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Bill Ackman Goes Full Activist on the Fed, Why Investors Suck at Selling, Planning for Recession, and Japanese Small Caps

Market Talk, Edition 54, July 17th 2022

Conor Mac

Jul 17, 2022

Market Talk is a bi-weekly Sunday issue, where I curate the best things I have consumed during the last two weeks. Every second Sunday I will share the following segments:

• 6x Must-Reads: The 6 readings I found most insightful, with commentary.

• Other Items of Interest: A collection of other readings I found enjoyable.

• Great Listens: Podcasts, interviews, or videos I enjoyed.

• Something Interesting: A palate cleanser to round off the issue.

LEX Markets: Buying Institutional Quality Real Estate, By the Share

For investors looking to gain exposure to real estate, the barriers to entry have never been higher. Besides the upfront costs, the market has long been reserved for accredited investors with connections. Real Estate Investment Trusts (REITs) offer an alternative, but what if you could build your own portfolio of institutional quality real estate?

LEX Markets takes buildings public through an IPO process and allow individual investors, accredited or not, to invest in marquee commerce real estate, for as little as $250 per share. Each listed building gets a ticker, and investors can build a portfolio of assets, earn dividends*, receive financial reports, and buy or sell their shares the same way they do with stocks.

By operating its own FINRA-member brokerage, LEX enables access to every investor. By having securities be freely tradable without lock-up periods, facilitate through LEX’s SEC-licensed trading platform, built on Nasdaq’s matching engine technology, assets can be traded daily. While LEX can't guarantee liquidity, the features of their platform encourage liquidity and are not available in private real estate investments. As LEX securities are structured as part of the equity of a specific asset, the interests of owners and sponsors are in alignment with LEX investors. Selling only existing assets that already generate income, investors are not betting on the success of a development or renovation plan that may take years to carry out. And finally, LEX allows investors to own equity in assets that are not for sale through its securitisation process.

Any US investor can open a LEX account, browse opportunities in various asset classes such as multifamily and office buildings, and buy shares of individual buildings. LEX opens up direct and tax-advantaged ownership in an asset class that has previously been inaccessible to most investors. Investors using this link who sign up and deposit $500 will get an additional $50 on top.

While distributions are not guaranteed, the owners of the building must* pay distributions to shareholders if they pay distributions to themselves.

Comments from Me

This coming week, I will be in Amsterdam for ~5 days, so if you have any recommendations, please hit me up in the comments. Otherwise, I recently finished FTSE by Mark Makepeace and Flash Crash by Liam Vaughan. The former is a great backstory on how the FTSE index went from being a UK-domiciled exchange to a global powerhouse and data company, particularly interesting for owners of the London Stock Exchange Group (LON:LSEG) like me.

The latter is a tale of how one London-based investor became one of the largest 5 traders of S&P 500 futures contracts by volume and played a part in the flash crash of 2010, all from the comfort of his bedroom using high-frequency trading software. A truly fascinating tale of someone who accumulated vast sums of wealth simply for the competition of it, he rarely spent the capital he generated through the stock market. Both books are superb for insights into the infrastructure of the financial system, and the organisations that power it. At present, I am reading the classic, One up on Wall Street, by Peter Lynch. The examples are dated, but the lessons, particularly for a retail investor, are timeless.

In other news, I am finished with the small-cap write-up I plan to share, but it appears the company are scheduled to have their half-year trading update on July 18th, so I am going to wait to read that before publishing so that it is as up to date as possible. Plus, I’ll be in Amsterdam for a while, so will get round to it when I am back.

Recent Publications: Memos I have shared since the last Market Talk.

• KRUS: “Thriving in an Inflationary Environment”

6x Must Reads

In every edition of Market Talk, I share a sizeable number of readings that I have consumed over the past two weeks. Here are the 6 that I found particularly enjoyable or insightful. Note, that these articles are not listed in order of perceived value.

To access the suggested article, click the purple link after the source subheading.

1) Coatue Slidedeck

Length: Light

Source: (Coatue)

There was a fair amount of buzz about this slide deck on Twitter last week, and it demonstrated one of my pet peeves; when people withhold source information in pursuit of ulterior motives. I noticed an individual share a handful of slides (which become semi-viral), later remarking the rest of the slides can be found in their newsletter, behind a paywall. Anyway, here are the slides for free.

The presentation begins with a dissection of how the significant bear markets of the past have played out, starting with unprofitable tech, before spreading to the generals, and later contaminating the non-tech industries. They follow up with a conversation about what is yet to come, and where we are in that process. Matters such as looming recession-driven earnings revisions, equity flow reversals, and the fact that even tech has not yet capitulated.

This is followed by a few slides dedicated to the fact that both quality and non-quality (subjective, I know) tech companies are being thwarted with the same force, under the same hammer. For a proven, profitable, business like PayPal to be down nearly as much as the likes of Lemonade and Robinhood is something to behold. Granted, they all traded for ludicrous values in 2020/21.

An interesting quote from Coatue on this matter was “babies get thrown out with the bathwater in a factor-driven market, what is the next great company being punished by the market crises today?”. It’s a great question, and I think it would probably serve anyone well to be focussing on just that. Following the gloom, Coatue outline some of the gems they think might be worthwhile “innovation bets” in the coming 5 years. Names such as Nvidia, Tesla, and Datadog.

The concluding remarks touch on the stark reality of the VC market in the years to come (likely to be less exciting than the last couple of years), as well as an overview of how they are shifting their focus in this market environment.

“Babies get thrown out with the bathwater in a factor-driven market, what is the next great company being punished by the market crises today?”

2) Fundsmith July Shareholder Letter

Length: Light

Source: (Fundsmith)

I always enjoy reading Terry Smith’s quarterly letters. Whilst central to the theme is Fundsmith’s performance, the conversation which surrounds it (from macro to broader market commentary) is always a delight. Inflation was the hot topic in this quarter’s letter, and with that in mind, Terry picks at the two glaring effects of a recessionary and inflationary environment; fundamental and valuation impacts, as well as outlining why he feels equities are the best defence against inflation. All thoughts are penned in Smith’s typical quick-wit style. The discussion of Fundsmith’s portfolio, as though it were one-single entity, is something I appreciate too. Avoiding singling out individual names, Smith will reference the fact the portfolio has an average gross margin of ~60%, compared to that of the average large listed company at ~40%, to which he states in a typical fashion; “our companies make things for £4 and sell them for £10 whereas the average company makes things for £6 and sells them for £10” before expressing that gross margin is the greatest defence against inflation.

“It may be tempting to sell equities and go into cash as this may enable you to avoid further falls in the equity market. Timing is of the essence in doing this and if you haven’t done it already I think we can safely say you missed the top. Getting the other side of the trade roughly right will almost certainly mean buying back into equities when economic conditions are at their most bleak. This is a skill which few, if any, possess. Meanwhile, time spent in cash whilst waiting is hardly a good bolt hole from inflation. Finally, even if you accept the logic of the TINA mantra, maybe equities of the sort in our portfolio are still not the best place to be for a while. This is really a subset of the market timing approach: Sell quality equities, buy lowly-rated ‘value’ stocks and then reverse this when the time is right. I wish you luck if you intend to pursue this approach not least because I am fairly sure how lowly-rated stocks, most of which are heavily cyclical, have low profit margins and returns on capital, will fare in a recession.”

3) No Excuses: Plan Now for Recession

Length: Moderate

Source: (Research Affiliates)

This piece was written in June, when the CPI print was +8.6% YoY, before the subsequent +9.1% reading in July. Nonetheless, it doesn’t really matter. The authors, who believe that inflation will get “worse before it gets better” (proving right thus far) do an excellent job of painting the realities of how policymakers dropped the ball and the precarious position the Fed finds itself in today.

After getting into the weeds of policy, and why the CPI calculation might not even be accurate with the goal posts being moved so often, the remainder of the memo focuses on preparing vs reacting to a recession, and what can be done to stay ahead of the curve (no pun intended). A highly informative bite of macro education. Granted, there are those who feel that disinflation is coming (that’s a deceleration of inflation, not prices going down), but I find it useful to read varying opinions.

“For a consumer maybe it isn't the time to take that trip to Disney and use your credit card to finance it. Uncertainty can slow economic growth, but slowing economic growth is a lot better than going into a hard landing unprepared. A company that chooses not to undertake new investment in a proposed plant will likely survive the recession, but if it rolls the dice and forges ahead, it might not survive. The costs of failing are high, but the costs are not just economic. Of course, the company’s shareholders would lose given its falling stock price. These losses are easy to measure and tend to dominate the headlines. However, the human costs are high when people are thrown out of work. These hardships are much more difficult to quantify, but they are real and large. Too often, the human costs are ignored.”

4) Bill Ackman Goes Full Activist on the Fed

Length: Moderate

Source: (Pershing Square)

This week Bill Ackman presented these slides to the Federal Reserve, proving that, as @compound248 puts it, “Nobody can shit out a PowerPoint better than Bill Ackman”. In what amounts to Bill Ackman telling the Fed what he thinks they should do with their money during an inevitable (in Bill’s view) period of stagflation, Ackman once again displays his gargantuan plums.

He followed up with a tweet-storm about the presentation, which you can read here. His conclusion was essentially that; (a) inflation is a tax on economic growth, particularly impacting low to middle-income households, (b) historical precedent suggests prematurely easing monetary policy in a stagflationary environment is a mistake, (c) raising the Fed Funds rate at a sufficiently high level is the only proven response to stabilise inflation and; (d) once inflation has quelled, the economy can experience a lengthy and robust expansion period. Regardless of what you think of Ackman, this does make for some informative, and entertaining reading, with 42 slides in total.

“In a typical recession with low nominal growth and low inflation, policymakers can ease monetary policy to stimulate demand. E.g, easing cycles in the early 1990s, early 2000s and 2008 – 2009 recessions. In a stagflationary environment with low real growth but high nominal growth, policymakers need to adopt restrictive monetary policy to reduce inflation. Prematurely easing monetary policy in a stagflationary environment when real GDP growth slows with inflation remaining high has been a serious policy mistake.”

5) Y Combinator: The Institute of Innovation

Length: Dense

Source: (The Generalist)

Y Combinator is as influential as it gets with respect to early-stage companies and venture capital, having funded some of the world’s largest companies when they were the size of a peanut. Formed as a startup accelerator program in the mid-2000s, YC now provides venture capital to companies from startup size all the way through to the IPO, across the world, and is oft-cited as shifting the VC model altogether through their use of incredible network effects, branding, pricing power and business model.

As the author suggests, you may think of YC as any of the following; a university that treats companies as atomic units, a for-profit college that scales, a social network for the world’s greatest entrepreneurs, or an industrialised VC firm. Over the last year or so, I have become especially interested in the world of VC, and so this breakdown of one of the world’s most influential entities in that space was deeply satisfying and educational.

“YC’s biggest threat may be itself. Though it seems to have scaled smoothly thus far, growing too quickly could diminish the core value. Venture capital is a services business and one-on-one time with partners and experts is perhaps the most impactful thing the incubator has to offer. Can it sustain the caliber of its mentorship as it adds more partners? Can it ensure each new batch member gets as much attention as the last? Though founders can help each other and rely on Bookface’s broader network, losing this would take something fundamental from YC.”

6) 10 Questions with Clayton, Author of Kenkyo Investing

Length: Light

Source: (Asian Century Stocks)

Clay, the gentleman behind @kenkyoinvesting, is an analyst focused on the Japanese market, where he has shared ~160 write-ups out of the ~3,800 companies listed in Japan over the past 6 years. I have read a handful of them, and so when I saw that Michael would be interviewing Clay, my ears pricked up.

I gather the Japanese market may not be of interest to many reading this, but for those who do have exposure, or would like to have it, this short interview is packed with practical insights on how to get started, and what to look out for when analysing Japanese stocks.

“On a deeper level, investors should approach Japanese stocks much like any other market. But on a practical level, this does not mean analyzing Japanese companies in exactly the same way you would an American company. To this extent, having a basic understanding of Japanese business culture in contrast to your own culture is useful. And I’m not talking about learning how to properly give and receive a business card or figuring out the appropriate place to sit in a meeting, but rather the higher-level cultural tendencies.”

Other Items of Interest

Note: ($) indicates there is a paywall on this content.

• Willis Cap: 2022 H1 Letter

• TKer: You call this a recession?

• Musings on Markets: Country Risk, Update

• Schroders: Why most investors are bad at selling

• McKinsey & Co: The Six Secrets of Profitable Airlines

• Oakmark Funds: Bill Nygren Market Commentary 2Q22

• Of Dollars and Data: Dollar Cost Averaging vs. Lump Sum: The Definitive Guide

• Baillie Gifford: E-commerce in China, Spearheading the smartphone shopping era

🕵️ Company Related 🕵️

Over at Commonstock, we are running an Idea Competition, awarding a range of prizes ($5K for 1st place) to investors sharing their best stock pitches. The write-ups so far include names like Booking Holdings, Block, ASML, Ford, Adobe, Twilio, Callaway Golf, Rick’s Hospitality, and more. I will share a few handfuls of them below, but you can find the full feed of pitches here. Submissions close this coming Tuesday, so it might even be a cool opportunity for you to win some dip buying capital.

Commonstock Idea Comp Pitches

• Leandro (ASML): ASML Holding

• RP Investments (ASML): ASML Holding

• SLT Research (LULU): Lululemon

• Giro Lino (MELI): Mercadolibre

• Stock Metal (RICK): Rick’s Hospitality

• Dissecting Markets (SWK): Black and Decker

• Stock Opine (BNKG): Booking Holdings

• Edmund Simms (BKNG): Booking Holdings

• Austin Weiffenbach (ELY): Callaway Golf

• Conor Value (SQ): Block

• From100kto1M (VMD): Viemed

• Nine to Five Investing (ISRG): Intuitive Surgical

• SSCR (ADBE): Adobe

• Investor from Nepal (VOO): Vanguard S&P 500

• Paul Cerro (XPOF): Xponential Fitness

• Dividend Dollars (ATVI): Activision Blizzard

Non-Commonstock Write-Ups

• AGB (ROP): Roper Technlogies Write-up

• Invariant (OTIS): Otis Worldwide Write-up

• MT Capital (NVDA): Nvidia Write-up

• Twitter (TWTR): Twitter vs Musk Lawsuit Document

• UncoverAlpha (META): Write-up on Meta’s challenges

• Tech Crunch (MTCH): MatchGroup acquire The League

• Behind the Numbers (GIS): Is General Mills a Safe Place in the Storm?

• The Verge (NTDOY): Nintendo to Launch Nintendo Animation Studios

Great Listens

Here, I will share some audio/video materials I listened to during the last two weeks, that I feel are worth your time.

(1) Ian Cassel - All Great Things Start Small

Infinite Loops

A great conversation between Jim and Ian Cassel, the founder of MicroCap Club and Intelligent Fanatics. Whilst the conversation does centre around microcaps and small, undercover, companies, there are lessons to be drawn from it that relate to all corners of the market. There is a lot of fraud, volatility, and lack of disclosure, in the microcap space, but by filtering effectively, the space can yield some promising opportunities. There are stocks out there that are small enough so that no analyst bothers to cover them, funds are not allowed to own them until they are 10x larger, and that allows an individual investor to attain a genuine knowledge edge.

Host: Jim OShaughnessy

Guest: Ian Cassel

(2) The State of Venture Capital

Animal Spirits

Way back when, venture capital was a game only played by institutions, as the barriers to entry were so high. Today, the space has evolved so that individual investors, whom we can consider retail, are able to gain exposure to private equity. This chat between Michael, Ben, and Samir, the founder of Allocate, provides an interesting summary of how that evolution came to fruition, comparing the VC space in the 90s to today. There is an element of conversation around Samir’s business, the segment is called Talk Your Book after all, but it doesn’t detract from the quality of the discussion.

Host: Michael Batnick, Ben Carlson

Guest: Samir Kaji

(3) Task Rabbit: Leah Solivan

How I Built This

I am a big fan of HIBT, it gave me a lot of inspiration as a young adult (and still does). This interview is with Leah Solivan, who founded Task Rabbit in ~2007 before selling to IKEA in 2017 for an undisclosed fee. The business itself was interesting for its day, but what I found most intriguing was the fact that Leah stitched together three crucial (and nascent compared to today) vectors in social, mobile, and location services. Each of which existed in a rudimentary form already, but no company had brought them together in such a way as Task Rabbit intended to.

Host: Guy Raz

Guest: Leah Solivan

Something Interesting

I suspect many of you have heard of Tegus, the expert call network service that shares tens of thousands of calls with “experts” in their respective fields. This tends to be current and former executives, directors, supply chain managers, and other influential folks that have had insight into the inner workings of a business or an industry. They are immensely useful, but for $20,000 per annum, I suspect Tegus is out of the price range of most retail investors. I shared a tweet last week outlining some interesting commentary from advertising executives at Vodafone, Shake Shack, and a former Director at Instagram where the topic of discussion was Meta’s ability to prove useful to advertisers in the wake of Apple’s policy changes, and the threat of TikTok. I got these expert calls from AlphaSense which is basically the same thing but less expensive than Tegus.

The best part is that, unlike Tegus, they offer free access for a limited amount of time to test it out. You can sign up for a two-week free trial (without having to add any card details) and instantly have over 15,000 expert network transcripts, as well as the hundreds they add daily. Even better, you can download as many as you like as PDFs and read them later. I’ve spent the last week buried in them all, and given there was a fair bit of interest after I shared it on Twitter, I thought it was worth sharing it with IT readers too. It’s a pretty powerful tool, and you can find that here.

Conor,

Author of Investment Talk