In
his book Moneyball: The Art of Winning an Unfair Game Michael Lewis told the story of Oakland Athletics’
baseball manager Billy Bean’s success in taking one of the poorest teams in major
league baseball to the top against teams with two and three times their salary
budget. Billy came to believe that on-base percentage
and slugging
percentage were better indicators of offensive success than industry-standard
qualities such as speed and contact with the ball. In other words, simply
getting on base more often, no matter how you do it, is more important than stealing
bases, batting runs in, or batting average.
But
the concept of ‘slugging' it out being superior to ‘speed’ is certainly not new
with Billy Bean or Major League Baseball. Back in 560 BC or so a fellow named
Aesop depicted the theory in his fable The Tortoise and the Hare. You know the
story; the arrogant hare, after ridiculing the slugging tortoise, takes his
challenge to a race. After quickly leaving the tortoise in the dust, the over-confident
hare tires and decides to take a nap only to find later that he has been passed
by the steadily plodding tortoise.
But
who would bet on a tortoise in a race against a hare, except maybe Aesop or the
tortoise? It just doesn’t make any sense. We seem to be naturally drawn to the
speed of the hare, the daring of base stealers, and the power of the big home-run
hitters. In the same way, in our investing, we are attracted to the hottest
mutual funds and stocks. They are so much more appealing than plodding, boring index funds.
So let's have a little race ourselves. If
you could go back to 2000 and pick just one stock, knowing what you know right
now (without further study), which one would it be? I’m guessing Apple would be
top-of-mind for many. Since the beginning of 2000 Apple has generated a
cumulative return of 2,232% or 29.3% annually. A sum of $100,000 invested in
Apple on the last day of 1999 would be worth $2.3 million today.
Now
let’s make this race really interesting. What if you were 65, ready to retire,
and that you could choose to retire here and now, with no knowledge of the future, or you could go
back to January of 2000, with perfect knowledge of how two investment choices
would perform? You have $1 million and want to spend at least $80,000 of it annually. Your choice
consists of keeping your dull index portfolio consisting of 60% stocks and 40%
bonds and cash or Apple. As with Apple’s return of 29.3% you learn that your
portfolio will return 4.9% annually for the next 12 years. Which one will you
choose?
If
you succumbed to temptation and picked the Apple, I’ve got some bad news for
you: in mid-July of 2007 you would receive a phone call from your advisor informing
you that your account was fully depleted. You just got kicked out of paradise.
Alternatively,
if you opted for the ‘tortoise' portfolio, of 60% stock and 40%
bonds, you would have plodded comfortably along, through 2007, 2008, 2009, 2010,
2011, and 2012. As of March 31st of this year, you would still have $197,308.
Data Source: Morningstar
As you look at the data above, the first thing that might surprise you is just how badly Apple got hit in 2000. Just a moment ago, when you were making your selection, you likely remembered 2000 was a tough time for tech stocks, but that stellar12-year return you heard about, likely helped persuade you to set 2000 aside as an ugly and horrible outlier. But as you look at the numbers more closely, see what a cost to lifestyle that ‘ugly outlier’ inflicted. Your portfolio fell from $1,000,000 in 2000 to $266,430 in just a year.
Back to our metaphor; what a costly nap that was for our hare! But
maybe all would not be lost though. The following year’s 64% sprint might just get him
back in the race, but alas, another rest stop for 31.2% would be required. From
there, the race was over. Our hare ugh, Apple would never catch up, even with blistering
hops of 45%, 183%, 157%, and 25% in the years that followed.
The
birds-eye view shows that the race was never really close.
If
you are the New York Yankees with $125 million to throw away every year, then
you can afford some flashy rabbits. But if you more closely identify with the
Oakland A’s on one third that budget, perhaps some steady slugging is the wiser
course.
The
wisdom of Aesop’s Tortoise and Hare has been around for some 2,500 years to guide
the investment practices of those who heeded. But wise investment counsel actually
dates considerably further back. Speaking for God back in 920 BC, King Soloman
wrote “The plans of the diligent lead to profit as surely as haste leads to
poverty.” Proverbs 21:5.
Have
a great weekend.
