At first glance, the markets are pure chaos. These are all the different narratives circulating around the markets:
40 year high inflation with CPI at 7.5%
Recession fears and signals (yield curve inverting)
Geopolitical tension with potential war breaking out in Ukraine/Russia
Guiding to aggressive fed tightening, the most aggressive in history
Uncertainty and technicals breaking down in the financial markets
What on earth are we supposed to do? What are we supposed to think?
As investors, we must zoom out and simplify things in times of chaos. It first starts by thinking about the business. When we buy a stock, we are buying a portion of a business. During times like these, other investors/traders are willing to sell wonderful businesses to you for cheap. Valuation is over looked, business performance is over looked and it’s all about risks and uncertainties in the broader macro environment. But, more or less, this is drama and this too shall pass.
Volatility, in some ways, is viewed as a punishment. I do think this is correlated to how people perceive money, or the emotional attachment to it. For example, when many people think of $1,000 they may associate a type of value to it like: An iPhone, a Tablet, one months mortgage, debt pay off, or a vacation. But, the truth is, this money is nothing more than a commodity. It is a tool to be used either for the exchange of goods, services or assets. Its value is only what we, as people, assign to it. That value assigned is emotional.
Distance yourself from the emotions, or the assignment of value, to any commodity. If there’s emotional attachment to money, money will control you. But, if you are emotionless and use the tool the way it’s supposed to be used, you will control your tool appropriately. In this case, this tool is money. You’d be amazed at how money begins to be gravitated to you when you understand its’ function as a tool.
The concept of money and the emotional connection of it often is a barrier many investors can’t make because of the dollar amount and value assigned to it. For example, if a new investor has a $10,000 account value and they have picked individual stocks. But, out of no where, the stock market decides it wants to focus on:
Inflation
The Fed
Global politics
Economic predictions
The market also decides it wants to view all of these things negatively all at the same time. As a result, the new stock pickers portfolio goes from $10,000 to $7,000 in the event of a market correction or a crash. Many investors will assign this value and say, “I lost $3,000” and think “I could have paid bills”, or, “I could have put a down payment on a car”. Once that value is assigned an emotional response is the cause and effect. This emotional response is, as coined by Wall Street, “pain”.
But, let us zoom out, what actually happened here?
At surface level, this loss is associated as a punishment. Negative thoughts often circle the investors mind. Thoughts like:
“What did I do wrong?”
“How could I have let that happen?”
“How can I prevent feeling like this again?”
“Maybe I should just trade when the markets are clear”
“I suck and I’m a terrible investor”
Does this sound familiar? Every investor both new and experienced goes through this. Remember how I mentioned volatility is often viewed as a punishment. Let’s circle back to that.
Volatility is the price we pay for return on our invested capital. Investors do not pay their way to wealth in an easy to understand transaction. They earn generational wealth through embracing volatility as a teacher, a “fee”, or, an exchange, as a way to ‘earn’ their right to riches our free markets present.
We constantly talk of stories about today’s greatest investments as some sort of hindsight. Conversations usually sound something along the lines of, “if you would have bought xyz stock, every dollar you invested would now be worth $10,000!” What’s often left out is the volatility it took for our $1 to become $10,000. It took 50% declines, wars, financial crisis’s, monetary tightening cycles, etc. You had to earn this return, just like anything in this world.
Anything that’s worth having requires something in return. It’s often in the form of pain, discomfort, or failure. In this case, it’s the combination of everything.
Let’s tie Peter Lynch’s saying into this. Above, Peter Lynch says his famous quote, “I think you have to learn that there’s a company behind every stock, and that there’s only one real reason why a stock goes up. Companies go from doing poorly to doing well or small companies grow to large companies.”
The new investors stock portfolio went from $10,000 to $7,000. The first line of thinking is, “I lost $3,000”. But, the truth is, no he didn’t lose anything. The only thing that truly happened was the trading price of the businesses he owned went down. The trading price is subject to many, many, many risks within the market. In fact, a stock doesn’t even need to trade down on anything related to the business. The stock can, quite literally, sell off because the market is highly sensitive to the slightest piece of bad news. This market climate is otherwise known as “risk off”.
The important thing to understand about the young investors portfolio is that the business equity remains the same. Business equity is the real asset because money is nothing more than a commodity, a tool. Money does not actually produce anything and has no function other than the “buy” things. But, business equity does have real value and this value can increase. The asset in this case is a business with employees, a CEO, a product/service, and quite literally functions in every day society providing value for people that use its product. What’s more important is that asset has the ability to produce more money. In fact, it can produce more money many times over. That $1 can produce $10,000 in time. This brings me to my point.
An investment horizon of three months to a year is not always ample amount of time for a poor business to become good, or a small business to become large.
Today, the average holding period is 5 1/2 months. This means there are many traders, speculators and gamblers but few investors. Now, let me clarify something very important.
Stock picking is NOT buy and hold. Stock picking is buy and validate.
This means you must constantly retest your thesis. When a stock goes down, you must ask yourself “why”. An example of some questions to ask:
Was there insider selling?
Is there competitive risk emerging?
Did the CEO step down or say something?
Is there international policy change?
Did a new piece of news emerge about the businesses long term outlook?
Take this information and test your long term thesis. If it changes, sell the stock no questions ask. Don’t become emotional, just sell it and move on. 9/10 times you’ll be happy that you did. The other 1/10 times was basic error.
Selling a stock because it’s going down is not a valid thesis. Find a business reason for the decision.
Earnings Season is Here
Which is a very important time for investors. This is the period where you should be testing your hypothesis and listening to how the business story is developing. I often find myself busiest when my companies are reporting. A few reporting this week I will be listening to:
Upstart
ZoomInfo
Amplitude
Global-E
Voyager Digital
Palantir
I’ll definitely be busy, that’s a lot of calls to listen to. But, for BluSuit members I will be covering all these stocks providing updates on financial performance, business outlook and how the story is evolving over time. For all of these companies I have followed them since IPO. You’re going to want to tune in if you’re not already subscribed.
Other earnings that are notable this week:
Shopify
Nvidia
Matterport
Fastly
Fiverr
Roku
DrafKings
Summary
Cash isn’t valuable but business equity is. The business equity produces additional cash over time and in some cases, many times over. But, this takes time and typically cannot be done in the average holding period of 5 months.
In this business, mindset is arguably more important than the technical skills you learn along the way. It truly is 80% mindset and 20% skill. Approach this with the willingness to learn and grow with your portfolio and it will grow in time.
Stay Tuned, Stay Classy,
Dillon
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