In the Vault: Public Market and Macro Perspectives with Mark Casey of Capital Group

Episode Transcript

This transcript has been condensed and edited for readability and clarity.

David George: Mark, you’re one of the most kind of unique, long-term thinkers among public market people that I get to hang out with, so I’m excited to talk to you. To start off, I’d love to hear your general approach to investing. There’s a very different kind of long-term approach that you take.

Mark Casey: Sure. Well, you know, my approach is very informed by Warren Buffet and his great letters to shareholders, which I read all of. I kind of taught myself investing that way before I joined Capital Group. And he talks about Ben Graham, the inventor of value investing. Having said that, in the short term, the stock market is like a voting machine: stocks get valued on emotion and trends and fads, and it’s very hard to predict what’s going to happen in one to two years to the stock price of anything. But in the long term, the stock market is like a weighing machine, and there’s going to be a rational relationship between the stock price of a company and the earnings of the company. And so I have just taken that very seriously and said, “All right, well, I’m going try to focus on like four to eight years from now, how much our company’s going to earn or be capable of earning, and how good will they look then?”

And if you apply a traditional, sensible valuation framework to something eight years out, and you connect the dots to today’s stock price and you have a nice, upward-sloping line where you deserve to  make a pretty good return, I’ll probably just buy it no matter how bad the short term looks, no matter how many people tell me, “You know, that stock’s going to go down a lot if we have economic weakness.” I’ll say, “Yeah, but the eight-year deserves to be superior. And if I just fill my portfolio with eight-year winners, I’ll have a good eight-year number.” And the way it works at Capital is the bonus you get for your results is you get a one-year, three-year, five-year, and eight-year rolling average bonus. But the eight-year is the biggest by far. So, I kind of obsess about the four to eight-year look for companies, and then affix myself like a barnacle to the side of the ship and go through the arctic waters.

David: How was that during the tumultuous period of 2020, ’21, ’22, ’23?

Mark: Well, the ’21 part of that was awesome. I was like a barnacle on the deck in the Bahamas and there were amazing drinks all the time. The 2022 period was rough. My big mistake in 2022 was not trimming a lot of stocks at the end of 2021. You know, I looked at Netflix at 630 then, and Amazon at 180, and Facebook at 380. Facebook, I actually said, “I’m not trimming a cent of this. I love this at 380.” And then it went to 90 in the next year. But, you know, the others, I actually thought, “You know what, I should lighten up on these,” but I only sold maybe 10%, 20% of the position. I should have sold 60%. Because at that point, you couldn’t really pencil out the math, or I couldn’t pencil out the math very well.

But the way 2022 happened was the Q1 earnings came out — or really Q4 ’21 earnings came out — and all those stocks just tanked. You know, and then I  looked at them and I was like, “Oh, well, I like them all now.” You know, now I can really pencil out the good returns. So, I just went into “barnacle mode” and sort of hung tight in 2022, tried to add to the ones that were down the most near the end of the year. And then 2023 was barnacle and Bahamas time again. Probably almost every stock in the room had the same pattern. ’21 was great, ’22 was rough, ’23 came back. Now I feel like we’re in much more of a stock pickers kind of market where the magnificent seven aren’t all magnificent this year. One’s down a ton: Tesla; one’s down a little: Apple. You know, I think there’s going to be more separation in the market in general.

David: Yeah, that’s awesome. One of my favorite stats that you’ve given is the average U.S. stock is held for 10 months. Is that right? 

Mark: Yep. That’s if you leave out the high-frequency trading firms, where it’s like 10 milliseconds. 

David: Exactly. And then your average hold is…?

Mark: It’s more like six years. And, you know, a lot of that’s the mistakes. You buy something, you think it’s going to be great, and eight quarters in you realize, “I’m wrong here, I should sell.” But some of the winners I’ve tried to hold a really long time. I’ve held Google since the 2004 IPO. I started following Amazon in 2005. I thought it was hugely overvalued at a market cap of $17 billion. It tripled in my face over the next five years. And then finally in 2010, I was like, “You know what, they might be onto something about this everything store.” So, I finally wised up and have been holding Amazon since 2010.

David: One of my favorite stories I heard from one of your partners was from when you were in a meeting with Jeff Bezos. This was 2012?

Mark: Yeah.

David: And you were like, “Hey, you know, all due respect, things seem to be going pretty well. Why aren’t you actually growing faster?” Which is a pretty funny thing to say in 2012 about Amazon, given the way it’s played out.

Mark: Yeah. And by the way, they were actually growing really fast. It’s just when Jeff told the story, it sounded so amazing. He took it well. He’s such an incredibly friendly guy. When people criticize him… He pays better, closer attention than almost anybody I’ve ever been in a meeting with. It can actually be kind of intimidating, because he will really stare you down when you’re asking a question and think about what the question was. But he did offer me a job in the meeting. He was like, “Look, if you’re so dissatisfied, why don’t you come here and make it better?” And I was like, “Well, all right to keep picking stocks.”

David: It’s like the engineers that complain about, you know, the salespeople’s comps. He’s like, “Oh, well, you can just have a quota too, if you want.” That’s great. That’s cool. His explanation, though, was good. From what I heard, it was that old, human habits die pretty hard. There’s a lot of inertia in human behavior.

Mark: Yeah. And I think that’s such an important insight. He’s like, “Look, it’s hard to get people to change their habits, but once they do, it’s hard to get them to change the new habits if they like what you offer.”

David: Yeah, exactly.

Mark: So that’s one of the things I rely on most in times of crisis. You know, when Facebook was at 90 or 100, one thing you could do is just look at the monthly MAU and DAU traffic on Facebook. And you would look at it and say, “Well, Wall Street hates this and Washington, D.C. hates this,” but 3 billion people a day go spend 40 minutes on these sites. And all those numbers are growing. So as long as they can put ads in Reels at some point, it’s probably going to be okay.

I would say Alphabet’s a little like that right now. Especially a couple of weeks ago, after the Black Viking and Asian Founding Fathers debacle of the Gemini image generator, there was such a feeling of loathing and disgust emerging from all over the podcasts and people who are so upset. And some people are like, “This company has lost its ability to do good work.” And I remember thinking, “Well, I don’t know. I think they’re still really smart and good at making products and they have 9 billion user-a-day products. I bet it’s going to be okay.” They have a little time to figure it out and correct the image generation.

David: Yeah, exactly. That actually ties into one of the things that I love you talking about, which is: the way CEOs communicate with public market investors will actually dictate who the public market investors are that are attracted to their stock or their company, right? I’d love you to  expand on that idea.

Mark: Sure. I think it was Warren Buffett who came up with this phrase that said, “You can have a musical performance, and if you advertise it as an opera, a certain type of crowd is going to show up. And if you advertise it as a heavy metal concert, it’s going to be a different crowd. But you can pick the crowd that shows up.” And you want to talk about the thing you’re building in a way where the right crowd shows up. And so there’s an approach to doing this that I tend to like. First of all, I love it when a company that’s public has a North Star that is not financial. It is based on the idea that there is some segment of customers we are going to win with. And as much as investors are always pushing on companies to make more money faster, the reality is neither the company nor us is going to make any money if the company doesn’t have satisfied customers for the long-term. So I love that customer-focused North Star. But then you get into all this stuff about, “Well, how do you talk about your financial metrics?” And something I love is when companies use intellectually honest financial metrics. There’s something called adjusted EBITDA. And no criticism of anybody here if your company is focused on this…

David: Nobody has it here, anyway.

Mark: …but it’s such a bogus metric. You know, the stock-based compensation, which is ignored in that metric, that’s a real expense. And you all know it’s a real expense because if you weren’t allowed to use stock-based comp, you’d have to pay cash comp, okay? And your earnings would be what they are, so lower than adjusted EBITDA. Also, that ignores depreciation. Look, if you don’t replace your property plant and equipment, you sort of grind to a halt and your business dies. So, if your company is focused on adjusted EBITDA and talking to investors who think that’s a real metric, for some reason, you’re not really focusing on two of the biggest expenses: stock comp — which is your employees — and depreciation, which is your servers. I love it when companies talk about gap operating income, or maybe they add back amortization of acquired intangibles, which is too geeky to go into here, but I’m fine with adding that one back.

And then the most romantic two words, the most seductive two words, for investors like me is “per share.” If a company is focused on the long-term growth of intrinsic value per share, my heart just starts going pitter-patter. Because so few companies talk about their per-share progress. But that’s what matters to investors because we don’t own the company, we own our shares of the company. And, you know, part of that is free cash flow per share. That’s really important. Because if you have positive free cash flow, you stand on your own two feet financially and you don’t have to rely on the stock market to finance you in a bad time. But free cash per share also treats stock comp like it’s a benefit, rather than an expense. So I like it when companies talk about good old-fashioned gap earnings per share.

Other things, just about talking to the public markets: some companies hype up their stock. And I feel like that’s a mistake because if you have a lot of stock-based comp, you’re basically pulling forward the compensation that was going to go to all the people you’re about to hire. You pull it forward and give it to the people you already hired. So it rewards the people who are there, but it makes life difficult for the people you just hired, if you want them to stay there a long time.

David: I think that’s a pretty profound insight. I haven’t heard that described to me that way before, which is that you’re kind of robbing the future and rewarding the present.

Mark: Yeah. And I think you want to reward people for the progress they make and the company makes and the time they’re there. So I think you want your stock to be fairly valued all the time. Obviously, if you’re about to issue shares to buy some other company, you want to jack it up a little. But, you know, in general, you want it to be fairly valued. And just two other things I’ll throw out. One is: I think guidance is hard to give. I am very comfortable with companies that just say, “You know, we’re not going to give any guidance.” Amazon gives you ridiculous guidance for the next quarter. They’d say, “Our growth will be between minus 1 and plus 17.” And you’re like, “You could drive a truck through that and you gave me the guidance 6 weeks into a 17-week-period.”

It’s not very helpful. Google never gave guidance. Berkshire Hathaway doesn’t give guidance. I don’t think giving guidance really… Give guidance to something you control. “Here’s our plan for expense growth, and then we’ll see what happens with revenue.” Or, “Here’s our plan for margins if revenue comes up light compared to our expense growth.” And then the last thing I would say is, there’s this epistemological thing that you can have with your shareholders. I happen to be one of the heretics who thinks dividends are amazing. I love it when companies initiate dividends. And I think the companies love it when they have dividends, too. It’s like giving everybody who has stock comp a raise, in cash, that shows up every quarter, that they start spending. That no startup can do this, you know, pay a dividend. And by the way, it makes your EPS go up because it makes the Black-Scholes value of your stock comp go down, so your earnings go up.

So, dividends I just love. But I’ll talk to these companies that have never paid a dividend and I’ll say, “You know what would be great? A dividend. You make like $70 billion a year and, you know, you can’t spend it all.” And they’ll say, “Well, we talked to our shareholders and none of them are interested in a dividend.” I say, “Well, you should talk to the people who aren’t your shareholders. Because the people who really wanted dividends can’t buy your stock because it doesn’t have one.” And another place that sometimes shows up is, a company’s got a high operating margin and they start to realize they need to make some investment that’s going to take the margin down. And they’ve got an existing base of shareholders who are almost certain to dislike that. No shareholder really likes to have to revise their financial model estimates down.

And so companies will feel out their shareholders, “Well, what if we did this?” And the shareholders will be like, “Ah, don’t do that.” But that’s a good time also to talk to the people who aren’t your shareholders. There are a lot of companies I won’t invest in because they’re not investing enough, right? I’m like, “Your margins are too high. I don’t think you’re being aggressive enough about future investments. If you lowered your margins and it showed some progress on the investments, I’d come in.” The companies don’t think that maybe we should talk to all the people who don’t own us.

David: Yeah. Look, that is so much knowledge in there. I feel like there’s a bit of a turning point in the ’22, ’23 cycle, where some of the modern, high-flying tech companies started to embrace this. So, two of the ones that are top of mind for me are Block, which very much changed their operating targets, their segment level targets, including SBC, all that stuff. And then DoorDash, which wrote an awesome letter, probably about a year ago. It was like, “Hey, our North Star is going to be free cash flow per share.” And it’s kind of this stage of growing up for these folks.”

Mark: Yeah. I loved the Block announcement, which our analyst, Christopher Kim, whom I work with a lot on Fintech, pointed out. He said, “Mark, you’re going to love this.” And I said, “Yep, you’re right. I totally love it.” They want to have, if I’m getting it right, a rule of 30, where the gap operating margin plus the revenue growth, where you treat the stock compass and expense adds up to at least 30. And then, on DoorDash, I’m going to gently coax them to recognize that free cash flow per share. Again, it treats the stock comp like it’s a benefit rather than an expense. 

David: They’re making some progress.

Mark: Oh, yeah.

David: All right.

Mark: Look, it’s better than, “We’re going to go to the stock market for financing every eight months and hope this work out.”

David: Fair. All right, I want to shift topics. Let’s talk about macro. People really want to know your view of the June rate decline. No, I’m just kidding. You think about macro very differently than the very short-term-oriented stuff. I’d love you to talk about your approach to thinking about macro.

Mark: Yeah, I’m like the worst at macro. You know, there are a lot of people who have opinions on interest rates and GDP and what’s going to happen in a recession and what stock will do well in a recession. And I listen very carefully to them. And then I try to see if what they say would happen really happened. And it often doesn’t happen. Like, the Federal Reserve has hundreds of PhD-level economists and they can’t predict what’s going to happen. So, my main thing is I go out to that four to eight-year timeframe, and I just look at which industries are definitely going to be bigger and more important. And within those, are there some companies that are going to be bigger and more important? So, I just try to align my portfolios with some of these unstoppable trends.

Fintech has some of these. You know, the shift from paper and coin and check money to digital money has been going on for decades. It’s going to go on, I think, the rest of our lives. That’s a great trend. On-premise computing to cloud computing, landed retail to ecommerce, appointment television through your cable bundle to on-demand streaming. Those are great tech trends that are just going to persist for a long time. One that’s outside of tech: commercial aerospace, like airplane miles flown. You know, only a billion and a half people in the world have even been on an airplane. Every year, 75 million people get on a jet for the first time and they all think the same thing, which is, “That was so much better than the bus. I want to save up money and do this again.” So, commercial aerospace is this incredible, long-term growth industry. And so I try to find long-term trends like that, then find the companies that have a good competitive advantage and are going to make a lot more money in the future than the market’s anticipating and glom onto those.

David: Okay. The most relevant [of those] to the fintech world is probably the digitization of money in ecommerce.  I’d love you to go a step deeper into your thought process on those. What do you think the opportunities are? Who are the winners?

Mark: Sure. Well, digitization of money is the ultimate mega-trend. It’s going to continue. It has so many winners: Visa and MasterCard, many of your companies are winners in that. But I will tell one of my most common type of investing mistake is actually something that happens a lot in fintech, which is investors like me get very interested in fast-growth — companies that have grown quickly and look like they’re going to grow quickly. But the fast growth is really only valuable if, at the end of it, the company has such a wide competitive advantage that it’s definitely going to have good margins and good profit levels and good returns on capital. And so,  that’s been Visa and MasterCard, right?

Organic growth for literally decades with 60% profit margins, just amazing stocks, and investments. It can be very straightforward for fintech companies to grow a lot. But then if they grow a lot, and you pay the price of a growing company, but at the end of it, it turns out to be much more competitive than you thought and profit margins are low, that’s a disastrous investment. It’s one, it’s sad to say, I’ve made in fintech. So, in fintech, I take the growth for granted and spend a lot of time thinking about, “Okay, is the moat really wide enough for the profits to be there?” But, you know, the other thing about the digitization of money, as convenient as it is, there’s also this bad scenario for human liberty, for central bank digital currencies, if they can surveil all your money and control all your money and censor all your money and cancel all your money as happens in certain dictatorships, and seemingly, a lot of democracies wanna do the same thing. So, I think that’s all potentially a great advertisement for Bitcoin, which is…actually, you know what, you guys might be a room where I can talk about Bitcoin without being ashamed about it.

David: I think you can embrace it. Let’s just go with it.

Mark: If I talk to a group of equity investors who read Warren Buffett’s annual letters and I go, “How many of you guys own Bitcoin or think it’s a good idea?” It’s crickets. One or two people. But let me just see here, how many people here own Bitcoin? Yeah, this is the friendliest Bitcoin environment I’ve ever been in that’s not a Bitcoin conference. I’m glad to be among my people. And, yeah, I just love Bitcoin. I think it is so interesting. And, you know, no offense to anybody here if you’re involved in the altcoins, but I don’t think any of the altcoins are really going to work long term, whether the architecture isn’t decentralized or maybe Gary Gensler at the SEC will get his way and successfully argue legally that the altcoin is an unregistered security and needs to be deleted from the exchanges. But I think Bitcoin’s  one of the coolest things that’s ever been created by people. And so, as an equity portfolio manager, there are not too many ways to be involved in Bitcoin in your portfolios, but I have one and I’m looking for others.

David: All right. Talk about ecommerce, the other big one for a fintech.

Mark: Well, I love it. You know how many people used to subscribe to Amazon Prime and then like halfway along said, “This is terrible, I’m out?” Nobody. And so, ecommerce keeps growing everywhere. There are a few categories that are pretty saturated. Books are pretty saturated. But even in the United States, a lot of the categories are still only 20% ecommerce. I try to look around the world and say, “Well, where are the highest penetrations?” And the ceilings are pretty high. Like, if you go to South Korea and look at Coupang, they’ve got this amazing thing. Most people live in apartment buildings, and South Korea isn’t that big. And so, you order by midnight and it’s on your doorstep by 7:00 a.m. and nobody steals it. And like, 80% of diaper sales in that country are ecommerce. So, it makes me feel like, “You know what, here in the U.S., with drones and robot delivery systems, maybe we can get to 80%.” I think there’s a long way to go.

David: Yeah. Okay, clock is ticking. We have to talk about AI.

Mark: I think it’s incredibly exciting. To me, the most interesting thing about it is that I can’t put any box around how big it’s going to be. You know, you can usually pencil out the size of an industry. When the iPhone came around, if you said, “Wow, this is the future and every adult’s going to have one,” you could have done some envelope math and said, “Okay, there are 8 billion people in the world and maybe 6 billion have enough money to buy something like this. And if they replace it every 5 years, the unit volumes are going to be 1.2 billion a year for the industry.” And that is what happened.

How do you do that for AI? I think about those Ray-Ban glasses that Meta’s making that have the Llama models in them and future AI models. Like, if these glasses are seeing everything I’m seeing and hearing everything I’m hearing, and especially if they connect up to what Chris is seeing and hearing and my other colleagues at work, how many coaches are there in there who could give me advice or make something easier or do something better than I can for a little bit of money? It just strikes me as this unboundedly large opportunity. So I love the TAM. And then what I’m mostly looking for is: where are the choke points right now? And there are a bunch. It’s semiconductors and semiconductor capital equipment. There are only a handful of companies that are good at that. There are only three big public clouds. There are only a handful of companies even trying to compete in the foundation model space. And probably only a handful have the wherewithal to really stay at it. And then all the sticky apps that are complex that can be made more efficient. So I’m looking for choke points and buying a lot of those.

David: That’s awesome. Last thing before we drop, what are your frameworks for what makes a great public company? Many in the room are public company CEOs or private company CEOs who have aspirations to be public company CEOs.

Mark: Well, here’s what I would say. Your business model and your business are kind of what they are. It’s not that easy to glom. It’s easy to say, “You know, I really wish I had something like Facebook in my business.” But it’s easier to wish that than to suddenly pivot your business to have those kind of economics. But I think one of the unheralded skills that CEOs can really study is capital allocation. You know, if you have a 20 PE stock and you grow your earnings 12% or 13% a year, after a decade, your earnings will add up to 90% of the market cap the day you started as CEO. So, that’s the biggest investment you’re going to make. What do I do with the 90% of the initial marketing cap that I generated in cash? And it’s something that you can study.

And so, I would recommend three people who I think are the best. Warren Buffett at Berkshire Hathaway, obviously, the G.O.A.T. He took over Berkshire Hathaway at $19 a share 59 years ago, and now it’s $641,000 a share. And it was all capital allocation, not R&D. But closer to home for people who aren’t going to buy public stocks and insurance companies like Buffet did, Hock Tan at Broadcom has just done an unbelievably good job when his company went public at like $4 billion in 2015. And now the stock has gone from $16 to $1,300 in 15 years. And the dividend now per share is 21 bucks, more than the IPO price, all capital allocation. And the last one would be Nick Howley at TransDigm, this aerospace components company. The same type of thing: $25 stock to $1,200 stock, paid a couple hundred dollars of dividends along the way. And so, I would take those people — Buffet, Howley, Hock Tan — read their annual reports, listen to their earnings calls, and just try to figure out why they were so much better than everybody else. That’s what I try to do and I think it’s a learnable thing.

David: That’s great, Mark. We crammed so much in there. Thank you, we really appreciate it.

Mark: All right.