This Is The Kind of Market Buffett Got Rich In
Wednesday, November 5, 2008 | Teeka Tiwari
I get the honor of publishing my article today without knowing who won the election.
I’ve written at length as to what strategies to take based upon who wins, however. You can see the articles HERE & HERE. One of the best non-political, political pieces that I have read, though, didn’t come from the mainstream media. No, it came from right here at the good old Tycoon Report. Yesterday’s article by our very own Chris Rowe, editor of TheTrendRider.com was a work of pithy brilliance, and I highly recommend reading it.
The investment implications of his article are numerous. They point to lower consumer spending, not higher. They point to lower corporate tax revenue, not higher, and most damning of all they point to higher oil prices, not lower. When oil hits $200 a barrel, who will we blame after George W. Bush is gone?
We are in the middle of a market reverting back to it’s mean. After months of extreme anxiety we are beginning to see expectations become less bleak. This process is as natural as the day following night. As fear recedes, people’s appetite for risk increases and asset prices start to rise.
But is this the beginning of an overall new trend higher? I guess it depends upon your time frame. Certainly the short-term trend now appears to be up, not down but what about the intermediate- and long-term trend?
To answer that question, we must ask ourselves where do we believe corporate earnings are going? Are they going to go higher than what they’ve been or are they going to go lower? Remember that the stock market is slave to earnings growth real or perceived. The other thing to remember is that the market is a leading indicator and is a discounting mechanism.
So the market is not so much moving off today’s news, but rather the perceived view of where the world will be 6 to 18 months from today. That’s why markets generally rally months and months before the end of a recession. The market is looking ahead and discounting the expected recovery.
Many times the market will get this “wrong”, i.e. it will rally based upon a misread or a false perception of the future. No matter how “wrong” the market is, you cannot stand in its way. That’s a quick way to the poor house. The market was dead wrong on pricing risk in bank stocks, finance companies and credit default swaps for years before the “true” value of these securities revealed themselves.
The lesson here is no matter how smart an operator you think you are, don’t allow your “rightness” to trump the reality of the market's “rightness” Being right on the macro call is only one part of the decision-making process. Being right but early on a call is still being wrong. It's getting the macro call right and the trading call right that will grow your money at gigantic rates.
Guys like Warren Buffett sit on such massive piles of cash that they don’t have to have buy-side discipline. Buffet will buy massive slugs of stock and keep on buying all the way down because he looks through a 30-year time frame. That and he sits upon mountains and mountains of cash. In short, he has the luxury of virtually limitless money and time with zero corporate push back from his board or investors.
Buffett's timing in the 1970s was awful, but to his credit he did not engage in the use of leverage and his long-term value analysis of most of his companies was spot on. So we can see that there is obviously great merit to Buffett's approach. But in order for it to work, you must not use leverage, you must be able to sit through very large draw down periods, and you must have a knack for identifying companies that have the ability to compound their shareholder equity at an above average rate for years and years.
In fact, we are currently experiencing the same type of market that Warren Buffett got rich in. For those of you that are interested in learning more (certainly not all) should read Graham & Dodd’s “Security Analysis”. It’s a weighty tome that clocks in at a very non-svelte 800 pages.
Again, for those of you that are interested in the Buffett approach, now is a great time to be a value investor. If history is any guide, it will be a sector picker's market for the next 7-10 years. It’s unlikely that we will see a big broad-based bull market until about 2015 to 20017. (I hope I am proved dead wrong on that prediction. Believe me I want to be wrong!)
During a market such as this, you need to either have an approach for going long the sectors that are in favor and shorting the sectors that are out of favor. Or you need to be a long-term value investor looking for companies that are trading at a steep discount to their long-term shareholder equity growth rate. Just remember that fortunes can be made using the Buffett method, but it will be 20 years before you begin to fully reap the benefits of such an approach.
The current perception may be that corporate earnings will come roaring back, but the reality is that I just don’t see that. Lower energy prices are helping industries of all types and as I’ve said for months this will go a long way in ameliorating bad corporate earnings. But the longer-term trend for earnings looks down, not up.
That’s why I think this rally is more of a trader's rally than a long-term change in market trend. Remember the trend has been down for the last eight years, not up. Do you see anything on the horizon that can get this earnings ship and thus this market turned around for the long term? If you do I want to hear about it. Please share your comments below.
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Teeka Tiwari
Chief Investment Officer
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