Lead-Lag Live
Welcome to the Lead-Lag Live podcast, where we bring you live unscripted conversations with thought leaders in the world of finance, economics, and investing. Hosted through X Spaces by Michael A. Gayed, CFA, Publisher of The Lead-Lag Report (@leadlagreport), each episode dives deep into the minds of industry experts to discuss current market trends, investment strategies, and the global economic landscape.
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Lead-Lag Live
Rethinking Investment Strategy in an Era of Change with Seth Cogswell
The investment landscape is changing dramatically, and Seth Cogswell of Running Oak believes most investors aren't prepared. "People have gotten away with investing without thinking for the last decade," he observes, pointing to fundamental shifts that could upend conventional portfolio strategies.
At the heart of this change lies the potential reversal of globalization—a multi-decade trend that has kept corporate profit margins artificially inflated and supported unprecedented valuations in certain market segments. This shift creates both dangers and opportunities that demand a more thoughtful approach to portfolio construction.
The conversation reveals a critical blind spot in how most investors structure their portfolios. Between large-cap dominated passive funds (where often just eight companies represent 60% of holdings) and small/mid-cap allocations sits an overlooked space with compelling characteristics. Mid-caps have outperformed large caps by 60 basis points annually over 33 years while maintaining lower valuations—creating what Seth describes as "the most attractive asymmetry within the US equity market."
Seth makes a compelling case for disciplined investing focused on three core principles: maximizing earnings growth, avoiding companies that should go down (particularly those with unreasonable valuations), and mitigating drawdowns. This rules-based approach removes emotion from the investment process and has proven valuable through various market cycles.
The discussion also explores how companies that have taken on significant debt primarily to repurchase shares may face difficulties if we enter a recession or if interest rates remain elevated. "You go back to the end of bull markets, that's where the most crowded, most popular trades drop 50% in a few months," Seth warns, highlighting why investors should reassess concentration risks in their portfolios.
Whether you're concerned about potential market turbulence or simply looking to optimize your portfolio construction, this conversation offers valuable perspective on finding opportunities in overlooked market segments through disciplined, logical investment approaches that focus on sustainable growth and risk management.
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I feel that people have gotten away with investing without thinking to a large extent for the last decade. It's just a good time to think, to invest in strategies that make sense, that are disciplined, that are focused on risk, and whether those are small cap. There's small cap strategies that'll probably kill it. There are mid cap strategies that'll kill it. There are large cap companies that'll kill it, or strategies what won't kill it if we end up in a recession or a bear market are strategies or portfolios that have no discipline and that are invested in ways that don't make sense.
Speaker 2:My name is Michael Guy, a publisher of the Lead Lag Report. Joining me here is Mr Seth Cogswell, one of my clients this is a sponsor conversation, by the way, from his firm Running Oak. Seth, I've done the intro thing with you a few times, so let's get right into the meat of the matter, so to speak. What's going on with this volatility? I mean, is this something that you can say is based on Trump, based on valuation, based on we were overdue? I mean, how do you interpret what's going on here?
Speaker 1:Trump, based on valuation based on we were overdue. I mean, how do you interpret what's going on here? I think that you could certainly say it's based on the recent policy announcements. I don't believe it's due to valuation. Valuations tend to deflate over time. They've been inflated for so long. I don't, I don't. And there's also there's actually a story today that a record amount of flows came in from retail buyers. So clearly, complacency which is a word that it's worth focusing on a little bit later I think the complacency still exists in the market. That sort of false sense of confidence has certainly not disappeared, as evidenced by people piling in, you know, in the last week or two. So again, valuations probably don't matter, yet I do think that we are on track for them to matter significantly more. I think we're on that path. So I'd say, right now, definitely the announcement, right. I mean, everything changed dramatically on two Wednesdays ago, so it's, I'd say that's definitely the driver.
Speaker 2:You've seen a few of these in your career and you know obviously the family history. Maybe it's in the blood in terms of some of the things your father has seen as well. But is there anything about this particular sell-off and the way that it occurred that was surprising to you. A lot of people would argue it kind of went through a crash and now obviously a fairly big rebound, but were the characteristics of the decline?
Speaker 1:odd? No, I don't think so. I think that it's funny. I was kind of combing through different news sources today and there are so many people now coming out of the woodwork saying that we've put in a bottom, that technicals show there's a bottom, whatever, but things have changed. You know, whatever, but things have changed. We are, I don't know, 20, 30 years into this massive shift of globalization and that seems to be reversing and that's going to have monumental impacts if that does actually occur, and this isn't sort of a kind of a short term negotiating tactic. So no, I think that what's happened so far is nothing.
Speaker 1:I mean, it's exactly what you'd expect, right? I mean, we saw plenty of things coming out about hedge funds, deleveraging. You know, obviously. You know, we've been taught we've all been talking about passive investment how crowded the trade is in the MAG7 stocks, and so, of course, those struggled some. But I think this is potentially the first inning as people really digest what this is going to look like.
Speaker 1:I mean, the world may have changed dramatically, maybe it didn't, I don't know. It's really hard to predict. I was actually looking at the. I stumbled upon the. It was a trade policy uncertainty index and it's I don't know. It's like 8X anything that's ever happened in history so it takes a very long time for us. So it takes a very long time for us for people to digest massive changes, largely because we all have recency bias, right, like we're all sort of and that's what I was thinking about when I was the last five years or so of and assuming that things haven't fundamentally changed as of right now. Things have definitely fundamentally changed in the world. It's just a matter of does it stick or not?
Speaker 2:I want to keep going on with this sort of declobalization theme, right, because of course, the key is that it lasts beyond Trump, right? I mean, if that's going to be a long-term play, it's got to go beyond the current president. But when you think about de-globalization or at least when I think about it I think that that's going to hurt large caps the most. Right, because large caps have a lot of their revenue from international trade, right, whereas mid caps and small caps less so. Do you think that that deglobalization is what's needed to break that large cap dominance?
Speaker 1:No, no, I I don't know. The large cap dominance drives me nuts for a number of reasons, not just simply stock performance wise, but the single largest driver of our current standard of living in the world, let alone the US, is capitalism. I'm going to mess this up, but the prior 3,000 years or so maybe, the standard of living increased 50%, whereas over the last 200 years it's increased 30-fold. I'm kind of making those numbers up, but they're roughly correct and that was driven by capitalism. Capitalism at its heart is competition. Right, you have creative destruction. It's capital flowing into the best investments, best products, and flowing out of those that aren't good. That capitalism's sort of been not killed, but certainly competition has been significantly hindered for quite a while.
Speaker 1:Now, going into COVID, I think, like 50% of small caps were zombie companies. Those shouldn't exist but they were because they were on life support due to low rates. And tech is a big part of that, where antitrust has just sort of been. There's no pursuit of antitrust. Now, the moment any kind of competition creeps up, either the big tech companies gobble them up or they put them out of business or they do whatever right, and that's, I think, at the root. That's what worries me the most is because I think that we are hurting ourselves. You know, the performance thing is just markets go up, they go down. Yes, the market's gone straight up for basically 15 years, largely due to artificial reasons, and that has significantly favored Mag7. And that's going to come to an end at some point. You can only prop these things up for so long until it tips. So this could be that tipping point. It certainly looks like it probably is.
Speaker 1:Also, I'll say, as far as globalization goes, I remember I don't know, let's say 2010, being perplexed at how sticky high profit margins were, because historically, profit margins were the most mean reverting of kind of operational metrics or financial metrics, and it wasn't reverting and it kind of took me a while of just sort of pondering that and realizing that's due to globalization. All these barriers were either taken down or, at the very least, the world became bigger, whether it was information, transportation, and so all of a sudden a lot of these companies could source things much more cheaply China and that meant that profit margins stayed much higher than they ever had before and that might be reversing. So I think that's one knock-on fact that many I guess most people are probably thinking about it, but we have gotten used to historically high profit margins that weren't reverting, and if we are in a different regime or if things are changing and we're moving more toward deglobalization, then I think we can expect profit margins declining, earnings declining and therefore stock price is probably declining.
Speaker 2:But does that?
Speaker 1:imply that large caps could decline faster because they have been the biggest beneficiaries of that labor arbitrage, of that globalization. Maybe. I always come back, certainly I think, in terms of Apple. You know Apple gets a lot of its components overseas, so they've certainly benefited from that. Now, whether Google or Meta or you know, obviously Amazon has significantly. Amazon was probably the single greatest engine for kind of monetizing globalization, certainly for Americans, and so that'll hurt Amazon and so that'll hurt Amazon.
Speaker 1:Now, the truly tech software, where there aren't really goods, unless of course they are outsourcing human capital, right, I mean, if there's a lot of, there's obviously a lot of very intelligent, very educated programmers in India, right, you hear that all the time. And so if that has been a source of higher profitability, which I'm sure it has, and somehow now I don't know how tariffs would necessarily hurt that but if there's other impediments, then maybe that hurts software companies too. I think really the big thing with the Magnificent Seven, at least as far, there's a difference between the companies themselves and the stocks. They are obviously correlated, but basically the stock is a derivative of the company. The stocks have obviously benefited, as the companies did, but also the wave in popularity and passive, the low interest rates, so many things have driven magnificent seven valuations to the level where we've seen and you can certainly see that reversing. You know things work until they don't and I think that we have it certainly seems like we're hitting a tipping point. Of course, we've been predicting that, many of us have been predicting that for a long time. But if low rates are done which obviously it seems like it has been for a few years now if we actually experience a down move in the market that doesn't immediately reverse and go back up to new highs, if confidence in these companies in particular that they will just never go down I mean, that's just not realistic, but that's been the case basically for 15 years If that changes, then you can see valuations come back to reality, right? So I think even just Apple Apple is such a simple example and I love Apple. I've got some good friends that work at Apple. So, not hating on Apple, love the company. It's valuation and the behavior of stock drives me nuts, but I do love the company, uh. Its valuation and the behavior of stock drives me nuts, but I do love the company, uh.
Speaker 1:But you go back. I guess at this point, 2016, 2017 apple was trading at a p of, let's say, 14 or so. Right now it's it's around 30. At that time apple had a. I think 50% of its market cap might have been cash. I mean, they had this massive cash stockpile and they had earnings growth.
Speaker 1:Fast forward to today. We're sitting at 2x that PE, despite technically negative cash. Now Apple does generate a lot of cash, so I'm not worried about declaring bankruptcy. Now Apple does generate a lot of cash, so I'm not worried about declaring bankruptcy. But Apple went on a massive stock buyback binge where they used their cash to buy back stock and so they're no longer sitting on any cash. They actually have net debt, but also their growth has slowed, especially if we'll see what happens with tariffs. So Apple, despite having a negative cash versus a ton of cash and having lower growth versus good growth, is trading at 2x the multiple it traded for an extended period of time.
Speaker 1:That just seems nuts to me and the only way that you can explain that is the popularity of passives people investing without really thinking money just sort of indiscriminately flowing into it. At some point people will think again and I think Apple stock will be down 50% and that assumes that the company's performing just as it is today. Right, that's just based on valuations. That has nothing to do with profit margin, which, again, if tariffs stay in place, that will decline If we end up in a recession, which seems all but guaranteed, but then again I would not place that will decline If we end up in a recession, which seems all but guaranteed, but then again I would not say that I am the best at predicting recessions, which I guess I could be an economist, since they also fail miserably at predicting recessions. But we'll see. There are so many wonderful companies out there that nobody pays any attention to. Hopefully this is that time and we're seeing that change.
Speaker 2:As you were talking, I was looking at the chart of small caps relative to large caps, which peaked in 2012, roughly, and then the chart of mid caps relative to large caps, which also peaked kind of roughly around the same time period. That's when large cap dominance FANG and now MAG7 kind of really ended up dominating. Assuming it's just a cycle and a prolonged one, then we probably are due, finally, for the so-called broadening out right when other areas start to really outperform the large cap space, where other areas start to really outperform the large cap space. When I looked at your ETF run, runn relative to the S&P 400 mid-cap ETF, you've been outperforming it very strongly actually the last several months. I know you want to talk about run and we'll do a more formal presentation here in a second, but let's talk about just the last several weeks and months here for your mid-cap ETF. What's caused it to outperform us strongly?
Speaker 1:At the heart of what we do is risk or focus on risk. We are very disciplined around valuations. I'd say that's really the biggest differentiator is we sell companies when we conclude that they should go down, whereas studies have shown that many managers fail to do so. Passive never sells. So we are different in that manner. When a company eclipses or gets to a certain point where we feel strongly that it should go down, we're not going to own it. It doesn't pay to own something that should go down and then otherwise the portfolio is equally weighted. So we didn't have sort of that top-heavy concentrated risk that many both the S&P but also in order to keep up with the S&P over the last decade, many managers had to kind of stray from what their initial focus was, just to keep up, which you know. It's hard to fault them too much because otherwise they'd be out of business. We didn't do that. So I think that's really the big driver. That's really the big driver and, yeah, our performance up until I think a few days ago we were actually we track number of benchmarks. So the s&p equal weight, s&p 400, russell, mid cap, sp 500 and then a bunch of our peers and, as a few days ago we were the only one out of there were 14 or so that we're tracking, that we kind of compare ourselves to. We were the only one that was positive year to date. That's changed. Things are moving pretty quickly over any given day, but so it has performed especially well. However, that said, I would say that our focus on risk plays out over the long run.
Speaker 1:The last few months, particularly the last few weeks, I'd say, is a lot of noise. There's obviously some sense that. I think that some of it makes sense, some of it will have long-term impact, but really avoiding valuations Valuations are still crazy. It's still going to take six months to a year for those valuations to truly deflate. Another way that we look to protect the downside is investing away from companies that have too much debt financial leverage.
Speaker 1:Over the last decade, companies have taken on more debt for no reason other than to buy back stock, for no reason other than to buy back stock. That's fine in that, from a purely finance 101 standpoint, the cost of debt is cheaper than the cost of equity. So certainly in a perfect world, you could argue that you should have all debt and no equity. However, in the real world, there's risk, there's recessions. You basically have to go back to 2008 for a company or an individual to have truly experienced a lengthy recession and have actually experienced revenues declining and therefore experience how difficult it is to service debt when your revenues are declining. We haven't seen that and that's going to take time as well. So again, yeah, the last few months have been great, we've performed extremely well, but I think it's just the tip.
Speaker 2:So let's get a little more granular and talk about the entire big picture concept around efficient growth, which is at the core of RUNN. And, by the way, this strategy has been run outside the ETF wrapper. So all yours, my friend, I know you've got a couple of slides here- yeah, first of all, I'm glad you mentioned that.
Speaker 1:I think one of the main takeaways is there are ETFs are relatively new, certainly actively managed ETFs new, certainly actively managed ETFs. There's nothing new about what we do. We launched RUN about 20, 21 months ago, so the ETF itself is new, but we have effectively been managing the strategy, the philosophy, the process for almost four decades. So the only thing that's really new is just simply that our clients can now invest in a VN ETF. You can get it for $31 and something cents, as opposed to a $250,000 minimum, so we've got a few 11 year olds that are now clients. That's really what's changed, and that's what you know. Really differentiates us, I think, from the average ETF is it has such a long history. So I think I stumbled upon a quote by Charlie Munger the other day. That was consistently not stupid, and on one hand, I thought it was funny. But two, it actually describes us perfectly and what we do.
Speaker 1:Our investment philosophy is very simple and easy to understand Maximize earnings growth, because nothing drives price like earnings growth, companies making more money great. That's why we're all investing. The second, though, is, as I mentioned earlier, don't invest in or don't hold an asset that should go down. There's probably no more guaranteed way to destroy value or at the very least lag, than holding an asset that should go down. And then the last is just simply mitigating drawdowns however you can. So again, I mentioned avoiding the value companies, avoiding companies that have significant risk due to financial leverage, but by mitigating drawdowns it increases your cumulative return or your exponential growth over the long run. Nothing kills exponential growth like big drawdowns. So our strategy is very simple. And then the rules-based process that we employ ensures that we do exactly what we're going to say we're doing. It removes our emotions and our opinions from the process, so we again consistently deliver precisely what we say we are, which which makes it more reliable.
Speaker 1:Moving on, just as far as performance goes, one of my regrets at the moment, as I have yet to visit the Pacific Northwest. I've actually uh, I feel like I've traveled more than most, but so far I have not visited Washington, oregon. But looking at this chart, you can say our performance has. It's very much in the top left, which means that it's higher return, lower risk over the long run. Versus our closest benchmarks, our performance has certainly stood out, and over the last decade it's performed in the top two percentile or so. With regard to the S&P, we're one of few strategies that has kept up with the S&P 500 despite minimal, magnificent 7 exposure. So over the last decade we were able to provide clients with the diversification that they needed, which we're seeing today, but also provide attractive performance. That was it was hard to get both in the same strategy for the last decade.
Speaker 1:I think one of the most important topics right now that people are starting to discuss more. But it's so simple and I don't see it explained as simply as it can be, so I'm going to try it. Mid-cap stocks, first of all, have outperformed over the last 33 years. So as of the end of last year, prior 33 years, mid cap had outperformed large by 60 basis point annualized. So you add that up over the course of 33 years, that's a very large number. And that's despite large destroying everything over the last 15 years. So it's pretty remarkable.
Speaker 1:Take that one step further. Large cap stocks are, according to Ned Davis now this chart is from Bloomberg, but according to Davis, which uses a bigger number, so I like to quote it. According to Ned Davis, large cap is, or was prior to last week, 100% overvalued versus its long-term mean. Mid-cap, on the other hand, is actually undervalued. So it's one of those very rare moments where the area of the market or the asset class that has provided the highest return is the most undervalued. That's crazy. It makes no sense, especially when you consider return and valuation go hand in hand. If something has a very high return, usually its valuation is going to be higher. Meanwhile mid-cap's outperformed and its valuation is lower, which just goes to show how significant that asymmetry is. You know, when we invest, you always look at risk and return and ideally we're shooting to get a higher return than the risk that we're taking, and that's basically asymmetry. And this is the asymmetry within the US equity market.
Speaker 1:One thing that I've found over the last two years or so since launching run, is that many platforms, many of the largest organizations, build portfolios in the same manner. They start out with large cap growth, which makes sense. You kind of had to, because if you weren't in large cap growth, you were getting fired over the last 10 years. So you start out with large cap growth and then you complement it with SNID and then value. The issue is that very few of us and I would easily be guilty of the same. If I'm building portfolios in this manner, most people don't look under the hood. They don't look to see what's actually owned by the vehicle itself. So, using SCHG as an example, because that's the most commonly held large cap growth portfolio that I see, 60% of that is in eight companies. So you've got 60% in eight companies that are at the very, very top. This slide doesn't even do it justice. It would be a tiny little sliver at the very top, would have 60% of your investment, which leaves 40% for the entire rest of large cap growth. But then a lot of people use large cap growth for core as well. So you've got this massive hole that people don't realize they have, making that exacerbating that is.
Speaker 1:Many compliment large cap with Smith because it's sort of a one-stop shop. For the rest, as opposed to small and mid, many go to SMID. The issue with SMID is that, by definition, small and mid, it's going to be focused around that line between small and mid. You're going to get less and less exposure to the upper mid cap. So you end up getting this huge gap from the middle of mid cap all the way up to basically the top of large cap, where people own none of and most people are unaware of it. Understandably, because you invest in a large cap strategy, think all right, well, I'm getting large cap exposure. They've got 50 companies, but turns out 60% of it is invested in eight companies, and that just so happens to be exactly where our strategy fits. We've talked a lot about mid, but I think an important point is that the line between mid and large is a made up number. Nobody agrees on it. Morningstar has a totally different number than Evest.
Speaker 2:And none of that, by the way, is inflation adjusted on top of that, mid cap of today is not the same mid-cap from 20 years ago.
Speaker 1:Right, right, and some of them have certainly been static. Morningstar moves theirs a bit more, but still you've got this huge gap that, first of all, that delineation between mid-large doesn't really matter. The fact is, people own very little of the smaller or even maybe mid-sized large cap companies. Those are big companies. We're not talking. We're not saying most people don't own small cap. We're saying a lot of people don't own large cap. Right, they own a tiny bit at the very top of large cap. And again, this mid-large space is precisely where we fit. So it's not only what people lack, and so you've got this big hole. It's also again the spot that has outperformed over the last 33 years and is undervalued. It offers the best asymmetry again within the US equity market. Why that matters? I think a lot of people focus on the past as opposed to actually thinking about the decision they're making for the future. This is why that matters. If the market resumes its upward trajectory that we've had for the last 15 years, fine. Our strategy has performed roughly in line with the S&P over the prior decade. And if people realize, hey, I don't have any of this, this has outperformed great, that would just add a tailwind and it'd be great. However, if the market declines which right now seems like a better bet or if the market just struggles, it doesn't even have to decline.
Speaker 1:First of all, you can't sell what you don't own, so people don't own this. This is a huge gap. What people own a lot of, and what's arguably the most crowded trade in history, is MAG7 and passive portfolios in history is Mag7 and passive portfolios. Those even those have a minimal exposure to these companies, and so if people want to become risk averse, they want to raise cash. They sell. That is going to mean significant selling in Mag7, significant selling in passive not in this area. Selling in max seven significant selling and passive, not in this area.
Speaker 1:Um, and then going back to kind of the original part of our conversation as far as what's going on with trade and tariffs and, I think, most importantly, treasuries, which I know you have a lot of opinions on, but the, where that really matters is if yields go up which right now they're going up that is going to hurt small cap. I don't. Small cap, generally speaking, is quite a bit riskier. I don't think we're about to see the renaissance of small cap anytime soon. Small cap will probably do extremely well if we see a recession, 50% of those companies disappear and the ones that survive, that are at extremely low valuations skyrocket. That's where you will see small cap kill it.
Speaker 1:I think value sort of the same thing At least. The value factor is generally it's low price to book, it's more distressed companies. You do not want to be in the value factor going into a recession. You want to be in it coming out of a recession so you can time it great. But neither of those places do you want to be right now. I don't believe.
Speaker 1:Now, discipline and investing in companies that are attractive to the value that's a whole different topic. But again, if interest rates continue to rise, that's not going to be good for small. If interest rates decline, usually that happens for one reason and that's because we're in a recession. That is not going to benefit, again, small in value. It's also not going to benefit the most overvalued companies. So again, going back to earlier in the conversation, one of the reasons why we've performed well is a tiny bit of air has been taken out of the mega caps. But if you go back and we got to go back a lot Well, actually we don't have to go back that far. But, generally speaking, if you go back to the end of bull markets, that's where the most crowded, most popular trades drop 50% in a few months and, frankly, even though I consider 2022 a little bit of a baby bear market, amazon and Netflix had some hiccups in earnings and they were down 50% in a few months. That is what you can expect if you're investing in companies that should go down, if you're investing in companies where valuations don't make sense and a recession will lead to people coming to that conclusion. That's really it, I think.
Speaker 1:Well, I'll touch on this really quickly. We talked about this earlier the uncertainty index. The main thing is it's an uncertain time. I have no clue what the next couple months look like, at least as far as policy goes, but what I can say is that our strategy there's much about our strategy that is certain. The performance is not certain. I can't guarantee that but the investment philosophy we've invested in that for the last four decades and I am certain that it makes sense that it's consistently not stupid. It's maximize earnings, growth, avoid companies that should go down at stupid valuations and mitigate drawdowns in a number of different ways. The process, because it's rules-based, is also certain. We do the same thing over and over and over and have for four decades is also certain. We do the same thing over and over and over and have for four decades. So, at a time when things are, at least according to this chart, historically uncertain, it's probably a good time to invest in something that you can rely on.
Speaker 2:That word certainty is a good one to play with. Do you feel more certain that mid caps will be, or run in particular will be, up more, down less, or more certain that the bull market resumes higher? Right, Because if it's about up more, down less and relative outperformance, if other people listening to this are uncertain themselves, well, you can still play a run on the long side and maybe then do a spread trade short the S&P or short a passive benchmark.
Speaker 1:We're a very boring long-only manager, but that doesn't mean I don't enjoy discussing portfolio construction ideas. Where our strategy has stood out over the decades and where it's provided the most value is through downturns or difficult markets, and again, that's really just a result of avoiding overvalued companies, investing in companies that have more consistent earnings. The other thing is we try to maintain a portfolio that has meaningfully higher earnings growth than the S&P. That's difficult to do when a handful of companies are contributing the lion's share of earnings growth but their valuations are so crazy that we can't invest in them. That's basically been the last decade. If earnings growth declines across the board for the S&P, that makes it much easier for us to provide a larger gap.
Speaker 1:And also, I think, over the next decade, the debt situation is going to be an issue. Anytime you have people and behavior involved, things tend to move like a pendulum. We go from excited about one thing to feared, and so again over the last decade, companies have taken on more debt than any time in history and largely just to buy back stock. My inclination is that the opposite is going to occur because, frankly, that's how people work. We're probably going to see a lot of selling of stock in order to buy back debt, especially if the current trend in interest rates continues. Companies are either going to have to refinance at higher rates, which will drive earnings growth down that might be best case scenario or we'll see bankruptcies. Or, if we end up in a recession and there's a credit crunch, companies won't be able to refinance and they will have to go to market. They will have to sell stock and they and, as opposed to the you know what was going on over the last decade. You'll see dilution of shareholders and, and all these things are long term, uh, benefits that we provide. Right, I don't expect them to to occur day to day. I expect it to provide that benefit over the next one to five to ten years, um, you know, but again, historically, or over the last decade, even though the market was going up, we largely kept up with it. So run run can certainly provide value, whether the market's up or down. I would expect it to.
Speaker 1:Historically, it has, um, and but also it, this space, forget forgetting about our strategy. This space provides the most attractive asymmetry. Tomorrow goes up, this should provide more upside. This, if mark goes down, should provide less downside. And it just happens that we're one of the best performing in this space. So I was. I always like to speak in metaphors. I was trying to think of this today but you know I haven't gotten a. I haven't come up with a better one. But if your car blows a tire and you need a tire, get the best tire Right. I would say that clearly, the average client needs a tire. You know you've got this huge gap and it just so happens that we're the best performing or one of the best performing.
Speaker 2:When you happen to your point at the tailwind on the cap momentum, like you've had with large caps, can one think about this approach or run in general, in terms of being core as opposed to S&P core and then kind of tilt more towards mid efficient growth? It seems to me that I mean this would be my own personal preference that if you're bearish on large caps, you don't want it as part of your core allocation. You probably want something like run.
Speaker 1:Again, the line between mid and large Now there are, I guess, with the creation of ETFs, and when people invest now they often invest in baskets as opposed to actual companies. So if you buy large, I guess, maybe you get a swath of large companies For us, or I guess my opinion is I'm indifferent toward mid and large. What I'm not indifferent toward is companies that have been the recipients of a very significant amount of cashflow for basically no reason. Not that they aren't good companies, but the cashflow that flowed into them was unjustified, pushing valuations up To a large extent. Those are mega cap companies. Um, you know, it wasn't.
Speaker 1:I don't really think of as a large cap phenomenon. I think it has a little more into, uh, you know, company specific, certainly big tech. Uh, that's where I could see it struggling if the market struggles. There's there's no arguing that being in larger companies probably offers a margin of safety. And again, lower large cap companies people own none of or very little of.
Speaker 1:So, whether it's mid or the lower end or large, which is sort of where we sit, I think that's a great place to be. And again, that line between the two is a little fuzzy, but people have gotten away with investing without thinking to a large extent for the last decade. It's just a good time to think, to invest in strategies that make sense, that are disciplined, that are focused on risk, and whether those are small cap, there's small cap strategies that'll probably kill it. There are mid cap strategies that'll kill it. There are large cap companies that'll kill it or strategies. What won't kill it if we end up in a recession or a bear market are strategies or portfolios that have no discipline and that are invested in ways that don't make sense.
Speaker 2:Tell me about sector composition with this investment approach, because there's a debate right. Is it large versus mid or versus small, or is it tech versus everything else? And tech is obviously much more on the large side. So, from a sector perspective, where does run tend to tilt more towards?
Speaker 1:So our rules, our process drives everything, as does our philosophy. So the purpose of the rules are to ensure that we invest around our philosophy with discipline and continuously deliver to clients what they expect. Now, higher earnings growth is one of those rules. Another is investing away from companies with too much debt, and that means that we are not going to be invested in real estate or utilities probably ever I'm not going to say never, but it would be unexpected and that's because generally there's no growth there and there's a lot of leverage, so just immediately they're excluded. Energy companies because of the volatility and because it's historically the leverage, they're usually excluded as well, which I'd say is a good thing. Energy is an area where you want to invest with an expert in that area, which we are not. On the flip side, because growth is a priority, we're going to be invested in more innovative areas, so tech, healthcare. Usually those are two areas where you can find more growth, more innovation. Historically, those areas had less leverage. That's changed a little bit recently. But then we're also going to be overweight industrials.
Speaker 1:Industrials are sort of the poster child of our strategy, where you can find really good companies with strong balance sheets that are growing rapidly that no one cares about, which means that you're able to get them at an attractive valuation. And then our average hold time, uh, four to five years. So you know, and several years from now the market realizes the error in its ways. Those companies that we're invested in appreciate and we sell because they, uh, they violate our sell price. But right now we are more overweight industrials than usual. That is again a result of the rules, but I feel that it's largely due to valuations, due to ai kind of across the spectrum on tech recently becoming higher. You know, for for a long time it was mostly just the big tech and the max 7. There is still plenty of attractively valued tech companies, that's. That's less of the case recently.
Speaker 2:I will say, speaking about industrials, I would think that this entire push towards deglobalization and tariffs could actually be really good for industrials overall. I mean, is there an argument to be made, just any way that there's a tailwind around that sector?
Speaker 1:I don't know way that there's a tailwind around that sector. I don't know. So I would say one I don't lack for opinions. But two I would say that the purpose of our rules is to intentionally remove us from it. We do not feel that we're good at predicting the future. We leave that to others. We have created an investment philosophy that is common sense and simple and we adhere to that.
Speaker 1:You know, as far as industrials is just such like a complicated space, as all the others are right. So at this point in time I don't necessarily have an opinion on that. My opinion is more around. You know, certainly don't invest in overvalued companies because they should go down. Don't invest in companies with unsustainable amounts of debt because you have a very low margin of error that certainly anybody that imports a significant amount is going to struggle with tariffs as they are Now. Those could change tomorrow. So I haven't really one. I haven't really formulated any opinions as far as the impacts of the tariffs are going to have, because they're changing by the day. And two, that's also not what we do at Running Oak. What?
Speaker 2:do you think people get most wrong about investing in mid-caps in general? I mean, to me it's very simple. The thing most people get wrong is they think the market is the S&P. It's much more than that. That's my own personal opinion. But if you were to think through all the things that you hear from other advisors, individuals that you might talk to, what kind of drives you crazy in terms of how they think?
Speaker 1:There's a few things that drive me crazy. One it's shocking how many people just don't invest in MidCap at all. I think that's crazy. There's so many people that invest in large and then they invest in small and then they just sort of they're done. Mid-cap is a large space but again, even the lower large cap people own very little of. The other thing is that just doesn't make sense. But MidCap to repeat what I said earlier, midcap has outperformed large and it's massively outperformed small over the last 33 years. So if you're not investing in MidCap, actually the only area that's undervalued Small, according to them, is marginally overvalued or again it was coming into the last couple of weeks Large is significantly overvalued. So if you're only investing in large and small, you're not investing in the area that has outperformed and provided the most performance over the last 33 years. You're not investing in what area that has outperformed and provided the most performance over the last 33 years. You're not investing in what's most undervalued, which I would argue you probably want to buy something at a good price that should go up, as opposed to buy a lot of large cap at 2x its long-term valuation.
Speaker 1:The other thing about mid-cap is just simply that it makes sense. Small cap companies are generally newer, they're smaller, they're unproven. Generally. These are all generalizations so obviously there's exceptions product that has performed very well and that's taken the company, helped them graduate from small to mid Large. On the other hand, especially at the top end of large, you run into the rule of large numbers or diminishing marginal return, where it becomes very difficult to grow once you're a certain size Mid, on the other hand, still smaller companies. They might have one great product. All it takes is them coming out with one more great product and now it could double. And so there's mid offers more upside than large generally and is a lot again, generally less risky than small and people don't invest in it. There's so many reasons why mid-cap should be not just a part of a portfolio. It should probably be a big part of someone's portfolio, given the fact that it's outperformed over the long run and it's undervalued.
Speaker 2:Seth for those that want to learn more about RUN and the strategy and for those that want to just get in touch with you in general uh, where to report them to?
Speaker 1:my email is seth s-e-t-h at running oakcom. I'd welcome an email and and I'll would certainly enjoy speaking otherwise our website running oakcom or running oak etfscom both of those can be resources. We also post all of our letters to NASDAQ. So if you go to NASDAQ or search for NASDAQ and running our capital, you can see our most recent newsletters. Most of them are quite sarcastic. So if you're not a fan of humor although it's my humor, I find myself hilarious but if you don't like my humor, you might not like reading them. But regardless, there's there's a wealth of information out there and again, reach out at any time. I'd love to talk.
Speaker 2:I mean, I find you hilarious too.
Speaker 1:So thank you.
Speaker 2:Again. Folks, this is going to be an edited podcast on the lead lag. Live on all of your favorite platforms Sponsored conversation by running, learn more about Run R-U-N-N. And, for those that are streaming this live, you will hear me on a space I'm doing literally in eight minutes. Seth, you're the man. Appreciate it, you are as well. Thanks, michael, and, by the way, follow Seth on X. He's quite the influencer. He's gotten at what? 1400?
Speaker 1:LinkedIn, also thanks to Michael.
Speaker 2:Oh no, I'm just trying to help where I can. Cheers everybody, thank you.
