Which One Are You?

I worked with a guy several years ago, and we are still good friends. I’m going to call him Mason.

Mason’s a great storyteller, and in addition he is a stock-picker, and a good one at that. One of his tales was when he was covering a certain sector, and a sell-side analyst had organized a “reverse” roadshow for the group. Here, instead of the broker bringing a company around to visit a bunch of different buy-side shops, the broker takes an investor (or group of investors) around to visit several different companies over the course of a day or two. Some PMs or analysts might join these trips for the entire line-up, while others might go just to see one or two of the companies they are specifically interested in.

Mason was interested in the first company on the list. We’ll call it XYZ. Three or four others (from different firms) were joining on this leg of the trip, and they all flew over to wherever the closest airport was. After arriving, my buddy jumped in a car to meet everyone else on site. For some context, this all was long before we could call an Uber, and the iPhone wasn’t even out yet; so with that, here is Mason’s story:

‍“So, I get in the taxi, and check my Blackberry and XYZ was ripping,” he said, “and I wondered if they increased guidance or something in a press release before we arrived; but they hadn’t, and then a (different) broker frantically calls me up and says ‘hey man, XYZ is ripping, looks like a bunch of hedge funds just visited them this morning and liked what they saw’.

‍So what did I do?

‍I started piling in too!”

This. Blew. Me. Away.

This wasn’t how I thought about things. This wasn’t the reaction I would have had. Had it been me in the taxi, and if the stock was up enough (and I owned it), I probably would have trimmed some of my shares (aka sold them) right there and then, anticipating I’d be able to buy them back after actually visiting the company, or at least after things settled down. If I didn’t own them, I might even have shorted some.

But not my man Mason. Even though he knew there was no information in the news, that the news itself was actually wrong, and – moreover – that it was about him; his first reaction was to join the buyers.

And for the longest time, I thought he was silly, and I was the smart one.

But now I'm not so sure.

These days, “reflexivity” seems to be almost self-reinforcing as a “reason” to justify share price moves (yes, the reflexivity of reflexivity). So instead of these moves lasting an hour or a day or even a week or a month, in some names (you know them) they are lasting much longer.

So I wonder now if Mason's “wiring” was right, and mine was wrong? I think there is a quote out there somewhere from Soros that when he sees a bubble, the first thing he wants to do is join it, “rush(ing) to buy, adding fuel to the fire.”

In other words, if the potential for excitement is unbounded and the setup is ripe, maybe the asymmetric risk-reward trade is to buy not sell?

In this case, maybe the difference in reactions is more about whether or not we are investing or trading? Or maybe that is just something investors say to make themselves feel better? I don’t know.

But to summarize the distinction, my view is that you are leaving money on the table by not taking advantage of the unwarranted overreaction to the upside; while my buddy’s view was that you are leaving money on the table by not getting ahead of the others who will continue to pile into the name.

‍What About You??

So, if you are in the taxi, what is your first move (and you can’t say “do nothing”). If you are working for a hedge fund, have a typical holding period of six months to two years, and there are no penalties for trading too much (in fact your bosses and even your clients expect you to), and XYZ pops 7% on the rumor that you had a good visit with the company, but you actually haven’t even seen them yet, what do you do? Are you trimming or adding?