Annie Oakley, the Butterfly Effect, and You

by Chris Mayer

In the late 1800s, Buffalo Bill’s Wild West Show was a dazzling display of horsemanship, gunplay and other cowboy skills. One of its acts involved the sharpshooting of the great Annie Oakley. Dubbed “Little Sure Shot,” Oakley had an amazing routine – she would shoot out lit candles, for example, and the corks of wine bottles.

For her grand finale, she would shoot out the lit end of a cigarette held in a man’s mouth at a certain distance. For this, she would ask for volunteers from the audience. As no one ever volunteered, she had her husband planted among the spectators. He would “volunteer” and they would complete the dangerous trick together.

Well, during one swing through Europe, Oakley was setting up her finale and she asked for volunteers. To her shock – and the surprise of everyone involved with the show – she got a real volunteer.

The proud young Prince (soon to be Kaiser) Wilhelm bravely stepped down from among the spectators, strode into the ring and stuck a lit cigarette in his mouth.

Reportedly out late the night before enjoying the local beer gardens, the unexpected appearance of this famous volunteer unnerved her. But the show must go on.

She took aim and fired… putting out the cigarette, much to Wilhelm’s amusement.

Thus, she also created one of historians’ favorite “what if” moments. What if her bullet went through the future Kaiser’s left ear? Would World War I have happened? Would the lives of 9 million soldiers and 6.6 million civilians have been spared? Would Hitler have risen from the ashes of defeated Germany? All sorts of questions come to mind…

Scientists call these kinds of episodes “frozen accidents” – points in time when small changes would have led to dramatic consequences. Eric Beinhocker relates Oakley’s tale in his new book The Origin of Wealth – which is, in part, a look at the unpredictable nature of markets.

The market itself is an accumulation of these frozen accidents. Stock prices don’t always move smoothly from one tick to the next. Seemingly imperceptible changes at the margin can lead to outsized changes in stock prices. The classic metaphor for this process is that of a butterfly flapping its wings in Brazil setting off a chain of events leading to a hurricane in Texas.

One great example of this “butterfly effect” is to look at the crazy ride of Imperial Sugar (IPSU:nasdaq). What small change caused this stock to more than double in a year’s time? Basically, there was a bull market in oil. And few drew the conclusion that people would start burning food for fuel. But the biofuel boom has been good for agricultural products and agricultural producers, including sugar refineries, as the price of Imperial Sugar’s stock illustrates.

Then there is Gold Kist, the nation’s third largest chicken producer. The stock was more than cut in half from its high. What happened? A man gets sick in Asia, setting off a chain of events that puts the entire American chicken industry into a depression as prices of chicken meat tumble – even though you can’t get bird flu from eating a cooked chicken and even though there was never any reported instance of bird flu in the U.S.

In this case, the value of the business held up much better than the stock price. Pilgrim’s Pride realized that and made an offer to buy the company – at a 50% premium (see sidebar “The Guns of August”).

The conclusion here is this: The market, as with life, is full of surprises. No one can predict these things consistently. The market is too dynamic, too complex. Beinhocker advises an adaptive mind-set, highly pragmatic, which “values tangible facts about today more than guesses about tomorrow.”

As investors, you can make that uncertainty work for you. Focus on what you are getting for your money today. Look to back that purchase price with loads of tangible assets and/or a super-strong financial condition. Then your portfolio will be better equipped to handle those instances when a sure shot misses its mark.

Editor’s Note: Christopher Mayer is the editor of Capital and Crisis and Mayer’s Special Situations. Chris began his career in corporate banking after earning an MBA with a concentration in finance. He later started Capital & Crisis, a monthly newsletter that gave Chris’ unique brand of financial commentary a more regular and expanded format.