2020 is shaping up to be a strange year. This Coronavirus has a region in China, far larger in population than New York city, on a complete lock-down. There are zombie cruise ships patrolling the waters in a state of full quarantine, with no countries wanting to take the risk of allowing them in to dock for fear of contagion. Yet, markets have basically been shaking off the news for the most part. Glamour stocks such as Tesla, Shopify, and Beyond Meat, trade at valuations where even the most optimistic view of the future would have a tough time justifying. I can feel a tangible change in sentiment where market participants are taking bigger and bigger risks, with less regard for what that actual downside looks like.
Historically, markets have experienced a bear market about every four years, and a 10% correction, ever one and a half years. The key is not overreacting to these corrections, or worrying about them so much that you are always sitting in cash, as predicting the timing is a very difficult game. There are tons of people that were so scared from the Great Recession, that they locked themselves into an expensive annuity or private REIT, just to avoid those mark to market fluctuations. Those decisions have been enormously expensive in hindsight. When fear is most paramount, as it was then, the buying opportunities are most attractive. Conversely, when even dreadful news doesn’t shakeout any optimism, caution can be a great virtue.
It is important for us to always maintain a balanced and unemotional approach to investing. I call this approach business-like. When we can invest in a demonstrably undervalued security with a great risk/reward opportunity, we do so in size. Sometimes when these opportunities are less plentiful, we must be strategic and disciplined in the investments and strategies that we employ.
I find it very difficult to believe that we aren’t living in a period of excess. For instance, five years ago Greece’s 5-year bond was yielding 76%, due to the extreme risk that people saw in loaning to that government. Currently, that 5-year bond is yielding 0.283%. Market participants buying that paper are simply betting that yields will go further into negative, without any real concerns of the risks of the opposite occurring, which would be catastrophic for their investments.
Tesla is worth more than every auto manufacturer in the world except Toyota, despite selling a tiny fraction of the cars, and losing money at a rapid rate on those sales. Shopify has trailing twelve month revenues of $1.578 billion. The market capitalization is $62.59 billion! The enterprise value/EBITDA ratio is 291.5. Some of these valuations can only really be paralleled to the Tech Bubble, but market participants are piling money into them hand over fist, and it is working, until ultimately it won’t…..
There are lots of ways to make and lose money. Speculating in the stock market can be really fun and glamorous. Who wouldn’t want to experiment the run of success that Elon Musk is on at least for a moment or two? The reality though is that these types of speculative bubbles almost always end badly. Many baby boomers for instance are still paying for the investing mistakes made in the last bubble, often needing to work till way later in life to feel comfortable.
Our strategy is to protect and grow capital by investing in a smart and business-like manner. Currently, that means taking a more conservative approach than usual. Many of the benefits of this strategy will only show in the fullness of time as options get closer to expiration in about a year. The businesses that we are invested in are performing well and are growing intrinsic value at attractive rates. I’m confident we will be in good shape when we do get that inevitable downturn and the tides shift. The key as always is to never panic and to understand that market volatility is inevitable, but it also doesn’t last forever. Bear markets are usually relatively short affairs, but they seem long due to the stress they can cause.
My best advice in business, investing, or even exercise, is to focus on the process, which is what we can control. Loving it and becoming an expert at it leads to success and a great sense of purpose. Focusing exclusively on outcomes, or worrying about how rich your neighbor now is for taking on a margin loan to buy Tesla at $400 and ride it to $800, is truthfully rather toxic, yet natural. There will be a period, likely sooner than later, when many market participants will feel like the world is coming to an end and selling will be rampant. Our process shouldn’t change one iota in that environment, but obviously the opportunity-set will require a much more aggressive approach to make money when the getting is good. As always, we will communicate openly and honestly with you the whole way!