“You hear the expression all the time about the “smart money” moving the line [in sports betting]. People say that because they think only the wise guys can place a big enough bet that will make the oddsmakers adjust their spread. The truth is that the only thing that moves the line is money, and it doesn’t make a bit of difference where it comes from. There ain’t nobody keeping score to sort out whether it’s a wise guy or a guesser who is making the bet.”
- Amarillo Slim
On the second day of the new year, Weight Watchers (WTW) shares took a beating; when the trading session ended, the shares were down more than 13%. As with every move in the market – particularly the big ones – people wanted answers: what the heck just happened?
Here’s what Reuters had to say about the action (here):
“The reasons for the decline were unclear.”
As an investor, that can be difficult to accept: when you’re watching a position move against you in a big way and you’re losing money, the lack of any news (even noise) can be painful. It seems that something must be happening – that somebody must know something. If the selling is enough to drive the stock down by 5%, 10%, or even more, it’s natural to presume that some big (or smart) money is behind that action – and they know something that you don’t.
Suddenly, becoming indifferent to Mr. Market’s mood swings becomes more difficult.
This is where things get a bit inconsistent for the value investor: if you’re willing to let market action alone impact your decision making, presumably you believe that the market, or more accurately investors with the ability to move markets, know more than you about that security. That brings up another question: if that’s true, why would you bother playing the game in the first place? If Mr. Market knows best, active management is an expensive waste of time; in that case, your goal should be minimizing trading costs and mirroring the market returns.
The people reading this article are presumably not passive investors (or not entirely); they want to be smarter than the market (in spots). Opportunities only surface when Mr. Market is wrong.
But something funny happens when you buy a stock: suddenly, Mr. Market’s opinion is worth listening to; tomorrow’s change in the stock price determines whether you’re a genius or an idiot. We expect Mr. Market to wise up overnight – and get angry and/or scared if he doesn’t comply.
Warren Buffett (Trades, Portfolio) discussed this idea at the University of Florida in the late 1990’s (a period when plenty of people were calling him washed up based on recent market action):
“The market knows nothing about my feelings. That is one of the first things you have to learn about a stock. You buy 100 shares of General Motors (GM). Now all of a sudden you have this feeling about GM. It goes down, you may be mad at it. You may say, ‘Well, if it just goes up for what I paid for it, my life will be wonderful again.’ Or if it goes up, you may say how smart you were and how you and GM have this love affair. You have got all these feelings. The stock doesn't know you own it.”
Clearly price matters at some point; bridging the gap between today (when we believe we’ve spotted a miscalculation by Mr. Market) and the long term (when Mr. Market wises up) is where the trouble comes in. We’re buying under the presumption that, at some point, Mr. Market will get his thinking straight (that price and value will converge), and that our initial rationale is correct. The longer the gap goes without closing (or even worse, widening), the more we start to question everything we originally believed.
Progress towards that goal – determining whether your analysis still holds, that Mr. Market has made an error - should be tracked by monitoring the underlying business, not the stock price.
The problem is that tracking the stock price is so dang easy, while tracking the underlying business is hard work that takes time: you can find an updated market opinion five days a week, while the business fundamentals are only addressed every few months (with the stock moving erratically in the meantime).
That doesn’t change the reality: you must focus on the underlying business, not the stock price.
Continuing with the earlier example, there’s no reason to believe that anything has changed at Weight Watchers in the past few weeks (besides the valuation); the company’s busiest part of the year is currently underway, and we won’t have any hard data on the outcome for a few weeks (at the earliest).
The stock price leads you to a different conclusion: WTW has fallen more than 25% since the start of the year. That’s a pretty significant move in eight trading sessions; the money has moved the line in a big way (the fact that this has been to the downside isn’t important – this discussion applies on the upside as well).
Whether it’s a wise guy or a guesser driving the stock price is unknown; in either case, the way we’ll ultimately find out if it was an intelligent decision is by watching the business fundamentals over the coming years – not by watching the stock price in the coming weeks.
