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Archive for November 3rd, 2012

On Time Horizons

Saturday, November 3rd, 2012

Why are time horizons important?  Because people have future goals that they want to meet.  We typically invest money today because we have some need that we are trying to meet in the future, whether that is college expenses, retirement, or some other less common need.  Institutionally, that could be funding a charitable endowment, a pension plan, or the liabilities of a life insurer (or other insurer, but life liabilities are long).

Most retail investment advice is short-term in nature: the analyst has determined that something good or bad will happen in the short-run, so buy or go short now, respectively.  In general, such investment advice has not worked out well.  Why?  For the most part, it is very difficult to time corporate events.  It is better to try to gauge longer-term prospects, and invest accordingly — but that means you have to have no need for the assets in the short-run.  As is said in many places, you are only investing what you can afford to lose.

Few invest that way, because it is in our nature to be jumpy.  We look for short-term gains when we should be patient.  Many stocks are like crops that may take years to mature.  Yes, if you get the timing right, you can do far better, assuming you have better places to reinvest.  Making a clever move is one thing, but a series of clever moves is tough.  Investing is easy, but changing horses, and selling and buying to make a big kill is tough.

Now bonds offer more precision on time horizons.  Invest today, and barring default, your principal comes back at maturity. With equities, we rely on arguments that over the long run equities don’t lose money.  There is nothing structural to support this; ask the Japanese if they agree.  (I could comment on equity markets that have gone out of existence for a time, but I refrain.)

At present, the CAPE10 and Q-ratio indicate that stocks are not likely to return a lot over the next 10 years.  The same is true of most high-quality bond investments.  Also, true of most high-yield investments when expected losses are netted out.

In an over-indebted world, the marginal efficiency of capital is low — we need a certain amount of bad businesses to fail, so that capital can be reallocated to ventures that are more promising.  No one likes failure in the short-run, but it yields good results in the long-run — more promising ideas get capital.

We don’t need more houses, banks, autos, etc.  The bailouts were a failure because they perpetuated a part of the economy that was in oversupply.  Thus we have had a weak recovery.

Back to time horizon.  I am not crazy about buying bonds here.  The risk-reward is awkward, but the same is true of stocks.  That said, the variability on stocks is greater normally, but with rates so low, it may be similar.

If this does not sound optimistic, you understand me well.  Perhaps that means that cash, gold, or foreign currency bonds might be better, though I have my doubts on foreign bonds.

I’m going to keep doing what I always do.  I buy cheap, well-capitalized stocks, in industries that are out of favor.  I manage money with a view to holding stocks for 3-5 years.  Though it has not worked well for me recently, it has worked well in the past, and I will pursue my opportunities there.



David Merkel is an investment professional, and like every investment professional, he makes mistakes. David encourages you to do your own independent "due diligence" on any idea that he talks about, because he could be wrong. Nothing written here, at RealMoney, Wall Street All-Stars, or anywhere else David may write is an invitation to buy or sell any particular security; at most, David is handing out educated guesses as to what the markets may do. David is fond of saying, "The markets always find a new way to make a fool out of you," and so he encourages caution in investing. Risk control wins the game in the long run, not bold moves. Even the best strategies of the past fail, sometimes spectacularly, when you least expect it. David is not immune to that, so please understand that any past success of his will be probably be followed by failures.

Also, though David runs Aleph Investments, LLC, this blog is not a part of that business. This blog exists to educate investors, and give something back. It is not intended as advertisement for Aleph Investments; David is not soliciting business through it. When David, or a client of David's has an interest in a security mentioned, full disclosure will be given, as has been past practice for all that David does on the web. Disclosure is the breakfast of champions.

Additionally, David may occasionally write about accounting, actuarial, insurance, and tax topics, but nothing written here, at RealMoney, or anywhere else is meant to be formal "advice" in those areas. Consult a reputable professional in those areas to get personal, tailored advice that meets the specialized needs that David can have no knowledge of.

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