Motley Fool Hidden Gems Investing - Gut Check Time for Investors

Episode Date: May 2, 2022

Just because it's been a rough start to 2022 doesn't mean the market is automatically going higher the rest of this year. (0:20) Jason Moser discusses: - Why right now is a gut check for every investor - What recent history says about the Nasdaq falling in the first 4 months of the year - The types of businesses he's looking to invest in right now (15:20) Matt Frankel spent the weekend in Omaha, Nebraska at "Woodstock for Capitalists". Ricky Mulvey talks with Matt about his biggest takeaways from the Berkshire-Hathaway annual meeting. Stocks discussed: PYPL, JNJ, HD, LOW, MKC, BRK.A, BRK.B, PGR, CVX, OXY, ATVI, MSFT Host: Chris Hill Guests: Jason Moser, Matt Frankel Producer: Ricky Mulvey Engineers: Dan Boyd, Rick Engdahl Learn more about your ad choices. Visit megaphone.fm/adchoices

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I want Comet dead. Starring Tom Hardy, Pierce Brosnan, and Helen Mirren. Do I have to do everything myself? You want more? I'll give you more! Mobland, new season hits September 18th We've got highlights from the Berkshire Hathaway annual meeting and advice for any investor who's a little nervous from the last few months. Details next. Motley Fool Money starts now.

I'm Chris Hill and I'm joined by Motley Fool Senior Analyst Jason Moser. Happy Monday. Happy Monday. Happy May. Happy May. Thank goodness we're out of April. Just flying right by. I speak for investors everywhere when I say, thank goodness we are out of April. Matt Frankel is going to be on later in the show. He was at Berkshire Hathaway's annual meeting over the weekend in Omaha, and he's going to be sharing some thoughts and takeaways from that. But just real quick, I know you weren't there, but I know you saw some of the coverage. What's something that struck you coming out of the Berkshire Hathaway Annual Meeting?

Yeah, I wasn't there. I think a couple of things. I did think it was pretty interesting, the whole Activision Blizzard angle. You just don't really think of Buffett as the arbitrage investor, but I just thought it was noteworthy that they've accumulated close to a 10% stake and Activision Blizzard basically looking at the Microsoft deal. You would assume that building that position, they think it's a sure thing. But it was neat to note all of the unknowns versus the one known. He's like, we don't know what regulators are going to do, we don't know what Activision Blizzard is going to do, we don't know this, we don't know that, but we do know one thing. We know that Microsoft has the money. I just thought it was neat to hear his take

on that and to see that he was taking a little bit of a, you can call that a short-term approach. That's not really a buy-and-hold type of thesis, but he still got a little spring in his step, which is pretty neat to see. But I think really what strikes me in what we were talking about this morning. It's just the discussion of the market today, how technology has changed everything, platforms like Robinhood creating the gambling parlor type of environment, those sentiments they expressed there, and Charlie Munger, I think, particularly. But the gambling parlor sentiments, clearly, they rubbed somebody the wrong way in Robinhood because Robinhood felt so compelled to respond with what was a head-scratching response. I'm not sure how

they don't allow day trading. It feels like that really is their clientele. Maybe there's some technical definition that they're referring to. They said they don't allow shorting either, and perhaps they don't. Maybe you just get around that by option strategies or whatever. But like it or not, technology has changed everything. And I think if you think that speculating and meme stocks and all of that stuff are just going to pass, I'll take the other side of that bet. Because typically, you can't really put that toothpaste back in the tube. Those platforms are here to stay, and they scratch a certain niche for a certain demographic of investors out there. But I will say, of course, I don't agree with that

gambling mentality when it comes to investing. I don't think it's going to go away, but I do think that it does offer some opportunities for investors taking a longer view. You hear that saying, sometimes people say volatility is your opportunity. I do think that there is something to that. Let's talk about the market, because April was the worst month we've had in a while. Year-to-date, the Nasdaq is down 22% and saw an interesting stat on, really a set of stats on Twitter that I wanted to get your thoughts on. It was basically someone looking at, well, okay, over the last 30 years or so, what are some of the bad starts to the year for the Nasdaq? NASDAQ. 2005, through this point, down 12%. 2002, down 13%. 2001, down 14%. The second

set of stats was, how did the rest of the year go? Which I found pretty illuminating because 2005 through the end of April, the NASDAQ is down 12%, but ends the year in positive territory, up about 2 percent. In 2001 and 2002, it just kept going down. 2001 ended down 21 percent, 2002 ended down 31 percent. I'm not asking you where you think we're going from here, but do you think this is, among other things, a gut check time for investors? I do. I think that first and foremost, if you are an investor and you've made it to this point here, it's obviously been a very difficult year for a lot of us. If you've maintained your composure through this, if you've stayed invested, if you've not been

scared away, hats off to you. Give yourself a pat on the back because that's really important. I'm not kidding at all when I say that. These are the types of stretches that make us as investors. They're difficult to go through at the time, but then you look back on them a year from now, two years from now, five years from now, and you remember them vividly. They make you better. I think you need to keep that in mind because this too ultimately shall pass. Now, how long it takes to pass is anyone's guess. The statistics you mentioned there, I think, are enlightening. I think that they really speak to why I and I think a lot of us believe that instead of focusing on trying to predict the future, let's just prepare for the future. There are a number of

different ways that you can do that. You can remain invested, you can make sure that your portfolio is diversified. If you have been focused on building that growth stock portfolio over the last several years, because really that's been like shooting fish in a barrel, everything has just been going up. Well, now you're starting to realize that doesn't last forever. Maybe this is a good wake-up call for you to make sure that your portfolio is diversified with some of those sleepier ideas that maybe don't feel quite the same pinch during stretches like this, even though it seems no one really is immune. When you look at the situation today, there's a lot of uncertainty going on in the world. It's not just interest rates here

domestically. You've got all this stuff going on in China with lockdowns. You've got Russia in Ukraine with seemingly no end in sight, and that's playing out on global supply chains as well. Then you top it all off with everything that's going on here domestically regarding inflation, regarding interest rates. I think that one thing looks pretty certain, and that is that at least here, it's reasonable, I think, to expect that we are going to continue to see the Fed tightening our monetary policy. It seems like that's a given. Now, the pace at which they go, it could be anyone's guess, but it sure feels like they're really trying to get ahead of this because there are a lot of accusations of them being a little bit slow to the draw.

With all of that in mind, I do think it's worth looking at the types of businesses that you want to own and understanding that. I was thinking about this over the weekend. When we look at a lot of these businesses today, it seems like all these businesses are on sale, but I divide this into two buckets. We've got all of these businesses that have been trading, they've been valued at this 20, 30 times sales multiple. Remember, we talked about this for a few years now. It seems like 20, 30 times sales just became the new normal. Even if you're a business that didn't make a lot of money or made no money at all, well, you're still being valued at 20X to 30X sales because the future was so bright and money was so easy. Now we've got a little bit of a

different set of economic conditions. Now we're seeing that 20X sales isn't normal. It never really was, but now it's starting to make more sense as to why. We see a lot of these growth type companies that maybe they aren't profitable yet, but they have a lot of potential. We've seen those valuations pull back considerably. They've gone from 20 times sales to 10 times sales. They're objectively much stronger businesses than they were two years ago. You have this much stronger business, but you also have to remember that current economic conditions and future economic conditions are going to be a lot different than the previous economic conditions that these companies were being valued on. What is the new normal? If it's not 20 times

sales, what is it? I don't know. We have to figure that out. That's going to be a little bit of a wait and see. But then I think on the other side, you get this other bucket of companies out there, there are a lot of really fundamentally strong sound businesses that make a lot of money, that have historically been doing it for a long time, that are now being valued on a very class half-empty perspective. One that just stands out is PayPal to me, a business obviously that we cover a lot here, a business that you could argue is fundamentally much stronger today than it was two years ago and even five years ago. Now you've got this business that is valued at something like 28 times trailing earnings and around 22 times full-year earnings estimates. Historically

speaking, that looks like a really opportunistic window to consider buying these shares. In the sake of transparency, Chris, I will say that I recently added shares to my PayPal position. But again, you have to go back to that stock was being valued that way in a different time, in a different economic environment. How should we value those shares in this future economic environment? Maybe not quite as optimistically, but you still have a very established proven business with a massive network, and some really strong secular tailwinds in the way that money is being moved around. It's all to say that it feels like the risk-reward scenario out there is really in the favor of a lot of these well-established, profitable, cash flow generating

businesses. I think that while it's perfectly reasonable to keep your eye on some of those growth stories that have really pulled back, I think it's also really worth looking at a lot of those well-established businesses that are seemingly trading at some very attractive prices today. I want to come back to the well-established businesses in just a second, but let me just add one more stat. This goes to something that you touched on. I think a lot of us have been talking about, particularly the last few months, which is the value of patience. Because if you haven't packed your patience as an investor right now, go to the closet, get it out of the back, dust it off, and pack your patience. I mentioned those stats about

the Nasdaq. You go back to the beginning of 2001 and where the Nasdaq was, and I mentioned fell 21% that year, fell 31% the following year. It took six years for the Nasdaq composite to get back to the same level that it was at the beginning of 2001. From January 2001, it took till the end of 2006 for it to get back to that same level. So as you and others have said, stocks can always fall further over the long term. And the longer your long term is, the better off you're going to be. But over the long term, it's definitely the place to be. In terms of well-established businesses, I find myself increasingly looking towards companies that were established before this century. And it's not a knock on the PayPals of the world, because

I am a PayPal shareholder as well, and a firm believer in the future of that business. But when I think about adding new money, the environment we're in right now, I find myself looking at businesses like Johnson & Johnson, nobody's idea of a fast-growing company, but about as stable as they come, and the home improvement businesses as well, Home Depot and Lowe's. Yeah, I agree. Again, I won't necessarily draw that line at 2000 and saying earlier or later, but I think your point is right on with what I'm thinking as well, and that's just that there are so many really, really good businesses out there that play such an important role in our lives every day that have been around for so long. When you can find

businesses with those well-established track records, use Johnson & Johnson as a good example there because maybe it doesn't light the world on fire, but you know what? The older you get, the more your investing strategy needs to evolve. One thing I start to think about more and more as I grow older, is I start looking towards some of those dividend-paying stocks. I'd like to build out a dividend dynasty corner of my portfolio so that when I'm 65 years old, I've had the opportunity to accumulate a lot of these great dividend payers through the years. That's why I own companies like McCormick. I think that Johnson & Johnson, it was something their 60th straight year of raising their dividend or something. Look at those dividend aristocrats.

Lowe's is a dividend aristocrat. Home Depot is not, but I have a feeling they'll get there eventually. Home Repair, to me, is just one of the most attractive markets out there. The only thing that really disrupts it, I think, is its deliverability. We all wondered, was Amazon going to stick it to Home Depot and Lowe's? Well, they tried and you know what? Didn't work out so well. We've got a little bit of history to go on here that those are two very resilient businesses that play in very attractive markets. Good weather, bad weather, inflationary times, non-inflationary times, and they pay you some healthy dividends to boot while you hang on there. No, they're not going to light the world on fire on the capital gains side, but you're going

to realize some health capital gains along the way. The longer you own them, the more sense it makes. Jason Moser, appreciate the perspective. Thanks for being here. Thank you. Our man Matt Frankel was just one of the tens of thousands of people who went to Omaha, Nebraska this past weekend for the annual event dubbed Woodstock for Capitalists. To get some of the highlights, here's Ricky Mulvey. This weekend, Matt Frankel went to the Berkshire Hathaway meeting down in Omaha, Nebraska. Matt, great to see you. I hope you had some fun down there as well.

It was a very busy weekend, and I am now back on the East Coast, but it was a great time. Well, I think the biggest theme from the meeting is that Warren Buffett, Charlie Munger, they've famously been selling stocks for the past, I think it's been more than a year now. Now, they're back to buying. They're putting money to work. Was that the big headline from the meeting? Yeah, I think that was the biggest takeaway. The whole Buffett mentality is to be greedy when others are fearful. We just heard Buffett's annual letter on February 26th, I believe. At the time, he hadn't bought much in 2022 at all. Pretty much in March, Buffett put over $50 billion to work in the stock market. Some of it we knew about,

Occidental Petroleum, he boosted his stake in. HP, he initiated a pretty big position in. But a lot we don't, and there's a lot of billions that we won't know what he bought yet until regulatory filings come out later this month. But that's really the big takeaway. He's been a net seller of stocks, starting when he sold the airline investments in the early days of the pandemic, but continuing pretty much every quarter since then. He's been a net seller of stocks, and now it looks like he's finally seeing some opportunities to put serious money to work. Yeah. He mentioned at the meeting that there were a couple of German companies that he's been buying. I don't think he name-dropped them specifically, but the big companies

that he's been putting money into are Chevron, Occidental Petroleum, Chevron, ticker symbol CVX, Occidental OXY, and HP. Let's focus a little bit on the energy companies, though. Why do you think Berkshire is putting so much money to work there right now? There's a criticism that, essentially, why is Berkshire investing in fossil fuels? Green energy is coming. Here at the Berkshire meeting, they're saying that they view this as an alternate to Treasuries. Until this quarter, at the end of 2021, Berkshire had about $140 billion in cash, essentially sitting in Treasuries, earning next to zero returns. Chevron, just to name one of those to. Chevron pays a little over a 3% dividend yield. In that way, it's a definite treasury

alternative in that it's actually producing some income for Berkshire. But Buffett and Charlie Munger have both said that fossil fuels will still be part of the energy landscape for, say, 200 years. The reasoning essentially being that while things like solar and wind and alternative energy sources are certainly growing in popularity. World energy demand is growing even faster and is forecast to continue to do so. Fossil fuels will meet the need of the population. Although alternative sources like solar are going to be taking a bigger and bigger piece of the pie, the pie itself continues to grow over time and fossil fuels will still play a big part in it. and they're not making any more oil. So it's a finite resource and it's kind of a supply-demand

play over the long-term is how I see it. Berkshire makes its bread and butter in the insurance business. A bit of a rough time going for Geico. They're seeing a higher volume of claims and more severe claims. The first part of the question is, what does this mean for Berkshire and its insurance business? And then maybe we can move on to, if there's trouble for Geico, what's that mean for the smaller insurance tech companies that rely on reinsurance? Well, the higher claims volume from Geico is to be expected. And the reason I say that is that's compared to the first quarter of 2021. What was going on during the first quarter of 2021? A whole lot of COVID lockdowns. What wasn't going on during those COVID lockdowns? People

weren't driving. So there were a lot fewer chances to get in car accidents and chances to create claims during the first quarter of 2021, which is why Berkshire's underwriting profit from Geico during that first quarter was just off the charts last year. It's really not a fair comparison to compare the underwriting profit in Geico to the first quarter of last year. But to the second point of that question, what does it mean for smaller insurance tech companies? A lot of those smaller insurance tech companies, I don't want to name any names, we talked about this on the the morning show today. They haven't gotten underwriting correct yet. So a lot of them are posting big, unsustainable losses. And Geico has been doing a good job of technology disruption

itself and has gotten underwriting correct. They didn't run a giant underwriting profit in the first quarter of 2022. Like you mentioned, they were facing a lot more insurance losses, but their underwriting was still profitable. A lot of the smaller insurtech companies can't say the same. So with a high inflation period coming up, it's not an ideal environment if any of them need to raise more capital. This is a time I would advise people to tread carefully with the smaller insurance tech companies. Especially insurance companies that like to see themselves as technology companies more than insurance companies. Right, because there absolutely is a need for insurance technology, especially on the claim side. There's a lot of things that the big

insurance companies don't do well. I joked this morning that for a lot of people, dealing with the insurance company is worse than being in the accident. And that's only half of a joke because a lot of people have real trouble getting their insurer to pay the claims. It's a really clunky process. So I could definitely see a big opportunity there. But at the end of the day, these are insurance companies and you got to get underwriting correct for it to be a viable business model. Now, if you tell me if one of these insurance tech companies wants to develop software that's going to be used by Geico, by Allstate, by Progressive, all these other big ones, great. That sounds like a fantastic business because it's really needed. But when they're

developing the software and writing their own insurance products, that's when it becomes a little bit more of a toss-up when it comes to the long-term thesis. Well, when life gives you lemons, we'll see what you can make. Berkshire Vice Chairman Ajit Jain said, quote, there's no question that recently Progressive has done a much better job than Geico, both in terms of margins and in terms of growth. What is Progressive doing differently than Geico and Berkshire right now? This kind of goes toward the last question of the need for technology disruption in insurance. Progressive was much earlier to the party than GEICO when it came to embracing technology.

Specifically, you know how a lot of auto insurers are tracking their customers' driving behavior? I think one of them calls it the safe driver discount. If you could show you obey the speed limit, you have safe driving habits. Progressive was a lot earlier in embracing that technology, and now it's really showing up in their numbers. One big headline coming out of the meeting, too, is that the famous longest of long-term investors are seeing an arbitrage opportunity in Activision Blizzard. What was the buzz around that and what's going on with Berkshire's purchase of 9.5% of Activision Blizzard stock? Well, Buffett had been a notable arbitrage investor before Berkshire Hathaway. Back when he was like 40 or 50 years old, not 90,

he was a big arbitrage investor. Essentially, he's trying to profit from the difference between the price Microsoft has already agreed to pay for Activision and the price that it's currently trading at. And this definitely makes sense. This morning, Activision was trading in the pre-market for about $77 a share. Microsoft has agreed to pay $95 a share when the deal goes through. So, if that deal gets approved and Microsoft buys Activision, Buffett stands to make a spread of $18 per share. And for 9.5% of the company, that's a lot. So, the issue a lot people are taking is that it seems like a gamble because what happens if the deal doesn't go through? The stock will almost certainly drop if the deal is called off. Another issue is that

Buffett used the word bet when he was describing it. He said this is a bet that the deal goes through. Yes, but it's a bet where the chances are very much in his favor and where he has what I call a long-term out if it doesn't go through. Because if it doesn't go through, the day before they announced the Microsoft takeover of Activision, the shares were trading at about $67. He sees a worst-case scenario, it'll go back to somewhere around that level, and he owns 9.5% of Activision, which is a great business. Yes, it's somewhat of a bet in terms of the short-term upside, but I think they see a lot of long-term upside even if the merger doesn't go through. Owning almost 10% of a great company is great whether it's being bought out or not.

So, I think that's kind of where Buffett's head is at with this move. Heads, I win. Tails, it's a tie. Berkshire started buying Activision stock in the fourth quarter of 2021. Microsoft announced their bid to acquire Activision in January of 2022. Do you think that's raising any eyebrows? Well, it did raise some eyebrows. As soon as the merger was announced, Buffett came out and said, we had no prior knowledge of the deal. out of that, something like 80% of the Activision position has been bought since the deal was announced. That really took away any rumors that Buffett had prior knowledge, because the stock really didn't pop to anything close to that $95 level. That raised eyebrows at Berkshire,

like, why isn't this trading it more? Microsoft has the cash in its back pocket to buy this tomorrow. It's a good business, like I said. It did raise some eyebrows, but I think what he said this weekend at the meeting got rid of those. We could spend some time on Bitcoin as well, but shockingly, Charlie Munger and Warren Buffett are not big fans of cryptocurrency. I think we could move on and ask you, what kind of fun did you have outside of the meeting, and were you able to meet up with any Fools? I did. One I specifically remember is a handle on full live is Indiana Chris came in and met up with some of us. I tweeted when Bill Murray was giving an interview, I tweeted from there. And I think he figured out from the tweet where I was

and came and found me. And he came and said hi to the rest of the morning show crew. As far as other fun in Omaha, I did the Berkshire Owens Brooks running. I did the Brooks running 5k the next morning that they have every Sunday after the meet, you know, the Sunday after the meeting every year. I did my first 5K without having to stop for a walking break. It's nice when at almost 40 years old, I can still surprise myself like that. Congrats, man. Thanks. Well, good catching up with you and glad you had some fun in Omaha this weekend. Always fun to be here. If you want to start planning for next year's Berkshire Hathaway annual meeting, The date to save is May 6th, 2023. As always, people on the program may have interest in the

stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. I'm Chris Hill. Thanks for listening. We'll see you tomorrow.