"What we see and what we don't see"
This phrase is often found in the economic reflections of 19th century French politician and economist, Frédéric Bastiat. Whether discussing taxes, state subsidies or the role of credit, he was a devout defender of non-intervention and a fierce liberal, forgotten by the French, but readily quoted by Schumpeter(1).
Irrespective of Frédéric Bastiat’s political sensitivity, it is not central to his parable of the broken window. A child breaks his father’s window, which is repaired by a glazier for six francs. The six francs that circulate and fill the glazier’s pocket is “what we see” and what indicates that a broken window fuels industry. However, the expense imposed on the father deprives him from buying a new pair of shoes. The six francs do not benefit a different tradesman and this is “what we don’t see” and what suggests that breaking windows is not enough to fuel an economy.
The swarm of images that have flooded in since the dramatic earthquake in Japan have prompted a multitude of calculations and various assessments in our businesses. The material damage in Japan is set to total $200bn and the cost of the disaster for reinsurance companies as a whole $24bn (2)… In each crisis, “what we see” is estimated increasingly rapidly and with an increasingly large host of details.
Assessing the cost of the earthquake provides short-term information on the plunge in Japanese GDP in the next two quarters. However, this data is of little use for long-term investors, who, like Frédéric Bastiat, need to focus on “what we don’t see”. What we don’t see is the $13700bn (3) in Japanese savings, which puts into perspective the $200bn (3) destroyed by the tsunami and which proves that the Japanese people, in addition to their admirable courage, boast the necessary resources to rebuild. What we don’t see, are the price hikes that reinsurance companies are set to pass on following the earthquake. Increasing exposure to the reinsurance sector today does not only reflect a contrarian attitude but also validates the rapidity of price adjustments in the sector and focusing on what cannot be seen today but will be seen tomorrow.
This is the reality of our businesses: the point of an investment case may not seem obvious to start with. Indeed, in 2006, “what we saw” in the banking sector, were balance sheets that seemed reasonable whereas “what we did not see” were the astronomical balance sheets that exploded in 2008.
It is very tempting to focus on and reassure ourselves with immediately available figures and immediately available information. Another slightly older example: with the proliferation of techno stocks in the 2000s, it was tempting to focus on what we saw on the internet and to buy into content providers (AOL, Time Warner etc.). Ten years later, these businesses have found no salvation and the major winners have actually been “facilitaters” such as EBAY and GOOGLE, although this reality was not apparent in the figures available at the time.
During troubled times, we would keep the precepts in mind that advise forgetting instantaneous figures that always minimise the ability to adapt of people in general and of good managers in particular, and beware of reflexive acts (I switch on the TV and sell everything). These precepts can be summed up in one oxymoron: do not forget to look for what cannot be seen.
(1) 20th century Austrian economist
(2) source: Hiscox, insurer (28/02/11)
(3) source: Cahiers Verts de l’Economie