Investing In The Stone Age

Includes: JNJ, KO, PEP, PG, SPY, TGT, WMT
by: Eli Inkrot

Recently I was struck by something a woman - we'll call her Rosa - said about her 401(k) contributions. Rosa said that she had been regularly contributing to her 401(k) but decided to stop once the 2009 market crash hit. What struck me about this is that for the average person this might seem like a perfectly sensible action. "Hey, my investments are losing money I should stop doing that". I'm here to say the exact opposite. Now obviously there are some underlying qualifiers, but we'll get to that.

Here's my underlying contention: I believe that a good portion of the investing public would make many more rational investment decisions if they were forced to partially or wholly ignore the T.V. and internet whilst making assessments. That is, if they were forced to invest as if they were living in a relative 'Stone Age'; summarizing from Warren Buffett: "all there is to investing is picking good stocks at good times and staying with them as long as they remain good companies".

As I write this I'm without cable or internet, which consequently means that I am without CNBC or otherwise being able to see the constant bidding for my wonderful business partnerships. I always think of this like owning a small hometown business, say a local pizzeria. When putting the stock market into this context, I imagine perhaps 10 customers happily enjoying your pizza product while 100 more people pack-in and constantly yell to you what they would be willing to pay for your business at any given moment. Some of them would judge their bids on how content a single customer or two appears; others on the amount of foot traffic that walks by your store front that day and the vast majority would base their bids on what the rest of the group is yelling.

The great thing about investing without the noise of constant price bantering is that it allows you to deal with market declines much more rationally. Let's go back to the woman, Rosa. Now Rosa seemed to be making a perfectly sensible decision if you asked the average person. She wanted her investments to increase in value in the long-term, her investments were decreasing substantially in the short-term, and so she stopped the bleeding by taking her funds out of the market. For simplicity we'll use the S&P 500 ETF (NYSEARCA:SPY), as a proxy for Rosa's 401(k). Let's take a look at what happened to the SPY from say 2007 to the end of 2012:

Year Month Price Dividend
2007 March $139.34 $0.551
2007 June $153.88 $0.656
2007 September $147.45 $0.719
2007 December $148.19 $0.775
2008 March $133.14 $0.642
2008 June $139.83 $0.669
2008 September $130.03 $0.691
2008 December $87.51 $0.719
2009 March $72.52 $0.561
2009 June $93.67 $0.518
2009 September $101.95 $0.508
2009 December $110.92 $0.590
2010 March $111.20 $0.480
2010 June $108.35 $0.531
2010 September $106.73 $0.602
2010 December $120.20 $0.653
2011 March $133.57 $0.553
2011 June $134.51 $0.628
2011 September $122.29 $0.625
2011 December $124.85 $0.770
2012 March $137.31 $0.614
2012 June $129.41 $0.688
2012 September $141.04 $0.779
2012 December $142.80 $1.022

It should be noted that the prices are from the opening day of the month, while the dividends are based on mid-month ex-dates. Here we see an opening March 2007 price of about $139 and a December 2012 closing price of roughly $143. In other words, over a period totaling 5.75 years we saw a total price appreciation of just 2.5%, or approximately 0.4% compounded annually; certainly nothing to text home about.

Unfortunately for Rosa the picture is a bit bleaker. Let's take a look at what happens to Rosa's periodic purchases of say $500 a quarter:

Year Month Contribution Shares Bought Cumulative Dividends
2007 March $500 3.59 3.59 $1.98
2007 June $500 3.25 6.84 $4.49
2007 September $500 3.39 10.23 $7.35
2007 December $500 3.37 13.60 $10.54
2008 March $500 3.76 17.36 $11.14
2008 June $500 3.58 20.93 $14.00
2008 September $500 3.85 24.78 $17.12
2008 December $500 5.71 30.49 $21.92
2009 March $500 6.89 37.39 $20.97

Here we see a total contribution of $4,500, resulting in 37.39 SPY shares accumulated over a 2.25 year period. These 37.39 shares would be worth about $2,700. If we factor in dividends of roughly $110 without reinvesting, we see a total loss of about $1,700. But what about 2009 through 2012, you clamor. Ah, but Rosa decided to stop contributing to her 401k. Let's take it a step further and suggest that she was so mortified by the market decline that she got out altogether. Taking the $2,820.86 that she had left and instead investing in a "safer" alternative. We'll be generous and say that she was able to find an annual 4% return; thus today her investment is worth approximately $3,235.93, still negative to the tune of $1,250.

Now what would consistent contributions from 2007 through 2012 look like? Happy to demonstrate:

Year Month Contribution Shares Bought Cumulative Dividends
2007 March $500 3.59 3.59 $1.98
2007 June $500 3.25 6.84 $4.49
2007 September $500 3.39 10.23 $7.35
2007 December $500 3.37 13.60 $10.54
2008 March $500 3.76 17.36 $11.14
2008 June $500 3.58 20.93 $14.00
2008 September $500 3.85 24.78 $17.12
2008 December $500 5.71 30.49 $21.92
2009 March $500 6.89 37.39 $20.97
2009 June $500 5.34 42.73 $22.13
2009 September $500 4.90 47.63 $24.20
2009 December $500 4.51 52.14 $30.76
2010 March $500 4.50 56.63 $27.18
2010 June $500 4.61 61.25 $32.52
2010 September $500 4.68 65.93 $39.69
2010 December $500 4.16 70.09 $45.77
2011 March $500 3.74 73.84 $40.83
2011 June $500 3.72 77.55 $48.70
2011 September $500 4.09 81.64 $51.03
2011 December $500 4.00 85.65 $65.95
2012 March $500 3.64 89.29 $54.82
2012 June $500 3.86 93.15 $64.09
2012 September $500 3.55 96.70 $75.33
2012 December $500 3.50 100.20 $102.40

Here we see 24 quarters worth of contributions over 5.75 years, totaling $12,000. In turn this $12k is able to cumulate into 100.20 SPY shares without reinvesting dividends. The value of those 100 shares based on December's price would be $14,308.35. Add in the dividends accumulated of about $835 and we find a total gain of about $3,100 over the total contributed. Not bad considering the price of the SPY "stalled" for 6 years. Now to be complete if we wanted to compare this to the first example we would have to include the extra money that was not contributed to the 401k. If this was in cash, or worse yet spent instead of invested, then we could roughly estimate that in addition to the $3,200 in Rosa's 401k we would include an extra $7,500 in cash for a total of $10,700. Granted it is possible that the extra money was invested, for example in the "safer" investment, but let's be honest I was being generous. The point is that even in a large market decline where we don't see much price appreciation the "sticking with it" approach certainly has some merits.

Getting back to the "investing in the Stone Age" example, what if your only access to prices was through quarterly statements and the company's annual reports? By the very nature of the situation you would be forced into a long-term frame of thought. As a consequence you wouldn't care what happens to prices next week or what that the non-payroll farm number happens to be on Tuesday or perhaps even what same-store sale numbers are quarter-over-quarter. Instead you would be checking in on the businesses on a yearly, 5-year, 10-year, etc. timeframe; as Peter Lynch would say: "If you spend more than 14 minutes a year worrying about the market, you've wasted 12 minutes". Or as I would further indicate: 'If you spend 14 minutes a year worrying about short-term price fluctuations, you've wasted 14 minutes".

Of course, even if our given example didn't happen to prove profitable, that doesn't mean that the ideology is out of place. As long as we are focusing on the important things like earnings growth, dividend increases and economic moat sustainability then we'll all do just fine over the long-term. In fact, I personally engage in a strategy in which prices are a secondary consideration altogether; that is: dividend growth investing. In my opinion this strategy works as an even greater "market malaise opposition" than say the SPY could. That is, if I held a collection of dividend growth companies with both the ability and propensity to increase payouts, then a curious thing happens in market declines. Prices go down, but my income just keeps on increasing. As a consequence I am better able to buy more of my favorite DG companies like:

Coca-Cola (NYSE:KO) with its 50 year streak of increasing dividends. (I'd bet my top dollar on lucky increase number 51 next month)

Procter & Gamble (NYSE:PG) and its 56 year payout increase streak, 122 year dividend payment streak and the infamous "Tide vs. Gain" detergent aisle.

PepsiCo (NYSE:PEP) with its 40 year dividend increase streak and relative snack monopoly that is Frito-Lay.

Johnson & Johnson (NYSE:JNJ) and its 50 year payout increase streak, not to mention its "Mouthwash stranglehold" over the generic.

And obviously you need a place like Target (NYSE:TGT) or Wal-Mart (NYSE:WMT) and their respective 45 year and 38 year dividend increase streaks to buy all of these wonderful items.

But here's my underlying emphasis: I believe that you can become a much better investor by "investing in the Stone Age". For me this means that you look for the best businesses that you can find, ignore short-term price fluctuations, focus on value creation and sustainability and stay with these partnerships as long as they remain fundamental. More aptly, once you've built a "wonderful business portfolio", this means checking in perhaps quarterly to make sure that the foundation is still solid. If so, perhaps we will periodically add concrete around the sides, but we're probably not going to get the jack-hammer out and restart; again as Buffett would say: "Only buy something that you'd be perfectly happy to hold if the market shut down for 10 years". As I would indicate on how to accomplish this mindset: "Dividend Growth Stocks: The 10-Year CD of Today".

It appears to me a paradox has developed, whereby if you look to the average person the more information that you give them and the more quickly that they have it, the less likely they are going to be able to make rational decisions. Now obviously this is overwhelmingly general supposition. But I would at least advocate that for those that focus on the long-term, who build wonderful partnerships over time and simply monitor these holdings they seem to have a substantiated leg up; ranging on anything from fee's and transaction costs, to perhaps more importantly not losing sleep at night. Imagine going back to someone in the 1930's or 40's (our relative investing Stone Age) and telling them that you could have more information about a given company in 15 minutes than they could dream about having in the next 15 days. Assuredly they would think you to be a legendary investor. And yet with our emergence from stone to tablet, at least in my opinion, it seems that as a group we have evolved backwards; viewing time as a consideration, rather than considering time.

Here's my shout-out to investing in the Stone Age!

Disclosure: I am long KO, JNJ, PG, PEP, TGT. 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.