​I’ll Admit That I Don’t Get It…

By Brad Thomason, CPA
  
Do you remember when people used to go to a store if they wanted to buy a book?  I do.  I liked doing that.  I still do, actually.  There’s a great used book store near our office that I have to be really on the ball about limiting my visits.  When I’m not diligent I end up with this growing stack of paperbacks, with an average cost of like $2.17 each, that implies I have weeks if not months of spare time coming up in which to read them all.  Which of course I don’t.
 
I mention that because Amazon released earnings yesterday.  They made $3.27 a share, well ahead of consensus estimates.  The stock moved higher in after-hours trading as a result.
 
I remember when Amazon first came on the scene.  Everyone was going nuts.  I didn’t get it.  Their business model seemed to be based on selling merchandise at less than cost, and trying to make it up on volume.  Which sounds like a Saturday Night Live skit (and actually was years ago; Google SNL Change Bank).
 
Well, as we now know they were doing a whole lot more than just selling books.  So clearly my initial perception was wrong.
 
Today I’m looking at how a company that makes $3.27 a share can be trading for $1,600 a share.  I don’t get it.  Based on the fact that I was wrong before, we have to at least stay open to the possibility that I’m wrong again.
 
I realize that the standard answer would be for someone to tell me that it’s based on growth potential.  OK.  But given how big Amazon already is, I’m not sure where they are going to grow, at least not in sufficient measure to catch up to that valuation.  Although maybe the whole rocket company is because they are aware of several inhabited planets that the rest of us don’t know about.  But in terms of earthly expansion, I’m back to where we started: I don’t get it.
 
Now, persons in my business should probably be cautious about trafficking the idea that they don’t know something or don’t understand something.  People seek advice from those who (supposedly) know more.  Certainty sells.  I do get all of that.
 
But there’s a larger point here, and that’s the reason I chose this topic.  Sometimes things in the investing world don’t work the way you think they are going to.  And I think that is a very important thing for all investors to keep front and center at all times.
 
No sensible person would have predicted that selling below cost was a route to global domination.  No sensible person would have predicted that people would be clamoring to buy even more shares of a company – any company – with a P/E north of 400.  But here we are.
 
Investments are not obligated to do what you think they are going to do.  Investments are not bound by only those things which you can understand.  That is the nature of true investment risk.  Not some goofy set of calculations based on strained statistical models, nor arcane indirect measurements with intellectual-sounding Greek names.
 
When you buy an investment, you are signing up for “this may not go the way we think it will go.”  That may end up being a good thing.  Or it may go the other way.  But that’s a permanent part of the landscape, and you need to know what you are getting yourself into beforehand.
 
In the face of unpredictable possibilities, confessing ignorance is not a crime, a sin, nor an indication of diminished mental capacity.  In fact, if you think about it, to act like you do know – or even can know – when you really can’t, is the behavior which ought to be frowned upon.
 
In our culture though, that’s not a commonly held view.  Or at least not a view which is commonly acted upon. 
 
However, as an investor, part of your success will come from understanding the nature of what you are working with.  Failing to accept certain realities creates blind spots which can hurt you.  And assuming you know more than you really do can lead to mistakes which can be very costly. 
 
So just be careful, ok?  You need to do everything you can to be sensible as an investor; but part of that is being comfortable with the fact that your investments are not required to make sense.  They win or lose completely independent of what you think ought to happen.