Aswath Damodaran on Story-to-Numbers Valuation, ESG Scepticism, and the Option to Abandon

Aswath Damodaran

I grew up in an India that is very different from the India you experience today — an India that had not changed much for hundreds of years. There were far more people who were poor, but also an India held together by social connections. I was part of an extended family; I probably had a hundred relatives all living within five miles of me. Every evening, because there was no television for the first sixteen years of my life, thirty adults would gather and sit around and talk about the issues of the day. Kids would come in and go. I remember sitting in on those conversations — you weren't allowed to interject when you were eight or nine, but that was my entertainment.

I learned very early about how to talk about issues — disagree without being disagreeable. When you are debating within a family, you have to stick to that, because these are people you cannot walk away from. I wouldn't change it for the world. It gave me a very safe environment, sheltered from the pressures of social media and peer pressure. I was also lucky to be born into a family with means in India, which made a huge difference. It made me realise how much luck plays a role in where you end up.

Aswath Damodaran

Chennai in 1979 and Los Angeles in 1979 were on opposite ends of the spectrum of humanity. I still remember the first day I landed — I turned on the television and I saw roller derby. I said, this is something I never thought I would see on TV. But I was adaptable and settled into LA fairly quickly. The energy and excitement of America made me who I am today, and I wouldn't trade it for anything.

Aswath Damodaran

It was entirely accidental. I came to UCLA to do my MBA. My intent was to do what all MBAs do — go and work somewhere that would pay me a lot of money. By 1981 I was close to accepting a position at an investment bank when I ran out of money and needed funds to make it to my start date. So I took a job as a teaching assistant for an accounting class — a subject I don't particularly care for — but I needed the money.

I still remember that first day I walked into the class. About fifteen minutes in, I don't know what it was, but I realised this is what I wanted to do with the rest of my life. I'm not a religious person, but I believe you get these moments of clarity. I marched straight up to the finance department and asked how I could get into the PhD programme. That moment changed my life.

Aswath Damodaran

We live in a Google-search world where you can almost always find an answer instantly. In the process, we miss the opportunity of spending a few minutes reasoning your way to an answer yourself. Your brain, like everything else, needs exercise. That is how your reasoning gets refined.

I live two blocks from the ocean. I take my dog for a walk in the morning and sit on a bench and watch the waves. I'll give you an example: "Amazon buys Activision" — big story. I know there will be lots of opinion about it by the end of the day. I think about it first: how can I explain this using the frameworks I have? I might not get an answer, but I have a way of thinking through it before I read other people's conclusions. It creates a point of view that is yours rather than one borrowed from somebody else.

Aswath Damodaran

I am a dabbler. I teach corporate finance, investing, portfolio management, investment philosophies — topics people do not usually teach together because they require very different backgrounds. I find it advantageous to teach all of them because they cross-fertilise. I give people the analogy of medicine: you go to a doctor today and it is very difficult to get a full diagnosis because each specialist is so focused on their part of the body that something seriously wrong with you might be missed. In business and finance, the same thing is happening. There is an advantage to being a more general thinker.

On the sharing front — knowledge is the one thing you can share without giving anything up. In fact, you gain. And there is a more selfish interest: every teacher is a repressed actor. If I am going to teach a class of three hundred anyway, I would much rather teach to three thousand. In the 1990s I set up a camcorder in the back of my classroom and recorded my classes. By the late nineties I could convert those tapes into something watchable online. The quality was awful, but I put it up.

My quid pro quo with NYU is this: I enjoy teaching large classes, which might make NYU millions of dollars in tuition. I don't demand a share of those millions, but in return I get to give the class away for free. If NYU objects, I will go back to teaching fifty people in a classroom, because that is all my contract requires. NYU now has certificates based on my recordings for which they charge two thousand dollars. I am fine with that. All you are interested in is learning? It is freely accessible on my website.

Aswath Damodaran

I first wrote about ESG in 2020 because I had never seen a concept explode that quickly out of nowhere to become the status quo. CEOs, the Business Roundtable, BlackRock — all bought in. But what made me suspicious was that the sales pitch contained no trade-offs. You can do good and be more valuable. You can do good and earn higher returns. You can do good and sacrifice nothing.

Through the history of humanity, being good has always been the more difficult choice. Being good has always cost you. If goodness were our natural choice, we would not need religion in the first place. I would have had far more respect for the ESG movement if they had said: we need to make the world a better place, so companies will make less money and investors will earn lower returns. That is a trade-off worth debating. Instead, it was sold as all cake, no calories.

So I started looking at the evidence ESG advocates were presenting, and I was troubled by its quality. First, it was written by advocates — true believers who might delude themselves about their objectivity but who started with too strong a prior. Second, they were mixing up two distinct questions: whether ESG is good for companies and whether it is good for investors. One story that has some backing is that ESG makes companies safer by protecting them from crises. If that is true, those companies will have lower discount rates, lower cost of capital — which is good for the company. But lower risk means investors in those companies earn lower returns. What is good for the company cannot simultaneously be good for investors in the same direction. The research was not even sure what question it was answering.

And score-based systems always get gamed. People complain about greenwashing as though it were a bug. It is a feature. Every time we have created a score-based system, gaming follows — exactly what you would predict.

Aswath Damodaran

The old Latin saying: cui bono — tell me who benefits and I will work backwards from there. It is a cynical view, but it is a very effective way of thinking about why things get pushed to the front.

But I am not against virtue. We each have a moral code and we need to behave consistently with it — not just in our investment choices but in our consumption choices and the way we interact with our communities. The problem with ESG is that it says you do not have to do any of that. Drive your SUV, buy your cappuccino at a chain you have doubts about, and when you get home just buy an ESG fund — the scales have levelled out. Goodness is always costly. By choosing to shop only at stores that treat their employees well, you may pay a higher price. That is an inconvenience. People do not want to be inconvenienced; they want goodness delivered on a platter.

Aswath Damodaran

The first Bitcoin paper was written in November 2008. Nobody needs reminding what November 2008 was — two months into a crisis that shook our faith in every single institution, in governments, in central banks. The paper was born in that moment and reflected its feeling: you cannot trust authority figures. Bitcoin is designed explicitly on the absence of trust. Rather than a central bank, you have computer miners deciding whether your transaction goes through.

I would wager that if you did a Venn diagram of people who do not trust anybody and people who are heavily invested in crypto, there would be a lot of overlap. In the old days, they would have bought gold. Bitcoin is the millennial gold: I don't trust anybody, so I am going to hold something that does not depend on any government or central bank. From that perspective, the demand is entirely understandable. And you can explain the price purely on that paranoia: the less trusting the world becomes, the higher crypto prices go.

The problem is that what speculators want out of crypto — volatility, the chance to gain forty percent in a week — is at odds with what a functioning currency requires, which is stability. You cannot price goods in a currency that moves twenty percent in a day. The speculators are driving the game, and as long as they do, the currency use case gets crowded out.

Aswath Damodaran

No, and here is why. Currencies can only be priced; they cannot be valued. When you buy or sell a currency, you are trading. I am not a trader — not because I think trading is inferior, but because it is not my game. Investing is about valuing something based on cash flows and comparing it to the price. Trading is about gauging mood and momentum — and the very best traders are genuinely skilled at that. Technical analysis, which valuation people often ridicule, may actually tell you more about shifts in mood and momentum than digging through cash flows tells you.

I am a terrible trader. It is good to know what you do not do well. For that reason, I have never bought or sold Bitcoin. I would probably lose my shirt.

Aswath Damodaran

Every valuation tells a story. With Tesla: is it the story of a car company? A green-energy company? A battery company? A technology company? That story is the starting point, because it frames every choice you make.

The value of a business comes from five drivers, and three of them capture the business model. First, revenue growth — are you a slow-growth or a high-growth business? Second, operating margins — are you in a profitable business? A manufacturing company, even a very good one, might achieve margins of fifteen to twenty percent because you have to make the thing you sell. A software company can reach forty-five percent margins because the extra unit costs almost nothing to produce. Third, reinvestment — growth requires capital, whether in machines and equipment for a manufacturer or in R&D and customer acquisition for a technology company.

I do not have five hundred line items in my spreadsheets. I have those three. I create three folders: a growth folder, a profitability folder, and a reinvestment folder. As I read about Tesla, every story goes into one of those folders. It organises the data so it ends up as a number in the valuation. Without that structure, you are collecting information without any organising system and you end up with fifteen thousand items and nothing to do with them.

My most recent Tesla valuation described a pathway for them to become the largest automobile company in the world by units sold — almost every car eventually electric, Tesla with a large market share. With that very upbeat story, I arrived at a value of around six hundred dollars per share. The stock was trading at fourteen hundred. With every conceivable upbeat assumption built in, I still could not justify buying Tesla at fourteen hundred. So: start with a story, collect the data, finesse the story, convert to numbers, get a value.

Aswath Damodaran

That is the craft part of valuation — learning over time which variable each quality shows up in. Quality of management means good managers find a way to deliver better returns than the rest. But no matter how good you are, you are constrained by the industry you are in. A great manager in a declining business will not deliver thirty percent margins.

When I value a company I look at industry averages. If your margins are seventeen percent and the industry average is ten, the laws of economics say your margins will come under assault unless there is something protecting them. I ask: what does this company have that allows it to earn seventeen percent in a ten-percent business? It could be brand name — a soft factor — but brand name allows you to charge a higher price for the same product. That is tangible. I actually create a table for my class with fifty soft factors and ask where each one shows up in the valuation. "Loyal employees?" Your turnover should be lower, so your employee costs should be lower.

I call soft factors "weapons of mass distraction" because they tend to appear after the valuation has been done at a price above value. Somebody who likes the company says, "But what about the great management?" What they want is a licence to buy in spite of the price. When I hear that, I say: I am willing to listen — tell me specifically what this great management does, because I want to bring it back into a number in my model.

Aswath Damodaran

I start with the presumption that each of us needs to find an investment philosophy that best fits us — there is no one best philosophy. That is why when people read books on Warren Buffett and try to copy his stock-picking they almost always fail. It is not just copying the method; you need the psychological profile to pull the philosophy off.

I am a believer in value. I have faith that every asset has a value, faith that I can try to estimate it, and faith that at some point the price will adjust to it. Those three are faith — I have no proof. But my philosophy is animated by those three beliefs. If I buy something cheap and the price goes up eighty percent above my value, my same faith that led me to buy should lead me to sell. If you say "I am a value investor" but you buy and hold forever, those two statements are internally inconsistent. When a philosophy has internal inconsistencies, they eat into its core.

So I sold Amazon four times. With the benefit of hindsight, I should have held the first time and ridden it from 2001 through 2022. I left money on the table. But that is a small price to pay for a philosophy that stays consistent. I can describe my approach with a straight face and say: I act consistently with it.

Aswath Damodaran

The Buddhists are fond of the word serenity — when good things happen, do not get over-exuberant; when bad things happen, do not sink into despair. Investing is a game of enormous ups and downs, and so much of what happens in markets has nothing to do with your great analysis or skill. Luck is the dominant force.

In basketball, if Steph Curry makes thirty out of fifty three-pointers, you cannot explain that with luck. In investing, you could make thirty good calls in a row and I still cannot reject the hypothesis that you were simply lucky thirty times. Separating luck from skill in investing is extraordinarily difficult. Humility comes from recognising that.

When I bought Apple in 1999 I bought it because I felt sorry for the company — I had been an Apple user since 1981 and Apple was near death. It turned out to be my best investment. The hubris would be to go around citing my Apple return without telling you that it had nothing to do with a full-fledged intrinsic valuation and everything to do with sentiment and timing. So it is hard to let things go to your head, but the market is waiting for exactly that moment.

Aswath Damodaran

The first is concentration. Three or four stocks with nothing else is a sign of hubris — it tells me not only that you think those stocks are undervalued but that you have somehow figured out that prices will converge on value for all four simultaneously. In the world we live in, businesses get disrupted, there is globalisation, there are crises. Spread your bets.

When you spread your bets, your winners will grow and become a larger share of the portfolio. That is when discipline is required. My rule is that no position starts above five percent of my portfolio, and if any position reaches fifteen percent I begin reducing it, however much I like it. I automate this — I put in a limit sell — because if I have to make the decision consciously I find ways to delay it. Who wants to sell something when you have tripled your money?

The two most dangerous emotions in investing are regret and anger. Regret does nothing except eat away at your insides, and it can have an insidious effect on future decisions. Anger — spending your investing energy being furious that other people are making money doing things you would not do — is an incredible waste. It is not your role as an investor to police other people's choices. It is their money.

Aswath Damodaran

They should never be ignored, but they belong in a different part of the decision. I think about my portfolio in multiple steps. The first is asset allocation — how much of my money goes into stocks, bonds, physical assets, perhaps crypto. That choice is driven by macro views. If I believe inflation is returning to eight percent, I should be reducing my exposure to financial assets. But once I have made that allocation decision with my macro views, I set them aside and focus on company selection. If I have only twenty percent in equities, I want the best twenty percent I can find. Macro views drive asset allocation; valuation drives company selection. When you mix the two you end up with a jumble where you are not sure what you are doing at any point.

Macro forecasting exists to make soothsayers look good, because the historical record of expert macro forecasters is worse than abysmal — in fact worse than random. It gives us a sense of being in control. Very little of my investing has been driven by a different-from-market macro view. The one exception was March 2020, when Brent crude briefly went below zero and I bought oil companies. It is one of the few times in my life I invested on a macro variable.

Aswath Damodaran

Part of it is accepting that a lot of what happens is not your fault. I did not see Covid coming in March 2020. I was not protected during those six weeks when stocks fell thirty-five percent. I did not see the 2008 crisis coming. Bad things will happen to you that are not your fault. Letting go of the feeling of responsibility for every single investing mistake is part of being okay with being right and wrong over the long term.

I try to learn from mistakes without getting mired in assigning blame. From this point on, maybe we should all build in some probability of a global pandemic that brings the economy to a halt when we value every company. I am still working through the details. But you can learn lessons from the past without sinking in the mud of trying to explain who is responsible.

The spreading-your-bets suggestion I made earlier is part of the same answer. Do a pie chart of your portfolio and compare it to the global market-cap pie chart. I am not saying they must match — but the further away from that global chart you get, the more conscious you should be of the bets you are making. If forty-five percent of your money is in technology stocks, you are making a bet on tech whether you say so or not.

Aswath Damodaran

I would love to say "go do whatever you love and everything will take care of itself," but that is nice-sounding advice that is not always practical. Most of us have to do things we don't enjoy for at least a portion of our lives before we reach the point of doing what we want. It is ninety percent perspiration, ten percent inspiration. If you go into a job expecting all inspiration, you will be seriously disappointed.

But I also tell my students to preserve the option to abandon. You need to be able to walk away from a job to be really good at it — which sounds strange, but I believe it. If you actually have the freedom to get up and say "I quit," and there is nothing the person on the other side of the table can use to pull you back, you will be a much better employee. You will speak your mind. You will raise things that don't make sense. You will not be afraid.

Investment banks are notorious for putting golden handcuffs on young people — they pay enormous sums and the next thing you know you have a five-thousand-dollar-a-month apartment and they have you, because you cannot afford to speak up. I tell students: live like a student for the first two years of working. Keep your expenses low. Do not lock yourself into needing twenty thousand a month to break even. Preserving the option to abandon has been the hallmark of my own life.

I have never done consulting. I have never done expert-witness work. I have never appraised a company for money. Not because I am setting myself apart — but because he who pays the piper calls the tune. What people get when they read my work is the knowledge that I have no hidden agenda. I don't work for a hedge fund. I don't consult with any of these companies. That gives me the freedom to say exactly what I think without worrying about the consequences.

Aswath Damodaran

That is absolutely true. Independence does not come as a gift — you have to be willing to give something up for it. I was lucky not to have to give up very much. I might not have everything I want, but I have everything I need. An extra million dollars is not going to change the way I live. I understand I was fortunate to be in a profession where I could make that choice.

What I wish for my kids is that same degree of independence. Their paths may be more difficult. I will not judge them if they cannot get there. But I hope they make it part of their priorities, because once you have it, it is a profoundly powerful place from which to operate.

I wake up on Monday mornings when I have to teach, and I cannot wait to go. I have not worked a day in my life because everything I have done I have done because I wanted to. That is an insanely powerful luxury, and I am grateful every day for having been able to find that path.