Survivorship bias is one of the most dangerous ideas that investors must grapple with.
According to The Decision Lab:
“Survivorship bias is a type of sample selection bias that occurs when an individual mistakes a visible successful subgroup as the entire group.”
Sure Things
Survivorship bias runs rife in the world of finance, usually taking the form of brazen articles like: “You could’ve made 5,675,321% had you invested in Apple in 1843”.
In a nutshell this bias involves talking up the stock market winners while ignoring the stock market failures.
Such an approach is incredibly risky. Financial markets history is filled with dead companies that seemed like “sure things” at one time or another. Some that spring to mind include Bluesky, Lehman Brothers, Wirecard, and the East India Company.
Rare Birds
On the other hand, rare birds like Apple, Tesla, and Nike are often used as high brow examples of the power of individual stock picking. Such examples tend to ignore the intense psychological distress caused by the significant share price drawdowns endured by these businesses and focus only on the outsized winnings reaped by few investors.
Tell me: Would you be willing to hold a stock that has fallen 90% or more?
The investor who ignores such facts would rather use those few examples as proof towards the valors of stock picking as a whole.
These same investors are all too ready to ignore the 30 years of negative returns endured by Nikkei investors. They forget that Cisco to this day has never returned to its dot com peak. There’s a good reason why Buffett talks up the benefits of low-cost, ETF investing. It’s because stock picking is hard; no matter how easy it might seem when markets are running hot.
Products like Syfe Smart Baskets – which are professionally constructed collections of stocks and ETFs – may be a great option for investors who don’t want to deal with the hazards of picking single stocks.
Three Lessons
To be sure though, even the best companies – the high margin, consumer cherished, profit machines – have a habit of dancing with death. Tesla, Apple, and Nike – some of the world’s most coveted companies – have in their histories come to the brink of bankruptcy and back again.
In the world of investing where survival is synonymous with thriving, ignoring such case studies should be undertaken at your own risk. Here’s three examples worth remembering:
Apple (AAPL)
Facing intense competition from Microsoft and its PC dominance, in 1997 Apple would be close to bankruptcy. In that same year Steve Jobs would step back into the top spot, only to concede that Apple “was going to lose” to its bigger, better rival. In a last ditch attempt to save the company, Jobs would reach out to Microsoft founder and CEO Bill Gates to broker a deal. Under that agreement Microsoft would infuse Apple with a $150 million equity investment and Apple would drop an ongoing lawsuit it had levelled against Microsoft.
Tesla (TSLA)
Between 2017 to 2019, as Tesla was attempting to ramp up production of the Tesla Model 3 – the automaker almost collapsed. According to Musk, in what has been described as “production hell”, the company was just three months from bankruptcy, as Tesla grappled with serious production and logistical issues. Musk would go on to save the company by his own hands, raising billions of dollars in additional capital to sure up the automaker’s balance sheet.
Nike (NKE)
Sports giant Nike almost fell apart in 1977, as the company faced a hefty tax bill as a result of archaic import laws. Nike had been paying incorrect tax on the athletic shoes it imported, leaving the company on the hook for about $25 million. Nike would effectively out grow, out manoeuvre, and out lobby the issue. And after significant effort on Nike’s part, the sports company would end up paying just a $9 million tax bill and IPO three years later in 1980.
Calm Hands
In reflecting on these business mishaps two Warren Buffett quotes spring to mind. One on rules-based investing:
“Rule No 1: never lose money. Rule No 2: never forget rule No 1. Investment must be rational; if you can’t understand it, don’t do it. It’s only when the tide goes out that you learn who’s been swimming naked.”
And one on investing success:
“In order to succeed you must first survive.”
Now the point of this article is not to dissuade individual stock picking, by the way. The point is merely to demonstrate its difficulty. Products like ETFs and Smart Baskets are potentially ideal for those who want to win at the markets in a passive way and over the long term.
Yet for those with a mind for the markets and a calm hand, outsized returns do potentially await from buying and holding businesses of exceptional quality. Despite their brushes with death, over the long run Apple has returned investors 121,462%, Nike 41,983%, and Tesla 20,552%.
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