Tuesday, October 13, 2009

Nobody Saw It Coming? Really?

There were in fact many who did try to warn investors of the risks of staying invested in the markets in 2008 (including yours truly).

A Dozen Reasons To Worry - Gary Shilling - Forbes - January 2007

Sell! Global financial problems will get worse. - September 2007

Are we headed for an epic bear market? - Satyajit Das - September 2007

Danger: Steep drop ahead - Jeremy Grantham - Fortune - September 2007

A Market Correction is Coming, this Time for Real - Financial Times - March 2007

HSBC says super-rich clients moving into cash - Reuters - September 2, 2008

The Perfect Storm - Financial Design - 2008

Understanding Secular Bear Markets - Journal of Financial Planning - March 2006

The Market Timing Question - Timing the market to lower risk - Don Wilson - 2007

Greenspan: Fed is not a ‘magical piggy bank’ - Associated Press - September 4, 2008


So, why did so many financial advisors not see it coming?

The first question to ask yourself might be: Who actually pays my advisor's salary/commissions/trailer fees and provides them with their research?

The second question to ask your advisor should be: What type of independent research do they do on an ongoing basis to actually earn their fees? If the only advice an advisor ever gives is to buy-and-hold, is that advice really worth the high fees investors pay?

You don't pay these fees directly (they are paid by the mutual fund companies), but these fees can still have a significant negative effect, not only on your returns, but also on the type of advice you receive.

Buy-and-hold works in a secular bull market. It fails terribly in a secular bear market. Good advisors are paid to know how to recognize these long-term trends, and position their clients accordingly. Each of these 10 to 15 year trends requires a different strategy if an advisor is to help his clients successfully grow and preserve their wealth.

Just as you are unlikely to find a realtor that will tell you that it is not a good time to buy a house, there are few financial advisors that will tell you that it is not a good time to buy mutual funds.

Giving investors the right advice in a secular bear market is less lucrative for any advisor whose income is commission/sales based.

It's not good for business to tell clients that their two options in a secular bear market are to either, 1) just buy GICs for the next 5, 10, or 15 years, and wait until the bubble pops (secular bear market runs it course), or 2) with the help of their advisor, try to time the market by actually buying low and SELLING high (this requires active trading; a risk-tolerance level many investors are not comfortable with).

For an advisor, it may be a lot easier to just guide/drag clients through a secular bear market on the hope that the markets will quickly come back and move ever higher (or the fear that if they sell, they might miss out).

If investors are not comfortable with trying to time the market, then what this should be telling them about themselves is that their risk tolerance is really much more suited towards GIC's during a secular bear market.

Remember, history has shown, a secular bear market usually lasts at least 10 to 15 years, during which the overall trend in the market is downwards, or flat at best.

In a secular bear market, buy-and-hold is not a good strategy, especially with all the fees that must be paid to "manage" your life's savings (in addition to the fact that markets are likely to be flat or lower over a long period of time).

It is important for investors to know that even if they lose over 50% of their life savings, their advisor may still "earn" more by keeping clients invested in the markets compared to the commissions he or she would be paid had they recommended that their clients consider GICs(with the goal being to help clients just preserve their wealth while they wait for better buying opportunities)!

Currently, the investment industry really is stacked up against the average investor because, as well as the advisor does financially, for keeping you invested in the markets at all times, their employer (brokerage firm, bank, credit union, or life insurance company) and the "professionals" that manage your money (who on average do no better than the market as a whole), make off like bandits (for themselves). Financially, for themselves, they do better than most people could possibly even fathom. Sadly, the investor, the one who actually took all the risk, sees none of the reward that should rightfully be his.

The average investor takes all the risk and gets none of the reward: Any earnings above GIC rates are eaten up through the different hidden fees.

When the market crashes, advisors will always fall back on:
1)nobody saw it coming
2)this is a great buying opportunity
(why didn't they call you and let you when it was a great selling opportunity?)

Please, get better informed.

The posts on this website are long, detailed, and some may be dry and difficult to get through (and for that I apologize). But, that being said, how many tens-of-thousands of dollars do your investments have to drop in value before you see the value in becoming a more informed investor? Again, I apologize for being so blunt, but please, understand that the things I say, I say only because I really do care.
What The Average Middle-Class Investor Needs To Know About Secular Bear Markets:

1. Secular Bear Markets can destroy the life savings of buy-and-hold investors.

Secular Bear Markets are very real! This is when, for 10 to 20 years (2000 - 20??), markets will have amazing runs and even more amazing crashes, but the overall trend is downward.

The last secular bear market was from 1966 to 1982, so very few people remember.

From 1982 to 2000 we had the greatest secular bull market in history, and this is the only type of market most investors have ever known. And the bubble was re-inflated one last time as low interest rates encouraged people to borrow and spend beyond their means, and bid up asset prices, in what they believed was going to be a never-ending virtuous cycle of forever rising asset values and wages. What most people ignored was the fact that this entire cycle was financed by immense leverage/debt that now has to be paid back, or written off.

When one person's bad debts are written off, the other side of this entry must be that somebody else's savings must also get wiped out! This is a deleveraging process, and it has a very deflationary affect on asset prices. But, it takes a long time for asset prices to bottom out, because, those with savings continue to jump in and buy at what they think are incredibly low prices (at least that is what the last 25 years of history have taught them - but 25 years does not a true history make). So, this process will still take at least a few more years to finally play itself out.

We will hit bottom only when the average middle-class investor is fed up with owning these assets (real estate and stocks) and just wants to get rid of them at any price because they have been money losers (as they drop in value) and have had a negative cashflow, for such a long period of time that investors sees no hope of things ever getting better. Before this happens, we will first have to go through the reality that many people will be forced to sell due to job loss (just to make ends meet, for as long as they can).

That is when we will hit bottom. That is the capitulation that we have to wait for to mark the bottom of a secular bear market and the beginning of a new secular bull market. The fact that this seems impossible to believe for most people, is proof positive, as far as I am concerned, that we have not yet hit rock bottom. People have not yet lost hope when it comes to their investments. That will still take a bit more time.

There are no painless shortcuts this time around that can get us through the necessary pain that we must bear as deleveraging runs it natural course and cleanses a system that is currently very toxic due to the amount of bad debt in it and must still be wiped out through bankruptcy.

I believe, the reality is, much wealth is going to be lost chasing returns as advisors, unfortunately will be successful in convincing their clients to ride out the market to the very bottom. Those willing to take minimal risk and receive minimal reward while they wait this process out, will be generously rewarded. But, it will take patience. Think of the mega-rich who are more than willing to buy 30-year US Treasury bonds that pay less than 4.5% for the next 30-years - from everything the average investor is told, this is a horrible investment. If that's the case, why are the super-rich buying? Are we to assume that the retail investor is right in buying equities while these investors choose the safety of US T-bills?

In regards to money on the sidelines, after we get past the fact that this is just a fallacy, remember, it didn't matter how much money was on the sidelines, General Motors had to restructure through bankruptcy, wipe out its shareholders, force its debt holders to take a severe hit, and its employees had to make fairly severe wage, benefit, and pension plan concessions. All of this is deflationary.

3. Advisors very rarely discuss Secular Bear Market investing strategies with their clients.


- Too much work? Secular Bear Markets require advisors to do a lot more in the way of research. (it also requires calling all their clients (200 to 1,000+) and making significant changes to their portfolios - may be easier, when the markets crash, to just tell their clients, "Nobody Saw It Coming."

Not good for an advisor's business/income?
(if they get paid a lot more for having you invested in mutual funds, they may fear losing you to GIC's - and if you own mostly GIC's, they fear that you may not need them anymore.)

- Or maybe, they just don't know much about Secular Bear Markets themselves?
(if that is the case, do these advisors really bring much in the way of value to their clients?)

What's best (or easiest) for the advisor isn't always what's best for the client.

(again, even if your mutual funds drop by 50% in value for a third time in just ten years, because your advisor didn't see it coming, again, he or she will probably still "earn" much more for just keeping you invested in these funds compared to what they would have earned had they switched you to GIC's when equity/bond markets were over-valued.)

Please, don't accept, "Just Diversify and Think Long-Term."
(The only people who get rich with this advice are the ones who are giving it to others.)


A Few Last Things To Consider:

If, over the last ten years, your advisor didn't see the last two market crashes coming (50% drop in investment values), will it destroy your retirement plans if he again misses the next such drop, because he believes his clients should always be invested in the market, regardless of market valuations, where we are in the business cycle, or how long we have been in the current secular trend?

Does your advisor justify his simple buy-and-hold strategy by telling you that he just doesn't believe in "market timing", and history has proven stocks outperform in the long-run?

Remember Japan? The nation with the second biggest economy in the world, and a country that has actually maintained a trade surplus for years on end! Today, their stock market is valued at around 25% of where it was, almost 20 years ago? Therefore, it has lost almost 75% of its value over the last 20 years. And this was during a 20-year period where the global economy was actually growing at an unsustainable pace!

So, the facts are this; the world's second largest economy, an economy that tends to have a trade surplus, has experienced a 75% lose in stock values (Nikkei 225 index), and this all took place during a 20-year period where the world experienced record growth!

Is that long-term enough to prove that simple truths are sometimes not truths at all?

And so, when people try to explain this away by saying that the US isn't Japan, let me make this very clear, the US may be much worse, because Japan is a nation of producers and savers, whereas the US is a nation of consumers and maxed-out debtors.

Live! Love! Laugh! Learn! Leave a Legacy!

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