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Fact vs. Opinion in the Stock Market


In early 1975, I decided to buy shares in several textile companies. Textile companies, originally established in New England when water power was plentiful and cheap, had long since migrated to the South. By the 1970s, we were importing more and more textiles from overseas. The future for our domestic industry was not too bright. I was aware of this history but my study had shown that current stock prices more than compensated for company problems. It seemed certain that share prices could not long stay at such low levels and that I could earn forty to fifty percent within two years with very little risk. Shortly after I completed my purchases I mentioned my activities to a stockbroker friend. He immediately said, "I wouldn't touch a textile stock. I think you are crazy!"

I had a lot of respect for his opinion as he was highly intelligent and knew a lot about investments. Fortunately, I had recently read a book written by J. Paul Getty, How To Be Rich (Playboy Press, 1973). I ignored my friend's well-intentioned advice and made a lot of money. This sort of thing has happened to every investor. Someone whom they respect casts doubt on a course of action they have taken and sometimes causes them to reverse course. The failure to distinguish between fact and opinion cost Mr. Getty millions. It is very easy to accept what is said at face value without realizing that it is merely an opinion and not fact.

After his experience, Paul Getty noted that an opinion is no better than:

  1. The facts on which it is based,
  2. The qualifications of the person expressing the opinion, and
  3. His or her ability to interpret the fact correctly.

Let's take each of these parts separately. First, does the person expressing the opinion have the facts?

In the case of my textile investments, each of the companies in question was selling below liquidating value. I had subtracted current obligations (due within twelve months) and long term debt from current assets and found that the remainder far exceeded the share price. This meant that if I had bought every share outstanding, the fixed assets (land, buildings and equipment) would have cost nothing, the fact that it was an operating, going business concern, would have cost nothing and the trade name would have cost nothing.

I did not think these stocks could sell at such low prices for long. These were the facts unearthed by my investigation. My friend was wholly unaware of this information when he expressed his forceful opinion.

Second, is the speaker qualified to give an opinion?

It is very hard to resist a strongly expressed opinion voiced by an authority figure. Let's assume the speaker has made a fortune in business, or is a professor at a prestigious university. An opinion expressed by such a person tends to carry a lot of weight because of their standing in society.

In my view, none of these attributes, by themselves, qualify a person to express an opinion on a common stock investment. A qualified person must be a successful stock market investor.

Such a person does not have to be a professional stock market investor. They may very well serve in some other profession. As in the example above, perhaps a College Professor is also a successful stock market investor. John Maynard Keynes, one of history's important figures in Economics, made a fortune for his college in his spare time.

Third, if the speaker has the facts and is qualified, is their reasoning correct?

Even the most experienced and successful stock market investors make mistakes in judgment. In the early 1970s the best and the brightest on Wall Street thought that companies growing at 25 percent or more could grow for years at those elevated rates if they continued to invest heavily in Research and Development. Based upon these estimated growth rates, these managers were willing to pay very high prices for their choices.

These stocks were called the "nifty fifty" since the institutional money managers all concentrated their investments in the same fifty stocks. Typical of their choices were IBM, Minnesota Mining and Eastman Kodak. Alas, their portfolios were shredded in the 1972 - 1974 bear market. It turned out that such companies could not manufacture their own growth rates by heavy R & D spending. They had the facts and they were qualified but they made a big error in judgment.

You can safely disregard any opinion which does not satisfy all three of the above conditions.

My friend not only did not have the facts, he was not qualified since, to my certain knowledge, he was not a successful stock market investor. Making investment decisions is a lonely occupation. Often you have to act when every one else expresses doubt.

A successful stock market investor, then, must carefully uncover their own facts and once they are convinced that an investment promises an exceptional return with reasonable risk: they must act. This is true even if every one else does nothing.

Just as important, once you have made a careful investment decision: stick to it.

Probably no one has made more lonely decisions than Abraham Lincoln during the Civil War. His advice was, "Be sure you are right; then go ahead." That also applies in the stock market.