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Breaking It All Down

Dec. 20, 2021
Once the market craved certainty, but now uncertainty is cool. Investors don’t want to overcome risk – they want to leverage risk, assuring themselves they can get rich and get out.

No one has ever approached me for investment advice, and no one should do so. My portfolio is as ordinary as you’d imagine: Index funds, CDs, some insurance, real estate, all very ordinary stuff. Today’s clever investors are stocking up on cryptocurrencies and “transformational” technologies, or consumer products with nonsense names and no obvious demand. Now, holding the basic stuff is just getting by, not shifting the paradigm. My approach is rooted in investment strategies that prevailed 30 years ago, when General Electric was not only the hot stock but an exemplary organization – a perfect investment. If you held GE stock, you just waited for the economy to grow and your dividends would flow from that expansion.

Manufacturing turbines and appliances, underwriting financial and industrial programs, over-the-air broadcasting, its blue-chip presence was everywhere. It’s GE that is primarily responsible for the spread of “best practices” in U.S. businesses, establishing management principles for its executives and managers to eliminate errors, overcome limitations, and maximize resources. The best companies were modeled on that example.

Today GE is a pariah to investors. The balance of holdings that provided access to markets and new opportunities, and shock-resistance for the big portfolio, became an anchor that limited GE’s flexibility to react to hot market trends. Worse than that, the market stability that GE achieved was not dynamic enough to suit new tastes.

GE’s managers have spent the past two decades trying to find the right balance that would restore that 1990s luster, and also appease investors’ demand for consistently higher and faster returns. Soon the old GE will be no more, announcing last month that it will split into three separate businesses, with its mainstay manufacturing entity GE Aviation retaining the brand. GE Healthcare will be established as a public company, starting in 2023, and a combination of GE Renewable Energy, GE Power, and GE Digital businesses will create a third entity in 2024.

There will be more of this. GE rivals Siemens and Rolls-Royce have been spinning off pieces for the past two years, seeking the dynamic returns that investors crave. And it’s not only industrial giants that are falling; Johnson & Johnson plans to split its consumer products (Band-Aids, Listerine) operation from its medical device and prescription drug business.

These organizations were built to be safe investments, to acknowledge the uncertainty of business cycles and counter it with stability – stability achieved by balancing different types of risk. If GE’s appliances didn’t earn their keep during one quarter, the ad revenues from network and cable TV holdings would offset any losses. Everyone’s risk was balanced and everyone shared in the quarterly earnings. It was a grand compromise: investors and managers together agreeing that flattening risk required maintaining a certain modesty about the pace and scale of the rewards.

Now the compromise is over and it’s reasonable to blame the investors for having broken it. They lost patience with the slow and steady philosophy, and they gave in to the wider trend expecting greater and faster returns. Once the market craved certainty, but now uncertainty is cool. The market esteems high-risk entrepreneurs and private-equity portfolios, not index funds and portfolio stocks. Investors don’t want to overcome risk – they want to leverage risk so that they might grab the first and best returns, assuring themselves they can get rich and get out.

The GE management bears responsibility too – falling well behind of their own commitment to best practices, allowing more distance to grow between them and their shareholders, letting their reputation for competence and reliability become questionable and then risible.

But give them credit now for seeing the inevitability of a breakup and implementing a plan to coordinate it, to maximize the opportunity.

GE is simply adapting to what is true and has always been true. Once it showed it’s possible to insulate oneself from risk, for a while in any case, and now it is showing that risk cannot be overcome. We need to do the risk assessment, to break everything down to its essential parts and evaluate them properly. Then we can know what is at stake – make the best possible compromise and take away the appropriate reward.