Ignorance is bliss

Morning all. First things first, an apology and a correction.

In Friday’s article I wrote that Boris Johnson’s UK government had changed a law so that all internal combustion engine vehicles would be banned in 2035 instead of 2040.

Thanks firstly to our eagle-eyed readers who flagged that this was wrong. And thanks to all who provided feedback to kit@southbankresearch.com on their views about investing in small clean tech stocks, ESG investing and the like. Any more responses are still welcome, by the way, corrections too!

The ban is on the sale of petrol, diesel, and even hybrid cars. So while you won’t be able to buy a new petrol motor, existing ones will continue to drive on our roads. Boris Johnson said that the ban will be brought even further forward, if possible.

This is a bad mistake on my part and I apologise for it. It undermines the argument for electric and hydrogen vehicles and infrastructure, though it obviously only slows down the transition, it doesn’t change it.

Anyway, on with today’s note, which is about my two pillars of investing – fundamentals vs psychology…

What matters more – perceptions of GDP, or the real figure?

After the Brexit vote, Brexit voters were more likely to think the British economy had improved, while Remainers were more likely to think it had got worse. Despite the fact that reality was the same.

Who is right? Does it even matter?

Because I wonder, what truly matters – our lives improving or our perception of our lives improving?

GDP growth doesn’t accurately measure human wellbeing. It’s shorthand for a great number of improvements in the world we inhabit, but is very limited.  

So maybe the Trumpian, BoJo style of simply asserting that everything is or is getting better is actually more significant than the reality. Because it’s better if people feel optimistic and positive about the economy and the direction of the country than for that to actually be true.

I spoke about this with regard to China (covering up the coronavirus) and with Tesla (trying to cover up losses) earlier this week.

In life more widely there is a separation between reality and our perceptions too.

Mo Gawdat, in his book Solve for Happy, says that happiness equals reality minus our expectations of what reality will be like.

Tesla investors’ perceptions of reality matter way more than the actual reality of the company.

But it’s not entirely Tesla investors’ fault. They are being bombarded with false or misleading information at every turn. The company recently reported annual financial figures. Some recent headlines were all like this:

CNN: Tesla posted its first annual profit, easily topping Wall Street’s forecasts in the final three months of 2019

CBS: Tesla posts first annual profit: ‘2019 was a turning point’

Problem is, that’s simply not true. In reality, Tesla lost $862 billion dollars last year.

Accounting tends to be a slightly unexciting topic of conversation. That’s true when everything is correct and normal.

But it becomes incredibly interesting the moment that’s true.

At Tesla, its $862 million loss was calculated using GAAP – generally accepted accounting principles. Those are ubiquitous standards that every company must use.

But the figure Tesla chose to share with investors and the press as the headline figure was a $36 million profit for the year, calculated using non-GAAP accounting.

What that involved was removing almost $900 million of stock and option-based compensation from the earnings figure.

Other reputable, famous and successful short sellers of the stock have gone further, questioning whether certain lines on the income statement even exist.

David Einhorn is the prime example, who has entered a number of spats with Elon Musk about this subject. He has repeatedly questioned one particular line in Tesla’s financial reporting – the accounts receivable (money Tesla is owed), which seems to levitate for a host of surprising reasons like which day of the week reporting day came on, or European payment delays (which aren’t accurate).

His very public and direct questions have never been met with a satisfactory answer.

The moment you go off-piste in accounting, you can adjust for this, move that forward or backward, depreciate the other and use clever tricks to transmute liabilities into assets.

Many of the most famous frauds and bankruptcies used clever accounting tricks. Enron is a famous example. Waste Management Inc used acquisitions to inflate earnings and turn costs into one-off events that could be excluded when calculating earnings.

Most recently and famously, Lehman Brothers bank used a legal loophole to turn a heap of liabilities into non-balance sheet items by loaning them out on the (of recent fame) repo market just at the point of quarter-end financial reporting.

I will be in no way surprised if news of accounting shenanigans emerges from Tesla. It would certainly explain why it hired a CFO who is the youngest and least experienced of every CFO in the S&P 500…

But it’s not just companies who put a very thick sheen on reality.

China is so focused on people’s perceptions of life in China that it will happily increase the risk of coronavirus infection for its citizens as long as no one is talking about it or criticising the government for it.

Stability and serenity matter more than reality to the Chinese Communist Party. That’s why it intimidated doctors into silence when they were trying to warn people that the flu outbreak was a new SARS-like strain, not the normal kind.

Well, the death of one of those silenced doctors, killed by the disease he was trying to save people from, has caused unprecedented anger on social media from the nation’s citizens.

The censorship bureau have had their work cut out in the last couple of days, deleting any news reports of his death and all social media responses to it, which focus on government complicity in the outbreak, poor leadership and freedom of speech.

In investing more generally, balancing reality and perception is both the hardest and most interesting thing we do.

Investing in the psychological side leads you to things like Tesla, bitcoin, Tilray (a pot stock), Beyond Meat and the like. These kinds of things have the best chance of making you rich in under 12 months, as buying fever takes over and sends share prices up hundreds of per cent, quickly.

But they also have the best chance of losing you half your investment in 12 weeks, or less.

On the other hand, investing purely in fundamentals seems to be how the Howard Marks’s and Warren Buffetts of this world became successful investors in the long term – I’m talking 40, 50 years or more.

These guys have made it big in the long run, but if you only look at fundamentals you might have to wait a while.

So in every case, it’s down to the individual investor to decide where on that spectrum they lie.

Fundamentals are telling you pretty clearly to be a seller right now. When valuations are this high across the board, prospective returns are low over the next 5-10 years.

But this year… psychology is telling us that nothing – no virus, no Middle Eastern tensions, and no Brexit – can crack the bullish mind-set of global investors.

How you make your mind up is up to you, and I wish you the very best of luck either way.

All the best,


Kit Winder
Investment Research Analyst, Southbank Investment Research

PS The Financial Times reported on Friday that a record temperature of 18 degrees centigrade was reached in the Antarctic this week. It was 0.8 degrees higher than the previous record.

Category: Technology

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