STORIES WE TELL OURSELVES - TECHNOLOGY AND TOBACCO
Every market valuation is a number from today multiplied by a story about tomorrow.
After years of dealing with investors’ emotions, I believe investors are never coldly rational. Investment writer Morgan Housel says that stories, not statistics, drive stock prices. He makes a compelling case [Link]. Humans have been story tellers for millennia and listening to stories always seems more rewarding than looking at numbers. Stories, not numbers, motivate investors.
STORY TELLING EVOLUTION
We tell ourselves stories to explain our blind spots -What will the market do? Is a recession coming? We have an emotional need, not an analytical need. If we cannot make up a story, we turn to “experts” to do it for us, despite their consistently poor forecasting record.
Listening to, and becoming part of, stories is nothing new. Over the next few months, we will retell investment stories old, and not so old. The most common reaction when we hear them is, “How could people have been so foolish as to believe this?” But with a little reflection, we all know deep in our heart that we are perfectly capable of making these mistakes ourselves.
I hope that you will remember these tales when you are tempted to be drawn into the latest “great” story. Learning from the past is not easy. As the humorist Will Rogers said, “Most people just have to touch an electric fence themselves.” But if you can learn from the past, you will save yourself a lot of money and a lot of misery.
TOBACCO REVISITED
In May 2022 we did an analysis prompted by a report from Lawrence Hamtil on the outlook for tobacco stocks. [LINK] He believed that they were a good hedge in a bear market.
Eight months later, Lawrence’s thesis is still intact. The five major tobacco companies (now excluding Swedish Match which is no longer a public company) have returned 23%, including dividends from their low point in October 2021. We contrasted that result with the 6 ARK funds, representative of the big winners from 2017-2021. The ARK funds have declined 52%. After spectacular growth in their early years, 39% annually, the decline has now given the ARK funds a very slim performance edge over the S&P 500 for the last 6 years.
These two contrasting industry groups illustrate the “stories” that often carry more weight in our investing decisions than the numbers.
ARK FUNDS – IT’S ALL ABOUT A GREAT FUTURE
The ARK “story” is about expectations of great growth and earnings from disruptive technologies: that cash flow to shareholders may be years away, but it will be so tremendous that these stocks will soar over the next 5 years. The glitter of that story has become a bit tarnished in the last few months, but there are still believers. So far, in 2023 these funds have rallied 19%. Yet, no current fundamental analyses justify the prices of these funds.
TOBACCO – IT’S ALL ABOUT A GREAT PAST
The tobacco stocks’ performance reflects tremendous cash flow paid to the shareholders in dividends, coupled with additional cash flow to retire shares and shrink the market value of the company, benefitting remaining shareholders. Their returns have been meager over the 6 years, but from their bottom the return has been 23%, well above both the S&P 500 and ARK.
The tobacco companies finally learned a lesson about using their cash flow to diversify into business they knew nothing about. Still, given their low valuations based on Price/earnings ratios and dividend yields, the tobacco “story” is that the purveyors of “nicotine delivery systems” face a grim and declining future. This has been the prevailing wisdom for about 60 years; yet the tobacco companies are more profitable than ever. Some industry analysts believe that new smokeless products will transform these companies into growth enterprises. The market does not yet reflect their positive outlook.
The point of this contrast is to illustrate how stories determine market prices. We do not know whether the stories will become reality, but the “story,” not the numbers, are the drivers of market prices now.
LOOKING AHEAD TO MORE “STORIES”
We are being treated to a riveting new story about crypto currencies and the saga of FTX and its founder Sam Bankman-Fried. This is the latest story that people concocted to justify their actions based on emotion - when they did not want to admit they were just following a crowd.
We will get to that story after it develops further. But before then, we will share several other stories that people foolishly told themselves to justify bad decisions. Look for them in the coming post series about “stories” that destroyed wealth and lives.