END 2009 REPORT
Last Updated Monday, 06 December 2010
Regression to the mean
In our end of year 2008 report we predicted that the markets might rebound from an extremely oversold condition. Regression to the mean is a statistical fact of life in several disciplines (including medicine, biology, physics and economics ) The argument that “This time is different” can become both dangerous and costly. In the present crisis the people that endorsed this argument missed the most powerful recovery rally in history from the March 2009 lows. We believe that History deserves some respect. Of course an alternative view might argue that even a broken watch can be right twice per day and our forecast was due to chance. We cannot argue…
The long term facts.
Human ingenuity, hard work and superior organization create wealth. Investors participate in the wealth creation mechanism through the stock market. Commodity or real estate markets are in essence derivative markets distributing the gains from doing business. Lenders investing in bonds or deposits enjoy considerably less than equity holders for abstaining from consumption. The real compound returns for the last fifty years are about 7.0% for large US stocks, 4.0 % for long term Government Bonds and 1.5% for Treasury Bills. Smaller stocks enjoy an additional premium, Similar differences in returns compensating risk taking are observed around the world. Moreover, Value stocks (Low P/E, low P/BV) also provide higher returns. Finally, selected international markets linked to economies with good macroecomic performance provide higher returns.
Our investment approach will continue to study these facts and trends and will attempt to take practical advantage by investing accordingly.
Recent history
Last year was the second worst in history for stock markets as the global financial system almost collapsed!. The decade 2000-2009 was the worst decade compared to the nineties, the eighties and any other starting with the same digit. . Even the thirties performed better if dividends are taken into consideration. In addition, decade 2000-09 was the second worst in history compared to all possible decades. Indeed, Year 2009, provided a nice recovery in the stock markets but could not cover the extended losses of the previous years.
We would like to stress the historical statistical fact that decades with weak stock market performance are followed by strong performances especially if valuations are not overextended.
The fundamentals
The bulls and the bears will continue their eternal fight :
The bulls believe that :
a) Price to earnings ratios are less than the long-term average and are considered even more attractive compared to the record low interest rates.
b) Liquidity is ample and helpful.
c) Growth rates might surprise positively during the recovery.
However, at least three causes for concern might lie ahead :
a) The recovery in inventories might have run most of its course and the growth rates might take a breather in the West.
b) The individual consumer and the investor could exhibit difficulty in replacing the governments as the latter attempt to decrease deficits and withdraw from their stabilizing intervention.
c) Interest rates might start increasing causing a flow to fixed income assets.
It is very probable that stock markets might take a pause. However, always the question is when and by how much.
Indeed, Bears might sooner or later have their day. But eventually we believe that Bulls will carry the decade. Stocks
will probably constitute the best performing asset class in the future as respective performances will regress towards their long term mean.
Good Luck to all of us!
Nicholas Ritsonis Ph.D