For those who have read my past blogs, you know by now that I like to explore the road less traveled and have a contrarian streak. My kids also know this. I often tell them, “don’t be a sheep.” When I hear people talk about market outcomes as if they are self-evident, I feel the opposite is about to happen and that the herd should often not be followed.
Driving in on Monday morning, I heard on the radio that a new survey had come out from business economists. According to the report, the overwhelming findings of many top economists point to a tough road ahead for the U.S. economy.
It is true that the global economy has seen better days and that some things might get worse before they get better. Based upon the prognostications of chief economists and market strategists, it seems like many large investment firms are getting more cautious on risk assets. Some are suggesting that clients pull back from equities. I saw an e-mail titled “the coming crash” at the end of last week, and fund flows show that investors are still heavily favoring bonds over equities.
I have some worries about risk assets. I get more worried, however, when I start to see everyone heading one way, especially when the way might be toward bonds or alternative investments that can have high fees. Unlike the fun that I had with the title of this blog, I am not suggesting that clients go out and load up on risk assets such as equities. Keep in mind, though, that a good reason exists for calling equities risk assets. Risk assets are risky. In exchange for risk, however, they often offer good long-term returns. This is especially true when you buy them when other people are concerned, and then have the fortitude to hold them as a long-term investor (notice that I used long-term to end the past two sentences).
To highlight the thoughts of people who think that risk assets are currently a good risk / reward opportunity, below I have added a link to recent piece put out by Richard Bernstein. In addition, I like the following quote, which were the first words he spoke during a speech he made at a conference in Boston last Friday:
“To start, I want everyone to know that I am very bullish. This will be the biggest bull market of my career.”
He is taking the other side, again, which I value. Keep in mind that this is a guy who had the guts to question the bull market in housing and turn bearish when he was the Global Chief Investment Officer of a major Wall Street firm. I say guts because it is hard to run against the herd.
“It is the long term investor who will in practice come in for the most criticism. For it is in the essence of his behavior that he should be eccentric, unconventional and rash in the eyes of average opinion. If he is successful, that will only confirm the general belief in his rashness; and if in the short run he is unsuccessful, which is very likely, he will not receive much mercy.” – John Maynard Keynes
As to my personal thoughts about the power of prognostications of many senior economists, one of my favorite quotes is from the founder of my old firm, Roy Neuberger. People would often ask Roy why he did not employ any economists at Neuberger Berman. He would gruffly reply, “If I hired one I would probably have to pay them and then I might be inclined to listen to them.”
I should say that it is a tribute to Roy’s legacy that Neuberger Berman continues to do well. They deserve the nice Barron’s lead article of a week ago. FYI, like Rich Bernstein, many of the top managers at Neuberger are positive on equities.
So, what do I suggest? Get ready. Yes, I am a broken record on this. Be a long-term investor. Decide on a prudent long-term investment plan (long-term is at least 5 -10 years) that is designed to meet your goals (not the goals of others). Don’t take big bets, ever. Keep it simple (only invest in what you understand and hence feel comfortable staying in for the long-term). And, when strong consensus builds, consider moving the other way. Just do so within reasonable limits (no big bets / prudently contrarian). This way, if the herd is correct (rare occurrence) you will sleep better. If you are a glutton for my thoughts, you can reference my past 10 Rules / Thoughts to Consider blog.
A little equity pull back at this time is fine if it makes you feel more comfortable. It is your plan and your money. Just be mindful of the options for where to put it. You have two main choices, with a possible option for a third.
#1 Cash – Money market / cash instrument funds offer zero return on capital but they do offer return of capital.
#2 Bonds – They currently offer very little return on capital with high interest rate risk. Lower levels of high yield and instruments such as leveraged bank loans offer some opportunities, but be sure you are diversified, understand them and feel comfortable. They are likely to be a little volatile.
Optional #3 – Alternatives / Hedge Funds – Some very talented, non-directional investors exist. The “return of capital” line is a favorite of a very successful one here in Boston. Just keep in mind that fees are high (better be good), transparency is low (better do your due diligence and have a high degree of trust) and liquidity can be low (better be mindful that your money will not be easily or readily accessible).
Personally, I would not be quick to pull back from equities unless I had gone outside the range that I set for equities as a part of my long-term plan. If I did rebalance, I would move into very short-term, cash-like bonds (money market funds) and expect nothing more than a return of capital.
Taking little to no action is not easy. Second guessing yourself can happen (“If I had only…”), especially when you look wrong on any one day, week, month or quarter. We all have action bias and feel better moving, even when we are wrong (remember that Nobel prize for behavioral finance).
As long as I am following my investment plan, I feel more comfortable resisting the urge to make a move. I try to resist even more when the consensus starts to look like a herd of fluffy sheep. Nice fluffy sheep often get sheared.