Have you ever walked through the woods and considered the trees? I mean really considered the trees, looked deeply at them, thought about them, and pondered them? I recently spent some time in the woods and the similarities between the woods and the markets were striking.
Forests do not consist of just one type of plant. There are no forests with only oak trees. A forest is a complete system of plants and animals that all rely on each other for growth, or shelter or food.
Forests grow in cycles. What starts out as an empty field eventually harbors saplings that turn into full grown trees. As trees age they drop seeds that form new trees continuing the cycle. Not all trees grow to maturity, some become vulnerable to disease, some don't have the right growing conditions, and others are timbered. A tree might drop thousands of seeds before one takes root and grows into a sapling.
Not every sapling grows into a mature tree. There are many factors that need to be just right for the tree, the soil, the sunlight, the other trees.
The variety of trees is awe inspiring. No two trees are identical, they grow subject to their location, the light, the soil, amount of rain. Some trees grow very tall, others are short and stubby. Some race straight to the sky not sparing any branches on their trip to the top of the canopy. Others sit low and flat spreading branches in all possible directions. Some are gnarled and twisted in their search for light. A few trees like to grow in the company of others while some are perfectly content to alone be the centerpiece of a field.
A natural disaster can change the course of a forest. Fire, generally viewed as bad for forests are essential for the boreal forest to regenerate. The jack pine in the boreal forest drops seeds in pine cones that only germinate in the presence of extremely high heat. Other forests wither in the face of fire.
It's hard to predict what trees will do well and grow to maturity. In many cases it's easy to tell which trees will not grow to full maturity. A poor sapling trying to scratch out an existence in rocky and nutrient poor soil will never grow as tall as a majestic oak planted in fertile soil. Some trees such as the giant sequoia seem resistant to almost anything nature throws at them.
When I walk through the forest and think about the trees the parallels to the market are unescapable. All companies start out small, no company is born into existence as a mega-cap. Even the largest mega-cap grew from a small seed of thought in some entrepreneur's mind. These seeds turned into small companies over time that grew. Of all of the small companies only a few become medium sized companies and only a few medium sized companies become large corporations. The largest companies in the world might be similar to the giant sequoias. They have grown so large that their size alone becomes an advantage.
A company needs the right conditions to grow from a small company into a larger company. Sometimes the conditions need to exist inside the company itself, other times the conditional elements are external to the company. Some companies are in the right place at the right time and they find success.
Companies like trees need time to grow. Some trees grow extremely fast, but their height is limited. The largest companies weren't founded recently, they've endured business cycle after business cycle. Their size and strength is their advantage, but also a weakness. The largest trees in the forest are susceptible to high winds. Smaller trees are more flexible whereas large trees don't flex as much due to their size. In a severe storm the largest trees are at risk for snapping off limbs or falling altogether. In market disruptions some of the largest companies might find a division without a market, or find themselves out of business entirely.
Sometimes investors believe buying small stocks is easier because there are more companies to choose from. This is like saying it's easy to find which sapling will become a mature tree because there are so many saplings. Neither is easy and both require expertise about both the tree and the tree's environment. A company is reliant on their external environment as much as a tree is. While many managers may not want to admit it a company's success is reliant on external factors, the market, other competition, the management at competitors.
Lastly the market grows and shrinks through cycles like the forest. At times a market can be thriving and growing like crazy. Other times it's stable or shrinking. Extrapolating growth from one period will always result in faulty conclusions. If the growth rate of young trees were extrapolated we'd have trees that touched space. A tree's growth rate slows down with age, the same as a company's growth rate.
No one tree can be viewed in isolation, it must be viewed within the context of the forest. No one company can be viewed in isolation either, the context should always be considered.