Great Ideas vs. Great Investments

Great Ideas vs. Great Investments

Remember when that thing called “The Internet” really took off?  By the mid-1990s, the possibilities created by a fast, interconnected global computer network had our imaginations running wild.  Regardless of whether or not you understood the technology, you knew a massive cultural and economic shift was underway.  It was an exciting time.  The future was bright and the world was about to change.

Not only was the technology exciting but future opportunities for businesses to make huge amounts of money were impossible to ignore.  Both Wall Street and Main Street took notice.  By late 1999, the NASDAQ Composite had risen 300% from where it stood just five years prior.  It showed no signs of letting up.

Legendary investor Warren Buffet watched the internet rally from afar.  His company, Berkshire Hathaway, wildly underperformed markets during this time.  So much so, that many questioned whether he had lost his touch.  There’s little doubt that Buffet understood the internet was a technological turning point.  His hesitancy to back the technology with capital, however, came down to his investment wisdom.  He believed there were many great ideas, but few great investments.

In a November 1999 interview with Fortune Magazine, Buffet drew comparisons between the internet revolution and two other industries that had transformed the country: automobiles and aviation.  Cars, as we know, became VERY popular.  Everybody wanted one and now everybody has one.  The widespread adoption of cars changed the world forever.  However, has investing in the automobile industry been profitable?

Buffet pointed out that over 2,000 U.S. automobile manufacturers had failed in the past century.  Just three had survived.  Despite the technology’s huge impact on America, investors in automobiles were big net-losers.  Buffet went on to suggest that it is much easier in these transforming events to figure out the losers.

“Frankly, I’m disappointed that the Buffet family was not short horses through this entire period.”

 

U.S. Horse Population

Continuing onto airlines Buffet cited a list of 129 airlines that in the past 20 years had filed for bankruptcy.  Shockingly, he claimed that as of 1992, all the money that had been made since the beginning of aviation by all the airline companies in the United States…was ZERO.  Like automobiles, airlines had been a horrible investment.

“Sizing all this up, I like to think that if I’d been at Kitty Hawk in 1903 when Orville Wright took off, I would have been farsighted enough, and public-spirited enough – I owed this to future capitalists – to shoot him down.  I mean, Karl Marx couldn’t have done as much damage to capitalists as Orville did.”

When we see something revolutionary, it’s easy to get carried away.  Visions created by our imagination have few flaws.  We’ve all seen plenty of “million-dollar ideas.”  Imagine being alive when radios hit the market?  “That’s a million dollar idea!”  Televisions?  Million dollar idea!  Personal computers?  Million dollar idea!

Unfortunately, no matter how great, an idea alone isn’t enough to make money.  Making money from an idea requires a great business.  According to Buffet,

“The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company, and above all, the durability of that advantage.”

What Buffet suggests, is no easy task.  A recent study by Longboard Asset Management examined the percentage of companies that have contributed to ALL of the S&P 500s returns in the last 26 years.  It found that 80% of all stocks collectively had a total return of 0%!  The best performing 20% of stocks have accounted for ALL gains.

Longboard Funds Research

If 80% of stocks aren’t profitable for investors, would we be better off trying to pick the losers?  It is certainly an interesting proposition.  In retrospect, when cable companies started offering On-Demand and Netflix began mailing movies, I knew Blockbuster’s days were numbered.  When Apple, Google, and Samsung remade the smartphone industry, it was obvious to me that Blackberry was toast.  Easy money right?  Not so fast…

No matter how obvious the future losers may be, it is important to remember that losing stocks have limited downside; zero.  Winning stocks have no ceiling.  Even though there have been an overwhelming number of stock market losers, in a strong economy, over the long run, good businesses carry the losers on their backs.

 

LongBoard S&P Study

 

Over this 26-year timeframe, the market as a whole rallied nearly 700%.  This came despite the fact 80% of stocks collectively returned nothing to investors.

Buffet’s thoughts proved to be prescient and his lesson timeless.  By 2004, over 50% of the dot-com companies no longer existed.

Picking winners and losers is a tough game to play and history tells us that the odds aren’t favorable.    While the stock market is overcrowded with great ideas, the population of great businesses is much more sparse

Further Reading…

Defense Wins Championships – Longboard Asset Management

Mr. Buffet on the Stock Market – Fortune, 1999

 

At Ariadne, I work closely with families and individuals to organize their finances and utilize their resources to design a life they love.  If you are interested in a straightforward, no-gimmick approach that focuses on you and your needs, please don’t hesitate to get in touch.


Tim Brennan

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