Profit Growth: The High Price of High Expectations

• Bloomberg published an article citing academic research noting firms with high expected profit growth tend to underperform
• Longtime readers of ours flagged us as we wrote extensively about this issue and how to exploit it in our 2012 paper The Siren Song of Growth
• The chart below shows the returns to firms with the highest expectations have only been better at the peak of the internet bubble

Market Share Madness: The “Winner Take All” Problem

The chart above shows that the only comparable performance to today was the dot com bubble when internet companies and tech stocks went ballistic. Back then the theory was that, despite minimal total sales, these new companies would experience a massive increase in market share. The market decided then, as it is today, that the actual business model mattered much less than the perception these stocks would become market leaders.

Unfortunately, as we have documented ad infinitum, these types of promises were almost never fulfilled in the decades following the peak on March 10, 2000. Worse, even when these new tech companies actually did reinvent an industry, they still suffered badly as their valuation bubbles burst.

People often look at the products or services these companies are in, like cleantech shares, ignore the total lack of profit margins, size up the total market they are potentially disrupting, and then promptly price the stocks like they had already become winners. This type of thinking has been causing market bubbles since the times of ancient Venice.

You can read about that in our quick summary of what we learned from Galbraith’s legendary book on market manias. We are not here to suggest that it is NOT important to calculate market share and make estimates about the future. What we are saying, however, is that if the share price you pay already assumes the firm has won, how will you profit?

Many stocks, Snowflake being an incredible example, trade at market valuations that are equivalent to the entire addressable market they are in! So, if they are already valued like they own an entire market, what happens if there are bumps along the time period to this presumed success? History tells us these inevitable disappointments lead to disaster.

Please reach out if you would like to understand how low-interest rates, aggressive venture capitalists, and a speculative mania are creating easily avoided risks. We believe that for long-term investors there are tremendous opportunities in blue-chip companies today. KCR’s work is for serious investors. Speculators will find our word tedious as we offer no short-cuts or get-rich-quick narratives.

Thank you in advance for any and all interest!