Mike Lipper’s Monday Morning Musings
Uncertainty is Inevitable
Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –
Numbers and People Are the First Traps
When a baby takes its first uncertain steps it eventually falls, despite hovering caregiver parents and others. From that instant on, the baby wishes to avoid falling. As we learn to balance our movement, we believe we have solved the problem of safely walking. Thus begins our first mistake in judgement which we apply to all activities, including investing in life and securities. While we fall or stumble less frequently throughout our lives, we accept it with annoyance, but carry on nevertheless.
Our next mistakes are our imperfect memory and learning from people. We expect those we love and/or respect to be correct in their pronouncements all the time. Only from experience do we appreciate that they can and will make mistakes. Later in our development we learn the discipline of the power of numbers, usually through achievement or time. However, we also learn that conditions change, and success or failure also changes with conditions. Thus, we should question the inevitability of future events occurring exactly as people and the numbers foretell, as uncertainty changes as we mature into risk. Whether we like it or not, we become risk assumers or hopefully risk managers. My philosophy of life and investing is based on addressing risks whenever possible. This blog is devoted to some of the current risks I perceive, which are generally not focused on by many professional and individual investors.
1. Sellers’ Risk
Most people view the buyer as the one at risk in any transaction. While this is true in terms of money transferred at closing, including expenses to make desired changes and upkeep, what most don’t fully recognize is the seller in one transaction becoming the buyer in the next transaction. Home prices recently reached record levels in the US, the UK, and many other developed markets. As these homeowners become sellers and eventually new buyers, they will bear the initial cost of a new home, including its desired changes and upkeep.
Many buyers are at risk due to the vagaries of current inflation, including through delays. Most communities have not updated their infrastructure, apparent after the latest weather-related expenses, which will increase costs. I suspect local schools and universities will need to change the education being taught so their students can find meaningful employment and lives. (This will increase taxes and won’t be cheap)
2. Co-Venture Investment Risks
In almost any investment one of the bigger risks is attempting to sell. One or more sellers can “ruin” the market by removing though sale a higher buyer. This can happen in terms of a neighbor’s home, a similar property, or a fellow shareholder. The probable or contemplated seller’s actions are difficult to guess, but it should be attempted.
Let me share an example that happened this past week. A non-US stock I own announced a 29% decline in net income for the first half of 2021 and the price barely moved. Yes, revenues rose 54% and they announced a few new items to replace outmoded products. While I was surprised by the net income decline, I was not particularly surprised by the stock price action of BYD. [These comments should not be construed as a recommendation, in part because I don’t follow its industry or its competitors.] My relative lack of concern comes from knowing two of the largest stock investors and having visited the headquarters and plant in Shenzhen. In looking to the nature and reputation of major shareholders, I relied on one of the oldest investment techniques, identifying sponsorship.
A story that has been told from the 19th century involves a leading member of the London Stock Exchange asking another member what he could do in repayment for a favor. Replying to Lord Rothschild, he said “just put your arm around me and walk across the floor of the exchange”. With that in mind I regularly look at the owners of stocks of interest. Some funds have high portfolio turnover rates and tend to look for explosive earnings. Others, like the two owners, are long-term investors who would probably be buyers if the stock dropped temporarily. Currently, with 20 million new retail accounts since 2020, I don’t expect many to have learned to be buyers of shares that are declining in price.
3. Market Price Leadership Rotation
The current leading macro group investment is commodity funds, benefitting from the play on current shortages. Combine this with what I previously mentioned, some institutional investors cutting back on equity exposure after 20% gains in the S&P 500 within a calendar year. (The difficulty with this approach today is the lack of low-risk alternatives to move some stock money into.)
4. A Potential Large Risk for the Next 3 Years
In addition to the current legislation before Congress, which is not likely to be paid for during their expenditures, there are at least two other issues Congress will need to deal with sooner or later. The current administration is discussing cutting the income tax rate on lower earnings. (I suggest it be called “lower real income for lower wages”.) A portion of the low wages paid to those who pay little if any income taxes is not likely to increase spending. To offset the cost of lower taxes on low wage earners, one should expect materially higher taxes for higher earners (This is the real motive of certain people in The White House and of far-left leaning members of Congress.)
To offset this increase, higher rate taxpayers are likely to see prices rise for goods and particularly services. If it continues long enough, the cost of transportation and other items for low-end wage people will also rise. As profit margins decline, more business will flee the country and/or reduce risky investments. The increase in the price of oil already demonstrates the skill of the current administration. Words from the White House suggest the economic impact of the new proposal will be measured against “the success of our withdrawal from Afghanistan”.
5. A Longer-Term Problem that Must be Addressed
The Old-Age and Survivors Insurance, the largest component of Social Security, will run out of money in 2033. Undoubtedly this will be met with tax increases and probably a lower value dollar, which will hurt investors who are not properly hedged.
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Did you miss my blog last week? Click here to read.
https://mikelipper.blogspot.com/2021/08/possible-major-change-missed-by-media.html
https://mikelipper.blogspot.com/2021/08/another-but-discouraging-look-at-market.html
https://mikelipper.blogspot.com/2021/08/mike-lippers-monday-morning-musings-are.html
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A. Michael Lipper, CFA
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