We Study Billionaires - The Investor’s Podcast Network - TIP 118 : Mastermind Discussion 4th Quarter (Business Podcast)

Starting point is 00:00:00 We study billionaires, and this is episode 118 of The Investors Podcast. Broadcasting from Bel Air, Maryland. This is the Investors Podcast. They'll read the books and summarize the lessons. They'll test the waters and tell you when it's cold. They'll give you actionable investing strategies. Your host, Preston Pish, and Stig Broderson. Hey, how you all doing out there?

Starting point is 00:00:30 this is Preston Pish, and I'm your host for The Investors Podcast. And as usual, I'm accompanied by my co-host, Stig Broderson, out in Seoul, South Korea. And today we are accompanied by our good friends in the mastermind group. We got Ari Ramachandra, who's with us. He's out in Silicon Valley. He runs bitsbusiness.com. He's also an executive over at LinkedIn. And we have Toby Carl Lau. He's from Carbon Beach Asset Management. The Acquires Multiple, author of Deep Value. Toby, great. to have you here with us. Hari, great to have you here with us. We don't have Colin with us this week. He ran into a little bit of a scheduling conflict, but he'll be with us next quarter's mastermind meeting. And so we're here to talk about the fourth quarter and what's changing. I think there's probably a lot for us to discuss here. So I'm just going to open it up to the group and see if anybody has something that they want to say to kick things off. Yeah, so one thing that was really surprising to me here in Q4 of 2016. That was Warren Buffett's latest purchase in the airline industry. And I guess for everyone that's been following

Starting point is 00:01:34 Warren Buffett for some time, he would say that Warren Buffett and airlines, that really doesn't make any sense. So I need to tell this, because Warren Buffett really got burned with an airline investment in the 1990s. And back then, he actually blamed the industry for notoriously having low profitability. He vowed not to invest in the death trap sector again, as he called it. So I think whenever I heard that, I was like, for someone who's been saying that about the industry, he's even called himself an aeroholic that set up a toll-free number for himself he could call to talk himself out of such temptations. It didn't make any sense to me at all that he would be investing in airlines. So one of the things I did was I had the chance to speak to Toby about

Starting point is 00:02:24 this. And this was something that was really, really cool because Toby was not surprised at all. So with this introduction, Toby, could you perhaps share with the audience why you weren't surprised at all that Warren Buffett bought into airlines? So Acquire is multiple. The site has a screen that just lists out in various different universes, the cheapest companies in the US. And in that screen for a long time, I had seen out of 30 stocks. It was Alaska, Delta, United, Southwest, and something else that escapes me right now, spirit or something like that. And I had been asked about it. I spoke in New York at Nyser maybe four or five months ago and somebody asked me about the fact that there were all of those

Starting point is 00:03:08 airlines in and would I buy them? And I said the quantity is compelled to buy them, but I don't know that the special situations go would necessarily buy them. But they have a lot of interesting characteristics. They do have a lot of cash on the balance sheet. They have got offsetting debt and they're kind of heavily levered to oil and gas prices because jet fuels such a huge input cost for them. One thing that I fly a lot and every flight that I'm on is jam-packed. So they've got two things that are in their favour at the moment and that's low oil prices and they're very, very busy. So it always makes me a little bit worried that that's kind of closer to being peak cycle than it is to being trough cycle. And Toby, one of the things that we're seeing

Starting point is 00:03:45 in the ELR sector right now is consolidation. And you also have lower capacity. So I don't know, that's why all the planes are so cramped at the moment. But the economic textbooks would say that, well, it makes a lot of sense that if we have consolidation and we can raise prices and we have better margins. But we also had an interview with West. That was actually something we did a few weeks ago, but it has been published. And he talked about regulation, that when you see something like that, well, that might seem like a good situation right now. But if you see too much consolidation, a lot of that profit to gain that would be taken away by the regulator. So Toby, do you see any sign of that in the airline industry right now? Because I guess that would be a concern.

Starting point is 00:04:28 I'm probably not close enough to say yes. I think that the issue for them has been antitrust. But I think they're at this stage. And I wrote something about this on Twitter or my blog. And I got contacted by many, many people letting me know that it wasn't in fact. or in their estimation, it wasn't in fact Buffett who had bought these stocks, but the two guys who invest with him because they were smaller purchases and Buffett just to make the bigger purchases. I don't know whether that's sort of important or not, but they had very attractive characteristics. At about the same time, somebody else sent me an email saying Charlie Munger had been, somebody had asked him that question. His response had been something along the lines of

Starting point is 00:05:06 railways had been a really bad business while they were trying to compete vigorously with each other, but at some stage they became a much better business once the sort of the building out had stopped and it became more of a monopoly type business it became a better business and berkshire has now of course got the gigantic bnsf he speculated that maybe the same thing was happening in airlines but he wasn't willing to say yes or no to berkshire investing at that stage yeah and i think you bring up a good point to because you definitely right i mean each of these positions there are no more than one percent of the portfolio so right now berkshire Heatherway, the portfolio is $128 billion.

Starting point is 00:05:43 And for instance, the investment that they did in Delta, even though it got a lot of media exposure, it's only $250 million. So I'm happy you remember to say that, Toby, it's probably not Warren Buffett, who's being doing this, but Berksie Hathaway and Ted and Todd his portfolio managers. Hey, guys, this is Harry. Toby, we brought up an interesting point, the parallel between the railroad industry and the airlines industry and how consolidation brings. sanity to an industry. However, the question I have in mind is, does the airline industry has the

Starting point is 00:06:16 same kind of moat that a railroad has? Because in order to lay a track, there is, for each mile, there is a lot of hurdles, regulation hurdle, cost and stuff like that. But that's missing in airlines. How long do you think this sanity will loss airline industry? My favorite line about airlines comes from Richard Branson where he says, want to become a millionaire, start out as a billionaire and buy an airplane. The point is apt that it's not as moty as the railroad industry. I don't think it's quite as easy as you do require an enormous amount of capital. You do need the slots for the planes at the airport.

Starting point is 00:06:59 You need to be able to order them. It's heavily regulated and it requires an enormous amount of advertising. But then that's been the case at every stage along, you know, at least since Virgin launch. in the 80s, I think it was. And I don't think that that's changed necessarily. So evidently some people can. It is possible to launch an airline to compete, even though I wouldn't really want to do it.

Starting point is 00:07:21 I think it would be a tough ask. Very, very interesting discussion, guys. And it will be really, really interesting to see over the next few quarters, what will happen with the Berksha's position in these airline companies. But let's go on to the next topic. And, Harry, I hope you will kick this one off.

Starting point is 00:07:38 Sure, I'll be happy to. Stick, this question is based on your recent podcast with Jim Rickards, where you discuss gold. And I did some research based on the information I got from your podcast. Is gold really a good asset to hold in your portfolio? So these are the questions on my mind. And then based on your answers, I have some follow up questions as well. Yeah. I simply love this question, Harry.

Starting point is 00:08:06 And I'm going to say, like, before I even respond, like, I probably have 10 questions for you because I think it's so interesting that a lot of people talking about gold at the moment, but they talk about it in many different ways. So I think it's also important for people to understand that whenever they're listening to this and correct me if I'm wrong, Harry, but you're not talking about buying into gold at say 1160 and then sell at 1,300. You're basically looking at gold as a hedge, like a currency hats of the entire system. Is that what you're saying? You're exactly right. I'm not looking at gold as a trading position, but I'm looking at gold as an

Starting point is 00:08:46 insurance. And in fact, I did some research as I had discussed with you offline. And I recently put a post on my blog, basically summarizing all my research, I'll be happy to share with you to provide in the show notes for your audience. But what is confusing when you talk about gold is that it's a very polarizing topic. You have people who are like either passionately for gold or against gold. There's a lot of people who recommend gold also are serial book publishers. Like there's publishing books very frequently about gold. So that makes me a little apprehensive because I don't know whether they're recommending something

Starting point is 00:09:26 or they're trying to sell their books. So I'll be happy to know your thought and Toby's thought on this topic. I'm curious to hear Toby's thoughts too. Well, I know why they published lots of books about them. When I was publishing regularly on Greenbacked, anytime I put gold in the title of a post, it was worth two or three times the normal traffic. And if you can get Buffett commenting on gold,

Starting point is 00:09:46 that's the holy grail. That's like 10x the traffic. Because people want to hear what Buffett has to say about gold. And all he has to say about gold is that it's kind of a pet rock and it sits there and it looks at you. And he's not a fan. And I've done a lot of research in it, but I just don't think I can ever get to the stage where I have an edge over anybody else in it.

Starting point is 00:10:04 For me, the only edge that I'm ever going to have is in deeply undervalued stocks with some sort of corporate action catalyst. And that's a really narrow, tiny little sliver of the world to kind of make you a living. So I'm kind of an interested observer and I read a lot about it, but I don't have any view that everybody else doesn't already have. I really like that you say that because Toby, that really shows that you were a Buffett guy, right? Like you're staying within a Sherbalcombatances and you're not saying, I wish I could be the 10th best guys at Bonds and the 10th best guy at gold. Why can I just focus on deep value investing?

Starting point is 00:10:37 That's basically what you're saying. So that's a really buffy way of thinking. And I think that before I continue it in any way that gold might be a good asset class to hold, I just wanted to put it out there that's probably a good idea for everyone to stay within their circular competence. I think the discussion about goal is really, really interesting. And I think that whenever we started a part, and this is something that we have revisited a few times. I was definitely of the opinion that

Starting point is 00:11:04 gold would probably be the stupidest thing ever to invest in. I still hold that opinion. And I would like to elaborate, I still think it's not a good thing to invest in. But that doesn't mean it's not necessarily a good hedge depending on how you are looking at the world. So we primarily have listeners in the West. And being Danish, I think I have a very similar view that gold is like a pet rock or whatever Warren Buffett calls it. But the perception, living now here four months in Korea and studying the economic policies and economics in general for major Asian countries is just very evident that the perception of gold is very, very different. And Asian countries have been used to holding gold as a way of storing value, not growing the value

Starting point is 00:11:55 of anything, but storing the value because there's been a lot of good reasons because of a horrible events why it might be good idea to hold that in gold. Hybo inflation, currencies being taken back by the government, a lot of things that makes a lot of sense that you can more or less trust gold. And again, as a currency, not as an investment. Toby has a big grin on right now, so I'm very curious to hear what he has to say. So hearing stick talk then just reminded me of this post on greenbacked. Going back now to November 10, 2009, Buffett evidently had appeared on CNBC's squawk box with Becky Quick. She'd asked him about gold. And he had responded something along the lines of, you've got to dig it up out of the ground in South Africa and transport it to the US,

Starting point is 00:12:41 and you put it back in the ground in the Federal Reserve in New York. And he didn't think that was a great asset to invest in when he knows that Coca-Cola and Wells Fargo, maybe that was a bad example, but they're going to be making money down the track. They're both still here, so I guess that he was right about that. But it reminded me of this great quote, and this is Buffett, in his 1979 letter to the Berkshire Hathaway shareholders. I'll just read it out because I think it's pretty funny. One friendly but sharp-eyed commentator on Berkshire has pointed out that our book value at the end of 1964 would have bought about one half ounce of gold. And 15 years later, after we've plied back all earnings, along with much blood, sweat and tears,

Starting point is 00:13:20 the book value produced will buy about the same half ounce. So basically, very early on in his career, when he was doing his very best investing of fairly low capital base, you got 15 years of the blood sweat and tears of the greatest investor in the world and he just broke even with gold over that period. Yeah, wow. That was really interesting and really surprising. I was not aware of that for sure. You know, it's interesting your comment too about when he was making the comment in 2009 because gold did what, a 300% run after he would have made those comments? And also, like, you know, what Toby brought up kind of, you know, points to the issue with gold is that the value of gold is truly in the eye of the beholder. And it's really not possible to calculate the intrinsic value of an asset like gold, but it's basically what's the next guy willing to pay.

Starting point is 00:14:13 Buffett also has a code where he says that gold is a good way of going long on fear, but it has been a pretty good way of going long on fear from time to time. But you really have to hope people become more afraid in a year or two in order to make good return on your investment. So this shows maybe, Winston, since you said like from 2009 to 2016, gold has gone up by a huge percentage. Does it mean that there is a lot of fear in the market still, even after the stock market going up as much as it has did? Let's take a quick break and hear from today's sponsors. All right. I want you guys to imagine spending three days in Oslo at the height of the summer. You've got long days of daylight, incredible food, floating saunas on the Oslo Fjord,

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Starting point is 00:18:55 That's Shopify.com slash WSB. All right. Back to the show. In the last three years, four years, it's done really poorly. But from 2009 to when the gold hit his top, 2012, 2013-ish, somewhere around in there. It did really, really well. It had an amazing run. Now, I guess I see it a little bit differently than the way that Hari just described it,

Starting point is 00:19:19 which I've heard that description of the value of gold a lot. You know, there was a thing I read on Ray Dalio's blog relating to how he views the value of gold and how it's looked at in comparison to credit and how the central banks manipulate the monetary baseline and how they expand the amount of currency. His description of this for me was crystal clear how this operates. It made so much sense to me. So like now, Stig and I, although we've been talking to Jim Rickards and a lot of other people about how it's starting to make more sense and how the Fed's going to have to do something to expand the balance sheet during the next credit contraction whenever that happens. But between now and that point, I don't understand why somebody

Starting point is 00:20:00 would want to own it at this point. But I do understand why people would want to own it in a five or 10-year horizon, it makes total sense to me why they'd want to own it in that time horizon. So for me, I guess I'd look at it a little bit differently than the way Hari described it, but I am definitely no expert on gold, but that's how I understand it at least. Christian, I agree with you about time horizon regarding holding gold. And also, like, you know, that's one of the observations that I have, too, is Ray Dalio is the best among all the folks who talk about gold in terms of explaining. stuff about how gold is priced and the importance of gold in a portfolio.

Starting point is 00:20:41 So one of the things I want to talk about, so I had this interview with Bill Miller. I mean, legend out of Lake Mason chairman, he was managing $75 billion. And we had a podcast interview with him. And I'll tell you, he had some amazing comments with respect to the spreads when you're looking at equities, the bonds. And so right now here in December, to give everyone the date, it's the 12th of December, 2016. And the 10-year treasury is having a huge monumental sell-off, and we're at 2.4% on the 10-year treasury. But when you look at stocks, the Cape Schiller on stocks is around a 27.

Starting point is 00:21:23 So we're a little bit over a 3% return in the stock market right now. So Bill's comment to me was, hey, as long as you have, you know, call it 6 or 0.6% or 0.7% spread between stocks and bonds, he really felt like there was more to run on this. The thing that really stuck out in my head with the interview was he told me, he said, if you could get a P multiple of 35 back in 2000 when interest rates were 5 or 6%. He said, what in the world makes you think that you can't get there now when interest rates are at 3%. And for me, I was just kind of like, I had nothing to say to that. I really didn't. I had nothing to say to it. And I said, well, once we get to this parity point where let's just say equities and bonds are at parity of call it 2.7 or 3.0 and the percentage wise on the yield, then what do we see at that point?

Starting point is 00:22:21 And he wasn't so quick to buy into the fact that this thing could come unravel. And so I didn't really have anything to say. I just want to bring it up to you guys and hear your thoughts. Oh, man, I hate to be the guy to kind of throw this one out there. So I think what Bill is describing is known as the Fed model. And that's the surplus of return that you get for investing in equities over the 10 year or whatever. There's no real agreement on what the exact Fed model is. There are quite a few different models out there.

Starting point is 00:22:50 but basically it's the idea that you get more yield for investing in equities because they're riskier than you do investing in bonds because they're less risky. So the Federal Reserve loves this idea and I'll often point to the Fed model. Dr. John Hussman has actually tested it and if you look at how predictive it is. So at various times the equities are in terms of yielding much more than bonds and that's the time to buy equities. That makes perfect sense and vice versa. Then when they're not yielding very much, maybe you want to hold bonds at that stage. He's tested and he said it doesn't work.

Starting point is 00:23:21 It's not predictive. And the reason, well, not so much the reason, but the conclusion that he has drawn is that the addition of the bond rate to that question is sort of, it doesn't add any information. It sort of destroys information. All of the information that you need for the return on equities is already embedded into equities. So when equities are yielding a lot, equities tend to do very well.

Starting point is 00:23:44 When equities aren't yielding very much, they tend to not do very well. and it's not the size of the premium over rates. It's just, it's an absolute kind of measure. You can find that on his website probably from 2012-ish, 2013. But it's pretty clear that that's the case. I know Jesse Felder destroys that argument as well. He has a couple posts on it as well, Toby. You know, the thing that Bill was saying was he felt like this could turn into be a potential

Starting point is 00:24:11 bad thing with all these rates coming up if it happens too quickly. He said that's the thing that he was personally. watching was if it keeps ratcheting up as far as the sell-off in the bond market and it's happening slowly and somewhat controllably, he's like, that money has to go somewhere. And he says, and I think that people don't realize how much money that is that's coming out of that bond market and where they might not realize that it's going to go, which in his opinion was going to be the stock market. So he feels like that in the short term, he's obviously talking in the short term here. That has a lot more to potentially run in the coming months as long as that expectation continues to persist and

Starting point is 00:24:49 that the sell-off in the bond market continues to occur. That's where he thinks the money's going to go. Now, you get into the point, and this is what I was really pressing them on, is like, where and when do we get to that point where too much is really starting to be priced into the discount rates of the stocks at that point, and you really start to see a major downturn in the equity market because, I mean, you guys all know when you divide by these higher interest rates and these discount rates, it's a total massacre in the value of the stocks. So he didn't really know where that point was at. The one comment that he made to me was he said, well, look at the bond yield curve. He said, it's not flat. It's not even close to being flat. And for anybody who isn't familiar with the bond yield curve, what he's saying is that the short term interest rates are still extremely low compared to the long tail of the interest rates. which are significantly higher. He says, when that starts becoming flat or inverted, that's when it starts getting really scary. I didn't really know what to take away from that.

Starting point is 00:25:49 I mean, this guy's a freaking legend. You know, at the end of the day, he's been through a lot more than I've ever seen or dreamt about. So those are some of the comments. I'm just really curious how you guys are seeing it as well. I'm not necessarily disagreeing with what he's saying. One other thing, I was just making the point that the yield on equities in relation to the yield on bonds isn't predictive. It's not to say that the direction of the yield on bonds isn't predictive. It must be, like, as a matter of logic, it must be when you have very low yields, every other asset,

Starting point is 00:26:19 the cash flows from other assets become more valuable. When you have very high yields, the hurdle for other assets to get over is very high, so they should be worth less. That's why when you see in the 1980s with very high interest rates, it must be the case that other assets aren't worth as much at that stage. And I think Buffett has made a similar comment where he says, interest rates act like gravity on assets when they go up. It's something that I've tested a little bit. And you could find in most of history, most of modern history in the U.S. starting in maybe the 40s or the 50s, you know, you had pretty good interest rates. You had four or five or six percent. And so if your equities were yielding less than that, you could get more yield switching into rates and that was a good trade.

Starting point is 00:27:02 I want to go back to something we were talking about at the beginning of the podcast because I'm really curious about the filtering with the airline stock. I hate to bring something up again that we had already hashed out. But I'm curious, how long were you seeing these hitting your filter, Toby? How long before he made the position were you seeing these hit the filter? It was a while. It was six months. It could have been something like that. And I was looking at them feeling a little bit sick because I've been raised on Buffett as an investor. You know, I know how Buffett feels about airline stocks. And I know how I can see that the planes are full and that oil and gas is cheap. And that's the kind of thing that could trick a screen like mine that's really only

Starting point is 00:27:41 looking for super cheap things. So when you're getting six positions in the screen, now it's become a very, that's a material portion of the capital that would be committed in a portfolio to that industry. Having said that, you know, they've worked really well. So it just, every time I try to outthink the screen, it just makes me look like a fool. And Toby, it seems like it's really an industry bet that Berkshire Hathaway made. It doesn't seem to me like, because he bought into four different airline companies. And when I compare that to your screener, it's also seems like they're not necessarily going in and saying this is the one that we expect to be the winner in industry. It seems like they feel like the entire industry is undervalued,

Starting point is 00:28:22 and they're going to play that for, you know, whenever we see that mean aversion to the intrinsic value. Would you agree with that, that that is kind of like the train of thought in terms of buying into that class? Yes, in the free screener, which is the largest 1,000, I can tell you the names right now. So, and they're all clustered together, they're still cheap. The two cheapest stocks aren't airlines, but the next lot are all airlines, Delta, JetBlue, United, Alaska, Southwest, Spirit. I think that's the lot.

Starting point is 00:28:52 And Toby, what kind of yielder they priced at based on the EBIT or EBIT to the enterprise value? So they're ranging between Delta is the cheapest at 5.3, and that's about a roughly about a 20% magic formula earnings yield. And the most expensive, which is also, I think the best, is Southwest. It's on a 7.3, which is about a 14% yield. Yeah, I think it's not a bad bet, but as I say, everything's running for airlines at the moment. Yeah. And it might also be so that it's not a position they want to hold for a long time. And I know that we're talking a lot about the general philosophy, about holding a great stock forever. I don't necessarily think that's the case here. If you think about how much they have accumulated, just take Delta, for example, they accumulate

Starting point is 00:29:39 $250 million. The market cap for Delta right now is $37 billion. So it also seems like some of the positions or all the positions they're taking, unless they accumulate in those, it seems like smaller positions where they can make a profit because it's temporary undervalue, then perhaps to get out and really allocate to other equities to some later point in time. Yeah, and Stig, you're saying 250 million is the position that Berkshire took. Yes, the Berkshire, 250. So this is just for Delta. It's $250 million out of $37 billion.

Starting point is 00:30:11 So it's not necessarily, as you've seen with some of the other bats that Warren Buffett has taken in Cody Wells Fargo, Coca-Cola, and whatnot. I mean, it's somewhat easy for Berkshire to get out of this position. Yeah, and so if we're going to even put that in a further context, If we take the market cap of Berkshire, what's the market cap at Berkshire, $350 billion? Is that right? Yeah, exactly. Yeah.

Starting point is 00:30:32 So if they took a, let's just say they took a $350 million position, that'd be 0.01% of their market cap. Just so people understand the big picture here. That's how big of a position it took. 0.01% of their market cap. That's how big a position I would recommend. But it's an interesting position because I think it's, it's, it's, showing you the mechanics of how they are making their selections in a market that is very expensive. So they're still buying. The position size is minuscule compared to the 70 plus

Starting point is 00:31:10 billion that they're sitting on in cash, which is the really important position that they're sitting on because that's why they have 70 billion in cash in it compared to this $250 million position. But it's fun to talk about this. It's very interesting to see. how they're making those selections when compared to all the other stocks that are on the market. And I think Toby's assessment here is how they're valuing it is very important for people to pay attention to. So I would really love to talk about what has happened in India recently. And I just want to give some background first.

Starting point is 00:31:45 And then I would really like to hear your thoughts. So what the government decided to do is to take out the 500 and the 1,000 rupee out of circulation. And this is the two largest notes. And it's actually, just to give you something to compare it to, it's 86.4% of all the cash in circulation that you're just taking it out. You're just taking it out. And this is really big because depending on which country you live in, you might not be used to using cash. For instance, for me, as a Dane, when I think back of my childhood, that was probably called 20 years ago. That was probably the last time I feel I used cash on a somewhat regular basis. I can definitely

Starting point is 00:32:27 go a year or if not more without touching any kind of cash in Denmark. In the US, clear that's more cash-based society, but it's really nothing compared to India. Cash is used for 98% of the transactions in India. This is the number of transactions, not the total volume of all that settling cash, obviously. But that is how it works. And that was something that really surprised me. So this is a big change in the monetary system in India. So you might be thinking, why are they doing this? Why are they taking out 86.4% cash out of circulation? And there's a lot of reasons for this. One thing is that apparently there is some counterfeit money over there. And by forcing everyone to deposit what they have and to exchange that to other notes, they're basically cornering the criminals. So that's

Starting point is 00:33:18 more of the organized crime, but they're also targeting normal people, if you want to call like that, that can't really show where they got the money from because a lot of people in India, they're simply paying cash and it's not registered in a way. So by that, they're also forcing people to use the electronic system, which can be monitored. And another reason, and this was a recently read, and it might seem a bit out there, but from a macro point of you, it's really, really interesting. A lot of the cash has not been turned in. So right now, in 501,000 rupees, there were 14 trillion in circulation. 5.6 of those, they are not turned in yet. The way it works on the central bank's balance sheet is that when they're issuing cash, that's a liability. So all

Starting point is 00:34:06 the money that is not cashed in, which will be a lot in any case, they can actually write that off on their balance sheet if they want to. and have a cleaner balance sheet. So I kind of thought that was a very interesting thing to mention as well. Now, I just wanted to hear your thoughts on this. Is this a wise choice giving what you have heard? Or is it something that's really, really bad for the economy? So, for instance, the investment banks right now, they're already talking about a 0.5% lower GDP growth in India this year just because of this. How do you guys see this situation? Is it good or bad what's happening right now. I just want to say something before I throw it over to Hari because he's the

Starting point is 00:34:48 guy that I really want to talk to about this. But I think it's really important for people to understand that I think that what's happening in India right now is much different than what the Larry Summers and that whole crowd is trying to do here in the U.S. and maybe Europe and Japan with removing hard currency out of our system and just going straight to a digital currency. I think what's happening in India and that are two different things. I think what's happening in India and that are two different things. I think what's happening in India is much more centered around the idea of removing corruption and getting the currency out of the hands of people that are, how do they refer to it, Harry? Is it dark money or black money?

Starting point is 00:35:28 What are they referred to? It's called black money. Black money, yeah. All right. Go ahead, Harry. Cool. I think, Kristen, you brought up a good point. So just to give everybody a bit of a background, the current government, Narendra Modi,

Starting point is 00:35:40 his party was elected to power on the promise that they will cut down corruption and what you just refer to as black money. And for people in US or the West, probably they don't understand the impact of corruption and black money that is having on the society back in India. And also the scale at which it is happening there. So one example I can give you, which kind of, you know, will probably. help drive the point is when you buy a home in US, you have escrow, you have real estate agent, everything is transparent, you take a loan and you buy the property. In India, when somebody buys a property, some of the sellers, and in what I've observed is it's most of the sellers, they force you to pay, say, 40% or 30% officially, like, you know, that's the white part of it.

Starting point is 00:36:36 And the rest 60 to 70% you have to pay in cash. that's black, it's unaccounted for, which you will not disclose to the government. The seller would not disclose to the government. And that's a normal practice. And then I can go on and on about other examples. And that is crippling a lot of developmental efforts. And also it's impacting the middle class and the poor because they can't really afford to pay everything in cash because, like, you know, the seller.

Starting point is 00:37:10 wouldn't let you take a loan because they want some things in cash. So that's kind of, you know, a background about what's the situation there. Preston, you had a question. Let's take a quick break and hear from today's sponsors. No, it's not your imagination. Risk and regulation are ramping up and customers now expect proof of security just to do business. That's why VANTA is a game changer.

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Starting point is 00:40:41 I think the thing that's really interesting about how this all went down was how abrupt Modi basically put this out there in India. It was kind of like nobody had any clue that this was going to happen. And I don't know how you pull that off at that level that nobody knows that this is going to happen. way he did it is he came on television at 9 p.m. in the night and said by midnight, thousand rupees and 500-rupee denomination notes are invalid. So within three hours, they're invalid. Banks are obviously closed after 9, so nobody can go in exchange. But however, he has given time up till end of this year, it's almost 50 days, where folks can go to bank and exchange their 500 and 1,000-rupe notes with the new.

Starting point is 00:41:30 $2,000 note and the new $500.00. So when they say that they're taking a money away from circulation, that's not actually true. They're actually printing new notes. It is just that the old notes are going away from circulation. And so people have, obviously, there are some restrictions where you can't just exchange everything you have. If you want to do that, you have to show how you've got that money.

Starting point is 00:41:52 As long as you're able to do that, you can exchange. However, you can deposit all the money you have to a bank account. There is no limit. But of course, you'll be audited later once you account. So there are a couple of benefits apart from black money and eradicating corruption. And that is that a lot of currency in circulation in India is actually out of the main system, not in banks and are not productive because they cannot be loaned to others. There is no economic activity. So one of the side effects that some of the experts are pointing to is that there will be more money or more cash.

Starting point is 00:42:29 in the bank, which will help bring down the interest rates because they can lend more as well. So hopefully that will help in development activities. The other stuff for like in our counterterrorism is one other important aspect of this. A lot of not only terrorists, but separatist organizations supposedly use a lot of cash to like, you know, bribe people or create miscreants, stuff like that. And taking away the notes of these denominations, one of the. side effects that they're seeing is there are a lot less disturbance in many areas in India because of this move.

Starting point is 00:43:08 So I guess he had to do it secretively. Otherwise, it wouldn't be effective had it been announced ahead of time. Yeah. And it is actually very secretive because one of the huge issue they have India right now is that they don't have enough cash. And it's true what Harri is saying is that they're printing. They have four printing presses in India. But they can't print it fast enough compared to what.

Starting point is 00:43:29 they really need, which probably makes a lot of sense because when you tell that you need to print so and so much money, I guess some people, somewhere I must have to anticipate that it would be a problem. Another thing, and this was, it might seem like a bit anecdotal, but it's actually a real issue is that it's really, really hard to break a $2,000 rupee note in India right now. I mean, how are you going to do that? The second biggest note, that's a 500 one, and people might not have that one either. So it actually creates a lot of friction whenever you're still settling things in cash right now that the transaction costs, they're simply just too big. So it's definitely no joke, not just this year, but also the next year in terms of the expected

Starting point is 00:44:10 growth, that a lot of things are simply not produced, a lot of things are not consumed because of this change. Whether or not it's the right decision is probably more than like a political decision because there is definitely a lot of positive spillover effect. But I think it's very, very interesting. And it also relates back to our discussion about gold. Is that you might not buy gold if you live in India because you want to grow your money. But if you are afraid that something like this would happen again, that might be aware that you can store your value. So I just wanted to circle back to that very briefly. I've got a question, Harry. So I just when you told that story, I googled a thousand Indian rupees. Is that right that equates to about $15 US?

Starting point is 00:44:53 That is correct. Yes. And so a 500 rupee note is about $7, roughly half rounding down. So are those the biggest notes? Those are the biggest notes. And now the $2,000 note that has been released will be the biggest note. So were they releasing a bigger note, a $2,000 note? Yes.

Starting point is 00:45:12 So in place of $1,000, they're releasing a $2,000 note. And in place of the old $500 note, they're releasing a new $500 rupee note. It just looks different. How does that solve the problem, though? The way I believe the theory, I think Stig mentioned it in his opening, is that the people who are allowed to exchange now, I mean, if you're exchanging your old notes with the new notes or if you're going and depositing your money to the bank,

Starting point is 00:45:40 you probably have the white money or the money that is not corrupt, aren't through corruption. It's just not a black money. And there are news in Indian channels that I have seen where it seems a lot of people are just throwing away the old notes, whether it's 1,500 denominations, are burning them because they don't have any use of it now and they can't return it to the bank.

Starting point is 00:46:04 So, however, there has been questions raised, as you exactly noted, that how does releasing a $2,000 note solve the problem of corruption when we already had it with $1,000 note? So that's something that we will have to wait and watch to see how it turns out. Yeah, but I'm with Toby on this. So if they swap out the cash that's now registered. So like, let's say I come in there with, I don't know, whatever, we'll just say a thousand rupees. And then they give me the new currency, which is cash.

Starting point is 00:46:33 So yeah, you know that I just gave you the bank a thousand rupees, which I'll pay the tax on. But I'm only paying that one time because now I take that thousand rupees that I got and I can then give it to Toby and the government would never know that. And then Toby could give it to Stig and the government would never know that. So it's almost like it's a one-time tax on the swap of the cash. Like they need to convert it into a digital currency so that it can always be tracked at that point. That's where I think this is all going off the rails. But maybe I'm missing something. I might be totally missing something here.

Starting point is 00:47:07 Isn't there another, there's a money laundering arbitrage opportunity there. What's to stop some guy going and buying some jewelry or gold or something that has a known value? then I can go and find a guy who can't transfer his money legally and saying to him, guess what, I'll give it to you for 20 cents on the dollar or 10 cents on the dollar. That's better than burning it. And then I can go on exchange it and I can say, yeah, I bought the gold and I sold the gold. Yeah, Toby, I think that was a very good point. And there has been cases where people are trying to do such things.

Starting point is 00:47:42 However, before they brought this demonetization policy into effect, few months back or probably a year back, the Indian government had imposed restriction on the amount of gold you can buy. So if you're buying more than I don't remember the number exactly, it might be 100,000 rupees worth of gold, which is probably like $2,000. You have to report the source of your funds. You have to show your audited tax records. And also you have to present your, they call it the Pancard number, which is similar to. or Social Security number and all other details. And it will all be tracked.

Starting point is 00:48:22 So if somebody wants to do this arbitrage, it will be tracked. And in fact, what is happening now is, and one of the investors I follow in India, it is Professor Sanjay Bakshi. He recently tweeted an article where the article describes how the Indian government is using data mining and data analysis. Because now everything is digital, everything is online. All the bank accounts are like, you know, know, in the system. And there is a sudden increase of tax rates in India, tracking a lot of

Starting point is 00:48:53 such activities that you mentioned and people are being caught. That's another way that the government, I believe, was planning in a way because a series of steps happened before the actual demonetization. Number one, the prime minister announced a scheme where poor people can open bank accounts without out any minimum balance and they got thousands of bank accounts open through that. The second thing is they announced a one time pardon people with black money where they can turn in their black money, pay a hefty penalty of 80% or 85% of the value. I don't remember, but it's something really huge. Take back the 10% back home saying, hey, this is white now.

Starting point is 00:49:34 The rest is with the government now. And that expired on September 30th of this year. The deadline to pay a penalty and make your. black, money white. And then on November 8th, they announced this demonetization policy. So I believe the prime minister has said that he has more schemes coming after this. So this is like, it's a piece in a big jigsaw puzzle. So there is definitely a roadmap to eradicate corruption. And I believe from what I have studied so far, this is one of the steps in the many steps that the government of India is working on. From what I see, there already been a couple of steps before.

Starting point is 00:50:11 All right, guys. Hey, this is all we have time for this week for our mastermind in the fourth quarter. I want to talk about something really quickly here. If you were listening to our show last year around the May timeframe, you would have heard us do an episode on attending the Berkshire Hathaway shareholders meeting. So we are doing this again this year. Toby Carlisle, he already got his plane ticket. He is going. Hari, I didn't ask you yet, but I know you're going. Correct? Yes. Yes, he's going. Stig is not going to be able to make it this year, but I will be there. And we are really excited to be hanging out with our audience. So we're going to have a link on our website. If you go onto our website and you look under About Us, there's a section in there that you can attend live events. In there, you're going to see a spot where you can sign up to go to the Berkshire Hathaway Shareholders meeting.

Starting point is 00:51:04 We will put out all sorts of information on how you do this. If you're curious how you can go, because you probably think, you have to own an A share of Berkshire Hathaway, which is in the hundreds of thousands of dollars. That's not true. You can actually attend the meeting by just owning a B share. And that's, what, $150, $155 right now is the cost to own one B share of stock. And if you have that, you can go to the meeting. So if you want to go, and I'm telling you, this is the ultimate event.

Starting point is 00:51:33 We did a pub crawl last year. We had about, I don't know how many people there. There was a lot of people. and it was the time of our lives. We had so much fun. If you like talking about value investing, you want to network. This is the ultimate networking event. I promise you.

Starting point is 00:51:50 You want to be in Omaha. So we'll have information about that up on the site. We highly encourage you to go there and sign up because we'd love to see a whole bunch of you. And if you want to chat with guys like Toby or Hari or whoever, they're going to be there. So I'll make sure you guys make it on out. Okay, guys, that was all that Harry, Toby, Presta and I had for this episode of The Investors Podcast. We'll see each other again next week. Thanks for listening to The Investors Podcast. To listen to more shows or access to the tools discussed

Starting point is 00:52:20 on the show, be sure to visit www.com.com. Submit your questions or request a guest appearance to The Investors Podcast by going to www.com.com. If your question is answered during the show, you will receive a free autographed copy of the Warren Buffett Accounting Book. This podcast is for entertainment purposes only. This material is copyrighted by the TIP Network and must have written approval before a commercial application.

We Study Billionaires - The Investor’s Podcast Network - TIP 118 : Mastermind Discussion 4th Quarter (Business Podcast)

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