‘To hell with facts! We need stories!’ – Ken Kesey
It is human nature to create narratives that help us navigate and comprehend the world we live in. 
As children, we are told fairytales to ensure we understand the difference between right and wrong.
As adults, the news we read seeks to explain the events of the world as a never-ending sequence of cause and effect.
As investors, it is our job to try and predict the future as best we can and the stories we’ve learned throughout our lives are often one of the first tools we reach for. This can prove costly.
The two major political shocks of 2016, Brexit and the election of Donald Trump, confounded financial and betting markets alike. We predicted neither.
Before the EU referendum, we believed it would follow a similar path to the Scottish independence vote. As polls, which had previously showed a comfortable lead for ‘remain’, began to predict a tighter race, we reassured ourselves with the knowledge that we had seen this before.
Inevitably, as undecided voters swung behind the status quo, the remain side would win fairly comfortably. This was true of the Scottish referendum, Canadian independence referenda, and followed the consensus of most political experts. Telephone polls in the few days before the vote validated our theory. Whoops.
The narrative we had built was false and the comparisons we had made were wrong. We misjudged the depth of anti-EU feeling in England and Wales (perhaps a reflection of living and working in Edinburgh), discounted online polls too readily, and relied too heavily on past experience.
Having spectacularly failed to learn from our mistakes, we also predicted a Clinton victory based on the superior Democrat ground game witnessed in the Obama campaigns, supportive national polling data, and a sense that Trump would prove too off-putting for a sufficient number of voters. Whoops redux.
In the light of these votes, it is tempting to adopt a whole new set of analogies when predicting 2017’s political events. It’s immigration, terrorism and globalisation, stupid!
The populist wave that buoyed Brexit and president Trump will wash over France and the Netherlands, bringing Marine Le Pen and Geert Wilders to power and causing further turmoil in the EU. While this may happen, and only a fool (hiya!) would discount it entirely, we should be wary of replacing one false analogy with another.
Firstly, the winners of 2016 were not overwhelmingly popular. A swing of less than 2 per cent would have delivered a different result in the EU referendum and Trump lost the popular vote.
Secondly, the electoral systems in France and the Netherlands are both quite distinct. Le Pen still faces an uphill battle against whoever she is likely to face in the second round of the presidential election and the Dutch parliamentary system favours coalition-building, where Wilders may find it difficult to find allies.
In truth, the outcomes of both remain difficult to predict and susceptible to events. When positioning their portfolios, investors should remain conscious of the twin traps of imperfect analogies and convenient narratives.
In a recent discussion with a sell-side analyst, the conversation turned to the plastic packaging company, RPC.
Over the past couple of years, RPC’s stock has appreciated significantly as the company embarked on series of acquisitions designed to strengthen its market position. As holders, we have been supportive of management’s strategy and are naturally pleased with the stock’s performance thus far.
The analyst was less convinced. “Roll-up stories always end in disaster,” he said, “and I’ve seen how this story ends.”
When asked if he had any firm evidence that showed this would be the case, he admitted the view was based on a gut reaction. While the analyst may end up being proved correct (we certainly hope he won’t!), it appears that, rather than taking an objective look at the facts, he is using what we would consider an imperfect analogy.
Like most of these cases, though, his story appears outwardly plausible. Roll-up strategies do frequently go awry as companies that were seeking to benefit from greater scale either fail to achieve the required synergies, pay over the odds for acquisitions, or collapse under the excessive debt raised to fund their deal-making.
The recent travails of Valeant Pharmaceuticals in the US provide a convenient example of such a failed strategy.
In our view, RPC does not fall into this category. The company operates in an industry where scale does bring quick and sizable benefits. Over 40 per cent of the cost base of any plastic packaging company are the polymers used in the manufacturing process and RPC’s scale allows them to almost instantly reduce the cost base of businesses acquired.
Management have also funded acquisitions through both debt and equity, ensuring that the company’s net debt remains at comfortable levels, and paid what we would consider reasonable multiples. The ongoing trend towards internationalisation within the company’s customer and supplier base encourages consolidation in the sector and RPC is leading the way.
In Michael Lewis’ latest book, ‘The Undoing Project’, he details the work of the Israeli psychologists Amos Tversky and Daniel Kahneman whose insight into the fallibility of the human psyche underpins modern behavioural finance.
One of the book’s many fascinating anecdotes describes a judge who couldn’t understand why he was positively predisposed towards a particular defendant. It was only halfway through the trial that he realised it was because the defendant reminded him of his father. This shows that the false analogies and narratives we create may not even arrive from any conscious effort and how difficult they can be to detect.
As humans, such behavioural flaws are hard-wired into our very nature. As investors, all we can do is to be aware of them and try to mitigate as best we can. To hell with stories, we need facts!
Neil Veitch is manager of the SVM UK Opportunities fund. The views expressed above are his own and should not be taken as investment advice.