Transcription:
Paul Winkler: Yeah, welcome to the Investor Coaching Show. I’m Paul Winkler talking about the money thing. Always lots to cover here and more so as we get closer to the election.
It’s gonna be a really interesting week. I think it’s the thing that’s on everybody’s minds right now is writing a newsletter this week. And I said, it has the elephant in the room. Let’s just face it. This is what’s being talked about. Everybody wants to know how the election is going to impact things. Of course I did that online workshop a few weeks ago, and that’s out there on my website. A couple of ways you can get to it.
And then if you don’t know what that is just emails, but the other way to get to it is pretty simple as well. It is on my website, paulwinkler.com. We’ll just send you a link is how we’ll do that.
Now let me just talk in general about the election and just talk a little bit about something I saw on CNBC this week. There’s a good video clip. And I want to just discuss a few things from this video clip, a couple comments that were made that I heartily agree with. And I’ll just make a few comments about them.
Election cycles and markets
Clip: “Andrew. I mean, it’s understandable that investors fixate on the election, it’s the main known catalyst out in front of us on the calendar, but we actually don’t typically see elections as a crucial or lasting driver of market cycles. We really don’t date the start or end of bull markets to any presidential election. And that’s something to keep in mind. Yes, there’s some patterns about how the market behaves leading into an election. For example, when the incumbent loses, typically the market has been weak in the six to twelve weeks beforehand. And in fact, when a Republican incumbent loses, that’s the worst leader.”
Paul Winkler: Right away, this, this is something I talked about in the workshop that I did the online workshop about it was something like 20 out of 23 presidential elections were decided by market activity, or they say anyway, before the election, if the market was down, actually the incumbent ended up losing the election. So now if the market goes down, it was actually, and it stays. And you know, that’s, you literally have to know what the market’s going to do all the way up to election day.
Then you can, you know, 20 out of 23 times, what does that mean is going to work in the future? Well, you know, three out of 23 times, it didn’t work. So you look at it that way and say, well, okay, so it doesn’t always work. And the reality of it is that if I know something works, you know, it doesn’t help me predict future market direction. Anyway, you know, just because if something worked in the past, then I know it worked in the past and I will filter that through my decision making when I buy in the future. You know? So if I know that the market always goes down before X happens and it looks like X is going to happen, then what I’m going to do is as a buyer, I am going to say, well, you know, when X happens and X is happening, the market goes down.
I am going to pay less before X actually happens. If that makes any sense. So I’m not going to sit there and just take it. I’m going to take action to make sure that I’m not negatively impacted by it. So just something to keep in mind,
Clip: “But guess what? It’s the best for the year subsequent. So the point being usually these are kind of temporary effects. They’re sentiment driven.”
Markets and variables
Paul Winkler: The problem is, if you acted on it and got out, then all of a sudden you miss the upturn when it happens. Cause you remember that 96% of market gains occur in 0.9% of trading days. So you better be there before it happens. And if this indeed, you know, you have this scenario where he’s talking about where the market ends up going up and everybody knows it, markets will go up and you won’t be there for it. And that is a huge problem. Investment there’s toy investors get such bad results. They’re always trying to figure out where things are going.
They think it’s self preservation. You know, people say, ah, you know, I need some safety in, in my, my portfolio. Matter of fact, I’ve got something that I’m going to talk about because I had a conversation with a financial advisor this week and he was asking me this question. And I said, well, you know, here’s what I say is, you know, there was actually something that I did with a client this week, this past week, and I’ll run you through that. But I think it’s really, really important. Safety is a very relative term and you can get yourself in big, big trouble trying to be safe all the time.
Clip: “So too many variables, you have to get the presidential result, right? What the makeup of Congress is, what the initial policy priorities are going to be of the new administration, the prospects for passage and how that all plays into the markets. And what’s already priced is very, very difficult to do. And usually other factors override that.”
Paul Winkler: That’s really good stuff right there. And you think about it if there’re so many variables, how do you possibly keep them all in your head? And the reality of it is that is why investors have had such a hard time and next to impossible and outperforming markets historically, because they’re trying to figure out where it’s going to go based on what their limited mental faculties will help determine. And the problem is there’s just so many variables. You can’t possibly keep them all straight.
It’s kind of like the weather. I mean, think about that. How many different variables create the weather? And you know, the weather is, in so many instances, difficult to predict. It’s way more predictable than the stock market. And you think about it, but yet even there we have problems we struggle with what’s gonna happen. What’s the weather going to be? Is it gonna rain? Is it not going to rain? Is rain going to dissipate before it gets to Nashville? What’s, what’s going to happen?
Clip: “Right now in this particular cycle, there has been such a persistent sense that there will probably be volatility around the election. And there’s a tremendous amount of hedging. That’s already taken place. Market implied moves around the election in stocks and bonds are already pretty significant. So it’s difficult to say that whatever the likely result is going to be is not going to be somehow handicapped by the market beforehand. That’d be. So those are all the things to consider.”
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Hedging
Paul Winkler: Bam out of the park, right? I mean, that’s really what’s going on. You’ve got hedging going on. In other words, you have people betting that the market’s going to go down. They can actually buy things based on the market going down, or what they’ll do is they will pay less for stocks in anticipation that they may go down. So that means that those bad returns or the market being down or the market pricing is already in anticipation, that things may be worse, let’s say, or that risk is higher.
So the way I like to explain it is this, let’s say that I have a, I’m a stock. And I say, well, I think that the earnings might be a dollar. I think that the earrings might be a dollar in the future. And I feel pretty confident that earnings are going to be a dollar in the future. Well, I may be willing to pay $20 for that dollar of earnings. That would be the PE ratio price, $20 to earnings one. Now, if all of a sudden I’m going, you know, I’m not really sure that those earnings are going to come in.
I may only be willing to pay $10 for them. So now it’s a 10 to one PE ratio. So we take the numbers and turn it over. One for 21 divided by 20 is 5%. That’s when I feel fairly certain that I’m willing to accept a lower return or turn the number over and go one divided by 10%. I feel less certain that they’re going to come in. What if I feel really uncertain? I’m only willing to pay $5 now. So it was one divided by five, which is 20%, you know, so I look at it and say, well, what happened, where I felt the least certain, I paid the least.
And that’s the way that the markets work. You know, so what happens is in some areas in the market, now we’re fairly confident that they’re not going to be a whole lot of changes. It’s not going to be too terrible. Where would that be? Large US companies. I was talking about this guy who was trying to pitch to an investment advisor, the idea of buying a large company S&P 500 fund, a dividend paying stock fund and an annuity. And I was just, Oh, wow, that’s really great. That’s a wonderful going annuity.
You know, 10% commission could be, and you know, commissions can be all over the place, but they’re usually pretty high. And you know, it might be 7%, 10%, 8% commission, whatever, you know, so that’s huge then an S&P 500 fund. Well, that’s easy to get you to do that because you know, that area of the market had the best performance in recent years. So yeah, why not just expect that trees are going to go to heaven. It’s going to continue to go up. But that area of the market right now is selling for $3.
So you look at it, I go $3. Okay. What does that compare to other areas of the market? You know, that people feel a little bit less certain about what US small value stocks. According more, he started at 93 cents. That’s a big difference.
So you look at that compared to $3.43 cents, and you see, wow, that is not a cheap price, or why is it mispriced? Is it selling for too much? Is that over overvalued? Not necessarily. What investors do is they go well, where do I feel the most certain, regardless of how the election comes out, I feel the most certain there. So what they do is they will pay a much higher price, which in essence, you have a lower expected return, but you have tremendous risk because what if those prices aren’t justified by what comes out of the election?
This is why diversification, as I always say, is so stinking important. You know, you may be sitting there feeling great about owning this fund that had just, you know, decent performance over the past 5, 10 years, and you’re going, yeah, this is great. And, you know, I don’t want to, I don’t want only those international companies, those that are too volatile. And you don’t realize that some of these companies are selling for 65 cents on the dollar compared to book value. And you go, Whoa, wait a minute. Maybe, you know, maybe just, maybe I need to have those types of asset categories just to help protect myself in case, you know, things don’t necessarily go the way that I want them to go in November.
Pricing strategy
You know? So these are all things. But when we talk about hedging in essence, this is a really, really important concept that he brought up in that markets will actually look at what is likely to happen, what could happen. And that’s all part of the pricing strategy right now, you know, so you to make a change in how you’re doing things, you know, based on what you think is going to happen is just one bet. And that’s why I like to use the word bed. It’s one bed of so many.
There are so many people that have different opinions on what’s likely to happen and you know what’s best, just as good or bad as anybody else’s bet, and then what’s going to happen. And that’s why it is such a dangerous thing to do. It’s a dangerous thing to go and stick your money in cash. You know, you’re looking at a guaranteed pretty much losing right now. Anyway, look at the interest rates, a guaranteed losing proposition where the interest rate being paid is less than what the inflation rate is.
Well, you know, you could, it might be 20, 30 years in retirement, 10 years in retirement could be terrible. I mean, you look at the 1980s, where prices of things were doubling every six years because you know, the Fed got things wrong. And all of a sudden we started getting a big bump of inflation and all of a sudden your money sitting in there and cash is depleting faster than you can shake a stick at it. And you’re sitting there going, Oh, crud. I can pull my money out of the bank, but it doesn’t purchase nearly what it did when I put it in the bank.
And now you’ve got a problem. So it’s, there’s really trying to avoid risk is just a futile exercise. You know, so often we try to do it, but it’s a dangerous, dangerous exercise that is a better lifting and a better, a better avoided as an investor. Yeah. And that’s just it. So looking at that particular, you know, that audio clip, he just hits so many different areas that I think are just really, really key. And what is at stake with this election when we’re looking at trying to figure out where things are going to go, I don’t know.
I am. And I’ve had so many instances in my career where I say, I think I really know what’s going to happen. I get less lambasted. Something comes out of the blue and it’s usually something you don’t expect. And then we’re sitting here watching the election and then there’ll be something completely different. Totally outside of the US. We watch, Oh God, you know, do they have a vaccine for the coronavirus? Do they have a treatment for the coronavirus?
We’re watching that and something, and I don’t even want to throw anything out there because it has always been something completely unexpected that makes market markets move one way or another. And we often think, because it’s uncertain that it’s going to be something bad. And the reality of it is so often, well, two out of three times when, because the market goes up more often, it goes down. It’s something really, really good. And you know, it’s like, you know, Warren Buffet, when he made the comment, he says, “you know what? I’m greedy when people are fearful and fearful when they are greedy because when people are in the most fear, that’s when they’re paying the lowest prices for stocks.”
I don’t want to pay anything when I’m kind of uncertain about the future. And therefore that’s why historically the opportunities have been when things seemed the least certain, and this goes back, this isn’t just a recent phenomenon. This is something that goes back thousands of years. We have data on the very first government bond that was issued in Venice. And it’s exactly what happened in Venice. They had these bonds that they issued and they traded in the open marketplace. And when it ended up happening is when things were really uncertain.
That’s where the returns were highest when things were the most certain in the Roman Empire. That’s when you had the lowest returns. And it’s just, it makes sense. Doesn’t it?
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