I am repeatedly asked why our firm believes in moving equity weights to cash if we get sells and no co-incident buys within our universe. Time and again people will point out that the vast majority of other managers or financial planners insist that holding cash is not a reasonable approach, and that holding equities “for the long-term” is all one need do. As I have explained before (and at some length in Juggling Dynamite) and as Barry Ritzholt wrote last week, where you stand on this issue is a function of where you sit:
“I have a different perspective. I manage money for a living. That creates very different obligations — its to preserve capital and manage risk. Since inflation is always eroding our clients assets, we must find ways to offset that by generating returns in excess of inflation. Part of our calculus is when to go into risk-free treasuries.
And because of our long experience on Wall Street, we have become rather skeptical of what we read in the papers and hear on TV. We have not forgotten all of the television cheerleading in 2000, nor the analysts who lost investors trillions. We well remember the investment banking scams, the corporate accounting fraud, the lax regulatory oversight, the general theivery that took trillions out of the pockets of individual investors.
As Raymond Jame's insightful strategist Jeff Saut likes to say, where you stand is determined by where you sit. And where I sit requires a healthy dose of not letting the bullshit artists lose our client's money.
I suggest readers and investors do the same . . “
For the most part, if you are a financial planner, stockbroker or other investment sales person chances are you have no actual money management training, skill or discipline. You have never been trained on real risk management and you have never developed your own buy and sell rules or discipline. This is the group that I call “risk spreaders” rather than “risk-managers”. They have no management discipline, so they will simply spread capital around and leave it fully invested at all times regardless of market conditions. They also tend to recommend buying equity investments and getting fully invested whenever a client happens to have some money. Since this group does not have a method to time investments carefully they also insist that no one else can do it either. The public hears a lot of this message from this group since they are a large sales force and they dominate mainstream financial marketing and “advice”.
The next group are the long always or “prospectus constrained” money managers. They run funds with prescribed mandates like “Canadian Resource”, “US Growth” or “International Equity.” Generally this group is not able to hold much cash for two reasons. One is that their marketing material sells their funds as excellent “long-term” holds, and their constating documents generally dictate they buy stocks within their universe and never hold more than a nominal amount in cash. Usually this stated amount is low, like 10%-20% max. This group works very hard trying to find relatively attractive picks in their universe. But if all the stocks in their universe are exceptionally expensive they still have to sort through the heap and pick out something they can buy. “Buy something for heaven's sake, there must be something you can buy. Unit holders want to hear that you are going to make them rich quick, get a move on will you?”
In addition, most in this “constrained” group are mandated to track a particular stock index, so they would rather lose money with their index than risk having the market race ahead, even for a short while, without them. This is true even though the racing gains are likely to be fleeting. If you ask members of this group, they will always say that equities are a good buy and that they do not believe in holding much cash. They also do not want clients to micro-manage the fund's approach, so they tend to say that investors should not try and time investing, but just leave risk-spreading up to the manager.
Given the way that the money world is organized, very few firms have the flexibility and the discipline to actually perform meaningful risk management for their clients. When we founded our firm, Venable Park, we did so with this realization in mind. We did not want to be constrained to a long always, sales driven philosophy or prospectus. We wanted to provide a pragmatic, valuable, risk management service for our real life clients.
This is why we are independent. This is why we follow our discipline into cash where needed. This is why we work only for our clients and have not scaled ourselves into running mutual funds. This is why we are free to call risk as we see it.
This week James Montier of Societe General in London wrote a great article called “The Dash to Trash and the Grab for Growth” which is available on line at John Mauldin’s Outside the Box. The whole article is well worth the read. Showing that stocks are still remarkably expensive given the on-going global slow down, Mortier points out that in times of such rich valuations and lingering economic doubt, “inaction and hence holding cash” are the safest bet. Notwithstanding the importance of holding cash at peak times in a market cycle, he points out that present cash levels in US mutual funds have actually never been lower. A paltry 4.2%. So much for being ready for these “buying opportunities” managers are always promising. Mortier explains it this way:
“This low level of cash represents the outcome of a world in which specialised mandates insist on being fully invested, and where fund managers are focused on career concerns, and hence obsessed with tracking error in the short term….As Ben Graham said “True bargain issues have repeatedly become scarce in bull markets…Perhaps one could even have determined whether the market level was getting too high or too low by counting the number of issues selling below working capital. When such issues have virtually disappeared, past experience indicated that investors should have taken themselves out of the stock market and plunged up to their necks in US Treasury bills.”
I rest my case.
Cory’s Chart Corner
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