Another Dot Com Crash?

Hello and welcome to another edition of Mr. Stillman's opus John Stillman joined today by very special guest Brian Evans Brian is the founder of Madrona financial services in North Seattle but right outside Seattle. What is it. Technically, Brian is near Seattle and ever watching, which is north of Seattle, home of the soaring real estate prices, everything I read is that Seattle is is a few years away from being the new San Francisco in terms of real estate values are you cemented I yeah Seattle and Bellevue. The median home price is near a million right now and there's a lot of old company houses there.

So whether at yeah price is not there's a lot of lakefront.

Obviously there are not 3 to 10 million typically area just a lot of significant amount of appreciation here, primarily due to the different businesses are started in around here you Microsoft's and Amazon's and Costco's Boeing's Starbucks just a lot of fabric of America type businesses and taking off here creating a lot of new money since then.

Ridiculous. So yeah time have highly appreciated real estate. I am yet to visit the Pacific Northwest. But I will one day well I wanted to talk with you today Brian about the.com question. By the way, Madrona financial services is one of above third-party money managers that we use a lot of my clients have money invested with Madrona financial services. Brian created three of his own ETF's exchange traded funds as a domestic stock for international equities and bond fund that he runs in house there at Madrona and is part of the portfolios that we've constructed there at Madrona but Brian, I wanted to talk with you today about the.com crash, and so the idea that you know, we might be kind of flirting with a similar type of situation.

Now I was looking at some research recently that was illustrating how basically half of the growth in the S&P so far this year is attributed to only five stocks, Facebook, Amazon, Apple, Microsoft and Google. And of course the S&P is 500 stocks right but half of the growth of that entire index is attributed to only those five companies.

Well, it's a little bit similar to 99, 2000, when the market was doing really well, but a lot of the growth was in just a couple of sectors so we can walk us through what happened. What caused the.com crash, and why was it actually avoidable. Yeah, there are similarities and differences in this and said that that interesting thing I did extensive research on the.com crash, and it was not a crash stocks across the board what it was. It was a crash couple of sectors and the problem was really it had to do with market cap weighted investing.

So what I mean by that is saved by the SP 500 Vanguard index or any index think the term index. What index does is it doesn't look at any companies internal financials or growth or profitability doesn't look at anything just says are you bigger incubator will buy more bigger meaning that people are buying sense, they just chasing as it goes out mentality that works great when big companies are growing rapidly. So right now indexes have been doing very well. Relative to other funds because of certain big names that you just mentioned are going and so they just keep buying more of them and overloading on during the crash of 2000 to 2002 more stocks in the S&P 500 actually went up in value, then down. Very few people know this but the ones that went down is where most of the money was and so when the.com's telecom and technology shares dropped on average 80%. They represented almost half of the money invested in the S&P 500 market cap weighted index the indexes the computers are buying the most of the biggest companies they had all their money basically in a small handful when they crashed. It made the average of the index go down 4050% even though more companies went up in value than down.

They just didn't have much money invested in those pretty amazing and I think you back tested some portfolios where you basically a truly diversified portfolio would've made not double digits would have made money during the.com crash right actually make double-digit so what is we we went back and said okay what what strategy would work in, and behold it was Warren Buffett, strategy Bilo based on what you're paying relative to the future profitability and that's not that hard to come up with. It's called that if you look at ratios growth of earnings projections and an analyst you know they're there.

Look.

Instead, all the time. So at the time, yet always.com had no product really, they had no no plan for marketing.

They didn't really have any sales projections of any significance. Yet there were $5 billion on the free market will flock stock prices were going up, simply based on the amount of web traffic to the site will get yet was web traffic need look at their financials and say all right here. I really like this one companies guy called me and says binds company were to get the tip. He literally says garbageman. So what are they doing over there.com okay well are worth $5 billion on the market. Yeah, I said there sales last year were grand total of one gross sales and their expenses were 20 million to produce 1 million and the market thinks there were 5 billion say I can't make sense of this, but there are other companies and were other companies at the time where they were worth $5 billion on the market they were earning 1 1/2 to $2 billion of profit annually. Now that I get my head around this. Best earnings that's you can replace the value of your company in the next three for five years. So it's the statistics that you can look back at and had built a model which we in the building that said rotate our money into the undervalued companies at all time. Knowing that yet we won't get the run up when there's that panic buying going on, which occurred at the time, but in the end, say Warren Buffett made a pretty good living off buying low and avoiding those levels and so and everybody else's avoiding undervalued companies. He goes in there buys a whole bunch of an mobile later on. You look back the one that made sense will the funds are. You are designed to do that we were constructing to say we always want to buy companies significantly undervalued when they're not the popular flavor of the day that's that's the best time to buy is when they're not know you said there were similarities and differences in today's market compared to the time the.com crash lipstick is one of the time, primarily the similarities are what similarities are people get excited when they see something going up up up up so it is not a problem to talk somebody into the stock of the company is set your 300% last three years but we have a conversation. Three years ago when he had been flat they go.

I want to buy this self similarity is any bowel people get excited when prices are going up the housing boom here in the million dollar 1200 square-foot 80-year-old house people think because that's that's a bargain with you. Years ago when he was 400 K they didn't think it was a bargain so we can get enamored by prices going up so bubbles overvaluation. That's a similarity that I see in the markets. What's different about this market compared to 17 years ago.

The big difference is that, as I mentioned that $5 billion.com had no chance of turning a profit are unprofitable companies now Google and Facebook and and Apple are extremely profitable companies.

That's the primary difference that their run may not be over if it's based on profits but just because it may not be over doesn't mean that there aren't other companies out there that are undervalued with significant profits to and so to help avoid a potential vulnerable sector rather than chase after somethings already. Maybe at a bubble or get beyond your valuation, you might want to go after stocks in other sectors that have been being ignored all this time that are making very significant profits and so that's the type type of diversification that I think is most is not about buying different sectors and in different companies. It's about diversifying amongst undervalued companies in multiple sectors.

That way we have a pullback like we did before then you really have a significant layer protection because you're in other sectors that are all undervalued and that's generally were money loads to people will sell overvalued companies to buy undervalued companies in whatever sector the so since the soaring stock prices of these companies like it was on Apple and Microsoft Facebook are all based on actual profits of the company. I guess I'm hearing you say that you not necessarily nervous about the future prospects all those companies but still it's a bad idea to be overweighted in technology sectors like it's a I think that is not agreed to be to have all your eggs in any basket.

Nobody foresaw used to be that if you wanted safe investment. You went into I didn't think bank stocks. We had a famous bank of your Washington Mutual had a lot of clients a lot of money that they want to diversify outstanding work out so good that it was oil notice by Chevron. You be finding in oil prices to get diagnosed when you work fine. And so you it can be anything. Buy real estate is downright crash. So no matter what we think now and now it's like oh no technologies. Everybody's going on.

This is to go up up up up forever and ever and ever. Well I don't know of anything ever done that and so is is just being prudent with your investment strategies that you don't just diversify stocks by saying I'm diversify down Apple and Microsoft and Google and Facebook. I'm diversify I got for stocks well drawl came in the same. Similarly, and so being prudent about that. You don't have to just take your money on the market but bonds which I would recommend.

I think there's a lot of great solutions outside buying bonds to reduce risk.

So one way to reduce risk certainly is to buy undervalued stocks when there undervalued right Evans, the founder of Madrona financial services Creator of three of his own ETF's and our guest today on Mr. Stillman's opus, Brian, always good talking with you. Yeah I love this W your mighty reduction in the radio world and in so I always appreciate you for that. Now I have my own shows and knives talk all day long on on on the radio and it's come a long way but you you are the Grand Master might my results here actually radio that was many years ago, yellow was always good to talk with you and if you have any questions and we shoot us an email will be happy to talk with you through some of these issues and a lot of you with this, of course, already have your money invested at Madrona self. You know you already doing and will talk with you next time right here same time same place on Mr. Stillman's opus