Part One: Remove “Long-Term” from Your Lexicon
With the notable exception of so many fine FS contributors, most “investment professionals” are merely salespeople gathering assets.
I mention this because salespeople attempt to guide investors along a path of reason. There are a series of platitudes or postulates that are seemingly infallible or which appear to represent unassailable logic:
- You have to invest for the long term
- It’s not “timing the market,” it’s time “in the market”
- Over time, stocks outperform bonds
- If you’re diversified, you will be protected
And while so many of these and other “truths” have served loyal investors and advisors alike, they assume that the fundamental nature of investing is unchanged. This is where today’s investor must assess some new realities:
- “We have had bubble economies for the last fifteen years...first the NASDAQ bubble, then the housing bubble, then we the commodities bubble in 2008, then we had the emerging markets bubble and so forth…and in a bubble, everyone will be right and wrong at some point”
–Marc Faber, August 2, 2012
- “If you hear a ‘prominent’ economist using the word 'equilibrium,' or 'normal distribution,' do not argue with him; just ignore him, or try to put a rat down his shirt.”
―Nassim Nicholas Taleb, The Black Swan: The impact of the highly improbable
- “What are the odds that people will make smart decisions about money if they don't need to make smart decisions—if they can get rich making dumb decisions? The incentives on Wall Street were all wrong; they're still all wrong.”
--Michael Lewis, The Big Short: Inside the Doomsday Machine
While there is comfort in tradition and while investors and advisors feel conviction in applying accepted bits of market wisdom, the time has come to acknowledge that a new set of investment paradigms must be applied to a new set of market conditions. The first new paradigm is to remove the phrase “long-term” from your investment lexicon.
This market will be characterized by fits of reflation that will drive pockets of inflation or mini-manias, followed by the withdrawal of stimuli and periods of deflation and crashing commodities. To build a portfolio against a ten-, fifteen-, or twenty-year retirement horizon is absurd; it’s a default response to uncertainty and it amounts to fatalism. Most investors today aren’t aware that credit contractions usually lead to decades of falling asset prices. Japan is still down 75% after twenty years, and the US stock market (Dow Industrials) didn’t regain the ’29 highs until 1954.
The most successful investors will preserve capital and purchasing power by having flexibility and some trading acumen or access to it through a competent professional. This means that investors might have to have positive exposure to stocks and real assets (and perhaps to rising interest rates) while the trend is reflationary, and either cash or negative exposure to the above classes when the stimuli are withdrawn.
Because of the possibility that another “crash” would be incapable of being reflated, the notion that one would merely “ride out” the cycles in a “balanced” portfolio must be dismissed.
If your reaction to this prognosis is that it would be too hard to time these cycles, then you have to be willing to go to cash and suffer a loss of purchasing power until prices crash. That could take real discipline and patience: the last battle we fight to save our financial system will likely be the fiercest.
