Value Investing, the Mag 7 and Making Sense of a Changing Market with Tobias Carlisle

Episode Summary

Executive Summary: Tobias Carlisle argues that value investing still works, but mainly as a behavioral edge rather than an informational one. He explains why recent value strength may be cyclical, why his process emphasizes cheapness plus survivable fundamentals, and how he builds diversified, sector-aware portfolios that aim to grow intrinsic value without relying on multiple expansion.

Main Topics: Recent market behavior and the value rally (Priority: 5/5): Carlisle discusses the recent outperformance of value and small caps after a long stretch of growth and mega-cap dominance. He sees the move as real but possibly temporary, driven by sentiment, positioning, and narrow leadership rather than a clear regime change. What value investing is really trying to capture (Priority: 5/5): He frames value as a strategy to grow 'look-through earnings' and intrinsic value over time, while buying at a discount. He emphasizes skepticism about growth forecasts and the danger of paying too much for expected expansion. Behavioral explanation for value premiums (Priority: 5/5): Carlisle argues the value effect persists because investors chase what has already gone up, while value investors buy out-of-favor names with mean-reversion potential. He sees this as enduring behavioral behavior, not an informational advantage. Portfolio construction and universe selection (Priority: 4/5): He describes how his two ETFs use essentially the same stock-selection engine but different capitalization universes. He focuses on cheap names in the market where opportunities currently exist, rather than forcing a fixed style box. Concentration, diversification, and survival (Priority: 5/5): Carlisle explains his preferred portfolio sizes, arguing that concentration increases volatility and idiosyncratic risk. His approach balances upside capture with survival, using more names in smaller, riskier businesses and limiting sector concentration. Quality versus deep value (Priority: 4/5): He says he has moved somewhat toward better-quality businesses within a deep-value framework, influenced by Buffett and by the need to keep investors committed through volatility. Cheapness still matters, but quality and free cash flow help reduce blow-up risk. The changing structure of markets and megacaps (Priority: 4/5): He reflects on the unusual durability and scale of the MAG7, noting that some of these firms are now so large and entrenched that their economics differ from historical precedent. He questions whether their capital intensity and scale will eventually limit returns.

Key Arguments: Value still makes sense because investors systematically overpay for recent winners and underpay for depressed businesses that have mean-reversion potential. The best way to think about a value portfolio is to grow intrinsic value and look-through earnings, not to obsess over short-term relative performance. Multiple expansion has historically been a major contributor to value returns, but he now evaluates holdings to ensure they can work even without it. The value premium is largely behavioral: naive extrapolators chase momentum while value investors buy what is temporarily unpopular. His process is conservative by design: avoid excessive debt, avoid extreme concentration, and demand enough discount to survive disappointment. He believes quality should be blended into deep value because it reduces volatility and improves investor stickiness without abandoning the value discipline. He thinks sector neutrality can destroy returns on the long-only side if it forces ownership of expensive sectors, but he also avoids overexposure to sectors that may never recover. Large-cap winners like the MAG7 may be more durable than historical mega-caps because their products are sticky, recurring, and difficult to displace, but their scale and capital intensity may eventually reduce returns.

Data Points: Podcast appearance count: 7th appearance - Jack notes Tobias Carlisle is appearing for the seventh time, tying for the most appearances on XS Returns. Value underperformance period: 10 to 15 years - Carlisle says value underperformed materially for roughly a decade or more before recent improvement. Recent value bottom: Late 2020 - He suggests value likely bottomed in late 2020 and has been outperforming since, until a pause earlier this year. Small and micro universe size: Smallest 75% of the stock market - He defines his deep-value small/micro ETF universe as the smallest 75% of listed stocks. Mid-cap universe size: Largest 25% of names - His mid-cap strategy screens from the largest 25% of names, though it has drifted toward smaller mid caps. S&P 500 return metric: ~13% return on equity - He cites the S&P 500’s ROE as a benchmark for deciding whether reinvestment should be retained. Cash yield benchmark: ~5% - He compares reinvestment returns against what cash yields at current rates. Long-run interest rate mean: Around 6% - He says current rates are near the historical long-run mean, roughly 5-6%. Quarterly holding-period hit rate: About 50/50 - He says on a quarterly basis, his picks are about evenly split between outperformers and underperformers. Portfolio size - mid cap ETF: 30 names - Zig is equal-weighted with 30 holdings. Portfolio size - small/micro ETF: 100 names - Deep holds 100 names because the businesses are generally lower quality and riskier. Sector exposure cap: About 20% - He says trial and error suggests keeping industry exposure around 20% to balance return and survival. Historical data coverage: 1963, 1926, 1875, 1825 fragments - He references different depths of historical factor data used to study value’s long-run premium. Value/growth outperformance episodes: 6 major periods - He says there have been six extended periods when growth strongly outperformed value, usually tied to technology booms. Largest names' scale: Near $2 trillion - He notes Google/Alphabet’s size as an example of megacap scale that dwarfs prior market leaders. Prior sector extreme: Exxon at 40% of the index - He cites Exxon’s historical index weight to compare commodity concentration risk with today’s tech megacaps. Corporate reporting burden: About $1 million per year - He mentions Sarbanes-Oxley imposing meaningful compliance costs on smaller public companies.

Pivotal Quotes: "I think that the real reason for that is that performance is behavioral." — Tobias Carlisle: Explaining why value seems to keep working despite easier screening and more information availability. "My objective is not to generate the highest returns that I can possibly return. My objective is to survive first and foremost." — Tobias Carlisle: Describing his portfolio philosophy and why he avoids excessive concentration and fragile business models. "You want a little bit more exposure to names that have been beaten up. They do tend to be in industries that they've all gotten beaten up together." — Tobias Carlisle: Discussing sector tilts and why value portfolios naturally lean into distressed groups while managing risk.

Implications: Listeners should expect value to require patience, diversification, and skepticism about growth. The episode suggests future outperformance may still come from buying unloved businesses cheaply, but with greater attention to quality, sector risk, and survivability.