A Quarterly Publication June 30, 2020

Capital Investment Services of America, Inc.

111 E. Wisconsin Avenue, Suite 1310 Milwaukee, Wisconsin 53202

(414) 278-7744 (800) 345-6462

info@capinv.com www.capinv.com

In This Issue . . .

✓ Memorex: couldn’t tell if it was

real or a recording.

✓ Given all the bad news, how can

the recovery in stock prices be for

real?

✓ Stock market looks ahead.

✓ It assesses whether conditions are

likely to get better or worse; not if

things are good or bad.

✓ Market anticipates light ahead at

the end of the economic tunnel. Is

the “light” for real?

✓ Example of adaptation, innovation

and prospects for economic

renewal.

✓ “Progress generally happens too

gradually for people to notice.

Setbacks happen too quickly to

ignore”.

✓ “…a story of massive ignorance

(not stupidity, or anything

intentional), but a lack of correct

knowledge”.

✓ Studies of FUD and Velcro brain.

✓ The room where (innovation)

happens.

Is it Live or is it Memorex?

Back in what may seem like ancient times to some—the early 1980s—

the Memorex Company ran an advertising campaign for its recording

tape. (Memorex? Recording tape? Maybe we are talking about ancient

times!)

The campaign included a series of TV commercials featuring famous

vocalists. As a singer belted out some incredibly high notes, the

commercial would show a wine glass shattering.

The implication was that the high notes shattered the glass. But

viewers couldn’t tell if it was a real (live) voice or artificial (a

recording captured on Memorex tape). The commercials ended with

the question; “Is it live or is it Memorex”?

It strikes us that the stock market is in a Memorex-like situation.

Investment Stewards since 1981

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The “market” just registered one of the largest quarterly advances in U.S. history. This has mystified many

pundits as it occurred in the face of an economy some contend is in “shambles”. And, COVID-19 remains on the

loose.

Is the recent market recovery real…or not?

The stock market is doing its thing Our view is that the stock market is doing what it typically does:

• It looks ahead.

• As it does so, it’s assessing whether things are likely to get better or worse; not whether things are good

or bad.

In last quarter’s Perspective, The Alphabet Debate and Midway (archived at capinv.com), we discussed the stock

market’s often uncanny ability to look ahead through serious gloom by examining World War II events through

the lens of stock markets around the world.

By way of review, the U.S. stock market started to shake free from the Great Depression doldrums and began a

multi-year advance in the spring of 1942. The market’s breakout advance was coincident with the battle of

Midway Islands—a key strategic objective of the Japanese in the South Pacific.

The events at Midway marked the first time the U.S. military demonstrated the ability to checkmate Japanese

naval and air power. In battles leading up to that point, Japan had proved to be the superior military force.

The Japanese stock market peaked around the same time U.S. stocks bottomed. Japanese investors began to sense

the country had awakened the “sleeping giant” and missed their chance to deliver a knockout punch to the U.S.

military.

Chart 1: The stock market usually turns up (and often makes new “highs”) well before economic

recoveries begin.

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Even as three more years of World War II horror lay ahead, investors began to anticipate that the Allied forces

would prevail over the Axis powers of Japan, Mussolini’s Italy and Hitler’s Nazi Germany.

The stock market’s ability to see the light of better times ahead during challenging periods didn’t end with World

War II.

Chart 1 (previous page) focuses on the twelve U.S. recessions and economic recoveries that have occurred in the

post-war period. Notice how the stock market (dark blue line in chart) began to advance well before economic

activity turned up in those prior periods.

That “the market” looks ahead isn’t a big surprise. After all, a stock price reflects the assessment of the future

prospects of an underlying business. And those prospects, in most cases, spans many years into the future.

This doesn’t mean that the next few quarters of business results don’t matter to investors. As we’re presently

witnessing with J.C. Penney, Pier One, Chuck E. Cheese, Chesapeake Energy, and Brooks Brothers to name just

a few of the more familiar, some weak businesses with precarious finances will not survive beyond the next few

quarters.

But for the many, many companies that will survive (and thrive), it’s important to remember that the vast majority

(95%+) of most stocks’ current value rests with their business prospects beyond the next year or so.

The stock market’s recovery suggests that the longer-term prospects for many—though certainly not all—

businesses will not be permanently impaired by the COVID-19 recession.

Real or Memorex?...Is there really light at the end of the economic tunnel? As longer-term Perspective readers know, we believe the U.S. economy’s resiliency is significantly

underestimated. The resiliency comes in large part by the unique willingness and agility of most individuals and

businesses to accept and adapt to change.

Even for an economy that is as resilient as we believe the U.S. is, however, adaption takes time. Immediate

adjustments to an abrupt shut down in significant portions of the economy and population-wide “sheltering in

place” is not possible.

Still, even within the sharp economic contraction that ensued in March and April, and now in the “re-opening” of

the economy, large-scale adaptation and economic renewal was, and is, occurring.

Consider:

• Spending at restaurants and on travel has sharply declined as people cannot venture out in pre-virus

fashion. Meanwhile, sales of boats, RVs, home workout equipment, bicycles, paddleboards, and kayaks

and camping equipment have surged.

• Prefer not to touch cash or checks in the COVID-19 world? Payment networks and the digitization of

commerce are available solutions. (See Chart 2 on the following page).

• Rather not go out to shop? E-commerce provides an “answer”. Chart 3 (also on the following page)

provides some indication of the amazing adaptability of the U.S. economy.

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Chart 2: It’s still early innings in the transition to digital payment methods.

Chart 3: Adaptability…almost 10 years’ worth in 8 weeks!

• Need to work from home? Digitization makes it possible for many. (See Chart 4 on following page)

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Chart 4: Adaptable work force!

As the last three adaptability examples also imply, the COVID-19 recession has accelerated the underlying trend

towards the digitization of the economy that we’ve been discussing the past few years.

The challenges created by COVID-19 appear to be forcing a “rethink” of many business practices and structures.

More minds appear to be opening to new possibilities enabled by digitization and other innovations that are

emerging.

In the race to find COVID-19 vaccines, treatments, and testing, the mindset governing the approval process of

new therapies is being reconsidered. Novel approaches are now being encouraged by agencies long characterized

by extreme risk-aversion.

Digital initiatives like “big data” analysis powered by cloud computing, AI (artificial intelligence) and advances

in genetics and life sciences hold considerable promise to transform (for the better) healthcare R&D and perhaps

the entire healthcare sector. Here again, COVID-19 has likely accelerated trends that were already at work.

Innovation requires experimentation. Experiments in new education approaches forced by the COVID-19

shutdowns, while appearing to be disappointing thus far, may well yet yield results in the form of more effective

education.

More generally, increased diffusion of the new tools of digitization across the economy bodes well for economic

renewal in the form of productivity growth. This is also good news for many of our portfolio companies which

are at the forefront of providing many of the new tools and mission critical technology infrastructure.

Since the mandated shutdowns sent what had been a reasonably healthy economy into recession, it’s not surprising

to see the economy staging a recovery as the shutdowns recede.

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Yes, the recovery will be uneven over the next several months as re-openings trace a step-forward, step-back path

in response to rising virus case counts.

But adaption has occurred here, too, and the country is likely much better prepared to those needing treatment

and protecting those most COVID-19 vulnerable. Even as case counts rise, related incidence of deaths appears

to be ebbing. (see Chart 5).

As a result, another full-scale sheltering lockdown is not likely.

Chart 5: While COVID-19 case counts are rising, the trend in associated death

rates is slowing.

After a near

straight line

advance upwards,

we expect stock

prices to become

more volatile as

setbacks on the

road to recovery

are encountered.

However, we

believe progress

towards economic

recovery and

renewal is

underway and

“real”.

Source: Economist Scott Grannis (scottgrannis.blogspot.com)

Was the economy in a “is it real or Memorex?” situation even before COVID? In the past several years there have been two emerging fields of inquiry that we have been exploring.

One we’ll call human economic progress, and the other, the studies of fear, uncertainty and doubt (FUD). We

believe the intersection of these two fields offers important insights and context for investment decision making.

If some of the material that follows sounds familiar, it’s because our thinking has been influenced by these areas

of inquiry over the past few years.

Here are the most relevant insights.

The history of human economic progress

As Chart 6 on the following page suggests, widespread economic progress has been a relatively recent

phenomenon.

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Chart 6: The Great Escape and Einstein’s 8th wonder of the world in action.

For most of the time

humans have walked the

earth, life was marked by

mass poverty, famine,

pestilence, and short life

spans. Economic life

was mostly a “zero-sum”

affair. The main way

someone accumulated

wealth was through

conquest—taking wealth

away from someone

else.

Parts of the world (U.S.,

UK, much of Europe)

staged the “great

escape”1 from this state

of being roughly 250

years ago.

The causes of this great escape are a complex cocktail of developments and events. But the most important

appears to be cultural evolution that fostered (or at least, tolerated) individual freedoms, innovation and mutually

beneficial trade as the basis for commerce.

The interaction between freedom, innovation and mutually beneficial trade was, and is, a powerful dynamic that

pushes human economic progress ahead.

Freedom allows someone to come up with an innovation that solves some problem for others in a manner that’s

deemed superior to the then-available alternatives. The innovative new product or service is shared with others

on terms that makes both parties to each exchange better off.

The farmer grows our food so that we don’t have to. Freed from this task one can apply their skills in other ways

that others find of value. Almost always, trade exchanges are “win-win” propositions that break the zero-sum

stranglehold we mentioned earlier.

The process repeats over and over in daily life and “works” from a progress perspective much like compound

interest—which Albert Einstein called the eighth great wonder of the world. (In Einstein’s words; “He who

understands compound interest earns it, he who doesn’t pays it.”)

In the short run, the compounding impact is typically so modest it’s nearly imperceptible. Yet, over time, it’s a

very big deal in terms of economic progress and the mass flourishing it triggers.

1 Angus Deaton, The Great Escape: Health, Wealth, and the Origins of Inequality, Princeton University Press, 2013

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It’s both interesting and frustrating that progress is apparently easy to take for granted and may be overlooked

even as it’s compounded over time.

In recent decades for example, the “great escape” went global. Yet many either don’t realize or appreciate the

extent of what’s transpired.

In his book, Factfulness: Ten Reason We're Wrong About the World2, the late Swedish scientist Hans Rosling

noted:

“Over the past decades I have posed hundreds of fact questions about poverty and wealth, population

growth, births, deaths, education, health, gender, violence, energy, and the environment—basic

global patterns and trends—to thousands of people across the world. The tests are not complicated

and there are no trick questions. I am careful only to use facts that are well documented and not

disputed. Yet most people do extremely badly (on the tests).

I have tested audiences from all around the world and from all walks of life: medical students,

teachers, university lecturers, eminent scientists, investment bankers, executives in multinational

companies, journalists, activists, and even senior political decision makers.

These are highly educated people who take an interest in the world. But most of them—a stunning

majority of them—get most of the answers wrong. Some of these groups even score worse than the

general public; some of the most appalling results came from a group of Nobel laureates and

medical researchers. It is not a question of intelligence. Everyone just seems to get the world

devastatingly wrong.

…it is a story of massive ignorance (by which I do not mean stupidity, or anything intentional, but

simply the lack of correct knowledge).

It turns out that the world, for all its imperfections, is in a much better state than we might think.”

(Bolding added for emphasis).

For those interested, the topics covered by Rosling’s tests are captured within the Chart presented in Appendix 1.

The chart also reflects world progress—across multiple dimensions over time.

Rosling’s daughter and son-in-law continue his work and publish at gapminder.org. Similar resources include

ourworldindata.org, humanprogress.org, and rootsofprogress.org.

Studies of FUD (fear, uncertainty and doubt)3

How do so many people, to paraphrase Rosling, get the world and its progress so wrong?

Financial writer Morgan Housel likely provides a key part of the answer with his observation that “progress

generally happens too gradually for people to notice. Setbacks happen too quickly to ignore”.

As noted earlier, for the vast majority of human existence life was characterized by famine, pestilence, short lives

and grinding poverty. With such a thin margin for error in life back then, hyper-focus on potential setbacks was

likely a necessary survival skill.

2 Hans Rosling, Factfulness: Ten Reasons We're Wrong About the World—and Why Things Are Better Than You Think, Flatiron

Books, copywrite 2018 3 See Daniel Gardner, The Science of Fear, Dutton, 2008

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Progress has (thankfully!) delivered a world for many people very different from that which most of our ancestors

had to endure. The studies of fear, however, suggest that our brains remain hotwired for life under those earlier

conditions.

Take eating for example. Fortunately, (in the U.S. at least) famines are not a regular occurrence. For most people,

calories are generally abundant and affordable. Yet the brain still seems programed to drive us to consume excess

calories as if another famine is just ahead.4

Researchers in this field elaborate5:

(There is a) universal tendency for negative events and emotions to affect us more strongly than

positive ones. We’re devastated by a word of criticism but unmoved by a shower of praise. We see

the hostile face in the crowd and miss all the friendly smiles. (The result is) the existence of a

negativity effect. It sounds depressing—and it often is—but it doesn’t have to be the end of the story.

Bad is stronger, but good can prevail if we know what we’re up against.

Another researcher, Harvard University psychologist Steven Pinker 6, comes to very similar conclusions. Pinker

states that human “cognition” and the nature of the news media interact in ways that often make us think that the

world is much worse than it really is. From our perspective, other key “nuggets” from the studies of fear include:

Velcro brain—our brains are like Teflon when it comes to favorable things (economic progress for example).

But bad things (setbacks along the way) stick like Velcro in our thoughts.

Various studies estimate that bad news in our Velcro brains outweighs good news by a margin of something on

the order of three-to-one. For investors, this translates into a loss being perceived as three times more painful

than a gain of the same magnitude is deemed rewarding.

We would add that it’s also important to note that emotionally charged decisions are typically the investor’s

archenemy.

Media provides lots of fuel for the Velcro brain and negative emotions—most media is competing for viewers.

Bad news and setbacks, especially shocking news, attract viewers’ attention.

The “if it bleeds it leads” characterization of media remains true. 24/7 “news” and social media only seem to

make the media impact even more pronounced.

Personal optimism/social pessimism—most people are generally sanguine about their own situation, but they

are typically negative about life prospects for “other” people—particularly for folks they don’t personally know.

“Turning point-itis”—as generations age, they’re prone to believe the best days for mankind are in the past.

4 Robb Wolf, Wired to Eat, Harmony Books, 2017 5 John Tierney and Roy Baumeister, The Power of Bad, Penguin Press, 2019

6 Steven Pinker, Enlightenment Now: The Case for Reason, Science, Humanism, and Progress, Penguin Random House, 2018

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What can investors learn from the intersection of human progress and the studies of FUD?

Let’s first clarify a few things. We

are not implying that the world is

under some spell of mass hypnosis

resembling Orson Welles’ War of

the Worlds broadcast or the David

Koresh tragedy several years back.

We’re also not saying all is right

with the world. Lots of troubles

exist, always have, always will.

What we are saying is that we

(humans) seem to have a proclivity

to adopt an excessively gloomy

view of things and often seriously

misjudge progress even as it

unfolds before our eyes.

As investors we have to evaluate a

world full of “is it live (as in real)

or Memorex”? situations.

Awareness of the implications of

studies of fear and recognition of

opportunities created by

underappreciated progress are

important tools in the investment

decision making process.

The room where it happens

Our most powerful tool though is having an ear to the ground near “the room where it happens”—to borrow a

lyric from the Hamilton musical.

Where is this proverbial room? It’s at the company level where economic progress typically gets its mojo.

The best business minds in the world are at work trying to figure out how to prosper in the evolving world. For

investors it’s a matter of evaluating lots of “is it real or Memorex?” situations. Some companies will be the “real”

deal and carve out a path that will enable them to prosper. Some will go the way of the Memorex company and

leave the scene. Many others will flounder.

To increase the probability of investment success, we constantly have “our ear to the ground” assessing company

management plans and strategies. Companies that are intensely focused on solving customer problems via

innovative products and services are, in our estimation, where the future rewarding investments will emerge.

What are we currently hearing from our ear-to-ground analysis? Lots of innovation remains in the pipeline.

COVID-19 or not, whoever occupies the White House, the best and most rewarding investments will be those

that figure out a way to grow.

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Appendix 1: Progress—over time!

The World as 100 People over the last two centuries Source: Our World in Data

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Established in 1981, Capital Investment Services of America, Inc. is a Milwaukee, WI-based independent investment

counsel providing custom-tailored portfolio management to individuals, businesses, and charitable institutions.

If you would like to be added to our mailing list, email us at: info@capinv.com or call us at 1-800-345-6462.

For additional information, visit our website at: www.capinv.com

The information contained in this report is based on sources believed to be reliable, but we do not guarantee its accuracy or completeness. The information is published

for informational purposes. This paper is not intended to be relied upon as a forecast, research or investment advice and is not a recommendation, offer or solicitation to

buy or sell any securities or to adopt any investment strategy. The opinions expressed herein may change as subsequent conditions vary.