The anonymous author of Hedge Fund News has put out a rather pessimistic, hopeless sounding post in which he asks, “Why invest in stocks?”
- The game is largely about front running the Federal Reserve or the ECB or the Bank of Japan. It seems that the way to make money is to buy before central bankers announce quantitative easing or some other scheme to juice asset prices. However, since I don’t have high level contacts at any of these institutions, I will always be the last one to invest based on the liquidity injections. Of course, there are people who do have contacts at the FED and thus they can essentially front run monetary policy. The question I ask myself is “if I can’t compete with the big boys, does it make any sense to play?” In any other sport, the answer would be a resounding no in order to avoid injury. I don’t think my investing in the stock market is any less dangerous then taking the field with the New England Patriots for training camp. I can get hurt…real bad.
- You also can’t compete with big hedge funds. A major hedge fund might have 100 analysts, key contacts at major brokerages. Paying massive trading commissions has it’s benefits and that benefit is information. The stock market is a game of information and most likely the big hedge fund has vastly superior information to you.
- I like founder owned and operated businesses. I generally find “professional management” is too constipated and far too divorced from the risk taking visionary that usually founded the company. Talk to a corporate middle manager and then talk to hungry entrepreneur working on his baby. You will quickly feel who you would rather back with your precious capital. By the time most companies reach the public markets, the ownership of the company lies in the hands of facelesss financial institutions that are totally divorced from the passion that built the business.
- The markets are run by machines. Insanely powerful computers constitute the majority of trading. Again, the hedge funds have a massive technological edge on the rest of us.
- the Warren Buffet stock analysis that favors buy and hold investing has not worked in the last decade that has been driven by Central banks and macroeconomics. Stock picking has been killed by the four reasons above.
I mention this post because I’ve shared the sentiment myself at times, and especially recently.
Stocks are not just forward-looking instruments, they are forward bets. If you buy stocks, you are making the assumption that, at least for the companies’ whose stocks you buy, things will be better in the future and therefore the prices will be higher. In that sense, Warren Buffett’s “bullish on America” rhetoric matches his investment action. He truly believes America as an idea, as a system, as an investment platform, can not fail because it has not failed, so he wants to buy stocks every time most other people are selling him because he believes his long-term prospects for capital appreciation are good.
And so far, that has worked– wonderfully!
But people like Buffett seem to be ignorant of certain economic truths and inevitabilities, especially with regards to the current problems facing investors, and so some of his optimism comes across as willful naivety.
This isn’t an anti-Warren post, however, so back to the point– what if the future is bleak? What if America is Japan? Some have made comparisons (Mish) and some of those comparisons are compelling. What if America isn’t Japan, but something worse and far more complex altogether?
What if we’re looking at an ongoing or a return to severe recession? What if this is followed by more inflationary antics which, by driving up commodity prices, serve to kill margins in many businesses and beat down earnings, even as general price increases rage on? What if stocks don’t even go up in nominal terms for awhile and then, by the time they do, they’ve lost so much in real terms that there’s no point in investing in them?
What if, what if, what if? A lot could go wrong. And knowing this, a value investor seeks a margin of safety in his investments. If he’s concerned about a depression, he tries to calculate what that might look like and price it in, raise his hurdle rate that much higher. Then, if it’s a good business and he can get it at a significant discount to his calculated value even when considering a rather hopeless scenario as a possible outcome, he buys. If it goes down, he buys some more.
If that worst case scenario plays out, and the world looks like it’s ending, if he’s got any more money left he throws it in the pot and then he goes off to war, or he goes fishing, or whatever and he doesn’t think about it anymore.
Why invest in stocks? Because tomorrow is always another day. Stocks are for the future and there’s always a future, so if you can buy them cheaply, you buy them and you stop worrying about everything else.
The only trouble, the thing that keeps me worrying, is what if the future is going to happen someplace else, not America? A lot of places that were once the future are now the past. It could happen. Invest accordingly.