Off the Wall - Fat Tail Daily

‘I object, your honor! This trial is a travesty. It’s a travesty of a mockery of a sham of a mockery of a travesty of two mockeries of a sham.’

Woody Allen, in Bananas

NPR (last November):

‘A duct-taped banana sells for $6.2 million at an art auction

‘A piece of conceptual art consisting of a simple banana, duct-taped to a wall, sold for $6.2 million at an auction in New York on Wednesday, with the winning bid coming from a prominent cryptocurrency entrepreneur. At one point, another artist took the banana off the wall and ate it.’

What follows is a reverie about price, value…and bananas.

Guess how much stocks have gone up over the last 100 years… how much more valuable are they than they were in 1925?

Go ahead. Take a guess.

The answer, according to our new Law of Conservation of Value is…zero.

Since this seems to contradict the evidence (below) and almost everything we think we know about the stock market and the nature of American capitalism, an explanation is in order. But in order to understand it, we need to put on our life preservers as well as our thinking caps…and jump into a sea of slippery numbers.

First, there are lots of different kinds of value. A banana at an art auction may be worth $6.2 million. In the grocery store they sell for 60 cents a pound. What is Bitcoin worth? How about a baseball card?

Things have value inasmuch as people value them. The $Trump coin, for example, is worth something…but only because people want to own it. You can’t eat it. You can’t use it to shovel snow. Maybe it will increase in value…or maybe it won’t.

Most things get their value based on what they do for you. Cars transport you. Houses protect you. But there is also a big aesthetic…or perhaps vanity…component. People want to buy stylish clothes…live in nice neighbourhoods…or drive fancy cars that enhance their feeling of well-being, even if they don’t really provide any extra utility.

We are a competitive species…always looking for ways to show off. Often, we pay for it. When people buy bananas at the grocery store, they may try to get the most for their money. But when they buy bananas duct-taped to a wall, they are trying to get the least value for their money. Spending recklessly is proof that they are rich…and perhaps ‘above it all’. That’s why people buy Gucci handbags or Rolex watches, too. There is little extra utility, but the extra expense sends a message.

Even in the financial world, many people buy things that seem like preposterous places to put money. They buy a crypto or a ‘meme’ stock and claim to be ‘investing’. What they are really doing is betting that someone will be an even ‘greater fool’ and pay more.

But let us set aside the imponderable world of gambling and vanity spending. Let’s look instead at real world output — the goods and services that most of us want and need — and the capital values of the businesses that produce them.

Ford produces autos and trucks. Its value comes off the assembly line. Today, it makes more and better vehicles than it did a century ago; does that make it more valuable?

Oil companies pump more oil, too. Movies are more sophisticated…and home heating, generally, works better. Progress!

Do these improvements increase the value of Ford or other companies? Not necessarily. Values are relative, not absolute. When everyone gets absolutely richer, no one really gets relatively richer. And just because Ford produces more and better cars doesn’t necessarily mean it is worth more…compared to other things.

So, in order for stocks (or anything) to be worth more…they must be worth more in relation to other items of value. And other things are making Progress! too.

The role of money is to make it easier to figure out. If you grow a crop of tomatoes, and you want to exchange it for other things you want or need, your crop will turn to mush before you get very far. Is a newspaper subscription worth 30 tomatoes…or 25? Is a pair of shoes worth 200? But what shoemaker wants 200 tomatoes?

Money also made it possible to establish a ‘price’. People who want tomatoes can bid against each other. Each has his own wants, needs, and information. The ‘market’ takes it all in, aggregates it, and distils it into a single number…a market price.

In dollar terms, over the last 100 years, cars have gone up about 83 times. Houses are 85 times more expensive. But stocks? They’re up 366 times since 1925. Nothing else comes close. (More detail tomorrow…)

But how could the makers of ‘stuff’ be so much more valuable than the ‘stuff’ they make?

Have the markets gone bananas?

Regards,