Investors do not understand the current stock markets. Globally most stock markets are rising and most have reported record highs in spite of political instability.
The driving forces are both normal and novel. In many economies we are experiencing a normal cyclical recovery as both confidence is rising and memories of past crises are receding.
What is more novel is the exponential growth in the use of technology to address many problems. One of the advantages of being part of this blog community is that we have a large number of thoughtful members.
One of the most responsive members has called to my attention a Financial Times article by Jim McCaughan, the CEO of Principal Group Investors with the intriguing title: Investors must get to grips with impact of technology.
While contemplating this article I examined a report on the S&P and the Dow Jones Sharia indices. These various stock market measures show that in many of the emerging markets and frontier markets that cater to those who wish to follow the Sharia laws for investing, that information technology is the best performing segment.
This is appropriate because the growth of technology is accelerating economic growth. When illiterate farmers can price quotes and weather forecasts daily on their cell phones, they will manage their own economics better.
Their families will also benefit when they can react with professional medical and nutritional experts. Perhaps these advantages will become the most effective birth control devices the developing world has ever seen.
In my continuing search for understanding why so many very intelligent people continually make more economic and perhaps political decisions that prove to be unfortunate, I suspect that they are using faulty memories of incomplete and in some cases faulty data.
It almost seems the more PhDs and other credentialed “experts” that analyze a problem the odds of finding the “Aha moment” decreases.
Measuring the impact of technology
I suspect that no class of financial institutions has more learned PhDs than the central banks, particularly the Federal Reserve System. Yet as a mass they have been surprisingly unsuccessful in predicting inflation as it drives their policies.
For example they rely on payroll data and other information from the IRS. There is little attempt to capture unreported income. In many countries the “informal economy” is of sufficient size to question the aggregate, growth, and relative ranking in global tables.
Perhaps the biggest failure to capture the economic reality is in the measurement of consumer and commercial prices. On the surface it is reasonable to assume that technology is deflationary otherwise it wouldn’t be bought.
The deflation is not just in reported prices, but more significantly the added value that brought through technology. For instance how much are we better off in general with cell phones than landlines? What is the net benefit of shorter transportation time due to speed and safety of mass transit?
These are not easy calculations but suggest that the real economy has been growing faster than realized due to the deflationary technological input. Is this the reason that no developed country has hit the 2% desired inflation target identified by the New Zealand central bank?
On the other hand we should also be measuring and understanding the disruption that technology has caused in terms of unemployment and wasted capital resources. Hopefully, we will see more re-engineering and rebirth of former sites.
For example some shopping malls are becoming education, health, and service providers. Once services providers can demonstrate value added through sales and retention skills, these wages will move back to old industrial levels. They will accomplish this through smart applications with personal choices through the use of technology.
What does the future hold for investors?
First, the question is flawed. The biggest single mistake most individual and institutional investors make is to think of the future as a singular event.
One of the reasons we have evolved our TIMESPAN L Portfolios® is to force investors to allocate their resources to different timespans based on their own needs and proclivities. The allocation of capital and intellectual resources is the single most effective method to reach most goals.
Second, is how to handle the various types of price declines (seasonal, cyclical, secular, normal, abnormal). As we can’t avoid them, we need to set some policy goals as to which we “grin and bear it,” make partial adjustments, radical change, or more appropriately different actions for different timespan portfolios and/or different levels of fiduciary and commercial responsibilities.
Third, questioning to perceived wisdom based on unadjusted history. For instance, searching for persistence. Looking backwards for various periods of time which are heavily influenced by beginning and ending conditions there appears simplistically little persistence particularly in top quartile performance rankings.
Most individual and institutional investors are goal oriented not ranking oriented. History suggests that the main value to an investor is the timing of the initial investment as well as flows into and out of the account.
By definition the biggest gains come from buying into a lowly regarded price and selling into excessive enthusiastic prices. Persistence is rarely found in humans, sports teams, and political leaders. Allow me to demonstrate with the use of fund performance statistics from my former firm, Lipper, Inc., now part of Thomson Reuters.
For the five years ending Jan 18th, 2018 the average S&P 500 Index fund had a compound growth rate of 15.36%. Not only is this way above a historical average it is better than all other mutual fund investment objectives except five, including Large-Cap Growth which had a 77 basis point better return.
This may show the advantage that we have maintained for a long time that for some remaining fund holders net redemptions can be a positive, as all portfolios can use some pruning.
More importantly, performance while it does impact sales, is not particularly related to redemptions which are more time based. Referring back to the main topic of this week’s blog: technology, the best single performance group was the Global Science/Technology fund which gained 22.09% vs. the average S&P500 fund that gained 15.36%.
While I don’t know who will be the winners for the next five years, I think it won’t be the S&P500 index or the Global Science/Technology funds.
Some straws in the wind
Before a significant storm often, there are some straws in the wind. The following anomalies are noted:
Barron’s Best Grade Corporate Bonds yields went up last week 8 basis points which means their prices went down a proportionate amount. However a similar index of intermediate credit grade bonds yields only went up 4 basis points.
Typically high grade investors are more safety oriented and credit investors more income focused. The possible importance of these observations is to not worry about the safety of high grade corporates paying off their obligations in a timely manner.
I believe the significance of the price decline is that these investors and their dealers are worried about their near-term bond prices because of a surge in the supply of high credit bonds.
If these fears grow it can create instability in the bond market which could impact the stock market either because a change in outlook or a credit shortage supporting the stock market,
The AAII bulls are running again with 54% of their weekly sample bullish compared with the pullback experienced the prior week of 49%. The bears pulled in their teeth with a reading of 21% compared 25% the prior week. Momentum is continuing.
A former president of the New York Society for Security Analysts, he was president of Lipper Analytical Services Inc. the home of the global array of Lipper indexes, averages and performance analyses for mutual funds. His blog can be found here.