Sydnee Gatewood: Hello, everyone! Thank you for joining us on GuruFocus Value Insights podcast! You can subscribe through Spotify or your device's podcast app, so you never miss an episode.
We are pleased to have Wade Slome, the founder and president of Sidoxia Capital Management, join us today.
Founded in 2008, Wade's Newport Beach, California-based firm, whose name stems from the Greek word for optimism, focuses on the long term, seeing volatility and uncertainty as an opportunity to buy high-quality companies at a discount.
With an approach centered on the premise that share prices follow earnings, the firm invests in companies that achieve above-average earnings and are leaders in their respective markets. It conducts extensive research through a proprietary quantitative model called the Sidoxia Holy Grail Rankings System. The model provides objective and original research on potential investments based on economic data, demographic trends and company-specific fundamentals.
Besides his work at Sidoxia, Wade is an instructor at the University of California, Irvine, where he teaches the Advanced Stock Investment course. He is also the lead editor of the Investing Caffeine blog.
He has also been a speaker at the GuruFocus Value Conference in Omaha, Nebraska.
Thank you for joining us today, Wade!
Wade Slome: Oh, great to be here, Sydnee. I think you pretty much covered everything.
SG: Well, thank you. Your website is very thorough, so it helps a lot. Could you please tell us a bit more about the Sidoxia Holy Grail Rankings System? What are the primary components and metrics that are considered? And what are its advantages and disadvantages?
WS: Sure. Yeah. So we affectionately call it “sugar,” the Sidoxia Holy Grail Rankings System. And essentially we track about 6,000 securities. We rank them from 1 to 100 and there are about a dozen or so different factors.Those include things like valuation metrics, more specifically free cash flow yield and price-earnings. And then there's some other growth factors such as historical earnings and sales growth. Just to name a few others, we focus on contrarian sentiment indicators, so things like analyst ratings and short interest. So if analysts are really bullish, that negatively shows up in our rankings and the same with short interest. If we're bullish or lying on a stock, we're looking for companies with high short interest. And then last but not least, we look at some quality indicators. Some examples of those would be things like profit margins and balance balance sheet leverage ratios.
But primarily what we like to use the SHGR model for is an idea generation tool. So we believe that successful investing requires a healthy balance between art and science. And so the quantitative side, we consider that the science, but the behavioral art of experience, you can't really replicate that. And so, we like to use the quantitative aspect primarily as an investment idea tool.
SG: OK. Thank you. Thanks for that explanation. That sounds really interesting. And I love the nickname you have for it. That's really cute. I guess I don't know if you wanted me to call it “cute.”
WS: There are worse things to call it.
SG: How, if at all, has the current market environment impacted this model?
WS: Yeah, we're in interesting times for sure now, but I've been doing this for a while, for over 30 years, and I've seen quite a lot over those years. Banking crises, currency crises, terrorist attacks, recessions. And, you know, right now we're going through elevated inflation and interest rates, but as I mentioned earlier, we don't use the SHGR model as a black box to automatically generate buys and sells. So I I would say the model is not really directly impacted by the the current environment, but what we do when we go through the SHGR model on these 6,000 stocks that we rank it and I manually go through the top decile of the names and do a lot of due diligence.
So, you know, we scour and tear through all the financial statements and the SEC documents and, in many cases, we have dialogues with the company itself. We write up some research reports, we create detailed financial models with the income statement, balance sheet and cash flow statement. But yeah, in answer directly to your question, the model itself, we don't really see it being impacted by the current market.
SG: Oh, well, that's good. I'm glad. Shifting focus a little bit, in your recent blog post called, “Consumer Wallets Strong, Rate Hikes Long, What Could Go Wrong?” you discussed the trends in the housing market. While it likely won't see a correction like the one in 2008, what are the current risks for investors and consumers in this space? How can investors protect their portfolios while still having exposure to it?
WS: Yeah, I mean, it's certainly an interesting and dynamic housing market right now. I don't see a lot of short-term risks and, you know, we can kind of go through some of the different factors, but from a unit standpoint, there's no question that the Fed has been very aggressive, you know, with their 11 interest rate hikes over the last two years, or up to 5.5%, and, you know, unsurprisingly the spike in interest rates has had a significant negative impact on mortgage rates. So, you know, just a few years ago, the 30-year fixed rate mortgage got below 3%. And, you know, today we're bouncing up against 8%. So, understandably, we've seen housing existing home sales decline about 40%. We were, you know, a few years ago, we were at about 6.5 million units annually and now we're down to about 4 million units annually. But this understandably has had a big impact on affordability. So with interest rates, you know, at the 0% interest rates, we had a few years ago, homes were quite affordable. But now if you look at the affordability index, the average family is at a 12% deficit in income as far as their ability to afford a median price home.
So on the counterintuitive side, there's been absolutely no inventory. So we've seen the number of unit sales just plummet, but we have home prices at near all-time record highs. So, you know, people kind of scratch their head like, “How can that be?” And a big part of that is, a large percentage of homeowners that have a mortgage they've refinanced at, let's say, 3% or 3.5%. So why would that homeowner wanna sell their home and their 3% mortgage to get into an 8% mortgage? So it's really dried up the supply of homes and that's why home prices have stayed high.
So, you know, going back to your original question, what are the risks? In the short run, I don't really see the risk that the banks are. The banks' balance sheets are nowhere where they used to be during the Great Financial Crisis. You know, we still have 3.9% unemployment, which is near kind of generational lows. And GDP is still at least, in the most recent quarter, almost got up to 5%. So I think in the short run there isn't a lot of risk but, you know, just like anything in any other sector, it's cyclical. And we look for areas when there's excess leverage and so we'll be keeping an eye out for that in the housing market.
SG: All right. Thank you. You did touch on this a little bit, but in the same post, you discussed, obviously the Federal Reserve's effort to fight inflation by raising interest rates. Could you tell us what companies you think benefit from high interest rates?
WS: Sure. Yeah, I mean, I don't think I would be unique in saying that a large portion of the largest company in the so-called Magnificent Seven. So this is something that's been talked about quite a bit. So it's Apple (AAPL, Financial), Microsoft (MSFT, Financial), Alphabet's (GOOG, Financial) Google, Amazon (AMZN, Financial), Nvidia (NVDA, Financial), Tesla (TSLA, Financial) and Meta Platforms (META, Financial). So the seven largest companies in the S&P 500; these are massively cash flow generating companies that aren't reliant on the debt markets.So the companies that are getting hit the hardest are those companies that are relying on, whether it's the banks or the financial markets, and financing their debt. And so, you know, this is gonna impact more of the small and mid-cap companies and we've seen that in the valuations.
So small and mid-cap companies are at multi-decade lows as far as historical price-earnings valuations and, you know, the so-called Magnificent Seven, they're trading at a premium, which is because of their size, have lifted the S&P 500 valuations above historical averages. So they're not as impacted as some of the other areas.
SG: All right, thank you. You touched on this a little bit too with the Magnificent Seven, but kind of related to that, artificial intelligence has really gained momentum this year. What are your thoughts on its prospects and impact on the market? Are there any aspects of it that concern you?
WS: Yeah, there, this has obviously been a big area of discussion with, you know, Nvidia now, you know, around a trillion-dollar market cap, making the GPU chips for artificial intelligence applications like ChatGPT, but I would say we are definitely not in the camp of, you know, Elon Musk, who kind of has a doom and gloom view of what artificial intelligence can do to the world and our civilization and we're all gonna have to flee to live on Mars.
I just view, I think it's really overused. I think you could really replace the word artificial intelligence with software, and that software has been around forever. It's just that the, you know, if you look at Moore's Law and the power of semiconductors and how powerful semiconductors have become over, let's say, the last five decades. Software, it took a long time for software to catch up and be able to use and harness the power of those semiconductors. And now I think with applications like ChatGPT people are realizing like, “Wow, I can create these large language models and do all that.” So I view it as a huge net positive.
There's obviously certain industries that are gonna be negatively impacted by it, so you're either gonna have to use it and take advantage of it. But you know, some of the areas I talk about are just kind of intuitive.You know, there's the headline that ChatGPT passed the CPA exam. So there are, you know, areas like the legal profession where, you know, personally and anecdotally, I have friends that will draw up contracts through ChatGPT. So it may not fully replace an attorney or lawyer that writes up contracts, but what you might do is draft one on ChatGPT and then, you know, pay a fraction of the amount to have an attorney review it. So, net-net, I view the whole momentum in the area as a net positive and, you know, certainly some companies are better positioned than others.
SG: Right. Thank you. Yes, I definitely think that there are a lot of advantages but that won't totally replace, you know, humans, for lack of a better word. But, yeah, definitely, I think it could help make things more affordable, like with the lawyer example you gave. So that's definitely a good example of that. Thank you. 6hen this next question is from one of our readers and they are wanting to know, what are your three top stock picks? And why do you like them?
WS: Yeah. Well, you know, obviously I get that question a lot and I try to shy away from it. I treat my stocks as my children, so it's hard to have favorites. But, you know, with that said, I would name a few.
One of them would be along the same line that we're thinking about, which is uh the AI and it's, you know, it's not just Nvidia, which happens to be one of our positions, but more specifically ServiceNow (NOW, Financial). So some of your followers might be familiar with the company, but they do workflow automation, which essentially just means streamlining any business or enterprise by automating the process. So it could be in billing, in accounts receivable, it could be in travel, it could be in manufacturing. What they're using, they're actually directly partnered with Nvidia and actually Nvidia uses in their own business operations ServiceNow. So, yeah, we see this as a long-term trend and ServiceNow being a beneficiary of that.
I guess another name in technology would be Arista Networks (ANET, Financial). And essentially what they are is kind of the next-generation networking company. A lot of people are familiar with Cisco (CSCO, Financial), the technology company, and they've been around forever. But if you look at a lot of these internet infrastructure companies, these data centers cost hundreds of millions of dollars and, you know, upwards of billions of dollars to build it, whether it's, you know, Meta Platforms or Amazon or Google. Um they're, they're all using, you really need that networking infrastructure and that's what Arista Networks provides. So those would be a couple names that I would put out there.
But you know, we have about 40 names within my hedge fund and in our client portfolios. And we're constantly trying to optimize and, you know, allocate the funds to where we see the best risk-reward.
SG: All right. Thank you so much for sharing those. And this is kind of on a related note, this next question. In your most recent blog post entitled “No Market Roar Due to War,” you wrote, “While anxiety rises due to the war, stock prices get cheaper and opportunities increase.” If any, what international opportunities are you seeing currently? It doesn't have to be a specific company, but like sectors or areas.
WS: Sure. Sure. Yeah. Over the years, we've had exposure to different specific international stocks. So, for example, we used to own a German robotics company before it became acquired, believe it or not, by a Chinese company. We also owned an Israeli semiconductor company. But currently, we get exposure through some exchange-traded funds. So internationally exposed exchange-traded funds, for instance, the iShares India ETF (INDA, Financial) and that the ticker is INDA, but when we think about international, a lot of our exposure comes directly from the multinational companies that we own. So, you know, typically the the larger portion and, if I had to describe in rough terms what our exposure is to large, mid cap and small cap, as far as individual stocks, it is spread pretty broadly across that. But the large multinational companies, if you look at the S&P 500, roughly about 40% of profits comes from overseas or across international borders. So whether you're talking about, you know, Microsoft Google, Amazon, you know, Walmart (WMT, Financial) is more domestically based, but, you know, they still have international [presence]. So pretty much all these large companies, some of which we own and some that we don't own, have a lot of international exposure.
SG: Thank you. That is a good point that, you know, a lot of companies are global and that's not something that, you know, even if it's a U.S. company, that people think about, you know, that it has exposure to these other areas of the world. So thanks for that perspective. On another related note to what we've been discussing, are there any sectors you're avoiding and why?
WS: Yeah, generally speaking, we tend to stay away from some of the more mature, slow growing or cyclical, capital-intensive industries. We would categorize sectors such as banking and airlines in that same vein. But even within those kinds of more mature cyclical sectors, occasionally we'll find a special situation or turnaround. So, you know, one example would be Tesla, which we made an investment in 2018. We definitely view the auto industry as slow growing and mature. But within these sectors, you know, we are looking for those companies that are disruptive or they have a new innovation that they're introducing. And that's exactly what Tesla has done in the auto industry and they've taken significant market share even though there's still a very small portion of the industry. And you know, it's really those legacy incumbent auto manufacturers that get hit the most. So those are kind of the sectors that we try to avoid, but we never want to set a blanket, you know, statement that we won't invest in those particular sectors.
SG: I feel like that's a good philosophy to have because you never know what hidden gems there might be and you might find. So thanks for sharing! Kind of shifting focus a little bit here. I know we don't have a crystal ball or, you know, I don't know exactly what's gonna happen in the future, but what is your outlook for the market for the rest of this year and heading into 2024?
WS: Yeah, so we,you mentioned Omaha earlier, so like to steal, you know, the view of Warren Buffett (Trades, Portfolio), who, if you ever hear him talk about the market, he'll never predict the direction of the market. And we feel the same and you said in the intro that we just try to be opportunistic and, you know, focus on those areas given the opportunities that volatility provide us and not really try to predict which area.
There's also a great quote that I talk about from Mark Twain. He says, “If you don't read the newspaper, you are uninformed. If you do read the newspaper, you are misinformed.” So that's how a lot of people, a lot of these e economists and strategists, they're pegging their views based on the headlines and we just think it's a fool's errand to try to time the market and the focus should be really investing on investing in the long run. It's not the timing. It's not timing the market that's important, it's the time in the market. So,you know, I just finished by saying, you know what we're really focused on is what Albert Einstein called the Eighth Wonder of the World, which is compounding. And you can't really do that unless you're investing for the long run.
SG: Great. Thank you. A lot of people I've talked to, they also don't like, you know, predicting what's gonna happen. But, you know, I just like to find out from everybody, you know, if they actually have a projection for a certain area or something because you never know. But I do know that that's a difficult thing to predict because obviously nobody knows what's gonna happen. What is the most important lesson you have learned during your career?
WS: Hmm. Well, um I would probably say the most important thing I've learned is the importance of investing in yourself. So, education I think is the most important investment you can make and it doesn't have to be a formal education. So, even today, I periodically get obsessed with certain subjects and I'll invest a lot of time to research that topic. But yeah, over the long run, if you're investing in learning, you're investing in yourself. I think that will make you a better investor in the long run.
SG: Yeah, I agree with that. Definitely, you can definitely learn from all sorts of things and that makes you stronger in other areas of your life. So this is kind of tied to the previous question. What is your key advice for individual investors?
WS: Oh, OK. That's kind of a loaded question. Yeah, I say I'd have a lot of advice and I write a lot about these things in my blog, which you mentioned, “Investing Caffeine.” But yeah, there's rarely a silver bullet to solve. You know, any difficult challenge and then investing is definitely a difficult challenge.
So some of the things that I would advise individual investors is turn off the TV. You're just gonna be led in the wrong direction, kind of that Mark Twain quote.
Don't let emotions guide your investing. We never make good decisions, whether it's, you know, euphoric or desperation.
We already talked about don't waste your time trying to time the market. People are usually chasing things towards the peak and then capitulating at the bottom and then, you know, just basic common sense, which is focused on low fees, paying high fees over the long run.
I talk about like being a leaky faucet. You may not notice it over a day, over a week, but over many weeks or months, it really adds up and that, for individual investors, when you're saving it, I think it's important to focus on that.
We're not big believers in technical analysis, so I would say stay away from that. Pay attention to valuations. It's no different than if you were buying a house or you're buying a car. It's important to know the price. It takes a little bit to understand how to value stocks. A lot of people just kind of buy based on trend lines and bells and whistles that software providers provide. But you wouldn't do that if you were buying a house or a car; you really want to understand what value you're getting.
And then there's just basics like diversification. I think it really is important to diversify.
And then lastly, I would say, learn from your mistakes. The best investors are wrong 40% of the time. And, you know, you're kind of a hero if you can be right 60% of the time. But of that, 40% or more that you're wrong if you can learn from your mistakes, that'll help out tremendously. And, you know, so as I started from the beginning and investing isn't easy. And as Warren Buffett (Trades, Portfolio) said, investing is like dieting, it's very easy to understand but difficult to execute.
SG: All right. Thank you. I think that's some great advice and definitely worth following and contemplating and everything. So shifting away from investing a little bit to wrap up our time together, whether they are investing related or not, could you recommend three books and three movies for our listeners to check out and please also share why you like them?
WS: Oh, OK. Well, this might take a little while, but I'm going to humor you and go through this.
So from the book standpoint, I would say, just looking at me personally, I used to hate history. You go back to high school and college, it is just a bunch of boring facts. But over the years, I've really become fascinated with it. And so one of the books that I would recommend is from a guy called Bill Bryson. He wrote about the history of everything. So I went on a 5,000-mile RV trip with my family, and so it's a great overview of modern history and it kind of gives you a perspective of, you know, different civilizations and how technology advanced. And I just thought it was a really good book.
And then number two. Recently I got obsessed with this story about Antarctic exploration. And the book is called “Endurance” by Alfred Lansing. And the book reviews probably one of the greatest 20th Century explorers, Sir Ernest Shackleton, and it chronicles this unbelievable story of how Shackleton and his 27 other crew members got stuck in ice on their way to the South Pole. And, needless to say, they didn't make it to the South Pole, but they miraculously, after two years of grueling conditions, Shackleton paddled 800 miles across 60-foot waves. He climbed mountains, you know, with boots with screws from the boat that they paddled in and he got back to safety. And then four months later, he saved, went back another 1,000 miles to save the other 25 crew members. So anyway, it's a great, fascinating book.
Number three is a kind of in the news these days, “Killers of the Flower Moon." This is another nonfiction story written by David Grann. Some of your followers might have seen the trailer of the movie that was just released by Martin Scorsese, features Robert De Niro and Leonardo DiCaprio. But the book is really fascinating. It reviews a series of systematic murders of the wealthy Osage indians, who, they accidentally inherited this land with very valuable oil reserves. And so they suddenly, this tribe became just amazingly wealthy and then they became murder targets and the book kind of fills that in. So we'll see how well the movie does in kind of depicting that.
All right, so switching over to movies, I guess I'll try to cover a few different genres. I wouldn't call myself a science-fiction nerd per se, but definitely one of my favorite science-fiction movies was “The Thing.” And so there's been several remakes of this movie, but the version that you need to watch is John Carpenter's version, starring Kurt Russell and I forget when it was made. It's probably made in the ‘90s is probably when it's made, but it's just as good today as it was, you know, 20, 30 years ago.
And then I mentioned this obsession I have; I'm also obsessed with documentaries. So one of my favorite, more recent documentaries is “Free Solo,” which won the Academy Award for best documentary. It documents Alex Honnold. He climbs the 7,500-foot vertical face of El Capitan in Yosemite and he climbs it without a rope like Spider-Man. So if you do watch the movie, your hands are sweating the whole time, but it's, it's a really great movie.
And then the final movie and final genre, I guess I'll hit on the comedy front. You definitely can't go wrong with a good viewing of “Old school,” starring Will Ferrell, hich is about a group of adults returning to college to start their own fraternity. So that was a mouthful. I covered a lot of territory there, but, I think that's really fertile ground for your followers and listeners.
SG: Thank you. That sounds like some great books and movies to check out. And I have seen a few of those and I am interested in watching “Killers of the Flower Moon.” I'm excited to see that. I will read the book too because I like to compare. But thank you again for joining us today, Wade. It was a pleasure to have you.
WS: Oh, my pleasure. Thanks Sydnee.
