Permabulls, horizons and perpetuity

In the long run, stock markets rise, despite constituting an agglomeration of largely mediocre businesses. Selecting qualitatively superior businesses has produced even better results than investing in most of the rest. This statement might sound counterintuitive, given the lacklustre share prices of certain Quality Growth companies of late and their attack on historic long-term performances. But, as the title of this newsletter suggests, the conclusion for investors remains compelling over the very long term.

Deep knowledge and experience allow investors to be selective. A permanently bullish outlook on the best companies that stock markets can offer has not only preserved but also enhanced the value of invested capital.

A temporarily bullish outlook for stock markets is easier when the economic background and the behaviour of fixed income markets support such an approach. Yet this is by no means the case at all times, on the contrary. Furthermore, rarely is there a shortage of observers with a temporarily, or even permanently, negative outlook to sow the seeds of doubt in the minds of permabulls – we will return to these apocalyptic permabears later. At the same time, permabulls will suffer periods in which bullishness is out of proportion or misplaced. Yet, the longer such a situation persists, the closer the time when stock markets will turn and produce rising share prices, thus vindicating the permabull and reflecting the earning power of his portfolio of Quality Growth businesses.

Quality Growth permabulls are focused on the businesses they invest in and the expectation that these businesses will grow far into the future, into perpetuity. They are not primarily focused on such businesses’ share prices. They know that share prices will be driven by earnings which, in turn, will be driven by such companies’ business activities and the moats protecting their superior competitive positions.

An unbreakable link exists between a long-term horizon and the concept of perpetuity in a corporate sense. The concept of perpetuity lies in the ability of a corporation to extend its business growth trajectory far into the future, much further than the average cyclical business that populates the majority of equity indices. The well-rehearsed reasons for this form the Ten Golden Rules of Quality Growth investing, as espoused since its inception by Seilern Investment Management. These rules allow the investor to identify companies whose expected streams of cash flow can be forecast over long time horizons, regardless of any macroeconomic background. These forecasts will never be entirely accurate, or perfect. Unexpected events, such as Covid, or the outbreak of war, may sometimes disrupt a smooth growth trajectory temporarily. And even without these, past forecasts at Seilern have tended to be on the conservative side. However, notwithstanding these exceptions, it is the forecastability of this small, select group of international businesses which, in the end, will preserve and enhance capital put to work by investors. For such businesses, this approach is a sound balance between risk and return.

Stock markets are secondary to their underlying businesses. But they are shrewder than their individual participants. Therein lies the mystery. Success for the investor requires the unavoidable development of a personal relationship with markets and the forming of an understanding of how markets and individual share prices react to events. This is more important than reading about other participants’ personal experiences. It turns investing into a lonely business, one in which any form of emotion is misplaced. As a result, it is not for the fainthearted and proves the adage whereby limited investment knowledge is dangerous. Deep knowledge of businesses, on the other hand, will help the investor assess the underlying risks and, by extension, quantify them.

A glance at the development of profits of selected Quality Growth businesses over an extended period of time will evidence two things: first, that a permabullish attitude to this form of investing is realistic and has produced extraordinary returns historically; second, that this attitude to such businesses will override the temptation to seize upon periods of both market exuberance and market despair in their share prices to speculate in market timing. Instead, such periods will be used by investors within the framework of their portfolio construction operations.

In the main, markets and corporate CEOs of proven track record and high repute tend to have an unlimited time horizon. By extension, so should their investors. The longer the investor’s experience, the easier it becomes to develop an unlimited horizon. Few market events are unique or unheard of, except for highly unusual black swans. None of today’s market concerns are new. And businesses know nothing or care little about individual participants’ worries or experiences.

Today’s concerns centre on the tension between continued economic globalisation and national retreat into homeland economic protection. Here, the jury is still out as geopolitics exerts an unusual influence on this quandary. Nonetheless, the advent of future President Trump has caused observers to call into question the future of a globalised, free-market economy that many investors and consumers have benefited from over the last few decades. In the early 1980s, the opposite was the case as markets opened and trade agreements were concluded, followed in Europe by the Single Market and the strengthening of economic and political integration. Later, the frenetic dotcom bubble at the turn of the millennium caused a multitude of speculators to suffer permanent losses of capital. Other examples abound. Yet, despite all these uncertainties, multinational Quality Growth businesses not only survived but thrived and grew, whatever their valuations in stock markets, high or low.

In the pre-pandemic years, and before the Russian invasion of Ukraine, low interest rates allowed shareholders of Quality Growth businesses to benefit from the resulting positive revaluation of their investments on stock markets. Since then, rising interest rates have proven to be a substantial headwind to such valuations, even if only on paper and despite the fortress balance sheets such businesses enjoy. But today, the seemingly moribund state of Quality Growth businesses, signalled by depressed share prices, have belied reality. In fact, just as in 1981, at the turn of the millennium and on multiple occasions before and since these events, the internal earning power of such superior businesses remains intact. It is there for all to see and stretches far beyond any short-term reflection of their health as served up by their faltering share prices. In my experience, such occasions will be looked upon in future years as constituting a chasm between perception and reality. Such chasms always proved to be unenduring and many presented golden opportunities.

Why should this be different today?

Market timing is the traditional enemy of long investment horizons. It usually produces a permanent loss of capital. In this sphere, initial success is most dangerous. It induces a false sense of security, intellectual superiority and personal invincibility. Speculators forget the above-mentioned adage whereby a little knowledge is dangerous. Dangerous means the risk of a permanent loss of capital, frequently incurred by perpetrators of market timing. The result is often a sense of despondency and humiliation, sometimes accompanied by a vow never to return to stock markets. Meanwhile, however, life in financial markets goes on and Quality Growth businesses continue to grow.

Markets and successful businesses are not governed by fear or greed, but participants and individual shareholders are. Markets have no conscience and no memory. They are ruthless in both directions. When participants make or lose money, markets shrug their shoulders.

To conclude, it is my firm belief that permabulls produce better returns than permabears. The former can make financial returns but the latter suffer missed opportunities. We have pointed out that the majority of share price gains, in general, are enjoyed over short periods of time, peppered by sharply rising share prices (Market Timing). Permabears are regularly caught out by such robust market movements. They are nowhere to be seen. As a result, the only permabears that make money are financial journalists whose vocation lies in spoiling every party and writing negative stories in exaggerated terms. Professional investors with long experience will ignore these dire predictions. History is littered with such examples.

Permabulls with a long time horizon, backed by a coherent Quality Growth investment philosophy, will nearly always outperform so-called players engaged in short-term trading activity. This lies at the core of Seilern Investment Management’s philosophy.

It is here to stay….

P. Seilern

29^th November 2024

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