The Rise After the Fall

Guest post by Ted Lamade, Managing Director at The Carnegie Institution for Science

Two weeks ago, I was scheduled to attend an annual meeting in Chicago. I caught an early morning flight into O’Hare and arrived at my hotel on Michigan Avenue shortly before noon. Knowing I had a few hours to kill before my first meeting, I decided to walk around the city to see how much it had (or had not) emerged from the Covid-19 lockdowns.

As I walked along the city’s Riverwalk, I shielded myself from the wind on a day that was unseasonably cold, even for the spring in The Windy City. Dodging people along Wacker Drive, I noticed a bookstore around the corner from The Wrigley Building. In order to warm up, but also in an effort to embrace Barton Biggs’ bookstore philosophy, I ducked into the store (Biggs’ bookstore philosophy was simply that whenever he traveled to a new city as Morgan Stanley chief investment strategist, he would visit bookstores due to his belief that which books were selling and how they were positioned on the shelves provided a good indicator of a city’s or country’s current mood/sentiment).

While my visit didn’t lead to any earth shattering conclusions regarding the state of the country or economy, I did notice a book incredibly out of place on one of the shelves – a biography of Vince Lombardi. A book about the legendary Green Bay Packers head coach in a Chicago bookstore? A mile from the home of the Monsters of the Midway? It felt like seeing a jelly donut for sale in a Sweetgreen.

As I flipped through the book, there were several quotes strewn throughout. Two jumped out, not because I hadn’t seen them before, but rather because they seemed to be a bit at odds with one another.

“Winning isn’t everything, it’s the only thing.”

And

“The greatest accomplishment in life is not in never falling, but in rising again after you fall.”

I left the bookstore and headed back to my hotel. As I walked towards Michigan Avenue, once again bracing the cold, I began to question my initial impression. Were these two quotes really at odds with one another? Or, were they if fact inseparable?

If Lombardi were alive today, my guess is he would make the case that the former is actually a direct byproduct of the latter — Winning, in the truest sense of the word, results from rising after you fall.

Then it suddenly dawned on me. In the midst of one of the longest bull markets in history, had we somehow forgotten this along the way?

The last decade and a half has been a period characterized by low interest rates, abundant capital, unlimited support from both the Federal Reserve and the U.S. government, and low commodity prices. As a result, nearly every investable asset has appreciated in value.

If so, the logical question is, has this created a generation or two (or even three) of investors with an elevated opinion of their abilities? It would be hard not to.

The fact is, both millennials and the older Gen Z’ers have now spent the bulk of their careers working and investing in a sustained bull market, which has led to an elevated level of confidence. This confidence is arguably even more pronounced for the younger Gen Z’ers who haven’t even entered the workforce. How could it not be when, as the Wall Street Journal pronounced in an article titled What New Grads Want this past weekend,

“This current class is the most in demand group of college graduates to enter the job market in years and they have expectations to match. Grads are seeking more money, flexibility, and specifics about likely assignments than prior classes.”

More money, flexibility, and specifics? I remember just wanting a job that paid enough to cover the rent for my apartment during the financial crisis

So, why does this matter?

It matters because the market is telling us that we are likely heading into a more challenging economic environment and are doing with a large percentage of investors (and employees more broadly) who haven’t had to navigate through one before. Said another way, they haven’t been forced to “rise after a fall”. It’s even been a while for those who have, so they’re likely a little rusty as well.

So, how does this play out?

After an astounding run in which the NASDAQ compounded at more than 20% for thirteen years, venture capital posted even higher returns, and the broader economy grew at a sustained clip, things have reversed quickly and violently. From its peak, the S&P 500 is now down more than 15%, the NASDAQ is down 25%, and once high-flying stocks like Zoom, Peloton, and Shopify are all down more than 80% from their highs. Even parts of the bond market are down 15-20%. Venture returns haven’t come in yet, but they’re likely to experience material write downs soon enough. The only thing up materially is energy, which has become an albatross for investors in recent years given the ESG movement.

From a market perspective, we shouldn’t expect a “V-Shaped” recovery like the one we saw in 2020 in the wake of Covid or even in 2009 following the financial crisis. The primary reason is that the Fed isn’t going to be riding into the rescue this time. If anything, it will be running the other direction in order to combat inflation.

As it relates to the longer-term behavioral side of things, Bill Gurley of Benchmark Capital highlighted what this may look like in a recent Tweet when he said,

“An entire generation of entrepreneurs and tech investors built their entire perspectives on valuation during the second half of a 13-year amazing bull market run. The ‘unlearning’ process could be painful, surprising, and unsettling to many.”

My guess is that this bumpy ride will continue for a while as investors determine how to digest the new market environment, adjust their portfolios, and seek out where the next opportunities lie. Twenty and thirty-something investors are going experience a world in which stocks need more than a good story to go up, time horizons contract, and capital becomes scarcer. Those over 40 will dust off their old playbooks from the financial crisis and dot.com eras, only to find that some of those lessons will be applicable to today’s market, while others will not. Finally, the baby boomers will begin (if they haven’t already done so) saying, “I told you this was going to happen.” Heck, after saying the sky is falling for close to a decade now, Jeremy Grantham is finally taking his victory lap.

This said, we’ve been here before. It’s all part of the process. The process of falling so that we can rise again.

With this is mind, here are a few things I am paying particular attention to.

Labor Market

I titled this Substack “A Program that Lasts” in an ode to UVA Basketball Coach Tony Bennett’s response to a question at his initial press conference. A reporter asked Bennett, “What will it take to build a lasting program at UVA?”. Bennett responded,

“I need to recruit young men I can lose with.”

Simple, but impactful.

If this market and economy continue to weaken, business leaders and investors are going to quickly find out who they can (or cannot) lose with. This will lead to defining moments for many. Are you someone who will be steady at the wheel, or will this shake you? Did you add true value during this bull market, or was your success just a byproduct of it? With many investments already down materially, how will you balance mitigating further downside risk versus being positioned for when the market recovers?

For younger employees, I would be rushing back into the office. I would be ready and prepared to do any and everything to make my boss’s job a little easier. When things get difficult, people in leadership positions want to look others in their faces. They want to read body language. They want to see who is truly fully invested. You can’t do that from home through Zoom.

If this does happen and employees rush back to the office, it wouldn’t surprise me to see the office sector go from being one of the worst performing asset classes in recent years to one of the best in a number of markets.

Mentoring

To date, reports are that this migration back to the office has been slow, especially among the younger employees. In fact, I’ve heard many have threatened to quit if they are forced to return. The case for staying at home is that productivity has held up well and that digital work is the way of the future.

Maybe, but I don’t buy it.

My sense is that we will learn over time that work-from-home was an adequate short-term stop-gap, but a long-term culture killer for companies that kept it in place for too long, in large part due to mentorship. The reason is that a company without mentorship is like a team without a coach or captain. Talent alone can get you by for a while, but once the experienced players “age out”, the younger players are rudderless.

If I had to guess, there will be a high correlation between the companies that get employees back in the office and those that succeed over the next cycle and beyond. Why? In large part because recessions are when great mentors shine, and great mentees learn why.

New and Enduring Opportunities

With inflation remaining elevated and equities in freefall, the markets feel unsteady. Unsurprisingly, networks like CNBC have started running their “Markets in Turmoil” caption again, while drawing endless comparisons to the 1970’s. Fox News even had Pauly D from Jersey Shore on recently to discuss the effects of rising prices.

Frankly, the comparisons are hard to deny. Wars that started with the U.S. providing an ally with resources, eventually escalating into combat (Vietnam vs. Ukraine), outsized government stimulus (LBJ’s social programs vs. Covid-19 support), and loose monetary policies (Burns’ Fed vs. Powell’s) are just three that jump out.

Yet, we hear less about the things that arose from this period. The 1970’s saw the birth of several legendary U.S. companies, namely Microsoft in 1975, Apple and Genentech in 1976, and Home Depot in 1979. It also led to significant scientific and technological advances, including dramatic improvements in fuel efficiency, energy extraction, personal computing, the microprocessor, cell phones, and home entertainment. However, maybe most importantly, the 1970’s gave birth to the modern day venture capital industry (notably the rise of Sand Hill Road, specifically Sequoia Capital and Kleiner Perkins).

Think about that for a minute. The worst decade since the Great Depression, one defined by high prices, poor equity and bond returns, and an overall malaise led to the creation of four of the strongest businesses this country has ever seen and the dynamic industry that shaped the American economy over the past four decades.

It’s likely still too early to even be asking this question, but are we going to endure a repeat of the 1970’s? I don’t believe so, but even if we do, there will be opportunities to rise from the fall. There always are.

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