MACRO TRUMPS MICRO - EVERY TIME

In many big decisions, solving for the right macro environment comes before optimising the micro.


When in doubt, look out


Old trading floor adage


Two Layers


There are certain types of situations in life that require an analysis of both the macro situation and the micro. Imagine you are considering a new career. Here you must consider the industry you are going into - irrespective of where in the industry, which institution, or at which level you'll be engaging, you need to assess the industry itself - its prospects, its trajectory and growth dynamic(the macro). Then, you should consider the role itself - where you'll be working, the job, your abilities and prospects. The micro.


The same could be applied to an investment you're considering. A friend is starting an office cleaning business. You believe in him, he's a hard worker and has sound judgement, as well as high integrity and ample creativity. Ordinarily, you'd happily invest in anything he did. But what do you think of the office cleaning industry as a whole? Is it growing or shrinking? Are there sufficient margins involved?


In both of these examples and countless others, there are two basic layers of the problem to be considered: the macro - which is to say, the environment that the situation in question is set in; and the micro - the details of the situation itself.


Clearly, both are relevant. If you're considering a career pivot into French/English translation, you might consider that this is an industry ripe for disruption by computers; and maybe you don't like the margins involved. Coupled with this, your French isn't actually very good, and the thought of sitting by yourself all day with long boring documents to translate fills you with dread. In this case, both the macro and the micro align - they're both bad, and you should probably reject the pivot. But what do you do when they are in conflict?


Your friend who's starting the office cleaning business is a star. He's had two businesses previously, and both did extremely well, making their investors a handsome profit. On top of this, you know him well. His work ethic, sound judgement and integrity are beyond question - the reason he's succeeded until now. He's a winner. Looking at the industry he's going into, however, you're less enthused. The margins in office cleaning are razor-thin. It is a highly competitive industry, which requires some inside edge with building managers, which he doesn't have. It is very labour intensive, and so efficiencies of scale are sparse. If not for your friend, you'd be very unlikely to want to invest in this space. Here, your macro- and micro-analysis stand in strong conflict with each other. What to do?


Macro First


In these situations, you want to consider the macro part of the equation first. With decision making and risk-taking, it is all about probabilities. The point is that the macro environment defines the probabilistic environment for everything else.


Imagine a poker game, which is rigged, such that some of the participants can get dealt high cards, and the others cannot. In the latter group, you may be the world's best player; you may win some hands, or even the entire pot, through skill and determination. But the odds were against you. It was harder, as the game was rigged.


This can equally be applied to the job market. In an industry that's shrinking; where margins are tight, and there isn't much excess profit to go round; where growth is stagnant, or even negative (think finance after the Global Financial Crisis, where investment banks engaged in cost-cutting and staff reductions year after year for a decade); what do one's prospects look like? The average employee will do worse year by year - irrespective of where he works, or of his localised environment. There is less money to go around each year; and with headcounts getting smaller, there is strong downward pressure on compensation. He will likely find it is getting harder each year to climb the slippery pole, increase his earnings and advance his career. Moving around will be harder as well, and if he hits an unhappy patch, he is likely to be stuck in it for longer. He is not worse than others, or bad in any way; he is simply paying the price for being a regular fish in an evaporating pond.


In this type of environment, a bad employee will likely get culled very quickly; an average employee will suffer slowly with the industry he's in; and a good employee will find it that much harder to succeed, will have to outperform by that much more to make a mark and achieve forward progress.


Now, consider the opposite situation. Imagine an industry - let's take technology today - which is growing exponentially. The market size is increasing fast, and there is a high demand for skilled workers - coders, data engineers, etc. There is a lot of investment flooding into the space, and there are big margins to be had for successful firms. Again, take the average employee. In this environment, it is hard to set a foot wrong. Being able to deliver merely an average level of output, he'll be sure of always having a job. No musical chairs here - companies need labour, which is a bit of a bottleneck due to the fast growth of the sector. There is always a need for adequate staff, which our average worker is. Unhappy with your boss? It is trivial to find another job. Not getting promoted fast enough? Not earning enough? Ditto. In a strong macro environment, the average employee gets to live like a rock star. Bad employees get away with much, much more. Superstar employees get stellar accolades and compensation - they are the gold dust in this gold rush.


In this case, the tide is lifting all of the boats. Some more, some less; but the tide is rising.


Thus, the rule is, where there's a macro and a micro, MACRO TRUMPS MICRO. Get the macro right, and you can get the micro a bit wrong - you can end up mediocre, and still do well. Get the macro wrong; and, no matter how right you get the micro - no matter how talented you are in the role, how good the institution, how good the investment - it will be an uphill struggle.


The issue is one of probabilities. In a benign macro environment, the probabilities of success are skewed in your favour. In a difficult macro environment, the probabilities are skewed against you.


Go For Growth


A lot of management and investment theory borrows from this concept in some way or another. Take the famous Star principle of investment from the Boston Consulting Group. This says that you should invest in high growth industries, in a market leading firm. The first criteria is the macro. This simple principle states quite clearly - if the industry is wrong, forget about the firm - it doesn't matter. It's not that it won't succeed - it's that it's odds of success are lowered by the industry dynamic.


The interesting thing here is that they refer to the growth rate. This is a very useful metric to consider in every situation. If you think about it, what you're really solving for is growth. The car industry might be much bigger than the AI industry; so, if advising your 20 year old nephew which one to seek a career in, which would you choose? It isn't the absolute size of a sector that matters; it is its growth rate.


A niche industry is fine, if it is small, but is likely to be very big one day - ie, it has a high growth rate. Such an industry will offer endless opportunity. One that is shrinking, even if very big in absolute terms, will display the opposite dynamics, in terms of career development, investment returns, or personal growth.


A niche industry that isn't growing will remain, well, niche. You will be swimming in a small pond forever. This may be what you want; but it is helpful to have potential growth rates in mind when making decisions.


A situation where the macro environment is growing; and you yourself also provide growth - because you are talented, work hard etc - is an explosive combination. In this scenario, you get growth squared. This is the sort of situation where the results you produce over a relatively short time can be stunning. Solving for an environment which is growing; where you are also suited for growth; is the recipe for outsized success.


This not only applies to industries for work or investment. It applies to any field of endeavour. Sport, hobbies, art, music. Any field you wade into, for whatever reason, will have its own characteristics of growth and development. The macro will dictate your odds of success, whatever you are there to achieve; the micro will dictate how well you exploit the opportunity.


Take for example Conor McGregor's stellar MMA career. He is a gifted fighter and a relentless worker; however, the real magic of his career was entering the MMA at a time when the sport was exploding in terms of its global reach and revenues. Thus, he entered a relatively under competed sport (versus, say, boxing, the NBA or the NFL); at a time when the rewards for reaching the top were exponential. The same Conor McGregor entering MMA 20 years ago will have likely remained in obscurity, dominating as he might. 20 years from now, he might have found it much harder to get to the top of the sport. It isn't that he couldn't do well in either scenario; it's that his odds of super-stardom would be heavily diminished with the industry growth rate.


So, the rule is simple. Consider the macro first; and go for situations where the macro and micro align, for (the best odds of) an explosive outcome.