In the 2008 financial crisis I was working in finance but I had no idea how sensible investors made money over the long term.
A New York woman I know (let’s call her KW) worked for a real estate fund. We found ourselves at the same conference in Las Vegas in December 2008 -- a few months after the Lehman Brothers collapse when the stock market had gone into a spiral of doom. At the time I was very glad Nigel and I had a garden and a tiny mortgage because we could always just grown our own food and make it through the apocalypse that had begun. My friend KW and I had an impromptu dinner at one of the fancy places at the Bellagio or something similar. The exact details are a bit hazy but I remember one sentence out of her mouth about the investors she worked for that I kept thinking about.
It finally made sense to me only years later.
. “these guys are going to make a boatload of money in the next few years”.
She was a smart lady, a fancy MBA, very mature in her outlook, with 18 years of investing under her belt and had recently been made COO at a major real estate fund. I took her seriously but couldn’t understand how the people would make money in a collapsing system.
But HOW were they going to make money in the falling markets?? What was going on?
Value investing was the answer. If you already know what this means, great, please read on I might be able to offer you some entertainment. If you haven’t heard of value investing -- definitely keep reading, it might change your relationship with money and the markets forever.
When real estate was beaten down in 2008/2009 in the US the professional long term money managers moved in. They studied the housing market and realized that the US housing stock would have to keep going up to match the needs of a growing population -- babies, young adults leaving home, immigration etc. They knew that although mortgage lending was nearly frozen it would recover and with it the house prices across most of the US. So they sweeped in with their analysts and bought up houses at very cheap prices, held onto them for a few years and then sold them on for huge profits as the housing markets recovered around the country.
So they made their money by 1. Buying when noone else would, 2. Being able to find the cash to buy when prices are low, 3. Buying when the prices were falling and 4. Holding on for years with confidence that the markets would recover.
There are according to Howard Marks a super successful value investor who manages 60 billion dollars (yes, that is billion with a “b”) four ways to make money **
Rise in value
You make money for waiting for a investment to rise in value. Apple is a famous and expensive company, but you think it is innovative and create more value in the next few years so you hope to buy now and sell at a higher price in a few years.
A friend comes to you with a hot new biotech investing idea. It’s going to change the world. Your $10K investment could turn into $100 million...
The problem of course is knowing which investments to put your money into and in hoping you have knowledge that other players in the market don’t have.
Borrow and hope the price goes up. Example. Buy a house for $100,000. But down $20,000 and borrow $80,000 to buy it. The house goes up in value and you sell for $130,000. You pay the bank $90,000 ($80,000 loan plus $10,000 in interest).
You now have $40,000 instead of $20,000. Congratulations - you’ve doubled your money. Unless of course the house price goes downwards….
Selling for more than its worth
Sitting around hoping someone will pay you more for something than it is actually worth -- your used car, shares of a company that look rosy in the papers but since you buy a lot of their products you know they are doomed. Great scenario but unrealistic and probably mostly illegal to engineer this situation.
Buying something for less than its value
and then waiting for it’s market value to catch up. This according to Howard Marks is the most reliable way to invest money. Don’t take Howard’s word for it. The most famous investor of our time - Warren Buffett is at his core a value investor.
But coming back to dealing with January 20th 2016 -- today -- now -- the news headlines are screaming about trillions lost off the value of the economy. Really? the supermarket seems just as full of shoppers today than it did 4 weeks ago. The underlying VALUE of a company hasn’t changed in one day… it might over the course of a year or a few years, but it hasn’t changed over night.In London I probably know 150 men (they are the vast majority men) gleefully buying up stocks and other plummeting securities. But there are probably a 150 million investors worldwide panicking and selling.
It’s a bit of an inverse of Black Friday shopping sales. In retail if toasters plunge in price, people line up around the block and try to kill each other getting a hold of those discounted toasters. In the stock market when prices fall, people rush out the door in a near stampede.
So going back to my promise to help you feel better about the falling markets --
the market won’t stay down forever
buy things that are being hammered down undeservedly
keep investing for the long term, don’t worry about the day to day unless you are a professional money manager
Simple principles but not easy to follow.
Here are two books that have really helped me get to grips with value and long term investing. Not a single formula between the two of them in case that kind of thing bores you.
Feel Better About Investing Books:
The Dhandho Investor by Mohnish Pabrai
The Education of a Value Investor by Guy Spier
Until next week!
Have a good day and sleep well despite the financial turmoil.
** “The Most Important Thing: Uncommon Sense for the Thoughtful Investor” by Howard Marks