U.S. Long/Short Growth Equity Investing

EMS:

Absolutely. So to kick off the conversation, tell us a little about the firm and how you got to where you are today.

SS:
Okay. So Morgens Waterfall was founded in the late 60s by Ned Morgens and Bruce Waterfall. They went on to become pioneers in distressed investing, but they were also doing equity investing back in the very early day. They would visit Silicon Valley when it was really in its beginnings and they had a stock investment portfolio, but they really were most known for distressed investing, which lasted until about 2000. So today, Morgens Waterfall is only an equity long/short fund.

EMS:
Great. Scott, so as a follow-up question, love to hear your overall outlook for long/short investing and your strategy.

SS:
Sure. So we are a very concentrated equity long/short fund. We typically have about 20 big positions. There's no question the current environment has been very difficult for stocks, particularly growth stocks. Almost every equity strategy lost money last year. And in retrospect, there was really a key moment when the Fed said inflation was no longer transitory. That really marked the top for anything growth related. And the right strategy at that point was to just short everything. A lot of macro funds did exactly that and did quite well. We don't do that though. We kept to our process, which was to be long-term investors concentrated in the best companies or best stocks that we could find. And what's interesting is, this year, really the reverse has been happening.

Recently, the Fed said they believe the disinflation process has begun. There's still been a lot of volatility, but if you look year to date, S&P and particularly technology and growth stocks are up and performing quite well. So that strategy that worked perfectly last year is really not working at all. There's at least a shift in sentiment. So we think stocks are perhaps looking past the recession and maybe looking forward from here. So long term, we don't have any concerns. Short term, there will be volatility. But one thing we do know, however, is that great companies always find a way to grow, and owning the best companies with the best management teams will pay off in the longer run.

EMS:
Great. Scott, as a follow-up question, what industries or sectors are you focused on? Love to hear your thoughts on that.

SS:
Sure. So we're concentrated and we have a few main sectors that we're particularly focused on and we think we have expertise on. They are semiconductors, media advertising, consumer stocks, and life sciences. So I'll talk about semiconductors for a moment because it's such an interesting area. We made a concentrated effort a few years ago, almost a decade ago, to truly understand semiconductor industry. We just saw a lot of opportunity there because the area is difficult. You have to learn the science, you need to learn trends. It's very cyclical. There are geopolitical concerns. It's just a very complex space. In fact, a lot of people have given up on the space altogether, but we haven't. We've done the opposite. We've doubled down on really learning about it. And this is a sector that is a tremendous area for generating alpha. Owning the best semiconductor companies and being short the worst has been very, very powerful over the last few years. And we also find that not enough people are really putting the time and effort to do that space. So that's one example where we see some opportunity.

EMS:
Great, Scott. And then as a follow-up, I'd love to hear about other overall opportunities you see in your investment strategy looking ahead, and why.

SS:
So a lot of times, for us, the way we look at the investing scenario is to look from a very big, broad outlook and we look at big themes. And if you think over the last 25, 30 years, there have been some major events in technology that have affected every industry. For example, in 2007 when the iPhone came out, this was a huge inflection point in technology. You could go back even further and say the same about the internet in the early '90s. I mean, you may remember the original iPhone didn't even have outside applications. If you think about everything you use your phone for today, it wouldn't have even been able to exist at that time. Uber getting on an airplane using a GPS.

So what are we facing today? Another huge in collection point is the advances in artificial intelligence models, especially this well-known ChatGPT, which is based on generative networks. This type of technology will likely be embedded in everything that we know today. It might even be in many things that we haven't even been able to predict yet.

Another obvious trend in area that we've found investment opportunity is the electrification of cars and all types of transport. Trucks, cars, even boats are being electrified now. The amount of semiconductor content in cars is just skyrocketing.

One-third area that we find a lot of opportunity in, and it seems obvious but it has really snuck up on everyone, is how we consume media. The so-called streaming wars have taken a business that was once very controlled and gated by a limited number of beekeepers and has completely opened it up. You think about YouTube for individual creators or even something as short as a TikTok. You think about all of the streamers that are out there now, Netflix and Disney and Paramount and Peacock and HBO. There is so much disruption in this space. It actually reminds you of what happened when newspapers, which look to be completely unassailable a few years ago, are now almost completely destroyed as a business model. So there's a lot of opportunity in really those three big trends right now.

EMS:
Scott, on the other hand, what are some of the greatest challenges you've faced or anticipate, and why?

SS:
I think by far the biggest challenge for investors today has been the volatility. You saw a tremendous drop in price on most of these growth stocks last year. Some of the very best companies in the world were cut in half over the course of a year. And not only that, you have companies that have tremendous intraday volatility. So this seems really unusual and terrible and awful, but the reality is this is very normal. We typically get a 10 to 15% market correction every 12 to 18 months. So if you look historically, that's not unusual. A vicious bear market like we had last year happens about every 15 years. The last one we had was in 2008, so 14 years ago. And before that, you had the dotcom crash in 2000.

The other reason volatility is up so much is, almost 50% of all stocks are held by ETFs. So when an ETF sells or a machine sell, they don't care about fundamentals, and selling can beget more selling. But when people look at it carefully like we do, we find opportunity in that. So we think the volatility is the biggest challenge for investors, but how we counter that volatility is far about what we own and being long-term investors.

EMS:
Scott, we've covered a lot of great ground today and wanted to see if you have any final thoughts you'd like to share with us.

SS:
Sure. One of the things that we do is continually improve and try to hone our process. But at the end of the day, we stay firm with principles which are quality companies, good management teams, high margins, competitive advantage. So we don't change our core principles, but we try to be agile. So that process will probably continue.

EMS:
Well, Scott, I wanted to thank you so much for sharing your perspective with our listeners.

SS:
Well, thank you so much for having me today, Elana.

EMS:
Absolutely.

Thank you for listening to the EisnerAmper podcast series. Visit eisneramper.com for more information on this and a host of other topics. Join us for our next EisnerAmper podcast when we get down to business.

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