If you’ve been investing long enough, you’ve probably heard the term “picks and shovels” before.
A pick-and-shovel play is, at its core, a company that sells products needed for a larger, overarching industry to operate.
The metaphor dates back to the mid-19th century. At the time, a man by the name of James W. Marshall had famously discovered gold at Sutter’s Mill in California. Word of Marshall’s discovery spread quickly, drawing in some 300,000 prospectors to the West Coast and sparking what we now know as the California Gold Rush.
Despite Marshall gaining recognition for his discovery at Sutter’s Hill in 1848, though, he was not nearly as fortunate as you might expect. Unable to compete with the massive wave of competing gold miners arriving by sea and the California and Gila River Trails, the man who sparked the California Gold Rush was soon forced off the very land where he first lit the beacon.
Marshall did find some success starting a vineyard in the 1860s, but he couldn’t shake the weight of lost opportunity. He eventually returned to prospecting for gold after closing the vineyard, but again met no success. His final venture, a gold mine in Kelsey, California, yielded no gold at all.
Marshall was eventually granted a four-year pension by the California State Legislature in recognition of his role in the Gold Rush, but the payments were minimal and the pension soon lapsed. In 1885, Marshall died in a small cabin in Coloma, California, with barely enough money to cover his funeral expenses.
Marshall’s Fate: A Warning for Modern Investors
Today, Marshall’s disappointing tale should serve as a two-pronged warning for entrepreneurs and prospective investors alike.
The first lesson we can learn from Marshall is that finding something first doesn’t necessarily guarantee you a share of the profits. Once the word is out, it can be incredibly difficult to compete when everyone else is after the same exact thing. You have to actually act, and know what action to take in the first place.
The second lesson is that the best investment opportunities aren’t always what glimmers and shines on the surface: seeking fortune in what’s obvious can often leave you with empty pockets. James Marshall didn’t die penniless in 1885 because he couldn’t succeed at mining gold — he failed to succeed because he couldn’t see the real opportunity in front of him.
While Marshall was being suffocated by hordes of prospectors in search of gold, he overlooked a steady and reliable market that he himself had created. You see, while trying to strike gold was a high-risk, all-or-nothing venture, the burgeoning sale of mining tools was just the opposite.
Those who set up shop early selling mining tools saw a steady stream of income without having to roll the dice on any single mine. Hence the birth of the investing term “picks and shovels.”
The Picks and Shovels of Modern Tech
Today, pick-and-shovel plays extend well beyond the precious metals industry. Oil and gas investors commonly scoop up manufacturers of specialized fracking equipment, while savvy technology investors can profit immensely off electronic components embedded in popular consumer goods.
I could go on for pages providing illustrations of pick-and-shovel plays, but the latter example is where I dedicate my professional focus. That is to say that the many various components of tech are my personal bread and butter when it comes to investing.
Even if you’re unfamiliar with the idea of pick-and-shovel stocks, there’s no doubt you know about the successes of at least a few highbrow pick-and-shovel tech plays. Intel (NASDAQ: INTC), Qualcomm (NASDAQ: QCOM), and Corning Inc. (NYSE: GLW) have all become relative household names since the initial emergence of personal computing.
Of course, these companies don’t get the same level of recognition as tech’s biggest companies. Firms like Google, Microsoft, Facebook, and so on get the lion’s share of the attention… But when it comes to investing, this makes the prior group all that more compelling.
That’s because stocks that everyone and your grandma can name at the drop of a dime are already at what you might call peak notoriety. These stocks are already in everyone’s 401(k)s, IRAs, and brokerage accounts. And if everyone is already invested, it gets that much more difficult to sell your shares to someone else at a higher price.
This isn’t to say, of course, that blue-chip tech stocks aren’t worth owning at all. In fact, they should be a staple of your portfolio. But the opportunity for growth is most certainly limited…
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The chance of accurately picking these kinds of stocks early on, when they’re not as well known, is also quite low. Consider, for instance, if you wanted to invest in computers when PCs first began making their way into the homes of consumers. Or perhaps you regret not investing in cell phones when mobile devices first started gaining popularity.
A few decades ago, you could have invested in the most obvious of stocks. Dell, HP, and Gateway would have all seemed like prime targets for the age of the PC. Motorola, Nokia, and Blackberry would have seemed like safe bets on the cell phone market, too…
Yet each of these companies has crashed and burned one way or another, and investors have lost billions in the process. Some may have reinvented themselves and are worth taking another peek at today, while others have disappeared from the public market entirely. The point is, picking the right company out of this bunch would have, undeniably, required at least some deal of luck.
Like mining for gold, finding the next brand-name blue chip is never a sure thing. And like James W. Marshall’s fate surrounding the California Gold Rush, putting all your eggs in that basket can leave you with little more to show than being able to say you almost made it…
This is why I believe it is essential for all investors to keep their eyes on and have at least some stake in the pick-and-shovel plays of tech. These companies tend to be safer and more reliable than original equipment manufacturers (OEMs), and more flexible, too. Just as picks and shovels can be used to mine gold, silver, and many of earth’s other resources, internal components like graphics cards and CPUs can find their way into multiple subsectors at once.
When the PC market crashed, for instance, chipmakers saw a much greater survival rate than OEMs like Dell, Gateway, and HP. In fact, many of these semiconductor firms thrived, finding their way into mobile phones, data centers, and a slew of other emerging technology devices.
When it comes to technology, internal component providers are the foundation of everything you see and experience on the surface. Without them, the industry simply wouldn’t exist, which makes them incredibly secure from the standpoint of demand.
The easiest way to play these picks and shovels of tech is to pick up some shares of an ETF such as the iShares PHLX Semiconductor (NASDAQ: SOXX). iShares PHLX has more than doubled the return of the S&P 500 over the last 12 months (+62.2% vs. +28.7%) and has outperformed it over the last five years (+125.7% vs. 72.6%) as well. The fund is incredibly well diversified, with an 8% weighting restriction, and the fees are not unreasonable.
If you’re looking for even bigger returns and are willing to take on some additional risk, though, investing in individual component providers can prove quite lucrative. Of course, pinning down the right company is much easier said than done, which is why I do the research to help investors like you along the way.
That said, if you’re ready to start investing in the Qualcomms and Intels of tomorrow, or are just interested in the many emerging technology trends of today, I invite you to check out my research and investment advisory service Technology and Opportunity. As it applies to picks and shovels, we’re currently looking to the future of augmented reality, virtual reality, and artificial intelligence to guide our decisions. If you’re feeling particularly bullish on these markets too, we’d love to have you on board.
Until next time,
Jason Stutman
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