Valuentum Exclusive Analysis for the Discerning Investor

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Brian Nelson, President of Equity Research, discusses the difference between speculation and investment. If you cannot view the video, please be sure to consult the transcript that follows.

Companies mentioned: Synaptics (SYNA), Apple (AAPL), GT Advanced (GTAT), Netflix (NFLX), Chipotle (CMG), Domino's (DPZ), Amazon (AMZN), Walmart (WMT), Coca-Cola (KO).

Brian Nelson, CFA:

This is Brian Nelson from Valuentum Securities.

I’d like to talk about the concept of speculation. I think it is best taught with a story perhaps, one of my personal experiences. I used to work on the buy side and one of the more interesting stocks that I pitched in my experience was a company called Synaptics (SYNA). This must have been in 2003-2004.

Synaptics made an interface for a number of electronic devices, and what it held was some of the technological building blocks for a click-wheel technology. About a year or two later following that technology, it was adopted into something called the iPod at Apple (AAPL). You remember the first-generation iPod with the click wheel technology that was provided by a company called Synaptics ticker symbol SYNA.

Now, to some degree, the technology was fantastic, but on the other hand there was a loose connection between that technology ever being adopted by anyone. It was more or less very low probability that Apple would embed that particular technology into its revolutionary product. The call was so good that a large portion of the office received iPods that year for Christmas gifts, but fast forward let’s say ten years later. A company called GT Advanced (GTATQ) was making sapphire crystal displays and was very well believed to be included in the iPhone 6. Well, it turns out they weren’t, and the company declared bankruptcy despite building many facilities to accommodate potential growth with their sapphire technology.

So, on one hand you have an unbelievable success story, and then on the other hand you have bankruptcy. When you think about investing in nascent technologies and very unproven technologies, that’s speculation. Looking for things that may or may not be adopted or become part of our future is speculation, okay. When you look at some of the best-performing stocks over the past few years. Now I’m not saying that these companies have strong competitive advantages, per say. I’m merely talking about their stock price performance.

A company like Netflix (NFLX) for example, they started mailing DVDs in traditional mail. A company like Chipotle (CMG), they put healthy ingredients in a burrito. Companies like Dominoes (DPZ), they franchise pizza delivery. Amazon (AMZN), but a warehouse company that allows consumers to order online, and when you go back in the history, Walmart (WMT) is but a general store. Coca-Cola (KO) made carbonated beverages.

So if you’re getting a hot stock tip or you’re getting a penny stock idea that could be the next great thing, that’s speculation. It’s akin to buying a lotto ticket. It’s likely not going to pay off. Even some of the well-researched ideas out there by some very reputable brokerage houses thought GT Advanced was going to be another Synaptics, but it wasn’t. So investing is not looking for the next big thing. Investing is understanding that opportunities can exist anywhere. You don’t have to go to the exotic regions of the globe to find new ideas. You’re just taking on risk.

For example, Microsoft (MSFT) was a layup. Apple was a layup. Altria (MO) was a layup. But these are companies where the future free cash flow streams of the business were mispriced and they presented opportunities. You don’t need an exotic new idea every single day to put or buy a lotto ticket on. That’s not investing, that’s speculation. So remember the story about GT Advanced and how it either could be bankrupt or Synaptics the next time that you get told about it another hot tip or a penny stock with the new technology.

Thanks for joining, take care.