One of the most common questions I have been asked in my talks is:
- What is the market outlook for next 12 months?
- Will there be a correction? A crisis?
- Should we invest now or wait?
- When is the best time to enter the market?
The real hard answer is that no one actually has the answers, even those whom we view as professionals. Almost no one, except a few, saw each economic crisis unfolding.
Similarly, almost no one saw the oil price rallying and subsequently collapsing. There will be a few who saw it coming. But majority of us won’t. I can be telling you that a crisis is coming. I may be right one day. Just that no one will know when it is.
There was once a question posted to Charlie Munger on what macro statistics does Charlie regularly monitor or find useful in his attempt to invest under a certain economic landscape. Charlie replied:
“None. I find by staying abreast of our Berkshire subsidiaries and by regularly reading business newspapers and magazines, I am exposed to an enormous amount of material at the micro level. I find that what I see going on there pretty much informs me about what’s happening at the macro level.”
 Kaufman, Peter D., Poor Charlie’s Almanack: The Wits and Wisdom of Charles T. Munger; 2006 PCA Publications, USA
The economy is a function of business activities. Take some time and effort to do your own survey on how the various businesses are doing. Caution given is that we must broaden our business survey. The risk is that if we talk to one of two companies and they inform us that their business is not doing well, we will have the tendency to think that the economy is going down the drain.
A lot of factors can come into play, such as the nature of their industry, the location, the products, and so on. A clothing store that you spoke with may be telling you that their business is not doing well. You may quickly jump to the conclusion that retail sales are weak and consumer spending is declining. For all we know it could simply be due to a more trendy and popular store that just started operations across the street. So be mindful of forming a conclusion based on very narrow views.
One of my favourite questions to business owners is “What will keep you awake at night?” The answer to this question will allow us to understand what the biggest risk that the owner is concerned about is with regards to his business.
Does Industry Matter?
The reason for this exercise is not to predict when the next recession is, but to find out which businesses are doing well and the state of the industry that we are keen to explore.
What you will realise that most of the time, some businesses will do well while some will not be doing so well, even though they are in the same industry. That is the reason I will stress to investors that ultimately what is more important is the company that you invest in, not so much the state of the industry.
Let me illustrate this. One of my favourite stories that I usually give in my talk is this. Let’s go way back to the year 1998 when the dotcom was the hottest thing in town.
In the first scenario, assume we are like any other normal investors who jump into any of the hottest technology stocks that people are talking about. Fast forward to the year 2017, chances are we would have lost our money, as most of the hottest companies then have ceased to exist.
The second scenario is we are a little more investigative and conclude that Microsoft would be an interesting company to invest in 1998. The good news is that unlike in the first scenario, Microsoft is still around (see Figure 1).
Now, in the third scenario, we put in more effort and conclude that Amazon should benefit from this Internet thingy (bear in mind we are in 1998). And we invested in Amazon. Fast forward from 1998 to 2016, Amazon has gained close to 2,500%, which is significantly much higher than Microsoft (see Figure 2).
Figure 1: Microsoft’s Total Return Since 1998
Data compiled from Bloomberg
Figure 2: Amazon’s Total Return Since 1998
Data compiled from Bloomberg
All the three scenarios above revolve around technology companies. All went through the super bull cycle and faced the dotcom crash in 2001. And yet, the end result of the three scenarios differs significantly. One disappeared from the face of the earth, one is still around, and one delivered massive gains. So, is it the industry that was the deciding factor, or was it the company that was the deciding factor? The answer is pretty obvious.
Next week, we will continue with Part 2 of Chapter 15.