It’s been 668 days since the Russell 2000 (^RUT) hit a record high. Much of Wall Street has been focused on large cap tech names like Nvidia (NVDA) and Microsoft (MSFT) as they continue to make record gains in the market, but is it finally time to see some broadening out?
Yahoo Finance Host Jared Blikre is joined by Portfolio Wealth Advisors chief investment officer at Lee Munson to explore common myths behind valuations the recent run of mid-caps on the Russell 2000 and how the Federal Reserve’s next policy decision will impact the broader market.
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Video Transcript
Welcome to stocks and translation, our essential guide helping you cut through the noisy numbers, the market mayhem and the hyperbole to give you the information you need for your portfolio.
And today I’m joined as always by Sydney Fried.
Thank you and Lee Munson in from the west coast in the flesh here, Chief Investment Officer at Portfolio Wealth Advisors, really excited to have you here today.
Um And what are we gonna talk about?
We’re gonna be talking about earnings and fundamentals and maybe some fed on the hi our phrase of the day is value.
It is a loaded term, but we’re gonna break it down, stack it up against growth and explore a valuation method too.
And this episode brought to you by the number 668.
That is the number of days, 668 since the Russell 2000 last hit a record high.
We p we plow through the in our search for answers.
Now, Lee and Sydney, um let’s start with our quarterly exercise, Wall Street starts with a very low bar and then uh it’s on, it’s on the task of companies to kind of explode that that’s kind of where we are, we’re leading up to earnings this year, uh, this quarter on Friday.
Big Banks.
Where do you see the market right now?
And how do you even think about, uh, earnings?
Well, I think what I’m looking is what’s gonna be the growth going for 12 months.
Um, what are some of the bellwethers or some sort of the stealth bellwethers telling us?
And then our bank’s gonna tell us the same old story all year, which is the only way they can.
No, it’s the only way that they can make money is by cost cutting and by getting a consumer, you’re correct, putting more and more on their credit card.
And I think if that’s all we hear, I think that that’s, that doesn’t tell me much.
You look at a company like Helena Troy, uh recently uh reported yesterday and they completely, you know, earnings were just blown up.
Those are these little consumer stables, whether it’s Vicks vapor rub or what have you.
So I think that the inflation element is still strong.
I think the inflation issue is the biggest thing on Wall Street that I think people miss, remember Wall Street is a bunch of rich guys like me.
We’re concerned about interest rates because we wanna borrow cheap to go and create more capital, buy big homes in Aspen and finance our Ferraris at a low rate when I go and I talk to the average, you know, you know, I’m here out from New Mexico.
I’m just talking to like my Uber drivers and just dudes on the street, they do not think about interest rates in that sense.
They’re thinking about inflation and when are these prices gonna come down?
And so when I say, oh, don’t worry, I’m a Wall Street expert.
You know, inflation is coming down.
That’s not what they’re talking about.
They want the nominal prices to come down.
So I think there’s a huge disconnect when you hear these Wall Street people say, oh, the Feds got to cut rates.
The feds got cut rates and then we look at it.
It’s like, no, I think we got a, this growth a little bit so that we might have a chance of really killing inflation.
That’s that whole thing about Jerome Powell.
It’s not just his ego.
It’s not just that he wants his tombstone to say, you know, you know, not Arthur Burns, you know, it’s like, yeah, it like I was Paul Volcker.
I crushed inflation.
I even caused a small recession going for it at least one.
And I think that that’s, I think that that’s a big disconnect between the Ivory tower that I spent a lot of time.
I love that we’ve got here very quickly because there is this dichotomy in the general economy.
We talk about it a lot.
It’s been around maybe forever Wall Street versus Main Street.
But it seems since the global financial crisis, that main street has really woken up and really came alive during the pandemic in a way that we hadn’t seen before.
They just were not, uh, even the, the Federal Reserve 20 years ago was not an everyday word.
It is.
Now people talk about it.
Maybe not at dinner every single night, but it’s, it’s a thing.
Now, do you think the game has changed a bit?
I think the game’s totally changed.
Uh, I’ve been on the street for 27 years.
Uh, oh, my God.
It feels like now you’re in 668.
Is that the magic number?
We, I missed it by two days.
Well, you don’t go too far in self reflection mode.
So let, let’s just listen to that.
I think that so many of us have all read the same books.
If we’re over a certain age, let’s say, you know, forties, fifties and ups.
We’ve all read security analysis.
We’ve all read the Money Game.
We’ve all read this now, Benjamin Graham, you know, we’ve all read every single Berkshire Hathaway, you know, annual reports and even the old ones from the same.
Oh, especially those on my bedside.
Well, it’s by my, a chair at home.
I have photocopies of all his hedge fund partnership letters from the fifties.
Little xerox copies and it is Rightness Seth Klarman, you know, margin of safety bottom line is what we all were taught in little broker school.
Long ago.
And in, you know, C fa land was that you’ll have a cycle where growth gets out of control.
Kind of like.com you have a bunch of older value managers that throw in the towel because they just can’t handle it.
They can’t stay around for the mean reverse which, by the way, I don’t believe in mean reversion anymore.
I’ll tell you in a moment.
Oh, yes.
Oh yes.
This is it.
We’re gonna, you know, you know, get the fire extinguishers out now.
And then what happens is, is that then growth stalls out, the valuations get crushed, people head in their hands.
Oh, we did this again.
And then you have a new younger crew of small cap value managers looking at old economy stocks.
Why do I think this?
And that’s exactly what happened in my formative years, late nineties, early aughts.
I think that’s not gonna happen right now, Lee, I’m gonna ask you to define mean reversion that very simple.
It’s the idea specifically when we’re talking about value that you’ll have zero interest in old economy stocks for several years.
Why?
Some new technology, something with computers or chips starts getting ever higher valuation.
And then eventually those things fall and all the cheap stocks that everybody sold will rise from the ashes, right, and get back on their long term trend stuff.
It just means it’s like a rubber band, you know what’s ignored will suddenly come back into favor But Lee, you’re saying the Phoenix won’t necessarily rise this time.
Why is that?
Because we had 1415 years of free money where private equity vultures picked up every decent company in the small cap universe using free money from the fed.
My uber rates were very low were really low.
That’s exactly right.
Oh my God.
I miss those days.
Let’s explore that because that was a thing.
I mean, the, all the uni all the tech unicorns were financed by cheap money that kind of chipped away at us, growth, us growth.
But if you were living in one of the coastal cities, you got to enjoy the benefits of all these stars.
It’s just literally throwing money out the window.
That was pure helicopter money.
What do you think about that dynamic?
Well, I think it’s the exact, it’s the exact mirror image of what was happening in industrial America, we have a bunch of mid size companies, right?
The middle market that instead of going public, like they were prior to 2000 were bought up by private uh equity and sort of integrated in large, you know, nonpublic companies and also those unicorns, they never went public.
All that amazing growth early on that would have happened in public markets and the public could have participated in those games, but they didn’t, they didn’t participate.
And so you miss that.
The other thing is what’s left in small cap value land isn’t a bunch of semiconductor companies that blew up or a bunch of tech companies that are out of favor or something that just like missed earnings.
33 quarters in a row.
There are a bunch of asset plays like, you know, classic Peter Lynch stuff.
You’re talking about factories.
Carl Sandberg, smoke and steel.
That was a poet from a long time ago.
I was gonna say, well, I mean, you’re talking about, you know, like places that make bridges that make little fasteners, you know, banks, tanks, cranks and shanks, that type of thing.
And I think that you don’t see the churn anymore in small value.
And the churn was what made value work.
That’s why, you know, you’re seeing people like me go up the market cap and that’s not what we traditionally did.
We were always looking for small cap.
Warren Buffett said it, I’m never gonna make the returns I did because I can’t invest in smaller companies anymore.
I would have a corollary to say there’s no more small cool companies that are gonna, you know, do well, like the old days.
This is fascinating.
It sounds like the pipeline, the conveyor belt of capitalism, maybe it’s, it’s broken, maybe it’s just out of whack or maybe it’s simply changing and we’re trying to figure it out.
I do need to get uh to our word of the day.
Very appropriate for this conversation is value.
Value refers to the monetary material or assessed worth of an asset good or service.
And it’s used in different contexts.
We can talk about the worth of companies and investments.
We have market value, book value, intrinsic value, shareholder value.
What do you think of value?
It’s like the worst word in my life right now.
I mean, i it’s bane of my existence 27 years on the street and it, it haunts me when I go to bed and it’s there when I wake up.
Value was the intelligent investors.
Word growth was always looked at as you know, with a little, it’s just a little suss, right?
Um We always knew, you know, growth would come and go but value would compound over time.
But you know, you look back the last 10 years, you know, your sort of smaller value index has been compounding at maybe 5.6% and you got double that in the S and P and you got triple that in the NASDAQ, right?
And again, I think it goes back to cheap money and that pipeline, you know, David Einhorn has been talking about this for about a year or so about how the market structure is screwed because all the value managers have gone.
We saw that in 2000, but the value managers aren’t coming back because there’s no hunting ground for them anymore.
I think the advent of ETF S has kind of ruined that too.
I think what you have to do is remember you know, Charlie Munger just, you know, died this year.
Um What was his function at Berkshire Hathaway?
He was the dude who went to Warren Buffett and said, listen, I appreciate you wanting to buy the cigar butt with like two more puffs on it.
But you got to have actual quality stuff that’s selling cheap, right?
And that’s where the price is, the wonderful prices.
And that’s where Buffett got this thing is like, I don’t want a great price for a good company.
I want an ok, you know, a good price for an excellent company.
And Munger was all about that, right?
And so when I add some of those teachings from, from Charlie Munger, and then I’ve recently reread all of Peter Lynch’s books from the nineties, you know, beating the street one up on Wall Street.
I love this.
Everybody should read those once, twice, three times.
It’s right up there with the Money Game by Adam Smith in 1969.
You need to, my reading list is growing by the, you gotta read that.
Yeah, you gotta read that.
It’s almost too much.
But I think when you look at it, when we look at these big mag seven, these big mega caps people from my generation are so programmed to see.com stocks with no earnings bleeding red and no product.
And when you look at it today, it’s a different game and younger people, their twenties and thirties, they see mega corporations that have monopolies, you know, Peter Thiel 10 years ago said, you know, you know, competitions for suckers.
Right.
And so I think that I should have listened to that 10 years ago.
I think a lot of Wall Streeters should have listened to that 10 years ago.
And I think younger people get that when you look at Apple, I mean, Apple doesn’t even pay its suppliers till 90 days after the, the, the unit is sold to the end in Klein and they got a Nevada hedge fund that’s just investing the float.
We’ve never had companies like Apple before.
We’ve never had a company like Amazon started by a hedge fund guy that just that just plows 100% of, of the profits back into becoming a bigger vampire squid.
And I think because of that, there’s this bias that people, you know, my age and up have of being fearful of large growth companies.
But when you’re looking at 20% growth rate, I mean, we’re looking at 20 plus percent growth rate going forward in the NASDAQ, which we all know is mag seven driven, right?
And then you have small value.
The next for is like 7.5% growth rate.
Now the valuations are half, right?
I still have some small value and some large value is save my rear end in 2022.
You get a little unexpected inflation.
You know, you saw February of 2022.
The biggest move into value.
That wasn’t mean reversion.
That was because people wanted assets and I like hard assets.
I’m not talking about gold.
I’m not talking about commodities or Bitcoin.
I’m not, no, no, no, no, I’m talking about hard commodities as in a factory that you cannot build tomorrow.
That makes things that we need to make everything from a coffee cup to these glasses, to our iphones, to whatever H 100 shows.
That’s right.
You hold that thought.
We gotta pause right here.
We’re taking a short break but coming up, we are waiting for Goode plus an unprecedented who wore it better.
We’re in, we stack up value versus value.
Stay tuned, Lee.
We were, I, we covered a lot of ground so far but I knew here had a burning question.
We were talking about value and I want to know what sectors you often associate with value.
I hear sometimes banks thrown in there and we have bank earnings coming up.
Is that right?
Yeah, absolutely.
So the idea is that you have these multi month, not multiyear periods where value will lurch forward and it’s usually a couple sectors, um materials, energy, financials, health care.
Um There’s even a tech value area that’s more commoditized, think micro ver you know, just making a commodity chip versus NVIDIA where there’s a real value add to it, right?
Um Pharmaceuticals, you know, versus a biotech, you’re really talking about big mature companies that grow slower.
They usually pay a dividend, but they’re solid compounders.
Right.
And so in the old days, what we were trying to do is we’re trying to buy something and say, eight times earnings that screwed up earnings, you know, screwed up their, their, their thing at the time.
Maybe they get a new co in and then 18 months, two years later everything’s back and it’s going from eight times earnings to 13 times earnings.
You make 50% on your money.
You do this all day long and you get rich.
That’s what the 19 eighties and the 19 nineties and really the early odds were all about.
And that’s sort of the world that I was, you know, brought up and, and learned from, I think now, um, when we think of value, uh, there’s, I do think that banks are at the core of it.
I think that’s why you see the earnings rate of large value Trump, small cap value.
Um, banks have been, you know, sort of, they were dead for so long after the great financial crisis and now they’ve kind of got their groove back.
But it’s important to remember if you want to keep your money and you want to reduce volatility outside of just buying bonds.
When you look at some of these old fogey stocks, if you look at them over a long period of time, they do compound.
The problem is the problem is, is that you don’t have the interest from investors in the same way.
And so it’s hard to game that system.
It has to do with a mutual fund structure becoming defunct and broken.
We used to have a lot of smart guys running around from a different era trying to find and discover a beat up company that was going to improve.
This is active versus passive totally.
And that active process was a value, a small value investment playground.
And that’s where I learned.
That’s where.
But you know, when SARS Oxley happened, when we had the, you know, everything from the.com crash, even the great financial crisis, it became very expensive for companies to go public earlier, which is sort of the unicorn problem.
And then also a lot of these guys literally not figuratively literally died off.
I mean, Munger was 99 years old, a demographic.
So we have a demographic issue.
Also the I think the market structure changed where and, and a lot of this stuff goes back to the nineties and the FTC and regulators not being concerned about what I call monopolies and oligarchies.
Uh I mean, we, we’re getting back to section 213 and totally because I mean, back in 2000, back in 2000, you know, people were talking about having 100 oracles, you know, 100 Ciscos and the opposite has happened, we’ve had just this major consolidation, the regulators have allowed it.
I mean, you look at some of these mega companies and you look at how many acquisitions they make, you know, a year.
It’s more like how many acquisitions do they make a day?
And that just wasn’t the case back in the day?
Interesting.
Uh, we’re gonna come back to some of that I do and I’m not trying to trigger you here, but I get to get to our number of the day, which is 668 number of days since Rub Russell 2000 has made a record high a few years ago.
You’d have to go back to November of 2021.
We’ve been talking a lot about this, uh, small value versus large value and we’re gonna get to that particular dichotomy in a second.
But what is, what is this, what’s the space of small caps you mentioned?
You know, but they used to play this game.
You thought they were gonna come back at a certain point in the cycle.
But you don’t necessarily think that right now.
No, because I don’t think you have the mix anymore.
I think again, the, when you look at the small cap universe, it’s already been picked over for years now.
Uh with private equity, taking a lot of these things off public, you know, hands and into the private sector and then whatever they do with it doesn’t matter because we can’t buy it.
Um I’ve got serious concerns about small companies.
I’ve got serious concerns whether they can really compete in today’s more global market.
Um People have been saying this for years but I think in terms of the stock movements, when you look at small value, the way that I look at it now is pretty much a diverse fire where I want a mile long and an inch deep.
I think trying to go in there and pick little things thinking, oh, some hedge fund guy is gonna find this out or some mutual funds gonna start.
You know, I heard such and such is really think everything’s gonna prove that’s no longer the case.
Also.
Look at analysts.
We don’t have anywhere near the amount of analysts covering these small companies when it was the late nineties.
I’d go over the little Bloomberg terminal, you know, it was a little orange screen and you still got, you still got some of those.
I love those.
You got them in the back and you would, you would go every day to look at your small cap companies and see if there was a, a news announcement.
Right?
There’s no news announcements anymore.
There’s just, you know, earnings four times a year, but there was action every single week on these small cap things.
And there was a feeling there was an energy.
People thought that they, again, you go back like people thought you could buy stock and get rich and you had, you either bought individual stocks or you bought an active mutual fund and nobody heard of an index fund or why you would do it mostly in the late nineties, early aughts.
We thought the index funds, we loved them because you could buy options on them to hedge portfolios or fool around and you didn’t have to go to the futures market in Chicago, which was very confusing to stop derivatives guys.
You gotta watch out for them.
Exactly.
So, Lee, you have some concerns about smaller companies.
I’m gonna ask the question for an early investor or someone who’s new to all of this.
You know, you hear, 0 60% stocks, 40% bonds for, you know, kind of an investment play.
Is there a ratio that investors should be thinking about large cap to small cap?
First of all, when people say a 6040 mix that I use that for my, most of my clients, the bulk of my clients like 70% are over 60 they’re retired, they live off their assets and that’s our default thing.
And the reason why has nothing to do with volatility but has nothing to do with like, oh, let’s, let’s be diversified.
No, when you don’t add more in the kitty and it only comes out like a reverse roach motel, then I’ve got to go through the nuclear stock market winter like we saw in the great financial crisis, 7374 the next big blow up and I have to cannibalize my bond portfolio because I’m not capitulating and selling stock at a loss because my client needs to go to Greece this summer.
That is the only reason that we use.
Yeah, this is the only reason.
Yeah, I’m selling bonds right now.
This is the only reason why you use a 6040 mix.
It has nothing to do with your personality.
The, the little questionnaire that you write down, it has a functional thing with how you take money out on a regular basis.
So when you do not take money out on a regular basis, when you are still growing your portfolio, there is really no reason to have much of any bonds at all, period.
It’s like, oh, but what my, your personality or maybe you just want the juicy capital gains returns of uh Australian 100 year bond.
Well, where’s this personality test also?
I have to fill out as well.
I think, I think there’s, there’s a lot of, I think there’s a problem with that too, but the point is is that historically small cap was more volatile and had a higher expected return.
So if you want to take on more risk, the old advice was load up on small value or load up on emerging markets.
And what have those done in the last 10 years?
Diddly squat done nothing.
What have younger people done?
Obviously, they didn’t read any of those old books because they’ve been loading up on the NASDAQ and big large companies.
You know why?
Because they grow and historically big large companies do not grow.
They’re like Coca Cola, they just stagnate.
They’re like Nike, they have good quarters and bad quarters.
But we’ve never seen since I’ve been born in 1975.
A sustained growth rate of earnings of profits of revenue.
The mother’s milk of markets, which is just cold hard cash in your pocket from these very large companies and younger people, they’re native to it.
They understand they all use these large companies, right?
But I think people from Gen X and and sort of the boomer generation, we still were programmed that big large companies, those are blue chip widow and orphan.
I wanna get the small things and the results have have not been that good.
Now, let’s be honest, smoke out values made money over the years and, and when rates are at zero, you know, this ties them perfectly to our final segment who wore it better because guess what?
We’re gonna continue talking about value here.
So the question is how does the US large cap value space stack up against us?
Small cap value space and we’ve got two proxy ETF sspyb, that’s spider portfolio S and P 500 value F ETF.
So that’s big cap, large cap value.
Then we’ve got V BR that’s vanguard small cap value index.
So small cap value both happen to be up about 25% from the October of last year.
But which one do you think is, is poised better for future gains this year?
Is it large, large cap value or small cap in the context of everything you said before?
I got a guess, but go for it now for full disclosure.
I own a lot of VBR because II, I love torturing myself VBR actual VBR, you know, it’s not a valid business reason.
It’s a great II I prefer that over the other indexes for a million reasons.
I can’t get into.
Um I also like the Russell 1000 value but it, it, you know, you toss a coin.
Yeah, it’s just big guys.
I have come to the realization which disturbs me, makes me irritated mad because it goes against the foundational thing that my whole career has been based on.
I think the big are gonna get bigger.
And I think in this country with the regulators that we have, with the governments that we have with the market structure that we have.
I’m very concerned that large value if you’re in the value space is gonna do better.
Also the forward earnings are better.
I mean large value is looking at 10% plus growth, you know, at a 15 multiple and small values at 7.5 at best with a 12 multiple.
That’s VBR.
And so you can say, well, those ratios, if you, if you take, if you divide those two numbers, they all come out to be about, you know, 0.67 0.7 you know, but I’m telling you, people don’t care about valuations anymore.
And I think when you’re talking about things that are already cheap, a 12 multiple, a 15 multiple, I would say that small value over the last 10 years has a lower multiple than its average.
And you know what that tells me, not that it’s super cheap, not like the old days where it’s gonna rise from the ashes because I just told you it’s not, it’s, it’s lower than it has.
Small value is lower on its multiple over the last 10 years because people think it will not work the price.
Earnings, multiple has to do with investors sentiment about what they think, how pretty they think earnings are gonna be going forward.
Lee, we got to leave it there.
Fascinating conversation and we could easily go on another 48 another 24 minutes, if not 48.
But, uh, we gotta close it there.
Thank you so much for stopping by s as always, keep it locked to Yahoo Finance.
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