Forget ‘Slow Growth’ – Think ‘Growth’

Thursday, September 23, 2010

In investing, the key challenge is to get the direction right. But what about timing?

Guessing at when a move will happen isn’t worth it. Hidden dynamics (and they’re usually invisible when they would be most useful) are famous at creating “surprisingly” fast moves.

Here are two excellent examples from The Wall Street Journal:

Assumption #1: The economy will grow slowly, so weak companies’ recoveries will take some time

Reality #1: Recoveries are happening quickly, producing expressions of surprise

“Corporate debt-default rates are expected to fall to the same levels that preceded the financial crisis of September 2008, marking a swift turnaround for the fate of the most troubled U.S. companies.”

“’In the near term, we seem to have overcome the last wave of restructurings—faster than anticipated,’ said Michael Henkin, co-head of restructuring at Jefferies & Co.”

“’The rebound is breathtaking,’ said David Keisman, a Moody’s senior vice president.”

(“Defaults Near Pre-Crisis Low,” The Wall Street Journal, by Mike Spector, September 22, page C-1)

Curiously, assumptions can be held so strongly that reality is dismissed or doubted – “It just can’t be!” For example, recent “big picture” comments that 2010’s new security issuance is poor, implying weak companies are having trouble raising money. Fact:  Junk bond issuance of $175 billion this year is far higher than last year’s.

Perhaps more amazingly, from the article above: “… Moody’s said its list of riskiest firms ‘may be at or near a long-term mean.”

In other words, amidst forecasts of slow (even negative) economic growth, the proportion of weakest companies has shrunk back to near normal! (That exclamation mark is well deserved.)

Assumption #2: Slow growth projections in technology and consumer spending mean consumer-tech start-up funding likewise will be slow to recover

Reality #2: Venture capital investors and others have ramped up their consumer-tech funding, and private company prices are jumping

“The technology-heavy Nasdaq Composite Index is relatively flat this year. Yet tech company valuations are rapidly rising in one area: closely held consumer Web firms.”

“… the strong numbers for consumer Web companies indicate how parts of Silicon Valley’s start-up market are bouncing back following the recession.”

“While hot Web companies garnering high valuations aren’t new, the speed with which valuations are jumping has quickened, said Silicon Valley start-up investors.”

(“Web Start-Up Values Soar,” The Wall Street Journal, by Pui-Wing Tam, September 22, page B-1)

How can we take advantage of these speedy trends?

There are a few ways we can use these new realities to our benefit.

  • Realize that recovery, once it takes hold, can happen fast. Therefore, ignore dual projections that combine speed (e.g., “slow”) with direction (“growth”). The latter is the key.
  • Look for ways to invest in the burgeoning trend. A fast recovery rise doesn’t mean more risk. Rather, the higher prices are the result of fundamental improvements and, therefore, diminished risk.
  • Think outside the box (i.e., beyond the trend). Pockets of recovery don’t mean we’re limited to those areas. In fact, some of the best potential profits can come from moving into currently overlooked or ignored areas.

So… The signs above show it is time to focus on growth opportunities. Just don’t worry about how fast they may pay off – you never know.

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John Tobey on Seeking Alpha

Seeking Alpha Certified

September 2010