Nov 23, 2010
Ireland Debt Crisis: Investing Successfully in the Perpetual Crisis Era
By Andrew Mickey, Q1 Publishing
Ever since the long crisis of 2007-2008 that ended in the credit crunch, the financial world has jumped from crisis to crisis.
Last week it was the muni bond crisis. This week it’s the Ireland debt crisis. In a few weeks, Bloomberg warns, the Greek government may have to shut down because it doesn’t have any money.
After that, there’s the rest of the PIIGS – Portugal, Italy, and Spain – will have their turn as the crisis du jour. Then in time the food, oil, and the dollar crises, another “flash crash,” and other expected and unexpected crises.
We’ve entered a period of perpetual crisis.
Despite it all though, stocks keep going up (has anyone called the current run-up a “rally” in a while?). Commodity prices keep going up. Bonds, despite a few hiccups here and there, have kept going up for a while.
But there is one big underlying factor behind all the crisis-hopping that could make you very wealthy in the months and years ahead.
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Crisis Addicts: Failing to Plan
The financial community has become addicted to crisis and the resulting volatility (volatility in the sense of up and down swings, not what your broker or a commentator uses as an excuse when they’re wrong).
The major market swings over the past few years have driven investors to expect very great returns.
As we looked at the other day, contrarians could have doubled their money over the past two years in, of all things, muni bonds.
The advent of leveraged ETFs – the most recent proposed incarnation would allows even the most novice investors to get four times leverage – has allowed investors to profit big (or in most cases lose big) whether the markets go up or down.
David Hunkar (via Barry Ritholz’s The Big Picture blog) has found the average holding period for stocks has plummeted:
Based on the NYSE index data, the mean duration of holding period by US investors was around 7 years in 1940. This stayed the same for the next 35 years. The average holding period had fallen to under 2 years by the time of the 1987 crash. By the turn of the century it had fallen to below one year. It was around 7 months by 2007.
The short-term focus has investors jumping from crisis to crisis.
They’d be much better off developing a plan and sticking to it because, as one of the most successful asset managers in the world has recently uncovered, there’s a much bigger trend than the perpetual crisis that will play out in the years ahead.
In Jeremy Grantham’s most recent quarterly letter to investors, the must-read “Night of the Living Fed: Something Unbelievably Terrifying,” he encourages investors to focus on a medium-term time horizon to maximize gains.
Seeing the Growth Forest through the Crisis Trees
The western world is buried in debt. Consumers and the private sector are working to pay it down on the aggregate. Politicians fearing the short-term political costs of the drawdown are doing to their best to ramp up government borrowing. And the Fed’s low-rate policy discourages saving and encourages borrowing.
The thing is, Grantham’s history-focused analysis focuses on the relationship between debt and GDP growth.
The chart below shows the surprising (to many people) relationship between debt and global GDP growth over the last 58 years:
The relationship, or lack thereof, between Debt and GDP growth goes back even further than the chart shows. Grantham found that GDP growth averaged 3.4% between from 1880 to 1982. Those 102 years of growth included the Great Depression, most of the long recession of the late 19th century (referred to as the Great Depression prior to the 1930s), and countless panics, wars, crises, defaults, and currency regimes since.
This is the key point. Economies are incredibly resilient. People want to get wealthier. They want more stuff, more convenience, and more freedom to do as they please. It’s natural.
Growth is the natural economic state.
That’s probably the most important thing to keep in mind as we continue down the road of perpetual crisis and it also signals where to look for the medium-term growth opportunities.
Bucking the 130-Year Growth Trend
The long term, 130-year trend for global growth is up. There are plenty of economies that are growing despite the long recession the United States is mired in.
As we looked at before, Germany is booming due in large part to its preference for bailouts of the PIIGS and subsequent declines in the value of the Euro. Colombia’s resource business-friendly policies and major gold discoveries have sparked an economic renaissance in the former narco-state. Indonesia’s disproportionately young population is getting work. And Thailand, Vietnam, and others have are emulating the growth trajectories of the BRIC countries.
The real reason for the lackluster growth in the United States could have much less to do with the debt loads and much more to do with other factors.
As Dr. Robert P. Murphy, author of the Politically Incorrect Guide to the Great Depression, explained when he sat down with us in 2009 when the markets were swept up in Depression Fever:
You see all types of things that [the government] is doing now which is exactly what Hoover did and then FDR just amplified it.
So in terms of avoiding the mistakes of the Great Depression, what the government is doing right now is what the government did back then, when we got a decade of depression.
The U.S. government is failing to learn the lessons of history. But not every country has.
So as we continue to leapfrog from crisis to crisis, investors who buck the short-term thinking , develop plans with investment horizons of two years to five years, look for growth, and are patient and consistent in finding good entry points, will be well-positioned to thrive throughout it all.
Good investing,
Andrew Mickey
Chief Investment Strategist, Q1
Publishing
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