How A Blogger Built a $200M ETF With Stocks You’ve Never Heard Of | Eddy Elfenbein

Here's a comprehensive summary of the YouTube video transcript:

Key Concepts

• Crossing Wall Street (CWS): Eddie Elenbine's long-running financial blog.
• CWS ETF: An ETF based on Elenbine's annual buy list of 25 stocks.
• Buy List: Elenbine's curated list of high-quality stocks, updated annually with 20% turnover.
• Watch List: A larger pool of familiar, good companies from which the buy list is selected.
• High-Quality Stocks: Companies with strong market positions, consistent earnings, sales, and dividends.
• Low Turnover: Elenbine's strategy emphasizes holding stocks for the long term.
• Deep Value/Under-the-Radar Stocks: Elenbine favors companies with few analysts following them, believing this can lead to better valuations.
• Midcap Focus: While investing across market caps, the CWS ETF tends to have a midcap tilt.
• "Deep Truths": Elenbine's contrarian perspectives on investing concepts.
• Cycles: The idea that market performance is driven by cyclical trends rather than inherent genius.
• "Physics Envy": The tendency in finance to try and apply scientific rigor to a system that is influenced by human behavior and self-awareness.
• Giffen Goods: Goods for which demand increases as the price increases, a concept applied to market behavior.
• Yield Curve: The relationship between interest rates and the time to maturity of debt, used to predict asset performance.
• Low Volatility (Low Vol) vs. High Beta: Elenbine discusses the historical outperformance of low volatility strategies over time, despite short-term trends favoring high beta.
• CAPE Ratio (Shiller P/E): A valuation metric that can serve as a market timer, with high ratios historically indicating lower future returns.

Eddie Elenbine's Journey and Philosophy

Origin of Crossing Wall Street and the Buy List

Eddie Elenbine began blogging in mid-2005, inspired by the emerging field of financial blogging and the passion of writers like Barry Ritholtz. He saw it as an accessible platform to share his thoughts on the market, initially from his home in Washington D.C. This led to his first appearance in Barron's alongside Joe Weisenthal.

His core philosophy, conveyed through his blog, is that investing is not overly complex and can be mastered with patience and discipline. This led to the creation of his annual "buy list" in 2005. Initially, it was a list of 20 equally weighted stocks held for a year with no changes. This practice has continued for nearly 20 years, demonstrating consistent returns.

The CWS ETF: From Blog to Product

The popularity of the buy list led to inquiries about investing in it. After initial rejections from Wall Street, Elenbine partnered with Noah Hammond at AdvisorShares to launch the CWS ETF. The ETF, now nine years old, has grown to approximately $200 million in assets, a respectable figure for an independent ETF. Elenbine highlights the difficulty of launching and sustaining an ETF, noting that many close each year.

Investment Strategy: The Buy List Framework

Elenbine's investment approach focuses on high-quality stocks. He looks for well-run companies with strong market positions, consistent earnings, sales, and dividends. He describes these as the "blue blazer" or "Harris Tweed" of a portfolio – always top-notch and enduring. The key is to find these companies at the best possible price, with the expectation that they will remain relevant for five to ten years.

The process involves a watch list of around 80-130 familiar companies that are considered "good" but not yet fully understood. At the end of each year, five new stocks are added from the watch list to the buy list, and five stocks are removed from the buy list, resulting in a 20% annual turnover. This structured approach, akin to Warren Buffett's "punch card" analogy, helps combat emotional trading and temptation. Elenbine admits that his market predictions are not strong, and this disciplined process helps him fight against his own emotions, preventing him from selling "duds" too early or exiting strong performers prematurely.

Identifying Undervalued Gems: Elenbine's "Under-the-Radar" Approach

The Search for Unfollowed Companies

Elenbine actively seeks out companies that are followed by few, or ideally, no analysts. He believes that this lack of attention can lead to overlooked bargains. He finds that much of the readily available Wall Street research is shallow, often just rewriting press releases. By following companies closely, he aims to know them better than most professionals.

Market Cap and Examples

While he invests across market caps, the CWS ETF generally has a midcap focus, often in the $15 million to $70 million range. He provides several examples of his favored companies:

• Haiko (HI): A company that makes replacement parts for the aircraft industry and also serves the U.S. military. Despite its critical role, it's followed by very few analysts. The founder and his sons have guided the company since 1995, resulting in a thousandfold increase in value.
• Lancaster Colony: A company that produces croutons, with an "astounding" long-term chart.
• Nathan's Famous: A well-known hot dog stand that has been publicly traded for decades and has historically outperformed many other companies, though it can be more volatile.
• Miller Industries: A Tennessee-based tow truck company that makes large tow trucks. It's a niche business with little analyst coverage, allowing for potential bargains.
• TX (formerly Trex): A company that makes composite decking, which has improved significantly in appearance and cost-effectiveness. Elenbine expresses a desire to re-add it to his portfolio if the price becomes attractive again.

He contrasts these with the "Mag 7" stocks, noting that his portfolio often contains names that are less familiar to the average investor.

The "Grand Elfenbine Theory" and Market Dynamics

Elenbine touches upon a more complex idea, the "Grand Elfenbine Theory," which suggests that as companies grow large enough, they tend to fit into one of seven or eight fundamental buckets (value, income, growth, defensive). He posits a connection between these stock categories and the bond market, specifically how movements in short-term and long-term interest rates affect different stock types. He observes that yield curve dynamics (widening or narrowing) correlate with the relative performance of certain stock groups.

Contrarian Views and "Deep Truths"

Elenbine shares several contrarian perspectives, which he calls "deep truths":

• "A bubble is a bull market in which you don't have a position." This quote highlights the subjective nature of market perceptions and the danger of missing out on gains due to fear or lack of participation.
• "A high PE ratio is a much better sign of a stock to sell than a low PE ratio is a sign to buy." He argues that low P/E ratios can often signal underlying problems, while elevated P/E ratios might be justified by strong growth prospects.
• "There's no such thing as a healthy correction." Elenbine dismisses the notion of a "healthy correction" as anthropomorphizing the market. He believes it's a meaningless phrase used to rationalize pullbacks, and that a significant market decline is simply a bear market, not a beneficial event for investors in the short term.
• "The media never questions the bond market. Only stock investors are greedy." He observes a bias where the bond market is perceived as more sophisticated and less prone to bubbles, while stock investors are often labeled as greedy. He points out that bond markets can experience significant declines, as seen in recent years with rising interest rates, yet these are often overlooked by the public and media.
• "The market is self-aware." This concept suggests that unlike physical sciences, the stock market's behavior can be influenced by the fact that it is being observed. Prices can move simply because they have been moving, creating feedback loops.
• "Giffen Goods" in Investing: Elenbine references Whitney Baker's concept of "Giffen goods" in the stock market, where higher prices can sometimes attract more interest, a phenomenon that can impact value.

The Challenges of Investing and ETF Management

The Dominance of Mega Caps and Market Cycles

Elenbine acknowledges that the current market environment has been challenging for stock pickers, with mega-cap stocks dominating performance. This trend "sucks all the oxygen out of the room," making it difficult for other segments of the market to shine. He believes in market cycles and that this dominance will eventually shift, but he remains committed to his long-term, quality-focused style.

The Difficulty of Launching and Running an ETF

When discussing the prospect of launching an ETF, Elenbine and the host emphasize the significant hurdles:

• Track Record Requirement: It's difficult to attract assets without a proven track record, yet a track record is needed to attract assets.
• Seed Capital: Significant seed capital (potentially $20 million to $80 million or more) is required to break even, depending on fees and expenses.
• Subsidization: Many new ETFs require substantial personal financial subsidization for several years (ideally 5-10 years) before becoming profitable.
• Multiple Roles: ETF managers must be adept at not only managing money but also fundraising, marketing, compliance, and investor relations.
• Board Meetings and Compliance: The operational side of managing an ETF involves extensive meetings, regulatory compliance, and dealing with potential issues.
• Investor Relations: Managers often face criticism from investors who may not understand their strategy or performance relative to benchmarks.

"Anti-Portfolio" and Memorable Investments

Elenbine shares a few personal investment anecdotes:

• Eli Lilly: He regrets selling Eli Lilly, especially as his mother, a dedicated reader, held onto it and saw significant gains. He attributes his sale to a combination of it becoming too expensive and a contrarian mindset.
• Nicholas Financial: A memorable investment was in this small auto loan company during the 2008 financial crisis. It was mispriced at 20 cents on the dollar due to fears of subprime exposure, but Elenbine recognized its sound business model and made a substantial return.

Future Outlook and Where to Find Eddie Elenbine

Current Market Concerns and Excitement

Looking ahead, Elenbine expresses concern about the government shutdown in Washington D.C., which could lead to a lack of economic data releases and impact consumer spending. He also notes the substantial outperformance of high beta versus low volatility stocks, which he believes is reaching extreme levels and may be ripe for a rotation. He is excited by the potential for low volatility strategies to outperform over the long term, citing academic research that supports this. He also points to the high CAPE ratio as a potential indicator of lower future returns.

Following Eddie Elenbine

• Blog: Crossing Wall Street (crossingwallstreet.com)
• Substack: CWS Substack (cwssubstack.com) - offers free and paid newsletters.
• ETF: CWS ETF (ticker symbol CWS) - available on AdvisorShares website.

The buy list is typically updated around Christmas time.

Conclusion

Eddie Elenbine, a pioneer in financial blogging, has built a successful career by adhering to a disciplined, quality-focused investment strategy. Through his blog, Crossing Wall Street, and the CWS ETF, he advocates for patience, long-term thinking, and the identification of under-the-radar, high-quality companies. His contrarian "deep truths" challenge conventional wisdom, and his insights into market cycles and the operational realities of ETF management offer valuable lessons for investors and aspiring fund managers alike.