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You are a better investor than you think you are.
The benefits of not knowing what a company does.
as an investor you are inundated with information. The trick is to filter what’s important for success and what’s not. Unfortunately, many investors allow unnecessary noise to influence their investment decisions.
The best example of this is The Story. The Story focuses on the soft factors of a company. By this I mean the market outlook, potential product sales, the outlook for the industry, and so on. Financial media loves The Story because it provides good headlines and the articles usually only contain speculation about the future. Think of headlines like “The market of the future and how this undiscovered company can profit from it.”, and “Is this the next Multibagger?”. The focus is always on possible scenarios that might occur.
But how about first looking at what actually is and what the operational excellence of a company looks like? Let’s make a test that proves that you already have what it takes to pick the right stocks:
I am not going to tell you the name of the two companies, instead, we will look at some numbers.
Without knowing anything more, we can draw a few conclusions:
Stock A trades at insanely high valuations, has been unprofitable over the last 10 years, but had incredible revenue growth. So investors have been focusing on impressive growth numbers and ignored the rest. The stock must be popular in the financial community because it still trades at high multiples, which means The Story has not faded yet.
Stock B is insanely profitable, had as a return on equity of 44.5% and a return on invested capital of 28.1% which are very impressive numbers. The stock trades at a much more reasonable valuation. Overall it shows great growth/stability and profitability. If investors were reasonable they would give Stock B a higher valuation than Stock A simply because of the lower risk. But they don’t.
Based on just the information above, I would guess that most investors would pick Stock B and stay away from Stock A. The problem with Stock A is that its valuation gives too much room for a selloff in case the company can’t keep up with the market’s expectations. Investors are risking too much by betting on an uncertain future. With Stock B on the other hand you have fewer problems. This company already showed in the past that it can deliver operational excellence which leads to the conclusion that it somehow must have a moat that enables them to do so. Due to the lower valuation and the stability in performance investors are also exposed to less downside risk.
“The first rule of an investment is don't lose money. And the second rule of an investment is don't forget the first rule.” - Warren Buffett
And still, many investors choose Stock A ($tsla) over Stock B ($aapl) because they get distracted by media headlines and ignore the facts.
I am aware that Wall Street cares too much about future prospects but in order to project the future we have to look at the past and how a company has executed so far in the real world where results matter and not “projections”. Every business owner knows that at the end of the day it matters how much money you have in your cash register and not what you are supposed to maybe make in the future. Wall Street tends to forget that.
But Tesla has rewarded shareholders nicely
This is correct, but ask yourself this simple question:
“Do you want to build your investment success on survivorship bias and hope that you’ll find another CEO with so much media presense, or on a rule-based system that you can apply over and over again?”
You can get lucky with a stock, but I prefer to take luck out of the equation as much as possible.
As absurd as it sounds, I think investors would make much better decisions if they didn’t know what a company does. With some experience, you can deduce everything that you need to know from their results because they reflect every management decision and tell you much more than A Story ever could. And as long as a company operates successfully, the stock will follow sooner or later. Next time you find a stock, try to resist the urge to look up what the company does and instead check directly their results. Afterward, you can check the rest. Tune out the noise from financial media and focus on what matters.
Hope you learned something today, until the next issue. 👋
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