By some measures, software companies make up a massive plurality of the market. Just five firms (known as the “FAANG” stocks) make up a fifth of the S&P 500 on their own.
Investing in them can give you some stocks that really perform. But, as Jim Collins asks in his recent Real Money column, what exactly are you investing in?
“I have seen this movie before. It was called the Tech Bubble, and it ended badly. Remember?” Collins wrote.
“But we are doing it again. We have created this near-mythological ‘tech’ dominance that just doesn’t exist. The world extends beyond Palo Alto. We are not all in the 650 area code. Besides the fact that Big Tech is a horrible, horrible influence on society as a whole (please do not get me started on Twitter (TWTR) – Get Report these companies are also driving the market to cycle-high valuations. Why? Because everybody has a cellphone now? So what! Get over it.”
Collins also wrote:
“The fundamental principle of equity research is the fundamental principle of valuing anything, from a lemonade stand to major multinationals. Assets produce cash flow, and that can be valued. Try it, you’ll like it.”
When you invest in a company, you should know exactly what that firm does to make its money. What do they buy? What do they sell? What do they actually produce to earn their money? In a world where companies increasingly base their value on ephemeral business plans, this is a very important question for investors.
That’s doubly true if you’re investing for the long run.
“So, yes,” Collins wrote, “I am biased toward companies that have assets and use them to produce cash flows. Call me old-fashioned.”