I'm just going to do a kind of a brief one here, as I didn't feel that there was too much new information that hasn't been covered in a lot of detail, say in his book or his biography.

32:18Preston Pysh:But there was an idea that I wanted to cover that I personally find interesting and different from a lot of the other quality investors that you'll find. And that is Graham's sell criteria. When you contrast his sell criteria with someone like Philip Fisher, you can very obviously see that the two of them were playing just a much, much different game. While I'm more attracted to Fisher's framework, there are also a lot of value investors listening. And I think Graham had a great framework for investors that are more interested in buying cheap and selling when price meets intrinsic value. So Graham's sell criteria were the following.

32:51Preston Pysh:One, sell after your stock has gone up 50%. Two, if criterion one has not been met, sell after two years. And three, sell if the dividend is omitted. Now, I think this method worked super well for Graham, and it can probably work well for other value investors who are comfortable with higher levels of portfolio turnover. While I have no problem with dividends being omitted, high quality business, Technion, for instance, used to pay a dividend, but they've gone away with it because they have high returns on reinvested capital. But low quality cigar butts, the type of businesses that Benjamin Graham was looking for, send kind of a strong signal if they stopped paying their dividend.

33:28Preston Pysh:If a business stops paying a dividend, it's usually doing it because it doesn't have the profits that are necessary to support it. Now, in Graham's case, he noted that a business with a high dividend yield boosted his strategy in terms of return. So if the dividends were to stop, his prospective returns would decrease. So now I'll shift to an investor who was just the polar opposite of Ben Graham, and this is Mark Lightbone. Mark Lightbone was an incredibly successful emerging market manager. Unlike, say, Jim Rogers, who would identify an interesting company and then just buy all the stocks that were for sale in that country, Lightbound would be highly selective in searching for winners.

34:06Preston Pysh:So here's three factors in how he identified value. The first thing he would do would be to determine the cash flow that would be generated by the business. So the first way he did this is by adding net profits plus depreciation and amortization, the conventional definition of cash flow. And then he would subtract the expenditures required for the company to stay business, but not necessarily to grow fast. The second tool he would use here that he thought was even better than the first one was to take operating profits, add back depreciation amortization, then subtract capex and working capital needed to maintain the expected growth rate of the business.

34:42Preston Pysh:Train writes, this calculation should reveal whether the enterprise will still spin off cash in hand to its owners or instead demand fresh equity to support growth. It also shows an attractive price range to conduct your own buying. So this tool was really interesting because it actually reminds me a lot of Buffett's owner's earnings, except that Lightbound used a CapEx number that would support growth, whereas owner's earnings uses a number just to support maintenance. So the numbers would be a little bit different, but I think both tools are very, very interesting. The third tool here that he would use to identify value is what he could sell that business for over and above what you paid, which that's just goodwill, right?

35:23Preston Pysh:Let's say you put a million dollars into a business, can you now sell it for$3 million? So that was the kind of third way that Lightbound was looking at businesses. This is an interesting concept as it clearly states that he wasn't interested in buying businesses that would be evaluated purely off of tangible assets. He wanted a business that would be building up, hopefully, their intangible assets or had high levels of earnings power that would allow the business to be priced well above book value. So one more here that I want to mention is to figure out just what stage a business is in, in terms of when value is going to be added and when that value is going to actually arise.

36:00Preston Pysh:So Mark was interested in knowing things like from which activity, which decisions, what market is it going to be generated from? This would help him optimize his own understanding of a business's competitive advantage, profit margins, and durability. Now, Mr. Lightbound, like Buffett, preferred high-quality businesses, which required little to no incremental investment to grow. And he also wanted businesses that would pay cash to the owners so the money could be redeployed elsewhere. If management was reluctant to return cash to shareholders, that was perfectly fine with him, but they should definitely be skillful at reinvesting into the business at high returns on incremental invested capital.

36:37Preston Pysh:Now, I noted two additional insights that I wanted to share with you. Lightbound noted that too many analysts were able to look smart at dinner parties and just relay facts, but they were unable to kind of organize these facts into broad conclusions. Many analysts would become engrossed with finding the facts, but missed the bigger picture. This is a very important concept as it relates well to noise that is all around us trying to send us signals that may or may not have relevance. The last point on Lightbound I'd like to mention is concerning his due diligence process. Lightbound used a network of people to learn about a business's owners and managers.

37:16Preston Pysh:He wanted to know if the managers he was researching were straight or not, and if he could trust them to be good stewards of his capital. So instead of just looking inside of the business or maybe looking at customers, suppliers, he would actually tap into the backers of the company, people like bankers and brokers to help him come to an accurate conclusion on that matter. Now, if you have access to these types of people, I think that's a great source to learn more about management, but probably not going to be something that everyone can access. The next investor I want to profile here is John Neff, who's probably the closest investor to Ben Graham in the entire book.

37:54Preston Pysh:So John Neff is a value investor, most definitely in the traditional sense. He buys stocks when they're cheap, and he sells stocks when they get expensive. He loves misunderstood and woebegone businesses that he thinks have wide divergencies in price and value. Now, Neff's early career in value investing brings a great insight. So early in Neff's career, he was a security analyst with Cleveland's National City Bank. But given his proclivity for misunderstood stocks, he'd often be at odds with other members of the trust committee. As you can probably guess, these committee members preferred owning just big names, stocks that everyone knew, stocks that would reassure customers, but probably offer inferior returns compared to what Neff was finding and looking for.

38:38Preston Pysh:This is an important lesson because it shows that an investor working with others where the goals are misaligned can end up creating resentment in one or both parties involved. John Neff had an interesting addition to his traditional value investing strategy, and this was an insistence on income. So Neff preferred income as he thought it was relatively undervalued versus the market's hunger for growth. In Neff's view, businesses with strong growth had multiple drawbacks. They suffered from high mortality rates. Growth doesn't continue for long after it's recognized. And lastly, he thought that you could earn higher returns in slower growing businesses that paid a higher dividend right now.

39:16Preston Pysh:So Neff is an interesting contrast to someone like Atiro Price who insisted on growth businesses for most of his career. I think Neff's approach just shows that there are multiple ways to win in the market and utilizing a strategy that just resonates with you will probably bring you the most wealth and the most joy. Now, let's come to the third point here, because I know we have a lot of different types of investors tuning into the show. And I think his points benefit both dividend-focused investors while giving investors who are looking at growing businesses something to ponder. So Neff looks at this problem through the lens of certainty.

39:49Preston Pysh:So let's say we have two potential investments. Let's just call it A and B. You're analyzing them both and looking at what you can make the following year. Let's say A appears to be a compounder that can reinvest 100 % of its profits back into the business. Therefore, it doesn't pay a dividend. Now, let's say this business you model for about a 15 % growth in per share earnings. Now, let's compare that to company B. B can only grow their per share earnings at about 10%, but it also has a 5 % dividend yield. So when Neff compared these two, he would actually prefer B. And the reason is because he thinks the certainty of getting 50 % returns due to the dividend income is greater than just focusing on a business reinvesting in itself.

40:30Preston Pysh:Now, the primary difference between Neff and Graham was that Neff wasn't looking at businesses strictly in a quantitative way. Some of the criteria that he insisted on were things like a sound balance sheet, satisfactory cashflow, an above average return on equity, able management, the prospect of continued growth, an attractive product, and a strong market in which to operate. So these criteria definitely differ from traditional Graham-style investing. Even though you'll note that growth did factor into his selection process, Neff made sure to note that he felt high growth rates didn't actually offer the best opportunities.

41:06Preston Pysh:Neff felt that investors will think that a business with a low growth rate indicates that something is wrong with the business. So Neff fished in this pond of 8 % growing businesses because he felt this was where he could get a good mix of a bargain price and inherent growth. Now, Julian Robertson, the next investor I want to talk about, ran what I would consider kind of a classic hedge fund. This is where you go long on ideas you like and short positions that maybe your long positions are going to crush in reality. A good example from Julian Robertson's history was Walmart. So Robertson observed that Walmart wasn't at a time necessarily a monopoly, but the business had just these amazing competitive advantages that made it very difficult to compete with.

41:47Preston Pysh:And since he researched the industry so closely, he felt that he could short the competition that Walmart was stealing market share from. While this type of investing doesn't resonate with me at all, I know many hedge funds out there run very similar systems. My other takeaway from this chapter on Julian Robertson was concerning growth. So John Train compared Robertson to Icarus, who crashed at sea when flying too close to the sun. As Robertson realized more and more success, which he had a ton of, don't get me wrong, his fund took on more and more capital. But eventually, the excessive amounts of capital caused his ship to crash down to earth due to the fact that it could just no longer function as it once had.

42:27Preston Pysh:Now, this is more of a problem for institutions that are likely to increase their assets under management with more success. I just think institutions that maybe run, for instance, a small cap strategy, they need to be wary of how much capital they're bringing in. because if your AUM goes from 100 million to 500 million, that's definitely going to change the types of businesses that would maybe be movers for you in the past, but not movers for you now. So let's move on to Jim Rogers, who is an investor who's best known for investing internationally, kind of like John Templeton. There's an interesting dichotomy when I think of Jim Rogers after reading this book.

43:05Preston Pysh:On the one hand, I don't resonate with his investing style at all. But on the other hand, I very much resonate with the fact that he travels a lot and that he was a master at creating this kind of union between traveling, learning new things, seeing interesting things, and then also profiting from all those interesting things that he learned during his time traveling around the world. So let's first cover his investing strategy. So he had four tests to determine if a country was any good to invest in. The first one was that it must right now be doing much better than it had been doing previously.

43:39Preston Pysh:The second, it must also be better off than is generally realized. So that just kind of plays into perception. The third is that the currency must be convertible. If it is going to be convertible in a month, then he'll wait that month until he starts investing into that country. He says there's plenty of time to invest after the currency has become convertible. And the fourth is that there must be liquidity for the investor. Jim Rogers knew, I guess, that sometimes he might be wrong and he wanted to be able to safely exit and investment if you wanted to. So John Train added two profound points to Roger's strategy that I thought were brilliant.

44:11Preston Pysh:So the first one here that the government significantly liberalizes investment conditions. And the second is that local pension funds are partly privatized, which allows them to buy stocks in that market. Let's take a quick break and hear from today's sponsors. Spending my days digging through the financials of the world's best businesses. And one thing becomes obvious fast. The companies that win are the ones that can actually see what's happening inside their own operation. And these days, they say that every day your business is late to AI, you fall two days behind. The competition is only moving faster, but fortunately, there's NetSuite next.

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48:04Preston Pysh:All right, back to the show. Treyne added these two points because he noted that obviously all this new liquidity entering the market would often make the market in its entirety go up. Now, all these points so far sound reasonable to me, but here's where his method just doesn't resonate with my investing style. So Train discusses an example of Portugal. Rogers negotiated with Portuguese authorities, and he became convinced that Portugal was safe to invest in. Now, this was in 1984. He had been following the country closely for over a decade. And after he got permission, he invested in every single stock on the Portuguese stock exchange.

48:38Preston Pysh:Now, it was only 24, but still every single one. So for investors who like making basket bets, I 100 % see the allure of this system, but it's just not something that resonates with me personally. Now, the next part about Roger's strategy that does resonate with me is a traveling part. Train mentions that Roger's learned about a lot of the new opportunities through travel, reading history and reading philosophy and not from business school. So for a while, Jim Rogers was teaching security analysis at Columbia's School of Business. And to these students, he said, study history and philosophy. Do anything in preference to going to business school.

49:16Preston Pysh:Wait on tables. Hitchhike in the Far East, unquote. Train added that only if you do these types of things can you then develop a rounded perspective on life. The last point I'll make here on Jim Rogers is in regard to information. Rogers believed that having no information was better than having the wrong information. His point being that if the basic facts are wrong, additional errors are likely to build on top, leading to an even more wrong conclusion. I think this is a very powerful notion today with just how easy access to information is. And I think it shows how vital it is to ensure that the information that you're getting is accurate.

49:56Preston Pysh:And that means doing your own due diligence. Jim Rogers is a good segue into the next investor I'd like to discuss, which is George Soros. They were partners for a time. So Soros had an insane run compounding money in his publicly held portfolio at 33 % per annum for 29 years. It's just an outstanding track record. And what's even more interesting is how he did it. So he's a speculator. He's not a true investor like Warren Buffett. He also uses leverage and derivatives. So he's just a different animal than a lot of the kind of value-based investors that we've talked about so far on this episode.

50:31Preston Pysh:But someone who's had that much success always leaves lessons and clues, even if their investing style is so much different. So one area of Soros that I found insightful and somewhat surprising is that he didn't spend time on economic study. For someone who made much of his fortune speculating on what appeared to be large economic events, I found that really surprising. But when you dig in and consider some of the sources that he had, you can kind of see that he had this ability to get straight to the matter of what was important for him to know, I guess, without taking economic study into too much of a focus for him.

51:08Preston Pysh:For instance, he participated in the Council on Foreign Relations. He had friendships with high-ranking US officials at the time, such as Secretary of State Madeleine Albright and Assistant Secretary of State Peter Tarnoff. And John Train points out that Soros had access to high levels of government in most of the significant countries of interest to him. So he just had access to things that the normal person wouldn't have access to. So to me, Soros had a very specific niche where he could work and succeeded very well in that niche. Now, in terms of replicating that network of people to draw insights from, you'd be very hard pressed to build the type of network that Soros had.

51:45Preston Pysh:And I think without that network, I don't think that Soros' strategy would have worked. Now, this is an interesting lesson and reminder to just be careful who you take advice from. There are people in money management playing vastly different games than I am. If I were to take advice from a momentum trader who planned on buying and selling the stock over a four-hour time period, that information for me would be next to useless. For another momentum trader, it might be the best information they've had all year. For me, I prefer businesses I can hold for years, not hours. But it can sometimes be easy to confuse advice from people playing different games and assume that they're always playing the same game as you.

52:22Preston Pysh:If Soros gave me advice, he may have been completely correct, but I would have no way of verifying it because I didn't have the ability to call up the Secretary of State and ask them their opinion on a specific geopolitical event that I would need to happen in order to make money on a trade. So John Train outlines two of Soros' principles of speculation that I think are worth mentioning year. They're one. They are one. Start small. If things work out, build up a larger position. This ties in with his view that in a world of floating currencies, trends get steadier and steadier and more determinable as they develop.

52:58Preston Pysh:The second point here is that the market is dumb, so don't try being omniscient. Soros says, investors operate with limited funds and limited intelligence. They do not need to know everything. As long as they understand something better than others, they have an edge, unquote. So even though I don't consider myself a speculator, these two principles actually really resonate with me. On the first point about starting small, I especially like this one business that I know a little bit about, and I wanted a small piece of, and I wanted to deepen my understanding of it. So in that case, I just took a 1 % position in my portfolio.

53:32Preston Pysh:And now I officially kind of gave myself some skin in the game. Now I've done enough work to know that I probably want to make this a larger position. But once you put in just a smaller position, you get this commitment bias. And I think you can use that bias to your advantage to really make sure that you're doing the right proper due diligence to learn more about that idea, talking to people about the industry, learning about competitors and all that sort of background research that needs to go into making an idea, hopefully a more concentrated idea. And then, you know, other thing that's interesting about having these smaller positions that you eventually grow over time is that if you like it, you can just make the position bigger.

54:06Preston Pysh:If you're unsure that you like it, you can hold the position for a time and then see what happens over the next, say, six months or a year. Are you gaining conviction? Cool. You can add to it. Are you losing conviction? Then maybe you need to just get rid of it. And then I personally like 10 %-ish positions. I like ones that I can hopefully put a lot of my capital behind. I realized that not all of my picks actually deserve that amount of capital. So I'll have some positions that maybe aren't going to be 10 % positions by cost basis, and I might hold onto it for a long period of time, and that's okay.

54:40Preston Pysh:But for me, a business kind of needs to prove itself before it becomes a bigger position. And I think utilizing these kind of smaller initial stakes helps you determine whether a business is worth owning more shares of or not. Now onto the second point, Soros clearly didn't have a very high opinion of the levels of intelligence on Wall Street. But I think his points about understanding something better than others is probably the most important part. This is just how you identify your edge and try to take advantage of it. Speaking of edge, Soros has some interesting advice on it. He feels he can gain an edge in the game by constantly questioning his own analysis, his awareness of his own fallibility, and that of markets is his advantage.

55:21Preston Pysh:So constantly questioning your own analysis is just vital to success because we are the easiest people to fool. Now let's shift to talking about another investing legend, which is Philip Corre. I resonated with a lot of the points that he made, and that's probably because he had a deep affinity for over-the-counter stocks. The primary reason he gave for liking these stocks were because they were less subject to manipulation and they were just less affected by crowd psychology. While I personally don't care for over-the-counter stocks, I share in his love for stocks that are undiscovered, which Phil was also looking for.

55:56Preston Pysh:So he had a few investing precepts that I found informative and kind of novel. At least once in six months, reappraise every security that you hold, be quick to take losses and reluctant to take profits, and seek facts diligently, advice never. Now let's go through these in a little more detail. I think it's vital to reappraise your holdings every six to 12 months. It can help keep you up to date, but still zooms out a little bit to decrease the effects of noise. Sometimes you might find a business just no longer has the advantages that it once had, or maybe debt levels are getting uncomfortably high, or maybe management is making foolish decisions.

56:34Preston Pysh:The regular reappraisal can be a good way of making sure you aren't overstaying your welcome on a bad investment. Now, his point about being quick to take losses and reluctant to take profits is provocative. Is he referring to taking losses just because a business's stock price has gone down? Or is he saying that if a business has cracks in its fundamentals, you should get out before those cracks become gaping holes? You'll have to read the chapter and decide that on your own. It was the part about the reluctance to take profits part of the sentence that really interested me the most. I think this is just the key to great investing that I think Philip Fisher definitely talked a lot about.

57:09Preston Pysh:And if you're looking to invest in companies that can continue to improve, fundamentally speaking, you want to hopefully be reluctant to take profits. Good businesses will go up in price and will continue increasing its fundamentals. Now, the market tends to get that part pretty easily, but don't make the mistake of selling a holding just because it doubles in price. If that happens, I mean, you might pat yourself on the back, but multiple years later, when the business just continues compounding, you're probably going to be full of regret rather than the joy that you once had. So finally, the point about focusing on the facts really resonated with me.

57:45Preston Pysh:If you're researching a business or an industry, you need to focus on the facts that are out there. In the research process, you might find other analysts that are great at dispensing advice, but advice, unfortunately, is exposed to a lot of bias. Facts are the truth of the matter, whereas advice is just an opinion. So do your best to stick with the facts as much as possible and make your own opinions. Let's now talk about another investor who reminds me somewhat of Soros in the fact that his strategy is not easy to replicate, and that's Michael Steinhardt. So I can see the allure of investors who want to try and replicate a strategy.

58:19Preston Pysh:He did 27 % returns compounded annually for 20 years. But there's an interesting relationship that Michael had in the markets. So instead of hobnobbing with upper levels of government like Soros did, he had these incredible relationships with the brokers who bought and sold stocks for him. So here's what Train wrote. Some Wall Street houses have so much influence that when they change an opinion, they can move the markets by themselves. Steinhardt wants to get the first call when the key analyst of such a firm changes his mind. Not because the analyst is necessarily right, rather because the people he calls after Steinhardt will think he'll be right.

58:55Preston Pysh:So if you read in the papers that some wizard believes that the prospects are improving for Texas Instruments, don't be surprised if the stock has already gone up. Steinhardt probably got the first word, unquote. Now, if you listen to the show regularly, you know I'm a major fan of incentives. So what were the incentives for the brokers? to relay this information to Steinhardt? Well, for one thing, commissions. If you provided Steinhardt with interesting ideas, he would buy or sell to you on the spot, creating windfall commission profits on the order. Or if a broker was trying to unload a stock they were maybe having difficult time selling, Steinhardt would take it off their hands at a slight discount.

59:31Preston Pysh:In return for these favors, if Steinhardt believed the stock maybe would go down in price due to some sort of bad news or event, he could get a broker to take it off his hands before word got out. Now, this information arbitrage game reminds me of the great windfall that was made by Nathan Rothschild during the Battle of Waterloo in 1815. So the Rothschild had set up this complex network to relay information at insanely fast rates for the time, of course. So he had things like a private courier system with shipping agents. He had fast and light vessels that were ready to at any time. He had a relay of horses to deliver messages and even had a farm on the coast for carrier pigeons.

1:00:09Preston Pysh:So the Rothschilds learned that the English had defeated Napoleon on the night of Monday, June 19th, 1815. They called the Prime Minister of England to give the news. They then proceeded to provide that news to the government. Then Nathan Rothschild headed back to the stock exchange where he was now the only person that was aware of this important news item. It's kind of unknown how much they made, but by some accounts, they doubled their net worth within a year after this event. So Steinhardt's method, like Rothschild's, requires the right infrastructure. And if you're able to build it, good things can happen.

1:00:41Preston Pysh:The last one I'll make here on Steinhardt is the reason that he had these great relationships with brokers in the first place. He was a trader. Trey mentions his portfolio would turn around every month or two in a good year. And Steinhardt said he traded this way because he just liked small moves. And that's the way that he traded. So I think the fact that he was a big time trader obviously put him in the good graces of the brokers because they knew that he was a type of person that would continue giving them commissions. Whereas someone like Warren Buffett, sure, Warren's obviously going to buy and sell massive lease size positions, but his general strategy is to hopefully hold them for a really long period of time.

1:01:18Preston Pysh:So they're not going to make a commission on a very regular basis. So the chapter on Ralph Wanger might've actually been my favorite in the entire book. So Ralph Wenger seemed to be the type of investor who thought closest, in my opinion, to Charlie Munger. And this is because Ralph Wenger was a fan of using metaphors in his investing, which when you think about it is exactly what a mental model is. The chapter opens up with this wonderful metaphor about zebras in the investing industry. So Wenger says zebras have the same problems as institutional portfolio managers. They both seek profits. Portfolio managers seek above average performance, and zebras search for fresh grass.

1:01:55Preston Pysh:Two, they both dislike risk. Portfolio managers can get fired, while zebras can become another animal's meal. And third, they both move in herds. They look alike, think alike, and they stick together. Wenger says the key distinction in zebra herds are the inside zebras and the outside zebras. The inside zebras are where the institutions are. Zebras in the middle of the herd are the safest from predators, while those on the outside are at more risk. But the ones on the outside eat the greener, longer grass. But during times a lion is seen around the herd, it's the zebras that are on the outside that will make the first meal, while the zebras on the inside will hopefully live another day.

1:02:33Preston Pysh:Renger writes, a portfolio manager for an institution such as a bank trust department cannot afford to be an outside zebra. For him, the optimal strategy is simple. Stay in the center of the herd at all times. As long as he continues to buy popular stocks, he can't be faulted. To quote one portfolio manager, it really doesn't matter a lot to me what happens to Johnson & Johnson as long as everyone has it and we all go down together. On the other hand, he cannot afford to try for large gains on unfamiliar stocks, which would leave him open to criticism if the idea fails. Needless to say, this inside zebra philosophy doesn't appeal to us long-term investors.

1:03:14Preston Pysh:We have tried to be outside zebras most of the time, and there are plenty of claw marks on us." Now, I absolutely love this metaphor, as it does a great job of explaining Warren Buffett's view on the institutional imperative that pervades the investment industry. Wenger says as long as a metaphor remains apt for a portfolio holding, the business is considered a hold. But once the metaphor no longer applies to a business, then the stock should be sold. Wenger, like Coray, focused his efforts on inefficient areas of the market. In Wenger's case, this was smaller companies. He was practicing value investing in a small cap world.

1:03:50Preston Pysh:He wanted to buy businesses where price was below value, same as a lot of other investors that we've talked about today. He would patiently wait for businesses to grow, and then he would sell once they reached intrinsic value. Wenger noted that part of the reason small caps were mispriced were that institutions would often sell some of these small companies at a discount just to raise capital to buy more mature businesses that were already fully valued. Kind of illogical, but I think that's what still goes on today. Now, similar to Chuck Ackrey's three-legged stool strategy, Wenger had a tripod that he referred to as part of his own investing strategy.

1:04:24Preston Pysh:This tripod included growth potential, financial strength, and fundamental value. Now, nothing here is too groundbreaking, but the one area I liked was concerning value. Ralph thought that investors go through times when they confuse a company with its stock. Ralph wanted a good company that appeared to be an unattractive stock. I think that's a great lesson because those are the types of investments that you can have a lot of success in. And it helps you stay grounded in reality. A stock isn't a company. The minute you forget that, you put yourself at a major, major disadvantage. Now, there's no shortage of research that you can go out there and look for on why I personally give preference to smaller companies outperforming larger ones.

1:05:05Preston Pysh:But Wenger cites an interesting study I've never seen before, published by Ibbotson Associates in 1995. So this study tracked the return of stocks from a 70-year time period between 1925 and 1995. In that period, large companies returned a very respectable 10.5 % on average, and the small companies returned 12.5 % on average. So when When Wenger was asked for his reasoning for this difference, he came up with a metaphor. He called it Darwinism in the marketplace. He hypothesized that managers of small companies respond better to change. Their small size also gives them more room to grow by quickly implementing initiatives that mature companies are just unable to do.

1:05:46Preston Pysh:And lastly, large companies are better understood by the market, as that's where all eyes tend to be. Small caps just don't get the same attention. So the last insight I got from this great chapter was regarding Wenger's thoughts on tech stocks. So he believed that you shouldn't invest in the tech stock itself, but in the business that will improve as a result of using a transformative technology. This makes me think of an automation manufacturer called House of Design. While they're an interesting private company, I'm actually more interested in who their customers will be. I already know one of their customers, a holding of mine, is Atlas Engineered Products.

1:06:19Preston Pysh:And part of my conviction for Atlas is based on the improvements that are likely to occur inside of Atlas as they roll out this automation or rolling out technology used upstream from them. Now, Robert Wilson is similar to some of the other traditional hedge fund managers outlined in this book, as he would go both long and short as part of his strategy. Once short a stock, he would begin rallying support behind his ideas. While I have no interest in shorting a business, this is still valuable information to search for as his ideas, if true, probably meant that there was something fundamentally wrong with the business.

1:06:52Preston Pysh:A few interesting concepts that Robert Wilson would try and describe to people that would listen as to why a stock would be overpriced were things like a grim outlook on the future, obsolescent plants, insincere management, tougher competition, increased costs, decreased demand for their product, product obsolescence, financing issues, and regulatory problems. Now, it's important to remember that short sellers, unfortunately, tend to have perverse incentives. For instance, short sellers have attacked a business that I've discussed numerous times on TIP, which is Evolution AB. You can learn more about the short report on my co-hosted episode with Clay on TIP 604.

1:07:32Preston Pysh:The problem with short sellers is that they are actively trying to get a stock price to go down as they make money as a result. But the problem is that they're often wrong on their assumptions. For instance, for Evolution, they were wrong on the assumption that Evolution was knowingly taking in gross gaming revenue from countries in which iGaming was illegal. In reality, Evolution did everything it needed to appease regulators. The problem of using a virtual private network to attempt to bypass regulatory requirements was actually up to the operator to do. Evolution just provides the games. But as a result of the short report, Evolution's share price dipped considerably.

1:08:10Preston Pysh:Nonetheless, I think Wilson's reasoning on why a business might be overpriced given above is still a powerful tool to monitor all of your businesses. Identifying potential problem areas in your businesses is smart because it can help you monitor how management is trying to solve them. And if you can identify that there is a problem that's unsolvable, that might be a case that you just need to head to the exit for an investment. A great Wilson concept that has saved him the most amount of money as an investor is this. Don't try to anticipate how fast competition will undercut an established company.

1:08:44Preston Pysh:There's no use theorizing how competition will unfold. It's best to wait and see what really happens. With Tampax, for instance, one could have started worrying about competition 25 years ago. However, one could have made a fortune in the stock before the problem became acute as it finally has. This makes me think of a concept that Michael J. Mobison has mentioned, which is the competitive advantage period. The competitive advantage period or cap for a business is how long returns above the cost of capital will be earned. For a business like Tampax, that period was very long. I think this cap period is part of the reason that many high-quality businesses end up being undervalued.

1:09:23Preston Pysh:The market will default to using a number such as five years, where the cap period continues, and then they reduce the growth to a perpetuity number such as 2%. But there are many good businesses that have decades-long competitive advantage periods. And if you identify them, then you can pay optically high prices for a business and make excellent returns as long as they are making returns above their cost of capital. I'll finish the section of Robert Wilson with a quote regarding the points that we just covered. Don't worry about a healthy company's competition. Every good run will end, but don't anticipate.

1:09:56Preston Pysh:It's better to sell a winning stock too late than too soon." So the final investor cover in this book is going to be Peter Lynch. This chapter on Peter Lynch was phenomenal as well, because even though Lynch has written two books, there was a lot of information from Train's interview with Lynch that weren't really mentioned in either of his books. My favorite part of the Peter Lynch chapter was in better understanding why Lynch owned so many stocks, especially when he understood very well that only a few winners were needed to produce good results. So Lynch said that he'd bought over 15 ,000 stocks in his entire career, which lasted only 14 years.

1:10:34Preston Pysh:which is relatively short compared to many of the other managers that were profiled in his book. I was interested in finding out more about why. Why did he buy so many stocks when it appeared that he just did so much due diligence and so much work where it felt like maybe he had the ability to identify winners in a specific industry. But his strategy, Train points out, was more of being a market maker. He was very adept at understanding the rhythm of stocks in a specific industry. And he could therefore trade in and out of different names, making smaller profits repeatedly, which led to his outstanding results.

1:11:06Preston Pysh:Lynch took a more top-down approach in his investing. He'd look at an industry that he liked, then buy all of the stocks in that industry. He said that after three months, he'll be happy with maybe a quarter of these picks after doing additional research. But because he followed the industry as a whole so closely, he could better identify when the fundamentals were improving or deteriorating for a specific business in the industry, and then add or subtract from his positions. Now, I'm kind of speculating here, but I think Lynch understood the power of having skin in the game. He knew that if he had money in all the businesses in an industry, he would follow up on all those businesses very, very closely.

1:11:44Preston Pysh:And when he identifies a winner, he could reallocate funds into that winner. I've often thought about how to best go about tracking the competition of the businesses that I own. My framework is simple. First, when reading a business's earnings calls, I'll note that sometimes competitors are named and I'll add them to a list. Then I'll use something like Seeking Alpha. They categorize peers on a company's profile. Now, often the peers that they have on Seeking Alpha aren't actual peers at all, but sometimes they have suggestions that are actually good and ones that I maybe wouldn't have thought of.

1:12:16Preston Pysh:Third, I'll head over to Google and I'll just search for public businesses in XYZ industry. That often will yield a few additional names. And then lastly, I once again will use Seeking Alpha. I'll create myself a portfolio and I'll add all those names to it. You can also just use something like Yahoo Finance, which I know is completely free. Then what I can do is I can just go to all these different portfolios. Let's say Evolution, I'll just call it Evolution's competitors or iGaming or whatever, click on that. And then using something like Seeking Alpha, it shows me any new news, earnings reports, and analysis that are in relation to the business that I own and its competitors.

1:12:53Preston Pysh:While I admit I probably don't track competitors as closely as the businesses that I own myself, I still think that this is a pretty decent workaround. It's important to track competitors because it can often point out why your business is superior. It can also show some of the competitive practices in an industry. Additionally, if you see that your business is doing poorly, it can be worth seeing how competitors are faring as well. If you have a business in your portfolio that may be doing bad, and you look at all the other competitors and they're doing even worse, well, then you know that you're probably in good shape and that you probably don't need to hit the panic button.

1:13:26Preston Pysh:The last part I'll mention about Lynch was on his multi-bagger concept. I think some investors get so caught up in the 100-bagger concept that they sometimes just skip good investments because they have no chance to get into 100x. I think this is probably a suboptimal way to invest. You can do very, very well, just like Lynch did, just getting good businesses that can double 5x or 10x in reasonably short periods of times. The fact is most business businesses aren't going to 100x. Of course, there will be outliers, and it's important to remember that. But I think Lynch understood this very well and used his kind of value approach to find businesses that could be multi-baggers without having to fall in love with them and riding too many of them on the way up and on the way down.

1:14:08Preston Pysh:So that's all I have for you today. If you want to interact with me on Twitter, please give me a follow at IrrationalMRKTS or on LinkedIn. If you enjoy my episodes, please feel free to drop me a line and let me know how I can make your listening experience even better. Thanks again for tuning in. Goodbye.

1:14:50Kyle Grieve:or rebroadcasting.