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Experience counts

One of my favourite Australian economists is a guy by the name of Don Stammer who used to be the chief economist at Deutsche Bank. He also became famous because of what he called the X-factor.

The X-factor is the from left field influence that was hard to see but ends up being a big determinant for markets and economies.

Lessons worth learning

Don argues that he has seen more recessions than any other public commentator purely because of his age, but even if there’s an 80-year-old plus expert out there on the Internet, they would not have spent so many years watching the Aussie economy and global investment markets.

He still passes on his gems of economic analysis and observations in The Australian newspaper each Wednesday, and recently shared some lessons he has learnt and re-learnt over many decades.

His first lesson is that economies and investment markets — share, property, wine, art, racehorses, etc. — move in cycles.

He says to cope with the cycles is to invest for the medium-term as there will always be periods of out-performance and under-performance. We know a lot about under-performance following the last 12 months of coping with equity markets.

Reader’s query

One of my readers sent me an email talking about how following investment mantras can be painful. He said he had good companies, but has lost 75 per cent of his nest egg this year going from a retiree on $1 million to $300K following what is largely regarded as good advice.

Given his fall, he had made a few mistakes but I would add even if he had done it the best way he still could have been down 30-40 per cent.

Switz Tips

For self-managed super funds I like 20 stocks to ensure you don’t have any more exposure than five per cent to any one company. I like about 20 per cent in cash and fixed interest deposits and I like my companies to be good dividend payers.

If your companies paid on average six per cent  in dividends, then this would add to your overall gain or reduce your loss from shares.
History shows…
The important message to my reader comes from Stammer.

“Don’t get too excited at the top of the cycle and don’t give up on quality investments at the low point in the cyclical swings,” he advised.

For my reader, one would like to advise that he sits and waits for the eventual comeback. However, there are risks with this strategy for a retiree as it takes guts right now to stick with a portfolio that has wreaked so much havoc.

That said, retreating to cash now at five to six per cent is safe, but what about when the stock market rebounds?

History shows that eventually a 20-something percent rebound often follows a bear market slump. That’s history and it will probably be driven by some X-factor that we can’t exactly see right now.

When the X-factor hit

In May 2007 I facilitated a discussion by leading lights at a mortgage conference and I asked about this emerging sub-prime problem in the USA. No one saw its potential to hit stock markets and economies. It was the X-factor.

Positive X-factor next year?

For the optimists, it’s worthwhile knowing that the X-factor can be positive as well as negative. Don thinks 2008 had an unbelievable list of candidates for the title, but believes the banking crisis between September and October take the cake.

I am certain there will be a positive X-factor in 2009, and who knows, it might have already emerged but will only have an impact next year when he takes the presidency of the USA. Obama might be the leader that has been sorely missing since August of last year.

Thawing the credit market

It was in this month that the credit markets were snap frozen and the steps to thaw it were so poor that it contributed to the stock market collapses and economic slumps into recession for many countries.

Credit markets are getting better, but they still have a lot of ice in them and that’s why the stock market can’t convincingly overcome the gravitational pull of the sellers who want to drag prices down.

I believe the co-ordinated cuts in interest rates and the aggressive fiscal stimulation packages will bolster demand and the global economy will start to grow again. This might be the X-factor.

Cyclical event

Of course, Stammer argues that if you can see an X-factor, it’s not an X-factor, but at the moment most people are locked into a recession mentality and they have serious doubts about government policies. And they have good reason for being cynical.

However, history shows that markets do work in cycles and that massive interest rate cuts and big spending governments can get demand and production up. And stock markets always jump ahead of the economic reality that will eventually result.

We saw this year on the downside and I am hoping we see it on the upside next year.

Published on: Wednesday, December 03, 2008

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