At the BizNews Investment Conference BNIC#1, fund manager Sean Peche sounded the alarm on overvalued US stocks and revealed where smart investors like Warren Buffett are hedging their bets. Highlighting the excessive hype around companies like Nvidia and Apple, Peche emphasized the need to diversify into underappreciated sectors, from European banks to emerging markets. In a Q&A session, he urged caution, stressing that familiar names don’t guarantee safety, and savvy investors must look beyond the US to find true value in today’s market. Peche’s candid insights left attendees reconsidering their portfolios and eyeing global opportunities.
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Edited transcript of Sean Peche’s keynote address at BNIC#1 in Hermanus
___STEADY_PAYWALL___
Thanks very much, Alec. And actually, you mentioned Jeff Johnson. The Nedbank South African Golf Challenge is taking place tomorrow, and fortunately, my son is playing in my place. He’s a far better golfer than me and has a lot of friends, so we’re able to support the event while I can be here. But thank you for those kind words. Simon Mare was indeed an extraordinary man—wonderful, incredibly humble, and someone who never showcased his remarkable intellect. You had to work with him to truly appreciate his clarity of thought. He never boasted about being a doctor at Cambridge or anything else. I learned a lot from Simon and I’m deeply grateful for my time working with him. He will live on in our hearts and minds. Thank you, Alec.
Now, unfortunately, I have a few presentations to get through, and I’m going to start with some math. I thought it would be a good way to begin, but don’t worry, it’s only one slide! The reason I want to start with this is because you often hear analysts and portfolio managers talk about relative performance. So, what does that mean? Essentially, we take a company, region, or index, compare it to another, and see how they perform relative to each other. For example, how is Pick n Pay doing versus ShopRite? Or how is the retail sector doing versus the market? To do this, we divide one by the other.
So, let’s say you have two companies, both valued at 100. If one goes up 10% (let’s say ShopRite) while Pick n Pay stays the same, you get 110 divided by 100. Simplified, this gives you 1.1, and on a chart, that’s an upward-sloping line. When you see this upward slope, you know the company in the numerator (ShopRite) is outperforming the denominator (Pick n Pay).
This brings us to a chart showing the MSCI Value Index divided by the MSCI Growth Index since 1974. Value stocks outperformed when the line sloped upward, but since late 2007, value has underperformed. Why has value underperformed? There are three main reasons, which I’ll briefly touch on.
First, let’s look at interest rates. Up until October 2008, the average two-year Treasury yield in the U.S. was just under 7%. Then, in response to the global financial crisis, the Fed initiated quantitative easing (QE), injecting a huge amount of money into the financial system. As a result, interest rates plummeted. During QE, the average two-year Treasury yield was only 0.89%. However, after QE ended in November 2021, interest rates rallied and are now just under 4%.
What you’ll notice is that value underperformed growth when interest rates were low. This makes sense because companies like Amazon, which promise significant earnings in the future, become more attractive when interest rates are low. The future earnings are discounted less, making them more valuable. But with higher interest rates, future earnings are worth less today, which is why growth companies thrive in a low-interest-rate environment.
The second reason for value’s underperformance is the rapid growth of certain companies. Take Microsoft, for example. Its earnings per share grew from $2 in 2016 to $12 today, a sixfold increase. And it wasn’t just Microsoft—Apple, Nvidia, Google, and Amazon all experienced similar earnings growth. Because these companies were growing so quickly, they were being valued at much higher price-to-earnings (P/E) ratios, partly due to the low-interest environment I mentioned earlier.
The third reason is the massive flow of money into passive funds and ETFs. When I started Ranmore in 2008, there was less than $1 trillion in passive equity ETFs. Today, that number is over $10 trillion. This wave of money has flowed predominantly into large technology companies, which have been highly rated due to low-interest rates.
But here’s where things get interesting: In July, value outperformed growth by 5.7%. How could that happen? I went back to monthly data since 1974 and found that this type of value outperformance tends to occur at turning points in the market. These clusters of value outperformance often signal a broader shift.
I also analyzed rolling five-day data and found that value outperformed growth by 6% in the five days leading up to July 17th, 2023. This type of performance has only occurred 11 times in the past 25 years, and it often precedes a significant market shift.
Now, let’s talk about mid-cap versus large-cap stocks. Mid-caps have massively underperformed large caps in recent years, but in July, mid-caps surged. I compared mid-cap value to large-cap growth and found that mid-cap value has underperformed dramatically. However, at historical turning points, mid-cap value has outperformed significantly. The S&P 400 mid-cap value index has shown two-year absolute returns of up to 42% at such points.
So, where are we finding value now? The Morningstar style box shows that we are primarily invested in mid-cap value, while most of our competitors are in large-cap growth. Most funds, particularly large ones, are forced to invest in large-cap growth simply due to their size. But, as I often say, picture a boat where everyone is sitting on one side—it only takes a small wave to capsize the boat.
We are finding opportunities in areas that have been ignored for a long time, such as mid-cap value and emerging markets. Currently, large-cap growth is trading at a P/E of 27, with a dividend yield of 0.7%. In contrast, mid-cap value is trading at a P/E of 14, with a dividend yield of 4.2%.
J.P. Morgan’s data supports this, showing that the less you pay for stocks (in terms of P/E), the higher your subsequent returns tend to be. We’ve forgotten this principle in recent years, but valuations matter.
To conclude: QE is over, which is good for value investing. Earnings growth may already be priced in, and mid-cap value looks compelling. Make sure that your portfolio isn’t on the same side of the boat as everyone else. Look beyond the household names and ensure that your investments are diversified. If the market shifts, those on the crowded side of the boat may find themselves in trouble.
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Edited transcript of the Q&A session with Sean Peche at BNIC#1 in Hermanus
Alec Hogg:
Thank you, Sean. It sounded like you were at an investment conference.
Sean Peche:
Yes, I was, Alec. I had my microphone there. Bottom line, we’ve heard today that America is expensive, America is in a difficult place, and Tsai is terrified by whoever becomes the next president. We’ve also heard that South African stocks are cheap.
Alec Hogg:
You’ve mentioned that South African stocks are attractive compared to American stocks. Also, you’ve said that when you buy and what you buy is important. Overlaid on this is the fact that Warren Buffett’s fund, with $267 billion in cash, is sitting with 40% of its portfolio in cash. Not invested in the stock market. It seems like there’s a problem ahead, and insiders like you, Warren Buffett, and Tsai are warning us. How can we believe you’re right and that the markets, which are not showing signs of distress, are wrong?
Sean Peche:
I think the markets are starting to show signs. I quite like charts because they help me work out supply and demand. Look at the S&P 500 — there’s a double top.
Alec Hogg:
Let’s pause for a second. Some people might not understand what the S&P 500 is. What is that?
Sean Peche:
The S&P 500 is an index of the largest companies in the U.S. by market capitalisation.
Alec Hogg:
By what measure?
Sean Peche:
Market cap — which is the share price multiplied by the number of shares. It represents the value of the company.
Alec Hogg:
So, you’re talking about the 500 most valuable companies on the American stock market, which make up the S&P 500?
Sean Peche:
Exactly. That index is showing that the stock market, or those share prices, are expensive and running out of demand.
Alec Hogg:
Why do you think that?
Sean Peche:
Because big players like Warren Buffett are selling Apple, and we don’t know how much more he’s sold until the next results. If there was a massive upside, he wouldn’t be selling.
Alec Hogg:
Apple is struggling to grow because they’re already making hundreds of billions in net income. It’s hard for companies like that to grow further, right?
Sean Peche: Exactly. Companies like Nvidia — their largest customers, Apple, Microsoft, Meta — are all developing their own chips so they don’t have to pay Nvidia’s high prices.
Alec Hogg:
People are talking about Nvidia a lot. What exactly is Nvidia?
Sean Peche:
Nvidia is a chip manufacturer, currently valued at around $3 trillion, trading at 36 times sales. To put that in perspective, if they had no costs, taxes, and paid all earnings as dividends, it would take you 36 years to get your money back. No sensible businessperson would pay 36 times sales for a business.
Alec Hogg:
That’s a huge number. Are we in a frenzy right now?
Sean Peche:
Yes, this frenzy has built up to a point where I think the market is running out of demand. The value index hit a new high last month, but growth didn’t.
Alec Hogg:
Okay, but the average person isn’t familiar with all this terminology. What could happen to someone who has their money invested in American shares? How much could they lose?
Sean Peche:
It’s hard to give an exact answer, but what I’m saying is there’s no safety in familiar names. If you bought Nike or Estee Lauder thinking they were safe, you’ve lost 40% to 70% over the past few years. Familiarity doesn’t equal safety.
Alec Hogg:
But Sean, you’ve been in this market for a long time. Make it simple for us. I’ve got $100 invested in the American stock market — what could that fall to, or rise to, on average?
Sean Peche:
That’s a tough question, Alec. There’s no exact figure, but there’s no safety in big names anymore. Nike could be overtaken by other brands. The world is constantly changing.
Alec Hogg:
You mentioned Baidu earlier. How does that compare to Tesla, for example?
Sean Peche:
Baidu is basically the Chinese equivalent of Google. Their robotaxi business is so advanced that Tesla has licensed their technology for use in China. But here’s the difference — Tesla trades at crazy numbers, while Baidu is trading at less than 10 times earnings, with half its market cap in cash.
Alec Hogg:
How much cheaper is Baidu compared to Tesla?
Sean Peche:
Baidu is about a tenth of the price of Tesla. The reason? Nobody wants to buy Chinese stocks right now, which is why there’s an opportunity.
Alec Hogg:
But isn’t that risky? Shouldn’t investors stay where it’s safe, like American stocks?
Sean Peche:
That’s the thing. If you want value, you have to go where others aren’t looking. It’s like buying property in winter when nobody’s shopping, versus peak season when everyone is bidding.
Alec Hogg:
Explain quantitative easing for us — you mentioned it earlier.
Sean Peche:
Quantitative easing is when central banks inject money into the economy by buying bonds. This lowers interest rates and increases the money supply.
Alec Hogg:
So the money that was pumped into the system during quantitative easing is no longer being created, and that has consequences?
Sean Peche:
Yes. The markets have inflated to these levels, and now they have to come back down to earth.
Alec Hogg:
How can we be sure everyone doesn’t already know this information?
Sean Peche:
Smart money is already heading for the exits. That’s why value stocks have been outperforming recently. It suggests a shift is happening.
Alec Hogg:
So why isn’t the public being told this?
Sean Peche:
Warren Buffett’s advice to be “fearful when others are greedy” applies here. Sometimes, you have to do what feels difficult, like moving out of popular stocks.
Alec Hogg:
Intel is a great example. It’s been at the same share price since 1997, even though it seemed unbeatable back then.
Sean Peche:
Exactly. The market changes, and you have to be careful. Sometimes, the safest-looking investment can be the riskiest.
Alec Hogg:
What’s the lesson here?
Sean Peche:
There’s a famous trader, Jesse Livermore, who once said, “Sell down to the sleeping position.” Meaning, invest in a way that allows you to sleep at night. You have to be able to stomach some losses.
Alec Hogg:
Lastly, do you think Trump’s potential loss in the upcoming election is a risk?
Sean Peche:
Definitely. If Trump loses, he won’t take it lying down. The U.S. is divided, and with 400 million guns, it’s a concern. Why would you want to have 70% of your money there?
Alec Hogg:
Not to be dramatic, right?
Sean Peche:
Exactly, but it’s worth considering.
Alec Hogg:
Sean, before we go to the questions from the tribe, just help me a little bit with the bottom line of all this information you’ve absorbed. Remember, Sean started and runs his own business. Sy started and runs his own business. Pitt started and runs his own business. They don’t answer to boards of directors or marketing committees that tell them to go and tell a particular story. They only answer to the people they serve, just as we do. So, now, bottom line it for us—what should a man on the street investor do? Apart from giving their money to you, they might want to keep some for themselves because they’re feeling a bit nervous about what’s happened over the last 15 years. How should they spread the risk of their investments?
Sean Peche:
Well, I think you saw from the charts up there, mid-cap value is underloved. What is mid-cap value? Well, mid-sized companies. The challenge for individual investors is that many of these companies you probably wouldn’t have heard of. But emerging markets are also out of favor.
Alec Hogg:
What is emerging markets? Places like Hong Kong?
Sean Peche:
Well, actually, Hong Kong is a developed market, but many Chinese companies are listed there. Hong Kong is very out of favor. Brazil and South Africa are out of favor. Everyone just wants to pour money into the Microsofts of the world. But you don’t have to go there. For example, ABN AMRO is in our top 10. I’ve mentioned it before, but yesterday, UniCredit announced that it had acquired a stake in Commerzbank. Suddenly, everyone is saying, “Oh, these European banks are trying to merge and acquire each other.” ABN AMRO could be a target. Deutsche Bank has looked at ABN AMRO before.
It has an 8% dividend yield and trades at six times earnings, which means if the stock price doesn’t do anything, you’ll still get 8%. That beats inflation just from the dividend. If earnings grow, and it’s trading at six times earnings, it’s not unreasonable for it to go up to book value—meaning if the company shut up shop and collected all its receivables, you’d get 100, but right now you’re paying 60 for that 100.
Alec Hogg:
So you’re buying a dollar’s worth of value for 60 cents?
Sean Peche:
Correct. If it goes back to book value, you make 40 on 60, which is a 60% return. Now, I’m not suggesting you’ll make 60%, but there is upside there. You don’t have to take risks with companies like Nvidia, which don’t pay any dividends. Rob Hersov says, “Buy Bitcoin,” but Bitcoin has gone lower. I’m not going to get an 8% dividend from Bitcoin, but I can get it from ABN AMRO.
Alec Hogg:
Wietze Post asks: Sean, what are the chances of the whole U.S. market correcting by 50% within the next 12 months? Can investors sleep well for a while longer?
Sean Peche:
I don’t know the answer to that—no one does. Can you sleep well? I wouldn’t sleep well with 70% of my money in the U.S.
Alec Hogg:
So how much money in the U.S. market would help you sleep well?
Sean Peche:
We have just under 20%, largely in supermarkets.
Alec Hogg:
You mean like Beck and Pace?
Sean Peche:
Supermarkets like Kroger and Albertsons. Even if the world goes into chaos, people still need to eat. We also own companies like Skechers, which is a mid-cap and a great business run by excellent management.
Alec Hogg:
And Molson Coors?
Sean Peche:
Yes, we own Molson Coors. It’s a well-run business. One of the problems in the U.S. is that you have incredibly greedy management. For example, Big Lots, a large furniture store, did fabulously well for years. However, its CEO has been paying himself $9 million a year, even as sales, same-store sales, operating income, and net income have all fallen over the last three years. Yet, they still took $9 million. Recently, they warned of a “going concern” crisis, meaning they might not survive the next year. Then, just days later, the CEO was given a $3 million retention bonus. It’s absurd.
Alec Hogg:
So, the CEO drove the business into the ground, but got a $3 million payout?
Sean Peche:
Yes, it’s disgraceful. Meanwhile, they’re closing 20% of their stores and laying off thousands of workers. This type of management greed is rampant. Nvidia, for example, bought back shares, but two-thirds of those shares were newly issued stock options given to employees. So, while they bought back shares, they effectively just issued new ones.
Alec Hogg:
It sounds like a bit of a shell game.
Sean Peche:
Yes, and investors value these companies on free cash flow, but they overlook the cost of stock-based compensation. So, when companies like Nvidia buy back stock, they’re essentially buying it back from employees, not returning cash to shareholders. Technology companies are much more expensive than people realize because of this. In Europe, you don’t see the same level of management greed. Boards there tend to keep CEO compensation in check.
Alec Hogg:
It’s really eye-opening listening to you, Sean. Some years ago, I interviewed the CEO of a South African bank who said stock options don’t cost anyone anything. Of course, we know better now—they dilute shareholders.
Sean Peche:
Exactly. You’re dividing the company among more shares.
Alec Hogg:
Michael asks: Given your comments on the U.S., would you avoid investing in U.S. mid-caps?
Sean Peche:
It depends on the mid-caps. For example, I wouldn’t buy any regional banks or over-leveraged utilities. But Skechers is a mid-cap that we like, and Molson Coors is another one. You have to be selective.
Alec Hogg:
Tell us more about Molson Coors.
Sean Peche:
When SAB Miller was acquired by AB InBev, Molson Coors was able to buy the part of the joint venture in the U.S. that it didn’t own. They did this using debt, and have since used cash flow to pay it down. They’ve been very savvy with their finances.
Then last year, there was a marketing mess with Budweiser’s “woke” campaign, which led many Republicans to boycott Bud Light. That benefited Molson Coors’ products like Coors Light and Miller Lite, helping them gain market share. They’ve reinvested profits into marketing and have continued to grow. We like the management team—they’re astute, and it’s a well-run business.
Beer is also more insulated from private-label competition. People might buy generic pasta or cereal, but they’re less likely to buy generic beer. Plus, the company is run by a South African management team that came from SAB.
Alec Hogg:
It’s clear they’re making smart moves. It’s interesting to hear that Peroni is now being bottled locally in the U.S.
Sean Peche:
Yes, they used to import Peroni, but with supply chain issues, they’ve started producing it locally. That’s a great example of using profits wisely to gain an advantage. This is the kind of business we like—stable, with growth potential.
Alec Hogg:
Sean, you’ve certainly given us a lot to think about. Piet Louw says: Sean, you’re scaring us. Should we take profits and stuff our cash into sofas?
Sean Peche:
Well, Piet, come on now! It depends on how exposed you are. If you’re that nervous, it suggests you’re not diversified. One bit of advice I got from Leon Kamfer when I was starting out was to always leave some money on the table for the next person. It’s okay to take profits early and let someone else chase the last 10%. That’s how you manage risk.
Alec Hogg:
Leon Kamfer—what a wise man! He also told me to guard against two things in business: arrogance and complacency.
Sean Peche:
Absolutely. He was a great mentor. I’ve always remembered his advice.
Alec Hogg:
Final question from Wietze: Sean, about GM and Stellantis’ CEOs, Mary Barra and Carlos Tavares—they’re giving themselves multimillion-dollar pay increases while dealers are struggling to sell vehicles. What do you make of that?
Sean Peche:
I don’t know the specifics of those companies since we don’t own them, but it goes back to what I said earlier about executive compensation in the U.S.—it’s out of control. It’s hard to understand how boards approve these pay packages, especially in tough industries like autos. If I were a union leader negotiating right now, I’d have a hard time accepting layoffs while the CEO gives themselves a raise.
Alec Hogg:
Thanks, Sean. That was great fun.
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