The WSJ’s Jim Browning has a big story today saying that small investors are “fleeing stocks” and “running for cover”. And interestingly, this is not a particularly new phenomenon, and it predates the big crash of 2008:
After getting hurt in the 2000 tech-stock crunch, individuals came back to U.S.-stock funds in 2003, as stocks were entering a new bull market, ICI data show. But the buying proved tepid and turned to net selling in the latter part of 2006, even before the bull market ended in 2007. Despite occasional periods of inflows to U.S.-stock funds, the selling trend has continued since then.
It’s only natural for buy-side types to look at this data and conclude that this is a great buying opportunity — but I’m not so sure. Browning concentrates on investors who are rotating out of equities by choice, but I suspect that a lot of what’s going on here is a matter of necessity: people are selling their stocks because they have to, not because they want to. After all, they no longer have the ability to take out home equity lines of credit whenever they run into a liquidity crunch.
There’s also a certain amount of delevering going on, which is encouraging: Browning talks of one investor who sold a third of his stocks and used the proceeds to pay down the mortgage on his second home. Sensible.
And while Browning talks of the new conservatism as emblematic of the way in which the stock market is being left to large institutional investors, the fact is that underneath their monolithic exteriors, those big investors are mostly just aggregations of little investments at heart. It’s entirely possible that retail investors are ahead of the curve, here, and that institutions will end up following suit: what are the chances that they will continue to see inflows rather than outflows, over the long run?
What’s undeniable is that it makes a lot of sense for the “comfortably retired” Karen and Roger Potyk to sell their stocks. If you have enough money to live on, why take the risks associated with equities? Especially when doing so makes you feel bad about yourself morally?
“In the military, you learn that you want people you can respect, trust"”who have integrity,” Mr. Potyk says. “Over the last five years or so, I find that our financial institutions have no shred of the character I describe.”
The last straw was the May market volatility, accompanied by widespread fears about European government debt. On May 20, the Potyks asked their financial adviser to sell the last of their stock mutual funds.
Now that their portfolio consists entirely of fixed-income investments, “I won’t make 8% on my money. I will make 4% or 5%, but the money will be there,” says Mr. Potyk.
It’s worth noting here that Mr Potyk still thinks of stocks as something which can and should return 8% a year, despite the fact that they’ve done nothing of the sort for the past decade. In that sense, we haven’t had a real capitulation yet. It’s rational to exit the stock market even if you think it’s going to go up, so long as you also think there’s a serious risk it’ll go down, and you can’t afford to lose that hard-earned money. But for the time being, in the public mind, stocks are still things which go up over time. Which says to me that there’s still at least as much downside as there is upside.
4-5% a year on your money without risk? tell me where to sign. 30 year treasury bond sits at 4% with 30 years of inflation risk.
Some people live in the real world, apparently, and some may be heading back to it.
A portfolio consisting entirely of fixed-income investments? Wow!!! How will Mr. Potyk fare if we go through ten consecutive years of 7% inflation? Does anybody here find that scenario unthinkable? He is taking a HUGE risk with that investment strategy, even assuming that those bonds he holds don’t default.
I suspect he is making a mistake common to most small investors — they assume that the future will mirror the past. Over the past twenty years, interest rates have been falling and inflation has been tame. Thus Mr. Potyk can’t conceive of the risk that RISING interest rates and HIGH inflation pose to fixed-income investments. And, of course, the stock market has been weak over the past decade, so Mr. Potyk can’t conceive of the possibility that the situation might change.
I do agree with Felix on one point — most stock analysts take an unrealistically rosy view of the long-term market prospects. Not only does that get in the way of sensible retirement planning, but it warps investment strategy by encouraging leverage (and investment in leveraged corporations) and chasing pie-in-the-sky dreams of growth. THESE WON’T MATERIALIZE!
My own approach aims for long-term stock returns that are 4% ahead of inflation, a target that I believe I have a very high probability of hitting with my portfolio. It isn’t hard to find companies with a 3.0% plus dividend yield and predictable 5% annual growth. Any tyro investor can do THAT. The only hard part is resisting the temptation to try doubling your money in five years. Do that and you end up taking on R-I-S-K.
I’ve averaged roughly 4.5% compounded returns on my retirement portfolio since Jan 1, 2007, with 75% to 80% invested in stocks AT ALL TIMES. No options, derivatives, or complex arbitrage strategies. It isn’t magic, it isn’t luck, and it isn’t anything you can’t do yourself if you stop gambling with the market.
And it is a whole lot less risky than putting 100% of your wealth into a single vulnerable asset class.
In 1972, Mr. Potyk might have purchased 30 year treasury bonds with a yield of 6%. Ten years later, the 20 year treasury bonds were yielding over 11%, implying a market value of just $600 per bond. Of course he was still getting those $30 payments every six months, right? Slight problem — the CPI more than doubled over that span, so those $30 payments now had the purchasing power of $13. To me, at least, that kind of double-hammer would be a budget buster.
I’m guessing that Mr. Potyk’s doctor has given him just five years to live. In that case, owning 100% bonds makes perfect sense.
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