ClearBridge Investments Podcast

In this episode, Managing Partner Tim Whybourne catches up with two Wall Street stalwarts Jeff Schluze & Michael Testorf from Clearbridge Investments. Jeffrey is a Managing Director and the Head of Economic and Market Strategy at ClearBridge Investments overseeing capital market and economic research and contributing thought leadership on these topics to the institutional investor and financial advisor communities. Michael is a Portfolio Manager on the Global Growth Equity investment team and co-manages numerous global and international growth strategies. Clearbridge Investments manages over USD$187.9 million (as of 31/3/2024).

We talk about everything from clearbridges proprietary recession indicator tool, the anatomy of recession, through to why valuations are as scary as they might look and why investing at the top of the market can still return great results. We discuss the investment case for Emerging markets, Japan, the US and Europe and then explore one of Clearbridges latest equity strategies to be deployed into the Australian market in the Clearbridge Global Growth Strategy.

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Please see a transcript of the show below:

[00:00:00] Ryan Loehr: Welcome to the exchange podcast by EWL. As advisors to some of the most successful families in the country. Craig Emanuel, Tim Whybourne and I, Ryan Loehr, draw upon some of the best minds in the country. We believe that by exchanging ideas, we can deliver better advice and better outcomes for the families we worked for.

[00:00:32] Ryan Loehr: Now, we're inviting you on this journey. In this podcast, we interview some of the country's best investment managers, business advisors, bankers, and founders to share their valuable insights. And our hope is that with better information comes better decisions, helping you to achieve more financially. 

[00:00:52] Tim Whybourne: Good morning, everybody, and welcome to another episode of The Exchange by Emmanuel Whybourne and Loehr.

[00:00:57] Tim Whybourne: I'm your host today, Tim Whybourne, and today we are joined [00:01:00] by ClearBridge's Jeff Schulze and Michael Testorf, all the way from New York. Without further ado, I bring you Jeff and Michael. We're extremely privileged to sit here today in the company of two Wall Street titans, Jeff Schulze and Michael Testorf, all the way from ClearBridge offices in New York.

[00:01:16] Tim Whybourne: For those of you listening unfamiliar with ClearBridge, ClearBridge is a leading global equity manager with over 187 billion in assets under management. Jeff is the managing director and head of both economic and market strategy. And Michael is the portfolio manager for the global growth equity investment team and co manager on a number of the global growth strategies for ClearBridge.

[00:01:33] Tim Whybourne: So it's probably best to start with a bit of background about yourselves, how you got into the industry and how you both landed your current roles at ClearBridge. 

[00:01:41] Jeff Schulze: Yeah, sure. So I started in the industry in 2006. So it's hard to believe that, you know, coming up on 20 years here graduated from Rutgers University in New Jersey and started at a firm called Lord Abbott.

[00:01:52] Jeff Schulze: Primarily focused on the fixed income side of things. Was there for about 10 years and transitioned to ClearBridge in 2014. And in [00:02:00] 2016 stepped into my current role of head of economic and market strategy. So it's been hard to believe almost 10 years. That ClearBridge coming up this November.

[00:02:08] Jeff Schulze: Yeah. Yeah. Congratulations. Thank you. 

[00:02:10] Michael Testorf: You would hear it by accent. Yep. , John . Moved in, moved into the United States in 1994, but. I started my career at 87 with a German bank, which is called Commerzbank partly in Hamburg, partly Frankfurt and make the, make their journey over the big pond in 94 for a job for the United Nations Joint Self Pension Fund, managing their European equity portfolio.

[00:02:33] Michael Testorf: It's very sizable institution. On the international side, moved on to Judas beer, built up an institutional asset management business with some people and joined ClearBridge in 2015. And joined one of my former competitors, Elisa Mason and Pavel Wroblewski and very happy have that I have done so.

[00:02:53] Tim Whybourne: You're both in Australia at the moment, kind of roadshowing your capabilities and in particular marketing a new fund that you're bringing to the Australian [00:03:00] market. I thought today it'd be great if we could cover off on just a little bit of macroeconomic, what's happening around the world at the moment, more importantly, where we're heading and then probably get a bit more granular and go into the new strategy that you're marketing in Australia and why it's a good time for that.

[00:03:13] Tim Whybourne: But one of the things I wanted to raise today, I think Jeff, you're the architect of Clearbridge's of recession program, which is a tool I've only recently become aware of, but. It keeps a finger on the pulse as to what's happening in particular with the U. S. economy and over a number of metrics and trying to predict when the next recession will be.

[00:03:31] Tim Whybourne: But can you tell us a little bit about that tool and what it's saying at the moment? 

[00:03:34] Jeff Schulze: Yeah, so when I stepped into the role of head of economic and market strategy at ClearBridge really developed a program called the Anatomy of Recession because, you know, Really wanted something to, you know, captivate investment professionals.

[00:03:46] Jeff Schulze: And really at that point in time, you hadn't had a recession in seven years in the US and everybody was wondering when the next shoe was going to drop after how deep of a recession we had in the, the global financial crisis. So I really wanted to design a program on where we were in the [00:04:00] economic cycle.

[00:04:01] Jeff Schulze: And really the focal point is our recession risk dashboard, which is a group of 12 indicators that have historically foreshadowed an upcoming recession. Stoplight analogy of her grain is expansion, yells caution to read his recession, and really that's the element of the program that has a level of familiarity for people that wallow the program on a monthly and a quarterly basis.

[00:04:20] Jeff Schulze: But it's more than that, because it dives very deeply into why we believe in expansion or recession is more likely. You know what are important things to watch in the economy, but also, more importantly, what does it mean for financial markets and where the opportunities are? Arising from where we stand in that current situation.

[00:04:38] Jeff Schulze: So, to give you some numbers when we started the program in 2016 we've grown the program to have over 40, 000 U. S. financial professionals that are subscribed to monthly updates, and over the last 12 months, we've had 150, 000 global financial professionals interact with the program. So, it's been quite a journey.

[00:04:55] Tim Whybourne: At the moment, I think when I first started looking at it, it was very much pointing towards a [00:05:00] recession, but in recent times, it's saying things are looking a little bit better. And perhaps maybe we'll avoid a recession altogether. 

[00:05:07] Jeff Schulze: I think so. Yeah. We've upped our probabilities of a soft landing to or no landing to 70%.

[00:05:13] Jeff Schulze: And a lot of that is predicated on the dashboard getting better. Over the last six months, you've seen five individual indicator upgrades going from red to yellow, but more importantly, the overall dashboard went to yellow in February. And although we didn't have an individual indicator change in March, you saw it continue progress underneath the surface.

[00:05:32] Jeff Schulze: And it wouldn't be a surprise to us if you have a green signal sometime over the next couple of quarters. So it appears that the U. S. economy kind of took the body blows from the initial rate hiking cycle from the Fed and has been able to continue to grow pretty robustly. 

[00:05:46] Tim Whybourne: What causes a recession is often something that people don't see.

[00:05:50] Tim Whybourne: So maybe something that doesn't pop up in the tool itself. I think we've had lots of exogenous shocks around the world. They seem to be coming up more frequently than, than not in recent [00:06:00] times. And as an example, we obviously got conflict in Middle East at the moment, we've got conflict in Eastern Europe.

[00:06:05] Tim Whybourne: Do you think that's something that could derail the soft landing narrative at all? 

[00:06:10] Jeff Schulze: Well, I would make the argument that we had an exogenous shock back in March of last year that normally would have derailed the U. S. economy, but changes that you've seen with the Fed. Really kept the expansion going, which was the regional bank crisis, right?

[00:06:24] Jeff Schulze: If you think about the Fed 20 years ago, they didn't have the balance sheet as a tool where they can set up all these programs to very effectively address liquidity issues. But with the changes in the global financial crisis and the aftermath of the pandemic, they now have that capability, and they were able to put out that fire very quickly.

[00:06:41] Jeff Schulze: Whereas again, 20 years ago, that would have been the start of an actual downturn. So I think the use of the balance sheet for the Fed really makes the U. S. economy a lot more resilient to those tail risks that you've seen in cycles past. But coming back to your question on exogenous shocks, yes, we've enjoyed, you know, a [00:07:00] relatively benign geopolitical environment over the last 20 years, but it's becoming increasingly evident.

[00:07:04] Jeff Schulze: That we're going to have more of these geopolitical shocks as we look forward, but I, I think maybe importantly for the listeners, if you look at since 2010, you've had roughly 30 to 35 kind of macro or geopolitical shocks, average drawdown on the S and P 500 has been 8 percent more importantly, three months later, after that shock, the markets are positive on average.

[00:07:27] Jeff Schulze: And if you kind of strip out the tails of like the pandemic, for example, the median return. From that shock is actually positive 2. 8%. So the shocks are going to happen, but I think it's important to really just stay invested and even take advantage of any weakness that you see. 

[00:07:41] Tim Whybourne: We're starting to see strong signs that inflation is coming down and I think we still are seeing signs.

[00:07:46] Tim Whybourne: But do you think an increase or a sustained increase in the price of oil could derail the inflation narrative at all? This is probably a question for both of you. 

[00:07:55] Jeff Schulze: Yeah, I look, if you look at the U. S. Inflation impulse that you've seen to [00:08:00] start the year three straight. You know, beats to the upside versus consensus expectations for core CPI.

[00:08:06] Jeff Schulze: As a reminder, you know, Fed obviously looks at core versus headline making a lot of people uncomfortable. You've obviously seen some pricing of Fed cuts come out of 2024 expectations, and you've seen a rise of the 10 year Treasury as a consequence. But I think maybe more importantly, on the road to the 2 percent target.

[00:08:23] Jeff Schulze: It wasn't going to be a straight line, right? You were always going to have a bump in the road. And I think what we've seen in the beginning part of this year is just a bump in the road and you'll see continued disinflation as we move into the back half of the year, which will give the fed the confidence to embark on a cutting cycle, but given how resilient the economy has been, there's really no reason why they should embrace cuts at this point.

[00:08:44] Jeff Schulze: But ultimately, you know, I do think that inflation is going to moderate from here. And even if you do see energy markets be resilient. Yeah, you look at analysis of the flow through from oil to core inflation, which is obviously what the Fed and other global central banks look at [00:09:00] the, the flow through is actually relatively minor.

[00:09:04] Jeff Schulze: So we're really not concerned about that at the moment. 

[00:09:06] Michael Testorf: On the international side it's a, it's a slightly different thing because We're on the international markets, particularly Europe and Japan, Turkey and India and so on, and China, too. We're very much dependent on gas prices. It's not only oil, gas is the other part and liquid liquefied natural gas prices have come down actually quite a lot.

[00:09:27] Michael Testorf: Particular for Europe. We had this dependence on Russian gas which made LNG prices moving up. Massively, they came down and all. If you look at overall storage globally, we are on storage levels, which are now on a relatively high levels. So I wouldn't be too worried about gas prices, because actually, if you look on a year to year basis, that is one of the factors which brings inflation down particular for Europe.

[00:09:56] Tim Whybourne: So moving into China now, I think China's [00:10:00] one of the world's largest economies and something that certainly impacts the Australian economy very significantly. Do you have a view on whether the Chinese can stimulate their way out of this current downturn or where you think China, the Chinese economy is heading?

[00:10:15] Michael Testorf: If we look at our overall portfolio, our exposure to mainland China is close to zero. And even our exposure to Hong Kong, which is becoming more and more of a Of a Chinese city is is a clear underweight. Can they stimulate, come back to your question, can they stimulate themselves out of the kind of misery there are?

[00:10:36] Michael Testorf: I think it would be increasingly difficult because the economy opposite to 2008, 2009, 2010. Is way bigger. You need way more money in order to achieve what you have achieved in 2008 2010. But for me, the even work. I mean, there's one part which makes me even more worried about China is is the current leadership.

[00:10:59] Michael Testorf: President Xi [00:11:00] is now emperor for life. He abolished the term limit in China and with his reelection in 2022. He is now emperor for life, as I said, and, and the policies he, he, he put in place are not really favorable for overall equity markets. He basically cut the wings of all the kind of phenomenal companies, which which China had that were, there were unique business models, whereas Tencent was Alibaba.

[00:11:28] Michael Testorf: We used to have them. None of them is in the portfolio anymore because he destroyed the entrepreneurship. And it's very difficult to see that there will be a change anytime soon. And he's left with quite some problems where we have the real estate market, the housing market not moving up anymore.

[00:11:46] Michael Testorf: The confidence of people in real estate is close to zero. The wealth effect is eroded out of real estate and and he has stimulated old fashioned industries has created over capacities, which [00:12:00] overall makes me not very extreme or annoyed. Extremely positive for China. 

[00:12:05] Jeff Schulze: Well, Michael, I would agree with you because, you know, if you look at leadership, you know, their goal for GDP is around 5 percent this year.

[00:12:12] Jeff Schulze: Yeah. And first quarter GDP came out and it was above 5%. And to your point, Michael, Chinese equity sold off, even though Chinese economists are ratcheting up their expectations for this year. And it really just comes back to the type of growth that you're seeing in China. It's been, as Michael mentioned, an infrastructure.

[00:12:30] Jeff Schulze: It's been CAPEX, it's been exports, and the areas of weakness are property, And the consumer and ultimately, you know that doesn't necessarily bode itself well to leadership wanting to stimulate more if they're already hitting their growth target. And I think that's ultimately going to be a weight on Chinese equities, but also China is just not going to be the engine of growth that the global economy has come to rely on over the last 15 years.

[00:12:55] Jeff Schulze: So, unfortunately, unless growth takes a step down pretty dramatically, I just don't see a larger stimulus [00:13:00] package coming out. It's going to be much more piecemeal in nature. Like we've seen. 

[00:13:03] Michael Testorf: China overall, we play, we prefer to play actually indirectly in the Western world, which have exposure to, to China, but preferably on business or capital light models.

[00:13:14] Michael Testorf: So our exposure to natural goods is still there and we avoid the ones, the capital heavy ones. If the Western was like the car industry, where. The Chinese players, particularly on EV, get into certain leadership and and I'm worried that the kind of investments the Volkswagen and Toyotas and all the others have made are basically kind of worthless at any point in time, because the domestic manufacturers of automobiles in EV in particular will have overtaken them.

[00:13:46] Jeff Schulze: It's just like that old adage, right? How do you become a millionaire? Well, you start off as a billionaire. Invest in an airline used to be the joke. Maybe it should be invest in a car company. 

[00:13:57] Tim Whybourne: There's a BYD dealership across the road over there, and I don't think they're [00:14:00] having any trouble selling cars either, so.

[00:14:03] Tim Whybourne: Back to the US, we were talking about something really interesting before, so I'm going to have to get you to repeat yourself for the audience. But I think in your chart pack you spoke about what the typical experience is after investing in an all time high. And that's kind of topical at the moment, because we only had all time highs a couple of weeks ago, and now we're in a bit of a trough.

[00:14:20] Tim Whybourne: But No doubt we'll be back there at some point in the not too distant future. So how do you think about investing at all time highs? Cause it does make people nervous, but they really shouldn't be should they? 

[00:14:29] Jeff Schulze: They shouldn't. I mean, you know, at all time high, you think how much better could things get?

[00:14:33] Jeff Schulze: Well, history shows that they can get a lot better and investors should actually want all time highs. Cause if you look at the S and P 500 going back to 1989, if you invested at the all time highs versus below the all time highs, You would have actually had a better return on a forward one, three and five year basis on average.

[00:14:50] Jeff Schulze: So I know we're going through a correction in U. S. equities. This is long overdue. It's been a phenomenal rally since the October lows, and this correction may have a little bit more to play [00:15:00] out, but ultimately, all time highs, I think we're going to reach them in the back half of the year. And that's obviously something that has historically been a nice opportunity for longer term investors.

[00:15:10] Tim Whybourne: I completely agree. I've seen lots of chats pointing to that effect. Often the result of investing in an all time high is you'll see another all time high the next day and then the next day. An object in motion in terms of stamina. Exactly. And and Michael, you obviously manage a global equity portfolio.

[00:15:26] Tim Whybourne: Do you think about the best way for clients to gain access or exposure to your strategy? Do you think about kind of timing the market or just always going to be the best day? 

[00:15:34] Michael Testorf: We're at the end of the day. I mean, our approach is a bottom up approach, our investment objective is to deliver. Above market returns at market volatility and when it comes to regional or sector allocation, that's basically an output out of, out of that timing wise we we're looking at our portfolio in a way it's almost like in a supermarket where you have a limited shelf space.

[00:15:57] Michael Testorf: These are the number of companies which we [00:16:00] have in the portfolio. And all of them should have a good upside. So for us you know, these kind of market volatilities is actually when it comes to downturns downturns, it's, it's an opportunity to pick up really high quality businesses, which we're investing in and where we see them in these downturns, actually a mispricing of, of durational magnitude of growth in the longterm.

[00:16:25] Michael Testorf: And we make these positions just bigger. So, I mean, that's, that's, that's how we look at it. We do timing is sometimes very, very difficult to call. I think it's easier to call to identify good quality companies with a durable product or have an advantage from, from management, from a strategy, from a platform and so on.

[00:16:48] Michael Testorf: And that is I think what we're good at. 

[00:16:51] Tim Whybourne: Listening to you both, I think we're all in this room pretty constructive on the outlook for global economy, U. S. equities over the, the new to medium term. But [00:17:00] another two events that we keep talking about, we've obviously got a U. S. presidential election coming up towards the end of the year.

[00:17:05] Tim Whybourne: Really? I was unaware of that. Yeah. Is there an outcome you think is more favorable for equities or if either side were to win do you think, is that something you'd price into your models?

[00:17:17] Jeff Schulze: It's a lot of truly, in my opinion, the price of the election. Obviously, we're about six months out from the presidential election.

[00:17:22] Jeff Schulze: A lot of things can change. But just kind of the early read is that no matter who wins, you're going to have a very slim majority in the House, right? And if that indeed is the case, given the fact that you have far left and far right, members of the House, you're really not gonna have much legislative agenda that's going to be passed, right?

[00:17:40] Jeff Schulze: So it's gonna be kind of that gridlock situation that investors love. But I think maybe more importantly, kind of what are the implications? I think it comes down to regulation, which is the area where the president can act unilaterally. In a Biden presidency, you'll likely see that be a positive for green energy, negative to industrials, financials, big pharma and [00:18:00] energy.

[00:18:00] Jeff Schulze: Conversely, the opposite would be true for Trump. Those areas would likely see less regulation and maybe a boost, but I think both presidents are going to be a little bit more hawkish when it comes to tariffs. Trump is probably going to be the one that's going to institute higher tariffs and he's talked about a 10 percent across the board tariff on all U.

[00:18:18] Jeff Schulze: S. imports. If that does go into effect, you're likely going to see some Beggar thy neighbor policies and some retaliation, which could be a headwind to multinational companies. So again, it's early on on the campaign trail. A lot of things can change as we reach election day. But I think one thing is probably certain that you're probably going to see higher tariffs regardless of who wins.

[00:18:38] Jeff Schulze: And you could see a little bit more regulation in a Biden presidency. But again, I don't think it's going to be really market moving. You may see certain sectors outperform or underperform, but I don't see it being a major headwind to equities in general. 

[00:18:50] Tim Whybourne: And then Michael is, do you price any of that into your portfolio construction or it's you can't, I guess you can't really, and that becomes closer to a bet.

[00:18:57] Michael Testorf: Yeah, it's, it's, it's, it's somewhat [00:19:00] difficult to price that into it because we don't know what exactly what would happen, but Jeff, you mentioned just green energy or whatever renewables in a way. I mean, there are a lot of states in the United States where there is a lot of, a lot of growth and renewables, a lot of jobs being created.

[00:19:18] Michael Testorf: And even if these are Republican states, they still want to have that growth. So now the question is, what does the president do? You know, the bully just punishes red red States or not. And so I'm not too negative on the, on the outside outlook of renewables in the United States. The, the more pressing question is will interest rates come down?

[00:19:40] Michael Testorf: And if interest rates come down, the sector will perform after having a really tough time over the last, whatever, 12 to 15 months. So, yeah. 

[00:19:49] Jeff Schulze: And the one thing I'll mention, look, you usually see volatility increase ahead of a presidential election from July to November. So if that indeed is the case, it would be in line with history.

[00:19:58] Jeff Schulze: But I think the key takeaway from the [00:20:00] listeners is that. Regardless of who wins, whether it's the incumbent party or the incumbent party who's challenging, the markets always rally, generally speaking, after the election as that uncertainty fades and you can have a little bit more perspective on what to expect over the next couple of years.

[00:20:14] Michael Testorf: We're looking basically aerospace as one of the, one of the areas. Airbus super, super successful over Boeing. Mr. Trump doesn't like that idea a lot, so we could see some, some terrorists on, on, on Airbus product. I don't know. I mean, we're monitoring it very closely, but I think it's too early to, to pull a trick on it.

[00:20:33] Tim Whybourne: Prime example of that was when Trump got in last election, everyone thought that markets were going to, Fall and it was going to be the the end of America and it wasn't, I think market was down for a day or two and then rallied for four years. It was a very strong rally. I don't think many people had that.

[00:20:50] Tim Whybourne: Jeff, we were talking about the U S budget deficit before, because the question that we get or a concern that our clients often have is how long can the U S [00:21:00] deficit run for at a, at a huge deficit? At what point does it need to be addressed? Cause people struggle to get their head around is that the quantum, am I talking trillions of dollars?

[00:21:09] Tim Whybourne: a day in some instances and it's very hard for people to wrap their heads around. So how do we manage that over the coming years or what are the implications of that? 

[00:21:17] Jeff Schulze: Yeah, 30 years ago, it was billions that were into the trillions. I think that the budget deficit is unsustainable for the record, but there's neither, there's no appetite from either side of the party to really bring that down.

[00:21:28] Jeff Schulze: So we're going to be looking at five to 7 percent of GDP deficits really for at least the next three to four years. Ultimately though, I think the U S can handle that environment. If you look at debt to GDP for the U S it's actually gone up from 60 percent prior to the global financial crisis.

[00:21:43] Jeff Schulze: To 122% currently. So it's doubled. But what a lot of people don't know is that it's actually down from the peak during the pandemic of 133%. So it's actually down more than 10% as a percentage GDP. Yeah. Over the last four years. And this is with these huge deficits [00:22:00] that appear unsustainable, right? So a key reason why it's come down is counterintuitively, yes, you've had big budget deficits, but you've had such strong growth.

[00:22:08] Jeff Schulze: Well, real and nominal inflation, nominal GDP growth has actually outstripped inflation, which has brought down that overall debt to GDP number. So, look, I think that this can occur for the next number of years, but I really think that you're going to have a potential debt issue when you look to the 2030s or maybe 2040s in the U.

[00:22:27] Jeff Schulze: S. But near term, I really just don't see an issue, especially considering that the U. S. has the world's reserve currency in the U. S. dollar. So, it gives the U. S. a little bit more latitude than a lot of other countries. So, that's it. 

[00:22:37] Tim Whybourne: That's a really interesting point. I don't think many people out there appreciate that the deficit hit 132 and is now back at 120.

[00:22:43] Tim Whybourne: I would imagine most people don't know that. 

[00:22:45] Jeff Schulze: Most people, yeah, they just see the percent of the deficit and they just think that it continues to go up, but it's come down by over 10%. 

[00:22:53] Tim Whybourne: So when you say you can essentially inflate the deficit away, what types of rates of inflation do you think we need to achieve that?[00:23:00] 

[00:23:00] Jeff Schulze: Well, you need a combination of two things. You need, obviously, stronger inflation, but you also need the budget deficit to be below inflation and real GDP growth, so nominal GDP growth. You saw it in the 1970s, where the 1970s basically inflated away all the debt from the 60s and the Vietnam War. And in the early 80s, you're on a pretty sound footing.

[00:23:19] Jeff Schulze: I think that that is probably the most likely path for inflation, for the deficit to come down overall. I just think that that path is at least 10 to probably 20 years out in the future. I think that's the path that we'll go down. But it's much more palatable for a government to have higher inflation to bring down debt.

[00:23:35] Jeff Schulze: Then, you know, have you know, bring down your spending and you know, have debt much more of Austerity type of environment like you saw in Europe in the aftermath of the global financial crisis 

[00:23:45] Tim Whybourne: And it's also important to know that there's nothing wrong with a little bit of debt Like most companies will run their balance sheet with a bit of debt to make things as efficient as as possible Do you think there's a target level of debt that the u. s economy should should try to achieve? 

[00:23:58] Jeff Schulze: I think the absolute level [00:24:00] of debt should be probably around these levels. You know, it gets a little bit uncomfortable once you're over 100 percent that the GDP levels wouldn't read 122 percent right now. So I think we should probably try to stay in this range to not risk de dollarization on a global scale.

[00:24:14] Jeff Schulze: But ultimately, you know, I think that that levels are going to continue to move higher. But if you think about deep dollarization, There's really not a viable currency to overtake the U S dollar as the global reserve currency. 

[00:24:26] Tim Whybourne: You're not a Bitcoin enthusiast? 

[00:24:28] Jeff Schulze: Bitcoin has surprised me to the upside undoubtedly.

[00:24:31] Jeff Schulze: But I don't see it surpassing the dollar as a people's preferred currency to hold. 

[00:24:36] Tim Whybourne: So Michael, you're, you're here to launch your global equity portfolio that you've been running for a number of years offshore. But launching it in the Australian market. Can you tell us a little about the strategy?

[00:24:47] Michael Testorf: We are launching it basically as we speak. It's one of the first meetings here in Australia. Happy to be here. Our investment objective is clearly that we want to provide above market returns with [00:25:00] market level volatility. And we do that by investing into gross companies where we have a differentiated view versus the market.

[00:25:08] Michael Testorf: And the differentiation comes either for a duration or by magnitude of gross. So. In the long term, we're, we're, we're thinking about these efficient market theory and people believe in it, but in the short term, we do see some mispricing and we, we try to take advantage of the mispricing and it could be, as I said, in duration or magnitude of growth of these situations.

[00:25:32] Michael Testorf: And the portfolio, when you look at it is a, is a clearly high quality portfolio, high quality growth companies. Which includes companies which have a clear advantage in terms of product, process, platform, management, or end of a strategy. And this, this advantage is durable, which we believe will last for a long period of time.

[00:25:54] Michael Testorf: We're thinking about free cash flow generation first most over a longer period of [00:26:00] time, discount that back to today's value. which in most cases will be our target price for this kind of company. We are very, very disciplined in terms of, of selling our securities or positions when we reach target price.

[00:26:16] Michael Testorf: And we have one little instrument in our the front end, which is our, which is our quant metal model, which is a propriety model. Which has been back tested, has been very, very successful over long periods of time. We haven't changed the input. Roughly 50 percent is coming from quality factors. And the other 50 percent is coming from from momentum factors.

[00:26:40] Michael Testorf: So, this one, this model gives us the opportunity to have a repeatable process. And I think this is very, very important for fund managers. To repeat a process. And if it's successful, you will outperform over a period of time. 

[00:26:56] Tim Whybourne: I think something relatively unique about your strategy is that you're happy [00:27:00] to go into emerging markets.

[00:27:02] Tim Whybourne: The most global strategies are X emerging markets. Can you tell us a little bit about your conviction in emerging markets at the moment and what you're looking at? 

[00:27:11] Michael Testorf: Yeah. So our overall, our index is ACRI that is includes roughly 10 percent of emerging markets. We are. Currently at 5%, but we do have some, which is majority of that is in TSMC, one of the kind of semiconductor companies and leading leading fab in the world, in particular on the two and three nanometers.

[00:27:31] Michael Testorf: Then we have some exposure in India and and then smaller bits and pieces in Mexico Mexico being potentially one of the companies or countries which could be a beneficiary of the onshoring in the United States. Taiwan or TSMC because of our very bullish stance on semiconductors overall and India being a country which is one of the countries which is still growing very, very strongly with a very, very big [00:28:00] labor pool.

[00:28:01] Michael Testorf: And with positive reforms and in the current presidency. 

[00:28:06] Tim Whybourne: And two of the largest overweights in the portfolio, both tech and healthcare. Can you tell us a little bit about those thematics and why that excites you guys? 

[00:28:17] Michael Testorf: Sure. Yeah. Our biggest overweights are in healthcare and technology. They're get funded by.

[00:28:22] Michael Testorf: The utilities, real estate, some material companies, and so on. So let's start with with, with healthcare. So it's, it's, it's one, one particular piece of it. We're diversified in healthcare, but the diabetes two situation is increasing globally. The, there are two players worldwide, Novonordics and Alimili.

[00:28:45] Michael Testorf: Both of them are heavyweights in our portfolio. which approves producing the so called GLP 1 drugs. This is actually the best treatment for glycemic control and weight loss. And we tried to spec out what is the potential growth of these kind [00:29:00] of GLP 1 drugs. Have in mind, I mean, like 15 months ago, we had like 2.

[00:29:05] Michael Testorf: This is only the United States, right? 2. 4 million yearly subscription. Currently, 15 months later, we doubled already at 5 millions. If you look at the addressable market. For people who have either diabetes 2 or could become diabetes 2 patients. The United States has over 330 million in people.

[00:29:26] Michael Testorf: BMI or body mass index over 30 is over 100 million, 20, 50 to 20 million are diagnosed. Not all of them are on GLP 1 drugs. And then if you go into the BMI over 40, so even bigger per people. Five million are already diagnosed out of, out of roughly 25 million people with this BMI index. So, we're talking about multiples of addressable markets for GLP 1 drugs.

[00:29:55] Michael Testorf: So, on the, on the other hand, both of the players are supply supply [00:30:00] constrained. Novo Nordisk has strong, strong, strong increases in, in capacity. See you. In the home country and close to Copenhagen, Denmark. And we could see this one as a four or five, six year gross industry. On semiconductors, the other overweight, most of the people can consider that as a very cyclical industry, very capital intensive with potentially poor returns over cycles.

[00:30:23] Michael Testorf: My point is that's not really true. It's more like a thinking from the past. There is cyclicality without any doubt. And they overreact in one or the other direction, which gives you another buying opportunity, to be honest. But I think the, the, the cyclicality has, is, is lower today because of concentration of the players in the market.

[00:30:44] Michael Testorf: So if you look at foundries itself, we have only three players globally, which can do a two or three nanometers these days. So number one is TSMC without any doubt with over 60 percent market share. The other one is Samsung and and the third one, Intel. Intel will be the one. [00:31:00] Which through the kind of tax savings, which they get in the United States will, will come up as a serious player, but it will take quite some years.

[00:31:08] Michael Testorf: That is one. And if you look at semi equipment suppliers, if you look at the top five, they make now 75 percent of the overall market, which is, which is haven't seen over, over decades. So that leads to a, although there's higher capital intensity in the market, But it means also it raises the bar for the players to, to compete.

[00:31:29] Michael Testorf: And the mood is actually getting bigger for every single of the players that is expressed in return on investor capital. And we have, we are talking about 30 to 50% return on investor capital and some of the semi players, semi suppliers over the last five years. And even if you take it over multiple cycles, over 10 years, we're talking still about 30% return on investor capital, which is a big, big, big number.

[00:31:53] Michael Testorf: In downturns, which we had like in 23, where we had like right sizing, right sizing of the overall [00:32:00] semiconductor market. We are now in a little bit of an upswing and continue to do so in 24 and 25. 

[00:32:05] Tim Whybourne: When you're identifying these opportunities and for these diabetic drugs, there's an exponential market, I would imagine, for them.

[00:32:12] Tim Whybourne: Do you typically put return targets of what your kind of minimal accepted upside is? And for some of these, is the upside bigger than you'd normally see at the moment? 

[00:32:23] Michael Testorf: Yeah. The important part is actually where, where are, where, where's the sell side, where other buy side shops, of course, we don't know exactly where they are because it's not public sell side is public, but you get a little bit of a feedback.

[00:32:35] Michael Testorf: We are definitely more positive on it that that is for sure true because we did the kind of work on the potential size of GLP one market and pricing of GLP one drugs. So we, we go through a little bit of a scenario, place scenario, one conservative scenario most likely, and, and the blue sky scenario.

[00:32:54] Michael Testorf: And even the, the kind of beer or wood share case is is, is, [00:33:00] is, is very strong in terms of upside. 

[00:33:01] Tim Whybourne: Okay. And we were talking about it a little bit before. So just on price to earnings multiples and what, where they stand globally. Well, I think the S& P is above its long term average of, what, 17 times or whatever the long term average is.

[00:33:15] Tim Whybourne: Probably just a question for Jeff and then back to Michael for the micro, but how do you feel about multiples in the current environment? I think we were talking about the construction of the indices, what it was today versus 20 years ago. 

[00:33:30] Jeff Schulze: Yeah, a lot of people look at U. S. equities and say, Hey, they're expensive.

[00:33:33] Jeff Schulze: And I would say, well, small caps aren't expensive. Mid caps aren't expensive. It's really just the S& P 500 right now that looks expensive. But I think in looking at valuations for the S& P 500, comparing today's valuations is like comparing apples to oranges versus prior regimes because today the S& P 500 is much higher quality.

[00:33:52] Jeff Schulze: There's less leverage in these companies. They have a high degree of earnings visibility. All those things are attributes that usually inflate multiples. People are willing to pay [00:34:00] more for each dollar of those earnings. But also if you look at the construction of the index, overall, the S and P 500 is much more growth year today, much more defensive than what you've seen over the last century.

[00:34:11] Jeff Schulze: And, you know, if you look at sickle hole representation, whether it's financials, industrials, materials, and energy, you're sitting at around, you 8 percent of the index. And usually those are areas that have a lower multiple because you have huge swings in their earnings potential. And so because of this more growthy defensive index, the longterm average is called 16 and a half.

[00:34:33] Jeff Schulze: I'd make the argument that it maybe should be 17 and a half or 18 and a half. And what you think fair value is. And I, we talked about this a little bit earlier, but the fact that the fed now has in its balance sheet to be able to use to short circuit those crises. And I'm like, it would have happened, you know, decades ago.

[00:34:50] Jeff Schulze: If you can cut off the left tail of potential recessionary events. Again, that means that having those events is a lower probability and that earning stream that you're getting. [00:35:00] You know, you should be paying more for each dollar of it. So if you put that all together, I'm not saying that the S& P 500 is cheap, but what I'm saying is that valuation is probably going to be a less successful tool to anchor on this cycle versus prior cycles in the past.

[00:35:14] Jeff Schulze: And last thing, I know I'm kind of droning on here, but if you look at the S& P 500 and it's really top heavy from a valuation perspective. So if you strip out the top 10 stocks, The S& P 490, if you will the PE right now on a forward looking basis is around 18. Long term average is closer to 16. So, again, yes, they're a little bit expensive compared to history, but not nearly as much as people think.

[00:35:38] Tim Whybourne: I completely agree, and I'm surprised to keep seeing it in the newspaper articles and academic papers keep referencing this long term PE as an evaluation metric when it's not. It has completely changed in my mind. 

[00:35:50] Jeff Schulze: Markets change, right? So it's, you know, it's important to have a process and something to anchor back to, but it's important also to be flexible.

[00:35:57] Jeff Schulze: And I think we're in one of these regimes where you just need to be a [00:36:00] little bit more open minded. 

[00:36:01] Tim Whybourne: Michael, you own I think it was five of the seven biggest stocks in the, in the market, who's arguably are trading at higher than average multiples. But can you tell us around you that you're thinking with your, your level of comfort with those?

[00:36:14] Michael Testorf: Look, I mean, you're talking about the magnificent seven and where we own five and it did very decent size. Now, yes they look like on high multiples or higher multiples, but on the other hand, when, when you look at the overall cashflow generation, and again, we're, we're thinking about what is an enterprise or a company worse on a discounted cashflow basis, there's still very highly cashflow generative.

[00:36:39] Michael Testorf: These companies. Do I generalize now over all the five have a pretty good top line growth. Number two, they have very high cash generation, buying back shares and investing and making their mode even bigger. So I, I, I think, you know, betting against the U S in particular has been very, [00:37:00] very deadly for most of the global managers, to be honest, because at the end of the day, the U S is still the largest economy, the largest consumer market.

[00:37:09] Michael Testorf: And also the market where most of the entrepreneurs want to be and attract talent from all over the world. And these magnificent seven at the end of the day, we're all one of these little new little startups, which we have in our emerging gross bucket normally. And now they've become really big, big, big companies dominating the entire world.

[00:37:30] Michael Testorf: So, I mean, for the majority of them, we still have them in the portfolio, but coming back to your evaluation question, right? So, I mean, international markets versus us. Have been always at a discount. Some of the reasons is not as efficiently managed. Some of the reasons are they didn't do as many share buybacks and, and so on, and capital, capital balance sheet was not as efficiently managed.

[00:37:53] Michael Testorf: So historically we were on whatever zero to 2. 5 times [00:38:00] multiples discounts. We're currently trading, trading on seven times marketable. So this is a sizable number. And I think what happens in, in, in, on the international side, they take the playbook of the United States and Japan in particular. Now, Japan was probably the country which was in deflation for a long period of time.

[00:38:20] Michael Testorf: And their thought process is I hold cash either as a kind of private investor under the mattress because it's deflation, or I have a lot of cash at the balance sheet because it's And that, that thought process is changing because the Tokyo Stock Exchange is pushing companies actually to get to a price to book multiple of one.

[00:38:39] Michael Testorf: We're currently still with a lot of companies, roughly 50%. Was priced a book on the one. This is unheard in the United States. People will laugh about it, to be honest, but it's fairly simple for Japanese companies to get to one times book and above by managing the balance sheet. Taking this kind of overly cash or big cash [00:39:00] positions to have later study was actually 43 percent of all Japanese companies are cash positive, which is way, way less anywhere else in the world.

[00:39:12] Michael Testorf: Using that doing some share buybacks. Unwinding some of the cross share holdings, which has happened in the eighties and early nineties, where this was built up using the cash or the proceeds out of that ibex shares or investing in bigger businesses can make actually Japan a relatively strong performer over longer periods of time.

[00:39:33] Jeff Schulze: And one thing I'll mention is that the Japanese investor owns basically no local equities, right? I think the local investor has an allocation of less than 10 percent or around that ballpark. So even if, you know, that moves up to 15 or 20%, which is well, less than almost everywhere in the world. I mean, that alone could be a nice source of demand and some upside for Japanese equities.

[00:39:55] Tim Whybourne: Yeah ok. 

[00:39:55] Michael Testorf: Absolutely. 

[00:39:56] Tim Whybourne: So Clearidge is a, is a house whose overweight Japan [00:40:00] at the moment in terms of the thinking. 

[00:40:01] Michael Testorf: We are on our global product we are neutral to slightly overweight. Yeah. 

[00:40:05] Tim Whybourne: Where does the conviction lie around the world's at the moment? 

[00:40:08] Michael Testorf: We have an overweight in Europe right now but it's more of because these are the companies which we really believe in and from a bottom up approach and Goldman Sachs did a little bit of a basket also for Europe that coded the granola's 11 companies Fortunately, we have six of these.

[00:40:25] Michael Testorf: This comes up with these acronyms. I don't know because he said for one of the company, the samurai in Japan, a for ASML, whatever. So some of these companies we do have. And, and actually, if you look over a three year period the granola's have been as, as successful as a magnificent seven, which is amazing.

[00:40:44] Tim Whybourne: Hmm. 

[00:40:44] Michael Testorf: Where we're not as successful on the samurai seven, because we only own one of them, but But these ones have outperformed actually the Magnificent set. Yeah, right. I wasn't actually aware of that. There are opportunities also outside of the United States but but you have to identify [00:41:00] them, put them in the portfolio and that's, again, it's our bottom up approach which brings us to these kind of names.

[00:41:05] Tim Whybourne: When you look at areas like emerging markets or Japan, I've looked at getting in and out of these over the last 15 years and it's they're very hard to time. So how do you think about that? 

[00:41:16] Michael Testorf: Emerging markets is, is in and out, to be honest. We are preferring them via indirect place. Most of the time Western companies or developed market companies, which have exposure to, to emerging markets.

[00:41:29] Michael Testorf: And China's and Chinese and the Chinese case where we are not as bullish as you know, and we have discussed earlier. We prefer a luxury good company, which is capital light over a company, which is capital heavy, like a, like a car company. Where the Chinese, we have very, very competing products these days.

[00:41:47] Michael Testorf: And, and on the electric vehicle side BYD is making the, the move outside of the country in Asia, probably here in Australia and starting in, in Europe, this is where, [00:42:00] where the Germans have their, their domain. But so, but yes it come going in and going out and emerging market is important timing.

[00:42:09] Michael Testorf: Wise. Our, our preference is clearly today in, in TSMC in Taiwan, as I said, in Mexico, and a little bit in India. And that's where we are looking allocated currently. 

[00:42:23] Tim Whybourne: On the strategy broadly, so it's a, it's a growth strategy. And it's a constant argument around value or growth and whether or not we're in the right environment for value or growth.

[00:42:32] Tim Whybourne: I don't necessarily buy into that argument at all. And I think you should just buy good stocks regardless of what they are. But how do you think about that? And where does it fit into an average client's overall portfolio? 

[00:42:43] Michael Testorf: On the value growth discussion. I mean, we, we do have our three buckets. As I, as I said, there might be a little bit more value names in our, in our structural growth bucket which helps us to attain the volatility of the portfolio.

[00:42:56] Michael Testorf: But I think as you said before, it's important to see what is the upside, [00:43:00] not necessarily is it a value name or is it a gross name? Mm-Hmm. I mean, the majority of our names are more categorized than gross benchmarks without any doubt. But we have a few which are in value benchmarks as well, where we see an idiosyncratic or company specific upturn in, in earnings cashiers.

[00:43:18] Michael Testorf: And that has helped us actually to, to, to, to navigate value and growth cycles. Okay. Over time. 

[00:43:26] Tim Whybourne: Ah, interesting. Is it, is it something that you think about, Jeff, about value growth when you're, when you're looking at overall macro strategy? 

[00:43:33] Jeff Schulze: Yeah, look, it's an important, you know, delineation that you need to make, but I, I think it's important to have a balanced portfolio.

[00:43:40] Jeff Schulze: I mean, a lot of portfolios are overweight growth, just given the move that you've seen, but you know, value can be that counterweight, as Michael just mentioned. Let's just say we're in a higher interest rate regime or a higher inflationary regime than people anticipate, value's naturally going to do better because growth is going to be.

[00:43:54] Jeff Schulze: More abundant than it is today, right? But I, I think it's important not to be too dogmatic about it. [00:44:00] I mean, Facebook could have been argued that it was a value company a couple of years ago when it had its sell off. So it's really about the best companies and breed and who's really going to be able to perform as you look out on the horizon.

[00:44:10] Tim Whybourne: I was looking at the the, I think that Miski does a value and growth index. If it's not Miski, it's one of the other ones, but Amazon and Facebook and I think Apple, they were all there for a couple of months when everything sold up. 

[00:44:22] Jeff Schulze: I'm sure most of them are there at the end of 2022. Wish we all, I'm sure a lot of us probably wish we had that opportunity back a couple years ago.

[00:44:30] Tim Whybourne: Exactly. A crystal ball would be nice, but that's the anatomy of recession's job, isn't it? It is. Yep. Well, I think that's more or less all you guys have time. I think you've got to get to your next engagement scene, so I won't keep you for too much longer, but is there any final message you'd like to say to the audience around the strategy or Glibri's view on, on the direction of the economy?

[00:44:52] Jeff Schulze: Yeah, I would say the U. S. Economy. All signs point to a further expansion against, you know historical precedent. And [00:45:00] I think even though equity markets are going through a correction, and that correction could last for a quarter could last up until the actual presidential election. We ultimately think that people should be dollar cost averaging into equities because we probably have a lot more upside to go.

[00:45:14] Jeff Schulze: If this expansion does have A couple more years on it. So again, even if we hit all time highs, as we mentioned earlier, nothing to be afraid of. We, we do like the landscape in the U S in particular. 

[00:45:24] Tim Whybourne: And Michael, why should we invest in your strategy? 

[00:45:27] Michael Testorf: Yeah, I think risk adjusted returns again as mentioned many times before, I think you want to have a strategy, which will, where you don't have to move managers from, from high growth to lower growth or whatever.

[00:45:40] Michael Testorf: I think You know, the way out, we are grinding our with our approach to find these kind of strong quality gross companies, put them into the portfolio, compounding, compounding their, the, the profits having good management in these kinds of companies, good allocators of money. And even when it comes to these [00:46:00] downturns, which we talked about, right.

[00:46:01] Michael Testorf: If you do have high fresh, high free casual companies, With good management where they can in the downturn allocate the money, snap out the smaller companies and put them on their platform and made them more successful in the, in the bigger universe of their company. I think that's the way to go in the upturns and in the downturns.

[00:46:20] Michael Testorf: And, and but what Jeff mentioned, I mean over the longterm, in particular in an inflationary environment. You want to have some equities because it's an inflation protection, right? I mean, at the end of the day, over bonds. 

[00:46:34] Tim Whybourne: I completely agree. Well, I think that's all we do have time for today. The strategy is launching in Australia in a few months time.

[00:46:40] Tim Whybourne: So if anybody did want to talk to us about the strategy, please reach out to anyone of the Emmanuel Wildman on those staff and we'll be happy to talk through it with you. So been an absolute honor to host you both today. I'm sure the listeners got a lot out of the discussion and look forward to having you in here again sometime in the not too distant future.

[00:46:56] Jeff Schulze: Thanks for having us. 

[00:46:56] Michael Testorf: Thank [00:47:00] you.

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