WHEN I WAS IN GRADE school, I remember a field trip to a highflying local company called Prime Computer. At the time—it was the 1980s—Prime was a Fortune 500 company with a popular line of minicomputers and a runaway stock. Today, Prime is long gone and barely remembered. A Wikipedia page is about all that remains.
For a long time, I didn’t understand this. How could a company so successful simply cease to exist? Prime, of course, isn’t alone in this phenomenon. The same thing happened to Blockbuster, Borders, Compaq and many others.
I didn’t learn the answer to this puzzle until many years later. In his book The Innovator’s Dilemma, Harvard professor Clayton Christensen provided this counter-intuitive explanation: When successful companies fail, it’s because of their success. What happens is this: As a company’s success grows, it pours its energy into doing more of what made it successful in the first place—building the next iteration of its product, then the next and then the next.
But as the company does this, its focus becomes more and more inward. And when it does that, it ignores the proverbial entrepreneur in the garage—the upstart competitor who is able to look at things with fresh eyes and thus develop something completely new.
Christensen died in January. It occurs to me that his concept of the innovator’s dilemma has special relevance today, as we struggle with the effects of the coronavirus. At its core, Christensen’s warning to companies was that they need to avoid being too narrowly focused.
This advice is also valuable for other spheres of life, including personal finance. Below are three specific aspects of personal finance where I believe you can incorporate Christensen’s thinking.
1. Investing. I often advise against stock-picking. The stock market’s behavior this year helps explain why. At its lowest point a few weeks ago, the S&P 500 was down 34% from its Feb. 19 peak. But that was just the average.
Across companies, there was—and continues to be—wide disparity. Airlines, hotels and cruise lines, as you would expect, fared much worse than average. American Airlines, for example, dropped 64%. Meanwhile, other companies performed far better. Amazon lost just 12%. Pharmaceutical companies, which are on the hunt for a coronavirus vaccine, actually saw their stocks rise. Companies in the videoconferencing business have also done very well.
Why am I mentioning this? Christensen’s point was that companies run into trouble when they ignore upstart competitors. But the reality is, competitors are just one of the many unpredictable factors that impact companies and their stocks. Today’s public health crisis is the latest example.
Looking back over the past 20 years, we’ve also experienced war, terrorist attacks and a financial panic. They each came out of nowhere and each impacted different stocks in different ways—some positive, some negative. This, in my view, is yet another reason to favor index funds over individual stocks or actively managed mutual funds. It’s just too hard to know what the future will bring.
To be sure, a few hedge fund managers have been proudly trumpeting their foresight in shorting stocks this year. But there’s a reason you can count these managers on one hand. For most people most of the time, it’s impossible to predict what’s coming.
2. Household finances. Later in his career, Christensen co-authored a follow-up book, The Innovator’s Solution, to help companies avoid becoming the next Prime Computer. While there was no silver bullet, he provided more than a dozen recommendations. His overall message: Never rest and never accept the status quo. While these may sound like platitudes, there are many ways to apply these ideas to your finances. Got more free time during this work-from-home period? Here are some specific steps:
3. Financial planning. Many people are asking why the world wasn’t better prepared for today’s pandemic. After all, in recent years, we’ve seen SARS, Ebola and other outbreaks. And, of course, there’s Bill Gates’s now-famous warning from 2015.
So why didn’t we see this coming? One explanation: Our attention is too fragmented. With the 24-hour news cycle, Facebook, Twitter and so forth, it’s awfully hard to focus. This applies to our personal finances as well. With limited hours in the day, it’s very hard to spend time considering risks that seem outside the realm of the probable.
What’s the solution? Again, it might sound like a platitude, but you should think more broadly and consider a wider range of outcomes. In an interview, Christensen offered an important insight: “For whatever reason, the way they designed the world, data is only available about the past. When you teach people that they should be data-driven and fact-based… in many ways we condemn them to take action when the game is over.”
Christensen’s point is well taken: When planning your financial future, look beyond recent experience and look beyond what the experts are saying. Have not just a Plan A, but also a Plan B and a Plan C. Hopefully you’ll never need them. But it should help you to sleep easier, no matter what the future brings.
Adam M. Grossman’s previous articles include Under Pressure, Unpleasant Surprise and Keeping Busy. Adam is the founder of Mayport Wealth Management, a fixed-fee financial planning firm in Boston. He’s an advocate of evidence-based investing and is on a mission to lower the cost of investment advice for consumers. Follow Adam on Twitter @AdamMGrossman.