I was talking with my younger son the other day about Nvidia (NVDA), a stock we’ve both held for years–and I bought after he brought my attention to it. He’d decided to trim his position, which had gotten too large a portion of his portfolio after its recent run. I had two suggestions: watch the stock after the sale to see how far it runs before peaking; and get at least a preliminary idea (down by 20%?) of where to get back in.

The first is to develop an awareness of how close to the top your mind kicks in with the “sell” thought. The second is the possibility that NVDA is one of those unusual growth stocks (think: Walmart, Apple or Microsoft (ex the lengthy Ballmer descent into irrelevance)) that is able to periodically reinvent itself–and is therefore worth hanging onto.

I woke up this morning to Heather Cox Richardson, the Harvard-trained, Boston College-employed historian of the post-Civil War United States (her general view is that Trump Republicans are the KKK-ish pro-slavery 19th century Democrats redux), reporting the news about the recording of a Trump interview in which he apparently declares that he possesses ultra-secret government documents, which he knows are still classified and which he knows he is not supposed to have.

The elephant in the room in all this is what triggered the government search for the documents Trump had. The most obvious explanation, I think, is that the US suffered a crushing setback, maybe literally, in the secret war of spies and Washington began to try to figure out how a potential foe found out.

The Financial Times, the UK’s financial newspaper, ran a comparison of the domestic stock market there from 70 years ago vs. now. In the UK, home of the Thatcher revolution, the top names are more or less the same as back then. The economy there barely has a pulse, less so since Brexit foolishly cut off access to the UK’s largest export market. The local stock market is less than half the size, relative to the rest of the world, that it was a generation ago. Top market cap names: Astrazeneca, Shell Oil, HSBC, Unilever, BP. Virtually no tech to be seen. Even #8, British Tobacco (!?!), is talking about listing in New York in search of a higher PE multiple.

In the US, Simplicity Pattern, Digital Equipment, Xerox et al are long gone. Other former top names, like GE, still exist, but are mere shadows of their former selves. They’ve been replaced by Apple, Microsoft, Amazon, Nvidia and Alphabet, none of which existed back then.

The difference between the US and UK? I would guess it’s not the neoliberalism and xenophobia that are powerful influences in the politics of both countries.

I met one of the most savvy investors I’ve ever known at the start of my Wall Street career in a ramshackle building in midtown Manhattan in late 1978. That as the headquarters of Value Line, which had become a refuge for Wall Street talent rocked by twin crises during the Seventies. They were the ’73-’74 recession, the worst world economic downturn of the century, save for the Great Depression of the 1930s; and the 1975 SEC-mandated end to the very high fixed commissions brokers had previously charged. I luckily stumbled into a job there as a budding Wall Street revival was causing serious staff defections.

One day we were talking–I was mostly listening–about how to play a hypothetical broad economic trend that we might see developing. Roy said: suppose we know that a large, multi-year road construction effort is about to start in a given state. How do we play this? The most straightforward idea would be to buy shares in local construction companies, assuming they were publicly traded. Then there are the providers of building materials, like cement and asphalt. Also the makers of construction equipment, like bulldozers… Roy said his favorite would be the companies that manufacture cement trucks–on the thought that there would only be one or two and that a flood of new business would inevitably come their way. He/we might also have added that there would be an afterglow of profit improvement for overall business in the area because of the government spending and the improved road network.

In a way, this is an elaboration of the old joke that Levi Strauss was the biggest winner from the nineteenth-century California gold rush. It’s more than that, though.

It’s also an outline of the extent and timing of the increase in profits that the government road program will create. Roy’s fondness for cement trucks is based on two ideas: that, assuming one maker of this highly specialized equipment, all the orders are going to come to it and that the resulting increase in profits–though highly predictable–will come as a massive surprise to the market.

This is a wonderful blueprint, not only about how the profit wave rides through various parts of an industry, but also as a lesson in how to find indirect plays–ones with very high probability of good things happening and low recognition of the soon-to-arrive good news.

I have two observations:

–there are economic waves, both favorable and not, that ripple through an industry from time to time. They may be short or, like the onshoring of semiconduction fabrication, last a long while. If you’re willing and able, you can try to ride the wave as it progresses. What I mean is, in the construction example, start with the construction companies, roll into the materials providers as the construction companies get pricey, and then on to the capital equipment firms after materials have made their move. This takes time and effort, though, and it assumes that most are myopic enough that all the subsectors don’t move together. My guess that continuing AI adoption will increase myopia, though

–the approach the today me would take is to try to ride the wave but to avoid all-or-nothing bets. In the construction case, we have maker/builder/manufacturers (the construction companies), materials suppliers (cement, asphalt, gravel,,,) and capital equipment makers (bulldozers, steamrollers, cement trucks). If this were to be a centerpiece of my portfolio–meaning a high conviction thought–I might start out with 6% of my assets in construction companies and 2% each in materials and capital equipment. As the idea develops, I might let this increase to 20% of the portfolio, hopefully in part to the stocks going up but also adding more money as I follow developments and get more certainty that my idea is good. At the same time, I’d be shifting weightings away from early cycle stocks, which would presumably have already done most of what I’d expected, and toward the later cycle ones.

AI

Perhaps somewhat less than cheerfully, I’ll comment that I’m dangerously ignorant here. Still, I’d try to divide the industry into three segments: construction companies (MSFT, GOOG…), physical materials providers (NVDA, AMD, TSMC) and applications implementers (TSLA, PATH, TDOC…). These divisions are not as hard and fast as with traditional industries, since, say, TSLA collects immense amounts of information from its vehicle owners, which allows it to train its proprietary self-driving AI. So it too might be considered just as much a construction company as an implementer. A better way to describe the first and third segments might be to say they’re both AI generators but training on different data sets, segment three being more specialized.

Anyway, although I’m personally attracted more to the first two than the third, the best strategy is probably to have some of each.

My wife and I are spending the weekend in our cabin in eastern PA near Scranton.

Things are really looking up around this hardscrabble area. The “Electric City” itself, that 19th-century plaything of the steel/coal/railroad magnate Scranton brothers, is showing signs of economic life for the first time since the early 1950s (when the underground coal mines flooded). There’s intense activity around the Lehigh Valley, as well, building more distribution warehouses to take advantage of the area’s road network. (I’m on a visual arts advisory committee for an area technical high school (my website is: danduane.com). This increasing demand for industrial sites was a big pre-meeting topic of discussion a week or so ago.) Lots of remote-work refugees from NYC and Philadelphia, as well.

Virtually all the Trump signs have disappeared, a process I think started after the 2021 coup attempt and really picked up steam last year. I haven’t been to see friends in the Endless Mountains yet, though. This was a shockingly poor area before the Marcellus shale began to be developed. Fracking is the major political issue there, so it’s like Trump central. Btw, zero evidence of DeSantis support.

Anyway, in Friday’s FT issue:

–the American National Conservativism institute held its annual conference in London recently. Ex tech, which the UK is an important source for but not a center of, both the UK and US are mature, slow growth, anti-immigration economies, whose right wings live in fever dreams of past glory. A receptive audience, you might think. Not so, however. According to the FT, local attendees were shocked at the naked racism and the Christian fundamentalism of the speakers, who assumed the audience was of like mind. Turns out that despite spawning the US slave culture centuries ago, the current British right wing is comparable to our Democratic centrists

–celebrity columnist Mohamed El-Erian, wrote an (uncharacteristically coherent) account of the current questioning of the US dollar-based world monetary system that we’ve had since the 1970s.

What makes El-Erian important, in my view, is not that he’s a leading edge thinker but that his views an already solidly formed international consensus. He cites two issues: the 2007-08 world financial crisis, which was centered in deep corruption in the major US banks; and the unilateral imposition of tariffs by the Trump administration. He–and by extension, the rest of the OECD–might also worry about, ex an heroic Liz Cheney, the Republican Party’s placid acceptance of Trump’s coup attempt and his continuing false assertions that the 2020 election was rigged.

Luckily for the US, the Deng era is over and Xi is in charge in China. Otherwise, I think, the dollar era might already be in the rear view mirror (or camera)

–the Lex section, which talks about stocks and is consistently good, has a strange article about the ARK funds, titled “Tech funds: the cult of Cathie Wood.”

If I had to guess, the article originally focused on “cult,” and made the (sensible, in my view) point that Ms. Wood has done a brilliant job of marketing her firm, with the result that fund net redemptions have been miniscule despite delivering unusually deep underperformance well into a third consecutive year. Add the fact that most of the money she manages came in at her relative performance top, as is usually the case, and the feat is more impressive.

I suspect that what triggered the writer was the media to-do about ARKK having sold its Nvidia (NVDA) holding at the lows of late last year. Since then, the stock has come close to tripling (I’ve owned a bunch of NVDA for years; my idea now is to buy more on decline). That fuss makes a good headline, but no sense. As I read Wood’s strategy–through her portfolio structure–she’s hitched her star to her top tens holdings, which make up 2/3 of the portfolio. (you could argue that it’s the top 6, which make up over half). NVDA was relatively miniscule at about #25 when she sold. Had she continued to hold, the position as it was back then was too small to have moved the performance needle even a percentage point.

The article asserts that large-cap tech stocks are especially sensitive to interest rate movements. Generally, maybe yes. But the real issue is a high PE, not the underlying business. And why, if the FT is correct, is the NASDAQ 100 up by 9.9% over the past year of rising rates …and the wider NASDAQ up by 7.0%? ARKK, in comparison, was down by 13.9% over the same period.

The article points out as a plus the fact that ARKK has beaten the S&P 500 so far this year. Yes, ARKK has gained 25.2% vs the S&P’s +8.1%. The trouble here is that 2/3 of the S&P is non-tech, which has been a big drag on that index’s performance. The tech portion of the S&P–IT + Communications Services–is up by 33.6% in 2023. The NASDAQ 100 is 30.7% ahead.

Maybe the point is supposed to be that ARKK is pulling out of its tailspin. Maybe so, but we’re talking about relatively small periods of time–especially for such a highly concentrated portfolio. And the past three months show ARKK slightly in the minus column, with the NASDAQ 100 up by almost 19%–with NVDA accounting for something like three of those percentage points. Microsoft made about four and Apple two or so. Take those three out and the NASDAQ 97 would be up by about 10%. My take is that while expectations about interest rates may play a part, this move is more about valuation levels and earnings growth prospects.

Warren Buffett is one of the most intriguing figures in the modern investment world, and a major contributor to the development of professional securities analysis.

The big insight on which his reputation is based came about a half-century ago. It’s the observation that, although brand names and distribution networks are among the most powerful assets a company can have, they appear nowhere on the balance sheet and only as an expense on the income statement. (One exception: brands and networks are obtained in a takeover often appear on the buyer’s balance sheet as intangible assets.)

The quintessential example of this is a long-time Buffett holding, Coca Cola (KO):

–Over the past decade, KO has spent almost $40 billion world-wide on advertising, or about 15% of the company’s current market cap. Presumably, a new market entrant would have to spend at least this much if it hoped to create a similar awareness among customers. And even then the newcomer would likely be at best the #3 behind Coke and Pepsi.

–In addition, there are the costs of creating a distribution network. The actual KO distribution network is is complex and has changed over time. To offer a much-too-simple example, take the supermarket channel in the US. Red Coca Cola trucks regularly pull up to supermarket locations. A driver unloads product, takes it inside and stacks it on the shelves. A would-be competitor would need a similar distribution network and a similar set of agreements with customers. Again, a very significant expense.

Financial accounting works this way, I think, because it’s the simplest solution. The alternative would probably be to consider these expenses as assets and set up an amortization schedule for expensing them. This would be complicated, potentially highly subjective, and certainly open to abuse.

The power of brands and distribution are well-understood now. The today’s-world analogue, I think, is the value of the intellectual property in software creation and computer chip design.

not much time today, so just a short note

In down markets, valuation is king and concept goes out the window. The major focus of the market is on avoiding future losses rather than make future gains.

In up markets, it’s the opposite. Valuation takes a back seat and the driving force is the concept or story behind a stock.

People who go all in on either extreme have a few moments in the sun but find it tough going when the mood of the market changes. Professional investors who elect to specialize so narrowly have to sell themselves to clients as, in a sense, an insurance policy. Clients may end up with one of each persuasion.