Commentaries

The markets of the past two years will have shaken the confidence of even the most seasoned of investors. Shaken, but for true investors, not broken. No doubt many thousands of others have not been so resolute. I hear often enough these days about people questioning the very possibility of a market recovery. I hear people questioning whether it may be "different this time". I hear people considering the yields now offered by safe, secure, guaranteed investments like money market funds and GICs with the newfound belief that even a 3% return is "better than a loss".

I don't believe that anything we have witnessed in the past two years has changed the nature of investing. I don't believe that it is different this time. Clearly, this is a severe bear market. Not the first, and one of the worst, but this is not unprecedented - just rare. Markets around the world have fallen sharply from their peaks of two years ago and now stand in most cases at levels they first breached in the spring of 1997. This means over five years of investing for zero return. With hindsight, that is enough to make GICs look good. However, history would show that this would be a mistake in timing. As the saying goes, it is darkest before the dawn. Non-volatile fixed income investments always appear most compelling at market bottoms, precisely when they are the worst investments to hold in the months and years to come. The question now before investors is not whether GICs have been the better investment of the last five years, but will they, with their 4% return, be the better investment for the next five years.

For those whose belief in the stock market has been assaulted by deep declines, scandals, terrorists and a host of other concerns, there may be some comfort. Comfort comes from the fact that nothing we face now is without historical context. We have seen much more severe declines and the market has prospered in time. We have seen bigger and more alarming scandals (the Securities Exchange Commission was created in the thirties in response to a crisis in confidence in the investment markets) and the market has prospered in time. We have seen more potent and alarming threats than we now face in the world. In fact, despite the terrorist threat, I think it can be said that the world may never have been more peaceful, less imperiled, nor more free than at this moment (the terrorist threat is not new - it is only our recognition of the threat that is new). The Cold War was by far a greater threat to investors. The market prospered despite the Cold War.

I no more believe that the rules of the game have changed now than I believed it at the height of the tech-fueled market peaks of 1999 and 2000. I can refer you back to my commentaries in March of 2000 for some of my comments regarding the excess greed in the markets at that time. I write today of the excess fear, and greed of a different sort (waiting to buy ever cheaper stocks has an element of greed too), now found in the markets, and carried throughout all forms of media. As I said in the spring of 2000, the phrase "it's different this time" is the harbinger of change. When that phrase becomes common, either at a market top or bottom, we are near a reversal. Why do I believe that this time is not different?

The economy is still sound. With the exception of a few sectors, namely telecommunications and to a lesser extent technology, I rarely run across anyone who is not complaining of being too busy and who is not having a great year. The economic statistics back up that experience. In fact, this spring, in classically illogical and schizophrenic fashion, the biggest concern of market commentators has been that "the economy is too good!" People have been worried that the economy is so strong and growing so rapidly that interest rate increases may be needed to slow the momentum. This concern emerged it seems just moments after the widespread concern over recession faded away. You will remember just a few short months ago the question of investors and media personalities - how long and how deep will this (terrorist-provided) recession be? Not long and not deep it would seem. This has been the mildest recession in fifty years.

There is an extraordinary amount of cash sitting on the sidelines. It will eventually tire of earning miniscule interest income. It was not too many years ago that the subject of demographics came into the public consciousness. The idea at the time was that the baby boom, entering their peak earning and saving years, would do for the investment markets what they had done for almost every other market to which they turned their attention. The baby boom is still there and the evidence of their presence is now even more pronounced. When boomers moved en masse into real estate they inflated prices culminating in a speculative bubble - when they escaped en masse prices tumbled. Despite the decline, prices today are much higher than before the boomers. When they began moving into the stock market, we had a period of great returns, ending with a burst in the bubble. But the boomers and their money have not disappeared. They continue to amass great savings and investments assets. Current estimates hold that the amount of money now in cash-like instruments in North America is US$6 trillion. If it continues to sit in cash, interest rates will remain extremely low and continue to fuel the economy and its companies. When it finds its way back to the stock markets it will cause a recovery in share prices. Demographics are still at work in the investment markets of the world. Boomers caused the stock markets to skyrocket when they went into them, and crash when they left. By running to money markets they have also permitted the sharp decline in interest rates. They will be instrumental in the recovery to come too, as they return their trillions to investments capable of earning the returns they need to fund their retirement.

The only things that may have changed in the investment world are that the volatility of the past few years is here to stay, and that the average rate of return for stock market investors over the next ten or twenty years will not likely be as high as it has been over the past twenty years. It will however be more than high enough to continue to deserve, and demand, a place in any well balanced portfolio. A more active asset allocation strategy will be my strategy for dealing with markets that are both more volatile and generating lower average returns. I will be addressing this strategy with clients over the next few months. Some small change I will grant has occurred, and I believe it justifies some adaptation of our investment strategy.

The time-honored fact that patience is a virtue has not changed. It will still be a virtue rewarded by the investment markets.

Alan Cameron

Commentaries

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