If you look up the definition of leptokurtic, the dictionary explanation is:
- (of a frequency distribution or its graphical representation) having greater kurtosis than the normal distribution; more concentrated about the mean.
That probably didn’t clarify things a whole lot if you’re not a statistician but in essence leptokurtic refers to a flatter distribution with fatter tails. Or in plain english as it relates to investing, share prices can pop or drop by much larger amounts than have been seen historically.
So why are we discussing leptokurtic distributions?
Because in the future you should expect to see more of it, and that in turn has implications for your portfolio.
Let’s start by examining FedEx.
Crazy FedEx Earnings
When FedEx pre-announced earnings most recently its share price plunged by 21%, wiping $11 billion off its market capitalization instantly.
Management announced a slowdown in global shipment volumes and CEO Raj Subramaniam stated that the economy is “going into a worldwide recession”.
As cargo volumes decline, the heartbeat of economic activity is slowing and FedEx just sounded the alarm.
Any optimists who were hopeful that the horizon would be brighter had their hopes slashed. After all, FedEx cannot be dismissed as a standalone company. The CEO summarized the company’s position in the global economy best:
“We are a reflection of everybody else’s business, especially the high-value economy in the world”
When FedEx experiences a downturn, it spells doom more broadly for the global economy.
Indeed, when the clouds loom over FedEx a turnaround is not around the corner. As a result, the pre-announcement by FedEx which was accompanied by cost-cutting measures, such as closing 90 offices worldwide, was met with horror.
Investors quickly realized the future is bleak for the global economy and slashed FedEx’s valuation.
FedEx: The Tip Of the Iceberg
Now returning to our leptokurtic discussion. The “fat tail” share price plunge in FedEx occurred because the reality of how bad things are in the global economy eclipsed expectations among investors.
The disconnect between expectations and reality as more companies report will close but until the gap diminishes, expect more leptokurtic distributions in share prices. Or in other words, expect much greater share price moves than have historically been seen.
In the case of FedEx, you had to go back all the way to 1978 to uncover a plunge in share price as bad as the one seen in mid-September.
Are “once-in-50-year” moves the new normal? Almost certainly.
For portfolio construction that means, select stocks that are anti-fragile – benefit from shocks as opposed to fragile stocks that break from them – have rock solid balance sheets, secular growth, and lots of cash in the bank to withstand downturns.