Principle #2: Think long-term
“Volatility is the price of admission. The prize inside are superior long-term returns. You have to pay the price to get the returns.” - Morgan Housel, Author of “The Psychology of Money"
For most people, the pain of loss is greater than the joy of gain. This is one reason why investing is so intimidating. The market, and more so individual stocks, can vary wildly in price (volatility), potentially showing significant unrealized losses over a short period. As a result, the majority of capital invested in the stock market is from investment funds designed to produce steady gains while minimizing this volatility (no one wants to explain to their investors why their portfolios are down 50% this quarter). To prevent investors from leaving their funds, these managers must focus intently on current events and quarterly guidance to avoid potential short-term shocks to their portfolios. This behavior creates an excellent opportunity for those willing to be contrarian… while the bulk of the investment world is concerned about the short term, quarter by quarter, we take the opposing position and focus on the long term, year by year.
Another way to think about it is we focus on events that impact the business, while Wall Street focuses on events that impact the price. For example, a company tells you one of their suppliers went out of business, and their ability to manufacture products will be cut in half for at least a year. As a result, Wall Street rushes to sell the stock and wait out the misfortune, knowing the price will likely fall in the coming year. This way, their track record remains unblemished, and they won’t have to explain to investors why they held such a “poor performing” stock. Principled Capital, on the other hand, asks, “How will the business be impacted once a new supplier is found?” If, after some due diligence, we conclude revenue has a good chance of returning to normal when the new supplier comes online, we look to buy shares in the company all year as the price is moving lower. Once the revenue returns two years later, Wall Street pours capital back into the company, and the price makes an outsized move upward, where we then evaluate whether we should sell or, if it is an exceptional company, continue to hold.
You might compare this to driving down an interstate and looking at the road just 1 foot in front of your car versus looking at the road farther out on the horizon. When looking at the road nearest you, you are easily distracted by every little bump, rock, or puddle and make many micro steering adjustments to ensure a smooth ride for your passengers (investors). However, you do this at the risk of missing that shortcut sign or, worse, the cliff edge looming in the distance! For our passengers, the ride may not be as smooth, but by having our eyes on the horizon, we are more likely to reach our final destination safely and efficiently. If you have ever experimented driving this way, you will find looking in the distance is much more effective, not to mention less stressful.