Great Expectations (#investing, #valuation)

I enjoyed the following two commentaries from value investor blogs I follow.

First, from Rohit Chauhan’s “Intelligent investing”, an absurdist scene in near-future India:

If the market and a lot of investors are correct, I can visualize a scene where I will be sitting in my house without power, gas and connecting roads but with the best plasma TV and all kinds of soaps, detergents and packaged goods.

Rohit comments on the fact that infrastructure companies in India are trading cheaply as if their regulatory burdens will not be removed and not allow them to grow, while consumer goods companies are trading at high valuations as if they are about to strongly grow their sales and expand their margins. But for the latter to happen, the former must be resolved.

Conclusion?

Company specific growth depends on a lot of factors beyond the basic macro opportunity and it is rarely a simple, linear process. If you make simplistic assumptions and pay top valuations for it, then the experience can be bad if those expectations do not materialize.

Speaking of expectations, here is one from the “Margin of Safety” blog, written by an anonymous PM managing a private investment partnership, on the differing assumptions between the “I Know” and the “I Don’t Know” schools of forecasting:

In pointing out our inability to see the future in my letter, my intent was to calm potential investors’ nerves. Many saw markets plummeting and they were converting everything to cash just at the moment when the best investment opportunities were arising. I had hoped that I could get them to stop listening to the many pundits in the media who pretended that they knew the future and who all repeated the mantra that we were doomed. I wanted them to focus on what was knowable like the Net Nets that existed at the time. We went “all in” in March 2009, two days before the market bottomed out, not because we could predict the future better than everyone else, but precisely because we tried not to predict it and instead focused on what was knowable.

There has been a seeming race amongst self-declared value investors over the past couple of weeks of ongoing bloodletting in the financial markets to make a contrarian “buy the panic dip” call. It’s like the moment the S&P 500 went 3% into the negative, everyone ran to their dressers and pulled out that dusty old copy of Warren Buffett’s “Be greedy when others are fearful” and began running around town, trumpeting it out to anyone who would take the time to listen.

In their haste to do so, many seemingly ignored whether things were already cheap, or merely getting cheaper. More importantly, few had any specific suggestions as to which companies were now cheap. Instead, these people seemed in a panic of their own to be the first one to declare that everything was now on sale.

But sometimes garbage is garbage and just because it has sold off a little doesn’t mean it didn’t deserve to, or that it won’t ultimately sell off some more. What kind of macro thesis is betrayed by such urgent calls to get one’s money in while the getting is still good any day there happens to be a broad market selloff?

The anonymous PM’s conclusion:

The pendulum reached its apex and has made a significant move back to the other side. Soon it will again be time to buy all of the babies that will get thrown out with the bath water. Are you prepared to pick off bargains, or are you one of the people in the “I know” school who was fully invested on July 7 and selling indiscriminately today? Can you trust your contrarian instincts when those instincts are supported by hard, knowable data, or will you follow the herd and the prognosticators? Which way you answer often accounts for the difference between investment success and failure.

Better yet, I want to know who was fully invested August 5th, prematurely assuming we’d seen the worst of it and so busy making assumptions they didn’t have time to go out and “know” some true discounts firsthand.