In seeking out asymmetric investment opportunities, there are a few characteristics that we need to be on the look out for, and some mindset shifts that we need to take note of, before we can even begin to identify, analyse and eventually have the conviction to invest into these opportunities. One of the most important of these characteristics, is to recognize that when it comes to asymmetric investment opportunities, market volatility is your friend.
Volatility is the price you pay for performance
In investing, there are up days and there are down days. For most mature assets, equities and commodities, price changes are pretty mild. This is because most of the information out there is known by the investors, and most conditions are priced in.
When investing into a new technology, asset, or any equity, the component of price discovery is still very much at play, and where price discovery is concerned, the price can be volatile both ways; on the way up and on the way down.
William H Miller III had this to say about the volatility of Bitcoin:
With Bitcoin, volatility is the price you pay for performance, and I think that it’s like digital gold… it is a much better version as a store value than gold… And then there’s $15 trillion of negative yielding bonds out there…
William H Miller III
What factors influence market volatility
You can expect an equity or commodity to experience high volatility when there are conflicting information circulating around the market, which is why in times of uncertainty and fear, you get huge market movements, and opportunities.
Impact of a Pandemic
Let’s take a look at the impact of Covid on certain stocks over the past year or so.
First, the winners are companies that promote and facilitate remote work and productivity tools and services.
Zoom ($ZM) stock price over the course of Covid
Zoom started 2020 at $67, and at its highest in 2020, was up more than 800% at $559 by October 2020!
That is an insane return for someone who has managed to predict the over-reaching impact that Covid will impose across the globe.
And in hammering home the point that volatility works both ways, if you’d bought Zoom at the top in October 2020 and held till 31 December, you would have stared down a loss of 39% in one quarter.
Docusign ($DOCU) stock price over the course of Covid
Docusign sees a similar trend to Zoom, starting the year at $75, and flying up to $244 by the end of the year to book a 325% increase over the year.
This is the beauty of asymmetrical investing. Extrapolating outcomes and taking a considered and informed bet into how events will play out.
United Airlines ($UAL) stock price over the course of Covid
Conversely, as countries shut down and implemented strict lockdowns, air travel grounded to a halt. As a result, United Airlines saw a 77% drop in share price from the beginning of the year. And if you’d been an astute investor and seen it coming, you could have shorted it and made a fortune.
The subsequent quantitative easing and bailing out of huge companies was also something that could have been predicted in the aftermath of the 2008 GFC, and though extremely risky, it would have paid off to the tune of a 3X return from a low of $19.92 on 15th May 2020, to a high of $60 as the world anticipates the re-opening of economies.
A savvy investor could have shorted and then went long and benefited from both sides of the price swing.
Industrial evolution
As the world collectively sits up and pledge to tackle climate change, we’re seeing a huge shift from fossil fuels toward clean energy sources and tapping solar, hydro and turbine to replace our energy needs.
Companies in these sectors are looking to reap huge gains. Tesla, the leader in the EV space, has just seen its stock price rocket from 2020. Government action such as Singapore pledging to be 100% EV by 2040 will help fuel this adoption.
Asset/sector maturation
Gold
As gold matured as an asset, there were more trading products and derivatives built on top of it. Once that happened, there was suddenly a huge expansion in the market cap of the asset.
Gold had its first ETF approved in 2003. Just look at the market cap of gold since then. Between the 1980s and early 2000s, Gold’s market cap fluctuated around $1.5T. But once the ETF floodgates were opened, it did a 500% increment in market cap within 10 years.
Many are speculating that as Bitcoin matures into its second decade of existence, we could potentially see this kind of growth, especially when ETFs get approved in the US, some say from potentially late 2021.
FAANG
The tech sector came from nothing after the initial tech bust, to becoming a behemoth in not only the stock markets, but also in our everyday lives. And this has reflected in their collective market cap as well.
The top 5 US tech stocks represent a cumulative ~$8T in value. That is an astronomical value, given that we’re only talking about 5 companies. Can you imagine brushing off the tech sector back in the early 2000s because you didn’t understand the potential of it? (Another mindset tip. It’s OK to say you don’t understand something. That gives you the impetus to find out more about it. But to dismiss it without giving it any thought reminds me of Paul Krugman dismissing the impact of the internet to be no greater than the fax machine)
Any investment will come with a certain amount of risk, even those with low returns doesn’t mean they come with zero risk. Conversely, if you’re soo risk averse as to stick with an all cash strategy of simply keeping it in your bank account, you’re effectively losing your money to inflation.
Concluding thoughts
Now that we know market volatility is not necessarily bad, how should we look to manage that, manage our expectations and to be able to sleep easier at night?
- Broaden your time horizon: Depending on the asset or equity you’re looking at, you need to hold the appropriate time horizon. Are you investing in the early stages of what you think will be a new asset class? If so, you need to zoom out and look at the macro trends and environments to make sure the trend is moving your way.
- Don’t get distracted by daily price movement: We’ve established that as we identify and seek out asymmetric returns, we need to be able to stomach the daily movements. That’s just noise. As long as the fundamental reasons for the underlying asset to thrive are still present and at play, we let the price discovery and supply/demand economics play out.