Eric Markowitz, thank you so much for joining me on Outlier Academy. I am beyond thrilled to have you here today. Yeah. Thank you, Daniel, I appreciate it. So we're going to spend all of today talking about Worm capital.
And typically wouldn't do this, I try to spare people kind of any preamble, but I'm going to share a little bit in this episode, because it's somewhat unique. So I've been following Worm for the better part of two years and reading your guys' quarterly letters. And the thing I was just constantly impressed by is, I spend the majority of my time in private markets doing venture capital, so funding earlier stage companies. At Worm are clearly focused on the public markets, but there's so much around your philosophy, the way you view the world, the way you view innovation that just really speaks to me, that I felt just always drawn to what you were writing.
And so, long story short, I was able to meet you, meet some of the team at Worm and be able to have you on. Eric, you're the Director of Research at Worm. Just to start, because we've got to cover a lot of ground to try to get people up to speed on Worm, I want to talk a little bit about and kind of introduce people to Worm. And I thought an interesting way to do that is on the website you guys have wormcapital.com. You have just a really simple kind of beginning of the homepage, it just says, "Technology plus innovation plus disruption."
Can you talk about that and just maybe flesh out a quick sketch for people of who Worm is, what you guys focus on kind of basic details? Sure, of course. Yeah, we're an investment firm I think with a fairly unique perspective on the market, which is we're living through a pretty unique time, the 2020s being a period of industrial dislocation and change and disruption, I think a true definition of disruption, that's a word that gets kind of tossed around quite a bit these days. But we're looking for sectors of the market that from like a 30,000 foot perspective are changing pretty quickly and going from, let's say technology A to technology B. And we're looking for ultimately sort of the winners of these cycles. And as opposed to maybe let's say 30, 40 years ago where there were maybe six, seven, eight, nine companies that could exist on their own, we think that there's like going to be an increasing amount of consolidation at the top.
So a winner take all or winner take most dynamic. And you're starting to see this play out. I think like a simple example that you see in the market is even something like Google, which is 20, 25 years ago, there were a bunch of search engines that popped up but ultimately the one with the best value proposition one, and there were increasing returns of scale there. So you see these power laws dynamics unfold over time, but the big get bigger. And as an investor, that creates a really unique, and I think challenging framework to actually allocate capital, which is you can't necessarily trust the idea of diversification as much.
And the idea of diversification itself does not necessarily defray risk. So we tend to be hyper concentrated on companies that we think are not only going to survive into the future, but really thrive and take market share and potentially become sort of the winner take most of their chosen industry. So technology innovation, disruption. I mean, these are very broad sort of categories of just terms, but we're looking for, I suppose you can say companies that are building the infrastructure today that will meet the value proposition for customers both today and tomorrow. And I think that there are a lot of companies out there that, even in the last couple of years, you've seen, especially across like this back market, companies that have come to market with a lot of sort of promises of a great future.
And I think some of them may very well be successful, but another one of our core tenants as a firm is really just to invest in companies that "have wheels on the ground" that have customers today that have revenue that have sort of an installed base. And fundamentally, I mean, I probably should have started with this, but I think we're just optimist. I think that we believe that technology and sort of the culture that we live in will actually improve over time, that there will be more efficiencies across the market, that our lives will improve, that there can be some really great opportunities for wealth creation. At the same time, there's a lot of risks in this market and fears because some of the companies that were maybe very successful in the '80s, '90s and early 2000s, they may no longer survive in this future. So that's the high level.
And from there, I think we just kind of like to sort of stay a little bit off the radar. We're named Worm Capital for a reason, we're not looking for glory, we're just looking to stay humble and just learn from this market and do the best for our partners who ultimately our clients are the best thing we have as a firm. Their sort of patience and their conviction in us enables us to really express our investment themes in the portfolio and give us the time that we need to see some of themes to play out. And just to add a couple other details.
So you guys are a hedge fund. You have a long only, and then a long and short strategy. Are you guys just focused on the US? Or you guys kind of look globally? Yeah, we're pretty agnostic. That's right, we have a long only strategy that was launched in 2012. Our long short strategy was launched actually five years ago this month. So we're generally agnostic when it comes to geography, vertical market cap range.
I mean, I think we're generally attracted to larger cap companies simply as just a consequence of our investment philosophy. But we take a look at everything. I mean, we're looking at companies that are still private, pre-IPO, just from a pure research perspective.
We kind of want to know what's going on in all parts of the spectrum of the market. Yeah. One of the things you talked about that I want to turn really quickly is, so this will come up again and again in our conversation is this focus around customer value proposition.
But I think you made one great point, which is really important, which is it's not the promise of a future value proposition, it's the ability to deliver that today and in the future. And so I think that wheels on the ground is really important because obviously, as you mentioned, a lot of the SPACs are kind of just younger companies that are to be super frank much earlier in their kind of gestation process have really big ambitions that are able to tell this beautiful story of what they want to build in the future. But if you try to a look at where they actually are today on delivering, they're incredibly early. Why is the wheels on the ground so important? Yeah.
I mean, everything that we do is through the lens of risk. And we get this question a lot around how do you define risk? Because our strategy, because we're so concentrated, it often appears to people as if well, was this "risky" because you have concentrated portfolio and there that increases the amount of month to month volatility even quarter to quarter over year over year. But we view ourselves much like in the sort of Warren Buffet philosophy of we're business owners. And the reason why customer value proposition is especially important in this market, sort of I think in this like paradigm is the internet has been this incredible force for transparency and ultimately, customers know who has the best product or in service. And that's true across business to business and certainly consumer businesses.
And so where you find yourself getting into risky situations is if you own companies that are not meeting customer value proposition. And from there, growth sort of diminishes, growth rates slow. So we're much more sort of focused on companies that have the ability to just create very happy and loyal customers so that during times of inevitable market chaos, the inevitable next recession, the inevitable force measure that we've now encountered, it seems like we encounter these tail risk events every six months now. And so I think that in an environment that is so prone to big swings and market volatility and chaos, owning businesses that have exceptional customer value proposition built into their sort of management DNA is self risk management.
And that gives us the ability to allocate capital with a lot of confidence, with a high degree of conviction, and then B it, we don't trade very much. We let companies that we own and grow. And it also gives us really a significant margin of safety when we own companies with a great value proposition. And this also has sort of secondary and tertiary effects of when companies have incredible value propositions and tactically that just means everything from like high NPS scores, low churn rates, I mean, you can quantify it in lots of ways.
But ultimately there's sort of a fulfilling prophecy of attracting new talent, retaining management to work on these problems and having loyal customers because we see it in our business is just so integral to kind of long term success. And if you're trying to build a firm and a track record and investment strategy that can survive 10, 15, 30, 50 years, these are sort of the precepts or the ideas that we find most important for a long term mindset. Inevitably, there's going to be bumps along the way, but having just that conviction in the value proposition and knowing that our companies are focused on that relentlessly and not financial engineering to meet their quarterly goals, that's a big benefit for us as long term holders. Yeah.
The way you talk about that customer value proposition reminds me of two concepts. One is obviously this idea of a flywheel that once you have these things in motion, you start to be the beneficiary of rather than feeling like you're pushing a boulder uphill, you now are starting to suck talent from your competition, you're starting to have much easier access to capital. You're just, I think being perceived in a much better way across the board. But another concept that always makes me think about and kind of one insight I've had that is always rolling around my head is that the best businesses are great examples of being in a super position where a lot of people will try to look at a business and think about the one vector that the business is great.
But I think take a business like Apple is a masterful example. They not only are world class at everything from manufacturing chips to all of the electronic circuitry, to the software to the hardware. They're also fantastic at marketing, they run some of the best retail else stores in the world. And so I think when you look at any successful business, yes, they might start off being kind of skewed and incredibly talented in one area, but the best businesses that are durable end up finding this superposition, which I've just always thought that was kind of a fascinating insight. I totally agree. And I think that one thing that I often think about is that the business of investing and allocating capital is often different than actually allocating capital on behalf of yourself and your own portfolio.
And so I think one thing that I take a lot of pride in is that myself and my other partners, we're totally committed alongside our investors. We totally eat our own dog food. It's very much how we invest personally and we're invested alongside of our investors. And the reason I bring that up is I think that there is an urge, especially on the public equity side when you're an investment manager, to put ideas into your portfolio, that would be on paper or in a pitch, very attractive to attract new investors. And these are often your second or third best ideas. And so businesses like Apple, I think that once you've reached a certain level of scale, it's great to own Apple, maybe it's your largest position.
But if you're trying to attract new capital, I think that there is a bit of a scramble to come up with the next great idea, right? And we get asked this all the time. We have a successful position, they want to know, "Well, what's the next thing?" Right? And I think that there is some recency bias to this business where you have to resist that urge just to put new ideas in for the sake of putting new ideas in and attracting new investors and doing that. I mean, I've learned everything I know about this business through our founder Arne Alsin, I just want to make sure I give him due credit because everything I'm saying kind of is inspired by him and my own interpretation of it. And I think one thing that he's really taught me just both intellectually but also tactically, is you really have to avoid that sort of, i guess people call it FOMO, but just this idea of introducing new businesses into your portfolio because they sound attractive and that you know that maybe it sounds great for your clients. But ultimately what we're just trying to do is protect our partners capital protect our own capital, and there aren't that many great businesses for all.
I think we referenced it in a recent letter, but I mean the attribution of you just look at like the S&P 500, I mean only a handful of companies really drive returns. I mean, a great number of companies over the last 30, 40 years generate negative returns. And so there's a handful of winners and it really I think is challenging as a investment manager to just be this selective. But I think it's a imperative for the benefit of our clients to not get distracted by things that come along that sound good on paper, especially when periods like 2020, 2021, where everything's going up, there's a lot of excitement in the market, there's euphoria. Those are moments, because eventually, the tide comes back and then you see who's swimming naked and you just don't want to be caught in that position, you just want to own sort of the best in class.
And you know, the only thing I'll add there is I have a friend Christopher Sy who put this idea to me recently and he said, "You just only want to own the best. That's the thing, just own the best. It's not that complicated."
And I think about that a lot when I look at our portfolio and I think about investing in general is, again, there just aren't that many best ideas, especially in public equities. And you just have to internalize that because my day is spent, I'm looking at hundreds, if not thousands of companies every year and on paper, it's like we've owned the same companies. So it takes a certain mindset which I give Arne a lot of credit for avoiding a lot of the landmines in this market. I think it's incredibly difficult to stay disciplined. And I think you guys are a masterful example of that, especially when you're, I think focused on innovation, there is this tendency or this sense that, "Oh man, there's so many companies that could be potentially in and you could put in a basket of interesting innovative companies."
And yet to be able to stay true to a very small number of say 10 to 15 concentrated bets is really, really, really difficult. I want to talk about that in a second. So I want to start getting into when we were talking before, one of the ideas that you brought up is Worm as an algorithm, which I love because I think it's a wonderful way to explore especially for an investor and investment manager, the way that they see the world. And so I wanted to kind of walk through some of what we've discussed as Worm as an algorithm and some of the things I think might fit in there.
But I wanted you just start with this 30,000 foot world view of being drawn to complexity and just believing that we're in a period of massive disruption, innovation and in what that means in terms of positioning. So can you just try your best, I guess, to lay out the 30,000 worldview that drives the way you guys see the world and the way you approach investing. Yeah. Again, I credit Arne with this idea, but I think that where we can get an advantage is actively seeking out parts of the market that are considered complex and we very much consider ourselves value investors and all of us have read like all the Buffett letters. And I think that there's this idea, I forget if it's Buffett or Munger, but there's the too hard pile or stay within your circle of competence.
And while we agree with 99% of what Buffett and Munger preach, we disagree with that. I think that what we personally are drawn to are this idea that there is no such thing really as complexity that if you just break everything down to its fundamental elements and rearrange it like a big puzzle, you can figure it out. I mean, there is no such thing as expertise, you just spend time pulling something apart until you've done it so many times that you understand it. And so that's how we approach sort of all the sectors that we study, which is this idea that it's all a big puzzle and that we have no opinions on it, we have no sort of perspective, let's say we can pick an industry like energy disruption. So we could start with a very high level idea that we think that there's probably a better way to create energy than extracting fossil fuels from the ground. But we don't really have an opinion about exactly how it's going to unfold.
All we know is that if we spend enough time researching on the ground level, what is the best value proposition for customers? We'll have a better sense of actually what companies are best likely to succeed in the future. And so I think that there's a desire in this business to put things into a spreadsheet and quantitatively come up with an answer of, "Well, this is the DCF and this is the number that it's showing me so therefore it's a good stock pick." I think we approach things much more qualitatively than quantitatively. We pride ourselves on just pure fundamental research.
All of my time is spent just reading basically and talking to people and just trying to figure out the story of what business is what they're doing, how it works, the inputs and the outputs. And I think what really ultimately happens is if you spend enough time researching something and you become really sort of this "expert" in something, you're able to synthesize information much more clearly and it enables you to understand what you're reading in the media or in the news, if it's true or not true. And I think increasingly that's becoming the source of advantage for investors. This idea of being able to synthesize information, separate signal from noise. And there's no shortcut to it, I mean, it's just like, you just got to spend the time and the hours if you've chosen to say, "Hey, I believe," I think it all starts with this sort of key insight though, which is, "Hey, I think that this industry is going to change," just based on some insights about the changing cost nature of renewables if we're talking about energy. But also not getting overwhelmed and saying, "Well, that's outside my circle of competence going to stick to something I know."
Because ultimately that's a losing battle in my opinion. I think that this is an incredibly competitive game. I mean, there's some of the brightest people in the world vying for the best returns and ultimately you kind of have to pick your spots and we just pride ourselves on if we're going to pick a spot, we're just going to know it better than anyone else. And that's the only way that we have found success.
And there's plenty of... Another thing that Arne would say is like, "There's plenty of routes up the mountaintop," and I think that there's our way is just one way of doing it. There's plenty of other investment managers whose work I respect the hell out of. That's their chosen path, I mean, we have our own, we focus on it. And again, we just sort of, we keep our heads down and just try to pull the puzzle apart and put it back together and take an engineering approach to this business.
And it's not glamorous, this isn't billions, this is like very much like, it's like if you were to come into my office there's books and whiteboards and Arne's the same way. [crosstalk]. Yeah. A lot of quiet, there's no glory in this business. It's just purely, it's just a competition and we're just trying to put the best strategy forward each day. Yeah.
I love a lot of the sentiments that you just shared. The idea that there isn't a too hard pile, the idea that there is no secret that it's basically just putting in an enormous amount of work to be able to kind of sort it out and take it apart. It also seems that is I've found because I'm also in that camp, that there are very few people that are in that camp. I've always thought to myself of why is that? And part, I think the two things I kind of have toggled between that still, or to me is one, I think there are a lot of people that just have a very, I don't know, they just believe that if you take a fixed narrow approach, for sure that's going to work out better than being kind of broad and open and exploratory and curious. Where do you fall in that spectrum in how do you think about why it is a true advantage to not be overly narrowly focused? I think that there's so much benefit of just being openly curious about the world and wanting to just be open and optimistic and form no opinions. I think that the worst thing that an investor can do is just form an opinion and just say, "Put pencils down, it's done, maybe we'll talk about this later."
I started my career as a journalist and I think that there's some maybe relationship with investing a little bit like art or writing in that the work is never really done. I mean, if you talk to any novelist or any artist, you could talk about their best work that sold for lots of money, they're always is going to tell you the same thing, which is, "I wish I did it a little bit differently. I wish I had more time to work on it."
And I think that's very true of in investing generally, which is it's just never done. I mean, there's always more work to be done because there's just always more to read, there's more books to consume. One thing that I like to do in downtime is just read up on history. I think that there's definitely some truth to the idea that history may not repeat but it does rhyme.
And so I think even just spending time, kind of going through old market cycles is a huge benefit as an investor, just understanding sort of the cadence of these things. And then I also tend to think that investing is a game of strategy or a sport that is so multidisciplinary. It doesn't require just one or two skill sets to be good at, you have to be good at a lot of things, which is why it's so hard and I think why it's so fun is, a huge element is just the behavioral element of just understanding human psychology, how crowds behave, how culture evolves, understanding even probabilities.
I love playing poker and I wouldn't say I'm a good player. I would say, I'm a player that's logged a lot of hours at the table. And so it's a game where ultimately it's similar to investing in that you're making decisions in a game where there's limited data available to you so you have to make decisions without having all the information. But you can get information through lots of different ways. I mean, you can think like what the opponents might be thinking, what they're saying.
You could look at sort of the historical element of it and say, "Well, this is how these players played these hands in the past, how I've played it." So I just think of investing as like this big game and there are ways to get really good at games. I mean, there's a reason that there's some of the best chess players in the world.
It's not random it's because they've studied the strategy and they have a very sort of, I guess, diverse perspective on what it takes to win. And so I think just staying super open minded and curious is really integral to even trying to be successful. And I wouldn't say that I'm successful at it at all.
I think that's just I've recognized that the real talent comes from people who are just endlessly cute areas and voracious and just want to improve as opposed to kind of sitting back and saying, "Well, we've done it, come to us, we've got all the answers." I think that's the real danger sign to me. Yeah. The last thing I'll say on that is one way I've tried to think about it and visualize it for myself is almost if you take a piece of paper and draw a grid of a bunch of dots. I think if broadly curious, one thing that I've noticed is everything's related. I will learn, I will dive into a new area that might be something like carbon capture and be like, "This has no relevance to anything else so that I know and that I'll find a way that it connects and I'll find a way to use that information later on."
And so I think one way that I've about it is just, you're never wasting time, you're just basically forming bizarre connections across the entire grid as opposed to just being like, "I was just going to focus on this corner and kind of connect all these dots together." I think it ends up looking much more like a tapestry. One of the things I wanted to talk about is time horizons and thinking in decades. And you had an amazing piece recently you shared on Twitter that was from Nightcrawler, the newsletter that you put out for Worm, which is fantastic. We'll link to it in the show notes, we'll talk about it again at the end, but I highly encourage everyone listening to subscribe.
But you had this wonderful little short piece around thinking in decades and time horizons and just how unusual that is and then how much of investing is just time arbitrage. And if you have a different time horizon than other players in the game, you're inherently in many ways playing a different game. Talk about that and how you think about time horizons and the advantage of thinking in decades and just thinking longer term. Yeah. Again, I mean, everyone plays their own game and I think that there still is a lot of advantage that remains in this market for investors who are willing to take a longer term perspective.
And I think if you end up kind of in these circles that can almost sound like a bit of a trite idea, but you certainly see it in reality, which is like we have a five year track record on our long short 10 year and I still think that's baby years. I think that's like, "Okay, we're just getting started, like come on." And I have some structural advantages, right? Like my age, I'm in my thirties.
So what is my best advantage as an investor? That's probably the fact that I hopefully have at least 40 years left to really just compound the capital. I think that there are some mental frameworks that are helpful role in thinking about decades, especially when things are kind of nutty and stocks are going like this. I think that sometimes just writing down sort of like where you think, super back of the envelope math, where you think businesses could be just some basic assumptions. I think that there's an urge to maybe over complicate valuation techniques through complicated DCFs and any sort of really super quantitative framework overlay on a business. In a lot of ways, I mean, sometimes it just takes on a whiteboard just kind of jot out where you think the business could be two, five, 10 years from now. There's a bit of a sweet spot I think of, I don't know what the market's going to do over the next 12 months, and frankly, I have no idea what it's going to do 10 years from now, but I think the two to five year range is actually, you can rock it, I mean, you can kind of figure it out if you spend enough time, and really, you're just kind of putting forward some probabilities.
But two to five years, I think is you can come up with a mental model that can be pretty accurate at least from a probability perspective. And then in terms of like, actually really big picture, okay, thinking in decades. Recently I had a daughter and we've talked about this a little bit, I mean, she's seven months old. Obviously I love her to death already and I just think like when she's like 18 or 20, and we're starting to save for college, just thinking about what are the decisions that are really going to pay off for that? And I think that when you start thinking really something in your own life where you start actually planning, not just some theoretical framework, it's like a tactical thing, what is going to be the decision that has the highest payoff for her 20 years down the road? I think it mentally adjusts your brain, it's a forcing function for you to get out of your own head and start thinking about someone else. Or if you were to think about like a charitable foundation that you'd be starting, how can I build something today that really is going to have those sort of it's a safe, long term bet.
How do you do that? It's really challenging the practical day to day to kind of overcome the current environment that we live in, which is, I think we fetishize news. I think we fetishize what's happening today. And if you read that piece that you referenced before, I think one thing that the author does is throughout human history, one thing is for sure, humans are really the only animal that can really actually conceptually think 10, 15, 20 years out and we rarely take advantage of that. Yeah, we're pretty terrible at it overall. Yeah.
We're pretty terrible. And it's maybe not totally our fault because for hundreds if not thousands of years, we were just trying to survive the day. Like waring tribes would be encircling us and so we just had to kind of survive the winter. But if we just allow ourselves to go outside of the day to day news and just clock out of Twitter, clock out of CNN for a few days and just spend some time reading history, I think that you put yourself in a mental mindset to make better decisions. And so I'm certainly not good at it. I'm super plugged into the 24/7 cycle.
But I actively try to disengage as much as possible to force myself to kind of make bigger picture ideas and just thinking about, "Hey, this is a likely scenario for the next five, 10, 15 years. You don't have certainty on any of these things. I mean, there is no such thing as certainty in any of it, but at least I think the one thing that you can kind of tactically do is just read more history books, turn off the news, not get so suckered into whatever latest drama. I mean, there's for sure horrible things happening, but there's also great things happening, those just don't get nearly as much attention. And so that's the perspective that we strive to which is thinking in decades really knowing that, "Yeah, the two to five years, that's where we can actually kind of allocate a portfolio and build a portfolio, but really kind of the overlay is can this thing survive over the next few decades?" And I think it's a calming effect to think about it like that. So you're not trying to time anything.
We have no advantage on any sort of macroeconomic moves. We just know that if we position ourselves well, and this is something that, again, I'm going to reference Arne a few times, cause I feel like he's definitely my mentor. And he just says this all the time, which is, "Just getting position, we're just getting in position." And I think about that constantly.
Are we in position today? Are we in position for next week? Are we in position for next year, next decade and so on. Yeah. I love that.
Get in position. Just to add a couple other things. What was kind of bubbling up for me as you were sharing all of that is just also this idea that the best businesses that I've ever studied also think, I don't know if you could quite say in decades, but they think over very long time horizon.
So as a great example, I remember reading this piece a couple years ago around Costco and it was around earlier in the company's history what it was like when they were opening up their 10th warehouse and their 11th warehouse. And I think most people would look at Costco today and think, "Oh, it's got to be the easiest thing. They basically go, they are investing to build this out. It probably takes what 12, 18 months to get one of these built and opened up and get the teams hired.
And then they probably open their doors and they're off to the races." And one of the quotes, which I loved because it's like, this is the true nature of businesses, it was from the CEO at Costco is basically saying, "Every warehouse they open is a valley of tears because as soon as you open it's nothing but pain and misery and nothing's working and you have to debug everything and it takes quite a while to be able to do it." And so I think that's even just you think about Costco opening up a warehouse that is effectively a three to five year investment that they're making of deploying this capital, dealing with the sunk cost of that, dealing with earning basically nothing and then trying to get it up to a profitable store. And you can kind of take that example and replicate it. But anyways, it's just always felt very true to me that the best business operators also think over very long time horizons.
One of the things I wanted to talk about as well too, is conviction and concentration. And I want to start by just asking, do you guys try to, I think the number you guys try to stay around is 10 positions. Am I right there? And how do you think about that? Generally. But even less is certainly possible. So it can be I guess as concentrated as you guys wanted to be.
Even five position, yeah. There's no constraints. So just historically I remember when I first started with R&E, so several years ago, like six, seven years ago, I believe I'd have to check my notes, but I think the long only strategy had three positions.
Super, super, super concentrated. Super concentrated but also we just firmly believe there are that many great businesses. And so when you have a lot of conviction in something and also when certain businesses are at turning points and potentially offer multiple lines of revenue. So I mean, a good example that one of those businesses was Amazon. We owned it and it was a big percentage of the portfolio in large part because we just considered it like two businesses in one, it was the e-commerce business and it was also the cloud business.
Two totally separate businesses running side by side, under the same organization. And so even if the concentration, I think it was maybe 40% of our long only fund, maybe 50%, but we just need it well, it's half and half. And so it's really like we own two businesses there. So these are all sort of variable. But the other thing I guess on just on concentration is we tend to believe that there are certain businesses that are hitting potentially exponential or near exponential growth curves.
This just goes back to getting into position. We just feel for the benefit of ourselves, the benefit of our partners, and also just there aren't that many businesses that can grow 50% a year, which is kind of what we're looking at. For us, we just need to own these because the upside is so high and the level of conviction that we've developed over a period of years just lets us totally relax. And we're not trying to get fancy with timing or anything, something that we often get sort of asked about is like, "Well, when do you sell, do you take profits along the way?" It's a case by case basis obviously, but if we think the stocks at 10 and we think the stock could be at a thousand in a few years from now, and it goes up to 50, we're probably not going to take too many profits because that just would not be the best way to capture upside for our partners. I lean on our team and just something that just, I think that this is it's a humbling business and I think one of the most humbling aspects is selling something too soon. You talk to any investor who does this professionally for many years, ask them what their biggest mistake is it's pretty rarely like, "Oh, I bought that thing and."
It's mostly like, "Oh, I owned apple in 1998 and I sold it for 2X." Or I should have bought 10 times the amount. I bought one share and I should have bought 10. Right, I should have bought four. I knew, yeah.
And so that's something that it's tough to quantify exactly. And so you can come up with lots of portfolio constraints and rules. And then there's ways to do it and I think within certain parameters, but we tend to let our winners run. If the business is operating really well and it's hitting sort of the internal benchmarks that we think it should be hitting, just the share prices, go down for no reason like sometimes they go up too high for no reason.
Over the significant amount of time, several years, the market is very efficient at normalizing these rates and just delivering sort of the right value. But in the short term, as you know, I mean like the prices are sort of meaningless and this is your, you suggested time arbitrage, that's the whole idea is that the market itself contains very little information about the businesses. It's the businesses that have information about the businesses. If it's the Kentucky Derby, the focus should be on the horses, not on what's happening at the ticket booth.
We want to know which horses are going to win. One of the questions I want to ask around concentration is much more tactical, which is one of the things I know just from talking with you is you're both doing two things at once all the time. And one of those is you're looking at a massive number of ideas and you're digging in obviously into current positions, but also things that you don't own today that you may or may not own in the future. So you're doing this kind of very broad research. At the same time, you're maintaining a very concentrated portfolio. And I guess as I think about that from the outside looking in, I think, "Wow, that's a lot of tension," because I'm sure there are moments all the time where you get really excited about something that's not in the portfolio.
And, I don't know, then you have to get into the kind of debate and timing and discussion of when does it enter their portfolio? And so I just want to ask at a really high level, how do you think about that? How do you approach that? This kind of tension between you're always looking for things, but then you always want to be incredibly disciplined about when you add that if you ever add it. [crosstalk]. Yeah. I'm not like a huge sports guy, but I know that a lot of people who listen to this might be, and they might be big NFL fans and like Bill Belichick, I'm sure that he sees lots of talent at every level, right? I'm sure he's at maybe, I don't know if he has grandkids, maybe he's at his grandkids. And he sees, wow, that Peewee player, he's great, keep an eye on that kid. He's not going to swap out Brady for that kid, right? So I think that's a little bit, not to equate myself to Belichick or any pro athlete whatsoever, but just sort of theoretically or philosophically, I think that's kind of how we approach it, which is a bit of like a major leagues and minor leagues and maybe like a college and then a high school, elementary school, were kind of like keeping tabs on all of these businesses at various stages.
And some of them, they may be great businesses, like that high school basketball player, he might be the best high school basketball player in all the state. Could he play on the Knicks? Probably not. And so that's I suppose the framework for just sort of the watchlists and the literal just lists of businesses that we follow internally, which is yeah, there's hundreds of them.
Some of them are really early stage, they don't have any revenue but they've got a great team and the technology's really interesting. Some of them might be more mature but they're more like maybe your major league player who's close to retirement, had a great few years... This is like most of the stuff on the Dow, maybe the S&P.
A little bit. Yeah, it's kind of like the Dow, right, yeah. I mean, there's some great legacy businesses there but do you want to own them for the next 30 years? I'd say that it's a bit of a taste question and it's also just sort of probabilities and time duration.
But tactically for sure, tension is probably the right word. I get excited about businesses all the time. If I could have a portfolio with thousands of businesses, theoretically, that would be super fun, but it's not the right way to invest in my opinion, in our opinion. I mean, because you are introducing way more risk into the portfolio by diversifying into lots of unknowns.
And so I think that there's opportunities to watch businesses grow. Just to take a step back, I think that this period of time will maybe 10, 15, 20 years from now will look almost just like, "Oh, we were at like really the first couple innings of whatever is going to happen next." I mean, if you just think about the history of technology, we've only had the internet itself for like really 25 years, right? Within our lifetimes you and I grew up with going to the library.
I was like... AOL CD, all of it. Yeah, totally. And so what does the next 25 years bring? And so I don't think that I'm saying that businesses today are by any means like quaint, but I certainly think that if you're looking for sort of like investing opportunity set, not that it's going to be easy, but just that this time period is going to present itself with some incredible opportunities. And that's like crypto, space, healthcare, just any sort of financial technology, certainly energy, eCommerce, media. There are so many areas that I think are kind of like up for grabs at this point.
And what's super nuts to me is just the ability to grow exponentially fast in a totally connected world where overnight, I mean, you've seen this in music particularly of just overnight sensations and just virality. You can now really have this in sort of a business landscape as well, which is suddenly con you know, consumer preferences shift and consumers want something. It's looking at sort of recently the rise of TikTok and how quickly that platform has just exploded in popularity. And so that will, I think just that idea that things happen very quickly and can grow very, very fast at scale. I think we're still just kind of playing around with like, what that could become over the next 10, 15, 20 years. And for me, that's very exciting.
It's challenging. It's frustrating, but I think it's just so cool that we get to live through this time, period. Yeah. No, it feels like if there's a game clock if anything it's just accelerating.
We're all being forced to play at a faster and a faster tempo, which is maddening. I love, by the way, that's maybe the best analogy I've ever heard of how to think about a concentrated portfolio. It's like you're Belichick deciding who joins the team and who doesn't join the team and appreciating talent broadly, but also having to make really tough decisions about kind of who's ready for prime time and who deserves a place on the roster. So that was amazing. I want to ask one more question and then we'll, we'll move on to Worm Theory, which everyone's going to enjoy it so you guys have a lot of amazing thoughts there. But the last one is I've heard you talk quite a few times around constructing a survivable portfolio.
And I think you have some really novel thoughts there. Talk about that because I think one, that's also commentary on concentration and why concentration's important, but it's also I think speaks to the moment in time we're in this belief that we're in early, early innings in an incredibly disruptive and innovative period. Yeah. It just goes back to for us, we can stomach quote risk, we can't stomach business risk. And so we can accept the fact that like real estate,if you want to sell your house in a bad market, you might not get a good quote.
But if you own Malibu real estate, you're going to be fine long term, provide the ocean doesn't overtake us all. But I think if you own prime real estate, then you can kind of anticipate that, yes, you're going to get some volatility and sort of just what buyers are willing to offer you for your asset. But if you own a quality, then you'll make it out and you'll do fine the long term. I think that just again, everyone's playing different games, there's plenty of very smart people who manage successfully to go in and out of positions. And I think that's great.
I think that there's a lot of sort of concurrent games happening in a stock market where there's millions of participants. And one of the benefits that we get of being investors in public equities is we get daily liquidity, right? If we want to sell our business, we can do it whenever we want. You can't say that for real estate. So I think that there is the price of that, or the premium I think, is accepting that the quote's bouncing around quite a bit.
When we think about constructing a portfolio, it just comes down to customers lined up around the block and how that really plays out is we may get a bad quote, but if the business is growing, and I think we're just more concerned. Maybe we consider ourselves and I think we really are true value investors, but we're less concerned with maybe sort of quarterly earnings or sort of backwards looking metrics around earnings per share, or PE ratios. We're much more focused on top line growth, gross profit growth, and sort of margin expansion questions. And so when we're looking sort of like risk reward, our questions are more about, "Well, how big is this market that they're going after? What are the consumers saying about this and what are employees saying? How quickly are they growing?" We're not actually all that concerned with how much profit can they extract from each transaction.
We look at it like, "Well, how can we scale this thing to get a billion customers?" Not how can we squeeze out an extra 50 BPS of profit from each customer that's one particular framework to invest. And I think for us, we found that over the long term, that can be incredibly rewarding because you get these businesses like Amazon, that I think their DNA is about satisfying the customer, it's not necessarily about trying to get the most profit per transaction. You're just trying to get more sellers, more buyers onto the platform, build out the infrastructure of logistics, which if you were to live through the build out of AWS or the build out of Amazon's logistics network, it was like the poster child of the over price, just crazy valuation, trade it like 500 times earnings. But you had to look a little bit longer term to really see what they were attempting to do.
And I think that these companies that on the surface look very expensive, and there's quite a few that look really expensive, but if you kind of expand your time horizon and you think sort of like the levers that some of these companies that we're attracted to can pull, the profitability, the P&L really shows up later more in the out years. And in the out years, they can become enormous, but they first have to build the infrastructure. And so that's kind of what we're primarily concerned with. And I have no idea if I answered your question exactly, but I think...
No, you did a great job. I think just even that insight around not focusing on backwards looking metrics and focusing on forward looking metrics like top line growth, incremental margins and unit economics is really interesting. It reminds me of one feeling that I constantly have of investors in public markets maybe misjudging companies just goes back to that example you were saying around in the build out of AWS in the early days.
What sounds very similar to me is like, you've literally just dug a hole, planted a tree and now you're just staring at the soil pissed that the tree's not up and there's not like a hundred leaves that have already sprout because you can't stomach that it takes time and you have to invest and I think growing a business is constantly this act of you're deploying an enormous amount of resources today that you think is going to be valuable three, five years from now, but it takes a long time horizon there. And I just think there are many people that misjudge that dynamic and yeah, view success as are you extracting the most value today as if that's going to be the thing that determines whether the business is bigger five years from now or not, which it isn't. Yeah.
And I mean, I think that culturally, there's an element of, we've just grown so accustomed to instant gratification. I mean, if you have any question, you just plot your phone, Google. If you need a ride, you just get Uber and it's there on demand. And so I think culturally, our brains are getting rewired to expect things to happen immediately.
And that's very harmful when it comes to actually investing. And I read something recently, I'm sure, I can't fact check it on the fly, but I read it in I'll think of the name of the book in a second. But basically the idea was Fidelity did a full, a study of their best performing accounts and like individual accounts. And of course the finding was like the people who had the absolute best returns were people who completely forgot that they owned the brokerage account and just like bought some stocks and did nothing. And I'm sure maybe the other end of that bell curve is true of like the worst performing account. So I think that's fair to mention.
But I do think that yes, it's like instant gratification. You're right, we're planting these trees, we're just waiting, but there's so much action bias in our culture of wanting to do, especially when things are going bad by the way, like in the market's super chaotic, I think there's like this urge to do something, when in reality, the best thing to do is nothing. I mean, don't trade, just go for a walk. And so it's fighting that sort of cultural urge that we've kind of developed over the last 20 years of like, yeah, things, things should happen really quickly, getting really impatient and finding a way to rewire our brains at least when we're investing to kind of think longer term.
And that's super challenging, I'm not saying I'm good at that. I just know that's the aspirational goal of any investor who at least considers themselves long term is just fighting that itch to do something, to check the news, to check the quote. I think that's like increasingly becoming a super important skillset in this market Yeah, just to sit with something or sit with discomfort and not feel like you need to do something, which is really funny because like as an analogy, it's almost like you're in your house and there's a storm that you're in and the storm's really bad. We never do anything. We just sit in our house and wait for the storm to pass. You're not out there trying to do a bunch of things to figure it out and I don't know, adjust what you're doing, but yes, I guess in areas where you can take action, it does feel like, "Oh man, what should I be doing?" And I feel that comes up a lot just in conversations with other investors feels like anytime you're in a moment of turbulence, there's just a lot of existential soul searching.
What should I do now? What's going on? What's the answer. I don't know, it's kind of fascinating. Yeah, the idea of just slowing down has so much value. And it's also not to say that doing nothing is always the correct answer. I think it's like a time just to reflect and sort of recheck all your of thesis and kind of double check your notes because sometimes I think that it's fair to say, well, we've had this experience before with when we have, we call it like sort of reduced visibility like March, 2020, it was a good example of like, we had no idea what was going to happen. So we did risk off in that environment.
We did sell of our positions because it was like moment in time where not only could we not see three years ahead of us, we couldn't see two feet in front of us, a day in front of us. So yeah, selectively choosing when to act it's incredibly challenging but just learning to sort of approach the problem with, "Hey, maybe an action is not the best outcome here but at least let's kind of go through again, check the thesis. Can we do anything, ask the questions and just remain levelheaded about it at all the times." So yeah, I mean, and that's true when things are going great too, right? There's periods when the market's soaring and I think probably we're not really involved in crypto, but I see this on crypto just moves very quickly. And is it the right answer to immediately like risk off and take profits? I don't know. But I think that if you have a long term perspective, at least you ask the right questions and that's like the most important thing.
Yeah. One way I've always thought about that is like what is your default? And it feels like the right default there is to do nothing. And you can ask those questions and talk about it but I think by having it be a default of inactivity, you kind of force yourself to say, "Okay, to take an action then it has to get to a certain level. I have to have comprehended this or made a decision or thought through this enough that I'm willing to basically override that kind of default that says I shouldn't do anything." Okay, I want to talk just for a second quickly about Worm Theory and then I want talk about Tesla as a little bit of a case study of a position you guys have held for a very long time. But with Worm Theory, I'm going to try my best to try to describe this.
You were very grateful to share this wonderful video that you guys have internally that's kind of the theory of eternal life in business. Basically how businesses can thrive and succeed over time. And in it, you talk about Worm Theory and obviously one of North Stars, maybe the biggest one is just this idea that everything at the end of the day goes back to customer value proposition and the ability to deliver that. In one of the visuals you guys talked about there, which I loved is just super, super, super simple, but it's wonderful is if you think about a customer on one side, you think about a business on the other.
It's basically customers are giving dollars to a business. And what they're getting in return is an experience or a value proposition. It's basically a promise and a product or some sort of experience that they've had. And that that's really, if you just focus on customer value proposition, you can do pretty well at determining who's going to win over different time horizons. But you guys also have this notion that the game of business is one transaction at a time. And I thought one of the most interesting parts was that, and you touched on it a little bit earlier I think it would be great to talk about a little bit more, is that there's really kind of two worlds at all times in investing, there's the stock market, which is very separate and distinct and then there are businesses.
And a lot of people focus and look to the stock market to give them data on a business and whether that business is doing well and whether they should add more or not. But with the business itself, that's where all the truth is, that's where all the data is. So I may have totally butchered that, anything to add to that? Push back on? We try to communicate this internally and then also just sort of like, I've always tried to express this idea that the stock market is kind of where investors go to get liquidity, right, or buy assets. But the stock market beyond that actually has very little tangible value for investors who are looking for information about businesses. That's happening out in the world. And you can get some of it through reading 10-Ks and 10-Qs and reading all the transcripts and getting all the alternative data that exists that some of these providers want to sell to you, but ultimately, one of the best ways to really understand sort of the industrial dynamics is just to talk to customers and to listen to customers and listen to what they're saying.
And so I think that's kind of where, like I sort of alluded to before, we spent a lot of our time just thinking about businesses through the perspective of customers, which is what are they saying? What are they doing? They're exchanging their time, their hard earned capital for some sort of product or service and what we're really attracted to. And I think where our eyes really turn is like, if there's suddenly something where people are waiting lined up around the block, if there's some something, either literally or philosophically or sort of metaphorically, because that is going to be interesting to us. Not necessarily a company that's cutting 8,000 jobs and is going to boost their EPS next quarter, we're looking for a company that is typically led by the founders who have a very strong perspective on what the product or service should be.
And I think also we're just sort of looking for companies that are willing to experiment and try new things and take bets, right? Take calculated risks to see we have X amount of cash in the bank and we can for a relatively small amount of our
2022-04-11