Author Archives: Admin

Risk Happens Fast

As last night’s 8.2 magnitude earthquake in Mexico illustrates, risk happens fast. We are now conditioned to three beliefs: things will continue as they are today indefinitely, the Federal Reserve will always save us, and we’ll be able to dodge out of the way.

Nine years ago today, that wasn’t the case. One of the largest investment banks, Lehman Brothers, was allowed to go bankrupt and default on its bonds. The stock market fell 25% in one month. The decision to let Lehman Brothers sink beneath the waves was a political choice, based on traditional attitudes towards free capital markets, and one lesson we all learned was that some corporations are “too big to fail.” The global political aftermath of the Lehman Brothers debacle was so painful that it’s doubtful it would happen again.

But the choice to rescue any and all carries risks as well, doesn’t it? We risk rescuing businesses which OUGHT TO FAIL and we reduce the efficiency and effectiveness of the global economy as a result.

It’s worth remembering also that almost nobody was able to dodge out of the way of the Lehman default. Our asset allocations going into the chaos determined our overall performance. As Mark Hulbert and Doug Kass have written, risk happens fast, too fast to dodge out of the way. Diversification has a price, but it also has a benefit.

Read more here.

We send our prayers to those damaged by the earthquake and by Hurricanes Harvey and Irma. It’s a busy world out there.

The stock markets of the world are apparently missile-proof.

Seriously. The North Koreans just shot missiles over Japan and global stock markets shrugged it off.

Yet again we learn why we should stay at least partially invested. In the past few decades, central banks have changed the way investors perceive risk. Most people think now that central banks can rescue us from ANYTHING!

As Hurricane Harvey (yet another non-event in the stock markets) rips its way through Texas and Louisiana, it’s worth pondering what is happening in Houston. Houston is a mega-city. The mayor has said that it’s simply too big to evacuate in the event of a natural disaster. Thus he has advocated sheltering in place…where thousands are flooding. Let’s consider this a lesson in the inevitable imperfection of governments, and support for the concept of financial diversification.

Stay safe.

Read more here.

I’m just going to put this here.

At the moment I’m not making any changes to our portfolios due to this information. As I’ve mentioned before, by classic standards, I’ve been advocating relatively conservative portfolios of mutual funds. And, as I’ve said before, I’ve been mildly wrong for the past three years: the markets have continued to rise despite all our fears. So the balance of proof is now weighted in favor of a continuing bull market, and staying invested anyway is a decent strategy. Nobody really knows what will happen. Staying diversified is a proven tactic. But but but…there’s this. So I’m going to post it for our later review. Happy weekend.

Are Small Stocks Leaving the Party?

The market for small stocks just turned negative for the year. That’s big news, and you aren’t likely to hear it elsewhere because it disrupts the narrative of a rising stock market.

Why is it happening? This article provides more data to suggest stock market overvaluation. In this case, it’s the small stock markets, exemplified by the Russell 2000 Index. What’s more, this downturn is a divergence: the performance of the Russell 2000 Index is now negative for the year whereas the market for large cap stocks is up. Shades of 2000.

However, this mild decline in the small stock arena, combined with the insecurity created by terrorism in Europe, is likely to trigger a Federal Reserve stall of plans to raise interest rates. So a decline is by no means certain. We simply need to remain aware. Since we are diversified and modestly defensive, if a real downturn DOES occur, we’ll be buyers. When that will actually happen is anyone’s guess.

Good thing we’re diversified.

We haven’t (yet) responded to recent market turbulence by altering our portfolios. We’ve simply been maintaining our current very diversified allocations, which aren’t fully invested in the U.S. stock markets. As I wrote in my last posting, long term holding is a very decent tactic. And right now we’re a little bit allocated towards safety. From this position, it’s OK to ride out short term news.

However, this weekend’s blog on “Wolf Street” is interesting. Read it here.

While we watch financial markets surging today, in an apparent relief rally from not being blown up by North Korea over the weekend, it’s also true that earnings in the S&P 500 are not as good as they seem to be. Quote:

“Aggregate earnings per share (EPS) for the S&P 500 companies on a trailing 12-months basis rose for the second quarter in a row. That’s the foundation of the Wall Street hype. But here’s the thing with these EPS: they’re now back where they had been in… May 2014.”

Thanks to the Fed, the S&P 500 has gone up anyway, and the money we’ve made is real. But good thing we’re diversified.

The Ten Year Anniversary of the day the world changed.

Ten years ago today, French mega-bank BNP Paribas announced it couldn’t place a value on its US-created collateralized debt obligations, complex toxic “derivative” investments, and thus was suspending client withdrawals from the funds which held them.

That was the first indication that the most gigantic financial panic since the Great Depression in 1929 was about to unfold.

The world has changed a lot since then. But many of the same structural flaws remain, patched and propped but not repaired by governments or by central bank intervention. Vastly greater debt loads are even more of a potential problem than they were in 2007.

The greatest lesson of the 2007 Financial Panic was that central banks transformed the investment markets by intervening. Perhaps they helped, perhaps they hurt, perhaps in a variety of ways they did both. But there’s no denying that the central banks are now involved in our financial markets in ways that would have been unthinkable before August 9, 2007.

Another key lesson of the 2007 Financial Panic was that many sophisticated investors did just fine, thank you, while others got hammered.

Yet another lesson was that we all muddle by. If you stayed invested through the carnage of that awful event, you have probably done well, despite it all.

Read more here.

Everyone expects to be a winner (and all children will be above average)

I’m reposting this here from the Heisenberg Report. According to this study, essentially everyone thinks the stock markets will finish higher in one year.

Such a high level of optimism is some kind of record.

My guess is that we got here because EVERYONE expects the central banks to intervene forever. Having painted themselves into this particular social expectation corner, it’s going to be interesting to see what the central banks do next.

Way back in the days of free markets, we were taught that extremes of market consensus are danger zones, and that “the consensus is often wrong”. But as I wrote on August 1st, traditional diversification has been proven unnecessary for so many years that investors could be forgiven for it’s just gonna stay like this forever.

My plan is to stay diversified and keep searching for bargains.

It probably isn’t what you think it is.

I’m back from a week in Maui with the family, with sun-browned skin despite the twice-daily application of reef-friendly sun block, and with my head brimming with fascinating ideas.

Such as how Kamehameha, a relatively minor chief, was able to conquer all the islands between the years 1789 and 1810, because of a new technology: the flintlock musket.

And how, after his death, the ali’i…the nobility…of Hawaii sold out their own nation’s resources and financial stability to foreign nationals to enrich themselves.

And how foreign governments, including the United States, were inexorably drawn to take advantage of imperial Hawaii’s weaknesses.

Yet individual families survived and even thrived, despite government.

Now, here I am, sitting at my desk, contemplating that the current state of national and state governance is in fact somewhat normal, in the long term. Kleptocracy by whoever is in power is inevitable. Under the veneer of culture and rationality, we live in a world in which people will exploit weakness and take what they can. The assumption that things are different because we are equipped with cell phones and the Internet may or may not be correct.

As evidence, here’s an interesting article about our health insurance debate.

You and I, like the families of Hawaii, are mice among the elephants. We must continue to create success, health, and wealth in our own relatively small ways despite what the oligarchs may do.

It seems likely that the Trump Presidency will accomplish much less than expected. It seems likely that the major goal of Congress is to enrich itself at the expense of the rest of us. All this will happen despite the political party in power. All the political words which empower and energize us are simply tools to enlist us to their fight, for their benefits.

With this in mind, we need to continue to save, continue to nurture our families, and press onward regardless of all the social and governmental chaos. What happens in Washington or Brussels or Beijing will probably not define our lives. In the long term, people seem to thrive DESPITE government, and not because of it. On we go.

A problem with reality

Is that sometimes it is so irrational. The financial markets are currently radiating “market bubble” and I’m reading a very well written quarterly update by the managers of the Forester Value Fund. It captures all the data which suggests that we are currently at market highs and we are at risk of a coming downturn in both the bond and stock arenas.

But there’s a problem. Forester Value Fund TOTALLY ROCKED our stock market declines in 2000 and 2008. And they also lagged horribly while markets recovered. Why? Probably because they are rational, intelligent, insightful managers who have managed their mutual funds with thoughtful awareness of market indicators. In other words, they’ve done everything courageously, and right. We don’t own the fund now, because we couldn’t lag like that. Instead we’ve used asset allocation mutual funds and international mutual funds to successfully participate at least partially in growing markets.

Yes, Virginia, the financial markets are bat-spam crazy, and many of our politicians are beyond incompetent. But the lower interest rates delivered by central banks have trumped everything else, so markets have continued to rise. By staying diversified and partially invested we’ve accrued a substantial part of the financial markets’ gains. But even as I watch us making good money, I have to shake my head.

Read Forester Value’s superb quarterly update here.

Overvaluation and a Dysfunctional Society

A recent analysis by Goldman Sachs does a rather good job of summarizing the challenges of our current over-valued stock markets. Read it here.

Essentially, domestic stock markets are overvalued, but supported by very low interest rates and a perception that central banks will forever intervene in any downturn. International stock markets are less expensive but subject to some unusual geopolitical risk.

Watching the recent news with President Trump’s new unnecessary squabble and insult-trading with Morning Joe talk show hosts reminds me that U.S. political risk remains large. I’ve never seen a presidency as vulgar, scattered, and puzzling as this, and I doubt you have either. So our executive branch may self-immolate at any time. Or not. We honestly don’t know. It’s also worth reflecting that the recent trend to off-the-charts anger and crudeness in public discourse probably reflects our society’s inner turbulent personality in some way. What does that imply?

It’s entirely possible that overvalued conditions in our stock markets could go on for years, and still possible that the Trump Presidency could get its act together. For us, the bottom line is that stock markets may continue to rise for years, until something external derails upward momentum. For that reason, attempting to dodge out of the way, beyond our current level of diversification, doesn’t seem to add value.

Happy 4th of July! It’s a great time to reflect on why we are all here, and what we want to accomplish.