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Stand Firm and Be Strong

Updated: May 17, 2022

For some time now I have been expecting the current global business cycle to end in 2020, with the caveat that it was almost as likely to end in 2019 or 2021. I have thus been recommending a gradual shift in investment portfolios over the last few years to a more defensive position. In light of the general strength in equity markets over the last twelve months, there may be a temptation to think this was bad advice.

"It tended to manifest itself at hotel buffets"

My approach to asset allocation is based on the premise that it is impossible to predict financial markets over the short term – hence the aforementioned caveat – and therefore that one should prepare well in advance for inevitable bear markets.

This approach, however, requires a strong stomach, given that an early move can see one missing out on gains being enjoyed by those who employ the alternative approach: going along for the ride. Now is the time to stand firm and be strong.

The temptation to throw the towel in and join the bandwagon may be exacerbated by uncertainty associated with the various strange things happening at the moment, both on the economic front and in financial markets.

For example, why is inflation so weak given record low unemployment? What do negative long-term real interest rates mean? Why is productivity growth so low? What should be read into Apple now being worth more than Germany’s thirty largest companies combined?

I confess that inflation globally has been weaker than I expected it to be over the last year or two. Raising the subject of consumer prices at a dinner party will hardly win you friends, but their importance in relation to economies and financial markets cannot be over emphasised.

With unemployment at record low levels across much of the world, inflation should now be rising strongly. It is not. In fact, it has been falling, allowing the US Federal Reserve to do a U-turn on monetary policy, driving already expensive US equities higher still.

Of course, it is possible that the weakness in inflation is the start of a more protracted ‘end of cycle’ decline, and that equity markets have been ‘fooled’ into regarding it as positive.

Although US Fed chairman Jay Powell described the three modest interest rate cuts last year as part of a “midcycle adjustment”, he was hardly likely to say they related to the onset of a recession.

Recessions generally appear from nowhere – if one was widely expected it would be upon us already. Perhaps, at some point, we will look back and realise that last year’s equity market strength was effectively a ‘last hurrah’.

Living in Singapore as I did for nearly twenty years, one of the more amusing Chinese words I picked up was kiasu. My Singaporean friends always struggled to provide a translation, claiming that there was no equivalent English word.

They were right. Kiasu is best translated as the “fear of missing out” (FOMO). It tended to manifest itself at hotel buffets, where customers would pile their plates up high, fearing that all would be gone on their next visit. Or on motorways, with drivers hedging their bets by driving on the dotted lines rather than between them.

These of course are traits seen in many countries around the world, not just Singapore. They are also invariably negative.

What does this have to do with investing? A lot. Successful investing requires discipline, a quality that can prevent one succumbing to emotions such as fear and greed that tend to hinder good decision making.

If you are worried that your portfolio is too defensive and that you are missing out on rising equity markets, the best thing to do is to is to change your mindset, not your portfolio. Try JOMO not FOMO. Your portfolio positioning may even turn out to be right.

Published in What Investment

The views expressed in this communication are those of Peter Elston at the time of writing and are subject to change without notice. They do not constitute investment advice and whilst all reasonable efforts have been used to ensure the accuracy of the information contained in this communication, the reliability, completeness or accuracy of the content cannot be guaranteed. This communication provides information for professional use only and should not be relied upon by retail investors as the sole basis for investment.

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