Things that can be measured and those that can't
Capital Thinking • Issue #1114 • View online
Isaac Newton was a scientific genius at a time when scientists were often denounced as heretics.
He had one antidote to this problem: He had to prove his theories beyond any doubt, which required obsessive precision.
The Theory of Maybes
In his biography on Newton, Mitch Stokes writes:
[Newton] could make measurements with such precision that few philosophers accused him of fabricating his results … Using only a compass and his eye, Newton would painstakingly hunt down the source of minute measurement discrepancies of less than one one hundredth of an inch … no one else in the seventeenth century would have paused for an error twice that size.
Newton’s work rests on the idea that the physical world works in ways that are measurable, and, therefore, as long as you measure carefully enough you could learn anything about everything. Newton was so good at this that we named the field after him: Newtonian physics.
Scientists viewed the physical world through that single lens for another two-hundred years.
Then we discovered quantum physics. It upended everything.
Quantum physics showed us that parts of the physical world resisted the precision Newton obsessed over.
We began to learn that physical things could behave in ways we never thought possible. Ways that defied logic. Subatomic particle movements were messy and unpredictable.
We began to learn that physical things could behave in ways we never thought possible. Ways that defied logic. Subatomic particle movements were messy and unpredictable
Quantum theory taught us that precise measurements can’t exist because the act of measuring something changes its movement.
Walter Isaacson writes about the famous Heisenberg Uncertainty Principle in his biography of Albert Einstein:
It is impossible to know, Heisenberg declared, the precise position of a particle, such as a moving electron, and its precise momentum at the same instant. The more precisely the position of the particle is measured, the less precisely it is possible to measure its momentum. An electron does not have a definite position or path until we observe it. This is a feature of our universe, he said, not merely some defect in our observing or measuring abilities. The uncertainty principle, so simple and yet so startling, was a stake in the heart of [Newtonian] physics. It asserts that there is no objective reality—not even an objective position of a particle—outside of our observations.
The emergence of two types of physics taught scientists to be humble. Neither version is better than the other. You just have to know which one to use in the right circumstance.
Newtonian physics is deterministic. It gives you perfect answers. Quantum physics is probabilistic. It only offers hints that can roughly set you in the right direction.
Newtonian physics is deterministic. It gives you perfect answers. Quantum physics is probabilistic. It only offers hints that can roughly set you in the right direction.
It’s a great way to think about investing, where the same distinction applies.
Coca-Cola is fighting more than a decade of declining soda sales. Its stock is at an all-time high.
Snap has built one of the most viral products of our time. Its stock is down almost 50% in the last six months.
Good investing is about more than backing companies that perform well. It’s about backing companies that perform well within the context of the market’s current and future expectations.
A company’s performance can be measured precisely. Accounting is exact. Books balance out down to the penny. Calculating and planning a company’s unit economics requires precision.
Low-margin businesses require a precise grasp of the business’s cost structure. Bank of America knows exactly what will happen to earnings if 0.01% of borrowers default on their credit cards. Like Newtonian physics.
Market expectations aren’t like that.
Expectations are moods, and moods, almost by definition, are the gap between what’s happening and how people interpret what’s happening.
Expectations are moods, and moods, almost by definition, are the gap between what’s happening and how people interpret what’s happening.
They resist all attempts to figure them out in ways that make sense. They change constantly, without warning or reason.
They can be different for two companies that look identical from the outside. At best, you can measure them with probabilities. Like quantum physics.
*Featured post photo by William Warby on Unsplash