Robert Reynolds (03:10):

And so, my journey in investing has really been a series of making mistakes. And I guess you get complacent every once in a while. You take a step back. You look at the broader picture. You learn, and you move forward.

Robert Reynolds (03:21):

And so, the first step that I took was actually investing money in 2009. And then the first big lesson that I really learned from was in 2011, 2012, during the sovereign debt crisis. Fast forward then, the next big lesson was 2015, we had some macro issues with China, devaluing the currency. Hit me pretty hard. And that was another opportunity for me to learn, and that’s where I started to pick up macro and economics. And that’s where I really started to focus on technical analysis as an overlay from a micro bottom-up perspective, which gave me a good broad toolkit to start investing.

Robert Reynolds (03:53):

And then in 2020, was the first year that I started investing on behalf of other people as well. So I’ve started the journey of professional investing for the past two years. And that sort of brings me up into the present day, 13 years into investing, and it’s forever an opportunity to keep learning about yourself, but also keep growing in terms of wealth and your assets. That’s pretty much my journey so far.

Clay Finck (04:15):

Very cool and really good timing starting to get into the market in 2009. And you just happened to have a relative that was a fund manager that kind of helped you get started and get going. Now, you’ve mentioned in your videos, your YouTube videos, your investment strategy very much aligns with Peter Lynch. And I like to discuss that approach a little bit with you. For those who aren’t familiar, could you talk about who Peter Lynch is, and what he’s accomplished over his investment career?

Robert Reynolds (04:46):

Yeah. When I started investing, I didn’t know anything about these super investors or anything like that. In the last couple of years, I’ve come to know who they are. And so, when I say, “I’m very similar to Peter Lynch,” it’s more so learning about Peter Lynch’s strategy, and then realizing that an awful lot of the very hard lessons that I learned over the past number of years kind of agree with Peter Lynch. There’s a lot of overlap between his strategy and mine. But there’s a lot of stuff that I believe as an investor that Peter Lynch disagrees with. And I guess it’s important to have your own style and your own flare as well.

Robert Reynolds (05:13):

Peter Lynch was the manager of the Magellan Fund for 13 years, and he generated about 29.2% compounded, pretty impressive returns. He’s very well known for approaching markets in a very basic, simple-to-understand manner. And that’s what really appealed to me because I studied business, I studied accounting, and then I started to go down the rabbit hole of learning complex models to value stocks. And what I realized was, the incremental gain of these really complex models doesn’t really outweigh your own personal experience and that’s what I started to take away from Peter Lynch.

Robert Reynolds (05:45):

When I’m listening to Peter Lynch, I mean, he’s got a pretty broad base. A lot of people say, “Oh, Peter Lynch says, “Look under enough rocks.” Peter Lynch says, “Don’t diversify. It’s diversification.” Peter Lynch says all of these things, “Retail investors have an advantage over fund managers.”” But it’s a little bit deeper than that. And so I’ve prepared a couple of different points that I wanted to talk to you guys about regarding metrics that he follows, why they might be of use, the dos and the don’ts of investing, and of course, ideologies.

Robert Reynolds (06:12):

Because I think, now more than ever, we’re going through a little bit of a slip up in markets. And I think a lot of people are looking at it as a risk as opposed to an opportunity. And I think that’s the difference between making it as an investor versus panicking and selling on the lows and starting from zero again.

Robert Reynolds (06:25):

I think we’ll start off with metrics. I mean, when I listen to like quants, for argument’s sake, they make up an awful lot of very difficult models. And the reality is when you listen to Peter Lynch or anyone, whether it’s Charlie Munger or Warren Buffett or any of these guys, I mean, it’s really just about the present value of cash flows. And there’s many different ways in which you can analyze a business. You can look at price-to-earnings. You could look at price-to-cash flow, price-to-book, all of these different ways.

Robert Reynolds (06:47):

Peter Lynch looks at the historical price-to-earnings. And I guess one of the biggest challenge for any investor is, what price do you pay for cash flows? Right? So we all know, you’re buying a business based on the present value of cash flows. But if I told you, for the next 60 years, you can buy this asset that’s going to produce $50,000 per year for 60 years. The present value of that is worth more than 50,000, but it’s probably not worth 60 years times 50,000, right?

Robert Reynolds (07:14):

And so, you have to come up with a fair multiple to pay for that over time in order to make a reasonable return. And that’s the biggest challenge in investing, is knowing what to pay for that cash flow. And so, Peter Lynch really breaks it down in a very simple manner. And this is something that I’ve come to realize as well. Rather than try and speculate, what multiple you’re going to pay for it, just look at the historical average that the market’s been willing to pay for it, and buy it at a discount relative to the trend that it’s been over a longer period of time.

Robert Reynolds (07:40):

Really basic stuff, but it’s really impactful. And when I’ve dumbed it down really to focus on the simple stuff, like price-to-earnings, trading at a discount, it really starts to make sense. You’re trying to understand what the market’s willing to pay for a specific asset based on its cash flows, and why not just pay below what the average market’s paid for it. So that’s one of the metrics that Peter Lynch follows.

Robert Reynolds (08:00):

Another one he follows is consistent year-on-year earnings. So, in 2020 you had all these electric vehicle type companies come up or SPACs. And they’re all really new companies. And they’re guiding on their investment decks. They’re going from $2 million in revenue, $10 million in revenue to a billion dollars in revenue in three years. But it’s completely unproven, and they’ve got a couple of hundred thousand revenue proven. That’s it.

Robert Reynolds (08:21):

There’s a lot of challenges along the way. So you could literally look at that company, just like we said a moment ago, evaluating a business, its present value, its cash flows. If you’re looking at an investor deck that says they’re going to ramp up their revenue in three years from a million dollars to a billion dollars. How do you price that? Because if there’s a little bit of a mistake, I mean, and the company only generates a hundred million, not a billion, you’ve way overpaid for it. And so, what Peter Lynch also says is, “You want to pay a discount relative to its historical valuations.” And at the same time, you want consistency in earnings. You want some degree of consistency. So he often talks about Dunkin Donuts. He knows people are going to go into Dunkin Donuts. And so, it’s just really focusing on the really super simple stuff.

Robert Reynolds (09:00):

Regarding leverage in a company, there’s many different ways in which you can look at it. I personally look at quick and current ratios to understand what the assets and liabilities are. Peter Lynch looks at… I’m sure he looks at those too, but he looks at debt-to-equity. Debt-to-equity is a pretty good measure. If it’s got a high debt-to-equity, there might be challenges or solvency risks or whatnot. And as well as that, if a company needs to raise capital, a bank would normally look at debt-to-equity as well. So when you’re looking at valuating the liquidity risk of a business, Peter Lynch uses debt-to-equity. There’s many different ways in which you can use it, but that’s also a really effective way.

Robert Reynolds (09:33):

And then finally, the cash per share, how much cash are they producing? So that’ll coincide with the valuation that you pay for the company. And so, going back to what I mentioned before, I looked at Peter Lynch only in the last couple of years, and I realized, “Well, wait a second. I came to the same conclusions.” I guess the difference is I lost a lot of money coming through those conclusions first.

Robert Reynolds (09:50):

But anyway, if you dumb it down and you focus on valuation, consistency, you focus on balance sheet risk, and then finally cash flows, you should be in a pretty, pretty, pretty good state regarding the metrics in order to evaluate a business. And in that aspect, I kind of agree with Peter Lynch. And then he talks about the dos and don’ts, and I think these are really important as well. Even more so after March 2020, and you’re seeing the apocalypse or [de-SPAC 00:10:16], I think it’s called. Where some SPACs are down as much as 95, 98%. Some of the recent IPOs getting absolutely pummeled over the past couple of years where the market’s happy to pay a hundred times price-to-sales, 200 times price-to-sales.

Robert Reynolds (10:29):

And the reality is, how on earth are they going to earn enough money in order to justify that valuation? And so, the dos and don’ts of Peter Lynch, first and foremost, invest in boring businesses. That was one that Peter Lynch really focuses on. Again, he uses Dunkin Donuts. I think he said he made 10 times his money in Dunkin Donuts. Which is quite incredible, a boring business, selling donuts and coffee, and you make a thousand percent. You don’t need to go too far at the risk curve.

Robert Reynolds (10:53):

Spinoffs, very interesting. I also invest in specific spinoff opportunities. If you look through my portfolio, you’ll see, for argument’s sake, Discovery where this is a spinoff of AT&T, of Time Warner into Time Warner Discovery, and that creates an awful lot of value. That can create outsized returns as well. Fast growing companies in no growth industries, these guys are normally stealing market share.

Robert Reynolds (11:15):

If you read books like Misbehaving, you’ll realize that there’s bottom-up innovators such as Nucor Steel, which will start innovating in a pretty low growth, boring industry to steel industry. And these guys are growing at a much faster pace. And so, if you can find those critical opportunities, you’ll make a lot of money.

Robert Reynolds (11:33):

Share buybacks. Right? So you go through a bit of a slow down. There’s nothing wrong with the company, utilizing some it’s cash, and it’s very cheap to buy back its stock. And as of right now, if I look at my portfolio, about 80% of the companies are buying back stock. And then finally, insider buying. There’s only one reason why insiders buy, and that’s because they think the prospects are improving. So there, some of the reasons why Peter Lynch believes you should buy a specific business, and some of his don’ts is, “Don’t chase hot stocks.”

Robert Reynolds (11:57):

And that’s something that I would definitely refrain from, getting too excited about when you’re investing. Going back to my experiences, I have invested in 2009, right after the crash, made a bunch of money not because I was very good at what I do. It’s more so of the timing. Right? So it’s a big crash, mean reversion. I invested in real estate, which is actually a big part of where I grew my wealth in 2011, ’12 during the sovereign debt price in Europe. And then in late 2018, I invested in some digital assets after an 80% crash in Bitcoin. And on those three occasions, they were not hot topics. And in fact, everybody I’d mentioned to, that I was going to buy stocks in ’09, or real estate in 2011, 2012 or Bitcoin, in late 2018, everyone told me that, “You’re crazy.”

Clay Finck (12:36):

Yeah. I really like how you’re looking for those opportunities when everyone else is running out the door and giving you more favorable prices. That makes me think of the massive pullback we’ve had in growth stocks. We did see this run-up in higher-growth companies post-COVID. And now, a lot of them are trading back to where they were pre-COVID. So I think you might be able to find some great companies at reasonable prices once you’re able to weed through and find those businesses that have continued to improve their fundamentals throughout that time period.

Clay Finck (13:08):

I also like how Peter Lynch has this approach, where he keeps an eye out for businesses that he runs into in his everyday life. You mentioned Dunkin Donuts. When I first heard this concept, I thought of Starbucks. When I’m on the road in the morning, a lot of times, I’ll see that the drive-thru line for Starbucks is going outside of the parking lot. Looking out for those indicators, that can be a good sign to take a look at the stock, and dig a little bit deeper. If one Starbucks location is overloaded with customers, that means they probably have the ability to capitalize on that and open another Starbucks location just down the street.

Clay Finck (13:46):

Apple is another great example of this as most people I know are staring at their phones a lot of the day, every single day. It’s not to say that just because people use iPhones, you should go out and buy their stock. It’s just an indicator that you can go and look at the stock a little bit further because you know that people are getting value using those companies’ products. I like how Lynch’s book, One Up On Wall Street, makes investing much more simplified for your typical person getting into the game.

Robert Reynolds (14:15):

Yeah. That’s actually a really good point because I think he also expanded on that as retail investors have a bit of an edge in that if, for argument’s sake, you’re a bioscientist. I own a company called Regeneron. And Regeneron is a biotech company. But the reason why I own pharmaceutical companies is because once a novel patent has been approved, there’s 20 years of barrier to entry in that market.

Robert Reynolds (14:36):

And if it’s, for argument’s sake, a rare disease, there’s a pretty decent probability that it doesn’t matter what recession, you’re going to have relatively an elastic revenue. Right? I like larger cap biotech companies in that sense that there’s enough duration.

Robert Reynolds (14:49):

If you go a little bit smaller into biotech, like smaller companies, higher risk in the sense where there might be Phase 2, Phase 3-type drugs, just as a classic example. If you’re a bioscientist and you can understand the science behind that, you’ve got a much better probability of understanding whether it’s going to be approved, what’s the potential revenue and market is likely to be.

Robert Reynolds (15:09):

And just going back to the example with Regeneron, last year, I must have died at 35, 36% in revenue growth for Regeneron, and they hit over 80%. And so, if you’re a specialist in a specific market, whether it’s the example that I mentioned a moment ago, whether it’s bioscience or something like that, you have a massive edge over analysts in order to generate outsized returns by focusing on your niche. If you work in, for argument’s sake, a coffee shop, and you understand marketing coffee, or whether iPhones or whatever it may be. If you’re in semiconductors, you understand the trends. Whatever it may be, whatever your niche insight is, I mean, you definitely have a massive edge in understanding what the bigger picture trends are. And if you could pick up the pretty simple ways in order to analyze the business, paying a discount relative to it, historical trend, focusing on the balance sheet, focusing on cash flow, all that type of stuff, and you can marry the two of them together. Yeah, you’ve got a massive advantage for sure.

Clay Finck (15:58):

Lynch often argues that individual retail investors can have a massive advantage over the large hedge funds spending all day analyzing companies, and you kind of alluded to this. This might seem counterintuitive to some people in the audience. Could you expand more on what advantages retail investors might have over these funds on Wall Street?

Robert Reynolds (16:20):

Yeah. Well, one of them would be, for argument’s sake, understanding the industry a lot better. So, if you look at Wall Street analysts and their backgrounds, it’s probably finance-related. So they might be very good at modeling, well, understanding balance sheets, risks, exogenous risks, that type of stuff. They may not understand the industry quite as well as URI who might be experts in the industry. So, I think that that’s a massive competitive advantage that we have, is a deep insight into the industry.

Robert Reynolds (16:44):

And for argument’s sake, there’s so many companies that I’ve owned over the past year, where analysts, in specific industries, for argument’s sake, you look at the cannabis sector, it’s very under followed, very under followed from analysts. So there’s a huge opportunity for somebody that understands that space to go in there and do a better job of forecasting growth rates and whatnot, our understanding, the different margins because you’re on the ground working there. Whether it’s semiconductors, you look at AMD, which is a design company that outsources an awful lot of their production.

Robert Reynolds (17:09):

You can understand the different trends and growth in terms of technology. For argument’s sake, you look at Nvidia buying Arm, I know the deal fell through, but that would allow them to pivot into many different sectors. For me, I’m not a tech person that’s specific to that. But fortunately, I’m able to reach out to people that can give me some insights on that. But if you’re somebody that’s tech-focused, you understand the ecosystem, you understand what this acquisition is likely to do for the business, in the long-term opportunity for Nvidia, you have absolutely the competitive advantage if you can start buying, scooping up cheaper shares, and stuff like that. Understanding the specific industry that you’re operating in is a massive advantage over Wall Street analysts for sure.

Clay Finck (17:47):

And I also think that retail investors can take risks that many fund managers won’t take. Lynch has said that no fund manager is going to get fired for investing in IBM, which has been a mature company for many years. And a retail investor might find a great business that’s in the early innings that fund managers might avoid because of the uncertainty that comes with being in the early stages. And I think they’re incentivized to really just not take risks, and play it safe, so they keep their job. And there’s volatility in the markets where their boss might not be happy with them if the market’s going against them, and they take maybe a little bit too much risk.

Robert Reynolds (18:26):

That’s a really, really, really good point because I see so many investment managers that are in the closet indexers. And I think one of the biggest challenges is you constantly count to the index. So if you have a month where you’re down 1% and the S&P 500 is up 1%, you’re scrutinized for it. But if you beat the S&P 500 4% versus 1% in the S&P 500, it’s like nobody realizes. It’s an expectation. And I think when you take a step back, if you’re managing money, you’re at the mercy of short-term results, as opposed to long-term gains. And investors can be quite fickle in the sense where you go through a bit of a period where there’s a lot of volatility.

Robert Reynolds (19:03):

And without looking at that volatility as an opportunity, for argument’s sake, I’ll give you an example. In February of 2021, I wanted exposure to the FinTech space. And when I looked across the board in terms of valuations, of course, there’s lots of companies that I liked. For argument’s sake, I would’ve liked PayPal. I would’ve liked Square. But I ended up investing in Fiserv because it was still a good opportunity, but the valuation of the company, it wasn’t as good an opportunity as, for argument’s sake, PayPal, in terms of the business, or Square in terms of the business. But it did give me a really good opportunity in terms of valuation, relative to its peers. That wasn’t my first choice, but in terms of valuation, it made a lot of sense.

Robert Reynolds (19:39):

If you fast forward to the past couple of weeks, I’ve been unwinding my position at Fiserv to position myself in PayPal. And one of the reasons why I’ve been able to do that is because I focused on valuation. Fiserv is down 10%, but PayPal’s down 65 to 70%. Right now, I see that as an opportunity. So when we go into times of volatility where PayPal’s down in the last six, seven weeks, 47%, 48%, and relative to its future growth, it’s expected to compound at 20%. It’s far more attractive than Fiserv. I see that as an opportunity.

Robert Reynolds (20:09):

I did like Fiserv. It done very well for me to offset an awful lot of that downside risk, but now, this sort of storm, yeah, there’s a little bit of volatility, but it’s absolutely a hundred percent an opportunity to reposition your portfolio in what I would consider better opportunities.

Robert Reynolds (20:24):

And so, that’s just a classic example where you get a little bit of volatility. Fund managers, they got to position themselves to offset that volatility, or raise cash. They have a problem, what’s known as VAR, value at risk. And they conduct what’s known as de-grossing when volatility increases. And the way I look at it is when volatility increases, that’s where you want to get a little bit heavier. That’s the risk and the market purchasing an awful lot of premium on the downside in order to offset that risk. And if that risk doesn’t come to fruition, it’s usually a massive opportunity. So that’s sort of… Yeah. I mean, that’s another opportunity that retail investors have is we can view volatility as an opportunity, and not necessarily a risk to reposition the portfolio. Whereas fund managers really just got to balance that risk in terms of downside volatility.

Clay Finck (21:08):

It’s funny you mentioned Fiserv. I actually, just recently had an episode where we talked all about Fiserv, it was with Bill Nygren and Mike Nicholas from Oakmark Funds. Fantastic episode if you or anyone in the audience would like to check it out. And we talked about the risk. We talked a little bit about PayPal, and some of their other competitors, Square. But I wanted to transition… We talked about retail investors, potential advantages over Wall Street. Let’s talk about their advantage over passive investors. You’ve had a video recently where you talked about how Peter Lynch has said that active investors have a massive advantage over passive investors in today’s environment. Why do you believe this to be true what Lynch said?

Robert Reynolds (21:51):

If you take the index, it doesn’t matter, S&P 500. And you were to break down its components on its weightings. And then you were to look at the valuation of the index in terms of forward price-to-earnings. I think it’s somewhere around 19 at the moment. So, if you’re to look at its weightings, 22% of its weightings come from the top eight companies. So it’s heavily skewed towards a small number of companies. And so, the valuation is heavily skewed to a small number of companies. And that’s the first point that I would look at and say, “Oh, wow, that’s kind of interesting.” If you break down the full 500 companies, there’s a number of companies in there that are disproportionately lower in terms of valuation like, for argument’s sake, energy coming into this year, the sector as a whole, was only about 1.5, 2% over the past year of the entire index. And that was down from about 8% a decade ago.

Robert Reynolds (22:36):

You can see there’s disproportionate opportunities in terms of overvalued companies and undervalued companies. If you take that one step further and you look at companies that are not in indexes. So over the past 10, 12 years, we’ve had this revolution of passive investing where everyone just owns the indexes, just dollar cost average every single month, month, month, month, month, just keep dollar-cost averaging. That absolutely impacts those bigger positions in the index. And they continue to grow and the valuation gets bigger and bigger and bigger. But companies that are not represented by an index will have a far lower valuation, produce a hell of a lot more cash flow, and there’s an awful lot more optionality on that because they don’t have that mechanism of passive investing. And so, when you fast forward after a decade of passive investing, there’s a lot of bloated companies, and there’s a lot of very lean, very undervalued companies.

Robert Reynolds (23:22):

And a lot of people talk about how overvalued the market is looking at price-to-earnings. But I don’t think I’ve ever seen a period where we’ve seen so many fantastically valued companies at the same time we’ve seen so many overvalued companies. And so, this is a massive dichotomy, and I think it’s largely driven by passive investing. And so, when you break it down, if we start to see outflows for argument’s sake if the index starts to slow down a little bit, we start to see outflows, and passive investing starts to reverse, active management is really going to start to excel. It’s not necessarily that I’m bearish on the indexes. I just think that the upside is likely a little bit more limited, and you’re probably going to see an awful lot more capital flow from passive into active. And there’s a hell of a lot more opportunities.

Robert Reynolds (24:04):

Some of the companies that I’ve bought recently are just bizarrely cheap. So, I’ll give you a quick example. Overstock is a company I’m very bullish on. It’s got a market cap of 1.8 billion with 500 million in the bank and no debt. And it’s producing 145 million of free cash flow. So, I’m paying an enterprise value of 1.3 billion for 145 million in free cash flow. Plus, they also have DC ventures, which is the sum of the parts valuation somewhere anywhere between 4 and $10 billion. So I get all that for free plus I get a business that produces in excess of 10% in free cash flow yield on its enterprise value.

Robert Reynolds (24:37):

And so, I’ve never seen this opportunity where there’s so much value in the market at a time where there’s so much overvalued companies. And I think we’re going to start to sort that out over the next 5 to 10 years. Higher inflation is driving interest rates higher.

Robert Reynolds (24:49):

And I think over the past year, what we’ve seen is not necessarily a recessionary environment, but more so, we’re repricing risk. Let’s say a company is at a hundred times price-to-sales. Let’s say they have a 50% net income margin. Let’s just say they’re really lucky to have a 50% net income margin, trading at 200 times price-to-earnings. So if you look at an s-curve, right, and a company normally starts at the bottom of the s-curve, and rightfully so, it should have a very high valuation because they’re called essentially long-duration assets. So you’re overpaying today for all that cash flow that’s expected to come.

Robert Reynolds (25:20):

And so, it has a high PE here. And eventually, you’re expecting the growth rate to ramp up valuation to moderate, and eventually get a point where it’s a mature company, and the valuation will be 20 times price-to-earnings. In order to go from 200 times price-to-earnings to 20 times price-to-earnings, you need to have a hell of a lot of growth just to get a decent return. And so, I think as we move forward, we’re starting to see a repricing of risk. And it’s still early, but over the last six to 12 months, it’s starting to look like we’re moving into that direction where active investing should outperform passive investing over the next decade. I think if you adopt the principles of somebody like Peter Lynch which is super simple, you have a massive advantage, just a huge advantage, certainly in today’s market.

Clay Finck (25:58):

Very interesting. You mentioned Overstock as one of your holdings. I’m curious. What is your process for narrowing down your selection of potential stocks to invest in? Are you using some stock filter or how do you approach that?

Robert Reynolds (26:16):

Overstock, more specifically, I’ll tell you how I came to that conclusion, and I’ll tell you a couple of different ways. I invested in digital assets. I bought Bitcoin, not a broad amount of investments. But I bought Bitcoin and a little bit of Litecoin back in late 2018, early 2019. And I’ve just been sitting on it ever since. And then, midway, around June, July of 2020, if you look at all these charts where it goes from, we’d be moving into the institutional phase in terms of adoption. So that was the next phase for Bitcoin. We’ve already seen early adopters and whatnot. We’re moving into the institutional phase. And then MicroStrategy came out in June or July of 2020, and they bought a billion dollars worth of Bitcoin. And that to me was the signal that we’re moving into an institutional phase. And we’ve since found out BlackRock are dabbling.

Robert Reynolds (27:00):

We already know now that Bill Miller has half his portfolio in Bitcoin, Dan Loeb is a Third Point capital. You have all these super investors that are allocating capital. KPMG now store Bitcoin and their vault. But that wasn’t the case in 2020. And so, I kind of made a little bit of a bet on, if we were going to see increased volumes on exchanges while institutional capital comes in. It’s not [Joe Blog 00:27:22] down the street, invest a hundred dollars into Bitcoin. It’s like, “This institution buying a billion dollars.” And all of these exchanges would be able to get a couple of basis points or whatever. It may be on large amounts of money and generate ridiculous amounts of cash. That was a thesis. And then, when I started to look a little bit deeper, I came across all these exchanges where it was Binance, where it was Coinbase.

Robert Reynolds (27:41):

And I was looking at what was available, and I came across tZERO, which is buried inside Overstock. And then I realized that, and that’s how I came to that conclusion was, just Googling, trying to find out where all these exchanges are, how to get exposure. And it started out looking for a digital exchange. And then I bought an online furniture retailer because I got that for free. And that’s how I went down that rabbit hole. Other ways I… When you have a good quality company such as Facebook, which we can talk about in a moment. But Facebook is a company that I used to own. I’m familiar with the business, the earnings come out, and I listen to the earnings just out of interest. Share price drops 26%, comes down to a valuation where most of my fears and concerns are completely dissipated, and all of a sudden I’m back in.

Robert Reynolds (28:24):

You look at pretty decent discounts in markets. You look at an awful lot of turmoil. Going back to my experience, March, 2009, I bought into depressed assets. 2011, 2012, bought depressed real estate. 2018, 2019, bought depressed digital assets. And so, anytime I see that kind of depressed assets, I like to do a little bit more digging, and then finally, just through screeners where I’d screen out specific multiples, free cash flow, balance sheet, growth, and earnings, that type of stuff. And they’re sort of the three different ways where it’s more specific. It might be something that’s, for argument’s sake, a special situation. So Discovery was more of a special situation. The merger between Time Warner and Discovery, that was all over the news. And I said, “You know what? Let’s see what the valuation would be, what the market would be willing to pay for, comping it relative to its peers,” stuff like that.

Robert Reynolds (29:13):

And then, sometimes you invest in them, sometimes you don’t. But once you do all that analysis, it’s already there. It’s stored in the back of your mind. It’s in a folder, in your computer, and the price continues to drop lower than you just strike. You just put it to one side if you’re not interested at a specific price, but if at some point in the future that comes around, you’re ready to roll. And that’s sort of how I do it.

Clay Finck (29:31):

You had a video where you walked through your stock filtering process, and I know Peter Lynch is pretty famous for using this approach of GARP, growth at a reasonable price. When you’re looking at this filter, what are you typically looking at for growth rates? Maybe like the multiple, say, price-to-earnings or price of free cash flow, or however you look at it.

Robert Reynolds (29:56):

I would look at the multiple in terms of price-to-earnings, price-to-cash flow, enterprise-value-to-EBITDA depending on the business. So, for argument’s sake, if I look at Amazon, which is a company I own, I’m not going to look at the price-to-earnings. I’m going to look at the enterprise-value-to-EBITDA because they’re in a massive reinvestment cycle. It’s like $60 billion. So if I look at price-to-earnings, it comes in really high, but I’m penalizing the company for reinvesting in the future.

Robert Reynolds (30:19):

If I look at price-to-earnings and penalizing that reinvestment in the business, but if I look at enterprise-value-to-EBITDA, EBITDA adds back an amortization of the capital expenditure so I get a fair reflection of what the earnings would be. And so, it depends on the business, depending on the ratio that I look at.

Robert Reynolds (30:35):

For something like Amazon, I prefer to look at enterprise-value-to-EBITDA, but something that’s consistent, the net gets close to zero. I’d probably look at price-to-earnings. If it’s a lightweight business, I’d probably look at price-to-cash flow. And so depending on the business, I’d look at a specific metric. If it’s got high capital cost, like a business that I own, for argument’s sake, would be Micron. I’d look at price-to-book. So what’s the replacement value of that company, and how many more times should I pay for that replacement value if it produces cash flow. And so, I’d look at a multiple, to understand what valuation is, and then I’d look at different stuff like, for argument’s sake, return on invested capital, to understand, are the management team generating a reasonable return for me?

Robert Reynolds (31:16):

And what would you determine a good return on invested capital? Well, if you think about the cost of capital, how much capital costs to a business, so there are simple calculations you can do, like the weighted average cost of capital. This will give you an idea of what capital will cost you a specific business. So every business has a different capital structure. And so, every business has a different discount rate. Let’s call it that. You’ve heard it in discounted cash flow models and whatnot. So let’s say it comes up at 8%. I want the return on invested capital. That’s my hurdle rate. I want to be above 8%. And so that’s normally how I determine whether they’re creating shareholder value. I’m paying a discount to what the market’s willing to pay for it, and stuff like that.

Robert Reynolds (31:53):

Both of those are very important. It’s also very important to dig a little bit deeper and understand what the competitive advantages are of a specific business. So one company I’m building out right now, I look at Crocs. From the outside, you might look at that and say, “Oh, it’s just a boring shoe company.” But then you realize that they have patented materials like CROSLITE, which is actually a competitive advantage. My wife will only buy Crocs because the plastic alternatives give you blisters. And so, it creates this little barrier to entry that you can start to realize that the revenue growth is probably going to be a little bit more consistent. And so, yeah, understanding the business, but also looking at metrics, such as valuations, return on invested capital, stuff like that.

Clay Finck (32:30):

Interesting. Now, I like to talk about another topic related to Lynch. You know, sometimes in his fund, he held hundreds or maybe even over a thousand companies in his portfolio, whereas someone like Buffett tends to be a lot more concentrated. How do you approach the number of holdings in your portfolio? When I was reading about Lynch’s strategy, and how he holds so many companies, I was actually pretty surprised that he held that many, like how he would be able to keep track of all these and keep up with all their earnings reports and things like that. So, I’m curious what your approach is since you’re a huge fan of Lynch yourself.

Robert Reynolds (33:05):

The sweet spot for me, everyone has a different view on it. I mean, Charlie Munger’s literally on a leverage long bet into Alibaba. So everyone has a different view. For me, the sweet spot is 25, 30 positions. As of right now, I think I have 23 positions. And so, the reason why I’ve got a sweet spot there is because I’m not smart enough to get everything right. And I mean, when you look at, for argument’s sake, Warren Buffett’s track record, 20% compounded for 60 years is incredible. And then, if you look at some of the flaws over the years, so for argument’s sake, selling airlines, in March 2020, Lowes, or if you add Kraft Heinz, IBM, all of these different mistakes that were made with Berkshire Hathaway, and he still returned 20% year-on-year. When I look at somebody like Warren Buffett, who’s absolutely an investing genius make mistakes like that. I sure am going to make a lot of mistakes along the way.

Robert Reynolds (33:51):

And so, I look at it in a sense where, if I’m very concentrated… Like Buffett’s not going to invest in IBM unless he thinks he’s going to make money. He’s not going to invest in Kraft Heinz unless he thinks it’s going to make money. And those have been disastrous investments. And so, the way I look at it is, “Look, I don’t want to be over-concentrated in one position because I can absolutely be wrong. But I don’t want to have a hundred positions because I don’t have enough time to look after those.” Somewhere in between 25… Well, let’s say 20 and 30 positions is my sweet spot. And as of right now, I’m getting more concentrated because as we start to see pretty decent corrections, I just find more sense in concentrating some of my lower conviction place into my higher conviction place.

Robert Reynolds (34:29):

And so, that’s the way I see it. I have no idea what Peter Lynch was thinking to have over a thousand positions. I don’t even know if I know a thousand companies. I really can’t comment on that. Somebody had mentioned to me though, that he did own one share of a company in order to get their annual reports sent out to him. So he might spend like a dollar or something buying one share to get the reports. I don’t really know what he was thinking. I would say that’s probably closer to the truth, buying one share in order to get the annual reports because a thousand company, I don’t even know if I know a thousand companies.

Clay Finck (34:58):

It’s pretty remarkable that you can achieve a 29% return holding that many stocks. You think it’d be more concentrated, so that’s pretty interesting. How do you think about entering positions? You seem to be someone that really takes advantage of opportunities once they’re presented. So does that lead to you, scaling out of positions that are maybe closer to what you’d call intrinsic value and entering positions that seem to be good opportunities?

Robert Reynolds (35:25):

I’m never afraid to enter a position. If I look at the company, there’s always a chance I’m going to be wrong, and that’s why I diversify and I split up the risk. So there’s always a chance I’m going to be wrong. And I sort that systematic risk by diversifying. And then, when I buy into a company, I’m usually looking for some barrier to entry, some sort of mode, some sort of competitive edge, that’ll give me some sort of conviction that the revenue’s going to be consistent, for argument’s sake, moving forward, or there’s some degree that will give me confidence that if I value a business on a specific multiple, it would be a fair multiple. So I’ll buy into a specific company, and I’ll start a position. And if it goes down 20 or 30%, I know the company, I know what it paid for, I was happy to pay for it. I’ll increase that position. I’d have no problem increasing that position. If it continues to go down, I’ll get heavier and heavier and heavier.

Robert Reynolds (36:09):

And so, over time, what I realized is, if I’m happy to pay a specific price, and I start a position, and it gets cheaper, one of my edges has been, if I really understand the business, there’s usually a pretty quick mean reversion at the other side. When you get deep discounts on specific companies, for argument’s sake, I started to buy in Discovery at $31. It went down all the way to 21.50, and I bought a lot more at around 26, 24, 24.50, and around that region. My average cost goes from 31 down to 27. And then, the share price bounces back up to $30. I have an opportunity then to lighten the load because I got a little bit too heavy. And I still have the position on a better cost basis.

Robert Reynolds (36:49):

And so, if I’m happy to pay a specific price and I get an opportunity to buy more, that’s absolutely what I’m planning on doing. So it goes back to what Peter Lynch used to say. He doesn’t diversify, but he buys into 10 different stories. And a story two goes up 50%, and story seven doesn’t, well, he’ll take money out of story two and put it in story seven. He suggests that you should rotate capital as opposed to selling because if you sell, you’re not really committed to the stock market. The question is where you’re going to buy back in. So he has this idea of rotation, rebalancing positions, and that’s how I look at it. When one company has a pretty big bump and another company’s down, the two of them have the same opportunity, but one of them is a hell of a lot cheaper, rotate a bit of capital.

Robert Reynolds (37:29):

And you’d be surprised how much that adds to your annual performance and reduces your risk. And positions correct all the time, and certainly after you get a big pop, for argument’s sake, a 50% jump in a short period of time. Like what happened with Micron last year, I invested in Micron, which has continued to grind lower, and then inside six, eight weeks, it’s a 50%. And if you can seize that opportunity to rotate capital into another company that’s underperforming, that’s essentially what I like to take advantage of. So when I’m investing into a position, the most important thing for me is not to go too heavy. And then, the second most important thing is if it does get cheaper, buy more. And that’s how I look at it, but don’t overexpose myself.

Clay Finck (38:05):

Very interesting. And I did have a chance to take a look at your portfolio. And I did notice that you used to own Facebook. Facebook and also Google are companies I’ve considered adding positions too. And since you sold your Facebook’s position, I’m curious what your thoughts are on the company. And also maybe some thoughts on Google as well.

Robert Reynolds (38:28):

I bought Facebook back after earnings. Originally, I had a problem with Facebook in that, I think the opportunity is great. I thought the valuation was fair, but I was concerned about antitrust challenges. I was concerned about corporate governance risks regarding insider trading, and how that might impact, create a lack of focus from management. So I sold out of the stock, but then obviously earnings came around, the share price drops 26% in one day. And so, there’s a number of things that I needed to consider. If you look at Facebook, first and foremost, you understand the opportunity that exists in Facebook. So Facebook, everybody chose around this idea that they’re a specific company that they’ve invested in has network effects. Well, most of the time, there’s very few actual companies and assets that actually have huge network effects. Facebook is one of them that actually does.

Robert Reynolds (39:11):

And the idea of a network effect is each incremental user adds value to this network. And so, what I mean by that is, if you look at the US population, it’s 330 million. If you look at the Canadian population, it’s 38 million. So you’ve got 368 million people. And if you look at the number of people from that region that are on Facebook or Facebook’s products from those regions, it’s 195 million people. So you’ve got over 50% of the entire population, including old-age pensioners, newborns, in and around 52% of the entire population on the platform. If you need to contact somebody that you haven’t seen in ages, you can’t find the number in the yellow pages, because it doesn’t exist anymore. You can’t look them up. You pop onto Facebook, and it’s more than likely you’re going to find that person. So if you go back to 2018, during the Cambridge Analytica scandal, and there was this… All over social media, people were saying, “There was campaigns to ban Facebook and get off Facebook.”

Robert Reynolds (40:02):

It never happened. No one ever left Facebook. In fact, the numbers continued to grow. And so, that’s a sign of just how strong the network effects are on Facebook because it’s so convenient. If you want to keep in touch with your family members across the world or whatever it may be, you know they’re on Facebook. And so, when I look at that for Facebook, it’s not something that I ever think is going to be recreated. There’s 2.9, 3 billion daily active users on the site. And it’s not something that I think is ever going to be recreated. And if you look at, for argument’s sake, recently, people are talking about a concern over users actually leaving the platform. Well, if you look at the revenue breakdown, the 195 million people from the US and Canada, the ARPU on those users is $60 per user per year. And if you look at the rest of the world, it’s $3.60.

Robert Reynolds (40:45):

The users that they’re losing is in the rest of the world. So for every 20 million people that they lose in the rest of the world, it’s the equivalent of 1 million in the US. So I’m not really concerned about them losing users. And the network effect is really, really, really strong. It still remains very strong. So the business as a whole is a solid business. And then, it comes down to problems with antitrust. They’ve been scrutinized significantly about antitrust issues, monopoly, and whatnot. And the latest earnings, they came out and they said, “Apple have impacted our business. It’s going to cost us $10 billion this year. And at the same time, TikTok are stealing all of our users.” How on earth, first and foremost, can the FTC come out and say, “That’s a monopoly,” when you see a billion users in four years on TikTok, and Apple have impacted their business by 10 billion, very, very, very difficult to accuse them of that.

Robert Reynolds (41:33):

But secondly, antitrust laws only apply to businesses that are over $600 billion in market cap. And after the drop, they drop below $600 billion in market cap. So they can make acquisitions now and not be scrutinized by it. And I find that quite appealing as well. So the FTC issue at these prices, it’s not really that worrisome. A lot of people are worried about the metaverse and all that type of stuff. It’s $10 billion investment into reality labs. Plus their business is going to be impacted by $10 billion in free cash flow because of iOS. So their free cash flow is going to go from 39 billion down to 26 billion, which is a pretty big drop.

Robert Reynolds (42:07):

But at the same time, the valuation has dropped pretty significantly. So I get optionality on the metaverse plus a 4.7% free cash flow yield, little to no scrutiny from the FTC as long as the market cap is below $600 billion, they could go out and buy Roblox or something like that. Maybe, Take-Two, something like that, where they can get younger engagement on their platform, have some sort of metaverse today while they build out some monopoly into the end of the decade. And so, I see it as a very compelling opportunity.

Clay Finck (42:36):

It’s interesting how Facebook stock has seemed to act a bit differently than some of these other big tech names. Facebook, you mentioned the Cambridge Analytica scandal, the stock went from roughly 210, huge drop on earnings, down to roughly 125. Then COVID, it went back up to the 220 range down to $150 or so. And then now, just recently, stock went up to $380 in the fall of 2021. And now, we’re just north of $200. So many times, people have scrutinized Facebook while the business has been a compounding machine in terms of revenue and free cash flows and things like that. But the stock has been pretty choppy, but in general, it’s been up, and to the right with now looking to be potentially another one of those opportunities.

Robert Reynolds (43:21):

Yeah. I mean last year they bought back $44 billion worth of stock. So you think about like, they’ve got no debt, they’re producing all this free cash flow. They’re already reinvesting tens of billions of dollars in R&D and capital expenditure, and they still have 26 billion left over. They’re not going to issue dividends. They’re just going to keep buying back their stock. They’ve got $58 billion in their balance sheet. It’s a really unique situation where it’s got so much hate, really strong network effects that don’t seem to be waning. And I just see it as a very compelling opportunity. And so, back to your point regarding the differences between them and Google, I don’t own Google, to be honest. I tell you why I think it is. If I go back to 2012, Peter Thiel, on an interview with the CEO of Google at the time, and he pretty much said, “You guys have a monopoly on Search, and you guys are lazy. And you guys are not innovating, and you guys are going to turn into a bureaucratic company that’s slow growth, and it’s going to start slow down.”

Robert Reynolds (44:14):

And when I listened to that, I was like, “I think it was maybe shades of what happened to Nokia in the late 1990s.” The most innovative company in the world, bureaucracy takes over, and then you just crash and burn. I was thinking to myself, and I think it’s that sort of memory kind of pushes me away from it. But if you look at the company today, it’s like, they’ve got a monopoly on Search, a duopoly on advertising with Facebook. You also have Android. And so, yeah, I think it’s an interesting one.

Clay Finck (44:39):

Yeah. I mentioned Google to Bill Nygren. He’s heavily invested in that one in his Oakmark Fund. And he believes that YouTube still has a lot of runway to grow, and they bought YouTube back in the day for a billion dollars. And now, it seems to have a ton of potential, just like many of these other platforms like Google, the Search, and Facebook, what they have with the Facebook social media platform and Instagram. Facebook and Google both seem like very similar picks to me, and that they have these huge platforms with these massive network effects that they have just been able to monetize so, so well.

Robert Reynolds (45:13):

Do you know what’s funny? I got a new machine, and I’ve got windows running on it. And they keep trying to get me to move over to a Microsoft Edge, and I just can’t do it because it’s just so convenient and easy to search on Google. And so that’s a testament to their network effects. Yeah. I mean, there’s not really too many companies that have those type of network effects. And YouTube as well, in the latest quarter, I think it was about $8.6 billion in revenue, in a quarter. So they bought it for a billion, a pretty successful investment. Yeah. There’s another sort of… I heard Terry Smith talk about Google. He’s invested in the company now, but he had a hard time investing for years. And one thing he was pointing to is they’ve made 235 acquisitions, and none of them, none of them actually were successful.

Robert Reynolds (45:57):

And so, he’s come to the theory that they were just buying the competition and putting it on a shelf and getting rid of the competition that way while they were early. I guess if you come to that conclusion as well, you’ve got all this cash, you’ve got a perfect monopoly on the market, and it’s trading actually at a very reasonable price. It’s not expensive at all. Certainly, when you’re looking at a relative to some of its peers, it’s trading at a very reasonable price. And every single quarter, they just continue to perform very well. I think both of them are interesting. I personally chose Facebook. I love getting involved with the hysteria that goes around it. And I think it’s a quite low-hanging fruit as current valuation. But Google, I could put it in that category as well for sure.

Clay Finck (46:33):

Yeah. The two very interesting picks that have both been on my mind quite a bit recently. So Robert, before I let you go, where can the audience go to connect with you and learn more about your YouTube channel?

Robert Reynolds (46:47):

I guess you guys can check on my YouTube channel. The Popular Investor. I post more sporadically on YouTube. Twitter, I speak a little bit by Twitter, but it’s more speaking my mind. Sometimes I’m wrong. Sometimes I frustrate people, but it is what it is. And you guys can check out my portfolio on eToro. I’ve got an open portfolio. You can see my stats and the growth rate in my portfolio. My username on eToro is RobertMERC, and you’ll see all the files, the different positions that I’m holding, and the ones that I talk about on YouTube as well.

Clay Finck (47:16):

Awesome. Robert, thank you so much for coming onto the podcast.

Robert Reynolds (47:19):

Thanks for having me.

Clay Finck (47:21):

All right, everybody. I hope you enjoyed today’s episode. Please go ahead and follow us on your favorite podcast app so you can get these episodes delivered automatically. And if you haven’t already done. Be sure to check out our website, theinvestorspodcast.com. There you’ll find all of our episodes, some educational resources we have, as well as some tools you can use as an investor. And with that, we’ll see you again next time.

Outro (47:44):

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