The Last Hurdle: Investing With Industry Trends


As investors, we often hear the siren call of “being a contrarian” — The stories of bucking the trend, buying stocks at low prices, and then reaping incredible gains are the stuff that contrarian dreams are made of.  As such, many investors like to fashion themselves as contrarians.

Unfortunately, real life isn’t quite as easy as in the stories — It takes a lot of guts to buy a stock when it’s down at the bottom of a dumpster.  During the best of times, making these buy or sell decisions can be tricky.  How do you know the stock’s decline isn’t permanent, or that the business isn’t in some kind of secular decline?

Being a successful contrarian isn’t easy.  Without hard data points to make solid decisions from, it’s often said that investing is more art than science.

And these are hardly “normal” times.  Over the last seven months the COVID-19 pandemic has changed the world in very dramatic ways… These behavior shifts seemingly will last more than a few months too!  They could last for years, or maybe even a decade!

Depending upon which side you invested on, the pandemic could either have dramatically improved OR dramatically hurt your chances at financial independence.

“The trend is your friend” as the saying goes… unless you’ve bet in the wrong direction.

 

Behavioral Trends And Investing

You’ve probably heard the investing maxim, “A rising tide lifts all boats” more than once.  This oft-repeated analogy simplifies one of the greatest investing truths ever spoken.  The “trend” will move a stock, both justly and unjustly.

As investors, your ability to analyze a stock based on fundamentals has very little to do with how ‘the trend’ will make that stock perform on a day-to-day basis.  You’ll get carried along regardless of returns on equity, low PE ratios, solid profit margins, low price-to-sales, or any other number of investing metrics.

Put another way, behavioral trends are like a giant storm of economic energy, carrying investors into good times or bad.  It almost goes without saying, investors should try to stay on the right side of a trend to survive.

sailboats
When the winds of change blow, it’s far easier to sail with the wind, rather than against it.

Over the years, I’ve had the fortune and the misfortune of both been caught on either side of a trend.  I’ve come to believe that societal trends should be something of a circuit breaker for buy or sell decisions.  If you don’t have the trend on your side, then don’t invest.  It’s that simple.  It doesn’t matter what the valuation looks like, don’t invest when the investment runs counter to societal trends.

 

What Is A Trend?

A trend (as I’m defining it here) is societal behavior that humans are replicating en-masse, away from an older behavior that is deemed inefficient, outdated, or socially irresponsible.  In other words, the kind of trend I’m talking about isn’t next spring’s clothing fashion.  That’s a fad.  Trends tend to be more long-lasting than fads, and encompass broader changes in how society works.

Here’s one trend most people should be familiar with right now:

COVID-19 has accelerated the trend of online banking.   What was once a slow move to online banking is now a quick race.  Other than the rare occasion of needing a cashier’s check, or maybe to sign loan documents, most people now see little reason to go inside a physical bank branch.  Brand, interest rates, online user experience, and loyalty programs are now the customer draws for big banks.  NOT fancy bank branches with marble floors.

This is a trend.  It’s a broad societal change that’s making banking procedures more efficient.  Traditional bank branches are going the way of the dodo.  It’s extremely unlikely that this trend will reverse itself, so we can expect the online banking to hang around for awhile.

This is one of the reasons why JPMorgan Chase (Symbol: JPM) and Bank Of America (Symbol: BAC) have continued to compound value despite the pandemic — They have strong brands, and have invested heavily in the online banking business.  They’re following the trend and will mostly succeed despite the new challenges the pandemic created.

 

New COVID-19 Trends

In most cases, it takes years or even decades for major trends to change society.  Covid-19 really sped up this process.  Many new “trends” were formed almost overnight, and investors are still trying to catch up to these changes.

Here’s a few of the more interesting new “COVID” trends I’ve been studying:

* Spending on leisure travel may have dropped off a cliff, but spending at home improvement stores has actually risen!  With more people working from home, their attention is now focused on the home.  This trend was one of the influences for my buying Home Depot (Symbol: HD) shares in March.  Lowes (Symbol: LOW) has done just as well this year, with sales rising at similar rates.

* Sellers of clothing, cosmetics, and beauty products are struggling right now.  With everyone “working from home” via Zoom meetings, there’s little incentive to “look good” these days.   Why bother buying new clothes or makeup if all anyone is going to see is a low resolution Zoom video?  Despite cheap valuations, I wouldn’t touch department stores like Nordstrom’s (Symbol: JWN) or JC Penny (Symbol: JCPNQ) with a ten-foot pole.  Even growth darling Ulta Beauty (Symbol: ULTA) is having a ugly year.

* Air travel might be in the dumpster, but it appears that road-trips are seeing a new boom period.  Sales of RV’s are booming according to industry sources.  As you would expect, shares of RV makers like Thor Industries (Symbol: THO) and Winnebago (Symbol: WB) are doing well this year.  Camping World (Symbol: CWH) (the RV dealership), is doing equally as well this year.

* Sales of video games are also on the rise.  Perhaps it’s because the options for entertainment are so limited right now.  At any rate, the makers of video game software are seeing a fantastic boom as a result.  Stocks of companies like Electronic Arts (Symbol: EA), Take-Two Interactive (Symbol: TTWO) and Activision Blizzard (Symbol: ATVI) are doing fantastic.

The question investors need to be thinking about right now, is how permanent are these new “COVID” trends going to be?  It’s anyone’s guess at this point!

 

Exceptions To The Rule

Being on the wrong side of a trend is generally not a good place to be as an investor.  I say “generally” here, because there are a few exceptions to this rule.  Certain investors have created entire careers around buying rundown stocks when they’re cheap and then selling when they’re dear.

IMHO, these contrarians succeed because they have unique insights into why “the trend” is wrong.  They have “an edge” — a unique insight or unique knowledge that is not commonly known by the general public.

Such insights are rare, and even rarer are the investors that know how to bet on them.

A good example is a very special stock — One with unique economics, that was actually strong enough to overcome the effects of a hugely negative societal trend.

I’m speaking of course about Philip Morris (aka Altria), the cigarette company that’s been on the wrong side of a trend for decades.  Fewer people smoke every year, and yet Altria has proven to be one of the most successful investments ever.

altria stock
Despite being on the wrong side of the trend, Altria seriously outperformed.

So it’s certainly possible to bet against a trend and succeed.  But would you have had the unique insight to buy Altria at it’s lows and then hold in the face of lawsuits, declining cigarette usage, and the general overall negative feeling society has about smoking in general?

Probably not.  That’s a tough hold.  Most contrarians wouldn’t be able to see a path to success despite such incredibly negative odds.

To quote another investing maxim, “Most turnarounds never turn.”

In most cases, if a trend turns negative, large institutions (mutual funds, hedge funds, pension funds, etc.) start selling.  Once the stock declines, that’s pretty much it.  They fall into a negative hole, never to return to their former glory.  IBM (Symbol: IBM) and GE (Symbol: GE) might be current examples of this — Value traps set to suck in gullible investors looking at those juicy dividend yields and P/E Multiples of days long past.

My advice is “don’t fall for it”.  Look at the industry trend, not the rosy CEO projections of a turnaround.

 

Final Thoughts

Inevitably I’ll get some criticism from value investors for this post, but like it or not many of the “great values” in the stock market today are going to turn out to be value traps waiting to spring on those same contrarian investors.

Some investors are smart and agile enough to avoid these traps, but it’s a tough game to keep winning.  Sometimes it’s just easier to hunt for reasonable priced stocks in-tune with industry trends than to bet big on turn-around plays.

Think of it like jumping hurdles.  You can either choose to jump the one-foot hurdles with the wind at your back, or 10-foot hurdles facing a headwind.

Neither choice is an impossible task, but I know which I’ll be choosing.

 

[Image Credit: Flickr1, Flickr2]

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16 thoughts on “The Last Hurdle: Investing With Industry Trends

  • October 19, 2020 at 1:49 AM
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    If you want a contrarian investment look no further than EZA, South Africas stock market in USD. Down 60% over 10 years. Will it turn? Who knows, but its definitely worth looking at when everyone is betting against it. It only needs to be slightly worse than bankrupt for very good long term returns…

    Reply
    • October 19, 2020 at 10:42 AM
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      Probably not the market for me. I’m less of a contrarian these days than I used to be.

      Reply
  • October 19, 2020 at 2:28 AM
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    Interesting thought on contrarian investing and going against trends. You’re correct, bucking trends is hard. But we who achieve FI and retire or semi-retire are no strangers to doing things different than the mainstream, we’re living it 🙂

    Reply
    • October 19, 2020 at 10:40 AM
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      We may be different from the mainstream, but we achieved FI via very conventional means. I.e. Working hard, saving, and investing in common stocks. 😉

      Reply
  • October 19, 2020 at 4:42 AM
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    Investing in pessimism is not easy. I found this quote in his 1990 annual letter. Even he admits this is not easy.

    Warren Buffett said it best –

    “The most common cause of low prices is pessimism – some times pervasive, some times specific to a company or industry. We want to do business in such an environment, not because we like pessimism but because we like the prices it produces. It’s optimism that is the enemy of the rational buyer.

    None of this means, however, that a business or stock is an intelligent purchase simply because it is unpopular; a contrarian approach is just as foolish as a follow-the-crowd strategy. What’s required is thinking rather than polling. Unfortunately, Bertrand Russell’s observation about life in general applies with unusual force in the financial world: “Most men would rather die than think. Many do.”

    Reply
    • October 19, 2020 at 10:39 AM
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      Great quote TPM. It’s true that deep value and optimism are rarely found together. There’s nothing wrong with a little optimism of course… as long as you’re paying rational prices.

      Reply
  • October 19, 2020 at 8:21 AM
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    Yes, fighting trends is tough – sometimes it makes sense and money, but man do you have to have an iron will to last it out.

    And following trends – or better yet, getting in at their very onset – can make for some really smooth sailing 🙂

    Reply
    • October 19, 2020 at 10:36 AM
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      Fighting trends is indeed tough, but can be done. I just think it’s too hard. Too many things have to go right before you make money. Aligning yourself with trends is far easier.

      Reply
  • October 19, 2020 at 9:15 AM
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    “The trend is your friend” as the saying goes… unless you’ve bet in the wrong direction.

    That line just struck me as saying it all – wise words, my friend!

    Philip Morris (aka Altria) is one stock that just amazes me. It’s crazy how they continue to grow despite all the factors you mentioned. That’s got to end at some point… right? 🙂

    Reply
    • October 19, 2020 at 10:32 AM
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      All things must come to and end at some point… the trick is knowing when to bail out!

      Reply
    • October 19, 2020 at 12:09 PM
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      Well, they’re in the business of addiction. They’re growing in the CBD/Vaping area and they’re good at what they do.

      Plus loads of growth in non-Western countries.

      Reply
  • October 19, 2020 at 9:43 AM
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    Trend is defintely your friend but not all trends will make your money, unfortunately.

    I don’t get why Altria keeps this trend when fewer and fewer ppl smoke. But what do I know right?

    Reply
    • October 19, 2020 at 10:26 AM
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      I don’t think Altria is “keeping” to a trend at all. The trend is very much against them. They’re just making the best of the situation and doing rather well at it.

      Reply
  • October 20, 2020 at 1:07 PM
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    Mr. Tako. Thanks for continuing to provide insightful content on life, FIRE, and mindfulness practice.

    As for the ongoing Altria debate here…My brother works for the company and has since 1998, when hired by then Phillip Morris.

    I don’t know what companies that they still hold under the Altria blanket, but back in the day Phillip Morris owned giants such as Post Cereals, Kraft Foods, and Miller Beer, etc. (many others that are escaping memory). There were many massive, highly successful companies that you wouldn’t expect to be parented by a tobacco company.

    Altria also now owns the 2nd largest brewing company in the world behind Budweiser and have a St. Michelle Wine Estates, which has industry heavies such 14 Hands, Columbia Crest, Stag’s Leap, and Erath to name a few.

    Altria/Phillip Morris was not and same holds true today, simply a tobacco company. Since smoking decline they have shifted and ventured into the vaping category as well, sure.

    But general public perception is that they are just a tobacco company when that is not the case.

    Not defending the company by any stretch, just know that they are a pretty diversified giant which is why their success is defying trend in conjunction with smoking decline.

    Reply
  • October 21, 2020 at 6:02 AM
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    Thought provoking post. I makes me think that the most important question to ask is “why?”. Why do you see a trend? Is it actually a trend? Why is the market reacting or is the market reacting to what you are seeing? It takes some serious thought to identify and then make the decision to either act on or not.

    Reply
  • October 22, 2020 at 12:07 AM
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    Another huge trend is renewable energy companies like Tesla, Nio, etc. I don’t think many people understand how much electric cars will become a part of our lives in the future.

    Tesla just reported another awesome Q3 2020 and it’s just the tip of the iceberg until people embrace clean energy.

    Reply

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