Investors Are Worrying About Wrong Assets - Weekly Blog # 606

Mike Lipper’s Monday Morning Musings

Investors Are Worrying About Wrong Assets

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –

Historic + Present Background
Ever since there were publicly traded securities they probably faced questions about how to mix and match them. Starting in the United Kingdom in the mid 19th century, the public was offered a portfolio of securities in a single trust, launching the beginnings of the mutual fund industry. The early providers of these products were established money managers for the wealthy. The wealthy almost always have poorer or younger relations that should have their money managed for them. Thus, wealth managers developed a lower capital base solution, ”retail” as an additional service for their wealthy clients.

From this base of collective investment vehicles, mostly mutual funds, it became a global multi trillion-dollar vehicle to satisfy the needs of both individual and increasingly institutional investors. For regulatory reasons, funds were required to disclose their performance, portfolios, fees and expenses, as well as some other things. Today, most mutual fund managers run separate accounts for institutional and wealthy individual investors. Their publicly available vehicles generally being representative of their overall investment thinking. Thus, I believe that studying these most disclosed vehicles can impart a good bit knowledge about the publicly traded global securities markets, which has application for many investors.

Fear of Loss May Come with the Pleasure of Gain
As securities prices fluctuate, each individual security can by definition lose money from their initial acquisition price. To reduce the chance of loss, investors can largely use two tools, selection skills and diversification. Good diversification appears to be easier for most than selection skills. Thus, an analysis of diversification practices reveals a great deal about an investors’ worries. Security selection deals with a narrower based view of the future. (Most entrepreneurs and a few a great investors, like Charlie Munger, prefer a very limited number of investments to broad diversification.)

The two tales below show the amount of total net assets invested in Trillion-dollar US mutual fund categories:

Mutual Fund Total Net Assets in $ Trillions by Investment Objective 
Core Equity (*)           $5.95
Growth Equity             $3.36
Taxable Money Market (*)  $3.39
Other Fixed Income (*,**) $3.32
Mixed Assets (*)          $2.68
International Equity      $2.17
Value Equity              $1.19
Sector Equity             $1.01

(*) Perceived to be less risky
(**) Taxable

By Market Capitalization within Equity Portfolios
Multi Cap                 $3.75
Large Cap                 $3.33
Small Cap                 $1.10

Interpretation
Mutual Fund investors in aggregate believe in diversification and reasonable exposure vs. perceived risk of growth and small caps.

Major concern - Reduced equity risk exposure comes with increased sensitivity to interest rates. At some future point in history, government deficits suggest that interest and inflation rates will rise, possibly with a shock.

“Canary in the Mutual Fund Mine”
This week, my old firm’s owners Refinitiv highlighted the combined net positive inflows going into Ultra-Short Obligation investments through Mutual Funds and ETFs. These funds on average keep their maturities below one-year. Money market funds by comparison have more limited maturity and quality constraints. Currently, the assets in this category are more than twice their year-end 2017 level. This is another sign of perceived equity risk reduction, particularly by ETF investors.

Longer-Term Observations After Historical Thoughts
It is popular to state that the market is “climbing a wall of worry”. Another way to look at that statement is to say it’s signaling a lack of confidence in a positive future. Good investments begin with good entry prices, but not those exclusively based on the past. A good investment for the future will be a bargain purchase, viewed from the future, not the past. Suggesting a view of confidence about the future.. Part of the problem, particularly for those of us who have dwelled in past performance records, is that due to technology, globalization, and political currents, the future may be quite different than the past. (“Quants” pay attention.)

Some of the earliest fortunes made in America existed at the time of our first Thanksgiving in Massachusetts. These resulted from skills in farming and negotiating, although their greatest skills evolved into estate management. Sometime later in Boston, a small group of lawyers were put in charge of the money of successful Sea Captains away for more than a year working the China Trade. They were paid a percentage of the revenues/profits. The skills of these lawyers, not only in management and financial planning but in selling to the rich, was an important factor in the growth of the mutual fund industry. Also, perhaps as a tribute to the “Boston Tea Party”, they demonstrated against taxation imposed from across the water, a familiar complaint today. 

In using history to guide future actions, one of the critical tasks is to not focus on past numbers, but the circumstances that created the working equation of a situation. The understanding of these relationships is why I suggest that those lessons from Massachusetts are important to managing money today. The consideration of financial planning, development of successors, understanding taxation implications and  working hard.



Did you miss my past few blogs? Click one of the links below to read.
https://mikelipper.blogspot.com/2019/12/conventional-wisdomcontrarian-options.html

https://mikelipper.blogspot.com/2019/11/contrarian-stock-and-bond-fund-choices.html

https://mikelipper.blogspot.com/2019/11/mike-lippers-monday-morning-musings-all.html




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Copyright © 2008 - 2019
A. Michael Lipper, CFA

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The Actively Worrying Class/Passively Investing Holders - Weekly Blog # 569

Mike Lipper’s Monday Morning Musings

The Actively Worrying Class/Passively Investing Holders

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –

       

                                  

In many sporting events and wars the side that talks most often exhausts themselves, or at least is constrained by their public statements. The theoretical wall of worry that bull markets climb is constructed with bricks of displayed worries. Currently, particularly for some this weekend, there is a lot to worry about. The pundits in the media and salespeople are clever annunciators of worries. As both a student of words and investors actions, I have noticed relatively few actions on the part of investors. What follows are two worries linked to two true concerns and one very current display of actions.

I share military service with the two President Bushes (Captain, USMC) and the current President, who had a secondary school military experience. Those military experiences arouse strategic considerations that all too few are paying attention to, some that threaten peace.

China
In the early part of the 20th century there was much written about global geopolitics. The German general staff believed that whoever controlled the landmass of continental Europe and Asia would control the world. US Admiral Mahon believed that whoever controlled the oceans would control the world. These beliefs are still very active in the minds of global leaders and explain much of today’s news.

Some of the investment managers we use have for decades invested in China. They believe the current government does not have territorial ambitions, but economic ambitions to be the respected as an economic leader of the world. They are very anxious to reach this point in order to avoid becoming too old before they become, on a per capita basis, rich. As is often the case, people look back on periods where things were better for them. The ancient silk road brought acknowledgement of the riches of China to the rest of the known world. China was the most advanced country in the world in terms of economics, technology, and culture.

The current Chinese leadership is rebuilding the silk road with the help of its neighbors, a land route for rail and road from China to Europe. In addition, they are equally busy building a series of sea routes and friendly ports through the South China Sea, across the Indian Ocean, and up the coast of Africa into Europe. This week’s Chinese visit was intended to establish closer trade relations between Italy and China. Remember the return of Marco Polo to Italy from China and the enormous wealth a few Italian cities earned from their trade with China. (Many years later Boston generated some of its wealth through the Clipper ship trade with China. Taking care of the wealth of successful sea captains while they were gone for periods often longer than a year was the foundation of a good bit of the trust business controlled by Boston law firms, who had their own money managers.)

I don’t know what the current President learned at the New York Military Academy or at Wharton (University of Pennsylvania), but I can share my views. The current so-called trade war with China is an attempt to modify China’s long-term strategic thinking. The first objective is to insure freedom of naval passage in the South China Sea, through which a great deal of China’s strategic imports must move. Europe is increasing its reliance on Chinese imports to meet its needs, including its technology needs. The future of technological dominance is even more important to President Trump than the naval considerations.

While China can produce low level semi-conductors, they must import the most advanced semi-conductors to meet both their industrial and military needs. These issues will soon play out in the control of space and become the point of maximum disruptive power. Thus, it was not at all surprising that the White House sought to establish a sixth independent military service, a space force. This initiative was defeated on “The Hill” and it will now be incorporated within the Air Force. In my opinion, tariffs were a means to get the Chinese to the table to resolve more strategic questions.

Answers to Productivity
Some of the best scientific and political brains have been struggling with the fact that US productivity appears to be stuck at a low level of about 1% per year. In past periods when the US was growing in the mid-single digits, productivity was growing at similar levels and for awhile reached 7%. There are at least three reasons for the slow growth. The first ties back to my education in the US Marine Corps.

For the most part the Men and women who join The Corps are no different than the general population, they are just trained better. From the very beginning they are trained in leadership, which was why I wanted to be a Marine. My desire to learn leadership skills originated one summer when I was in high school. I had a manual job in a small laboratory where I heard of the lack of leadership in the low and middle management tiers of large US companies.

A survey of US workers states that no more than 30% are engaged in what they are doing on the job. Gallup and others believe that the main fault lies with the immediate supervisor of the workers. Contrasting that with my training as a junior officer in The Corps, we learned that battles and tasks are often won by the leadership of the non-commissioned officers. These corporals and sergeants lead by example, by training, by their own discipline, and by caring for their troops. As officers our job was to support the NCOs and our Marines in any way we could. Those attitudes are not present in the supervisory workforce today. Workers need to be inspired to do their jobs better and help others in the group so that become promotable.

Another way to improve productivity is to see the challenges of automation. There are far too many articles about people being replaced by machines, an issue first raised by the Luddites attacking automation in the spinning mills. Machines are good at repetitive functions but require people to figure out how they should best be used. Like identifying the next steps in the process and how to create the need for new products and services. Perhaps there are unmet needs to re-educate workers and users, both for existing products and services and for those of the future.

A third answer is perhaps the single best way to increase productivity, through better schooling and education. The distinction between the two is that schooling is what you are taught, education is what you learn most often from life experiences outside of school.  We need to have people recognize that everyday experiences can lead to an education. The idea of a workless retirement is no longer relevant for most, as not working leads to increased spending. There is still important and fulfilling work in the charitable sector that is necessary for our society to progress.

After Worrying, Probably Do Nothing
If one looks at the last 3 days of the previous week, one can see reasons for worry. The table below shows the closing prices, price changes, and volume for Moody’s, a stock owned in our financial services fund.

Date    Price Change    % Change    Share Volume    Last Price
3/20       -1.38          -0.77       1,269,927       $177.25
3/21       +4.74          +2.67       1,700,888       $181.99
3/22       -4.10          -2.25         987,175       $177.89

Interest rates generally drive potential opportunities for Moody’s ratings on new bonds and credit instruments. On Tuesday the 19th the Federal Reserve said it was not going to raise rates, suggesting more money could be raised. By the next day some had concerns that the Fed, by not raising rates, was worried that the economy was closer to a recession. The following day sentiment changed again and the market viewed things more positively, leading the stock price to move to a new 2019 high on much better than average volume. Only to be followed by a pull-back on Friday to Thursday close, but with only 58% of Wednesday volume.

One could interpret from this tiny sample that while there are lots of things to worry about, most investors will continue to hold on to their long-term stock investments, at least for the moment. Because of the announcement on the Presidential investigation today, I expect that those with a strong view will react on Monday. My guess is that whatever happens there will be a reversal later in the week.



Did you miss my past few blogs? Click one of the links below to read.

https://mikelipper.blogspot.com/2019/03/long-term-trends-may-not-be-friend.html

https://mikelipper.blogspot.com/2019/03/the-top-before-big-top-weekly-blog-567.html

https://mikelipper.blogspot.com/2019/03/2-speed-vs-2-directions-old-better-than.html




Did someone forward you this blog?
To receive Mike Lipper’s Blog each Monday morning, please subscribe by emailing me directly at AML@Lipperadvising.com

Copyright © 2008 - 2018
A. Michael Lipper, CFA

All rights reserved
Contact author for limited redistribution permission.