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The two-year period from 2007 to 2008 saw an epic drought seize the Southeast. Streams dried up, water usage in some areas was rationed (not restricted, mind you, but actually rationed) and crops turned to dust in the fields. It got so bad in these parts that at times you began to feel like you were living in a Steinbeck novel.
For residents of North Georgia, though, the most unsettling part of it all was watching our primary water source, Lake Lanier, dwindle day by day, literally going down the drain and evaporating into thin air simultaneously. During the worst of it, in December 2007, the lake’s level dropped 21 feet below full pool, and the Army Corps of Engineers estimated that Atlanta had a three-month supply of water remaining. People in other parts of the country began to tell me they were praying for me when they learned I was from Atlanta. I think when people you don’t know tell you they’re praying for you that’s a pretty good indicator your situation is dire.
Dire it was. The experts said that it would take years – perhaps a decade – to refill Lanier, and that was assuming we got a decent amount of rainfall. Some of the real doom-and-gloomers posited that the South was in a permanently drier climate now and doubted that Lanier would ever again reach full pool.
“Lake” Lanier in late 2007
I mention this because, over the past week in Atlanta, we have received between 15 and 20 inches of rain, depending on where you live. It has been the kind of rain you would expect to run across in, say, the rainforests of Borneo, but not in Atlanta. The rains spawned an epic flood – perhaps greater than a 100-year flood – in a year that was already well above average in rainfall. Having already come up more than 12 feet this year, Lake Lanier has now come up another four feet in only a week. By the time all of the runoff from this week’s deluge makes its way into the basin, the lake will be almost full.
In less than a year.
Lake Lanier in September 2009
This is a great example of the fallacy of extrapolation; the tendency of layman and expert alike to take the recent past – the known – and project it into the unknown future as if events are already a foregone conclusion. We can see that we are in an epic drought, we can see the implications of that drought, and we project that into the future and see that it will be many years before the lake is back where it needs to be. What we can’t possibly see is that the weather patterns are going to change faster than anyone thought possible and fill the lake back up in months instead of years.
Extrapolating is an innate human tendency, something that tugs on all of our emotions as we try to get out ahead of events, whether to prepare for them, avoid them or profit from them. We look at things as they have been, and as they are, and we convince ourselves that that is how they will be, too. And yet, more often than not, our foregone conclusions are really false assumptions.
The tendency is pervasive in nearly all human endeavors, none more so than investing. (As an aside, that was 558 words before I got the investment angle in – a new Tranquil Investor record!) I have had thousands of meetings with investors over the years, and in nearly all those meetings I have found folks have a powerful tendency to extrapolate the present into the future, and a keen desire to make investment decisions accordingly.
In the past two decades, I have heard that Japan is the only logical place to invest. I have heard that Blue Chips are going to rule the day forever. I have heard that we are in a New Era and earnings don’t matter. I have heard that bank stocks are “safe.” I have heard that the market is broken and we need to get out before we lose what money we have left. I have heard all these assertions and many more, and they all proved to be wrong.
Presently the extrapolation that I am hearing at every turn is that gold is the only logical place to be because the government is printing money left and right, and it is a foregone conclusion that hyper-inflation is not only likely, but actually inevitable.
I am here to tell you, folks, that there is no such thing as inevitable when it comes to investing. An event observed is an event altered. When millions of people begin making investment decisions based on an assumption such as, “We are going to have high inflation in the future,” their very actions begin to alter the event. If, say, a few hundred million people run to gold in anticipation of high inflation, wouldn’t you think that might impact the price, and thus the future expected return, of gold? And simultaneously create value in the very areas of the market that are being shunned?
You can provide me all the foregone conclusions you want, with all your supporting documentation, and you will not convince me that your scenario is inevitable. You may convince me that such a scenario is possible. Maybe even probable. But never inevitable.
And that is an important distinction, because “possible” and “probable” are hardly compelling enough words to bet one’s life savings on. If you need proof, just find someone who bet last year that $200 a barrel oil was “inevitable.”
They can testify for you…
A few days ago I learned that the phone company is now offering fiber optic Internet service into my neighborhood, something that will increase the download speed at my house more than tenfold over our current DSL service. I signed up without a second thought, and then called my DSL carrier to break the news that I was leaving.
“But sir,” said my phone rep, “Greg,” in his lilting Indian accent, “you have been with us for 10 years!” He sounded like I was breaking up with him.
“I know, ‘Greg’, but whattayagonnado?” I said, doing my best Tony Soprano impression. “Something better has come along.”
“Well what can we do to keep you?” he asked, moving to step #2 in his “What To Do If A Customer Tries To Cancel” procedure checklist.
“Increase my download speed to 18mb a second like I’m going to get from the fiber optic line,” I told him, knowing he had about as much ability to do that as my dog does to meow.
“Well, we can’t do that, but we can increase it from 1.5mb to 3mb a second!” he said, as though coming in at 1/6 the connection speed of fiber optic was going to be a lot more compelling than 1/12.
“Sorry, ‘Greg’,” I said. “I’m cancelling.”
“But sir, you’ve been with us for 10 years!” he said again. “We value our relationship with you and want you to stay!”
I thought back on my deep relationship with my DSL carrier over the years. I couldn’t seem to recall any golf outings, or steakhouse lunches, or gambling trips to Vegas. Heck, I couldn’t even see the thing I was paying them for. The only thing I had ever gotten from them was a monthly bill and an invisible portal to the World Wide Web.
After “Greg” tried the remaining nine steps on his checklist to no avail he finally gave up and put me through to the cancellation department. When I got off the phone I couldn’t help but think of the experience as a lesson in “Creative Destruction” – the notion that companies are at their most vulnerable right when they seem to be at the pinnacle of success. Once a company becomes a world dominator, goes the theory, they lose their edge and appetite for risk – the very things that made them successful in the first place. Inertia sets in, and then new technologies come along that suddenly render them obsolete or irrelevant.
That is certainly the case with my old DSL carrier. When I first signed up with them a decade ago DSL was the hottest thing around – a blazing gateway that blew my old dial-up connection out of the water. The company was one of the darling stocks of the New Economy, poised, it seemed, to dominate the new virtual landscape forever. Now, a scant decade later, their stock price has been sliced by eighty percent and they stand helpless as a new technology is steamrolling over them, unable to offer anything even remotely competitive. They are learning that, when what you offer is a commoditized service, there is no such thing as customer loyalty – only customer inertia.
What’s happening to my DSL carrier is a story as old as capitalism, and it is happening with blinding speed in today’s technology-driven world. That’s why investors today can’t afford to bet their money on the fate of just a few individual stocks, as investors thirty years ago routinely did. No matter what the analysts want us to believe, there is simply no telling who the winners and losers are going to be in any industry in the long term, as investors in such formerly venerable companies as Enron, AIG and Wachovia have found out firsthand. In fact, if you buy into the notion of Creative Destruction, then piling into what conventional wisdom tells us are today’s hottest stocks may well lead us right to tomorrow’s losers.
There is an easy way around this. When you create a broadly diversified portfolio, you are buying, in effect, the global capital markets. You are buying the whole shooting match, and you can sit back and let the phone company and the cable company and the DSL provider slug it out over the years without having to worry about who the winner is going to be, because you own them all, and thousands of other companies in hundreds of other industries to boot. You can let Creative Destruction run its course and not have to worry that, one day, you’ll end up with all your money riding on a company that is stuck with a technology that is heading the way of the VCR.
Sorry, “Greg.”
Last week I was driving through the mountains of North Georgia when I passed an aging, hand-painted sign along the road in front of a farm.
“Land values in this area are increasing 20% annually!” said the sign, which then provided a phone number to call for information on how get in on this golden opportunity.
About two miles later I passed another farm with another sign – this one larger, fresher and professionally lettered.
“Farm for sale: 57 acres,” said the sign. “Reduced 50% from original asking price.”
I couldn’t help but laugh at the irony. The story of an epic asset bubble, told in a couple of farm signs two miles apart.
Bubbles are like that, aren’t they? Always so obvious, but only in retrospect.
Every third piece of mail I received in 2006 was a pre-approved credit card or checks for a home equity line I never asked for. I applied for a mortgage in 2007 and when I tried to provide income verification the mortgage broker told me he didn’t need it because it would just “gum up” the underwriting process.
I look back on those days and shake my head, amazed and appalled at the way so many different entities and institutions conspired to create a massive real estate bubble that took the whole economy – and very nearly the whole financial system – with it when it popped. But I only see it now. I didn’t see it then, in real time.
We think we know, but we don’t. In fact, what we think we know is often dead wrong. A year ago oil prices were sitting at almost $150 a barrel, and commodities from wheat to copper to grain were soaring in price. A commodities fund seemed like a no-brainer. And then, out of nowhere, commodities prices suddenly plunged, a harbinger of things to come in the economy.
We think we know, but we don’t.
It is an innate part of human nature that we are massively influenced by the current environment we are in, and by the mass media that reports it to us all day, every day. This is why a disciplined investment strategy is a must – one that is based on long-term fundamentals, and is never, ever altered based on short-term market conditions. That is the one, sure way to navigate through the manic/panic dynamic that is inherent to all bubble events.
It’s how we avoid getting caught up in the group think that plagues investors in every day and age.
It’s how we avoid having to hold a half-off sale for our farm that was increasing in value at a 20% yearly clip when we bought it.
One of my favorite new web toys to play around with is the cover search feature in the Time Magazine archives. The folks at that magazine have put every Time cover since its inception in 1923 in a searchable format on their web site. No doubt it must have been an epic slave labor project for some poor group of interns, but, hey – that’s what interns are for.
Anyway, the reason I am so intrigued with this feature is that you can search covers by hundreds of different categories and themes that Time has assigned to their thousands of covers. You may be interested to know, for instance, that Darth Vader has been on more covers (4) than Mother Theresa (2). It is also interesting to note that “Family Values” has garnered only one cover in Time’s history, but “Sex” has garnered 22 covers. (I guess this explains why Hugh Heffner lives in a mansion.)
While you can certainly idle away some time fooling around this site, it does offer a practical application for my work as an investment advisor, because it provides some great perspective about how the media makes us believe that every point of time we are in is uniquely dire, yet in the big picture we somehow seem to keep muddling along.
For instance, this cover in 1979 would have had us believe that we were on the verge of a new Ice Age:
So to look at this cover from 2001 you would wonder how we went from Ice Box to Frying Pan so quickly:
And whatever happened to the hole in the Ozone layer (see 1992 cover below)? Did that fix itself, or did the media just get bored with it? Or did our sunscreen get better?
While some stories change, though, many of the media’s obsessions seem to repeat themselves in familiar patterns. Consider these covers from 2008 (left) and 1992 (right):
You’d never have guessed the stock market more than tripled during that span of time (even after the ’08 crash), would you?
And if you think that’s Déjà vu all over again, consider these four covers from (left to right) 1984, 1974, 1972 and 1970:
The point to all this is not to assert that we don’t have real problems to contend with. It’s that contending with problems is a never-ending process in life. But the media can’t sell that premise; they need you to buy magazines and watch TV shows, so every single thing has to be presented as uniquely dire.
So don’t let the mass media fear machine guide your investment decisions, because, after sifting through nearly a century of Time covers, I can assure you that you will never find a comfortable time to be in the market.
Let’s say that five years ago someone came to you with a piece of information and a proposition:
On June 1, 2009, this seer of the future informs you, General Motors will declare bankruptcy. And then the oracle gives you a choice: You can have your money in the market or out of the market that day, but you have to decide now.
What would you have said?
(If you said “in” then you are throwing the whole curve; please proceed to another blog.)
If ever there was a vivid example that the stock market is forward looking, it was this past Monday – a day when a towering icon of American industry finally heaved its last, tortured breath in its old form, and yet the Dow Jones Industrial Average gained 220 points. I heard a half-dozen or more comments from clients, friends and family that day, remarking on the disconnect of the market’s reaction to this momentous event.
Only it wasn’t a disconnect at all. Being the incredibly efficient pricing mechanism that the market is, it had long ago assessed all the variables relating to GM and had already reached the conclusion that bankruptcy was inevitable. In fact, some part of the volatility in the stock market these past eight months is no doubt attributable to the market working through this reality well before the actual day arrived. So the official news Monday was greeted more with relief than it was dread.
The forward-looking nature of the market is something that most investors fail to understand, because human nature is to react to the period of time we are in presently. We extrapolate the present into the future and make investment decisions accordingly; this is why investors plunge headlong into stocks at Dow 14,000 and run screaming for the exits at Dow 6,400 when stocks are on sale. Meanwhile, the market is already out ahead, assessing the next part of the economic cycle. It is not interested in where we have been; it is looking at where we are going.
This is why the market’s reaction to GM’s bankruptcy filing was more yawn than gasp. Or, to paraphrase a saying popular among today’s youth:
“Been there. Priced that.”
My favorite new TV show – and I don’t get to say that often – is a program airing on the Discovery Channel called “Pitchmen.” It is a reality show that follows the exploits of the two highest profile “As Seen On TV” carnival barkers – Billy Mays and Anthony Sullivan – as one budding inventor after another seeks to convince them that they have an invention worthy of the hosts’ prodigious pitching skills.
Part of the reason I love the show is that – true confessions time – I have a weakness for infomercials, as evidenced by the five “Topsy Turvy Tomato Tree” planters I have hanging in my backyard.
(Actual, un-retouched photo of my Topsy Turvy Tomato Trees)
The truth is I love a good, quirky product that solves a problem I never knew I had, and in the scheme of things what’s $19.95 (plus $9.95 shipping and handling) to see if, say, the Ginzu VIII knife will really cut through the front left quarter panel of my Audi and still be able to julienne my carrots? My wife once physically removed the phone from my hand as I was preparing to order a Styrofoam glider with a six-foot wing span that, Billy Mays assured me, would fly more than 500 yards if the wind was right. (The first step, she told me gently, is admitting you have a problem…)
So “Pitchmen,” for me, is a guilty indulgence – the curtain pulled back on the whole kitschy “not available in stores” product world that depends greatly on me to keep it profitable. But, on a deeper level, I have also found it a bit of pure inspiration about our great country during a time when it seems like all we have to talk about is doubt and despair, TARP and TALF, bailouts and bankruptcies.
This week’s episode, for instance, featured a 17-year-old, pimply faced teenager from a financially strapped family who had invented “The Spot Sucker,” a little device that literally sucks a stain right out of your shirt. There was also a woman who had invented a new miracle rub for her (and our) dry, cracked heels. In a prior episode there was a guy who had quit his job and mortgaged his house to fund development of his amazing new shoe insoles made from his secret miracle gel. And these are just the few who actually made the cut; there are dozens more inventors we get brief glimpses of who are never profiled on the show.
None of these products are going to solve our dependence on foreign oil or the melting of the polar ice caps. But that doesn’t diminish the drive and determination and faith of the people who invented them: Mortgaging your house is mortgaging your house, whether you’ve invented Mighty Putty or cold fusion.
To me, this is all emblematic of the essence of this country that is constantly bubbling under the surface, away from the spotlight and the news cycle. It is our heritage as a nation that was founded on new ideas, and our right – even obligation – to see our ideas to fruition in accordance with the amount of risk we are willing to take and the ingenuity we bring to the effort.
Consider that a mere ten years ago there was no Google, no IPod, no Facebook. We watched our favorite TV programs only when they aired and sat through commercials because we had no choice. Fax machines were more essential than email, and satellite TV seemed like an exotic fad, not a threat to cable’s monopoly.
The advances we have made in the intervening years are all the result of people who were hard at work behind the scenes, striving to keep the ball rolling forward. They were innovations led by people who didn’t let economic crises and the malaise of conventional wisdom keep them from pursuing their dreams. A new generation of those same folks is hard at work today, out of the limelight. They aren’t seeking bailout money to keep their aging, hulking enterprises afloat. They are seeking seed money so that they can be unleashed to revolutionize the world and show people what they’ve got.
America is full of such people, and their impact on our future goes virtually unconsidered by the supposed experts. When the talking heads opine about diminished expectations for future corporate earnings and economic growth, they are looking only at things as they are today, with no way to see what is yet to be. Who, in 1999, would have predicted that Google would earn more than $15 billion in 2008? No one, because it didn’t exist. And yet here we are, using that search engine so often that “Googling” has become a transitive verb in our language.
So the next time you find yourself rolling your eyes at the latest Snuggie infomercial, remember that it is much more than a bathrobe worn backwards. It is also a campy representation of the driving entrepreneurial sprit of this country that is always hard at work on products of far greater significance to us than fleecewear.
(P.S. — For the record, I do NOT own a Snuggie.)
