In The Future

In the future…

Let me ask you… what traits do you think are required to be a successful investor? Being smart? Experienced? Educated? Disciplined? Lucky?

Probably all those things. There’s a few others that I think are critical – having: imagination, curiosity, scepticism, self-awareness.

A willingness to try our best to push aside any cognitive bias and question the narrative. Every trade, every market, every economy runs on a story. Momentum is your friend but you should always be questioning the story behind the momentum.

Broadly, the global economy and markets are decidedly without momentum today. For some time now I’ve been saying that things are very fragile… conflicting signals, conflicting stories. We may be nearing an inflection point.

Five years of data for the MSCI ACWI tells the story. This index is comprised of 49 different stock markets (23 developed and 26 emerging). It’s been a tough 22 months since the spike high of December 2018. To be fair, this is priced in USD and thus the performance in AUD terms will be a bit better owing to our falling AUD. Great. I mean, we do need our currency lower to help fuel adjustment in our fragile and lopsided economy. But it still sucks when global purchasing power is being smashed.

With the frustrating lack of anything going on, I’ve found myself thinking a lot about the future: near-term and long term… finance-related and not so finance-related. What sort of things do I think will happen in the future and what opportunities might they bring?

As investors (especially those of us with an “active management” approach), of course it’s the journey that we are concerned about much more than the destination. But having a sense of where the destination is located is still of tremendous value.

Today I want to encourage you to use your imagination; to take a step back from the daily noise of the markets – the talking heads on finance TV and internet – all of which compete for your attention by trying to scream the loudest and come up with the most amusing soundbites. What things do you think will happen in the future?

Let’s start with the chart above. It will currently have a lot of “technical analysts” salivating – if it can clear this little resistance band (red line) and then the 2018 highs into blue sky…well, it could go to the moon and beyond! What do you think? Is the global backdrop conducive to a big rally in equity markets?

My nephew recently got his L-plates. Will kids still be getting their drivers licence in 20 years? Or in 20 years will 13-year-olds be taking one of the family’s self-driving cars to soccer practice by themselves? Will people even be allowed to drive themselves or will that negate their insurance due to human-error risk?

Can you see yourself paying for things any time soon using some form of “cryptocurrency”? If so, why – why do you think you will favour this over the current payments system?

Will the average Sydney house price be $6,350,000 in 25 years time?

This number comes from an Aussie Home Loans property report looking at the market for the 25-year period from 1993 to 2018. They point out that if property prices grow at the same average rate over the next 25 years, that’s the outcome. Best of luck saving that deposit, first home buyers!

As they also note in their report, the average mortgage size has gone up at a similar clip as house prices – an average rate of around 6.5%. Do you think that the growth in mortgage size can continue to dramatically outstrip income growth? And GDP growth? We already have basically the largest amount of household debt to GDP in the world. Could mortgage growth stall? Or go backwards? What do you think would be the implications of that?

On a related topic, how do you think our beloved banks are going to perform in coming years? The banks have been one of the biggest winners from the great leveraging of the past 30 years – selling more and more debt to Australians and making spectacular profits whilst doing it.

Needless to say that the banks fate will have a big influence on the Aussie market in general.

I can’t resist including the following chart: Euro STOXX Bank index

Various commentators are calling this the most important chart in finance land at the moment. The Euro STOXX Bank index is an index of Europe’s major banks. Bouncing along lows that go back to the ‘90’s. So no, banks don’t just make more money and go up in value in perpetuity.

Who will win the 2020 US Presidential election? Some of the current front-runners within the Democrats to become Trump’s opponent have, how should we say, some “radical” views – a 97% top tax rate and the like.

We’re currently seeing a slew of household names posit that bad things will happen if the “wrong” candidate wins. Hedge fund legends Paul Tudor Jones and Steven Cohen remark that they feel an Elizabeth Warren election victory is worth around 25% decline in the markets.

For what its worth, their expectation is for a tough 2020 in financial markets owing to the election alone – expect to see markets swing around based on which candidate seems to have a lead in the polls.

What’s the future for the new wave of tech companies that have become such a part of our lives? For example, Uber lost over $5 billion in the last quarter. $5 billion. In one 3-month period. And that’s in US dollars – let’s call it $7.35 billion in AUD!

There’s so many of these companies at the moment. They have a great idea. They are popular. Usually driven by a charismatic young CEO who sparks imaginations by using all these buzzwords like “disruptive”, “innovative”, “data science” and the like.

These companies are certainly capturing the imagination of investors. In order to lose this kind of money, these companies first need to get massive amounts of money to lose. And there’s been no shortage of investors eager to take a punt on what might be. Of course, for the early investors throwing billions in venture capital at these “unicorns”, their focus is a big payday when the company goes public on the stock exchange. After that, well, who cares right? Same with Wall Street that’s been hyping up these initial offerings of profitless companies like its 1999 and making millions in fees doing it.

It doesn’t matter how popular your product is or whether you are listed on the stock exchange – you can’t keep losing billions and still exist. There becomes a point where “growth at any cost” needs to give way to profitability.

So back to my question – what’s the future hold for some of these companies that have become such a part of our lives? You don’t need an MBA from Harvard to figure out what needs to happen – you need to spend less and earn more. So will consumers still use these businesses at much higher prices? Or will they somehow find a way to cut costs to achieve profitability? Some combination? Or are we going to see some very high-profile bankruptcies?

According to a lot of people, we’re on the cusp of some major medical breakthroughs. Many smart people feel that we’ll have cancer beat in 20 years. Amazing – imagine if cancer treatment simply becomes a series of pills or injections and a month later you’re cured. It’s incredibly exciting.

Life expectancy should continue to increase. With people living longer there will be greater demand for certain things. Opportunities and challenges. If, like me, you hope to live a long time we will need the financial resources to live a comfortable life for longer. Retirement goals (both age and capital required) will continue to shift.

Will technological innovation really put millions of people out of work? Or will, like I’ve heard some “futurists” posit, innovation and productivity gains result in people working less without any impact on income and standard of living? That would be nice! What sorts of careers should young people be focused on? Where’s the big money going to be made in 30 years?

Can you see a time in the future when China – mainland China – is a prized destination for career development? Where aspiring young people armed with an MBA from a prestigious school in the west are fixated on scoring a job…not in New York or London but in Shanghai or Beijing. Where highly talented Chinese stay at home to develop amazing things rather than seek opportunity abroad.

My personal belief is that this idea is incredibly important in the context of China’s future. It seems that China wants to be a wealthy first-world nation like the USA. To achieve this, they need to move up the global “value chain” – they need to produce higher-value goods and services and not specialise in cheap plastic crap. The leap forward requires innovation, inventing new things, and dramatically improving existing things.

“Sucking in talent” would mark a significant milestone in the realisation of this goal. Can you imagine this happening any time soon? What sort of things need to shift for this to become a reality?

I’ll leave you to ponder this… It’s 20’something (i.e. some time in the future). Global share markets have had a miserable 7 months and are down 30% from their highs. I know – it feels like the markets will never go down. Like they have been “fixed” in a permanently high plateau thanks to central bank actions. But as sure as night follows day the markets will at some time complete their cycle.

You get talking about the markets with your mates at the pub. They’re stressing about their super fund being hammered. Trying to find some comfort in their (reduced) bank dividend and franking credits.

One mentions that he read some commentary from Michael Pascoe insightfully recapping what’s transpired over the past 6 months and quoting some funds managers who see real “value” emerging. Another mate mentions how he heard Alan Kohler on TV suggesting there might be further to fall (just extrapolate the current trend, right?).

They ask your thoughts…

Complete this sentence… You humbly say; “…yeah its tough right now but I was pretty fortunate…I sold at ???”

Focus. Use your imagination. With the benefit of hindsight, what level do you think you could imagine yourself being pleased to have sold at? The ASX200 is around 6700. 6700? 6850? 7000? 6500?

There’s an old saying that nobody rings a bell at the top. And of course you don’t know it’s the top till after the fact – sometimes pretty well after. The point I’m trying to make is that sometimes it’s okay to be “early”. To exercise some patience and be willing to do not much for a while. It might cost you some returns, but it also might save you a lot of money and angst (or even make you money depending your investment approach).

Much of the finance industry – the funds managers that look after super, stockbrokers, the commentators – they all have a vested interest in “following the market”. That’s their benchmark.

The only way to out-perform the market is to take “risk”. For example, predicting a correction will happen and reducing exposure. For the fund manager who decides to reduce exposure, the “risk” he’s taking isn’t the risk of losing money. Quite the opposite – his actions stand to limit losses if the market does fall.

The risk he is taking is underperformance.

You see, in most of finance land there’s nothing wrong with being wrong – provided everyone else is wrong along with you. But if you are wrong on your own…well, that’s a problem. Then you’re just the crazy guy on the corner with a sign.

Say you’re lucky enough to have scored a portfolio manager role at Colonial – getting paid $1M per year managing vast sums of superannuation savings in a long-only equities fund. You sense a correction and reduce exposure. If you’re right, great – you should outperform the market in that the loss on your portfolio will be less than the market. You’re doing your job – the boss should be happy and maybe you qualify for slightly higher bonus.

If the correction doesn’t come and the market rises, your performance will probably lag the market. Your boss with be very stressed – he knows that if the fund underperforms for too long, the fund will begin to see withdrawals. Further, the fund stats will look poor compared to peers and further withdrawals will occur down the track. As the fund manager, this is major career risk – underperform for very long and you will lose your cushy high-paying job.

That’s the incentive structure. Outperformance = meh – bit of recognition, maybe higher bonus. Market-performance = keep the job, keep the huge salary. Under-performance = you’re fired!

It’s basically the same for market commentators. If you want a long career as a prominent commentator, don’t make predictions – especially about the future. This is the reason why most prominent commentators stick to explaining what’s going on at that point in time – pretty worthless information. They know that if they make predictions they will be wrong and if they are forced to eat too much humble pie they will be out of work.

We all need to take responsibility for our own financial decisions and destiny. Granted some of us have more experience and capacity and of course this includes engaging experienced and trusted advisers as-needed.

But I believe we’re all capable of making some good decisions if we try. Just stop and think for a while about the future… what decisions do you think you will be pleased that you made?