Lindy Effect and the Challenges of Long Term Forecasting

In the last few years, Lindy Effect has gained a lot of popularity amongst investors. Ever since Nassim Nicholas Taleb wrote about it in his 2012 book "Antifragile: Things That Gain from Disorder", it has been used in the investing world as a concept that says companies with a competitive advantage that have survived for many years are more likely to survive for many more years.

To quote Taleb,

"If a book has been in print for forty years, I can expect it to be in print for another forty years. But, and that is the main difference, if it survives another decade, then it will be expected to be in print another fifty years. This, simply, as a rule, tells you why things that have been around for a long time are not "aging" like persons, but "aging" in reverse. Every year that passes without extinction doubles the additional life expectancy. This is an indicator of some robustness. The robustness of an item is proportional to its life!"

The concept is named after Lindy's delicatessen in New York City, where the concept was informally theorized. Lindy was a very popular restaurant that started in 1921. A restaurant running for nearly 90 years was supposed to last for another hundred and eighty years as per Taleb's theory.

The irony is Lindy shut its doors permanently in 2017. So much for theory!

And this is not the only example. "Built to Last: Successful Habits of Visionary Companies", a bestseller by Jim Collins and Jerry Porras published in 1994 identified 18 companies that were built to not only built to last but built to excel.

The list of companies identified by the authors was as below:

* 3M

* American Express

* Boeing

* Citicorp

* Disney

* Ford

* General Electric

* Hewlett Packard

* IBM

* Johnson & Johnson

* Marriott

* Merck

* Motorola

* Nordstrom

* Philip Morris

* Procter & Gamble

* Sony

* Walmart

Amongst them are companies like General Electric, Motorola, Ford, Sony, Boeing, Nordstrom, IBM, HP who are mere shadows of their former glorious selves.

The points I am making are simple:

1) Don't listen to pundits giving lectures on durable competitive advantage. Nothing lasts forever. People die. Trends change. Preferences change. If you don't want to lose money, start with the premise that all businesses are fragile and will die sooner rather than later.

2) No one knows much about what is going to happen in the long term future. We are all deterministic beings in a probabilistic world.

3) Have a risk management plan for your investments, which is preferably a quantitative one. Because when things get rough, trust yourself to self-sabotage unless you have a well-defined system.

4) When you are losing money in an investment, don't average down. You may think you know everything about the business. But you don't. You are just kidding yourself. (The only time to average down is when the overall market has corrected and your stock is down along with everything else.)

This article first appeared in The Economic Times.