Transcript
0:00 Do I think the US should have a recession now? I don't think so. You know, one comprehensive measure is is how much debt has been borrowed. US companies have not borrowed a lot of money. It's been expensive, too. And they have and the the debt that they have is low cost cuz they locked it in. US households are under-levered. A measure is called the debt service ratio by the Federal Reserve. It's at roughly 10% of disposable income. Past recession peaks, meaning when leverage gets too high, it gets towards 14 or 16%. So, consumers could borrow a lot of money.
0:32 The only part of the economy that's over-levered is the US government. But the US government has never triggered a recession because they had too much debt. They could trigger a currency collapse, but not a recession. To all the viewers in the United States, Korea, and around the world, welcome to Global Money Talk by Sam Pyo TV.
1:08 I'm your host, Dan Ha. Our guest today is Tom Lee, managing partner and head of research at Fundstrat Global Advisors. Tom is known for his market calls. He is closely followed by institutions and individuals alike. When Tom speaks, people listen. It is my great pleasure to bring you this conversation with Tom Lee. Tom, thank you. Great to be here. So, I like to start by asking you to please tell us a little bit about how you do what you do. And what I mean by that is the process by which you reach an investment conclusion. For example, to get a long-term S&P target, you know, you project earnings per share out multiple years, throw on whatever you think the right appropriate multiple is, and that's how you can get long-term S&P target. But you also make short-term calls. Like this month you think S&P might pull back 10%.
2:09 So, help us take a peek inside your mental framework. how you the things that you consider, the things that you synthesize, and get to these conclusions, both long-term conclusions and short-term conclusions. yeah, I mean, that's that's a very involved answer because it really involves a lot of the first principles that we use at Fundstrat. But I'd say if I was to give you a more summary form, there's a lot of things we consider. One of the first things that we keep in the back of our minds is that the equity market is the junior piece of the capital structure, which means that stocks respond to economic data and to bonds and to risk, and therefore all of that ends up affecting how the stock market does. So, we don't look at the stock market as the tail wagging the dog. It is the tail of the capital structure.
3:07 And a second principle we always keep in the back of our minds is that consensus tends to be risk-averse and crowded. So, meaning what is a widely held view and might even be the most logical is probably also the most logical for most people, and therefore it's not actionable. So, we try to think about where the variance or the surprise would occur relative to consensus. And often it makes you come to a counterintuitive conclusion. That process would make you bullish in the midst of a sell-off. and it would make you bearish at the top. The third thing that we always keep in the back of our minds is that there are longer-term drivers of markets, and I think the most underappreciated is demographics.
3:53 That demographics are more important than even economic policy. And it's something I learned when I was a wireless analyst. You know, before I be became a strategist in 2007, I'd spent the prior 14 years of my career as a technology analyst covering the wireless industry. And one of the things I learned was that the potential of the wireless industry was underestimated by most people because they didn't think about the demographic impact. That if 18-year-olds had a adoption rate of 100%, like you could see it in Korea in the early days, that meant that as they became 40 and 50-year-olds, the penetration rate of older adults would get to 100%. That means wireless would grow vastly over time because of this demographic impact. We found that the stock market really follows very closely the demographic cycles of people aged 30 to 50. And that's kept us bullish since 2009 cuz that's when that demographic actually bottomed. And the fourth principle we have is that you can't fight the Fed.
5:01 So, in 90% of the instances when the Fed is dovish, you have to be bullish, and when the Fed is hawkish, you have to be bearish. But 2022 and 2023 was really the exception because in late 2022, the Fed had to be hawkish optically, but actually they were they had turned dovish. That's the reason we had turned bullish at, you know, and stayed bullish in 2023 because even though the Fed was explicitly hawkish, they were actually dovish. but that's I would say those four principles govern almost 80% of how we view markets.
5:39 Got it. As a sell-side analyst, a strategist, you have to put a number out. you know, S&P 500 6,000 by by end of the year. but the reality is that the future, as we sit here today, is a range of a range of possible outcomes. So, how do you balance that when you advise your your clients? It is very tricky to actually have what we'd call a price target because you're picking both a level for the markets and then a time frame. And so, you're trying to get two things correct.
6:20 And it's especially difficult knowing that there's there's really never equilibrium. It's not like the stock market >> Right. cashes you out at the end of 2024, but we're still trying to figure out where the market level would end up being. Most people who follow and forecast markets tend to do what you just described, which is they give you three or four scenarios, and they'll say, "Well, there's a 20% chance this happens, and a 40% chance this happens, and a 20% chance this happens, and so my average target is this." Right. I think the flaw in that is that you're now you're now trying to pre- assign precision and probability to three different events, and I don't think our clients want that because it's confusing. So, we tend to stick with a single number.
7:10 And the way we develop that single number is everything you've described. We look at what could the PE be, what could the earnings power be, where could the surprise come from, how much will liquidity matter, and how much would risk appetite matter. And sometimes risk appetite is the most important thing, sometimes earnings. And then we actually have to use judgment to to decide which one's the most important and come up with a single number. So, I would say our targets aren't science, but it's where we're the most confident that that's the most probable path. And it's a process we've been doing since 2009, actually since 2008, and it's it's actually worked pretty well. I know when I was at JP Morgan, for the first 6 years, we had identified the closing price for the S&P five of the six years within 1%. Mhm.
8:06 Now, it's not that accurate anymore, but you know, in the beginning it it the process worked well for us. Why is it not accurate anymore? Well, we're directionally correct most of the time. But an example is at the start of this year we thought the S&P could get to 5200. >> Mhm. But that was in December 15% upside. But the not only was the stock market strong in December, we always establish the target in early December. Not only did last year, December 2023, the market rise a lot in December, but it was strong in the first half. So, 5200 won't work as a target as a static target cuz that's a 13-month target. But it's directionally correct cuz at the time 5200 was the most bullish view.
8:51 >> Mhm. Got it. As you mentioned, you started out as an equity equity research analyst covering telecom and tech, then bankruptcies and small cap, then became a strategist. How have you evolved? you know, your process, your your mental models, how you think about forecasting and risk, they must have evolved over time for you. And what were the pivotal moments in that evolution? Mhm.
9:23 Well, you know, I think a lot of life lessons that I live are actually life lessons for markets. Okay. >> I went to a business school undergraduate. I went to Wharton as an undergraduate and graduated, and my first job coming out of college was at Kidder, Peabody, which was a stock research firm. And I was very fortunate to have been assigned when you get a job in research, you don't pick the sector, but I was assigned to the wireless industry, which in 19 in the early '90s, it was in its infancy.
10:01 There were only 34 million cell phones in the early '90s, and today there's 7 billion. So, you can imagine that that is a hyper-growth industry that has grown faster than even the internet. The few things I learned in wireless was I think pivotal to how I view markets. I mean, first foremost, the wireless industry didn't generate money. The industry was always borrowing money. And so, we had to develop a way to actually value the stocks, the equities, without earnings. And for most of my first, let's say, decade of that career, most people I met would say, "Tom, the wireless industry is worth zero cuz they don't make money."
10:44 But, we'd always be like, "Well, how what is the value of their subscribers or the spectrum they own because they aren't capitalized on the balance sheet?" And eventually, they make money, but they have to spend marketing dollars to acquire the customers and build a networks. So, it was really during that period that I learned a couple of things. One was that you can follow what the bond market is doing to know if there'll be moves in the stock. So, I learned to call our high-yield desk every day and ask them the levels of different companies and were they trading better. And of course, if a bond started to trade well, then that meant that the bond market sensed something was improving, and therefore the stock would react. And so, that was very helpful that, and it really taught me to look at stocks as the junior piece of the capital structure. Whatever bonds are doing, stocks will follow.
11:39 Another thing I learned was how important the intangible value of an equity is because in in the wireless industry, they had to front-load the cost of building the network and then acquiring a customer. So, they didn't make money until 1 or 2 years later. And that's the wireless industry operated as what you'd call a long-term greedy business. They weren't trying to make money in the short term, but all the investment they were making created value in the future. I mean, that's today pretty widely accepted as the the lifetime revenue of a customer, or we call it long-term greedy. And that's, you know, a life lesson that you really shouldn't try to maximize how much money you make now. It's more important how much money you make over the cycle, and that's how we look at the equity markets.
12:22 I think the third thing that really puzzled people was that when I was a wireless analyst, and I became pretty well known as a wireless analyst. In fact, I became institutional investor ranked only 2 years after starting coverage of the stocks, which which made me at I know at Smith Barney, I was one of the youngest managing directors. I was 28 when when I became a managing director there. And I was very very fortunate to pick stocks almost at the bottom.
12:55 And and people always ask me. And so, I had some very famous bottom calls. One was Western Wireless, which I upgraded at $1.76 the day of the low, and it was acquired by Alltel 18 months later for $40. Wow. And I upgraded Alamosa Holdings, which is a Sprint PCS affiliate, at 37 cents, and it got bought by Sprint for $22. So, these were hundreds of times returns on investment for stock upgrades. And people ask me, "How am I picking bottoms in stocks?" And what I have shared with my friends, but never shared with my clients, was that the stocks I would upgrade was based on me talking to all of my clients. And you know, at the time I might have have 70 or 80 clients. So, it wasn't hard to talk to everybody.
13:50 And the ones that they were the most bearish on were the ones that I would upgrade. And the ones that they were the most bullish on were the ones that I didn't think would work. And it's an example of how consensus gets crowded. So, I I use those same principles today when looking at markets. So, for instance, we found that when people panic about inflation, and I have a chart that we share with our clients, but it's happened five times since October 2022, when inflation expectations hit 4.3% 1 year forward, it has always marked a tactical low for the stock market because people get overly worried about inflation. So, there's a lot of signal that still comes out of realizing what becomes crowded.
14:37 Got it. What was your worst call? And what did you learn from that? Well, I've had many tough calls. I'd say the two that I always think about in the back of my mind, one was from 2004. And it's it was a long-running story arc, but in 2004, I turned negative on a a wireless company called Nextel. And at the time, we were doing a lot of analysis of balance sheet quality and the quality of customers.
15:15 And what we found was that we thought that this company's subscriber base wasn't as high quality as they claimed because of changing policies around churn and the way they capitalized certain items. And so, we put a a sell rating on the stock. And it became a very public battle with this this the management of that company because they viewed us as hostile to them, naturally, cuz we had a sell rating. And they were also a big investment banking client of the firm I was working at. So, I was getting a lot of pressure to say favorable things about them. And and a lot of my clients actually turned on us because they were angry that we weren't recommending a stock that they owned.
15:59 But, so, we stuck with our negative rating. Eventually, the company was acquired by another company, and it turns out many of the things that we thought were quality issues basically came to light, and and the acquirer almost imploded because of that. So, in the years afterwards, so many of my hedge fund clients said, "Tom, you nailed that call. I can't believe that you you saw these things before anyone else did." Yet, to me, it was a huge loss because we had so much damage to our relationships. You know, people were so they hated us for years that we didn't recommend a stock that they owned that I was like, "Hm, you know, like having a sell rating, it it it's tough because you don't you you end up making enemies. And if you're right, they're not going to say thanks cuz cuz they lost money on a stock. So, I learned that it's very tough for investors to accept this idea that someone's trying to make you money.
17:02 Like, our business is to try to make our clients money. We're not trying to be right. so, that to me was very eye-opening. And I'd say that the the second thing that sticks in my mind as being wrong. And you know, we've been wrong a lot. We're we're going to be wrong a lot just because you can't get every call right. >> Sure. But, I would say that it was really early 2022 that I regret not paying more attention to Mark Newton, who is our technician.
17:31 So, at at my company, we have different silos of expertise. So, I do macro research, which is fundamental analysis. We have Mark Newton, who does technical research, and he does cycle work, and it's very involved. You know, he looks at so many different chart type models, whether it's DeMark's or stochastics or Fibonacci's or even other longer-term cycles, liquidity cycles. We have a policy strategist, and we have a crypto strategist named Sean Farrell.
18:05 Well, in 2022, Mark had warned me. He's like, "Tom, the market is gotten really weak." So, at the start of 2020, he said, "It is a really thin market, and it's very tenuous." And so, he thought we would be down more than 10% in the first half. And we were cautious in the first half of 2022, but we didn't think we thought if you were down 10, you'd buy that. but he was adamant. And of course, we fell more than 10%, and Mark was still bearish. And he turned less bearish around August, which of 2022, which was the market's internal bottom. So, that really taught me, and this only happened a couple years ago, that, you know, liquidity and technicals, they can be so variant from what is common perception that you have to pay attention. So, you know, subsequent to that, Mark and I work really closely. And and I always like, "Mark, just you got to warn me. Next time you think there's a big drawdown coming, we should spend a lot of time figuring that out." And so, of course, that's what we do.
19:08 Got it.