Invest Like the Best with Patrick O'Shaughnessy - John Rogers – Slow and Steady Wins the Race - [Invest Like the Best, EP.26]

Episode Date: February 28, 2017

My guest this week is John Rogers, founder, CEO and CIO of Ariel investments, one of the longest standing asset management businesses still in existence.  John has a very impressive resume.  In addition to his success at Ariel, he was the captain of the Princeton University men’s basketball team, he was the co-chair of Barack Obama’s Presidential Inauguration, he sits on the board of McDonald’s, and he has given back to his community more than I can list here.  John and I discuss Ariel’s investment process and its evolution over the years, lessons from John’s basketball career, value investing, and asset management’s diversity problem among many other interesting issues. Please enjoy!   For comprehensive show notes on this episode go to investorfieldguide.com/rogers/ For more episodes go to InvestorFieldGuide.com/podcast.  Sign up for the book club, where you’ll get a full investor curriculum and then 3-4 suggestions every month at InvestorFieldGuide.com/bookclub Follow Patrick on twitter at @patrick_oshag

This podcast is sponsored by CFA Institute, the Global Association of Investment Professionals whose mission is to lead the investment profession by promoting the highest standards of ethics, education, and professional excellence for the ultimate benefit of society. CFA Institute serves a global community of investment professionals working to build an investment industry where investors' interests come first, financial markets function at their best, and economies grow. The chartered financial analyst credential is the most respected and recognized investment management designation in the world.

The views expressed in this podcast do not necessarily represent the views of CFA Institute. Hello and welcome, everyone. I'm Patrick O'Shaughnessy and this is Invest Like the Best. This show is an open-ended exploration of markets, ideas, methods, stories, and of strategies that will help you better invest both your time and your money. You can learn more and stay up to date at investorfield guide.com. Patrick O'Shaughnessy is a principal and portfolio manager at O'Shaunacy Asset Management. opinions expressed by Patrick and podcast guests are solely their own opinions and do not reflect the

opinion of O'Shaughnessy asset management. This podcast is for informational purposes only and should not be relied upon as a basis for investment decisions. Clients of O'Shaunity asset management may maintain positions in the securities discussed in this podcast. My guest this week is John Rogers, the founder, CEO, and CIO of aerial investments, one of the longest standing asset management businesses in existence. John's resume is nuts. In addition to his success, at Ariel, he was the captain of the Princeton men's basketball team. He was the co-chair of Barack Obama's presidential inauguration. He sits on the board of McDonald's, and he has given back to his community more than I can possibly list here. John and I discuss Ariel's investment process

and its evolution over the years, lessons from John's basketball career, value investing, and asset management's diversity problem, among many other interesting issues. There are not many people who have been the chief investment officer at the same firm for more than 30 years. So it was a real pleasure hearing about John's career and learning from his experience. You can find show notes at investorfieldguide.com forward slash Rogers. And now, please enjoy my conversation with John Rogers. Well, John, thank you very much for joining me today. This is going to be a blast.

And I always try to find somewhere interesting or not obvious to start. So I'd love to start with basketball, if we could. You were the captain of the Ivy Championship team at Princeton, your senior year, and I'm always amazed by how many ex-athletes you find in the investing world. It seems to be a good indicator of people that go on to have success. So I'd love to hear a bit about your experience, playing basketball, and maybe more importantly, the key lessons that you learned on that team that have carried over into a business career. Well, thank you. You probably noticed when you came, we're actually meeting in the Peak Carrill room, which is named out. after my coach at Princeton.

And he's actually a genius. He's someone that is one of the smartest people that I've ever come across. And the time that I had a chance to play basketball at Princeton really did change my life. And I was very fortunate because I was literally, you know, back when I was playing, freshman couldn't play varsity basketball. You had to play on the freshman team. And then sophomore year, I was the last man on the team. There's 15 uniforms.

I got the 15th uniform. and I barely made it. And even after I made the team, as he was going down the line talking about each player after practice one day, he said, you know, I'm not sure how long I can keep you around, Johnny Rogers. You have absolutely no idea what you're doing. You're not a basketball player. No one wants to play with you. So the fact that I got to be captain a couple years later was just a complete miracle.

But again, it changed my life. You know, the values and the beginning values that I understood originally have been expanded. it over time. The key value in the beginning that I focused on that he taught was that he really made you understand that when you're on the basketball court, you always are thinking about your teammates first. And there was just no excuse for selfishness. And that it was just totally unacceptable. And he pounded at home, you know, very strongly and very clearly. But he also taught you to understand how when you helped others, you helped yourself in the end of the day, and you helped the team win. And he would be able to show you, you know, very strongly and very clearly. And he also taught you to understand how, you also taught you to understand how, you helped you help you help you

and stop practice and show you how the unselfish acts led to really great outcomes. And it just was just terrific. So that was the number one value. As time's gone on, the other things that I've learned that appreciate, the second thing was that he was someone who believed that you did things the same way every single time. That every pass had to be right in the right spot for your teammate to catch you. Every cut had to be made with the right angle. You know, every time you dribble and hand it,

off you had to have the exact right angle you couldn't do it a little bit of a banana cut here or a little bit of a softer cut there it had to be done with precision and excellence each and every time and there was no excuse for you know doing it in a way that wasn't the right way every time and he would just stop practice put everyone back where they were and show you exactly what you should have been doing and he understood what you were thinking when you made the mistakes so that idea of precision is something that it was drilled into you to do it the right way every single time.

And the final thing that I've gotten, as I've gotten older, I've learned to appreciate, is he taught you to concentrate. That every possession mattered, and every moment that you're on the court mattered. You could never take a play off in practice, let alone take a play off in a game.

And so, you know, as I think about it, that ability to concentrate for a long period of time is something that I think is something that we learn playing basketball at Princeton that's really very, very critical. And all three of those things, I think are very important to what we do here at Ariel, just to bring it full circle. You know, we've tried to create a sense that this is a team here, that we're all in this together.

Everybody owns stock in the company. We try to make decisions collaboratively and make sure that everyone's views and perspectives are heard, and that people understand, it doesn't matter what your title is, that everybody has important things they can contribute to the team. Second thing about doing things the right way every time, you know, when we do our research reports and we're thinking about companies, talking about companies, we want to make sure you don't take shortcuts. You get to know your companies extremely well.

You try to prepare for the meetings with management teams. You want to read everything there is to read, and you're going to do it every time with precision and consistency. And that's something that I try to pound home here. And sometimes I take it for granted that everyone had the same experience as I did, and I have to remind people of how important it is. And then finally, the idea of concentration is, you know, this markets are so volatile, especially the last 10 years, and the stress and strains of the

ups and the downs and what's happening, whether it's the financial crisis or what's happening in Greece or, you know, the United States debt being downgraded, you've got to be able to keep your wits about you when there's enormous amount of stress going on and so much change going on. And I think being able to concentrate and stay calm while everyone else is kind of rattled is an important skill in this industry. You already mentioned an example of that idea of consistency of always preparing the same way and doing the work. I'd be curious what the cleanest analog is on the aerial side of this idea of stopping practice. I love that, where the coach would stop practice and reorient or point things out. What have you found to be the most effective ways

of doing something like that with the investment team? Well, what we do, and I'm sure a lot of firms do this, so I don't think it's too creative or original, but we do try to do post-mortems on the companies that have not worked and to make sure that we come in prepared where everyone has read everything and reread the research reports that we created ourselves, re-read thoughts from other analysts and sell side and by side, and then come in and say, you know, what were we thinking?

How do we miss this? We really do think that's an important part of the discipline of putting everyone sort of back where they were when we made that decision and to try to create an atmosphere so we understand what went wrong the last time so we don't replicate that mistake in the future. I think that's probably the number one key thing that we've tried to do

that sort of consistent with what coach would have taught us to do. So I'm in town meeting with some large capital allocators and the number one question that they all ask is, what is your edge, which is the appropriate question, right? In incredibly competitive markets that are arguably more competitive than ever, I'd love to start exploring your investment process. So everyone's got their own way of starting with a large universe of thousands of stocks and narrowing it down to,

to a portfolio. So in as much detail as you're comfortable, I love to hear about people's different investment processes and how that can manifest in an edge versus an overall market. So how do you start? Well, that's an interestingly, you know, talked about that because I think the process is actually different than the edge. Because for us, I think that, you know, it's important to have the process, as I said earlier, to make sure you do think consistently and the research reports are written, you know, thoughtfully and as thoroughly as possible and that you've explored everything, and that each of our analysts knows their industries extremely well,

so they know the best companies in their sector and the worst companies in their sector, and they know the cheapest stocks in their sector and the most expensive stocks in their sector. And so for us as a process, you've got to make sure that the analysts who are the experts in industries are constantly resorting their names and understanding which ones are the ones

that have the best opportunity for us to look at. And I think that's really, really important. We're going to use computer screens also to enhance that to make sure we're looking for companies to meet our basic criteria of the kind of industries that fit the kind of consistent earnings growth that we like to see, the kind of industries, the companies that have the appropriate debt levels and the appropriate valuation levels. Because we think we can find a great business that isn't over levered and you can buy it at the right price. You're going to end up with really, really good results. But a key part of that process, though, as I've said earlier, is that you've got to. no substitute for getting out and doing the homework and seeing that management team, looking people in the eyes, seeing them face to face, going to the conferences, going to the trade

shows, talking to competitors, talking to customers, talking to other people who own the stock, talking to the sell side. You know, you've got to do all of that as a big part of the process and has to be done consistently every single time. Charlie Burrinskoi, our head of the research group and Tim Fidelier, our director of research, they're responsible to making sure that process is done consistently. Now, I think the things that we do that are different, that maybe start to get at what the edge is about,

is the number one theme here. When you walk through our offices, you'll see turtles everywhere. And so we are one of these rare people who looks at this business with a long-term perspective through a long-term lens. And we do it by wanting to own names for sometimes we've owned stocks now for over 20 years. and that's highly unusual today. And when we go out and talk to management teams, they all tell us you're one of the rare firms that comes in and wants to talk about three and five year and seven year strategic plans, not the three and five and seven month results.

And that ability to have that long-term perspective is something that I think really does distinguish us. And it helps us to build better relationships with our management team. and it helps us to, you know, from a behavioral finance standpoint, not get caught up with all the recency effects and all the noise of the current moment that can sometimes distract from making the right judgments about the quality of that company because we're going to be buying companies often

when there is that temporary bad news and that ability to look out over the horizon and see what that business can be like once you get back to normal is something that I think is rare in this industry I think maybe that's probably at the heart of our edge is that ability to look out further than others and to see kind of what things would look like once the sun is out again and the clouds have drifted away. And I think most people have a hard time doing that. They just get caught up in the now.

Everyone pays lip service to being a long-term investor, but very hard to actually execute on. One of the trends that interests me is the decline in the average tenure for CEOs of public companies. So I'm curious how you think about finding companies and then management teams behind those companies that can actually, that are set up where the incentives are longer than the three to three months to one year, which has become unfortunately, you know, that quarterly earnings report has been such an important thing on Wall Street. Screening for cheaper stocks, responsibly leveraged stocks, that really resonates with me, obviously, as a quant. But if you're going to hold a company for up to 20 years or at least five years, how are you investigating, or evaluating managers.

I think a couple things are critical here, and I think these are things also that's a second part of the edge, is that one, you know, we learned this from Warren Buffet, we borrowed this clearly from him of staying within your circle of competence. You know, he often talks about, you know,

you know, this shouldn't be like Noah's Ark where you own two of everything. And so number one, if you know your sector really, really well, you know the companies within the sector, you're going to know then the management teams within that sector and be able to determine by talking to all the companies,

who are the most outstanding managers and who are the weakest. And who's been there for the long term? Who's had the best experience? Who are the honest brokers who are going to tell you the truth as they know it? And I think, again, that sense of expertise allows you to evaluate managers from top to bottom. And I think that's really, really critical. I think also this idea that we talked about earlier being long term, we build relationships over time.

And so you really get a chance to see which management teams deliver on what they've said they're going to We talk to management every quarter and you can see which management teams are doing what they said and executing their plan consistently and not finding excuses

when things go off track to explain away why things didn't go well but are going to be saying we had to make this adjustment here are the reasons why we made a mistake here here's how we fixed it

you want to see that kind of directness as you're looking for management teams and I think that's more of an art than a science and then the final part of it is when you're doing you're doing talking to management, and again, this is something that I think we can do well, and we've actually used BIA associates to help us be better questioners. You know, they really help advise you on how to ask the best questions and determine

whether people are telling you the truth. You really want to be with people where you can sense that they are truly committed to doing what's right for shareholders. And as you ask questions and talk with them, you can get a sense that they really want to come through for you. they know that we are big shareholders and they know I have a responsibility and we have a responsibility to our customers. And I found that when I found those management teams that are rooting for us to be successful and realize that they have a responsibility to deliver results to help us be successful,

that's where we've gotten the best results. You mentioned BIA, I've heard that name come up a couple of times of being able to detect lies. So maybe I'll ask the question the opposite way, which is, what are the biggest red flags or things you look to avoid, things that we're. would scare you. Let's say you found a business that quantitatively and the industry checks out and it seems like a really attractive opportunity, but then something happens that you say, okay, we've seen this before and it doesn't end well. What would be some negative screens, things to avoid? I think that the one I touched on earlier is when management teams are giving you excuses. You know, the weather was bad and, you know, things that come. We hear that one all the

time. Yeah, you know, right. Yeah, weather, it's like, you know, come on. You guys have working, your plan, you should be able to overcome most of those kinds of challenges. But I think the other things we're looking forward, clearly one thing we've learned over the year is hopefully we've improved on is that management that are, instead of thinking about how to build a stronger, better business, and do a better job of their customers, are constantly looking to make acquisitions all the time, and they're willing to leverage up to make the acquisitions. And so we think they're making bad capital allocation decisions. And so watching carefully and understanding which management teams understand that if they're going to make an acquisition, it should be within their circle of competence, and that the leverage should be something that they can manage. And we try to really look closely at that.

And when management teams often, they stretch the balance sheet, they try to justify it. They've got everything prime for perfection. You know, it's like, okay, we're going to be able to handle this because, you know, the economy is going to stay strong for the next seven years. There's not going to be a recession. everything will be perfect, interest rates will stay low, we'll be able to redo our debt, and not understand that maybe rates can go higher, maybe the economy can get weak, maybe there'll be a problem overseas somewhere in one of your divisions, and now you don't have that margin of safety because you've levered up to make the strategic acquisition.

So that's where this whole idea around capital allocation is critical. And then the final thing, I guess, there's so many things, you know, you could be, but one of the things is how much are they group-think people? know, or how much are they doing what's right because they know it's the right thing in their heart. So you see management teams now all the day doing, now all the time, making decisions to buy back stock because everyone else is buying back stock. And they've been taught by the investment bankers or the sell side that if you keep buying back stock, you can goose your earnings growth rate, people will be happy, you'll keep activists away from you

because you're buying back stock. And they're forgetting that you've got to be buying that stock back at a significant discount to its intrinsic value, or you're going to be going. to be destroying, you know, a shareholder value. And so when you see people who just drank the coolator and are going down a path without being thoughtful about it, it's something that, you know, we want to stay away from group thinkers, we want original thinkers as our management team. You said two things that really resonate, not only with me, but with our work empirically in the data. The first being that one of the best ways to avoid companies is, we

call them empire builders. So the largest percentage increase in capital, in the asset base, which sounds like growth and sometimes people think is a good thing, but actually the companies that have the largest ramp up in CAPEX have tended to underperform and acquisitions, goodwill, I've tended to go on to underperform. And then the same thing with buybacks, where buybacks as a whole, obviously it's a huge trend, a return of capital trend, in place of dividends often, but companies that buy back at expensive prices relative to the market do destroy value, do very badly versus the market, whereas those that buy back get really cheap at discounts versus their peers tend to outperform. Those stocks tend to go on to outperform

pretty significantly. So this idea of you're one of the first that's talked a lot about capital allocation as a key part of the value equation. And I think that that is an understudied and underappreciated way of finding great companies, CEOs that are thoughtful about allocating capital. I'd love to go way back to the beginning of Ariel. So in the early 1980s, you run one of the longest standing asset management businesses in our industry. And now it's great that you've got a team of analysts that know industry so well. But at the beginning, I think it was basically just you. So I'm curious kind of what the origin story is for your interest, your curiosity, your spark in the world of investing. How did you get so interested in this job? Thanks for asking because

it is a well-known story, I think, here in town in Chicago, around the the fact that my father, you know, bought stocks for me every birthday and every Christmas after I was 12 years old instead of toys. And I always joked that it wasn't a lot of fun to go to the Christmas tree and find an envelope instead of a toy. But, you know, it got to be kind of neat after a while because what he did was he let me keep the dividend checks that would come in the mail every three months. And my parents are divorced, so when I'd go visit my dad on the weekends, I would read through the quarterly reports and the annual reports of the blue chip companies he had bought for me.

And I just loved it. And we would talk about it. And then he subscribed to different newsletters. And I would read the newsletters when I was there. And it just became this passion. And then that led me to, you know, going to visit his stockbroker, a man named Stacey Adams at Freeling & Company on LaSalle Street. And I would watch the ticker tape go by, the old translux machines, you know.

And it was just fun. It was exhilarating. And so then finally, when I was a few thing. When I went off to Princeton, my father turned the portfolio over to me and let me trade it on my own. I found a broker across the free from campus, Mike Perkins, at Laylaw Adams and Peck. And I would just go sit with him whenever I had a free moment. And he took me to the library at Princeton and showed me where I could find all the publications and all the other newsletters that I didn't even know existed, where he'd get data and information

and ideas of what stocks to buy. And I just loved it and just had so much fun with it. And so that's why at the end of the day, as I was graduating, I thought, well, if you love the stock market, you became a stockbroker. I wanted to be like Mike and Stacey. And that's where I went to work at William Blair here in Chicago and got my career started. The only other thing I'd add was an advantage. While I was at Princeton, we had to read a random walk down Wall Street in our corporate finance course. And Bert Malkiel was actually the head of the economics department at the time.

So I went to see, you know, the author of this iconic book. And to talk about the markets back in 1979 and 1980. And I look back on that time feeling, geez, I had this great experience to have that kind of exposure to one of the great thought leaders in stock market history. You were a very young entrepreneur starting Ariel, I think in your 20s still. And you tackled the portfolio early on with far less support, where it was really just you.

You mentioned industry and sector knowledge a lot. It sounds like a key part of your bottom up process. So I'm curious if there were particular industries early on that really fascinated you or drew your attention and sort of how you were building portfolios when it was just a one-man band. Yeah, that's interesting. No one's talked to me about those early industry sectors. And as I think about it, that was kind of the, it was really fun to have a couple sectors that you thought you knew better than your peers and your friends. So you're right. I had a friend who was my deputy who sort of ran the office and I was, her name was Jessica Berger.

and I was there doing the stock research on my own, going and visiting companies and talking with them on the phone and thinking about the markets. And the sectors that I focused on early on where one was the, you know, I borrowed some concepts from William Blair, some of the ideas that were there on their better buy lists and things. And the office product sector was a sector that they knew really well and that I sort of took with, you know, went off and ran with.

So it was those early companies like United Stationers and companies, like General Binding that made binding machines, one of our great companies. Sanford that made Sharpie Highlighters, Aco, Staplers, all these kind of... Simple businesses. Simple businesses, things you had find in your desktop

that you could know really, really well which worked and what didn't work. And it was a great sector, and all those companies got bought up. They all got sold, and they did extraordinarily well. You know, just phenomenal. And then the other sector was the sort of toy-related, you know, I was kind of a kid at heart.

and we remember owning, you know, Kenner, Parker Brothers, and Tonka, Viewmaster Ideal, tops the baseball card company, Hasbro, but a lot of these smaller ones all got bought up also. And it was interesting now, it's kind of like Hasbro, Mattel, or the big giants, there's not many left. But back when I was getting going, there were all these independent toy companies that were doing extremely well. And the stocks did extraordinarily well, and they all got bought, which, you know, you a nice exit. So those are two of the sectors that really worked well for us in those early days. Really interesting. I'm curious how much the value investing ethos or philosophy was there from the outset for you and whether or not there were sort of formative mentors, whether they

be through books or people you actually knew. I always tell people that the first book I read that really just rewired my brain was David Dreamen's contrarian investment strategies. And I'm curious if there was something similar for you in the early days and how much, kind of what the evolution has been in your thinking of value investing from start till now. Well, those early days, you're exactly right. And you captured it perfectly. There are some people you read about and some people you got to know. So I'll start with the, you know, the people that wasn't the whole lot that I could talk to early on because, you know, who wants to meet with a 24-year-old kid who's just started a money management firm. But I had this newsletter that I had at the time and we were trying to build a track record and get people.

to take it seriously. It was called a patient investor. You know, that was the, how we got our going with our turtle theme. And I remember going to interview Ralph Wenger because he was one of my heroes and he had built the acorn funds into one of the most successful top performing funds in the country. He focused on smaller companies or value-oriented, but extraordinarily creative genius. You know, just even today when you go and talk, talk to him or read things that he says, he's so original in his thinking, just fascinating, you know, person. So Ralph was one of those early mentors.

Negenada, who was the managing partner William Blair, and Mr. Blair was still alive, and the idea of focusing on smaller, faster-growing companies, they had a big impact on me in those early days as I was thinking about the markets. But the first book that really had a big impact was the Money Masters by John Train, where you read about the great value investors in that book. You could read about John Templeton, you can read about Warren Buffett, You read about Ben Graham. They were all there.

And it had just this extraordinary impact on me. I just loved that book. And I would send it to everyone, give it to everybody. I just said, you've got to read the Money Masters. It's the best ever. And after that, I evolved and I, you know, read everything I could, of course, on Warren Buffett. That's what we all do for, we read for a living. You read every book.

I've read two investment books this last month, you know. And then I ended up reading David Dremens, the Contrary Investment Strategy, and then the second one that he came up with afterwards. And they were amazing, the idea, and it was so consistent. And I think it was consistent with my own personality, of course, of being someone who could think independently

that didn't feel the need to follow the crowd, and the idea that you could be a true contrarian, you know, it has to sort of be in your DNA. And so I love that book, and I used to send that to all of my friends and talk about it, write about it. And so some people, got to meet like Ralph Wanger and Bert Malkiel,

and then there are others that you ended up reading about, like David Dremant and Warren Buffett, and then as the years have gone on, one of the nice things is then you get to meet people like Warren. And he's been here at the aerial offices, and he has a conference room named after him, so he'd seen this conference room. And those people just had a tremendous impact on me.

And the final thing I would say, David Dremant's book, I think it's directly tied now to the recent, the book that I just read on Daniel Kahneman and Tversky. You know, behavioral finance, I think really got going under German's leadership about psychology and the markets and it didn't have a title. It didn't have a, you know, behavioral finance. Exactly. It wasn't a department. You didn't have a Dick Thaler and others doing this kind of work. But I think he really was the early pioneer that hasn't gotten the appropriate credit for how it's all evolved. Is somebody who's seen such a long stretch of the market in general, but also as a dedicated value investor throughout that whole time. Obviously a value investor implies that you believe, markets miscalibrate, whether it's for behavioral reasons, you know, they get too pessimistic at the value extreme, too optimistic at the growth extreme, or for risk-based reasons. There's lots of,

potential we can't know for sure. But do you think that anything has changed about the prospects for value investing from when you started, when it was still, certainly none of the papers had been written about, you know, demonstrating that value just works, right? And now there's quantitative strategies like ours that, you know, find this evidence and orient portfolio. more and more people probably chasing this idea of value. Does that concern you as a value investor, or do you think that the difficulty of implementing it will always be a moat around the value strategy? I would go with the latter.

I think the difficulty of executing it and thinking independently does allow for the moat that you suggest. And, you know, there's been times over the 34 years we've been in business where you underperform and you sometimes wonder, is it because there's more competition and it's games gotten harder? But in this last 10 years or so, to watch what's happened, these even go back longer. If you go back to the internet bubble bursting and how value investing came roaring back, you saw what happened during, we all saw what happened during the financial crisis that if you had the courage to buy, you know, during the spring of 2009, how everyone had given up on names and stocks that people said weren't worth $2.

A couple years later, we're worth $50. And so you've seen this in real time how the group thing takes over and the momentum takes over and everyone just gets completely convinced that this way of thinking is the right one about an industry sector or a company. I just think we've just seen it proven more clearly since this last, since the Internet bubble and the financial crisis. And then finally it's exacerbated now by what's happened with these active ETFs where they're all these, they're parsed in all these different. different kinds of segments and people are buying stocks for reasons that have nothing to do with underlying fundamentals and based upon backward looking data and then they're put into these indexes. And so stocks are moving for reasons that have nothing to do with the underlying discounted future cash flows. And so I think it's even more opportunity being created because

of the sort of the indexing that's happened and particularly the specific indexes around the ETFs. Maybe to put some very tangible context around it today so people can grasp the idea, even more, whether it be individual stocks or industries today in the aerial fund or other funds that you manage, have some of these characteristics that you look for. So out of favor, maybe the reason the market has it wrong. To give a more recent example, might be an interesting lens through which to view your philosophy. The one that we've been talking about a lot, the one sector is the real estate services sector. And over quite a long time, we've owned Jones-Lang-L-L-L, and then we added over time C.B. Richard Ellis or CBRE.

And we were on the phone with the management teams of both those companies in the last few weeks. And talking about the fact that this exact phenomenon was happening, their stocks are trading based upon the fundamentals based upon how they traded in the last downturn. So because these companies didn't do well during the financial crisis, when real estate collapsed, people thought, you know, people wouldn't buy and sell real estate anymore. people wouldn't be leasing real estate, people wouldn't be doing outsourcing and everything, and so everyone just gave up on these companies.

So now whenever there's a derisking type of environment, or when people start to get fearful about the economy rolling over, these companies underperform dramatically. But that's based on their past, not the future, because now these companies since then have diversified their product lines much more dramatically than people have imagined. So they're not so dependent on capital markets for buys and sells of real estate, but their outsourcing businesses become quite huge. Their real estate money management businesses are quite large, and that goes nicely with their traditional leasing in capital markets businesses.

So they're much more diversified product-wise. They're much more diversified geographically. They're both worldwide companies, and they've gone out and acquired strategic businesses throughout the world. So two things have happened. It's become kind of a duopoly, two big global brands when it comes to commercial real estate. they get the all the diversification of all the different economics, you know, economies around the world. And then finally, the balance sheet has been strengthened significantly since what happened.

And, you know, like a lot of people, they went into 08 and 07 and early 2009, not ever dreaming we could have the kind of catastrophe that we had. And so they didn't have the margin of the safety with the balance sheet they should have. Well, like a lot of companies, they've learned their lesson. And so now they're going to have a bulletproof balance sheet. So in case there is another economic downturn, they'll be able to weather it. So all those things come together to make this company a much more stable, consistent business for the long run than it was 10 years ago. But the market is evaluating as if it's still the company it used to be.

And that's in particular, and they get to put into these different indexes and real estate indexes or financial services indexes or high beta indexes. And it really shouldn't be traded that way. And we've often said they almost are hoping in some ways for a recession. just to be able to prove that they're going to have much more consistent cash flows during the recession than they did the last time. You mentioned the idea of brand for those two companies, and I'd love to hear what you think about brand as an important dimension of evaluating a company, whether that's something that you are seeking out when making an investment, and if so, how you qualify or quantify a good brand. What does that mean to you? Like, you know, you've mentioned the term the moat during our conversation today.

And Warren Buffett, I think, is the one that sort of invented that term. And, you know, and Morning Star uses it effectively. And, you know, when we look at our, within the Morning Star universe, our higher percentage of our companies are higher moat companies than our peer group by a very wide margin. We really are doing what we say we're doing, buying wide moat companies or narrow moat companies and staying away from the companies that don't have a moat at all. all. So I start with that to say that your question of the brand, if you have that strong brand, you should have a strong moat and they should go hand in hand together. And we spend

more time than anything in our research trying to determine whether that brand is going to be able to continue to maintain the moat over the next five to seven years. Now, sometimes certain industries, you know, having a strong brand is not going to keep you, it's not going to make, you know, the moat can disappear, you know the brand name is strong. You know, we always use the obviously examples of the blockbuster videos of the world. You know, the BlackBerry's, you know, great, great brands, and the moat just disappeared overnight. So you've got to, that's, I mean, that's the big part of the art of this, is to be able to see

which companies are going to be able to use their brand strength to maintain that mode. And that's the art, you know, it really is. That ability, it's funny, going back to what Coach Currell used to teach, you used to always say vision isn't critically important to being successful as a basketball player to see what's happening before it happens. And he said, if you don't have vision, I can't teach it. If you're legally blind, I can't teach vision. I think determining whether the brand's going to be strong over the next five to ten years, it takes vision. Some people have the ability to see that far into the future and other people don't. And I don't think you can teach that. You know, Warren has

the greatest vision of all time. He makes it sound simple. But he has that ability to see five, seven years down the road, which of those brands that are the ones that are not going to be damaged by new technology, that are not going to be damaged by a new international competitor, something that can't be foreseen. I want to come back to the role of technology, and Blockbuster is the perfect example of new technology completely disrupting or making obsolete an entire industry. And that's, I think, a big hurdle for value investors because that change can be exponential. And it's hard to stay away from that. but you mentioned this idea of vision, which brings me to a question that I was probably most excited to ask you today. And it relates to running the investment business, so less about the investment strategy, but actually running a business, specifically around hiring and hiring talented young people or seasoned people to work with.

Because obviously, especially with your ethos of patience and slow and steady wins the race, I'm imagining that getting the right people is probably the most important thing that you do. but I'm always interested in this interplay of nurture versus nature, of someone who just has it, who has the vision that can't be taught versus skills that can be cultivated over time. And I would love to just hear you riff on this idea of, like, let's say, for example, you could only choose one. You could spend all your time of a group of people just hiring and then you weren't allowed to mentor them beyond that. or you would just be given a random batch of people with some minimum, you know, experience or intelligence, what have you. And you'd have to expect that everything would come from the nurture side. Which would you pick?

I would wish and hope that you could teach and train. But I do think it's my coach is right. It's that the hard stuff is really, really hard to teach and to change people's DNA. Because, you know, whether it comes to selfishness, people are going to. during tough time it's going to show up, or this idea of being contrarian. You know, you could be a contrarian and contrarian, but then when the stock market's collapsing like in 08 and 09, the headlines are horrible and Kramer screaming on television

and stocks are going from 30 to 20 to 10 to 5, you know, it's just so easy to fall into the group think of the moment. So I think at the end of the day, I think these things are born in you and grow into you at an early age. You know, Coach Kruill used to always say, you know, By the time you're 18 or 19, I can't teach you to see. But I think he was also saying if he had gotten to you when you were nine or 10, he probably could have helped you to see. So how do you do that in the hiring process?

How do you find someone, how do you screen for someone that has that vision? Well, what we've tried to do is to, and we're still learning. I mean, this is a constant, constant battle. So we've tried to be involved with a few key institutions and build institutional knowledge and relationships within those institutions that can help us to identify talent. And by far the best example of that is that, you know, I was fortunate to go to the University of Chicago Laboratory School,

which is owned by the University of Chicago. I went there for high school, but it's a pre-K through high school. And I got very involved as an alumni of the lab school and started having students here at Ariel for what they call the May project where the kids the senior year take a month of May and they come and work in a business somewhere or do something creatively or

philanthropically. And I got on the board, became chairman of the board, it was on the board for 24 years, and so actually had lots of contact and access to up-and-coming talented lab school people. Eventually that led to me being on the University of Chicago board and it started to have an internship program where we would have University of Chicago college students

interns and then business school students from the booth school as interns and funny thing is a lot of the parents of lab school students are professors at the business school and so we really are kind of in this ecosystem of the university of Chicago all the way from high school to college to business school to law school through the faculty through the administration and being able then to get deep insights of which students are special and which people really are really loving the investment world. And they send us those students. And so we've had several people that we've got to know when they were 9th or 10th grade and watched them grow and had them as an intern, not only as a May Project student, but then later as a college intern or a business school intern and then hire

them full time. And several of our best people here at the firm are people, again, I've known since they were in 14, 15, 16, 17. And you pick the ones that you think fit the culture and have the values, and we work at it, though. You know, it's not easy. We just actually help start, well, we helped advise and fund the investment club of the University of Chicago Lab School. And we just had a whole series of the kids were here for an afternoon, and we're starting to get to know all these young people,

and some of them I already knew, and we're pleased to be a part of all of that. And then finally, as you can imagine, because we've hired so many lab school people in University of Chicago people and school, they tell their friends. and then it becomes kind of a self-fulfilling prophecy. Yeah, it flips the other way. I mean, it comes easy for you almost. Yeah, it gets easier, but it's still a challenge. But that's how we've been doing.

And finally, you know, I do, we use Princeton and as another institution that I'm close to, and we find talented interns through that. Melody Hobson, our president, started out as a, I met her over 17 years old as a prospective Princeton student when I used to be involved with making sure that the local Princeton students got interviewed

by alumni. You know, again, Charlie Brinskauer, Vice-Cherman, went to the lab school with me. That's how we do it. As someone who wants to run an investment business for the next several decades or help run an investment business for multiple decades from someone that has done that, what are some of the key business lessons you've learned in running a firm? Things that you feel have led to the success and the survival of a firm, which is rare for an asset management company to be around as long as Ariel has. What are the key underlying reasons for that success? Well, I think, I mean, as you know, this business is all about performance. So we were just talking about this earlier today.

I'll start with that. As you know, the Ariel Fund, our flagship fund started in 1986. And it's in the top decile of all mutual funds that go back to 1986 and number one in its category. And there's only like eight funds in our category that go back that far. So it's to be open about that. And then, you know, since the March 9th, 2009 lows, there was a story in the journal a couple weeks ago that showed we were the 13th best performer out of, I think, over 1,700 funds. They go back to 2009.

And, again, number one in our category out of 251 funds. So I think performance is, you know, really great, you know, and to be able to show, you know, 11.5% compounded since 86 and over 25% compounded since 09. That's been extremely helpful to our success. I think the second part is, you know, how do you get the best talent and keep it? So we talked about attracting talent. Now the next part to be successful is how do you keep it here? So we mentioned earlier that we try to make sure that everyone's an owner in the business.

I think that's been really, really important in keeping people as a part of the team. The second thing that I maybe alluded to earlier is we try to give real responsibility to our leaders. So that sometimes they think of the founders, someone who's going to be micromanaging everything involved in all aspects of the business. And people, I think, are surprised when they come here to realize that I think part of the reason we'll be able to keep Melody Hobson here is that from the very beginning, early on, I just kept giving her more responsibility. things that she owned that she could feel proud of and get excited about and make decisions on her own and not have to run everything by me to the nth degree. And then as now that she's president, she runs all the non-investment parts of the shop and allows her to pick her team and negotiate the real estate lease in New York and whatever,

all the different things we have to do. And I'm not looking over her shoulder and second-guessing her judgments or her decisions. Arnie Duncan worked here for six years before he became a school superintendent in the city of Chicago, and we allowed him to create the Aerial Community Academy of small public school that he thought that was the thing to do, and we teach financial literacy there, but we kept Arne here for a long time because he was able to find creative things to do that he could own and be proud of, and things I would have never thought of on my own. It was like, Arne and his sister thought of this idea of the school. We got an I-Hive-Dream class, and we did all kinds of things like that.

So a long way of saying, how do you give people freedom to find things that are exciting and that they can own and feel really good about accomplishing success within those spheres that they own? What's the I-Hive-Dream class? That was where you adopt a sixth-grade class from an inner-city urban school and promise to help those young people get to college, basically, and make sure the college is affordable for them. And so it's a very enhanced nurturing program for one specific group of students. Eugene Lang made this famous in New York City.

He created the first I Have a Dream program, and it became kind of a national program. Arne decided that starting in sixth grade was too late, and that's why the Aerial Community Academy starts in kindergarten. And it's 20 years old, and as I mentioned earlier, we're teaching kids about the stock market there and giving kids real money to invest. And it's kind of fun. So you have done a tremendous amount in the community. in all sorts of different ways. And I'd love to hear about those endeavors through the lens of kind of investment

and rate of return. So you've dabbled in a lot. And I'm curious what one or two things or categories of things when you're trying to give back to the community have had the highest sort of rate of return on your time or investment areas that others that are interested in

in giving back to their communities that there's a lot of bang for the buck or a high rate of return on your time. What has really stood out of all the things you've done. One I already talked to, the volunteer work for Princeton and for the lab school is just made, it makes me feel great to be a part of those families. But the rate of return has been amazing because of all the gifted people that have ended up here at Ariel that have made us a better firm that I met through my volunteer work at Princeton. I mean, I met, as I said

earlier, I met Melody as a volunteer helping to make sure she got interviewed for Princeton. And she's now our most valuable player and, you know, our president of our company. So I can't, those things have just been clear have been extremely important. The other parts of where, you know, I've been active politically and some of the best experiences in my life have been involved, being involved, you know, helping a progressive candidate being the finance chairman for Carol Mosley Braun when she became the first African-American woman in the United States Senate's history, you know, and to feel like you were a part of that in some, you know, small way, the memories are just magical. And similarly, you know, getting to co-chair the Illinois Finance Committee for President Obama in the first term and then getting to co-chair the inauguration, the fact that you feel like you were a part of this team that helped, you know, Barack Obama become President of the United States was just magical. But then the experiences of, like, you know, walking on the stage as a co-chair of the inauguration and getting introduced with my daughter, you know, two million people out there. And getting a chance to go to Camp David or hang out at the White House a little bit and just see you with that world. It was just such a great return.

You know, it's just something you'll never forget. You feel like you're part of something special. You're part of a special team. Hopefully you're making a contribution for the country. But then you end up with these memories that you could never replace. You know, to see my best friend Arnie Duncan get to be the Secretary of Education and go visit with him and hang out with him. and see what that life is all about. And then the final area where it's been fun

is that, you know, I've done a lot of volunteer work like being a trustee in a Chicago and Princeton and other places and then getting to be on the investment committees. So being on the Princeton Investment Committee, I got to meet Daniel Conneman when he came after he won the Nobel Prize to talk to the Investment Committee about behavioral finance. You know, it's like, wow, I'm learning about this firsthand from this genius that if I wasn't volunteering for Princeton,

and I would have never had a chance to meet Daniel Kahneman and learn all about behavioral finance from that perspective. And then to be involved with University of Chicago and then get to know Toby Moskowitz and Dick Thaler and other Steve Kaplan and other people who've thought deeply about the investment world and how to be better, how to be better investors. And then to be on the investment committees

with other leading investors who are running private equity firms, running hedge funds, running quaint shops, you know, from AQR to, you know, some of the biggest firms in the world, So you're learning about their thoughts on the markets and their thoughts on the world. And you can then compare yourself to them and figure out what you need to do better and, you know, how you can try to emulate or learn from those folks. So all those things come from being a volunteer.

Which sometimes people criticize, geez, John, you're so active. You know, you're not sitting at your desk. You're at that investment committee meeting. I was like, wow, I'm here with Daniel Kahneman. Like, where else should I be, you know? I'm always struck by the non-linear payoffs of networking. And you've mentioned Melody Hobson a few times where that's one person who's had an enormous impact on your life, on your firm, that I'm sure there's lots of other people who are great, but didn't have that sort of impact. So there's this undercurrent, and a lot of your answers of the power of network.

And that building a quality effective group of people is maybe the best investment that you can make. certainly on the business side, but also on the investment side because of who you get exposed to and their ideas and how they might shape your thinking. One of the things that I'm interested in, especially given how much leadership you've shown on this issue, is the problem of underrepresentation of women and minorities in the financial services space. I don't know all the stats. I know the New York City one because that's where I'm based. But I think it's something like maybe 8% of financial services professionals are minorities, even though it's 16% of the general population. So a huge underrepresentation. I know you've done a lot, but looking back decades to today, what, if anything, has gotten better? Has it gotten better?

And what can we do collectively as a financial services community to make it better in the future? Well, I think the first part of the answer is things have not gotten better. You know, here in Chicago, there's still the major private equity firms. I've never had an African American professional or Latino professional, let alone partner. You know, it's kind of like baseball in 1940. It literally is like that. Some of the major investment banks have 200 partners. There will be one African-American.

You know, again, very few female. Ukraine and Chicago business did a cover story on the private equity world and the lack of female representation. It's just in lack of partners. It's embarrassingly low. Again, it's similar in investment banking. It's similar in hedge funds. Things have not gotten better.

And in some ways, they've probably gotten worse as so much of the wealth and jobs and influence in our society comes through financial services in these specific areas of, again, investment banking, hedge funds, private equity, et cetera. So at Ariel, though, what we try to do is, like my friend John McArthur, who said, you know, you shouldn't admire the problem, you should try to figure out solutions. So one is this idea of being a model of how financial services companies

can partner with urban public schools. We think that if we get actively, engaged and involved with public schools. Not only are we teaching kids financial literacy, which is important, the kids get to see us in our day-to-day work worlds and start to think about financial services careers. So we have two full-time employees here now who I got to know when they're 6th, 7th, and 8th grade at the Ariel Community Academy,

and now they're here full-time after spending a summer internship here. And we think if all financial institutions did that kind of thing, there would be much more diversity in their executive ranks. The second thing we've done is a relatively new thing. I gave a gift to the University of Chicago where minority of students are now going to have paid internships in endowment offices. So the University of Chicago has agreed already to have four of our interns work in the endowment office.

And we're hoping they'll be at the MacArthur Foundation and the Ford Foundation and other universities and nonprofits throughout the United States. And a lot of these minority students might have come to the University of Chicago thinking about careers in law or maybe they were going to be a traditional banker or go to medicine, but now as they get exposed to this world or the endowment world, maybe they'll think, well, maybe I'll be a career and try to become the next David Swinson. Or they'll say, once I'm in there at the endowment office, maybe I'll learn about hedge funds or private equity and make a contact and a networking opportunity that will lead to a career

in financial services that wouldn't have happened otherwise. So I think that's what we can start to do is we need to create opportunities where kids get exposed to these careers at an early age. And then final thing that we have to do, and we have to do this ourselves, is, you know, we've got to ask, if we're on an investment committee at a university or a museum or a hospital or you're on a corporate pension plan, to ask your advisors about the lack of diversity. Because if the customer asks, then all of a sudden those institutions will start to look more diverse. If the customers don't ask, it doesn't change. And so I think that that's the other part of it. You know, got to have more supply, but we also have to have the demand side that often people forget about.

And that's critically important. I really want to highlight that last one, because we have started to hear that. Literally, I heard it presenting to a board of a client of ours within the last two weeks where they were very curious looking through our org chart. They said, okay, we want to get a sense for your diversity, your people, and hear very deliberately how you think about it. And we think about it a lot. But hearing that from directly from the mouth of sitting across the table from a client is really impactful. And to the extent there's anyone listening that is in that capacity that's an allocator or on a board that's allocating money, I think that that is probably something that's not really talked about as a way of improving this problem,

but one that is very clearly effective. So all really interesting stuff. I wish there was more to do. But I think what I take away from your answer is that you just need to do it yourself. And you can control that very directly if you're running an asset management or a financial services, any business. And hopefully that model can spill over. But it's disheartening to hear you say that it hasn't gotten better because it's been a long

time. And so something's busted about the system, something I need to think more about. Turning to a totally different topic, this is a question I ask everybody because it always leads to an interesting answer, unexpected answer. If you had to identify the individual most memorable day, one day of your professional career. What day would that be? From a professional career day, geez. Well, I mean, clearly the

day I remember most was when the stock market crashed in 1987. I was actually at my wedding planner, planning on my first wedding, and we're getting these calls constantly that the market was collapsing. And, you know, and I remember at the time thinking that, you know,

Warren always said you want to buy when there's maximum pessimism, and or, you know, John Templeton talked about the same thing. I guess John Templeton said that. You know, you want to when there's maximum pessimism and Warren always said you want to be greedy when others are fearful. So I was trying to execute that from the wedding planner's office. We got to be, you know, buying. I think another memorable day, though, except, you know, it was this, you know, after the president got elected,

he spent three days here at Ariel. We were the temporary transition headquarters. So that first day after the celebration in Grand Park to walk into our little offices here, Ariel, and the president of the United States is starting to form the government. and working out of our offices that morning, I think that's something that all of us here to Arrow could never forget. And it's kind of psychic income. You're talking about how do you try to make a place fun

where people want to come and stay? I think people remember that. This is kind of like a little bit of a special place. Doesn't happen to every, you know, LaSalle Street or Wall Street firm. That must have been totally surreal. What a cool experience. The other common question that I ask everyone is, what is the kindest thing that anyone has ever done for you?

You know, I think that those early, There were people who really looked out for us. And so Cecil Partee was the city treasurer at the time and he gave us our first million-dollar account. And here I was 25 years old and he didn't have to do it, but he had influence over the city of Chicago pension plan and he told my parents, I'd go into grade school with his daughter. And he said, I've been waiting for someone like John to come through the door and hoping

I could be helpful to someone like John getting going in this. business. And so that's probably one of those best, best memories of just sort of real kindness that helped us to make it to another level. For people that are early in their career looking forward now, what excites you most about markets or what's changed, you know, the huge trend being the rise of passive investing, which all of us active managers spend a lot of time thinking about and answering questions about? So I won't ask, I won't ask you your thoughts. But what excites you most, what dynamics or aspects of change, whether it's in our business or in markets or in industries, has you most used, what's got you coming into the office excited every day?

You know, as you, we talked a lot about, you know, my coach, Be Carrill, and when I got to Princeton as a recruit, as a very minor recruit, number 15, I was convinced at the time that I wanted to be a basketball coach. That was going to be my life's work. And the coach of The Bulls during those early years, Dick Mata was another role model. So I like coming to work every day thinking about how I can coach the team and that it's so much fun to be hiring these dynamic young people and sort of pulling them together and getting people to where they need to be or trying to help them get where they need to be.

And teaching, coaching, preparing. That's the fun of it for me, you know. And I really do love it. I feel like I'm getting back to what I always wanted to do. It's just doing it here and not within the... The basketball world. Yeah, so that's what I love. That's what I look forward to.

How did you, in doing a little bit of research for this, I stumbled on a video of you playing Michael Jordan one-on-one and beating him, which I'm sure does not happen all that often. So how did that little scenario come to be? I always like to try things. So these fantasy camps, as you know, have gotten quite popular around the country. And so Michael Jordan had this senior flight school fantasy camp for campers over 35 years old. and best coaches in the world would be there,

you know, the Mike Shoshchevsky's of the world, and, you know, Roy Williams, and, you know, everyone you can think of was there coaching. And one day each year at the camp, he would challenge any camper to a game of one-on-one. They were very short games. They were to first person to score three baskets would win. In the first seven years of the camp,

no one had ever beat him. I think through, obviously he's so much better than everyone else, but also people would get intimidated. You're in front of the whole camp, here playing the greatest player that ever lived. And I think what happened was, for me, two things. One was that he was very tired. He'd played and beaten about 20 campers by the time he got to me.

And he was overconfident because he'd always... Right. He'd always won. So he'd let people get a couple baskets. And then the final thing was I was always, Coach Curl said, even though I had no vision and I couldn't see, I was a good one-on-one player. And I could make tricky spin shots with either hand.

And so I used one of my favorite trick. left-handed spin shots, and you can hear him on the video say, oh, no, as the shot is just about to go in. And he just misses blocking it. So it was one of those memories of a lifetime. Two little funny things from the video, so the spin shot for sure, but sort of this mid-air, like, box check, because he's obviously huge, right? That was really effective. I think you might have done it on all three. And then what made me laugh in the video was he asks you what hand you are, And you say right. And he says,

oh, you should never give up that information. Rookie move. Then you beat him. What a fun little episode. Yeah, a lot of fun with it. A lot of YouTube visits.

I run into people on the street who say they saw the video. Well, a fun place to end. This has been really fascinating. Learned a ton. So thank you so much for your time. I really appreciate it. It's been a wonderful interview.

Thank you. Hey, everyone. Patrick here again. To find more episodes of Invest like the Best, go to investorfieldguide. com forward slash podcast. If you're a book lover, you can also sign up for my book club at investorfield guide.com forward slash book club. After you sign up, you'll receive a full investor curriculum right away and then three to four suggestions of new books every month. You can also

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