A long time subscriber sent a note after reading a January 2016 CNBC headline that said “Red alert: A $1 trillion stock bubble ready to pop”. He asked, Does this affect your thinking?
I sent this reader the chart of the MSCI Word Index since 1970 (below) and a lengthy reply.
MSCI Word Index since 1970.
Here is my reply: This is a good question. The answer has little to do with markets, but relates to questions of time, mentality, comfort and life’s purpose instead.
Most investors spend too much time deciding what markets will do, when the focus should be on their emotions and reactions to the market. Emotions usually determine profits and losses, not the markets.
The 45 year chart (above) of the MSCI World Index shows that markets are not the problem. If an investor simply invested in this index and left it alone for the last 45 years they increased their money by more than ten times without any worries, fuss or bother. In addition if they did so with an Index ETF, they lost little in trading costs.
The MSCI World Index captures large and mid cap representation across 23 Developed Market countries. With 1,653 constituents, the index covers approximately 85% of the free float-adjusted market capitalization in each country. You cannot diversify much more than that. Yet an investment into the ETF iShares MSCI World (symbol XWD.TO) is like investing equally into all those shares.
However, we can do better than the world index. An equally weighted portfolio of Top Value country ETFs outperforms the total world ETF.
The difference between a bull market and a bear is time. We know that the world stock markets have been in a bull market since 1970. It can be argued that we are at the end of a seven year bull market. My strategy is based on the belief that we are at the end of a 17 year bear and headed to a 17 year bull market.
I ask Pi subscribers to ask themselves, ‘How do I feel about timing? What is more important to me, getting out of the bear or getting into the bull?’
All investors should ask (and answer) “How do I feel when my investments go up or down?How do I react to how I feel?”
In addition all investing strategies should take the cost of stress and the value in quality of life into account. Here are some thoughts:
How much time does one want to spend fiddling with shares?
Where do we want to find our agony and ecstasy, in share fluctuations or elsewhere?
Do we have better places to spend our time?
Do we feel we really can out think the market?
The Purposeful investing Course (Pi) tracks three types of portfolio that make top value investing easier, safer and more profitable.
The first type of portfolio is the Primary Pifolio. This is the portfolio that Merri and I use. We simply diversify into the good value markets as defined by Keppler Asset Management and leave the timing for the long term. The portfolio may rise or fall but I believe in long term prospects and believe that we will be better off if we leave our portfolio alone and do not try to time the markets.
This strategy stops me from meddling and muddling our investments with wrong decisions. Our tactics ignore the emotions I go through when shares in my portfolio rise and fall. This is good because my nature is to become attached to my investments and let my emotions cloud my logic.
Investing in an equally weighted, diversified, good value portfolio and leaving it alone helps me avoid losses caused by the behavior gap.
This strategy also gives me more time to think about other things such as long term strategy and to spend more time in my business, where I have a much greater chance of making profit. I’ll ride through storms because I believe in the long term growth prospects of this broadly diversified, equally weighted mix good value equities. Plus I avoid a lot of trading costs.
The 2nd Pifolio follows Richard Smith’s Tradestops “Smart Trailing Stop 2.0” system.
Smith, like Keppler is a mathematician whom I trust very much. Instead of using a buy and hold strategy, Smith creates trailing stops based on moving average algorithms. The computer generated calculations recommend when to sell and when to buy back in.
This approach may create higher profits, if the trailing stop discipline is adhered to. I am not sure I have the mentality to sell (as the algorithms suggest) most of my portfolio right now. I agonize over making decisions, so I am often too slow getting in. However, once I make a choice, I am stubborn and am often too slow getting out. This means that following a Trailing Stops trading discipline is emotionally hard for me. My chances of screwing up a good thing by second guessing are high. Instead I use a modified approach and let the Trailing Stop alerts warn me when to hold back on investing more.
The third portfolio we track is composed of specific shares selected by Eric Roseman and Thomas Fischer at ENR Asset Management. ENR uses good value principles for those who feel comfortable with a diversified portfolio of individual shares instead of indices.
When this primer was issued (January 2016) ENR was recommending to their advisory clients: “Buy long-term bonds, Buy reverse-market indexes, Buy option exchanges, Gold bullion, Raise cash reserves.”
ENR had 12 shares in their recommended portfolio at that time including CBOE Holdings, (NASDAQ CBOE), ProShares Short S&P 500 Index, iShares MSCI EAFE Minimum Volatility ETF (NYSE EFAV) Fanuc Corporation (Tokyo 6954). These shares were shown in the ENR Piflio Updates.
Pi’s philosophy is not based on the question “What are markets going to do?”
Pi’s philosophy is based around answers to these questions:
- How do I react to the ups and downs in equity markets?
- What type of investing philosophy am I most comfortable with?
- Which plan am I most likely to stick to?
Support for this thinking comes from a quote from Warren Buffet in the 2013 Berkshire-Hathaway Annual Report:
“Most investors, of course, have not made the study of business prospects a priority in their lives. If wise, they will conclude that they do not know enough about specific businesses to predict their future earning power.
“I have good news for these non-professionals: The typical investor doesn’t need this skill. In aggregate, American business has done wonderfully over time and will continue to do so (though, most assuredly, in unpredictable fits and starts). In the 20th Century, the Dow Jones Industrials index advanced from 66 to 11,497, paying a rising stream of dividends to boot. The 21st Century will witness further gains, almost certain to be substantial. The goal of the non-professional should not be to pick winners – neither he nor his “helpers” can do that – but should rather be to own a cross-section of businesses that in aggregate are bound to do well. A low-cost S&P 500 index fund will achieve this goal.
“That’s the “what” of investing for the non-professional. The “when” is also important. The main danger is that the timid or beginning investor will enter the market at a time of extreme exuberance and then become disillusioned when paper losses occur. (Remember the late Barton Biggs’ observation: “A bull market is like sex. It feels best just before it ends.”) The antidote to that kind of mistiming is for an investor to accumulate shares over a long period and never to sell when the news is bad and stocks are well off their highs. Following those rules, the “know-nothing” investor who both diversifies and keeps his costs minimal is virtually certain to get satisfactory results. Indeed, the unsophisticated investor who is realistic about his shortcomings is likely to obtain better long-term results than the knowledgeable professional who is blind to even a single weakness.
“My money, I should add, is where my mouth is: What I advise here is essentially identical to certain instructions I’ve laid out in my will. One bequest provides that cash will be delivered to a trustee for my wife’s benefit. (I have to use cash for individual bequests, because all of my Berkshire shares will be fully distributed to certain philanthropic organizations over the ten years following the closing of my estate.) My advice to the trustee could not be more simple: Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund. (I suggest Vanguard’s.) I believe the trust’s long-term results from this policy will be superior to those attained by most investors – whether pension funds, institutions or individuals – who employ high-fee managers.”
Pi’s strategy is based on the long term, big picture belief that in the 21st Century business will have strong further gains. There will be more productivity through innovation (more supply) and a growing global population (more demand).
We do not have to depend on what equity markets will do short term. In the long term, share prices will rise (albeit in spurts). Our best individual investing strategies should be centered around our individual beliefs and understanding of ourselves. We each need to have an honest grip of how we individually feel and react to the spurts that equity markets will have. We each need to choose a strategy that suits our personality and one that we can stick with.
Our individual strategy should reflect what we each want from our remaining years.
Personally at 70 I hope to have 30 years left (Mom’s 93 and still going strong so why not?) but whatever time I am graced with, I would like to spend as much of it in enjoyable pursuits. Sitting in front of a monitor, watching and anticipating short term stock market moves and trading stocks is not one of the favored choices for me.
I hope this explanation of Pi’s core beliefs helped clarify the situation for the subscriber reader and helps you understand how Pi can assist you in reducing risk and increasing profits.