JPMorgan And The Benefit Of A Swooning Stock Price

| About: JPMorgan Chase (JPM)


Shares of JPMorgan trade hands at basically the same price today as they did back in 2000.

This seems like terrible news, but it may not be as bad as you first imagine.

For the long-term owner, who happens to be a long-term net buyer, it’s lower prices rather than higher that provide the ultimate benefit.

Perhaps one of the most pervasive concepts for the general investing public is the notion that higher prices are "good news" and lower prices are "bad news." Whether its online, with a T.V. show or in a newspaper headline, you can see this idea play out over and over. "It was a good day on Wall Street" means higher prices and green "up arrows" all around. Flashes of red and a downbeat newscaster? You know stock transactions took place at a lower price than yesterday.

If not the most pervasive concept, then this oft repeated phrase very well could be: "buy low, sell high." Simplicity just oozes from those four words. Yet I'd contend that these sort of simplified notions actually hurt more than they help. If you treat the investing world like a baseball game -- keeping score with every point higher -- you could very well drive the rationality out of your approach. Stocks don't march higher day-after-day; it's the ebbs and flows that can actually make the investing process better.

Perhaps a more helpful saying for the long-term investor would be something along these lines:

"Buy reasonable, if it goes higher fine. If it goes lower, great! I get to buy more at an even better price. I know that eventually the price will reflect the improving economics of a profitable business, but this doesn't have to happen on a set schedule. As such, I'll embrace the opportunity instead of becoming anxious about actions out of my control. Actions, by the way, that actually could be a net benefit but many believe to be bad news."

It's a bit longer and perhaps doesn't have that simplified ring to it. You'd be hard pressed to deliver it as a pitch in an elevator. Yet I'd contend this sort of notion is a much more accurate reflection of how the long-term investor (who also happens to be a long-term net buyer) ought to think about pricing fluctuations.

I could keep making up phrases, but I think an illustration would be more helpful. Back in March of 2000 shares of JPMorgan (NYSE:JPM) were trading around $60 per share. As of this writing, this is also more or less where shares stand. So you have 16 years and absolutely zero capital appreciation.

On the surface this appears to be terrible news. And surely if this were a news story, this is where the sad music cues and the gloomy faces read the teleprompter with a shake of their head. Yet I'd contend that the news may not be as bad as it seems. There's a bit of a silver lining.

First, you also have to think about dividend payments along the way. This would have amounted to $20 or so per share, even with a massive dividend cut back during the most recent recession. So the return is actually positive, but perhaps closer to stagnant in real terms.

What I'd really like to talk about is what happened to the share price in between 2000 and 2016. We know that the share price started and ended around $60, but if you're not familiar with the history, you don't yet know what occurred in the in-between years.

I'll give you three options and you can pick the one that you might have preferred if you were a long-term owner during this time:

The first option -- "A" -- probably doesn't look particularly attractive from a return standpoint, but you would have received dividends along the way and the value of your investment would never have gone below where it started.

The second option -- "B" -- looks a bit more promising in that the share price went all the way up to $95 (certainly the everyday spectator would have been rooting during this portion). Of course it ends in the same place as the other two, but the value of your beginning investment would have always been higher.

In contrast, the third option -- "C" -- looks quite unappealing. In the very first year you would have seen a 25% lower value, followed by two more down years. By 2003 you'd be sitting on an investment that is quoted to being worth just 38% of when you began. Through the years you'd muddle around in the $30s and $40s before finally, after more than a decade, getting back to "even." This doesn't look attractive in the least if you're in the mindset that higher is better.

Given that you had to pick from one of those three options, I'd contend that a portion of investors would choose either A or B. What's interesting is that while the beta might be lower, or the value of your starting investment never below where it began, the "risk" with these alternatives is much higher. Fortunately, both option "A" and "B" are hypothetical, while option "C" is what actually occurred. I'll show you why that's fortunate.

Remember that we're talking about the long-term owner -- someone who buys shares and holds for years. If you simply bought shares once and spent the dividend payments, it wouldn't matter which option actually happened; all three would provide the same return (prior to thinking about share repurchases/issuance).

However, when you start to think about reinvestment, there's a clear favorite. Here's a summary of each option if you started by investing $1,000 and reinvested all of the dividends along the way:

When you present it like this it seems obvious enough: by reinvesting at lower rather than higher price, you can accumulate more shares. More shares provide more dividends, and ultimately have a greater valuation. When you're in the moment you might be rooting for higher prices, but this doesn't make a lot of sense if you're going to be buying more.

It's sort of like stopping to get gas for $2 a gallon and then rooting for it to hit $2.20 while you're in the middle of pumping. If you're going to be adding more, you'd like to the price to stay the same or ideally go down. And that applies whether you're in the middle of pumping or if you're going to be buying next week or year. Granted the analogy doesn't work perfectly because you can't easily turn around and sell the gas you have collected at a higher price, but that's sort of the point. The illustration works because in both cases you're going to be a net buyer.

And by the way, being a net buyer in the investing world happens much more often than you might realize. The most obvious case is deploying "fresh" capital -- literally putting in market orders to buy more shares. Beyond this, if you're reinvesting dividends, the same idea holds. Yet if you're not doing either of those things, you could still be a net buyer. The company could be retiring shares on your behalf. All of these circumstances provide a benefit at lower rather than higher prices.

The benefit of a "swooning" stock price is even more pronounced when you think about adding capital consistently instead of just once. Here's what the above options would look like if you invested $1,000 each year and reinvested the dividends:

The benefit of being able to consistently purchase shares at lower rather than higher prices, in this example, is basically double the ending value. Instead of purchasing shares at $60+ over the last decade and a half, the long-term JPMorgan shareholder was able to purchase shares in the $50s, $40s, $30s and so on. This may seem unfortunate at the time, but it's what allows for outsized returns when the share price does eventually recover.

In short, if you owned shares of JPMorgan and you wanted to sell in the short term, you should be rooting for higher prices. No different than if you just pumped gas for $2 and were able to turn around and sell it to someone else for $2.20 (presuming you didn't need it). Yet if you're going to be a long-term owner, who also happens to be a long-term net buyer, it's the lower prices -- the swooning stock price -- that will provide the ultimate benefit.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.