The Other Side
Updated: Apr 6, 2020
In darkness, there is often opportunity. Currently, many people are and will be hurting, physically, emotionally, financially. So many people are going to be out of a job, out of money through no fault of their own, with little support. That is beyond scary. There is opportunity to help in so many ways. Besides the easiest of offering friendship and support, the next easiest will be those in a good place financially helping those that will be struggling. What better investment is there than in people? I’m trying to wrap my head around a social financing vehicle to do that. Please let me know if you’re interested in that thought process and/or helping out. It is truly an unusual point in our lifetimes with some extraordinary opportunities within the immense challenges.
Since I spend a lot of my time focused on investing, I see that angle for opportunity as well. Within this negative economic and market cycle, there are likely to be tremendous opportunities for outstanding investments at great value.
As I stated in the last blog entry, I don’t see how the virus, economic and market cycles could be over. The peak of the bad for the virus outbreak is still coming; therefore, the reaction in financial markets is likely not over either. I can tell you having worked within the intricacies of the capital markets that stand behind the economy, there are real problems in financing, which very few understand. Central banks and governments have thrown out tremendous amounts of financial support. That could be enough to steady the economy and the markets. It could also be enough to buoy investor sentiment sufficiently to see through this cycle and hold in. The math, however, does not work out and neither is likely. The hit to economies and corporate earnings is still likely to be much larger than any stimulus, and the bounce back not quick. I believe in playing the odds and that favoring probabilities will work out over time. Here that means using this bounce in markets to reduce risk further, preparing for the likely big whoosh lower, whether the bounce lasts a few days or a few months. The ultimate low is likely to be significantly lower, and if waiting for a larger bounce, which is certainly possible, any future bounces may not even get back to current levels if following another sell-off. If you instead hold your investments you’re making the assumption all of this is a blip, the economy was and will be healthy, and asset prices will hold to their historically high valuations, with no reset required. To me, that’s a lot to ask.
What’s happening is current conditions are causing investors to reset their thinking. Asset values were so high only because central bank and government policies convinced investors to believe everything was great, when it really wasn’t. Economic growth didn’t improve much, just the value of assets, which investors are now realizing. Prices will likely catch up to fundamentals, which still has a way to go.
Through this adjustment, many businesses will close. People will be hurting. That should never be minimized. For investing, the question is how and where pain will be distributed. Policy action is only about that, picking winners and losers.
Keep in mind the big risk still exists that a monetary reset occurs characterized by a loss of faith in institutions and possibly the fiat currency system. The only thing to own to protect against that scenario is gold, and it may have to be the physical, in-your-hand kind.
The other side of this dark canyon will come. It’s helpful to realize that the economy will stabilize, and will grow again. It may not be back to business as usual as we know it now, but certainly back to vitality and probably (hopefully) in a more robust structure.
--Large companies will go bankrupt, but will not disappear (Did you know practically every airline and familiar companies like Buffalo Wild Wings, Mattress Firm, and others have been bankrupt? with no interruption to operations). No, you do not want to be invested in those companies, but they will continue on under a restructuring of ownership. The executives of these companies actually deserve to lose money, as they’ve enriched themselves by granting themselves stock and using corporate profits plus borrowing to buy that stock back, basically hollowing out the companies and leaving no cash for difficult times like now.
--Hopefully small business owners will get the opportunity to restructure and lending institutions will extend credit to rebuild, knowing it wasn’t poor business execution that led to trouble. If you’re in that position I believe you’re likely to get a chance to start over if need be, one way or another.
--Governments are putting all problems on their balance sheets and hoping things barely hold together and no one calls the bluff. I think the better answer would be to freeze all financing arrangements for a period of time. Most don’t if not, the lenders will be in bad shape as well, not just the borrowers.
--If government policies don’t allow any type of reset, which they’re trying not to, the risk is ending up with a zombie economy that is stagnant and full of unproductive firms barely servicing debt, a la Japan. Trust me, we do NOT want that.
After the washout, there will be tremendous opportunities. I’m already looking for solid companies that have dropped in value in sympathy with the overall market, the proverbial baby thrown out with the bathwater. The best opportunities will most likely be in bonds and preferred equities that will have high yields and perform like equities but with a coupon.
If things get really ugly , there will even be a value at which I’m willing to buy assts and not care about what prices do in the short and medium term, knowing owning good businesses at good value that will eventually do well regardless of current investor sentiment is a solid strategy. Good investors adjust with the conditions and I will shift to that strategy if conditions warrant.
What is unlikely is for markets to trend back to old highs and new highs. Damage will be done and it’s more likely markets cycle overall sideways as repairs are made and valuations stay more reasonable, as investors will be gun shy for a while. As I’ve mentioned I strongly believe a different strategy will be required to be successful for quite some time. Good returns can be made paying attention to valuation, fundamentals, investor sentiment, and cycles, entering and exiting positions based on those factors, not holding them blindly and indefinitely. That “new” model will serve you well, and it is more authentic to how investing should be.
So my overall strategy is to use the current rally, regardless of how large and how long, to reduce portfolio risk exposure to minimum levels, sit out the likely coming carnage, and reset with good investments at good valuations then employ a true investing strategy going forward from that point. That may turn out of be wrong, again no one knows for sure, but the proper tradeoff is crystal clear to me.
There is opportunity, which is a positive, which there aren’t too many of right now.
It’s worthwhile to point out, I am offering an alternative fund, uncorrelated to market direction, as a way to still generate returns at this overall unfavorable time. Please reach out if interested.