The transcript from this week’s, MiB: Samantha McLemore, is below.
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BARRY RITHOLTZ, HOST, MASTERS IN BUSINESS: This week on the podcast, I have an extra special guest. Her name is Samantha McLemore and she is A Portfolio Manager at Miller Value Partners where she co-manages the Opportunity Trust Fund with famed investor, Bill Miller. She is taking over the Opportunity Trust Fund from Bill over the next couple of months. That’s the transition they created, and this is really quite a fascinating conversation. If you’re at all interested in value investing, stock selection, portfolio construction and what the difference between modern value investing and the sort of Ben Graham historical value investing is, you can find this conversation to be absolutely fascinating.
The fund has put up spectacular numbers and it’s not all Bill because she also runs a fund with Patient Capital Management which is the institutional entity she owns and that works closely with Miller Value Partners and her numbers have been quite spectacular. I’m just gonna say with no further ado, my conversation with Samantha McLemore.
ANNOUNCER: This is Masters in Business with Barry Ritholtz on Bloomberg Radio.
RITHOLTZ: My extra special guest this week is Samantha McLemore. She is with Miller Value Partners where she comanages the Opportunity Trust Funds with Bill Miller. She is also the Founder and CIO of Patient Capital Management. She was named the Baltimore’s 40 Under 40 by the Baltimore Business Journal. Samantha McLemore, welcome to Bloomberg.
SAMANTHA MCLEMORE, PORTFOLIO MANAGER, MILLER VALUE PARTNERS: Barry, Thank you so much. I’m so excited to be here. I’m a big fun of your podcast and I’m honored to be a guest.
RITHOLTZ: Well, it’s my pleasure. We’ve had your partner, Bill — Bill Miller on twice and he is always a fascinating conversation. Let’s talk a little bit about how you met Bill. Tell us about how you got into the financial services industry. I think it’s quite an interesting story.
MCLEMORE: Yes. I always like to say that I won good job lotteries. So, Bill and I went to the same undergraduate school, Washington and Lee University. I was graduating after the tech bubble burst. I thought I was going to go into investment banking. I was ready to do those all-nighters, live in New York City. I was really more interested in investment management and I was a member of the investment club at the school.
And Bill happen to come back the fall of my senior year in 2001 to speak to the student body and attend some presentation to the investment club. So, I met him then and I ended up asking him if I could send him my resume.
And lo and behold, I got a job as the junior analyst with Bill straight out of college. I thought I was going to be there for a couple years ago and go get my MBA but I’ve worked with him for 20 years now.
RITHOLTZ: How many people in your graduating class are still working at the first gig they got right out of school?
MCLEMORE: That’s a great question that I don’t have the answer to but I know it’s not many. Not …
RITHOLTZ: Got to be — got to be very few.
MCLEMORE: (Inaudible) their first job.
RITHOLTZ: So, you started in the early 2000 and you had a quite a baptism of fire. The flagship value trust fund 2008 fell about 55 percent. The opportunity trust fund fell even worse, about 65 percent. Tell us about that experience during the great financial crisis and in what did you learn from that just couple years of mayhem?
MCLEMORE: Yes. That was — it was one definitely a terrible and painful experience but it was — it was one of the best learning moments and a chance for improvement and growth and I think that often moments of pain creates that opportunity for growth.
And so, lots of lessons came out of that. I mean, certainly, if I reflect back on my career, probably, living through that with hindsight is — was one of the most instructive and helpful things for me to do as an investor and I got to do it in a shielded way with Bill, underneath Bill’s wing.
But we came out of that with so many lessons about ways we could improve our approach and I remember one of the benefits of working besides Bill is I have all these memories of these pivotal moments and these lessons from these pivotal moments and I remember sitting at a restaurant in New York with Bill and a couple of other fabulous investors in the fall of 2008 and they were discussing how terrible the environment was and the risks.
And I remember saying as a true value investor and prices are down and I was saying, but isn’t this one of the great buying opportunities. I remember them looking at me wide-eyed, sort of surprised. And with hindsight, over the very long-term it was but I probably didn’t appreciate the appropriate expense, the near-term survival risk.
And Bill had talked a lot about one of the keys to success in this business is being able to survive over the long term because that’s really difficult to do to survive in different environments.
But there was — there were so many lessons that came out of that and one of our favorite quotes that we talked about a lot is Sir John Templeton’s bull markets are born on pessimism, grow on skepticism which, mature on optimism, and die on euphoria.
So, really, this that we’re still in today, I think, which is one of the strongest bull markets and you’ve compounded the S&P has compounded it close — almost 19 percent per year since then which is nearly two times the longer-term average and the amount of pessimism that this bull market was born on was probably a once-in-a-lifetime extreme.
And so — and it was a terrible environment. But we learned a lot of lessons about distinguishing between different types of proceeds and when do you play offense and when do you play defense. And how do you recognize risk signals. A lot of people use price to tell them about risk.
So, many great investors I know of in the financial crisis put in stop losses into their process after that which means the price is telling you about the risk. But when we did an exhaustive review of our performance, I think what came out of that, as I was after the financial crisis after 2011 was really using finance or fundamentals more as a risk signal.
And so, to avoid those big losers or perennial losers and so those can be the classic value traps where a company looks cheap but it’s not because it keeps degrading overtime or in the financial crisis, many of those names look cheap but also, they weren’t because the pressure is built and the — what appeared to be the earnings power wasn’t there, was extremely delayed.
And so, that was a way that we changed and adapted coming out of the financial crisis to be more sensitive to — and change our reaction function a little bit to sell more if the fundamentals keep disappointing us rather than saying, oh, that’s now more than priced in and we’ll bus more.
RITHOLTZ: Well, clearly, you learned the lessons because when I look at the opportunity trust fund that you comanage with Bill over the past five years or so, it’s averaged about 24 percent a year and that’s outperformed 99 percent of its — its peers. So, that’s pretty impressive especially when you consider it’s a nearly $3 billion fund. This is not a microcap fund, it’s a decent size. To what do you credit that runabout performance?
MCLEMORE: Yes. You know, I think that that’s a great question. I mean, I think one, I fully believe that we have a process that’s demonstrated results for now for Bill for over 40 years and I’ve worked with him for 20. So, I have a lot of confidence in our approach but I also think that the markets go through these broad cycles, these longer term cycle.
So, when I got into the business, before I got in the business, when I was in college, we have this big tech bubble and valuations got extreme and then that burst and I joined Bill in 2010, nearly at the lows of that tech bubble then we have this big bull market that was driven global cyclicals and the emergence of China and the growth there and then we had the housing bubble and the financial crisis.
And then we had, as I mentioned, this extreme period of pessimism and what I think of as posttraumatic stress disorder that resulted from the severity of the lawsuits and the financial crisis.
And in that environment, post the financial crisis, investors broadly really valued not losing money over making money. So, they prioritized minimizing volatility over earning returns. So, that’s the perfect environment to earn returns.
MCLEMORE: To behave in the opposite way. And on the other hand, when people are chasing for returns and there’s a lot of euphoria, that’s when it makes sense to really prioritize lower volatility.
So, I think coming off the financial crisis, I think we have capitalized on opportunities when we believed there was high perceived risk but actual risk, real risk was much lower. And I think that that’s been a very profitable strategy and a good example of that is homebuilders and banks. And so, those companies, obviously, were hit the hardest and hurt the most in the financial crisis.
But they made some of the biggest fundamental changes to their balance sheets and how they operate coming out of the financial crisis but the fundamental picture was really much different. And in 2011, at the end of that year, those names all traded down. There’s a lot of fear about Europe breaking up and the eurozone debt crisis.
And at the same time, the fundamentals for the homebuilders were improving for the very first time. And so, it was the stark disconnect. And they’ve all outperformed the market nicely over the past decade even though it’s been a challenging environment for value stocks or for stocks that weren’t high growth.
So, I think that that helped us and I think remaining focus on the long term and the long-term opportunities, we talked a lot about time arbitrage and the ability to stay focused on the long-term and we tend to hold names, at least three to five years but some names we’ll own, Amazon, we’ve owned for decades.
RITHOLTZ: When you say time arbitrage, are you referring to some people with a shorter time horizon giving in to volatility in selling and you using the volatilities an opportunity to buy the dip?
MCLEMORE: Yes, I think that’s exactly right. So, I think — so again, if we are focused on what is the business worth and what does it look like in five years, then a lot of times, the near-term — there’s a lot of noise in the near-term that matters a lot less if you can remain focused on that and I think at the aggregate market level, you can think about that really well.
I mean, people react to five percent pullbacks are very common, 10% pullbacks are pretty common. A lot of people fell on those which really, if you can remain long term, that doesn’t make a lot of sense. I think the market is up a little over half of all days. It’s up 75 percent a year of years, one-year period. It’s up 87.5 percent, a five-year period, 94% of 10-year period and 100 percent of 20-year periods.
So, why would you react to these normal market gyrations, again, if you have a long-term time horizon and if you remain focused on that, your odds of making money and staying in the market are very high. So we tried to think about, as we think about risk, like real impairment to capital or as I think about opportunities now, maybe an example is I think there is great value and a great opportunity and some of the airlines and we own Norwegian cruise line.
And so, when we’re thinking about what does that business model look like, what its earnings power, what’s its cash generation, what’s its growth potential, over five years, then shorter term moves, whether it’s Omicron popping up and cancellations in the near-term, they just not are a lot less unless you believe that they’re going to be continuing for a much longer duration.
RITHOLTZ: Really interesting. And you’re taking over from Bill the full management of the Opportunity Trust Fund. Is that right?
MCLEMORE: That’s correct. We just announced a succession and transition plan. So nothing is changing in the short term. But I will assume responsibility for management of the opportunity trust once Bill goes off at the end of the year and I will assume management of the team and that will be done through Patient Capital which you mentioned that I started.
In early 2020, bill is a minority owner and investor in Patient. He’s a great mentor of mine and I joke with him that I’ve worked with him for 20 years now and I intend to work with him for 20 more. And so, I — Bill and I will keep — I will keep talking to Bill about markets and about companies for as long as I can but the formal responsibilities and structure will change as we execute this.
RITHOLTZ: And could you explain the relationship between Patient Capital and Miller Value. I know Bill owns a piece of Patient Capital and Patient Capital does work for Miller Value but to the outside world, it’s a little complex and confusing.
MCLEMORE: Yes. So, first, I’ve worked with Bill and we were at Legg Mason and then split off from the rest of our group and Miller Value Partners became independent in 2017 and so I’m still an employee and a comanager with Bill at Miller Value Partner.
I launched Patient in 2020 and the drivers for that were there were a few. One, when Bill launched Miller Value or we split off, he would always describe it as a family office and he would welcome like-minded investors. He’s been at Legg Mason for many years, built a big business, managed a big team. He wasn’t interested in doing that anymore.
I, younger, I wanted to prove myself. I was interested in building a business and growing something. I also, so we had a retail business, primarily all of our assets were in the mutual fund in our overseas funds. And we didn’t really have an institutional business. We did, back in the Legg Mason days, but we had some — and again, Bill wasn’t interested in growing a business.
So, I saw an opportunity to build the business and there was also demand for women and minority-owned investment opportunities. So, I saw that opportunity as well.
I was also interested in growing the team. And again, to me, the mission is extremely important and I love this idea of the partners first and clients first approach and Charlie Ellis talked a lot about distinguishing between the profession versus the business and how investments — investment manager should operate more as a profession, in other words, doing what’s best for their client rather than as a business, doing what’s best for the business.
So, the idea of building a business around that and also the importance of role models and I’d love to help provide more women role models for young girls out there. I have two daughters, the more people they feel like them doing a job, I think the more they can see themselves doing it, them, and others like them.
And so, I set this up and hired a few employees. We were cooperating. We have cooperated. So, really, it’s the same team at both and on the portfolio management side, I view us as operating as one team, one philosophy, one process. And so, we’re doing the work of finding investment opportunities that we think are really attractive and then if I think they’re attractive, they go on Patient and then Bill and I having the conversation on the opportunity side and so there’s a co-decision maker — making function there.
So, really, it’s — I see it as a streamline process of all the same work and then we’ll distinguish, at the decision-makaing level, between where things go. But this also created a structure that allows the transition to happen quite smoothly because we can just assume, again, we have to go through the process and get the approvals, but we can assume a transfer over the fund contracts and the employees and really do it in a seamless stable way.
RITHOLTZ: So, let’s talk a little bit about value investing. The way Bill Miller — and I’m going to assume, you, by extension look at value isn’t the traditional Benjamin Graham classic value model. Is that a fair statement? And if it is, explain why.
MCLEMORE: Well, I would say we still have a lot in common with Ben Graham’s classic value model. I mean, I had — “The Intelligent Investor” is one of favorite book. I have it dogeared. I have it sitting on my bookshelf right next to my desk. I refer to it.
And so, there’s many things about that classic approach that I think are similar, so he talks a lot about distinguishing between price and value. So, price is what you pay. Value is what you get. Making that distinction, doing careful company analysis to understand what the value of the business is.
He talks a lot about market behavior and how fluctuating prices create opportunities for investors to take advantage of the behavioral extremes of greed and fear that the market undergrows. And so, there’s a lot that’s very, very similar. I would say really what’s different and I would characterize it as an evolution and it didn’t really start with us because Warren Buffett who’s a student of Ben Graham’s, again, he used to do the cigar butt sort of investing and then he really evolved this approach and talks about he’d much rather buy a wonderful business at a fair price and a fair business had a wonderful price.
And so, the idea of expending out that time horizon and compounding, again, I think that’s directionally the step and then maybe Bill certainly was criticized in the late ’90s, early 2000s, I don’t know when it stopped. But for not being a true value investor for investing in names like AOL and Dell and Amazon, these names that appeared very high multiple.
But when I joined Bill, I think one of the things that struck me the most because, again, when I interviewed, we bonded over very classic value. That was my natural orientation. And so, we shared that. But what I didn’t appreciate much and I remember Bill talking about, listen, during this time when he was criticized, he was like no one knows what the best values in the market are today. We just don’t know because it depends on the future and we don’t know the future.
But we do know, and we can look back over a long term, over, say 10 years, and say what were the best values 10 years ago because you can see what has been the best. And so, we actually know what that is.
And when we look at that, the best values in the market are always — those names that can drive profitable growth and pre-cash flow growth and business value grows the best. So they tend to be in the short term, they appear to be higher multiple businesses because their prospects are the most attractive.
And so, he says why would you engineer a process that explicitly exclude what you know are the best values in the market and that doesn’t make a lot of sense to me. That’s what he said. And I agree with that wholeheartedly.
And so, what we attempt to do is be open-minded to looking for what might be the best opportunities over truly a long-term basis. And I think Ben Graham, we talked about those as more speculative. And again, if those beginning expectations are higher and you’re more dependent on truly long-term fundamentals, there was a higher perceived risk there and there’s probably — there is a higher real risk there, too, I would agree because the percentage of companies that actually can go on to execute that is low and the number of companies who are priced to achieve those sort of outcomes are much higher than the companies that actually do.
But Bill has always been open-minded. We are open-minded about trying to identify and invest over the long term in opportunities like that.
RITHOLTZ: Really interesting. So, I want to delve a little more into how you guys define value because you mentioned Amazon before. Most investors think of Amazon as a growth stock, in part, because it’s grown so much and in part because it’s got such a technology aspect to it although arguably, the bulk of their revenues come from just being a retailer and albeit one that has a rather substantial online presence. How do you define Amazon as a value over the past 10 years?
MCLEMORE: Well, I guess back to the story. What we know is Amazon was one of the best, most undervalued stocks 20 years ago because we can look at how it’s done since. So, it didn’t appear that way on near-term fundamentals — near term, I guess, metrics, accounting metrics at the time but we know at hindsight, that it was.
And so, when we talk about how we define value or what we see as value, we use the standard text-book definition. So the value of any investment is the present value of the future free cash flows.
And no one really disagrees to that. It’s about how do you identify or calculate those and we do scenario analysis. But I think many times, the simplification of dividing the world between growth and value, it is an over simplification and Buffett talks about growth being an input in the value equation and that’s absolutely, entirely true because it is a — again, if a company can earn above its cost of capital, growth will be the most important value driver.
And so, again, we — Amazon still may look expensive on current metrics but we’re always, again, we’re focused on the long-term for our companies. We’re doing at least 10-year discounted cash flow models and Amazon has, we believe, some of the best if not the best competitive advantages in the market. It still has great growth potential, has a number of different — has a retail business, has logistics business, has AWS. It’s investing in new areas like health care.
And so, when we look at it, we think if you just — even if you just mark-to-market their cloud business, the AWS and their advertising business, you’re getting the retail business for pretty close to free right now. And again, they’ve just gone through an investment cycle and Amazon typically doesn’t — hasn’t historically traded well when its gone through one of those but coming out the other side, it’s normally done much better and it’s about to drive significant free cash flow.
But we’re always trying to think carefully about the business and its ability to drive that long-term free cash flow and how that compares to what’s embedded in the current stock price.
RITHOLTZ: So, here’s a question I always wrestle with, and I speak to my CFA buddies and I’m never satisfied with the answers I get, when you have a company like Amazon and Jeff Bezos retires or Apple and they lose Steve Jobs, how do you figure that into your calculus as to what the company looks like going forward? It’s pretty clear, both of those former CEOs were enormously influential on the success of the company’s, how do you calculate the loss of such significant executives?
MCLEMORE: Yes. no, that’s a great question. I’ll probably disappoint you with my answer, too. So, I think probably the reason you’re disappointed is I don’t think it’s easy to calculate the impact to that. It’s not easy to quantify.
I think in both of those cases, Steve Jobs and Jeff Bezos, we know that they were critical to driving the innovation that those companies produced. Apple’s gone on to do extraordinarily well post Steve Jobs which was questioned for a long time after the death despite the fact that many would argue they haven’t come out with any new big innovations. They’ve driven it all on the existing base of business.
And so, again, I think you can also think through — and Amazon, again, I think we like to think about, and I know you’ve had Michael Mauboussin on here and I worked with Michael and he’s wonderful and he talks a lot about and just came out with his expectations investing with his new version of the book.
And our approach is created from his process. And so we think a lot about what is embedded in the current stock price. And so, sometimes, it makes it easier to think through issues like that because if we believe that Amazon, you’re not even paying for the retail business at the current prices, so you’re not paying for any of these later innovation that maybe would be more at risk without Jeff.
Again, I know that Amazon believes and Jeff believes and the folks there believes that what makes one of the things that makes Amazon special is they’ve created a machine that can produce innovation and a scale. And so, Jeff really was very explicit about creating processes and structures to do that.
Now, it’s — we’ll have to see whether they pull that off if he’s less involved and that’s — no one knows the future. We don’t know. But we don’t think — we don’t think that needs to happen for the stock to still be attractive given the total addressable markets of their proven businesses where they’re already very far along. And so, again, it is a difficult question to answer, I think. I don’t necessarily think you always need to answer it.
RITHOLTZ: So, let me ask you a different question that might be more in your sweet spot which is it appears to someone like me that Bill Miller and yourself have a somewhat different approach to value investing that puts a heavier weight on future growth prospects. But it also appears that lots and lots of, quote-unquote, “traditional value” investors are still approaching that methodology the way it was taught in the 1950s.
Why do you think so many people are stuck with the classic version of this where perhaps they’re missing companies like Amazon, for you guys, or you mentioned Warren Buffett, one of the biggest investors in Apple over the past couple of decades, why have people been so slow to adjust?
MCLEMORE: Yes. That’s a great question. I mean, I think that most investors that have survived and exist today have evolved and now you see in value portfolios a lot of these names, like Google and Facebook and Amazon.
So, what you don’t see and where we might be a little bit different is, again, if you go down the spectrum of companies earlier in their lifecycle where it’s less proven what the business model is or what the earnings potential can be, we are willing to look at names like that and I think many values investors aren’t comfortable with that.
I think Warren Buffett, for a long time, he talks a lot about your circle of competence and making sure you define what your circle of competence is and he didn’t believe that he — technology was within his circle of confidence. I think one thing that allowed Bill to make investments in those technology companies in the late ’90s was his relationship with the Santa Fe Institute which he talks a lot about and they do research on complex about these systems and broad cross-sectional research and the work of Brian Arthur who studied complexity economics and he wrote Increasing Returns and Cost Dependence and he wrote the book on that and he allowed Bill to realize early in the ’90s that while technologies change quickly and that was always Buffett’s concern is these companies can earn great returns for a very short term — for the very short term but then they’re disrupted because some new technology comes along.
And Brian’s work showed that while the technology’s changed quickly, technology market share actually doesn’t. And so, biggest monopoly in history have been based on technology whether it’s AT&T or Microsoft and now there’s all the confirmation and hearings on the current big technology companies. So, there is the blocking and cost dependence that make the stability of those earnings, much better than it would appear through looking at the individual products.
And I think the reason people aren’t more comfortable going for the earlier stage companies and Ben Graham talks a lot about companies that are loved or where their valuation depends on uncertain prospects far in the future, them being much more speculative and we know that growth is — growth rates are not linear, so there can be higher volatility in those names and we also know that again, the company that are able to be successful and drive that growth drives the market returns so it’s — there are some work out of the Arizona state professor who showed that the entire wealth creation since, I think, the 1920s has depended, has been driven by four percent of companies.
So, it’s really very narrow set that creates all of the wealth. And what that means is most companies that aren’t able to do that and so there are many companies that are priced to do that and don’t.
And so, there can be higher volatility. Amazon lost 95 percent of its value after the tech bubble burst. Bill bought it all the way down.
MCLEMORE: So, even if you could identify it — identify an opportunity, having the stomach to hold it and to add to it and retain it in the portfolio for as long as it takes to capture the return, it’s pretty difficult and it’s pretty hard to do. And so, I think that that’s why more people don’t do it.
RITHOLTZ: Really quite fascinating. So, we were talking earlier about how you don’t really full neatly into any buckets and the same is true for Bill Miller, but when I look at your specific portfolio, some of these names are definitely outside of the traditional value universe, Matterport, Capital One, Alibaba, Grayscale Bitcoin Trust, I mean, that is not your typical free cash flow deep value stock. Tell us what it’s like to be free from the shackles of the MorningStar Style Box?
MCLEMORE: I think it’s a huge advantage. So, we can — we can look broadly for what we believe are the best opportunity which I think definitely helps us construct the portfolios that we think have the most potential. When you start putting in constraints, obviously, that hinders your ability to optimize because they hurt your flexibility.
So, Bill, I mentioned earlier, talks a lot about how difficult it is to survive in this business and he outperforms, in the late 90s during the tech bubble and then also in the early 2000s when the tech bubble burst. And what enabled him to do that with his ability to shift between so-called Style Box is he had technology investments in the late ’90s that helps — they were the only things that outperformed so you had to have them to outperform. But then and I think it’s one of the greatest calls in the history of the business. He, in early 2000, thought it was game over and that’s the way he took down his holding in those sort of names. And so, he took the more classic value names up which is did well when the technology bubble burst.
So, again, having — if he had been constrained in one or the other of growth or value, that wouldn’t have been possible because it was so segmented what — what did well. So, I think that having that flexibility is critical to generating long-term returns.
It can hurt your ability to grow assets because the institutional marketplace is set up and structured in a way that you can be precluded if you operate like that but that’s OK because I think we rather produce excellent returns with your clients than mediocre returns for many.
RITHOLTZ: So Style Boxes matter, at least if you’re looking for institutional clients
MCLEMORE: Yes. I mean, I think Warren Buffett, he talks about the keys or what he thinks is are the keys to being a great investor and he talks about emotional stability, independent thinking and a keen understanding of institutional and individual behavior. So, IQ doesn’t make it up on that list.
But the reason behavior is so important is because, again, there structures and constraints that pop up, that creates certain opportunities. Again, the markets are very efficient. And so, it’s very difficult to outperform so there has to be some reason or something that existing that creates an opportunity and makes the market wrong and those aren’t easy to come by.
So, again, if people are defaulting to a certain behavior, that might be suboptimal from its return perspective that — even that doing the opposite might be what helps you earn returns.
RITHOLTZ: So, how much do you and Bill, together, buy in to the Peter Lynch philosophy of buy what you know? It seems like a lot of the companies that you’re an investor in, you guys have a very deep pool of familiarity with and over and above what we traditionally think of as a basic research return, do you buy into the Lynch philosophy?
MCLEMORE: Well, any great investor who’s done really well and earned returns, I tried to learn whatever I can from them and the same through Bill. And so, certainly, I’ve studied Peter and I think that if you have an intimate experience with a product or a company, you can understand it, in more in-depth way.
And so, that might — when we bought Peloton, for instance, I had that idea because of my personal experience with Peloton and my husband had asked for a Peloton for Christmas and I said are you kidding me? I’m a value investor, do you know how much those bikes cost?
But I’m trying to be such a nice wife. So, I got him the Peloton and this was before it came public. And I ended up — I wasn’t a big spin or bike person but I ended up using it so much more than I would have ever expected and they had broader programming and I loved it and didn’t really go to the gym anymore.
And so when it came public, we wanted to do the work on it and see what the valuation was on it. And again, I thought it was highly misunderstood. At that time, it’s — again, I think people started to understand it better in the financial crisis when they were such a huge beneficiary and we exited because we thought it became fully priced.
But I still think it’s misunderstood because some of those same old criticism about it being Scottish hardware company are now back in vogue after its 80% decline. But certainly, if living in the world and coming across things, I definitely believe that that can be a source of both — better understanding and advantage and also idea generation.
RITHOLTZ: So, that raises an interesting question. You’re both stock pickers at heart, but obviously, the macro landscape makes an impact as we learned during the pandemic and lockdown, how much do you think about what’s going on in the macro world? Does that affect how you construct your portfolio? Does it affect stock selection or is it just one of those things that you have to grit your teeth and deal with?
MCLEMORE: well, I think Bill’s one of the macro thinkers that I’ve ever encountered. And so, I’ve been fortunate to learn from him. I remember when I joined him and sitting in our first research meetings and going home and feeling like I had joined from a fire hose because it was a learning curve that I had not really been exposed to, so we certainly expend effort trying to understand the environment that we’re operating in. And that can take significant time and trying to think about it.
We do construct portfolios in selected investments on a bottoms-up basis. We do scenario analysis that we’re understand the value of business in a range of scenarios because we don’t know the future.
But obviously, the environment can interact critically with the fundamentals of businesses. So you have to try to understand the environment in which you’re operating. So, we definitely do that.
RITHOLTZ: Interesting. You mentioned how efficient the markets have become. How do you look at the shift active to passive? Is that changing markets? Does that affect the way you think about how quickly information gets built into price?
MCLEMORE: That’s a great question and it’s definitely a big secular trend that we expect to continue. So, I haven’t and we haven’t seen data or evidence to support that it’s made the market less efficient yet although there’s a lot of speculation that it will at some point and it’s — you would think it would at some point, I know some folks at Santa Fe are now studying whether there’s any evidence that you’re seeing that.
I guess we have seen certain market structure issues that I think do lead to some inefficiencies and whether it’s we talked about time arbitrage so the market becoming so short term focused that it creates some inefficiencies on longer time horizons or with all the ETFs that popped up and back in the days when Bill built the business, there were financial advisers and their number one job, what they did was they selected stocks. And now, that’s hardly ever the case. They’re …
MCLEMORE: … allocators and they’re allocating capital between different opportunities and they use ETFs so we can see from time to time, again, just the homogenization where stocks will move together as a group in the short term irrespective of fundamentals. I think over the long term, the market can source that out. But in the short term, it may not — there might be some microstructure inefficiencies there. Again, I haven’t seen data to actually support that. It’s more just observing the behavior.
RITHOLTZ: So, people love to talk about stocks but we rarely hear people talk about portfolio management which is a very different skill. How do you figure out how to spread your bets out across different sectors and how to size different positions?
MCLEMORE: Yes. I think it’s a great question. You’re right. People don’t focus on enough or a lot. I — again, I feel so fortunate to have learned from Bill on this. I’m not sure if you’re familiar with Novus but they study managers and actually look at where their edge is or where they have a competitive advantage. And when they looked at the history of the fund and the history of bill, they actually identified sizing as strength and advantage of something that generated returns.
So, I’ve been very fortunate to learn from him on this. I think the overall objective is to size positions relative to risk adjustment returns. And so, so our typical starting position size is anywhere from two to two and a half percent. But again, if it’s — we could have a one percent position if it’s higher risk but if it’s a binary biotech it might lose all its money or it’s going to go up a lot, again, I think I’ve heard Denny Lynch talk about there’s a place in the portfolio for investment like that, you just have to size them correctly.
And then we can go larger. We have high conviction in a name. And really, we might start at three percent. But what we tried to do is let our winners run. And again, we’ll let me get to a large percentage of the portfolio, again, if they worked and one of the behavioral flaws that people tend to do is sell their winners to their losers, so we explicitly try to we tried to counteract that and let our winners run. And so, we can have more concentrated positions at the top of the portfolio from that.
RITHOLTZ: Yes. Bill has talked about in the past that if you’re going to just hug the benchmark and have nothing but one percent positions, you’re less of an active manager than are a closet indexer which I assume implies that you guys build a little bit more of a concentrated portfolio.
MCLEMORE: Yes. That’s exactly right. We — the academics have written about this concept of active shares. So, they quantified how different does your portfolio look from the benchmark. And we have very high active share, the academic research suggests that bonds with high active share tend to do better and that’s for exactly the reason that you just mentioned, that Bill talks about which is if you are a closet indexer and your portfolio looks a lot like the benchmarks but then you just have higher fees, then that’s a recipe for a very consistent underperformance but compounds overtime.
And so, we’re very benchmark agnostic and we’re constructing portfolios from the bottoms up and we’re finding names and ideas that we think are attractive and we’re not paying a lot of attention to whether they’re in the benchmark or what their rate is in the benchmark.
Again, we have return objectives and we’re trying to meet our return objectives over the long-term. And obviously, we do think about what kind of returns we think are possible for the market overall because that’s our bogey, that’s what we want to be. But when we’re constructing portfolios, we are concentrated and we have -we’re looking very different from the benchmark.
RITHOLTZ: So, the other portfolio construction question is the flipside of what to buy which is how do you know when to sell something? Is there anything in particular you look at? It doesn’t appear you guys use stop losses because both you and Bill and the fund have a history of being comfortable buying on the way down when a stock gets repriced and you mentioned Amazon as an example. How do you know when to fish or cut bait?
MCLEMORE: Yes, that’s a great question. And I wish more people would do work on sell discipline and how to really improve that because there’s a lot of literature and managers, in general, are you very good or much better on the buy side. and I think there’s just a lot less focus on the sell side.
And some of our biggest mistakes, again, have been selling too early, really. Some of these big winners and we sold Apple. We did quite well in Apple but we sold it way too early. And so, again, I think it’s an area where the evidence indicates the scenario where most managers, all managers, can improve.
But when we sell something, we usually think about selling in three scenarios. One, it reaches our assessment of what the company is worth. So, it becomes fairly valued and we don’t think that we can earn excess returns. Two, we conclude that we’re wrong. And so, again, if there’s something about our investment that we come to no longer believe or again, we talked about fundamentals continuously disappointing us, if we conclude we’re wrong for any reason, that would be a reason to sell or the third scenario is we find a better investment opportunities.
So, we’re always doing work on new names and if we come across something that we think is even more attractive, we’ll sell the names of fund, a new idea.
RITHOLTZ: Really interesting. So, we’ve kept dancing around big cap tech and one of the risk factors for that or at least some people think it’s a respecter is regulatory risk in the concept that on Amazon, a Facebook or Google and Apple to get broken up. What are your thoughts on either regulatory risk or forcing what have become technological conglomerates to be broken up into their component pieces?
MCLEMORE: Yes. I think it’s a great question. I mean, certainly, there’s a lot at regulatory and attention on these names. And so, that risk is just, I will say, even back — I remember back at in our Legg Mason Capital Management days in 2008, our analyst who covered Google recommended selling it because of regulatory risks.
So, this risk is not new. It’s been around a long time and the reason we haven’t seen actual actions is because it’s very complex and it’s not easy to figure out what the right regulation should be. So again, I would expect something. But whether it’s material to these businesses is an entirely different story.
I would be surprised to see a breakup. But if we were to see breakups, again, I think, in — for the businesses we owned, we think that would actually highlight more of the embedded value and it would actually help some of the facts that we talked earlier about Amazon and how we believe the current market prices are basically valuing that retail piece close to zero.
And so, again, if you were to break off AWS from the retail business, obviously, they benefit each other. So, there would be some negative impact there. But I think the value realization of breaking those businesses apart, you could wind up actually doing well, at least from the short term doing better, from the stock perspective.
But again, I think I would be surprised to see breakups. It’s not at all clear how that would happen. And again, maybe it could happen sometime in the future, but in the near term, I think that’s unlikely.
RITHOLTZ: Really kind of interesting, Since we’re talking about tech, let’s talk about the rise of intangibles, things like patents, algorithms copyrights, what do you think this has done to the valuations that are out there and how does this play into the sort of squishy line that’s developed between value growth at a reasonable price and pure growth?
MCLEMORE: Yes. I think it’s a great question. And you are the expert on this, Michael, on your podcast. But what we know is this has definitely been an area of growth and it matters from a value perspective. And again, people are getting better at sorting through it but I think we’re really early in that.
And so, again, some trends that we know exist is just broadly returns on capital of U.S. companies have risen overtime and lower return pieces of business have moved offshore and what stayed here is higher return businesses. So, that will impact valuations and a lot of people, again, don’t make adjustment when thinking about valuations relative to history.
And certainly, I think what we always try to do, if we’re doing companies, specific analysis is think very carefully through the economics of the business. And so, if you’re doing — if you’re quant funds and your just doing accounting metrics, again, that’s pretty problematic if you’re looking at price to book and you’re not adjusting for that. I know that some of the better quants have started doing it and the signals have improved once they make those adjustments.
So, it’s certainly important to understand what that looks like. I think when we’re looking at some of these earlier stage companies where, again, you can’t see from the near term numbers what the potential is of the business, again, we try to think through carefully what are actual cost that support the current business, what are investments? Because again, a lot of those investments are running through the income statement now and not — they’re not capital investments that are just running through the cash flow statement.
So, again, if you really want to understand the business, you have to attempt to break those things out ant think about them about them carefully and it can be challenging given disclosures and try to do that, we try to talk to our companies about what that looks like.
MCLEMORE: Really kind of intriguing. So, you guys have done well over the course of the past decade but that decade was very much a challenge for the more traditional approach to value. Why do you think this is and are the traditional buckets of value no longer — no longer worthwhile?
MCLEMORE: Well, I think it’s a really interesting question. I think that there are two main reasons. One is I think we observed that these — that markets go through these long cycles and we talked about that earlier, sort of the long cycle that we’ve gone through and the 2000s, it was no value-led and it was global cyclical and it was material stocks and it was energy stocks on the back of China’s growth.
So, it had this long, prolonged period of outperformance. And again, it drew in a lot of capital to those companies, to those investment styles and that’s reversed over the course of the past decade as, again, we’ve sort of had the second reason is. So again, expectations rose ad so that makes a more challenging starting point and so it’s just natural to see some reversal.
But then we’ve had this massive period of disruption and it’s interesting to think back. I’ve been so fortunate to work with Bill and to have him as a mentor and to have these moments that I remember. And I remember — so I joined him in 2002 and in 2003, he had a big investment conference in Las Vegas and Jeff Bezos came to speak at it and he gave his washing machine talk.
And he talked about how the Internet, at that time, in the early 2000s, was that — he likened it to the early days prior to electricity and he talked about the 1908 Hurley washing machine and he said it was this giant machine that was outside, so you had to go outside to use it. they didn’t have electricity, they didn’t have electrical outlets, you have to plug it in. You had to unscrew your lightbulb and plug it in to your light socket.
It didn’t have an on-off switch. It was giant. It was dangerous because you couldn’t turn it off and so it had injury that was really difficult to use and he likened where we were at the Internet at that time, to that. And he said we’re so early here and things are difficult to use and he talked about DSL and wireless and networks and how challenging it was.
And it was notable at the time but it’s even more notable in hindsight now that you’ve seen things like what happened with AWS or with iPhones and how much easier the technology has gotten to use and embedded it is in our daily life. So, over the past decade, really the infrastructure was fully built out in a way and AWS and cloud was built out that has allowed this massive period of innovation and there was a lot of capital that was going into venture funds.
So, you’ve had this massive innovation disruption cycle. And so, I think a lot of value investing depends on current earnings being stable and because you’re looking at discounts on what companies are currently doing. So, if there’s some heightened risk of disruption, that makes that approach more challenging.
And so, I think you’ve had some of both of those things going on where it’s a natural market cycle that’s reversed what we saw in the previous decade and there’s been some headwinds, I think, to value companies or companies that might be getting more disrupted by some of those new companies that are coming along.
RITHOLTZ: Really interesting. So my last two questions for you before we get to our favorite questions, the first is you’ve been putting out what more traditional managers would call their quarterly fun letter but you’ve kind of been doing it online in a blog format, tell us about that experience. What sort of feedback do you get on those quarterly posts that you’ve been doing?
MCLEMORE: I mean, I think we get — I can take no credit for this. I would have to give credit to our marketing lead because she was a big proponent of the blog. So, we all write for the blog and we get — I think it’s a great way to communicate with our shareholders, our people who are interested in what we’re doing.
And again, I think our approach is different and differentiated. And so, we want people to understand what we’re doing. We want them to understand. We sometimes have volatility. We want people to understand that coming in. And then when we go through those periods, we want them to understand how we’re thinking about the opportunity set and those are oftentimes the best time to buy.
And so, it’s important to have that communication. So, again, I think it’s been — it’s been very positive overall to have that.
RITHOLTZ: And my final regular question is a little bit of a curveball. Tell us about the Vermont Inn.
MCLEMORE: Yes. So the Vermont Inn is an Inn that I purchased in 2011. I grew up in Vermont and so my family all live there. So, at that time, again, we were just — the first inklings of emergence and improvement in housing and housing overall, we had invested in a lot of housing stocks.
I’ve had my first child right before that. And I think my father had told me this inn that was for sale and I said to my husband, let’s go to the foreclosure auction, sort of a sign of our times. I’d always had an entrepreneurial interest. I didn’t actually expect to purchase the inn going in but I did do work on what I thought it was worth.
And so, we got there and there was — someone made the first bid and then I made the second bid and then I was like I’m not going to do that again. But it — it was sold, sold to you. And so, so we had to figure out, again, I think that was in October and we had to figure out how to get the inn open.
Again, we wanted to get it open because the busy season there in Vermont is — starts in December, so we wanted to get it open by December and it has some issues. And so my brother in law actually ran the Inn. I made every mistake you could possibly make as a small business owner. Absentee owner, going into business with family.
I learned some great lessons from that experience. We got it turned around and then I sold it a few years later. I realized I will stick to the markets where I can sit here and read and learn and Bill likes to joke about when he got — how he gotten the business was he was mowing the lawn all day and he earned a quarter and he asked his dad what the stock pics were and or what the stock prices in the newspaper were and he said those are stocks and he’s like you mean you can make money and not do anything? You can just sit there?
And he’s like that’s the job for me. And he didn’t — he says he didn’t learn till much later just how much work you have to do. But the kind of work of reading and talking to companies and doing financial modeling, that suits me much better than running an inn. So, it was a great experience we did while on it but I will not own any more inn.
RITHOLTZ: So, let’s jump to our favorite questions that we ask all of our guests starting with tell us what you streaming these days. Give us your favorite Netflix or Amazon Prime or anything that’s been keeping you entertained during lockdown.
MCLEMORE: Yes. So, that’s a great question. I might have the most disappointing answer for you because my third child was born in 2018 and then I launched Patient in 2020, so I have not had time or focus on streaming anything, actually until just the past few weeks we had some sickness go through our house over the holiday, fortunately not COVID but it was a COVID scare.
So we did, we did do some binging. It wasn’t anything new. My kids are really into “Survivor.” So, we watched the most recent “Survivor” as a family. And then we watched some — we also watched some — the old “Seinfeld” episodes and I hadn’t watched those in, gosh, so many years and they were — they were just as funny and they were great and they were so entertaining and even my kids loved it they were funny. So, those are the only things I’ve watched lately, but I — both were enjoyable.
RITHOLTZ: I’m surprised how well “Seinfeld” has held up over the years. Other sitcoms don’t seem to have aged as gracefully.
MCLEMORE: I agree. I was surprised to still find it as entertaining.
MCLEMORE: I didn’t think I would but it was funny. It was really funny.
RITHOLTZ: It’s — and at the time, I thought it was kind of acerbic show until you start watching “Curb Your Enthusiasm” and then you really see what sort of acid humor is like.
Normally, now I ask who your mentors are, but I kind of have a sneaking suspicion I know the answer to the question.
MCLEMORE: You definitely know the top mentor. I mean, Bill is my number one. I’m so fortunate. I have so much gratitude to have learned from him and just — he’s not just a great mentor and I’ve learned the craft of investing but I also learned, I think he’s been intellectual giant and I really thought he thought me how to stake better and he’s also a great friend. And so I feel so fortunate to share this journey and he’s so generous with his time with me. And so, he definitely is right up there at the top of the list.
RITHOLTZ: Quite interesting. Tell us about some of your favorite books and what are you reading right now?
MCLEMORE: Yes So, I am so bad at favorites and when I saw this question, I really tried to think I’m — I have lots of books that I like but what -how can you choose just one as a favorite? So, I guess when I was thinking through what are some of my favorite business type books, “The Psychology of Money” by Morgan Housel. Wonderful. And as soon as my kids, my oldest is 10, but as soon as she’s old enough to — which might be within the next year or two, I’m going to have them read that book to understand how to think about money.
“Richer, Wiser, Happier” by William Green is excellent and I love books that cover great investors and how they think — I think “The Halo Effect” by Phil Rosenzweig is a classic and it talks about — Bill likes to say that the story follows the price and so, I think that that’s true and that happens — he talks about when there’s been some company that’s done really well, people write about all the reasons why. But again, it’s not a very scientific study and it gives thinking in bets.
Outside of that, one book that really struck me and I really liked a lot Pema Chodron who’s a Buddhist monk. Her book, “When Things Fall Apart” which I also like, the fictional book by Chinua Achebe, the same name but this is a different one and that book really talks about moving towards your pain and being with your pain and I think it’s important from just the life perspective in terms of again those are growth opportunities, but from an investment perspective, there’s a lot of parallels in terms of how do you execute on the process that delivers the best return when sometimes it can be emotionally painful and how do you deal with that.
And I guess, this is a very long winded answer but I’m reading now and what I just finished was the have “The Book of Hope” by Jane Goodall and Douglas Abrams which was great and there’s such greats of depression and anxiety now and that book was all about hope and why we should be hopeful and indominable to human spirits. So that was really good.
I’ve been reading some books on leadership given the transition so I read Colin Powell’s autobiography. We just read Principles by Ray Dalio. So, there’s a few others that I’m currently reading but that’s a tasting, that’s a handful.
RITHOLTZ: Yes, that is. Let me ask you Things Fall Apart, the novel is by Achebe? Is that right? And the nonfiction is by Pema Chodron.
MCLEMORE: Pema Chodron. Yes.
RITHOLTZ: Chodron. Got it. Really interesting. That’s quite a great list and I’m impressed at the breadth of what you’re reading.
Our last two questions, starting with what sort of advice would you give to a recent college grad who was interested either in a career in finance or a career as a portfolio manager?
MCLEMORE: I think, if you love learning and you love computing, there’s almost no better skill than investment and finance that’s just — it’s so interesting. You learn new things every day and you can compete and you need to compete at the highest levels and you live or die by your results which is both amazing because it’s a true meritocracy but it’s also very high pressure because it’s not easy to be successful.
And so, if people are interested in that and that sounds like a fit with their general demeanor and what they like, my advice would be just get your foot in the door however you can. I remember people telling me you can never get an investment job right out of college which I listened to them and I ended up getting really lucky you because Bill happened to come.
But I didn’t try other than meet Bill and send him my resume. So, I think, like, you can try and don’t ever tell — let people tell you can’t accomplish something. We just hired a couple months ago a wonderful junior analyst who’s extremely passionate. He has the right attitude and willing to do whatever it takes, how can help you, how can I add value? If you really have that sort of attitude and survey the landscape broadly and are passionate and are self-taught, I think you have a good shot at finding an opportunity.
RITHOLTZ: Interesting. And our final question, what do you know about the world of investing and portfolio management today you wish you knew 20 or so years ago?
MCLEMORE: Yes, that’s a great question. Anything I knew about the future would have been super helpful because you could use that in return, so whether it was Alibaba or financial crisis, the cyclical boom, innovation boom, pandemic, I would love — I would have loved to know anything about it.
I mean, I guess, if we step back and think about when I entered the business, what are some broader, more timeless lessons that I didn’t know then that I wish I had. Again, I think I mentioned, I was very classic value to start, that was my approach. I didn’t understand the nuances of returns on capital and the importance of those, how to earn returns or the importance of those to driving returns and the differences between buying a fair business that — at a wonderful price versus a wonderful business at a fair price in growth.
Fortunately, I started working with a great mentor and was able to learn all of that. But those are things I think that are critical as you think about investing but, again, I didn’t understand well when I first got in to the business.
RITHOLTZ: Thank you, Samantha, for being so generous with your time.
We have been speaking with Samantha McLemore, portfolio manager at Miller Value Partners. If you enjoy this conversation, well, be sure and check out any of our hundreds of prior such discussions. You can find those at iTunes, Spotify, Bloomberg wherever you get your podcast from.
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