The market has a major problem – investors are becoming too short-term in their thinking, which is leading to wild swings in share prices. Moreover, the situation is getting worse and presents a problem for everyone with money in the market including those who take a long-term view.

Being patient and not allowing yourself to be swayed by ‘noise’ is good practice when you are investing money. A financial adviser might say it is best to focus on the long term and fund managers will also follow this path. While that is easy to say, it can be hard to ignore day-to-day share price movements.

It is important to understand why shares are moving in a certain way, particularly if they are falling. Watching your shares go down in value is frustrating, but making investment decisions purely on the basis of short-term price movements can be dangerous. You are at risk of making knee-jerk reactions without any rational analysis.

AIRBNB IS A VICTIM OF SHORT-TERMISM

Online housing rental marketplace Airbnb (ABNB:NASDAQ) is a perfect example of short-termism at work. The share price fell 7% on 9 May despite the company reporting nearly double the level of earnings expected by analysts for its first quarter. Unfortunately, a weaker outlook for the second quarter gave the market a bite worse than bed bugs.

The reason for the new guidance was the bulk of the Easter weekend fell in March rather than April, effectively pulling forward seasonal demand into Airbnb’s first-quarter reporting period and removing a traditional second-quarter sales catalyst.

Throw in one-off payment processing issues and higher marketing expenses and investors took it to mean the end of the Airbnb story almost. In reality, this is about one quarter’s performance potentially being weaker than normal.

The stock market is forward-looking and it prices in what it thinks will happen in the future. However, put a single obstacle in the way and investors cannot think beyond the next two or three months. By the time the summer is over, the fallout from the Easter timing issue will be in the rear-view mirror so why is the market fretting so much now?

COMPANY BOSSES ARE PART OF THE PROBLEM

There is evidence to suggest investors are not the only ones being too short-term in their thinking. In certain cases, management teams have been too focused on hitting quarterly targets and have not been running their businesses with a sufficiently long-term perspective. That seems to have rubbed off on investors as they increasingly come to judge a company on what it has done over a mere 12-week period.

For example, management teams might have prioritised near-term shareholder interests and short-run profitability over the long-term growth of the firm.

Some companies do everything they can to meet quarterly earnings estimates at the cost of long-term investment. It is easy to trim back spending here and there on research and development, advertising, maintenance and hiring, for example, but what if that means competitors do clever things in the interim and get a step ahead? These rivals might reap the benefit of taking a longer-term view about what is best for their future.

The oil industry is a case in point. The world is shifting to renewable energy but companies like BP (BP.) and Shell (SHEL) are under huge pressure from shareholders to sweat their oil and gas assets and not rush with their energy transition investments. That might keep current earnings sweet, and the buybacks flowing, but isn’t there a risk this short-term thinking will ultimately backfire down the line when they find themselves lagging their competitors in the new green-energy world?

TOO MANY PEOPLE ARE IMPATIENT

Equity research also places a big emphasis on short-term performance and that can rub off on investors. Furthermore, the rise of social media has fueled the ‘I want it now’ mentality for information and companies can receive widespread criticism if they fail to hit market expectations at quarterly or half-yearly results.

This creates a vicious circle where other investors start to put more emphasis on quarterly performance because they can see that is how the crowd is judging a company.

Five years ago, the European Securities and Markets Authority (ESMA) started gathering evidence of short-term pressure on corporations from the capital markets. Its report, published in 2020, pinpointed plenty of examples of short-termism, including remuneration for company executives and fund managers running portfolios on behalf of investors, which rewarded short-term profit seeking.

The fact chief executives are spending less time in the role before leadership changes also implies short-termism. The mean tenure of chief executives at the world’s largest 2,500 companies declined from around 10 years in 1995 to more like six years in 2009 according to the ESMA study. 

Once company bosses get the top job, they do everything they can to grow earnings and make their mark then move on. This means there is a risk they make the wrong decisions simply to show quick results.

WHAT CAN INVESTORS DO?

It is clear there is not a single solution to these problems. All an investor can do is take a step back, show restraint when they obtain a new piece of information relevant to their portfolio and take the time to weigh up the facts.

A wise man once told me to stop looking at share prices each day. They suggested ‘a sneaky peak once a week’ might suffice, but even that is too often.

When you buy a car you hope it will be roadworthy for years to come, but unless you are a fanatic very few of us would feel the need to look under the bonnet every week.

You may check the oil level or the windscreen fluid every month, but otherwise most people rely on the annual MOT to make sure everything is on track. Maybe more of us should try that approach when it comes to managing our portfolios too.

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