Philosophy

Are You a Dirty Capitalist Too?

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Since the 2007 financial crisis broke, we’ve been hearing a lot about the carelessness and greed of our financial system. The pursuit of corporate profits, we are told, led our economy to ruin and apparently will do so again in a heartbeat. Big corporations and financial institutions are crushing the middle class underfoot and choking the life out of the American dream. These are the sound bites we hear daily
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Corporate malfeasance certainly played a role in the crisis and we are gratified and relieved when we see it punished. But these excoriations of our financial system overlook one important fact: capitalism is a fundamentally democratic institution. All of us reading this blog can—and in most cases, do—participate fully in the capitalism system.

When you purchase shares of stock, those shares represent a unit ownership in a corporation. What’s more, the shares you buy are fundamentally identical to the shares that those “greedy” Wall Street banks and hedge funds are buying, with all the same rights and privileges. They might have more shares but the rewards of ownership are divvied out proportionately. When a corporation pays out dividends every share of the company gets its fair piece; they can’t pay out some owners and not others.

Some of our readers may be thinking, “This is all well and good for the rich people who own stocks, but what about us little folks?” The beauty of this system is that many of us little folks also own stocks. Many of us contribute money out of our paycheck towards a retirement or pension plan, through which we are beneficial owners of stock market investments. That makes us capitalists.

And it’s a good thing, too. Through our collective investments, millions of modest savers are pooling their money to create capital. Our investments and retirement savings turn into factories, datacenters, and hospitals—all of the machinery of modern life. Whether you realize it or not, if you have any investments you may very well own a tiny slice of many of those things. So when you feel you’re being gouged by an overly greedy corporation, just remember that their “unfair profits” are also funding the retirements of millions of regular workers just like you—and possibly you, yourself.

We know the system isn’t perfect. We can’t guarantee that corporations will always act wisely or ethically, and it’s important to remain vigilant. We believe the best and surest way to make sure that our interests are represented by the system is to participate in it. If you want to get involved, call or email us.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. No strategy assures success or protects against loss. Stock investing involves risk including loss of principal.

Times Have Never Been So Tough!

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As humans, we’re generally self-centered by nature. We sometimes have an exaggerated sense of our own importance.

That’s not to say that there’s anything wrong with this. We happen to think that enlightened self-interest, with the understanding that the best way to make ourselves better off is through mutually beneficial cooperation, is an excellent principle to live our lives by. But sometimes it pays to keep the bigger picture in mind.

Our experience of the present century is one of turmoil. We’ve seen terrorist attacks of unprecedented scale, the biggest recession in a century, extremist political movements everywhere from the third world to the first world, terrifying epidemics, wars, natural disasters—the list goes on and on. In our egotism, it’s easy to fall into the trap of thinking that we must be living through the greatest crisis in human history.

In fact, we’re so stuck in the here and now of our lives that we’re willing to ignore evidence from our own lived experience—many of us have actually lived through just as many troubles before! The recessions of the 70s saw higher unemployment, lower growth, and vastly more inflation all while the Cold War raged on in the background. We know the 2008 crash was painful, but compared to lines at the gas station and 20% inflation things don’t seem so bad.

And yet, those of us who came of age during those troubled times still have nothing to complain about. Think of how our grumbling about gas prices must have sounded to the generation before us! They lived through the Depression and the rise of fascism, bled on the beaches of Normandy and watched the Iron Curtain descend. They saw a hundred thousand souls go up in nuclear fire and millions more die in the concentration camps.

Those that came before them had it no easier, either. The fact that the Great War’s casualties took place on the battlefield rather than in bombing campaigns and death camps would have been little solace to towns that lost an entire generation of young men, butchered by unprecedented machines of war and chemical weapons so terrible that not even the Nazis would stoop to using them.

Going back further there’s an almost infinite number of crises in human history we can look back to. Everyone thinks they’ve got troubles, and by and large they’re right. But as preoccupied as we are with our own troubles, we should strive to keep them in perspective. As it turns out, we have a once-in-a-generation crisis about once a generation. As a civilization we’ve gone through a lot of generations and a lot of crises and still kept going.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Inflated Expectations

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Back in 1970, gas was 25 cents a gallon and you could buy a liter of Coca-Cola for 15 cents. We all know that money is not what it used to be. When planning for the future, we need to remember that our money is not always going to be what it is now, either.

Conventional monetary policy aims for “normal” levels of inflation in the low 2-3% range per year. That may not sound like much, but it adds up. At this level of inflation, prices double approximately every 30 years. If you bury a dollar in the ground and dig it back up in 30 years, you can expect it to only buy half of what it could buy today.

For some people, this is fantastic news. If you take out a mortgage to buy a house, it gradually becomes easier for you to pay it off over the lifetime of the loan. At the end of a 30 year mortgage you’ll still be paying off the same amount, but the prices of everything else (including your wages) will have doubled. A small amount of inflation gives people incentives to invest and take risks with their money, helping make the economy more productive.

If you’re planning to retire on fixed assets, however, inflation poses a serious threat to you. With advances in healthcare it’s not unreasonable to expect new retirees to live another 30 years. After thirty years of inflation your retirement assets will only buy half as much in groceries and rent. Retirement funds that seem generous when you’re 65 may leave you in dire straits when you’re 95.

The simplest way to fix this is just to have more money than you’ll ever need—it doesn’t matter if your money loses spending power if you have even more money to spend. Of course, this is easier said than done! Saving diligently and spending wisely will only take you so far. If your retirement bucket isn’t big enough to weather inflation, you need to be able to grow your bucket. A balanced growth and income portfolio can potentially give you retirement income while still having some growth possibilities.

There are no guarantees; the future is full of uncertainty. Growth-oriented holdings can be volatile, and it takes steady nerves to watch the value of your retirement holdings going up and down. If you can tolerate it, though, including growth holdings as part of your retirement portfolio can give you a chance to stay ahead of inflation.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.

Our Three Principles

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You’ve heard us talk about conventional investment wisdom, as embodied in Modern Portfolio Theory. No surprise here: we don’t like it. The pie charts, talk of asset classes and correlation… It is all wonderful until it isn’t.

Our alternative approach relies on three fundamental principles. We believe they apply in every season.

Avoid stampedes. Our first principle to avoid stampedes in the markets, and it’s based on our understanding that the stampede is usually going the wrong way. There was a stampede into tech stocks in 1999, which ended badly. There was a stampede into real estate in the early 2000s, which ended badly. There was a stampede into commodities after that, which ended badly. In short, major peaks are usually accompanied by a stampede of money that drives prices to extremes.

Seek the best bargains. Our second principle is to seek the best bargains in the investment universe. This principle lets us sort “the market” into its pieces. The three major asset classes are stocks, bonds, and cash alternatives. Cash and its alternatives currently earn practically zero-point-nothing interest rates; bonds are barely better. Diving one level deeper into stocks, we find that some sectors and industries are expensive and others appear to be bargains.

Own the orchard. Our third principle is to seek to own the orchard for the fruit crop. Portfolio income is an important component of total returns, and those among us who rely on our portfolios to buy groceries surely understand the importance of cash income. As noted above, interest rates remain very close to zero: we do not believe that bonds or cash alternatives are a good way to generate income these days. But we are currently enjoying generous dividends from many companies in the bargain sectors. Other holdings purchased in past years continue to pay regular dividends today.

We must note that, in actual practice, these principles require patience. One should always know where needed cash and necessary income will come from. Please see our other posts for fuller treatment of the three principles in action.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. We suggest that you discuss your specific situation with your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results.

There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.

Investing involves risk including loss of principal. No strategy assures success or protects against loss.

Poverty, Prosperity, Optimism, Pessimism

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“What causes poverty? Nothing. It’s the original state, the default and starting point. The real question is, What causes prosperity?” – Per Bylund, Ph.D.

Some believe that my persistent native sense of optimism must be evidence of a traumatic brain injury in my youth. A more pessimistic person once asked me if I wasn’t reading the papers or watching the news. But one of my aims every day is to see and understand the world as it is around us. So let us dispense with talk of being dropped on one’s head, and ponder the megatrends that shape our part of history.

The World Bank calculates that in 1990, 37% of the population of Earth lived in extreme poverty, with incomes of less than $1.90 per day (2011 dollars). One can imagine the privations that accompany such massive and grinding poverty, from poor sanitation and dirty water to disease and lack of basic health infrastructure.

In twenty-five short years, the population count in extreme poverty declined to less than 10% of the people—down from 37%. These 700 million have all the same challenges and problems of the nearly 2 billion poor back in 1990, and we cannot minimize the gravity of the situation for these people. Yet never in history has so much progress been made in such a short amount of time for so many people—hundreds of millions of people were lifted out of extreme poverty.

Measuring progress another way over a longer time frame, global life expectancies have been calculated to be less than 30 years in 1870, and around 71 years in 2013. Life spans more than doubling in 150 years! In either of these cases, poverty and longevity, it seems unlikely that anyone around at the beginning could have believed the progress that was about to unfold.

One naturally wonders about the factors behind the wonders of modern times. I’d like to think our progress depends on the degree of freedom that each of us has to make the most of our own potential, in societies with the rule of law and respect for the rights of the people. My idealized concept of our economic system is that the surest path to prosperity is being of value and service to others, a sustainable and ever-improving system.

We have challenges, problems, issues, aggravations, and troubles—as always. But my optimism remains based on reality.

The Philosophy Lurking in Your Portfolio

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Modernism is a philosophical movement that arose from the far-reaching transformations Western society underwent in the late 19th century. This gave way to the skepticism of the late 20th century which led to the movement we call Post-Modernism.

This sets the stage for our discussion of Modern Portfolio Theory (MPT), and our response to it.

If you have ever seen the customary asset allocation pie chart or heard talk of getting exposure to all the major ‘asset classes’ then you have been exposed to MPT. It presumes that historical data about the behavior of all the various kinds of investments enables computers to calculate the best mix of holdings to get the returns we desire with the lowest level of risk. One investment zigs when another one zags, leaving the total portfolio steadier than it otherwise would be.

Great theory. Here are the problems that arise in practice:

1. At times of greatest stress in the markets, when you most need MPT to work, the historical correlations go away and the most overpriced assets get slammed regardless of what the computer thought.
2. Common sense and fundamental investment analysis often reveal that one slice of the asset pie is likely to leave a very bitter taste. Large growth stocks in 2000, real estate in 2007, commodities in 2011…everybody knows now that the best allocation to these overpriced bubbles was ZERO.
3. Although the discipline of MPT reduces the damage from counterproductive crowd behavior, it neither eliminates the damage nor allows one to profit from the madness of crowds.

Our investment management approach, forged in the skepticism born of deep knowledge of MPT, is based on three fundamental principles. We believe these principles are timeless, suitable for any market. We have written about them before, we will write about them again, and we have talked incessantly about them for twenty years. For now let us simply note that, as a reaction to Modern Portfolio Theory, they might collectively best be known as “Postmodern Portfolio Theory.”

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.

It’s the Journey, Not the Destination

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When we think about our lives and plans, milestones are a useful concept to help organize our thoughts. In ages past, the mile markers on the roads of the Roman Empire let travelers know of the progress of their journey.

The same is true of the milestones in our lives: birthdays, anniversaries, graduations and retirements are points on the journey, not the destination. The road continues on, after we reach each milestone. They are memorable accomplishments worthy of celebrating, a natural time to reflect and take stock… but not the destination.

Thus it is with our business anniversaries. We’ve been at 228 Main in beautiful downtown Louisville for fifteen years, as of November 1st. Larry is wrapping up one year in our shop already; Greg will soon mark his sixth anniversary. Next year, our firm marks twenty years in its current form.

But we measure our progress by the people we’ve helped. The staff, systems, experience and resources we put together to do our work for you more effectively are our true milestones. Hiring a third member of the team, having a dedicated staffer to help with the technology clients use, building out our 24/7 communications in the New Media, allocating more time to research and portfolio management: these are the recent milestones we care about.

In other words, our true milestones are the ones that help us help you make sense of your journey.

Why Life in the 21st Century is So Grand

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People know why financial advisors invest time and effort studying the economy, markets and specific opportunities. The case for commenting and writing and posting in the 21st century media may be less clear. But there is a compelling reason why we are so engaged, one that has to do with your financial wellbeing.

One of the biggest factors in investment outcomes is investor behavior. The average investor (and some advisors) behave in counterproductive ways. They tend to buy at high prices in times of euphoria and sell at low prices in times of general despair or panic. We believe our clients are far from average, however, and we would like to keep it that way.

Our theory is that more communication leads to understanding, understanding leads to effective behavior, which in turn usually results in better outcomes. We have no guarantees about the future, but we are pretty sure the wealthier our clients are, the better off we will be.

If we take time to write down one or two of our stories every week, we can post them for any client to read any time, 24/7, at their convenience. There aren’t enough hours in the day to tell a story a hundred times in a week, but a hundred people can read the story at the same time here in the 21st century.

More communication is better communication, and there is a terrific side effect. Since some fraction of clients get some fraction of their information from our new media efforts, we have more time to talk one-on-one when that is needed. Whether you follow on Facebook or Twitter or subscribe to the blog, we have more time to talk.

More communication, more time, potentially better investment outcomes….life in the 21st century is incredibly grand. We’re glad you are with us.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Investing involves risk including loss of principal.