Jason Stipp: There was an article in the Wall Street Journal recently that said that a lot of investors are trading on macroeconomic themes now, and it posited that perhaps the rise of ETFs and the ability of folks to take broad market positions has contributed to this tendency.
One thing that the article mentioned is that this trend, if it is indeed a trend, has confounded stock-pickers, bottom-up stock-pickers, because stocks don't seem to be trading on the fundamentals at least in the shorter term. As someone who does look bottom-up at stocks, have you found that it's been difficult to see your holdings trade on the fundamentals? Have they been trading on the fundamentals, or what's your take on that as far as a stock-picker's perspective?
David Herro: I think there is a lot of exactly what you're saying is happening. People are afraid to stay focused on the fundamentals, so they are going to the macro. The problem with that for them is the macro changes like the wind, it's like the weather. There is so many variables, there is unstable coefficients, and people get whipsawed.
What we actually try to do is use the impatience of the population of investors, who all of a sudden now are consumed with and obsessed with the macro. We try to use this to benefit our shareholders. As they are all, for instance, in the second quarter of 2010, concerned about European debt and they're all dumping European financials, then we'll buy them if they're good-quality businesses at the right prices.
For our investment style, in a perverse way, it's a positive, but for a typical investor, they are getting whipsawed by this and my recommendation would be, aim high in steering as they tell you in driver's ed, don't get caught up in the short-term variability and the white noise and in things that you cannot predict such as short-term macro trends.
Stipp: Given that you are looking at the business fundamentals, certainly some macroeconomic trends will factor into the cash flows for example that a business can generate or its sales outlook. How do you think about the macro when you are thinking from a bottom-up perspective? How do you incorporate that into your investment philosophy and make sure that a macro trend isn't going to perhaps impair one of the businesses that you've invested in?
Herro: Yes, because we do. Like I said, we don't necessarily react and invest and change positions because of macro, but the macro is incorporated into the value we measure in the businesses which we are looking at.
Let's take an actual example, Banco Santander, a Spanish bank – the Spanish bank, though, that gets less than a third or around 25% of their profits from Spain. A lot of their profits come from Brazil, Mexico, and the United Kingdom and even to some degree the United States. But what we've seen is because of the weak macro conditions in Europe, people all of a sudden just want to flee European financials, without even looking to see where these companies actually earn their money.
So, even though we believe certain economies in Europe are in for slow going, that doesn't necessarily mean that stocks located in those markets are of bad value. In fact, I would argue that the evidence shows just the opposite. Places, companies that are based in what appear to be negative macro environments, especially if their businesses that have widely diversified revenue and profit base, often are selling at excessive discounts, because they get thrown in with all the other local companies based in that country.
So, this is why it creates an opportunity. We can't just look at the macro situation of where a company is located, you must consider the sales base of where that company operates and then make the adjustment based on that on whether company is fairly valued or overvalued or undervalued.
And of course, one of the key metrics, which everyone seems to want to ignore, is price. You have to look at what that business is trading at because the fact that it's in a negative macro environment may already be reflected in its share price and vice versa. If it's in a blooming economy, they're positive generally or may be reflected in its share price.