Portfolios
The same but different
I enjoyed an excellent brunch yesterday at a cafe/bistro in Bath called Same, Same but Different. If you are in Bath, I can highly recommend it. It inspired this title above.
The current global stock market sell off is naturally being compared with the financial crisis of 2007/8. The aspect that is the same is that many stock valuations were at stretched levels being sustained by momentum buying and idiotic ‘expert’ comments suggesting valuations where no longer dependant on profits and dividends . Some bad news that people don’t fully understand is enough to knock over enough dominos at the end of the row and that triggers a collapse that just keeps going.
The aspect that is different is that in the main the extent of the financial fictions created ahead of the last crisis were understood quite quickly and in fact were in the past – the consequences were easily quantifiable (and awful). This time, people are actually anticipating most of the possible (maybe probable) implications of a widespread epidemic impacting the global economy. That has not actually happened yet and really we don’t know exactly what course the virus outbreak will take, nor the full impact.
That is not to say that the pace of the market sell off is in any way surprising or inappropriate. When share prices head up into the stratosphere, the fall back will always be more drastic and rapid because of the volume of high pressure ‘gas’ (fake valuations) built into the market balloon. A ballon burst by a pin deflates much the same as one burst by a flame thrower. The cause is largely irrelevant at this stage – the issue is one of human behaviour.
What to do?
The usual advice not too sell sell out of quality investments at silly prices remains as sound as ever. Hopefully my readers don’t have much money, if any, in fantasy land shares like Tesla or Netflix. So if you have a well thought out diversified portfolios and plenty of cash to meet your needs, sit tight – things will get better at some stage.
But what if you have surplus cash waiting on the sidelines? My view is that the as one cannot ever see the bottom of a market cycle in advance, it is best to wait until the underlying facts that caused the sell off change – ie the immediate trigger issue has been understood and will be worked around. That has not happened yet with Covid-19.
When markets start to pick up solidly, over consecutive days, because there is better news (maybe a vaccination or solid evidence of containment) and some rays of metaphorical sunshine, then the wise investor will start buying, but in a number of tranches to spread the short term timing risk that cannot be avoided.
What to buy might well be different to what might have looked right a few weeks back – seismic changes in the factors that influence investment selections are possible at times like this.
Good news for portfolio builders – a market crash
That headline might sound a bit strange at first. If stock markets lose 4% in a day, as they did yesterday, it makes a big dent in our asset values for now.
Long term investors will know that such setbacks are absolutely normal and may continue for a while and if they have diversified portfolios because they have looked for risk control, some of the damage limitation will have kicked in anyway. For them excellent and in fact rather surprising gains at the start of this year will have been wiped out, but long term returns will still be looking pretty good.
Many of my readers are building new portfolios. It makes me nervous when people have to do that in a constantly rising market as even phased purchases are at an ever rising average cost and if a setback happens towards the end of the process, there has not been time to build a profit ‘cushion’.
So for me, a setback from what I have felt for a long time are ‘momentum’ driven values, detached in many cases from fundamental logic, is a good thing. Portfolio builders can phase money into markets at lower prices and thereby lower their average portfolio acquisition costs.
Even long term investors who read my ramblings may have raised cash over the last couple of years and if the market setback turns into a proper ‘bear’ phase, they will have liquidity to pick up some better value assets.
Monday mashup – from Russia with dividends?
As financial writers for UK investors go, I can claim to be in more touch with Russia than many. I am currently sitting in my home about 120kms from the border of the Russian enclave of Kaliningrad. Gas coming into my house is from Russia. My car is often full of Lukoil petrol. My partner speaks fluent Russian and her father is now the last retired Red Army officer alive who was a survivor of the Leningrad siege. If I walk down the road to the local health spa, I will hear the Russian language spoken as much as native Lithuanian. I even speak a bit of Russian and know a few Russian jokes.
On the one hand I perceive as a resident the fierce patriotism of a nation that twice escaped Russian domination (Czarist and Soviet) after great hardship and on the other hand I know that the idea of ‘mother Russia’ as a great nation that can’t be bullied is embedded in the minds of native Russians. In fact, when talking with Russians I feel some fellow feeling about nationality, coming from a nation with similar ideas about its status.
That does not make me an expert on Russian investments of course. It just allows me to better understand how ordinary people well east of the City of London live and react with their economy and politicians.
It is not possible for a liberal minded Englishman to like the way the politics of Russia operates, but equally I don’t like the politics of the Gulf States and even many aspects of the USA at the moment. But it is important to appreciate that as in places like Dubai, many people in Russia tolerate an autocratic government that broadly does what it likes because they are personally getting richer and they feel some patriotic warmth from the ‘strong leader’ story.
In fact, the Russian state has much in common with the Gulf States – autocratic rule, suppression of religion other that the compulsory approved state one, brutal suppression of dissent, an endemic tolerance, even expectation of corruption and loads of oil and gas! Of course many ordinary citizens in both societies are as charming and cultured as anywhere.
Here I come to the investment point: the recent collaboration of Mr Putin with the Saudis seems to have achieved their shared ambition of keeping the oil price up.
This is a relevant point for investors in many ways, but I am making it in this round about way, because a better oil price very directly means a wealthier Russia and that wealth feeds through to the citizens and into the profits of companies that supply that large population. Investment managers specialising in Eastern Europe point out that if you invest in Russia you get both exposure to energy and financial companies that are run in a Western style and ideally not part owned by the Russian state and also a large consumer base that is getting richer. Dividend payouts from some Russian companies are healthy.
The risks of investing in Eastern Europe are many, of course. Currency, liquidity, political and transparency all jump to mind. But as my experience is that investments in this sector move in a rather different cycle to those in India, another economy with great potential for rather different reasons, an Eastern European specialist fund invested for the very long term would be a valid call for more adventurous investors or as a satellite holding for those using the core/satellite approach that I teach.
Monday Mashup – runaway train?
My reading of assorted public and specialist media over the last week or two has revealed that many commentators see the current valuation of many US shares in particular as too high on normal valuation bases. I read an article saying a new valuation basis may be needed. The last time I heard an American fund manager talk about a ‘new paradigm’ in stock market pricing was ahead of a market crash so that sort of viewpoint rings warning bells.
But as my readers will recall, I was saying this sort of thing a year ago and yet 2019 was a really good year for equity investors. So maybe this time things are really different?
The end of any bull market is different to previous ones, that much I would concede!
What other actual facts are worthy of examination to help explain what is happening? Markets are going up when really they should not. Here are a few for you to ponder on:
The US Government is about to issue 20 year Treasury stock for the first time since the mid 1980s. This reflects the fact that the US debt is astronomic and tax cuts are being paid for not by GDP growth or public sector savings but by borrowing. That is like you and me maxing our credit cards to give the money to our rich uncle. We know where that would end up.
In a world where populism is rampant, central banks are so afraid of recessions that they will use every tool in their nearly empty box to keep money circulating. This means that they are beginning to own more and more debt securities. This is good for bond prices as there are forced buyers in the market.
In a very simplistic analysis, we can say that Governments are issuing bonds (borrowing) and their own central banks are immediately buying them up. This could be argued to be money printing with no interest cost! Like you borrowing money from your grand-kids piggy bank.
As was proposed by eminent economists when the idea of quantitive easing was first proposed, the eventual consequence of this sort of policy has proved to be inflation in asset prices, so those with assets have become richer. The weakness of labour forces, even in a full employment market plus the application of technology (the real new paradigm) and the globalisation of manufacturing has for now kept the lid on inflation. This is good for equities.
For investors, who own assets (both bonds and equities), this would appear to be very good news – policy is feeding the asset price machine with lots of money and the pipes directing it to benefit the bulk of the population are all closed.
True, if there are hints of the banks wanted to start taking money back out of the system, people get scared pretty quickly, as in mid 2018. But banks trashed their reputations 15 or so years back and no-one objects when they concede to populist government pressure to bump up global credit limits.
It is even possible that some world leaders, fearing elections or even revolutions, are doing what the people that keep them in power (in the media and at the top of the wealth range, or in charge of/supplying their armies) would like them to do, irrespective of the long term consequences – no need to name names.
As long as this continues, investing in equities and bonds will be a nice earner. But I fear that much as happens to the person who pays off one credit card by drawing on another, something that works for many years, the end consequences are bankruptcy and the selling off of assets.
In the global scenario that could actually accelerate the transfer of political power from West to East. It is interesting to note which countries are running surpluses and quietly buying up the assets of debtor nations. If you have grand children, encourage them to learn Chinese.
I have to concede that we probably should stay in the markets for the ride, but if there are any signs of it becoming a train wreck, bailing out sooner rather than later would be essential. Excuse the mixed metaphor!
Of course, asset diversification and hedging risk with adequate cash reserves would be as useful a defence as ever. Personally, I am still retaining a very heavy cash element in my asset base.
New Long Read published
I have come around to realising that I ought to write something about the cheaper “passive’ or index tracking investments that are taking large inflows of money at the moment. They are also used in many multi-asset funds. If I was still working as an adviser, I would be wanting to offer such funds as portfolio components, as indeed I was already doing to a modest extent.