Does History Say We Are at the End of the Bear?
Editor, The Investor's Edge ®
The first years of this millennium have been dubbed “the lost decade” for investors. 2011 was no different, ending flat for the year. So are the troubles we see so difficult that now is the right time to throw in the towel and buy Treasuries or CDs for “safety?”
No, no and no! As investment legend Robert Farrell noted, “The public buys the most at the top and sells the most at the bottom.” We are entering the 13th year of a secular bear market during which time a new generation of investors believes markets must be watched daily since every attempt at a rally is met with a crushing decline.
Looking at this from the perspective of 39 years in the investment business, I believe we are close to the end of this malaise, and instead at the time when the intelligent investor prepares for the next move up. The problem is that, since secular bulls typically last 15-20 years and secular bears 10-15 years, we are all informed or misinformed by the prevailing secular trend of our formative investing years.
I entered this business in 1972 and acquired my first client at the beginning of 1973, with the DOW at 1044. The market plunged over the next two years to 577, a 45% decline. It then moved up, down, up, down, and on balance sideways for seven more years, a total of 14 disheartening years, before it finally breached the old high in 1982, midway through President Reagan’s first term.
My introduction to the investing business were nine straight years before the mast. The five years prior to my entering the business made it a total of 14 unattractive years to buy and hold. Coincidentally, they were almost exactly like the most recent 12 years of secular bear: sideways markets. This infuriating sideways action is typical of secular bear markets. Every time you think it’s safe to get back in the ocean, along comes another downward tsunami. Up, down, up, down go the cycles...
Though it didn’t seem like it at the time, it was my good fortune to experience the worst years of a 14-year secular bear, then a 17-year secular bull which, from the vantage point of one who had seen two generational secular moves, I concluded was becoming labored by 2000. That caution allowed us to completely sidestep the dot-com-bom. However, it wasn’t easy to convince our clients that something purchased for 300 times earnings could simply be sold in that glorious new era (new era No. 37…) to some greater fool for 600 times earnings.
So it always goes. We are most confident of future success when we should be quietly raising cash and we are most fearful of the markets when we should be picking up $20 bills lying in the street. We are well into and likely very near the end of the second generational bear in my investing lifetime. People are worn down and ultra-skittish. When the great bulk of investors have left the market and locked up all their money in CDs and there is no one left to sell, by definition, any buying will ignite the market. I believe 2012 may well mark the turning point breakthrough, as did 1982. If not, I think we are at least ready for a great cyclical up-cycle (a cycle within the secular bear that lasts anywhere from a few months to a year or more.)
If you remain disciplined, you could reap the rewards of the next 15- or 20-year secular Bull Market. If you change horses with every up or down, you will be doomed to be the greater fool that Mr. Farrell was talking about when he noted, “the public buys the most at the top and sells the most at the bottom.” So -- how to not be swayed by every transitory gyration or sensationalistic scare story?
Discipline. If you don’t have the time, inclination, or temperament to deal with the intermediate ups and downs, find someone you believe has a discipline that matches your goals, risk parameters, time frame, and temperament, and then: stick with it, or with them. Will you (or they) always be right? Of course not. But having a discipline and hewing to it will ensure greater success than abandoning your discipline (or, if you choose, those with whom you agree and allow to advise you.) That discipline can take many different forms.
My own discipline is to conduct deep research, buying unloved and undervalued stocks in out-of-favor sectors in which I see a catalyst for change in investor perception and/or in the sector or company’s ability to use that catalyst to increase their revenues, market share and margins. I buy the best quality firms anywhere I find them, the less “popular” the area the better (yielding better entry prices,) then hold unless market conditions change or I find a more compelling investment — if we are in a secular Bull Market!
But during secular Bears, no matter how exceptional the company, I know their stock can be battered by a general market malaise as well as by a single news item or event beyond their control. In big-B Bear markets, people are fickle and will panic at the slightest provocation. So we use the same scrupulous research methodology but we also conduct a daily review of all client accounts and a regular reallocation of assets. Different times call for different measures.
There are many reasons why I think 2012 will be a good year for us and for the markets. The history of the stock markets could not be written more clearly. The rhythm, the cyclicality, of bull and bear as well as (secular) Bull and Bear, is there for all to see. Here’s a chart since the turn of the 20th century compiled by my friend and competitor Sy Harding, the editor of Street Smart Report (www.streetsmartreport.com.)
As you can see, bear markets are hardly an invention of our current generation. Yet I hear all the time how “things have never been this bad before.” When someone tells me this to justify why they are 100% in gold or 100% in us treasuries or CDs or whatever, I no longer try to use the logic of current events or the lessons of history. I smile, I nod, and show them this chart.
Remember, at the turn of the 20th century, the panic of 1907 saw the Dow plunge 50% from its peak in one year. Hysteria ensued, resulting in runs on banks and trust companies. The panic spread throughout the nation for many years as hundreds of state and local banks and businesses declared bankruptcy. Then came the marvelous bull that followed WWI, a time when many predicted economic Armageddon with all those soldiers returning home looking for jobs. Instead it became the Roaring Twenties. The next rhythm was a bearish one, the Bear that resulted from and during the great depression. The haunting photos from that era attest better than mere words to the severity of the devastation during that time. We may be living under a black cloud today but those people lived under a black sky. Yet look at the angle of the recovery when that bear finally ended. The investing generation prior to mine inherited a fine Bull, then came the Bear I encountered, followed by the 17 good years unleashed in the early 1980s and which so many young investors use to measure market euphoria or Armageddon.
So I added a couple comments to Sy’s chart for the benefit of our clients and subscribers. This is my riposte when someone whines, “The us dollar is toast. Europe is bankrupt. American jobs are all being offshored. Housing will never recover. It’s never been this bad before:”
Bad? No, worse. Hundreds of bank closings, the great depression, millions wiped out, massive deficits, two world wars, a cold war, and a 21% prime rate in the 1970s for those of us buying our first home. I checked the reality meter and, frankly, we need to toughen up. If our forebears got through this and saw the Dow go from 40 to 14,000 I’m pretty sure we can handle the issues we face today.
Finally, please remember two very important points for perspective.
First, “this bad” isn’t all bad, even if you could blindly and blithely discount all of our history as shown above. Rather than move down, down, down in secular bear markets, we really move down, up, down, up. These cycles typically last a year or two within the roughly 12-18 year major secular move. That means we can make money even in a secular bear market.
Second, remember that human beings are problem-solving animals. Sometimes we miss the obvious and let it spiral out of control before we act, but once we see our mistakes, we do our very best to solve them. 2011 was a year of problem recognition, with Europe’s troubles taking center stage and the old problems of housing, credit destruction and the extent of wall street’s duplicity and venality coming to the full light of day. Markets hate problem recognition years. Markets love problem-solving years. That’s why i believe 2012 will be a great year.
If you agree, what is today still cheap on a price-to-book, price/earnings, price-to-sales and historical price basis? What is being held down by investor perception and media fear-mongering? What has catalysts that will likely propel the most-unfavored to most-favored company / industry / sector status? I believe the answer lies in multinational corporations, top quality all, with huge moats and market share, deriving revenues from around the world in emerging as well as domestic markets – headquartered in europe. Some investors just ran for the hills reading that.
But in this upcoming series of articles, I’ll highlight the investment rationale for companies tarred with the brush of being headquartered in Europe, but which may as well be headquartered in Chicago, Sao Paulo, Beijing, or Sydney. All derive a huge portion of their earnings from places other than where they are headquartered. Among my favorite examples are Norway’s Statoil (STO) and Seadrill (SDRL,) France’s AXA (AXAHY) and total (TOT,) Germany’s Siemens (SI) and Daimler (DDAIF,) and Switzerland’s Zurich Financial (ZFSVY) and ABB (ABB.)
I’ll use one as a brief example, then provide greater depth of analysis in the forthcoming articles. Daimler is headquartered in the heart of the Eurozone. Stay away from it, right? That may be your choice; it isn’t mine.
Daimler has two primary, and a number of other smaller, business lines: Mercedes Benz automobiles, which it sells to well-off people in Asia, the middle east, the Americas and elsewhere, and Mercedes Benz and Freightliner trucks. It has 11 of its 28 worldwide truck production facilities in the us alone, versus 7 in Europe. As for Mercedes automobiles, does anyone believe that their particular market – new entrepreneurs in china, extended and over-extended royal family members in the middle east, successful businessmen in south America, baby boomers in the us who are now retiring and want to reward themselves for a lifetime of living frugally – are going to run out and buy Chevy Volts? Mercedes (Daimler) has a grip on this market every bit as powerful as their grip on long-haul freight trucks.
Be willing to look where others have overlooked or been scared away by broad-brush over-simplifications. I believe this is a good time to be invested. As for the best places, Europe offers one of our three top sector plays for 2012 and beyond.