Best Idea Show - Tobias Carlisle, Acquirers Fund - There Are Basically Three Big Periods Of Value Underperformance And They Seem To Congregate Around These Periods Of Technological Advancement | #272

Episode Summary

Executive Summary: Toby Carlisle, founder of Acquirers Funds, argues that micro-cap value stocks offer a compelling risk-reward opportunity after a decade of underperformance. He presents historical data spanning 200 years showing that value stocks have experienced three major underperformance periods, with the current one being the worst at 60% lag behind growth stocks. Carlisle manages two funds: ZIG (large-cap value, long-short) and DEEP (micro-cap value). He emphasizes buying companies with strong balance sheets, cash flows, and share buybacks. The discussion covers specific holdings like Biglari Holdings and Diamond Hill, the challenges of short selling, and why value investing is poised for a comeback despite recent pain.

Main Topics: Historical Value Underperformance (Priority: 5/5): Analysis of 200 years of value stock performance showing three major underperformance periods, with current 60% lag being the worst in history. Micro-Cap Value Strategy (Priority: 5/5): Deep value approach focusing on smallest 75% of US-listed companies with cash-rich balance sheets, solid cash flows, and management buying back stock. Current Market Opportunity (Priority: 4/5): Value spreads have returned to historic widths, small/micro value is extremely cheap, and capitulation is occurring with funds shutting down. Short Selling Dynamics (Priority: 3/5): Short positions provide portfolio protection during market declines, focusing on stocks with statistical fraud indicators or financial distress. Quality-Value Intersection (Priority: 3/5): True value investing requires quality characteristics; hard to separate value from quality as undervalued stocks need strong fundamentals to survive. Case Studies: Biglari Holdings & Diamond Hill (Priority: 4/5): Biglari trades at massive discount to cash/securities; Diamond Hill is a simple asset manager with high ROE, special dividends, and cyclical trough. Value Renaissance Expectations (Priority: 4/5): Multiple catalysts: extreme dispersion, capitulation, professional investors abandoning value, and fundamentals outpacing prices for cheap stocks.

Key Arguments: Value stocks have underperformed growth by ~60% in current cycle, worst in 200 years of data. Three historical value busts coincide with technological revolutions (telegraph, depression end, dot-com). Small/micro value is particularly sensitive to value underperformance but offers greatest recovery potential. Current value spreads are at historic widths, indicating strong forward returns potential. Companies in portfolios have cheaper valuations but higher yields and growth rates than indexes. Short selling provides asymmetric protection during market crashes, as demonstrated in March 2020. Price-to-book value may see a 10-year renaissance as investors have abandoned it completely. Value funds shutting down and capital leaving the space are contrarian bullish signals. Fundamentals (dividends + growth) will eventually shine through even without multiple re-rating. Complex corporate structures (like Biglari Holdings) disguise underlying value, creating opportunities.

Data Points: Value underperformance: 60% - Worst value underperformance in 200 years of data, lagging growth stocks by 60%. Historical value bust - 1904: 59% - Previous worst value underperformance ended in 1904, down 59%. Number of companies in DEEP portfolio: ~100 - Micro-cap value fund holds about 100 names, equal weight at initiation. Market cap range for DEEP: $75M to $2B - Micro fund has floor of $75M (NYSE listing standard) up to $2B. Diamond Hill AUM: $20 billion - Asset manager with $20B in assets, massive ROE, trading cheaply. Biglari Holdings discount: Massive - Trading at massive discount to cash and marketable securities. Value spread width: Historic - Spread between overvalued and undervalued stocks at historic widths, similar to prior major bottoms. Value capitulation events: $10B funds shutting down - Traditional value funds shutting down, continuing to push prices lower. Momentum vs value spread 2020: 50 percentage points - Pure momentum funds up ~35% while pure value funds down ~15% in 2020. Value run - Sept 2020: Massive single day - Biggest day for value since 2000 on September 9, 2020, with follow-up next day.

Pivotal Quotes: "When the spread gets very, very wide, what that typically means is that the forward returns for value tend to be better." — Toby Carlisle: Explaining why current extreme dispersion between overvalued and undervalued stocks is bullish for value. "If you're investing on fundamentals alone, it's been probably one of the worst two years. I wasn't investing in the late 1990s, but the experience is equivalent to those." — Toby Carlisle: Describing the pain of value investing in 2019-2020, comparable to dot-com bubble. "The theoretical basis for price to book is pretty sound. I think it's to the point where book value has been so thoroughly buried. You can read the obituary in any number of papers. I kind of feel like that's how you set up a scenario where you just go on a 10-year tear for book value." — Toby Carlisle: Arguing that price-to-book value, widely abandoned, may be poised for a major comeback.

Implications: For value investors, this suggests a generational opportunity in micro-cap and deep value stocks. The extreme dispersion, capitulation, and historically wide spreads point to potentially strong forward returns. Investors should consider allocating to small/micro value with quality screens (cash flows, buybacks). Short positions can provide asymmetric downside protection. The podcast implies patience will be rewarded as fundamentals eventually overcome multiple compression, though timing remains uncertain.