Education
Monday mashup – what to say?
I was of course tempted to put Christmas greeting is the heading and I do of course hope all my readers will have a healthy, peaceful and reflective break.
However, most of you will like me have families and would have been looking forward to seeing children, nieces and nephews, grand children and other family members, and that may not be possible now. The international news this morning is especially gloomy about the Covid-19 situation in the UK with some news media extracting (arguably out of context) the health minister’s phrasing that the situation is ‘out of control’.
Actually Covid infection rates are much worse where I live and the situation is being controlled (hopefully – not much evidence so far) by really tight quarantine measures. They may have been left to the last minute in the UK, but my guess is that the stricter measures are the right action and will need to last a while. At least vaccination programmes are getting under way
In terms of prospects for economies and the long term future of certain types of business, we have serious cause for concern. That is compounded by the approach of January 1st because whatever terms the UK will be applying to trade and other forms of necessary collaboration with mainland Europe after that, there will be more friction.
The processes of trade are used to spinning at high speed, like a well oiled machine that never switches off. Any engineer will tell you that even a small increase in friction, or a loss of lubricants, will cause overheating, unpredictable performance and even breakdown of sophisticated machinery.
But, as we know, investment markets and the economy are only connected in a complex and indirect manner, like the weather and the price of your morning coffee.
There are plenty of purely financial reasons for betting on stock markets continuing to rise – accommodative central banks, the rise of SPACs, digital money trends and much more. This I will address in more detail in my comments next month.
So, what to expect? The Spanish Inquisition? But nobody expects the Spanish Inquisition :-). (non-Monty Python fans please indulge my whim!).
My point is that markets are overvalued in many sectors and regions by a large margin on conventional measures, but nonetheless one can still make money riding the momentum.
Such unusual times require a thoughtful and intelligent approach to investing. I hope that in 2021 I can help you follow such a course!
Monday mashup – ‘It’s the economy, stupid’ – except it isn’t
Economics – the art of educated guesses
The quote in the heading is a well known slogan from Bill Clinton’s campaign strategist James Carville, with the addition of the word ‘it’s’ to what he actually wrote as one of 3 key messages on an office door sign for fellow campaign workers.
I usually recall this quote when reading or hearing economists expounding on the prospects for financial markets by sourcing data and theory from their world. I am a general sceptic of economists, loving the quotation that ‘economists are people who will tell you tomorrow why what they predicted yesterday did NOT happen today’!
I studied some basic economics in my youth and whilst micro economics is a good way of explain aspects to human behaviour, macro economics is more like weather forecasting: immense computer resources are devoted to predicting what will happen in the future, and then a butterfly flaps its wings somewhere in Latin America and it all turns out to be wrong (a premise put forward in an explanation of chaos maths which I once read).
Even ignoring my economist-ism, it is widely understood and very easy to prove that in the near term, investment markets do not in any consistent way perform in line with economies. In some ways, equity and bond markets act as predictors – for example, adjusting in anticipation of prosperous times. At other times, they anticipate recessions, but more often than not a recession has to be proved to be both set in and long term before a raging bull market will correct.
At this very moment, we have august bodies of economists predicting recessions of catastrophic proportions in many global economies, central bankers looking into very empty tool bags and yet many stock markets are at records highs
So is economics useful to investors?
Yes – but not as a basis for deciding what to buy and sell in the short term. We have to remember that the main driver of market prices is supply and demand (some micro economics there) with a good mixing in of human behavioural biases.
Some times and to a greater or lesser extent, macro economic trends that are well set in (like anti-cyclones with the weather) will have an obvious impact on the profitability of companies. If investors can see a major change (eg the reaction to global warming) as being certain to change the way some things will be done (in this case, the slow demise of petrol and diesel cars), they will make investment decisions to try and own shares in those businesses that will profit from such a change.
Note that they will often be wrong, as investors in Clive Sinclair’s C5 must recall, even though he was exactly right in seeing a future for vehicles driven by a big electric motor.
My observation is that the decisions to follow economic trends are driven not by dry data or economists’ modelling, but by an understanding of a well developed story that every one knows. Investors, even the most specialist and experienced are only ordinary human beings like we are and it is a sure thing they have no better knowledge of the future than we do. I appreciate that is a generalisation and some of us, and some specialists, will be a bit more insightful than others.
Big fund managers do employ strategists (a sort of specialist economist). That is like the rulers of old employing soothsayers and magicians. Today they may use computers as opposed to examining the entrails of a sacrificial goat, but I doubt that their success in making predictions is any better.
Economists as social scientists do help us understand how the world works to distribute money and resources and we benefit from that understanding when applying different techniques, mostly to do with the concept of value and risk, when selecting our investments.
Finally, it is only fair to say that some people we know to have been influential economists were, after some practice, great investors – most famously John Maynard Keynes. But some footballers are great golfers, so one has to be careful not to assume a correlation!
Advice from the professionals
CFA UK is the professional body for investment managers – your scribe was awarded one of its qualifications in his younger life. It recently expressed some concerns about the impact on portfolio diversification of a long period of negative interest rates. It suggested advisers might want to look through the following checklist. If we take out the references to clients, it would be a good one for do-it-yourself investors to work through on their own account.
Are my client’s return expectations reasonable given the low expected future returns offered on many assets?
In light of the above, are my client’s current contributions (or savings) sufficient to meet their objectives?
Conversely, are some clients assuming too much risk in order to hunt for yield in a low return world? For example, are risks now higher than they were for traditional portfolios with high government bond weightings (my emphasis)?
When considering risk, what are the limitations of my risk model(s) in relation to the assets in which the portfolio is invested? Do they, for example, rely completely on historic correlation, volatility and drawdown data which may not hold in the future? How have I addressed those limitations, even if only qualitatively?
How long would it take to liquidate the client’s entire portfolio? How much would it cost do so? How do those figures compare with the past and is the level of exposure to illiquid assets still appropriate for the client’s needs?
As the hunt for yield continues, are my client advice and investment decisions accounting equally as much for the risk characteristics of a product/asset as its return potential?
I think the third paragraph is particularly relevant to those investors with passive multi-asset portfolios that are biased to fixed income stocks, like a Vanguard Lifestrategy 20% or 40% equity fund. The conventional risk control offered by owning long dated government bonds may well not hold good in the next few years
Monday mashup – the hokey-cokey
The title reference is to the ‘in, out, in, out shake it all about’ line in that dance. I am prompted to write about the evergreen conundrum of market timing, mainly as a refresher, for two reasons.
A perpetual question
Firstly, when I am completing the first stage of my training plans with subscribers, they inevitably become nervous when the time comes to actually make purchases from cash reserves. Secondly, the current climate is one where all 3 of the major uncertainties overhanging financial markets for so long are becoming less unpredictable (US elections, Brexit and Covid-19). One might say, one sorted, one soon to be sorted in a way we can predict and the last looking a bit less disastrous.
The second factor suggest it might be a good time to invest but unusually the pricing of large parts of the market suggest there are only 2 games in town: booming new tech growth stocks and dull low value businesses doing old fashioned things. This makes decisions on purchasing far from straightforward without some discipline and methodology.
Resources
I have written on this subject from various viewpoints before. Here are some reference points (several will be subscriber only):
How to pick a fund for the future or how to be a contrarian
The last article is quite long and I enjoyed writing it, but it may be tricky to follow for some readers. It serves to show that decisions to take money out of markets and re-invest later can be rewarded handsomely but in most cases, the source of the extra profit is luck.
This article can be understood well enough if you skip past my ‘in’ jokes about the financial system in the back story and start reading from the ‘3 decisions’ paragraph.
Some basic common sense
There is good sense in buying obviously cheap markets after a crash and not piling all your free cash into a market that has been booming for years. But aside from those common sense observations, I would suggest the best approach is to think about the long term and have a simple risk minimisation strategy.
Some years ago the then famous fund manager Anthony Bolton (a contrarian manager by style) used to often say that ‘time IN the markets is better than TIMING the markets’. If you look at very long term graphs of stock markets you will see that he is absolutely correct. The line goes steadily up and unless you have a gigantic screen or very large piece of paper, the compression of short term movements means you will not be able to even see the large drop of say October 1987.
Don’t focus on the wrong data – investment is long term
Two things need to always be born in mind:
Every investor, however skilled or experienced buys the right investment at the wrong price when judged over a week or a month, but that might look like a stunning piece of judgement over 5 years or 10 years. In fact, I personally often buy investments I expect to do well a little early and lose money until the market catches up with my analysis. I don’t mind an initial 15% loss if my investment is up 25% in a year’s time – I might have made a lot less if I had waited and the price had already gone up 20% from the low point.
So rule number one it to not get all bitter and regretful about a fall in price in the early weeks or months of a well thought through fund selection.
The second idea to always remember is that when you invest sensibly (ie in diversified and intelligently chosen blocks of shares), you are just jumping on the capitalist machine. It’s function is to make money for investors and over time IT ALWAYS DOES.
Some of us (me included) find the way in which that happens at times rather inconsistent with our personal ethics, but that is really rather irrelevant – the machine exists as a part of the world and without it, the world would not function – even the Chinese communists seem to accept that.
So even if the machine grinds to a halt due to a malfunction from time to time and some people lose faith in it, it gets fixed pretty quickly. One only loses money from a diversified portfolio of collective funds (irrespective of when you bought an investment), if one withdraws money at the wrong time.
So the thing to worry about is managing your cash flow, not when to invest.
If I could ever claim to have been a good IFA, I would like to think it is because I got people to think about objectives first and short term investment returns second. If you have 3 young kids and can only afford one family car, you don’t start your selection process with 0-60 times and top speeds.
We all keep learning
To improve returns, it may arguably make sense to phase investments of larger sums – I accept that. Refer to the various articles listed above for other angles, but don’t expect a neat ‘this is the trick’ answer – it does not exist!
But we can try different techniques and become a little more skilled. We will make mistakes on the way – the world can mess up the most rational decisions. In investment portfolio construction and purchase, the only perfect science is hindsight
Monday mashup – more work on sniffing out opportunities
Next week will see the US Presidential election come to a climax and no doubt there will be volatility in stock markets both before and after that date as traders take positions on the most likely outcome, then the consequences. I have no predictions as to the winners, but will happily admit I hope it is not Trump. If you think the US market will fly on a Biden win, buying a low cost S&P 500 tracker fund or better still an ETF would be the way to place your bet.
I have devoted recent research time to my quest to identify funds in the out of fashion value segment of the out of fashion UK stock market. This is all part of my current focus on contrarian investing which I hope will be educational.
Here is a chart:
This shows performance data for 3 funds and a benchmark. One of the funds (Man GLG) popped up from the research process that I explain in the recently published article offering an example of research into out of favour funds Pick a fund for the future or how to be a contrarian (m) The other 2 I have invested in myself in the recent past.
The Premier Miton fund I identified many years ago when I spotted an unusual combination of managers, but they promptly upped sticks and left after I started following it! Fortunately, the hastily brought in replacement manager also knows his way around the darker corners of the UK market.
The TM Crux offering (note that Crux are the management group, not Thesis, who are just supplying corporate director services) comes from a group founded by managers who made their name elsewhere and wanted a higher degree of personal involvement – a common pattern that often does not work so well. In the case of Crux, I think they have not been overly ambitious and the founders are probably wealthy enough to cope with a gentle build up of funds. The Special Situations fund manager Richard Penney ran a very focused fund at Legal & General and is one of te most contrarian investors I have come across. He only moved across to Crux recently.
Which of these funds would you buy? I imagine you might want me to answer that question rather than ask it!
I personally would look at the top 10 holdings of the funds to assist in making that decision.
It looks to me like the Crux fund manager has taken the view that he can make good money on relatively large defensive stocks being in fashion in the light of a pending recession. The Man GLG fund seems to have taken bets that expectations of a recession are overdone and is holding stocks that would do very well if the recovery is quick and dramatic. The Premier Miton fund seems to me to be what is always was – a fund where the stock picking is careful, agnostic of style and sector and in spite of the fund name, not an out and out value fund.
This is a very broad assessment, but when we are predicting the future (or at least betting on it) I think we would be wasting our time being too pedantic – more detail will not necessarily improve results!
My assessment (never a recommendation for any reader in particular) is:
- the Crux fund is being run by a manager who needs decent results now, because he is in a new job and so it is only mildly contrarian at this time
- the Premier Miton fund is what it always was, a great way of getting exposure to UK shares away from the mega caps focus of the FTSE100
- the Man GLG fund is one for those who want to bet against the mainstream and so most useful as a medium term satellite ‘returns booster’ but one that could go badly wrong. It is the true contrarian in this list.
I can tell you that I have bought the Man GLG fund already, but only to acquire a very modest weighting in my portfolio. If you believe in contrarian investing, you have to at times take on the associated risk!
The other 2 funds might well feature in my portfolio again, having done so in the past.
I will still do more research in this segment. If readers have their own ideas, I would love to discuss them!