Value: The Quicksand of Commodities

Premium items cost more due to their inherent value.  That is a generally accepted as fact by a wide swath of the population.  However, is this reality?  Does a shirt with a designer logo inherently possess a higher value than an identical shirt without the designer logo?  What if an individual is not aware of the existence of a designer brand?  Does ignorance alter true value of commodities?

In order to arrive at any conclusion on this topic, we must first go back to basics and think about what traditionally makes up the value proposition for a commodity.  Commodities by their definition are not necessary for life, they simply enhance the comfort of the person possessing them or using them.  In the same way that bread and water will provide a person with calories just as well as a well balanced gourmet diet, commodities can generally be substituted for with either a less refined product or through a workaround.

Consider something as basic as a pair of sunglasses.  Sure, they protect your eyes and they can make you look cool (especially indoors at night), but you could go without sunglasses and just squint or use your hand to shade your eyes from the sun.  After all, sunglasses did not exist throughout all of history and people seemed to manage to carry on without them just fine.  The value of the sunglasses come in small part from their usefulness and generally in much bigger part from how cool we perceive ourselves to be while wearing them.  If today or tomorrow, some new pop media phenomenon swept the world that made sunglasses as uncool as belt-pouches/fanny-packs, then the perceived value of sunglasses would plummet and the prices would follow suit.  After all, belt-pouches did not stop being able to help you carry things around in a convenient way, but public perception of the people who wear them sure changed over the years.

In the case of the sunglasses the usefulness of the commodity did not diminish or disappear over time.  We can assume that if a person takes good care of their sunglasses, they should last pretty much indefinitely.  However, not all commodities have the luxury of virtually unlimited usefulness.  You are probably thinking that I am going to illustrate with a common example like food or drink which spoil over time.  However, that is too obvious and frankly insulting to your intelligence.

The real hidden cost of some commodities is the moving goalposts of technology.  Let us consider the purchase of a laptop as a simple example.  As I am writing this, it is the week of Thanksgiving in the United States and retailers are pretty much going batty trying to sell anything and everything not nailed down.  Pulling up a few random advertisements from electronic retailers shows that new laptops range in price from $200 to…well…how much you got?  I’m sure that if you look hard enough, a laptop probably exists for any price point.  And if you really have too much money, you can always get whatever model you want and have it gold plated…literally.

But back to the value proposition of the laptop in question.  Let us consider an average or perhaps even slightly above average laptop, one priced at $1000.  You purchase the laptop with intention of it being you main computing device for a long time to come.  After all, you would not have paid $1000 for a machine you didn’t intend to use a lot.  However, let’s be realistic, technology advances all of the time.  If you were to try and resell that laptop a year later, $500 would not be an unfairly low price.  On top of the natural decline of value of the laptop due to newer more desirable models, the machine itself becomes less and less useful over time.  Computers suffer from obsolescence much faster than other commodities.  Some new technology might come out and your wonderful laptop from three or four years ago is now barely limping along frustrating you at every turn. And finally, laptops do have the added concern of wear and tear due to usage of batteries that wear out, moving parts (hinges, keys, hard drives, etc.), but even ignoring wear and tear the value of the laptop is based on what is available and what is acceptable.

Those two concepts: available commodities in the market and what is an acceptable level of functionality define the value of a number of commodity prices.  Automobiles are a similar commodity category.  A car that does not have enough horsepower or some base level of functionality (like air conditioning or a stereo system), may not be acceptable to a wide enough part of the market that it simply is not a valuable commodity to push out into the market.

However, the other extreme also applies.  A manufacturer might be able to produce a street legal car that is as fast or even faster than some high end race cars.  Most people will not be able to afford or even safely control such a car, so they will not be interested in such On a product.  The right product is somewhere in the middle.  Functional enough to appeal to a large percentage of the population, but not too expensive as to price itself out of the range of most of the population.

This middle ground is where most of the world’s successful companies operate, making products that aren’t perceived as cheap and of poor quality; but not at the apex of manufacturing possibilities.  Profits are made in this middle market and those are the products that most people use on a daily basis.

The last point to consider is perception.  You may have seen any of a number of products with lots of buzzwords and stickers on them advertising how much better than the competition or even the same company’s previous model the current model is.  Going back to the example of the laptop, it makes little difference to the average consumer whether the laptop has Bluetooth 3.0/4.0/4.0 low power or version Mango Tangerine.  What matters to the average consumer is whether it will work with their headphones and hold a good signal.  “But 4.0 seems better than 3.0, by a whole 1.0 and that’s…a lot?…screw it, give me the one with the more Blue teeth.”

A colleague from a few years back used to share humorous stories from his retail days when a certain fruit company’s new smartphone came out and consumers rushed to their local electronic grocers.  The question that will stick with me forever went something like this: “This new one has 3G, but my old one had 8 GB, doesn’t that mean it’s less?”  To which, my colleague responded with: “Well, why do you want it then?” and the consumer couldn’t answer, but they knew they did because it was the “new and improved one”.

This humorous example serves to illustrate perception at its most extreme. The consumer in question didn’t even understand why the new model was better, but the company in question had managed to convince them that the new product was better even if they couldn’t understand how it was better.

In my humble opinion, this perception element drives most of the demand in the marketplace today.  In theory, we could all live in holes in the ground, wear burlap sacks and eat bread and water every single day.  Our society dictates that such a life would not be worth living (which I very heartily agree with) and so we strive to make our lives better through products and services that add flavor to the short time we have to live.  There is no reasonable explanation for why certain designer brands cost 10, 20, even 100 times the amount that the bargain store version of the same product.

Let us consider one final product: A ladies’ handbag.  As a man, I will never truly understand the obsession some women have with bags, shoes and other accessories, but I’ll talk about it from a financial standpoint.  Designer products can be said to on average be of much higher quality than their bargain store counterparts.  They can also be said to be better crafted, be more durable and be better designed.  In our example of the handbag, let us consider a basic bag one can pick up at a local WalMart or Target vs a high end Coach, LV or similar well known designer brand.  The bargain bag might cost $20 while the designer counterpart (of similar style and function) might cost as much as $4000 and in some cases even more.

The designer bag will be nicer to look at.  It will be nicer to the touch.  Its pockets and zippers be better laid out and easier to use in day to day activities. It will definitely last longer as it will be better manufactured and be made of much higher grade materials.  But at the end of the day, can it truly be said that the designer bag is worth 200 of the bargain bag.  Even accounting for cost over the life of the longer lived product, it is highly unlikely that the bargain bag will need to be replaced 199 times.  So why do any of the designer bags ever sell?  Could it be the functionality?  Well, no practicality and usefulness of commodities might help in the decision when the prices are close, but when multiple orders of magnitude come into play, it is highly unlikely that the functional design comes into play.

What is much more likely, and based on my observation of humanity, is simple: Peacocking.  We all buy things that we can be proud of owning.  In the example of the handbag, the price alone ensures a certain exclusivity that will mark the owner as a “special person”.  Owning the new popular commodity will also speak of the cultural attunement of the individual.  “That bag is so last season” is a meaningless phrase from a functional standpoint, but from a societal standpoint it denotes the speaker’s superiority in terms of cultural attunement (having the finger on the pulse of popular societal trends).  The mixture of showing off and being able to prove superiority, in my opinion, drives most of the demand for high end products around the world.

At this point you might be asking yourself: OK, and?  What’s your point?  Most of this stuff is kind of common sense if you think about it.  Should I buy cheap stuff since it also works and high end stuff is kind of frivolous?  In a word: No.  My advice this holiday season: Buy the middle.  Don’t buy the super cheap stuff that doesn’t really work and will not bring joy to you or anyone else.  Don’t buy the super expensive stuff that you’ll need to take out a second mortgage to pay for.  Buy the stuff that falls in the middle of the range.  If you are looking for a laptop and there’s something at $200 and something at $2000, split the difference and see what you can get around $1000-1100 dollars.  If you want to buy a new car, don’t buy the 20 year old beater that’s $500 and don’t buy a Bentley either, find something you like in the middle of the price range (although with this one, the middle really depends on what you want the car to be like).  As with all things in life: Moderation is key.  None of us can really live garbed in burlap sacks eating bread and water (I sure can not), but we don’t really need 10,000 sqft homes that will have two occupants either.