Apollo 11 Investment Lessons - Weekly Blog # 586

Mike Lipper’s Monday Morning Musings

Apollo 11 Investment Lessons

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –

The incredible historic success of landing two men on the surface of the moon is being celebrated around the world. This coming Friday it will be celebrated at the Jet Propulsion Laboratory (JPL), which is very appropriate. As readers of this weekly blog appreciate, I often see investment implications from many different events and sightings. The investment lessons I perceive from the Apollo landing include:

Historic unspectacular beginnings
Learning from addressing other needs
Inexpensive early development
Appropriate skepticism
Passing on to others
Always looking for next steps
Exercising Leadership in big and small ways

Record high US stock market indices are like a successful rocket launch. In much the same way it’s very interesting that in the same decade Theodore van Karman joined the Guggenheim Aeronautical Laboratory at Caltech, Ben Graham and David Dodd were teaching security analysis at Columbia University. At Caltech, von Karman and his students experimented with rockets and in 1936 he founded Aerojet, followed by the founding of JPL in 1944. (By coincidence, in the 1950s I studied under Professor Dodd at Columbia and was one of the few analysts to follow Aerojet in the 1960s. In the 1990s I became a Trustee of Caltech, the manager of JPL for NASA.)

Historic Beginnings and Inexpensive Development
Professor von Karman’s work at Caltech and JPL led to two of the critical forerunners of Apollo, the Ranger and Voyager unmanned probes of the moon and solar system. Before sending a man to the moon there were two schools of thought.

1. An east-coast oriented solution using the power of solid rockets. This approach was based on using a team of German scientists transplanted to Alabama. 
2. Accomplish much the same scientific goals with unmanned, cheaper successors to the van Karman rockets patented in the 1930s. 

For media and political reasons, the more expensive solution was chosen. JPL probes however, were critical to the analysis that it was safe for humans to walk on the moon in space suits. The investment lesson from the above is that marketing needs often dictate major decision making. (One might question whether the current discussion on the appropriate role of the so-called independent Federal Reserve is similar, as it may be a jobs/votes decision rather than a safety and soundness choice.)

Appropriate Skepticism
 As our readers know, I have been skeptical of the recent performance of the three major US stock market indices, although my skepticism is not based on financial or economic fundamentals. My concern is that while most investors are in effect on the sidelines, the dominant traders are being driven by sentiment. Looking at the underlying market data there are a few items to consider:

1. The NASDAQ Composite has been the best performing of the three stock indices in 2019. Recently however, the ratio of new lows as a percent of total issues traded is meaningfully higher for the NASDAQ (6.84%) than the NYSE (4.67%)
2. In the latest week the S&P 500 fell -1.23%, which was more than the Dow Jones Industrial Average -0.65% and the NASDAQ's -1.18%. I suspect the differences are not primarily due to the components of the indices but to the nature of the owners that are selling. Institutions are significantly bigger owners of the S&P stocks and their need for daily liquidity looks to be higher, suggesting they see a need to lighten up on their equity commitments.
3. Of the 72 weekly prices tracked by Dow Jones, only 27 rose, or 38%. Not a harbinger of good future earnings.
4. The yields on different annual maturities of US Treasuries are not tied as much as to yield optimization strategies as they are to the needs of owners who must fill holes in their payment schedule. With rates so low and probably going lower, maturity/duration may become more important than yield, making Fed/Treasury management of the bond market more difficult.
5. It is popular to assume that net flows into mutual funds and other collectives are exclusively a function of performance or investment category selection. This does not appear to be the case in each and every portfolio and shows that some investors or their advisors are looking more deeply than just performance or labels. Nevertheless, the bulk of flows seem to be short-sighted or actuarially based. The real issue is the relative profitability of fund products for distributors. The distributors want to shorten the longevity of the holding period to fund new investments. (As this is a contentious view, I would be happy to discuss privately in terms of specific holdings.)

The French Come to the Rescue Long-Term
Considering MIFID II, there appears to be a trend to reduce the level of brokerage commissions going to firms for their research. While this is legally directed at institutions within the EU, regardless where they are transacting, some US institutions have also adopted these rules globally e.g. T Rowe Price. With a shrinking market for research providers, many are either currently losing money or expect to if they remain independent. Rothschild & Co just announced the acquisition of Redburn and they earlier took a position in Kepler Cheuvreux, historically a top research firm. Another French affiliated firm, AllianceBernstein, is reported to have purchased Autonomous for over $100 million.

A cynical view of brokerage firms and to some degree investment managers is summed up in the title of a book “Where are the Customers Yachts?”. When an investment manager buys a research provider they are betting that research is of value and will become more valuable when prices rise.

A third input long-term is the French President’s attempt to lengthen the period to retirement by two years to age 64. As many of you know, one of the reasons we invest in fund management companies around the world is that eventually either governments or the private side of the economy will address the growing global retirement capital deficit. In the US we are starting to see articles suggesting our social security system will begin to further ration Social Security payments in about 2034. (My own view is that with the increase in longevity we should have a minimum retirement age of 72. I agree with my long-term friend and fellow former board member of the New York Society of Security Analysts that one should never retire. That is my plan.)

Conclusion
Just as fifty years ago when Apollo 11 marked the beginnings of our exploration of manned space, the stock market will also soar to meet the needs of investors, particularly those for retirement capital management. It won’t be a smooth ride, but it will be easier with elements of good leadership.   



   
Did you miss my past few blogs? Click one of the links below to read.
https://mikelipper.blogspot.com/2019/07/us-stock-markets-new-highs-misleading.html

https://mikelipper.blogspot.com/2019/07/twin-problems-not-enough-greed-and-too.html

https://mikelipper.blogspot.com/2019/06/reduce-investment-mistakes-with-deeper.html




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The Fallacy of Investment Certainties

Premise

In the worlds of politics, economics, and investing there are no real certainties. By definition a certainty is guaranteed to happen. The guaranty makes it inevitable now and in the various, undefined, futures. We are not equipped to define all the possible futures. Events as presented, particularly unpredicted events, shape reactions often differently than expected.

Introduction

I am incredibly lucky as to the people and situations that I have been exposed to over many years. Perhaps, the other side of that lucky coin is rarely can I be exposed to someone or an event that my mind does not search for an investment meaning. My two great educational experiences, the US Marine Corps and the racetrack have shaped a good bit of my thoughts. The Marines have taught me how very ordinary men and women can do extraordinary things with the proper leadership and training. Further, the USMC taught me that the single best defense is an offense, which tends to drive my impatience into action. The racetrack where I really learned the process of analyzing people and events introduced the concept of the odds of comparing potential payoffs versus a range of probabilities. Out of these analytical exposures I became aware of weighting my bets and the elements of diversification.

I am reaching my investment conclusions by analyzing this week's inputs and my investment reactions.

This Week's Inputs

Discussions with fellow Caltech board members, faculty, and senior staff separately focused on how unnerved they were about the future for its lack of certainty in terms the impacts of changes in political and government grants. My reaction was first “Do not confuse votes in favor of a candidate with votes against another one or policy.” On both sides of the Atlantic and the English Channel people were fundamentally voting against the past. These wise people in Pasadena were very much worried as to what the future would bring to Caltech and to the Jet Propulsion Laboratory that it manages. Caltech staff also had many personal concerns. 

While they were worried, I could empathize with them; however I was not sympathetic. I have always grown up in an uncertain world - if you really looked at it carefully. To me it always comes down to understanding the odds on various future results with a keen awareness that events often override plans. When I mention odds I am not looking for mathematical precision but views arrayed in probabilities which at best could be divided into quintiles. Further, I am totally convinced that if some very unfortunate low probabilities occur that the secondary reaction of all these bright people would change some of the negative impact. Further, to some degree for those who choose to survive there is always a Second Act or next race.

I already mentioned how lucky I am by being exposed to a large number of people, many of whom are bright and accomplished if not both. This week a respected good friend sent to me a very small book entitled "The Usefulness of Useless Knowledge" by Abraham Flexner with a companion essay by Robbert Dijkgraaf. Flexner was the founding director of the Institute for Advanced Study at Princeton and Dijkgraaf is its current director. Flexner’s essay was first published in Harper’s in 1939 . In a period of increased applied research, the book is a plea for basic research. I thought the essay was particularly telling and could provide some comfort for my friends at Caltech. Some of the highlights from the book are as follows:

• 30% of US GNP is based on inventions

•  More than half of all economic growth comes from innovation. Einstein said "Imagination is more important than knowledge, but added, "Knowledge is limited and imagination is not."

• Richard Feynman said "Scientific creativity is imagination in a straitjacket."

(Both Einstein and Feynman did some of their best work at Caltech.)

Inputs from Other Reading During the Week

New products, processes, and systems create new solutions to old and new problems and thus create new and different jobs.

There is a new way to measure the industrial growth in China by measuring the night time lights. (This is interesting in that this can be a commercial venture because of the suspicion as to the quality of the government released data. Of course that wouldn't be an issue here in the US! Also this is not dissimilar to the old analyst's technique of measuring a business by counting cars in a movie studio or industrial plant.)

Europeans seem to be more savings-oriented including their use of Money Market funds whereas in the US there is a more investment orientation including the use of Inflation Protected Securities funds (TIPS). Few seem not to share my long-term concern that materially higher inflation will be a concern.

Moody's* view is that credit conditions will improve due to M&A activity. (This is the reverse of historic experience, as M&A activity led to over-leveraged balance sheets which led to some bankruptcies.)

^*Held in the private financial services fund I manage

Daily stock price gaps are most often filled before prices move very far. For the first time in my limited memory in all three US stock price indices (DJIA, S&P500 and NASDAQ) there are recent two price gaps in each.

My Investment Reactions

First the beauty of the TIMESPAN L Portfolio^® approach is that it helps to separate one's thoughts about current actions by likely impacts in future timespans.

1.  Our overweight in the Legacy Portfolio (our longest term portfolio) in disruptive growth remains in place. However, growth is not exclusively technology-oriented. Demographic and political changes can be equally disruptive opportunities globally.

2.  Endowment Portfolios need to be keenly aware of any changes to the range of spending needs and have enough portfolio flexibility to accommodate possible radical changes and opportunities. 

3.  Replenishment Portfolios need to watch likely swings from excessive enthusiasm and fears as we negotiate the next markets on the way to a recession. 

4.  Operational Portfolios should be concerned with interest rate reversal patterns to ensure that it can fund short-term expenditure plans.

Bottom line: as long as there is little enthusiasm, the odds seem to me to range relatively small on the downside (less than 25% ) and materially higher blow-off of 100% or higher.

Questions to Ponder: What are the likely ranges for your portfolios for the next five and fifteen years? 

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