But there’s a massive “but” here. It’s also dangerous to ignore new companies completely because these are a big source of stock market growth over the long-term. For example, Bart Hobijn and Boyan Jovanovich, two New York-based economists, have shown that all of the growth in US share prices relative to GDP since 1972 has come not from companies that were listed on the market then but rather from newer firms such as Microsoft and Apple. And back in 1990, Stanford University’s Brad De Long has estimated that the dividends of companies that existed in 1870 did not grow in real terms in the following 120 years. “A century of economic growth has not been translated at all into a higher dividend-paying power” he concluded.
This shouldn’t surprise us. Economic growth, as the Austrian economist Joseph Schumpeter said, is a process of “creative destruction.” If we never invest in new firms, we’ll expose ourselves to destruction but not creation, as new firms and technologies destroy the organizational capital of older ones. Our shareholdings will end up like those of Montgomery Burns: Confederated Slaveholdings, Transatlantic Zeppelin and Amalgamated Spats.
So, we have a paradox. On the one hand, it’s a bad idea to buy newly-floated companies. But on the other, it’s also silly to ignore new firms altogether.
We can resolve this paradox. A few newly-floated firms go on to do spectacularly well, as they recover after their post-float decline.
Amazon is an example of this. It is one of the minority of firms that floated during the tech bubble to have survived, let alone thrived. But even it suffered a terrible post-flotation loss: it fell from $86 to under $6 between 1999 and 2001. It is now over $300.
But how can we distinguish between Amazon and boo.com? Very often, we can’t; corporate growth is unpredictable. And several cognitive biases - such as overconfidence and wishful thinking - lead us to see future growth where, often, none actually exists.
Herein lies yet another case for tracker funds. These protect us from the twin dangers of over-investing in new floats and of holding only old companies that will eventually be swept away by creative destruction. They ensure that our equity holdings keep pace with the times.
