Episode #342: Aaron Edelheit, Mindset Capital, “The Best Investors Are Those That View It As A Game”

August 23, 2021

Episode #342: Aaron Edelheit, Mindset Capital, “The Best Investors Are Those That View It As A Game”

Guest: Aaron Edelheit is the CEO and Founder of Mindset Capital, a private investment firm. In his previous role as CEO of The American Home, Aaron founded and grew a company from 16 rental homes to one that owned 2,500 single family rental homes and was sold in April 2015 to a publicly traded Real Estate Investment Trust. Aaron also founded and ran a successful money management firm, Sabre Value Management from 1998 to 2011. In 2018, Aaron released his first book, The Hard Break: The Case for a 24/6 Lifestyle.

Date Recorded: 8/11/2021 | Run-Time: 1:20:18

Summary: In today’s episode, we start with Aaron’s time as the CEO of The American Home, a company he grew to over 2,500 single-family rental homes and sold in 2015 to a REIT for over $250 million. He explains why that experience has led him to be bullish on Mexican homebuilders and why he thinks one specific homebuilder is the most undervalued company in North America. Then we turn to why Aaron thinks it’s helpful for investors to play video games and why he thinks Nintendo is undervalued.

As we wind down, we touch on the cannabis space and why Aaron is bullish on the sector.

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Links from the Episode:

0:40 – Sponsor: The Idea Farm
1:25 – Intro
2:20 – Welcome to our guest, Aaron Edelheit
4:29 – Aaron’s start in the real estate market
7:36 – Understanding the Mexican housing market
12:45 – Consorcio Ara and The Coming Mexican Housing Boom (Edelheit)
15:18 – Opportunities in the stock market right now
16:03 – Aaron’s Mexican homebuilders thesis
25:12 – Insights into the U.S. real estate market
29:30 – Aaron’s approach to portfolio construction
30:59 – Matching your investment style to your personality
33:03 – Playing Video Games Can Help You Level Up in Business and Investing (Edelheit)
36:30 – War Stories Over Board Games (Faber)
37:43 – Video games and investment strategy
39:50 – Aaron’s favorite video games
43:53 – What Aaron has learned from following Nintendo
45:57 – Aaron’s video game investment thesis
49:46 – Insights from the Nintendo Switch
52:10 – Aaron’s Substack Newsletter
53:04 – From skeptic to investor in the cannabis space
55:46 – Opportunities in the cannabis market
58:56 – Implications of the legal status of cannabis companies in the US
59:19 – Episode #274: Mitch Baruchowitz, Merida Capital Holdings
1:02:31 – The stigma around investing in cannabis
1:05:00 – Effects of the pandemic on the cannabis industry
1:08:05 – Why Aaron believes this is an incredible time to invest
1:09:08 – Aaron’s most memorable investment
1:13:16 – Lessons from failure
1:14:57 – Aaron’s qualitative and quantitative approach to selling
1:16:58 – Find Aaron on Twitter and Substack

Transcript of Episode 342:

Welcome Message: Welcome to the Meb Faber Show, where the focus is on helping you grow and preserve your wealth. Join us as we discuss the craft of investing and uncover new and profitable ideas, all to help you grow wealthier and wiser. Better investing starts here.

Disclaimer: Meb Faber is the co-founder and chief investment officer at Cambria Investment Management. Due to industry regulations, he will not discuss any of Cambria’s funds on this podcast. All opinions expressed by podcast participants are solely their own opinions and do not reflect the opinion of Cambria Investment Management or its affiliates. For more information, visit cambriainvestments.com.

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Meb: What’s up? What’s up, everybody? Another amazing show today. Our guest is the CEO of Mindset Capital, a private investing firm. On today’s show, we start with our guest time as the CEO of the American Home, a company he grew to over 2,500 single rental homes and sold it in 2015 to a REIT for over 250 million buckaroos. He explains why the experiences led him to be bullish on Mexican homebuilders and why he thinks one specific home builder is the most undervalued company in North America. We turn to why our guest thinks it’s helpful for investors to play video games and why he thinks Nintendo is undervalued. As we wind down, we touch on the cannabis space and why our guest is bullish on the sector. Please enjoy this episode with Mindset Capital’s Aaron Edelheit. Aaron, welcome to the show.

Aaron: Thank you so much for having me.

Meb: Where do we find you today?

Aaron: I’m in Santa Barbara, California.

Meb: And the home of world-class Mexican food, seafood. I even went to… God, what was this mashup during the pandemic? It’s like Australian-Indian right on Main Street. I had some great wine. World-class city. How long you been there?

Aaron: This is my second time here. I’ve been in the latest time six years. And you’re going to have to pry my dead, gold fingers from leaving Santa Barbara sign. There would have to be a pretty incredible reason for me to leave this time. The last time is I had met my wife, and then we moved to Atlanta. She went to grad school when I started this business. I had been buying foreclosed homes, fixing them up, renting them out, thinking, I don’t know, it might be a business.

Meb: The reason is my wife is a Emory Grad School.

Aaron: Yeah, that’s where she went. She went to Emory for public health, Rollins School of Public Health.

Meb: We can talk about that. We don’t need to out both of our wives on the show just yet.

Aaron: Yeah, yeah, that’s right.

Meb: So, we’ll talk about that afterwards. Santa Barbara, every time I go there, I think, “God, this place is just so…” The word that comes to mind is pleasant. It’s so nice. So, you’ve got it figured out, and it probably ties in with your book. We’re going to talk about I think the impetus for pinging you, I remember, I was like, “Dude, you got to come on the podcast, and let’s talk about Mexican housing stocks.” I don’t think I’ve ever used that intro with anyone before.

Aaron: Well, I’m so glad because, for some reason, nobody is talking about this. It’s a very unique thesis, but it actually bears out to why I moved to…one of the reasons we moved to Atlanta is I started buying as a side project, buying foreclosed homes, fixing them up, and renting them out.

Meb: Unpack that for me because if I had to think of what might be my all-time nightmare, it might be that as far as, like, how hard that might be, if I put in, like, the pain in the booty pile, because you started out doing stocks, sort of, turning millennium.

Aaron: That’s right.

Meb: But then, you got inspiration to do real estate. Walk us through that.

Aaron: Well, it was really in 2008. I started in 2008. And this friend came to me and he was like, “Hey, I’m buying homes, fixing them up, and renting them out.” I had actually never bought a home before 2008. I was a renter. All my money was in the stock market. I was running a small fund, a value-based fund. And he just needed, kind of, like a financial partner. But we’re not talking about large sums of money here, right? And so, we ended up buying four homes. And the last home we bought, and this was all in Charlotte, North Carolina, we bought a four-bedroom, two-bath home for $75,000. We put $10,000 into it and rented it for $1,000 a month. And I said to myself, “You know, those numbers work. But that doesn’t sound right.” And then, I just do a little bit of research and can quickly understand you can’t really build a suburban home for $75,000. So, I started looking deeper into it. And I didn’t fully understand the depths of the foreclosure crisis. If I had, if I had been doing this earlier, I might have been much more prepared in my stock portfolio.

But in March of 2009, I launched a little side partnership in literally 16 homes and raise $1.3 million homes to buy and renovate. And people would look at me like I had a third eyeball. Like, why would you buy homes? Don’t you know that the end is here. And I said, “I don’t…” And why just, like, $1 million? This sounds like an incredible headache. And I said to myself, “I don’t know. This may be a business.” And I’m very much a big believer in taking baby steps to try and understand an opportunity. And it wasn’t until, like, three, four years later, it was 2011, I found myself with 250 homes that I was renting on the side. And I had the small stock funds of, you know, $20, $25 million. And then, we had moved to Atlanta and I didn’t realize at the time, but I went on a tour with a realtor. And I realized that Atlanta was, like, one of the ground zero point of the foreclosure crisis, mainly because they let anyone and their mother open a bank, and everyone and their mother did. And they just had banks fail left and right.

Anyway, so, I looked at my competitive set, and I said, “Well, I can compete against the best and the brightest in the stock market or no one on the housing.” And so, I wound down my fund. And I said, “I’m going to make a go of it,” and ended up buying 2,500 single-family rentals, fixing them up, renting it. And then, in 2015, we sold the company in what was then the largest transaction of homes ever, since was eclipsed was $263 million. And there were a lot of ups and downs. It was not an easy thing. You’re right.

It helps to be really naive. And, also, when you’re paying such a low price, you can make a lot of mistakes before you lose money.

But to your point, you’re exactly right. But my investment thesis and why this relates to the Mexican housing market is my thesis was the U.S. cannot build 400,000 to 500,000 new homes and apartments every year for very long, or you’re going to have a massive housing shortage and eye-popping housing price increases. And so, everything that we’re seeing today, that the U.S. is seeing today, is a direct result of the U.S. underbuilding housing from 2009 to 2014. And we’re, kind of, paying the piper, unless you own your own home. And then, you’re, kind of, happy, or you have a bunch of real estate investments.

And the U.S. is struggling to keep up. And now building 1 million to 1.5 million homes. I can tell you that it would have been much better just to invest in a company than try to figure out the brain damage of doing it yourself and that there was a lot of brain damage involved in that. And so, imagine my surprise when we’re in the midst of this crazy housing market right now, a shortage of homes, crazy bidding wars, you know, eye-popping home increases, all from a direct result of under-investment in housing. And I look south of the border, and I look at Mexico. We’re building, like, 1.5 million new homes, apartments a year in the U.S. right now. How much do you think new homes and apartments Mexico’s building?

Meb: Less than that.

Aaron: Would you think that 158,000 would be the right number? I will just give you the scale. So, Mexico has a population of 130 million people. And we have 330 million. So, we’re almost three times larger than them. And they have twice the population growth that we do. And they are building 90% less houses.

Meb: And what’s the big reason why?

Aaron: Well, so, this is part of the thing. And it’s the same thesis of what happened in the U.S. What happens when you have, like, terrible years in an industry, or that goes on for a while? And so, what’s really fascinating is that 2010 to, like, 2020 were, kind of, like, a horrible decade for housing in Mexico. At first, at the beginning of the decade, a bunch of U.S. private equity funds funded a couple of Mexican homebuilders, and they went nuts. And it was all deck-fuelled, and it blew up spectacularly. And then, one of them turned out to be just, basically, an outright fraud.

So, then, you pick up the pieces from that in 2015. And then the Mexican government announces, “You know what? We’ve been subsidizing some of this entry-level housing with some subsidies. And over the next three years, we’re going to pull back from it.” Okay? So, then you get another hit, right? And then, you start to recover. In 2019, you start to try to find your footing. And then, COVID hits. And unlike the U.S., the Mexican government actually constricted their economy. So, they held the budget really tight. There was no massive stimulus. Their economy contracted 8%. They got hit really hard. And they have no access to vaccines.

So, you look at a chart and it used to be in 2012, there was something like almost 700,000 available new homes and apartments that were, kind of, empty or vacant in Mexico. And now, it’s, like, only about 200,000. And Mexico is underbuilding about 50,000 to 75,000 homes versus demand. The average age in Mexico is 29. You know what’s coming, right? We all know what’s coming. And there’s been no investment. And when I talk to investment professionals and analysts down in Mexico, when they talk anything about housing to portfolio managers out there, one analyst told me a portfolio manager tore up his report in front of him. Now, let me tell you, when I hear stuff like this, I get very, very excited because you have massive underinvestment.

And I’m a big believer that if something can’t continue, it won’t. Something has to give, right?

Meb: Yeah.

Aaron: You can’t have 130 million people. You can’t build 158,000 homes. New homes and apartments for a fast-growing people where the inventory of available homes is down, like, 70 or 75% in the last eight or nine years, that something’s going to give, unless you believe Mexico is literally going to in three years go to zero homes available. I guess it’s always possible. But at that point, it would be so painful. And so, imagine my surprise, and this is when I wrote a report about it, and I wrote a, kind of, newsletter post, is imagine finding one of the leading Mexican homebuilders that’s publicly traded, a company called Consorcio Ara, which I own a position in. And imagine finding that it trades at, like, 40 or 45% of book value, all in leverage, sitting on 12 years of empty land. Okay? And I’ll mention why that’s important in a second. And that despite this horrible decade, it was profitable every year. It’s been around for 45 years. And last year, despite the economy constricting 8%, is trading at trough 15% free-cash-flow yield. And, you know, they suspended it because of COVID because they didn’t know what was going to go on. But they’re paying me a 4% dividend while I wait. And so, I just couldn’t…

And then, what’s funny about the book value is, the book value is old because it’s, like, at least 10 years ago. So, if you worked through the potential net asset value, you’re talking about… I think the stock’s about 4.6 pesos a share or something. And as far as my rough estimate, net asset value is probably, like, 15 or 20. But this is the interesting thing. What I learned from the American home is it’s not necessarily the house that goes up but it’s the land. The land really goes up, land prices from, kind of, the bottom. And land prices in the past 5 or 10 years are up more than five times in value. It’s completely crazy because you need developable land. And when that comes in short supply, the land prices go completely nuts. And so, if you had told me back in 2011 or 2012 that I could have bought Lennar, for example, at the bottom, one, I should have bought it. I shouldn’t have started a single-family rental company. I should have just bought Home Depot and the homebuilders. I’ll give that advertisement in advance. But if you told me that, instead, that I could buy Lennar profitable without leverage and trading at 25% of its existing net asset value, not what it was going to be, I would have just quit everything. I would raise the fund and be like, “We need to buy this company. We need to just own this company.”

And so, it’s neck-and-neck for one of my largest positions but it’s really fascinating. Actually, it goes to a story of why I think there’s so much opportunity in the stock market right now is because when everybody thinks about the stock market, or U.S. investors think about the stock market, they’re really talking about the top 200 or 300 public companies, or what everybody’s talking about. And everybody knows the U.S. housing market is on fire. Everybody knows it’s doing great. Everybody knows there’s a shortage of homes. Everybody knows the reason why. But it’s so interesting. You go down to, like, Mexico. And well, that’s Mexico. Who invests in Mexico or, you know? And it’s opportunity.

Meb: How did you originally come across the Mexican homebuilders idea?

Aaron: I stumbled on it. On a thesis that I have to my first…actually my second Mexican investment that I invested in. The first one I still own is Bolsa Mexicana, which is the Mexican stock exchange. It’s publicly traded. You can buy the Mexican stock exchange unleveraged, paying you 5% dividends, buying back 5% or they have authorized the 5% of their stock. So, arguably, like, 9, 10% return on capital. It’s growing. And you can buy in for a 9% unlevered free cash flow yield for a stock stage, which is one of the world’s best businesses around. But how did I find that is I went hunting. And the reason why is I have a thesis that China and the U.S., our relationship no longer works the way it did for the past 30 years. And we’re having a re-evaluation of what that relationship looks like. And there’s a lot of tension. There are a lot of problems. And does it make sense to the entire U.S. supply chain of many things to be in China or Asia, considering the risks that are now involved? And then, you throw in COVID, and you add in additional supply chain problems. And I don’t know how you’re a corporation in the U.S. and you don’t think, “Hey, at a minimum, we have to diversify. We have to think about how to mitigate our supply chain.” And the only place that I can think of you have low cost of, like, where there is less risk long-term where you could put manufacturing or additional resources that isn’t in Asia is Mexico.

And so, my thesis is that more dollars, incrementally, will come into Mexico. And layer on top of that, when you research Mexico as a country, it’s not just the two companies I mentioned, Bolsa and Consorcio Ara. The entire stock market is wildly cheap. You know, you actually have corporations that are available to invest in. You know, you think about Mexico, 30% of their GDP is exports to us. Then, you have people that work in the U.S. that remit money back to money. You have tourism. We are sending money. And we are having, like, the greatest stimulus party spending money on top of a housing market. The U.S. housing market is $33 trillion. Okay? That’s what most people’s wealth is. So, if the housing prices are going up double-digit rates, which they are right now, that’s adding, like, over $3 trillion of wealth to American households, on top of all the stimulus that’s coming on, as well. And so, Mexico has to benefit. And they are benefitting, and they’re going to continue to benefit. And so, I went looking for an investment. And a friend who’s a money manager and is very, very successful, is like, “Hey, you need to look into Bolsa Mexicana.”

And, again, my thesis is like, hey, capital money has to come. So, you would think that and equity over time would increase. And one of the core things that I’m looking for as an investment is would I consider low downside, high uncertainty on the upside. So, I just don’t want to lose, or I hope not to lose, a lot of money. But when I think about in the long term, I can take that risk. If it ends up being disappointing or it takes five years instead of three years, I’m fine. If you’re paying me a 5% dividend, there’s no debt, the entire Mexican stock exchange, I think, sales for $1.2 or $1.3 billion. I don’t know the exact where it closed today or whatever But that’s an absurd number for a stock exchange where you go to, you know. The company that owns the New York Stock Exchange, I want to say it trades at a good 2% free cash flow yield. I’m not saying that this is equivalent. But that seems like a pretty big disconnect, especially for a growing country and we’re seeing more and more financialization of the markets.

And the other part of Bolsa Mexicana, kind of, that I really like is they have, like, a custody and information services business that, frankly, I think could grow double digits for as far as the eye could see. And their custody business is just going to continue to grow. And there’s also some pension reforms the government is doing that’s going to drive a lot more money into pensions, which will, frankly, drive the assets that they deal with and will drive earnings. And so, I started with Bolsa Mexicana. And then, I started doing research on other companies and through my network found Consorcio Ara. I couldn’t believe it actually existed.

I make the argument that Consorcio Ara is the… If you consider that there’s no leverage and that it’s profitable, I think it’s the most undervalued company in North America. That’s my thesis.

Meb: Wow. All right. Put a stamp on that. Well, you know, it’s interesting because what you’ve talked about illustrates a few topics that are really important, the first being going back to your real estate days, you know, we exist in a world of opportunity. And so many investors get focused on whatever they think their opportunity set is. And for many, it’s U.S. stocks and bonds. And they spend so much time focusing on certain things. When you look around and try to identify and think independently, there are better opportunities elsewhere. There’s tens of thousands of them around the world. You know, a hard part too is, sort of, the investing when terrified or when things have been really struggling like housing would have been in ’09 or Mexico probably last year, both hard for different reasons, I think. But that’s certainly what helps define the opportunities, right?

Aaron: Yeah. Well, I think it’s just one of these things where I think when I studied the numbers, Mexico has to build more homes. But for that to happen, homebuilders need to make money, right? Homebuilders need to make money so that they can build more homes. And by the way, part of my thesis is, if I’m right, you would see home prices start to accelerate. And that’s good. And what’s fascinating is in the first quarter, Consorcio Ara’s average home price that they sold a home was up 15% year or year. And then the second quarter, it was up over 19%. Those numbers work. When you start increasing your average home price by almost 20%, that’s a sign that you might be encountering a shortage.

And I’m just a believer that if something can’t continue for the long term, something has to change.

It was my protective thesis when I was buying foreclosed homes. Well, look where I was buying. I was buying in Atlanta, Charlotte, Orlando, Tampa. These are all cities that have been growing for 30 years. You can’t build 5,000 or 10,000 homes in Charlotte when 40… You know, I don’t even know if that was at the bottom. It was probably even lower but, like, 50,000 people on a net basis in moving to Charlotte every year, just the numbers don’t work, right? Eventually, you have what we have now. That’s the catalyst to me. The catalyst is that you have this, push this, kind of, tailwinds that’s, kind of, pushing you along in certain investments. And to me, it provides opportunity. The past is why we’re here. And then, you just have to, kind of, think, “Well, what has to happen?” I don’t think it’s that complicated. The problem is you all would have to be comfortable with, 1) that it’s Mexico and it’s outside of maybe the U.S. And that’s where it helps knowing this company’s been around for 45 years. But it’s also the valuation discrepancy. I think that also is, you know, the old concept of margin safety. A lot of things can go wrong as part of my thesis before I start losing money.

Meb: Before we leave the topic of real estate, I’d be reluctant to move on without at least hearing your input from somebody who’s in the trenches a decade ago, almost every conversation I have with friends wearing a North Carolina surf hat from the last time we were in Wrightsville Beach and almost every conversation, like you mentioned, because for most investors and individuals, it’s the largest part of their wealth, their home. And home prices have been going up seemingly everywhere. What’s your take on where we are in the cycle, if you have an opinion or any insights into real estate in general in the U.S.?

Aaron: So, I still have a small real estate partnership in Charlotte where I was investing in a very specific zip code that was benefitting the neighborhood, a lot of investment that I knew was going to come in this neighborhood. And I’m starting to monetize very slowly. I still have a small private partnership that owns homes. And it’s just awesome, to be honest. For this partnership, I started in 2016. But, like, 10, 12 years ago, there was no one that was interested in buying homes. And now, there are bidding wars and, like, Zillow we just sold I think it was three or four rental homes. And the offers were, “We’re going to put a deposit down for $30,000 immediately with no contingent fee.” And I was just reflecting on the difference in the market. And I remember people telling me, “Single-family rental, it’s a trade. It’s not an asset. The institution is too hard. It’s a scattered site. It doesn’t make sense.” Now, you have a company like Invesco that just announced they’re putting $5 billion into buy single-family rentals. And they’re now building homes and converting them straight to new rentals, which I think is a great business. And it’s interesting just that corporations are now all over the map in housing.

And so, I think we’re towards the later stages. I don’t think it’s a bubble just because we have so much underinvestment in housing. And then, you just have underinvestment, which is caused by laws, rules, regulatory nimby, which is, you know, in California where we are, you know, they estimate they’ve underbuilt a million homes in Los Angeles alone in the last 30 years. You have issues like that. But I think we’re in the later stages of where we are. And also, demographically, we’re in the meat of where millennials are when they’re looking to buy a home. I’m very much a believer that COVID was an accelerant to a lot of trends that were already happening become their city of gains you had in housing millennials looking for that. And we’re in the later stages. I wouldn’t call it a bubble, per se. But there is a lot of frenzied activity and a lot of people. And if you just look at the age curve maybe two, three years out, we’re going to peak out on millennial demand. And then, you may have a more balanced market. But we’ll still have supply challenges in many markets.

The supply is very low. And you’re going to probably have continued home price appreciation for a while. But I’m not one to try… What’s really interesting is the real estate market, unlike the stock market, there’s a very important point that I realized that I found. I started buying homes in March of 2009. You would think, as a stock investor, oh my God, your timing was amazing. No, because the housing market didn’t bottom really until the end of 2011 or 2012. It’s very, very slow-moving to trends. And so, all the underinvestment from 2009 to 2014 really started hitting in 2016, 2017. But it very, very clearly bottomed in 2012 in terms of home prices. But in terms of building and everything else. So, it’s this slow-moving two, three, four-year process that we’re in the midst of and where things can keep going. But in my heart, just seeing where everything is, now is the good time, especially in view of investment properties, where I’m starting to monetize my own personal real estate the next 12 to 24 months, including the previous year. It’s like a seller’s paradise.

Meb: Yeah. You made a little reference to video games, which I know is an area near and dear to your heart, but also has some portfolio threads. So, let’s talk about that. But before we jump in, tell us quickly how you think about portfolio position sizing and the portfolio in general. Are you doing any shorting? Is it long only? Are there 10 names, are there 100 names, or is it 100% Mexican housing or what?

Aaron: No, no, no. I’d say early in my portfolio it’s, like, 10 to 15 names. I don’t use any leverage. I’m not trying to minimize volatility. I’m trying to do deep-dive research and invest in the long term. And I’m trying to find situations where I think in the long term the downside is low, the upside is uncertain where I’m finding very, very even unique businesses, unique assets, or something that’s misunderstood, capital-constrained, or just off the radar. And so, the idea is that if I have 10 names in a portfolio, I have a couple that will disappoint, all but a couple that will go nowhere, all but a couple that will do well. And then, I’ll have a couple that will go lights out and drive the performance in the power-law dynamics. It will drive the entire performance.

Meb: You said you end up holding for years possibly, months and years.

Aaron: Yes. Yeah. I’m not trying to trade. There’s no company that I own where I’m like, “Oh, my gosh. What are they reporting this quarter?” I mean, I still pay attention and I watch the stocks move. But that’s not part of my investment style or my thesis.

And it’s one of the things that I learned now this being the second time that I’ve managed money is I’m trying to fit my investing style to match my own personality and, specifically, where my strengths are and not my weaknesses.

And so, I’m a very passionate guy. I get very excited about things. It’s both my greatest strength and my greatest weakness. And so, in the past, especially short-selling, this time where there’s capital everywhere and you have totally insane things going on, that does not work well to my strengths, and specifically trying to trade around events or worrying about events. I wouldn’t say that that’s my skill set. But what I can do is I can uncover a situation. I can see something that’s going on in the long term, and say, “Hey, you know, I don’t know exactly when this is going to play out. But I’m pretty confident it will.” And I’ll be compensated for any risk I’m taking. And then, the next thing, kind of, layering on that I started doing really last year is writing. I just think there’s so much opportunity to write and share. And then, a lot of benefits come back to you when you do that. And I almost think of it as writing as a source of alpha.

Meb: I like it.

Aaron: You can serve as the catalyst but that’s, like, a minor reason. But really, you get incredible feedback from other people. You understand where the market is. Sometimes, you just get silence. Some people, you get corrections and critiques. But even better is that when you share into the system… This is also why I’m bullish on Twitter. But when you share into the system, people start sharing back ideas, research, etc., articles you would never find. And so, I’m finding tremendous benefit to writing as part of what I’m doing.

Meb: You wrote an article recently called “Playing Video Games Can Help You Level Up in Business and Investing,” which I feel is like if you had to poll most people, I would say that is a nonconcensus view. I think growing up in the ’80s, games would rot your brain. And then, I think even more the modern narrative is that it’s a hard negative, in general, gaming and parents not wanting their kids to play games. Talk to us a little bit about your thesis there. And we’ll dig in.

Aaron: Well, it’s one of those things that I wrote in my book “The Hard Break” about my past and how seriously I used to take everything. And I was almost my worst enemy. I was my worst enemy. I should just correct that. I was the harshest critic. Every mistake I would live and die.

And as I’ve gotten older, I’ve realized that the stock market and investments are a game.

And it doesn’t mean that it’s not an important game or that it’s not important but that it’s a game and that the best players, and I say players, the best investors, the best players, are those that view it as a game. They don’t get emotional about it. They study the strategy. They practice. They try to find their strategy that works for them, their lane, and that there are actually multiple ways to win the game. There’s not just one game. There’s not just the one Buffet way but there’s actually the quant way. There’s the trader way. There’s the trend-following way. There’s even, we found out earlier this year, the mean way in that when you start viewing it in terms of that lens, what it wanted when we use, kind of, the pressure of you thinking, and this is what I used to think, that this was the most important, before I had family, kids. And yeah, I started young doing this. And it’s not the important thing in the world. And when you play games, you make mistakes. Bad luck happens. Tsunamis hit. Pandemics happen. And there are lots of different things that can happen in a game just like in the stock market.

And when I studied the best investors, the common thread was they loved playing games.

Meb: I think the all-time, old-school best example of that is Thorp who ran, arguably, the most successful hedge fund of all time. I don’t think it ever had a down quarter. It was Newport Princeton Partners. And the old-school book, “Beat the Dealer,” figuring out how to beat blackjack. That was, like, I mean, 30 years ago for the hedge fund, 40 years ago, geez, maybe even longer for the book. But I think that’s a really accurate statement.

Aaron: And Howard Marks wrote this whole memo of playing card games with his grandson, which reminded him of him playing poker and bridge growing up and how he loved to play games and taught his kids how to play games. And then, you have Warren Buffet playing bridge.

Meb: There was a series from, like, four years ago. And it was, like, weird, and a little bit awkward that an institutional investor did called “War Stories Over Board Games.” Do you remember this?

Aaron: No. No, I don’t.

Meb: We’ll post links in the show notes, listeners. And I’ll send them over to you, Aaron, afterwards. And they had Bill Gross, Peter Lynch, Henry Kravis, Ken Griffin, Gabelli, Marks, and they would do, like, a video interview over their favorite game. Again, like you mentioned, there’s, like, a dozen world-class investors right there.

Aaron: And David Einhorn used to compete in the World Series of Poker

Meb: He still does.

Aaron: Yeah, he still does. And then, you ask yourself, “Why do these investors love games so much? Why are they, one, drawn to it? Why are they so good at it? Why are they so obsessed with it?” And then, I realized it’s because it helps them practice decision-making and thinking and making mistakes and improving how they think about things going forward.

Meb: And, I mean, uncertainty, decision-making under, you know, not perfect information, the role of luck, on and on.

Aaron: That’s exactly right. And this is where video games are actually really interesting because think about how the investment game has changed. It used to be that you really just had to understand probability, understand what the other side was doing, gain an information edge or an edge on understanding, and trade better and … and that you could outperform because all of those things you were way ahead of what all the previous market participants. And that’s, like, where bridge and poker and all of these older… When I say older, more classic games, would happen. But with quant investing, with computers with so many smart people flooding into the market and analyzing it, slicing and dicing alpha in different ways, those strategies have all been knocked away, for the most part. And outside of events like COVID that can be a real shock to your system, most of those things have been knocked away. And what’s fascinating is that it’s not about those old skills. They’re still important but that’s not what’s going to help you.

And this is where I think video games can come in is most video games are a lot more open and the sheer diversity of video games. And the other part about video games is, normally, there’s multiple different ways to win in a lot of video games. The best video games, there’s not just one straight path. And that is an incredibly helpful thing that I have learned in that there are multiple different paths to do well in the markets. And I think it helps you practice and fail and practice and fail and try different strategies and think strategically where there really isn’t much of a cost.

Meb: Give me some of your favorite games before we move on to some ideas in the investment world.

Aaron: Again, I think it’s great for it to match up to your own personality and your life and there’s all different… I love turn-based strategy games. This is who I am, right? It makes me nervous, like, the real-time stuff where you’re like, “Oh, my God.” But some people are great at that. Some people have, like, ice in their veins. And they’re the best traders. And they know how to do all these, you know, and this is cool and calm. That’s not me. And so I like turn-based strategy games. I grew up. I don’t know if you ever played, like, Civilization or there’s another game that they’re about to remake that I’m wildly excited about on Nintendo called Advanced Wars, which is this silly cartoon-based. The strategy is just excellent, just rare moving. And then, there’s Fog of War, which is you can’t see what the other side is doing. So, you have to guess, which is, to me, one, I love it. And then, you get to plan, like, your resource management, right? So, you think about, like, what’s the analogy to investments. Like, well, you only have so many dollars. You don’t really know what’s going on or what’s going to happen in the short term. But you have to develop the strategy so that you can win, right? And I’m, like, I just love thinking in those terms.

Meb: Yeah. You know, I was having this conversation with some friends and family about kids and games too. And I agree, in a sense, like, if parents were just like, “Yo stuff an iPad in your face. Go play. Get out of my head.” But, like, the idea of playing, like, with your kids, talking about the strategy and what’s going on, I think, can be an incredibly meaningful, A, interaction, but a learning experience too. And it seems a lot of the games are moving that way, hopefully, as opposed to just, sort of, mindless plug in and drop out.

Aaron: Yeah, I’d agree. I think it’s also, like, just compare watching this show. I don’t know what age the kids are. I have young kids. The odds are that I’m not really going to enjoy what they’re watching. Maybe it’s a Pixar movie, which I would enjoy. But if I can play a game with them, one, instead of us just staring at the screen and being mindless, with a game you’re, like, interacting or if I’m playing, my kid will say, “Well, what is that,” or, “Could you pick that character,” or, “Go over there. Go explore over there,” or, “What happens there?” And then, I can do the same thing, and then you can play collaboratively together. And, again, the reason I think it’s so valuable and, I really wrote this post because a dear friend of mine, we were just randomly talking. And she was like, “Oh, I don’t let my kids play games.” And I was like, “Well, let me tell you.” And then, I started telling her and I just saw her like, “Wait. What?”

And so, I decided to basically write a post of why do successful people, like, why does all these successful people, including the CEO of Shopify, who still to this day will, like, tweet and talk about where I … StarCraft. And they actually give you free money to buy the game Bacteria to every Shopify employee because he thinks it’s so great for strategy. And he’ll occasionally tweet out an interesting game that he’s played. Elon Musk has said the only reason he got into computer programming was because he played video games. And I think that all of our kids, we’re all going to live in this so-called metaverse Internet. And it’s amazing. It’s absolutely amazing, right, that our devices are amazing. And so, to me, it’s, like, how am I going to interact with my kids? How am I going to teach them about being creative, about it’s okay to fail, and that I can still interact with them in a world where things are going to be even more amazing than they are now? The only way is to show them games and to interact and in them in the games.

Meb: So, that leads to a thesis that you have for an investment, you know. And walk us through your game investment thesis.

Aaron: Yeah. Well, on Nintendo?

Meb: Yeah.

Aaron: Yeah. So, that recently hasn’t been working out so great. But I first started going bullish on Nintendo when it was … around $30 a share. And the idea is in the video game business, you have these boom and busts, these console cycles, right? And they’re really great for the four or five years that it goes on. And then, it falls off, and then, there’s some risk when they go to the next, kind of, console. And sometimes, it’s success. Sometimes, it’s a failure. And so, what I saw with Nintendo, and Nintendo did this very interesting thing, where they… I don’t know if you’re familiar with the switch at all, but it’s basically a mobile gaming device that you can put in a docking station and connect immediately to the TV. So, it, kind of, access in this very creative way allows you to play mobile and also play on the TV and also interact with games in a very physical way because the joy controllers are very unique. But what was also interesting is that Nintendo has been, kind of, a relatively open admirer of Apple for many years actually. And they used to have multiple platforms. They had, like, a mobile device. And the console, it’s all, kind of, coalesced around one device, which is the switch.

And what’s interesting about the Internet and about the digital world is it is transforming Nintendo as a company. Now, the problem is this is happening over the very long term. But what’s happening is they’re now offering subscriptions. So, you subscribe to Nintendo online. You have access to a whole back catalogue of games that a lot of people have nostalgia for, frankly. So, you have subscription revenue coming in. And then, you have more and more of the company is seeing digital signals. It, obviously, has higher margins. It’s easier to distribute. And then, there’s also this thing called downloadable content, which is extra add-ons that people can purchase. And so, you have this margin profile changing. And my thesis, basically, is that the console cycle is going to smooth out because my belief is this switch is going to become more like an iPhone kind of system where you’ll just upgrade your switch every couple of years or three or four or five years. And you’ll just upgrade to the next switch. And you’ll keep your digital games. You’ll keep your content. And Nintendo is doing this over a very long period. And at the same time, what they’ve had is, like, two years of just incredible sales and earnings. And the stock recently has been weak because everyone’s like, “Oh, a switch has peaked. Now, we know what happens.”

And my thesis is well, no, we don’t know what’s happened. And, actually, more of their business is going to be more sustainable. It’s going to go longer. And they’re going to introduce more upgraded switches. And people will upgrade to it. And the company will maintain a higher level of profitability going forward. That rests on some of the best intellectual property, some of the best IT that exists bar-none, and that the company is dramatically under-monetized, which are characters like a Mario and a Zelda. And we haven’t heard anything recently about, like, Donkey Kong. And so, they just opened. Again, COVID, kind of, hurt it but they just opened Super Mario World and Quioto. At least, I think it’s Quioto. And I think in the next two, three years, it’s going to open in Universal and the U.S. And there’s a Mario movie in the works. And they’re just working on, kind of, monetizing their IP and in a very Japanese way, a very conservative way. But also, the company has… I have to look at where the stock market is right now. They have something like 25% or maybe 28% of the entire market capped at cash. They also own, when you look through all the cross-ownerships something, like, 50% of the Pokémon company. I don’t know if your kids or if you know anyone. Pokémon is just as popular today as it was many years ago.

Meb: That was interesting to me too because that was, like, the first, to me, breakthrough augmented reality game success, or at least it felt like.

Aaron: Well, that’s through Niantic. That’s what’s interesting. And so, they own 20% of Niantic, which is one of the leading augmented reality companies. Again, so, the whole investment thesis is I think I’m creating Nintendo for, like, 9 or 10 times earnings outside of cash and investments. And I think they have a long runway for IP monetization and a much higher level of profitability. And instead of these boom and busts, it’s going to be like this. And so, I don’t really care if it slows down. Do you remember when Apple in 2000, and the same thing with Microsoft, is Apple and Microsoft, and it eventually got down to, like, EV of like, 6x to cash-flow. Oh, there’s no more growth for Apple. It’s all dead, you know. And the same thing with Microsoft. And I think you have a much greater population. I think you’re a world-class IP. I think management’s moving in the right strategy. Everybody thinks that we’re on the downward trend whereas this could go down for five years. And I just think, “You’re not paying much for the company with lots of ways to win.”

Meb: So, you also mentioned I don’t own a switch. I was going to buy one. And I was like, “Well, maybe I’ll just wait for the new one. And it’s going to be out in two months.” And then, you’ve, kind of, been all over this. You can’t buy one of those.

Aaron: You can’t. So, it was the switch is over, right? But now, they come up and the upgrade is really just the spring. And the reason… And investors are very disappointed there wasn’t a more dramatic refresh. But if you look at what’s going on in the electronics world, why would you introduce a major refresh of the console when you can’t get parts, when you can’t get chips? So, that’s coming. It just can’t come this year. But so, they upgraded and it’s a minor way to a nice screen, to a nicer screen. And really, I was struggling to buy one. And so, it’s just really interesting to watch as investors are very fickle in the short term. And it’s completely sold out for October 9 and (they’re) struggling to get units out there. But, you know, it’s all over for Nintendo. The switch has peaked. But you just can’t buy any of the consoles, the latest version.

Meb: Interesting.

Aaron: It’s a silly thing.

Meb: Have you got a favorite game or two on there before we move on to another topic?

Aaron: Well, again, in December, if you have one, you should get I think it’s Advanced Wars 2, or might be 1 and 2. They’re repackaging. If you like strategy, it looks cartoonish but the strategy is just excellent.

Meb: Awesome. I’m going to pick one up. I’m, sort of, conflicted if I buy the current one or wait for the new one to come out. What’s your advice? Do both?

Aaron: I mean, what I would say… Well, you could always go on eBay and pay $100 more for the… But as a value investor, that kind of hurts. But I would guess that you will have an opportunity to get some. Just keep an eye on news and supply and you’ll be able to get one before Christmas.

Meb: I know but I’m saying I don’t even own one at all. Do I buy the current one, or is it going to be that much of an upgrade to wait two months?

Aaron: I think if you can get the current one you’d be fine.

Meb: Okay. All right. I’m going to do it.

Aaron: And then, you’re going to want one for your kids and for you. That’s the other thing. The other one you see is super funny with little kids. And it’s a game called Just Dance. Do you know this?

Meb: No.

Aaron: And what you do is they play, like, popular songs and even kid’s songs. But you have the controller. And you’ve got to match your movements to the screen. It is so unbelievably entertaining to watch kids do this.

Meb: All right. Let’s take a hard left and chat about another topic you’ve been writing about quite a bit in the fund and otherwise. And by the way, listeners, we’ll post a link to Aaron’s Substack because he is very open and actually writes about some names too. And my favorite… You know, we wrote a book about hedge fund investing years ago. And I said, you know, my favorite investors are the ones where I go through the positions and their names that are often, like, the Mexican homebuilders, names that I just have never heard of or it’s a different thesis, as opposed to the hedge fund hotel names where, like, 200 of these hedge funds own the same name. You’ve been a vocal commentator on the cannabis space. What was your original insight there? How long have you been involved? And where do you see the opportunities?

Aaron: Yeah. So, with cannabis, I initially dismissed it when the rage started 2017, 2018. You know, it’s going to change the world the world and all the Canadian companies going nuts. And it wasn’t until I started exploring the health and wellness aspect of cannabis that I realized how big the opportunity was, especially once you overlay it with the opioid crisis. And the catastrophic policy decisions our country has made. I want to say that 90,000 people died last year from opioid overdoses, some crazy number. And I realized when I did deep-dive research that there are many different ways that cannabis has been and can be used to improve your health and wellness, including from something that specifically helped me, as I have suffered from insomnia many times, and I wouldn’t wish that on my worst enemy. It’s terrible when you can’t sleep. And the idea of taking a light plant-based product that doesn’t get you high and that allows you to sleep so that you can be a functioning adult and a parent and not have to take a pharmaceutical or some strong medicine is life-altering. And so, being able to do that or take a chamomile tea, you know, with some THC and CBN and some other things and do that for a week, reset your sleep cycle.

And then, you just think about how many people are struggling with a variety of aches and pains. You know, America’s aging as a country. How many people are dealing with post-traumatic stress disorder. There’s a lot of studies to back this up. How many people are struggling with addiction to really, really bad things? And how we have allowed alcohol to get this incredibly free pass in society but have restricted cannabis. Mainly, one, it started for industrial reasons because hemp is seen as a competitor but then, very quickly, morphed into a racial one. And it’s very, very clear. There was a recent report of somebody from the Nixon administration who was literally trying to find an issue that would drive voters along racial lines and realized that marijuana was it. And then, you know, there’s benefits for people who have epilepsy. And so, I started looking into all of this at the same time as the people started questioning, the market started opening up. And I just realized the market’s much, much larger than I realized. And a lot of people are self-medicating for a lot of things, a lot of different conditions.

And you do research, you realize this is like any existing $100 billion market. Now, most of it’s illegal or not done through legal channels. But they are estimating next year, I think, it’s going to be, like, $25 billion of legal sales. And I want to say legal sales. It is federally illegal at the moment but states are legalizing it. And therein lies the opportunity. So, I overlay that you have this very, very massive-existing market with lots of health and wellness. And the other thing, this is one of the greatest data points that I could tell you about the health and wellness aspect of cannabis is that they have found that worker’s comp claims go down when medical marijuana is approved. And then, you say, “Great. What? How is that possible?” And then, you realize that people were using much more very powerful things to medicate themselves that are not good for you.

And so, I overlay that with the fact that because of this weird, it’s legal in many states now, either medical or adult-use but illegal on a federal level, that there’s actually very little institutional involvement in the sector. I think Jeffries estimates that the ownership on an institutional level is, like, 4%. It’s pretty low, right? And there are no indexes. There’s no S&P 500, Russell. And we all know how big the passive index and what that drives. So, I’m always really interested in long-term trends that are moving very clearly in one direction. And so, we very clearly are seeing the trend of state after state after state legalizing it. And Alabama’s passing medical marijuana, and South Dakota is, and North Carolina’s now working on the bill. It’s not a Democrat-Republican, even though maybe it’s associated more with Democrats. The trend is very, very, clear. And you have the job base and tax revenue. And we now see Colorado, we see California, and we see Florida. The society isn’t falling apart. There’s no change. There is no, like, massive epidemic. And it’s very, very popular with Americans. Obviously, the Libertarian strain of America is very strong.

And the problem is it’s a very age-based issue. So, when you look at older people, 70s, 80s, a lot of the people who are running our country, essentially, from a federal level, they have the old attitudes that marijuana’s going to destroy society and, frankly, a lot of racial reasons. But most people below those ages are realizing like, “Hey, why isn’t this legal?” And because there’s this weird legal status, the companies that are operating operate in this weird gray area. So, the leading companies in cannabis don’t trade in the United States. They, actually, trade in Canada but not even on the main exchanges. They trade on the secondary or tertiary exchanges. They struggle to get capital. There’s really no debt financing. There’s no real, like, margin that you can do. There’s no institutions, no indexes. And a lot of new U.S. investment banks won’t even custody the shares because they fear that it’s, like, money laundering or drug dealing, even though the IRS collects enormous amounts of taxes on cannabis. That’s also equally funny. And there is punitive… There’s this 280E rule punitive, where you deduct expenses. So, even though you’re illegal, according to the U.S. government, the government is happily accepting your federal tax dollars. It’s this really wild thing.

At the same time, the market is growing incredibly fast because it’s being normalized faster. I’m taking this from a private equity investor in cannabis who is a very successful investor. Mitch Berkowitz’s keen insight was…

Meb: Mitch is a podcast alum.

Aaron: Yeah. Yeah. Amazing. Anyway, it is being normalized faster than it’s being legalized. And so, you have this broad adoption. The legal market is beating the illegal market because you have joint safety, access to quality, different form factors. Corporations on a quality scale can definitely outdo anything that is illegal or your friend who grows it. And so, it’s growing incredibly fast. But you have a capital-constrained industry where there’s no capital coming in. You have all these problems. And at the same time, we’re having wild, speculative orgies in the stock market, right, that have nothing to do with fundamentals. And it’s just so fascinating that you can have Canadian companies that can only operate in Canada. But it’s illegal in Canada. and federally in Canada, Tilray can trade on the New York stock exchange, even though it doesn’t operate in the U.S. But it’s legal in Canada and gets literally an insane multiple. It trades 41 shares a day but some of the leading U.S. cannabis companies are profitable with cash flow, have enormous growth prospects, and trade literally, like, 300,000 or 400,000 shares a day.

So, part of the thesis is that, eventually, this is going to get legalized. That’s the path we’re on. Eventually, these companies are going to trade on the NASDAQ stock exchange. You have completely unlevered companies trading at single-digit cash flow multiples that are growing at 25 to 50% a year with, like, 30 to 40% EBITDA margins. Like, incredible with high regulatory barriers on a local level, a state level. And because there’s so much little institutional involvement, I almost feel like I’m back on the courthouse steps in Atlanta. There’s no research going on. But there’s still this, kind of, stigma around cannabis where even before I started writing about it last year I asked myself, “Oh, man, do I want to write about cannabis? Do I really know enough to be a cannabis guy? I’m not running a cannabis center.” And it’s just wild to me how even generalists are involved in cannabis, how little quality research there is being done, and the wild differentials. It’s like the Wild West. It’s like you and I got transported back to, like, the 1970s U.S. stock market. That’s the way I see it.

You literally have comparable companies, one with, like, a strong social media presence, and then, that great investor relations has been known for a while. And another company that literally just came public but there is some locked-up shares that are coming out. And they’re basically comparable. And one of them trades for literally twice the multiple. The one that sells for half the multiple is cash flow positive, free cash flow positive, has better long-term margins, arguably better managed, and sells for half the multiple. You’re just seeing this, like, weird differentials and what. And because the capital is constrained, people pick a horse. And then, they’re like, “Oh, I’m just going to own it.” And if you’re a new entrant in the market, people are like, “Oh, you know.” And then, you’ll have weird disparities between the valuations.

You don’t have a lot of research and understanding about what’s going on in each market. And people are obsessed about the federal legalization, I think rightfully so, because the minute Robinhood investors and the indexes and the institutions, these things will go up multiples. But to me, remember, I don’t mind waiting. I don’t need the false precision of knowing that something’s going to happen in 2022. I know what’s going to happen. These companies will trade on the NASDAQ one day because there’s one company I’ve written about called Verona Holdings. And if I come up with a 2023 number, I think it’s possible it trades below six times cash flow unlevered. And I think we’re in the beginning. I think this is a $100 to $200 billion market size. In terms of sales, it’s one of the most fascinating… I’m surprised there’s not more talk about it. God, people love talking about crypto but…

Meb: I thought last year that the powers that be in the government, my thesis was they were going to try to erase, to outwoke each other, and both sides of the political parties to try to pass competing legislation to, kind of, get it done. I thought the Republicans were going to try to do it before the election to, like, get ahead of the Democrats winning the… Anyway, it hasn’t happened yet, which is very surprising.

Aaron: Well, I think the reason it hasn’t happened is because it’s not necessarily a Democrat-Republican issue. I actually believe it’s an age-related issue. And that’s why the investors have been disappointed, including myself, as to why Biden doesn’t appear to be that much different than Trump when it comes to marijuana.

Meb: You know, the odd thing is as you start to see more and more older folks start to use some of the creams, I was laughing because we had a farmer on the podcast that mailed us some, like, CBD bombs. And I was like, “Man, this is going to be total placebo effect.” And I had, like, a really sore elbow one day and tried it. And it was just, like, magical. I was like, “I don’t even care if this is placebo.” That thing worked.

Aaron: It’s so weird that a plant that we have evidence that people have been using for thousands of years, thousands of years would have…

Meb: Yeah, it’s inevitable.

Aaron: …anti-inflammatory. God forbid we research it, right? God forbid we study it. It’s a weird thing that this country. I think it’s unraveling very quickly, these old preconceptions.

Meb: Oddly enough, I think the pandemic has had a interesting side effect of reducing a lot of pretense and just silly notions in the past that we held in so many ways, I mean, part of it being having something like a Zoom and seeing into someone’s background. And hey, there’s kids walking around, or your place is a mess, or you got a cat, you know, like all the things that have happened that have just humanized. And you look back in retrospect at all these, like, silliness. You’re like, “Oh, why did we ever have that rule? That’s seemingly pretty dumb.” But, hopefully, human progress is moving the arrow.

Aaron: COVID was an accelerant. I think it was an accelerant for cannabis. Cannabis was deemed an essential industry. So, it was kept open. And a lot of people were experimenting and trying it. What was going on last year is even going on, like, now. A lot of anxiety, a lot of people worried and stressed. What does cannabis help with? And so, what’s really interesting is I just own, kind of, a basket of names of companies that are growing very fast and are professional that are basically unlevered when you look at the cash method. They’re utilizing some, kind of, debt but that are basically unlevered that are a wonderful business. It’s like I am this Air Wellness. And the local rules… Cannabis is very much a local business. And the local rules in Boston, the greater Boston area, there are going to be six dispensaries for all of Boston. Okay? That’s all that’s going to be allowed. It’s, like, a crazy regulatory environment. Air Wellness is going to have the one next to an Apple store in, like, one of the prime locations. What’s that worth, you know, to be able to invest into this fast-growing industry to pay the multiples that you’re paying ahead of what I believe is the law of money that it will eventually become? It’s just, frankly, very exciting.

Meb: All right. So, as we start to wind down here, I’d love to keep you all day, as you look out to the horizon, anything else got you scratching your head, curious, interested, worried?

Aaron: I think my worry is just more on interest rates. And as long as the interest rates stay low, a lot of what we’re doing is based on interest rates. That’s my big, kind of, worry. I know it’s super weird at all-time highs and with a lot of bubblish activity. But I continue to think this is one of the best times to invest. It’s just not necessarily in the top 200 or 300 U.S. companies. I just think that with the passive investment and a lot of rational behavior, there are a lot of small and medium-sized companies, a lot of industries or countries that are very, very attractively valued that offer you a great margin of safety. And then, for me, this is, like, an incredible time to invest. And so, that’s what I look for. And that’s what I love doing. And I feel so lucky to do what I do because I just love it and even more now that I’m back managing money again after, one, doing American Home, and then writing a book. And then, I joined a friend’s startup, as well, that did well when it was sold. But I don’t ever want to stop doing this. I love talking about… I love writing. I had no idea that I would enjoy writing so much. I love it.

Meb: Yeah. As you look back, what’s been your most memorable investment? You’ll have to choose from, I assume, you’ve got 20 years of choices.

Aaron: You know, I have a soft spot in my heart for this one company that really helped kick start things for me. It was a company called Sonosite. Sono used to be S-O-N-O. And when I first started, I found it was a spin-off from a company called HGL Ultrasound, which I think eventually got bought by Phillips or Siemens or something. So, anyway, HGL Ultrasound had this division that was developing this handheld ultrasound device. To me, it sounded like something out of “Star Trek.” And they spun it off in this weird, funky spin-off. and HGL Ultrasound didn’t want a division burning lots of cash to ruin its beautiful earnings and margin. Okay? And they spun it off and they put Sonosite $50 million. They spun it off and they said, “Good luck. Here’s your management team, go.” And so, you’re looking at, you know, this couple-billion-dollar market cap company that spins off this couple million. And anyway, very soon after, it literally fell from, like, a $50 million market share. And so, I’m looking at it. And it has $50 million in cash, a $50 million market cap. But, like, they didn’t lose the money, right?

And then, when you look into the SEC filings, there was this really interesting disclosure that said that no one could buy Sonosite unless they were willing to pay HGL Ultrasound $250 million. And I just said to myself, “That’s strange. Like, I’ve never seen that before from a spin-off.” And then, there was some insider buying, and I invested. And I talked to people and I did research. But the real key insight was I had never seen anything like that. And to me, what they were saying is that Sonosite was worth a couple of hundred million dollars in the market and that that technology was worth a couple of hundred million dollars. And then, they weren’t just spinning it off just to blow out but that they didn’t want competitors. And what happened is Sonosite started developing. They started doing well, hitting milestones, you know, launching a product. And they went up five times for me. They went up from, like, 5 to 25. And it was really just on the insight of there is no analyst. No one wanted to look at it. The idea of a handheld device that would monitor you was so intuitive to me, combined with that disclosure very deep in the documents that no one could touch this, even in diapers. And for $250 million, it said to me that this technology had real value. And the way I saw it is at $250 million, yeah, they were burning cash. But my downside just felt very, very low. And I think that making that bet for the long term and, kind of, looking where I succeeded and failed.

And I’ll give you a failure story on the other side. Where I failed is where I have bet on either a binary event or I have invested on the basis of the future that’s coming, that I’ve seen no evidence to date. Oh, it’s based on this, it’s going to happen. And so, I remember I invested in this litigation company. They had a litigation against Microsoft. It was called… And oh my gosh, you know, they had cash and royalty and the royalty from Microsoft. and here’s the range of probabilities. And they settled with Microsoft but it was for, like, a fraction. And I’ll never forget that day of just being like, “What did I do?” I just didn’t analyze this right. I don’t know. It was 30 or 40 years ago. This was a while back. But I’ll never forget just, kind of, being really upset at myself to the point where I was pounding the ground with my fist. But the biggest lesson that I’ve learned is how important it is to know yourself and to invest alongside with the strengths and your personality and how you work because how I work is very different from you.

Meb: And it’s hard to know that. Also, when you’re young, you know, you sometimes have to go through it like, “Oh, no. I don’t want to do that. That sounds terrible,” or the experiences you have. And there’s not necessarily the right way. But there’s the right way for you. And one last question before we let you go. You had mentioned some of these stocks when they do work, how do you think about selling? So, you mentioned I forget the prior stock but it was a 5-bagger going from 5 to 25. I mean, so many of us would be elated at 5 to 10. Is it a value target? Do you slap on some sort of just, “Hey, I’m going to update this quarterly if the story’s the same?” Is it qualitative, quantitative, what?

Aaron: It’s a mixture of qualitative and quantitative. And that’s where I got it right. But I’ve done other investments where it goes up, like, 50 or 100% and I sell. And then, I watch it just keep running and running and running and running. And what I’ve learned is, again, a company is working and there’s a long road to reinvestment and growth, you want to keep owning those, unless it just gets to some ludicrous valuation. But the market wants growth, and they love growth plus reinvestment opportunities. And so, that’s what I’ve learned.

I think it’s a mix of quantitative and qualitative. I get very worried when everybody’s agreeing with me and everybody’s super excited.

So right now, the housing market’s great. The housing market’s really strong. Personally, I’m starting to monetize my own personal real estate investments. One, they’ve done wonderfully but two, the other reason I would sell is just because I have much better reinvestment opportunities like, whether it be in Mexico or in U.S. cannabis or small caps that have a huge runway. It’s a mix of understanding but I think the other reason to really sell is you have something that is just much, much better.

Meb: Yeah. That’s great. That’s a great way to wrap a bow on it. Aaron, this has been a tour de force. I’m only halfway done with the questions. So, we’ll find another time in the coming months. Where do people find out what you’re up to? If they want to read your writings, check what you’re doing, where do they go?

Aaron: I’m on Twitter @aaronvalue, A-A-R-O-N value. Also, they can find me on my Substack, which is mindsetvalue.substack.com. Those are two great ways.

Meb: Perfect. We’ll add the links to the show notes, listeners. Aaron, thanks so much for joining us today.

Aaron: Thank you so much for having me. This has been a blast.

Meb: Podcast listeners, we’ll post show notes to today’s conversation at mebfaber.com/podcasts. If you love the show or if you hate it, shoot us feedback at feedback@themebfabershow.com. We’d love to read the reviews. Please review us on iTunes and subscribe to the show anywhere good podcasts are found. Thanks for listening, friends, and good investing.

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