It’s Our Fault, Not Theirs

I have been reading like a fiend lately on 1929, the 60’s, late 90’s and obviously today. One theme is a constant….greed, margin, debt then a reckoning..

Each episode had its roots, not in corporate greed or lack of “regulation”, although there were certainly elements of them in each, but of the greed of the public. What follows is a basic overview of each and their similarities.

The 1920’s featured the barber and the paperboy speculating on stocks with money they did not have using margin. It was common for people to buy stock using 90% to 95% borrowed money. This rush of investor funds drove prices up to stratospheric levels. When they peaked and inevitably fell, margin calls exacerbated to fall and wiped out investors.

The 1960’s featured investors blindly throwing money into mutual funds at unprecedented rates. Again, the rush of funds drove asset levels up to untenable levels. The result was a fall in the market and investor disillusionment in stocks, a psychology that lasted until the 1980’s.

The late 1990’s again featured investors who had never thought about the stock market wildly chasing stock prices to ever higher levels. Conversation everywhere was about the latest IPO issue and newest tech stock that was rocking upward for no fundamental reason. Everyone knew someone who “hit it big” in a tech stock and people rushed to join the fray. Of course eventually the necessary funds for continued stock appreciation ran out as the economy began to slow an then stock prices began to fall. Again, as huge amounts were bought on margin in companies that had no earnings (or any prospects for them), the fall was fast and furious.

Now…one word, housing. Rather than stock prices being inflated, now it is housing and consumers borrowing far too much to purchase homes. Yes, the banks were complicit in their lax lending standards but when all is said and done, it is you who sign on the bottom line buying the 4,000 sq. ft. house with granite kitchen counters when all you really could afford was 2,000 sq. ft. and formica. The collapse in housing has caused a liquidation of the most salable asset, stocks. Investors selling stocks for liquidity and redemptions at mutual funds have cause a rush to sell and stock price collapse.

In all the above episodes there are outlying factors many of which has to do with the gov’ts response at the time, corporate scandals, accounting “issues” and others. But, the constant theme in them all and the primary reason for the inflated bubbles that then popped was the consumer and their borrowing. Without the consumer rushing blindly and without hesitation into the hot investment, the rise in prices that then collapsed would not have been possible. Whether it be margin for stocks or mortgages for houses, investors continually have borrowed to excess chasing rising prices that when they began to fall, took investors with them.

Will “we learn” and not repeat these mistake again? No. In housing perhaps as prices there ought to take a decade or more to reach prior levels and that by itself ought to dampen enthusiasm for the asset class. As for stocks? If history tell us anything, it will happen again. Here is the scenario. Burned investors will sit idly by as stocks eventually bottom and begin their ascent. Fear of a repeat will keep them out of the market initially though. Now, they have will have been hearing from various sources that they ought to be buying now but fear caused them to sell.E veryone will now know somebody will have been buying now (I am) and they will be hearing stories of the wealth it will have created or the paper lossed that were erased and turned into gains.

Like a dog looking at another dog with a bone, the one thing that is irresistible to an investor is watching another make money while they sit on the sidelines (the dog will always drop their bone for the other). Regretting they “got out of the game” they will jump back in…fast and we will start the whole dance over again.

How long will it take? Who knows. One thing is for sure. The internet is allowing information to travel at speeds measured in seconds, not days or weeks like in the past. I think that will have the effect of shortening the time between and the steepening of the ascension and descent of prices in these episodes. It also means that for the investor who can take a step back and see where we are in the cycle, there is plenty of money to be made and losses to be avoided.

Yes, there are fundamental reasons why we are where we are today but the current sell-off is just way overdone. I know people who are pulling money out of stocks “because”. That is the reason, “because”. That is just unadulterated fear and void of any rational thought. Times like this offer spectacular opportunities for those will to step in and buy. Stocks are off 40% for the year. Thinking of buying a summer home? Many such areas are selling those home 40% to 50% cheaper that they did a year ago.

There are tons of opportunities out there….if you have the patience and clarity of thought. If you think I am full of it, just listen to history’s greatest investor, Berkshire’s (BRK.A) Warren Buffett. He has always said “buy fear and sell greed”. If you think this is not fear in the market, think again. What has Warren been doing? Buying..in a big way. Buying stakes in Dow Chemical (DOW), Goldman Sachs (GS), GE (GE) and others for a cool $40 BILLION in investments..

Warren has watched his investments in Coke (KO), Wal-Mart (WMT) and Home Depot (HD) fall just like you have have. The difference is that he has not sold and cemented those losses. He has held on and will pocket the rebound in prices. He has also realized that when things are on sale, it is then the best time to be a buyer.

Here is the suggested reading list
“Once in Golconda” (1929)

“The Go-Go Years” (60’s)

“Origins of the Crash” (Late 90’s)

Mr. Market Miscalculates (today)

Disclosure (“none” means no position):Long GS, DOW, GE, None
Visit the ValuePlays Bookstore for Great Investing Books