There is usually a particular sector or industry on the stock market that looks more attractive than all others. These days, it seems to be the technology sector. A century ago, it was railroads. In between, a broad range of industries and sectors have grabbed investors' attention. In the run-up to the financial crisis, the financial and property sectors were the hottest parts of the market. In the late 1990s, it was technology. After World War II, industrial companies caught investors' attention as their earnings were boosted by tax benefits and the booming demand for equipment.
Credit Suisse has put out some great data on this point. According to the investment bank's annual return yearbook, in 1900, around two-thirds of the U.S. equity market capitalization was taken up by rail companies. Iron, coal and steel companies made up around 5% of the market. However, today, both sectors barely register. Healthcare and technology companies now dominate. The report also notes that of the U.S. firms listed in 1900, over 80% of their value was in industries that are today small or extinct.
These numbers and historical investment trends show that it is very hard to predict which sectors will succeed over the medium and long-term. Just because an industry is attracting plenty of investor attention and funding today does not necessarily mean that it will be in 10 years.
What's more, picking individual companies in sectors that look set to succeed is even more complicated. There's no guarantee that the largest company in the industry will continue to rule indefinitely. There's also no guarantee that the newest entrant, which may look to have a revolutionary product, will actually be able to capture customers.
Investors face a very similar environment today as they did in the late 1999s. At that time, the investment world was obsessed with technology, and Internet stocks dominated the headlines. However, while internet usage only expanded over the next two decades, many companies that captured headlines in 1999 failed in the next few years.
Warren Buffett (Trades, Portfolio) spoke about this problem at the 1999 Berkshire Hathaway BRK.A BRK.B annual meeting of shareholders. Responding to an investor who asked if Berkshire was open to increasing its investments in telecommunication stocks at the time, Buffett said:
"There's a lot of difference between making money and spotting a wonderful industry. You know, the two most important industries in the first half of this century in the United States — in the world, probably — were the auto industry and the airplane industry. Here you had these two discoveries, both in the first decade — essentially in the first decade — of the century. And if you'd foreseen, in 1905 or thereabouts, what the auto would do to the world, let alone this country, or what the airplane would do, you might have thought that it was a great way to get rich. But very, very few people got rich by being — by riding the back of that auto industry...and the capital has been lost in that business, the bankruptcies. It's been a terrible business. It's been a marvelous industry. So you do not want to necessarily equate the prospects of growth for an industry with the prospects for growth in your own net worth by participating in it."
I think this is worth keeping in mind considering the current environment. The world is being forced to rapidly adapt to a new norm where technology is playing an increasingly important part in our lives to keep us healthy. However, that doesn't mean every single tech company will succeed. There are likely to be a lot of failures along the way.
Disclosure: The author owns shares in Berkshire Hathaway.
Read more here:
- Warren Buffett Explains How to Find Good Investments in China
- Warren Buffett: Why Investors Should Avoid Declining Businesses
- A Look at the Deep Value Stocks of Kahn Brothers
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