Markets are fairly efficient mechanisms for ensuring that new information finds its way into stock prices. By this I mean that the collective effort of millions of investors seeking profits suggests that, for the most part, important data about individual corporations don’t stay hidden for very long.
But markets are not perfectly efficient. For a long time I have described them as kinda, sorta, mostly, eventually efficient. I believe that is still an apt way to explain how sometimes, the crowd’s beliefs about the economy, equity markets or an individual company can be wildly inaccurate. For this reason, investors who have a different perception versus the crowd — plus a willingness to risk capital on that belief — can sometimes earn outsized gains.
Why do alternative perceptions sometimes offer enormous investment opportunities? Because it is so very uncomfortable to fight what the crowd is doing. We evolved as social animals, dependent upon the group for survival. As we learned from social psychologist Robert Cialdini, social affirmation is enormously influential; peer pressure continues to affect us all long after the torments of high school.
The most lucrative financial trades are also the most uncomfortable positions to hold. Recall David Einhorn’s bet that Lehman Bros. was effectively bankrupt, even as most of the rest of the world disagreed and argued it was a rock-solid investment bank. A similar premise informed Jim Chanos’ decision to sell short the shares of energy giant Enron, which had been named America’s most innovative company by Fortune magazine for six consecutive years before its collapse. Perhaps you got your hands on an early iPod, circa 2001, and recognized that Apple’s $15 share price — $13 of which was cash on its balance sheet — was a low-risk, high-upside trade.
All of these are examples where the crowd has a fundamental misunderstanding of the true value of a company. As the herd slowly begins to recognize its misperception, sentiment shifts as this information works its way into prices.
I suspect something similar has been going on with Nike Inc., the sneaker and sports-apparel maker.
Last year, when Nike decided to use controversial National Football League quarterback Colin Kaepernick as the face of its 30th anniversary “Just Do It” advertising campaign, the reaction was swift and negative. The stock immediately sold off amid fears of a boycott by conservatives, or a fight with President Trump. The consensus trade was that “wokeness” doesn’t sell.
That looks like it turned out to be wrong. New York University Stern School of Business marketing professor Scott Galloway has since called the Kaepernick commercial the best brand move of 2018.
Since the announcement, Nike shares have risen more than 6% while the Standard & Poor’s 500 index has fallen about 4%. From its December low amid a broad market swoon, Nike stock has risen 29%, while the S&P 500 has gained less than half as much. That difference can mainly be attributed to groupthink shaped by those who simply failed to grasp this cultural moment. (It also doesn’t hurt that Nike’s 2019 fiscal year earnings are forecast to rise 13%, according to data compiled by Bloomberg.)
This error was largely the work of a group that has an outsize role in shaping perceptions about markets and companies. I call them WOCRAPs — that’s white, old, conservative, rich, American pundits — who also happen to be those who are uniquely out of touch with Nike’s target audience, which is overwhelmingly young, urban, ethnic, hip and especially international.
Consider the breakdown of Nike’s 2018 revenue of more than $36 billion: The majority — almost $20 billion — is from overseas, where Trump’s criticism of Kaepernick’s decision to kneel during the national anthem is of little relevance. Add to this the simple fact that two-thirds of Nike consumers are under the age of 35. The WOCRAPs were the wrong place to look to for insight in this case — and in plenty of others.
Legendary stock-picker Peter Lynch’s maxim to “buy what you know” has long been misconstrued to mean invest in the everyday products you consume. That’s not quite right, as it only reflects part of his investment strategy. The other half is buying what you have a unique insight into that the market has yet to figure out. Knowing what those things are is the hard part.