Nice job Ethan! I’m curious how you modelled this. Did you use a type of “EV valuation over revenue” type of assessment? If so, was type of multiples were assumed? Thanks for doing this!
In my family, I’m considered the “investing expert” (I know, I know but “in the land of the blind, the one-eyed man is king”). When my family and friends come to me for advice, I do my best to channel Saul: Only buy the best, pay attention to the business fundamentals and business health: look at revenue growth, recurring revenue, profit margin, strong management, improving business metrics, size of the TAM, strong competitive advantage, etc., and don’t (necessarily) pay attention to localized market movements; you’re in it for the long term, until the company’s story changes, then decide to sell, buy more, etc.
So in light of the recent market behavior, I am getting questions like
• What’s happening?
• When will it end?
• What’s happening with our stocks?
• Why don’t we sell our SaaS stocks and do what the money managers are doing and rotate over to travel, leisure, and industrials?
• And, importantly, what should we do now?
Below are my answers. Would love to hear other’s feedback.
What’s happening is fairly straight forward: our companies have run up quite a bit since March ’20 and now there is a textbook rotation to “re-open” stocks: travel, leisure, industrials, etc… Money managers are rotating away from the biggest winners in their portfolios to take advantage of lower prices elsewhere. In general, a pull back of 20% to 40% is not uncommon, in fact, it happens about once per year.
When will it end? No one knows the actual date, but the rotation will end when economy reaches its expansion limit, when the yield on the 10-year Treasury stops rising and the Federal Reserve hikes rates from near-zero levels. But some of this action is absolutely crazy and irrational. Examples
• Look at Footlocker: they reported an absolute terrible quarter, with really no future. Guess what, they rallied because they are considered a “re-open” play.
• United Airlines(UA) announced a significant share count increase (up to 37 million shares!) What happened? The stock rallies on that news. Why? Because they are considered a re-open play.
• Contrast UA announcing a stock issuance and getting a positive pop with Roku when they announced a $1B stock issuance: Roku got hammered.
So what’s happening with our stocks?
We all know about DDOG and NET; both had really strong quarters and both their share prices dropped after announcing, and another ~25% or so since then. Saul pointed out that even the analysts raised NET’s price targets about 17%, and that was before this recent market correction.
ZM had a nice quarter, and was up about 10% during the day of their announcement, and about another 10% in AH, only to be down about 25% since Tuesday…
CRWD: CRWD is down almost 25% since Tuesday. They report Tuesday, March 16, 2021 and I have no doubt CRWD will
• Blow their revenue number out of the water
• Report strong customer growth
• Report strong recurring revenue growth
• Report strong gross margin…
but could still drop. (aside: CRWD is interesting, in that, it’s shed so much recently that I could see a pop with a really strong outlook, but who knows in this crazy bizarre market, where substandard businesses are popping because they are considered “re-open” stocks.)
And a number of other our companies have a similar story: they are getting hammered in the market despite their strong and growing business, firing on all cylinders.
Why don’t we sell our SaaS stocks and do what the money managers are doing and rotate over to travel, leisure, and industrials?
Short answer: because they aren’t strong businesses compared to our companies and we don’t know when the rotation back will start. IMO, it’s better to be invested in strong companies, and just ride it out. No one can accurately time the market, so why try?
What about hotels and cruise lines: very slim margin, infrastructure heavy, slow revenue growth, if any at all.
Restaurants? Similar: brick and mortar, razor thin margins, high labor costs, etc.
Airlines? Same: Terrible margins, huge infrastructure costs, regulation dependencies, strong oversight, dependent on oil prices, etc.
Could some of these companies rise in the coming months? Yes, in fact we are already seeing it. But you’re in it for the long term; eventually these companies will “regress to the mean” and their share price will more accurately reflect the health and strength of their business.
The strongest companies always come back and push higher. No way to gage how long it will take, but companies that provide products and services that other companies need (products and services that save other companies money, time, make them more productive and lucrative, and/or protect them) will persevere and continue to do well, despite how the market reacts to them in the near term.
What should we do now? Simply put, hold on, if you are able and have the stomach for it. If you are investing on a regular cadence, continue to invest in the best companies (as we’ve defined), the category crushers that dominate their respective segments. Remember, Saul was down ~60% in 2008. This relatively modest 20%-30% pull back is child’s play compared to that. If you don’t like the volatility, there’s a broad market index fund or ETF with your name on it that will let you sleep at night, but will likely not provide the long term gains a portfolio of strong companies that are firing on all cylinders.
I welcome feedback.
Thanks,
Gary