Tuesday, September 13, 2016

the great correction? Maybe maybe not!

Yesterday the market was awash with rumors of market collapse; sure the S&P500 was off a bit (not doing too great this morning), but its still above the 20 day moving average -- so not really a correction yet.

The problem is always the same; corrections are brutal, but market rises are slow and gradual -- with occasional retracements -- hence the 20 day moving average, as a sounder barometer of market health.  Sur prices are high with a p/e of 25x the market is very expensive, but then what do you compare it against?  I was reading an article about Mexico's economy; with regards to the economic achievements of the country -- GDP growth is in the range of 2.5%, inflation is at 3% and government spendings are out of control -- in 5 years they have nearly doubled.  However, over the past five years the government has enacted several major reforms (educations, energy and telecommunication).  However, there was a promise of 5% GDP growth.  Therefore the journalists call the current administration a failure!  But where is the context?

[Granted the President's decision to invite Trump and Clinton was strange, there was no upside for Mexico, and when Trump alone showed up (I presume that Clinton made the same assessment), the whole thing turned into a "shitshow" for the ages.]  

What I mean is that context is everything.  In 2012, everyone expected Europe to have meaningful economic growth (didn't happen), we expected China to return to double digit growth (ditto) and for the US to be an economic power house -- when in fact, GDP growth has been around 2%.  Therefore to call GDP growth for Mexico of 2.5% per annum as a failure is a mischaracterisation of what world we live in; In context, if you consider that Mexico is one of the most open economies and therefore is dependent on global GDP growth for its own performance, expectations where for the rest of the world to pull its own weight -- that didn't happen, and hence Mexico's GDP growth target of 5% is unachievable.

Being Grand Poobah market prognosticator for the ages where do I think the markets will go?  Well the pundits have for years (literally since Obama has taken power -- and this is not a figure of speech by the way) preached for the end of the world (in terms of market performance) was nigh!  That clearly didn't happen, most institutional investors have to invest, despite the view that the economy could be on the verge of a massive correction.  In fact, if you had followed most pundits and stayed in gold or other precious metals, at best you would be even, at worse down over 8 years.  If like all institutional investors you were forced to allocate to stocks and bonds -- then your returns have been nothing short of spectacular.  On February 20th, 2009, the S&P 500 stood at 700, it stands at 2,132 today for a 276% return over 7 years excluding dividends -- not too bad!  

So back to my initial point.  Question is are the market over leveraged, do we have the crazy ingredients of 2008 in place?  Housing prices are rising, but there are no longer any liar's loans or crazy complicated CDL/CLOs -- there is still securitization, but most products are vanilla -- investors remember the last 8 years rather well.  There is no doubt that quantitative easing has created a mass of money, most of it invested in the market, there are a lot of junk bonds out there, and these have been used to buyback stocks -- so that the quantity of stocks available has shrunk -- and new listing requirements (plus the expense of keeping a company on the main bord) is less and less attractive -- moreover the scrutiny can become a problem in its own right.  So there is fewer stocks available -- and new companies are reluctant to list.  That creates some pressures on prices.

Finally, there is the question were will all the money go, with the invest in bonds with negative returns?  The fundamental problem is that there are few attractive options outside of stocks (and bonds) that provide the liquidity and benchmark pricing favourer by investors.  Could there be a correction?  Certainly, in fact the market is well over due for a 10% to 20% correction -- It has been nearly 8 years since a real massive correction; proof again that democratic administrations are good for the investors!

Personally as the Grand Poobah I have zero idea where the markets will go -- they are expensive but what else is there, corporate bonds that pay nothing sovereign bonds that pay less than nothing? Statistically the US market is well overdue for a correction, but that has been true for some time now (maybe we are in the New Normal after all).  When asked I always have the same reply as to how to invest:

  • Understand what you are buying 
  • You are buying people not assets -- understand that
  • Understand the limits of what you understand/know
  • Have a return target for all your investments 
  • If it looks too good to be true, it probably is
  • No one has a cristal ball and can tell you where the markets are (if they did, they would not tell you)
  • Do your homework and be diligent in admitting (and correcting) your errors
  • Technology can screw your investment theory
These 8 points are all I ever say.  When I asked people what they invest in, they always tell me their good investments (could be talent, could be luck -- and its usually mostly luck) and very rarely their mistakes.  My point is that investing requires work, diligence and luck (my guess is 50% of the latter), most investors don't have access to good research (its very very rare) and when they read they read static and not dynamic.

Good luck






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