Valuable Information

Valuable Information

About a year ago, I wrote a Daily Insight on the effectiveness of feedback loops in influencing behavior. You can read that article here, but the long and the short of it is that you acquire information from every action you take, which in turn informs how you make future decisions.

You put your hand on a hot plate, you painfully burn your hand, you learn never to do that again (and to always listen to the waiter when they tell you that the plate is hot).

However, not everything in life gives you immediate feedback on your actions, or at least valuable feedback. If you’ll allow me the extraordinary hubris of quoting my 2020 self:

“Feedback loops have a direct application to the world of investing too, but the problem is that they’re not so instantaneous. With investing, it often takes a long time for the results of the decisions you make to become apparent — years in most cases. This is why it’s so difficult to be successful at it.”

Us humans love to know that we’re doing the right thing and the struggles of not receiving immediate feedback are obvious. There’s no immediate gratification like you might get from winning a hand of poker, it’s a long slog that can be very tough at times, even if the data proves that it’s worth it.

One thing we haven’t discussed yet is the idea of valuable feedback though.

Being able to distinguish valuable information from irrelevant or distracting information is a crucial skill for investors to hone all year round. However, it becomes especially relevant around this time of the quarter — earnings season. Right now, we’re being peppered with news about companies in our portfolios and on our watchlists. What’s more, this information is having a very real-time effect on the stock prices of the companies in question, which might force us to feel like we have to react quickly.

Let’s look at Pinterest.

For the last quarter, Pinterest reported revenue growth of 78% and a net loss that reduced by 85%. However, a miss on monthly active user (MAU) growth — 478 million vs. 480.5 million expected by the company — saw shares in Pinterest drop close to 15% yesterday.

That can set off alarm bells for even the most experienced of investors. It’s never nice to see yourself actively losing money.

Now let’s look at some broader information about Pinterest. 

Revenue has grown from $473 million in 2017 to almost $1.7 billion in 2020, a compound annual growth rate (CAGR) of well over 50%. MAUs — the figure that so disappointed investors on Tuesday — have grown from 175 million in Q1 2017 to 478 million in Q1 of 2020, growth of 175%. Since IPO a little over two years ago, the stock price is up about 175%.

In the first case, we’re digesting 12 weeks’ worth of information about Pinterest. In the second case, we’re dealing with 48 months’ worth. 

Earnings reports can seem really important because they give us the closest thing to immediate feedback on the companies that we have invested in outside of share price movement. And though these updates are useful in getting a temperature check on how a company is executing, they rarely provide valuable feedback for investors with long-term strategies. 

You might feel compelled to take action when you see numbers coming in lower than expected, or more painfully, the stock price falling, but this is all information that is entirely irrelevant to long-term investors relatively speaking.

Investing is an information game, but in order to use that information effectively, you need to be confident of how it applies to your strategy. Make sure you’re not taking part in a game that someone else is playing. 

Know your own game and stick to its rules.

JamesJames

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