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Lessons From A Lost Decade

Lessons From A Lost Decade

The pop culture element of the financial world has dubbed these last ten years as The Lost Decade – a means of describing the roughly 10% drop in the S&P 500 during the timeframe. It’s a lament to seemingly better times like the late 90s when UselessCompany.com or anything else with the ubiquitous dot-com label appreciated 400%/year. One can debate the merits of this lost decade claim. We prefer to view it as lost to the extent we refuse to learn the decade’s lessons. These are a few we think are important:

DIVERSIFICTION ISN’T DEAD
Diversification didn’t fail – expectations did. Deep-pocketed, agenda-driven firms sold the strategy as something that would prevent losses. That’s nonsense. Simply put diversification means spreading your risks so you’re not always holding the best or worse asset class. By definition it puts you in the middle. The middle is no guarantee of the positive side of zero. What diversification provides is more consistency in returns resulting in a smaller tendency for knee-jerk reactions to bumps in the road.

MARKET-TIMING IS A FOOL’S GAME
A lot of people fall victim to Monday morning quarterbacking. “If only I jumped in and out of the market at the right time.” It’s a plausible reaction but not a proactive strategy. Market-timing results in a lack of discipline and a loss of perspective. Long-term goals vanish in the moment. To paraphrase Eddie Vedder, “The young can lose hope ‘cause they can’t see beyond today. It’s the wisdom that the old can’t give away.”

REBALANCING WORKS
No crystal ball is needed. Working towards a target allocation trims asset classes that have appreciated while adding to those that have underperformed.

SAVING WORKS
If location, location, location is the mantra in real estate then its investing cousin is save, save, save. Collapsing asset prices caused many to panic resulting in forced liquidation at fire-sale prices. Those with sufficient savings used the opportunity to buy assets at cheap prices. Saving money is like losing weight. No shortcuts. The easy rule of thumb is money in should exceed money out. Make more, spend less.

THERE’S NO FREE LUNCH
Ever-appreciating real estate and stock prices coupled with cheap borrowing costs indulged a consumer-driven mentality. The age-old cry of “this time is different” held true – until it wasn’t. Using home equity loans to fuel spending without regard to what happens if there’s unemployment or a change in health or financial wellbeing was exposed as imprudent financial management. Decisions can’t be made in a vacuum. Life is interrelated.

HISTORICAL PRICES BELONG IN THE PAST
Just because a stock used to trade for $80/shr a year ago doesn’t make it cheap today at $60 or $40 or $20. That $1,000,000 home last year isn’t necessarily a bargain today at $900,000 or $800,000. Past prices are of no value and should never influence views of current value. Current value is based on future prospects – not the past. Why do we fall into this trap? Psychologists call it anchoring. It’s easy and quick. We like that. Unfortunately what we like and what makes sense aren’t necessarily the same. Take the phrase relative value. It’s the financial equivalent of half pregnant. Value is value. It’s absolute. Value is predicated upon future prospects – not what happened in the past.

SLEEPING AT NIGHT IS A GOOD THING
There’s a lot to be said for peace of mind. Skip sexy and go for boring. You won’t be a hit on the cocktail party circuit but you’ll find yourself gravitating towards Peter Lynch’s “buy what you know” philosophy. Take the funeral business. There’s a 100% chance the product/service will be needed. No outsourcing. No substitution. No creative destruction. Lots of barriers to entry. Can the same be said for the next iDevice from Apple?

HAVE CONVICTION
It’s easy to lose faith. Don’t. You can look wrong for a long time before you look right. Today’s geniuses are yesterday’s idiots. Remember the folks laughed at because they held boring, dividend-paying value stocks when they could have owned high-flying tech stocks or speculated in Miami real estate? We’ll take the slow and steady approach while the paper millionaires created and destroyed by AOL, Cisco, etc. wonder why their foolproof strategies made them fools.

DON’T BE AFRAID TO LOSE MONEY
Bought something with the idea it would appreciate and it didn’t? That’s OK. Paraphrasing Peter Lynch, “In baseball an All-Star is a .300 hitter. He’s got to be right 30% of the time. I need to be right only 10% of the time.”

IGNORE THE MEDIA
We love the here and now. Media capitalizes on this. Financial media is no different. They trumpet quarterly earnings, M&A speculation and so on. They ignore long-term trends like growing US debt, an emerging Chinese middle class, etc. The short-term sounds interesting. In hindsight don’t longer-term trends have a much more interesting and meaningful impact?

DON’T CONFUSE IMPROBABLE WITH IMPOSSIBLE
Enron? WorldCom? Lehman Brothers? Bernie Madoff? AIG? GM? Falling real estate prices? $140 oil? $1,000 gold? No sane person would begin to suggest these things. They all happened. Just because something isn’t likely doesn’t mean it isn’t possible. Expect the unexpected. Be prepared.

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