‘Don’t ever buy individual stocks’ is pretty good advice, especially if you are a long-term investor. You are much better-off just buying and holding a passively managed index fund like one tracking S&P500. For good reasons.

It’s extremely hard to beat the market through an actively managed portfolio, even for the pros. You are up against very smart investors and institutions who are well armed to squeeze profit from every trade. Even if you are highly motivated, you likely won’t have the knowledge or time needed to outsmart the best. Individual stocks also don’t have in-built diversification of index funds that’s needed to reduce risks.

Despite that, there are still very good reasons to learn to critically analyze individual companies.

#1 You become a better thinker. When you analyze businesses, you learn how the world works. You develop grasp of specific industries, consumer behavior, finance, pricing, psychology of market participants, business strategy, and so much more. Brick by brick, and idea by idea, you build an understanding of key mental models to make sense of complex world around you.

#2 It helps you to exploit your unfair advantages. You might have some deep insights in an industry where you have worked for decades or are passionate user of some niche products. Whatever is the reason, you have greater intuition about something in the world. Most of your wealth can be in diversified index funds, but you may want to invest a part of it in select businesses that you understand better than others. Knowing how to evaluate individual stocks can turn raw ideas into promising investments.

#3 You will take better life decisions. If you are in market to buy small local business, you can accurately assess the quality and price of that asset. Or if you ever plan to start a business yourself, you would know what it takes to design a good one and what traps to avoid. It can even help you if you are an employee who receives stocks as part of compensation. You can make smarter calls whether to keep or sell at each vest, or negotiate harder during a raise to get more stocks if you think they are undervalued today.

However, it’s crucial that you learn this skill yourself and don’t rely on others to do the thinking for you. There’s so much noise and conflicting information out there. From TV channels to Youtube influencers to TikTok experts, everyone is broadcasting their opinions and offering tips. If you are not careful, you either end up more confused or tune out contradictory information to confirm your own biases. You cannot make sound investing decisions on borrowed conviction.

So you must develop a process to quickly analyze a businesses without letting it overwhelm you. You need a framework through which you can systematically filter out noise to arrive at sound conclusions. Every investor worth their salt has a process. You should have it too. It might sound hard given how complex it is made out to be, but it’s really not.

My goal over the next few posts is to share a playbook that I used for more than a decade to make long-term investments with decent success. The framework I present is simple, but rigorous. It won’t demand convoluted financial modeling or analysis. It’s for everyday investors like you and me to help us systematically research and develop a point of view on an opportunity for a few hours of effort.

You will learn to dissect how a business works, how to check its health, how to identify its competitive differentiations, its risks, opportunities, and a reasonable price you are willing to pay for it. I will explain key financial ratios, accounting terms, and extremely simple ways to think about valuation. You will turn your raw ideas into a clear investment thesis that can be summarized in crisp 1-pagers.

Learning to invest in individual stocks is not for everyone. But if you want to become a better thinker, exploit your unfair advantages, or take better life decisions, learning to invest will pay huge dividends. It will take practice and bit of time to get good at, but that’s how everything worth doing is done.

I have been earning, saving, and investing for more than a decade now. Amazingly, it’s only in the last 18 months that I have accumulated more than 85% of my total wealth. For the very simple reason that I am earning more now than at any other time in my career.

It’s natural to focus, and rightly so, on the savings and cutting costs in your journey towards financial independence. It’s critically important to live below your means and optimize your spendings. However, shifting one’s focus on ways to increase earnings can lead to exponentially better outcomes. Not to mention that it feels lot more empowering.

Since increasing income can significantly accelerate you towards financial independence, it’s worth spending some attention on how one can do it. Three things helped me immensely to grow my earnings by 100x in last 10 or so years.

#1: Deliberately shift your mindset

You create your reality by what you focus on.

For many of us who have had humble upbringings, our default way to think is to cut back and squeeze every penny. But if we are only looking for ways to cut costs and optimize savings, the rewards will be very limited even if we are successful in doing so.

It’s easy to spend disproportionate mental energy on maxing out deals and credit card rewards or cutting costs because those things are very tangible. You can easily manipulate rows in your spreadsheet and numbers coming in and out of your bank account. They are important, but they don’t move the needle as much in large scheme of things. It has limited upside, but comes at cost of countless hours you spend fretting over saving a few bucks here and there.

I am not suggesting to not think about your spending at all. Instead, I am advocating that you spend a lot more time thinking of ways to increase your earnings and providing value to others. Make that mindset shift deliberately.

It’s difficult in the beginning. Focussing on increasing earnings can be hard to start with. It’s lot more ambiguous and acting on it requires certain level of risk taking. But if you consistently put in effort, you start coming up with all sorts of ideas that are relevant to your circumstances. It can be up-skilling yourself, moving to a different job, changing career, starting a side hustle, investing money differently and many other ways. After a point, the fear of uncertainty transforms into fun and adventure.

Once you make the mindset switch, it feels more abundant no matter what the final outcome is.

#2: Follow your natural inclinations

You are building wealth so that it can help you live a happier and full life. But it doesn’t make sense to hate your life now so that one day you have enough money to live freely. It can’t work like that. The money you make that way will not give you deep and lasting satisfaction.

You should look at your work as your craft. It deserves reverence. You need to do everything possible in your capacity to land in place so that your work is fulfilling today, not tomorrow. That can only happen when your work is aligned with your natural inclinations.

I realized this from my own work experience. In early part of my career, I was a generalist manager working in tech startups in India. I liked my work environment and I was good at what I did. But I didn’t derive deep satisfaction from my work. I always wanted to build things that delight users. It took me time to move to a profession where I could do it day in and day out. And that made a huge difference to my happiness levels to my earnings.

If you enjoy what you do, you can do a lot more of it. You will spend more hours and more easily overcome obstacles. Work of your choices gives you lot more staying power. You naturally become a long-term thinker now that your present is comfortable. Your skills grow faster. When you are in it for more than just money, just deliver more. As a result, your earnings shoot up with time.

You will enjoy the journey at the very least. Even if your earnings do not grow as fast as you desired, you would still be happy and enthusiastic because you won’t be worn out. That itself prolongs your runway of active working life, giving you opportunities to earn lot more.

#3 Move into a rewarding environment

My sister work for a non-profit organization and is highly competent. She consistently works 12+ hours six days a week. But she make peanuts because small companies in non-profit sector are sweatshops that don’t have a lot to give. Many who are less talented than her and who work way less earn a lot more because they work in right industries and in better companies.

The same set of skills will be compensated better when you are in an environment where you fit. If you are a software engineer or a tech worker, it’s better to be based out in one of the tech hubs or work for a tier-1 tech company. They generate - or have potential to generate - massive cashflows and so they pay really well. You use same skills and work almost equally hard, but your earnings will multiply when compared to similar jobs in other industries. Compound that over a few years and it can make a real difference to your wealth outcomes.

You need to evaluate what does moving into right environment mean in your context. It might be switching over to a different industry, changing careers into a new role, working for a different kind of employer, starting a side business, serving higher value clients, or moving to a different geography. You need to figure out what part of the market rewards skills you have in the best way. Then make all the efforts in your control to move to that environment.

These factors together have led to massive increase in my own earnings over the years. In last decade, switching over to work of my choice, moving to a high paying industry, and changing geography have resulted in net earning growth of ~100x in about 10 years. I will describe that journey in detail in a future post if there is interest.

The suggestions I share above is what has worked for me over the last decade. I hope it helps you in some way to achieve your own financial goals and realize your potential.

I often revisit memories of early relationship days with my wife when we just started our careers. We both were earning a fraction of what we make today. Those days we lived extremely frugally. And while we treat ourselves to nice vacations now, we used to travel on shoestring budget then. Materialistically, we are living far richer lives today than when we just started our relationship and careers.

And yet, there is hardly any difference in how happy we feel internally.

We are grateful for where we are today, but we felt enormously abundant and excited even then when we had close to nothing. Despite meager salaries, we still saved and invested. We had time of our lives traveling and partying with almost no money.

I deeply know this now that our internal happiness doesn’t depend a great deal on how much we earn or have in our bank. This isn’t a big secret to anyone, but a realization coming from our own past experiences ingrains it deep in your psyche.

Of course one needs certain amount of money to live comfortably, to pay bills, and to afford an occasional indulgence. But beyond a point, money stops contributing to our inner joy. After all, quality of our lives depend on our inner state of being, which is determined by depth of connections with our loved ones, how present we are, how enthusiastic we feel about our work, and how grateful we feel for what we have today.

Money can’t buy any of it. It can play a supporting role in helping us find inner joy, but it is a very lousy replacement for it.

This realization can be extremely librating. You still want to be very wealthy, but it will no longer be an obsessive goal. Wealth is only an outward expression of your inner creativity and the impact you will bring in lives of others. Steve Jobs, for instance, became wealthy not by fixating on money, but by sharing his gifts of crafting beautiful products with the world.

Understanding this will give you the freedom to follow your calling and obsess about honing your craft rather than chasing a number. Wealth will arrive in due time as a consequence. Whether it comes a bit late or falls a bit short, it doesn't bother you. You will view it objectively. You can plan on how you will generate, grow, and preserve it. But it will only occupy a small space in your mind and won’t take over your life.

That’s how wealth will serve you instead of you serving your life to it.

In future, I will share more such memos if you find them useful.

What does Twilio do?

Twilio is world’s leading cloud-based communication platform. Businesses use Twilio products to build customer messaging experiences inside their digital applications. The OTP messaging, confirmation emails, and cross-sell reminders that you get on SMS and increasingly on email from your favorite apps are powered by Twilio. The company is an established leader with over 40% share in the messaging market. It serves a fundamental need for customer communication, which makes the business highly resilient.

Twilio’s core product is its messaging app. Developers use Twilio APIs to build messaging applications and pay the company based on how many messages are sent. This usage based pricing model is the main reason behind its impressive Net Dollar Retention rate of 130%. This means that every year, Twilio earns 30% more revenue from same set of active customers just because their net usage is increasing.

The strengths and weaknesses of its core business

The company has a strong moat in the form of positive brand within the developer community. Its even stronger advantage is its high switching costs. Once a company integrates Twilio’s APIs within its codebase, it’s not easy to change to a new provider.

The company offers really good messaging products, but it doesn’t have software-like margins. Good SaaS companies have gross margins north of 70%, but Twilio’s gross margins are just about 50%. That’s because it needs to pay heavy fees to network carriers.

Messaging also happens to be a slower growing and maturer market that offers limited growth runway. Combine that with a low gross margin product, investors are not exactly thrilled by Twilio’s core business.

So what is Twilio doing to address the growth concern?

The company is diversifying away from its core business into higher growth and higher margin opportunities. Its biggest bets are in Flex and Segment. Flex is a contact center tool for remote teams and Segment is a Customer Development Platform (CDP). They are both more traditional SaaS offerings that do not warrant large payouts to network carriers.

Twilio acquired Segment for $3.2B in 2020. Segment is the market leader in the hot CDP market that’s sized at $17B. It also has impressive gross margin of over 75%. No wonder Twilio’s entire future growth strategy revolves around Segment. It wants to evolve from a Communication Platform as a Service (CPaaS) to a fully loaded customer engagement platform.

And that’s the core of Twilio’s investing thesis. If Twilio successfully makes this transition, it will be massively profitable with long growth runway. If it falters, it will still be a good company with a strong core business, but would be past its prime. Needless to say, it won’t be as much fun to own Twilio at that point.

So can Twilio make this transition to a higher margin company?

There’s a lot going in favor of Twilio. It doesn’t face a huge deal of competitive threats. If anything, it is the strongest contender in the market today. It doesn’t have regulators standing over its heads. It has a strong moat, great assets in form of Segment, Sendgrid, and its core business. Not to mention, it has a capable and high-integrity management.

But it wouldn’t be all easy for Twilio. Its biggest risk lies in its own execution. Sure they have some advantages, but we are talking about achieving market leadership in yet another industry. Few companies are able to pull it off.

What happens in future is anyone’s guess. I feel Twilio is well positioned, but I can’t put my money on a bet whose odds I am unsure of. We need to know that there is limited downside and sufficient margin of safety if it falters. That’s why we need to consider the valuation.

So how is Twilio valued today?

Today we can buy the whole of Twilio for about $14B. At current revenue of $3.5B, it is trading at a price-to-sales multiple of 4. It is the lowest it has ever traded historically. At its peak, it traded at a multiple of 37, while most SaaS companies trade at a multiple of close to 10. In last 3 years, it has grown revenues by 61%, 53% and 72% respectively.

Let’s consider how things can play out in a five year timeframe.

In a bear case scenario, if Twilio fails to make the transition to a higher margin and higher growth company, its growth will slow from 30% in next couple of years to just about 15% or so by end of five years (that’s a conservative assumption). Its revenue five years from now would be around $8.5B. At the current price-to-sales multiple of 4, the business will sell for about $36B. If we buy the Twilio’s shares today, we can get handsome return of 19% CAGR in five years. In the worst and the unlikely case if the multiple slides down to 2, we will still preserve our principle and possibly match inflation.

In a bull case scenario on the other hand, Twilio can successfully dominate the CDP market. It will continue to grow to over 30% for next many years and will end up with revenues well north of $13B. At current multiple of 4, it will trade at a price of $52B. Twilio can easily achieve operating margins in vicinity of 20% as CDP becomes larger contributor of revenue. At 25x price-to-earnings, it will be valued at over 60$B. If this plays out, investors can pocket solid returns between 30-35% CAGR.

It’s a bet with high upside and limited downside. It’s a favorable risk-reward ratio that has become possible because of massive price correction in the last 12 months. Twilio’s was trading at over $30B at the beginning of the year. At the price, Twilio was still a solid business, but a riskier investment. A great business that could have been a bad investment. The risk is now much lower because of the corrected price.

So why are other investors not buying Twilio’s stock?

I believe there are two reasons.

First, there is blood in markets and institutional investors are pulling money out and putting it in cash and bonds. Growth tech stocks like Twilio have been hit the hardest. Most investors do not operate on a time horizon beyond three years and want to stay away from expected volatility in stock prices of growth tech companies.

Second, investors are punishing Twilio’s stock for lack of profitability and excessive dilution in the last few years to fund new acquisitions. I am less concerned about this one. The company is aggressively trying to turn profitable by FY 23. The management has promised profitability to markets on earning calls and media interviews. It has laid off 11% of their workforce in Sep 2022 to show that it is serious. I also believe that dilutions will taper out because Twilio doesn’t plan to make more acquisitions now until it turns profitable and generate free cash flows.

Both of these are valid concerns, but they do appear to be resolvable in a very long-term time frame of 5-10 years. This is a benefit of being a long-term investor. You can tune out noise in short-term and focus on strengths and opportunities over long time horizons. I am looking to own Twilio for more than a decade and at least for next five years if the thesis remains intact. These concerns in the short-term are precisely the reason the company is available at a reasonable price today.

But it’s not going to be an easy ride from here

The stock price might further drop by more than 50% if there is a global downturn. If a full blown recession hits us, the earnings growth might even decline steeply for a while.

But Twilio is a strong business and can navigate the choppy waters better than most players out there. Twilio might prove that Recession is friend of a great business. It is a solid business with strong moats serving a critical business need. I don’t know what happens in the next 2-3 years, but I know that a high income producing asset like Twilio is available at a fair price today.

And that’s why I am buying it.

Disclosure: I currently own positions in Twilio and further buying Twilio stocks. This post in only instructional and not an investment advice.

However, if you don’t live paycheck-to-paycheck and have some financial cushion, it’s helpful to remember that a recession can be a boon for your investments, especially if you invest in quality businesses for the long-term.

There are two reasons for this:

1) A great business is a better bet against the recession

Let me illustrate this point with the help of an example about the fate of two businesses in the 1980s. This one is from the traditional farming industry and it’s very instructive.

John Deere and International Harvester were the top players in North America's farming equipment market in the 1950s and 60s. By the early 1970s, John Deere had emerged as a stronger business because of better products and prudent financial management. Compared to International harvester, its profit margins were higher (14% vs 8%) and its debt ratio was lower (31% vs 44%).

Both companies were growing fast in the 50s and 60s, but things changed quickly during the recession the of 1970s. The US entered a period of higher interest rates that led to a sharp decline in demand and net incomes.

International Harvester had huge debts. When the farmer demand plummeted, its thin margins didn’t generate enough cash to service those debts. Within a matter of 3 years from 1979-1982, its net worth declined by about 99% from $2.2B to $23M. It tried restructuring the debts, but could not succeed and finally became defunct in 1985. The recession literally destroyed the business.

John Deere’s story played out entirely differently. It was not immune to the downturn either. Its earnings declined and growth slowed during the recession, but it weathered the storm because it had better margins and lower debt. In 1981, it even raised from equity markets that it used to build extra capacity and expand internationally. It quickly filled the gap left open by International Harvester, and by 1990, it had become the largest producer of farming equipment in the world. Its stock price has grown by 35x since then.

This is not an isolated story. There are ample examples across industries to show that great businesses come out stronger after a recession. When things go south, they too struggle just like everyone else. Their earnings are not impressive because there is low demand across the board. But they use their competitive advantages to stay afloat. Under the hood, they gain market share even as the competition gets decimated. When the tide turns, like it always does, they come back stronger. They capture the soaring demand while commanding a larger share of the market.

This brings us to the second reason why recessions are doubly beneficial for patient long-term investors:

2) You reduce your risks and increase return potential because everything is available at a discount

Consider the current market situation we are in right now. As liquidity dries up and Fed continues to raise interest rates, investors are withdrawing money from the market. The prices of most technology stocks have dropped anywhere from 30% to 90%. S&P 500 has corrected by over 20% from its peak in less than 12 months.

While it doesn’t feel good to watch your wealth shrink, this is a better time to find bargains for new investments. Of course, this does not mean that everything is available at a discount or below its fair price. But it does mean that there are more buying opportunities than what existed a year or so back.

The purchase price is one of the biggest determinants of your future returns. And a recession hands you a rare opportunity to turn the risk-reward ratio in your favor.

What does this mean for long-term investors?

There are two key implications for the long-term investor: 1) Do the homework to identify strong businesses because they are better bets against recession, and 2) Remember that recession is a much better time to buy stocks. You take less risk and have a larger upside.

I have said nothing new or groundbreaking in this post. I intend to only remind the readers to not lose perspective when there is so much noise all around. If anything, you should feel more confident in making new investments now.

Needless to say that none of this matters if the recession brings financial hardships. It may very likely get worse before it gets better. And recessions can last a very long time. But if you are fortunate that your life won't turn upside down, take advantage of some opportunities that Mr.Market provides.

These times might feel gloomy and it’s important to remain cautious, but there are also reasons to be optimistic if you are a long-term investor.

But buying the company’s stock on the IPO day would have been a mistake. It’s stock price has fallen by more than 72% in less than 12 months. I am not arriving at this conclusion by looking at just this one example. Instead, I think that as a principle it’s never a good idea to invest in a business at its IPO, how much ever one likes the company or is optimistic about its future.

Amplitude is not alone. 2021 was the year of some amazing tech companies going public. One could sense that the valuations seemed a little high, but there was optimism and confidence in the air about the potential of these innovative businesses. In the US, beloved consumer tech companies like Doordash, Affirm, Allbirds, Duolingo, Robinhood and sturdy SaaS companies like Snowflake, Braze, Squarespace and UI Path were among many others that opened its doors to retail investors.

However, just like Amplitude’s stock price, the stock prices of many of these companies have crashed by 70-90% within a year of going public. While one can always attribute the crash to broad market correction, I want to reason that it is a standard pattern rather than an anomaly. This is not to say that these business don’t have solid fundamentals or a bright future. It’s just that buying it on the day it goes public is not the best idea.

So why is investing in an IPO such a bad idea?

I want to share two main reasons for this. Understanding and registering them as mental models can help you make better investment decisions and save you a ton of money in the future.

Reason 1: It’s an unfair trade and you are on the losing end

Let’s take a step back and see what really happens when a company goes public.

The company would have been started 5-10 years back by a few co-founders who devoted every waking hour of their life and overcame extreme odds to get their startup to this place. They hired a group of very talented people who chose to forgo comfort in cushy jobs at large stable companies to toil along with founders for many years. The founders were backed by a number of investors at different stages, ranging from Seed investors to VCs to private equity firms. The IPO is their payday, and they all waited for years for this moment. The higher the valuation of the company at IPO, the more money every single stakeholder - investors, founders, and employees - will make.

And now think about where you stand in this transaction. You don’t understand the business as well as these folks. You don’t have any insider information about the prospects of the company. And you neither have the capability nor the time or interest to dig into the financials of the business or the industry it operates in. All you know is that you just like the product, have heard good things about the company, or are generally optimistic about the domain.

Think about the information asymmetry here.

Now remember the context that all of it’s likely happening at the peak of a bull run. The companies always choose such a time to go public. It is euphoria all around, there is a excitement in the air, and you have a fear of missing out because everyone around you is talking about IPOs. Everything sells in these conditions and everything can be justified, especially unreasonable valuations.

So to sum up, you come to the buying table to purchase shares of a company. On the other side of the table are extremely smart and sophisticated people who have all the information about the company, deep incentives to sell at maximum possible price, and the power to set the price. On the other hand, you are intoxicated by rising markets and barely know anything about the business you are buying shares of. The stakes are high. You are literally putting your financial future on the line with your hard earned money.

This is not a fair trade by any means.

The only option you have is to get up from the negotiation table and leave. And that’s exactly what you should do.

Reason 2: The opportunity to buy a good company isn’t going anywhere

You can make a counter-argument at this point that great companies like Amazon, Google, Netflix, and Meta have gone on to grow exponentially after their IPO. You would be right, but there are two things to consider here.

First, there is a bit of a selection bias at play. There are many companies that became public with a lot of fanfare, but delivered flat or no growth since then. Consider Dropbox, the once darling of the tech industry. Even after 4 years since its IPO in the 2018, it did not deliver any returns to investors. In fact, it lost about 25% value in this time period. Most stocks end up in this zone of value destruction. Companies like Amazon, Alphabet, and Meta and truly the exception.

Second, and more importantly, it is vital to remember that a business is great because it stays great for a very long time. It proves itself over and over again with growing earnings and market domination. And the volatile market provides many opportunities to invest in at attractive valuations.

Take the example of Alphabet (Google). It went public in Aug 2004 at $2.71 per share based on today’s stock price (original price: $85). 5 years after it’s IPO, it was trading at about $11.5 per share. Today the stock trades at about $110 and has delivered a total return on 22% CAGR since going public. If you had invested in the stock in 2008, five years after it’s IPO, the price would have grown by 10x. Or to put it another way, 90% of growth in value started happening five years after the IPO. Alphabet, like Amazon, Apple, or Microsoft, proved itself over time. And the patient investors got multiple chances to buy the stock at a fair discount.

The same argument goes for more traditional companies. Warren Buffet invested in Coca Cola 70 years after it’s IPO, and still went onto benefit massively from stock’s growth.

And even if you feel that a company like Doordash or UIPath is going to be hugely valuable in future, 2022 is any day a better time to buy those stocks than a year back when they went public. You can now buy the same stock for 65-80% discount if you waited for some more time.

So what does this mean for the long-term investor?

The reason we rush to invest when a company goes public is because we don’t have the right mental models and we can’t manage our emotions when animal spirits run high. But if we stop to think about it, it’s not hard to reason why IPOs are perhaps a bad time to invest in a company. You have major asymmetries working against you, you are too influenced to make the right decision, and if you indeed want to buy the stock, there will be much better buying opportunities in near future if you wait just a little bit longer.

Let the company prove itself for some time and start trading at reasonable valuations. Then when the noise is filtered out and you have a clearer mind, chances are that you will take a much better decision.

“An IPO is like a negotiated transaction – the seller chooses when to come public – and it’s unlikely to be a time that’s favorable to you”

Warren Buffet

My conclusion is that it’s not the case. And it’s an important mental model that every long term investor should keep in mind. I will talk about three examples to drive home this point. 

Do valuable industries always create value for you?

First, let’s talk about investing in a highly valuable industry. For that, I’ll take the example of the airline industry. Air travel is an essential pillar of the modern global economy. It transports billions of passengers every year. Even in 2021 during the pandemic, airlines transported about 2.2 billion passengers and generated $470B in revenue globally. It’s such a critical part of the global economy that if airlines vanish today, the world will come to a halt.

And yet, as an industry it has bled losses for decades. In 2021, the airlines lost over $50B combined. Even prior to the pandemic, only a small minority of airlines made profits. Take the example of United Airlines, one of the biggest airlines in the US. In 2006, it posted a revenue of $5.18B and traded at a price of about $43 per share. Fast forward 13 years just prior to start of the pandemic in 2019, its revenue grew to $40B and the stock price was around $85. So even though the company grew by 700% in 13 years at a CAGR of 16.5%, the stock only doubled in 13 years at a CAGR of 5.5%. Most airlines didn’t even deliver that kind of return.  

To some extent, the same can be said of the myriad of delivery and gig economy companies today like Doordash, Grubhub, and Uber. These businesses might operate in a very important and growing industry, but they may not be highly profitable businesses as their earning reports repeatedly tell.

Can you ride safely on waves of hot trends?

Next, let’s talk about a hot trend that did not turn out to be a good investing opportunity. There are many trends today like cryptocurrency or Electric Vehicles that have given birth to companies like  Coinbase, Rivian, and Tesla. At this point, it’s debatable how big these trends could become. But let’s talk about a trend that actually played out really well. In the late 1990s, the internet was the big thing everyone was talking about. People realized its potential and invested huge sums of money in internet companies. And guess what? The internet turned out to be much bigger than what people imagined in their wildest dreams. It fundamentally changed the world. It’s one of the biggest things that has happened to human civilization in the last 50 years.

But even if you had correctly anticipated this trend and invested money in the late 1990s in internet companies, you could have lost close to 75-90% of your wealth in the dot com crash of 2000. The Nasdaq lost close to 40% of its value in 2000 and further 20% in 2001. One study by Vangaurd found that over 100M people lost more than $5T in the stock market in the US alone in the dot com crash. 

This shows that even if you get a trend right and invest in it, you may still end up losing a lot of money. There’s just a ton of risk in it. First, you need to bet that the trend does come true. And then, even if it comes about, there is still a huge risk if your specific investments would actually deliver returns. So next time you think of investing in a trend that’s hot, remember this example. 

But what about investing in a great business?

Finally, I want to share an example of what happens when you invest in a great business, but you still end up losing money. Let’s take the example of one of the few companies that survived the dot com crash and went onto become a formidable global giant: Amazon.

At the peak of the dot com boom, if you bought shares of Amazon, you could have purchased them at $4.7 at today's price after adjusting for stock splits over the years. After the dot com crash, the prices dropped by 90% to 40 cents per share in just 18 months. After that however, Amazon went on to grow at double digits for the next decade. Its revenue grew by over 1000% in the next 10 years. And yet, Amazon’s stock price barely reached its earlier high in this time frame. It took Amazon’s stock 9 years to come back to it’s previous high, while the company grew at record pace and launches massively successful businesses like AWS and Prime. If you held the Amazon stock from 2000-2009, you would have made zero returns despite the company growing 10X in that time period.

I hope with these examples, it’s clear to you that a good trend, booming industry, or a great business does not automatically lead to a great investment. Don’t invest based on the basis of Half-truths and incomplete analysis. While a a growing industry, important trend, and great business are important ingredients, there’s a lot more that goes in doing the right investment. We will cover how to deeply analyze an investment opportunity in the future editions.

To sum up this edition, sharing a tweet from one of my favorite writers. This is a great advice for anything in life, but especially in investing.

Share The Long Term Folks