Thanks to reader Will for sending me a link to this rare Jeremy Grantham interview clip from November 21, 20008. I have long respected Grantham for his realist views and tactical advice to real life investors. He was one of the few who called the tech bubble in the late '90's and warned investors of the irrational risk to capital invested. As far back as 2005 he was also one of a seemingly small group of us warning about world wide bubbles and the threat that was mounting to the global economy and investors.
I agree with what Grantham says in this interview. He still believes that there is a 2 to 1 probability that stock markets will be lower next year before they bottom this cycle. He acknowledges that they could go a lot lower before this de-levering phase is complete. On the other hand, there is a smaller probability that markets could rally from present levels. Market sentiment is a wild and wooly beast. We have to be develop our plan for a range of possible outcomes.
With world markets falling more than 45% over the past year, there is admittedly a greater chance now of reward to equity investors over the next several years than there has been for more than 10 years. But let us not forget that present valuations are relatively attractive when compared to the period of irrational, crazy equity valuations since the later part of the 90’s. As Gratham says, this is no assurance that asset prices cannot get a lot cheaper still. All 27 asset bubbles in the past few hundred years have all reverted below their mean eventually. So what is a prudent investor to do?
Grantham suggests one might toe back slowly into US equities and some emerging markets, which he sees as relatively inexpensive. But he thinks 20% invested is a reasonable commitment at this point. He also asks that people consider how they are likely to react if markets do drop a further 20 or 30% from here. If one is likely to take this badly, (as most would) Gratham suggests maintaining a large cash position over the coming months.
I like his comments about balancing the dual regrets. On the one hand if people do buy now and stay invested through a further 20 to 30% declines, they will suffer great regret and are likely to panic at some point in the experience. On the other hand, if markets do accomplish the unlikely, and rally strongly in the coming weeks, there will be other regret for buys not made. In my experience, for most people, the regret of missing out on gains is bothersome, but not nearly as bad as the regret of large capital loss. Balancing the threat of the dual regrets is the art of money management.
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Hi Danielle,
Talking about reverting below the mean, I believe we are there already on the TSX…
Here is my simple, home-grown hypothesis:
On Dec. 31, 1984/85/86, the TSX was at 2400, 2893 & 3066 respectively.
Applying a 7% annual stock market return to these data points, the TSX on Dec. 31, 2008 would be at 12173, 13714 and 13583.
Taking the average of the three to smooth out the bumps, the TSX on Dec 31, 2008 “should” be at 13156 according to this trend line.
Also according to this trend line, the TSX should have been at 12665 on June 6, 2008 when the TSX peaked at 15154. This means at the top of the madness, the TSX was 19.6% above trend.
Similarly, my trendline indicates the TSX should be at 13070 today, Nov 24/08. We are at 8440 – 35.4% below trend. (Deviation almost double on the downside!)
Does that not indicate a serious buying opportunity at this level? How much more below trend should we wait for?
Am I confident? Not totally. If I change the 7% return assumption to 6%, the whole flavour of the picture changes. I also never thought the TSX would go 35% below my hypothetical trend, and now that it has, am afraid it is capable of going lower since there seems to be one new crisis after another. On the other hand, there will be a lot of regret if this level turned out to be the buying opportunity of the decade.
How do the readers of this blog feel? Are we waiting or are we buying? Is my simple trend argument foundationless, or has it swayed anyone into more of a buying mode?
Comments from Danielle and other readers welcomed and appreciated.
Denis
Denis, what you need to do is define your rules and execute them both on a buy and a sell. Since no one knows what comes next, you need to have a plan for all possibilities and control your own risk exposure as you see fit for you. D
That's very interesting what Jeremy Grantham has to say. He sounds like he saw this crisis coming. But how much value can you actually put in it? If you look at the performance of the John Hancock funds that his company GMO manages, none of them performed significantly better than the DJIA for he last 6 months to 2 years. It seems like he doesn't practise what he preaches.
It seems to me that life and financial markets do not work on rigid rules. For example, if you buy a stock at $10 and set an $8 stop, it could (and often does) drop to $7 before skyrocketing to $40.
I've found that my best rule is don't adhere to rigid rules. Trading is an art. It requires the assimilation of a mosaic of information. Like a kaleidoscope, you're unlikely to see the same picture twice. Looking back into history has very limited value.
It's the future that counts. Predicting the future price of a financial asset is more a study of herd psychology than anything. If you can identify the direction and size of the herd that's all you really have to know.
Where's the herd now and where is it going? Here's what I think:
1. There is a tremendous amount of anger directed at Wall Street particularly with the Bernie Made-off scandal. As such, the propensity for the public to want stocks is going down and won't be coming back for a number of years.
2. What do people want? They want more liquidity and safety. That means less debt and more safe cash. That means less consumption and more savings. That means continued liquidation of risk. It's just getting started.
3. This down cycle will be relentless and strongly reinforcing. It will overwhelm all attempts at government intervention. The government can't control the will of 300 million people moving in the opposite direction that it desires.
4. Everybody thinks that we've hit a bottom including most bears. Everybody is now bullish. Wrong.
5. I predict we'll see a bounce to 950 to 975 spx and then another leg down towards 700 by end of January.
6. I predict Dow 3,000 by December 31, 2009.
Global warming is the result of people abusive acts to our environment. I feel scared when natures give its KARMA to all of us. Catastrophe, avalanche, tsunami, flood and other nature’s calamity might be not good in times of recession. That's why we should learn some survival tips for our own sake. Survival tips are something that always comes in handy, especially for emergency situations. Many people are also looking into economic survival tips, as the global economy is suffering worse more than a long tailed cat in a room full of rocking chairs. The tsunami of crashing finances was fought, or at least an attempt, with cash advance stimulus packages from central governments to troubled banks. In times of any adversity, whether financial or environmental, the best thing you can possibly do is not to panic. Panic means hesitation and illogicality, and in a disaster situation, that means death. Keep moving, and get away from the danger as soon as possible. Those are the best survival tips for emergencies, as well as don’t forget to ask for God’s grace.