Say it ain’t so

Written By Pratyush Rastogi

“It Ain’t What You Don’t Know That Gets You Into Trouble. It’s What You Know for Sure That Just Ain’t So” – Mark Twain (actually that probably wasn’t him but it gets attributed to him anyway)

When reading investor letters from the various fund managers we follow, we came across an interesting point about ‘sure things.’ This particular letter was talking about how pre-covid no one quite imagined that quick-service-restaurants (QSRs) would be impacted as they were due to the ‘defensive’ nature of the industry – after all, everyone has to eat right? Thus we thought it would be interesting and prudent to take a number of preconceived ‘truths’ that the markets hold and think through what kind of scenario would make that truth unravel. As the assumption that QSR restaurants being a safe bet (because they would always have customers) was proven incorrect during the covid-19 outbreak, we wonder if there are other assumptions that the market makes which are solely protected by but a thin veneer. Let’s dive in

1)      People will always gamble

In general, post 2008, gambling stocks have had an insane performance. For example, Las Vegas Sands (LVS), from its bottom during the Global Financial Crisis, peaked in 2018 with a 4,500% gain! Now some of the reasons for this are straightforward, as long as the company’s balance sheet stayed strong (which it has as LVS now has 22 months of cash to survive in a zero revenue environment), people’s propensity (and addiction) to gamble is strong. So let’s assume that covid gets taken care of and there is never another pandemic – are casino stocks a good place to park your money? After all, assuming no financial mismanagement and no more pandemics – what else could go wrong? Well, geopolitical risk could. Let’s play through a hypothetical scenario – Say you’re President Xi of China, and you’re just fed-up with that Trump guy always going on about trade. You know he’s coming up for election soon, and you also know that some of his biggest backers are his old friends Sheldon Adelson and Steve Wynn. Now, as luck would have it Adelson (CEO of Las Vegas sands) and Wynn (former CEO of Wynn Resorts) have significant interests in casinos in your backyard. So you ask yourself, what should I do about Macau’s gaming concessions if I really want to stick it to Trump?

2)      People will always die

Our natural mortality is inescapable, and that certain eventuality is what makes industries like funeral homes and elderly care homes quite defensible. But – will we always die? The theory of Longevity Escape Velocity brings this old-as-time assumption into question. The concept is essentially that as you get older technological advances allow you to live longer still to a point where life expectancy is extended longer than the time passing. Let’s say you are ~30 today and would normally live to be ~80. The Longevity Escape Velocity postulates that when you reach 80 technology may have advanced far enough to allow you to live to 120. Once you hit 120, technology may make another set of advances that allow you to live to 180. So on, and so forth. Put it another way, scientists believe that the first 1000-year-old is probably only ~10 years younger than the first 150-year-old. Now this might sound some like insane future dreamworld where no-one ever dies, but we’re only a few years away from 3D printing organs[1], and technology like CRISPR is working on editing out diseases from our DNA as we speak. All this leads to Google’s director of Engineering, Ray Kurzweil stating we’re probably only a decade away from longevity escape velocity[2].

3)      People will always need a roof over their head

While we can’t really think of a scenario where people will give up the comforts of a roof and brave the outdoors, we certainly do see that home ownership rates among the younger generation are declining. In the US for example, only 35% of millennials owned a home by the age of 30 versus nearly 50% for the Boomer generation[3]. Costs, student debt, and later family planning starts have all led to fewer homes being purchased. Further, with birth rates around the world crashing[4], it seems that when homes are purchased, it would likely be for smaller families (and thus less square footage).  This doesn’t bode too well for all sorts of industries tied to the home, including construction, utilities, household goods, some of which are deemed defensive.

4)      People will always use the internet

VROOOM! That’s the sound of tech stocks zooming higher and higher each day leaving FOMO in their trail. Any online, SAAS, platform, or digital related stock has seen huge gains over the last few months as all the excess liquidity in the market is driven into companies untouched by the coronavirus. But just as we now have to imagine hotels and airlines in a zero-revenue scenario we should also spend some time thinking about if tech companies can also see a zero-revenue scenario.[5] Now if you think this is impossible – remember the quote we started this post with – it’s the things that you know for sure that will kill you.

In his book “The Precipice”, Toby Ord puts the odds of artificial general intelligence (hypothetical intelligence of a machine that has the capacity to understand or learn any intellectual task that a human being can) happening by 2061 by 50% and the odds of it happening in the next 10 years by 10%. Now this in itself is not that dangerous, as typically we’d be using the AI to complete tasks so that humans don’t have to. But what if the AI decides the best way to complete its task is to control the internet for a few hours/days/months at a time? You’d be forced to go to your local store to buy toilet-paper instead of ordering it off Amazon and you’d have to read a book instead of watching “Indian Matchmaking” on Netflix. Now, you might think this is all far fetched. We don’t feel so, but it’s a fair argument to make that we’re probably decades away from general AI. However we don’t have to wait that long to see some sort of potential disruption in the internet. Hackers commanded by unfriendly or rogue governments could or those looking to make a quick buck can reap havoc on web-based services (just google what happened with Twitter last week).

We’re not trying to be the harbingers of doom and gloom, and in fact the odds of some of the assumption-busters we mentioned are probably quite low, or if they do occur they may not have the impact that the coronavirus has had on hotels for example (zero revenue). Further, we’re obviously not trying to disprove the notions themselves, obviously people have to eat, they just don’t have to eat at a QSR restaurant. The purpose of this exercise is to test our assumptions, and at least think through the worst that could happen before making any definitive claims or investing strategies (i.e. a portfolio of only tech).

We hope the above has given you some food for thought. If you think of any other such assumptions and scenarios where they breakdown, do email us – we’d love to hear them! Happy investing all!

Pratyush Rastogi
Previous

Mistakes in the Market
Next

The Value of Scuttlebutt