Tuesday, October 04, 2005
Why no growth?
I suppose my portfolio contains no outright growth shares. A growth share is a share whose price assumes a projected rate of earnings growth stretching out into the future. The dot-com bubble of the last 1990s saw the market infested with growth shares, where prices were all justified by discounted cash flows of awesome profits rising faster than a teenage basketballer in a grow-bag. Unfortunately for huge numbers of investors in this get-rich-quick cult phenomenon, the prospects for these companies were less than golden and the assumptions built into the valuation metrics revealed investors were making decisions with the quality of reasoning, level-headedness and grasp on reality of a schizophrenic celebrity stalker in a hot air balloon.
These growth shares failed to deliver the porfolio growth hoped for and turned out to be more like the sort of growth men check for in the bath, the unhealthy sort that can lead to an amputation of assets.
The experiences of gullible investors in the dot-com tragicomedy doesn't mean all growth shares should be avoided, however. Companies such as eBay and Microsoft have always traded at growth ratings and have delivered the goods handsomely for investors and employees. So why does my portfolio lack any exciting, trailblazing, buccaneering companies with the potential to make me very rich indeed?
Because they are a beggar to put a value on, that's why. And if I can't put a value on a share, I can't decide if the odds are in my favour. With growth there is just so much that can go wrong. Growth shares are usually found in fledgling industries, the dynamics of which aren't yet understood by those attempting to analyse them. How easy will it be for a competitor to emerge and steal market share? Is the technology going to be popular? Could key staff just walk out and set up their own operation? And for all those years in the future we are discounting earnings for, will the consumer have the wherewithal to keep purchasing and what will interest rates and inflation have done to the present value of earnings?
Investors often fall into the trap of believing they have a 20:20 vision into a perfectly clear crystal ball. The dot-com analysts at the end of the 20th century didn't even realise just how rose-tinted their glasses were and refused to acknowledge how murky and flawed our vision of the future will always be. I'm not ruling out growth, this isn't going to be another of my dogmatic posts. With growth however, it is more vital than ever I can be sure I'm buying when the odds are in my favour as the parameters in the valuations aren't as clearly defined as tangible assets, dividend yields or recent earnings and are much, much hazier.
The Artful Dodger
These growth shares failed to deliver the porfolio growth hoped for and turned out to be more like the sort of growth men check for in the bath, the unhealthy sort that can lead to an amputation of assets.
The experiences of gullible investors in the dot-com tragicomedy doesn't mean all growth shares should be avoided, however. Companies such as eBay and Microsoft have always traded at growth ratings and have delivered the goods handsomely for investors and employees. So why does my portfolio lack any exciting, trailblazing, buccaneering companies with the potential to make me very rich indeed?
Because they are a beggar to put a value on, that's why. And if I can't put a value on a share, I can't decide if the odds are in my favour. With growth there is just so much that can go wrong. Growth shares are usually found in fledgling industries, the dynamics of which aren't yet understood by those attempting to analyse them. How easy will it be for a competitor to emerge and steal market share? Is the technology going to be popular? Could key staff just walk out and set up their own operation? And for all those years in the future we are discounting earnings for, will the consumer have the wherewithal to keep purchasing and what will interest rates and inflation have done to the present value of earnings?
Investors often fall into the trap of believing they have a 20:20 vision into a perfectly clear crystal ball. The dot-com analysts at the end of the 20th century didn't even realise just how rose-tinted their glasses were and refused to acknowledge how murky and flawed our vision of the future will always be. I'm not ruling out growth, this isn't going to be another of my dogmatic posts. With growth however, it is more vital than ever I can be sure I'm buying when the odds are in my favour as the parameters in the valuations aren't as clearly defined as tangible assets, dividend yields or recent earnings and are much, much hazier.
The Artful Dodger
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