Speaker 1: Hey, it's Joel. I know you're not supposed to hear
Speaker 1: from me or Eric for another week, but I'm just
Speaker 1: too excited about our next episode. We recently sat down
Speaker 1: with legendary money manager, Bloomberg opinion columnists, podcast host, and
Speaker 1: general jack of all trades Barry Ritholtz for several hours.
Speaker 1: That's right, several hours. We talked about e t f s,
Speaker 1: the state of the economy, and whether we still even
Speaker 1: need financial advisors like Barry. We even threw caution to
Speaker 1: the win and waded into politics and tariffs. Berry didn't
Speaker 1: hold back. So tune in next week for special double
Speaker 1: episode of Trillions, and in the meantime, check out Barry's
Speaker 1: podcasts Masters in Business while you wait. He's been doing
Speaker 1: this forever. He's amazing to get a taste of Masters
Speaker 1: in Business. Here's an excerpt from a recent interview that
Speaker 1: he did with research affiliates rob Or, not a big
Speaker 1: name in E t S. Let's talk a little bit
Speaker 1: about factors investing. Um Fama French famously identified first the
Speaker 1: three factor model and the five factor model, then the
Speaker 1: seven factor model. Are there still factors out there that
Speaker 1: have yet to be discovered? Two answers to that question. Firstly, yes,
Speaker 1: there will be. They've already been five factors published five
Speaker 1: and um, there will be hundreds more. Now the more
Speaker 1: pertinent question is how much of this is data mining
Speaker 1: finding relationships that prevailed in the past that have no
Speaker 1: reason to prevail in the future, and how much of
Speaker 1: it is, um truly factors that drive price that can
Speaker 1: be truly a reliable source of excess return, Meaning is
Speaker 1: there enough outperformance here that can be captured by a portfolio?
Speaker 1: Exactly so of those five So, if these were really
Speaker 1: good factors, why wouldn't we create a if not a
Speaker 1: five hundred factor portfolio. Hey, let's put these in order
Speaker 1: of the strongest outperformance generators, and here are the fifty
Speaker 1: or five best factors. Why can't we do that? Well?
Speaker 1: I wrote a paper a couple of years ago called
Speaker 1: how can smart pay to Go Horribly Wrong? And I
Speaker 1: remember that it was massively controversial. I thought the controversy
Speaker 1: was amusing because if I'd written a paper entitled how
Speaker 1: can stock picking go Horribly wrong? And I offered the
Speaker 1: the sage insight that if a stock soars and its
Speaker 1: fundamentals haven't, so it's valuation multiples have sword, it's past
Speaker 1: returns will look artificially wonderful, and if there's any mean
Speaker 1: or version on valuations, it's future performance will to use
Speaker 1: a technical term, suck. So um. People would have read
Speaker 1: that paper and said, what's this nitwit talking about? Everybody
Speaker 1: knows that by saying exactly the same thing about factors
Speaker 1: and smart beta strategies, I was pilloried for suggesting that
Speaker 1: the same thing could apply for strategies. Now, if you
Speaker 1: go back historically, you find that the alpha of many
Speaker 1: of the smart beta factors have has not been tested
Speaker 1: in terms of how much of that access return came
Speaker 1: from rising valuation multiples. We might as well have a
Speaker 1: an Apple factor that simply says Apple has outperformed magnificently.
Speaker 1: It is a powerful factor. You have a long Apple,
Speaker 1: short everything else factor, and because of the past performance,
Speaker 1: we know it's going to continue to work. Let's digress
Speaker 1: a little bit and and define factors for people who
Speaker 1: may not be familiar with Gene Fama, who won the
Speaker 1: Noble Prize a few years ago for his for a
Speaker 1: lot of his work. Um the original and it's Gene
Speaker 1: Farm and Ken Frenchship. Dartmouth Farm is at Chicago. The
Speaker 1: original farm of French factor paper was small capitalization value,
Speaker 1: and I'm trying to remember was that momentum or quality
Speaker 1: market market beta market. So that's the three, okay, and
Speaker 1: then when we moved to five, we added um uh,
Speaker 1: quality and momentum, So that's the next lot, and then seven.
Speaker 1: I don't even know what the next two are. I'm
Speaker 1: not certain, but I think it's illiquidity and investment. Right. So,
Speaker 1: so all of this comes back to let's let's keep
Speaker 1: it simple. Low cost stocks over long periods of time,
Speaker 1: better value stocks, not a expensive stocks. I don't mean
Speaker 1: low price tend to outperform expensive stocks over the long haul,
Speaker 1: exactly right Now. Advocates of efficient markets will say it's
Speaker 1: got to be because of some kind of hidden risk,
Speaker 1: because you can't get something for nothing. Um. I would
Speaker 1: push back against that and say it's not risk with value.
Speaker 1: Might be risked with small cap because there and then
Speaker 1: there's a liquidity issues, but with value, it's the psychology.
Speaker 1: It's to behavior of who wants to buy this. Dominoes
Speaker 1: is one of my favorite examples. Domino's had a big,
Speaker 1: a whole run of issues late nineties early two thousand's
Speaker 1: the stock did poorly. People were thinking, all right, well
Speaker 1: that chain is pretty much done, and dominoes over the
Speaker 1: past I think it's either fifteen or twenty years has
Speaker 1: handily outperformed Apple. I may be getting the timeframe wrong,
Speaker 1: glow so, and that's the psychology of who wants to
Speaker 1: touch that? And if you look from the trough in
Speaker 1: two thousand nine, Uh City ever so briefly dipped below
Speaker 1: a buck, be of a dipped to roughly two bucks.
Speaker 1: And since then those have handily outperformed Apple. Um so,
Speaker 1: but they've outperformed it from a starting point of being
Speaker 1: thought on death's door. So value, it seems to me,
Speaker 1: does have a behavioral basis. Basically, when you have a
Speaker 1: value orientation, you're buying what's unloved, what people want to shun.
Speaker 1: That should be rewarded. Now is it a hidden risk
Speaker 1: factor only psychologically? Well, let me let me push back
Speaker 1: a little bit over there. Two companies in the financial
Speaker 1: crisis look terrible. One of them's a I G. The
Speaker 1: other's Lehman Brothers. You can buy a i G rescued
Speaker 1: and and since pretty decent, not great, but pretty decent
Speaker 1: returns off of the bottom and Lehman. I guess we
Speaker 1: could call that of value trap. Although there were elements
Speaker 1: of fraud in RepA one O five, there was a
Speaker 1: whole different set of problems with Lehman. But the risk
Speaker 1: with value is am I buying something that's going to
Speaker 1: be a zero. That's known as a value trap. It's
Speaker 1: a stock that looks cheap on its way to zero.
Speaker 1: Now it's hard to have a whole sector that looks
Speaker 1: cheap on its way to zero. I coined the term
Speaker 1: anti bubble in two thousand nine to describe what I
Speaker 1: perceived as the inverse of a bubble, where an entire
Speaker 1: sector of the economy is priced as if they're all
Speaker 1: headed for oblivion, when in fact, every failure clears the
Speaker 1: runway for the survivors to have higher profits, higher margins,
Speaker 1: and greater success ahead. So unless you wanted to um
Speaker 1: accept the notion of armageddon the end of the economy,
Speaker 1: uh you, it made sense to think that collectively this
Speaker 1: sector was being dismissed when it shouldn't be. There's a
Speaker 1: whole group of people that are the armagen traders. I
Speaker 1: think the Ft called them the plastic bears. They'll scream
Speaker 1: arm again, but then they'll he here's what we can
Speaker 1: sell you while we're waiting for armagin um. The other
Speaker 1: thing about anti bubble is so fascinating. You could say,
Speaker 1: there's an anti bubble in what was it? Home builders
Speaker 1: and oh five, and mortgage brokers and bankers and oh
Speaker 1: six and