Value Options: META, MSFT, GOOGL: Which Hyperscaler Actually Wins AI?

During their recent episode of the Value Options Letter and Acquirers Podcast, Travis and Carlisle discussed:

• Why Buffett Is Betting on the U.S. Housing Market
• Why Homebuilder Stocks Could Be a Value Opportunity
• How Selling Puts Can Give You a Better Entry Price
• Why Buffett’s Google Investment Is Worth Watching
• How to Find Options Opportunities When the VIX Is Low

TRANSCRIPT

[Tobias] Hi, I’m Tobias Carlisle. This is the Value Options Letter podcast. I’m joined, as always, by my co-host, Tim Travis.

How are you, Tim?

[Tim] Oh, I’m great. How are you?

[Tobias] Very well. Always an interesting time in the markets. We’ve been watching the long bond has been running up, not just in the US, it’s like a global phenomenon.

It’s been running up in Europe. It’s certainly run up in Japan, something like maybe 30-year highs in Japan. How is that impacting stocks in the US?

[Tim] Well, I think the primary driver has been just this inflation that has been generated largely due to this war in Iran that has just not gone very well. Every time that tensions flare up again, it seems like rates pop a little bit higher. That impacts everything.

The dividend yield for the S&P is extremely low, one of the lowest levels. Valuations are quite high by most metrics. Then now you have an alternative with bonds yielding really attractive yields relative to where they’ve been over the last 20, 30 years, really.

That can pressure stocks, certain stocks more than others. One area where it’s definitely a major headwind is real estate. I grew up in Orange County, California, and that’s a very real estate-centric, mortgage-centric industry.

You have people that are making a million dollars when the housing market’s booming, whether they’re mortgage brokers or real estate brokers. Right now, a lot of them are having to shift to different careers or just really reformulate things or work that much harder and for a lot less money. You see it in stocks.

A lot of these real estate investment trusts are selling at very high dividend yields, very low multiples of cash flow, Toby. I think it is having a big impact, particularly on that sector.

Why Buffett Is Betting on the U.S. Housing Market

[Tobias] We’ve seen some moves out of Berkshire Hathaway. It’s not Warren Buffett anymore, but we don’t know how long these were in the pipeline. It’s possible that he sort of had his fingers on some of these, but Berkshire Hathaway and Lennar.

[Tim] Yeah. That’s interesting, right? It’s kind of Buffett’s Buy American.

If you’re a long-term believer in the US economy, you’re ultimately probably somewhat of a long-term believer in housing, in the housing market, and that’ll grow along with GDP. Of course, there’s times when housing prices get out of whack. Now, they might be out of whack if you compare them to rental prices, especially with where interest rates are currently.

If interest rates were to drop, it’s very likely that housing would see some tailwinds from that, of course. A stock like Lennar is trading at actually a discount to book value for arguably one of the top two or three most quality operators in the home building world. Lennar’s got a really interesting track record of smart strategic splits of their businesses.

They’ve separated an asset management business in the past. They’ve gotten into different spaces. Then once it kind of runs its course, they’ll sell it or spin it off.

I thought Lennar is an interesting choice and a smart choice. Also, they bought Taylor Morrison, which is pretty much a classic Buffett purchase. I think that they were kind of looking to sell and wanted a good long-term buyer.

They see value in the space. I don’t think they’re doing it for the next three months, even the next three years necessarily, but maybe the next 10, 30 years. Yeah, I think there is value in that space though.

The rates are a big reason for that.

[Tobias] Yeah, I’ve been watching home builders closely too. I think one of the interesting analyses has come out of Nick Gurley. He’s like a macro housing guy.

He talks about the rates aren’t that high on a historical basis. We’re sort of around about the long run average for rates, although it feels quite high relative to what we’ve seen over the last five or 10 years or so. He says that the fact that people were able to lock in low rates around 2020 has meant that this market has been a little bit bifurcated, where it’s been about half of mortgages are locked in at that sub 3%, 3% rate and about half are around 6%.

They’ve sort of converged together to where now there are more 6% mortgages in the market, but only just recently as one of the most recent prints. His analysis is that it’s probably house prices that have been a little bit sticky. Previously, that had benefited the home builders a little bit because they were able to sell into a market with perhaps artificially higher house prices.

It was an unusual scenario where new homes were actually selling at a small discount to existing homes, which is rare historically. Typically, new homes sell at a little premium. That little log jam in that market has created some problems for the home builders more recently.

I think that’s why we’ve seen the multiples. When you see a little bit of conflict, a little bit of tension in those markets, that’s often a good thing for investors because it means lower multiples and reduced earnings. The future probably looks quite a bit brighter, although we may have to go through a little period of instability to get there.

Lennar, do you like any other home builders? Yeah.

Why Homebuilder Stocks Could Be a Value Opportunity

[Tim] Meritage Homes has been on the website. That’s another cheap one. The prices that we were dealing with were a pretty decent discount to book value.

These companies have such radically different balance sheets and capital structures than they did going into the financial crisis. They use a lot more options on land. They’re not as land heavy as they used to be and just much more conscientious about that so that there’s far less blow up potential.

That’s what’s interesting about it. I think most people would say, okay, long term, these companies can do pretty well and the housing will have better days than we’re at now. The reason that you have value though is because the next three months or next six months or next year are very uncertain.

That’s why you see the stocks repriced lower and that’s also why you see a little enhanced volatility.

How Selling Puts Can Give You a Better Entry Price

That opens the door, Toby, for us to sell some of our puts. You might have a stock at 83 that’s already cheap and trading at a discount, but maybe you’re able to sell puts at 80 or 75, 45, 60 days out and collect double digit premiums.

If stuff really hits the fan and rates keep going up and the stocks get hit by a big sell off, you might end up getting exercise, but it’s going to be a heck of a discount to what it would be now and historically on the multiple basis. That’s one of the nice things about options is that you really can manufacture your entry price more so than when you’re just buying the stock outright.

[Tobias] I like the way you framed that up. That’s one of the things that we think distinguishes this service from the other ones where we look at the outcome if you put the stock, so we only do it in stocks that you want to own, or if the option expires worthless, then you get a pretty good return on the option too, rather than just looking for the options with the highest premium and trying to make the money on the option side. That’s why it’s value options.

We’re trying to find good value positions to do it in so that if the stock gets put to you, it’s a good outcome. It’s not a bad outcome at all.

[Tim] Very much agree.

Why Buffett’s Google Investment Is Worth Watching

[Tobias] Let’s talk about some other moves of Berkshire. We know that they’ve invested in Google. It seemed like a very high price at the time.

They had an opportunity, lots of better opportunities over the 18 months beforehand, but they’ve done this private investment into Google. Does that make Google interesting from your perspective?

[Tim] I think the hyperscalers are interesting. Whether let’s talk about Google, I think Microsoft had some really attractive windows earlier this year that we did take advantage of. Meta, once again, I think we mentioned that a little bit last week with the litigation, but Meta on a multiple basis is really, really cheap.

They’ve probably had arguably the most success in monetising the AI in relation to the advertising spend. Amazon is highly, highly attractive in my estimation. There were even better opportunities earlier in the year, but I think that multiple is still pretty interesting there.

What Buffett did was, what’s crazy now is that these companies that were buying a tonne of stock back, now they actually have to issue stock in some cases to feed this CapEx engine here. They were asked to participate in it according to Greg Abel. Greg Abel called Warren Buffett and they talked about it.

I think they secured a 6.5% discount or something like that for their willingness to participate in it. They already were a shareholder in Google. That’s something that you as an individual can do by utilising options.

You sell the put at the strike that you’d be willing to own it at. If it expires and doesn’t expire below that strike price, you make your premium, whatever was acceptable to you at the time. Worst case, you end up owning it at that cheaper price.

Google is trading right around the range where Buffett and Berkshire bought that last big stake. If you wanted to follow them, it’s fertile grounds there. I think all those companies are really interesting.

There’s times where the market is going to feast on their negative cash flow now in some cases. Obviously, that racks up the multiples. You can’t value these companies on the same price to free cash flow as you had historically.

But if you make decent estimates in terms of what the returns on that invested capital are, I’d argue that some of them are quite cheap. I think Bill Ackman’s done a good job articulating that. I think lots of opportunities there.

Right now, we’ve talked about it before the show, Toby. The VIX is around 15. That obviously can be very different for certain stocks, certain industries.

The premiums aren’t overwhelming right now, but it’s still a good time. That’s the good thing is you don’t have to do any trade unless the premiums are acceptable to the risk that you’re taking.

How to Find Options Opportunities When the VIX Is Low

[Tobias] It’s quite a change from a year ago when there was really no other game in town other than Mag 7. But the market has been spooked a little bit by that CapEx spend, even though probably it’s got pretty good returns on incremental capital. The market doesn’t seem to like that free cash flow disappearing similar to what happened to Meta when it was transitioning into the Metaverse and it crashed a little bit.

I think that’s one of the nice things about options in the stocks is that you can see when the stocks are down, the option prices are often elevated because there’s a little bit more vol in the stock. If you’re looking at the VIX, you might not realise because the 15s are pretty low VIX. That’s a pretty quiet market, no expectation for much happening.

But in individual names, it could be quite elevated vol. It’s a good way to identify some of these opportunities, a good window when you get a little bit of elevated vol in a stock that you’d like to own. The Mag 7 has offered opportunities this year.

They’ve flagged the market a little bit this year, which probably nobody expected a year ago. There have been these little windows where you could put these positions on, particularly if you’re looking at the options, which have had a little bit of elevated vol and get better entry prices and engineer a slightly better entry price again.

[Tim] Yeah, I would agree. Software was a good example that we talked about when Salesforce was down a lot, Adobe was down a lot, HubSpot. Those are companies with strong balance sheets and strong free cashflow profiles.

They offer really good opportunities to sell puts significantly below where the market was at, at really attractive premiums. Then when they bounced, we’re able to lock in profits on them. That’s one of the benefits of the subscription is that it does provide exit recommendations of when it might make sense to get out, to free up capital, or if the annualised returns that you’ve achieved are substantially higher than what you projected it at.

Sometimes it doesn’t make sense just to hold onto the trade to squeeze out that last little bit of juice when you can free up the capital and then set a new position.

[Tobias] That’s about all we’ve got time for this week. If you want to take a look at what we’re doing, go to valueoptionsletter.com. Otherwise, we’ll be back next week with a little bit more commentary.

Thanks so much, Tim. Thank you, Toby. Have a good week.