Broyhill Letter Highlights XIII: Revenge of the Nerds

This is the thirteenth piece in our Broyhill Letter Highlight series, highlighting our thoughts on nerds vs the "cool crowd".  You can access other posts in the series here.

For those who would like to revisit our letters in full, we will also be gradually sharing them to our Research Studio throughout the series.

XIII: Revenge of the Nerds

The average investor is more worried about missing the rally than losing his or her shirt.

What the herd buys differs from cycle to cycle. The common thread is that the herd buys the most popular stocks and drives up their value beyond rational justification. The herd buys what is in favor. And it sells what is out of favor—often driving prices far lower than reason.

When regimes shift, leadership changes. Throughout financial market history, winners of the last regime have lost their luster, and made room for the new cohort.

Last decade’s cool crowd is likely to give way to a Revenge of the Nerds – an ascendance of cheap, boring companies with strong, recurring cash flow. What worked in the past won’t work in the future. The drivers of returns change. Profits will once again be more valuable than promises.

The future may be unpredictable, but both history and the process of creative destruction warn us that even the most dominant dynasties and unassailable moats eventually come to an end. Follow the process, not the prize. Trust the process. The results will follow.

A frothy market doesn’t mean investors should avoid equity markets altogether. It just means that they need to identify and allocate to the pockets of value within the market where the odds are tilted in their favor. Even amidst a wildly overvalued market, compelling investment opportunities remain. It’s rare for all asset prices to decline in unison. Rolling bear markets are more common. Capital flows from the most popular crowded trades as they fall out of favor and into today’s unloved and undervalued assets. That’s precisely where we are focused.

Valuing companies that don’t make money can be somewhat of a challenge for fundamental investors tied to reality or to old ways of doing things. One way around this pesky challenge is to get creative and value businesses on other metrics like sales, or eyeballs, or clicks. One good thing about this approach is that you can use your own rules and your own measuring stick. Perhaps this explains the surge in non-profitable companies which has reached meteoric proportions.