On this week's Stansberry Investor Hour, Dan and Corey are joined by frequent guest Vitaliy Katsenelson. He's the CEO and chief investment officer at portfolio-management company Investment Management Associates, or IMA. In his fourth appearance on the Investor Hour podcast, Vitaliy returns to discuss his approach to being a constraint investor and discovering undervalued companies for all his clients.
But first, Dan and Corey talk about the recent Federal Reserve meeting, the implications of the central bank's words and actions, and where they think the Fed will go from here. Dan runs through his grading system for evaluating the statements that come from Fed Chairman Jerome Powell. The system assesses the degree of hawkishness, dovishness, or neutrality. While the Fed projects two more rate hikes by year-end, Corey expresses concern about persistent inflation. He highlights Powell's reluctance to cut rates in the near future and says...
The higher-for-longer era will be most likely higher and most likely longer than a lot of people think.
Dan and Corey both believe that in the near term, the market is telling us that we're coming to the end of the rate-hike cycle but "people just aren't buying it" yet. Since the stock market has been doing well these past couple of weeks, Dan thinks the Fed probably won't start cutting rates anytime soon. And because the unemployment rate is still near a record low, Dan and Corey argue that it's the only logical place to look when making a case for rate cuts.
Vitaliy then joins the conversation to share the origin of his vacation-style conference, VALUEx Vail... the screening process for attendees... and what Dan should expect while attending this week in Vail, Colorado. He explains that he wanted to create an annual tradition among die-hard investors...
It's not just about the presentations but what happens in between. [And] when you come back to the conference, you continue the conversation you started a year ago.
Afterward, they discuss the importance of constraints in life and how that relates to investing. Dan says...
People are really creative when they are backed into a corner and they have a lot of constraints on them. Investing is about choosing the right constraints and adhering to them rather religiously.
The conversation then shifts to pipeline master limited partnerships ("MLPs"). Vitaliy notes that most pipelines operate as monopolies. They benefit from long-term contracts structured to adjust prices in response to inflation while remaining stable during deflationary periods. However, Vitaliy emphasizes the need for disciplined capital allocation within these MLPs. The ones that practice this generate significant cash flows, exceed their dividend requirements, and yield fruitful returns on investments.
Vitaliy is the CEO and Chief Investment Officer at IMA Individual Portfolio Management. Vitaliy is a long time Value investor with over 20 years of investment experience.
Dan Ferris: Hello and welcome to the Stansberry Investor Hour. I'm Dan Ferris. I'm the editor of Extreme Value and The Ferris Report, both published by Stansberry Research.
Corey McLaughlin: And I'm Corey McLaughlin, editor of the Stansberry Digest. Today, we'll talk with Vitaliy Katsenelson, CEO of Investment Management Associates and author of Soul in the Game.
Dan Ferris: Today, of course, we will have to talk about the recent Fed meeting and the implications of their words and actions, and where Corey and I think all this will go in the future.
Corey McLaughlin: Remember, if you want to ask us a question or tell us what's on your mind, e-mail us at [email protected].
Dan Ferris: That and more right now on the Stansberry Investor Hour.
Maybe one day we'll figure out how to talk about something else, but for now, I feel like we can't avoid the topic of the Fed, especially when they've just had a meeting and have just taken some action, or refrained from taking action in this case.
I went through and I ran my little system of judging every sentence in the statement, which had 17 sentences this time, and giving each one a grade of hawkish, dovish, or neutral. I came away with nine hawkish statements, two dovish, and five neutral. I'm really trying not to read hawkish into the neutrals. So I'm trying to be really conservative there because I'm hawkish myself, so I have to be careful with that. But yeah, the first four sentences I found were hawkish. So the tone is clear for me.
Corey McLaughlin: Good. I'm glad the tone is clear for you because it seems like – or other people seem to just want to ignore it or not believe Jerome Powell, which I don't people blame for not wanting to believe the Fed chair, but to me, yeah, last week was more – I've seen it referred to as a hawkish pause. I would agree with that characterization, just based on saying that we're pausing now to see what happens with the economy, but in their projections the Fed voters saying that they'll add two more rate hikes by the end of the year, most likely, and then see what happens again after that.
Inflation is still a problem and not going down as fast as they anticipated at this point. Plus, unemployment is still near a record low. So the story hasn't really changed all that much again. What people want to do with that information is a whole other thing, but that's what I read into what they were saying last week.
Dan Ferris: Yeah. The one thing that really caught my ear – it's all confirmation bias. I accept that – but he was asked about rate cuts and he said that's years in the future. Years. Years doesn't include 2023. If it's years in the future, that doesn't include 2023, maybe not even 2024.
Corey McLaughlin: Right. Powell, he was very clear to say we are not cutting rates this year. Like don't even think about it. To anybody that was still thinking about it, please just don't think about it.
Dan Ferris: Yeah, which is like the 10th time he's done that.
Corey McLaughlin: Right. I think finally people are coming around to that, now that we're almost halfway through the year. The inflations numbers, metrics that they look at are still – I didn't realize this until he said it. I forgot about it. That core PCE number that they look at, it hasn't gone down in the six months.
I like to look at the month-over-month change, and it was actually higher. The last month they have the data for was in May of this year. It was actually higher this May than it was last May. That was at the early stages of the rate hikes. That was after maybe one or two of the rate hikes. Now we're at 10 more and the pace of inflation, you could call it the same.
So yeah, if you're looking at this from a Fed analysis standpoint, which I guess we are, they balanced the employment side with prices. Unemployment is still really low and inflation is still really high. So let the rate hikes continue.
Dan Ferris: Yeah. Even core CPI, not PCE, was 5.3. I'm just like, wow, OK. It's interesting to me that markets don't seem to care about this stuff as much as they did when it was 9%, let's just say.
Five is high. Five is plenty of inflation. Five will screw you up. Five will screw up American families, 5% inflation.
The core suggests, all this stuff, core CPI, the suggestion there is that these aren't effects of more volatile energy prices, for example. It's embedded. It's throughout the system, etc.
That concerns me. It would seem, if I were an economist, I'd still be mostly concerned with this, no matter how forward-looking I thought I was, as like a portfolio manager or an analysist or something. I'd still be concerned about the stubbornness and be saying, "Wow. This is just not going away, the way I predicted it would six months ago."
Corey McLaughlin: Right, yeah. If anything, it was a reminder for me that the higher for longer era will be most likely higher and most likely longer than a lot of people think.
Dan Ferris: The terminal rate they're throwing around is higher than where – you know, the current fed funds, which they stuck with, was 5 to 5.25 is the upper bound, 5.25%. The terminal rate they are throwing around is 5.6, which just – that's more than 5.25, and it's even more than 5.5, which would be the next quarter-point hike.
Corey McLaughlin: Yeah. They're basically saying you should expect 50 more basis points by the end of the year. To me, as Powell was talking, his plan appeared in my brain that they'll, as we said, they'll skip – they just skipped this month. He let the word "skip" slip. I don't know if you caught that during the press conference.
Dan Ferris: I probably did.
Corey McLaughlin: And he caught it himself, "I probably shouldn't call it a skip," but yeah. So there's the truth there. It's a skip that they will then raise rates. The next meeting I believe is in July. Then that leaves two more meetings with one more rate hike. So pick which one you want to do there.
My guess is November. So then they don't have to do anything in December. Then we'll see where things are at next year.
But again, we're into next year and we're still talking about all of the same stuff. Like I said, what people want to do with this is a whole other thing. I mean the stock market at the same time, the indexes have been taking off over the past couple days.
I don't know. I haven't gotten that far in what it means for stocks and what history of intermittent rate hikes, which is essentially what these are, coming off of 40-year high inflation means, or what comparisons can be made to the past there that could be helpful.
But for now, it seems the market is still – I hate to use the word "pricing" – but the market is looking like it's saying we're closer to the end of the rate hikes, which we are, but it still could go a bit higher I think than people have been expecting.
Dan Ferris: Yeah. In the near term, I have to agree with that. If you look in fed-funds futures on the FedWatch tool, on the CME Group website, it's like a high probability of a target rate 25 basis points north of here, but even then, you are I are talking about this 5.6 terminal rate, implying two more, 50 basis points more of hikes. But the odds of that, they're just not built into the futures really at all, not at all.
So still, people are just not quite buying it. I don't know. Who knows what it will look like if they do another hike. Then beyond that, I'm still mindful of the late '60s and '70s, when they thought they had it done twice. They thought they were done twice and wound up just absolutely bludgeoning rates, just like shoving it up to 20% four times. It was like a clear – you know, they have all this measured rhetoric and they take these actions.
Then finally, in 1980, they're like, "Screw it. We don't know what to do. Twenty percent didn't work. Do it again. Oh, didn't work. Do it again. Do it again." I think right now we're still in the Fed is having the measured language and the incremental hikes.
Corey McLaughlin: Yeah, I was –
Corey McLaughlin: I was thinking that, too. I haven't heard Mr. Powell evoke Paul Volcker's name in a while. I'm wondering if they're eventually making the same mistakes that the pre-Volcker era made.
At the same time they're talking about fighting inflation, supposedly, they're saying the GDP number that they expected has now doubled for this year. So what does that tell you? That tells you that unemployment is still low and inflation is still very high.
Dan Ferris: It all paints a clear picture to me, right?
Corey McLaughlin: If anything, maybe they should be hiking rates more right now, not less. You can make that argument, right?
Dan Ferris: Yeah.
Corey McLaughlin: And the longer this goes on and the longer the economy is able to be, quote/unquote, resilient and have unemployment as low as it is. Powell also said this part, that kind of got my attention, that he thinks the wages part of this whole story is becoming part or more of the story now.
That's really you don't want to get into the wage/price spiral situation, which I mean we could be headed there. It hasn't happened per se yet, but if things don't – there's all kinds of inflation pressures, like fuel, and all these different variables that you can never know about and never predict.
So to me, there's more thing that could push inflation higher, namely fiat currency on its own, than anything else, than the Fed raising rates, which we've obviously seen already hasn't done as much as they thought it would. It's done certain things, but hasn't gotten into the entire economy yet.
I don't know. My thoughts are this is all the same. It's much longer than we thought. We're talking years here. Yeah. Powell said years. He let that one slip, too. I don't know what he was saying or why he said that, but he did. Yeah, to me, the monetary policy story is more of the same, just extend the timeline.
Dan Ferris: Right. You're talking about cutting being years out and making an argument for more hikes. Conversely, you can't make a great argument for cuts right now. You just can't.
Even if we – especially if we acknowledge that – I would say the Fed is looking at the stock market. I would always say that. Even if we acknowledge that, then you really can't – because the stock market, as far as anyone knows, the headlines are calling new bull markets, and the Nasdaq is soaring. Even it's only a handful of stocks taking it up or whatever, it looks good. It looks good enough.
So I don't know where you would look to start making your argument that cuts are logical expectation. Where would you look? I don't know.
Corey McLaughlin: You would look at unemployment, I think, the unemployment rate ticking up significantly.
Dan Ferris: Yeah, and still near multi – you know, it's like a teeny-weeny bit of multidecade lows, right?
Corey McLaughlin: Yeah. It's not significant yet. I just don't – you wrote this recently and I thought it was a really good point, about the longest bull market in history has just – that we did see – has just conditioned so many people just to expect that sort of era to continue. I don't know.
We've been talking about this forever. To me, whoever doesn't believe that we're going to be in a higher rate era for a very long time, higher than zero, which is easy to do when you think about it that way, which is where we are. I think that's where we are.
It doesn't mean stocks can't go up. Obviously, we're seeing that they have been, but the pressure, it's a little more difficult. It's not as straightforward. It's not the same path as it would be in the low-rate era of the last 15 years, where it was like, "Yeah. Everything is easy. They'll cut rates when things go wrong." Now, it's when things go wrong, they're not going to be as quick to cut rates, if at all.
Dan Ferris: I agree with that. I agree that – well, I'm mixed and it's all about time frame for me. In the shorter time frames, I'm with you 100%. I still think that in the same way that Ben Bernanke said, "Don't worry. We're not going to let the Great Depression happen again. I cut my teeth on that as an academic. I promise you we won't let it happen," and rates went to zero and stayed there, solidly, until December 15, and then they tried to hike and, eh, couldn't do it.
Now, I think it's the opposite. I think it's Jerome Powell saying, "Don't worry. No matter what happens ... " Ben Bernanke was like, "No matter what kind of a bubble we inflate, we are not going to let the Great Depression happen." Powell is like, "No matter how bad this recession gets, the first thing we're going to do is make sure that we don't have inflation. We'll make sure that we absolutely have it completely, 100% licked."
So I agree with you there. Longer term, though, history – the example of history is too crystal clear and it's obvious why. There's the banks and the bond markets on one side of the battlefield, then on the other side is the currency, and they always sacrifice the currency to save the banks and the bond markets, which over time implies at some point rate cutting and easing and printing and all the rest of it.
So I'm in a weird place, because I'm still not to that point where the long-term historical example is the primary thing on my mind. Right now, I'm with you 100%, and we have been on the same page about this for a while. It's hikes and inflation fighting for the time being, as far as I can tell.
Corey McLaughlin: Yeah. I'm kind of scared that you're agreeing with me 100%.
Dan Ferris: That means we're wrong, right?
Corey McLaughlin: That always makes a person nervous, for me at least. But yeah, I think our point is expect this higher rate era to go on and on and on and on, like it has so far, and to keep that in mind when making portfolio decisions, as I'm sure our guests will talk about in the weeks and months ahead and have been and all that sort of thing.
I guess I'll end with this. The headlines I see still are – the mainstream headlines I click on or whatever and see a headline, it's like, "Traders are weighing the new Fed projections." I'm like can we just ignore this stuff please and just move on? Come on. What's reality and what makes headlines are two different things.
Dan Ferris: They are different. On that note, maybe we'll conclude and move onto our interview with our guest today, who has been a frequent guest. I think this might actually be his fourth appearance on the show.
Vitaliy Katsenelson. He's a friend of mine. I've known him for a long time, 15 years or something. A very smart investor, a really good writer, and just a great all-around nice guy. I'm going to go see him in a week – in a few days here actually, in Vail, Colorado. We'll talk a little bit about that.
But let's get to it. Let's talk with Vitaliy Katsenelson. Let's do it right now.
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Vitaliy, welcome back to the show. Nice to see you again, nice to talk with you.
Vitaliy Katsenelson: It's my pleasure, absolutely. I love it.
Dan Ferris: Before we talk about markets or stocks or anything, let's talk about the VALUEx Vail, which we're about to do in a couple of days here. We do this every year. For some reason, you keep inviting me. I can't figure it out, but I'm grateful for the invitation. Maybe tell the listeners what we do. What do we do there every year?
Vitaliy Katsenelson: Yeah. I started organizing the VALUEx Vail I think in 2011. I got the idea from my friend, Guy Spier, who organized – I think he started the conference six months before I started organizing VALUEx Vail.
The whole idea is this. When you go to a traditional conference, and you and I have met actually at traditional conferences like VALUEx investor conference. You go to a conference and there's a big superstar speaker, and you're like a peon sitting in the audience listening to this person sharing their wisdom with you.
I've been on both sides... I mean as a presenter there and as L&D. It's a nice thing to do, but it's kind of one-way communication for the most part.
When I got the idea from Guy and I wanted to do a conference in Vail, what I wanted to do was basically have a small event. When I say small, actually limit the number of attendees to 40. That's a hard number.
In fact, what I found in life, and we can talk about it as a separate concept, is constraints. There's a huge value to constraints in general. We'll come back to constraints because I think it's an interesting discussion. Anyway, we have 40 people. We have more applicants than we have spaces.
Then we select people who are basically die-hard investors. Most of them are value investors, but not all of them are value investors. Everybody at this event, in addition to being a good investor, also is a great human being. You can't guarantee this upfront, but over time there's a filtration process, because not everybody gets invited back. So the fact that you get invited back speaks about your qualities, not just as an investor, but as a human being as well.
So the whole point is this. Forty people get together for three days and we share ideas. We have people present. We only have spots for 21 presentations. But after every presentation, we have this discussion, kind of a Q&A, but then also, there are conversations during breaks.
This event happens in Vail, which, as I keep saying, is a beautiful version of – a beautiful replica of Switzerland. We go to this beautiful lake and we play volleyball. Again, most people end up talking stocks or whatever.
What I found about this event is that the – it's not just about those presentations, but what happens in between. Because you've been coming for a long time, when you come back to the conference you continue the conversation you started year ago with somebody. I think that's what I want.
Dan Ferris: Yeah. I love it. I have presented a few times over the years. Every year, I come away with lots of notes and ideas. There's no substitute for it.
It's funny you mentioned the Value Investing Conference, because at the time they were running that conference, I thought, "Wow. There's just no substitute for this," because I thought it was great, and the same thing goes for VALUEx Vail. So hopefully the listeners enjoyed hearing about that. Most of them probably won't get invited to it, but –
Vitaliy Katsenelson: There is actually one topic I want to discuss, you just made me the think about it, the value of constraints. I'm going to give you a business case for that, but I think you can apply it in anything.
Obviously, you've been to a Costco store. Costco only has – this number is stale, but it's about right. I think they carry about 2,500 SKUs, so 2,500 items. If you go to Walmart or your traditional grocery store, they carry about 150,000 items. This is not really a pitch for Costco, but I want to highlight a concept here.
So because Costco made a choice and said, "Our floor space only allows us to carry 2,500 items," when they have these items, they are usually on pallets. So they can only carry so many items. Therefore, you're only going to have four cereals, not 150 like you get at Kroger, but only four. Therefore, when they pick those four cereals, those are going to be the highest quality, most popular cereals. What Costco does, the constraints force them to pick four items.
Now, believe it or not, that is a feature, not a bug, for most consumers, not all of them. I think it's actually – it's mostly for men actually, I would argue, because I think men usually don't like choices. When I go to a grocery store and I see all these choices, I get anxiety. I don't think I have talked to anybody who doesn't love Costco, because when you go into Costco you don't suffer from this anxiety of choice. Right?
Dan Ferris: That's very true, very true.
Vitaliy Katsenelson: Think about what they just did. There are so many advantages of these constraints. No. 1, because they only sell four cereals, not 150, they're going to sell a lot of more of whichever one of the cereals than Kroger will ever sell of those 150 cereals, so they can get a lower price and they're going to pass this cost savings onto you. Also, that creates a better experience.
So the same thing applies to the VALUEx. Because we only have 40 people and you have 20 presentations, we have to curate the people. We have to curate presentations. The experience gets better.
But then it also applies to things you do in life. If you have a lot of friends and you don't curate the friends you have, you're going to have a lot of not so good relationships. So if you say I'm only going to have this many friends, then you start looking at your friends and you say, "You know, some people are actually very toxic and they should not be my friends."
So you start applying scarcity to different parts of your life. If you start applying to your portfolio, you're only going to have 25 stocks. Therefore, there's, I don't know, 5,000 American stocks to buy and another 5,000 foreign stocks to buy. Therefore, there is a very healthy competition for these spots.
Anyway, I think there is a lot of value in constraints. Sometimes we should be very mindful of that and actually impose those constraints on ourselves.
One last example and then – [inaudible]. You can apply the same thing for the firm. I can say only when I have – like right now, we have eight people working for IMA. I can say, "I'm only going to have 10." What does that mean? That means that we have to be a lot more efficient with what we have. We have to use more tools.
It also means that we're going to become a lot more selective with the clients we take, the size of the client, the quality of the relationship, those kinds of things.
Dan Ferris: Very good. Yeah, constraints are important. I learned a long time ago, or I had a thought a long time ago that people are really creative when they're backed into a corner and they've got a lot of constraints on them. When you sit down and you can do anything you want and you have a blank canvas, I can't function that way. I need deadlines and constraints, and I need to be pushed into a corner. The more constraints the better almost, so that I can move forward.
But this is one of the ways that investing is like life, because you have to pick constraints. You can't just – I mean I suppose you could – have a strategy where you have all the stocks on the wall and you're throwing darts at them and that's the one you're going to buy this month, I suppose.
But even then, you'd have some kind of a constraint. You can't invest without them. So to a very great extent, I believe that investing is about choosing the right constraints and then adhering to them rather religiously. Is it not?
Vitaliy Katsenelson: I agree with you 100%. I think I changed my mind on this a little bit. I used to be dogmatic about things, then I wasn't, and now I'm dogmatic again. One thing I'm dogmatic about especially is quality. I used to allow myself to maybe – like maybe I'm going to have a few positions that are going to be – like out of 25 stocks, maybe one or two or three at the most will be kind of low-quality. One thing I found is actually once you start compromising, it's just only downhill from there.
Dan Ferris: It's a slippery slope. Yes, it is.
Vitaliy Katsenelson: It is a slippery slope, like you can sing a little. It's one of those things where you can't really sing a little.
Dan Ferris: There's no compromise between food and poison.
Vitaliy Katsenelson: What's that now? Yes, yes. But you know what it is. It's just little by little you lower your bar without realizing it. The problem is what you gain from – whatever you gain from this little compromise on the upside is not worth what's going to happen to the rest of your portfolio.
So I became dogmatic about this, about quality. If I see something that is low-quality, it doesn't matter. I just move on.
Dan Ferris: And the nature of that compromise, the nature of lowering the standard today, you only do it for expedience. You don't do it because you think there's some great long-term benefit in it. It's always for expedience. It's always because you want to do something right now and you say, "OK, well I'm going to lower my ...
So in the long term, provided one has chosen good constraints and has good principles, you've gained nothing by compromising them, right?
Vitaliy Katsenelson: You're right. A lot of times what happens, and in investing especially, you don't realize it, but you're actually forced into it by unattractiveness of the market. Here's what happens to other investors. This is what kills a lot of other investors.
You're looking to buy four undervalued companies. The market is expensive, so you can't find high-quality undervalued companies. So you go in the garbage bin and start looking for things that may be undervalued, except you might – if the future is going to be like the past, you know, like the past.
That's kind of almost the definition of quality. If it's a quality company, the future is as good as the past. I'm assuming the past was good or better. If it's a low-quality company, the future is maybe as good as the past, but maybe a lot worse. Therefore, you're buying a company that had 3 times of earnings power to discover it has $0.30. Therefore, you're buying the stock at 3 times earnings and it ended up being 500 times earnings, whatever that number is.
Dan Ferris: Yeah, the value trap. It's interesting. A read a piece – Whitney Tilson sent around a link to a John Hempton piece about averaging down. He had an interesting insight into this, which I think has – it plays into this idea of quality, because a lot of those low-quality companies have a common feature, which is the excessive use of debt and a lot of leverage because they're very capital-intensive. That's how they get that way, generally speaking, as a generalization.
Vitaliy Katsenelson: Yeah.
Dan Ferris: Hempton was saying the one thing you don't do is average down on a highly leveraged business. You just never do that. He gave all these examples. He actually mentioned Bill Miller as somebody who averaged down on highly leveraged business models and blew himself up, which I have nothing against Bill Miller.
So it leads me to want to question you and say: have you made it a practice of averaging down? If so, have you found your insistence on quality to be helpful in that regard?
Vitaliy Katsenelson: No. 1, for the most part, we don't have local interest stocks in the portfolio. One thing I was averaging down, what I do, I try to – and this is a battle – not to average down on businesses that are on the negative – fundamentally negative case. Like Thursday, fundamental is getting worse. Even though it's maybe a quality business, I don't average down on this.
What I do, I average down when the fundamentals turn. A lot of times I average down when the headline fundamentals may not look good, but core fundamentals are good.
We had a company that made an acquisition, which I liked and it was the right thing to do, but the acquisition kind of distorted the optics of this quarter profitability. But if you just go through and deconstruct what happened, you can see that actually business is doing fine. I'm fine with kind of averaging down into that. But the business that's getting worse, unless it's a cyclical business where you can just completely explain cyclicality away, I don't average down.
Dan Ferris: All right, yeah, I wondered. Let's try to get more specific. I know our listeners are dying for us to do that.
Are there any – I mean if you want to talk about a specific name, by all means, our listeners would love that. Or maybe you just want to talk about a specific industry, if you don't want to give me a name. Is there anything you like right now?
Vitaliy Katsenelson: Let me talk about the industry, because I'd rather not talk about specific names. One industry I actually like is pipeline MLPs. What I like about this industry is that – if you think about the pipeline MLP business, like pipeline business, it in general is a very good business because most of those pipelines are monopolies.
They have long-term contracts. Again, I'm generalizing. You have to start case-by-case, but they have long-term contracts. Their prices most of the time are linked to, I think PPI, not CPI, but PPI. The way that the contract is that if inflation goes up, the prices go up. If you go into deflation, prices don't go down. So overall, it's a good business.
Now what happened was the way you get in trouble with these companies is when there is too much demand, and this is what happened around the 2013/2015 era. There was so much initial gas and oil discovered through shale, there was so much demand that everybody was going to the pipeline for the demand. What was happening is that, because everybody was doing it, you actually oversupplied the industry. That's No. 1.
No. 2, investors were very hungry for dividends. So these companies, what they would do is they would issue – they would basically issue debt to pay the bills, because they were investing so much in those capital projects.
Long story short, this whole industry goes through tremendous readjustment, and these companies realize that – first of all, the bond market stops financing. The investors don't want to buy it anymore. This stock has declined a bunch. The bond market doesn't want to finance them anymore.
So they found today you're benefiting from this, because they found capital allocation discipline. If you look at – actually, I just looked at it this morning in fact. If you look at almost every single pipeline company, every single one of them generates cash flows that by far in excess of their dividends – by far.
The reason they're doing it is because – it's happening because the cash flows actually went up because the past investments they made actually now are bearing fruit, and the capital expenditures are a fraction of what they were in 2015 or 2016.
So now the gash in cash flows and nobody wants to make huge capital investments anymore. So therefore, now what's happening – and, by the way, remember how a certain group of people consider them to be evil because they transport non-ESG approved commodities. Canada tried to build a pipeline to the United States. That didn't help. So nobody wants to build any pipelines anymore.
So guess what. When you don't build new pipelines, what you have underground becomes more valuable.
The beauty of this business overall, it's more or less stable through almost any environment. Your home still needs to be heated whether you have an economic expansion or recession.
If you think about natural gas for a second, I would argue that three, five, 10, 50 years from now, we're going to be consuming more electricity, not less. Why? Because of electric cars. Those electric cars, even though you don't see them burning anything, they burn electricity. The electricity has to come from somewhere. Most likely, it's going to come from natural gas. So the demand will be there.
Supply is constrained. Demand is there. Also, it is noncyclical. So I look at those companies that are giving you 7%, 8%, 9%, 10% dividend yields. A lot of them – and I'm generalizing now again – if you look at the balance sheet, they have a lot of debt. However, in relation to cash flows, the debt number is not very high, like 4 times debt to EBITDA, which is not high, considering a lot of the cash flows are very stable.
But, and this is very important, if you look through them very carefully, some of them have debt maturities spread out over a long period of time, going into 2050, and for some of them, those debt maturities are less than free cash flows. o if the bond market closes tomorrow, some of them will be able to pay off that debt from free cash flows.
I'll mention one company, because I feel like this is the right thing to do, I guess. This is probably one of the highest quality. Let me put it this way.
Right now, we own two pipeline companies. We own Magellan and we own Enterprise. Magellan is by far the best run pipeline company in the United States. However, it's been bought out by – I don't know how to say the company's name – [pronounces company's name two different ways] – ONEOK.
Dan Ferris: One Oak.
Vitaliy Katsenelson: It actually says "One OK," but I'm not going to argue about this. It's been bought out by ONEOK, and I am not going to stick around for ONEOK. We bought Magellan because of its incredible management.
Enterprise is second-best and it's very diversified. That's the one that has debt maturity perfectly lined up into the future. But there are others as well.
This looks to me like a very defensive asset class. If you are listening to it, you are probably – I'm sure there is some bias in your listeners, that I'm sure are probably not as excited about the future as the average Nvidia buyer. Is that fair to say?
If you look at what we do, people come to us and say, "IMA, here is my life savings. Don't screw it up." So that's the portfolio we manage. That's why Enterprise or pipeline in general, why pipeline fits perfectly in this portfolio, because I am going to have a very nice return, but it's probably 7% to 8% from dividends or more and growing, and they're probably paying, I don't know, 9 or 10 times free cash flows.
Dan Ferris: Wow, interesting.
Vitaliy Katsenelson: I want to clarify. This is not a recommendation. Here's the thing. What I'm trying to do, and I'm sure you agree, I'm teaching you how to fish. Really, it's not about giving you a fish here.
Dan Ferris: That's really actually an excellent point all on its own. I think too many folks, they want to hear an idea and they want to just go buy it. They want to hear something at a cocktail party or on a podcast and then go buy it or something, and they don't understand that the conviction that comes with good performance over time is not the result of doing that.
It's the result of understanding the process of knowing how to fish, and knowing what the constraints are and all the rest of it. It looks easy to go and click on your account and buy a stock, but it's not that easy, right. There's a little more to it than that.
Vitaliy Katsenelson: I think that's great point. You and I might have discussed this in the past, but that's OK. I think it's worth repeating.
When you go to a casino and you play, I don't know, the slot machines, nobody is going to confuse you with an investor. The problem in the stock market, two people buying the same stock, one could be a speculator or a gambler... another one could be an investor. What separates them is one has done the work and done the true research. Another one is buying because they heard it at a cocktail party.
That's kind of the funny part about the stock market. Really, you can have two people doing the same thing, and there is no way you can tell at that point in time. The way you can tell is what they do after that.
Here's what happens. As an American philosopher, Mike Tyson said, "Everybody has a plan until they get punched in the mouth." After you buy a stock, you get punched in the mouth. Then what do you do? If you bought it because somebody told you at a party, "You better come back to that guy and make sure he actually has done research or he didn't hear it from another guy at another cocktail party."
But if you have done the work, then you can make a rational decision. It could buy more. It could be sell. It could be do nothing. But if you have a process, if you have done the work, then you can process the information and make a reasonable decision.
Dan Ferris: Right. You can't do that if you're just gambling. That's a great way to look at it. No one would mistake the gambler for an investor. There are no investors in casinos.
Vitaliy Katsenelson: Well, the only investors in the casino are the ones who own the casino, but that's right.
Dan Ferris: The house, yeah.
Vitaliy Katsenelson: The house, yeah.
Dan Ferris: They basically own a piece of real estate that's going to keep generating cashflow as long as people are happy to lose money in slot machines, which seems to be forever. It always surprises me when I hear of a casino going bust. I'm like: how in the world did that happen?
Vitaliy Katsenelson: You have to try very hard.
Dan Ferris: That's right. When I think about Donald Trump, I'm like: didn't he have casinos that went bust? How did he do that? I don't know. There's obviously a lot more to it than that though.
Vitaliy Katsenelson: That is such a great point, by the way. I never even thought about it that way. You really have to try very hard to lose money on a casino, yeah.
Dan Ferris: Yeah. Who knows what goes on behind the scenes, I guess. There's a lot of nefarious characters hanging around the casino business, or so they tell us in the movies.
So that was a great idea and I'm glad that you shared your process with us. You've shared it with us before in general and talked about other stocks.
It's time for our final question, which you've answered many times before. The final question is: if you could leave our listeners with just one thought today, what would it be?
Vitaliy Katsenelson: You know, every single time you ask me this question, and every single time I stumble.
Dan Ferris: That's OK. Most people do.
Vitaliy Katsenelson: Because I have so many thoughts. What would I want you to –? OK. Let me tell you one thing I would want to leave your listeners with.
In my book Soul in the Game, I have this section on stoic philosophers. There was a chapter called "One Day at a Time." I'm sorry, no. There was a chapter there called, "Each Day Is a Separate Life."
I discussed this concept from stoic philosophers, where Seneca talks about the shortness of life. He says it's not that life is short... it's just we waste a lot of it. His proposition was to treat each day as if it was a separate life. Try to be present throughout the day. Try to be the best version of yourself as if it was your whole life.
You know what happens if you have a lot of those days in a row? You are going to have a good life. So that's one that I have.
Dan Ferris: I want you to know I love this idea. I'm glad you picked that one. Ever since I heard you say it the first time, I was like, "Yes, that is it. That is true."
Before I heard you say that, I had a somewhat similar insight, but not quite as useful, which is simply that we tend to think of our life as this thing that has happened in the past and it's going to happen in the future, and we're thinking a lot about what we're going to do. But really, my whole life at this moment is talking with you. That is my whole life at this moment. I'm not doing anything else. This is what I am doing. This is what I am living. That is my whole life.
I think what you have done is a slightly better version of it because you say, "Provided I live beyond this moment and get through a whole day, that's my whole life." I love that. I live it because it is so true.
Since I heard you say that, I have been playing the guitar every single day. I've been reading books every single day. I had gotten out of that habit and I'm back in it, strong. I'm more focused on work in a much more productive way, just more productive. It has been extremely useful to me. So I thank you for it and I'm glad you shared it with the listeners.
Vitaliy Katsenelson: Can I make one more point because I just remembered something?
Dan Ferris: Sure.
Vitaliy Katsenelson: When you talk about constraints, one modification I made in my life, I realized that I was listening to too many podcasts. [Laughter] No, no, no. Do you know what happens when you listen to too many podcasts? They end up layering up, and you actually learn very little because you forget most of it.
Now if you go through your podcasts, if you have a library – and of course yours is going to be at the top, so you shouldn't worry – but you listen to a lot of nonsense podcasts. I would basically say just removed half of them. I think then your retention is going to be much greater to what you listen to.
Also, by imposing some constraints, you start thinking, OK, this podcast about yesterday's weather, should I still be listening to it? Anyway, just one point I wanted to make about the constraints.
Dan Ferris: OK, excellent. Thank you for that. Listen, man, thanks a lot for being here. It's a great conversation, as always.
Vitaliy Katsenelson: It's my pleasure. Thank you so much. I really enjoy it. Thank you.
Dan Ferris: You bet.
Many mainstream analysts are predicting that stocks will recover soon, but I say we'll instead witness a cash frenzy unlike we've experienced in 21 years before stocks recover. I'm urging Americans not to buy a single stock until they see it.
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As always, a really great conversation with my friend, Vitaliy. You never know. You never know these days, when I talk to Vitaliy, where we're going to wind up. He has a lot of great ideas about not just investing, but life and all kinds of things.
He reminds me actually of another fellow, who I hope we're going to have on the podcast soon, Chris Mayer, who is constantly pointing out what Vitaliy and I discussed, which is that some things just apply – the things that apply to investing very often apply to your whole life, and we certainly got a good dose of that today with Vitaliy's discussion of constraints. You have to put the right constraints on yourself and adhere to them to be a good investor and just, frankly, a good person.
Once again, I'm just astounded by how much I'm enjoying this. I can't believe Stansberry pays me to do this. It's all kinds of fun. It's what I'd want to do anyway. If I were retired, I'd want to do a podcast and talk to all these great folks like Vitaliy.
So that's another interview and that's another episode of the Stansberry Investor Hour. I sincerely hope you enjoyed as very much as we did.
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