The Anxiety Opportunity from FOMO Sufferers

Profiting from Human Behavior has Rarely been as Obvious or Difficult as Today

FOMO includes both the perception of missing out, which triggers anxiety, and compulsive behaviors … it is closely related to the fear of social exclusion or ostracism, which existed long before social media.

-Natalie Christine Dattilo, Ph.D, Harvard Medical School, 2023[i]

Recall that the second line of defense of the efficient markets theory is that the irrational investors, while they may exist, trade randomly, and hence their trades cancel each other out. … The psychological evidence shows precisely that people do not deviate from rationality randomly, but rather most deviate the same way. … many of them would try to buy the same securities or to sell the same securities at roughly the same time. This problem only becomes more severe when [these] traders behave socially and follow each other’s mistakes by…imitating their neighbors. Investor sentiment reflects the common judgement errors made by a substantial number of investors, rather than uncorrelated random mistakes.

-Andrei Shleifer, Inefficient Markets, 2000

Suffering from FOMO is anything but new for KCR and others who hew to the empirical evidence that markets are anything but efficient. Our personal experiences between 2018 – 2020 became a real-life gut check in our ability to weather painful social exclusion. As speculatively priced shares marched relentlessly higher, our refusal to buckle and buy the novel and new left us on an ever-lonelier path.

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Today’s exercise will focus on our Large Cap Model Portfolio. The chart below shows the rolling 12-month excess returns of our Large Cap Model portfolio over history.

By July 2020, the portfolio had risen 2% while the benchmark Russell 1000 Index had risen 22%, leaving us behind by 20%. Both the length and magnitude of the drawdown were without precedent. KCR has chosen to highlight this model as it suffered as long and deep of a drawdown as any of our other core products.

The wave crested in 2021 as low-quality junk began to implode. 2022 yielded more fruit as equity duration, sitting at dot.com highs, began to contract. From the model’s nadir on July 31^st, 2020 through December 31, 2022, our Large Cap Model Portfolio rose 60%, trouncing the Russell 1000 Index, which only rose 20%.

Yet 2023 has brought the effects of FOMO back with a furious vengeance. Once again, investors have switched from worrying about avoiding losses to worrying about missing out on the new and novel thing: AI. Our pieces How to Value Tech Companies Everyone Loves, External Obsolescence, and AI, Oil and Gas: Misadventures in Capital Allocation reviewed the groupthink and herding that has gripped investors.

Everyone seems to agree that Artificial Intelligence will change the world much like the internet – only in a possibly faster and less predictable fashion. So what have they done?

They have crowded into the largest tech stocks in the market. Many of these firms, like the Nifty Fifty, are very high-quality companies. And this paper is not out to contest those views. In fact, our ranking methodologies agree strongly that many of these are blue-chip companies, ranking several quite highly.

But that is not an excuse for leaving common sense at the door. The simple arithmetic means it is very difficult for a multi-trillion dollar company to compound at any meaningful rate over a long period of time without quickly becoming larger than the economy. The chart below shows the following:

• Light Blue Top Line: the weight of the 30 largest stocks in the Russell 1000 Index
• Navy Blue Bottom Line: the weight of the R1000’s 30 largest stocks in KCR’s Large Cap Model Portfolio