NCI: Is the bottom in?

NCI_Is the bottom in

[00:00:00] Good afternoon. I hope everyone is doing well. Welcome to the next episode of Lumia Non-Consensus Investing. I'm Ram Awalia, the founder of Lumida Wealth Management. I promise I do a live podcast today. There's so much happening. I wanted to share some thoughts with everybody. Uh, by the way, quick heads up, I'll be in Puerto Rico Tuesday through Thursday of this week, so if anyone is in the Dorado or San Jose area, do reach out.

Uh, we're also doing more events in the New York City area too. Uh, so find a way to get ahold of us. Uh, I wanted to share a few quick thoughts on the market. Um, if you've been reading my newsletter over the last two weeks, you've probably have seen some of these updates. I'll share my headline views there and also walk through specific stocks that we own right now have been buying, including this morning and over the last one or two weeks or so.[00:01:00] 

So look, my headline view is the bottom is in. And, uh, I don't think that is a consensus view out there. You know, people wake up, they see headlines, their cortisol is spiking, they see the price of oil, they look at the price of gasoline, uh, and they've got, uh, PTSD, uh, and fear in their bones. And so, uh, very much what we see today is very similar to what we saw last year.

I'll share some points of reasoning and then I'll get through, uh, some of the positioning ideas we have. Um, first off, uh, last Tuesday, uh, I posted on Twitter. I said, "I think you should be buying stocks. There's lots of value. Their names are down 20, 30%." What drove that thesis was a few things. One is, this is the headline.

We see quite a few quality businesses that are trading at, at significant discounts where if you're an investor, you're supposed to buy those businesses. These are called quality [00:02:00] businesses. Um, I've been very critical about the co- concept of quality because they were overbought and expensive, names like Costco, which are still expensive, but there are a number of high quality businesses that have economic resiliency, pricing power.

They're dominant market leading, uh, franchises with brands and capital and earnings growth, and they're cheap. And they haven't been this cheap in a long time. So when that happens as an investor, you're supposed to buy, and I see dozens and dozens of these names. Um, this has been a r- a really unusual kind of correction where you've seen concentrated selling in certain areas, and then rallies in other areas like energy, materials, and staples.

So the volatility under the hood has been a lot more significant than you see at the headline level. So the move now is to buy those names that sold off quite a bit and prioritize on quality. What happened the last two months is significant, what's called de- [00:03:00] grossing, de- leveraging from institutions, but also retail investors.

And they were forced to sell quality names just to make their books smaller. And no, when they get back into the market, they're gonna have to buy those names. We saw excess sphere as well. Last Tuesday, I saw that retail investors bought an excessive amount of puts. Uh, that, that's a pretty reliable bottom signal.

When retail investors are panicking, you wanna take the other side of that. We also saw excessive hedging and excessive short interest. If it wasn't for that, you could say maybe the bottom's not in, but institutions have bought so many put options. They've hedged so much that we're seeing record levels of short interest.

It's hard for markets to move down when people are expecting downside. This is classic non-consensus. We wanna take the other side of excess fear, [00:04:00] okay? Are there issues in the market? Sure, there are issues in the market. You know, private credit's legitimate issue. Uh, does liquidity risk become credit risk when these software companies can't refinance because their equity values are done a lot more?

Sure. There are risks out there, but they're quality opportunities. And even when you look at private credit risk, I see commercial bank lending is increasing. People don't borrow from banks unless they intend to use that capital. Banks are still lending. So the basic drivers of economic expansion are still there.

Household balance sheets are still strong. They still have record equity levels. Their house prices are increasing, which increases the value of their balance sheet as well. If you're on the lower side of the K-shaped economy, it's a very difficult time period. As you see gas prices going up, you're getting priced out of, of homes.

Um, you're gonna see more inflation, but that doesn't drive the broader economy, okay? That [00:05:00] cohort doesn't drive the broader economy. That's important to keep in mind. Uh, some other things that we were looking at, uh, we got cautious and bearish in January when we saw that everyone was all in the market.

The Goldilocks thesis, uh, which we were champions of really the last two years became consensus. And you saw the Bank of America fund manager survey showed cash levels were low. Uh, we saw multiple studies. The AAI investor sentiment index showed people were bullient and optimistic. Uh, so, you know, we've reset a lot of that sentiment now.

You're back at kind of neutral levels now. So markets can rally because institutions have more cash. Not only that, what you now have are a condition of FOMO, if you're missing out, also called like a performance chase. If you're an institutional investor, you were smart to get out of the market. No, it's silly not to be in the [00:06:00] market.

They kind of have to get in the market and participate. So I think the move here is front running these institutions because those institutions are trained to buy quality investment. This is the time when you want to put CFA hat on, okay? This is the time we become Mr. CFA. I want to walk you through what we've been buying now.

Again, take a look at our newsletter this weekend if you want a little bit more information and what we saw big picture. Uh, so category wise, look, Mag7, really Mag3 led us into this downturn. I think they're gonna be some of the names to lead us out. I think they're gonna do really well. Uh, take a look at Microsoft.

This is a quality business with double digit earnings growth ahead of it. Microsoft sold off due to counterparty risk on OpenAI. And in November, I was highlighting this. They had too much exposure to OpenAI. But the impairments, their equity are hundreds and hundreds of billion, $800 billion in losses versus only 100, $200 billion [00:07:00] exposure to OpenAI.

Market's overreacted here. This is a quality business. They're gonna raise prices in May, and they're having, uh, a $95 a month pricing for bundling various services. And Microsoft will fast follow Claude, just like they did with Netscape Navigator when they rolled out the Internet Explorer browser. These businesses have substantial enterprise distribution in reach.

It's really hard to underestimate that. And they've got lock in from Fortune 1000 companies and governments around the globe. Uh, if you wanna see one of the greatest earnings transcripts of all time, just go read a Microsoft earnings transcript. They're, they're, their tentacles are everywhere and people use Microsoft because of security.

So it's a great franchise. They'll do well. Uh, this is one of our largest positions. We hadn't owned it for years because it was overpriced. We own it now. Uh, I think this is a fine business and I believe it bottomed with the software category this past Friday also. That's one of the names we own. So [00:08:00] Microsoft, uh, that's a name.

What about names like Accenture? I think this is a great category, uh, opportunity. Look at the free cashflow yield and Accenture. This is 11% of free cashflow yield. Free cash flow yield is one of the few metrics that's a reliable guider of where there's value. It's a quality business. AI's not gonna disrupt these consultants.

What these consultants are gonna do is facilitate change management. Enterprise companies, they need to change their workflows. Workflows are how organizations adopt new technology. They've got to map out the old process, formulate a new process, then drive behavior change and training and new policies, new systems building.

Uh, they've got a sculpt AI around that business and their specific workflows. Uh, and, you know, companies like Accenture, and they're not alone, by the way. Companies like, um, Cognizant Technology [00:09:00] Solutions will also do well, it's got a free cash field of nearly 90%. You'll notice this is near the highs. This is near the highs of free cash flow yield, and the valuation multiples are near troughs.

So if you're ... Look at this. If you're a value investor, this is like your CFA test. You're supposed to buy. We own both of these names on both the full disclosure. Um, I think these will do well. I think these will do quite well. I think you wait a year, and these are up at least in the teens. Um, the death of SaaS was truly exaggerated.

We'll get to SaaS in a moment too, but I think these names are gonna be part of driving transformation, uh, in the years ahead. Okay. Some other names in software, let's talk about software. So look, I think Microsoft is actually one of the moves in software to make, but, uh, uh, there are names in software that are still too expensive.

They're all gonna rally today and probably for the next few weeks because if you look at software versus [00:10:00] IGV or semis versus IGV, which is the, uh, software index, you can see this is quite extended. This is quite extended. Uh, it's, it's even more striking. Uh, oops, sorry. One second.

You know, this, this ratio of semis to software has gone on too much. This is the AI apocalypse theme in a nutshell. I think semis are likely to give way and, and top out here, and you can even see it in that ratio today. Software is, uh, leading semis today. These two ETFs are in, are intention with one another.

They're both sub components of technology sector. The value in software is just becoming compelling no. I look at GoDaddy, for example, right? They have all the domain name registrars. 15%, 14% free cash yield. It's too cheap, eight and a half [00:11:00] times four PE with earnings growth, with earnings growth. AI's not gonna disrupt domains.

People still need domains and you've got a lot of recurring revenue. If you, anyone that owns a domain understands that every year, you're paying GoDaddy, it's utility with earnings growth. And, uh, I think those guys will do pretty well. Zoom is another interesting one also. Zoom's at 8% free cash flow yield, uh, not a bad idea, not a bad idea.

And, uh, let me see if I need a cleaner chart here. Uh, below the 200 day moving average seems like that could be an opportunity. Uh, some of the things that we like here ... Let me talk about staples. You know, I do believe you're transitioning to a higher inflation world and inflation is toxic for risk assets, toxic for bonds, toxic for equities.

Anyone that members 2022 knows that. This is the primary macro risk factor in the market. It's not earnings growth. The earnings growth is there. We've seen the [00:12:00] Ford PEs decline 20%, that's consistent with significant corrections. That's another reason why I'm constructive on the market. Even though the headline indices dropped like eight, nine, 10%, the, the Ford PEs dropped substantially more.

Where that earnings growth is gonna come from is substantially gonna be like large cap tech, but also other areas including financials. Some industrials, which I think are over- overbought and very expensive and should be in avoid. Um, but the earnings growth, uh, is, is there, and that's constructive.

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