A massive amount of stock market capitalization is tied up in companies based on both their potential market share and hypothetical future profits. The popular arguments in their favor come from looking at a company’s total addressable market (TAM). Sky high price-to-earnings ratios and massive capitalizations are common in companies with a large TAM as we finish up 2017.
As famed market strategist Richard Bernstein has pointed out, investors should pattern common stock selection after the investment style of the Mafia. What causes the Mafia to get such good returns? How do they spot opportunities? Why should we as investors in publicly-traded common stocks emulate their behavior near the end of 2017?
All major financial euphoria episodes hold aspects in common. Among our favorite books on investing is John Kenneth Galbraith’s A Short History of Financial Euphoria. More than any other economist, we admire his understanding of the connection between the securities markets and the economy.
The first time I read Forbes magazine was in 1980 as a brokerage trainee in New York City. I was fascinated by the company stories and the way the top investment disciplines were analyzed. In the 100th Anniversary Issue—published in September 2017—over 100 successful business and investment people wrote a short essay.
Many well-regarded experts have weighed in on the length and the pricing of common stocks eight and one half years into this bull market. They range from the dire warnings of perma-bears like Marc Faber to more reserved warnings from Howard Marks and Robert Shiller.
In the Bible, Jesus arrives to help his friend Lazarus a few days after he had already died. His friends Mary and Martha were very disappointed because they thought all hope was lost. As the story goes, Jesus raised Lazarus from the dead.
Value investing is very similar to farming. A farmer needs fertile ground, well-planted seeds, unshakable patience, loads of sunshine, watering and weeding, as well as a great deal of courage and faith to succeed in the long run. Today, we believe that investors need to reexamine the benefits of a value investing approach toward the end of an era which has rewarded growth stock investing.
What should long-duration common stock owners like us do with the news of the horrific flood in Texas, the Category 5 hurricane in the Caribbean, the heightened tensions created by North Korea’s Dictator, Kim Jong-un, and the 8.1 magnitude earthquake in Southern Mexico? What is wise behavior in a more volatile stock market environment created by outside events?
As value managers, we are often asked if a company whose stock price is down substantially is a value trap. This is especially true when we are auditioning new holdings. We like to buy a company with a long history of success when it falls deeply out of favor for one reason or another.
We’ve heard Warren Buffett continue to repeat an important phrase, “what the wise man does in the beginning, the fool does in the end.” This begs the question, when does a foregone conclusion become what we call “a well-known fact”?