Investing And Darwin’s Theory Of Evolution

What can be common between investing and Darwin’s theory of evolution. It turns out — a lot.

The theory of natural selection says that a species adapted to survive its natural environment will avoid extinction. It can be explained if we try to understand the giraffe’s evolution. Imagine a situation where different species of giraffes coexisted— each with a different neck length. The natural environment was such that food (trees) was available only at a considerable height. Because of their natural advantage, the giraffe with the longest neck would have access to food and would have produced more offsprings, and so in the next thousand years, they would have survived. This theory laid the foundation for understanding the evolution of species.

If we now draw parallels between the evolution of species and the evolution of public companies, like species, only a few companies survive in the long term. According to a McKinsey study, the lifespan of a company listed on S&P today is less than 18 years. However, the companies that survive can compound the money into a large corpus, and therein lies the essence of investing.

Now the question is how to know which company will survive. If you take any sector, you will find that with the change in technology and new innovation, the companies that are not able to adapt to the new environment will become extinct. In 1988, Nokia was the largest-selling phone in the world, but when Apple launched the iPhone in 2007, the whole landscape changed, and Nokia couldn’t adapt to the new world. There was no more grass for the giraffe with the shorter neck (Nokia in this case). In just 6 years, Nokia lost 90% of its market cap.

Survival is the real litmus test in Investing. We should always be asking which companies will survive in the long term. It’s a simple question but almost impossible to predict in many sectors. It’s no surprise that some of the greatest investors like Warren Buffet and Peter Lynch stayed away from the technology sector. It’s so difficult to predict the future in this space.

The right approach to find the survivors is to follow Charlie Munger’s advice “Tell me where I will die and I will never go there”. Find out which companies’ future you can’t predict (sectors where innovation can disrupt the space) and which companies are not positioned to survive the tough time (don’t have enough cash) and just stay away from them.

“The sign above the players’ entrance to the field at Notre Dame reads ‘Play like a champion today’. I sometimes joke that the sign at Nebraska reads ‘Remember your helmet’. Charlie and I are ‘Remember your helmet’ kind of guys. We like to keep it simple.” — Warren Buffet.

Remembering the helmet is the best way to go through the investing journey.

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