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Part of being a portfolio manager (PM) is that there is a fiduciary obligation to put client interests first.  That’s unique in comparison to those advisors who are not PMs because of the difference regarding behaviour – both for clients and the people giving the advice.  Many advisors list ‘behavioural coaching’ as one of their primary roles – and as one of their primary value-added services.  If you’re a PM, however, that function gets taken to the next level.  Instead of encouraging to get clients to act a certain way, PMs take the reins themselves and act in a way that they feel is best for the client’s interest.

 

I recently wrote an article for a national newspaper, where I suggested a depression might be on the horizon.  After publication, I pointed out that the article was in response to some clients’ concerns.  I had received a few calls and e-mails asking about my views on where were in the market cycle, given that markets have continued their upward advance throughout 2021.  Not only had my position not changed, I felt more strongly than ever.  If markets were expensive at the beginning of the year (and they most certainly were), then they are clearly even more expensive (read: dangerously valued) now.  The CAPE (Cyclically Adjusted Price Earnings) Ratio for the U.S. large cap market (the S&P 500) just hit 40.  The historical average is around 16.  In other words, the US. stock market could tumble by 60% and still be priced at historical levels.

 

In response, I got an e-mail from a client who, after reading my comments asked: “however, if I have some cash to invest, what would be the strategy?  My answer is rooted in basic microeconomics.  In any first-year microeconomics class, students are taught about the “Theory of the Firm”.  It posits that the objective of any self-interested corporation in a capitalist society is to maximize profits.  There is a corollary that is seldom added: in those rare instances where profits are all but impossible to generate, the firm’s objective should be to minimize losses. Environments like this are generally rare and short lived, but they do exist.  We are now in the realm of greater fool theory: buy high, sell higher. That approach can only work for so long.

 

Extending the metaphor to a typical household that is investing for the long run, that might mean staying out of the market.  In an ‘everything bubble’ where stocks, bonds and real estate are all at or above the 98th percentile in historical valuations, there are literally no good investments to be had – if ‘good’ is defined as offering a sensible risk / return tradeoff over a material (say 5 to 10 years) timeframe.   This too, will pass.  For now, it may well prove to be prudent to keep your powder dry.  Traditional investing in this environment is just asking for trouble.

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John DeGoey

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