The interview above was conducted on June 27, 2014. This interview contains information about performance and holdings related to this specific date. Performance data quoted represents past performance and does not guarantee future results. The investment return and principal value of an investment will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. Fund performance current to the most recent month-end and the most recent quarterly holdings can be obtained by calling (855) 270-2678.
Mutual fund investing involves risk including the possible loss of principal. Risks associated with the Funds as well as applicable investment objectives, charges and expenses must be considered carefully before investing. This and other important information about the Funds is found in the Prospectus, a copy of which may be obtained on our website or by contacting Mutual Shareholder Services (“MSS”) toll free at (855) 270-2673. We encourage you to read the prospectus carefully before investing. The Gator Focus Fund is distributed by Arbor Court Capital, LLC, Member FINRA.
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David Holland:
Welcome back ladies and gentlemen. It's time to talk about some hardcore financial stuff. As you know listening to this program I like drag anything I can, kicking and screaming, into this program. If I can relate it to finances then by golly it'll be on this program. If I can get a good guest, or it's something I want to talk about myself.
Today on the program I'd like to really get into a nuts and bolts core financial topic as it relates to investing. And that topic in general is mutual fund investing. There's lots of different types of mutual funds and many people have asked me to talk about this. I wanted to zero in. We hear a lot about some of the big "brand name" large cap stocks, the companies you know or you've heard of. The G.E.s, the IBMs, the Apples, the Googles, the Exxons. All of these big, mega-cap stocks. These enormous companies with hundreds and hundreds of billion dollars of value, also called their market capitalization.
But there's also a whole 'nother world, which is the medium and small cap which is the smaller companies. And I'm not talking about the corner Mom and Pop grocery store, I'm talking about companies, by Wall Street standard, are smaller. And maybe they're only worth a billion or two dollars. That's the domain or the area of what's called small cap investing. To help us understand it, and understand how to maybe make that part of your portfolio, I have a gentleman on the line Derek Pilecki. He is the founder of Gator Capital Management, and he has the Gator Mutual Funds. That is the name of the website if you're curious and like to get more information. GaterMutualFunds.com. Derek, welcome to the program.
Derek Pilecki:
Hi David. Thank you for having me on.
David Holland:
You're very welcome. Thank you for indulging that long setup. I think it's important for people to understand why we want to talk about this. And just a little bit about Derek, he founded Gator Capital Management back in 2008. He manages the Gator Focus Fund, which is a mutual fund focused on portfolio of small companies, or small cap companies. Prior to starting Gator Derek was a member of Goldman Sachs Asset Management, their equity team. He has been growing the firm, and has done a great job. He gave me a nice, strong number before we started the program. Assets are up to?
Derek Pilecki:
About $104 million as of the end of May.
David Holland:
Outstanding, that's excellent for a fund, especially since you're focused on the small caps. That's outstanding. Derek's had a background of portfolio management. Did the Goldman Sachs capital growth fund, and also focused a lot on the financial services sector. We're really glad to have you on Derek, to help us understand it. For our listeners what is one that really sets apart the small cap stock investing as opposed to what they might be naturally more familiar with, the larger cap stocks. What's something that sets the small caps out as really being different and perhaps what are some of the opportunities?
Derek Pilecki:
I think one of the big differences with small caps is they're less followed by investors in general so they're companies that they're not as familiar with. There's not as many Wall Street brokerage analysts who write research reports on them. They're not as well-followed. So there's some opportunity there, because they're not as closely tracked. A lot of times they're fairly priced, but because of there's less people following them sometimes you can find mispriced stock.
David Holland:
So they could be the proverbial diamond in the rough?
Derek Pilecki:
Absolutely, yes.
David Holland:
Interesting. Hunting for buried treasure, I like that. (Laughs) So what are some of the things that people should look for if they're looking to get into small cap stocks and obviously one of the things that I routinely talk to people about is diversification, which is why I like the idea of investing in mutual funds to give you that diversification. But just in terms of what people want to look for, for small cap investing in general. Then we'll get into the mutual fund component. What about small cap investing in general, what should they look for?
Derek Pilecki:
I think when you approach small caps you have to approach it prudently, because there's a lot of companies out there that are available to invest. If you approach looking at the stock as if you were to buy the entire business, and not look at it as a piece of trading paper to flip around you think okay, I can be in this company for five to ten years. Where I want to own this business for five to ten years. That's a good starting point to start to think about the stock.
David Holland:
Ok. When they start looking at getting into them, and I know that this is kind of taking a peek, which is of course part of my purpose with this question Derek. You start thinking about which stocks to own do you want to focus in on a particular sector? Do you want to, again, make sure that you are getting a broad range of different exposure with the small caps, just like you would with other categories? Or are there certain sectors that tend to lend themselves toward the small cap investing?
Derek Pilecki:
I like to think about investing in stocks that I understand the businesses. I focus a lot on consumer stocks and financial stock. Because I've been a financial analyst covering this sector for fifteen years. I understand financial businesses. We're all consumers, and we all have an affinity for going to the mall or restaurants, and it's easy to understand consumer stocks. A lot of times I like to look for businesses that earn high returns on equity or high margin. They're able to do that because they have some kind of competitive advantage. And often in the consumer sector the competitive advantage might be a strong brand or an advantaged product and so I like to look at areas that I understand and companies with high return.
David Holland:
Ok. That makes sense and so that's part of the screening process. And this will vary of course for different mutual funds and for different objectives. What do you think is an adequate number, if we're looking to put money into a small cap mutual fund, which of course is what your focus on with the Gator Focus Fund. What do you think is a good number of individual stocks for a small cap portfolio to hold to really give you enough of that diversification that is so often preached about?
Derek Pilecki:
In my portfolio I hold about thirty stocks. I think there's been academic studies that say once you get to twenty two to twenty five stocks in a portfolio you've reached the upper limit of the benefits of diversification. I like thirty because it gives me a nice round number, and I'm able to track that many companies. I may own thirty stocks, but I'll have ten stocks that I don't that I'm tracking, that I could potentially invest in. That's a nice number of stocks to be able to follow the earnings releases and monitor how the business are developing.
David Holland:
Interesting. So you'll have thirty in the portfolio and then another ten that are kind of in the bullpen, or they're in the minor leagues. And you might decide to replace one of the ones in the portfolio with one of these other ones if you see an opportunity?
Derek Pilecki:
Correct. You know my portfolio does not have a lot of turnover. When I'm buying these stocks my intention is to hold them for longer than five years. I tend to have the thirty names, I tend to replace between five and eight of them a year. So the turnover is twenty to twenty five percent a year.
David Holland:
Okay, that makes sense.
Derek Pilecki:
Of those ten stocks I'm not going to buy them all. I might not buy any of them, but they're there, I'm doing work on them.
David Holland:
Interesting. Very good. I like it. I think it makes sense Derek. I'm pronouncing your last name correctly Pilecki?
Derek Pilecki:
Yes.
David Holland:
Excellent. Very good. Derek Pilecki is our guest today, ladies and gentlemen. He is founder of Gator Capital Management, gatormutualfunds.com. Gator Focus Fund if you're curious the ticker symbol is GFFIX. So GF Fix. And we're going to grab a quick break, we'll come back with Derek and dig a little deeper into small cap stock investing. Stay right there.
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David Holland:
And we're back with Derek Pilecki. He is the founder of Gator Capital Management. Talking to him about GatorMutualFunds.com. That's the website. We dove in a little bit right off the bat. I was eager and let me continue my introduction to you of Derek. He also holds an MBA with honors in finance and accounting from the University of Chicago and a BA in Economics from Duke University. Sorry to skip over that Derek. I was so eager to get into our conversation. But that pedigree is certainly worthy of recognition.
We talked before the break, Derek, about some of the things that you're doing with your portfolios, and the diversification. I like the approach. I caught myself musing over your strategy, which I think is very intelligent. Thirty individual stocks that make up the portfolio because you can keep track of that. Do you tend to like to keep a ... You know, if you're doing thirty obviously the math would say that you're putting three or so percent in each one of those? Or do you tend to over and underweight them depending on what you think's going on. It isn't necessarily all or nothing, then?
Derek Pilecki:
Right. When new names go into the portfolio I try to put them in at 3.3%, so thirty times 3.3. That creates a nice high hurdle. If a name's going to go in at three percent I have to want to really own it. It eliminates hobbies from getting into the portfolio. If a stock is an interesting business but not the right price I never say I'll buy a 1% position and hope it goes down, then I'll buy more. It either goes in at 3% or it doesn't go in.
I'm not one to trim or add to positions. If you look at my top holdings they've gone in at 3.3% and they've outperformed the rest of the portfolio.
David Holland:
Ok. You threw that out there Derek, I have to ask then, what's your top holding right now?
Derek Pilecki:
Right now my top holding's Targa Resources. Targa is the general partner for an MLP with a similar name. I own about five companies like this in the portfolio, where they're general partners of a master limited partnership and they get to grow as the underlying master limited partnership grows, and they don't have to increase their capital to grow. They just benefit from the growth of the underlying company.
David Holland:
That's very nice.
Derek Pilecki:
MLP general partners in general are very good businesses. There's about thirteen publicly traded general partners, and I own five of them in this portfolio.
David Holland:
Neat, very good and so the idea is the act of management of these mutual funds, the act of following them is not a set it and forget it. Which of course is an enormous contrast between actively managed mutual funds and index or passively managed funds. You know there's obviously been a big increase, Derek, over the years of indexing and exchange-traded funds and these things and obviously you prefer the managing a concentrated portfolio of stocks. Give us a little bit more understanding about that approach, and why it's superior, or why you believe in it, the results will determine which strategy is superior. But why this approach you think makes more sense?
Derek Pilecki:
There's a couple things about concentrated investing that are different from being more widely diversified. One of them, it increases the risk of the portfolio to be concentrated, because if you're wrong on your stock pick you can have massive under-performance relative to your benchmark. If you're good at picking stocks, or you go through a good streak where you're in sync with the market and out-performing, you can out-perform by a larger margin so I like that. My investors, they have the option of investing in an index fund and matching the benchmark exactly. I think they're hiring me to out-perform. If I'm going to out-perform, I want to out-perform by as much as I can and so holding the concentrated portfolio gives me that opportunity.
The other thing about concentrated portfolios, I get to focus more of the capital on my best ideas rather than my fiftieth best idea. It enables me to focus on more of my capital on better ideas.
David Holland:
I like that, that makes sense. You know what, if I were going to manage a mutual fund, which I am not signing up for, I've got enough responsibility. But I like that approach, I would do it that way. Because you could really add value and your threshold, which I think is really interesting way of phrasing it Derek, is you're going to nibble at something. If you don't believe it, and it's strong enough to buy 3%, you're not going to buy it.
Derek Pilecki:
Right. It's kept me out of some things that would have just meandered along, where get to be focused on things that I really believe in.
David Holland:
That makes sense. That's a sensible approach, and I think most people would find that to be logical. Is there anything you think that with the way the economy is growing or rebounding again from the great recession which the recovery continues, anything in particular about small caps you think that might portend of a greater opportunity coming out that, or what may lie ahead of us?
Derek Pilecki:
I think there's an ongoing opportunity with small caps. The companies can be my dynamic. They're smaller, they have their growth opportunities are greater.
David Holland:
They can be more nimble, right?
Derek Pilecki:
They absolutely can. I'm bullish on the economy, I think we're going to accelerate from here. More people are getting back to work. I think there's pent-up demand for household formation. I think people have been saving or not spending for the past five or six years, and they're getting tired of that. I think the economy's going to get stronger as people gain more confidence. I think that only portends great things for smaller companies.
David Holland:
I was going to say I like the idea, and that's why I like the idea of having as part of a portfolio with small caps. You know, small mid and large cap stocks as you know will respond differently to different economic conditions. The thing that I've always liked about having a small cap exposure it can be more nimble. I've used the analogy, and maybe I need to do my research a little better, I've always used the analogy of a small ship on the ocean versus the aircraft carrier that might take miles to turn around and go the other direction. If you're in a smaller boat, AKA like an analogy for a smaller company stock, you can turn around much quick than that large ship can.
Derek Pilecki:
That's absolutely right. You can have regional businesses that expand nationally, you can have businesses that get acquired by larger companies, and you can have businesses that find a small market opportunity and are able to take advantage of it, versus a large multinational conglomerate might see the same opportunity but think it won't add that much to our bottom line, why bother?
David Holland:
Exactly. That's just not worth their even focusing on it, because there's just not enough opportunity but whereas a smaller company can come in and exploit and explore and exploit that opportunity. Very interesting Derek. Derek Pilecki is our guest today ladies and gentlemen. GatorMutualFunds.com. Gator Focus Fund. GFFIX. We're going to grab a quick break. We'll come back and talk to Derek some more. Stay right there.
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David Holland:
And welcome back ladies and gentlemen. Derek Pilecki is my guest. He is the founder of Gator Capital Management, GatorMutualFunds.com. We're talking about small cap investing, and the opportunities that may present themselves in the future, and the sensible approach of having small caps as part of an overall portfolio.
A little bit about your fund, Derek. I'm curious, I wanted to ask you the focus on small caps and how you're doing it. The fund's availability, is there information on your website talking about how people out there if they're interested where they can get the fund?
Derek Pilecki:
Right. The fund's available direct from the transfer agent, and the contact information's on the website. We're available on a few brokerage platforms such as Schwab or Interactive Brokers. The complete list is on the website.
David Holland:
Very good and is it available as a no-load, a load? How is it made available?
Derek Pilecki:
It's a no-load fund. We have two classes of stock. There's an investor class of stock that has a 0.25% basis point12b1 fee, and then there's the institutional shares, but the minimum for the institutional shares is 100,000. If you would tend to purchase more than 100,000 we waive the minimum.
David Holland:
That's very good. And so for investment advisers that are advising clients to put money into this and they're maybe managing the client's for a fee, that's part of how people can access your fund and make it part of their portfolio as well.
Derek Pilecki:
Correct.
David Holland:
That's very good, that's very good. So if we look forward. I like the idea of the way you look at companies over a longer period, say a five or more year period for investing, and you look at the role that small caps can play. I heard what you said before the break Derek about the potential for continued economic growth. Do you see this cycle continuing to build? Are we seeing the economic data is strengthening? I guess what I'm looking for is do you get a sense that this could definitely continue to build over the next, I don't know, five to ten years? There's talk of a long period of expansion absent something really bad happening. But there's ongoing concerns about different aspects of the economy and also government spending.
Derek Pilecki:
The two hiccups right now are the first quarter numbers were weak, and it's been attributed to the weather. We'll have to wait a couple of quarters to see if that is in fact the case. The other uncertainty is how is the federal reserve going to unwind its balance sheet, and is that going to just continue to be an overhang on the economy.
I think people in the country are dynamic and entrepreneurial and they'll be innovative and find ways to grow once we get people back to work and continue to move forward with employment growth and household growth.
David Holland:
You mentioned the federal reserve, I'm glad you brought that up Derek. Because you've got several aspects to it. They've cut the bond and mortgage buying down. What are we at, about a 25 billion.
Derek Pilecki:
Correct. It tapers down.
David Holland:
The taper continues. At the time of this program I'll caveat, we're down to 25 billion. They're still going to unwind that completely. But what you referred to then is this balance sheet that they've built up of bonds and mortgage-backed securities and all of this. My question to you, because it sounds like you're very tuned into it, and I think I heard something from Bernake the other day on this, is there a need ... Well, I guess number one is there a requirement and is there a need for them to unwind those purchases that they've made as opposed to just letting them mature, just taper out by maturing over time?
Derek Pilecki:
I think right now the plan is to reinvest the interest and the maturities and to keep the program or the balance sheet at this size. There's not even a plan to let it run off, let alone sell it down. The most healthy thing would be to let it run off and just amortize down through payoff.
David Holland:
That brings me to a very interesting question that I'd love to hear what your thoughts are. Let's say they took that approach, and they let it run off the way you describe it. Just let the bonds mature. And of course that's a little bit of left pocket right pocket. This is the US Treasury, right? That's going to be paying these bonds back. And they're doing that from tax revenue, right?
Derek Pilecki:
Right. Or refinancing.
David Holland:
Okay. Or refinance the issue. Ok so, but what happens is cash ends up instead of these bonds and such that the federal reserve, and the balance sheet is what, 4 trillion now?
Derek Pilecki:
Correct.
David Holland:
Help me understand Derek what happens if over time the federal reserve ends up with $4 trillion dollars in cash sitting in it's "coffers". Is that it? Cause this money was originally created "out of thin air" right?
Derek Pilecki:
Right.
David Holland:
So do they un-thin the air? (Laughs) I mean, is there a way, do they erase the money? I guess that's the question is can they do that?
Derek Pilecki:
Right. Theoretically they could. I think it's unlikely that they would. I think the money also could find its way back into the economy through the bank reserve channel. Banks are keeping these deposits at the federal reserve, and there's a few trillion dollars of excess deposits, or excess reserves held in the form of deposits at the fed. That could go back and become lending into the economy.
David Holland:
So they could push it out and get the banks to lend it out, and that of course could also could be something to stimulate the economy.
Derek Pilecki:
Correct. I think banks want to lend. They're a little hampered by the regulators, and keeping very tight lid on the credit guidelines for new loans. But I think, in theory, the banks would prefer to loosen up a little bit and make more loans.
David Holland:
Very good. Well, we'll have to watch to see what plays out. In the meantime ladies and gentlemen check out GatorMutualFunds.com. Derek thank you for being on the program. Derek Pilecki's our guest and has been generous to spend a little time with us. Derek I wish you much success, and we'll be watching your performance and how things go for you. Thanks for being with me.
Derek Pilecki:
David, thanks so much for having me on the show today.
David Holland:
Alright, our pleasure. Thank you so much.
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