Michael Lipper: Investors' biggest gift lies in Singapore

This is the holiday season of giving presents. I have three ideas as presents for long-term, fiduciary oriented investors.

These ideas are both presents for those who may need them as well as thoughts that should have presence in an investor’s mind while looking into the future.

1.       Waiting for the big drop

At a recent dinner with a knowledgeable member of a charity’s investment committee, he indicated that he was out of equities for his personal account which is to fund his living expenses for the next twenty years. Yet he was perfectly comfortable with our use of equity funds for the charity. In terms of estimating future returns, I believe my actuarial friends will see little difference in a twenty year and a theoretical perpetual return for the charity.

While I recognize and expect the past price patterns to continue, this suggests that in any ten year period, there will be three 25% declines from peak levels. Further, once a generation there is likely to be a drop of 50%. Having experienced these in the over fifty years I have been an investor as well as serving other investors, I know very few market participants that totally side-stepped these declines.

I have found it to be more difficult to accurately guess how big a drop will occur once a decline is underway. I have looked over my notes and recollections of my judgments at or near past bottoms. In every case I convinced myself that a deeper bottom was required to bring the market to a bargain basement level. There were always lower estimates of earnings, unfounded rumors of firms, institutions, or well-known individuals that were in dire straits which would become known soon.

As difficult as it is timing a bottom price, the decision to buy early on the way up is even more difficult. Because at the time of the sharp decline there was no market-clearing event which would signify the end of the bear market, most lacked sufficient courage to be an early participant on the rise. Often this rise was described contemporarily as a rise in a bear market caused by successful short covering, not the beginning of a new bull market, or at least a sustained stock market rise.

While some may have all the skills of identifying a major decline in advance, recognizing a bottom, and being an early participant in the recovery rally, along with most other professional investors, I do not have these capabilities.  As with many extreme sports, and other dangerous pursuits, I choose not to engage in market timing strategies.

Perhaps more importantly, there are a number of positive features I see on the investment horizon which can be summarized as follows:

A)      The largest gains come from investing into opportunities when others retreat from challenges.

B)      A careful listening to the press conference given by the Federal Reserve Chairman will reveal his view that the monetary policies being followed have not lowered unemployment (and underemployment by those seeking full time work or discouraged workers). I would suggest other countries’ quantitative easing also has not produced significantly positive results. I believe that market and credit rating declines will eventually curtail the need to sell more government bonds to the central and commercial banks.

As usual the private sectors, including individuals, are ahead of the government sectors. While governments are issuing more bonds, the private sectors are deleveraging. In the future we may see the private sectors expanding while the government sectors begin to contract. One of the lessons for an equity investor is to look to the bond market for clues to the future.  Each week Barron’s publishes a confidence indicator that measures the ratio between the yields of mid-quality bonds versus high-quality bonds. The index normally moves 1% or less in a week. When the index goes up, which means mid-quality bonds are going up, it is bullish for stocks. In the last week the indicator rose by +1.4%. Bottom line: I would be leaving cash for equity.