Reflections on Noise
As the titles suggests
Today I wanted to write something slightly different to my usual variety of content.
I want to talk about noise.
I have long stated that my favourite quote is Graham’s long-term weighing machine and short-term voting machine line.
I actually like this quote because it works on so many levels.
At its core, it relates to the fact that markets tend to price assets closer to their intrinsic value over a long period of time. Whilst, in the short-term, they are priced based on whatever narrative is ruling the financial headlines at that time.
It also says to me, that in the short term, noise is noise.
There is, obviously, a healthy dollop of context that needs to be applied. Sometimes, we can see narratives breaking down in, what seems like, real-time. This could take place over a month, or even a few days in some cases.
How I like to read the quote, is by acknowledging that noise is everpresent in the marketplace. It does not vanish simply by holding a company for ten years. It will be present again, and again, and again. The noise only tends to become weaker when observed in hindsight, as narratives are born and old ones fade in a continuous, repetitive, fashion. In reality, the noise is there throughout the holding period.
So. I prefer to read this quote as one that acknowledges this fact. Think about a successful company, like Facebook.
After their initial public offering in 2012, the share price sunk ~53%. Later that year, they hit 1 billion users, but there were fears that the world is only so big, and their reach was becoming saturated. There were also concerns over their $1 billion purchase of Instagram, and whether or not that was a mistake.
The Cambridge Analytica scandal plagued the company for a number of years, resulting in various fines. From July 2018 to January 2019, the share price fell ~40% from its prior highs. In 2020, there was a reasonable number of companies engaging in an ad boycott for Facebook. Two quarters later, those advertisers were back. Granted this is a cherry-picked case, and I have only used a few examples, but Facebook has done incredibly well, in hindsight, growing from a ~$80 billion business to a ~$900 billion business today after just 9 years.
My point being, if you read the headlines, then there will always be a reason not to invest in something. Even after a decision to take a stake in a company, there will always be a reason to sell. It’s almost as if headlines and media cycles are designed to capture the attention of the reader. Conviction is born from understanding what you own. An investor’s reaction to an earnings report, an acquisition, or some other event, should first come from their own independent thought.
“When it comes to investing, doing less often provides better results. Let the operators that are stewards of your capital "do more". Sit back & trust them to execute over time. Ignore the spectators on the sidelines that critique their every move.” - Joe Frankenfield, Saga Partners
Before we actually break bread on today’s topic, I wanted to talk about Greek Mythology for a second.
The Sirens of The Sea
For those of you who are not familiar with the story of Odysseus and the Sirens of the sea, let me provide a quick re-cap. Odysseus, Greek King of Ithaca, was the man who devised the plan for the Trojan Horse, which was used to penetrate the barriers of the city of Troy. Himself, as well as a small fleet of Greek soldiers, hid inside the horse, given to the Trojans as a gift, in order to attack under the cover of nightfall.
I am sure many of you have heard this story.
After the Greeks had won the war, Odysseus set out to return home, to the Greek island of Ithaca. This journey took 10 years and was documented in Homer’s ‘The Odyssey’. On this journey, it was said that Odysseus faced many challenges, including a fruitful affair with a group of Sires. These creatures, half-woman and half-bird, would lure sailors through their instruments and vocals, towards the island that they dwelled upon. In a trance, these sailors would not realise that the island was surrounded by rocky coastlines and eventually meet their fate once their ships crashed, and the crew was left stranded in the sea.
At the advice of Circe, sorceress daughter of the Sun God Helios, Odysseus ordered his men to fill their ears with wax so that they would be deaf to the Siren’s cries. Known for his intellectual curiosity and cunning, Odysseus wanted to hear the Siren’s songs. Thus, he attached himself to the mast of the ship, without wax in his ears, so that he could avoid himself navigating the ship towards the sirens.
Odysseus’s curiosity meant that he was willing to pay a price to hear the siren songs.
Their songs promised the gift of wisdom and knowledge of the future.
It was said that should a ship pass the sirens without being lured into their trance, that the sirens would die. Odysseus and his men were able to achieve this feat and passed the sirens unharmed. Despite being fictitious, the tales of Greek mythology conjure up an array of important lessons that are still applicable today.
The Sirens of the Stock Market
Morgan Housel, the author of “the psychology of money” wrote an interesting piece last week discussing the importance of playing your own game in the stock market. He centred this piece around the idea that when people use blanket statements, like the term “investors”, it can create this illusion that we are all playing the same game on the same playing field.
“It’s so easy to lump everyone into a category called “investors” and view them as playing on the same field called “markets”.
But people play wildly different games.
If you view investing as a single game, then you think every deviation from that game’s rules, strategies, or skills is wrong” - Morgan Housel
Stock market commentary exists across many mediums. Linear TV, YouTube, Twitter, Tik Tok, Instagram, Facebook, Snapchat, Blog posts, Substacks, newsletters, you name it. I think because it is the social medium I personally use the most, I will lay down an example from Twitter, which has a thriving ‘Fintwit’ scene. Now let us imagine a stock falls 10% in the space of one day. The discussion would include a broad base of commentators, opining about their take on the price movement. Some of these commentators might have exposure to the company in question, and some won’t. Some might be a retail investor with $500 in stock, others might be an anonymous PM with a $500,000 short position. Some may have a long-term time horizon, and others might be looking to find some alpha in the short term before moving on.
Some are managing their own money, some are managing other people’s money. Some have no mandate other than to own businesses they understand and capture market share, others might have contingencies that ensure they must minimise the downside, hedge, look for uncorrelated returns, reduce the standard deviation of their portfolio, or beat a benchmark.
Some are just media presenters looking to convert clicks and have no material understanding of the business but will opine nonetheless. To save me outlining further disparities in incentives, I will just say that the spectrum of experience, incentive, time horizon, exposure, outlook, and process is wildly different from one person to the next. So would it not be reasonable to see how absurd it is for a retail investor to be overly concerned with a seasoned HF manager that is on the opposite side of the trade? Or it might be a seasoned retail investor, with a long-term focus, arguing with a PM who has the mandate to meet whatever target it may be.
This happens on Twitter every day.
Here, you will see long-term orientated investors arguing with short-term technical trades about the price movement of a stock. For one, traders are largely focused on short-term price movements. So, to them, the long-term orientated investor is a siren. To the long-term investor, who cares more about the weighing machine, the technical trader is a siren. This is two investors, playing on a different playing field, under the assumptions of a different game. One is asking how they can score a touchdown, and the other is telling them how to score a home run.
Both can win, at their respective games.
However, even investors are guilty of assuming everyone is playing on the same field. Let’s lump everyone who cooks into a category called “cooking” for a moment. What might look like a wholesome and delicious plate of fish and chips to a family dining at a local restaurant, would likely look like a mess to a Michelin star chef. Both are chefs, and both are in the business of cooking meals to satisfy hungry guests. They are playing different games, however.
There is no winner or superior way of cooking.
The entire premise of Michelin star cuisine is the quality of the sourced ingredients, textures, flavours, the environment of the restaurant, the attention to detail from waiting staff, and so on. The experience is certainly more technical, but it doesn’t make it better. I have eaten at a few Michelin restaurants, and whilst they are exciting, it could never substitute the joys of home cooking for me. They are both great ways to experience food. The point being, most cooks will never attain Michelin status, so why should they be concerned about the opinions of those who do?
Why should I care if Marco Pierre White finds my portion sizing offensive?
Over the last 5 years, Facebook’s common stock has advanced ~166%. Over that same period, there have been two periods where the stock fell more than 30% and a number of times where it has fallen 10% in a short period of time.
There is a return to be made on both the long and short side. If you are someone who utilises both sides, then that’s great. If you are someone who is long-only but is swayed by someone who is not, then you should consider that the playing field, for one, is not the same. One is looking at A and B outcomes, whilst the other is looking at A with no intention of playing the B game. This does not mean you should ignore the views of others, and only focus on those playing the exact same game as you. Rather, you should appreciate that what they are saying, is relative to their process, and not yours.
If you are comfortable with your own process and are sure it’s the one you wish to adopt, then you should be comfortable with your own assumptions for the game you opted to play.
The fact is that 99% of Twitter is noise.
Twitter is a supreme source of idea generation, and for establishing connections, but a great deal of the conjecture portrayed on Twitter is not necessary to one’s own process. The primary reaction to some event should come from yourself first, and then later can be tested, questioned, or shared, in an attempt to learn. If your first reaction is guided by others, then there is a lack of independent thought, and neglecting your independent thoughts could prove costly.
I find it best, that when some event occurs, I take the time to read the filing in isolation, without outside consultation. A simple process, but it allows you to form your own ideas, based on your own thought process. Should you wish to then share that view, publicly, to test your idea, then that would be fine. But I think it is important to ensure that your initial reaction is your own, and not someone else’s. Humans are susceptible to subconscious biases, and when we are listening to the opinions of others on a daily basis, it can be difficult to discern which ideas were born from within ourselves, or taken from others. Borrowing ideas is not a bad thing, but when it comes to reflection time, it would be helpful to know where the idea came from originally.
There is limited time to observe information, as well as a lofty opportunity cost consideration for the time spent analysing a company that bears no fruit. Yes, you will take something away from the process of investigation, which is great, but you get my point.
So, when Twitter’s timeline appears to be an endless stream of stock commentary it can cloud your judgement and clarity. So be wary of that. Someone sharing an investor slide presentation and quoting management’s remarks, verbatim, is useful for sourcing new ideas but is not substantial enough insight to warrant the additional mental capacity it takes to absorb that information.
Let’s say it’s a company you follow but are yet to read the filing for yourself. You stumble across someone who is bullish who shares the slides with their take. Whilst useful, it would be more beneficial to first read them yourself and confirm if your opinion’s match. At other times, people will share the slides with no context, and announce that they own shares. For all intents and purposes, that is useless. Now image that but for 30 companies each day. This creates an illusion that you are missing out on an array of attractive companies that your peers own.
The paradox of choice is a real mental burden.
By increasing your perceived number of ‘choices’ in this way, you are potentially muddying the waters. One only has so much time. I find the best way to source ideas is to acquire a beneficial network of like-minded (and contrary) investors whose opinions you trust and value. Engaging in a one-hour discussion with one trusted acquaintance, about one or two companies, can be more valuable than scrolling your timeline for 20 hours and hearing opinions on 50 companies. I think that’s the point I am trying to make here. Understanding your baseline is important.
For me, I write an investment policy statement each year, to steer me back in the right direction whenever the siren’s calls become too loud. I want to acquire businesses that I could explain, in a manner where she should ‘understand what they do’, to my grandmother. That being said, I am not obtuse to the fact I am inexperienced. At 25 years of age, and after only being exposed to this world for ~7 years, I have a lot to learn. Thus, I enjoy picking the brains of investors, of all varieties, who are more experienced than I.
But for my experience, my skillset, and my resources, my process works for me, at this stage in my life. I don’t yet have the desire, and in some cases, the ability or skillset, to migrate from my chosen strategy.
I sometimes ponder the impacts of my own exposure to noise. Let's take the last two full years as an example because in 2019 I had no exposure to the outside world. Prior to, and including, 2019 my process was largely shut off from the outside world. I would mostly read earnings calls, and filings, and write my notes, much like I do now.
Then, in February 2020, I made a Twitter account, and benefitted from the plethora of experienced investors out there, and have made some great friends along the way. However, I am now more exposed to noise than I ever have been.In 2019, I earned 41.95% in returns, with a Sharpe Ratio of 2.00 after having closed just two positions for the entire year.
In 2020, I earned 34.22%, with a Sharpe Ratio of 1.00 after having closed 44 positions during the year (includes a few derivatives). I was much more active, and in a year where some earned triple-digit returns, I earned 34% (which is still a superb return in my book). Granted, this is a futile study, and bears no real insight, given how many variables go into these outcomes.
My issue is, that I strayed from my typical barbell strategy during 2020.
Sure, I would have likely done worse in 2020 if I had not rotated into tech in March. I did eventually begin to reduce my exposure across Q3 and Q4 whilst they were still riding high. Then at the beginning of 2021, I sold my banks. Two of my larger positions were Bank of America and American Express, both of which have returned ~42% and ~32% YTD. Should I have kept these positions, I (napkin calculation) would have been ~10% better off YTD in terms of returns. So, whilst my rotation in 2020 helped me during that year, it most certainly hindered me in 2021.
Hindsight reflection is obviously 20/20, but I wonder if the noise of 2020 clouded my independent thought. Now, only as I begin to be slightly behind the S&P YTD (which is fine), I begin to reflect. That tells me I was drunk, which is perhaps part of the reason I skewed my barbell strategy so heavily towards the exciting. I want two sides to my PA, both of which are somewhat negatively correlated. I am guilty of forgetting that, and the banks would have certainly assisted me there this year.
Part of self-reflection is the ability, to be honest with ourselves. So, speaking from a personal experience, I feel the impact that noise has on me. As a result, I am spending less time on my Twitter feed, where the majority of the subconscious noise originates and spending more time in the DMs. This is all a long-winded way of saying that noise in the stock market, is akin to the sirens of the sea.
Importantly, once Odysseus and his men were able to pass through the siren song, the sirens died, and the men were left unaffected. The threat, or fear, was an intangible force. Of equal importance, I find, is that Odysseus was curious enough to actually listen to the Sirens, but ensure that he was not able to act upon what he was hearing.
I think that’s an important message.
An investor does not have to actively block out all noise but, rather, be sufficiently aware of the negative consequences of what that noise can do if we allow it to enchant us.
Thus, we can listen, but we need not act.
The Sirens of Everything
The sirens are not just present in the stock market however, they follow us in our daily lives. For some context into myself, I will share a little bit about my past.
I was born in Scotland, raised in Germany and England, before moving back to my home country at the age of 12. I have never lived a life of luxury, but have always felt privileged to have won the postcode lottery, and be raised by a loving family. My parents afforded me no pocket money, out of principle, and I am glad they did that. I began working at the age of 14, in a cafe owned by my grandmother, and have worked, without any gaps, ever since. At the age of 16, I was old enough to get a real job, where I worked at the fruit section of a supermarket at the weekend and after school. At 18, I went to university to study economics and later decided to complete a Masters in innovation and entrepreneurship.
At 21, I landed my first corporate job as a securities analyst, after telling them I had finished my master’s degree, which was a white lie (I still had one semester and a dissertation to do). In the same year, I began studying for the CFA. This seemed absurd to me. During my time at university, I worked behind a bar at the weekends doing 12-hour shifts for minimum wage. Now, at this job, I would sit at an office desk, with flexible working hours, and be paid significantly more for doing work I actually enjoy.
In April 2020, I launched a newsletter titled ‘Investment Talk’. A few months ago, at the age of 25, I left my job, as an analyst, and began to write full-time (for this newsletter). This shift in career was only possible because of Twitter, which is something I decided to do, randomly, in February 2020, to share my thoughts and connect with other investors.
“The Great Online Game is played concurrently by billions of people, online, as themselves, with real-world consequences. Your financial and psychological wellbeing is at stake, but the downside is limited. The upside, on the other hand, is infinite.
Social media is the clearest manifestation of this meta-game.”
Last year, I was unknowingly stumbling into this meta-game. Just an FYI, you should read that piece, it’s great. This was not something I could have predicted at the time, nor was it on my scorecard for what direction I wanted my life to go in. I had fully expected to eventually land a role in the asset management space, eventually.
But I discovered that I love writing, and my course changed.
I think part of what I am trying to say here, is that a person can be their own siren. Being comfortable with the fact that your life will take random turns, often, in your early years can be an advantage. Becoming too fixed on how we want our journey to unfold can be a hindrance.
The fact is, that most of life’s anxieties and fears are now intangible. Long gone are the days that humans would fear animals. The bulk of the fear we face now is manifested within our own minds. I would state here, that I am largely talking holistically, and about the developed world. I am not ignorant of the real tangible troubles faced in the world, and I hope you can understand that.
I recall, a number of years ago, I was studying for my first CFA exam. For anyone who has taken these exams, you will know the breadth of the content matter is wide. I was about 2 months away from my exam, and the fight mode has kicked in. It consumed my thoughts, and I had applied considerable pressure on myself to the point that I felt I could not take a day off. At the time I was also writing my dissertation and working full time. It was immense pressure.
My partner said something to me, that I will not forget. She said that should I decide to quit the exam or fail and retake it later, it would bear no significance on my physical being. My life would carry on as normal, and I would be fine.
Very simple advice and she knew I was not intent on quitting, but just hearing that released a huge amount of metaphorical pressure from my shoulders. It was true, and the fear and stress were all intangible, created within my own head. After hearing that, I took a week off and resumed in a clearer state of mind. Refreshed. Should I have continued to apply that irrational pressure on myself, I would likely have burned out. I ignored the sirens and focussed on reality.
What seemed so important only a few years ago, in light of my aspirations to manage capital, now seems irrelevant. I have always been an optimist in the fact that your life can change significantly in the space of one week. Whether that be a phone call, a job interview, a new acquaintance, or listening to someone discuss something that sparks an idea in your head.
Your life path is extremely malleable.
Acknowledging this has helped me place myself in front of opportunities. Whether or not I feel I can capture those opportunities, the only way you can attempt to is by placing yourself in those positions. The below sentence, by Thomas Jefferson, captures what I am trying to say:
“I'm a greater believer in luck, and I find the harder I work the more I have of it”
Now, I am not sure that my parents understood why I was leaving my job to write a newsletter full-time, but they supported me anyway, as did my partner. The way I saw it, was that I would have enough capital to survive and pay rent, for roughly 1 to 1.5 years. That seemed like an ample space of time to go all-in. The downside was that I would have to get a job again after the year is up. The upside, as Packy said, is limitless. What removing the routine of a 9-5 has given me, is the time to think once again.
Working full-time as an analyst whilst running the Investment Talk newsletter for the last year was a lot of work. It felt as though most of my time was occupied with doing and not with thinking.
At 21, I wanted the biggest salary possible. I am sure most young adults are fascinated by their salary. At 25, I want to be able to have breakfast, uninterrupted, with my partner in the mornings, and work from a Starbucks if I wanted to. So long as I can afford food, rent, and be able to invest semi-frequently, I am happy. Another source of anxiety in the modern age comes from comparison. Comparing how we are each doing, relative to peers, in our stage in life. This is another fictitious construct of worry. I am saying all of this because, for me, ignoring the sirens in real life is significantly easier than ignoring them in the stock market. But there is hope, given how transferable these skills are.
I would think, the largest factor for me to improve on is the desire to be active. In 2019, I could go a month without looking at prices. Now, because I am actively writing about the stock market, I am obliged to look every day. Subconsciously, that takes its toll but is something I am working on. This all reverts back to Odysseus. Just as he refused to pour the wax into his ears, we should not outright ignore the noise. Rather, be aware of it, and how it impacts our decision making. At times, when we can be sure that what we are hearing is in fact noise, then we can disregard it. Deciphering between the two is important. Daily stock prices for a long-term investor? 99% of the time, it’s noise.
I am not sure what I was hoping to achieve by writing this today, but I felt compelled to share some of the reflections I had been making over the past two mornings.
“Our greatest glory is not in never falling but in rising every time we fall” - Confucius
Author of Investment Talk