Remember the News Corp Scandal?

By The Noble Contrarian on December 16, 2011 in Other

Behavioural economists and successful value investors understand an important truism that most others miss – it’s human nature to overweight the importance of new news at the expense of long known facts, to focus on immediate impacts rather than longer term effects and to dwell on information that’s easily available rather than what’s necessarily important. No wonder we’re natural suckers for the news cycle.

Pointing to this human blind spot in the midst of a panic rarely enlightens the worrier. It’s better to revisit past panics after the smoke clears and emotions have settled down.

The News of the World phone hacking scandal was so big that it resulted in the closure of this 168-year old newspaper. The scandal, which reached a crescendo in July, seemed to threaten the viability of its owner, News Corp.

Nobody can defend the morals of those involved. But we argued at the time that the economic consequences weren’t huge and the market’s response was completely overblown. At one stage, the panic had wiped $8-9billion off News Corp’s market capitalisation, approximately double our (conservative) valuation for the entire newspaper division – which owns many other assets including papers here in Australia and, of course, the venerable Wall Street Journal.

With more than three months having passed since the scandal peaked, what can be gleaned? Well, if the current stock price is any guide, the market now agrees that the July reaction was completely overblown.

The stock is back at levels prior to the panic. And it’s up about 25% from the bottom, helped along by News Corp’s substantial buyback program. Over the whole period encapsulating the panic, News Corp shares are roughly flat while the overall market is actually down more than 5%. And those who stepped into the nadir and bought in July and August have made a substantial profit on their investment.

The psychology around these market panics is interesting. No sensible investor would have estimated the News of the World scandal would cost News Corp $9billion. But there are always a number of investors who own the stock that don’t like the uncertainty and want to sell, at any price. That makes for plenty of eager sellers. On the buy side, potential acquirers require time to work out whether the crisis is serious and whether they are comfortable owning the stock.

That creates a short-term vacuum, where there are sellers at any price and a dearth of buyers. It’s not surprising there is an overreaction.

Not all panics are overblown though. Sometimes the market doesn’t panic enough (the 2007 and early 2008 stockmarket response to gridlocked debt markets being one clear example offered by hindsight). But reactions tend to be overblown more often.

The News of the World fiasco has further to run and the consequences are unlikely to be known for years yet. But the market is now acting more rationally. Investors who make the time and effort to understand how their own all-too-human biases are most likely to lead them astray will profit from the endeavour.