Mr. Market
March 11, 2024
In 1949, Benjamin Graham wrote The Intelligent Investor, a now classic investing book. In it, he introduced the concept of “Mr. Market” – a manic-depressive business partner who, each day, throws out a price for the business that he’s willing to buy or sell at. Some days he’s euphoric and quotes a high price. Other days, he’s depressed and will only buy/sell at bargain levels.
The Mr. Market personification reminds us not to get caught up in the manias of the market. Our focus should be on the fundamentals of the investment, making them our guide. That way, when Mr. Market quotes us an absurd price, we can either ignore him, or take advantage of him. In this light, market volatility becomes an asset, not a liability.
Warrant Buffett, a protégé of Benjamin Graham, laid out the concept of Mr. Market in his 1987 Berkshire Hathaway shareholder letter:
“Even though the business that the two of you own may have economic characteristics that are stable, Mr. Market’s quotation will be anything but. For, sad to say, the poor fellow has incurable emotional problems. At times he feels euphoric and can see only the favorable factors affecting the business. When in that mood, he names a very high buy-sell price because he fears that you will snap up his interest and rob him of imminent gains. At other times he is depressed and can see nothing but trouble ahead for both the business and the world. On these occasions, he will name a very low price, since he is terrified that you will unload your interest on him.
Mr. Market has another endearing characteristic: He doesn’t mind being ignored. If his quotation is uninteresting to you today, he will be back with a new one tomorrow. Transactions are strictly at your option. Under these conditions, the more manic-depressive his behavior, the better for you.
But like Cinderella at the ball, you must heed one warning or everything will turn into pumpkins and mice: Mr. Market is there to serve you, not guide you. It is his pocketbook, not his wisdom, that you will find useful. If he shows up some day in a particularly foolish mood, you are free to either ignore him or take advantage of him, but it will be disastrous if you fall under his influence.”
Here are a few recent instances where we’ve seen Mr. Market at work.
Fed Rate Cuts
As inflation came down in recent months, Mr. Market started expecting – even demanding – that the Fed cut rates. By late 2023, he was pricing in six rate cuts for 2024. That would move the overnight rate from 5.50% down to 4.0%.
However, Chairman Powell and the rest of the Federal Reserve never wavered in their posture that inflation was still above target, and with a healthy employment picture, they were in no hurry to drop rates. Their own internal forecast: three rate cuts in 2024.
When the February Consumer Price Index (CPI) report came in just above expectations (+3.1% year-over-year versus the +2.9% expected), Mr. Market did what he often does, and had a quick change of heart. He started listening to the Fed. Today, he agrees with the Fed: three rate cuts in 2024. Who knows what his attitude will be when the next CPI report is released.
Nvidia vs. Energy
Nvidia (NVDA), and its artificial intelligence (AI) focused chips, is the company of the moment. Mr. Market is enamored and feeling euphoric about the company’s prospects. His current bid is 74x trailing earnings (or 36x forward earnings). Mr. Market is very confident that NVDA’s earnings will grow exponentially in the coming years.
He likes NVDA so much that he now values it at more than the entire Energy sector. The current combined market cap of all the energy stocks in the S&P 500 is $1.6 trillion. NDVA, by itself, has a market cap of $2.3 trillion, or 40% more than the whole oil patch.
For comparison purposes, Exxon Mobil, the largest, but just one of the Energy sector names, had net income in 2023 of $36 billion (which was down from $55.7B in 2022 due to lower oil prices). Nvidia’s 2023 net income was $29.8B.
Fundamentals
Fundamentals – the financial metrics and factors that define a company’s long-term health – are the antidote to Mr. Market. They allow us to look past his mood swings and analyze the underlying business. We can compare our intrinsic valuation of the company to Mr. Market’s offer and, when favorable, take advantage.
Dividends are a barometer of valuation, and the chart shows their stability versus Mr. Market’s mood swings, cycling from euphoria to depression. Dividends didn’t matter in the late 1990s as tech bubble excitement pushed valuations to unsustainable levels. In the early 1980s, after years of punishing inflation, Mr. Market was depressed, and undervaluing dividends, a good time to buy. The Financial Crisis of 2009 was the same.
Today, at the index level, Mr. Market doesn’t look to be overly euphoric or depressed. But, as the saying goes, “it’s a market of stocks, not a stock market.” Under the hood we see some stark contrasts among sectors and industries. There are areas of euphoria, mainly led by technology and AI. There are also areas of depression, mainly around value and quality stocks.
While we sit and watch Mr. Market push certain names (like NVDA) to extreme valuations, we take Warren Buffet’s warning to heart, “. . . it will be disastrous if you fall under his [Mr. Market’s] influence.” We’re content to ignore Mr. Market for the time being. We hold a portfolio of high-quality companies attractively priced relative to fundamentals. Most of them pay above average dividends as we wait. At some point, our manic-depressive business partner will show up to the office in a particularly foolish mood. We’ll be there waiting.
If you have any questions about your account(s), if there has been a change in your financial situation or investment objectives, or if you’d like to schedule a complimentary consultation to learn more about how our team can help you navigate the market and achieve your long-term financial goals, please feel free to contact us at (406) 839-2037.