This write-up by Nick Murray makes excellent sense folks.
March 2012
It was inevitable that as the S&P 500 closed in on 1350 in mid-February the Wall Street Journal would lead its “Money and Investing” section the morning before Valentine's Day with an article entitled “Too Late to Jump Aboard?” The market was, at that point, only up 23% (not counting compounded dividends) in four and a half months, prompting mainstream media—which in early October were all but screaming, “Get Out!”—to ask this inane question. (I need hardly add that 23% was just then equal to the current yield of the 10-year U.S. Treasury note for the next eleven and a half years.)
As always, the financial media ask the wrong question, and then leave it unanswered. (The conclusion of this and every other “balanced” journalistic examination of the “is it too late” question is that maybe it isn't and then on the other hand maybe it is.) But that's not even my point, which is that the whole issue—that is, the question itself—is premised on the assumption that one had already made The Big Mistake: one jumped off. If you didn't jump off to begin with, (a) you probably have a really first-rate financial advisor, and (b) the question of whether or not it's “too late” to jump back on is blessedly moot.
The better question then becomes clear. It is, of course, why anyone would ever have jumped off in the first place.
The answer, for the long-term investor we are all supposed to be, is that one jumped off because one momentarily lost the ability to distinguish between volatility and risk. This is the one critical distinction which all successful investors make—including and especially the greatest investor who ever lived, as we will shortly observe.
Just before we do, though, let's review the events of the last forty months or so. You will recall that in September 2008 Lehman Brothers, AIG, Fannie Mae, Freddie Mac and Washington Mutual all failed, that hundreds of billions of dollars worth of AAA-rated real estate derivatives were found to have no value, and that the world was plunged into a financial crisis of an intensity not previously seen in our lifetimes. A great many people jumped off.
After the ensuing and inevitable recovery of equity values throughout 2009 and well into 2010, the financial crisis in Europe came to a boil, and that plus a terrifying (and wholly imaginary) “flash crash” wiped out 16% of the market's value in about ten weeks. A great many more people jumped off, and some—who had in the interim jumped back on—jumped off again!
The world yet again inexplicably failed to end, and equity values rose smartly into the spring of 2011, when the U.S. debt ceiling standoff led to the downgrading of U.S. debt, and the financial chaos in Europe both deepened and spread. The result was a horrific, six-month, very-nearly-20% market decline—just about as close as you can get to an “official” bear market without being in one. Exhausted by the volatility, folks jumped off as never before.
That takes us up through October 1 of last year.
Well, here we are (as I write) around 1350. And what's the significance, forty-odd months on, of that number? I think you've probably already guessed it.
It's that everybody who jumped off anywhere between the day that Lehman tanked and last October got skunked. And when they finally jump back on, they're going to do so at higher prices than those at which they sold. In some cases, these will be very much higher prices, because at 1350 we are eerily close to double the March 2009 panic lows.
What was the essential nature of The Big Mistake they made? I believe, as I said above, it was that they simply lost the ability to distinguish between volatility (a temporary diminution in long-term equity values) and risk (the chance that value in a diversified portfolio of quality equities will be erased permanently). The former happens all the time; indeed, the average intra-year decline in equity prices since 1946 is over 14%. The latter has never happened. Past performance is no guarantee of future results, as the saying goes, but the record of equity values since the founding of the republic says a lot to this long-term investor.
In perhaps the single most important thing he's ever written, Warren Buffett (in the February 27 Fortune) calculates the outcome of $100 invested in 1965—the year he took over Berkshire Hathaway—and left to compound in each of (a) six-month U. S. Treasury bills, (b) gold, and (c) the S&P 500. The results: you've got $1,336 in T-bills, $4,455 in gold—and $6,072 in equities. Oh, yes: he mentions one other critically important statistic. It now takes seven dollars to buy exactly what one dollar bought in 1965.
There are two things for the lifelong investor to take away from this thumbnail sketch. The first is that the real financial risk in a long life—and especially in a long retirement—is the erosion of purchasing power.
And the other is: don't jump off.
If keeping you from jumping off were the only thing your financial advisor could ever do for you, he would be worth multiples of what you pay him for his advice. Let me suggest a handy way of keeping this truth at the forefront of your mind.
You may remember that, as his forces retreated before the Allied advance in the first Gulf War, Saddam Hussein ordered the Kuwaiti oil fields set afire. We were solemnly assured by all the pundits in the world that it would take years to put all these fires out. But they didn't count on America's own Red Adair. The last fire was extinguished in eight months.
As you consider the value of your advisor in terms of someone who gets paid essentially to put out the fire of panic, remember the words of Red Adair: “If you think it's expensive to hire a professional to do the job, wait until you hire an amateur.”
© Nick Murray 2011. All rights reserved. Reprinted by permission.
