STEEL YOURSELF FOR A LETTER FROM LINLITHGOW BY ALAN STEEL
A SHORT HISTORY OF RISK AND REWARD
Always happy to sit back and let somebody else do all the work. This week Alan Steel of Alan Steel Asset Management has kindly volunteered to do this for me.
Alan is writing – knowledgeably and fluently – about investment choices facing ordinary investors. Sadly, there’s another class of investors: those who’ve already lost huge amounts of their savings because they suffered from the risk and their adviser enjoyed the reward.
Over to you Alan…..
“The Flat Earth Society has members all around the globe”. “The easy path is hard in the long run, and what’s hard in the short run is the easy path in the long run” . “If you’re too open minded you’re in danger of your brains falling out”.
“Successful investing is hard work because it means disciplining your mind to do the opposite of human nature. Buying during a panic, selling during euphoria and holding firm when you are bored and crave action. Investing is 5% intellect and 95% temperament. It takes strength. It takes courage”. Ian Cassel
“Blessed are those who ignoreth the media for they will traveleth longer in Business Class”. Anon
If the wide range of these quotes suggests that this was a difficult letter to write, you’re correct. It feels like my brain’s fallen out. There’s so much going on now worrying investors and panicking too many into safe-looking short term “havens”. Here’s the question I’m asking myself, “Isn’t it a remarkable coincidence at times when worry, not love, is in the air that millions of investors all wake up one morning and collectively decide to dump their personal logical long haul process, emotionally changing direction in a panic, until ‘it feels better’?”
If it’s not Woodford it’s Trump or Brexit, Middle East Tensions or Global Tariffs, another Stockmarket Crash or Recession. As my Granny McKay used to say.. “If it’s no one thing it’s another”. But nowadays we suffer from tsunamis of misinformation. Charlie Munger, now 95, Warren Buffett’s right hand man for 41 years, said only the other day “Life’s full of idiots and every once in a while they get in control”. I wonder who he meant. He continued, “Long ago, bad things used to come in threes”. (He stole that line from my granny). “But now we live in times where bad things come constantly in one long hideous stream called 24-hour news”
Yesterday, UK “Value” fund manager Tim Price, under “The Delusion” he wrote “The financial media exist to help investors make sense of the capital markets” Then under “The Reality” he explained “They exist to monetise airtime and column inches. Attention grabbing, in which the search for truth is compromised by an obsession with false narratives and conflicts of interest”. And concluded: “It’s simply not reasonable to expect the casual consumption of financial media to correlate with (your) investment success”.
Munger, when asked if he and Buffett were concerned about recent under performance and another market crash, replied that such thoughts never enter their heads. Explaining that in their time together they’ve seen their share price halve on 3 separate occasions. In fact, 6 times over 40 years their shares under performed the US market by at least 30%. In the late 1990s, while the dotcom boom was in full swing and the S&P Index was up over 20%, his “fund” was down 20%, and he, like UK Value managers, was heavily criticised. “Value” though had the last laugh following the dotcom bust. By 2002, Buffett was up 29% while the index lost 37%.
Did you know that Buffett’s mentor/teacher was Benjamin Graham still known today as “The Father of Value Investing”? Basically it’s a method of investing which seeks to find businesses, quoted or unquoted, where you can buy their shares at significant discount to their current or potential value. And it’s a style that’s out of favour yet again. I came across a lecture given by Graham delivered in San Francisco in 1963, entitled “Securities in an Insecure World”. Nothing changes, eh?
He identified 3 dangers in 1963 to investors: Atomic war, Inflation threats, and the possibility of severe market fluctuations up and down, and – as he added – “primarily down”. It was a very long lecture during which he expressed concern over the excessive share prices of some “hot” stocks in the US, predicting a sharp return to “reality”. Interestingly, not long afterwards the S&P 500 index fell by almost 60% to reach bottom in 1982.
This is what he said about long-term successful investing: “it’s possible for investors to get significantly better returns than the average. But two conditions are necessary. One, they must follow sound principles of selection related to the value of the securities and not their market price action. The other is to cut themselves (emotionally) off from the general public…. thinking differently from the crowd”. Advice still apt 56 years later.
Another very wise investor, Peter Bernstein (1919 to 2009), economist, historian and investment thinker, was described by behavioural investment author Jason Zweig as “a creative thinker with an open mind, a wealth of experience and an encyclopaedic knowledge of psychology and market history” and who went on to say .. “people with these attributes are rarer than a Valentine’s Day card from Darth Vader”.
I found an interview with Bernstein which took place in 2004. It’s fascinating, and if you would like to read it do let me know. When asked “what are investors’ most common mistakes?” he replied, “Extrapolation. The refusal to believe that shock lies in wait. Believe me, individual investors are not the only ones who mire themselves in this mistake. It’s endemic throughout the investing community” And he continued, “I view diversification not only as a survival strategy but as an aggressive strategy because the next windfall might come from a surprising place. If you’re comfortable with everything you own, you’re not diversified”.
Over the last few evenings I’ve watched footage of the Moon landing exactly 50 years ago. Disappointingly, what wasn’t mentioned was that at the same time I was selected by the Scottish Widows Mutual Insurance Society as the missing link for their actuarial dept. Like Neil Armstrong it was a small step for me. Not sure though about it being a big step for Mankind. Mind you, my innate curiosity, matched with what analytical nonce I picked up during my actuarial adventure, came in handy over the years helping me to spot potential investment problems for clients and newspaper readers, back when balanced reporting was the norm.
As a consequence of my public warnings of Equitable Life’s rogue promises of secure bonuses, and concerns over Split Capital Investment Trusts, I was invited to explain to Lord Penrose what I’d spotted that the media and regulators hadn’t, and also asked to help the Chairman of the Treasury Select Committee John McFaul, to get to grips with what had led to the collapse of an investment scheme previously described by financial journalists as- “as safe as a Volvo”. John asked what changes should be made to help investors regain confidence. 17 years ago, a few were suggested, including financial regulation for the media. Nothing happened.
So still today we have in this country an unregulated financial media competing with each other for attention and clicks on media websites which drive investors and advertising revenue in equal measure. Bad news dominates copy and leads to poor behavioural reactions. Over many years I’ve found that all good fund managers make some mistakes, which they’ll openly admit in our regular sessions with them. Who hasn’t made mistakes? The key thing is to be protected by uncomfortable diversity. Just in case.
Fortunately at ASAM we still follow the advice of Benjamin Graham and Peter Bernstein. Be curious, check for yourself (Nullius in Verba) and diversify. Diversify over styles and processes. Embrace discomfort. Build forward from your defence. Behavioural scientists show that investors feel twice as bad about losses than they do about gains. I keep a table handy which reminds me that from 1926 to 2018, on 54% of the days the S&P 500 rose and on 46% it fell. So reacting emotionally to negative news daily means you’ll feel terrible on average every day, since the pain from the “loss” outweighs the joy from the “gains”. Don’t do it.
Here’s some good news you won’t see anywhere. Over the last 40 years, the US Fed Reserve has cut interest rates near Market All-Time Highs, seventeen times. “They” tell us a cut now is supposed to be a bad sign. Well on every previous occasion, one year later, the US market was higher. The average gain? 15%.
That’s better for your nerves than reading about “legendary investor” Jim Rogers’ prediction last week of an imminent recession and 100% chance of a market crash. He’s said that every year since 2010. But because I don’t know when Value (out of favour) will trump Momentum/Growth (in favour), personally I just select good managers across the board and stick to them, including goalkeepers. And that’s across the spectrum of my own ISAs, Collectives and Pensions. Sure I’ve made a few mistakes but I learned from them and moved on.
