Expectation is the mother of all frustration. -- Antonio Banderas
When you are a parent, you learn your kids take every promise to heart. For example, if you mention there will be a reward for a specific kind of work or behavior, when the prize is desired, you see an interesting outcome. Charlie Munger often mentions he always underestimates the power of incentives on human behavior. In this context, the idea of expectations can either raise or lower that barrier people have about an event. Munger famously believes the secret to life is low expectations, so you will never be disappointed.
Conversely, if anticipation is great for a superior result, a slight alteration can leave the audience deflated and potentially upset. I mention this because the past week in the markets was an important one, as earnings reports streamed in from all over the corporate universe. Just as notable is how investors prepared for these reports, or, quite simply, what were market expectations going into these events. The market had a pretty good run going into the week, so hopes were high for strong figures. So what happened?
Generally speaking, you saw many of the most highly valued companies in the markets meeting estimates but having the stock get hammered because investors wanted more. More, more, more, more, always more. When a stock gets bid up to stratospheric levels it can become nearly impossible to post results which will satisfy the crowd. As a business gets larger in size, especially above $10 billion in sales, the idea of growing above 10% per year gets increasingly difficult. Companies like Microsoft (NASDAQ:MSFT), Google (NASDAQ:GOOGL), and Starbucks (NASDAQ:SBUX), the heavyweights of the NASDAQ, all are examples of this problem. Google whiffed it, but the other two met the anticipated results, and still the equities sold off on Friday. Visa (NYSE:V) also experienced this situation on Thursday afternoon.
On the opposite side of the spectrum, Johnson & Johnson (NYSE:JNJ), American Express (NYSE:AXP) and Qualcomm (NASDAQ:QCOM) had numbers which were slightly better than contemplated, and the equities gained a little ground, or at least held steady. Part of the what transpires is also a result of the guidance and narrative about the business which management teams project and the tone of those comments. Steve Jobs was famous for lowering future guidance to such a low bar that when Apple (NASDAQ:AAPL) invariably smashed the estimate by 20%, investors would always bid up the stock the next day. Warren Buffett rails about giving guidance and in the long run, results ultimately determine how a company is valued. Still, companies get investor constituencies based partly on how management teams are viewed. Nobody is going to question Howard Schultz, Reed Hastings, or Jamie Dimon now after many years of success. There was a time in all of their careers when plenty of institutional investors did, and are now much poorer because of it. The bottom line is great companies can be victims of their own performance, and we saw that in evidence yesterday. The pertinent question is how does this play out over the rest of the year?
Next week, big oil reports, as do highly publicized tech giants Facebook (NASDAQ:FB) and Twitter (NYSE:TWTR). Nobody expects much from energy or tweety bird, but the same cannot be said for Mr. Zuckerberg and the big FB. Good luck Zuck. In the political realm, with delightful Donald and shrill Hill mopping up the floor in New York with their rivals, it appears they both will move much closer to the nomination with big wins in northeast states like Pennsylvania, Maryland and Connecticut. Still, with the presidential election increasingly looking like a Donald vs Hillary love fest, expectations for a substantive debate about the issues should be tempered. After all, following the wisdom of Mr. Buffett and Munger, isn’t that the key to a peaceful and satisfying outcome?
Disclaimer: Y H & C Investments, Yale Bock, and the family of Yale Bock own positions in securities mentioned in the blog post. Investing in stocks can lead to the complete loss of your capital. As always, on any company mentioned here, past performance is not a guarantee of future returns. Investing involves risk of losses on invested capital. One should research any investment and make sure it is suitable with your objectives, risk tolerance, risk profile liquidity considerations, tax situation, and anything else pertinent to your financial situation. Also, the CFA credential in no way implies investment returns will be superior for any charter holder.