[00:01:44] Clay Finck: Welcome to The Investor’s Podcast. I’m your host, Clay Finck. And like I said in the intro, I’m joined by Scott Phillips. Scott, thank you for joining me on the show today. 

[00:01:54] Scott Phillips: It’s great to be here, Clay. Looking forward to the conversation. 

[00:01:57] Clay Finck: I wanted to start this discussion by talking about Sir John Templeton.

[00:02:01] Clay Finck: For those in the audience who aren’t aware, Scott’s wife, who he manages money with, is Lauren Templeton, which is Sir John’s great niece. And Scott has actually co authored three books about Sir John, including Investing the Templeton Way. And in preparation for this chat, I also revisited William Green’s chapter in his book, Richer, Wiser, Happier, that was on Sir John.

[00:02:24] Clay Finck: It was chapter 2, which was titled, The Willingness to be Lonely. And the subtitle states that I wanted to share here, To beat the market, you must be brave enough, independent enough, and strange enough to stray from the crowd. And William described Templeton as probably the greatest international investor of the 20th century.

[00:02:43] Clay Finck: So I’m super excited to dive more into this and dive into some of Scott’s knowledge and knowing Sir John. And in the book, William also talks about how humans, they have this natural tendency to stick with the crowd selling stocks when people are panicking and buying stocks when there’s that hype and euphoria.

[00:03:02] Clay Finck: And I just think of to my own experience, how much easier it feels to. Want to buy the stock that’s recently gone up and then be a little bit more cautious with the stock that’s gone down. So Scott, let’s start it off by asking you, what do you think helped Sir John Templeton overcome this temptation of going with the crowd and his willingness to stray away from it and blaze his own path?

[00:03:25] Scott Phillips: Sure, Clay, great question with Lots of potential facets to explore here. I think that a big piece of it just goes back to his upbringing. His parents were both extremely interesting people, great role models. So his father was the town lawyer, but he was he was referred to as a super entrepreneur.

[00:03:45] Scott Phillips: So very sharp and ambitious in addition to being a lawyer, he had cotton gins, he had rental properties. He sold insurance. He was just very ambitious, high energy, and focused on making money. And then his mother, by contrast, was extremely well educated for a woman at the turn of the 20th century, the early 1900s.

[00:04:11] Scott Phillips: She was college educated. She studied Greek, Latin, and mathematics. She didn’t marry until she was older. She too was very enterprising, but in different ways. She was very. altruistic. She supported local charities. And so he had these two people in his life that I think instructed him at a behavioral level, but they did not provide any verbal instruction to him to the extent that most parents today tightly manage their kids, what they want their kids to think, what they want them to do, what their goals should be.

[00:04:45] Scott Phillips: Sir John and his older brother, Harvey Jr., which is Lauren’s grandfather, had really no direction. They were turned loose, but they had these key role models in their lives. And they’re really just left to their own devices. Anything they learned, they had to go learn themselves. Sir John always remarked that if he asked his mother a question about something, She wouldn’t provide a direct answer, but a week or so later, there would be a book left out on the coffee table.

[00:05:09] Scott Phillips: So he was, he and his brother were extremely independent, autodidactic. They taught themselves all kinds of different things because they had to. So they saw these kind of superlative role models who were successful in the things they were doing, but they had to go figure it out for themselves. And I think that kind of paradigm, that way of going about things.

[00:05:30] Scott Phillips: And the other thing was they lived in the country. It was a rural setting. So it wasn’t like a city where you would observe convention and compare yourself and say we don’t do it that way or make comparisons and learn through all these kind of social proofing and social conventions. They just thought for themselves and did what they wanted to do for the most part.

[00:05:53] Scott Phillips: And they made a lot of mistakes along the way, but just to give you an example of how extreme this was Sir John asked for a shotgun when he was eight. I think his mom resisted until he was 10, but he still got one. And she just thought that it was in God’s hands. That was her philosophy that like he would figure it out.

[00:06:10] Scott Phillips: He would be safe. It would work out. And so he had this internal mechanism, this drive to learn and to think independently without anyone ever really correcting it. And it’s fascinating because it really, it manifested itself in really just excellence. A number of different levels as a child, he was a star student.

[00:06:34] Scott Phillips: He was a great athlete. He was well liked. But then moving alongside that, there were cultural influences too. So the big thing was at this time in America, there was a lot going on in terms of self reliance, living the American dream. You are your thoughts. The greatest importance in Winchester, Tennessee at that time was your character.

[00:06:56] Scott Phillips: Who you were as a person. My word is my bond. So that was your worth. And so that was also tied to your religion and church. And so there was this higher calling or higher presence that was supporting all of that. This kind of upward pull. So he was just to review, he was very independent.

[00:07:20] Scott Phillips: He thought for himself, he didn’t really care much about what other people thought about his actions. He thought they were right. And that’s the other piece that I should mention. He had a lot of self confidence. Not arrogance, but great self confidence. He believed that what he was doing was correct. And by the time he got to Yale and went into business, that was his mindset.

[00:07:44] Scott Phillips: So that, that’s the, those are the pieces that really informed him as an investor later, but also the last piece that I’ll mention is alongside those cultural underpinnings, the positive thinking, like I said, the Norman Vincent Peale, the Ralph Waldo Emerson, the self reliance, all of that individualism, which is a huge part of American culture and thinking at the time, that gave him This huge sense of purpose and living a deliberate life and serving others.

[00:08:15] Scott Phillips: That was his ethos, and that’s what he wanted to do, and he took that extremely seriously and organized his life around those facets. That was the driving force. And so for him to be successful and to help others with their wealth, it was who he was. That’s who he saw himself. That’s what he thought his talents.

[00:08:36] Scott Phillips: were oriented towards. That’s what he saw his purpose was on earth. It was just like really heavy stuff. So he was all in, completely dedicated, being successful as a money manager. And it was the independent thinking and seeing how that worked in the markets eventually culminated in a great track record every time.

[00:08:57] Scott Phillips: Because he was always just thinking for himself and going the other way when most people. We’re doing the popular thing. 

[00:09:03] Clay Finck: Yeah. Prior to this chat, I was just thinking about what was it about Sir John that really led to this amazing career that he had. And one of the themes I think that you mentioned there was just his immense work ethic.

[00:09:17] Clay Finck: He had this underlying purpose that he found through his upbringing. And the direction his family gave him, as you mentioned, and to achieve extraordinary levels of success in the investment industry, you really have to have that sort of work ethic he had. And I remember you telling the story of he was just always looking for the next bargain always searching in various markets and where things were beaten up most.

[00:09:40] Clay Finck: I wanted to turn to when he started college, he went to Yale in 1930, and I think part of that work ethic he developed. It came for good reasons. This was the very start of the Great Depression. And I’m reminded of the book I read that covered, talked about the investment career of Benjamin Graham.

[00:10:01] Clay Finck: And he just had a treacherous time investing through the Great Depression. And it’s a reminder of just how difficult of a period this was for everybody. And you’ve stated that Sir John, he was really shaped by these big events, such as the Great Depression. So what do you think the Great Depression taught him other than this probably this work ethic that he developed early on in his life?

[00:10:25] Scott Phillips: Oh, there were a number of lessons that came out of those events, I think. First of all, going back to 1930, 1931. I always share this story about how just prior to the sophomore year, his father pulled him aside and said, I can’t even spend one more dollar towards your education.

[00:10:44] Scott Phillips: I can’t support you. And so he was fortunate that he had an uncle. who was willing to fund him returning to Yale. But once he got back to Yale a sophomore year, he was on his own. And so what he did was he decided that he was going to make it work. And he worked harder in school. He got better grades.

[00:11:05] Scott Phillips: He obtained scholarships until he was able to get those scholarships. He was working part time. And that between the part time work and the the scholarships that covered about three quarters of what he needed to pay his tuition and room and board and food and support himself in the last quarter, he made through playing poker with his classmates.

[00:11:27] Scott Phillips: And that was the. Legendary view of what his mind was like and what he can do in terms of working with numbers and probability and reading emotions across the table, but what it really did taking a step back, it did really two important things came out of that first.

[00:11:47] Scott Phillips: And he said this, he learned that, I learned that it was, it seemed like this huge tragedy at the time when my father couldn’t support me anymore, but it was the best possible thing that could have happened because if that did not happen, I would not have worked as hard, I would have not gotten to the top of my class, and I would not have obtained a Rhodes Scholarship to go to Oxford.

[00:12:08] Scott Phillips: And then the other piece was, because his father was very successful, he was also more volatile, like he had ups and downs. And his moneymaking ventures, and he wasn’t necessarily a saver. And so both Sir John and his brother, Warren’s grandfather, they were deeply affected by that. They both became intensely frugal and thrifty.

[00:12:33] Scott Phillips: And so I think between the experience of wanting financial stability by watching their fathers ups and downs, but then also watching what was going on in the depression, both were big savers. And so when Sir John went through the depression, whether it was at Yale or when he was beginning his career on Wall Street, he knew that he wanted to be this figure that could generate wealth for people.

[00:12:58] Scott Phillips: But he also knew that he needed the same exemplary habits within himself. And so it was a huge piece of who he was and it was authentic all the way through. And you saw that in a lot of people that. Were affected or lived through the depression. They just have completely different attitudes towards scarcity, wastefulness, saving.

[00:13:21] Scott Phillips: Sir John saved 50 percent of everything he made and he didn’t have to do that. Even when Lauren and I were working with him, he was still just extremely frugal and didn’t waste anything. He Lauren and I both recall. After the Asian financial crisis, he had bought Kia Motors and he had invested in the Matthews fund as well with the Matthews Korea fund and just made a large sum off of those investments and still refused, even at the prodding of his assistant to go buy a Kia automobile.

[00:13:53] Scott Phillips: He said they were too expensive. Finally, she tricked him into doing it, but that was always his attitude and that was baked into who he was. So those experiences from the depression informed all of his behaviors going forward. So they were profound. So both finding the positive within the negative and then the financial practices of being a saver and preparing for new opportunities and not wasting anything.

[00:14:20] Scott Phillips: There was a great story of even prior to selling the Timberland funds where I think it was Marty Flanagan told this in the Timberland Touch, or maybe it was in another conversation, but he said he walked into the office one Saturday and he just kept hearing this BAM, this banging on the table.

[00:14:37] Scott Phillips: And he was looking around and he couldn’t figure out what it was, and he walked into Sir John’s office where it was coming from and Sir John had gathered up unused scraps of paper and was stapling them into a new legal pad. He wouldn’t waste anything. And so it was, he was one of those people who just lived it to the fullest.

[00:14:54] Scott Phillips: He was completely authentic. What you saw is what you got. So it’s impressive for sure. 

[00:15:01] Clay Finck: You made a really good point that really struck me there. It was talking about how frugal he was living through the Great Depression. And I recall in just reading more about him, even when he became like, , stepped in and provided sort of a backstop to financial markets that they really didn’t have during that time period of the great depression, they let free markets play their role.

[00:15:24] Clay Finck: And then I also think about how where the Amazon economy, we can always just hop on our phones and just buy the easy 20 30 item. And it’s just so easy to just buy things we might not need, but are just super convenient. So do you find that to be a challenge to live out through your own life and then teaching your kids those values as well?

[00:15:44] Scott Phillips: Yeah, of course that the things you just described are foreign, even to my childhood we didn’t have these levels of instant gratification and it is challenging, but I think the most important thing is giving them the independence to take risk. And knowing the value of character and understanding the value of a dollar and where it comes from and what it took to earn it.

[00:16:11] Scott Phillips: You have to, you just have to make those connections forcible. And it takes a lot of work because a lot of the things going on, our conveniences lie in the face of that. Especially if they’re on social media and looking at the messaging and just constantly being sold things. These kids, everything is an advertisement.

[00:16:34] Scott Phillips: Everything is geared to get their attention, to distract them, to make them focus on something that is probably not the best use of their time. They’re not learning anything. And so the big thing, I think, That we’ve done as parents summer camp is a huge one. Both girls have gone to summer camp since they were probably eight years old for five weeks.

[00:16:56] Scott Phillips: And when you get there, the phones go away. They have no access to that. And so you have to do, it takes them back to what childhood was like for the rest of us, pre internet, which was if you needed something to do guess what? You had to figure it out. Like you had to think and take risks.

[00:17:14] Scott Phillips: They make choices. No one’s going to sit there and spoon feed you your entire day and helicopter over you and make sure that all these outcomes are being generated. And it really has enhanced, I think, their willingness to try new things, their ability to interact socially. They value, I think, conversations more, whereas you encounter a lot of young people today and everything is driven by the phone.

[00:17:39] Scott Phillips: I remember, I think it was a few Halloweens ago, my oldest daughter had a bunch of friends come over after they were trick or treating and here were 10 girls all in a room together. You would think you would hear all this tackling and talking. No, they’re all quiet in our living room on their phones.

[00:17:58] Scott Phillips: None of them were talking together. They were all on their phones. It’s the strangest thing. And so I think from a parent standpoint, you have to find ways to offset. that behavior because it’s not productive. It’s not the growth mindset, we should say. It’s not going to help you, I think in the long term.

[00:18:14] Scott Phillips: So yeah it’s hard. That’s what I’ll say. It’s very hard today. No question about it. 

[00:18:20] Clay Finck: So it was in 1938. It was about a decade into the great depression. Sir John, he first got into the investment industry and that’s when markets were at their most bleak period in U S history. The great depression lasted around a decade.

[00:18:35] Clay Finck: And it was the following year he made the bold bet of buying 104 of the most beaten down companies in the US. And then once markets ended up rebounding in 1942, he ended up selling those positions, making 5X’s money and earning a positive return on 100 out of 104 companies. It’s just so funny, rethinking that chapter.

[00:19:00] Clay Finck: In Williams’s book, he called the broker and told him to buy these 104 names and they’re confused why the heck’s this guy buying? Half these companies are bankrupt, so we’re not gonna be buying those for you. But he said no, go ahead and just place that order.

[00:19:14] Clay Finck: And that story really stuck with me. And just the sheer independent thinking. And recognizing eventually things are going to turn when it feels like, of course, a decade into it feels like it’s never going to recover. So in knowing Sir John, and when you look back at his investment career and studying it, are there any other stories that have really stuck with you that maybe you could share with the audience or just other lessons that really shine through in his career?

[00:19:43] Scott Phillips: Yeah, I think even just taking a look at unpacking some of that initial trade in World War II is informative. First of all, he had the conviction to do something that most people thought was crazy, but he had also, it was a very well designed and thoroughly researched idea. There was a lot of purpose behind every step in that transaction.

[00:20:04] Scott Phillips: First of all asymmetry you wanted as a value investor. He thought. If I lose a hundred dollars on this, it’ll be offset by another position that’ll go up 10x. But then also he had gone back and studied that the right thing to do from a bottom up standpoint was to buy the most distressed businesses because in previous wartime periods, the U.

[00:20:29] Scott Phillips: S. government had taxed away excess profits from healthy companies. So he knew that the loss making companies rising up to a normal operating level would not have their excess profits taxed away. which would have been the case in healthy companies. So it was one of those. instances where it made the most sense to go into the worst of the worst, the junk, not the high quality businesses.

[00:20:50] Scott Phillips: So that’s very contrarian in and of itself, especially when you talk to investors today, most investors, almost all investors are focused on quality. But then also he had this long term view and this willingness to hold on throughout all the bad news. They continue to proliferate. The thing with that investment and many of the ones afterwards, similar patterns at work.

[00:21:15] Scott Phillips: Now I think what’s interesting about his career, most people have heard of that trade around World War II. A lot of investors have read or heard about him shorting the dot com bubble and the IPO lockup strategy. But really that, that six decades in between, a lot happened there too. And I think what’s interesting to really think about is to really go back historically and contextualize what it was like to make.

[00:21:40] Scott Phillips: There’s all those investments, but also to realize that what we’re really looking at when we talk about a trade, it’s like watching the winning pass thrown in the Super Bowl, all the chips are stacked against the team, they throw the Hail Mary and when and everyone celebrates and admires it, but it overlooks all the practices and losses and injuries along the way in that career of that quarterback.

[00:22:04] Scott Phillips: And so you have to understand, I think, at a more. Epistemic level, where that behavior comes from, and it goes back to the purpose and the study and the unrelenting drive, the doctrine of the extra ounce that you referenced. He always called it the doctrine of the extra ounce. You read one more research report, you take one more company visit, and you put in one more hour of work.

[00:22:27] Scott Phillips: And that makes the difference in his mind between a great investor and a really fantastic one of all time. Great performers in any industry or business or endeavor sports business. And when I think about like Japan when he invested in Japan in the late 1950s, he invested first in the late 1950s.

[00:22:49] Scott Phillips: Think about Japan in the late 1950s. They had just been through and lost World War II. Americans did not like Japan. There was still a lot of bad feelings. There was a horrible war. A lot of people died and he was over there looking at investments. And so I think about what he walked into this kind of decimated economy.

[00:23:09] Scott Phillips: No one thought, no one would have thought this was a good idea. No one. And I really contextualized it when I was working on the Temple in Touch. The revised edition. I spoke to a lot of people that knew him and worked with him or had capital from him along the way. And Jim Rogers was one of them. Jim Rogers, of course co founded the Quantum Fund with George Soros, and he and Sir John developed a relationship over the years.

[00:23:31] Scott Phillips: They were friends. They both attended Yale. They’re both from the South. They met each other at a event over at Oxford. And so they kept up a relationship over the years. And he just said Scott, you think about what it was like if you were on Wall Street in the 1960s, and you said, I got this great investment idea in Japan.

[00:23:51] Scott Phillips: He said, people would have laughed you out of the room. There was no room for any of that thinking that would have been absurd. Like you were completely crazy. And he did this. And then it wasn’t until the, really the 1970s that the Japanese market took off when the US was in steep decline because of inflation.

[00:24:11] Scott Phillips: And that’s something that paid off 15, 20 years later, but when you think about what it took from a psychological standpoint to even go investigate that, and then the legwork once he got there as an analyst was intense. It’s hard enough looking at Japanese stocks today, but. He went over there and there was barely any kind of market infrastructure there were brokers, but he didn’t speak the language and you had to learn the accounting and he did all of that and saw that from a bottom up basis, all these companies have not consolidated their subsidiaries onto their reported financials and he understood that they were deeply undervalued based on their market quotations.

[00:24:53] Scott Phillips: And he was willing to invest and hold on to them in Japan and eventually released their capital controls and that made a big difference. But what he was really seeing was, it goes back to that depression experience at Yale. He went to the most negative situation he could discover and he saw something positive in it.

[00:25:12] Scott Phillips: He saw their high savings rates. He saw their industrious attitudes. It reminded him of what Americans had been like. Earlier in the 20th century, when we had this huge kind of industrial boom, he saw the same things, and then he exploited that same paradigm over and over throughout his career, he saw this kind of this huge kindling and explosion of human innovation, the will to create and produce, so he exploited that on the heels of the Asian financial crisis, China all these various markets had opened up.

[00:25:46] Scott Phillips: He saw that paradigm and he was willing to go in and do the work and make the investments. And he just exploited it over and over again. But yeah there were just, there’s so many things. And then the big stories, I think that people don’t really understand. It’s just when you look at his career, most people just think of the Templeton growth fund or the Templeton funds, but he actually had a registered investment advisory firm.

[00:26:09] Scott Phillips: He was an investment counselor and he got into the mutual fund business in the the 1950s. But for most of his career, he was managing money through mutual funds and individual separate accounts. And this was over on Wall Street, he had an office. and 30 Rockefeller Center. And he was, it was not what people think of today when they look at his career.

[00:26:34] Scott Phillips: So it was far more individualized. It wasn’t scaled like a mutual fund company was what people think of. And so that was where he spent most of his career. And he was doing all of these innovative things in terms of investing. So he was investing. overseas. He was a self proclaimed quant at a time before there were computers.

[00:26:55] Scott Phillips: So he had a lot of analysts doing constant calculations on future earnings because he thought that his value added. As a manager to his clients was through an unemotional, systematic kind of scientific process of investing. And that too was very rare on wall street. He said that Ben Graham was really the 1st person that popularized that approach and gave the investment industry credibility.

[00:27:23] Scott Phillips: And he had taken Ben Graham’s class post college. You could audit it as a professional. And he was very influenced by that. But he sold that business in 1968 and in his mind, he was basically done. Like he was moving to the Bahamas. So he, by this point, the business was, I think the 10th, one of the 10th largest investment firms in the country.

[00:27:48] Scott Phillips: So it had been wildly successful. And an insurance company, a life insurance company came in and bought basically his business and all the various funds that he managed, except for one. They did not buy the Timbaland Growth Fund. And so it was that one fund that he just said, Okay it’s Canadian domiciled.

[00:28:07] Scott Phillips: I understand the tax treatment of US investors. There’s not a lot of money in, there’s 8 million in capital. It’s my money and some close friends. Sibling Growth Fund is the fund that everyone thinks of when they think of Sir John. That is the long 38 year track record that annualized right around 15 percent after fees.

[00:28:26] Scott Phillips: And that’s just no one it’s unlikely anyone will be able to replicate that over a 40 year period in a cash based mutual fund. The thing is, in his mind, he was basically done with his career. That was just something he was going to manage on the side. And he was moving to the Bahamas to focus on his philanthropies.

[00:28:45] Scott Phillips: He had already decided to award the Templeton Prize. He was just going to study spirituality and pursue all of these other interests. He was done with investing outside of just managing his own money. And it was John Galbraith. who ended up being the marketer of all the Timberland funds.

[00:29:02] Scott Phillips: He was the president of that life insurance company that he sold all of his funds to. And the life insurance company decided a year later they were going to move to Los Angeles from New York. John Galbraith said, I don’t really want to do that. So he resigned, but sought Sir John, went and met with him down in the Bahamas.

[00:29:17] Scott Phillips: And he said that one fund that you kept, I’d like to buy it from you. I remember it had a good track record. And Sir John shrewdly said, I don’t want to sell it. but I’ll partner with you if you want to market it and we can split the profits. And John Galbraith diligently took that so called mountain chart, which showed its tremendous performance around all the brokerages in the U S and that 8 million fund in the span of let’s see this.

[00:29:43] Scott Phillips: So this is the late 1960s. So they rode the rise in the Japanese market through the seventies and that 8 million fund became a 12 billion mutual fund empire. By 1992. So I think the big lesson here is just this unrelenting persistence and patience and reinvestment. He said that every year you wanted to be a better investor than the year before.

[00:30:08] Scott Phillips: And it just shows that no matter how much skill you have. You got to stay in the game because there are circumstances to, and it’s just an amazing way to look at his career to think that he was basically, he said he’d never retire. He always wanted to work, but he was more or less done with professional money management.

[00:30:26] Scott Phillips: And then all of those circumstances played out. There he goes. He sold the Templeton funds for 992 million in 1992. It was all just kind of these circumstances. I just love to think about that and how he just persisted throughout his entire career. And there’s so much to learn just about patience and having that purpose and just this unrelenting passion to keep doing it.

[00:30:52] Clay Finck: Did he ever meet Benjamin Graham? 

[00:30:55] Scott Phillips: He did. He took the course from a post grad. So he had already finished Yale. in Oxford and was working on Wall Street and the security analysis class was offered at night to working professionals and Sir John took it. 

[00:31:09] Clay Finck: Most people, they know Sir John just as the master of finding the biggest bargains and finding where the maximum pessimism is at.

[00:31:19] Clay Finck: You’re firm, Templeton Philips Capital Management. I’m reminded of you guys, how you wrote to your shareholders, how you took full advantage of the drop in March, 2020. That’s the most recent example of finding these big bargains overall in the market. Your fund turned over two thirds of its holdings in just a few weeks.

[00:31:39] Clay Finck: And I read that and I was just. It’s pretty blown away by that level of turnover in such a short timeframe. So I’m super curious to learn how that actually works in practice of taking advantage of that point of max pessimism in the midst of managing a fund. 

[00:31:56] Scott Phillips: So it’s it’s where we think we can add value as managers.

[00:32:01] Scott Phillips: I think that one of the most important things you can do as a manager is to recognize you’re in a highly competitive ecosystem. You are competing with hundreds of thousands, if not millions of other investors. And so you have to think about your role in that ecosystem and where you can add value.

[00:32:22] Scott Phillips: And so we like to say that there are basically three ways to generate excess returns in the markets as an investor. Better information, which is what most all of Wall Street is geared towards doing. And you could have a better financial model. Those are the quants. Or you could have better behavior, which comes through in temperament.

[00:32:42] Scott Phillips: In any one of those three, a combination of those three can provide an edge to you as an investor. And so what you have to do is make a decision, a deeply honest, introspective, self discussion what is realistic? Where can I add value? Am I going to go out and compete with a multi billion dollar hedge fund that has satellite imagery and unstructured data?

[00:33:10] Scott Phillips: To get the next edge on customer accounts at shopping malls and Walmart or oil fields or cargo, you get the idea, like this is, these are intensely competitive forces at play. If you think that you’re going to trade in and out of stocks or game the next earnings that’s a difficult challenge.

[00:33:29] Scott Phillips: Similarly on the quant side you’ve got your work cut out for you there too, and you really want to go compete with. A team of PhDs from MIT who are working with cutting edge machine learning and AI technology to develop a better model and mine these little alpha inefficiencies in the market.

[00:33:48] Scott Phillips: That too is very difficult, but I think that from a behavioral standpoint what we’ve learned from Sir John is that you can still do this. Human nature is still at play in the markets. And as a money manager, you have to make a decision that’s where, or at least in our case, that’s where we can add value.

[00:34:09] Scott Phillips: We can do these things that from a distance people say, Oh yeah, we can I invest like Warren Buffett. I can go and buy, or I can do this. Like Sir John, but time and again, history shows people can’t really do that. It’s very hard. And so when you tie up kind of your identity and your investment strategies and everything you want to do for your clients becomes that you’re going to execute on it because then it becomes almost like a an existential thing.

[00:34:37] Scott Phillips: It’s wow. This is what I am. This is what I do. This is how I add value to people’s lives. I try to create peace of mind by doing these things. And so that’s the purpose driven side of it. Now, from implementation standpoint, it’s actually, it just requires a lot of study and patience, more than anything.

[00:34:55] Scott Phillips: So going into 2020, we had and still to some degree, or still, it’s still been alarmed about. zero bound interest rates and the way capital was allocated over that 10 year period going into COVID. Of course, we didn’t know that COVID would be what it was going to be. I don’t think anyone did.

[00:35:13] Scott Phillips: No one predicted that and that’s an important lesson too. But we were prepared for whatever was going to come. We had a list of companies that we thought would do well on a five to 10 year basis during a period of restricted capital, low credit expansion because the environment of just You know, that being issued nonstop with almost no repercussions.

[00:35:38] Scott Phillips: And so we had a list of companies that we thought that we would like to own in that environment. We saw that as a likely outcome from whatever happened, whatever broke that current paradigm, it ended up being COVID. We were prepared and knew what we wanted to buy. We knew the valuations that we wanted to buy them at.

[00:35:55] Scott Phillips: One example was is very uncharacteristic, but again, being flexible and open minded is a huge piece of Sir John’s investment philosophy. One of the stocks that took us a long time to understand, and I think we just actively ignored it for many years, was Amazon, because we didn’t.

[00:36:14] Scott Phillips: That just seemed like a a growth stock. Its valuations didn’t make any sense, but over time you saw that what they’re really trying to do is just raise their level of reinvestment to as high a level as possible without having to report gap earnings and not worrying about tax liabilities.

[00:36:31] Scott Phillips: constantly reinvesting. And then once we understood that, we said, okay that, that actually makes sense. But that was in 2016 or 2017. So we looked at the valuation and said that’s interesting. But no, moving on. But we always knew a price that we’d want to pay for it. And so when it hit nine times cash flow.

[00:36:51] Scott Philips: In March of 2020, we acted and we knew that we have to do that if we’re going to generate excess returns. Like it’s a matter of just living up to your word, keeping your word, doing what you say you’re going to do on behalf of your clients. And so we had just had a whole list of stocks that we knew we were going to take that action.

[00:37:09] Scott Phillips: And when it presents itself, you do it. And I think the important lesson is whether it’s COVID or 2008. 2009, or whatever happens in the future. You don’t have to predict it. You just have to know how you’re going to handle it. You have to upgrade your portfolio. You have to say, I can’t time the market, but I do know that I’m going to come out of this better than I went in.

[00:37:31] Scott Phillips: And if you have that attitude and have a process. To drive that outcome, you’re taking control of the situation, you’re reframing it, and you’re turning what could be a deep negative into a positive. You’re finding that positive in what is an overwhelmingly negative event. And the other big thing is that, and a lot of people say how did you know to have so much cash or isn’t that market timing?

[00:37:57] Scott Phillips: We did add cash because, but that’s an organic process that comes out of not being able to find bargains. So cash will build up if we can’t find the 50 percent discounts that we want. But for people that want to de risk or raise cash in those environments, that’s a, I think it’s a big mistake.

[00:38:14] Scott Phillips: I think that you’ve already demonstrated you’re not a market timer. If you were, you would have been out of those stocks. So don’t memorialize your mistakes and cement your position as a bad market timer. You have to take advantage of the new opportunities that have been created. And that was Sir John’s mindset.

[00:38:29] Scott Phillips: And that’s what we try to do as investors. So for us it’s there are long periods of inactivity and studying and looking for things that are out of favor, but by far the best environment to invest is when you get those wholesale sell offs, when you get the for selling, the margin based selling.

[00:38:48] Scott Phillips: Cause then to us, risk is overpaying for an asset. That’s the value perspective. But when prices decline that much, risk has gone down that much too. So it’s almost a lot of your potential mistakes are going to be covered up by how low you’re getting the stocks. So it’s actually the lowest risk environment you can dream of to make an investment.

[00:39:08] Scott Phillips: And that’s how you have to look at it. And most people in that moment would say, you’re crazy. What are you doing? But it just makes total sense to us. But it’s hard. And I really think that you have to go through one of those cycles and force yourself to do it and see the results to understand how to do it again.

[00:39:25] Scott Phillips: And 08 or 09 was that for us, for sure. It made a big impact on us, both as investors and returns and everything. 

[00:39:33] Clay Finck: I’m curious more too, on the implementation of it. You mentioned that you had some cash on hand. And the problem with these big market selloffs and the big forced selling is that most assets are pretty well correlated.

[00:39:48] Clay Finck: So in March 2020, for example, pretty much anything you owned outside of cash was declining in value as there was essentially a bid for dollars. That’s why everything else is declining. And a lot of investors are fully invested. So if they’re trying to take advantage of these market gyrations, I would think the rationale would be.

[00:40:08] Clay Finck: Okay, company A is beaten down a whole lot more than company B that you already own. So maybe you sell some of company B and allocate it to the one that’s a bigger bargain. So for you, was it mainly the cash being allocated or was there some reallocation in your portfolio as well? I guess I did mention the two thirds of turnover, so I’m sure both played a role for you.

[00:40:30] Scott Phillips: Yeah. So we. Again, our process is very bottom up and valuation driven. So we actually did have about a 20 percent cash balance going into March 2020. So the first move was to deploy that cash. And then the second move was to start replacing the pre existing portfolio. And Sir John’s basic rule for that, which we follow, is when you find a bargain that’s 50 percent better, has 50 percent more upside than what you owed, it makes sense to switch.

[00:40:57] Scott Phillips: And that’s something that he would have studied and calculated on his own over many years. And so we follow that and it tends to work pretty well. The mantra is to upgrade go find better growth, better quality, whatever the market’s offering. And just. Try to upgrade your portfolio.

[00:41:14] Scott Phillips: But yeah, it was both. And if I was fully invested, I would be doing the same thing. I would be turning over or looking to turn over what you already own if they’re better opportunities. 

[00:41:25] Clay Finck: And I was amazed that Sir John, he said a good bargain to him was something that was 80 percent below what he estimated to be the intrinsic value.

[00:41:33] Clay Finck: And I remember the story, I think you told him one of your books of, he bought like a sofa for practically like a. 95 percent discount or something. And he was always looking for bargains. It wasn’t just the investment world. So when you say an idea has to be 50 percent better. So the upside has to be 50 percent more.

[00:41:50] Clay Finck: What sort of timeframe are you looking at that sort of upside? Is it a few years or is it 10 years or how long is that? 

[00:41:58] Scott Phillips: It’s usually it depends on the amount of upside we’re willing to give that scenario five years. If it’s a much deeper discount, we’ll give it 10 years and you measure out the IRR.

[00:42:11] Scott Phillips: So one good example, you can, when you get discounts that are deep enough, you get indifferent towards the asset itself. So here’s a good example, like going back to let’s see, this would have been in the period of. right after the Euro debt crisis and into the taper tantrum in the emerging market.

[00:42:32] Scott Phillips: So 2011 12 up until 2015. So around 2012 2013, ArcelorMittal, the European steelmaker that emerged with the Indian steelmaker, was trading at less than a quarter of its book value. I think it got down to 10 percent of its book value. So when you model that out, there was three or 400 percent upside.

[00:42:53] Scott Phillips: So I’m pretty indifferent whether it’s five years or 10 years at that rate, that’s a great return. We’ll give it a long leash. And then moving alongside that during the taper tantrum, emerging markets fell out of favor and Alibaba had the great misfortune of IPO ing at a ridiculously high price.

[00:43:09] Scott Phillips: I think it was the end of 14, early 15, and promptly went down 30, 40, maybe it was 50%. Over the course of the next six to nine months and that too had a similar kind of return profile when you modeled out the growth and saw the market potential and then the valuation and where it had collapsed. It was also a 2 to 300 percent upside scenario and so in either case, those assets to us from our perspective were almost interchangeable.

[00:43:37] Scott Phillips: And interestingly, they both, and we, let’s be clear, we make mistakes as investors too, but both of these worked out. And I think actually ArcelorMittal did a little bit better from a total return standpoint, the problem you’re going to run into, if your idea is to hold and let things compound, you should go into a cyclical kind of NAV style.

[00:43:56] Scott Phillips: Investing relationship, big discount to NAV like a steel maker or something like that. You’re gonna have to sell it eventually with something more consumer driven with this kind of long growth runway. You could potentially hold it for a very long time, assuming all things being equal, the risk or appropriate, the valuation stays low enough and so on.

[00:44:17] Scott Phillips: So we actually ended up holding Alibaba until May of 2020. And just thinking about the past markets in the past 15 years or so, I think about some of the areas that investors have strayed away from or valuation disparities continue to stick around. I think about two areas that you’ve highlighted in your annual report is the small cap space and international markets.

[00:44:46] Clay Finck: And I’m curious in looking back at Sir John’s career. If there were like periods where investors doubted him where he’s in a trade for maybe two, three, four years, it isn’t really going anywhere, but eventually he’s right about that trade where the patient side of this is, I just think that’s worth highlighting and mentioning again, because these bargain type ideas.

[00:45:09] Clay Finck: It tights it to estimates, it takes some time for the market to agree with you sometimes. And you really have to test your conviction, test your thesis, and continue to rethink whether you’re really right about it. Because with the quality names that you said, a lot of people can are attracted to these days.

[00:45:25] Clay Finck: It’s what a lot of people talk about, including myself, admittedly, you know those when investors are continuing to pile into those, it continues to keep working and you get this reinforcing cycle where they ignore they were initially pessimistic about, and then they’re continuing to add to, and then the momentum sort of plays into that as well.

[00:45:46] Clay Finck: So did you see that in Sir John’s career where he went through these periods where maybe his returns weren’t as good, but eventually he saw this drastic outperformance over a period later? 

[00:45:58] Scott Phillips: Yeah the basic reality is and he said it. You want to have better performance in the crowd, you have to do things differently from the crowd.

[00:46:06] Scott Phillips: And so that means, at a very basic level, at some point you’ve got to break with consensus and go into an asset that is not working, that’s discounted, and maybe continue to be broken or neglected.

[00:46:23] Scott Phillips: Yeah, going back specifically to his career, I would say that when you look at his investments in Japan, obviously, those are out of favor for 15 years or so before they really started working. in the 1970s. But then even more interestingly, when they did start working, they worked for a very long time.

[00:46:43] Scott Phillips: 20 years culminated in a bubble that technically the Japanese market still hasn’t recovered from. When you kind of trace that back and look at his portfolio in the Tillman and Growth Fund, he was rotating out of Japan and into the U. S. In the early 1980s, because he said that in his view, the U.

[00:47:03] Scott Phillips: S. stocks were the cheapest they’d ever been in his lifetime, including the depression. And so that takes enormous self control and discipline to be sitting in a portfolio that’s working extremely well and then see these these huge bargains. In your view, that no one else agrees with. That’s why they’re huge bargains.

[00:47:23] Scott Phillips: People think you’re crazy if you go into them, but he did and he rotated 62%. I believe it was over 60 percent of the Timberland Growth Fund into US stocks in the early 1980s. This is around the time when Volcker was Raising interest rates to kill inflation, commodities were the big investment deal in the U.

[00:47:44] Scott Phillips: S. The death of equities headline on Newsweek had come out. It’s just that he saw an opportunity there that was worth ditching all these other things that were working fantastically well and going into. And of course, as we know, in hindsight, it was the start of a fantastic, maybe one of the largest bull markets the U.

[00:48:01] Scott Phillips: S. has ever had, going from 1982 to the year 2000. And yeah, he was willing to do that and sit there and just grin and bear it and say it’s the right thing. And it goes back to that confidence and independent thinking we talked about earlier on the podcast. He just had the will and the conviction to do it because it was rational and he thought it was right.

[00:48:22] Scott Phillips: And he thought it would work out and he didn’t care what you thought. If you wanted to leave or sell shares in his fund, that’s okay. 

[00:48:30] Clay Finck: So I think a good transition point here. is to look at markets today, the US has had a heck of a run over the past since the great financial crisis. So that obviously leads investors that are looking for more pessimistic situations to look at international markets, which you’ve written about in your annual report.

[00:48:48] Clay Finck: And then I also mentioned the disparity in the small cap space. So what are you seeing in today’s markets? 

[00:48:55] Scott Phillips: Yeah you hit the nail on the head, US small caps and international stocks, I think are both very intriguing. U. S. small caps, if you look back over the history of the market, it’s really unusual for large cap stocks to lead the market and have the superior returns over time.

[00:49:12] Scott Phillips: It’s always been small caps that outperformed by a hefty margin. And really, when I think about like the last, gosh, 15 years or more, small caps have been very expensive. They’ve been at a big premium because that’s where typically a lot of the growth is. But that’s really changed in the last few years, especially through COVID.

[00:49:32] Scott Phillips: And there are two things, I think, that are at play there. First of all, there’s the conventional wisdom that small cap stocks will lead you into the recession, right? And then they’ll be the first ones to lead you out, too. So it’s this double play. And so I think there’s a lot of anxiety in the market, as we know, about the prospects for a recession.

[00:49:53] Scott Phillips: Everyone’s been forecasting it for a long time. It hasn’t happened. We’ll see. I think there are parts of the economy that are, you could argue, are in recession, but nevertheless, that’s certainly a big piece of why small caps are discounted. Because they’re not likely to bottom before the recession.

[00:50:11] Scott Phillips: So people are just sitting on their hands in that regard, but also, and I think this is more valid as an argument, it goes back to the misallocation of credit and debt over the last 10, 15, 20 years, maybe not 20 years, but since the great financial crisis, the zero bound interest rate regime.

[00:50:29] Scott Phillips: With small caps, they just don’t, they don’t access capital markets the way large caps do. They hold bank debt, typically, and a lot of it has floating interest rates attached to it. And a lot of these companies are have been sustaining their capital allocation programs through more debt issuance.

[00:50:47] Scott Phillips: or staying relevant in their industry by issuing more debt at those low rates. And so the problem is when you get into kind of a classic recession and credit really contract, it’s already in the process of contracting, of course, those companies will have financing problems. And so that is a more legitimate kind of pall hanging over the small cap space, because a lot of them do legitimately have higher debt balances.

[00:51:14] Scott Phillips: and floating rate debt that could be challenging to sustain or refinance over time. But if you’re willing to go in and take a more granular look and look at the individual names, there’s a lot of interesting stuff there. So you can find stocks trading well below 10 times earnings, three, five times cash flow, five times EBITDA.

[00:51:35] Scott Phillips: These are pretty well run companies. They’re not necessarily big growth stories, but at those valuations they could do well. So that’s where we’re spending the majority of our time, really, from a research standpoint, is just getting that, that same wish list ready to go.

[00:51:53] Scott Phillips: And there are just tons of examples of just companies, pretty well run companies, trading at book value. But people don’t want to pay attention to that because there’s, you’ve got the AI momentum play and the Magnificent Seven. And it’s just human nature. And then on the international side, Oh gosh there’s a, it’s been a disaster investing there for the last 10 years.

[00:52:15] Scott Phillips: It’s. Vastly underperformed the U. S. market, the valuation levels are very low, and I think in both cases, whether it’s U. S. small caps or the international space, you’re looking at valuations relative to U. S. large cap stocks that are as low as discounted as they’ve been in the last 25 years. So we’re talking about some really low valuations and hurdles.

[00:52:36] Scott Phillips: from an investment standpoint. The arguments to take a closer look at international stocks are certainly compiling. Just look at what COVID’s done to trade and the way trade is realigned. China is no longer our largest trade partner. Mexico is. There are issues all over from a supply chain standpoint, it’s raised the cost of doing business.

[00:53:00] Scott Phillips: And so U. S. consumers are paying more, but at the same time, there are also important advantages, which are the central banks. In the emerging markets, in particular, out of step with the U. S. and developed markets, meaning they’re already through their tightening phase. They’re looking at cutting rates, and we’re still tightening and combating inflation.

[00:53:22] Scott Phillips: What that really means more than anything else is that The markets are separating. If you’re a stock picker, you’re reverting back to an environment that Sir John thrived in, where a country specific discount can emerge, and it’s doing its own thing, and it’s not tied to the U. S. Federal Reserve.

[00:53:43] Scott Phillips: You don’t have to worry about all the gaming of when the rate cuts are going to appear and how that affects duration plays and equities and so on. You’re playing your own game, and you don’t have a lot of competition to look at those stocks. And so that’s like the perfect environment to pick if you look at a market like the UK, it’s been out of favor for, oh, wow, six or seven years.

[00:54:06] Scott Phillips: It started with Brexit. If anyone even remembers that, that was a disaster for UK equities. Everyone got too confused by what was going to happen in the trade alliances in the Euro. And then COVID hit another disaster basically for every economy. And then the inflation came. So that market has just been left behind for five or six years or more.

[00:54:27] Scott Phillips: You could go look at the UK and find some great companies, reasonable multiples. So we haven’t done any buying there lately, but last year during the this is 2022, during the war in Ukraine, when that broke out, European equities generally just, they really got overly pessimistic.

[00:54:45] Scott Phillips: So we did buy some stocks at that point, both in the UK and in mainland Europe. So there’s a lot to look at and think about. And I’m not a, I wouldn’t say we’re doomsayers on the dollar, but there are real concerns about the budget deficits and the impact that’s had on the stability of treasuries in the last year or two.

[00:55:08] Scott Phillips: A lot of investors don’t really see that. Foreign investors don’t see that as a safe space. They once did, for lack of better words, and you’re seeing because of the trade realignments, a lot of countries. are doing business in their local currencies, which means they’re not going and buying dollars.

[00:55:23] Scott Phillips: So if we continue to run these large deficits, you could make the argument that you need some diversification away from the dollar. I wouldn’t I don’t think you need to go crazy, but it probably makes sense to have a little bit of diversification there. So that’s just another argument on top of the already cheap stocks.

[00:55:41] Scott Phillips: And there’s a lot to look at and think about, and you don’t hear a lot of people advocating that or doing that right now. It’s picking up some steam, but it’s still far off from where it could be. 

[00:55:53] Clay Finck: It’s funny you mention the UK. We have a investing community here where we talk about stocks quite often, and we have one member from the UK that he just loves this stuff.

[00:56:03] Clay Finck: He just sifts through. every single company can and finding the best bargains. And he’s I’m open to finding the best bargains I can wherever at in the world, but I’m finding a lot of them in the UK. And he shared a similar sentiment to you to where at 2022 especially is when he was finding a lot of great ideas.

[00:56:22] Clay Finck: And I wanted to also ask you about China. I just checked Alibaba stock price here in mid December and it’s hitting new lows on the year around 70 a share. Is China something else, another country that you’ve been interested in, or is there geopolitical concerns that keep you out of that country? 

[00:56:44] Scott Phillips: Yeah.

[00:56:45] Scott Phillips: So I mentioned earlier, Alibaba, we own that from, let’s just say roughly mid 2015 to mid 2020. We haven’t owned anything in China since. And part of that was just the changing geopolitical environment. I remember making that, Lauren and I discussing that decision in mid 2020.

[00:57:07] Scott Phillips: Because there were still cheap stocks in the U. S. during that time, market hadn’t fully recovered. And but you had all the back and forth.

[00:57:17] Scott Phillips: And then you had the regulations coming in on the tech companies, and it was one of the situations where quantitatively we didn’t need to sell Alibaba, but just sheer unease. With the risk environment prompted it now. I remember thinking I’ve got to call our clients and say we’re going to do this.

[00:57:37] Scott Phillips: There’ll be some capital gains. I’m sorry for that, but we feel like we need to do it is one of the very few times we’ve ever written kind of our quantitative discipline from a sales standpoint. And so that worked out. But the stock went up for several more months. We certainly didn’t time it.

[00:57:54] Scott Phillips: Yeah, I think that looking at it today, it keeps hitting my screen. Alibaba trades at seven and a half times earnings. This is, it has my full attention. I’ll say that where we go from here. I’m not sure, but I do take notice of investors saying China’s uninvestable and he’s really, and I see where it’s coming from.

[00:58:15] Scott Phillips: And I agree that if you don’t know where you stand from a property rights standpoint, that’s a big deal. I haven’t forgotten what happened to the. People invested in the education stocks a couple of years ago, wiped out overnight. I think they’ve come back now since, I read that somewhere, but anyhow, that, those are difficult matters.

[00:58:33] Scott Phillips: There, and there is no plug in our DCF or a CEO disappearing in the middle of the night. So there are risks there, real risks, but at some point valuations get so low that. Yeah, they certainly get on your radar. And they’re on our radar. I just, honestly, I don’t know yet, but yeah, the valuations are really low.

[00:58:51] Scott Phillips: China will continue to be a powerful economy. They’ve got some issues for sure with the property and the regulations, but it’d be, I think it’s a dangerous idea to just write it off for good. 

[00:59:04] Clay Finck: You point to something really interesting there where. We mentioned the quality aspect and one piece that sort of reminds me of that approach is you sleep pretty well at night owning a lot of these types of businesses.

[00:59:16] Clay Finck: And I think that’s what can keep a lot of people out of these more pessimistic areas of the market where there’s these unknown unknowns, there’s the geopolitical concerns and there’s just those risks that maybe you can’t fully communicate, but you can feel them and you can sense them in the investing community.

[00:59:34] Clay Finck: I think you’re touching on something really important there where there’s really this qualitative aspect where you need to pull in these sort of risks and factor them into the valuations to where you’re still getting a really good bargain, but you’re, you still feel that confidence that you’re pricing in a lot of that risk.

[00:59:53] Scott Phillips: Yeah. And I really, now that I’m thinking more about that Alibaba decision, a lot of it was tied around a fear over that VIE structure. At the end of the day, what do you really own? You own a tracking stock if you own it through the ADR and you can go buy it on the Hong Kong exchange. I think that’s probably wise.

[01:00:11] Scott Phillips: I doubt that. I think all that regulatory stuff is likely calmed down for now. I think China’s going back the other way. Like they’ve Kinda realize that they’ve ever corrected and they need outside capital to come in, which is very helpful. But yeah, it’s they’re tricky questions. But when you’ve got a whole range of stocks to look at that appear discounted, you can pick and choose how you want to engage and what kind of risk you want to take on.

[01:00:37] Scott Phillips: And sometimes those risks are just too hard or too. Uncertain, or maybe you just buy a smaller position. That’s the other way around it. Decide you just can’t stay away, just buy a 1 percent position or something. It’s not going to matter, if it gets hammered, you’ll be okay. You’ll survive, and if it goes up exponentially, you’ll benefit.

[01:00:56] Scott Phillips: There are lots of ways to approach that risk. But yeah, I think the chase for quality is probably, it’s, it feels crowded to me. We’ve done it too, but really when you think about the last time we bought in mass, it was back in, in 2020. Because I tell you, every time I read a manager’s comments or see them interviewed or see a podcast, it just feels like everybody’s looking for the exact same thing.

[01:01:23] Scott Phillips: They want steady cash flows. They want the quality, they want the durability, and when you get too many people chasing the same thing, it’s hard to find those opportunities. A lot of what we do around quality has to take place during big market dislocations, because it’s the only time you can really get a bargain doing it.

[01:01:42] Scott Phillips: And Sir John always cautioned us on these environments where he said just generally that when he started on Wall Street, there are only 12 analysts. 12. Now there are, what, over half a million CFAs. He certainly thought that. The job of a professional money manager is far harder than when he first started out.

[01:02:04] Scott Phillips: So you really have to be diligent about looking at things that are out of favor and neglected, or the great thing about small caps is you can find companies that don’t even have analyst coverage. That’s like a veritable playground for real research analysts. 

[01:02:19] Clay Finck: I also wanted to mention that Sir John, he not only bought during this max pain, biggest bargain type scenarios.

[01:02:27] Clay Finck: but he also wasn’t afraid to short things or bet against things that just had peak optimism. Everyone was going crazy in terms of all the money they were making and he is pretty well known for shorting the tech bubble in the late nineties and I was quite 2022 annual letter how you talked about the parallels you saw.

[01:02:54] Clay Finck: In 2021 and 2022, the parallels to the tech bubble in the late nineties and the way Sir John shorted them. And you mentioned the FTX ad in the super bowl, how that reminded you of the things that people saw in the late nineties. I think that FTX ad, I went back and watched it. It was there and just essentially saying, don’t miss out, don’t miss out on this this new future we’re seeing.

[01:03:19] Clay Finck: So talk to us about how this approach of seeing that optimism that people are pricing in is just totally irrational, how that plays into your value investing framework. 

[01:03:29] Scott Phillips: It’s another key input for sure. It really just goes back to both Lauren and I started our careers. Let’s see, I got into the industry and November of 1998.

[01:03:41] Scott Phillips: And I worked on the sell side in a research department of an investment bank that was owned by, eventually owned by SunTrust. It’s called Robinson, now it’s Truist Securities. And so the first things I saw were the internet bubble and how I worked on, I was a low man on the totem pole on a bank research team.

[01:04:00] Scott Phillips: And let me tell you whose phone didn’t ring during the dot com bubble. It was the bank research teams. But the internet analysts and all these people were just having the time of their lives. And so I remember vividly just That environment. This is one of my first lessons and what a fantastic lesson in human psychology to start at that time.

[01:04:19] Scott Phillips: And Lauren started a year later. She was a year behind me in college. And so it was probably about two years later that Sir John was preparing to see her. And so she was in constant contact with him. And I remember vividly. My father in law was participating with Sir John in that short strategy.

[01:04:45] Scott Phillips: So they were shorting stocks that right before IPO lockup that they thought would decline. And he did it for a few months and he said, I can’t handle the stress of this. It’s too much, but it obviously Sir John kept with it. And that trade went against him for a while too. He was early, but he held on.

[01:05:08] Scott Phillips: And I’ve heard that he shorted more that was outside of our reach. review on the same basis. But everything about that period, just, I can see it like it happened last week. These images, just all of the experiences stick with you and it becomes a frame of reference. And that, I think that’s the benefit of being in the markets for a long time.

[01:05:30] Scott Phillips: You start to accumulate these experiences. And I remember I mentioned earlier the fervor and excitement of being on the sell side during that period, trading was exploding, all the deals were up, there were steak dinners you got bonuses in your paycheck. You didn’t even know were coming.

[01:05:51] Scott Phillips: And then I remember vividly 2001 and 2002 and that environment turned into monthly layoffs across the whole firm. So it was just getting a master’s class. And market psychology and how these things go. Yeah, I remember the ads from the Super Bowl back in 2000 and the sock puppet and all of that stuff.

[01:06:15] Scott Phillips: And so it was just super familiar to me. And then in terms of what we were shorting. During that period. And again, shorting is not an instant feature to what we do, but occasionally when we see things like Sir John, it makes sense to put in some downside protection and if it goes well, maybe you’ll even profit with excess returns.

[01:06:37] Scott Phillips: But yeah stocks back in 2000, the ones that Lauren was shorting when she started out, like five times sales. Was an exorbitant valuation and at the end of 2021 there were almost 800 stocks, trading at 20 times sales. It was just, it was crazy and it just didn’t make sense. And of course, no one we couldn’t predict.

[01:07:04] Scott Phillips: What would make it stop? But when it did. And what’s interesting now, though, is just how with the AI fervor, it’s all come or selectively come roaring back. It’s the market. It just never ceases to surprise you for sure. But when you can draw on your experiences and they date that far back, that’s, it just reinforces your conviction because you’ve seen it before.

[01:07:27] Scott Phillips: And it’s hard to figure out the particulars, but you see how things are going to end up. So even, and I think the big lesson that people need to realize if you’re looking at Nvidia, what a great company. We don’t own it they’ve done everything right. They got into the gaming chips and now the AI chips, they’ve been a step ahead of the industry fast sales growth, high margins.

[01:07:53] Scott Phillips: What more could you ask for in a company, but when you’re trading at 30, 40 times sales, which I know they have been within the last 12 months, it’s very difficult to make money as an investor. So you just go back and you look at like Microsoft, another company that is just, they’ve done an extraordinary job as a company, great company over the last 20 years, they’ve done a lot of things, right?

[01:08:18] Scott Phillips: But if you had bought them in 1999, trading at 23 times sales. You would have been lost in the woods for 16 years. You didn’t make money for 16 years, even though it was still a well run company throughout that period. They got into gaming. They built out the cloud and fought off Google.

[01:08:36] Scott Phillips: They’ve done a lot of things right if you don’t, if you don’t get the valuation right, bad things can happen. Let’s put it that way. 

[01:08:43] Clay Finck: I wanted to mention a quote from Sir John here that you put at That was in the foreword to Investing the Templeton Way, which you and your wife Lauren Templeton wrote.

[01:08:55] Clay Finck: He wrote at the very start of the foreword, I am approaching my 95th birthday and believe that there has never been a better time to be alive. We should be deeply grateful to be born in this age of unbelievable prosperity. Investors to this day ask me for investing advice or to express my concerns about the global economy.

[01:09:14] Clay Finck: Throughout history, people have focused too little on the opportunities that problems present in investing and in life in general. The 21st century offers great hope and glorious promise, perhaps a new golden age of opportunity. And I found this aspect of Sir John to be a bit of fresh air for me personally.

[01:09:33] Clay Finck: You know in the financial world, it’s the fear, the doom, the gloom. That’s what dominates the headlines and it drives all the clicks and you know it’s so hard to get away from sometimes when you’re on social media and what not and I’d love for you to speak more to this innate optimism that Serjohn had because obviously a key part of investing well and part of his success and you know it’s just so easy to get caught up in these types of things that are happening.

[01:10:00] Clay Finck: A few that come to mind you mentioned. The US dollar and the US deficits that are happening currently. And you have debt problems globally even, and then in the US you also have massive wealth inequality and ever increasing political divide. I could probably go on and on for the list of things that dominate the headlines, so I’d love for you to talk more about.

[01:10:21] Clay Finck: The way Sir John would see things today in terms of being optimistic about the future going forward. I think there are a number of thoughts come to mind. One thing I’ll say, and I can remember several times being in meetings with Sir John and Warren.

[01:10:42] Scott Phillips: And he would just look at us and just say, I am so jealous of you. You are going to see so many things. happen. And I wish I could see them and I wish I could experience them. You have no idea. And that was his attitude. And I think that there are a couple of things at play. First of all, his life spanned, just about spanned the 20th century.

[01:11:03] Scott Phillips: So think of all the amazing things he saw with his own two eyes. And he went through all these cycles where the sky was falling and there were routes in the market and calamities here and calamities there, but Every time if you invested, you do better over time and then you just look at the standard of living.

[01:11:22] Scott Phillips: There was just incontrovertible evidence all around you of the benefits of capitalism, of scientific discovery, of empowering individuals to go and pursue life and create wealth. I just think it. He saw it on all those levels as an investor and just as a human being. And I think he stood in all of that.

[01:11:45] Scott Phillips: And I also think there’s something interesting that I think about the human mind, which is its frailty. And just seeing the real effects of compound interest over time and compound interest, we can think of it mathematically, but we can also think of it in terms of human talent and discovery and scientific research and how these things build on each other over time.

[01:12:06] Scott Phillips: And you think about computing and Moore’s law and all the progress that came out of that. And I think just fundamentally, most people are too short term in nature and focus. And it’s easy to get caught up in the negative headlines. They absolutely get our attention. But in reality, when you look at the standard of living, it’s only going higher and higher and higher.

[01:12:28] Scott Phillips: Now and Sir John G is the example, and I’m sure Warren Buffett has too, because he, I think he has the same kind of mindset around these things. Someone in the lower income or more modest means of today’s society looks far better than the Rockefellers did back in their heyday.

[01:12:45] Scott Phillips: And so the standard of living and the things we have at our disposal, they just keep getting better and better. And as an investor, you can participate in that, of course, and that’s what you should be focused on doing over the long term. And yeah, he was an optimist, and I think you have to be an optimist.

[01:13:01] Scott Phillips: to be a really good investor. Now, what’s fascinating about him and his psychological makeup was he did have the rational thinking and temperament to short the dot com bubble and do things that we’re pessimistic when he saw the unbridled optimism or euphoria, he could get on the other side of that too, but those are always short term kind of trade oriented things.

[01:13:26] Scott Phillips: He was without question a long term optimist. It pays off. If you’re an investor, it doesn’t make sense to be pessimistic all the time. It’s like trying to short the market all the time. That’s a dangerous idea. 

[01:13:40] Clay Finck: Yeah, there’s this I think you’re pointing to something there where there’s the human innovation, the technological advancements, you have all these sort of tailwinds at your back, but people, they oftentimes seem to focus on some of the headwinds that are.

[01:13:55] Clay Finck: coming our way. And you mentioned the short termism. A lot of these headwinds are short term. And historically humans have tended to continue to progress and overcome whatever challenges that come their way. And I think back to Sir John again part of me is like, Oh, of course he was an optimist when he saw like the U S and it’s a huge rise post great depression.

[01:14:15] Clay Finck: But I think he still had that. Even throughout the Great Depression, he always believed that this tailwind was behind us and eventually things would turn back the other direction. Yeah, it seems to be something that was ingrained from him from a very early age. 

[01:14:32] Scott Phillips: Yeah, absolutely.

[01:14:33] Scott Phillips: The generation that went through the Depression and then World War II, those were catastrophic circumstances. Just horrible. It tested every fiber of those people that went through that. And yet they emerged and came back and built this industrial boom that’s never been rivaled since when you start from like the 1950s as a starting point up to the current day the American economic miracle is almost unfathomable how much has been accomplished since then.

[01:15:06] Scott Phillips: And so it’s really just a matter of empiricism, but believing in humans and our ability to. Persevere and overcome. 

[01:15:15] Clay Finck: Scott, thanks so much for joining me today. What a fun discussion. Chatting a lot about a person we can just learn so much from. There’s plenty of books on Sir John. He wrote one that’s on my shelf.

[01:15:27] Clay Finck: I’m blanking on the name of it, but it’s such a good book just on not only investing, just like living a good life living in this. honorable way and having that higher level purpose, just so many things to think about and take away from such an amazing person. So really enjoyed having you on the show and it’s really an honor to We had your wife, Lauren, on previously and I’ll link that discussion in the show notes and it’s great to have you on as well.

[01:15:52] Clay Finck: So before I close out the episode here, how about I just give you a final handoff to the audience, if they’d like to get in touch with you, learn more about your fund and any other resources you’d like to mention. 

[01:16:02] Scott Phillips: Yeah, absolutely. No, I really appreciate the time with you too, Clay. It was a fun discussion and I love talking about Sir John.

[01:16:09] Scott Phillips: He’s a very large figure in my life and I’m forever indebted to him. Anything I can do to honor his legacy is. I’m always more than happy to have the opportunity to do that. So yeah, but if if you want to follow us or learn more about how we look at things or how we’re trying to further that investment legacy as investors and what we do, you can go to our website.

[01:16:34] Scott Phillips: We have a commentary that we put out periodically. Our website is TempletonPhillips. com. Sign up for the commentary. We’ve authored books. They’re available on Amazon. They’re listed on that website. The other thing I’ll say is. We recently printed this, which is just a little pamphlet of Sir John’s quotes, and I reference this all the time, certainly weekly, almost daily.

[01:16:58] Scott Phillips: And Lauren and I discussed it and if you are interested in a copy of this and you are a U. S. resident, we’re not going to necessarily send all these overseas. Just go to our website, find our email. Let’s connect. at Templeton and Phillips. Bless you. You’d like a copy and we’ll send you one in the mail.

[01:17:17] Scott Phillips: Send your address too. But yeah, it’s it’s been a lot of fun and I appreciate the opportunity to speak with you today. 

[01:17:23] Clay Finck: Awesome. I’ll be sure to link your website and all the books related to Sir John in the show notes. There’s at least a handful of them. So if the audience is interested in checking those out.

[01:17:35] Clay Finck: So thanks again, Scott. 

[01:17:36] Scott Phillips: Thank you, Clay. 

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