We Study Billionaires - The Investor’s Podcast Network - TIP163: The Intrinsic Value of 3 Stocks (Business Podcast)

Starting point is 00:00:00 You're listening to TIP. Hey, how's everyone doing out there? This week we have a fun episode for you because Stig and I talk about the current market conditions. And then what we do is we go through three individual stock picks that we talk about. Two of the stock picks are companies that we personally like and that we think have a lot of promise and that are priced appropriately to give a person a decent return, even though the stock market is extremely high right now.

Starting point is 00:00:26 And then the last stock pick that we talk about is a company that we talk about is a company that we think has a lot of cash flow and has a very good business, but would give you a really bad return. And we talk about this to illustrate a couple important points about value investing and just really investing in general that we think is really important for the audience to understand. We'll also discuss whether or not you should invest in Russia, given that the American stock market is so expensive. And we're also going to have a discussion about dividend payments and how that is different

Starting point is 00:00:57 if you invest in the U.S. or international. All right, so this should be a really fun one, and let's hop to it. You are listening to The Investors Podcast, where we study the financial markets and read the books that influence self-made billionaires the most. We keep you informed and prepared for the unexpected. All right, how's everybody doing out there, Stig, and myself, Preston Pish, here talking with you guys about the current market conditions and a couple different stock picks that we've found interesting. And I'm really excited to talk about this because I think there's a lot of things that you and I need to discuss because we've been talking about the market now for three years on the show,

Starting point is 00:01:50 Stig. And since we've been doing this show, this market has, you know, I'd say for the first year or two, it was really flat. Like, it really hadn't done anything. And then ever since we've had the new president. here in the United States, the market has gone absolutely bananas. And I'm not saying that because there's a correlation there. I'm just saying that if you were going to mark the time when that happened about around the election time until now, the market has just gone crazy in the United States.

Starting point is 00:02:20 We could get into reasons why we think that that's happened, but I think a lot of it is just not something that we can necessarily quantify one way or the other. I mean, we could reverse engineer what we think the reasons are. But at the end of the day for me, I think the central banks are still allowing credit growth within the economy around the world. And that's why you're seeing the market still going sky high. I'm kind of curious the way you're seeing this stick. Yeah, I think we have a ton of things to talk about. But I also think that the conclusion, not to spoil anything, the conclusion is probably safe. It is expensive. And I think Eric Cinnamon, who we had on the podcast a few weeks ago, he said it the best way. He said that 80% of the money

Starting point is 00:03:04 managers, they believe that the market is significantly overvalued, but they're still 100% invested. And then, as you're saying, Preston, then you have more and more money coming in, and they all needs to be 100% invested. Well, what are you going to buy? Well, obviously, you have a lot of money coming to different asset classes, but you see still an inflow into stocks. We've been talking about this return of 3% to 4%. I don't know if you have an overview of how things are looking at the market right now. Is that still what you would expect? Yeah, absolutely. I mean, I think that you're at 3% at best is what I would say. And I can see you nod in your head. You kind of see it the same way. We've been saying that figure forever. You know, when I were I was up at the mountain there

Starting point is 00:03:49 with Jesse and some of the people that listened to the show, we were sitting around chatting. And, you know, a couple of the guys said, you know, we've heard you talk about this narrative that you're investing operationally, that you're investing more on the private side than in the public markets. And for us, that makes total sense. And we totally get it because you're getting higher yields. And, you know, I hate to continue to talk that narrative, but, you know, not too much has changed. And then when in the public markets, they even go higher, that only makes you dig in even further into that position because the expected yield is, is even that much lower as the prices go up. So one of the things that I think is a really important discussion is the idea of investing in

Starting point is 00:04:29 ETFs versus investing in individual companies. So if you're buying an ETF, you're buying this three percent that we keep throwing around. That's what you should expect to get with your allocated cash flow into an ETF today. By talking about individual stock picks, which is what we're about to do, we're thinking that you could potentially bump that return. Our first pick here, I think that you might be able to get three times that return in this individual pick. But the risk that you have is now you're dealing with an individual company and you're not distributing your risk across 500 companies. So that's where we can't tell you to do one thing or the other. That's where you have to make that decision for yourself. Do I go for three times the yield with the risk that

Starting point is 00:05:09 it's only in an individual company? Or do I take a much lower yield, call it 3% and buy an ETF? And if the market crashes in a year or two years and you lose a lot of that in the short term, but then it eventually comes back within another five or six years or whatever, that's just part of the process. That's just something that you have to be willing to accept that volatility by buying into an ETF at such a high market price. So all these considerations are things that you have to be thinking about. So with all that said, let's go ahead and dive into some of these individual stock picks that we think are quite interesting. So the very first one that I want to talk about is called McKesson Corp. And this is a healthcare company whose operations are

Starting point is 00:05:54 divided into two major segments. They've got McKesson distribution solutions and they got McKesson technology solutions. And it's a business that sells pharmaceuticals at the retail level. And it also provides medical supplies and health information technology. This company is big. It is really big. And when you look at their top line revenue, it is $198.5 billion. and their free cash flow for the previous year was $4.2 billion. So this company's massive. It's very, very big. It's in the S&P 500.

Starting point is 00:06:34 And the stock ticker, just if you guys are curious about the ticker, it's MCK. So when I'm looking at this company, the first thing that I'm doing when I'm looking at this company that I really like is I'm looking at the top line. I'm looking at the raw number of like the sales that the company's doing because there's nothing that's being deducted out of that. There's no expenses being subtracted out of this. This is the fundamental number of the money flowing into the company. And when I look at that for this company over the last 10 years, it has done extremely well. Every single year, the revenues are going up.

Starting point is 00:07:09 And it's going up in a nice trend. It's going up in a very predictable manner. whenever I look at the net income, after you back out all of the costs associated with achieving that revenue, the net income's growing. The net income is doing fabulous. When you look at the free cash flow of the business after they're making capital investments, their capital expenditures being taking out, the free cash flow is doing fabulous. It's trending up every single year. And so for me, that's really exciting. When you look at the balance sheet, the balance sheet is very healthy. And so, you know, when I'm looking at the competitive advantages, and you know what,

Starting point is 00:07:49 we're going to email this out on our email list. If you're signed up on our email list, we'll send out a write-up of our assessment of this where we go through the competitive advantages, the enduring competitive advantages for the company. You know, it's an oligopoly. As far as we're concerned, there's other efficiencies of scale that we see with the company. There's intangible assets that look great. And there's economies of scale that we've identified in general. This looks like a fabulous pick. When we go and we look at the future free cash flows and we come up with an intrinsic value of this business, I'm getting a very, very good number. And we're accounting for the potential for the free cash flow to even go down in our model.

Starting point is 00:08:30 And with that said, we're looking at about an 8% to 9% return on this company. So if that's true, if we can get a 9% return based on the projection of the future free cash flows, and everything that we're talking about here looks good. That's three times higher than what you could get by investing in the S&P 500. And so then it goes back again to my original comment of, are you willing to take a three times higher return than the S&P 500, but have a little bit more risk because you're only in one company that's specifically in healthcare? For me, I'm willing to take that risk.

Starting point is 00:09:08 I think that this is a good pick and this is something that I am buying right now. I'm not buying a large, quantity of it because I've got concerns from a macro perspective, but I'm definitely buying this company. And I think that it's going to do quite well moving forward into the future. Now, I want to highlight that this pick came to us from one of the members of our community, and that's David Flood. And David, huge shot out to you because looking through the numbers on this, I'm kind of like, this looks really good. It's rare that I've been able to find a company with such incredible financials. That's a large cap company that's in a space that I think is going

Starting point is 00:09:47 to continue to do quite well moving forward. So huge kudos to you for identifying this pick. And we're just really happy that you were able to help us go through it and look at this a little bit closer. One thing that I really like to look for whenever I check out the stock, that is how the dividend is growing and how the shares are shrinking. It's very interesting to look back at the past 10 years, because what you would like to see for most companies is that they would just slowly increase the dividend, especially if you don't know the company too well and you're starting to do your analysis, because of course, we had this discussion before, like how much should the company pay out the dividend, how much should be stuck by back,

Starting point is 00:10:30 and how much should be retained and then reinvest. And of course, if you were on Buffett, you don't want to see a lot of dividend payments. But whenever you see that for almost all of companies and you see that gradual increase, it usually means that the free cash flows, the money that's flowing out or the cash that's flowing back to the owners is just growing and it's just growing at a steady pace. And that's what you see for this company. And what you also see is that the company is gradually buying back shares. And it's not to a large extent.

Starting point is 00:11:02 And it doesn't seem like they're really timing it. Yes, they actually did buy a decent amount back whenever it was cheap after the financial crisis, but it's more the, how do we think about reallocating our capital? You see this trend with a company like Disney. You see the same thing, slowly increasing the dividend, never have any problems, and then they slowly buy back the shares, and as you as a shareholder, I just reward it. Now, I do want to say that one of the main concerns I have for a company like this, that might be the red tape. I think this is a really interesting company. I don't know if I'm necessarily, sell an expert in this. I see a lot of regulations that might change, and I'm not too much into that.

Starting point is 00:11:46 But the thing that really concerns me is that how excited I was, I guess, like Preston, whenever I saw, it was call it 8%. And it just, it shows you something about what you're used to see. Like, whatever I'm doing this calculation, I come up with, you know, minus 3% for this company or plus 1.5% for the other company. And then I finally look at something and it's called it 8%. And I just get so excited. And it's just important for me to remember that this is probably not the thoughts I would have, call it five, seven years ago. So I want to be cautious. I want to say, giving the opportunity cost, yes, this might be interesting for that kind of return, but also knowing that if the market should crash, you might be facing a very different result as an investor. And I mean, then that's

Starting point is 00:12:33 an opportunity to buy more equity of this. So this is a pick for me that I don't really mind buying at such a high market, you know, price for the market in general, the market's very highly priced right now. I don't mind buying this right now. And the reason why is because if the market does crash, I am holding something that I have no problems buying more equity of if the price would even go lower, which, you know, when I'm looking through this stig, I'm having a hard time identifying the risks. And usually that's a red flag for me. Like, hey, there's, you need to do more research. You're, you're messing up somewhere because typically at this point in the credit cycle, you're not able to find companies that are so quality that have such strong financials,

Starting point is 00:13:14 that's such a return. And so, you know, I'd charge the audience. If you're seeing something that we're missing, hit us up on Twitter because we'd really like to know and we'd like to be able to identify that to the rest of the community. But honestly, when I'm going through this and I'm looking at the potential risks, I'm not really seeing too many relative to other things that are out there. This is one of the best picks I've seen in a long time. Let's take a quick break and hear from today's sponsors.

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Starting point is 00:17:44 Back to the show. I really like this and it really makes me think of target that we discussed not too long ago. But you also, these very, very stable numbers. They were not even as good as the word here from Akheason. But it basically boils down to valuation. So what Preston is basically saying here is that he is very confident that the intrinsic value

Starting point is 00:18:02 but just keep compounding for this company. And then if you see the market price crash, well, that's probably a good time to buy a little more of that. Yeah, that's an exciting time. I mean, I'd be looking forward to that. As long as I don't see risks that mature out of a crash, they're not really that leveraged whenever I'm looking at the company. The industry average for this sector is a 0.8 for the debt to equity

Starting point is 00:18:25 and the company's a 0.7. You know, you look at the cash flow statement. I mean, they're very healthy on the operational side. That's where they're generating the money to pay the bills. I mean, it's just, in general, I really like it. If you guys go into the show notes, we're going to have a link into our forum for this specific company. And we'd love to have people come in there and contribute some comments and some analysis and help us identify some of the risks that help us identify that as a community. And I think that this is something that we can get some serious value out of.

Starting point is 00:18:59 All right. So let's go ahead and talk about the next pick that we've got here. And this one is a Russian company. And I'm sure most people probably know where I'm going with this. So it's gas prom. And this is a huge business in Russia. It's one of the top four oil producers in Russia. It's the country's only producer exporter of liquefied natural gas. The company's ticker, if you guys are wanting to look this one up, is O-G-Z-P-Y.

Starting point is 00:19:28 That's O-G-Z-P-Y. and when we look at gas prom, you know, I remember talking about gas prom on our forum, what, five years ago, Stig? I mean, we've been talking about this one for quite a while. The reason we've been talking about is because it always seems to be trading at a low multiple. I've never seen this thing traded at a high multiple. So I think that that's a consideration just right out of the gate. Like historically, from what I've seen, this company just does not trade at a very high multiple. And so maybe that's a good thing if you're trying to accumulate more and more equity of it and

Starting point is 00:20:01 getting decent earnings for the price that you're paying. When you look at the free cash flow of this business, it's very cyclical. It's all over the place. And recently, you've seen the free cash flow kind of in a decline, 2015 to 2016, and it seems to be coming back down. So when we're looking at normalizing those free cash flows, we've tried to do a very conservative estimate moving forward. We have like a little graph that we'll send this out on our email list.

Starting point is 00:20:31 list and we'll have some links to the articles that we've written on this stuff in our show notes if you want to see kind of the charts that we're coming up with. But in general, when you're looking at this thing and you're looking at the multiples that you're willing to pay compared to other companies in this sector, gas prom has such a low multiple, which means that your yield is way higher than the other businesses that are trading at a higher premium. And we have a couple different methods. We have a PE multiple, a price the book, multiple, a price to sales multiple, and we go through these and we look at what the emerging market is in general. We look at the global market for this sector, and then we look specifically at gas prom and we compare it to all these

Starting point is 00:21:12 other sectors. When we look at like just the PE ratio, gas prom's at a 3.7 PE when the rest of the sector is at about a 10 to a 12. So you're looking at something that's like three times less in price for the same amount of profits, something else that I really like about Russia right now is the fact that the inflation rate is lower than it's ever been. I mean, the inflation rate in Russia right now is what, like 3% stig? It's not a lot. And so when you're in the past, when you know, when you're making discounts to this company specifically and you're justifying why the multiple is lower, when they have an inflation rate of 7%, or whatever it was, you go back maybe five years ago, that was a very strong consideration

Starting point is 00:22:01 that's going to erode the profits that you're making on the business. And today, I think that that is much lower. And I think that maybe people are still thinking that that inflation rate is a lot higher than what it is. And when you look at the trend of that inflation rate, it's been going down. So in general, I think that there's a decent return here. I think that the return is maybe around 9 to 10 percent up in that rate. range pretty much the same return that we were looking at with the last pick. I think that there

Starting point is 00:22:30 is definitely risks here. I think there's a lot more risks here than the first pick that we were talking about. And I think the risks, I think everyone knows what the risks are and it's the governmental risks associated with dealing with the Russian government. They could nationalize things. They could do all sorts of interesting things over there that I think for the typical Western investor like myself, I don't understand that culture like people that live over there. And that's a risk in itself that, you know, I just have to acknowledge exists whenever I make an investment like this one here. And so this is something that I have purchased recently. Again, not a very large position, but it's a position that I'm comfortable taking. And I think that the

Starting point is 00:23:13 multiple, I mean, I think it was Peter Lynch wrote in his book. It's really hard to go wrong when you're buying a large company that has a PE multiple of a four. And that's kind of where we're at right now with Gasprom. And, you know, I like it. I think that it has some really good attributes. I'm curious what you think, Stig. Yeah. So I never bought GasProm before, but I bought Luke oil a few years ago. And it was not the best experience, I have to say that. Part of it was because the oil price was cut in half, even though I felt that the oil price was not too high back when I bought that. I think it was like late 2014 or 13 perhaps even. But one thing I realized that was super important investing in the emerging market is what kind

Starting point is 00:23:58 of dividend yield can you expect? Because dividends are really hard to manipulate because after all, this is cash that's going out of the company's bank account to your bank account. And right now for gas problem, that would be 6.6%. And if you look at the payout ratio, it's still very low. I think it's in the 20s, something like that. I mean, there's still a lot more room. The free cash flow is still very appealing for this company.

Starting point is 00:24:25 The margin is really good. And then when you look at the risks, definitely there's a lot of risk in terms of the government. But I also think that you need to look at debts. And that's definitely the criteria that it's not too burdensome for gas prom. Because their debt to equity right now, just so people know, based on Stig's comment there, the debt to equity on the company is a 0.2. The industry average is a 0.4. So it's very healthy on the balance sheet.

Starting point is 00:24:50 Whenever you look at something like the price to book, and this is sort of characteristic for all companies, especially in Russia, you just see this ridiculous low number. So right now it's 0.2. I would definitely be very concerned about putting too much emphasis on this number. I would expect Goodwill impairments. And goodwill impairments, that's basically just a fancy word for writing down the value of the assets in years to come.

Starting point is 00:25:17 because of the low oil price. I'm not an expert in gas problem at all, but I would assume that there was something there. And sometimes, especially in the Russian oil and gas sectors, you sometimes see really high goodwill impairments. But that's really just a testament to how much you should look into the free cash flows instead, and how much you should look into the dividend payments. So one of the things that's really interesting about Russia right now

Starting point is 00:25:40 is the pressure that they have from the government in terms of paying out more and more in dividend, Because they realized years ago that one way to attract foreign capital is to ensure stability in your investments. And Preston already talked about inflation and how that's a big concern. I can say that for myself. Whenever I bought luk oil, I was not happy about the development of the ruble, to put it mildly, despite the company still making a lot of money.

Starting point is 00:26:07 But unfortunately, that was in rubles. And it's kind of like a risk you just have to account for. But one of the things that they're doing to mitigate that is that they are. are putting more and more systems in place in terms of always ensuring that investor will collect a really good dividend because, as we talked about before, it's really hard to manipulate. It gives investors some type of certainty, and it also lowers the downside. And as we also talked about before, the dividend yield right now is 6.6%. I don't see that go down at all in the time to come, which is obviously a lot more appealing

Starting point is 00:26:41 than, say, 2% on your 10-year treasury or you're expected 3%? in the market. So yeah, I think this is a very interesting pick. I mean, I just look at it from just even a basic level. So this company is trading for $4.30 a share. In one year later, the earnings, the profit that this one share of stock is making is $1.13. So when you take all the confusing terms and everything else off of this thing and you just look at it from a really simple vantage point, and you're making a buck 13 for a $4.00. and $30.30 stock. And this is a large cap company. I mean, you're not talking about some like $10 million company here. You're talking about a $47 billion company. I have a lot of expectation that that

Starting point is 00:27:30 profit is going to be able to be sustained moving forward, or at least some of it. If you even took a 50% cut on that profit, you're still making a lot of money on this company. So it's price to perform. And that's what I really like about it. And it's price to perform in a current that has really kind of done quite well lately and has started to stabilize and it and it looks very promising moving forward. So whenever I compare a buck 13 in earnings to a company, there's a lot of companies in the U.S. trading for $100 to get $1.13 of profit.

Starting point is 00:28:06 Paying $4.30 for something, now that's, for me, that's a steal. And that's something that I have no problem putting my money in, even if you're at the top of a credit cycle, because how much more can this go? down. Something real quick that I want to talk about Stig is the oil prices and the gas prices and really commodity prices in general. I think that you're really kind of seeing them at a somewhat steady position. If we would go into a market crash in a year or whenever, I think that, yeah, you'll see the price of oil, you'll see the price of some of this stuff come down because the demand is going to contract significantly. But I don't think that you're going to see things

Starting point is 00:28:43 pull back anything like we saw two years ago when oil went from over $100 a barrel clear down into the 30s. Like that was dramatic. That was total destruction. Now, oil's priced at $50, $52 a barrel. You're seeing other commodities really kind of hitting a steady state when you go and you look at the derivatives market where these things are being traded into the future a year from now or three years from now.

Starting point is 00:29:09 The price is really flat. You're looking at the spot price and the price that it's trading for three years from now as being the same number. And for me, when I see that and I see that flat line, I think you're at a kind of a steady state in that market. So, you know, I like this. I think that this is another good pick. But I'm very curious to hear what the audience thinks. I would love for people to shoot some holes through this and tell us why we're wrong and help us identify more risks. So I'm curious.

Starting point is 00:29:37 So you're talking about this stock just being priced above $4.4. And then the listeners are hearing that you're talking about it back in 13 cents the year after. So why would you come up with an expected return of call 8 to 10 percent? Could you talk about the process and how you think about that? Well, so that's more just me being ultra conservative with what I expect to get out of it. I think on the high end, I think you could, I mean, you might be able to get 20% out of this thing without any problem at all. But conservatively speaking, I think that you got a discount for some of those risks. you've got to also account for the fact that this thing usually doesn't trade at a high premium

Starting point is 00:30:16 to its earnings. And I think that that's probably one of the biggest factors of why I think you might not get 20% out of it is because in the long run, I think that it's always going to be kind of discounted because of the fact that it's a Russian company that a lot of people have concern with the government there. If people are thinking, how can we get that kind of return and why is it trading so low? Well, let me ask this question of you and Stan. how do you feel about investing in a Russian oil company right now? And you know, everybody else has the same feeling. So that's really the reason why.

Starting point is 00:30:51 And there's so much ecology in this. This also relates back to what we talked about before with the oil price. Like, how can it be stabilizing in the 50s and not too long ago it was in the high 20s? Well, sure, if you look at this fundamentally, it didn't make any kind of sense because you can't extract all that kind of price and the utilities. so much higher. But there was just all psychology. What is the consensus say right now? And it's the same thing you can say about the market price of gas prom. Something that I look at, like for me, this is really important for this company. The market cap, when I'm looking at a company that's a

Starting point is 00:31:28 $47 billion company, there is a lot of people, there's a lot of hardware, there's a lot of things that are just happening by the sheer size of this business. And that doesn't mean that it can't go into oblivion and disappear. But when I look at how leverage they are and they're not leveraged hardly at all and they have that kind of market cap and they have the revenue that they have that's coming in, I mean, man, this thing's not going anywhere anytime soon. Going down, I mean, you know, it's not going to be destroyed anytime soon. There's a lot of momentum behind a company of this size. And when you see it priced like it is for the profits that it's producing, I mean, this is, I don't know.

Starting point is 00:32:10 I feel very comfortable buying something like this right now. All right. So enough about Gasprom. We'll let the listener decide whether they want to buy a Russian energy company or not. But I think it's an interesting discussion. So the next one here is a fun one. And the reason that we're highlighting this one is because we think it's a horrible pick right now. But we think it's a great business that's making a lot of money.

Starting point is 00:32:36 And we want to highlight why we think it's such. a bad pick for somebody to own right now. And we're talking about McDonald's. So McDonald's makes a lot of money. And whenever I say they make a lot of money, let me just tell you some of the figures here. So the top line for McDonald's, their revenue in 2016 was $24 billion, $24.6 billion. Their net income was $4.6 billion. So profit, literally the money that is left over as retained earnings for this business was $4.687 billion. That's before the dividend was paid. So they're making a lot of money. That is a very high margin, especially for the food industry, which everyone knows the saying that it's a real estate company. But when you look at this and you look at the

Starting point is 00:33:24 margin, this margin is really fat. Let's talk through why we think this is something that you would not want to own today in 2017. And it really comes down to the intrinsic value. calculation, even though they have so much momentum. This company, you know, when you look at their top line, it's been suffering a little bit lately. It's been going down a little bit, not a lot, but a little bit. Their highest revenue, their top line was $28 billion, and now they're $24 billion. That was four years previous that they were at $28 billion, and they've contracted a little bit. So that's a reason that it should be trading at a discount is just because the revenues are contracting. And it's not. It's trading at a very high price.

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Starting point is 00:37:23 All right. Back to the show. talk about McDonald's because McDonald's has really been on my radar for quite some time, because going years back, I just like the numbers. And I like companies I know how to value. A company like McDonald's is just really easy to value because it's so stable. And whenever Preston is talking about, well, you know, revenue has contracted and it has. You know, it's back in 2013, it was $28 billion. And now the trading 12 months is around $24 billion. But that's a high fluctuation for a company like McDonald's, which really tells you something about this is not like a high growing whatever. I mean, this is very stable.

Starting point is 00:38:03 If you look at the gross margins, we are at the 40s, the operating margin, we are around 30. And if something is very stable, it's easy to value. McDonald's is definitely a good business. It's a good business in the sense that it really has no debt. for the conservative investor, it also has a high payout ratio. If you look at the numbers, I'm just laughing here, and it's hard for Stig to retain a slice because we just keep saying it's a good company,

Starting point is 00:38:30 but in my mind, I'm thinking, yeah, but I won't eat there. So I'm sorry, just go ahead, stick. I'll try to not smile so much to distract you. Go ahead. Sorry, Prest. I'm all about the numbers. I don't know if I'm about the food, but I'm definitely about the numbers.

Starting point is 00:38:45 And the numbers are good. And well, when you say the numbers are good, the numbers are good from like their revenue, they're stable, but from an intrinsic value, I don't want people to get confused, but from an intrinsic value, the numbers are not good, right? Yes, it's a really good part. If you look at numbers in terms of stability and billions of dollars that it's making every year, it's a good company. If you look at how it's priced, it's not a good company.

Starting point is 00:39:09 If I look at our model and I put in my assumptions, and we'll have a link in the show notes where people can go in and read more about their assumptions. But we're probably looking at 1% return, something like that. I mean, it's not a lot that you can expect. And that would be even worse than buying into the market. But it's also very interesting if you compare it to a company like GASPROM. As you can tell, we're excited about GASPROM. But GASPROM is a lot more risky, despite its size,

Starting point is 00:39:35 way more risky than a company like McDonald's. But it all boss down to the price. if you're paying $4 and then some for a $1.13. That's attractive. And then you look at a company like McDonald's. And McDonald's is currently trading at $166. And that's for an earning per share around $6. So it's just not as interesting.

Starting point is 00:39:59 So Stig, I want to clarify because you were saying that gas prom is a lot more riskier than McDonald's. But Buffett and some of these guys will say that the risk is actually in the price. not in some of these other things that people identify. And so this for me is a perfect example of that. Because whenever I look at McDonald's, all the risk here is in the price. The fact that the market is valuing it so highly and that you're going to get a 1% return if you buy it today into the long term. We're not saying in the next year or two years, but if you would own this into perpetuity,

Starting point is 00:40:32 you plan on owning it for 30 years, I would expect to get a 1% return on my money annually for the next 30 years on this company based on how it's price. today. And so for me, that's a ton of risk. That's a ton of risk because I can take that same amount of principle when invested in the S&P 500 and get 3% based on how it's priced. Or I can go to gas prom and get what I think is 10% or even higher. So for me, the risk, when you talk about the most risky thing here, it's a business that's extremely stable that's making a ton of money, but is priced just completely to the moon. So that's why I think it's really great to that we're talking this company.

Starting point is 00:41:11 Now, other people might completely disagree with this. They might think that there's a lot of growth opportunity, that McDonald's is somehow going to grow their top line, which I don't see that happening. And so for me, I see this as a huge risk. And it's really good that you clarified that because whenever I said risk here, which I probably shouldn't have used,

Starting point is 00:41:28 it's the thought of McDonald's going from earnings per share of $6 to minus two or $3 for that matter. I don't see that happening at all. And I think that the likelihood of something like Gasper, from that could happen also because they're in commodities business. It's a lot more cyclical. There could be a lot of other reasons why they would suddenly, like for legal reasons, why they would see a drop. I don't see that at all for McDonald's. And I mean, McDonald's is a very sticky business. Even though it's not, it doesn't have the same kind of stickiness as a company like

Starting point is 00:42:00 Starbucks or a company like Coca-Cola where people always get the daily Coke or a daily cup of coffee. I mean, people do change what they eat. But still, it has a company. has so much more stickiness that other fast food change. It's also because of the locations. I mean, it's not always a question about the taste and the decor. And I might get a lot of mad tweets because I say that a lot of the fast food tastes similar. I know there's a lot of hot coffee. I would say it doesn't at all. But I think it's also a question of if you're hungry and you want to go for a burger, sometimes you will just take what's more convenient. And, you know, it's also a question of, it's really hard to find a company, whether it's in Europe or the U.S. that have better locations

Starting point is 00:42:44 than McDonald's. It's just in all the right places, even though people sometimes might want to go to Burger King or Wendy's or whatever. You know what you're going to get and it's everywhere. Everywhere you look, it's there. All right. So instead of kind of harping on this one anymore, the reason we want to talk it is because we wanted to talk about a great company, a company that's making a ton of profits, but is probably something you don't want to own. at this point in time in 2017. Now, as the market conditions change, let's say we have a big pullback, a big contraction, and this thing gets priced and it's at a completely different multiple than it is today,

Starting point is 00:43:23 this thing might be priced at a 15% return, and then it might be a great time to come in and buy this equity of this business. But today we don't see that at all, and we think it's important to highlight that so you can see a great business at a poor price is a lot of risk. So that was our main point. All right. So at this part of time, the show, we would like to play a question from the audience. And this question comes from Vass. Big fan of your show, guys, and really appreciate the opportunity to ask you guys a question. So with this massive push into passive now, you have a lot of big names on both sides of the indexing argument. You have guys like Buffett saying that, you know, the average retail investors should just go into indexing and forget about it for, you know, the next 20, 30 years. So with that being said, the way I see it is.

Starting point is 00:44:10 We created kind of a positive feedback loop on the way up. And I'm afraid that on the way back down, it's going to be the same thing. It's going to be a positive feedback loop where recession causes people to pull out of index funds and that further pushes down the market. You think that guys like Buffett are doing a disservice to retail investors because chances are most retail guys don't have the temperament to stay in when they're going to face the biggest correction that they're ever going to see. their lifetime. So what are your thoughts? Thanks a lot, guys. All right, that. So I really, really like this question. And for people following the financial news out there, they probably can't help but notice that indexing has really been something that's been heavily debated recently. Indexing is in many ways changing the landscape of investing. And right now is almost 20% of the

Starting point is 00:45:03 global stock market that is indexed. And you've seen this popularity of indexes for a long time. And at least the way it looks like now and the forecast you can make, it's expected to continue. And so basically what you're asking about VAS is what's that going to mean for us? I definitely think you're right about the positive feedback loop. I think that index is a factor in what you see right now with the high valuations. But you could also say it has to do with QE or you might also say it has to do with general state of the economy. There are a lot of great narratives of why you see the stock valuations that you experience right now. But yes, I do agree that the ups and downs to experience in the market,

Starting point is 00:45:52 they will probably be exaggerated to some extent. Now, in essence, I don't think it's different that what Warren Buffett's professor, Benjamin Graham, observed after the Great Recession, and I'm sure you can argue even before that, when stocks are expensive, investors flock to the stock market and they start selling when it goes down. And as you suggest, indexing probably makes this worse. The question is how much? But really back to your question, whether or not Buffett is doing a disservice to the retail investor.

Starting point is 00:46:22 I don't think he is. And as you also mentioned, he's been saying 20 years, 30 years, even a longer period of time for holding indexes. And not necessarily talking about going into indexes right now, but more like a general approach to invest in the stock market. And I think that if investors then start selling anyway, I really can't see how Buffett can be blamed for people not following his advice. And the other thing I would like to add is what is the alternative to the stock investor? Say that he doesn't invest in index and say that he wants to do individual stock picks instead.

Starting point is 00:46:58 So it's important to keep in mind that even if you pick individual stock, it is by definition a part of a market index. You might not buy the market index, but someone else is, and they will also be owned. your stock. And I think you bring up a really good point about the psychology in the market. Because we usually know that people would sell at the wrong time. I do think most people will have a harder time selling an index, even though it might sound kind of intuitive to your thesis. Because at least when you have an index and say that you have lost 30%, then you will have lost 30% and everyone else has lost 30%. It might be harder to hold on to a stock that has dropped called 40% or even just 20% because you don't have that certainty of following the herd.

Starting point is 00:47:43 So Vash, interesting question. I have no idea what the next recession is going to look like. I really can't even comment on how deep I think it's going to go. I think any type of conclusion that I would draw would just be completely based on biases that I hold. I think it's going to be deep and a 50% or a negative 50% or bit, you know, that's based on nothing. That's just based on, you know, my feelings, which are worthless. I feel like the central banks have been pumping this thing up a lot. And I think that I buy into the Ray Dalio narrative that on the way up, it's reinforcing it.

Starting point is 00:48:29 And on the way down, it's also reinforcing with the way that credit contracts. So it's going to be really a function of how well. the central bankers can prop this next credit cycle up after this starts to contract. You know, you could make the argument that it's going to be deep because they don't have the amount of interest rates to drop like they did during the last cycle. There's a lot of people making that argument and they think that that might be one of the reasons why it could go deep. But for me to be able to say with any type of absolute certainty, I have no idea.

Starting point is 00:49:02 I really don't know. with respect to your second question about Buffett, you know, telling people that the best way to invest is ETFs and that that might actually cause more harm than good, I don't know that I'd necessarily buy into that. I think that a person either has the temperament or they don't have the temperament. If they don't have the temperament, you know, I think all Buffett's trying to do, if I had to guess with what he's trying to do, I think he's genuinely trying to help people. I think he's genuinely trying to help people. I think he's genuinely trying to help people. people get the best return that they can based on the amount of knowledge he expects the average investor to have. There's one thing that I think that he has learned, and that's that most people have no idea what they're doing. And based on that, he's telling people to invest in ETF simply because the fees are low and you can get the market's return.

Starting point is 00:49:53 Whether you have the temperament to stay in the market when it starts to contract or, you know, as it's climbing or whatever, that's completely up to the individual and just having faith and continuing to do the dollar cost averaging in the S&P 500 or whatever ETF they're trying to track. So for calling in and leaving this great question, we're going to give you a free subscription to our new intrinsic value course that we just created. This teaches you how to value stocks and how to look at individual stock picks and how to come up with a value and an IRA calculation of what you think the yield will be on that stock moving

Starting point is 00:50:29 forward. We hope you enjoy that free course. And for anybody else, want to check out the course, go to TIP Academy on our website, and you can find it there. So if anyone else wants to get a question played on our show and potentially get a free course,

Starting point is 00:50:42 go to AsktheInvesters.com, and you can record your questions there. All right, guys, that was all that Preston and I had for this week's episode on The Investors Podcast. We'll see each other again next week. Thanks for listening to TIP. To access the show notes,

Starting point is 00:50:56 courses, or forums, go to the Investorspodcast.com. To get your question, Played on the show, go to AskTheInvesters.com and win a free subscription to any of our courses on TIP Academy. This show is for entertainment purposes only. Before making investment decisions, consult a professional. This show is copyrighted by the TIP Network. Written permission must be granted before syndication or rebroadcasting.

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