Dear Valued Clients and Friends,
As promised, today’s Dividend Cafe is dedicated to the major takeaways from last week’s annual “money manager week” here in New York City. I’ll keep the trips down memory lane to a bare minimum and pretty much get right to the point (or points). I am quite confident that the major takeaways are relevant to all investors and that there is important information in all of this for everyone. But I do want to “set the table” a bit, and there is one point of extraction that I am more animated by this year than normal. I want to tell you what the brightest minds on Wall Street have to say is keeping them up at night. The answers may surprise you. Let’s jump in to the Dividend Cafe …
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What is This “Money Manager Week” You Speak of?
Please indulge me for one brief paragraph if you have been a client for a while and already know the context, or if you have already read the history in a past Dividend Cafe. We have enough new subscribers that it is only fair to quickly explain what I am talking about. In 2006, I was running a growing and successful advisory practice at UBS and continually fine-tuning my asset allocation and manager selection practices. I set up a trip to come visit some NY-area clients and to visit a few money managers I either worked with or was considering working with. I had moved to Morgan Stanley in early 2007, but in October of that year I did it again. Then, in 2008, I did it right in the very midst of the financial crisis, and I felt like the world would never be the same (I was right). By 2009, I was meeting with some of the hedge funds in ground zero of the GFC, and I felt like these meetings were not only informing my portfolio allocation decisions for clients, but giving me access and proximity to information that I could not imagine going without. We have not missed a year since 2006, and we’re committed to never missing one. Over the years, the size and scope of the meetings have changed, the depth of the managers involved has evolved, and TBG’s own presence has changed (as we now come in with the three voting members of our Investment Committee to each meeting, and often have other members of our investment team with us, as well). We have mixed in meetings with Federal Reserve chairmen over the years (both Ben Bernanke and Jerome Powell, in various past years). And we essentially allow the week to challenge our own views, to vet managers we work with, and to scrutinize decisions we are making as asset allocators on behalf of our clients. I know I speak for Brian and Kenny when I say that it is one of the most valuable weeks of the year, and because we actually have this stuff running through our veins, it is about as much fun as one can imagine.
So that is the one-paragraph history. For those interested, in chapter four of my Crisis of Responsibility book, I tell the story of when I got “surrounded” by a group of Occupy Wall Street “peaceful protestors” on the pier in Jersey City walking to a credit manager’s office. Good times.
This Year
We manage U.S. equity at our firm “in-house” as it pertains to the dividend growth portfolio that represents just over half of the total assets we manage. We use an outside manager for taxable “boring bonds” and a different manager for tax-free “boring bonds.” We use a wide array of alternative asset managers in private markets (direct lending, structured credit, private equity, private credit, venture capital, etc.). Inside our dividend growth portfolio, we use an active ETF of a midstream energy manager we have partnered with for nearly 20 years. In our Growth Enhancement and Income Enhancement portfolios, there are various vehicles and strategies that utilize (or have utilized) outside managers. And naturally, we are often looking for new ideas and strategies, too. So this year, all-in, we had 29 meetings from Monday through Friday, covering all sorts of alternative, fixed income, real estate, specialized equity, and credit asset classes.
I want to say that the wonky, boring, jargon-filled, unsanitized notes from the week are available for those who request them. My goal here in the Dividend Cafe today is to avoid telling you what a particular structured credit manager sees happening with A-rated CMBS credit spreads and instead focus on the major macro takeaways of our week.
Last Year: A Lesson about How Mutual Funds Work
We had used a really successful small-cap growth manager inside our Growth Enhancement portfolio for many years, a manager who had a repeatable, successful process for finding > market growth in small and mid-cap companies and investing for bottom-up fundamental growth dynamics that worked extremely well for this manager and its clients from 1990-2024 or so. This is not to say they outperformed their benchmark every year in that time frame, but it is to say that, in aggregate, they had compounded capital far, far better than their peers and passive benchmarks. Out of our 2025 meetings, we ended up terminating this manager relationship after what had been a decade-long relationship and decided to take the bulk of the Growth Enhancement management in-house. Was it because this manager had a bad year or two? Absolutely not. The decision reflected a structural reality that many, many managers have positions that they are up 10-20x on over two or three decades, yet when the story or narrative or thesis changes, they can’t sell due to the tax ramifications for their fund investors. Mutual funds share current gains amongst all current investors if the gains were largely from the past. This structural tax inefficiency is problematic enough, but when it leads to a manager entering cognitive dissonance (“no, we’re not keeping the position because of tax ramifications – we really do believe it will continue to grow revenue like it did in the 1990’s”) – that kind of denial is a reality of human nature that even billionaires are susceptible to. I recognize that many advisors consider their burden of due diligence to be limited to “seeing how a strategy just got done performing,” but you will forgive me if I find that unpersuasive and lazy. The point of real due diligence is to hear for ourselves what managers are saying about what is going on and why, and often times, it is to believe them, even if we wish they were lying.
Last year’s major takeaway was that very, very good growth managers could be victims of their own past success, and we as fiduciaries needed to work around that reality for our clients.
This Year: When Someone Breaks Your Heart
I have five or six takeaways to share succinctly in a moment, but I want to hone in on the most extraordinary part of this year’s meetings. For those who do not know, the emerging markets equity asset class had a simply extraordinary decade in my first ten years in the business. Not only was there a true economic tailwind in the “BRIC” countries (Brazil, Russia, India, and China), but perpetual dollar weakness that decade also provided an additional currency lift to many non-dollar-denominated stocks worldwide, particularly in emerging economies where economic growth was most pronounced. A commodity super-cycle was another tailwind, as many of these countries built economic opportunity by becoming exporters of commodities in which they had a competitive advantage. It was a phenomenal decade for EM investors (2000-2007) for a variety of reasons.
After the financial crisis, I met a money manager who ran one of the most successful EM portfolios in the world. He was philosophical, convicting, intelligent, and disciplined. His belief system was more or less that:
- Investing in Emerging Markets “top down” made no sense. Individual companies presented opportunities, not “Brazil” or “Vietnam”
- That exposure to emerging markets the way most were doing it was, essentially, a leveraged play on global cyclicality. One could easily buy that theme with a lot less risk if they wanted to. They didn’t need to invite the currency risk and geopolitical risk of emerging markets on themselves if all they wanted was global cyclicality.
- To optimize returns in the space, one should be focused on superior growth of earnings relative to invested capital, where there was a margin of safety and reasonable valuation, and where the tailwinds were attractive. He loathed “what everyone else was doing” and believed strongly in the story of a third-world consumer coming into their own.
The results spoke for themselves, and his absolute and relative performance was remarkable, so remarkable, in fact, that he left the firm where he had worked his whole career and started his own firm. He raised nearly a couple hundred billion dollars and became one of the most successful PM’s in a long-only structure I have ever met.
We have worked with his new(er) EM fund for several years now, and I have held fast to much of what he taught me nearly 20 years ago for a long time.
This year, he sat down in front of us and explained that he had picked three semiconductor stocks to become the vast majority of his emerging markets portfolio: Taiwan Semiconductor, Samsung, and SK Hynix. A year ago, he wrote a white paper about the chip cycle fallacy, the imminent decline of growth rates for AI capex, the vulnerabilities in the revenue model, and the contrarian case for resisting the crowd on this whole narrative. Now, he has essentially decided that waiting for it to play out is not worth it, and that he will sink or swim with the crowd on this story. In August, after the semiconductor story got hammered in July, he loaded up – like, tens of billions of dollars worth – on just a few companies (in his U.S. and global portfolios he added other familiar hyperscalers and pick-and-shovel names to the mix).
When I recited his own arguments and walked through various risks of funding, valuation, and economics to him, he did not deny any of what he said. In fact, he said, “That is, we have to hold these views lightly.” In other words, they don’t have a ton of conviction on it – they “hold it lightly” … But then added, “but we express this aggressively.”
I dropped my pen, and my jaw.
Lightly held views expressed aggressively do not work for us. In fairness, most managers would never articulate that contradiction out loud. But I bring all this up to say that money managers can be wrong, even the best of them. When a money manager is wrong, they should change. I did not drop my pen because a manager changed his mind on something. I have changed my mind on plenty of things. We are not talking about “teachability” or “flexibility” here. We are talking about conviction, discipline, and a belief system. I saw this in the 2014-2016 time period with a couple of very high-profile hedge fund managers who had seemingly gone off the reservation. They were worth many billions personally, had had some bad years, and now felt the thing to do was to go really, really deep into a particular trade or theme that was far outside their normal process and belief system. If it worked, they were back to where they were, and they were a genius again; if it didn’t, they were still a billionaire. I am sorry, but client moneys cannot be presumed to share the same sociological or existential objectives of every sociopathic hedge fund manager out there.
This particular EM manager may or may not really believe in what he is doing right now, and I hope it all works out for him. But we do not believe in it, and we do not believe in what we think are the reasons behind it. Lagging your peer group for a period because you are not in a popular investment trade is the experience of every successful money manager who has ever lived. Having aggressively held views that are expressed lightly can make a lot of prudent sense.
But “lightly held views expressed aggressively”? It is time for us to move on.
Various Takeaways from the Week
In no particular order …
- This was the most acrimonious I have seen managers be about competitors in 21 years. Feigned cordiality was not on the table much. It may speak to the drama and pressure amongst alternative managers, or the tension in all investment markets, or some other new dynamic, but gloves are off in the way people talk about each other. For whatever that is worth …
- I am confident I have never seen this high of dispersion amongst managers in various points of view. From “the AI bubble is nasty” to “back up the truck for AI” – or “loan defaults are barely noticeable” to “the credit cycle is entering Armageddon” – the contrast in points of view across various controversial and noteworthy investment topics was stark.
- I do not know why it was not more evident to me in September, but it is as clear as day now that what drove the September AI and AI-adjacent rally was the managers who were not in or who were underweight before the July bloodbath, using that dip as a second invite to the party. A “FOMO” rally on a dip from those who had previously MO’d. Classic late cycle behavior? Probably. But this was profound “I won’t miss out again” buying. And I believe history has been clear how those things end.
- Blackstone has the most leverage to the AI/data center story in our portfolio, not a tech company. The thesis we have but must continually question is how much the bias is to their selectivity, execution, and discernment in the space versus the beta of the space. That same process and questioning can be done with any number of companies but the point is the same: Is the thesis about “AI beta” or is it about an edge that a particular company has in deal flow, credit terms, and strategic execution.
- There is no scenario where disappointment or re-pricing in the AI story will not be a systemic event. The “adjacence” is now very democratic, and the economic exposure and market exposure (equity and debt) is exponentially higher than it was a year ago, and than it was during the tech boom of the 1990’s.
- Consistency of process and accountability to a real belief system matter, even if short-term market outcomes don’t cooperate. Sacrificing the former because of the nuisances of the latter are unacceptable and always will be. See the prior section.
Chart of the Week
I will try and let these charts speak for themselves without further editorializing.
Quote of the Week
“You ask me to say what you should consider it particularly important to avoid. My answer is this: a mass crowd. It is something to which you cannot entrust yourself yet without risk… Associating with people in large numbers is actually harmful: there is not one of them that will not make some vice or other attractive to us, or leave us carrying the imprint of it or bedaubed all unawares with it.”
~ Seneca
More to Chew on
- Government ownership dashboard – worth bookmarking!
- Producer Prices grow at the fastest pace in four years
- One of these days there will be a story about this subject that isn’t gross
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I have not decided what I will write about next week yet, but I have decided this: All our views will be held and expressed with the right diligence and prudence. To that end, we work.
With regards,
David L. Bahnsen
Managing Partner, CIO
The Bahnsen Group
thebahnsengroup.com
This week’s Dividend Cafe features research from S&P, Baird, Barclays, Goldman Sachs, and the IRN research platform of FactSet
