Misplaced Assumptions, Where Investments Go Wrong – Seeking Alpha
You've heard the one about the physicist, chemist, and economist marooned on a desert island with a can of beans but no way to open it. With index finger on temple, the physicist opines, "Focus sunlight on the can to melt it." "No", the chemist interrupts, "We should pour saltwater on the lid to rust the can." The economist, matter-of-factly, ties off the debate, "Assume we have a can opener."
Richard Mason and Ian Mitroff might have called being stranded with no way to get at food in one's possession an "ill-structured" or "wicked problem". They would have encouraged the three academics to engage in some, "strategic assumption surfacing and testing" to:
Notice my insertion in brackets above, "[investment hypotheses]". In considering and revisiting such decisions, I repeatedly attempt to apply this technique to expose and evaluate strategic assumptions that may affect our results.
Not infrequently, revelation about assumptions comes to me after I have already moved forward with an investment. For example, a couple of years ago I made beefy bets on three CRISPR (gene editing) stocks following their IPO's - CRISPR Therapeutics (CRSP), Editas Medicine (EDIT), and Intellia Therapeutics (NTLA). We did very well on them but sold out because I felt they had gotten ahead of themselves although I wasn't entirely sure why.
Something was niggling me that I couldn't quite explain. While walking our daughter's Yorkie a few months later, I ran into a friend who is very learned in stem cells. I mentioned backing away from our gene editing investments wondering out loud how most people could afford such treatments.
"Henry", he looked at me, "This is an issue. Other than through early-stage research grants, patients must tap private resources or look to foundations." Disappointingly, my friend's expert opinion seemed to confirm that funding, at least for now, is a limiting factor in how far and fast gene editing stocks can grow. I felt I had made a good decision to sell and move on. At a level, Bayer (OTCPK:BAYRY) must agree because they just backed off their original position in CRISPR Therapeutics. Strategic assumption testing.
However, that conversation didn't turn me away from all medical treatments; far from it. I later added to our position in Merck (MRK) that continues to receive approvals from governments around the world for the use of Keytruda to fight various cancers, bladder, Hodgkin lymphoma, neck, melanoma, pancreatic, small cell lung, and urothelial carcinoma among them. The strategic assumption here being, more applications x more government approvals = more revenue = more income = higher stock price and dividends.
And, although the word "genetics" is in its name, as opposed to one-patient-at-a-time editing, I also recently bought into NewLink Genetics (NLNK) that is discovering, developing, and commercializing medicines that tap the body's own immune system to fight disease. It was NewLink that discovered and then licensed to Merck, a 100%-effective Ebola vaccine that was recently approved by the FDA. It is NewLink that is now partnering with Ellipses Pharma, a UK private limited company, on an ovarian cancer treatment (that Merck does not have; hmmm). If approved, it could catapult NLNK to much higher levels. Although NewLink is still losing money, its balance sheet is pristine; it's positioned for growth. And, intangibly, I like the fact that it is headquartered in the heartland, Ames, Iowa; smart, hard-working people there.
Therefore, while on the one hand, patient-by-patient genetic treatments are overwhelmingly important, my current assumption is that they are not there yet from a shareholder perspective. On the other hand, using therapies - mono and poly - to fight cancer seems to be mushrooming.
Before moving on, it's also worth challenging assumptions about the very definition of healthcare. For example, with regularity, apps and gadgets are introduced to monitor bodily functions and wellness. Fitbit (FIT), that is in the process of being acquired by Alphabet (GOOG) (GOOGL), is a notable case in point.
Indeed, Alphabet is also perfecting an AI-based system that, in most cases, improves the accuracy of breast cancer diagnosis. In addition to benefiting those at risk, this technology may lower the need for less accurate technicians and doctors. Let us not forget that clinics and hospitals are businesses and, that here in US at least, the war rages over the cost of healthcare.
And, at an even broader level, Alphabet appears to be setting its sights on becoming a leader in medical diagnostics. If ever there was an indication of this, it is in the Mayo Clinic's recent announcement that they are teaming with Google on cloud-based data mining and AI to improve healthcare. This is a big deal that could recalibrate some basic assumptions in the field.
In a completely different category of investments, many SA contributors and commenters apparently still embrace the assumption that the sun still rises for Tanger Factory Outlets (SKT) and Simon Property Group (SPG). Here, obvious limiting factors are suppressed, talked over, or tuned out - the competitive domination of on-line shopping, big-box retailing, remote fulfillment, etc. For example, this research available for purchase from Coresight (I have no relationship with them) reports that: a) e-commerce is relentlessly gaining market share at an accelerating pace, b) there is no letup in the growth of retail defaults and bankruptcies, and c) disappointment will continue as new stores open into a flat sales environment (and, with interest/cap rates perhaps on the march again). For retail REIT pundits and investors to believe that they will beat these odds defies Einstein's very definition of insanity:
"doing the same thing over and over again expecting different results."
Tanger and Simon are classic "hole-in-your-pocket investments" wherein most investors blithely put those dividends in their tattered Levi's (NYSE:LEVI) and walk on not realizing that they've fallen through. This can be easily and conclusively demonstrated by adding up those dividends over time and subtracting the corresponding loss in these REITs' market caps. The algorithm is such: a) Pick a medium-term timeframe; I'll use 3 years, b) Add up all the dividends paid by the Simon Property Group and Tanger Factory Outlet during that time, and c) Subtract the difference in before versus after market cap. Material amounts of shareholder value have been destroyed:
Moreover, open the SKT and SPG pages on SA, and scroll down the sentiment summaries to the left and you will see that most contributors going back are skewed toward the bullish side of neutral; some are still "very bullish" notwithstanding years of disappointment during which they were also very bullish; is your head spinning?
For those investors looking for a "tell" on when REIT experts may be coming to grips with their own misplaced strategic assumptions, you need to look no further than to those who have shifted from recommending common to recommending preferred stock as it has been for: CBL Properties (CBL), Pennsylvania Real Estate (PEI), and Washington Prime Group (WPG). Definitionally, the destruction in shareholder value is seen in common stock prices. However, it is usually triggered farther up the balance sheet as I know from my days predicting REIT bankruptcies by anticipating covenant defaults.
And, for mall REIT investors who want to know who is picking up that money falling through the hole in your pocket, look no further than to compare the stock performance of SKT and SPG to, say, Alibaba (BABA), Amazon (AMZN), Target (TGT), and Walmart (WMT). There is a reason these lines inversely correlate:
Or, take those of us who write about the relative (de)merits of internal combustion, battery electric, and fuel cell engines. With every post, we confront assumptions involving limiting factors. ICE vehicles must be phased out given that their emissions are sickening planet earth; they are. BEV growth assumes the unconstrained availability of heavy metals essential to their production. FC(E)V power coming from natural gas is not carbon-free.
Have we pushed strategic assumption surfacing and testing far enough in this space? If you listen to Elon Musk, there is nothing more to debate; BEV's and, specifically, his BEV's are it. For us mortals, as opposed to driving a single stake in the ground, it may be wiser to spread out over various forward-looking investments including, for me: a) Toyota (TM) that continues to innovate around diversified product line that will increasingly deemphasize ICE vehicles in favor of hybrids, pure BEV, and FCV's, b) Suzuki (OTCPK:SZKMY) that commands a major share in the world's third largest automobile market, India, and is well positioned with low-energy-consumption scooters and motorcycles best suited for use in densely populated cities and poorer countries, and c) ABB (ABB) and Ballard (BLDP) that are focused on bringing clean(er) energy to commercial vehicles including boats and ships; others are, as well.
Strategic assumption testing has also brought us to investing in miners of heavy metals that are essential to all manufacturers of batteries and cleaner ICE vehicles - Amplats (OTCPK:ANGPY), Glencore (OTCPK:GLNCY), Norilsk (OTCPK:NILSY), South32 (OTCPK:SOUHY), Sumitomo Metals (OTCPK:SMMYY) - platinum, palladium, rhodium, cobalt, nickel, and manganese. To reemphasize, for now we simply don't accept as fact that there is only one right way to invest in clean energy vehicles.
For the climate change / global warming deniers out there, the time has come to embrace the strategic assumption that the transformation to clean, renewable, sustainable energy is happening. If you don't believe me, no offense taken. Believe the largest institutional investors and fund managers on earth - like Norway's sovereign wealth management fund, or BlackRock (BLK) whose Chairman and CEO, Larry Fink. If you as an individual investor assume that you can successfully buck this movement, you assume wrong. Do yourself, your children, and the rest of us a favor - get on board.
Strategic assumption - many individuals own too many high-priced, underutilized, fixed assets whether second homes, automobiles, airplanes, or boats. Businesses figured out long ago that they need to better utilize real estate and equipment, two of the costliest factors of production. A trend developed in renting vs. owning as, for example, when farmers began resisting the temptation to buy that expensive combine in favor of outsourcing harvesting to a neighbor who wanted better utilization of the expensive combine he already owned. Makes sense.
Expedia (EXPE) through HomeAway/VRBO, and Airbnb (private) have begun to address the challenge of underused residential real estate by bringing vacation property owners together with those who have no interest in title but instead rather rent for a week, a month, or a season. I am no longer able to count the number of our friends who use one of these options to escape winters or summers to friendlier climes in America's playgrounds. A while back, competing hotels felt the squeeze such that they too got into the vacation rental business; deals are everywhere.
And, we have a parallel situation with automobiles. I'm talking about Uber Technologies (UBER) and Lyft, Inc. (LYFT) where owners with time on their hands are, in effect, renting out their cars and driving services. For "renters", the equation could make sense if you're comfortable with rising prices, lax pick-up service, or the probability of jumping into a car with a pervert. The model may also work for "the middlemen" - Uber and Lyft - and any other company who can develop the critical mass while steering clear of existential liability.
But the strategic assumption that keeps getting in my way is from the vantage point of the supply-side, the owners. Specifically, I wonder if every-day individuals who are long fixed assets really understand their total cost of ownership or if they are just trying to earn some pin money or cover some bills. Mind you, there is nothing wrong with that unless/until one starts focusing return on their investment (and labor). Depreciation, licensing fees, insurance premiums, deductibles, fuel costs, maintenance expenses, tax and tax prep all add up never mind waking up to discover that one is earning well less than minimum wage on all the time and hassle associated with operating and administering such assets and activities.
Wrap it all together and I'm hung up on the assumption that EXPE, UBER and LYFT are limited-life alpha investments that owe their existence to 'temporary' albeit rolling excesses. As a board member our HOA, I'm channeling on a neighbor who last year whined about all the costs associated with his three homes. When I said to him, "Your problem is that you have too many damn homes", his surprise instantly turned to laughter and then agreement (a few months later he sold one of his places).
The chart below suggests that Uber, and Lyft have quickly moved through the growth phase of their S-curves and are now more-or-less mature investments that may tip into decline as others compete for market share. Indeed, they appear to have been mature investments before their IPO's hit the market; strange, isn't it.
Mason, Mitroff, and others would say that strategic assumption testing can/should be applied in "dialectic discourse" to planning [and investing]. A fancy phrase for a simple concept in which two or more people holding different points of view about a subject wish to establish the truth through reasoned arguments. The approach resembles debate but excludes subjective elements such as emotional appeal and pejorative rhetoric.
Dialectic discourse is difficult to achieve where emotions run high protected by ideological worldviews - the ethics of gene editing, ancestral comfort with tangible property / real estate, defensiveness that we humans contribute to climate change, and so forth. Those of us who write on these topics at times face numbing bias in the form or trite accolades by sycophants, or incoherent criticism by haters. To some extent, SA's anonymous format obstructs dialectic discourse.
So, when the process isn't possible, we're left to our own devices. To this I say, there is nothing wrong with having a conversation with yourself starting with basic questions: a) Am I open or closed minded; am I boxing myself in?, b) How might I think about challenges differently?, c) What other (substitute) options are available?, d) Could 'the answer' be different in the short versus long-run?, e) Do I know what I don't know; how do I find out? Repeat.
Does dialectic discourse work even if only with oneself? I'm careful to think that it might. I've followed up with alpha-level evidence on many of my own articles and a review of portfolio performance confirms that we are handily beating the indexes including the S&P 500 (as well as Warren Buffett's Berkshire Class A (BRK.A) shares). Because investment challenges these days are ill-structured / wicked, I recommend strategic assumption testing.
Disclosure: I am/we are long BAYRY, MRK, NLNK, GOOGL, BABA, TM, SZKMY, ABB, BLDP, ANGPY, GLNCY, NILSY, SOUHY, SMMYY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Always do your own due diligence in consultation with a licensed and competent financial adviser who understands your unique needs and puts your interests ahead of their own. Remember, there are added considerations in owning foreign securities including those associated with ADR sponsorship, buying and selling the pinks, foreign withholding taxes on dividends, and fees. (All my proceeds from contributing to SA go to charity.)
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Misplaced Assumptions, Where Investments Go Wrong - Seeking Alpha