#44 Reflections on Investing : Return of the High Fliers?

While 2020/2021 were great years for our High Fliers, in 2022 the party ended and many of those companies like Peloton, Wayfair and Carvana came crashing down.

In the first month of 2023 however we are seeing signs that the worst may be over for the High Fliers. For many of these companies January of 2023 was better than any month in 20' or 21'. Is the worst over for the High Fliers? Will 2023 be the start of there return to 2021 highs?

Hello, this is Shaun Cornell, and welcome to "Reflections on Investing with the Cornell Capital Group." In this episode, I'd like to go back in time a little bit to the middle of 2021. This is post the COVID crash, and interest rates were still exceptionally low. So, in June of 2021, we introduced what we called the CCG Unprofitable Index. This was an index consisting of stocks, mainly speculative growth stocks, that hadn't earned a penny in real earnings yet. But up until that point, they were experiencing huge run-ups—300, 400, even 700 percent.

However, in 2022, things began to change, and it wasn't so kind for those same companies. In March 2022, we did a "Reflections on Investing" episode called "Crash of the High Flyers," where we showed that many of these same companies had completely erased their astronomical gains and even fallen further.

Now, since the beginning of this year, investors' speculative appetite seems to have been reinvigorated, and again, many of those same companies are starting to experience large run-ups. So, to further explain this recent phenomenon, here is our senior advisor, Professor Bradford Cornell.

Thanks, Shaun. What you said brings to mind some papers I've written with my colleague, Aswath Damodaran. In those papers, we talk about the difference between the value game, if you like, and the pricing game. The value of common stocks is determined primarily or almost exclusively by two things: the cash flows the underlying companies produce and the risk-adjusted rate that you use to discount those cash flows. So, from a value point of view, prices should change only when cash flows or discount rates change. But the pricing game is different. The pricing game reflects supply and demand in the market. And, as Professor Damodaran likes to stress, that supply and demand is highly dependent upon mood, momentum, and sentiment. Those are unpredictable forces that can have huge impacts on prices without any underlying change in fundamental value.

So, let's go over to the computer and take a look at what Shaun was talking about.

Here we are at the computer, and this is our first chart. It plots two things: the blue line is an index of all the CCG High Flyers, and the red line is an S&P 500 Index Fund. You can see that beginning on January 1, 2020, the High Flyers just take off and rise all the way to where they're up over 350 percent by early 2021. Whereas the S&P is only up about 20 percent. Then the crash begins, and they come all the way down. As we get into 2022, the total return going all the way back to January 1, 2020, is now negative. Whereas the S&P remains up, and by the end of the period, the High Flyers are down a significant amount, whereas the S&P is up about 10 percent. It's very hard to reconcile the behavior of the High Flyers on the basis of cash flows or discount rates. At CCG, we believe it has to be, in part, what Professor Damodaran said—mood, sentiment, and momentum.

There's a further indication of that if we look at the individual companies. These individual companies are quite unique; they're in different businesses. There's a used car company, a fiber company, an online shopping company, an exercise company, and so forth. But they all move up and down together as if they're riding a tide of momentum and mood as a group, despite being different businesses. And if we even add Bitcoin, which isn't even a business, it seems to follow the same speculative pattern.

Now, the reason we stress this is that we think you can think of the behavior of the High Flyers as being like a thermometer that measures the extent of speculative fever in the market. It was very high in 2020 and then totally absent in 2021 and then totally absent in 2022. But what about recently? Let's go back to our average index, and here it is plotted just from January 1, 2022. You can see that the speculative High Flyer index has risen 75 percent in the first month-plus of this year, compared to the S&P, which is up about 7 percent.

So, we are again seeing some evidence of speculative fever. And if you look at the individual companies, that's pretty much the same thing. All of them are up; Carvana is up the most, up 175 percent in less than a month. But we still see this behavior where all the speculative companies go up together. And if we put Bitcoin back in there, it is right in the pack. We're concerned when we see this that the market may be acting a bit irrationally, and it underscores for us the importance of basing investment decisions on fundamental valuation.

So, if you went back and looked at our first chart, the average over the period from January 1, 2020, to the present, I hope it serves as a warning that the last thing you want to do in the market is to chase performance, particularly short-term pricing performance that appears to be unrelated to fundamentals. We believe, at the Cornell Capital Group, that investing amounts to very carefully assessing value and then comparing it with price and buying those securities for which value is significantly less than price. While we will use the behavior of the High Flyers to measure the temperature of the market, if you like, we will not use that as a basis for investing.

This has been "Reflections on Investing with the Cornell Capital Group." Thanks for joining us.