Progress not in the price?
What does it mean to invest in progress when its not in the price?
We say that we invest in progress when its not in the price, but what does this mean?
In the Price
Luckily, calculating what expectations are in a current stock price is reasonably well defined. Practitioners will quibble about different details, but the basic process of reverse engineering the expectations discounted in a stock price is well explained in different resources. I personally like Aswath Damodaran’s take on most things, but just find that as an actual investor rather than using generic discount rates for an average investor in my models I use our target rate of return on an investment.
Turns out that Polonius’ advice to Laertes has aged well — when defining variables in financial models for your own investments, use your targets rates and not someone else’s or some average. In other words, “to thing own self be true.”
Estimating the expectations in a stock price is a well-defined and solvable problem. It’s shockingly easy once you get the idea.
But that still leaves progress to be defined.
What is progress?
Progress is a loaded word. Progress tends to be defined narrowly and idiosyncratically — people think of progress as being toward specific goals. But the problem with progress toward goals is that people and institutions don’t share goals. And that’s just the start.
Economic progress also gets associated with economic growth and the current set of winners in a growing economy. And what starts as a discussion of progress ends up being a street fight over who is winning and losing in the economy.
Then the last trap of all is that progress is betterment or improvement. None of these are what we are talking about when we talk about progress.
We believe progress is best defined as the human exploration of the adjacent possible, or that Stuart Kauffman’s theory of the adjacent possible describes progress.
Progress in this sense is neither good nor bad, and it doesn’t speed up or slow down in response to our policies. Progress emerges from complex systems and it accelerates as the number of agents or artifacts in a system increase, and the number of artifacts and agents in systems are usually increasing in diversity in the way outlined by Kauffman’s theory.
The Adjacent Possible
Progress is the process of interaction, recombination and permutations which inevitably happens in our universe over time. It’s not something to optimize, or manage, fear or judge. It just fundamentally happens.
Given this definition, our job seems simple. We observe progress, and try to get in the way of where the world is going — when it’s not in the price. That would work, but not all progress is the same.
As Jim Keller explains below, within areas of innovation and progress we have to be focused on areas of rapid progress, because rapid progress will quickly swamp curves with a flatter slope.
Jim Keller on Rapid Progress
This is just part of a longer talk that Keller gave at Stanford in the fall of 2022. And as Keller explains in the talk, all these areas of rapid progress have diminishing returns over time. So to stay successful, businesses have to keep jumping to new curves of rapid progress. And this is just one of many essential concepts which Keller discusses in his retrospective on what he’s learned from his 40 years designing computers and chips.
Jim Keller - Nov 2022 @ Stanford - Excerpts
CLOSING
Progress is the inevitable exploration of the adjacent possible. There are two key lessons for us from Kauffman’s Theory of the Adjacent Possible: (1) it offers an empirical analytical definition of progress, and (2) it isn’t deterministic. Kauffman offers a theory to anchor progress to, without falling into the trap of machine or computer metaphors.
While Kauffman points us in the right direction, Keller dives into specifics. Not all progress is equal — areas which are experiencing rapid improvement are on the earlier, higher growth part of a diminishing return curve whereas areas with slower improvement are past that. By introducing diminishing return curves, Keller gives us an analytical tool to differentiate between areas of innovation as well as a tool to test companies since over time companies have to be able to hop from one diminishing return curve to the next.
We look for companies driving progress when it’s not in the price — and that is the basic idea. But to be precise about progress, progress is everywhere all the time. That is part of what is so amazing about Kauffman’s theory. But we need to differentiate types of progress, and that is what Keller shows us how to do.
We actually look for companies focused on areas of rapid progress and capable of jumping from one diminishing return curve to another, when neither capability is discounted in the price. It doesn’t trip off the tongue but it is much more precise and naturally leads to useful questions for us to ask management teams.
The true test of any framework is in helping find the right questions — not answers.