Market Returns
This old stock market adage, when adopted, has saved many an overzealous trader from financial ruin. But should investors with a long-term time horizon (7 –10 years) sell and go away?
In the US, this year the S&P 500 index representative of the top 500 companies by capitalization declined in February – March and corrected around 5%, April and May saw a robust rally sustained into June. The rest of the world’s stock market has gained 7% YTD, MSCI Index 12%, with Emerging markets giving back their gain of 9% in the first quarter to 6% YTD. Sell signals are concentrating chartist minds as the 200-day moving average is again tested. In the bond market 2-year Treasuries coupon 4.9% pa and cash equivalent Vanguard Federal Money Market Securities Commission Exchange returns an interest payment of 5.29% pa.
Company share buybacks are now greater than in the first quarter. This is supportive of the share price as shares are taken out of allocation. It does not necessarily tell us much about a company as executives with share options can use this to manipulate the share price to their advantage.
The Folly of Being out of the Market
Traders have been whipsawed as volatility has not behaved as narratives predicted. Investors with a long-term view who have been tempted to sell and move to cash on price correction in April, now have the headache as to when to buy back in?
The Cost of Being out of the Market
Students of Market history will know that share price corrections from overbought positions in time revert to the historic mean. But we need that time, which is why an investor must be clear as to their investment time horizon. Bull markets begat bear markets which begat bull markets etc. This is the pattern of the stock market price movements. Professor Jeremy Siegal’s classic book Stocks for the Long Run, now in its 8th edition, provides the data for market returns of all assets going back two hundred years. Investors who mistake a Bull market for brains pay a high price for their arrogance.
Any graph of returns from 5 – 200 years shows that stock prices rise some 78% of the time. However, they also fell 22% of the time! If an investor is not prepared, baring personal unforeseen circumstances, to leave their capital in the market for a minimum of 7 – 10 years they should not be invested in risk assets in the stock market.
Investment Time Horizon
Conventional wisdom as to investors’ time horizons can be misleading. An 80-year-old who has a portfolio which is left to a beneficiary of 40 years old and does not require income from the portfolio, the time horizon for management their assets is around 20 years not the life expectancy of the investor. This allows time to invest in risk assets which will produce a greater reward. If the 80-year-old investor, with the same investment criteria, is not leaving the portfolio to a beneficiary then risk assets can be reduced in favor of cash with less reward but reducing market risk. My age is 76 and my investment time horizon is 30 years as the age of my beneficiary, my wife is 60.
Seduction of Market Prices
In the investment classic by Benjamin Graham, The Intelligent Investor, the bible for value investing and the book that gave Warren Buffet his investment conviction, the author describes the stock market as a ‘temptress’. An owner of common stocks is constantly being assailed by the seductive temptress whispering, sell me, sell me or buy me, buy me.
Or as to quote the bard Rudyard Kipling, the words written over the arch leading from the dressing room of Wimbledon, the world’s cathedral for grass court tennis, to greet the players as they walk onto the famous center court “IF YOU CAN MEET WITH TRIUMPH AND DISASTER, AND TREAT THOSE TWO IMPOSTERS JUST THE SAME”.
Investment success occurs from having a realistic time horizon for you and no one else and a coherent well defined investment strategy with the mental fortitude to stay in the market allowing the law of a compound interest table to accumulate the dividend income and earnings growth of businesses you own. In our strategy we also hold non-risk assets Gold and Treasuries as an anchor to windward in a crisis and in the case of Gold as a hedge against the devaluation of FIAT currency. Gold has returned 13.4% YTD. Bitcoin 60.39% YTD. 10-year Intermediate US Treasury -0.67% YTD with a SEC yield of 4.55% pa.
Risk Adjusted Returns
Rebalancing risk allows the investor to take profit and redistribute the capital into the share price of assets where the share price has fallen whilst keeping the risk reward ratio the strategy intact. An investment strategy should exhibit the same capital allocation to assets at the beginning, during and post a financial crisis. Investors’ portfolios seldom reflect that, as fear of permanent loss when prices decline and greed of leverage when prices rise sharply, translate into asset allocation that moves with the prevailing wind of the investors emotions which guarantees poor risk adjusted results.
Not Betting on the US Election
With the US election season now in full swing, most investors and money managers will not want to bet on the outcome of the election which could prove to be contentious and so may be persuaded to take profits. Markets in the vacation months of July and August are notoriously thin as traders square their positions before leaving for vacation. A thin market with a lack of liquidity can magnify any financial, economic, or geopolitical shocks. It is possible, this is not a prediction, that the combination of profit taking before the election and lack of liquidity may produce a correction of 5% – 10%, on stock prices as we saw in March of this year. If this happens it would be a good entry point to allocate capital. In any event US stock prices will need to correct to bring multiples back to the mean.
Jeremy Blatch TEP