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GameStop saga provides good evidence that 'markets are inefficient': Portfolio Manager

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Westwood Large Cap Value Fund Co-Director of Equity Portfolios and Senior Portfolio Manager Matt Lockridge joins Yahoo Finance Live to discuss the market outlook as GameStop extends its losses.

Video Transcript

AKIKO FUJITA: Let's try to break down the moves. Matt Lockridge is our first guest for the hour. He is Westwood Large Cap Value Funds Co-Director of Equity Portfolios and Senior Portfolio Manager. Matt, give me your take on this unwind or what appears to be an unwind happening, at least, in the Reddit trade. Is this-- I guess if we're talking about these stocks as we would others, is this kind of an expected pullback?

MATT LOCKRIDGE: I think so. I think one main takeaway for us is there's a lot of folks out there talking about market efficiency. And I think this is some really good evidence and a reminder that markets are inefficient. And you've had some stocks over the last couple weeks being bid up more than they probably should have.

But, you know, there are numerous examples through the year of really good companies that are knocked down more than they should on a news event or a data point, whether it's earnings or another important fact. And that's the opportunity for active investors to get in and take advantage of some of these opportunities.

And I think the other real reminder from this period is the importance of risk management. I know a lot of folks are pointing out that, you know, look, having a hedge on where short positions are over 100% of the float, in hindsight, that's not a good hedge. And that is true. But I think it's important for investors to remember how far we've come in the markets.

I mean, since the bottom in March, the S&P is up close to 50%. And even looking back further, we've had double-digit returns in the domestic markets over the last 10 years. These are above average type returns. And so given that backdrop, it's easy for folks to really think about the return side of the equation.

But I think it's important, at this point, given the elevated valuation in a number of areas in the market, to focus on the risk side and how much money can you lose if you're wrong. And so we spend an enormous amount of time vetting a thesis on every position we own, and also understanding if we're just simply wrong, how much money are we going to lose? And so that focus on the downside, to us, makes all the sense in the world right now.

ZACK GUZMAN: Yeah, that's why, I think, you know, earlier last week when we saw the move in GameStop, there were a lot of people talking about the potential upside in AMC and some of these other names mentioned in WallStreetBets just because the risk reward and some of the options plays out there. I don't think the market was really pricing in the likelihood that you could see other stocks rally the same way GameStop did.

But when you look out beyond those names, out to kind of the broader market for what investors should be bracing for here in the rest of 2021, hard to believe we only have a month under us now, but what do you maybe make of the volatility that some of that triggered? Because again, the second day in a row, we've seen those stocks post massive losses down 50%.

But the broader market rallying, do you think that people are embracing maybe some of the normality returning to the market?

MATT LOCKRIDGE: Sure. Yeah, it's-- you know, I think initially, you had a lot of the short positions get blown out. And now you're likely to see some of the long positions get blown away as well on some of these names. So that volatility is rampant, as you said.

To us, I think, you know, as we look out to 2021, it's an opportunity for investors to take a look at the landscape and understand that we're likely to see a recovery in economic fundamentals as we move through the year and as the vaccine rolls out. And so gaining exposure in your portfolio to some of those more cyclical areas that will benefit from that tailwind, whether it's industrials or financials, there's a number of opportunities at very attractive valuations.

But at the same time, remembering how far we've come and that expectations are elevated. And so having a balance in other exposures that have tailwinds, some thematic themes that will add to earnings visibility as you look out the next several years. So again, that balance between economic sensitivity and what's going to recover likely through 2021, but also a longer term exposure that should benefit from some visible growth opportunities in the years ahead.

AKIKO FUJITA: And Matt, regardless of where the Reddit trade, so to speak, goes, there does seem to be the sense that the retail investors are here to stay. If you look at the numbers last year, we're talking about roughly 10 million new brokerage accounts that were opened, at least according to numbers out from JPM Securities. In light of the larger retail presence in the market, does that change your thesis at all? Does that shift the way that you view your portfolio?

MATT LOCKRIDGE: Well, for us at Westwood, we tend to focus on long-term fundamentals and businesses that have competitive advantages, that have conservative balance sheets, that have the ability to grow free cash flow per share over time and generate returns on capital well in excess of their cost of capital. And we're taking long positions, letting these businesses compound for our investors over time.

And so I really don't see that changing, given some of the recent volatility we've seen come from some of the retail investors. I do think other market participants will likely change how they're executing certain hedging activities. They'll likely be fewer single stock hedges and more hedging on an index level. I think that's kind of the natural evolution you'll see from this.

And again, I just think it's a reminder for all of us the importance of risk management and truly understanding your exposure both on the long side and the short side.

AKIKO FUJITA: OK, we'll be watching.

ZACK GUZMAN: Yeah, that's definitely something-- I mean, that's something that I've been watching too, Akiko, just because of the way that we've seen this all play out here, the VIX. We are always told by a lot of our guests here to keep our eyes on that, as I do. But Matt, appreciate you coming on here. Matt Lockridge, Westwood Large Cap Value Fund Co-Director and Equity Portfolios Senior Portfolio Manager for us here to kick things off.