In my opinion, things will continue to be bad for the long-term. And by bad what I mean is relatively flat as valuations have reached a critical point where money tends flow in. The only way that I see valuations contracting further, is if inflation spirals out of control resulting in a higher discount rate and thus lower multiples. How do we get back to a bull market? The only way that I think we get back to a bull market is to fully deleverage the system, discount real estate prices to their true economic value and begin to grow again on the back of higher productivity.
Monday, October 13, 2008
what a mess...
It's time to sit back relax and watch this market gyrate. There is absolutely nothing to do here except dig around and find extraordinary values and wait. Today was an extraordinary day in the market on the upside, following many extraordinary days on the downside. There is absolutely no way the broader indices should go up 10% on a single day. This simply means that money is sloshing around the system and finding a home in the very short term. It absolutely has nothing to do with fundamentals, which makes investing right now almost an oxymoron.
In my opinion, things will continue to be bad for the long-term. And by bad what I mean is relatively flat as valuations have reached a critical point where money tends flow in. The only way that I see valuations contracting further, is if inflation spirals out of control resulting in a higher discount rate and thus lower multiples. How do we get back to a bull market? The only way that I think we get back to a bull market is to fully deleverage the system, discount real estate prices to their true economic value and begin to grow again on the back of higher productivity.
In my opinion, things will continue to be bad for the long-term. And by bad what I mean is relatively flat as valuations have reached a critical point where money tends flow in. The only way that I see valuations contracting further, is if inflation spirals out of control resulting in a higher discount rate and thus lower multiples. How do we get back to a bull market? The only way that I think we get back to a bull market is to fully deleverage the system, discount real estate prices to their true economic value and begin to grow again on the back of higher productivity.
Saturday, January 26, 2008
To Market Time or Not?
We have started the year by jumping off of the mountain that we climbed in 2007 and it is unclear yet if we have packed a parachute. We haven't had a negative market (S&P 500) during a calendar year period since 2002. Is this the beginning of a bear market or have we already inflicted most of the damage? The answer to this question is simply, I don't know. Does anyone know? Has anyone ever proven they can time cycles and markets successfully over the long term and add value? I haven't found evidence of this... Why doesn't this work? The reason lies in the fact that when you try to time a cycle, the biggest risk is missing a sharp rebound. By the time the investor gets back involved, they probably have already had a significant move. Couple this with the fact that the event for selling in the first place likely was a sharp sell off so the combination of the two equate to buying high and selling low (on a relative basis). Now I will agree that you can get away with this once, twice or maybe more, but this should be something that is consider to be lucky. Eventually, the strategy will fail in my opinion. The simple fact is, that if you cannot take the pain of your current investments, because you have time horizon issues (you need the money for something relatively shortly), you are probably in the wrong investments.
Another way to think about it is that for the average individual (couple) the largest portion of assets at risk is probably in a home. Typically a home (in supply constrained areas) is a very good investment because you borrow at low rates and the average appreciation of the home is somewhere above the rate at which you borrow. So you get the full multiplier effect of the leverage. However, when things turn against you, the reverse is true. Use $110k home as an example. If you put $10k down and borrow $100k leaving all other costs out of it, you have $10k invested and $100k borrowed, if your interest rate is fixed at 5% and the house appreciates 10% in value then your original $10k investment returned 60%. The house is now worth $121k and you paid out $5k in interest so the net $6k on your original $10k is 60%. Let's ignore the tax benefit, property taxes and transaction costs for this illustration. 60% is a very good return, I think everyone will agree. Now what happens if the market goes the other way? Down 10%, now you have a house worth $99k, you owe $99k (probably more). Your original $10k investment is gone or you just lost 100% of the initial investment. In general, if you tell somebody that they may lose 100% of their initial investment and maybe more, they will run the other direction, but buying a home is different, because you plan on living there for a long time, which is where time horizon comes in. So the point of this drawn out explanation is to demonstrate the fact that if you are going to market time, you may want to do it with the asset that stands to lose you the most money - your house! Obviously this is just an illustration to make the time horizon point as it doesn't make sense because you need somewhere to live and all the work finding a new place and selling your old one pale in comparison to hitting send on your etrade account, but the logic is sound, time horizon is the key, you don't worry about it with a house because you have a long time horizon. I'm trying to hammer home the point that it makes about as much sense to time the real estate market as it does to time your 401k investments. Stay invested and rebalance regularly, this is the best strategy you can employ, in my opinion. Rebalancing means that you reduce investments that have outperformed the portfolio (and thus have become a greater weighting) and increase those that have underperformed. This results in a systematic process of buying low and selling high, which is, in the long run, how you maximize your returns. You simply cannot predict cycles with certainty and the only investment strategy proven to work consistently over the long run to invest with common sense over the long term and to withstand the emotional responses that market will evoke. It is not sustainable to worry about your investments on a daily basis or yearly for that matter. It is downright unhealthy in my opinion.
Another way to think about it is that for the average individual (couple) the largest portion of assets at risk is probably in a home. Typically a home (in supply constrained areas) is a very good investment because you borrow at low rates and the average appreciation of the home is somewhere above the rate at which you borrow. So you get the full multiplier effect of the leverage. However, when things turn against you, the reverse is true. Use $110k home as an example. If you put $10k down and borrow $100k leaving all other costs out of it, you have $10k invested and $100k borrowed, if your interest rate is fixed at 5% and the house appreciates 10% in value then your original $10k investment returned 60%. The house is now worth $121k and you paid out $5k in interest so the net $6k on your original $10k is 60%. Let's ignore the tax benefit, property taxes and transaction costs for this illustration. 60% is a very good return, I think everyone will agree. Now what happens if the market goes the other way? Down 10%, now you have a house worth $99k, you owe $99k (probably more). Your original $10k investment is gone or you just lost 100% of the initial investment. In general, if you tell somebody that they may lose 100% of their initial investment and maybe more, they will run the other direction, but buying a home is different, because you plan on living there for a long time, which is where time horizon comes in. So the point of this drawn out explanation is to demonstrate the fact that if you are going to market time, you may want to do it with the asset that stands to lose you the most money - your house! Obviously this is just an illustration to make the time horizon point as it doesn't make sense because you need somewhere to live and all the work finding a new place and selling your old one pale in comparison to hitting send on your etrade account, but the logic is sound, time horizon is the key, you don't worry about it with a house because you have a long time horizon. I'm trying to hammer home the point that it makes about as much sense to time the real estate market as it does to time your 401k investments. Stay invested and rebalance regularly, this is the best strategy you can employ, in my opinion. Rebalancing means that you reduce investments that have outperformed the portfolio (and thus have become a greater weighting) and increase those that have underperformed. This results in a systematic process of buying low and selling high, which is, in the long run, how you maximize your returns. You simply cannot predict cycles with certainty and the only investment strategy proven to work consistently over the long run to invest with common sense over the long term and to withstand the emotional responses that market will evoke. It is not sustainable to worry about your investments on a daily basis or yearly for that matter. It is downright unhealthy in my opinion.
Friday, January 25, 2008
Crazy 08
Markets are manic depressive, which means the people behind them are as well. Including me, it is so hard keep the human element out of it. Why, for example when I look at certain stocks that have been no better than cash for the 20 years leading up to 2001, but in the last 5 years they have gone vertical? Is it different this time? Does the 20 years of substandard returns for commodity producers mean that we will have 20 years of expansion from here? Is China going to continue to sapp up all the extra resources that the world produces? As a result will basic materials remain strong? Are we in equilibrium? At what point do these pressures begin to squeeze the rest of the world (through inflation) to the point of bringing us back into equilibrium? Oh, wait the markets up today. See what I mean by manic-depressive?
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