The power of positive thinking

Sinclair Currie

NovaPort Capital

In the story Jack and the Beanstalk, Jack trades a cow for some magic beans. He has faith that the beans will deliver his fortune, and he is willing to give up the value of a reliable supply of dairy to acquire them. Fortunately for Jack, his positive outlook is rewarded with a golden goose. 

Similarly, in the stock market exchanging cash cows for growth options has delivered some golden eggs. There are numerous examples of nascent or unprofitable businesses which have delivered spectacular share-price growth. In Australia, these have been the likes of Buy Now Pay Later (BNPL) and Software as a Service (SaaS) businesses.

It just takes a little faith

Propelled by positive sentiment, investors have been willing to abandon the anchors of conventional valuation metrics. Alternative yardsticks of growth potential are now as important as Return on capital employed (ROCE), Earnings Per Share (EPS) growth and cash flow. Examples of these include Total Addressable Market (TAM), Gross Margin (GM) and Customer Acquisition Cost (CAC).

These alternative ratios are good leading indicators of growth. The downside is that investors do not benefit from the audited accounts and assurances which underpin traditional valuation tools. Simply put, unaudited metrics can be more readily gamed. An investment rationale that is justified by unverifiable statistics requires faith. 

If enough of a crowd believes and adopts the faith, their positive thinking is richly rewarded. When money is readily available, the impact of the crowd is multiplied.

'Fake it till you make it’ as an investment strategy

Some companies have seen their share valuations rocket to dizzying heights. The power of positive thinking has driven their cost of capital so low that ‘mining the market’ via equity issuance has become a viable growth strategy. With a high enough share price, aggressive growth plans and acquisitions, the new equity is gobbled up by cashed-up investors whose focus is on the potential future growth prospects of businesses rather than financial discipline.

A high share price is a self-fulfilling means to value creation - basically, the cost of growing a business (buying cash cows) is a relative bargain when a company enjoys an extravagantly valued share price (a cheap supply of magic beans). In this way, convincing investors to think positively about a stock’s future as important as delivering profits and dividends. There is not much new about this, although it seems more prevalent today.

Social media is a new battleground

Positive sentiment has always been a powerful market force. Stock promoters nurtured it via market releases, investment research and traditional media. Today, social media provides a new arena to communicate positive narratives about stocks.

A spectacular example of this was the recent surge in GameStop Corp. The powerful force social media can exert on markets was on full display. Two factors help explain this power. Firstly, there is less friction on social media. Stock promoters can communicate directly to the crowd without needing to convince intermediaries such as analysts or journalists to communicate narratives on their behalf. Secondly, the reach of social media is broader than broker research or specialist financial publications. Stock promoters can mobilise enormous crowds across the globe.

The higher volatility that results is also likely to impact valuation dispersion due to its negative impact on investor confidence in general. Volatility undermines investors’ confidence in their predictions. An investor’s willingness to buy a stock reflects confidence in their price predictions and the future, overall. Expensive stocks have baked in the most optimistic outlooks, and therefore have the most to lose from any decline in confidence.

The best-performing stocks are generally companies that are sustainably building valuable businesses. However, if volatility has been mispriced as described, the best opportunities are likely to arise from contrarian viewpoints rather than the pursuit of expensive momentum. To this end, we continue to look for high-quality businesses where recent (positive) changes have not yet been recognised by the market.

We believe the best antidote to volatility is to ensure that our investment process is balanced. Our approach is to construct a diversified portfolio of quality businesses, anchored by a fundamental conviction as well as a positive narrative. 

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The information contained in this document is current as at May 2019 unless otherwise specified and is provided by NovaPort Capital Pty Limited ABN 88 140 833 656, AFSL 385 329 (NovaPort). It is intended solely for holders of an Australian Financial Services License or other wholesale clients (as defined in the Corporations Act 2001 (Cth)). It must not be passed on to retail clients. Any information provided or conclusions made, whether express or implied, do not take into account of any person’s objectives, financial situation or needs. Because of that, each person should, before acting on any this information, consider its appropriateness, having regard to their objectives, financial situation and needs. Past performance is not a reliable indicator of future performance. Fidante Partners Limited ABN 94 002 835 592 AFSL 234668 (Fidante Partners) is the issuer of interests in the NovaPort Smaller Companies Fund (ARSN 094 601 475) and NovaPort Microcap Fund (ARSN 113 199 698) (the ‘Funds’). Offers of interests in the Funds are contained in the current relevant product disclosure statements (PDS) issued by Fidante Partners which are available on our website The relevant PDS should be considered before making any decision whether to acquire or continue to hold units in the Fund. In preparing this document, NovaPort has relied on publicly available information and sources believed to be reliable, however, the information has not been independently verified by NovaPort. While due care and attention has been exercised in the preparation of the presentation, NovaPort gives no representation, warranty (express or implied) as to the accuracy, completeness or reliability of the information. The information in this presentation is also not intended to be a complete statement or summary of the industry, markets, securities or developments referred to in the presentation. NovaPort is not licensed or authorised to provide tax advice. We strongly recommend that an investor seek professional taxation and social security advice for their individual circumstances. Any examples used are for illustration purposes only. Any opinions expressed in this presentation, including as to future matters, may be subject to change. Opinions as to future matters are predictive in nature and may be affected by inaccurate assumptions or by known or unknown risks and uncertainties and may differ materially from results ultimately achieved.

1 contributor mentioned

Sinclair Currie
Fund Manager
NovaPort Capital

Sinclair Currie is a Principal and Co-Founder of NovaPort Capital with 24 years of investment experience. Prior to establishing NovaPort, Sinclair worked at Challenger Limited (Challenger) managing over $200 million in funds.

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