Jamesian Philosophy Refreshed

It was in October 2011 that David Einhorn presented a slideshow to the Value Investing Conference. I frankly haven't kept close tabs on the consequences: what has happened to the stock price of Green Mountain (NASDAQ: GMCR). The two year stock price chart is available here. GMCR was on its way down, off its September 2011 peak price of $110, before Einhorn said anything. For GMCR, the fall was horrid. The price was below $30 by the start of the new year 2012. It didn't start recovering for more than a year. In September 2012, its patent on its K-cups expired. This was a critical part of Einhorn's original argument : the intellectual property was the moat keeping competitors away. Those neat little pods let you brew coffee one cup at a time in your kitchen, (or in a hotel suite) and people were willing to pay premium prices for that convenience. After September 2012 had passed and the patent protection was lost: at least that loss had been further discounted into pr...

  We can reasonably hypothesize that “Mr. Market” is rational, and knows a lot of stuff, because there are a lot of people out there looking to make a buck off of any slip-up, looking to get an edge, to learn something he doesn’t know, and to trade on that basis. Further, all their trades on the basis of what they learn in that effort make him smarter. They contribute to determining prices, so that an “edge” that still worked a month ago may be outdated now, as Mr. Market has learned to factor it in. And that is why (especially according to advocates of the ECMH) stock prices move in a random walk. It is random to any observer not as smart as Mr. Market himself. Any given neuron will presumably see the thoughts of the whole of the brain as a random result of who-knows-what. There is nothing mystical about this – the confused neuron, in its own trading, helps to bring the situation about. Now, when I’m asked whether I believe in ECMH, I generally reply, “yes and no.” It ...

Aside from the considerations we discussed last week, there is this to remember about stock performance, the performance of a stock as an investment is not (entirely) a matter of whether it rises or falls in price. A stock also entitles its holder to a portion of whatever dividends the issuing company may declare. Suppose, then, that we do the arithmetical magic to factor in the dividend stream as if it were being paid out day by day, and we included that along with the stock price move as the performance of XYZ. Once we do this, we’ll want to be sure that we’re matching the stock price against a broad market benchmark that also includes dividends as part of performance. Fortunately, these are readily available. The S&P Index, for example, comes in three variants: one that considers solely the price of component stocks; one that factors in dividends (the “total return” index); and a third that subtracts the tax on those dividends (“net return.”) We might make discussi...

  Last week our discussion took us as far as to a description of the normal or Bell curve. See a depiction above. The numbers at the bottom of the graph refer to “standard deviations” from the norm. We were discussing specifically mileage errors on maps. One standard deviation from the mean (the area between -1 and +1 on our graph above) accounts for roughly 68 percent of all the maps in our hypothetical database. Two standard deviations from the mean (the area between -2 and +2) account for roughly 95 percent of the maps. Three standard deviations account for 99 percent. A normal curve for a phenomenon is taken as evidence of randomness. If there were some reason why the mapmakers of 17 th century England were inclined to make a particular error that reason would show up as some non-normality in this chart. Perhaps the roads between these two places were especially good by the standard of the day, and the ease of travel created a general impression that the cities were...

I said in an entry last week that a downgrade from Morgan Stanley was a reasonable candidate for the cause of a downward stock price move, as we intuitively understand the idea of cause. But proving this would be a trickier matter. It would require showing that there was nothing else happening that evening or morning that may also have had consequences for that demand. Or, if there were other things happening, if would require some measure by which we could distinguish this causation candidate as more potent that the others. Even if it is a very general rule that similar announcement proceeds stock price fall, other explanations are possible. After all, since we’re assuming that Morgan Stanley’s analyst was working from publicly available information, we could hypothesize that a lot of traders and in-house buy-side analysts reached the same conclusion at the same time Joe Smith did and would have reached it even if Joe Smith had had nothing to say, or had through some analy...

As I wrote here last week, TV finance pundits regularly tells us that price moves are the result of "momentum," or "bargain buying," or "profit taking." Together, these labels are so widely applicable as to drain themselves of any real significance. So let us put themn aside and try some other route forward. On Tuesday, after the market closed, the wire services carried the following, “Morgan Stanley downgrades XYZ.” On Wednesday, nobody could be found to buy XYZ at the previous day’s price. Is that an answer to the question “why”?   This is complicated. One line of argument would contend that the words “Morgan Stanley downgrades XYZ” didn’t tell the market anything the market didn’t already know. The headline allusion is actually to what some researcher paid by Morgan Stanley has said in a 30-page report. That report itself is most likely the compilation of publicly available data: John Smith (as we’ll call the analyst) with admirable industry ...