Quote for the Week

While the classic growth companies may continue to generate new sources of earning power, the question is: Can they do this rapidly enough to justify the valuation placed on their current earning power?

One can repeat the question just asked: Is a growth rate triple the potential growth of the economy sustainable indefinitely? If a company can double its earnings over the next 6 years but then needs 10 years before its earnings double again—and perhaps 15 years the next time—then its present P/E ratio will fade with the passage of time. In other words, the price will rise more slowly than the earnings.

And at every moment the investor runs the risk that a change in management, a spry competitor, a shift in customer preferences, or a fundamental economic or social change may slow earning power a lot faster than anticipated. Admittedly, pleasant surprises may come along too, but 40 times earnings already anticipates those. — Peter Bernstein, 1973 (source)

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Here’s what I’ve been reading for the past three months:

• To Engineer is Human – Engineering innovations are a byproduct of failed designs that create opportunities for improvement and success, while success can bring overconfidence, added risk-taking, and disaster. Henry Petroski’s book goes through the history of engineering failures and lessons learned that led to progress in the design of buildings, bridges, and more.  (Notes)
• The Greatest Minds and Ideas of All Time – This book is a compilation of Will Durant’s essays and lectures. His personal lists of the greatest thinkers, poets, books, peaks of human progress, and dates offer a journey through world history. (Notes)
• The First Million is the Hardest: An Autobiography – Arthur Farquhar built a global agricultural manufacturer. He also faced hardship in that process — a factory that burned down twice, multiple depressions, and the Civil War. His autobiography offers a mix of U.S. history, business common sense, and name-dropping. He discusses presidents, politicians, and business leaders he met throughout his life. (Notes)
• Maxims for Thinking Analytically – Richard Zeckhauser is an economist and Harvard professor. The book uses practical examples to explain 22 of Zeckhauser’s maxims around analytical thinking and better decision-making. Notes to come.
• The Autobiography of Andrew Carnegie – The latest read is inspired by Farquhar, who viewed Carnegie as the best businessman ever. Carnegie immigrated with his parents to the U.S. at a young age. Carnegie started as a bobbin boy at a cotton factory at age 13. A job as a telegraph messenger boy a year later changed his life. Or so I expect from the man who built a steel empire, became the richest person in the U.S., and proceeded to give almost all of it away. Notes to come after I finish the book.

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Quote for the Week

One of the enduring features of the findings in behavioral psychology as it applies to finance, a subject I have discussed many times over the years, is the almost complete inability of those who are aware of them to actually apply them. You can attend Richard Zeckhauser’s seminars at Harvard, read lots of articles and case studies, be reminded of how recency bias, or anchoring, or the representative fallacy, or myopic loss aversion impair clear thinking and skew decision making, and still fall prey to them and others of their ilk the moment you are confronted with real world situations…

This is not unusual. Warren Buffett has often noted how any knowledgeable analyst would have pegged the value of the Washington Post at about 5x what it traded at in the 1974 bear market, yet no one wanted it at that price. The 2002 bear market saw some similarly amazing prices. AES traded under $1… Yet fear set its price, as it did those of Nextel, Tyco, Corning, Amazon, and a host of other companies at that time…

I am reminded once again of the quote that sits in the front of Ben Graham’s Security Analysis, from Horace’s Ars Poetica: “Many shall be restored that now are fallen and many shall fall that now are in honor.” (The quote does not say “all” by the way, just “many”). — Bill Miller (source)

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Quote for the Week

Most financial principles and theories have a degree of good sense to them. It may be a large degree, but it never comes close to being absolute. None of them ever has the comforting reliability of Euclid’s comment about the length of the hypotenuse of a right-angled triangle. Consider the observable occurrence and reoccurrence of what economists traditionally call the business cycle. It exists, certainly enough. Stocks never go so high that they don’t fall down, and never sink so low that they don’t eventually go back up again. But the duration of this cycle is figured by some at the mystic and Biblical figure of seven years, and sometimes at six. However, there have been periods when it worked out to other numbers of years, such as three, two, or half a year. Or take the period of two and a half years preceding the morning on which these words happen to be written. (Summer, 1949.) While events of world importance have been taking place, the stock market has done nothing but drift listlessly a little lower, from prices which could be considered low to begin with, in view of corporate earnings at that time. Thus the riddle is propounded: can such a pattern be termed predictable?

It is not likely that this riddle will ever be conclusively solved. It is fair to point out, however, that the tendency of the human heart is to plump for the idea that there is a sensible order in the rise and fall of prices, whether the evidence is good or nonexistent. People do not care for the idea that any important activity which affects them is as beyond their control as a pair of dancing dice. — Fred Schwed Jr. (source)

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