Out The Window - September 30, 2008
With the turmoil in the political and economic arenas over the past few days, it's an interesting view of the reactions from all the different stakeholders.
One area of interest to me is the behavior of man and the influence of social perspectives upon any particular individual. More specifically, I work with and surround myself with people that share a common desire; to be a long term investor interested in securing a bright financial future.
We all say that we are long term investors (until we aren't). Now is a good example of that in the markets. There are many who are selling, just because others are selling. Their decisions are based on emotion and social influence. Their long term plan, their long term strategy, their inherent beliefs...are...well...right out the window. Fear once again rules the world.
To quote the most successful investor of all time, Warren Buffett, who when asked the "secret to his success" replied with a wry smile, "It's easy, I am fearful when others are greedy and greedy when others are fearful."
Buffett is quite the contrarian. One of the few that is capable of tuning out noise, emotion, panic, and social influence and makes decisions on analytics, fundamentals, logic and an eye for profit opportunity. He's a master.
But while we all might not have the nerves of steel, or the brainpower or the desire to purge through financial reports everyday of our lives, there is an alternative. The alternative is to apply the time tested and proven methods of investing success. For a quick recap of things that you've heard a thousand times before, here they are;
- Use asset allocation. Invest in a variety asset classes. Examples would include stocks, bonds, real estate, natural resources, etc.
- Always diversify. Have you ever heard the saying, "Don't put all of your eggs in one basket?" Of course you have. When creating a portfolio, use diversification. Invest in domestic U.S. stocks and international stocks. Invest in growth stocks and value stocks. Invest in large cap, mid cap and small cap stocks. Also take note of sector weightings. Being fully invested in energy or technology is a disaster waiting to happen. So ensure that you have exposure to a broad range of economic sectors such as healthcare, manufacturing, energy, technology, utilities, retail, consumer durables.
- Invest for the long term. Oh yeah, one more time...invest for the long term.
- But low and sell high. I can't tell you how many people violate this common rule. When markets are down, they sell. When markets are rising fast and overpriced, they buy to get in on the "easy money." Regardless of how many people have tried, buying high and selling low just doesn't seem to work for some reason???
- Build a portfolio that is designed for long term prudent accumulation of wealth and preservation of capital. Don't take unnecessary risk. Large firms (mainly investment banks) violate this rule to the detriment of the entire company and all of the stakeholders.
Finally, one of the good things about the equity markets is the ability to turn to instant liquidity. If you no longer want an exchange traded security (like a stock), you have the opportunity to sell it at market prices (which are dictated by supply and demand). But as we see, market prices can often be strongly influenced by emotions such as fear or greed as opposed to intrinsic value. We often forget that a good strategy during emotional markets is to just sit and wait it out. Nobody says that we have to accept the offering price of that day, hour or minute.
Imagine for a moment that you owned a 2008 Honda Accord that was worth $22,000 and somebody came up to you and offered $5,000 bucks. Without hesitation you would tell them to take a hike and wouldn't think twice. The same would hold true if you owned a $400,000 house and someone offered you $250,000. You wouldn't sell unless you were desperate (which does happen from time to time). But that's the point. From time to time, others act irrationally, with emotion, they may actually be cash strapped, or desperate and make rather bad short term decisions. If you are an opportunist, a capitalist, a savvy investor you welcome those opportunities.
If you can keep your wits and stick to logic, you might just be able to tune out the noise, put all the fear in the drawer and be greedy when others are fearful. In a few years and on the flip flop of another cycle, it will be time to be fearful when all others are greedy.
Work the plan.

