A $33 Billion Value Manager Who Has Actually Outperformed | Scott McBride
What this covers
In this episode of Excess Returns, Justin and Jack sit down with Scott McBride, CEO and portfolio manager at Hotchkis and Wiley, to explore the approach that has allowed them to succeed during a time when many other value investors have failed. McBride, with 24 years at the firm, shares insights into how their team has achieved impressive results by being willing to think differently from consensus.
Key topics discussed:
How market sentiment and emotion create opportunities for long-term investors The importance of having the right team culture and being comfortable with contrarian positions Their approach to valuing companies beyond traditional metrics like P/E ratios Why catalysts aren't necessary for investment success if you get valuation and governance right Their perspective on international markets, particularly opportunities in Europe and the UK Thoughts on AI's impact on businesses and investment analysis The growing influence of passive investing and how it creates opportunities
McBride explains why having fewer analysts covering certain stocks can create opportunities, and why focusing on business quality, strong balance sheets, and good governance is crucial for long-term success. He also shares valuable insights about maintaining flexibility in investment approach rather than being dogmatic about any single strategy.
Whether you're an experienced investor or just starting out, this conversation offers practical wisdom about what works in value investing over the long term.
0:00 Introduction to Scott McBride 0:34 What makes their team successful 2:17 How market sentiment creates opportunities 3:22 The importance of long-term thinking vs short-term focus 4:49 Lessons learned from bear markets 7:57 Is the market crazier now than before? 9:48 Why fewer analysts at meetings creates opportunity 10:44 How they define value investing 13:53 Their approach to investing in tech and intangible-heavy companies 15:41 Views on portfolio concentration 20:22 Approach to valuing growth companies 22:58 Thoughts on AI and its impact 26:54 Their process for finding new investment ideas 28:19 Team approach to portfolio management 30:54 Impact of passive investing on markets 34:33 International vs US market opportunities 41:17 The importance of governance in international investing 45:49 Why you don't need a catalyst to make money 46:41 The value of being flexible as an investor
#ValueInvesting #InvestingStrategy #MarketAnalysis #FinancialMarkets #StockMarket #InvestingTips
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Scott McBride argues that successful long-term value investing requires getting three things right—valuation, business quality/governance, and balance sheet strength—and that catalysts are unnecessary if management properly deploys capital to shareholders, contrary to the widespread focus on catalyst-driven investing.
- Market inefficiencies persist because most investors focus on short-term sentiment rather than long-term intrinsic value, creating persistent opportunities
- Business quality and governance alignment with shareholders matter more than price multiples alone; low-quality businesses at low prices can become value traps if management won't return capital
- Passive investing and index-driven flows create systematic mispricings in overlooked mid-cap and international stocks where analyst coverage has collapsed
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The firm has learned that when stocks are down in bear markets and investors typically sell (potentially at bottoms), the right approach is to identify if you're positioned in the right quality companies, at which point selling off creates an opportunity to buy more, rather than an opportunity to exit.
“I think the things thing thing we've learned is that there's a couple really important variables we want to stay focused on when we're evaluating companies”
A key difference in investing outside the US is much greater emphasis on governance assessment, because in the US bad management teams facing pressure often change, but in international markets bad governance and management can persist for long periods without correction, and the firm has made mistakes buying low valuation companies without governance structure to ensure capital return.
“when you invest outside the US you really have to pay a particular focus on what is the what is the governance you know is this a management team that's aligned with shareholders we've made the mistake of investing in companies that traded a low valuation but there's really no governance structure in place to return Capital shareholders to you to really care about improving the business and so we you sit there with that's that you sit there with a stock that just kind of wastes away that really is a value trap”
Balance sheets must be able to withstand shocks like financial crisis or pandemic, which you can't predict when they'll come but know they will; companies with weak balance sheets make it hard to stick with them during tough times, while good balance sheets enable riding out downturns
“one you don't know when the shocks are going to come and so you want to have balance sheets that can withstand the shock um we've been through the financial crisis we've been through the pandemic you just don't know when they're going to happen you just know they will and if you find yourself in a position where the balance sheet isn't very good it is hard to stick with something when times get tough if you you invest in businesses beforehand that have the right balance sheets you can withstand the downturns”
Hotchkis and Wiley have made mistakes investing in companies that traded at low valuation but had no governance structure in place to return capital to shareholders or improve the business, resulting in value traps where stocks just waste away
“we've made the mistake of investing in companies that traded a low valuation but there's really no governance structure in place to return Capital shareholders to you to really care about improving the business and so we you sit there with that's that you sit there with a stock that just kind of wastes away that really is a value trap when you do that”
To avoid mistakes during bear markets, investors should focus on three key variables: (1) care about the price paid for the business and ensure you get a good price; (2) ensure agreement on the quality of the business, preferring to buy the best business at an affordable price rather than lower-quality businesses at cheaper prices; and (3) only position in companies with strong balance sheets that can withstand shocks, because if you're positioned in the right companies when they sell off, you get excited to buy more
“there's a couple really important variables we want to stay focused on when we're evaluating companies so I talked about price of course we care a lot about the price we're P for the business we're investing in uh we also want to make sure we all agree on the quality of the business business all else being equal we want to buy the best business we can um can be prices for businesses that you know might be um a little bit lower quality but you need to really understand what you're buying and you need to get a great price so all else being equal we want to buy the best business we can when you buy a good business and the stock price goes down you get excited to buy more”
The market being driven by short-term sentiment and emotion creates opportunities for investors willing to think about what long-term value is, because most market participants focus on short-term performance and sentiment rather than long-term intrinsic worth.
“the market is driven by sentiment it's driven by emotion and you then went on to say you don't when you don't have a lot of folks who are thinking about what long-term value is it creates an opportunity”
A strong balance sheet that can withstand shocks and downturns is essential because the firm has made mistakes where valuation was correct but insufficient financial strength meant difficulty maintaining positions during crises, and unpredictable shocks (financial crisis, pandemic) will inevitably occur.
“you don't know when the shocks are going to come and so you want to have balance sheets that can withstand the shock um we've been through the financial crisis we've been through the pandemic you just don't know when they're going to happen you just know they will and if you find yourself in a position where the balance sheet isn't very good it is hard to stick with something when times get tough”
Good corporate governance with real alignment between management and shareholders allows management teams to take advantage of downturns through share buybacks, strategic positioning, and other shareholder-friendly actions, whereas bad governance means management may not act in shareholder interests during crises.
“the last is you want to have good governance you want to be invested in companies um where there's Real Alignment with with shareholders and if you have that um um you know when when when times are tough management teams can can take advantage of the downturn maybe they take share maybe they're just well positioned to deal with the downturn”
Governance assessment for international companies focuses on: alignment of management compensation with shareholder value creation, independence of board, whether management is motivated by shareholder returns or has other stakeholder priorities, requiring direct management discussion to assess alignment.
“the number one thing is are they aligned you know so when you look at their compensation is it align with crit shareholder value when you look at do they have an independent board uh you know is it controlled by you know a government or is it controlled by shareholders um but really you want to talk to management and understand are these people are motivated to generate returns for shareholders or do they have you know other interests you know other stakeholders they care more about”
The firm rates companies on a one-to-five quality basis, and buying a quality business serves as risk control because if mistakes occur—unexpected business events or overpayment—a high-quality business compounding value over time will cushion those mistakes, whereas buying a lower-quality business where things go wrong creates risk of severe loss.
“we rate all our companies on on a one to five basis in quality and what I'd say is if you buy a quality business um that means that generally means the business is going to compound value over time and so that serves as a bit of a a risk control”
For growing businesses that spend heavily on R&D or sales/marketing, you need to estimate 'maintenance R&D' or 'maintenance sales and marketing' to determine what margins will look like when the business matures, similar to estimating maintenance capex for capital-intensive businesses
“for a growing business that's spending a lot on capex for a business that's spending a lot on R&D we try to think about what is maintenance R&D or spending a lot on sales and marketing what is maintenance sales and marketing meaning what are margins going to look like when the business matures and so I think if you're investing in intangible companies you have to think about those issues”
The firm doesn't require a catalyst to unlock value (contrary to what many people ask); what matters is being right on valuation and right on the future earnings quality, combined with good governance that ensures management acts in shareholder interests (dividends, buybacks) to benefit from the low multiple even if the market never recognizes the value.
“a lot of people will ask us hey do you need a catalyst or do you need how you g to unlock the value if no one cares and I think that's kind of missing point which is really what you need for a stock to work is you a few things you need to be right about the valuation and you need to be right about kind of the quality and the future of the earnings”
Markets are as inefficient today as they have been throughout McBride's career despite more information availability, because more information does not equal market efficiency, and this creates opportunities
“I don't know if i' say they're crazier but there's more and more information available but that has does not mean that markets have become more efficient I think markets are as efficient as they've you know excuse me as inefficient as they've as they've been throughout my career”
When investing outside the U.S., governance requires even more attention than in the U.S. because bad or misaligned management teams and poor governance structures in many non-U.S. countries persist for longer without market or shareholder pressure forcing change, creating value traps when low valuation is paired with poor governance
“I think there's one big uh point of emphasis when you invest outside the US and that is really governance in the US if you have a management team that's not aligned with shareholders it's not doing a good job and is not focused on creating value for shareholders a lot of pressure comes to Bear often and that manager management team has changed and in different parts of the world that's just not true um you know bad or management teams or governance structures that are not aligned with shareholders they they go on for a long time”
Analyst coverage is sparse for many midcap companies, as evidenced by one analyst going to an investor day for a $15 billion tech company in San Jose where only two sell-side and two buy-side analysts (including himself) attended, whereas mega-cap companies like Nvidia receive massive analyst attention (thousands on recent DeepSeek impact calls).
“we had a uh one of our analysts go to a buy side you know excuse me an investor day for one of the companies we own um this is like a midsize midcap company $15 billion it's one of our biggest Investments he went to the analyst day which is in San Jose this is a tech company so it's it's in San Jose there were two Sal two sell-side analysts and two buy side analysts including him so no one's really paying attention to some of these companies”
At a $15 billion mid-cap tech company analyst day in San Jose, only two sell-side analysts and two buy-side analysts (including Hotchkis and Wiley's) attended, compared to thousands of people on recent Deep Seek and Nvidia AI-related calls, demonstrating that analyst attention has collapsed for smaller names while concentrating on mega-cap AI narratives
“we had a uh one of our analysts go to a buy side you know excuse me an investor day for one of the companies we own um this is like a midsize midcap company $15 billion it's one of our biggest Investments he went to the analyst day which is in San Jose this is a tech company so it's it's in San Jose there were two Sal two sell-side analysts and two buy side analysts including him so no one's really paying attention to some of these companies and I would um compare that to what's gone on last week with deep seek and and the impact on AI uh you know there was a lot of news on deep seek last week it impacted stock prices it impacted the price of Nvidia and so there were a lot of Wall Street calls on deep seek um there were thousands of people signed up for these calls”
Stock index additions create a best-case example of passive investing's impact on markets: when a stock gets added to an index, it goes up due to systematic buying unrelated to valuation, forcing passive funds to buy even more because the index now has a larger weight in the stock, demonstrating how passive flows create artificial price pressure independent of fundamentals.
“I think the best example for that is when stocks get added to the you know that the passive investing is having this impact is when stocks get added to an index stock gets added to an index and the stock get analysis being added the stock goes up everyone's going to buy more it does really make any sense right like why it's not worth anymore it just happens to be added to the index”
The firm is willing to be very different from benchmark weights in sector allocation—willing to have big weights in particular sectors or be zero in a sector if they don't see any value, rather than thinking about benchmark weights.
“when you think about sectors um you know we're willing to be very different than Benchmark weights we don't talk too much about the Benchmark weights um we're willing to have big weights in particular sectors uh we're willing to be zero in a particular sector if that sector really doesn't look interesting at all”
A culture of being willing to think differently from consensus and invest in areas where others are uncomfortable is essential to outperforming the market.
“I think even more important is we have a culture where we're willing to be different than consensus you know you really need to be different to outperform and our team members are just comfortable with being out of the consensus and if you've been willing to be think different and be out of consensus there's actually been a lot of opportunities the last five years”
The S&P 500's 10 largest companies by decade almost always change significantly, and while the market is different now, McBride wouldn't rule out significant change in the coming decades despite current leaders' advantages.
“if you look at the history of the S&P 500 and you look at the 10 largest companies by decade they almost always change a lot”
The firm is more likely to add to positions that are down rather than positions that are up, as a natural consequence of their contrarian culture—when something they like goes down, they like it more.
“we're more likely to do the opposite which is to add to businesses that are down I think again if you go back to um we talked about our culture our culture is just to be contrarian and so if we like something and the stock goes down I think there are some investors who think oh the Stock's going down it's not working I got to get out that's just not how we think the way we think is oh we liked this business and it got a lot cheaper so we should like it a lot more”
They have processes to ensure they're not falling in love with a stock when re-evaluating to make sure the investment thesis still holds before adding on weakness, to avoid catching falling knives.
“we obviously want to make sure that we're re-evaluating the situation and we have processes to do that to make sure we're not um you know we're not falling in love with a stock uh and that things really have changed so we want to make sure that our investment thesis still holds but if it still holds um and the stock goes down we obviously want to buy more”
The firm's time horizon hasn't changed despite passive growth—they've always thought 3+ years out, looking at what businesses will earn in normalized conditions, so the growth of passive hasn't required them to lengthen their time horizon.
“we don't really think about it that way I know I've heard other investors talk about it you know I think our time rism is always pretty long so if you think about what we talked about we're we're really you know the opportunities are created because a good business something's going on with a good business that's got the market you know spooked”
The pandemic, the 2022 tech selloff, and 2023 bank failures created stress-driven market opportunities that Hotchkis and Wiley exploited through willingness to look in areas where others were uncomfortable, including travel stocks during COVID, tech stocks during the 2022 panic, and financials during bank failures
“if you think back to the pandemic uh travel stocks were a really good opportunity the price of oil was zero and so that created a lot of interesting opportunities and energy in 2022 there was a big selloff in Tech and there was kind of a panic about some of these tech companies that created opportunities in Tech and then in 2023 uh we had bank failures and that created a lot of opportunities in financials so there's been a lot of stress the last five years and that stress creates opportunities but you have to be willing to think different”
Hotchkis and Wiley sources ideas through analysts with 19+ years of industry experience who hunt for ideas and meet with hundreds of companies annually, industry-specific screening tools customized by six sector teams, biweekly meetings to track ideas and decisions, and belief in developing specialists by industry rather than generalists
“a lot of it is the analysts who have again I mentioned 19 years experience that are hunting around I mean they're meeting with hundreds of companies every year they're hunting for ideas a lot of them you know they know their we cover our Industries globally so they know a lot of the companies globally in their space and they have views on a lot of them so a lot of them come that way”
The market is driven by sentiment and emotion, and because most investors focus on short-term performance and sentiment rather than long-term value, this creates opportunities for investors willing to value companies on a three-plus year basis and look for businesses that are underearning their long-term potential
“the market is driven by sentiment it's driven by emotion and you then went on to say you don't when you don't have a lot of folks who are thinking about what long-term value is it creates an opportunity”
The key to investment success requires starting with a great team with long tenure (Hotchkis and Wiley's analysts and portfolio managers average 19 years tenure), combined with a culture focused on long-term thinking rather than predicting short-term earnings, and a willingness to be different than consensus because you really need to be different to outperform
“you need to have a great team and so um we've got about 30 Lo people on the investment side uh our average tenure for our analysts and PMs is 19 years this is my 24th year at the firm”
Value investing definition should be flexible rather than dogmatic about specific metrics: Price-to-Book is not meaningful for intangible-asset businesses like Microsoft or software companies, Price-to-Earnings can be misleading for growing businesses investing through the income statement, and the firm determines what a business is worth and pays a discount to that intrinsic value, recognizing that higher-quality businesses deserve higher prices.
“for each company we want to think about what we think the business is worth and ultimately want to buy at a discount to what it's worth so if you're a capital intensive industry if you're a bank a book value might be an interesting stat to think about ultimately we want to turn Book value into normalized earnings for us”
Growth rate mean reversion is appropriate for cyclical industries like banking and energy but not appropriate for technology or service industries where falling out of favor means a business can die permanently with no law requiring return, while some dominant tech platforms are insulated from competition and represent genuinely powerful lasting businesses, though pricing today is very high.
“I think we'd be willing to own those if the prices right unfortunately in the market environment today people are just paying very high prices for those kind of companies and so um they're just this just not very interesting for us”
Markets are as inefficient today as throughout Scott McBride's career, despite more information availability; inefficiency persists because more capital is flowing into passive strategies and short-term earnings prediction strategies, crowding out long-term valuation work.
“I started my career during the do com boom and so I think uh uh I don't know if i' say they're crazier but there's more and more information available but that has does not mean that markets have become more efficient I think markets are as efficient as they've you know excuse me as inefficient as they' as they've been throughout my career”
Mean reversion is not applicable to technology and service industries where products can fall out of favor and never recover, and there's no law requiring business revival; alternatively, some tech businesses have become near-monopolies with winner-take-all dynamics and are insulated from competition, making them powerful businesses if prices are right
“being rever is a great approach for some Industries you know for banking it makes a lot of sense um you know um for energy it makes a lot of sense for other Industries Mak sense for things like technology they're not really mean reverting I mean for service Industries they're not really mean reverting meaning like if your product falls out of favor it just falls out of favor and dies there's no law that says that business has to come back and then alternatively some of these businesses that have become um you know almost monopolies win or take all uh markets um those are really powerful businesses”
When stocks are added to passive indices, they go up without any change in value, forcing the index to buy more, creating a mechanical feedback loop where passive flows decouple prices from fundamentals; while indexing makes sense for some investors, the growth of passive investing as a portion of markets risks crowding out fundamental investors, though it simultaneously creates opportunities for contrarian investors
“the best example for that is when stocks get added to the you know that the passive investing is having this impact is when stocks get added to an index stock gets added to an index and the stock get analysis being added the stock goes up everyone's going to buy more it does really make any sense right like why it's not worth anymore it just happens to be added to the index and then of course because the stock is out the index now has to buy even more of the stock”
For intangible-heavy businesses like Microsoft, Price-to-Book ratio really means nothing about how attractive or overvalued the business is; traditional value metrics don't work for these businesses
“I mean Price to Book really for most intangible businesses Price to Book really means nothing um you know for Microsoft what is Price to Book ratio is really means nothing about how attractive or overvalued the business might be”
Hotchkis and Wiley are more likely to add to positions that are down (if thesis still holds) than to add to winners, reflecting their contrarian culture: when a liked business gets cheaper, they should like it more and want to buy more, which requires processes to re-evaluate thesis holding but natural impulse is to add on weakness
“we're more likely to do the opposite which is to add to businesses that are down I think again if you go back to um we talked about our culture our culture is just to be contrarian and so if we like something and the stock goes down I think there are some investors who think oh the Stock's going down it's not working I got to get out that's just not how we think the way we think is oh we liked this business and it got a lot cheaper so we should like it a lot more”
During bear markets, investors make their worst mistakes by selling when stocks are down and then being late to get back in, which significantly detracts from long-term returns
“I think that is a lot of times when investors make the worst mistakes it's when stocks are down they have a tendency to sell and then maybe are late to get back in and so there's a timing component that can really detract from returns”
Each Hotchkis and Wiley analyst maintains detailed spreadsheets for every company covering products, geographies, supply sources, tariff impacts, adjustment costs, competitor positioning, and management discussions—allowing granular modeling of macro impacts like tariffs.
“definitely every analyst spreadsheets with every company where they what their products are where they do business where they Source them from what a tariff might mean how can they adjust talking to management about what they could do if they need to change where they do business and how much it would cost and all those things so and then you know what the competitors look like and so if the competitors are positioned similarly how much of this is just passed through by the industry what does that mean so yeah we're trying our best to model it as best we can”
For capital-intensive industries like banks, price-to-book might be interesting, but ultimately the firm wants to convert book value to normalized earnings and think about what multiple of normalized earnings they're willing to pay.
“for each company we want to think about what we think the business is worth and ultimately want to buy at a discount to what it's worth so if you're a capital intensive industry if you're a bank a book value might be an interesting stat to think about ultimately we want to turn Book value into normalized earnings for us and think about what multiple of normalized earnings are we willing to pay for a bank”
Hotchkis and Wiley is willing to build concentrated positions (up to 5-15% depending on strategy) in stocks that meet four criteria: good valuation, good quality rating, strong balance sheet rating, and right governance with management alignment.
“we're willing to be pretty concentrated it depends on the strategy we're talking about I think ultimately what we're looking for in a stock is what I talked about good valuation and then they have a good quality rating and our our model a good balance sheet rating and then they've got the right governance so we're aligned with management teams and if we get all of those things quality business looks good balance sheet is strong alignment with management and we get it at a good price those are the kind of stocks we want to make big weights”
Hotchkis and Wiley sells stocks for three primary reasons: the stock reaches fair value, the thesis changes because their assessment of business worth changed, or they realize they made a mistake in valuation.
“at a high level it's pretty you know it's pretty straightforward first would be we sell when it gets to fair value and that can happen because the stock went up a lot or it can happen because we just changed our assessment of what it is and we realized we made a mistake and Stock's not as as as worth as much as we thought could be because we get a or it could be because we get a better idea now”
Some large tech companies like Microsoft and Google have competitive moats that function like monopolies or near-monopolies in certain markets, but most large market cap tech companies do not all have the same quality; differentiation is required to assess which ones are genuinely insulated from competition.
“some of these big tech companies you have to say do you know Microsoft you have to say it's C of with Monopoly in some of its markets or Google I mean they they really have a big Advantage have to say it can never change of course it could but some of those companies do”
Hotchkis and Wiley's approach to valuation is flexible rather than dogmatic: for capital-intensive industries like banking, they consider book value and normalize it into earnings; for software businesses, price-to-book is not valuable and even price-to-earnings may be misleading for growing companies investing through the income statement; ultimately they determine what a business is worth and pay a discount to that value, recognizing that higher-quality businesses should be worth more
“for each company we want to think about what we think the business is worth and ultimately want to buy at a discount to what it's worth so if you're a capital intensive industry if you're a bank a book value might be an interesting stat to think about ultimately we want to turn Book value into normalized earnings for us and think about what multiple of normalized earnings are we willing to pay for a bank uh if you're a software business you know we're not going to think about price to books not really valuable and in some cases even price to earnings if you're a growing software business that's investing through their income statement might not be that valuable”
Hotchkis and Wiley's international governance checklist emphasizes: (1) alignment of management compensation with shareholder value creation; (2) board independence (not controlled by government or founding family); and (3) management motivation—determined through direct conversations—to generate shareholder returns or to service other stakeholder interests
“the number one thing is are they aligned you know so when you look at their compensation is it align with crit shareholder value when you look at do they have an independent board uh you know is it controlled by you know a government or is it controlled by shareholders um but really you want to talk to management and understand are these people are motivated to generate returns for shareholders or do they have you know other interests you know other stakeholders they care more about”
Scott's key wisdom for average investors: adopt flexible investing philosophy rather than dogmatic adherence to single styles (low P/E only, high growth only, or high quality only); adapt strategy based on what markets present, similar to coach Bill Belichick's flexible football strategy.
“I think a lot of people get caught up in sticking to like hey I've got my one philosophy I I'm a I'm a low PE investor or I'm a I like to invest in fast growth companies or I like to find the highest quality and that's what I want to invest in um I would say where you want to be is you want to be flexible as an investor”
When selling positions at fair value, the art is recognizing when a business is reverting to normal or improving; sometimes the business improves more than forecasted, so being patient with high-quality businesses that are improving is important because you may find out things are much better than imagined
“when you're thinking about selling when a stock get to fair value there can be a bit of an art to that that I think we've learned over time and that is when you get a business that is you know we'd say like reverting or business that's improving so we invested in this company we thought the company was very good but it was really underere earning what it should do and things start to improve sometimes you'll be surprised at how much better they get than you originally kind of forecast and so so what we found in some cases again it's usually when the business quality is pretty good um when things start to get better you want to be patient because you'll find out that oh things are a lot better than I could have imagined and the tendency can be oh the stock is up 50% we got to sell I mean that was our original Target but maybe things are much better than you would have thought so you want to be patient when businesses that are high quality start to um see the Improvement that you expected”
Hotchkis and Wiley believes AI will drive real productivity in the world like past technology waves, but is cautious about the massive capital deployment into AI infrastructure (data centers, AI-specific capex) given uncertainty about return on that capital; instead they seek software companies without current AI revenue that may benefit from enterprise AI adoption in the future at reasonable valuations
“with regard to AI you know our our assumption is that this is going to be something that drives real productivity in the world that it will take time I mean these technology waves in the past have really driven a lot of productivity in the world again I think this will do the same it's going to take time um right now there's a lot of hype obviously in on AI in the marketplace and um there's these there's massive amounts of capital going into pursue some of these AI Industries and for us we're just really generally want to stay away from making that bet it's just are we going to get a a return on this massive amount of capital with building these AI data centers I don't know maybe we will it's hard to know we want to stay away from those kinds of things”
If you're willing to think different and be out of consensus, there's been a lot of opportunities in the last five years, including in travel stocks during the pandemic, energy in 2022 when oil prices went to zero, tech in 2022 during a selloff, and financials in 2023 during bank failures.
“if you've been willing to be think different and be out of consensus there's actually been a lot of opportunities the last five years and so if you think back to the pandemic uh travel stocks were a really good opportunity the price of oil was zero and so that created a lot of interesting opportunities and energy in 2022 there was a big selloff in Tech and there was kind of a panic about some of these tech companies that created opportunities in Tech and then in 2023 uh we had bank failures and that created a lot of opportunities in financials”
Unfortunately, market prices for large dominant tech companies like Microsoft and Google are very high, so the firm isn't finding them interesting from a valuation perspective, even though they would be willing to own them at the right price.
“I think we'd be willing to own those if the prices right unfortunately in the market environment today people are just paying very high prices for those kind of companies and so um they're just this just not very interesting for us”
Regarding AI, the firm assumes it will drive real productivity in the world similar to past technology waves but will take time; there is currently excessive hype and massive capital flowing into AI infrastructure/data centers with uncertain returns, so the firm avoids betting on AI infrastructure capital returns and instead looks for enterprise software companies without current AI stories that may have AI product opportunities in the future.
“our assumption is that this is going to be something that drives real productivity in the world that it will take time I mean these technology waves in the past have really driven a lot of productivity in the world again I think this will do the same it's going to take time um right now there's a lot of hype obviously in on AI in the marketplace”
US market valuation is on the high end historically, partly justified by higher quality of companies and higher returns, but portfolios managed by the firm show normalized or current earnings at average or below-average valuations relative to firm's historical benchmarks, indicating they can generate good returns going forward despite broad market being expensive.
“I think the US valuation is is on the high end of things um I think the quality of the companies in the market is definitely higher than it was historically the returns are higher so some of that market valuation may be justified but it's still historically High um but what's interesting for us is if you look at our portfolios that we measure normal earnings or current even across the portfolios they're all in about average or even below average valuations for us”
Over the last five years, Hotchkis and Wiley's funds achieved a 100% hit rate where all mutual funds in their lineup outperformed their primary benchmarks on a three-year basis through August
“how the firm had a 100% hit rate so 100% of the mutual funds for that period of time that was measured in the article had outperformed their uh primary benchmarks”
David Einhorn makes a similar point about small-cap stocks: lack of analyst attention makes it difficult for companies to appreciate on positive news because nobody is paying attention, leading him to focus on companies returning capital directly to shareholders rather than betting on multiple expansion
“You mentioned something earlier that gets to this next question which is this idea that you have people at an analyst day and there's maybe two or three other people there this is something David Einhorn brought up um in a podcast he was on which is he he was talking about this idea that in small cap companies he's investing in he doesn't think people are paying attention like they used to and so it makes it difficult for them to go up when there's positive news because there's just nobody paying attention and he's kind of argued he focuses more on companies that are returning Capital directly to shareholders because he's not thinking about multiple expansion as much as he used to because of this lack of attention”
Each analyst maintains spreadsheets for every company detailing products, business locations, sourcing, tariff impacts, and management discussions about potential adjustments (location changes, costs, competitive positioning), all to model tariff impacts as thoroughly as possible across individual companies
“definitely every analyst spreadsheets with every company where they what their products are where they do business where they Source them from what a tariff might mean how can they adjust talking to management about what they could do if they need to change where they do business and how much it would cost and all those things so and then you know what the competitors look like and so if the competitors are positioned similarly how much of this is just passed through by the industry what does that mean so yeah we're trying our best to model it as best we can”
In 2022, Hotchkis and Wiley owned a European bank (€18 billion market cap) trading at 10x quarterly reported earnings (approximately 2.5x normalized earnings), announced €16 billion in capital returns over four years (88% of market cap), exemplifying the kind of opportunity to look for in lower-quality names with stunning valuations and management willing to return capital
“a good example would be in 2022 there were we owned a fair amount of European Banks and we had a European Bank um that was about an 18 billion Euro company and reported earnings and it traded for it was trading at 10 times what it just reported for that quarter so two and a half times uh normal earnings two and a half times actually Kern earings which is about close to normal and um it announced they were going to return $16 billion worth of capital over the next four years to shareholders again the market cap was 18 billion so kind of a stunning value”
Catalysts are not necessary for value investing success if you get valuation and governance right; if a stock is trading at a low multiple and management is aligned with shareholders, the company can pay dividends, buy back shares, and grow earnings annually—and if the multiple contracts further, management can buy back more shares and earnings grow even faster, all without needing external catalysts for multiple expansion
“a lot of people will ask us hey do you need a catalyst or do you need how you g to unlock the value if no one cares and I think that's kind of missing point which is really what you need for a stock to work is you a few things you need to be right about the valuation and you need to be right about kind of the quality and the future of the earnings I mean those two go hand in hand but you need to be right about that like hey I'm buying it at X and I think earnings are going be this over time if you get that right and then you get the governance right meaning management team is aligned with you then you don't really need anything else to to go right”
International stocks offer better valuations than U.S. stocks because while U.S. earnings growth has been better, much of U.S. outperformance has been driven by multiple expansion; comparable international companies in the same industries with similar business mixes and management teams trade at significant discounts to their U.S. counterparts
“there's some truth to that um which is the earnings growth has been better and that's been part of the outperformance of US Stocks but part of the L performance has definitely been multiple expansion and um for that reason we think uh International stocks offer better values and in some Industries you can look at very similar companies that happen to be one in the US and one in in a different in Europe for example with I'd say very similar business mixes and very similar management teams and governance and just a much the stocks in uh in the US traded a premium”
The firm uses six sector teams organized by industry with specialists who have deep experience in their industries, generating many ideas from these specialists' network of company relationships; each team includes 6-8 people with PMs embedded, and all research into portfolios is vetted by these industry teams before PM teams build portfolios, creating a consensus approach where different PM experience brings different strengths.
“the teams vett it the teams come to agreement on some of the key metrics I've talked about valuation and then the quality balance sheet governance ratings and then it's up to the PM teams to take the output and build portfolios”
While some large tech companies like Microsoft and Google have characteristics of monopolies with significant competitive advantages and the ability to last longer than past dominant firms, index rotations still suggest that significant company change is likely in coming decades, making permanence of tech dominance uncertain despite current apparent moat durability
“some of these big tech companies you have to say do you know Microsoft you have to say it's C of with Monopoly in some of its markets or Google I mean they they really have a big Advantage have to say it can never change of course it could but some of those companies do you know Microsoft you have to say it's C of with Monopoly in some of its markets or Google I mean they they really have a big Advantage have to say it can never change of course it could but some of those companies do”
The firm has achieved a 100% hit rate with all of its mutual funds outperforming their primary benchmarks over a three-year period through August (as reported in a Bloomberg article), driven by a team of 30 investment professionals with an average tenure of 19 years and a culture focused on long-term thinking rather than short-term earnings predictions.
“it was a Bloomberg article from last uh year was the end of some sometime in Q4 and the title of that Bloomberg article was how a $33 billion fund manager scored a perfect record betting on value”
The firm's international strategies are overweight Europe and the UK and underweight the US relative to global benchmarks because they see more value there, covering multinational companies globally but finding European and UK headquarters provide better valuations for similar business quality.
“for us it's Europe and the UK that's where we see the most value um okay um you know we have a lot of us Investments too so I don't want to say we don't but um if you think about relative to benchmarks at least where the the US market has become such a big part of the global benchmarks we are overweight Europe and overweight the UK and underweight the US”
The firm attempts to model tariff impact by thinking about long-term impact on earnings rather than near-term sentiment effects, assessing how companies are positioned, how they could adjust, and what the likely earnings impact is; most companies in the portfolio could experience manageable impacts with likely overreactions when stocks sell off on tariff news.
“we're trying to think about the long-term impact of tariffs and um how companies are positioned how could they handle it how could they adjust what's a likely impact to earnings and try to make that assessment so in most cases in the companies we own there could be some impact ultimately um most of the time we think it's manageable”
Europe and the UK are where Hotchkis and Wiley sees the most value, with many multinational companies just happening to be headquartered there; they are overweight Europe and the UK and underweight the US relative to global benchmarks
“for us it's Europe and the UK that's where we see the most value um okay um you know we have a lot of us Investments too so I don't want to say we don't but um if you think about relative to benchmarks at least where the the US market has become such a big part of the global benchmarks we are overweight Europe and overweight the UK and underweight the US and those benchmarks so I would say Europe and the UK combined is um you know is where we see see the opportunities”
Hotchkis and Wiley doesn't lengthen time horizons in response to passive investing growth; their time frame has always been three-year-plus oriented focused on normalized earnings, so business fundamentals and opportunities are identified the same way regardless of macro shifts in passive flows
“we don't really think about it that way I know I've heard other investors talk about it you know I think our time rism is always pretty long so if you think about what we talked about we're we're really you know the opportunities are created because a good business something's going on with a good business that's got the market you know spooked the Market's really focused on what's going on right now it could be because people are worried about the macro environment and that might hurt earnings for this stock or it could be there's an industry down cycle um and that is pressuring earnings right now or could be company specific and so that's what the Market's focused on and what we're thinking is hey if you're willing to look three years out or even further there's reasons to believe um that this business uh is going to earn a lot more than it is now”
Hotchkis and Wiley are willing to be very different than benchmark weights and willing to have big weights in particular sectors or be zero in a sector if it doesn't look interesting, rather than tracking benchmark sector weights
“when you think about sectors um you know we're willing to be very different than Benchmark weights we don't talk too much about the Benchmark weights um we're willing to have big weights in particular sectors uh we're willing to be zero in a particular sector if that sector really doesn't look interesting at all the norm is not to be zero but we're willing to do that in cases where we just don't see any value so um you know we're willing to be much different than benchmarks”
Hosking & Wyse is willing to be highly concentrated in portfolios, often taking 5% positions and in more concentrated strategies 10-15% positions when they identify stocks with good valuation, quality rating, strong balance sheet, and management alignment.
“we're willing to be pretty concentrated it depends on the strategy we're talking about I think ultimately what we're looking for in a stock is what I talked about good valuation and then they have a good quality rating and our our model a good balance sheet rating and then they've got the right governance so we're aligned with management teams and if we get all of those things quality business looks good balance sheet is strong alignment with management and we get it at a good price those are the kind of stocks we want to make big weights”
Investment research is presented to teams of 6-8 people including embedded portfolio managers; teams vet all research and come to agreement on key metrics (valuation, quality, balance sheet, governance ratings); PMs then build portfolios based on team output and must work to agreement when multiple PMs manage a strategy.
“all research is presented in into teams of like six to eight people and the PMS are embedded in these teams and what we like about those teams is everything that goes into one of our portfolios is Ved by one of those groups and um and so and those teams kind of stick in their industry groups so they build expertise and so the teams vett it the teams come to agreement on some of the key metrics I've talked about valuation and then the quality balance sheet governance ratings”
Specific example: A European bank at 2.5x normal earnings with a plan to return $16 billion of capital over 4 years to shareholders (market cap was $18 billion) represented a stunning value opportunity despite lower quality ratings, showing when a low-quality discount is attractive.
“a European Bank um that was about an 18 billion Euro company and reported earnings and it traded for it was trading at 10 times what it just reported for that quarter so two and a half times uh normal earnings two and a half times actually Kern earings which is about close to normal and um it announced they were going to return $16 billion worth of capital over the next four years to shareholders again the market cap was 18 billion so kind of a stunning value”
Hosking & Wyse is rarely willing to pay market multiples even for the world's best businesses and expects a discount to market valuation, especially when the market is trading above 20x earnings.
“I'd say only for the best businesses in the world would we be willing to pay like Market multiples and think they could be undervalued that would be very rare in most cases we want businesses that are trading at a discount to the market especially when the markets at over 20 times earnings like it is”
Hosking & Wyse uses a multi-factor rating system for every company where they rate financial strength (ability to withstand shocks) on a scale that helps them assess balance sheet quality as a risk control.
“for each of our companies we we we kind of rate our companies in a bunch of different categories and one of them we do is balance sheet we'll give each company a balance sheet rating and we want to buy balance sheets again that can withstand a shock”
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Hosking & Wyse uses LLMs like ChatGPT to improve research efficiency (summarizing data, documenting findings, sharing information) but does not view them as transformative to their fundamental investment process.
“I think we're using them just like everybody else would use them to you know improve the way you research uh improve the way you document improve the way you share information so summarizing Data before you read a read a paper helping you uh if you have to do a internal report maybe doing it more efficiently you know um those kinds of things”
Some investors have built quantitative investment strategies using consensus outputs from multiple LLMs (ChatGPT, Gemini, Claude), and while it's unclear whether AI-generated strategies will produce winning results, quantitative strategies generally have proven profitable.
“one of the guests we've had on recently He is building investment strategies using like a consensus of chat GPT Gemini and was it Claude Jack I think it was Claud yeah yeah yeah so it time will tell if AI can actually produce winning investment strategies who knows yeah I think there's a lot of winning quantitative investment strategy I out there so I don't doubt that others will try and use this to create that to create winning quantitative strategies”
The firm uses ChatGPT and other LLMs as productivity tools for improving research (summarizing data, writing reports more efficiently, sharing information) but sees them as tools to make existing work better rather than breakthrough capabilities that would change the fundamental investment approach.
“I think we're using them just like everybody else would use them to you know improve the way you research uh improve the way you document improve the way you share information so summarizing Data before you read a read a paper helping you uh if you have to do a internal report maybe doing it more efficiently you know um those kinds of things”
AI's impact on Hotchkis and Wiley's portfolio is currently small; even in software companies, AI is reducing costs and improving efficiency but the magnitude is tiny relative to R&D budgets, indicating the AI productivity benefit is still in early stages.
“when you look across your portfolio I mean do you see you probably would say like most of the companies are not seeing too much direct benefit from AI right now they probably have potential for the future but they're not seeing a lot of it yet yeah I think it's very small I mean even the software companies yeah we think about can the software companies take costs out are they going to get more efficient at um building software and I think there are signs that that's happening but it's small relative to the R&D budgets of these companies so I think it's early days and very small”