GARY BRODE | Deep Knowledge Investing

Gary Brode is a Hedge fund manager turned to the good side. He writes and tweets about stocks, markets, and share investment tips that can benefit anyone. In this episode we talked about the Deep Knowlege Investing (DKI) February 2023 Newsletter which you can download here.

We chatted about:

• Making money even when you're wrong
• Investing Lessons from Argentina and Inflation
• DKI’s Thesis on the Market
• And explaining the concept of "alpha"...

And where would an interview with Gary without a little Fed bashing and observations about higher inflation?

TRANSCRIPT FOLLOWS AFTER THIS BRIEF MESSAGE

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EPISODE TRANSCRIPT

Chloe:
Stocks for Beginners. Phil Muscatello and Finpods are authorized reps of Money Sherpa. The information in this podcast is general in nature and doesn't take into account your personal situation.

Gary:
And so the thing to realize is you may be going up against somebody who's very well prepared, and you know, it's not like minor league baseball where you get to warm up against AAA pitching or AA pitching. You know, there, there's no, there are no minor leagues in this. You're stepping out onto the sands of the coliseum, and you might have a wooden sword in your hand facing a very experienced gladiator who has steel.

Phil:
Hi, and welcome back to Stocks for Beginners. I'm Phil Muscatello. In the world of investing jargon, what does alpha mean? How can you be both right and wrong and still make money? Returning to the mic's friend of the podcast, Gary Brode. Hey, Gary.

Gary:
Hey, Phil. Thanks for having me. Great to speak to you again.

Phil:
Gary Brode is from Deep Knowledge Investing, where he focuses on identifying and analyzing aspects of selected investments that the market is missing. And today we're speaking with you from Buenos Aries, and we, we'll just start up, up upfront and apologize for the microphone quality. You weren't able to take the good microphone away with you.

Gary:
We do the best we can when we travel. So

Phil:
Tell listeners and describe to listeners what it's like economically at the moment there in Argentina.

Gary:
It's a fascinating place. Argentina, from a financial point of view, is most famous for defaulting on their debt countless times. Somebody did an analysis a few years ago, and in the last a hundred years or so, Argentina has defaulted approximately every 15 years. So why anybody lends this country money is itself an amazing question. Many years ago, Paul Singer from Elliot Management owned Argentinian debt, and the way Argentina got them to lend was they said, Hey, no matter what, we can't default. We can't put other payments ahead of you. Well, Argentina did that, and they tried to default. And at one point, singer had an Argentinian naval vessel impounded in another country.

Gary:
To his credit, by, by all counts, the sailors were treated well. They were put up in a hotel and treated with dignity and respect. But you know, anytime you have other countries trying to repossess naval ships and military assets, something's gone really wrong. To give you a sense, Argentina has the same kinds of problems we're starting to see in the West. A lot of it is caused by the fact that Argentinians, for whatever reason, and we do have increasing populism in the West as well, are, you know, the first world countries, but they, they vote for big government and they vote for populism. And the estimates I've seen say about 40% of the population is on government assistance.

Gary:
So think about how do you run an economy when 40% of your people not only don't work, but they're consuming. Right? 40% of your working age people are consuming instead of producing. And the only way you can do it is print enormous amounts of currency, which creates enormous amounts of inflation. The inflation rate here last year was in the neighborhood of a hundred percent. And this becomes a human tragedy because now think about, Phil, what would you do if you were to save in your own currency and you put that currency in the bank and a year later it only buys you 50% of, of what you had put away.

Gary:
The Argentinian peso since 2000, has lost almost a hundred percent of its value against the US dollar. And to make things worse, in that time, the US dollar has lost 40% of its purchasing power. So you have this horrible situation where people here can't save, they can't invest, they can't get themselves ahead. You know, start to think, if you're listening to this podcast, start to think about if you had an inflation rate of a hundred percent, if your money lost 50% of its value every year, how would you do things like save for the down payment on a house? How would you save to put a kid through school? How would you save for a medical emergency?

Gary:
Right? How, how would you invest, how would you grow a business? It becomes very, very difficult. Now, aspects of it have their, and unfortunately it's a, it's a, it is a tragedy on a daily basis. Aspects of it have an almost comedic side because the largest bill you have is a thousand pesos. And as of today at the black market rate, which is called the blue rate in Argentina, I'm not sure why it's, the blue rate here is worth about two 70 US $2 70 cents. And so you, the reason you pay cash for everything is because if you pay by credit card, your payments in pesos get converted to dollars at the official rate.

Gary:
The official rate is, I think about 180 pesos to the dollar. The blue rate or black market rate is a little over 370 pesos to the dollar. So if you pay with a credit card, you're paying more than double. So we're all paying cash in things, but the largest bill we can carry is worth less than $3. So everybody's walking around with gigantic stacks of cash. You know, there was a, a woman who I saw at a, an event the other day who actually said to me, my little purse is for US dollars, there's no way I could fit pesos in here. And that's how, you know, you have an inflation problem.

Phil:
That's a little bit like historically the Weimar Republic in the twenties in Germany where there was, you know, wheelbarrows of cash to buy a life of bread. Getting to that sort of stage,

Gary:
Yeah, it hasn't gotten quite to that level yet. Although the thing that Argentina's done to avoid it is they've changed their currency multiple times over the last several decades. And so, you know, what they would do is they just slash a zero off of their peso notes, reissue all the notes and say, okay, well, you know, your thousand peso bill can now be converted to a hundred new pesos or 10 new pesos. They just slash a dollar or two off and reprint all the currency. So in some ways, the best business you could be in in Argentina is somebody who supplies paper in ink.

Gary:
You know, or sells printing presses because they are running them like crazy here. And, and it's horrible. It's horrible what's happened. But the other side of it is the Argentinian people keep voting for this, and the politicians keep delivering what they were voted in to deliver, which is more government benefits, more spending, more populism. It's just reached the point of ridiculousness here. And I, you know, it's kind of a funny way to look at it, but it's also a little bit tragic. As somebody who travels a lot to me, it looks like Argentina is trying to become Venezuela and the United States is trying to become Argentina.

Gary:
Everybody's trying to provide more and bigger government, they think debts and deficits don't matter and that we can keep running the printing presses.

Phil:
I may be incorrect here, and I stand to be corrected, but I believe that Chile over on the other side of the continent has had very much free market, low, low spend, low government spending for many decades over there. And the economy has been great, but they've recently voted in a much more socialist government as well. So it might be an interesting object lesson to see what the difference is to the economy of those policies.

Gary:
It's amazing. People forget prosperity, they forget the things that make them prosperous. And once things are working well, you say, okay, well what, why don't we just spend more and we can afford it? Well, you can until you can't. And that's, that's where these things always go. And we actually just looked at this. I put up a graph on Twitter last week, it's @gary_brode, but I put up a graph on Twitter graphing the Argentinian peso against the US dollar, and then comparing that to the Thai bhat and the Peruvian soul. And what's amazing is since 2000, the bhat and the soul have held their value against the US dollar, whereas the peso is lost basically a hundred percent of its value.

Gary:
The the graph just goes to zero. And so these policies do matter. It's not because Argentina is, is lacks natural resources. The population here is educated. They have a gigantic coastline, they have a shipping industry. I mean the, the, the country has many great things going for it. The people here in general have a great work ethic. And so these are things that really are policy choices. And we see in other countries that have worse GE geography, less natural resources, a lower rate of education, they're holding their currency steady against the dollar because they're making different political choices and their economies are doing much better as a result.

Gary:
And again, you know, it's, it's worth pointing out, staying even with a dollar means you're still losing 40% of your purchasing power over 20 years. That's not great.

Phil:
Okay, well let's get back to investing and the latest DKI newsletter, the February newsletter where you mentioned the term alpha to start with. And I think you prefaced the whole newsletter by saying that there's going to be, you're trying to simplify many investing concepts and you described the term alpha and what it means.

Gary:
Yeah, so I, you know, I think one of the things that makes finance difficult for people to understand is we have our own language. And people often underst, they, they often assume that I, if I say something and I use words that they don't know that, oh, that must be really hard, must be very complicated. And the truth is much of it isn't that hard, it's not that complicated. We're just using terminology that people aren't familiar with. And so alpha, it's a Greek term, and if you don't know what it is, it sounds like, oh wow, that sounds really complicated. There must be math involved. It's simply a measure of an investor's skill, right? Do their investments outperform the market? And so in that letter, we gave three examples.

Gary:
Let's imagine you have a stock market in a year that goes up 10%. And let's say we have a money manager, an investor who is a hundred percent invested all year, and that person returns 10%. So the question is, have they demonstrated any investing skill? And unfortunately in that situation, the answer is no, they haven't. You could replace them with a cheap index fund, right? And so they've created no value, and the alpha that they've generated in that's hypothetical situation is zero. Now, let's use another example. Let's say again, the market's up 10% and you have somebody who's a hundred percent invested, but this person is 50% long and 50% short.

Gary:
So 50 long, 50 short, you're a hundred percent invested, but your net exposure is zero, 50% long, minus 50% short means you're taking no market risk. And let's say that person also returns 10%. So that person has given you the same return as the market. But with, by taking out, doing it, while taking out the market risk, they've generated a thousand basis points or 10 percentage points of alpha. They've demonstrated great skill in showing the same return with lower risk. So now let's use another example. Our third example in the letter is, let's say somebody invests on leverage markets up 10% and somebody is five times leveraged.

Gary:
So however much say they have a thousand thousand dollars, they invest $5,000 on leverage, and they return the same 10% that person's generated negative alpha. And the reason is because they've taken on much, they've taken on additional risk while returning the same return as the market. So you're getting the same return with more risk. And that's demonstrating negative skill. That person has demonstrated negative alpha in that situation. And so these are the things that we look at. And what we point out in the letter is that the investments that my firm, Deep Knowledge Investing is recommended actually produce a higher return than the market with less risk.

Gary:
And that's a higher alpha generation than any of the examples that we've given here. And we give people charts and graphs, and you can see that even though we took less market risk, we outperformed,

Phil:
That's interesting to consider because this is something over the last couple of years where I've realized the importance of benchmarking. You put your portfolio up against a benchmark, you know, like the an S&P500 index fund, for example, because you wanna understand how well you're doing compared to if you just put your money into a, a low risk risk index fund. But it seems to me that alpha then, and the way you're describing it to me is you've actually gotta put the risk component as part of it as well, that the amount of risk you're taking to generate that return is very important, isn't it?

Gary:
Completely. And let's, let's use a ridiculous example.

Phil:
Yeah, let's let, let's look in the, let, let's look at the importance of that for a moment. Sure.

Gary:
Let's let, let's, let's use a ridiculous example, Phil. Let's say, you know, you and I started an investment fund together. You go market and you say, okay, Gary, here we've raised a million dollars, and you, you gimme the million dollars to manage. And instead of managing that money prudently, I fly to Las Vegas, I go to the roulette wheel, I bet onk black. And we win. Now we have $2 million, I call you. I say, Hey Phil, good news, we're up a hundred percent. Let me ask you a question. Are you happy about that? Do you wanna invest with me again?

Phil:
Marginally happy. Arguably happy,

Gary:
Right? So how, how is somebody doing this? Are they buying short-term options that might go to zero? Are they selling options where you have unlimited risk? Are they buying, you know, meme stocks based on Reddit message boards? Do they have short positions? Are they taking on leverage? What's their exposure? You know, these are the things that we consider and people, you know, they like to look at the headline number and that's great, but somebody who takes a lot of risk to turn out good numbers may end up getting you crushed the next year.

Phil:
Yeah. And in the description of the, the, the examples you, you described, you talked about the, the middle one where you took no risk to get the market return with a combination of long and short positions. Can you just explain briefly for listeners what the difference is between a long and a short position?

Gary:
Sure. And for clarity, Phil, it's not no risk, it's no market risk. And we have seen situations, and I can give you examples if you want to go deeper into it Yeah, please. Where you can have a portfolio where your long positions lose money and your short positions lose money. Hmm. So it's not no risk, but you, you don't have market risk. And that's a, that's a different thing. But for the people who are really interested in learning the basics of investing, here's the difference between a long and a short. Let's think about the classic case of buying a stock. This would be a long position, right? And so you buy a stock, you think it'll go up, you hope it'll go up, it goes up over time, you sell it later for a profit.

Gary:
And so buy low, sell high. That's a long investment. It really is that simple. Shorting is the exact same thing, only in reverse. When you short a stock, you borrow those shares and then sell them. So now what I have is I have the cash, I owe somebody the shares, and I've sold those shares. What I'm hoping is that that stock will go down, and when it does, I can buy it back at the lower price, right? So I have the cash in from selling high, it's a lower amount of cash out from buying low.

Gary:
And then when I buy those shares, I return them to the person I borrowed from. So it's the, the easy way to think about it. It's just like the normal process only in reverse. Instead of buy low, sell high, if things are going well, you're just selling high and buying low. Again. If it's going well, it might not.

Phil:
And presumably that's, so a fund manager can generate returns no matter which way the market, they, they can take a view on whichever direction they think the market is going to move in.

Gary:
So you can, there are a lot of different reasons why somebody might take a short position. What you've just outlined is a great one. It's, it's controlling your market risk. And so one of the things that has concerned me over the last year is inflation is has been much higher than people expected. That's met higher interest.

Phil:
We hear a lot from you about inflation.

Gary:
Yes, I know. I write on it constantly. Yeah. You know, the Federal Reserve gives me new material every couple of weeks. What can I do?

Phil:
What that un that unelected and unrepresented body as you describe it.

Gary:
Yeah. So unelected bureaucrats who have never run a business. That's right. This is not an institution that should exist and it's not particularly well run. Hmm. And I don't think the people there are bad people, but the, they're doing a job that shouldn't be done and they're not doing it well. And that's what we saw last year. We had huge inflation because we had 0% interest rates for more than a decade. And you know, they printed trillions of dollars. The US Federal Reserve held 9 trillion of assets, including two and a half trillion dollars of mortgage backed securities that they're not allowed to own. This is insane. This is the government not putting their thumb on the scale.

Gary:
This is the government pounding the scale with a hammer. And so they did this, and when interest rates go up, stocks will come down. They're pulling liquidity out of the market. And so I shorted the market last year because of all of this. I thought this was a good way to control market risk and it turned into great profits. We've also been short because we correctly realized that sell side analysts were far too slow in lowering earnings estimates. And we put, I put up a chart on this on Twitter in the last few days, and we can see that earnings estimates for 2022 and 2023 have been sliding for about seven or eight months now.

Gary:
And we've been saying estimates are too high, they need to come down. And to give you a sense of how obvious this was to us, Phil, have you or any of your listeners been hearing about a coming recession All

Phil:
The time. Constantly.

Gary:
Okay, so let me ask you a question. If we're all worried about a recession, why we're sell site analysts saying earnings will be 5% higher,

Phil:
It doesn't make sense. It's something I've been wondering about for, you know, over a year,

Gary:
Right? And the amazing thing is people assume, oh, well these guys, they must know what they're doing. They don't, they don't, they don't know what they're doing. They make mistakes.

Phil:
They're making it up as they go along.

Gary:
Yeah. But the good news is, if you can see where they're making mistakes, you can make money off of that. But let me give you another reason. You might want a short of stock. What if you think the company has business problems? What if you think their business is under attack or you think they're not going to do well, or you have reason to believe their sales will be slow or that they're going to lose a customer or that a competitor is going to take market share? Th there are situations where you might think, my God, this is not a business that should be doing well. And you might short that stock simply because you think it's going to go down and you can make money doing that. Now, that's very difficult.

Gary:
And I want to caution your listeners. When you short a stock, your potential losses are unlimited. When you own a stock, you could lose a hundred percent of your money. When you short a stock, you could lose more than that. And so if this is something you're thinking of doing, please be very careful, do your research and understand what you're doing. And if you're not completely sure, and you're maybe not so experienced in this area, you have to be very careful because you're taking more risk than you would be in what we would consider a normal long position. It doesn't mean it can't be done, done or can't be done profitably. I've made money shorting stocks and I think it's, it's a valuable part, it's a valuable tool in any investor's toolbox, but I'm just cautioning people who may be inexperienced.

Gary:
Your losses can get very high and you have to be very careful.

Phil:
Yeah. Especially if you wanna try and go the easy way rather than do the, the shorting methodology that you described, doing it with put options for example, because that can just leverage your losses exponentially.

Gary:
Exactly. The, the way to think about options in the situation you're talking about is like having your normal position, but with leverage it, it, you've got a time clock on something and your losses could be greater and your percentage gains could be higher, but you have to be careful with

Phil:
It. Yeah. So getting back to the newsletter, you mentioned that a key aspect of portfolio management and risk control is how to make money when you're wrong. Tell us about being wrong.

Gary:
Yeah, yeah. So I had this thesis that I put in front of our premium subscribers in December. And what I said was, the sell side analysts have this completely wrong. They're assuming earnings will go up. We think earnings are going to come down. And what I put in writing was once companies start to report fourth quarter earnings, they will also give guidance for the first quarter in 2023. When they do that, that guidance will be a disappointment. Sell site analysts will reduce their estimates and that should make stocks come down. Okay, so was I right? Well, you know, sort of.

Gary:
The estimate on for the 2023 earnings for the S&P500, when I put that piece out was in the neighborhood of 232, I think give or take a couple of dollars and it's now come down to below 220. So that's a pretty big change, right? We got that right. And if you look at the graph, you can see those estimates sliding ever further down. I got the analysis right. Well, you know, here's the problem. The problem was that Chairman Powell got in front of the microphones, used the word disinflation, everybody got excited about a fed pivot, which by the way is not coming in the next 10 minutes like many people think and drove the market straight up.

Gary:
So I got the analysis right, but we got the direction of the market wrong and lost money in that short position, right? So the, I think the title was partly right, partly wrong, still making money. And so the part we got right was we got the earnings right, we got the analysis right, the part we got wrong was the direction of the market and we lost money in our market short, the reason we still made money was because our individual stock picks performed so well that they outperformed the market by a huge margin. And I wasn't fully hedged. And so what we ended up with was a situation where my market exposure was 25%, one quarter of being fully invested, but my investing returns were higher than the market.

Gary:
And so even though we lost money on the market hedge on, on the short position, we made so much money in the long positions that the portfolio was more profitable than the market with less risk. And that is, that's a lot of alpha generation is the way to think

Phil:
About it. Okay. Well let's have a look at some of those individual stocks and the three that are, that are mentioned, Enova, Las Vegas, Sands and Coursera. Which one did you wanna start talking about? First,

Gary:
Let's talk about Las Vegas Sands. That is a fascinating situation. If we go back six months, the stock was, I wanna say around 32, something like that. And the reason was so low is there were two big issues that were hanging over the company. Now they've got half the market share in Macau, which was the world's gaming capital. And they have half the market share in Singapore, which was the second largest gaming market in the world that had caught up with Las Vegas for a little while. So Singapore was performing better. But there were two concerns in Macau. One was the re tendering process. So really important to note, if you own a casino in Las Vegas, you own that casino.

Gary:
If you own property in the United States, you own that property. In Macau, the government gives you a license to operate. Now the last license was for 20 years. That license was due to expire at the end of 2022. And so the question was, is the government going to allow them to keep operating or are they gonna say, Hey, thanks a lot guys, you know, head out and we'll take care of the casino from here. And it, it wasn't clear. Now we thought all along that the government would allow companies to retender and let the six concessionaires, which is what they're called, the six companies that run casinos in Macau stay.

Gary:
And that turned out to be what happened. And all the paperwork got signed before the end of the year. And that uncertainty has since been resolved. The other thing that happened was, in China, they had protests related to insane covid. Lockdowns. People were locked in their apartments, they didn't have food, they didn't have medicine. In one notable case, they couldn't escape in case of fire. And people that had enough and they started protesting and, and look at the bravery of these people. Phil, you know, in the United States you can protest, but in China, if you protest, you're on a government list and you may be imprison. They have, these were brave people demonstrating for their own freedom and and I respect them for that.

Gary:
The Communist party in China tends not to be sympathetic to citizen protests. And those protests have been in certain situations, famously put down by police or people with tanks. We've seen it in this, this situation. The government folded and they basically said, okay, we're going from covid zero to zero covid restrictions. And they just said, we're gonna let the whole country get covid and get over it in about a month. Then they reopened Micah. And what we're seeing now are now, while gaming volume there has not returned to pre pandemic highs every month we're seeing a new three year high, a new post covid high.

Gary:
And so the stock is up about 50% since last June, July, you know, wherever it bottomed out around 32. And the reason is because you've had this horrible uncertainty resolved in favor of this company in two different places. And we're going back to business as usual. Last quarter they put up, they had a good quarter in Singapore pre pandemic. What you were looking for outta Singapore usually was EBITDA in the neighborhood of 400 to four $50 million. I think last quarter. This is from memory, it was around 380 million, give or take a little bit. It was good performance. So they're coming back after three years of just horrendous conditions.

Phil:
So this is an example where you've taken a view and acted upon that view. And I think investors really need to understand that you wanna take a view, but that view has to be very, very well researched. You just can't read an article in a paper and say, oh, you know, this is gonna happen. I'll back this company.

Gary:
That's that's exactly right. And just to give people a general sense of, of, you know, what I've got in my pocket on that. One, on the Deep Knowledge Investing board of advisors, Howard J Klein, he was a 30 year C level executive in the gaming business, and he worked for some of the biggest names in the business, including Steve Wynn. He knew Sheldon Nason personally. He actually worked for President Trump when he was the casino operator in Atlantic City. So he has incredible experience. I think the best newspaper coverage on the gaming business in Macau is Inside Asian Gaming.

Gary:
And I've done webinars, just like you're speaking to me, I've done webinars with Andrew Scott who runs Inside Asian Gaming. I've also read that publication every night since 2014. So it's pretty hard to replace, you know, nine years of nightly reading on a topic. And then obviously in addition to covering the industry, I've read every press release, the company's put out, I've been on every conference call I've had since 2014. You over time build up a base of knowledge to operate from. And I talk to people who are in Macau who know the Macau market, who know the way the government works there.

Gary:
Now, was any of this a guarantee? No, absolutely not. But there was an enormous amount of work. This wasn't, as you said, oh, I read an article looks good, let's go put money behind it.

Phil:
Yeah, no, I, I just really think, I was doing an interview last week with someone who was just talking about taking a view and I challenged him on that point to, to say, you can take a view, but how well backed is that view backed by numbers, research, analysis, the kind of thing that you do over and over again. And I think, you know, many people approach the market and they think, oh, you know, I can, I can do the same thing. I know what's going on. I'll read the paper or online or whatever it is. And that's where they make their biggest mistakes.

Gary:
So, you know, it's an interesting thing, Phil,

Phil:
It's because it's because they're taking a view becomes, it becomes like investing jargon, doesn't it? It's like, okay, I'll take a view.

Gary:
Yeah, that that's true. The thing is, I actually believe that individual investors are capable of doing that research of understanding a company and doing that work and doing it well. The problem is when they don't do that work, and it feels like, you know, yeah, this is, this looks good. I I was in the mall, the store was busy, you know, I'm sure it's fine.

Phil:
They old Peter Lynch model. Yeah,

Gary:
Right. Yeah, that's, and that's exactly, that's the guy I was thinking of and that's fine. But, but let me give you two examples, two stories where, you know, these things can, can sometimes go wrong. I used to follow the retail business and so I would get invited when, when companies would be announcing their fall line, their spring line, and we would go and the sell side analysts would, they'd look and they'd see the clothing, and then you'd see the research reports the next day and they'd say, oh yeah, this, this line is terrific. You know, we, we like this use of color, she's gonna love the new silhouette. You know, it's, the customer will be thrilled with this and that, and then the line would inevitably bomb.

Gary:
And so the question is, wait a minute, these are professional investors, these are fashion retail investors. They should know this of what's going wrong. And eventually what I figured out is that the personal tastes of women who live in New York City who make somewhere between 500,000 and a million dollars a year may not match what the rest of the country is buying. Right? They knew what they liked, but you know, women in New York City making a million dollars a year may not be a representative group. And it turns out they were very bad at predicting what she would want. And you know, the people like to derisively talk.

Gary:
I don't know what it's like in Australia, but in the United States, people in New York and Los Angeles often will talk derisively of the flyover states. This just vast wasteland. Well, you know, most of the country lives in that vast wasteland and they've got their own view of things. And sometimes that coastal view becomes a provincial view that becomes limiting. But I'll give you another example. Many years ago I was in Florida and I met a really interesting guy who was running his own business. He was asking me a lot of questions about investing and implied that he needed some help. I was running a hedge fund at the time. I said, listen, if you're interested, I'm, I'm happy to talk to you. We can talk about, you know, you investing and it's, if that's a conversation you want to have, I'm open to it.

Gary:
And he said, no, yeah, I think I can do this on my own. And I said, all right, well, let me ask you a question. And this guy was running his own business and he was doing well. He was making a few hundred thousand dollars a year, relatively young guy. And I said, you're doing really well. He said, yeah. I said, you work hard at your business. He said, oh God, yeah. I said, you're putting in 12 hour days. He said, yeah, I'm, I wanna make sure it succeeds. I said, I get that. I said, you have kids? He said, yeah, too. I said, you an absentee dad or you like to spend time with your kids? He's like, I love my kids. I'd love to spend time with my kids. Of course you do. I said, you're married. He said, yeah. I said, you make sure you spend time with your wife. He said, yeah, of course. I said, maybe you want to get a few hours sleep at night.

Gary:
He said, well, yeah, that, that, that would be nice as well. I said, well, let me ask you a question. When you place a trade, who do you think's on the other side of that trade? He said, well, you know, I haven't really thought about it. And I said, hi, that that's me. I said, I've been doing this 15 hours a day for 30 years.

Phil:
I I hope you had a big cheese eating grin when you said it's me.

Gary:
Yeah, right. Hi, it's, it's that, that, you know, Freddie boom, boom, Washington, hi there. You know, I said, or, or it's Citadel, right? It's, or it's, it's somebody else. You know, it it, it's

Phil:
The wolf of Wall Street.

Gary:
Well, I, I don't know that that's the right example, but you know, there are a lot of Yeah, yeah. But it, but it could be someone like Carl Icahn or Bill Ackman or you know, or David Einhorn or Joel Greenblatt or some really experienced, prominent investor who has been doing this for decades and works very hard, has unbelievable resources at their disposal. You know, when Julian Robertson was doing this on a daily basis, nobody had a better network. You know, that guy could make a, like I tell you, I talked to people in Macau to have a sense of what's going on there. Julian Robertson, he'd pick up, he'd pick up the phone and find out what was happening in an industry. And so the thing to realize is you may be going up against somebody who's very well prepared and you know, it's not like minor league baseball where you get to warm up against AAA pitching or AA pitching.

Gary:
You know, there, there's no, there are no minor leagues in this. You're stepping out under the sands of the coliseum, and you might have a wooden sword in your hand facing a very experienced gladiator who has steel.

Phil:
Okay. Well, on the, on the list and in the newsletter, he also mentioned the company Enova. Tell us about Enova and what you like about it.

Gary:
Yeah, that Enova is a subprime lender, and the company's been a huge profit producer for us. And to give you a sense of what I think about it, I haven't sold a single share. Basically what happened was, during the pandemic, everybody got in the United States at least got cash from the government and nobody had any way to spend money. You couldn't go to restaurants, you couldn't travel, you couldn't go to a sporting event or a concert. And so everybody cleaned up their balance sheets, and what they did was they paid off all of their loans. And so Inova had unbelievably high profits, but they were basically a runoff business.

Gary:
Their loan book disappeared. And so they had these, these, they basically were one time profits, and the question was, can they rebuild the business? And if they do, so can they do so profitably? And what we've seen over the last five or six quarters are record levels of loan origination. They've ramped up their marketing people are spending again, and it's actually an ideal environment for the company. And the reason is because as long as their customer is employed, their customer will be able to pay their debts. And right now unemployment is very low. To get an account withE Enova, to get a loan from them, you have to be employed, you have to have a bank account.

Gary:
And once you have that, they can pay their debts. And right now, you know, in the United States, the unemployment rate is below 3.5%. There are something like 10 million jobs, 10, 11 million jobs available right now people are desperate to hire. And so there are a lot of people with jobs, but because of inflation and the desire to go back to a more normal spending pattern after a few years of lockdowns and not being able to vacation, people are spending. And so consumer credit is increasing, consumer debt is increasing, and the company is going back to its old levels of profitability, but the non-performers are below where they were pre pandemic.

Gary:
That's particularly true in their business lines, which are doing very well. And what the company has correctly said is that as they grow their top line, as they grow their loan book and have higher revenue, there will be operating leverage. And that's just a fancy way of saying that as they grow their business, they don't need to keep hiring people in the same proportion, right? They're general administrative expenses, their marketing expenses, not everything scales with the higher revenue. So you could have revenue up 20%, but maybe your expenses are only up 10% and all of a sudden you get this double impact of higher revenue, but a higher operating margin or lower expenses relative to your revenue.

Gary:
And so we think this company can double their earnings over the next few years. And the stock right now is trading at something like six times earnings with just an enormous amount of growth. And if they continue to grow at this level, not only will earnings grow, but the multiple won't be at six. And so that's why, even though it's been a very profitable position for us, I, I haven't sold a single share. I continue to like it.

Phil:
And obviously this is not a recommendation to buy for anyone, you know, do your own research and check with a financial professional first, however, that metric six times earnings, just, just as a very basic metric that is used in terms of valuing stocks, is a very good one, especially in this particular sector.

Gary:
That's right. Phil, you would tend to see a multiple like that either on a business with no growth or a business where people were concerned that earnings might decline over the next

Phil:
Few years. Like, like mining stocks. Mining stocks are an obvious, an example where that kind of PE ratio, yeah, that

Gary:
Reigns exactly right. And that's a great example. You would also see that back years ago with the auto companies, right at their peaks, when they were selling the record numbers of cars, you knew they weren't going to sell, you know, 18 million cars a year every year. And so, you know, they didn't get a high multiple. They'd get this single digit multiple because everybody knew that it was a cyclical business. And when the down cycle came, they were gonna sell fewer cars and revenue would come down and profits would disappear. So in the case of Enova, what we see are years ahead of very high growth, and they've managed to very impressively continue to grow the loan book, but without having a large increase in non-performers.

Gary:
And that's the risk in that business that you grow, but you grow with bad business, right? You make loans to people and you say, okay, we're gonna make a ton of money, but if those people don't pay back the loans, you really have a

Phil:
Problem. Okay, Gary, well tell us about Deep Knowledge Investing. Tell us about the newsletter and why people should be interested in you and your Twitter account as well.

Gary:
Thank you so much. Yeah, it's @gary_brode on Twitter. The firm is Deep Knowledge Investing. We're at deepknowledgeinvesting.com and what we do is we help people get better stock market returns. We do that in two ways. One are individual stock picks, like some of the names we've been talking about now, and the ones that we use to generate a lot of alpha and outperform the market. And we've also been able to provide market guidance and commentary being able to understand that inflation was going to be a disaster last year, just to give you a sense, we had our subscribers preparing for inflation in November of 21.

Gary:
They were buying things like gold and energy oil stocks. Those did very well last year. And then at the beginning of January of 2022, we shorted the market. And so, you know, for all the people, people who were saying, oh my God, the s and p 500 was down 18% last year, I think the NASDAQ was down 33% for us. Those were profits, right? So if the NASDAQ was down 33%, we made 33% on those positions. We were positioned to make money as the market went down, we were positioned to make money in things like gold as the dollar lost value and inflation was a problem. And then again, on the energy side, we did really well. And so we help people.

Gary:
We work with everyone from billion dollar hedge funds to family offices, to registered investment advisors. And I have some clients who have, you know, $20,000 in a etrade account or a Robinhood account somewhere. And whatever you do is up to you. We don't trade anything for you. We don't take over your account. You can read the research and you decide for yourself whether you like the position or not, whether you're comfortable with it or not. Every now and then somebody emails me questions, which is great because it usually turns into an interesting blog post.

Phil:
Gary Brode, thanks very much for joining me again today.

Gary:
Thanks, Phil. Pleasure to be here.

Chloe:
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