Beware Overconfidence!

Yesterday the comments on my post about yield on cost really blew up on the Seeking Alpha version. I noticed a recurring theme in a few of the comments that has popped on past posts related to overconfidence and hindsight bias.

One commenter was particularly dismissive of getting caught in a stock that ends up going the way of Eastman Kodak noting that stocks give a couple of years of warning for investors to get out. Many stocks do indeed provide warnings and some others are indeed obvious.

It does not take a forensic accountant to realize that typewriter company Smith Corona was doomed when Hanson PLC spun it off more than 20 years ago and likewise digital photography seemed like a pretty easy to spot threat for Kodak but there are plenty that have not been obvious that caught very smart people unaware and this will happen again in the future.

Fair to say that the financial crisis caught some very well regarded investors off guard. Perhaps Bill Miller and Chris Davis simply had the tide go out on them or not but think about how many people said that housing can’t have a national decline, the yield curve inversion won’t matter this time (here I mean 2007) and so on. Think about the iconic names that are now gone or just a shell; Bank of America (BAC), WaMu, Wachovia. Bear Stearns, Lehman Brothers, Fannie Mae Freddy Mac. Freddie Mac had serious accounting issues raised in 2003 which was a legit warning but it was not heeded by many.

As we have covered here many times before, stock market history is full of companies that could never fail but did and the confidence of some anonymous commenters notwithstanding, thinking this is easy is very hubristic. 

Anyone, I mean anyone, can get caught on the wrong side of one of these. This is why we generally have 2 and 3% target weights for individual stocks–if we get caught in one it will not cause any client to have to rewrite their financial plan.

Here’s one that probably never gets talked about anymore; Boston Scientific (BSX). If you were involved with markets and individual stocks ten years ago you know how important the stock and its products were. I mention this because we used to own the name, we sold it in April 2005 at $28 and change. It is now below $6. You may or may not recall the buzz around this stock but the outcome up to now would have been unfathomable ten years ago.

I’m sure there are plenty of people who can hindsight bias their way around BSX and every other stock that has failed one way or another but this is a behavior that will do people in.

One personal note, it looks like launch date is still slated for July 11.

11 Comments

  1. Roger,
    thank you for this great post. Your site has provided me with lots of great info and wanted to thank you. Waiting for your etf in july.
    Jeff from nyc.

    Reply
  2. Roger, you make a pretty good case for passive investing.

    Reply
  3. Roger,
    Great post.
    I’d have to add, even when it’s a slow, grinding road down for a company, many stockholders find it difficult to admit the inevitability due to their belief in the efforts of the company to meet the threats they face.
    Kodak tried to meet the threat of digital with it’s own digital initiative. Those efforts were eventually failed efforts.
    Speaking from experience, the newspaper industry is trying to do the same with it’s own digital initiatives. Unfortunately, they are finding that their opportunities for monetizing the Internet aren’t anywhere as lucative as what they were used to in print.
    My (luckily small) investment in our company through an ESOP plan morphed into a tax deduction a few years ago.
    It’s easy for me to say Pitney Bowes is a poor investment, as technology changes the way we communicate and threatens PBI’s core business. I don’t own any of it’s stock. PBI stockholders tend to stay faithful, though, as they see the efforts of the company to change and remain viable.
    There are merits to stock ownership for a portion of your portfolio if one is inclined to perform the due diligence, but one also should recognize there are threats, including ownership bias. One way to address this ownership bias is, as you said, to limit the size of any single holding in your portfolio.
    And when you’re wrong, learn from your mistakes.
    KB

    Reply
  4. 8:39,

    It could also be an argument for using puts and calls to trade 10 dma/20dma crossovers.

    KB, newspapers are another great example

    Reply
  5. Another point to make, and this goes back to the original topic of the past few posts – yield on cost.
    Yield on cost, and it’s growth, is an interesting data point.
    However, current yield likely deserves more attention. There will be times when a company’s stock appreciates to the point where the current yield falls quite low and the risk of price depreciation is far greater than the opportunity for additional appreciation.
    Such an instance might lend itself to paying the capital gains and moving on to better investment opportunities both for income and price appreciation.
    And I don’t have dividends DRIPed into additional shares. I prefer to have the dividends paid in cash. Just because a company was attractively valued at purchase doesn’t mean it’s attractively valued when the dividend is paid.
    KB

    Reply
  6. I think underconfidence is the problem in today’s investing world.

    A bunch of speculators betting on the next tick in the market, where your odds a barely better than a coin flip, while the market as a whole sells at very attractive valuations.

    This is always how the early years of a bull market feels like.

    Reply
  7. Now, don’t let that etf go to your head; remember where you came from; dance with the one that brung ya to the dance.

    Hmmm, any other cliches…oh yeah, break a leg!

    p.s. go yard!

    Reply
  8. Living in the Boston area, another name from the past would have to be Digital Equipment, one of the street’s favorite tech stocks. They just weren’t high-tech enough, though.

    Reply
  9. didn’t Compaq (another name that was swallowed up) buy them?

    Reply
  10. Yes, Compaq did swallow up what was left of them in the late 1990’s. They had been downsizing throughout the 90’s just to stay afloat. The corporate culture did not lend itself to making the co. a viable enterprise going forward, what with all the in-fighting there. And this was a company that less than a decade earlier was giving IBM a run for its money as the number one computer company.

    If Compaq had not acquired what was left of the co., they would have been gone a few years later.

    Reply

Submit a Comment

Your email address will not be published.

WP-SpamFree by Pole Position Marketing

Beware Overconfidence!

Yesterday the comments on my post about yield on cost really blew up on the Seeking Alpha version. I noticed a recurring theme in a few of the comments that has popped on past posts related to overconfidence and hindsight bias.

One commenter was particularly dismissive of getting caught in a stock that ends up going the way of Eastman Kodak noting that stocks give a couple of years of warning for investors to get out. Many stocks do indeed provide warnings and some others are indeed obvious.

It does not take a forensic accountant to realize that typewriter company Smith Corona was doomed when Hanson PLC spun it off more than 20 years ago and likewise digital photography seemed like a pretty easy to spot threat for Kodak but there are plenty that have not been obvious that caught very smart people unaware and this will happen again in the future.

Fair to say that the financial crisis caught some very well regarded investors off guard. Perhaps Bill Miller and Chris Davis simply had the tide go out on them or not but think about how many people said that housing can’t have a national decline, the yield curve inversion won’t matter this time (here I mean 2007) and so on. Think about the iconic names that are now gone or just a shell; Bank of America (BAC), WaMu, Wachovia. Bear Stearns, Lehman Brothers, Fannie Mae Freddy Mac. Freddie Mac had serious accounting issues raised in 2003 which was a legit warning but it was not heeded by many.

As we have covered here many times before, stock market history is full of companies that could never fail but did and the confidence of some anonymous commenters notwithstanding, thinking this is easy is very hubristic. 

Anyone, I mean anyone, can get caught on the wrong side of one of these. This is why we generally have 2 and 3% target weights for individual stocks–if we get caught in one it will not cause any client to have to rewrite their financial plan.

Here’s one that probably never gets talked about anymore; Boston Scientific (BSX). If you were involved with markets and individual stocks ten years ago you know how important the stock and its products were. I mention this because we used to own the name, we sold it in April 2005 at $28 and change. It is now below $6. You may or may not recall the buzz around this stock but the outcome up to now would have been unfathomable ten years ago.

I’m sure there are plenty of people who can hindsight bias their way around BSX and every other stock that has failed one way or another but this is a behavior that will do people in.

One personal note, it looks like launch date is still slated for July 11.

Submit a Comment

Your email address will not be published.

WP-SpamFree by Pole Position Marketing