Investors love a story. If they consider themselves sophisticated investors, they’ll call it a thesis as if they are working on a Ph.D. in literary history. They hear a story once, and then tell themselves that story over and over again, until they are madly in love with it and it becomes an undeniable fact.
They do it again and again and again and again and it is MADDENING. We know the classic ones.
“The internet is changing the rules of the game, old valuation techniques no longer apply!” – 1999
“The exploding global middle class is going to push energy prices ever higher!” – 2008
“Microsoft owns the technology industry, they cannot be stopped!” – 1998
“GE is a portfolio bulwark, so well diversified it is insulated from economic cycles!” – 2007
“Banks are the new utilities, well managed and paying strong dividends!” – 2007
“Inflation is a permanent phenomenon, investors must own gold and diamonds!” – 1980
“The US economy is mired in debt and our stock market will be the last to recover from this recession!” – 2009
This happens on a smaller scale with individual companies every day. An investor comes across a stock, sees something they like (low P/Es, momentum, rapidly growing market share, it doesn’t really matter) and then builds a story about why THIS is a sure thing. But what investors can’t seem to figure out is that everyone else knows that story too. Oh, it’s 2011 you think Green Mountain Coffee’s K-Cups are going to kill ground coffee machines? Guess what, so does everyone else and the stock was trading at about 75 times earnings then. It’s 2008 and US automakers are struggling? I suppose that is why Ford was trading at $1.80 a share.
And not only does everyone else know the story, informed investors know the other side of the story. The risks to why Green Mountain may not be able to continue its runaway growth and the possibility that a well-run US automaker might actually pull out of a tough economy are known factors. The current price of the stock reflects the market’s sentiment and best guess as to the likelihood of these scenarios. So when you hear yourself telling a story about a stock, just stop.
Ask yourself a question: What do I know about this that the market doesn’t?
I’ll go ahead and answer for you: jack squat. You don’t have the resources or the expertise or the manpower or the experience or the technical knowledge that professional asset managers have. And they still get it wrong 50% of the time. They still can’t overcome their transaction costs and fees to deliver real value to their investors. And you think that your hunch about that biotech company is going to pay off?
Instead, thoughtful investors will say thank-you-very-much to the professionals who are battling it out in the ring to set market prices. We’ll take those market prices (for free!) as the best estimate of what will happen in the future and be on our way with our index funds and ETFs and long term investment philosophies, whistling all the way.
Bason Asset Management 