Saturday, February 28, 2009

"Buy and Hope Investing"

The two graphics above come from John Mauldin's latest weekly newsletter, "Buy and Hope Investing". In it, Mauldin takes Wharton Professor Jeremy Siegel (author of the buy & hold tome Stocks for the Long Run) to task for Siegel's op/ed column in this week's Wall Street Journal ("The S&P Gets Its Earnings Wrong: Stocks are cheaper than they look."). Mauldin also adds some comments about President Obama's budget proposal and some bullish comments about what the longer-term holds. Below are a few excerpts on each of those topics.

On Jeremy Siegel:

Let's be clear. I like Jeremy Siegel. He is a very nice and very smart gentleman. But in his op-ed piece, I think he was talking his book, if you can pardon the pun.


[L]et me state unequivocally that there are stocks in the S&P 500 that are good values. If you buy them today you will be rewarded in the medium and long run. Don't ask me which ones, because I don't do stocks -- I have enough on my plate looking at investment managers and the economy. But there are value managers who will do well from this point. The fact that they have been hammered by 50% or more in the past year is another story for another letter. (But nearly all of them made the case that "today" was a good time to buy their fund and did so every day for the last year.)


Stocks that lose money fall in price. That is no mystery. And if you are an index investor, you want to know what the index is going to do, not what just some of the stocks are going to do. If the market cap of Citibank drops by 90%, it is going to affect the index. In Jeremy's system, the positive earnings of Citibank in 2006 would be weighted 10 times more than the losses in 2008. That does not help you assess overall index value going forward.


Who might want to use such a different weighting methodology? Someone who was committed to buy and hold, has seen their portfolio trashed, and wants to hold on to some hope that their stock is going to come back. Such statistics are a kind of feel-good narcotic for the buy and hope crowd.

For the last 18 months there has been a parade of analysts, mutual fund managers, brokers, and their kin, telling you that stocks are a reasonable value "today." And they trot out "data" (with lots of charts) which supports their position and then ask you to invest "now."

"The stock market turns up six months before the end of the recession. This recession is already almost the longest, so now is the time to buy." The bullish cheerleaders said that six months ago, they say it today, and they will say it in six months. One day they will be right. Care to make a bet?

On President Obama's Budget Proposal:

This week saw President Obama give us a budget with a projected deficit of $1.75 trillion dollars, and a massive tax increase on the "wealthy." But hidden in the details was an even larger tax increase on everyone. Obama wants to create a cap-and-trade program for carbon emissions. This is expected to generate $79 billion in 2012, $237 billion by 2014, and grow to $646 billion by 2019. These will be payments by energy (primarily utility) companies to the government. That will cause utilities to have to raise the prices they charge customers for energy. Such a level of taxation is eventually 4-5% of total US GDP. That is not small potatoes. And since the wealthy do not use all that much more power than the rest of us, it will affect the lower incomes disproportionately.

It will take money out of consumers' pockets and transfer it to the government. You can call it cap-and-trade, but it is a tax. And a huge one. Anything that will take 4% of GDP away from consumer spending is not business friendly. And by driving the cost of energy up, it will drive high-energy-using businesses away from the US to developing countries where energy is cheaper1. It will make it even harder for people to save money and drive up costs for the elderly and retired. But it will make the environmental lobby happy.


Just as a fragile economy is ready to pick itself back up, a large series of tax increases will help slow it down and may push us back into recession.

Which brings me back to my earlier point. Buying a stock market index in today's environment is as much a matter of hope as it is anything else. I readily admit you can make a case for individual stocks, but a large index is a reflection of the broad economy, whether in the US or Japan or Europe. The global economy is weak and likely to be so for some time.

On The Longer-Term (a little sugar to wash down that medicine):

[L]et me also suggest that when we do get the problems worked out, and we will, the recovery that ensues may be breathtaking in its scope, as the technological changes that will be coming down the pike in the next 5-10 years are simply going to dwarf what we have seen in the past 30. Ray Kurzweil2 predicts that we will see twice as much change in the next 20 years as we saw all of last century. Think about the implications of that.

1We made a similar point in a post last fall ("A Tale of Two States: Utah Versus Rhode Island"), noting that one reason Utah's unemployment rate was so much lower than Rhode Island's was because Utah's industrial electricity costs were roughly a third of Rhode Island's.

2We mentioned Kurzweil in a couple of recent posts (e.g., "Singularity U."). See also J.K.'s comments on that post.

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