Ryan Nauman interviews Bill Davis, managing director and founder of Stance Capital, about whether the cap-weighted S&P 500 has become overly concentrated in mega-cap, highly correlated tech names and how index flows can exacerbate that risk; they discuss equal-weight approaches and why today’s fundamentals differ from the dot-com era, along with potential unwind catalysts tied to AI capex and data-center buildouts. Davis explains “tax alpha” and how IRS Section 351 allows eligible investors with highly appreciated, concentrated positions to contribute diversified baskets in-kind to seed an ETF and receive ETF shares without triggering immediate capital gains, outlining key eligibility constraints and operational considerations. They also cover the evolution and politicization of ESG/sustainable investing, concerns about authenticity among large asset managers, and how sustainable strategies may shift toward thematic risks like water and nature while addressing AI’s energy and resource demands.

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Learn more about Stance Capital here.

00:00 Is S&P Really Diversified

01:10 Meet Bill Davis

01:44 Stance Capital Approach

06:22 Tax Alpha Matters

08:10 S&P Concentration Risk

13:34 Equal Weight Alternative

17:20 AI Cycle And Unwind

24:23 S&P Vs Real Economy

28:18 Section 351 Explained

36:23 351 Logistics And Options

41:29 Sustainable Investing Today

43:26 ESG Politics And Authenticity

52:51 AI Energy And Sustainability

56:11 Wrap Up And Resources

Ryan Nauman Host Views from 6,230:

Hello, everyone, i'm Ryan Nauman today,

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we're going to challenge something that

many investors probably take for granted.

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Just how diversified is the S&P 500?

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The S&P 500 index, it, it's

designed to give investors broad

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exposure to the US stock market.

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But with a relatively small number of

mega cap companies now representing

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such a significant portion of the index,

are investors actually getting the

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diversification they think they are?

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And if you're a financial advisor with

clients sitting on highly appreciated,

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concentrated stock positions, how do

you address that risk without creating

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a potentially massive tax bill?

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And then we'll go ahead and shift

gears, and then talk about the

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evolution of sustainable investing

and where the industry is headed.

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All right.

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I've already talked enough, so let's go

ahead and bring on the star of the show.

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To help us tackle all of this,

I'm excited to welcome Bill Davis.

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Bill is a managing

director at Stance Capital.

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Bill, thank you so much

for coming on the show.

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We've been talking for a while.

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It seems like for a few months.

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We met at a conference.

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I've had great conversations

with you, Bill.

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Really excited about this one.

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It's an honor to have you on.

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Can you please tell us a little bit

more about yourself and Stance Capital?

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Bill Davis Managing Director Stance Capital:

Sure.

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Well, Ryan, first off,

thanks for having me.

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It's, um, it's my privilege

to be here, and I'm looking

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forward to this conversation.

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So a bit about Stance Capital.

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I, uh, founded Stance

back in twenty sixteen.

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there was actually a bunch of work

done, uh, predating twenty sixteen,

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so really sort of the seeds of Stance

Capital started back in twenty thirteen.

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And, we actually began building

investment models in twenty thirteen,

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them at another shop that I was at

at the time, then lifted out and

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launched Stance in, uh, twenty sixteen.

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And, you know, our initial…

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Uh, actually let me back up and

say that we are a systematic Most

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everything that we do is quantitative.

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Uh, some of the things that we do is,

and we'll get into this, you know, as we

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talk a bit, really are-- you know, fall a

little bit short of the term quantitative,

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but I would describe, uh, everything

that isn't quantitative as at least being

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rules-based and generally unemotional,

uh, in terms of our thinking about the

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markets, individual securities, of that.

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Uh, we were around the idea that investors

be able to align capital with values

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without, um, uh, necessarily suffering,

uh, or, you know, ending up with

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concessionary, strategies or returns.

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I would say that that applies

whatever the value set happens to be.

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I mean, you sort of teased the fact that,

uh, we're gonna talk about sustainable

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investing, so a lot of what we do, I would

say, fits within that overall framework.

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Uh, but importantly, w-we believe

that even people who don't care about

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sustainable investing or who might in fact

be on the opposite side of that trade,

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should also feel free to align capital

with whatever values they happen to have.

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And so was sort of the, I think, the

underlying A premise of Stance Capital.

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I would add to that, that, know, even

going back to twenty thirteen or twenty

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sixteen, it was pretty obvious where

th-the equity market was headed in

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terms of asset management, that we were

sort of marching towards index, uh,

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solutions, really low cost solutions and

in general, uh, cap-weighted solutions.

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And so from the very beginning, we

made the decision that, look, we

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don't actually wanna be going in the

same direction as everybody else.

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For one thing, we're not gonna compete

with Invesco or BlackRock or, you

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know, like one of the really big guys.

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And so, you know, the first product

that we built was actually focused

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on, um, I would say it's more of a

midcap value strategy, and it's very

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focused on downside risk protection.

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That's Stance Sustainable.

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Uh, excuse me, um, it's

actually, uh, Stance Equity.

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And the, um, there is an ETF version of

it that we sub-advise for Hennessy Funds,

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uh, called Hennessy Sustainable Equity.

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Uh, and then we've gone on to do other

things that are, I'd say, equally

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unique and differentiated and in many

respects approximate the way, uh,

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any invest-- So most investors aren't

looking just for one asset class.

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They want of different things.

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And so what we're trying to do is

build out a suite products that

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represent those sub-asset classes

that investors are looking for.

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A good example might be income, which

y-you know, is just, is, is I think, uh,

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really ballooning, I think, in importance

as more investors get older, um, are

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not quite ready to jump into the fixed

income pool because it's, the water's

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kinda shallow and a little bit dirty.

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Uh, and so they sort of want the

equity-like returns, but they wanna

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lighten up on the risk, and that's

an example of one way to do it.

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And so that's sort of how we

think about the market as a whole.

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Ryan: Bill, that's fantastic.

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Lot of great information, and I completely

agree with you about that last part

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about, you know, investors looking more

for income, but limit that drawdown risk.

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I have more and more conversations

about whether it's more on the

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asset management side or financial

advisors building portfolios around

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that, because I think investors now,

they're realizing what the real risk

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of investing, and it's losing money.

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It's not so much volatility,

standard deviation, right?

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It's like, if I'm investing,

I want my money back at least.

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I don't wanna lose it.

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Bill Davis: Well,

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Ryan: So I'm really glad-

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Bill Davis: right?

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I would argue that the best alpha

of all is tax alpha, and I don't

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think historically most investors

spend a lot of time thinking

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about the after-tax return is.

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And I think today this is, uh, it is very

much the next wave of, of, um, you know,

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fiduciary, n-not duty because that's

sort of a defined term, but I'd, I'd say

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oversight is really thinking about how to

create advantage strategies for clients.

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Ryan: Yeah, you're spot on.

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That's another conversation I have a lot

about is the importance of tax alpha.

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Bill, three, four, five

years ago, tax alpha, nobody

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really pro- it wasn't a term.

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Now it's very popular,

and you're exactly right.

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It's a huge risk, and I'm glad

it's getting more press, more

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headlines, because it is important.

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I think that is one way financial advisors

can really improve the outcomes of

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their clients is focusing on tax alpha

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Bill Davis: Yeah, and that's-- Ryan,

that actually gets back to something

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you said at the very beginning,

which is about w- you know, whether

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the S&P is overly concentrated.

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Because one of the reasons why tax alpha

is so important now is in fact the run-up

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in all of these, um, securities over

the last you know, five years, 10 years.

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I mean, if you go back 10 years,

I don't think either of us thought

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that we would be looking at the

kinds of years that we've been

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having, especially lately in the S&P.

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I mean, it's really quite extraordinary.

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Ryan: Yeah, you're exactly correct.

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We've had, what, three consecutive

years of double-digit returns.

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Not sure if that's ever happened.

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It's been a while since it has, if it has.

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So fantastic.

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So let's talk about the S&P.

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Perfect segue, Bill, and let's talk

about that market concentration.

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You know, has that S&P 500

become a concentration risk trap

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for investors, do you think?

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Y- we all-- we've heard the re-

headlines, we've read about it, we've

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seen it, that the S&P is, you know,

there's a dominance of the S&P 500

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in a handful of mega cap companies.

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Is that concentration

risk trap for investors?

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Bill Davis: Yeah, I mean, I

think, I think it definitely is.

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I think that originally-- And we have

actually, and it's on our website

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somewhere, but we wrote a piece

about this about e- I think it was

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at the beginning of, uh, this year.

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but I've been thinking

about it for a few years.

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And, um, I guess what I would say is

originally my concern was the Mag Seven,

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because at one point, the Mag Seven

was nearly forty percent of the S&P.

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So this is, actually it was the Mag

Seven plus three other names, uh,

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accounted for forty percent of the,

weighting of the S&P five hundred,

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which obviously means four hundred and

ninety-three positions that are competing,

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for the remaining sixty percent.

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And it's-- And, and, and that

number one, I think that's the

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highest concentration that it's

ever been in the history of the S&P.

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importantly, uh, those names

were mostly highly, very highly

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correlated with one another.

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So to the extent that one of them

stumbled, a bunch of them are gonna,

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they were, they were all gonna kind

of get in line and follow suit.

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And we've seen that, like, I think at

the beginning of, uh, Q2, I think it

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was, or maybe at the very beginning

of this year, where Mag Seven sort of

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fell out of favor and people were like,

these guys really deliver on these

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lofty, um, valuation expectations?"

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Uh, and then all of a sudden, you

know, there was a ten or a fifteen

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percent decline from the top.

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and I would say that certainly

tech-heavy portfolios suffered.

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what I think most investors?

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don't appreciate is that

they are tech-heavy.

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Like they s- they think that,

"Okay, I own a S&P index fund.

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I'm broadly diversified."

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Well, well, you're not if

like forty percent of it is

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like so highly correlated.

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And I would go on to say that it's

more like fifty percent if you, if you

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get out of the Mag Seven and you just

start counting smaller tech companies.

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I think it's really a big issue.

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Um, and I, I, I'll, I'll

pause there, actually.

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Ryan: Yeah, Bill, you're spot on.

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I did some research earlier this

year about different time periods.

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You're exactly correct.

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The concentration in the top 10 holdings

right now is, I believe, the highest ever.

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The second was the, the Nifty 50s,

and then there's been some times

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in between Nifty 50s and now.

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But it's really interesting.

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Not saying…

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You know, history doesn't

repeat itself, but it rhymes.

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Each one of those time periods,

there's usually a steep correction

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bear market that follows.

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Who knows if it…

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Not saying it's gonna happen again,

but history shows that during periods

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of high concentration, it does happen.

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So there is some risk there.

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But do you think the problem is with

concentration itself or the fact that

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investors may not realize exactly

how concentrated they actually are?

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You just said it, that most

investors are highly concentrated,

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most likely in tech names.

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What's the biggest risk, concentration

itself or just the unknown?

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Bill Davis: I think,

well, I think that the…

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Look, I think that everything is

becoming kind of technology in

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a weird way, and actually I'll

come back to that in a second.

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But I think investors are kinda clueless.

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that they, I think in general, they think

they're diversified when they're not.

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I don't think…

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And, and also I would a- also add to

this, that the problem gets worse every

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day because the way an index fund works,

most assets, es- especially in, say,

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US large cap or S&P strategies, are

passive, you know, index funds, low cost.

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Uh, and the way an index fund works

is that more, as more and more money

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plows into the index funds, they

get disproportionately allocated

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to the, um, largest names, right?

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And so think about the ERISA market.

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Every two weeks, you know, out of y-

your paycheck or my paycheck, money goes

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into a 401plan or a 403or something.

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the reality is those are largely

set and forget, um, uh, y-

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y- you know, um, allocations.

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And so if you just consider a normal,

you know, 35-year-old, probably

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70 or 80% is going into S&P index

funds, and that's just adding to

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the, um, I think to the problem.

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So- Interestingly, there-- you

know, unless investors are willing

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to get active, there aren't

a lot of ways to combat it.

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I mean, I think a great way to combat it,

I mean, just as a quick aside for a US

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large cap investor, the, um, RSP, which

is the-- it's an Invesco ETF which, uh,

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tracks the Invesco Equal Weight index.

212

00:13:59,140 --> 00:14:01,360

I think it's been around

since like 1980 something.

213

00:14:02,990 --> 00:14:08,290

so it's gonna own all f-five hundred

and three or four names in the S&P 500,

214

00:14:09,160 --> 00:14:10,970

but they're all equally weighted, right?

215

00:14:10,970 --> 00:14:14,680

So Nvidia is gonna be like a quarter

of a percent instead of being,

216

00:14:15,600 --> 00:14:19,380

um, you know, seven percent or

whatever it happens to be today.

217

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So it's another way to about kind of

investing in all of this, or at a minimum,

218

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I think for investors who, who own a

bunch of S&P products, probably never

219

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think about the cap weighting scheme

and the, and the risk that it poses.

220

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an equal weight to that and, and having

a bit of a counterbalance to it not

221

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only great downside risk protection, but

importantly, in most markets, actually

222

00:14:50,330 --> 00:14:53,300

equal weight outperforms the S&P 500.

223

00:14:53,300 --> 00:14:58,080

I mean, you, you mentioned, um, you

know, there's been times where there's a

224

00:14:58,080 --> 00:15:04,210

huge blowup, uh, and a great example of

that is the dot-com era, which was up,

225

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up, up and then like down, down, down.

226

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And for the ten years after the

dot-com bubble burst, the equal

227

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weight outperformed the market cap

weight by seventy-eight percent.

228

00:15:18,950 --> 00:15:21,750

So that's pr- that's pretty

massive outperformance, and

229

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that's true in other as well.

230

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I think that the hard thing, like for us,

and like, I-I'm really interested in your

231

00:15:28,820 --> 00:15:35,470

view on this as well, is that though we

have worse concentration now, uh, than

232

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we did in the dot-com era, the reality

is, is that the underlying fundamentals

233

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of the companies are very different.

234

00:15:42,290 --> 00:15:46,850

Like in the dot-com era, there, there

were no underlying fundamentals, right?

235

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But now it's like the biggest, most

cash flow positive companies on earth

236

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are the ones that are playing in this.

237

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And so it's a very different dynamic,

and I don't think it's gonna kinda end

238

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the way the dot-com experienced it.

239

00:16:02,959 --> 00:16:04,949

Ryan: Yeah, Bill, I completely agree.

240

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We always-- Seems like we always

wanna compare market cycles and

241

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market periods, and a lot of

comparisons are made to the dot-com.

242

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Yes, maybe because it's all

been tech-driven, AI-driven,

243

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but you are completely correct.

244

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It's a different environment now.

245

00:16:24,459 --> 00:16:27,999

The names that are really driving the

market, they actually have earnings.

246

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They actually have cash flow.

247

00:16:29,989 --> 00:16:35,479

Back in the dot-com, there was, you

know, sandcastles in the skies, right?

248

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There, there just wasn't…

249

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They didn't have earnings.

250

00:16:38,849 --> 00:16:39,949

They didn't have cash flow.

251

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Yet they had dot-com attached, and

they, you know, shot to the moon.

252

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So you're exactly right.

253

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Different time period.

254

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So I do think, you know, we're

gonna have a different ending than

255

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what we had in the dot-com period.

256

00:16:54,149 --> 00:16:55,339

Very good point there.

257

00:16:55,349 --> 00:17:01,149

Do you think this concentration,

uh, what will cause it to unwind?

258

00:17:01,269 --> 00:17:04,749

You mentioned a little bit earlier,

do you think it'll be high valuations

259

00:17:04,749 --> 00:17:06,409

or maybe earnings disappointments?

260

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You just said it.

261

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They're all kinda highly correlated, and

the s- kinda s- play in the same sandbox.

262

00:17:12,759 --> 00:17:16,169

If one has bad earnings, will it

all bring them, bring them all down?

263

00:17:16,199 --> 00:17:17,969

Regulation, disruption.

264

00:17:18,159 --> 00:17:20,199

What do you think could make it unwind?

265

00:17:21,571 --> 00:17:24,534

Bill Davis: Well I think two things.

266

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One is of breadth in the market, coupled

with a shock within, like one of those

267

00:17:31,694 --> 00:17:33,974

big companies could be enough to undo it.

268

00:17:33,974 --> 00:17:37,744

I mean, there's always macro issues

that can unwind a market, whether

269

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it's wars or inflation or whatever.

270

00:17:40,674 --> 00:17:48,874

But the obvious Death Star Death Star

here is You know, 50% of all earnings,

271

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uh, this year are linked to AI CapEx.

272

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Uh, 50% of the growth of the

GDP is linked to AI CapEx.

273

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And, you know, we've seen…

274

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And, and I think that there's

gonna be a series of stages

275

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that we're gonna go through.

276

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We're already through at least the

first stage where all of the action was

277

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with the hyperscalers, and they went

straight up and straight up, and then

278

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people started looking at Nvidia and

going, "Okay, this thing is already

279

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like priced almost beyond perfection."

280

00:18:23,394 --> 00:18:29,384

If, if Nvidia doesn't meet its numbers

for the next two or three years, um,

281

00:18:29,824 --> 00:18:31,474

you know, a lot could go wrong there.

282

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And so I think that the, the game

has now moved from the hyperscalers

283

00:18:36,004 --> 00:18:40,314

to the chip manufacturers,

now they're doing really well.

284

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But now there's also questions to

whether or not their dependence

285

00:18:44,704 --> 00:18:50,334

on the AI companies for their own

revenue growth is potentially a trap.

286

00:18:50,364 --> 00:18:56,174

There's this kind of weird thing out

there w- which speaks to the circular

287

00:18:56,174 --> 00:19:01,164

nature of all of the relationships

between the chip makers the hyperscalers,

288

00:19:01,224 --> 00:19:03,094

like using AMD as an example.

289

00:19:04,454 --> 00:19:12,774

I think, um, 20% of AMD's common stock has

been pledged to four or five hyperscalers

290

00:19:12,784 --> 00:19:18,954

who get to exercise penny warrants, uh,

if they achieve their revenue targets with

291

00:19:18,954 --> 00:19:21,464

AMD or their sales orders, whatever it is.

292

00:19:21,944 --> 00:19:26,344

Um, which is probably good because it

means AMD is gonna get a lot of business.

293

00:19:26,344 --> 00:19:30,544

But the point is, is that if, if,

you know, the, the hip bone is

294

00:19:30,544 --> 00:19:32,414

connected to the leg, leg bone, right?

295

00:19:32,414 --> 00:19:36,934

And so if, um, again, if AI

falters, it's gonna now take

296

00:19:36,934 --> 00:19:38,714

the chip companies down with it.

297

00:19:39,554 --> 00:19:45,094

And we still haven't gotten to the point

where, where this has made its way into

298

00:19:45,174 --> 00:19:47,974

a kind of like a normal business, right?

299

00:19:48,024 --> 00:19:53,474

I think only 13% of US large cap

companies have indicated that they have

300

00:19:53,474 --> 00:19:58,794

seen bottom line improvements to their

business as a result of AI expenditures.

301

00:19:59,244 --> 00:20:01,004

Uh, I think that's gonna change.

302

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I also think that, um, I think that

companies, especially large enterprises,

303

00:20:07,434 --> 00:20:11,794

are gonna not be reliant on-- They're

gonna lose a willingness to be reliant

304

00:20:11,824 --> 00:20:20,544

on and a lot of these LMMs, and they're

gonna start, um, uh, essentially

305

00:20:20,544 --> 00:20:25,372

building their own out of open source

Uh, data, and I think that that is

306

00:20:25,372 --> 00:20:26,702

good for the chip makers, right?

307

00:20:26,702 --> 00:20:31,082

Because that means that there's gonna

be a lot of CPUs that are built, and

308

00:20:31,082 --> 00:20:34,442

that's sort of different from kind

of the AI thing in and of itself.

309

00:20:34,932 --> 00:20:39,232

Um, think, I think that's sort of

the Death Star that's out there.

310

00:20:39,232 --> 00:20:40,482

So much of the economy…

311

00:20:40,482 --> 00:20:42,702

I mean, technology is

in everything, right?

312

00:20:42,702 --> 00:20:47,702

It's in your car, it's in, uh, things

that you buy that are now smart

313

00:20:47,762 --> 00:20:50,032

where they didn't used to be, IoT.

314

00:20:50,442 --> 00:20:58,612

It's moving into, um, and quantum

computing and, uh, healthcare and

315

00:20:58,712 --> 00:21:00,492

really kind of every part of our lives.

316

00:21:00,492 --> 00:21:07,292

And so to some extent, the techn- the

technologification, if that's a word,

317

00:21:07,292 --> 00:21:12,462

I know it isn't, um of everything

kind of gets back to the point we were

318

00:21:12,462 --> 00:21:15,872

talking about earlier, which is like,

is it dangerous to have stuff be tech?

319

00:21:15,892 --> 00:21:16,912

I don't think it really is.

320

00:21:16,912 --> 00:21:21,852

I think it's dangerous the highly

correlated stuff that all hinges on

321

00:21:21,852 --> 00:21:24,212

sort of the data center build-out.

322

00:21:24,242 --> 00:21:26,992

That's the, that's the Death Star here.

323

00:21:27,442 --> 00:21:32,322

Now, under-- like counterbalancing that

is the fact that the market, unlike two

324

00:21:32,322 --> 00:21:39,202

years ago, where, uh, and, and don't

quote me precisely on this 'cause this is

325

00:21:39,202 --> 00:21:45,482

an approximation, but I think something

like 90% of the performance of the S&P

326

00:21:45,482 --> 00:21:48,492

500 was like in, I think, 10 names.

327

00:21:48,952 --> 00:21:53,782

Um, what's unusual right now, or not

unusual, it's actually more normal it

328

00:21:53,782 --> 00:21:58,382

has been for the past few years, is that

there is a widening of the breadth of

329

00:21:58,382 --> 00:22:03,422

the market as a whole, and there are

strong earnings in everything from to

330

00:22:03,422 --> 00:22:06,452

utilities and of course, yes, technology.

331

00:22:06,902 --> 00:22:12,192

But the point is, as that market broadens

out, it has the capacity to kind of

332

00:22:12,192 --> 00:22:13,902

take out its own garbage, if you will.

333

00:22:14,292 --> 00:22:18,582

So as problems emerge, the market

can absorb them because there's

334

00:22:18,582 --> 00:22:22,362

strength throughout the market, and

I think that's a very positive sign.

335

00:22:23,679 --> 00:22:24,319

Ryan: Mm-hmm.

336

00:22:24,369 --> 00:22:25,989

Yeah, I, I agree, Bill.

337

00:22:25,989 --> 00:22:31,259

And to back, going back to the AI

and just kind of the trickle down

338

00:22:31,259 --> 00:22:33,889

effect here, you're exactly right.

339

00:22:33,909 --> 00:22:37,319

Hyperscalers, at some point they're

gonna build their data centers, their

340

00:22:37,319 --> 00:22:40,439

infrastructure, everything, then that

spending's gonna probably slow down.

341

00:22:40,439 --> 00:22:45,919

What impact does that have on the, you

know, downriver, downstream companies?

342

00:22:46,249 --> 00:22:50,989

What I feel the best long-term

play, no recommendations here,

343

00:22:50,989 --> 00:22:55,479

but the more optimistic, better

opportunity long-term plays are the

344

00:22:55,499 --> 00:22:57,789

companies that are gonna leverage AI.

345

00:22:57,789 --> 00:22:58,479

You said it.

346

00:22:58,589 --> 00:23:02,839

They might not use Anthropic, they

might do open source something, but

347

00:23:02,839 --> 00:23:04,609

I feel it's, you know, what is it?

348

00:23:04,699 --> 00:23:07,429

Healthcare, financials, maybe utility.

349

00:23:07,449 --> 00:23:13,109

Those companies that really are able to

harness the power of AI, help their bottom

350

00:23:13,109 --> 00:23:15,549

line, make processes more efficient.

351

00:23:15,579 --> 00:23:19,209

Those are the companies I

think will have a long…

352

00:23:19,229 --> 00:23:23,239

better longer term play than

maybe just a hyperscaler.

353

00:23:23,772 --> 00:23:28,002

Bill Davis: Yeah, and actually

between now and then, I think the

354

00:23:28,012 --> 00:23:31,952

companies that are more relevant

than the hyperscalers are the semis.

355

00:23:32,802 --> 00:23:38,882

Because the semis are actually, you

know, building out the inference tools

356

00:23:38,892 --> 00:23:45,652

which require actually more silicon

and more compute and, more servers.

357

00:23:46,052 --> 00:23:52,462

Uh, and so I think while those companies

are massively dependent on for orders,

358

00:23:53,202 --> 00:23:58,582

ha- they themselves have sort of a, a

broadening breadth of customers that are

359

00:23:58,582 --> 00:24:01,062

just in demand for, like, chips, right?

360

00:24:01,102 --> 00:24:04,852

And, so to me, they're the

sort of new hyperscalers.

361

00:24:04,902 --> 00:24:08,532

They're the kind of the

hot dot market these days.

362

00:24:08,572 --> 00:24:13,462

But I do think ultimately where this is

really-- where this we're really gonna

363

00:24:13,462 --> 00:24:17,692

find out is when we get down to the,

your typical enterprise, and I think

364

00:24:17,722 --> 00:24:21,712

we're probably a year or two away from

fully understanding how that plays out.

365

00:24:22,447 --> 00:24:22,687

Ryan: Yep.

366

00:24:22,927 --> 00:24:23,207

Yep.

367

00:24:23,697 --> 00:24:25,967

So continue on this theme.

368

00:24:25,977 --> 00:24:31,607

Do you think the S&P 500 is becoming

less of a representation of the US

369

00:24:31,607 --> 00:24:35,787

economy and more of a representation

of the, the winners of the

370

00:24:35,817 --> 00:24:38,357

technology and AI investment cycle?

371

00:24:41,032 --> 00:24:41,951

Bill Davis: Yeah, I do.

372

00:24:42,031 --> 00:24:47,352

I think, I think that that's--

I think that that is the case.

373

00:24:47,631 --> 00:24:50,392

I, I don't think it is representative.

374

00:24:50,451 --> 00:24:54,831

I would also add that a lot of these

sectors in the S&P 500 are kinda bullshit.

375

00:24:55,511 --> 00:25:00,131

Like, you've got, um,

you've got companies like…

376

00:25:00,271 --> 00:25:01,312

Well, I'll just take Uber.

377

00:25:01,892 --> 00:25:07,232

Like, Uber is listed as a, as, in

the, as a technology company, but it's

378

00:25:07,271 --> 00:25:09,572

basically like a taxi dispatcher, right?

379

00:25:09,711 --> 00:25:10,631

Isn't that all it is?

380

00:25:11,392 --> 00:25:14,171

I mean, with a little bit

of logistics technology.

381

00:25:14,191 --> 00:25:21,181

And so you have some misclassification

of companies, which I think, I, I

382

00:25:21,191 --> 00:25:24,971

think, I don't know that it should be

concerning to investors, but investors,

383

00:25:25,392 --> 00:25:28,092

you know, there's this old adage,

"It's less important what company you

384

00:25:28,131 --> 00:25:31,651

invest in, and more important what

sector you invest in," because things

385

00:25:31,691 --> 00:25:33,331

in a sector tend to move together.

386

00:25:33,971 --> 00:25:39,072

But where that starts to get confusing now

is that you've got technology companies

387

00:25:39,131 --> 00:25:43,971

that used to be sort of GICS-coded as

a tech company, but since they support

388

00:25:44,051 --> 00:25:48,271

mostly, let's say, healthcare, they're

now listed as a healthcare company.

389

00:25:49,051 --> 00:25:54,571

Uh, and then you've got companies like

Amazon, which in my mind is mostly a

390

00:25:54,631 --> 00:25:58,991

retailer, but because of AWS, they're

like, I don't know whether they're

391

00:25:59,031 --> 00:26:00,991

comm services or tech, I forget which.

392

00:26:01,275 --> 00:26:01,494

Ryan: Угу

393

00:26:01,671 --> 00:26:05,851

Bill Davis: Uh, so there's just

a lot of, um, there's a lot of

394

00:26:05,932 --> 00:26:09,472

mismatching, and I think it's,

it can be a little bit confusing.

395

00:26:10,432 --> 00:26:15,531

Um, and I think that also contributes

to why everything sort of looks

396

00:26:15,591 --> 00:26:16,991

like it's a technology company.

397

00:26:17,031 --> 00:26:20,171

Not all of it really is, it's

just kind of labeled that way.

398

00:26:21,871 --> 00:26:23,281

Ryan: It also makes it more difficult.

399

00:26:24,091 --> 00:26:27,941

Years ago, we used to just be

like, you know, do the nine style

400

00:26:27,941 --> 00:26:30,321

box, large growth, large value.

401

00:26:30,541 --> 00:26:34,671

But it feels if those

lines are blurred now.

402

00:26:34,941 --> 00:26:39,441

A lot of companies that years ago

that you wouldn't think producing

403

00:26:39,441 --> 00:26:42,221

a dividend, now they're producing

dividends, some of these tech names.

404

00:26:42,221 --> 00:26:44,971

It might not be very big, but

they're producing dividends.

405

00:26:45,411 --> 00:26:50,671

Like you said, some of these tech names

might be more in the, you know, value

406

00:26:50,671 --> 00:26:53,101

sectors, the traditional value sectors.

407

00:26:53,101 --> 00:26:59,861

So I am a firm believer, kinda get outside

that nine style box that was so 1990s

408

00:27:00,764 --> 00:27:01,134

Bill Davis: Yeah.

409

00:27:01,151 --> 00:27:02,111

Ryan: and expand.

410

00:27:02,261 --> 00:27:04,011

But, um, and I also think…

411

00:27:04,364 --> 00:27:05,244

Bill Davis: a good example, right?

412

00:27:05,894 --> 00:27:07,994

So Tesla trades like a growth stock.

413

00:27:07,994 --> 00:27:10,754

I forget what its

multiple it is these days.

414

00:27:11,664 --> 00:27:14,024

But it has- but it doesn't grow,

it, it's actually shrinking.

415

00:27:15,304 --> 00:27:16,774

you know, so you've got just…

416

00:27:17,054 --> 00:27:23,854

I think you've got a lot of anomalies

kind of working their way the system, and

417

00:27:23,854 --> 00:27:25,604

I think that also creates some confusion

418

00:27:26,991 --> 00:27:28,101

Ryan: You're exactly right.

419

00:27:28,101 --> 00:27:32,141

And, and one last thing on this too,

as you're talking during the first, you

420

00:27:32,141 --> 00:27:38,551

know, 15 minutes of this conversat- it

sounds a lot like the S&P 500 index,

421

00:27:38,581 --> 00:27:45,061

you know, SPDR, the cap-weighted index,

is really almost a momentum play,

422

00:27:45,554 --> 00:27:45,734

Bill Davis: Mm-hmm.

423

00:27:46,561 --> 00:27:48,061

Ryan: uh, than, than any…

424

00:27:48,081 --> 00:27:51,901

You know, you mentioned the equal

weight, which obviously gives you

425

00:27:51,901 --> 00:27:54,131

more diversification, stability.

426

00:27:54,381 --> 00:27:58,541

But to me, the, the cap

weight is, is a momentum play

427

00:27:58,884 --> 00:27:59,264

Bill Davis: I agree.

428

00:27:59,514 --> 00:28:00,294

I agree completely.

429

00:28:01,334 --> 00:28:03,074

And index funds exacerbate that

430

00:28:04,303 --> 00:28:04,583

Ryan: Yeah.

431

00:28:04,593 --> 00:28:07,843

E- exactly what you're talking

about, the ERISA pro- you

432

00:28:07,954 --> 00:28:12,414

Bill Davis: yeah, it forces buying at

the top of the market, uh, which seems a

433

00:28:12,414 --> 00:28:14,944

little sort of like backwards to me, but

434

00:28:16,143 --> 00:28:16,433

Ryan: Yeah.

435

00:28:16,923 --> 00:28:18,023

Yeah, exactly.

436

00:28:18,413 --> 00:28:21,643

So let's talk about

potentially a solution here.

437

00:28:21,643 --> 00:28:24,223

We talked about at the opening,

you talked about tax alpha.

438

00:28:24,263 --> 00:28:27,813

Let's get into that a little bit

more because it is so important, and

439

00:28:28,223 --> 00:28:33,693

it is one way where I think you can

control alpha, you can find alpha,

440

00:28:33,693 --> 00:28:38,583

you have a better control of producing

a better outcome for your clients.

441

00:28:38,973 --> 00:28:44,883

A lot of advisors have clients sitting

on highly appreciated individual stocks,

442

00:28:45,213 --> 00:28:49,963

and the obvious problem here is that

selling will create an enormous tax bill.

443

00:28:50,323 --> 00:28:54,923

How can a Section 351 exchange

help advisors solve that problem?

444

00:28:55,676 --> 00:28:55,936

Bill Davis: Yeah.

445

00:28:55,936 --> 00:29:01,036

So actually, let me just preface it by

saying there are a few different tools

446

00:29:01,346 --> 00:29:06,186

out there that are being deployed,

and every situation is different.

447

00:29:06,196 --> 00:29:09,646

You may recall something called

an exchange fund, which was

448

00:29:09,646 --> 00:29:13,186

popularized by, I think, Eaton

Vance and Goldman Sachs a while ago.

449

00:29:13,676 --> 00:29:17,206

That's one solution, and that's kind

of the solution that's tailor-made

450

00:29:18,206 --> 00:29:21,896

an executive who's retiring from a

big company where they-- he's got

451

00:29:21,896 --> 00:29:26,146

a lot of in that company, and he's

looking to diversify out of it.

452

00:29:26,156 --> 00:29:30,096

So you can go to an exchange fund and

you can say, "Look, I wanna contribute

453

00:29:30,126 --> 00:29:32,246

my American Express or whatever."

454

00:29:34,396 --> 00:29:35,686

To the exchange fund.

455

00:29:35,686 --> 00:29:40,906

But the problem is, those funds are is a

collection of things people don't want.

456

00:29:41,606 --> 00:29:43,866

And so it becomes kind of a bit of a Mr.

457

00:29:43,866 --> 00:29:47,616

Potato Head portfolio, and they

themselves can end up being a

458

00:29:47,636 --> 00:29:49,156

little bit over-concentrated.

459

00:29:49,866 --> 00:29:55,276

furthermore, since today most of the

stuff people are, are, are too long

460

00:29:55,296 --> 00:30:01,886

on the Mag Seven, and they will limit

the amount that you can contribute

461

00:30:02,306 --> 00:30:05,276

simply because everybody else is

looking to contribute the same stuff.

462

00:30:06,486 --> 00:30:11,656

funds tend to have high fees,

startup fees, high fees annually,

463

00:30:11,686 --> 00:30:13,026

and it's a seven-year lockup.

464

00:30:13,686 --> 00:30:15,086

So that's one solution.

465

00:30:15,116 --> 00:30:20,306

I think it's-- I think it works for a

certain profile investor who doesn't

466

00:30:20,326 --> 00:30:26,176

need liquidity and, who doesn't mind

paying those fees and who has kind of

467

00:30:26,176 --> 00:30:35,196

a single stock I think that the idea of

a Section 351 is really tailored for, I

468

00:30:35,196 --> 00:30:40,966

would say, a more typical investor who

just simply, as a result of the run-up

469

00:30:40,976 --> 00:30:45,146

of certain sectors of the market, just

has way too much, an un- an uncomfortably

470

00:30:45,156 --> 00:30:51,546

large amount highly volatile, highly

correlated with one another positions.

471

00:30:51,546 --> 00:30:59,176

And so specifically, Ryan, Section

351 is IRS tax code, what it allows

472

00:30:59,186 --> 00:31:07,516

for is investors to u- to make in-kind

contributions to the launch of an ETF in

473

00:31:07,516 --> 00:31:15,536

exchange for shares of the ETF without,

uh, creating a gain in the process.

474

00:31:15,556 --> 00:31:19,626

And of course, you know, this isn't--

we're not really here to talk about

475

00:31:19,646 --> 00:31:23,256

kind of the mechanics of how ETFs work,

'cause you've probably already done that.

476

00:31:24,096 --> 00:31:24,516

the…

477

00:31:24,836 --> 00:31:32,396

I will simply highlight that the benefit

of an ETF is that it can use custom

478

00:31:32,406 --> 00:31:38,176

baskets inside of a create redeem

process to exchange positions that it

479

00:31:38,426 --> 00:31:42,916

doesn't want positions that it does

want as a part of a normal rebalancing

480

00:31:44,096 --> 00:31:45,826

without creating taxable events.

481

00:31:45,826 --> 00:31:52,826

So it is that specific mechanical

and technical u- uniquely, you

482

00:31:52,826 --> 00:32:00,256

know, belonging to ETF's capability

that allows for investors to unload

483

00:32:00,296 --> 00:32:02,276

things that they have too much of.

484

00:32:02,576 --> 00:32:07,464

And it doesn't matter how many investors

are unloading the same stuff like 10

485

00:32:07,464 --> 00:32:12,384

people can contribute to the seeding

of an ETF, let's just say that every

486

00:32:12,404 --> 00:32:17,654

one of 'em is giving the ETF 10

million of, know, Nvidia or whatever.

487

00:32:17,654 --> 00:32:18,984

I'm just making up numbers here.

488

00:32:19,844 --> 00:32:28,544

Um, over the course of rebalancing, that

ETF can wash out or rebalance away from

489

00:32:28,544 --> 00:32:35,344

that to Nvidia and get on mandate in

terms of what the ETF is intended to hold.

490

00:32:35,344 --> 00:32:43,134

So a very neat vehicle for investors who

qualify because they can basically, um,

491

00:32:43,974 --> 00:32:51,084

they can basically deconcentrate their

portfolios into a broadly diversified

492

00:32:51,084 --> 00:32:53,864

ETF without creating a capital gain.

493

00:32:53,864 --> 00:32:57,754

Now, you might say, "Well, what happens

to the that's owed to the government?"

494

00:32:57,794 --> 00:32:59,244

It doesn't actually go away.

495

00:32:59,574 --> 00:33:03,574

It simply carries over in the cost

basis of their shares in the ETF.

496

00:33:04,354 --> 00:33:10,644

So, but, you know, importantly,

it solves an immediate problem.

497

00:33:10,644 --> 00:33:14,034

Now they've got a diversified

portfolio, and of course, the problem?

498

00:33:14,034 --> 00:33:19,464

doesn't get worse because as ETFs

rebalance over, you know, like

499

00:33:19,484 --> 00:33:25,404

whether it's on an ad hoc basis or

monthly or quarterly, they're not

500

00:33:25,404 --> 00:33:28,894

creating additional capital gains

for their clients just because th-

501

00:33:28,944 --> 00:33:30,884

the nature of how ETFs operate.

502

00:33:31,574 --> 00:33:33,154

it's a very elegant solution.

503

00:33:33,954 --> 00:33:37,224

Uh, when I mentioned that in--

for investors who qualify,

504

00:33:37,264 --> 00:33:38,474

not everybody qualifies.

505

00:33:38,484 --> 00:33:46,924

So, uh, the IRS has a defined, uh,

or has a definition who qualifies

506

00:33:46,924 --> 00:33:49,094

and that is a diversified…

507

00:33:49,384 --> 00:33:53,324

Well, a diversified portfolio that's

submitted qualifies and they have a

508

00:33:53,324 --> 00:33:57,694

defined term for what a diversified

portfolio means which specifically

509

00:33:57,694 --> 00:34:02,084

says that the largest position

that's contributed can't be more than

510

00:34:02,084 --> 00:34:05,244

25% of that client's contribution.

511

00:34:05,244 --> 00:34:08,004

The top five positions

can't be more than 50%.

512

00:34:08,793 --> 00:34:12,284

effectively they're saying if you

do the math, that it needs to be a

513

00:34:12,284 --> 00:34:17,954

minimum o- of 11 positions and that

therefore qualifies under the IRS

514

00:34:18,083 --> 00:34:20,554

definition of a diversified portfolio.

515

00:34:21,313 --> 00:34:21,784

Um

516

00:34:23,900 --> 00:34:31,520

Interestingly, ETFs can be contributed as

a part of a three fifty-one contribution.

517

00:34:31,949 --> 00:34:34,360

Individual securities can be contributed.

518

00:34:35,380 --> 00:34:41,790

Uh, cash cannot be contributed, government

securities cannot be contributed, uh, and,

519

00:34:41,830 --> 00:34:44,440

um, mutual funds cannot be contributed.

520

00:34:46,920 --> 00:34:50,949

But I think it's perfect for

advisors who have clients who have…

521

00:34:51,300 --> 00:34:53,040

And by the way, it doesn't

have to be Mag seven.

522

00:34:53,040 --> 00:35:00,180

I mean, we have, uh, we have now done

two Section three fifty-ones and,

523

00:35:00,980 --> 00:35:03,030

we will be doing additional ones.

524

00:35:03,090 --> 00:35:10,650

The first one was, um, when we launched,

um, is now the Hennessy Sustainable ETF.

525

00:35:11,240 --> 00:35:14,880

And when we launched that, I had

never heard of a three fifty-one.

526

00:35:14,880 --> 00:35:19,570

I sort of learned about it like three

weeks before the, before we launched.

527

00:35:20,340 --> 00:35:24,560

we scrambled, and we introduced

it to, I think, three outside

528

00:35:24,560 --> 00:35:25,820

wealth management firms.

529

00:35:25,820 --> 00:35:30,670

And collectively, with certain of

their clients, um, they seeded the

530

00:35:30,670 --> 00:35:33,860

launch of our ETF with twenty-seven

million dollars on day one.

531

00:35:34,630 --> 00:35:38,330

And so that was not only our introduction

to three fifty-ones, but I think we

532

00:35:38,330 --> 00:35:42,160

might have been the first firm ever, and

again, it was all like quite accidental,

533

00:35:42,620 --> 00:35:47,540

to actually syndicate a three fifty-one

out to other, uh, wealth management

534

00:35:47,540 --> 00:35:49,350

firms and other investment firms.

535

00:35:49,680 --> 00:35:51,250

Fast forward, that was five years ago.

536

00:35:51,290 --> 00:35:57,280

Fast-forward to today, estimated

that this year alone, ten billion

537

00:35:57,310 --> 00:36:04,190

in assets in in-kind contributions

will see the launch of about sixty

538

00:36:04,190 --> 00:36:08,100

or seventy ETFs this year, alone.

539

00:36:08,100 --> 00:36:14,000

And so this has become a very popular,

way to deconcentrate portfolios

540

00:36:15,727 --> 00:36:16,057

Ryan: Yeah.

541

00:36:16,057 --> 00:36:16,297

it.

542

00:36:16,297 --> 00:36:21,237

is, And another great way of, for

building tax alpha and a, and an

543

00:36:21,237 --> 00:36:23,987

opportunity for financial advisors.

544

00:36:23,987 --> 00:36:29,507

Do you think right now that people think

it's more complicated than, than it is?

545

00:36:29,517 --> 00:36:32,667

You know, there's some

red tape, paperwork, or is

546

00:36:32,667 --> 00:36:34,027

that just a misconception?

547

00:36:36,156 --> 00:36:37,916

Bill Davis: I'd say it's

mostly a misconception.

548

00:36:37,956 --> 00:36:41,796

I think that, m- you know, look,

five years ago when we were kind

549

00:36:41,796 --> 00:36:46,226

of like out in the wilderness doing

this thing, nobody knew what it was.

550

00:36:46,906 --> 00:36:48,916

Uh, we barely knew what it was.

551

00:36:48,956 --> 00:36:49,916

We kind of learned.

552

00:36:49,916 --> 00:36:54,356

And obviously, all of these transactions

are done under the supervision

553

00:36:54,406 --> 00:36:59,266

of, uh, outside tax attorneys who

are signing off on each and every

554

00:36:59,266 --> 00:37:03,416

one of these transactions, and

they ultimately come back to the

555

00:37:03,416 --> 00:37:05,316

client with a legal opinion letter.

556

00:37:06,846 --> 00:37:12,806

so but I would say that now it

is becoming more mainstream.

557

00:37:14,216 --> 00:37:15,856

the paperwork has…

558

00:37:16,646 --> 00:37:20,566

you know, look, it's a lot of work for

us as the issuer do one of these things

559

00:37:20,566 --> 00:37:24,586

because it's kind of-- it's, it's herding

a bunch of cats and trying to get them

560

00:37:24,586 --> 00:37:30,126

all into the same pen, 48 hours before

the launch of an ETF, and that's just

561

00:37:30,126 --> 00:37:34,606

challenging, especially if you're working

with 20 different firms at the same time.

562

00:37:36,708 --> 00:37:40,418

And I would say some custodians have

geared up and view it as an opportunity

563

00:37:40,418 --> 00:37:43,228

to grow their, their custodial business.

564

00:37:43,228 --> 00:37:45,588

And s- I'm s- talking

specifically about Schwab.

565

00:37:46,348 --> 00:37:51,148

Schwab has literally hired people

to help streamlining the three

566

00:37:51,148 --> 00:37:58,068

fifty-one and for them it's as simple

as a letter that accompanies…

567

00:37:58,088 --> 00:38:02,278

It's, it's essentially a DTC

authorization letter, which they

568

00:38:02,278 --> 00:38:03,898

require that the client sign.

569

00:38:03,908 --> 00:38:09,758

And from our perspective, we ask

the RIA to sign a very simple that

570

00:38:09,768 --> 00:38:12,088

basically is a know your client letter.

571

00:38:12,568 --> 00:38:17,558

Um, uh, I would also point out that we

don't generally, when we do them, we don't

572

00:38:17,588 --> 00:38:20,978

take in retail clients in the process.

573

00:38:20,978 --> 00:38:25,758

There are firms that will take in

retail assets off the street into

574

00:38:25,758 --> 00:38:27,338

a three fifty-one transaction.

575

00:38:27,778 --> 00:38:32,398

We would prefer that that client

have an advisor, between us and them.

576

00:38:33,168 --> 00:38:36,118

Um, but I think it's

getting pretty streamlined.

577

00:38:36,118 --> 00:38:39,828

I mean, look, there's, there's

firms out there that are literally

578

00:38:39,828 --> 00:38:44,818

launching an S&P clone fund once

a quarter, uh, simply to attract,

579

00:38:45,048 --> 00:38:48,288

uh, three fifty-one contributions.

580

00:38:48,288 --> 00:38:52,048

And generally speaking, they're

launching each of these clone funds

581

00:38:52,458 --> 00:38:55,498

with three or, three or four hundred

million of assets every quarter.

582

00:38:56,078 --> 00:39:00,108

And that speaks to just the nature of the,

the magnitude of the problem, which is, by

583

00:39:00,108 --> 00:39:02,538

the way, getting worse, not better, right?

584

00:39:02,568 --> 00:39:04,288

The S&P continues to go up.

585

00:39:05,128 --> 00:39:08,428

more and more positions that are

kind of a little bit too big.

586

00:39:09,068 --> 00:39:14,048

Um, I would also say that there is

one other popular way of dealing with

587

00:39:14,058 --> 00:39:21,328

concentration risk, is, um, well, the

original is doing like a direct index.

588

00:39:21,748 --> 00:39:25,118

But of course, I think people are

finding five years into a direct index,

589

00:39:25,118 --> 00:39:32,418

and especially if participant is no

longer, uh, contributing adding capital

590

00:39:32,728 --> 00:39:37,188

to the account, is that those direct

indexes can get ossified and tax-locked.

591

00:39:37,588 --> 00:39:40,738

And then you have the same problem

within the direct index that you had

592

00:39:41,288 --> 00:39:44,858

before you went into it, which is

that you've got a misshapen portfolio

593

00:39:44,878 --> 00:39:49,888

that, you know, is maybe off of, uh,

off of an investor's risk profile.

594

00:39:50,258 --> 00:39:56,108

But the third w- the third way is

to do a long-short, uh, extension,

595

00:39:56,158 --> 00:39:58,768

which is another way of doing it,

which can take two or three years.

596

00:39:58,768 --> 00:40:01,668

So there's a lot of ways of

doing all of these things.

597

00:40:01,668 --> 00:40:04,568

The nice thing about a three

fifty-one exchange is it's, it's

598

00:40:04,568 --> 00:40:06,608

basically free to the participant.

599

00:40:07,468 --> 00:40:10,478

The only thing that costs them

money is whatever ETFs that they're

600

00:40:10,478 --> 00:40:14,888

going into as an expense ratio, so

they're gonna be paying that expense

601

00:40:14,888 --> 00:40:16,828

ratio, but there's no upfront cost.

602

00:40:16,838 --> 00:40:18,878

They don't pay for legal opinion letters.

603

00:40:19,538 --> 00:40:25,748

Um, you know, they get tax, they get

diversification, and they get back,

604

00:40:25,778 --> 00:40:32,888

by the way, also If, um, let's say you

were contributing Ryan, and you gave

605

00:40:32,888 --> 00:40:38,468

me a combination of ETFs and individual

positions, between all of those things,

606

00:40:38,468 --> 00:40:40,918

there was like a hundred tax lots.

607

00:40:41,798 --> 00:40:46,678

When we give you back shares of that

ETF, you're gonna have a hundred tax lots

608

00:40:46,678 --> 00:40:52,898

of that ETF, which gives you a lot of

flexibility you're gonna, you know, gift

609

00:40:52,898 --> 00:40:58,148

money to, you know, gift to a charity

versus taking a taxable distribution.

610

00:40:58,148 --> 00:41:01,178

It gives you flexibility to kind

of tax manage around that as well

611

00:41:04,339 --> 00:41:05,369

Ryan: Great insights there, Bill.

612

00:41:05,369 --> 00:41:10,179

And, and to all of our listeners

out there, financial advisors,

613

00:41:11,169 --> 00:41:12,829

you know, do some research.

614

00:41:12,829 --> 00:41:15,669

Nice thing is, is that we're

a couple years into this.

615

00:41:15,699 --> 00:41:20,349

There is a lot of research out there

on 351 exchanges, a lot of information,

616

00:41:20,389 --> 00:41:22,959

a lot of, uh, great people doing them.

617

00:41:22,969 --> 00:41:24,809

So Bill, you're one of them.

618

00:41:25,409 --> 00:41:28,449

So great stuff out there

if you're looking for help.

619

00:41:29,159 --> 00:41:34,099

Let's, uh, shift real quickly,

um, finish up this conversation.

620

00:41:34,119 --> 00:41:35,999

It's been fantastic so far.

621

00:41:36,009 --> 00:41:38,269

Just talk about sustainable investing.

622

00:41:39,809 --> 00:41:41,819

It's evolved a lot over the years.

623

00:41:41,859 --> 00:41:45,709

Aging myself here, you know,

it used to be responsible

624

00:41:45,709 --> 00:41:47,849

investing and just all these…

625

00:41:47,909 --> 00:41:50,509

ESG, now sustainable.

626

00:41:51,149 --> 00:41:55,439

Do you think just all the different names

just adds kind of some clutter to it?

627

00:41:55,479 --> 00:41:59,169

'Cause at the end of the day, you said

it earlier, it's just investing in

628

00:41:59,169 --> 00:42:01,529

your values, investing in your beliefs.

629

00:42:02,569 --> 00:42:03,469

Do you think…

630

00:42:03,529 --> 00:42:08,939

What, what's your stance on the

landscape today of sustainable investing?

631

00:42:09,596 --> 00:42:13,696

Bill Davis: I think it's important to

remember that it goes back hundreds

632

00:42:13,696 --> 00:42:15,926

and hundreds of years, right?

633

00:42:16,086 --> 00:42:21,516

Um, and I'm spec-specifically talking

about faith-based investing, which

634

00:42:21,526 --> 00:42:26,906

is in values and avoiding things

that are antithetical to one's faith.

635

00:42:27,516 --> 00:42:34,756

Um, if you look at, you know, everything

from Catholic values to Jewish values,

636

00:42:34,756 --> 00:42:45,496

to values, to, you know, Protestant, um,

investment portfolios, they all like are

637

00:42:45,906 --> 00:42:47,916

kind of like almost exactly the same.

638

00:42:47,916 --> 00:42:51,836

I mean, there's, there's always

something that somebody doesn't want,

639

00:42:51,846 --> 00:42:55,716

whether it's pork or whether it's

contraception or like whatever, right?

640

00:42:55,716 --> 00:43:00,636

There's all these like little

variations, but basically it's ESG.

641

00:43:01,206 --> 00:43:07,016

Like if you get at the underlying tenets

of faith-based investing, they are about

642

00:43:07,366 --> 00:43:13,246

supporting people and communities, about

making money and giving money back.

643

00:43:13,976 --> 00:43:18,776

about preserving resources, which

is sort of the envi-- and treating

644

00:43:18,776 --> 00:43:20,516

the environment responsibly.

645

00:43:20,946 --> 00:43:26,076

It's all just like the same as what

sort of a, a typical ESG investor does.

646

00:43:26,076 --> 00:43:28,466

I think that the, uh…

647

00:43:28,506 --> 00:43:33,496

And, and so I think that the disservice,

you wanna call it that, is that when

648

00:43:33,496 --> 00:43:38,156

the term ESG came out, it means so many

things to so many different people that

649

00:43:38,156 --> 00:43:40,116

it's almost absolutely like useless.

650

00:43:40,766 --> 00:43:45,906

And then if you add to that, that

the, that the firm that really kind

651

00:43:45,906 --> 00:43:50,656

of made the industry what it is,

at least in the US, was BlackRock.

652

00:43:51,526 --> 00:43:57,106

Um, and yet they were building kind

of the least authentic ESG products in

653

00:43:57,106 --> 00:43:58,726

the market, somewhat cynically, right?

654

00:43:58,726 --> 00:44:04,276

Because they were basically taking an

S&P 500 portfolio, eliminating four

655

00:44:04,276 --> 00:44:09,946

names, branding it as ESG, and adding

twenty bips to the expense ratio.

656

00:44:11,696 --> 00:44:13,266

so there's sort of good and bad with it.

657

00:44:13,266 --> 00:44:17,366

Number one, they kind of created the

category in the US, or at least they

658

00:44:17,366 --> 00:44:20,776

were the marketing muscle behind it

with Larry Fink's letters and all that.

659

00:44:21,476 --> 00:44:27,436

Um, but at the same time, I think that

they've, many ways, they devalued it

660

00:44:27,906 --> 00:44:32,406

through their lack of authenticity and,

you know, just to kind of make a very

661

00:44:32,406 --> 00:44:38,206

small point, you take the largest three,

you take the three big firms, right?

662

00:44:38,356 --> 00:44:41,936

BlackRock, Vanguard, State

Street in that order.

663

00:44:42,456 --> 00:44:46,716

They have the largest amount

of assets in their ESG ETFs

664

00:44:48,788 --> 00:44:55,718

And yet they're the three largest

investors in fuels in the US collectively,

665

00:44:55,728 --> 00:44:59,808

institutional investors in fossil fuels,

to the point where I think that their

666

00:44:59,828 --> 00:45:02,078

ESG investments total about $100 billion.

667

00:45:02,568 --> 00:45:06,598

Their fossil fuel investors investments

total one point one trillion,

668

00:45:07,198 --> 00:45:09,378

including into coal facilities.

669

00:45:10,128 --> 00:45:15,128

so it's kinda like, well,

I give these guys money if,

670

00:45:15,168 --> 00:45:16,938

like, in fact, they're just…

671

00:45:17,508 --> 00:45:19,568

'Cause I care, you know,

I care about climate risk.

672

00:45:20,288 --> 00:45:24,198

would I give BlackRock money if

they're just marching me closer and

673

00:45:24,198 --> 00:45:26,758

closer to a climate cliff, right?

674

00:45:26,788 --> 00:45:32,658

And so I think that that's kind of

part of this, like, confusing issue for

675

00:45:32,658 --> 00:45:34,188

investors who care about this stuff.

676

00:45:34,228 --> 00:45:38,258

But then the other side of it is the whole

culture war side of it, which somehow or

677

00:45:38,258 --> 00:45:46,708

other took this obscure, like undefined,

like nebulous term called ESG and it as

678

00:45:46,708 --> 00:45:49,008

woke capitalism, whatever that means.

679

00:45:49,938 --> 00:45:57,258

in fact, like the underlying tenets of ESG

investing have been going on for li-like

680

00:45:57,558 --> 00:46:01,978

a millennial, like, or at least in the US

the last couple hundred years, and nobody

681

00:46:01,978 --> 00:46:06,878

had any problem with it and still doesn't,

by the way, faith-based investing.

682

00:46:06,878 --> 00:46:12,308

So I think, I think the landscape

is today, it's confusing.

683

00:46:12,808 --> 00:46:18,938

I think a lot of the momentum that was

established in 2020 and 2021 been chilled.

684

00:46:19,668 --> 00:46:21,478

However, it's not going away.

685

00:46:21,578 --> 00:46:25,008

Uh, assets in Europe, which is,

by the way, has always been years

686

00:46:25,008 --> 00:46:27,578

ahead of us in this, are growing.

687

00:46:28,308 --> 00:46:31,048

I would say also they're,

they're growing toward…

688

00:46:31,068 --> 00:46:35,898

They're leaning into authenticity,

and they are leaning into some

689

00:46:36,198 --> 00:46:39,698

ar- some sort of thematic areas

like nature-based investing.

690

00:46:41,258 --> 00:46:44,358

you know, people think of nature-based

investing as protecting the environment.

691

00:46:44,398 --> 00:46:51,898

I would say that it's a bit of a ticking

time bomb, and investors really everybody

692

00:46:51,898 --> 00:46:57,868

needs to understand that there are a lot

of macroeconomic drivers related to the

693

00:46:57,868 --> 00:47:00,968

importance of protecting the environment

because you can either protect it in

694

00:47:00,968 --> 00:47:05,188

advance, or you can deal with all of

the sovereign defaults that are gonna

695

00:47:05,188 --> 00:47:13,258

come, uh, as land becomes, you know, like

unarable and the oceans become unfishable

696

00:47:14,358 --> 00:47:21,088

timber, uh, resources are depleted

and, um, and global warming, you know,

697

00:47:21,088 --> 00:47:23,088

kinda continues to march down its path.

698

00:47:23,088 --> 00:47:30,048

So I think So I think strategies related

to water, to energy, to timber, to

699

00:47:30,048 --> 00:47:36,888

carbon, um, to agriculture, I think are

gonna become more prevalent, and it's

700

00:47:36,888 --> 00:47:42,478

gonna be less about buying, you know,

some plain vanilla ten basis point

701

00:47:44,988 --> 00:47:47,048

ETF and checking the box.

702

00:47:47,058 --> 00:47:51,508

So I think it's not only not going

anywhere, I think it's, it's gonna become

703

00:47:51,548 --> 00:47:56,668

more important because the reality is,

know, climate risk, as one example,

704

00:47:56,668 --> 00:47:58,578

really doesn't care about politics.

705

00:47:59,518 --> 00:48:04,418

and the reality is, is if businesses

don't decarbonize, they are going to…

706

00:48:04,448 --> 00:48:09,608

It's gonna create not only there's

systemic risk around but there's gonna

707

00:48:09,608 --> 00:48:14,388

be very specific risk around companies

who are exposed to climate risk and

708

00:48:14,388 --> 00:48:18,398

who aren't, aren't doing everything

they can to become more resilient.

709

00:48:19,318 --> 00:48:23,928

I would also just as-- add as a

kind of a final point on that, um,

710

00:48:24,378 --> 00:48:26,668

companies are paying attention to this.

711

00:48:27,128 --> 00:48:28,598

You know, there's two sides of this.

712

00:48:28,598 --> 00:48:32,608

There's like, what are, you know, asset

management firms like Stance Capital

713

00:48:32,608 --> 00:48:37,628

doing in terms of building product

and, and bringing them to market?

714

00:48:37,628 --> 00:48:41,358

But the other side, the more

important side is how is all of this

715

00:48:41,358 --> 00:48:45,778

affecting the companies that we are

investing in and are engaging with?

716

00:48:45,818 --> 00:48:52,858

And the answer is moving more slowly

than they were five years ago and more--

717

00:48:53,348 --> 00:48:59,328

and definitely they're being more,

um, thoughtful around their footing.

718

00:49:01,028 --> 00:49:04,048

and they've definitely kind

of gone underground and not

719

00:49:04,138 --> 00:49:05,458

talking about it as much.

720

00:49:05,958 --> 00:49:13,948

But most big businesses have financially

operationalized, um, sustainability

721

00:49:14,338 --> 00:49:19,338

into their business units, so it's no

longer simply like compliance-driven

722

00:49:19,368 --> 00:49:25,388

ESG reporting sort of, you know, some

small department over on the side.

723

00:49:25,768 --> 00:49:30,548

I think businesses understand the actual

benefit of decarbonizing, capturing

724

00:49:30,558 --> 00:49:36,848

market share, attracting and retaining

the best employees, commanding premium

725

00:49:36,848 --> 00:49:42,658

prices from more loyal customers as a

result of their, you know, off-balance

726

00:49:42,668 --> 00:49:45,098

sheet behavior around decarbonizing.

727

00:49:45,118 --> 00:49:47,948

And so I think, I think that the

business world gets it, and that's

728

00:49:47,978 --> 00:49:49,358

probably the most important thing.

729

00:49:49,748 --> 00:49:50,908

That's the most important point to make.

730

00:49:51,919 --> 00:49:52,289

Ryan: Yeah.

731

00:49:52,669 --> 00:49:57,829

No, that's an important point, Bill,

and I love that you brought up these

732

00:49:57,829 --> 00:50:02,329

huge asset managers who have, you

know, one side of their business.

733

00:50:02,359 --> 00:50:04,379

It, they just don't coordinate, right?

734

00:50:04,409 --> 00:50:08,249

And I think that's the biggest

issue with this industry.

735

00:50:08,289 --> 00:50:13,869

They're just all trying to chase the

dollar, build AUM, chasing trends, and

736

00:50:13,869 --> 00:50:15,829

you see that with what you just said.

737

00:50:15,829 --> 00:50:19,929

They have all these ESG

products, that's one message.

738

00:50:20,519 --> 00:50:23,759

Under the same brand, they

have a different message that

739

00:50:23,759 --> 00:50:27,509

doesn't really correspond with

sustainable investing or ESG.

740

00:50:27,519 --> 00:50:30,249

So, it's a problem I have.

741

00:50:30,569 --> 00:50:31,889

That's my soapbox.

742

00:50:32,239 --> 00:50:38,309

But also too, I think, and you said

it too, like just ESG, it's so hard

743

00:50:38,309 --> 00:50:44,019

to be environmental, social, and

governance, but at the same time, like

744

00:50:44,019 --> 00:50:46,009

to find companies that fit all three.

745

00:50:46,239 --> 00:50:52,229

At the same time, I don't know one asset

manager who doesn't think about governance

746

00:50:52,329 --> 00:50:54,119

when they're making an investment.

747

00:50:54,129 --> 00:50:55,119

All right?

748

00:50:55,519 --> 00:50:55,869

I

749

00:50:56,010 --> 00:50:59,260

Bill Davis: except everybody

who invests in, uh, s- um,

750

00:51:01,227 --> 00:51:02,207

Ryan: Yeah, there you go.

751

00:51:02,407 --> 00:51:02,607

Exactly

752

00:51:02,970 --> 00:51:07,960

Bill Davis: the worst governed

company ever to, like, um, do an IPO.

753

00:51:08,110 --> 00:51:09,540

I mean, there is no governance there.

754

00:51:09,540 --> 00:51:09,870

You…

755

00:51:10,910 --> 00:51:13,340

shareholders have zero

rights in that company.

756

00:51:13,340 --> 00:51:18,210

It's, it's, it's effectively like

a publicly traded venture capital

757

00:51:18,220 --> 00:51:20,070

firm where nobody has any rights

758

00:51:20,945 --> 00:51:21,825

Ryan: Yeah, exactly.

759

00:51:21,835 --> 00:51:24,495

So you're exactly right there.

760

00:51:24,515 --> 00:51:26,315

But, uh, you know, most…

761

00:51:26,725 --> 00:51:32,005

If, if financial, if a asset manager,

money manager is doing what's best for

762

00:51:32,005 --> 00:51:38,195

their, you know, investors, you know,

they're probably gonna consider the G part

763

00:51:38,492 --> 00:51:38,732

Bill Davis: Yeah,

764

00:51:38,795 --> 00:51:39,615

Ryan: of ESG.

765

00:51:39,625 --> 00:51:40,245

So

766

00:51:40,332 --> 00:51:46,912

Bill Davis: Look, despite all of the

sort of performative theater around

767

00:51:46,912 --> 00:51:51,852

ESG in the last couple of years, the

politicis- politicization of it, the,

768

00:51:52,612 --> 00:51:59,032

you know, the McCarthy-style hearings

in Washington for practitioners of it,

769

00:51:59,902 --> 00:52:04,052

reality is, is that all it is is a proxy

for finding a well-managed company.

770

00:52:04,492 --> 00:52:09,452

Like, you and I both would agree that

if we wanna invest in a company, we

771

00:52:09,452 --> 00:52:13,242

want it to have strong governance,

we want a good management team, we

772

00:52:13,242 --> 00:52:17,262

want a company that's responsible to

its employees and the communities in

773

00:52:17,262 --> 00:52:20,852

which it operates, want a company that

774

00:52:22,852 --> 00:52:28,682

amplifies its returns to shareholders

specifically by good at those things

775

00:52:28,682 --> 00:52:33,222

and also protecting, like, underlying

resources like the environment.

776

00:52:34,692 --> 00:52:35,032

So

777

00:52:35,215 --> 00:52:35,405

Ryan: You're

778

00:52:35,622 --> 00:52:37,672

Bill Davis: It's really not

any more complicated than that

779

00:52:38,031 --> 00:52:39,521

Ryan: Yeah, you're exactly correct.

780

00:52:39,571 --> 00:52:44,281

But we had to put an acronym to

it and then make it all political.

781

00:52:44,671 --> 00:52:47,301

Last thing, let's tie

this all together, Bill.

782

00:52:47,331 --> 00:52:49,051

Fantastic information.

783

00:52:49,071 --> 00:52:50,151

I learned a ton.

784

00:52:50,201 --> 00:52:51,551

It's been a lot of fun.

785

00:52:51,931 --> 00:52:56,791

Let's bring AI and sustainable

investing together.

786

00:52:56,791 --> 00:53:00,351

You know, there's a huge amount

of energy required to power AI.

787

00:53:00,781 --> 00:53:04,871

So how do you reconcile that

explosive growth in AI infrastructure

788

00:53:04,871 --> 00:53:06,901

with sustainable investing?

789

00:53:07,676 --> 00:53:10,926

Bill Davis: So I think sustainable

investing needs to exist in

790

00:53:10,926 --> 00:53:13,686

the world in which it-- we

live in, the, the real world.

791

00:53:14,446 --> 00:53:18,656

reality is, um, AI is happening.

792

00:53:19,446 --> 00:53:21,326

Uh, n-nobody…

793

00:53:21,336 --> 00:53:25,066

I mean, we can d- a se- a separate

conversation is sort of the,

794

00:53:26,116 --> 00:53:33,396

you know, the ethics of, of like

uncontrolled AI and, um, and all of

795

00:53:33,396 --> 00:53:35,096

that, and social media and everything.

796

00:53:35,096 --> 00:53:41,046

So leaving all of that stuff aside

for a moment, think what s- what

797

00:53:41,086 --> 00:53:45,836

investors can be thinking about is

investing in those companies who are

798

00:53:45,836 --> 00:53:48,036

doing it as responsibly as possible.

799

00:53:48,866 --> 00:53:53,996

So, you know, you can power

AI through a variety of ways.

800

00:53:54,466 --> 00:54:00,266

I think that those in the industry that

are advocating for sustainable approaches

801

00:54:01,754 --> 00:54:07,224

I think that those messages are very, very

well received, um, by the hyperscalers.

802

00:54:07,254 --> 00:54:12,524

But I think if you think about

their priority, it's like speed,

803

00:54:13,174 --> 00:54:15,124

sustainability, and then cost.

804

00:54:15,134 --> 00:54:17,184

They don't really care what

it costs to solve the problem.

805

00:54:17,544 --> 00:54:19,024

They wanna get it done quickly.

806

00:54:20,164 --> 00:54:23,924

interestingly, in some cases, renewables

are the fast path to doing it.

807

00:54:24,394 --> 00:54:28,514

I would say one of the big worries

that I have actually relates to water.

808

00:54:29,164 --> 00:54:33,174

I think water is like a hidden risk

that everybody should be thinking

809

00:54:33,174 --> 00:54:35,024

about and not taking for granted.

810

00:54:36,584 --> 00:54:38,384

and it's gonna become

more and more precious.

811

00:54:38,414 --> 00:54:45,604

And I think these data centers have the

capacity to do closed-loop water systems.

812

00:54:45,604 --> 00:54:50,844

They have the capacity to not do it,

but we're starting to see pushback from

813

00:54:50,844 --> 00:54:59,004

communities and NGOs and other parties

around irresponsible center build-out.

814

00:54:59,064 --> 00:54:59,644

And I think…

815

00:55:00,474 --> 00:55:05,194

You know, look, I mentioned at the

beginning, um, our flagship product

816

00:55:05,204 --> 00:55:07,364

is the Hennessey Sustainable Fund.

817

00:55:08,194 --> 00:55:13,934

Our approach to selecting companies

in that fund is, number one, we

818

00:55:14,084 --> 00:55:15,884

look at the underlying fundamentals.

819

00:55:15,884 --> 00:55:20,054

We use machine learning to identify

companies who we think are statistically

820

00:55:20,054 --> 00:55:25,414

likely to generate positive total

return and alpha over the next quarter.

821

00:55:26,484 --> 00:55:32,234

Then we also look at how, um, we sort

of grade them quantitatively or on a

822

00:55:32,234 --> 00:55:39,114

rules-based framework, um, on up to

twenty-five different ESG criteria,

823

00:55:39,584 --> 00:55:41,244

and then its relative strength, right?

824

00:55:41,244 --> 00:55:47,334

So we're not trying to exclude certain--

I mean, we, we tend not to invest

825

00:55:47,334 --> 00:55:51,754

in fossil fuel companies, but for

everything else, you know, like mining,

826

00:55:51,754 --> 00:55:54,984

for example, we're one of the few ESG

companies that will invest in a mining

827

00:55:54,984 --> 00:55:58,424

company, but we're only gonna invest

in those mining companies who are more

828

00:55:58,424 --> 00:56:00,374

responsible relative to their peers.

829

00:56:00,814 --> 00:56:04,804

And so I think the same is true with AI,

and that's how investors should think.

830

00:56:04,814 --> 00:56:07,214

They should think about supporting

companies who are actually making

831

00:56:07,214 --> 00:56:08,584

an effort to do it responsibly.

832

00:56:10,047 --> 00:56:10,227

Ryan: Yeah.

833

00:56:11,177 --> 00:56:14,657

Bill, great way of

ending this conversation.

834

00:56:14,717 --> 00:56:15,757

Really fun.

835

00:56:15,837 --> 00:56:17,077

I enjoyed it.

836

00:56:17,117 --> 00:56:18,217

I learned a lot.

837

00:56:18,377 --> 00:56:19,767

Really insightful.

838

00:56:20,047 --> 00:56:21,677

Thank you so much for coming on.

839

00:56:21,687 --> 00:56:24,697

It's been an honor, uh, to have you on.

840

00:56:24,757 --> 00:56:28,517

Where can our audience get more

information about Stance Capital?

841

00:56:29,116 --> 00:56:29,506

Bill Davis: Yeah.

842

00:56:29,576 --> 00:56:33,126

Um, so Ryan, first off, thanks

very much for having me.

843

00:56:33,196 --> 00:56:34,686

Um, love to do it again.

844

00:56:35,366 --> 00:56:39,976

Uh, are at www.stancecap.com,

845

00:56:40,006 --> 00:56:43,946

and if you navigate through our website

and you want-- anybody wants more

846

00:56:43,946 --> 00:56:48,936

information on Section 351 exchanges,

we've got a great primer there, which

847

00:56:48,936 --> 00:56:52,286

is to understand and very comprehensive.

848

00:56:52,286 --> 00:56:56,776

It explains what they are, who can

participate, how to go about it.

849

00:56:57,706 --> 00:57:03,786

and ultimately, as we launch ETFs in

advance of launch of ETFs, we'll find

850

00:57:03,786 --> 00:57:07,056

ways to let people know that we've got

an upcoming opportunity in that regard.

851

00:57:09,409 --> 00:57:10,139

Ryan: Awesome, Bill.

852

00:57:10,349 --> 00:57:14,669

You're, you do have a lot of great

insight, especially on 351 exchanges.

853

00:57:14,929 --> 00:57:17,109

People need the information, so thank you.

854

00:57:17,479 --> 00:57:19,989

Thank you for coming on,

and yeah, let's do it again.

855

00:57:20,129 --> 00:57:20,949

Let's do it again.

856

00:57:21,409 --> 00:57:22,369

And thank you, everyone.

857

00:57:22,849 --> 00:57:25,559

You know, thank you everyone

for listening to this episode

858

00:57:25,559 --> 00:57:27,339

of Adjusted for Risk podcast.

859

00:57:27,379 --> 00:57:31,129

You can watch all of our other

episodes on YouTube and Spotify and

860

00:57:31,129 --> 00:57:33,189

wherever else you catch your podcasts.

861

00:57:33,479 --> 00:57:36,469

Also, be sure to like and

subscribe to those channels and

862

00:57:36,479 --> 00:57:37,979

give us a follow on LinkedIn.

863

00:57:38,369 --> 00:57:40,699

Thank you very much and have

a great rest of your week