To make it a truly happy new year when it comes to investing, we must take advantage of the “sale” the markets have presented to us in the last quarter of 2018. The Dow Jones Industrial Average (also referred to as the DOW or DJIA), an index of the 30 largest industrial companies in the U.S., climbed from the close of 2017 by 7.72% to a peak on October 4, then dropped by 18.16% on Christmas eve, skirting “Bear Market” territory, which, by definition is a drop of 20% or more. The NASDAQ index of tech stocks and the broader S&P 500 indices actually did touch the 20% mark. As of Friday, January 4, the DOW has rebounded 7.53% including the largest single-day point gain in history on Boxing Day in which the DOW soared 1,086.24 points!1
The Opportunity
It is typical that the biggest gains come after the biggest declines. The losers are those who bail out at the bottom, usually letting their fear convince them that things will only get worse. Rather, the opportunity that is handed to us is to buy great companies cheap. Corporate America has healthy balance sheets with strong earnings. In fact, last Friday, January 4, Jerome Powel, Chairman of the Federal Reserve announced the latest jobs data in which analysts expected the number of new jobs created in December to be 176,000 and the actual number was 312,000, resulting in a roughly 747 point jump in the DOW index that day! Also, the unemployment rate edged up slightly from 3.6% to 3.8%. While that doesn’t sound like a good thing, economist think it is, since it reflects a growing labour force with more young people entering the job market. Demographer Harry S. Dent documented the uncanny parallel between labour force growth and stock market growth in his classic book “The Great Boom Ahead”2.
Lessons from The Past
Before I talk about the advantage at hand, let me recall an event that some of my long-time clients may remember: In October, 2008 I hosted a seminar at the London Convention Centre with my guest speaker, Canadian billionaire Michael Lee-Chin (of Chinese-Jamaican origin) owner of AIC Funds at the time. We were precisely at the bottom of the worst market crash since 1929 with the VIX index (a fear index measuring the volume of put contracts outstanding) at an all-time high of 903.
This event was my greatest marketing failure. I’m the first to accept my mistakes and learn from them, however this was not one of them. It was a classic case of “you can lead a horse to water, but you can’t make it drink.” First of all, based on the marketing we did to promote the event, we should have had at least 500 people in attendance. We had 175. I opened the evening saying “I’m here to do the right thing at the right time while most Financial Advisors have their heads in the sand right now because you’re mad at us. However, it is in times like these that the big money is made, unfortunately by very few people – I would like you to be among them!” I spoke about the opportunity, then Mr. Lee-Chin spoke about the opportunity. Ultimately, no one listened. One year later the AIC Advantage Fund, which Mr. Lee-Chin managed, was up 87%4! Let’s not repeat this error!
How to Capitalize on the Opportunity
So how do we take advantage of the situation? First of all, if you have money available to invest, don’t keep waiting till thing look rosy again. The greatest opportunity is when things appear the bleakest. An often-used analogy is the Acapulco cliff divers who must dive when the waves pull out, exposing the jagged rocks beneath. By the time they descend, the waves have surged back in for their watery entry. If they jump when they see lots of water below, they will certainly hit the rocks!
If you go to a store with the full intention of buying an item, only to find out it’s on sale and the price is marked down by 20% you don’t leave thinking is might get marked down more – you gladly buy it! Now of course markets can and very well may go down more. The point is we can’t predict short-term movements, but we can take advantage of a known discount.
If you say, “But I’m already fully invested. I don’t have more to invest!” then we look for opportunities within your portfolio. For example, if you hold any fixed income (bonds) either in a bond fund or within a balanced fund, this would be the time to explore moving some, or all, of it into a pure equity fund, as long as we remain within your risk-tolerance range and investment time-frame.
For example, if you have a portfolio, or even just a balanced fund with in your portfolio, that is, let’s say, 60% in equities (stocks) and 40% Fixed Income (bonds), and let’s exaggerate for the sake of illustration, and say that stocks were down 40% and bonds were flat, your blended portfolio or fund would be down 24%. If you can accept the inevitability that markets do, and always have, recovered and gone on to new heights, then by moving from fixed income into the more discounted equity market, you are getting a greater discount and therefore in for a greater upside.
The Math
People often think that if an investment is down 20%, you require 20% growth to recover. That is not the case. A 20% decline takes $100 down to $80. A 20% increase only takes you to $96. To go from $80 to $100 requires a 25% gain. A 50% decline requires 100% growth to break even. So if a 100% equity portfolio declines 40% and a 60/40 balanced portfolio as in the example above, drops 24%, then by the time they have both recovered, the equity portfolio had to increase 67% and the balanced portfolio 33%. So, by moving the balanced portfolio that’s down 24% to a full equity portfolio, by the time it grows 67% you would experience an overall 27% gain rather than a mere break-even5!
Whether you were able to follow that or not, I would be excited to go over it with you and discuss if, or how, it may be applied to your personal portfolio.
Carpe Diem! (Seize the day!)
1 https://ca.finance.yahoo.com/quote/%5EDJI/history?p=%5EDJI
2 “The Great Boom Ahead: Your Guide to Personal & Business Profit in the New Ara of Prosperity” Harry S. Dent. Published by Hyperion, New York 2007.
3 Rounded to nearest whole number, the VIX hit an intra-day high of 89.53 on Oct. 24, 2008. https://ca.finance.yahoo.com/quote/%5EVIX/history?period1=1222833600&period2=1226034000&interval=1d&filter=history&frequency=1d
4 The AIC Advantage Fund no longer exists since AIC was sold to Manulife. The 87% return referred to is by the writer’s memory and he was unable to research data for verification. We trust you will get the point!
5 If you would like to follow the details of the math in the hypothetical example, they are as follows:
A 60% Equity / 40% Fixed Income Portfolio or fund, in which the equity drops 40% and the fixed income stays flat would, if we use dollars instead of percent, look like this:
Equity 60% = $60 40% drop = -$24 or $36
Fixed Income 40% = $40 no change = $40
Total: $36 + $40 = $76, a 24% drop from the initial $100
For $60 to grow back to $100 is a 66.7% gain (for the 100 % equity position)
So, if the balanced portfolio is switched to the 100% equity portfolio and experiences the 66.7% gain, then $76 x 1.667 = $126.69, rounded to a 27% gain in the above text.
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