David Barse is the founder and CEO of XOUT Capital, LLC. After spending 25 years building Third Avenue Management, a long-term buy-and-hold value investment firm, David retired at the end of 2015. Relying on his years of wisdom and experience, he launched XOUT, an index company, specializing in identifying which companies not to own or “XOUT” in an index.
Russ Alan Prince: You’ve experienced different market cycles throughout your career. What’s your outlook for the equity market?
David Barse: After spending more than 30 years, as a professional, investing in the markets, there is one thing I have learned: it is virtually impossible to predict the future. Economists spend all of their time evaluating data to make forward-facing predictions and a large majority of them get it wrong each year; the few that may have been right are wrong the following year.
Nonetheless, I am a long-term optimist and my outlook for the equity market is always positive. Most sectors in the equity market suffered in 2022 and many forecasters and financial pundits are warning of another challenging year. Seems prudent, but they are likely to be incorrect. The Federal Reserve has been a dominant contributor to the challenges in the equity market but companies, and the individuals managing those companies, aren’t solely focused on the Federal Reserve. They are focused on building, growing, improving, enhancing capital, and building long-term net worth.
In the US large-cap equity market—where XOUT is focused—every one of the largest 500 companies is particularly focused on this as well. Sure, some companies over-leveraged during the period of free capital and will need to restructure, but companies with strong balance sheets will take advantage and thrive. That is what capitalism is all about and one must stay optimistic to participate in the equity markets and you will be rewarded over the long term.
Prince: Is technological disruption over?
Barse: Interconnected with optimism is the innate desire for companies to innovate. No matter what historical period of business evolution we want to study, innovation has been the driver for growth and success. Those companies that fail to innovate will likely be disrupted and competition will impair those enterprises. The dominant component of innovation over the last 20 years has been technological innovation. As I sit here, I was reminded that today, January 9, 2023, is the 16th birthday of the introduction of the iPhone by Steve Jobs. Think of the innovation the iPhone has created and what has happened since the first generation of that product. The disruption it has caused to those that were not innovating has been devastating. Another mega-tech company, Microsoft, recently released news that they are in discussions to invest as much as $10 billion in OpenAI, the creator of viral artificial intelligence bot ChatGPT, according to the people familiar with the plans. This news highlights the fact that companies are continuing to dedicate more and more resources, whether through research and development or capital expenditures, to avoid disruption and ensure they are ahead of the technological innovation curve.
When you look at the business leaders of the S&P 500 companies, they are not only focused on the next quarter’s financial results, they are mostly focused on the next five and even longer periods of earnings improvement. Review the 10-Ks of the largest companies in the S&P 500 and almost every management discussion section has devotion to the word “innovation,” “technological investment,” and “avoidance of disruption.” Technological disruption remains one of the most important forward-facing risks for all companies in all industries; it is not just a technology company issue.
Prince: What are your views on asset allocation and is the era of the 60/40 portfolio finished?
Barse: Asset allocation should be every investor’s priority. One can mitigate risk by appropriately diversifying to not over-allocate to any one asset class or security. Historically, institutional allocators relied on the so-called 60/40 model—60% equities/40% fixed income—and told investors to HODL—borrowing a typo of the crypto market-Hold On for Dear Life—rebalance periodically and you will generate acceptable long-term rates of return. Unfortunately, they were wrong, and to avoid the error of their ways created new “benchmarks” to better compare their investment performance by just reverting to the mean. 2022 proved to be the not-so-shining moment for the 60/40 crowd.
Who wanted to own fixed income over the last few years knowing the Fed would have to raise interest rates? Not to mention, who wanted to own high-growth equities, which were becoming a larger component of the large-cap indices, and participated in the valuation re-price? Where do we go from here?
For the first time in a long time, fixed income appears to be an attractive asset class. Earning 4-5% on a US Treasury feels pretty good compared to the last ten years. However, we still have a way to go to reset the yield curve and obtain more duration to balance that portfolio. Equities on the other hand, as stated above, are the place to go for long-term investors. If you believe in capitalism, and the quality of the people who are appointed to run these businesses, then allocating to growth has to be the better option. Accordingly, one must take a balanced approach and diversify, but depending upon where one is in their life cycle, over-allocating to equities seems like the more prudent asset allocation. Capitulating to a 60/40 model because the ‘consultant’ community contrived a “tool” for long-term investors does not seem like a prudent idea.
XOUT Capital, LLC®, is an index company, specializing in identifying which companies not to own or “XOUT” in an index. Its first index, XOUT® U.S. Large Cap Index (ticker: XOUTTR), seeks to remove from the largest 500 US Equity Market Large-Cap companies that have been or will likely be disrupted by technological innovation. Its formula is fundamentally based on several financial factors which it gathers from the financial reports issued every quarter. The XOUT® index has been licensed to the XOUT ETF (NYSE Arca: XOUT) which rebalances its portfolio each quarter as new information is made available. XOUT has been listed since October 2019 and has over $75 million in assets under management as of January 9, 2023.
RUSS ALAN PRINCE is the Executive Director of Private Wealth magazine (pw-mag.com) and Chief Content Officer for High-Net-Worth Genius (hnwgenius.com). He consults with family offices, the wealthy, fast-tracking entrepreneurs, and select professionals.
