I have to admit I love old stock certificates. I don’t collect them, but I think they really convey a sense of history to investing. Most of the old stock certificates you find or see online, belong to companies that died out long ago. Time has a habit of doing that.
Many investors spend a lot of time trying to pick winners in industries where the odds are tilted heavily in the investor’s favor — technology stocks and internet businesses come to mind as “popular” industries to invest in right now.
For a time, many investors do pretty well with this kind strategy… but eventually the world changes. Then it all comes crashing down.
I was recently reminded of a quote by famed investor Charlie Munger:
“It is remarkable how much long-term advantage people like us have gotten by trying to be consistently not stupid, instead of trying to be very intelligent.”
The process of trying to pick good industries or good business sectors strikes me as one of those requiring intelligence. Get the answer correct and you’ll do well. Get the answer wrong and you’ll do poorly — A ton of consistent intelligence is required.
Thinking about Munger’s words, I wondered if maybe the question investors should be asking isn’t “What industries will do well?”, but instead “What are the industries that didn’t do well?”
In other words, what industries chronically underperformed, so that “not stupid” investors can avoid them?
The problem (of course) is finding data to answer questions like these. Without a team of researchers, I’m pretty limited in what I can do.
Thankfully, a little Googling turned up a number of interesting resources — The vast majority of which were journalists reporting on which industries did badly this year, over the last three years, or maybe even five years.
That’s great, but I wasn’t really interested in the short term trends because of market fluctuations. I wanted to know if certain industries had underperformed for decades, which is my preferred holding period.
This industry data does exist, although only in a very limited form that’s not easily digestible. If I had a collection of interns, I’d have them crunching those numbers day and night.
The best answer I’ve found to a number of these questions was buried in a Credit Suisse Research Institute publication. Credit Suisse puts out a number of interesting investment publications, but one year in particular addressed this long-term returns question — Yearbook 2015.
The research publication looked at industry performance compiled from two big data sets — one from 1900 to 1925, and another from 1926 to 2014.
What did they find? The world has changed considerably since 1900 (duh!), and almost no industry has survived unscathed. (Yep, no surprises so far.) Many industries like candles, matches, and railroads that were once a extremely important part of life, have been reduced to near insignificance in our modern economy.
Other industries like Banking and Healthcare have grown in importance, while many of the BIG industries that make up our economy today didn’t even exist in 1900 — Tech firms, Oil & Gas, Telecoms, and Media companies are all pretty new industries.
Clearly internet pizza delivery didn’t exist back then, or it would have been HUGE.
In 115 years, the US and UK economies remade themselves completely. I find these long term studies extremely interesting — We all know change happens, but it’s hard to fathom just how much change the economy has endured since those days.
They didn’t have Netflix back in good ole 1900, but were no strangers to industry disruption.
Long Run Industry Performance
How much technology and innovation has changed our economy I find fascinating… but what I really wanted to know was the long-run performance numbers.
For industries like Banking, and Railroads that have existed continuously since those times, which of those industries did well and and which didn’t? Well, of all the 48+ industries covered by the data-sets, only 15 have existed throughout those 115 years. Some industries, like alcohol did not have a continuous existence due to Prohibition, but probably would have done pretty well.
Of those that did exist continuously, this is how they performed:
Immediately a couple things jump-out at you — ship building, textiles, and steel were the biggest laggards. One dollar invested in shipping would be only worth about $1225 while the market average would have returned $38,255.
The contrast between the winner and loser industries is startling. Tobacco, Electrical Equipment and Chemicals absolutely crushed the market over the same time period.
Labor costs may have been a factor — Ship building, textiles and steel have (mostly) moved to countries with lower labor costs for efficiency reasons. Industries like Tobacco, Electrical Equipment and Chemicals are not really labor intensive industries (nobody is hand-rolling your cigarettes or mixing vats of chemicals). Those products are generally made by machinery or are otherwise automated.
It’s also interesting to note that industries that underwent huge declines in importance (like railroads) can actually outperform the market. Railroads are an interesting case because they significantly underperformed the market from the 1940’s until the 1970’s only to make a startling comeback.
During most of that time period, railroad’s underperformance is probably explained by competition from airlines and cars/trucking. The industry really shrank in importance to the economy.
Today, travel by rail in the United States is nearly nonexistent (except for a few Amtrak trains filled with seniors). Most people prefer to travel by car or by plane because it’s faster. But railroads continue to live on today as shipping companies that move goods across America.
You might not realize it, but a lot of goods shipped in our modern economy are still shipped by rail. That’s right — that package you ordered from Amazon last week and is delivered by UPS Ground (typically 5 – 10 days) is actually rolling across America in a rail car.
It’s simply more efficient to ship by rail over long distances (and in many cases it’s faster) than via truck.
There we go again with that word — efficiency.
Ultimately I didn’t find the exact answer to my question, but the search for the answer did result in some “learning” points.
One, avoiding underperforming industries is essentially a fruitless endeavor unless we have the power to predict the future. We can’t know which industries will survive unchanged by technology and time. Some industries (like rail), might be in decline for years but can still ultimately achieve market outperformance.
I’ve talked about companies in the retail industry on this blog a couple times. Retail as an industry might just fit a similar model to railroads — an industry in steep decline, but one that could still contain some efficiencies that keep it around for awhile. Only time will tell.
Another big point from the Credit Suisse report is that stock market performance (aka industry profitability) has nothing to do with the importance of an industry to the economy. Tobacco stocks (for example) have always been a tiny piece of the economy, yet they’ve provided market beating returns despite big revenue declines. I’ve written about Phillip Morris’ (MO) remarkable performance in previous posts — it’s astounding.
Simply put, stock market performance has more to do with industry structure than it does with the economic importance of an industry.
This brings me to the biggest take-home point in my search for lagging industries … efficiency.
Throughout time, the U.S. economy has reshaped itself around meeting customer needs efficiently. Want to travel somewhere fast? The invention of the airline crushed the passenger rail industry, despite airlines being a chronic underperformers. It was a more efficient way to move people quickly. Want cheap but decent quality clothes? Moving textile manufacturing overseas was the more efficient way to go. Domestic textile makers performed poorly in the face all that low-cost competition.
The story of efficiency and technology delivering that efficiency to the world is one told a thousand times throughout history. Merely picking “technology” stocks to follow “trends” has a habit of delivering temporary outperformance … followed by dramatic underperformance as those stocks revert to the mean.
The Innovator’s Dilemma teaches us that technology stocks aren’t necessarily “innovative enough” to deliver true change. True disruptive change has a habit of coming out of nowhere, and destroying incumbent “technology” industries. Anybody remember flopping disk drives?
For now, I’m going to hold my Southwest shares (LUV) a little longer despite airlines being one of those underperforming industries. I think the airline industry structure has changed considerably… but obviously time will prove me right or wrong.
[Image Credit: Credit-Suisse]