It is the Christmas season, which means that it is time for your usual obligatory reminders and warnings about consumerism. It is also Christmas in a pandemic year, so those warnings will come with an additional “Hey, we know your kids are upset about 2020 but don’t make it worse by trying to make it better with a boatload of crap they don’t need” on the label. That, and “Hey, maybe a year in which a lot of people are hurting would be a good one to teach what generosity really looks like.” And they’re all good warnings. The problem, of course, is that consumption really does make us happier, at least for a while. Then, inevitably, we do what humans do best. We adapt. To trigger the same chemical and emotional response, our brain tells us we need new consumption. Something bigger and more exciting.
The hedonic treadmill is real.
It isn’t possible to avoid the chemical impulse. On the other hand, it is possible to manage whether and how we respond to it. The latter is something my friend Brian Portnoy wrote wonderfully about in his book from a couple years ago, The Geometry of Wealth. As gifts to FAs or multi-generational wealthy clients go, it usually tops my list of recommendations.
So I’m good at talking about the hedonic treadmill. I’m good at recommending books about it. At actually avoiding it? Eh. Hit and miss. I have discovered I am not very good at it when it comes to buying whisky. Or BBQ equipment. Or Lego sets for my sons. But in one major expense area, I’m pleased to say that I have been on a reverse treadmill for my entire adult life. Cars.
I didn’t actually buy my first car until I had been out of college for almost four years. It was, by far, the most expensive car I would ever buy, a fancy, brand new all-wheel drive sedan. When I moved to Texas a few years later and no longer needed all-wheel drive, I traded slightly down for a coupe from a more ordinary brand. After being sick of payments and moving to Houston (where I lived rather close to the office), I traded in its equity for an 8-year old car with 90,000 miles on it. When Hurricane Harvey buried the old girl under water, I used the insurance money to buy a base model pickup truck. That’s what I drive today.
But I have a confession: since the days when they only offered a Roadster, I have really wanted a Tesla. I’m more than a decade and a half past caring very much about what people think my car says about me. I’m under no delusions about their build quality. I’m not really convinced that electric autos are going to have any near-term influence on climate change that isn’t just going to be swamped by the middle-classification of India and much of the rest of the emerging world. I like the basic technology of electric motors. I like driving a car with a lot of torque.
I have another confession: for a long time, I have thought Tesla – the stock – was a long-term zero.
That obviously isn’t because I didn’t like the product. It also isn’t because I dislike Elon Musk. I will not ingratiate myself with most of our readers by admitting that I think Elon Musk is akshually net good, but God help me, I do. Warts and all. And this? I don’t just like this. I LOVE this.
It also isn’t because I dislike the company’s piggy bank-and-kinda-sorta-affiliate-slash-cousin in the rocket and satellite business. On the contrary, I consider getting humanity off this rock to be one of the two or three most important things we must get done as a species. No, I have long thought Tesla stock was a zero because the trajectory of their revenues, regulatory sensitivity, capital structure and fast-and-loose approach to accounting and operations led me to believe it would, to use the highly technical jargon of our trade, completely run out of sources of money to build factories, design cars and pay people.
A funny thing happened between when I decided I thought Tesla stock was literally worth zero dollars and today, however: it became worth $600 billion.
I’ve never been short the stock. I’ve never been long the stock (other than, perhaps, through long-term diversified index instrument positions in retirement accounts). I haven’t made any recommendations for or against the stock. We don’t even allow partners here to have positions on individual securities. Still, emotionally, I was absolutely invested in the community of investors who thought TSLA was a zero. Okay, I’m exaggerating a bit here, but in context of $600 billion, what we all thought it was worth might as well be zero. Oops.
But another funny thing happened, too.
As Tesla stock rallied by 400, 500 and then 600%, the company sold shares. A lot of them. Last week it announced it will raise another $5 billion worth. That’s a little less than half of what its market cap would be if the stock traded on its most recent quarter at the typical multiple of Ford or GM over the last few years. It doesn’t sound like a thrilling amount of money in context of Tesla’s lofty market cap today, but in context of the real-world threats to deploying adequate capex, making payroll and keeping the thing a going concern for the next few years? It is a lot.
And make no mistake, given where we are at, it is exactly what management should be doing.
But how and why we got to a place where management can do this still matters.
Reality is that which, when you stop believing in it, doesn’t go away.Philip K. Dick, in 1978 speech “How To Build A Universe That Doesn’t Fall Apart Two Days Later“
I’ve always liked this famous Dickism about reality. I just wish it weren’t completely wrong.
Over the last couple of years, Tesla and Musk managed to do something pretty remarkable. Not with the company or its products, really. Not directly. They realized that the best way – maybe the only way – to keep their dream alive was not to suspend ambitious capital plans, to partner with a better capitalized peer or to simplify a sprawling business plan. It was to create a narrative about what Tesla was and what it meant for the long term of humanity. A narrative that, under the right set of circumstances, would permit the company to access capital at a cost and scale defined not by the market’s assessments of risk-based discounting of future cash flows, but by the Tesla Story.
A Platform Story.
This obviously isn’t just a Tesla thing. It’s part of what’s happening with DoorDash. And Airbnb. Even Uber, although that seems like ages ago now. In narrative world, they’re not companies. They’re certainly not consumer stocks. They’re not even tech stocks. They’re Platform Stories.
A Platform Story tells investors that what matters is the full range of outcomes for the numerator of the most distant conceivable year of a theoretical DCF.
It’s not a new idea. It’s a tried-and-true page straight out of the growth stock playbook. And when it hits its stride, it is more than enough to produce manic investor behaviors on its own.
What IS new, however, is that there is another narrative that emerges from the transformation of capital markets into public utilities, the emphasis of political powers on the level of the S&P 500 as the sole measure of economic health, a thing which must not be allowed to fall. What is that narrative? That everyone believes everyone else believes in a central bank put. That everyone believes everyone else believes in zero interest rates over any time horizon that matters. In short, a ZIRP Narrative.
Under a ZIRP Narrative, everyone believes that everyone else believes that the denominator in that DCF above doesn’t matter.
Perhaps, sane and well-adjusted as you are, dear reader, you’ve forced any memory of high school or college calculus out of your brain. Maybe a DCF model sounds to you like something out of science fiction. So I’ll be nice. I’ll give you three guesses what happens when your numerator approaches infinity and your denominator approaches zero.
In short, if everybody knows that everybody knows that a discount rate will be functionally zero over any horizon that matters, and if there is an audience willing to bet on a Platform Story, and if your Platform Story is literally the Jetsons, there is NO price, NO valuation that is too ridiculous.
I’ve heard more than a couple people in the industry tell me in recent weeks they think the ZIRP Narrative as a proximate cause is overstated. “It’s just a mania.”
Yeah, no kidding.
But y’all, the narrative clothes we drape over our decisions matter. They matter if we choose them intentionally as an ex ante model for the aggregate belief systems of others. They matter if we choose them as part of a post hoc rationalization. The pressures we face as investors are nearly the same as those we face on the hedonic treadmill in our own lives, and the pursuit of nearly every short-term desire depends on us telling ourselves a good long-term story about it.
How do we justify a Peleton? We tell ourselves that it will pay off in the long term, and not just as a place to hang towels and dirty clothes.
How do we justify spending an increasing amount on art, or an expensive watch or jewelry? We tell ourselves that it will be an heirloom, maybe even that it will appreciate in value.
How do we justify upgrading to an extravagant home? We tell ourselves that it is a long-term commitment. An investment.
How do we justify shoveling out more and more free capital to a $600 billion company that doesn’t really make any money?
We tell ourselves that we’re going to the moon. You know what? Screw it. We’re going to Mars.
Even if greed and fear are always the same, it matters to understand the narratives we are collectively draping over them. Because those are the stories that must break if we expect anything to change.
This is what makes the Tesla story so interesting: they shrewdly used the tireless cultivation of a Platform Story to insulate themselves from their chief threat, namely, that liquidity would make it impossible for investors to maintain the infinite potential in their numerator and infinite indifference in their denominator.
In other words, Tesla’s success depended completely on three necessary conditions. First, it depended on the emergence of an audience of investors willing to allow their imaginations run truly wild about what a company with a 50-year vision could do. Second, it depended on the emergence of common knowledge that we were living in a world of ZIRP. Third, it depended on Tesla using the existence of #1 and #2 to substantially improve their liquidity situation to keep the Platform Story alive.
The world of 2020 gave Tesla each of its necessary conditions, and the bet paid off. It is good news for Tesla. It is great news for TSLA investors. And it is spectacular news for Musk. For now, anyway.
I think the news is not so great for the rest of us.
No, not because there’s any harm done to anyone today by any of this, other than the hurt feelings and bruised egos of those who shorted or missed its historic run. Or those who missed recent IPOs. Or those who didn’t leave their current business model to sponsor some absurd SPAC or other. And not really because of Tesla itself, which is one company in a sea of many, and nothing to get too worked up about. Not because any of this is permanent, either. The Tesla Story could still absolutely break, because it remains dependent on each of the necessary conditions above.
No, I think the news is not so great for the rest of us because bad capital allocation today is bad for prosperity tomorrow. I believe that companies are raising and deploying new capital on the shoulders of the infinite horizon of Platform Stories and the infinite risk-indifference of ZIRP. I believe that capital will be less productive than the other uses it might have been put toward. And yes, those are beliefs, not facts. That we can observe presence of these narratives, however, is.
We talk a lot about the Long Now, the term we use for the optimization of the appearance of the present at the cost of the reality of the future. It is seductive to believe ‘infinite horizon’ thinking of this kind might be a cure for the Long Now. It isn’t. It IS the Long Now. The story may be long-term value creation, but the objective is artificially cheap capital in the short term.
It may seem ironic that a narrative about the long-term could be deployed to distort the rewards of effective, market-based long-term capital allocation for short-term benefit. Yet that kind of sophistry is precisely what we mean by Projection Rackets.
Don’t you believe in long term investing?
This is, I think, the heart of The ZIRP Paradox:
The myth of infinite horizon, infinite risk tolerance investing is the enemy of long-term investing.