A question for Dreamer, if he's still there

Bear and Chris,

There are all kinds of assumptions included in that which I don’t make, including whether I will still be in it it five years (normally I exit when the story has changed). However if I can make 50% in the first year (already have 31% in a month and a half), and 40% in the second year, and exit half way through the third year (typical pattern for me) at up another 20% compounded, I’ll be very happy (that put’s me at two and a half times what I started with in two and a half years).

I simply don’t even think in the terms that you are asking.

As far as answering Dreamer’s questions, he was asking why would you invest in Datadog when Elastic was at half the evaluation? I answered that of course Elastic was at half the evaluation. It was growing 30% less per year and falling, while DDOG was accelerating. Elastic was losing more money each quarter and had large negative cash flow and growing losses, while DDOG was positive and growing. Of course Datadog was valued twice as high! Why wouldn’t it be. That’s a whole different question I was asking than your valuation question. You guys try to quantify all these things with all kinds of formulas and tables. I just figure that as long as DDOG is a great company, it will remain “overvalued”.

THERE IS SO MUCH WRITTEN IN THESE FEW LINES AND THE SIMPLICITY OF SAUL’S FOLLOW UP POST THAT IF ONE ACTUALLY UNDERSTANDS IT, YOU WILL HAVE LEARNT MORE IN THESE FEW SENTENCES THAN SOME PEOPLE DO IN A LIFETIME OF INVESTING. YES I’M SHOUTING. HALLELUJAH!

10 Likes

in looking at my calculations, do you find anything that you would change to arrive at a higher CAGR than 15% (for Datadog) over the next 5 years?

The question implies that the five year calculation is the proper method of evaluating investing in DDOG. Saul points that out: “There are all kinds of assumptions included in that which I don’t make, including whether I will still be in it it five years (normally I exit when the story has changed).”

In an earlier post I commented that static methods are not the best way to evaluate growth stocks. If you are watching the evolution of a technology along its “S” curve then you exit no later that when there is a certain market penetration, in other words, well before the technology nears high market penetration because there is no more market left for fast growth.

The difference between the two methods of evaluating investments, growth vs. value, is that value investors will, almost invariably, consider the growth valuation to be extreme. NASDAQ is often referred to as “tech heavy” while the S&P 500 is supposed to be a cross section of all industry. I know the comparison is NOT perfectly accurate but looking at a 48 year chart comparing the two indexes clearly backs my argument

https://softwaretimes.com/pics/nasdaq-spx-11-16-2019.gif

That is not to say that you can buy stocks at any price. Had you bought a NASDAX index in 2000 it would have taken 15 years to break even. There is an argument no one has brought up and that is that the biggest risk is not volatility but stocks that don’t bounce back. I’ve been through two major busts, 2000 and 2008. In 2000 Global Crossing, GlobalStar, and a bunch of other companies went bankrupt. In 2008 it was mostly financials that failed. Had you avoided these companies, it would not have taken you 15 years to break even. That’s why, in my opinion, understanding the business model is so important. Another way to protect yourself is what Saul does, as soon as he sees weakness he sells. Don’t fall in love with your stocks, they don’t love you back, they don’t even know you exist and if they did, they wouldn’t care anyway. :wink:

The difference between an entrepreneur and an investor is that the entrepreneur must love his business, not so the investor. When you own a business you can’t flip it at the click of a mouse. But there is no reason to have a fixed five year outlook on a growth stock, just watch it develop and act accordingly.

Denny Schlesinger

33 Likes

me: but you still allocate more to the ones you feel have the greatest potential for appreciation. And you have Datadog as a top 3 allocation.

Saul: Actually that’s not my criteria. It’s not the ones that have the greatest potential for appreciation, but the ones I currently have most confidence in that I have the largest positions in.

And then Branmin quoted something else you said and really drove it home for me: I just figure that as long as DDOG is a great company, it will remain “overvalued”.

Wow, that’s it. I think I finally just got it. You see these companies as future behemoths, and I just see them as good businesses with a great business model (SaaS), but not necessarily future $100 billion companies or really anything of the sort. Just solid software businesses that happen to benefit from the SaaS model.

I don’t know if you’re expecting too much or if I’m being too skeptical, but I really think that’s what it is!

My argument would be: look at SQ, SHOP, and TWLO. These were high-confidence positions for you, but they couldn’t keep growing at 60%+ paces forever. You did great on all three before you sold, but if you’d bought them at 40x revenue, you wouldn’t have. The recent ZS drop also makes me skeptical we’ll be able to sell before the PS (and share price) falls if there comes a day where you can no longer say that DDOG is a great company.

Bear

12 Likes

Denny, are you calculating where companies are at on the S Curve? If so how?

But there is no reason to have a fixed five year outlook on a growth stock, just watch it develop and act accordingly.

Denny -

You forgot to drop your mic.

In my opinion, this is the most important sentence in what has been a very educational thread. I believe this thought pretty much nails both the art and science of what everyone here is trying to do.

10 Likes

Denny, are you calculating where companies are at on the S Curve? If so how?

No.

The "S curve applies to the growth of technologies, not to individual companies selling them. But because they are selling them they go along for the ride if they don’t otherwise mess up. If you look at Apple’s chart you are likely to detect several “S” formations that correspond to the various iProducts. The same applied to the several generations of disk drives.

I don’t actually calculate anything, I use the “S” curve as my mental model of how growth stocks grow, all else being equal. There are always articles about how fast various technologies are being adopted, companies report their growth rates. It all helps create a mental picture but I don’t actually do any calculations.

While mathematics underlies everything we do, the system we are dealing with is way too complex for simple formulas to yield the winning answer. If there were such formulas we would all be stinking rich. Maybe one day AI will be able to do it but for now I rely mostly on educated guesswork. The only place where I use a ton of predictive arithmetic is in my Covered Call Selector where you have hard numbers to work with, stock price, strike price, premium, and days to expiration. But even there I look at charts to see if the omen is good or bad. LOL

Denny Schlesinger

10 Likes

You forgot to drop your mic.

Thanks, very kind of you!

Denny Schlesinger

Hi Texmex,

Back in 2000-02 or 2008-09 Saul was invested in growth but used to pay attention to earnings and p/e as I understand. So, just because he has been successful in past recessions does not mean that SAAS stocks will do well in a recession.

I am just going to let Saul do the talking, this is all from his Manifest on the right side.

I lived through the Internet bubble of 1999-2000. I sold out of Amazon, Yahoo, and AOL one day in January or February of 2000, after Yahoo, as I remember, had gone up something like $30 to $50 per day for three days in a row. I said to my wife, “They may keep going up, but this is insane. I’ll let someone else have the rest of the ride.” The bubble broke about 3 weeks later. Sometimes selling can be the most important thing you can do. I didn’t get out of the market. I just bought non-internet stocks and was up 19% for the year. Sure I could have held through the decline, and 10 years later Amazon came back, even if Yahoo and AOL never did, but why???

I got killed in 2008 like everyone else. Probably worse than someone who was in defensive stocks. It was my first negative year after 19 positive years in a row. I stayed 100% in stocks, selling anything which hadn’t gone down much to buy more of the ones that were down the most.

Most people on this board will be unable to do what Saul did in 1999-2000 because they are going to miss getting out. 2 to 3 weeks before the bubble blew up wow.

Also, Now the last recession. How many people here will be able to do what Saul did? Riding it down in the midst of Recession staying fully invested? Especially people that are close or into retirement.

Jeb is right this is all turning into semantics and this will be my last post on this also. The one everyone needs to read is Saul and think how that is going to fit into your investing style. Everyone else that brings ideas to the board, thank you.

Andy

3 Likes

I got killed in 2008 like everyone else. Probably worse than someone who was in defensive stocks. It was my first negative year after 19 positive years in a row. I stayed 100% in stocks, selling anything which hadn’t gone down much to buy more of the ones that were down the most.

Hi Andy, you missed one important point about this. At that very bottom, when I was down an incredible 68% on the year (Nov 20, 2008), which means I only had 32% of what I started the year with, my investments were still at 265% of what I started the decade with (Dec 31, 1999), up 165%, after going through the Internet Bubble Crash, the 9/11 crash, and the 2008 crash (which was the worst crash we had had since 1929 as I figure it). That’s because staying invested in growth stocks pays off so well that I had an enormous cushion. And in 2009 I was up 111%. And in 2010, when writers were talking about the “Lost Decade for the Markets” because they were still where they were 10 years before, I didn’t know what they were talking about because I was up 500% in those 10 years (even after getting crushed in 2008). There are always people saying “Next time it will be different and the market won’t come back”, but personally, I doubt it will be different next time.

Saul

15 Likes

“There are all kinds of assumptions included in that which I don’t make, including whether I will still be in it it five years (normally I exit when the story has changed). However if I can make 50% in the first year (already have 31% in a month and a half), and 40% in the second year, and exit half way through the third year (typical pattern for me) at up another 20% compounded, I’ll be very happy (that put’s me at two and a half times what I started with in two and a half years).” - Saul


My last comment here, since Saul asked.
His above comment was what I was trying to get out of him in the first place.
That is the closest I have seen to him laying out some sort of price appreciation/expectation plan that gets him from his cost basis of X to his eventual exit of Y.

It also is realistic in that it doesn’t pretend to be a stock for the next generation, or even 10 years, let alone even 5 years. It is a 36-month plan.

I have said all along that I believe ZM, CRWD, or DDOG and others of the 40+ P/S group, may very well produce good returns in the short-term, but there was just no way I could see them being a good CAGR for multiple years from now.

Growth stocks can generally appreciate in two ways…at least this is how I think about it:

  1. their stock price reflects their growth rate (whether it is rev, profit, fcf, gm%, etc…)
  2. they have multiple expansion

I also believe, thinking about CRM, NOW, or other SaaS predecessors, that this rule rings true:

  1. P/S ratio will have to decline over time, as law of numbers kicks in, growth trends down, etc…

My issue with something like DDOG is that I don’t see a ton of #2 in their future, as they already have a world-beating multiple. The market already has recognized their growth and said “wow…that really is something…here is a P/S double that of companies ‘only’ growing 50% y/y!”

Which means I don’t see any kind of under-the-radar or masked-growth factors at play where suddenly the market decides this sucker is undervalued and allots even more multiple expansion.

The good news, in short-term, is that the growth rate is so far above 50%, that the multiple can contract, and you can still have a stock price appreciation of 30-40% or more fairly easily, if the company keeps executing and growth doesn’t drop too rapidly (which would likely result in a sharp multiple correction).

So the original question was why do I like ESTC over DDOG, given DDOG’s superior metrics.
It goes back to the above criteria and formula.

I see ESTC still growing at 50%+, with oppty for growth to hold steady and/or re-accelerate with their somewhat-masked cloud business (their Atlas, so to speak, to use an MDB analogy).

So if I look at their multiple, which traditionally very high at 19 or so, compared to most “tech” companies, we have all understood for a while the reasons that cloud/saas companies are getting higher multiples; asset-light, high-GM%, high-growth rates (typically 40-50%+).

In comparison to many other software hyper-growth companies, I am comfortable with ESTC P/S as compared to peers. Again, not “cheap” but not an outlier either. So I do not expect multiple expansion, but I don’t need it either, to make a great market-beating return.

I will model that ESTC can continue growth in neighborhood of 50% for next 12-18-24 months possibly. As Saul often states, if the story changes to the extent I know longer find it favorable, then I exit. But we just saw ESTC kept down by a protracted and confusing stock lockup period, which ended June 10th finally. Momentum is a real thing, and stock kept trending down until June 26th, and then rocketed from about 70 to $100 by July 26th. That was the peak of the year for many of our stocks so far, and ESTC faded down. They had a good ER, but it occurred as most growth stocks were getting pummeled in a rotation. They, along with ZS, have later ERs than most…so I haven’t soured on them because not a whole lot has changed from their previous 2 ERs thru their upcoming ER. I haven’t seen a date yet, but I assume about end of this month. ESTC, like MDB and DDOG, tends to be a developer-led, bottom-up sales cycle. Much different than whale-catching like ANET or even NOW or ZS. I view DDOG’s success as a positive for ESTC, but again I will let the ER dictate how I feel about it in a couple weeks.

Assuming a decent ER and a future I am happy with, my view is that ESTC will continue that 50% growth for a while, will be able to continue to shrink their multiple, and STILL potentially net me 40% stock appreciation gains along the way.

Their current forecast is $412m or so for FY. Their calendar is wacky, so they just did their Q1, and have 3 Q’s to go, with typical beat-n-raises assumed (by me) to get them to $450m (my projection). That would be what they announce next June (their Q4 ER). So about 6 months away.

If they grow 50% y/y in next FY, they would show up in June of 2021 with about $675m in rev.
That is 18 months from now. Current P/S is 19. I want to model a lower P/S in 18 months, and ignoring dilution for the sake of simple P/S math, I show:

  1. a 12 P/S in June 2021 would be $8.1b (about 37% appreciation over 18 months)
  2. a 15 P/S in June 2021 would be $10.1b (about 71% appreciation over 18 months)

Scenario 1 isn’t bad, if not world-shattering or anything.
Scenario 2 would make me very happy.

We have seen stocks go from darlings like TWLO and ZS to dramatically reduced P/S ratios once the story changed a bit. And the story didn’t change a ton, imo…

So - you don’t need to agree with my reasoning anymore than I have to agree with yours.
But basically I find a margin of error or safety or whatever you want to call it, that ESTC can appreciate to a certain degree without P/S contracting too badly, whereas I could see DDOG contracting REGARDLESS of how well they continue to execute, as their P/S reflects that expectations are extremely built-in already. I will not be shocked if they manage to bring short-term (6-9-12 month) gains if the market doesn’t slap their P/S in half, simply because their growth rate is so high.

I just find ESTC to be the safer investment bet.

My last comment is that I really do view your style as a momentum play of sorts…ride a growth stock until story (in the metrics) changes and assume the market will keep rewarding the stock price with appreciation until the story changes. Then exit and move on.

For now, I am happy with TTD and ESTC and AYX and a couple of their friends vs holding CRWD ZM and DDOG. But that is just me. You do you, as it obviously works very well.

all the best,
Dreamer

97 Likes

It is a 36-month plan.

The real point is that it is not a plan with a specific time line. If one’s evaluation of the company goes sour in a month, it might be a one month plan. If it lasts two years, it lasts two years. The only sense of time being a factor is the awareness of the S curve and the knowledge that growth in adoption of the technology will slow eventually so one needs to be alert for that … but, the company might well come up with new technology which will fuel a new company growth curve. It is all the story, not the clock.

23 Likes

It is a 36-month plan.

The real point is that it is not a plan with a specific time line. If one’s evaluation of the company goes sour in a month, it might be a one month plan. If it lasts two years, it lasts two years. The only sense of time being a factor is the awareness of the S curve and the knowledge that growth in adoption of the technology will slow eventually so one needs to be alert for that … but, the company might well come up with new technology which will fuel a new company growth curve. It is all the story, not the clock.

That’s it Tamhas, you got it!
Saul

8 Likes

Thanks Dreamer.

Makes a lot of sense.

Qazulight

2 Likes

There are still a lot of stocks that were priced very high that got hit hard despite no change to the business behind them.

BYND over 50% off it’s high
TLRY well over 50% off it’s high

ZM at one point 44% off it’s high still well off it’s high.

CRWD at one point 56% off it’s high. I actually just took a position in CRWD at 46 because I had a target price of $9 billion but called 10 close enough. I am already up 28% in a matter of a week or two. I also bought and held CRWD going into their first earnings as a public company because I saw a regular trend of SaaS companies going public and having good relative strength skyrocketing on their first earnings report as a public company. Just as DDOG did. I also sold it eventually because I saw no valid justification for its valuation. And here just a few months later I could say I do after the stock fell significantly. Will DDOG follow this pattern? I have no idea. I just know IPOs in particular can do crazy stuff before their lockup expiration. And I’ve seen enough wacky stuff by the markets over the past few years to know the market can become very moody with what price it assigns companies. Gene editing companies double and triple in price only to lose all their gains and more within a year on no news whatsoever. It’s not a thing to turn to for reassurance I’m doing the right thing. And yes I know buying CRWD within a dollar of its low was luck and the subsequent gains can be fleeting. Sone of these IPOs mentioned above, is not all, rose strong because of a small float and huge demand only to see their gains evaporate due toblockup expirations.

5 Likes

There are still a lot of stocks that were priced very high that got hit hard despite no change to the business behind them.

Possibly true, but no change to the business is not the same as no change to the perception of the business. BYND, for example, seems to me to be a case of a huge amount of froth that had little to do with real competitive advantage, moat, or any other sensible business distinctions. Instead, it seemed to me to fit more with the kind of hysteria which fit with cannabis stocks.

1 Like

The difference between an entrepreneur and an investor is that the entrepreneur must love his business, not so the investor. When you own a business you can’t flip it at the click of a mouse. But there is no reason to have a fixed five year outlook on a growth stock, just watch it develop and act accordingly.

What a great point! Denny you just finished the whole argument, that’s really help!

Rick

4 Likes

Hi Andy, you missed one important point about this. At that very bottom, when I was down an incredible 68% on the year (Nov 20, 2008), which means I only had 32% of what I started the year with, my investments were still at 265% of what I started the decade with (Dec 31, 1999), up 165%, after going through the Internet Bubble Crash, the 9/11 crash, and the 2008 crash (which was the worst crash we had had since 1929 as I figure it).

Thanks Saul, This is the most important point. This is the definition of absolute returns. It will help you keep your cool when the market turns against you. Instead of thinking how much you are down, the better train of thought is to see how much you are up for the decade. Remember this, the investments you make today provide you a cushion down the road for the bad times. There are always bad times, but you have to keep your cool. DO not sell because the herd is selling.

Saul also keeps track of his relative returns by judging his investments against different market returns (ie S&P). Some people will say that he isn’t tracking the correct market because of what he is invested in. That is ridiculous. He tracks the same markets against his portfolio year over year. I am fine just tracking the S&P, Saul goes above and beyond.

Andy

17 Likes

Also, Now the last recession. How many people here will be able to do what Saul did? Riding it down
in the midst of Recession staying fully invested? Especially people that are close or into retirement.

I left everything full-in, and actually added as much as I could in late 2007 and into mid-2008 if I recall – a significant five digits went in. It worked out really well, but it was not as simple as it sounds. There was an element of faith, a smidge of hope, and certainly some finger-crossing that the market would settle out its differences without hitting my portfolio so hard it would take 10+ years to recover. I think I was down 40% across the board at one point, but also not too “close to retirement” at that point, so that helped – time and probability was on my side.

For the next recession, I’m 10+ years older and thus 10+ years closer (actually more like 15 years closer because staying full-in pulled at least 5+ years off my retirement age). I can SAY right now that I’d throw in another $XXX thousand on the drop… but they’re just words until it happens and I can measure the moment combined with my financial plans combined with whatever – a very complex system, as Denny has said repeatedly, involving a mix of things I do and don’t have control over.

And let me just say to avoid a second reply at the end of catching up on this thread:

There is a massive amount of wisdom in this thread from multiple people. I wish my 25 year-old self had seen a thread like this. I would already be retired and sitting on an island in the Maldives or Belize. Thank you to all that have contributed!

5 Likes

Saul,
This pertains to your experience during the SP 500 crash of 2000-02 and 2008-09. Were you always invested in small cap growth stocks during this period? Or were you invested in larger cap value stocks as well? I am defining value as a p/e below the sp500 at that time. And did you stay fully invested in both periods?

Secondly, I assume that all of the stocks you were invested in had earnings and cash flow. Given the lack of that in many of the SAAS stocks do you see them able to grow sustainably in a recession?

2 Likes