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A View From Here December 2016

December 1, 2016 • Print This Article

Angry Apocalypse

Those who have a hard time believing they should be invested in equities maintain that the markets are on the verge of collapse. Comments like "they're in a bubble", and "I could wind up losing every penny" are assertions that are possible, but most likely false in the real world. What makes the current market environment unique is that the view from 2008-2009 is so fresh in the collective mind that fear of the apocalypse is actually arguable and nobody wants to go through a half-off sale again. I believe that this fear is so baked into most valuations that markets have been climbing a "wall of worry" to all-time highs. So, go ahead, live in the fear of the apocalypse, but know that's the stuff which makes markets move higher and those who ignore it get angrier.

One of the great investors, Seth Klarman said; "Once you adopt a value-investment strategy, any other investment behavior starts to seem like gambling." While that is how I feel about investing, I am well aware that others tempt fortune believing other precepts that might be successful. However, some get trapped in the intellectually satisfying dark side of the economy and drift into the arena of how bad things are going to be. Throughout my career, I've had many warn me of the pending apocalypse and insist on owning gold while they laugh at us lambs off to be slaughtered. I even got a call from two of them in 2009 to give me the ole, "I told ya so." But I've never met a wealthy pessimist. Maybe they exist, it's just that I've never met any of them. In fact most of them turn out to be pretty lousy investors because they lack imagination. Many choose to invest in gold related investments which is believed to be the only thing of value once paper currency disappears in a financial meltdown. It's pretty archaic, but ultimately the genesis of that view.

In practice, I have found that they see the financial markets as a house of cards, so they invest with a shorter-term mindset. That's hard to do and gets closer to gambling. It's as if they are running into the house while it's on fire and trying to take things out before it collapses. This includes shorter-term investments and, in my experience, doesn't lead to anything good. Whether we like it or not, it is all about returns so it's ok to have any view, but ultimately it is about the bottom line. In my experience, the pessimists are pretty lousy investors...not to mention angry! That's usually because markets move forward a lot more of the time than they go down.

But it's an attractive place to go...especially when it touches that place in the conflict theory of your gut and I think we all go there from time to time. There is nothing to stop every publically traded equity from going to $0 or an event permanently eradicating the future earning potential of every company in the world, by some divine law or a meteor, wiping out every human on this planet. There really isn't much sense in paying even a penny for an ownership stake in any corporation in that scenario and unlikely as such events may seem, the potential for utter catastrophe plays an important role in modern financial theory. This occurs on both a macro (economies) and, where we usually find value, on the micro level (specific industries and companies).

Academics have been puzzled as to why stocks have done so well, compared to bonds, with stocks presumably returning 8% historically when the safest of investments, such as short-term treasury bills, have returned 3%. Why, they wonder, has the stock market returned over twice the compounded returns and, if humans (or financial markets) are basically rational, then who are these saps buying Treasury bonds? I suspect that the large part of their answer is the equity premium exists to compensate investors for disasters that have not occurred. Just because the worst didn't happen does not mean the worst could not have possibly happened, and objectively high rates of return may simply be viewed as compensation for bearing the extra risk or fare disasters.

Our performance in recent months will bear witness to this possibility. Accounts reached all-time highs up to June 2015, and then retreated from July through to the end of February despite continued commitment and augmentation in our investment holdings. From March through to the end of September, investment accounts increased at a fairly dramatic pace taking us again to all-time high valuations. However, October saw an unusually large retreat as the valuations weakened from what we hope is an interim peak. This prompted many questions from clients as to why there had been such a dramatic reduction in the value of the accounts from one month to the other. The answer lies in the fact that we are invested in concentrated portfolio of companies and their valuations fluctuate all the time. The safest of investments, - Treasury bills yielding less than 1% would not. The accounts would have been forever stable, but witness anemic growth. To compensate for the higher rate of return we wish to achieve, we have to understand and make friends with the volatility associated with building wealth.

In the end, I believe that pessimism is luxury that few can afford, and our future is worth more.

Thanks for taking a look,

And as always...
All good things,

Adam Hennick

Filed under: Uncategorized

The opinions, estimates and projections contained herein are those of the author as of the date hereof and are subject to change without notice and may not reflect those of Mackie Research Capital Corporation ("MRCC"). The information and opinions contained herein have been compiled and derived from sources believed to be reliable, but no representation or warranty, expressed or implied, is made as to their accuracy or completeness. Neither the author nor MRCC accepts liability whatsoever for any loss arising from any use of this report or its contents. Information may be available to MRCC which is not reflected herein. This report is not to be construed as an offer to sell or a solicitation for an offer to buy any securities. Member-Canadian Investor Protection Fund / member-fonds canadien de protection des ├ępargnants.

Mackie Research Capital Corporation (MRCC) makes no representations whatsoever about any other website which you may access through this one. When you access a non-MRCC website please understand that it is independent from MRCC and that MRCC has no control over the content on that website. The content, accuracy, opinions expressed, and other links provided by these resources are not investigated, verified, monitored, or endorsed by MRCC.

 

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