Giants win! Giants win! Giants win!

We suppose there are other news stories to discuss, but we can't help posting one more baseball-themed discussion in honor of the 2010 World Series victors, the San Francisco Giants. Having grown up watching Giants greats like Willie McCovey, Will Clark, Matt Williams and many others, this victory was very moving for your humble blog authors as well as for millions of other longtime Giants fans in the Bay Area and around the world.

There are many amazing things to say about this year's San Francisco Giants team and their savvy manager Bruce Bochy, who seemed incapable of making a wrong tactical or strategic move during the entire postseason. One that we feel is perhaps most valuable to point out to investors, however, is the fact that the "conventional wisdom" did not give the Giants much credit or much chance of winning.

In contrast to the conventional wisdom, the Giants not only won the division series, championship series, and World Series, but they made it look like they were completely in a league by themselves. This is stunning, and deserves consideration by investors, who are often subjected to "conventional wisdom" that is absolutely positive that some outcome is a foregone conclusion, and those investors should stop and think about how many times conventional wisdom has been completely and utterly wrong (remember the predictions of $200 oil in 2008?).

The San Francisco Giants were never "supposed" to make it to postseason play, let alone the World Series, according to many commentators. Of course, we know that the world of sports is full of surprises, and that Cinderella stories like the 2010 Giants have happened before, but take a look for example at this Sports Illustrated story from August 30 of this year, discussing the postseason prospects of various major league teams. Not only are the Giants not mentioned at all, but the article goes on to point out that coolstandings.com, a sports-oriented odds prediction site, gave the Padres (whom the Giants would later beat out to advance to the postseason) a 95.3% probability of winning their division and advancing to the playoffs --"the closest to a sure thing in the majors," the article's author said.

The rest, as they say, is history. We've written many times before about the fact that statistics and industry pundits and computer models and mathematical probabilities are all helpful tools, but that well-led, innovative groups of human beings often surprise all the naysayers (see for example this previous post, this one, and this one).

Our advice for investors has always been to commit investment capital to well-run businesses operating in fertile fields of growth, rather than trying to "play" some prediction about what is "certain" to happen next based on some computer program, statistical prediction, or the latest tenet of conventional wisdom. We think that this year's baseball season, and especially the spectacular postseason, can provide a memorable and colorful lesson in that vein for all investors.

Congratulations to the 2010 World Series Champion San Francisco Giants!

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Gold versus Apple

Recently, CNBC ran a short interview segment entitled "Battle of the Bugs," comparing the fanaticism of some Apple investors and some gold investors (or "gold bugs").*

While the network and interviewer chose to focus on the similar intensity of both camps, and jokingly tried to portray each group as a sort of "cult," we feel that the interview completely overlooked the real story.

The real story, in our opinion, is the amazing outperformance that investors who committed capital to an innovative company adding value would have experienced versus investors who put their money into a commodity such as gold, even during a time period in which egregious Fed oversteering has boosted the price of gold to record levels.

The chart below, frequently flashed on the screen during the CNBC segment, is worth a thousand words:

















The chart shows that over the past twenty years, the price of gold has risen 229.66%, while the price of Apple stock has risen 3,866.97%. There truly is no comparison, no matter how hard CNBC tries!

The arguments for investing in gold found in the clip above are no doubt familiar to anyone who has seen or heard the numerous gold commercials on television and radio over the past year: namely, that the failure of the government to prevent inflation and dollar devaluation has led to the current stratospheric gold price, and all indications point to continued government mismanagement of the same sort in the future.

We ourselves have written many posts about the historic trend of dollar devaluation, and the fact that its cost is far more damaging than many people realize -- see for example "Stand still, little lambs, to be shorn!" and "Avatar and long-term inflation."

However, we have always argued that investing in innovative companies is a far better defense against such devaluation than investing in gold and other commodities. We made this point as far back as this post from February 2008 (which featured two San Francisco Giants tickets as an illustration of long-term dollar devaluation). That post included a link to a discussion by Professor Jeremy Siegel on the reasons that innovative companies adding value have historically been able to stay ahead of inflation better than either gold or real estate.

On a deeper level, we would point to the philosophical aspect of this "debate." Innovative companies such as Apple grow by adding real value to those who buy their goods or services. Commodities, by their very definition, are materials to which no value has yet been added -- they go up or down in value only by the changing value of currencies and markets. "Playing" the change in market valuation is very different from identifying a company that is adding value and participating in that growth by the investment of capital in that company. We discuss this distinction in "Growth is the answer: the primacy of human creativity" and in "Gambling, speculation, and investment."

While we have always agreed that gold (apart from its use as a commodity) has historically been a store of value, and that hasn't changed, lately it is being touted as an "investment alternative," and we would caution investors that playing its changing market price is speculation and should not be put into the same category as participation in the growth of a well-managed and innovative company.

The graph above from the more recent CNBC segment tells the story as powerfully as anything else we've seen. That was the real story that investors should take away from CNBC's "Battle of the Bugs."


* At the time of publication, the principals of Taylor Frigon Capital Management owned securities issued by Apple (AAPL).

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For later posts dealing with this same subject, see also:

• "Another wake-up call" 11/29/2010.

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Why all investors should be Giants fans!

The Major League Baseball League Championship Series are going on this week in both the National League and the American League, and it occurs to us that there is an investment lesson (probably several investment lessons) in the various matchups taking place.

One of the most striking contrasts to us as portfolio managers is the difference between the San Francisco Giants, playing the Philadelphia Phillies for the National League Championship, and the New York Yankees, playing the Texas Rangers for the American League Championship.*

The Yankees are well-known as a team which habitually acquires big-name players from other teams, while this-year's San Francisco Giants team -- and especially their well-respected pitching staff -- is very much a product of players the Giants developed themselves within their own farm system.

Many of the Yankees stars were bought with the offer of a huge salary rather than brought up inside the Yankee system, including Alex Rodriguez, CC Sabathia, Mark Teixeira, AJ Burnett, and Lance Burkman (Derek Jeter being a notable exception, as is young pitcher Phil Hughes). This situation is no surprise for followers of baseball, as the Yankees have been known for this strategy for years.

In contrast, the Giants team largely grew up within the Giants system. Starting pitchers Tim Lincecum, Jonathan Sanchez, Matt Cain, and Madison Bumgarner all came up through the Giants farm system and played AAA ball with the Giants organization in Fresno, as did stellar rookie catcher Buster Posey.

We've made the point before that there are interesting portfolio management lessons to be learned from sports, particularly from baseball (see for example this previous post). We believe it is not a stretch to apply this contrast between the Yankees approach and the approach of the Giants to the difference between companies that grow by acquisition (similar to the Yankees spending a lot on players whose developmental years were on other programs) and companies that grow organically (similar to the Giants, many of whose stars came up through their own system).

Examples of companies that have grown by acquisition might include serial acquirers General Electric and Oracle, while examples of successful companies that have grown primarily by pursuing their own organic business ideas with few acquisitions include cloud computing star Salesforce.com and even consumer powerhouse Apple.**

In general, we believe investors are generally better served by allocating capital to companies that resemble the Giants (organically grown) than to companies that resemble the Yankees (big-dollar serial acquirers), if for no other reason than the fact that "Giants-type" companies are typically smaller and may be focusing more exclusively on their core competency. A danger with serial acquisitions in the business world is the tendency for a company to end up focusing on too many possible avenues for future growth, rather than the one or two that they have been involved in from the start.

Some readers (particularly if they are Yankees fans) might counter with the argument that the Yankees have long been the winningest team in baseball, perennial contenders for the American League pennant and even the World Series.

We would answer this with the observation that for an investor, by the time a company is big enough to throw around the kind of money that the Yankees do, it may be past its growth phase (there are notable exceptions). We have written about the difference from a portfolio management perspective between trying to build a portfolio of well-run up-and-coming businesses (like the Giants) and trying to build a portfolio of larger, more mature companies in previous posts (see especially the discussion in the second half of this previous post).

These are important issues for investors to consider as they enjoy this year's exciting post-season play in the great American pastime of baseball.


* Full disclosure: Blog authors Dave Mathisen and Gerry Frigon have been long-time fans of the San Francisco Giants and may be somewhat biased in their comparison of the Giants and the Yankees.

** At the time of publication, the principals of Taylor Frigon Capital Management owned securities issued by Salesforce.com (CRM) and Apple (AAPL). At the time of publication, the principals of Taylor Frigon Capital Management did not own securities issued by General Electric (GE) or Oracle (ORCL).

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Freedom and the rescue of the Chilean miners

The ongoing rescue of the miners in Chile may well go down in history as one of the most amazing events of our time.

Here in a short video clip (above), two members of the Wall Street Journal's Editorial Page, Deputy Editor Daniel Heninnger and "The Americas" columnist Mary Anastasia O'Grady, explain some very important lessons from this moving rescue.

They make the point that the technology that made the rescue possible came from far-flung businesses specializing in very niche equipment, and that only capitalism enables such innovation and only capitalism can effectively bring such diverse resources to bear on solving difficult problems.

The great advocate of capitalism and freedom, Milt Friedman, explained this lesson in his famous lecture on the pencil (see here for a short 2-minute video of Milt Friedman explaining it as only he can; note also that he thinks the graphite probably came "from some mines in South America").

The Journal writers also point out the difference in the Chilean response, welcoming the technology from firms based in other countries, to the rebuff the US gave after the gulf oil spill to ships from other countries, based on anti-market laws on the books for decades (as we discussed here).

We would also draw a parallel between the role of capitalism in the ability to rescue miners lost for weeks, half a mile below the surface of the earth, and the role of capitalism in the ability to put a man on the moon back in 1969. As we discussed on the fortieth anniversary of that momentous event, "during the 1960s, the space program was very much seen by the entire world as a contest between two nations with very different views about the best way to allocate limited resources."

It is valuable to think about the contrast between free-market capitalism and anti-market protectionism, because that battle is still going on today. The dramatic rescue of the Chilean miners underscores the fact that capitalism really promotes life and freedom, or, as Milt Friedman said so long ago: "That is why the operation of the free market is so essential -- not only to promote productive efficiency, but also to foster harmony and peace among the peoples of the world."

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For later posts on this same topic, see also:

• "Glenn Beck is an economic butterbar" 11/04/2010.
  

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Rip Van Winkle, 2010

A little over a year ago, we published a post entitled "If Rip Van Winkle took a one-year nap before September 15, 2008." The purpose of the post, as we explained at the end, was not to encourage the kind of negligent attitude that Washington Irving ascribed to the protagonist of his famous short story (a character of "insuperable aversion to all kinds of labor," who would rather "starve on a penny than work for a pound") but rather to point out the importance of investing in good companies of the type we discuss on this blog, a portfolio of which had returned to within 5% of its original value, one year after the collapse of Lehman Brothers and the most ferocious bear market in over seventy years.

At that time, the broader market was still down over 16%. We have previously written about our belief that "just owning the market" is not something we recommend in any economic environment, but that in periods such as the 1970s or the current environment, just owning the market can be far more problematic than in more friendly environments such as the 1960s or the 1990s.

Now, two years after the start of Rip Van Winkle's hypothetical September 2008 nap, it is the overall market that is almost back to the prices it hit in the week before September 15 (the Monday after Lehman Brothers declared bankruptcy the day before, and a day which saw the Dow Jones Industrial Average plunge over 500 points by the close).

On September 11, 2008 -- the Thursday before the "hurricane hit Wall Street" -- the Dow closed at 11,433.71 and the S&P 500 closed at 1,249.05. At the end of September of 2010, the Dow Jones Industrial Average closed at 10,788.05 (down about 5.6%) and the S&P 500 stood at 1,141.20 (down about 8.6%).

Over the same period, the Taylor Frigon Core Growth Strategy (an actively-managed portfolio of growth companies of the type we discuss on this blog, managed using a discipline based upon the principles we discuss on this blog) is above its September 11, 2008 mark by over 16%, and has grown at a compounded annual rate of over 13% per year, net of fees, between September 30, 2008 and September 30, 2010 (complete GIPS-compliant performance numbers, with important GIPS disclosures, are available here).

We hesitate to highlight market performance over a period of only two years, because we know that what really matters to real investors is performance over periods of thirty, forty or even fifty plus years. However, we believe that bringing Rip Van Winkle out into the sunlight again at the end of September, 2010 is helpful to our readers for a couple of reasons.

First, it is an important reminder to investors to "stay on the train," rather than trying to anticipate market plunges. One year later, investors who owned growing, well-run companies would not have noticed much difference in their portfolio prices if they had been asleep for a year. Investors who panicked at the bottom and bailed out, as evidence suggests many investors did, made a very grave mistake. Two years later, the results are even more conclusive.

Second, these numbers speak to the importance of selecting the right kinds of companies. We have discussed the importance of selecting companies involved in major "paradigm shifts" in many previous posts (see here for example), and have discussed the very important "exaflood" paradigm shift in many posts stretching back more than two years.

Finally, while Rip's nap illustrates the fact that investors can actually stay invested and come out ahead through even the most trying market gyrations, his laissez-faire attitude towards what we might call "due diligence" can also serve as a cautionary tale for investors.

We believe and have said before that investment is not rocket science, in spite of the air of mystery cultivated by many in the financial services industry and by those who write books about it. However, it is not something that simply "takes care of itself." Investors must follow a consistent discipline, and put in the required work on their portfolio every day (unlike the main character in Washington Irving's short story). We have discussed this topic both for those who wish to do it themselves and those who would prefer to hire someone to do that work in several previous posts, such as here and here.

While there is no way of telling what the upcoming year holds, we believe that these "Rip Van Winkle" lessons will continue to be important for investors to understand in the years ahead.

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