Here is an excerpt from Edgepoint’s latest commentary:
Why is that the case? What is it about investing that makes people likely to sell at the first sign of a decline? When prices of everyday items fall, consumers generally rush to buy more. How many people feel uncomfortable when they see a sale sign on a new shirt or bike that they were hoping to buy? Sale signs usually do the opposite – they get us excited. When that shiny new bike was $1,000 last week and is now on sale for $900, it’s a better deal. We all love a good deal. But why doesn’t that apply to an investment? Why do we head for the exits instead of the register when an investment declines in price?
I believe it’s because most investors don’t know the value of what they own. They know that saving $100 on a bike is good value, but many aren’t sure if watching a stock or bond fall in price is a better deal or another mistake. The only way to distinguish between the two is understanding what you own and having a skillset at valuing investments. While this is something we’re excited to do every day, it remains difficult for the average end client. Untangling the value of a business is much harder than for a bike, but it’s also more important.
Nothing is more uncomfortable than watching an investment’s price fall if you don’t have a sense of its value. The once-deafening roar of Bitcoin bulls sure sounds more like a whisper after its price declined significantly from its peak in the fall.i The same can be said of the unprofitable technology companies that had an insatiable bid until the price corrected and gapped downwards. Both are examples of investors fleeing an asset when its price declined because these assets were difficult to fundamentally evaluate.
Edgepoint
Often I see compelling investment write-ups only to end it with a valuation that slaps a 15x multiple on something with justification being the comp set trades higher or at that range. But what if the multiples aren’t correct right now? What if the market is exuberant? When that security is down 50% with the same fundamentals and it seems like there is no re-rating on the horizon, how does all the research figure into the picture?
I think absolute value is important to hold conviction through different market cycles. As in, if it was a lemonade stand and there was no liquid market to exit to, is that a price you would want to pay for something? Sure, mistakes are sure to occur in paying the right price, but less has to go right if an arbitrary multiple is slapped on an earnings figure.