I often consider investment a battle between the elephant and the goldfish. The elephant, supposedly, never forgets. It is a great asset for an investor to have a good memory, to be able to learn from experience, to draw parallels with history and to avoid getting sucked into the numerous investment fads that often end in tears. The goldfish reputedly has such a short memory that each time it circles the fish tank it thinks it is somewhere new. Investors need to be open to new ideas, to understand change and to be able to spot opportunities in a dynamic world. Rapid technological developments as well as economic, social and political change can radically change the outlook for businesses and industries.
Essentially, I see the elephant view as believing that industries and businesses don’t really change significantly over time, that margins and returns in a cyclical company will revert to their mean levels. Also that “strong” businesses with high barriers to entry will continue to prosper in the long term whilst “poor” businesses in competitive or structurally challenged environments will continue to struggle. Conversely, the goldfish view is that situations are constantly fluid and changing. “Strong” businesses need to be on their guard for technological or other change that can destroy their franchise. Andy Grove at Intel espoused this view, naming his book “Only the paranoid survive”. Furthermore “weak” companies can be transformed by innovation, investment or restructuring.
Clearly these views are stylised and exaggerated. In practice, good investors will have a balance between their elephant and goldfish sides. We will all recognise elements of both these animals in our personalities and our approach to investment. Historical perspective is important but so is flexibility. Investors need to be open-minded but not so open-minded that their brain falls out, as the old saying goes. The most important thing is to recognise what kind of temperament you have and to match your investment style to those qualities.
I am more of an elephant on the spectrum than a goldfish. Like many value investors I believe that buying shares on low valuations and selling those on high valuations works because in general investors are too pessimistic about companies going through a bad patch and too optimistic about companies performing well or exposed to some new hot idea. The challenge for me is to watch out for those situations where fundamental change is really taking place.
However, there are many other successful investment styles. A good technology investor, for example, needs to be more of a goldfish. They need to be able to spot the next Apple or Facebook that can really change the world. A few poor investments pale into insignificance if they can find one or two real gems.
A good example of the dilemma between these two investing animals took place during the technology, media and telecommunications bubble in the late 1990’s. In retrospect we can call it a bubble, but at the time the new era goldfish were in the ascendancy. Many elephants, suggesting that hopes and expectations were being over-hyped were ridiculed as not understanding and destined to go the way of the mammoths. As can be seen in the chart below, companies like Amazon and Colt Telecom rose around twenty fold in two years between January 1998 and January 2000 on the promise of untold riches from the internet revolution1. The goldfish, seeing endless new opportunities, had their day in the sun.
History of course now shows that the more sceptical elephants who held back from the euphoria came out better off, if they managed to hold onto their jobs. Colt and Amazon both gave up all these gains, and possibly more.
However, there is another message in this chart too. The internet has radically changed our lives. This blog is but one small example of the types of communication that were unimaginable only 15 years ago. A few success stories, like Amazon, have emerged to become world-leading companies, and those shareholders who held onto them, or better still picked them up at depressed prices in the early 2000’s have made good money. Of course, to maximise profits, an investor would have needed to be enough of a goldfish to spot the opportunity but enough of an elephant not to get sucked in during the bubble. Bill Gates, the founder of Microsoft could have been referring to this period with his famous quote: “We always overestimate the change that will occur in the next two years and underestimate the change that will occur in the next ten.”
There are always many elephant – goldfish battles in the market. The challenge for the elephant is to avoid “value traps”, shares that look cheap on a historical basis but where the future outlook has really changed. The challenge for the goldfish is to avoid getting too excited about a transformational situation which turns out to be less valuable than expected. Perhaps the goldfish challenge was best summed up by Sir John Templeton, when he said “the four most dangerous words in investing are – This time it’s different”
In a forthcoming blog I will look at the elephant – goldfish battle in the UK food retail sector where the discounters are threatening the big four established chains.
1. This is no recommendation to buy or sell any particular security