Market Insights

Arrival Capital Spring 2021 Update -- Why Do Stocks Go Down?

My youngest son recently asked me a simple yet provocative question, "Why do stocks ever go down?" Now you could dismiss the question as a product of a period of stock market ebullience, when even a thirteen year old's small investment account seems to go up by the week and month if not every day. His real question is why would anyone ever accept less than the current price for a stock that you already owned. My first response was the usual jargon that supply and demand at any one time sets the price for a stock, like any other product in a freely functioning market. But that didn't really answer the question, why sell in the first place? The answer is surprisingly complex and also undergirds some of our own investment management philosophy at Arrival Capital. The first reason someone would sell a stock is that they need the money (cash) -- maybe to spend, or to invest in something else. OK, my son would ask, but why accept a lower price?

Well, perhaps there are in fact more sellers than buyers at that particular point in time. And, maybe the reason for this is a sudden piece of information that causes investors to decide at once that they better sell now before others do so they can get the cash they need. Then, maybe other shareholders, seeing the price of the stock decline, decide that they want to sell not because they need cash but because they just don't want to see further declines in their portfolio. Thus a sharp but short term price decline hits a stock. Often the stock decline is short-lived, but the key is to identify or at least form an opinion whether the precipitating event that causes the decline constitutes a serious threat to a company's fortunes or is a blip for an otherwise ascending company. If you can do this, the short-term market decline can serve as an opportunity to take a position in a terrific business, even a household name. For example, it would have been great to take a position in Apple (AAPL) when Steve Jobs came back in 1997. Or when it came out with the iPad or iPhone. But even if you missed those inflection points, market gyrations have given investors multiple times to take a position at 20, 30 or even 40% off near-term stock price highs, enhancing ongoing returns from holding shares in a great, enduring business. Arrival Capital's constant watch over market zigs and zags allows us to choose good entry points for investments in great companies as we setup and manage investment portfolios.

Arrival Capital's close, constant monitoring of markets, industries and stocks is not to do short-term trading, but we do try to buy the stocks of great or soon-to-be great again companies when the price of a stock has declined because more people are selling rather than buying at a point in time. Identifying great companies and emerging industries requires a different kind of analysis that is focussed not on reading markets but reading society as a whole, with its trends, needs, cultural forces and technological breakthroughs. This type of analysis is how you could have found emerging tech hardware and software companies, digital payment systems, retail and transportation logistics firms, just to name a few observations that have generated enormous wealth for investors over the recent past. In many cases, these investments were not ever cheap by standard value-investing methodology, but they did represent tremendous value given the worth of their technology, brands and network effects and/or early mover advantage.

Knowing enough about where the world is going (and accepting that you can never know everything) and where markets are represent two steps Arrival Capital uses to create an investment portfolio. The third step is knowing who the investor is. What are the person's time horizon, risk profile, cash needs and long term goals? Is someone fully invested or mostly in cash? At the current time of new market highs and a country seemingly flush with cash, it can be tempting for someone who is underinvested to continue to sit things out, waiting for a better entry point. Certainly stock markets do often correct, sometimes in panicked ways. Someone with lots of accumulated or new found cash may indeed be smart to slowly put investment money to work, to diversify by time. But investing in the sorts of companies that have transformed industries, economies and lives remains the aim of sound investment management. If you made 20 times your investment in Apple over the past two decades, do you really care now that at times your much smaller investment in the company declined by 10, 20 or even 30%. No, because that type of market timing is the ultimate pennywise, dollar foolish strategy. So watch, think, act and diversify. At Arrival Capital, we are happy to help and you can find more about our approach and background at http://arrivalcapital.com.
Happy Springtime!

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