“ The first principle is that you should not fool yourself, and you are the easiest person to fool”
- Richard Feynmann
“When faced with a difficult decision, we often answer an easier one instead, usually without noticing the substitution”
- Daniel Kahneman
“Knowledge can be communicated but wisdom needs to be discovered”
- Herman Hesse, (Siddhartha)
Financial markets have short memories and constantly shifting narratives.
The US stock market valuations were trading close to all time high, despite poor growth even before their Presidential election. The explanation offered was that as interest rates were very low, high PE ratios were justified. A Trump Presidency threatened to crater the markets and boost Gold due to the economic uncertainty that would result. 45 days after the election, 10 year Bond yields in the US have increased from 1.8 to 2.6%, stock markets rebounded within 24 hours and are 6% higher than the polling day, and Gold is 12% lower. Capital is fleeing Emerging markets and headed for the US because of a new found euphoria for Trump.
The new narrative is that President Trump will boost fiscal spending and cut corporate taxes. Animal spirits have conveniently forgotten that 50% of US S&P earnings come from outside the US, that the much stronger US Dollar will impact export growth, that a tight labour market in the US will result in higher employee costs which will affect margins, that trade barriers erected by the US will be reciprocated by other countries which will impact growth, that US Corporate taxes are already amongst the lowest in the world and that new sources of revenue need to be found by the US Govt. to pay for all the grand fiscal stimulus plans
We are witnessing something similar in India at present. The common narrative is that demonetisation has cratered the economy. Job losses, long queues, the common man’s suffering are stories reported day in and day out. Suddenly the markets entire focus is on decline of short term earnings. No one seems interested in discussing corruption and crony capitalism under the previous regime or the longer term benefits to the economy of a greater compliant tax base, or market share gains for organized players, or that the short term results don’t matter in valuation of companies.
Data and narratives can always be found to support a bearish or bullish argument and get people to trade in and out of markets. Investors need to define their beliefs and an approach – a North Star – that will help create wealth over the long term. Surely these will evolve over time with experiences, but if they are well thought out, they should not change frequently.
Our investment beliefs have been developed over a decade of experiences. We believe
- In the power of long term earnings growth, and betting on themes with large opportunity and good management teams is the best way to generate superior returns.
- One very seldom gets a good economic environment and low stock price multiples simultaneously
- That no one can predict short term market movements or when prices will turn. Corrections are intrinsic part of the long term wealth creation process.
- In staying invested through market corrections as 80% of price moves happen on 20% of days and missing the large moves results in a significant drag on returns.
- That investors would be better served sacrificing trading and focusing exclusively on long term investing as the lure of the quick buck impedes long term thinking.
- We need to be mindful of the brain’s natural instincts – protective during falling markets, and exuberant during rising ones – and hence guard against being excessively fearful while making buying decisions during falling markets and acting on greed of missing out during rising ones.
The above beliefs help us stay the course and keep out the noise of a continuously shifting narrative.
So, we would recommend developing a set of beliefs that will govern the approach you take to protect and grow your wealth. These are too important decisions to be solely entrusted to advisors. And the next time anyone spins a narrative and makes an Investment recommendation based on recent market events, don’t act on the advice without questioning their underlying belief and reconciling it with yours. They may be playing a different version of cricket compared to you.