More Lessons Of History

Radio Corporation of America (RCA) was the stock of the roaring ’20s, soaring more than 10,000% from 1923 to 1929. It dominated the “wireless” sector of its day, and investors and analysts were convinced that the company’s growth had no limits. “You can’t pay too much for ‘Radio,'” was the rallying cry for the final year or so of its great run. At its peak, the stock traded at a price-to-earnings ratio of 72.

And then the crash of October 1929 struck. By the time the bear market ended in mid-1932, RCA had lost 97% of its value. Competitors arose, the economy plunged, and RCA didn’t regain its pre-crash stock price of $114 a share until 1966, 37 years later. After getting back to its old high, it lost two-thirds of its value over the next eight years, bottoming in the 1973-1974 bear market. It was acquired a decade later by GE, one of the companies that had launched it in 1919.

There are several lessons to be drawn from the RCA saga. If you’re going to buy and hold, diversification and valuation matter, as we discussed in the piece on the Nifty Fifty of the early 1970s.

And even when predictions of astronomical growth come true, don’t assume that one company will reap all the benefits or grow indefinitely. It is the nature of competition, particularly in technology, that something or someone new or better will eventually come along. The radio was even more revolutionary for its time than the Internet is for ours, and it fulfilled many of the promises of its visionaries. But the mistake investors made was to assume that all the benefits of it would accrue to one business, RCA. Every new technology becomes a commodity eventually; when the basis for competition in an industry becomes mass production and price, the first mover advantage disappears.

And technology companies are notoriously short-sighted when it comes to recognizing the next trend in technology, witness IBM’s and Xerox’s legendary missteps in the development of the personal computer. Both companies in the 1960s had runs similar to Cisco in the 1990s, yet if you had bought them at their peak in 1972, you would have lagged the market for the next 25 years. Can Cisco do better? Juniper Networks has already challenged the company successfully in the router space, and others have taken the lead in optical technology. If Cisco has one advantage, though, it’s that the company understands that it will never develop internally all the technology it needs to stay on top, and is unparalleled at acquiring and integrating the technology it does need.

But misguided ideas of limitless growth aren’t limited to technology stocks. Of all the Nifty Fifty stocks of the early 1970s, the “one decision” stocks that would grow forever, Simplicity Pattern was the most interesting. Investors bid up the pattern maker on the assumption that women would continue to make their own dresses, at a time when women were beginning to enter the workforce en masse.

When everyone in the stock market believes something, it’s probably a good time to bet the other way, because there’s no one left to buy into the idea.

Note: Finnish cell phone giant Nokia warned this morning, ensuring another tough day for stocks. When stocks that have gained global market share throughout this slowdown begin to warn, the slowdown is likely becoming global.