Question: Could rising “short-termism” actually provide an alpha opportunity for longer-term-oriented equity investors? Ironically, yes in my view. Let’s look at today’s financial technology (fintech) sector as an illustrative example.
Froth in fintech IPOs
I’m concerned about growing froth in the fintech initial public offering (IPO) market because much of the recent activity there signals that investors are continuing to take on more and more risk in pursuit of hoped-for near-term rewards. Here are some behaviors that, to me, highlight the potential for endemic short-termism among fintech market participants:
- Revenue growth rates alone are driving valuations, with no connection between IPO prices and future expectations of unit economics, profit margins, and such.
- From where I sit, there doesn’t seem to be much focus at all on the longer-term defensibility and sustainability of company growth.
- Everything is being valued based on “comps,” which are generally baskets of stocks that are trading at all-time high relative valuations.
The “greater fool” theory
One of my colleagues, Multi-Asset Strategist Adam Berger, has published research focused on the merits of having a long-range investment orientation and a healthy dose of patience. One of his essential takeaways: “For asset owners, the key to success as a long-term investor is not being swayed by short-term events—asset owners should cultivate patience.”
That is easier said than done for most investors and, for many, appears to be particularly difficult to pull off in the current “meme-stock” era. The more capital markets democratize and the news cycle accelerates, the more markets appear to be moving on short-sighted data points rather than a fundamentally-rooted understanding of the longer-term story. This puts pressure on many asset owners to compromise their research-driven convictions and “follow the herd.”
As one example of how great this pressure has become: In an April 2021 survey of US individual investors by the Yale International Center for Finance, 67% of respondents said they thought the stock market was too high. But 76% said they also believed the market would rise over the next year. The “greater fool” theory appears to be pervasive in today’s market, suggesting that the short-termism described above is not confined to fintech investors.
The long-term opportunity
As I see it, the outperformance opportunity for long-term investors here is two-fold:
1) Maintaining a long-term perspective in the face of rampant short-termism can help asset owners mitigate downside risk by limiting their exposure to assets that have been overinflated by said short-termism.
2) A disciplined, buy-and-hold approach could help patient investors accumulate positions in quality assets whose long-term performance prospects may be largely underappreciated by the broader market.
The fintech sector is a microcosm of this long-term opportunity. The growth potential is tremendous, yet arguably no tech frontier demands investor patience and deep research more than fintech. Three key forces look poised to challenge short-term assumptions about long-term outcomes and generate opportunity for patient fintech investors:
1) Incumbents will fight for their stake in the fintech future. From banks to credit card networks to scale processors, incumbents are trying to “out-innovate” the innovators or, at the least, leverage their size and scale to hold back insurgents. As of this writing, I think many incumbents look undervalued relative to their upstart competitors, despite obvious advantages.
2) The fintech ecosystem is fractured and ripe for consolidation. As we’ve seen recently, industry consolidation can swiftly alter investor perceptions and cause fintech assets to reprice. With fintech M&A activity clearly on the rise, predicting and analyzing this activity will become increasingly important as the ecosystem matures and network effects intensify.
3) The regulatory landscape remains murky. My colleague Scott Kennedy often talks about regulatory actions by the SEC or other government agencies that could stifle or even derail some fintech companies’ business models going forward. It is therefore imperative, in my judgment, that fintech investors consider regulatory risk in their long-term estimation of a company’s growth trajectory.
Beyond fintech, investors’ recurring tendency toward short-termism has long been evident across market sectors and asset classes, at times pushing prices to unsustainable heights. To paraphrase Bill Gates: “People often overestimate what will happen in the next two years and underestimate what will happen in the next 10 years.” Patient, discriminating investors could be well positioned to harness that longer-term upside, while potentially minimizing exposure to short-term asset mispricings.