Looking Ahead For The Investment Markets
The economic turmoil that now embraces the planet of which we hear is more of a U.S. problem should not surprise anyone. You are witnessing the consequences of reckless indebtedness. The subprime mess was just the tip of the iceberg. The leaders in government were very indifferent as to “subprime” being a problem at all.
A little history….Bill Clinton in 1997 signed legislation to allow (demand) that banks lend money to “less fortunate people” (those who could not afford to pay for a home) in order for everyone to enjoy the American Dream. Alan Greenspan, head of the Federal Reserve at that time, accommodated this request by lowering interest rates. These low rates led to many years of “irrational exuberance” and the stock market finally died in the 2000 tech wreck, 911 made the economy stop and we had a recession. Greenspan lowered rates again, but this time the bubble was not in stocks, rather, in real estate. Fannie Mae and Freddie Mac were given the green light by Congress to accept all levels of credit loans. Wall Street wanted into the act and “securitized” these loans and sold them as “good” loan packages.
In 2001 President Bush presented to Congress his concerns over this sub-prime mortgage program with Freddie and Fannie but it was brushed aside and no investigation or legislation was enacted. In 2005, 2006, 2007 and early 2008 Chris Dodd, head of the Senate Finance Committee and Barney Frank, head of the House Committee on Banking, both fought against adding any more regulation to Fannie and Freddie. Both individuals stood firm and said boldly that these two agencies were strong, did not need any more regulation or oversight. The rest is history.
Now there has been a pattern of excessive aggregate indebtedness for quite some time at the corporate, government and household level, so, everyone is to blame. At the same time the tax code, in this country, encourages borrowing and discourages saving and investing. It seems everyone has a poor attitude of paying back debt. As a result when things begin to go sour on some debt, starting with subprime, the cascading effect was beyond what anyone ever predicted. Very few expected anything this severe, yet, the seeds were sown more than a decade ago (similar to when you watch friends over eat or over drink for a long time…sooner or later they pay the piper for the over indulgent behavior)
Looking ahead for you….unfortunately retail investors and institutional investors make their investments as if they are driving down the highway but looking through the rear view mirror. They all favor what has worked in the past. But, there is a powerful pattern of mean-reversion in the markets (that which is hot today is cold tomorrow and vice versa).
So the idea of looking at markets today and asking… what has been hit really hard, and as a consequence, may be priced at attractive levels. Well, this is contrary thinking to most people, including sophisticated investors. The temptation to buy what has done well recently and sell what has done poorly is the single greatest pitfall in investing and the main reason why a disciplined approach to asset allocation works very well.
With this in mind…..be careful of Government Bonds. These bonds have done very well recently, but, after a short deflationary cycle, which we are in, we will be hit with a huge inflationary cycle. This will lead to higher interest rates which translates into a loss in bond values.
Keep your eyes open to opportunities in emerging markets, gold, commodities, U.S. stocks and REITS. I have not seen deals and valuations like this since 1973-1974 when the DOW was at 570.
Remember you are looking at a 3-5 year investment window timeframe and not a bump up in prices tomorrow. Take advantage of this fire sale in the market now for a reward in 5 years. Or, will you drive down the highway in 5 years from now looking back through the rear view mirror after these items have gone up?! Then, like the masses do…will you buy when prices have gone up? You know the formula for the poor.. “buying when prices are high…and then selling when they are low.”
No, the correct formula is the opposite for the wealthy.