Some years ago I read a statement which stuck with me and which as I researched the common practices of the most successful investors came to make even more sense.
It was that:
“….most people hugely overestimate what can be achieved in 1 year and hugely underestimate what can be achieved in 5.”
Now the regular reader will at this point be thinking, oh no, another exposition on the wonders of compounding interest, I get it already!
Well you’re not wrong (in that it is a wonder) but it’s not specifically about that so please do read on.
Warren Buffett (I refer to him a lot but it’s because he is the man, if one simply adheres to what he teaches success is bound to follow) talks often of thinking about investments not as transient bets on random assets, but as buying fractional interests and becoming co-owners of great businesses for the long term.
Thinking of investing in this way alters one’s mind-set and analytical process; short term pops in value to enable a quick profit to be turned are not what’s sought. It is the careful search for long term partnerships in companies with enduring franchises at attractive entry prices.
To give tangible examples of this philosophy.
Zynga is the maker of Farmville, which was launched through Facebook in 2009. It went public at the height of its success in 2011 and the shares initially did well but gradually and then more rapidly they declined.
Zynga was at IPO; a hot company with a hot product but it had a limited shelf life. The next hot game was bound to come along and once it did, what then?
The Company floated at around $10, rose to $15 and is currently $3.5 (having bottomed in the mid $2’s).
If the question at IPO was asked, ‘what will this Company look like in 5 years’ time?’ No one could have answered it.
Zynga is currently talking of moving into online gaming; it may be successful, but ask the same question, “what will ……..” ???????
WHEN IT’S RAINING GOLD BRING A BUCKET NOT A THIMBLE.
Back in 2009 in the aftermath of the financial crisis many formerly healthy companies were severely wounded; banks such as Wells Fargo, Bank of America and JPMorgan and Insurance Companies such as AIG.
We have written previously about several of the above and we believe the chance to have invested at enormous discounts to book value will be regarded as a generational opportunity, but it is instructive to analyse why they became so cheap and the investor mind-set that made them either attractive or unattractive.
FIVE YEARS TIME
Books can and are being written about the traumas suffered by AIG and Bank of America (BAC); the AIG share price falling from $1000 to $20 and BAC from $50 to $5.
The point at issue in 2009 when considering investing was simply this in essence:
“Are they going to be wiped out?”
As it became clear(ish) that the answer was no, then the share price was by definition extraordinarily low.
Now most investors in the period between 2009-12 pointed to numerous actual and potential problems they both faced and they were right about this but the point again was simply that:
“Time would slowly heal the wounds and both had world class franchises able to generate enormous profits becoming increasingly apparent as the detritus of bad loans and liabilities burned off.”
Would the problems be overcome in a year? NO.
In 5 years? Fundamentally YES.
An investor therefore had an opportunity to buy fractional ownerships in companies that were on sale and which possessed wonderful enduring franchises.
All that was needed to profit handsomely was a longer term investment time horizon.
Today the share price of BAC is $13.90 and AIG is $46.80, and the exciting part is that they are only just beginning to realise their future potential.
They are in all likelihood going to have significantly higher share prices in 5 years’ time!
NOTE: This is written in a personal capacity and reflects the view of the author. It does not necessarily reflect the view of LWM Consultants. The post has been checked and approved to ensure that it is both accurate and not misleading. However, this is a blog and the reader should accept that by its very nature many of the points are subjective and opinions of the author. This is not a recommendation to buy any product or service including any share or fund mentioned. Individuals wishing to buy any product or service as a result of this blog must seek advice or carry out their own research before making any decision, the author will not be held liable for decisions made as a result of this blog (particularly where no advice has been sought). Investors should also note that past performance is not a guide to future performance and investments can fall as well as rise.