Chief Executive Officer
Chief Investment Officer
Dear Clients and Prospective Clients:
As we start the year in the financial markets it appears that there are three distinct approaches being taken by those who normally invest. Since we believe the markets try to do whatever they have to do to frustrate the most people, let’s look at what would frustrate these three camps.
The smallest but most vociferous groups are those who think that this situation is most similar to 1930 through 1933. They believe that our economic difficulties will not allow a major improvement in the stock market for as long as two years. They think we will most likely retest the low in the stock market of November 20th of 2008 and very possibly go even lower. I think the strength of their argument is how cheap stocks got at the lows in 1974 and 1982 and their weakness is how much lower inflation and interest rates are today than back then and how much discounting a 50% peak to trough decline already did.
A large group today believes that sitting in cash or near-cash is the right thing to do. They kind of know in their hearts that things are cheap and attractive for purchase, but they are so traumatized by last year’s decline that they can’t bring themselves to stay in the saddle or jump back in. They also think they can’t take the psychological damage that an additional decline (predicted by the smallest group) in prices would do to their stock portfolio. The strength of their argument is that you can’t lose anything while they sit in the cash and the weakness is that nobody will ring a bell to get back in and they will likely miss the first two years of the next major U.S. bull market in stocks.
Nearly as large a group is the third one which includes us at Smead Capital Management. Folks like us want to own these common stocks for decades and enjoy what doing that normally brings. We are the traumatized optimists who wish we had received divine intervention one year ago (or listened to the divine intervention we got) and got out of the market. However, we don’t have too many regrets because we feel that long-term investors like us are going to get hit by one of these massive declines and cleansing processes every twenty years or so and it is a necessary part of admission to wealth creation. The strength of our argument is the history of investment markets and the economic history of the U.S. The weakness is we have no idea when the next great stock market will begin.
Therefore, what would frustrate the most people? A flat market or additional decline would make the first two groups happy and us sad. A huge move to the upside would make the buy-and-hold crowd like us very happy, but would frustrate everyone else. A grinding, slow and volatile recovery which takes three years and gains back everything lost last year would be similar to what happened after the 1987 crash in 1988 through 1990. It would frustrate the folks who are anxious to get their losses back quickly (like us) and leave the other two camps on the sidelines missing potentially double-digit returns. We believe this might be 2009’s most likely scenario.
In a 1995 interview in Forbes, Sir John Templeton explained his investment philosophy. He said, “People are always asking me where the outlook is good, but that’s the wrong question. The right question is: ‘Where is the outlook most miserable?” Put us with the traumatized optimists.