Archive for September, 2008

Age of turbulence

Friday, September 19th, 2008

I wouldn’t classify the last twenty years as an age of turbulence. I would reserve such a description for a world with persistent pandemics. In terms of the investment markets, if Mr. Greenspan believes in such a description for the market environment then I don’t see why the average non-professional investor should risk his capital in a market environment that is unfavorable to the way the average investor places his or her bet – invests. What you’ll learn from the book is that Mr. Greenspan believed paying down the national debt was the top priority when the government had a surplus, but he was outfoxed politically by the Bush Jr. team. The other thing you’ll learn related to the recent economic climate is that Mr. Greenspan believes that economic conditions had built up to a point, historically, where if the market hadn’t been susceptible to subprime default, it would have experienced another crisis of similar magnitude. Regarding the future of the U.S. stock market, let’s review how the market is composed of value – perception and intellectual property. The DJIA was at 3,200 in 1993 – Greenspan’s comments regarding irrational exuberance were made in 1996 as the DJIA reached 6,500. So, in Greenspan’s view, even when times were good they weren’t that good! If I consider the outlook of the stock market from this point I would review from the book: 

The President’s Council of Economic Advisors in early 2006 cited output by industries “Highly dependent on patent… and copyright protection,” such as pharmaceuticals, information technology, software, and communications, as according for almost a fifth of U.S. economic activity in 2003. The council also estimated that a third of market value of publicly traded U.S. corporations in September 2005 ($15 trillion) was attributed to intellectual property; of that third, software and other copyright-protected material represented nearly two-fifths, patents a third, and trade secrets the remainder. It is almost certainly the case that intellectual property’s share of stock-market value is much larger than its share of economic activity. Industries with disproportionately large shares of intellectual property are also the most rapid growing industries in the U.S. economy. 

Most of this value built up cannot be identified in a tangible form – it exists in the minds of consumers, my belief is that as emerging economies learn to play the brand management game as well as the U.S. has, a shift will begin to take place, and values could evaporate in the U.S. stock market as foreign companies become more adept at serving their own consumer markets. As other nations learn the art of compelling storytelling, and manufacture their own kind of Hollywood, they will begin to create and own their own significant intellectual property that serves their markets better. So while there may be great consternation regarding the economic climate due to the subprime crisis, what has changed – investors in the 1920s gambled on the stock market on margin and investors/institutions over the past several years gambled on securitized-subprime mortgages. 

Mr. Greenspan has stated: The fundamental problem had been the underpricing of risk worldwide, an anomaly that built slowly to near-historic levels over the preceding few years. Equity premiums-the added returns that investors expect on stocks over the yields of “risk-free” investments like U.S. treasuries-had also contracted significantly. In their quest for slightly greater returns, investors had come to accept very much greater risk. 

I would describe it as, even if investors weren’t reaching for a little extra return in unfavorable market conditions (post stock market bubble), the risk the small stock market investor faces is that he hopes for great wealth to be produced from his small sum, and it is almost as difficult to achieve this as it is for him to win the lottery.

Wealth, war & wisdom

Friday, September 12th, 2008

The proponents of long-term stock investing ignore the concept of stability; market averages don’t take into account the dire consequences of war. Most equity markets around the world have been interrupted for multi-year periods by war. The author points to the fact that the equity market in Germany peaked before the German army ever lost a battle, and market bottoms in the US and Britain happened significantly before pivotal moments in the war benefited the Allies, and attempts to make the case that the collective wisdom of the crowd of stock market investors prevailed before the outcome of the war unfolded. 

Wisdom of the Crowds: it is the collective judgment of crowds and their instincts that we should be respectful of. 

The Crowd: A study of the popular mind – “Crowds can never accomplish acts demanding a high degree of intelligence and they are always inferior to the isolated individual.” 

Wealth, War & Wisdom offers several points: When asked or required to make judgments independently and in a rational way, the record of crowds is impressive. Strategists and economists often in the preamble to their reports boast that their view is contrary to the consensus as though that supposition alone is more important than all their analysis. It is a truism that human beings are reactive imitators and are subject to emotional extremes of euphoria and despair. Whether or not you agree with the book’s assertion that collectively the investor crowd often has superb intuitions about long-term events and that these judgments should be respected and followed the book still has enough to offer to make it an interesting read. I say, it’s all a gamble on the part of the investor; when the outlook is dire, equity prices are greatly reduced, and if you operate under the belief that the world and your way of life is not coming to an end you’ll have bought at extremely favorable prices. And if the world ends, or some type of planetary calamity overtakes life as we know it, your investments won’t matter, you’ll have greater problems to address.

The wisdom of the Taoists

Wednesday, September 10th, 2008

Act by means of non-action. Accomplish by not undertaking. Taste while a thing is tasteless. Consider small things great and the few as though they were many. The most difficult tasks in the world should be performed while they are still easy. The greatest projects should be dealt with while they are still small. On this principle the sage never tackles things when they have become great, and so he achieves greatness. Many difficulties are encountered when men treat hard things as though they were easy. Therefore the sage, by treating easy things as though they were difficult, ends by finding nothing difficult. 

*** 

Everyone in the world says that my Way is great but seems to be impracticable. It is just because it is great that it seems impracticable. If it were practicable it would long ago have become insignificant. 

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Which lies closest, fame or self? Which counts for most, self or goods? Which is worse, gaining or losing? Therefore, the more things are cherished, the greater the trouble. The more things are hoarded the heavier the loss. He who is contented will not suffer humiliation. He who stays put will not be in danger. He will be able to remain for a long time.

Winning with the market

Saturday, September 6th, 2008

The flaw is thinking that the market builds great wealth… it doesn’t, only having large amounts of the right stocks produces wealth… but that can be said about anything moving in your favor, including risky bets. After all, placing $50,000 in roulette on an even money bet and winning five times in a row while leaving your entire stake at risk will produce $1.6 million lying on the table. If you kept $50,000 in reserve after the first spin, so that even if you lost it wasn’t any of your original risk capital you’d have $800,000 on the table at the fifth spin. 

The stock market is a form of gambling; it’s just that it offers you greater protection from losing your money all at once, while offering you extremely high returns if you pick the right stock and are able to hold it while it goes up incredibly far. In traditional gambling you don’t have the luxury of holding onto your losers to hope that they come back… but in stocks and commodities trading you can fool yourself into still believing you have an investment. 

If most of your investments will be made in U.S. financial markets because you consider the U.S. stock market the most efficient in the world because it is huge, highly liquid, well regulated, and thoroughly studied please consider the following: It will be almost impossible for the average investor to know something about the value of a particular stock that someone else hasn’t already discovered and acted upon. Without the ability to discover and act on quality information or other essential knowledge you are gambling and will almost always be too far removed from guiding your investment to great wealth. 

So perhaps the best answer for the average investor is to focus on his or her finances rather than on controlling his or her investments. There are risks in any approach to investing; sometimes the greatest thing we can embrace is luck.

The transformation of energy

Friday, September 5th, 2008

Some people use charts to guide their investment decisions. But where are the rich chartists? Some believe in charts or the possibility of charts because what we study influences us and interacts with our intellect and shapes our thoughts and personality. We then transform this view into ideas and actions according to our own nature and particular needs. Charts may illustrate some excess of greed and fear, some transformation of energy, but they cannot, in and of themselves put money in your pocket. Charts are the collective conscious of yesterday, the point being, the most important factor for profit is not found in charts, it appears in the question: What will drive prices today?

Thrive during Wall Street lean times

Thursday, September 4th, 2008

The way to thrive is to understand what will push a company’s stock price significantly up or down. A great company in which the stock price does not advance aggressively is not a great investment. There must be something compelling to drive prices… and you cannot get distracted from that necessity. Income must be generated from stocks that fail to advance, use options where appropriate, and dig deep to find real information that will impact the business. In Best Life magazine, May 2008, there was an article titled Bear Country about a fund manager that lives on a profitable 108-acre farm, which seems to be the most interesting thing about him from the article because his advice for thriving in a bear market was:

  1. Study, don’t trade
  2. The one constant in the market is change
  3. Follow scandal
  4. Look for cash
  5. Buy franchises
  6. Sustainable growth trumps fast growth
  7. A dull company can be an exciting stock
  8. Beware the torpedo stock
  9. Be greedy when others are fearful
  10. Know the P/E ratio

Ultimately, not much of this matters; he admits his fund lags behind in strong markets but said his fund should do better in a down market. His fund doesn’t seem to have any experience with stocks that go up far and fast… the powerful winners. He said he spends 10 to 12 hours a day reading newspapers, company reports, academic studies, and even the Progressive Farmer to isolate companies with strong franchises, consistent earnings growth, and an abundance of cash. There isn’t enough good information to fill up 10 or 12 hours in a day. No one is going to worship you for playing the game cautiously… in competitions we value those that risk and win big. You cannot find that same kind of glory in being overly cautious as way to hold your performance back; there is no substitute for action.