If the only thing that is constant is change, then why is change changing?
While the annoying receipt of ninety-seven cents in loose change is becoming increasingly rare, this is not the change we’re talking about. The rise in alternative forms of payment such as PayPal, Bitcoin, Square and Google Wallet may be making change in the form of nickels and dimes obsolete, but the real change they represent is pervasive and occurring at an accelerating pace. Calendar years are turning into “dog” years. This paradigm shift has immense investment implications.
In the old days, people could invest relatively small amounts in blue-chip stocks, put the stock certificate under a mattress or in a safe deposit box, and become wealthy. A $1,000 investment in Walmart forty years ago would be worth over $6 million today. There are many cautionary tales why this is not a foolproof, or even wise, investment strategy. A similarly gilt-edged blue-chip, General Motors, would have increased nicely over decades before collapsing to zero in bankruptcy in 2009.
The unassailability of a blue chip company — by definition, well established, financially sound, in operation for many years, with a large market capitalization and a market leader in its sector — is no longer impregnable.
The disruption in this historic landscape can be seen, by proxy, in the ten-year exit rate from the components of the Dow Jones Industrial Average. The pace of turnover is accelerating. In the past ten years (ending 12/31/13), the turnover is higher than any period in the prior seventy years.
This trend is likely to continue and will not be limited to the Dow. One forecast projects that 75% of the current companies in the S&P will exit the Index by 2027.
Why the accelerated pace? In part, it has to do with changing global circumstances. Information, events and distress move much more quickly around the globe then they did even a decade ago. Good news and bad news travel faster and farther.
Woven into virtually all investment themes today is accelerating innovation leading to accelerating investment returns. The impact of disruptive new technologies is broader, deeper and faster – in many cases, faster than markets can anticipate. New technologies and innovations could potentially upend numerous sectors of the global economy, creating huge new winners and losers in the process. And, in times of crisis, the velocity of market dysfunction is also faster, its contagion more widespread and the damage more devastating – creative destruction on steroids.
Conceptually, corporate value creation has two interrelated components: 1) the duration that a company can maintain its competitive advantage to generate profits, and 2) the magnitude of economic profit it accrues over that time frame.
In today’s hyper-competitive world, the duration of a competitive advantage is compressing while the size of the profit opportunity is expanding.
In the past, it usually took decades for new businesses to scale revenue, cross sectors and span geographies. Today, product concepts become prototypes and then come to market at warp speed, accessing over a billion potential customers across multiple platforms almost instantaneously and more cost efficiently than ever before. And often the amount of start-up capital required can be raised off a handful of credit cards.
This compressed time to grow is inversely reflected in higher valuations.
These trends have important investment implications. We believe portfolio management success and the likelihood of exceptional portfolio performance is enhanced by incorporating the new investment paradigm into our core investment processes. To do this, we:
- Build portfolios around secular and macroeconomic themes that will benefit from disruptive thematic tailwinds
- Recognize that disruptive innovations will create both beneficiaries and casualties and occasionally the beneficiary will be the end consumer and not the disruptor
- Reevaluate the competitive positioning of our investments frequently
- Maintain a boutique practice with thematically focused research allowing us to take positions in smaller companies poised to disrupt the status quo
- Invest in liquid, marketable securities to optimize entry and exit positions.
Amy P. Raskin
Chief Investment Officer
Chevy Chase Trust