Rob Coyte's Blog
Recent Blogs
- Australian and Overseas Shares Cheap 06-Sep-2010
- Open up the Investment Potential of your Self Managed Super Fund (SMSF) 30-Aug-2010
- Missing The Boat in Newcastle CBD 24-Aug-2010
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What Do We Do Now?
Investing is a battle of emotions, mainly fear and greed. To be a successful investor you need to control these emotions as well as understand the basic principles of what you are investing in. You are buying assets, be they businesses that generate profits or commercial property that earns rent for years to come. It’s important not to lose sight of these basics when making financial decisions. The share market is not a gauge of how these underlying assets are performing just simply a gauge of whether you can buy or sell these assets for a good price or stupid price depending on what side of the transaction you are on. For some reason when everyone is selling on the share market and things are cheap then people want to sell. I am pretty sure this is the opposite concept to the boxing day shopping sales where everyone lines up for a bargain why is the share market different?
We have recently been fielding queries from clients saying they have heard terms like 'double dip recessions' and that the world economy is not going as well as initially thought. They have therefore been asking should they sell up. Well quite simply, the share markets have fallen since mid-April, the S&P 500 has fallen 16%, so all this information is already factored into the share price. Therefore, to sell to avoid this situation would be pointless. We need to focus on the bigger picture and that is to own assets over the next 20-30 years that will generate growing income streams for us over that time be it rising profits or rent (refer to diagram below). Importantly, the last few years have pretty much been a couple of times in a hundred year event given the magnitude of the market falls. The S&P 500 index which is a broad index for US shares fell some 56% from its highest point to its lowest point over a couple of years and the US economy lost 8.4 million jobs over this period. Also given the nature of the credit crisis or GFC a lot of income from investments was effected as companies sought to hang on to cash rather than pay it out to investors. For most assets this situation has now passed and they will return to paying “normal” levels of income to their investors the same way as it did the early 90’s in the diagram below. For successful investors the principles remain the same we need to keep eye on bigger picture and ride this out. Alternatively how can we benefit from the situation?
Markets by their nature react to every bit of information and do what I term “look busy”. They are taking actions which are purely reacting to short term information which could be reversed the very next day. I witness this every day as I look at my Bloomberg and digest the information released and the market movements that are associated with that information. It is absurd to say the least. One day investors are concerned about European debt problems, the next they are not, this could go on for weeks at a time. The fact of the matter is that Stoxx Europe 600 Index is trading at 11 times earnings which is well below the average. This indicates that these stocks are cheap when you compare them to the S&P 500 index which measures US stocks is trading at 15 times earnings. If Europe were to revert to the average of 15 times earnings, which it will sooner or later, this will result in a share price rally of those stocks of 35% cetris paribus. Why waste your time worrying about 1% here or 2% there, as it is impossible to know what path it will take, however you can say that it will revert to average eventually. Imagine standing on the top of a rocky granite mountain with a bucket of water and tipping it out. The only thing you know is that it will eventually get to the bottom if you try and predict the path it will take along the way you will send yourself crazy. So if it hits a sharp edge and the water flows to the right and you then extrapolate that and say well it will keep going right all the way down so it will go this way just to then hit another jagged edge and then be redirected left. Only concern yourself with things you actually know. For example people need to buy groceries, gamble, drink alcohol or basically enjoy themselves, have water and electricity, planes need to land at airports, people get sick and go to hospital, governments and businesses will pay rents for their buildings for their staff and their staff will get there by driving a car and paying tolls on toll roads.
This recovery has a while to go and it will take some time but lets not lose sight on what we need to be doing in regards to the big picture. We have done the hard yards, let’s not lose our nerve at this point. The S&P 500 index needs to rally 53% to get back to its 2007 high.
Next week's blog I will look at some specific examples of how the share market can at times be so far off with how it values businesses both on the high and low side. I will also look at a number of present situations and you can judge for yourself whether or not this makes any sense.
We have recently been fielding queries from clients saying they have heard terms like 'double dip recessions' and that the world economy is not going as well as initially thought. They have therefore been asking should they sell up. Well quite simply, the share markets have fallen since mid-April, the S&P 500 has fallen 16%, so all this information is already factored into the share price. Therefore, to sell to avoid this situation would be pointless. We need to focus on the bigger picture and that is to own assets over the next 20-30 years that will generate growing income streams for us over that time be it rising profits or rent (refer to diagram below). Importantly, the last few years have pretty much been a couple of times in a hundred year event given the magnitude of the market falls. The S&P 500 index which is a broad index for US shares fell some 56% from its highest point to its lowest point over a couple of years and the US economy lost 8.4 million jobs over this period. Also given the nature of the credit crisis or GFC a lot of income from investments was effected as companies sought to hang on to cash rather than pay it out to investors. For most assets this situation has now passed and they will return to paying “normal” levels of income to their investors the same way as it did the early 90’s in the diagram below. For successful investors the principles remain the same we need to keep eye on bigger picture and ride this out. Alternatively how can we benefit from the situation?
Markets by their nature react to every bit of information and do what I term “look busy”. They are taking actions which are purely reacting to short term information which could be reversed the very next day. I witness this every day as I look at my Bloomberg and digest the information released and the market movements that are associated with that information. It is absurd to say the least. One day investors are concerned about European debt problems, the next they are not, this could go on for weeks at a time. The fact of the matter is that Stoxx Europe 600 Index is trading at 11 times earnings which is well below the average. This indicates that these stocks are cheap when you compare them to the S&P 500 index which measures US stocks is trading at 15 times earnings. If Europe were to revert to the average of 15 times earnings, which it will sooner or later, this will result in a share price rally of those stocks of 35% cetris paribus. Why waste your time worrying about 1% here or 2% there, as it is impossible to know what path it will take, however you can say that it will revert to average eventually. Imagine standing on the top of a rocky granite mountain with a bucket of water and tipping it out. The only thing you know is that it will eventually get to the bottom if you try and predict the path it will take along the way you will send yourself crazy. So if it hits a sharp edge and the water flows to the right and you then extrapolate that and say well it will keep going right all the way down so it will go this way just to then hit another jagged edge and then be redirected left. Only concern yourself with things you actually know. For example people need to buy groceries, gamble, drink alcohol or basically enjoy themselves, have water and electricity, planes need to land at airports, people get sick and go to hospital, governments and businesses will pay rents for their buildings for their staff and their staff will get there by driving a car and paying tolls on toll roads.
This recovery has a while to go and it will take some time but lets not lose sight on what we need to be doing in regards to the big picture. We have done the hard yards, let’s not lose our nerve at this point. The S&P 500 index needs to rally 53% to get back to its 2007 high.
Next week's blog I will look at some specific examples of how the share market can at times be so far off with how it values businesses both on the high and low side. I will also look at a number of present situations and you can judge for yourself whether or not this makes any sense.
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