My Say No. 61 – Wind back the clock

You do not really understand something unless you can explain it to your grandmother. — Albert Einstein.

Whilst browsing the weekend papers this morning I was reminded of a peculiar habit of people; one I have commented on in previous newsletters. It is the almost religious fascination with round numbers. See the extract below.

“There’s a striking contradiction at the heart of the developments that dominated Australian business this week. On the one hand, the benchmark S&P/ASX 200 equity index rose to fresh highs above the symbolic 7000 points mark.”

Symbolic?? I don’t think so. However, I have decided to reprise my original article from 2005 and kill two birds with one stone. The new year provides me with the updates to my favourite charts so, as the 2005 article was the first for that year, I will maintain the text verbatim and merely substitute the latest ‘mother-ship’ chart for the original.
So, here goes.

Welcome to my first epistle for 2005. What a start to the year it has been with the All Ords up around 28% during calendar 2004! (How funny that the market was up the same amount for 2019) This follows gains of 16% the year before. It wouldn’t be hard to feel very smug about how clever one is when portfolios are awash with unrealised capital gains. Just don’t forget, it could all be gone tomorrow.

In some respects, it has also been frustrating. When prices run this hard it is often difficult to find value. Remember the rules; price and value at times of sharp movements are often inversely related. Despite the prices of some stocks rising by 40, 50 and 60 per cent, the value of the business is often not much different to what it was 12 months ago. What changed was merely perception.

Others seem to share this view of an overpriced market. Some of you may also have read the article by Barry Dunstan in the AFR on Friday, 4th February. He was discussing the market direction with a financial planner come economic forecaster.

What was a relief to me was that the subject of the interview had found the ‘alchemists stone’. He was able to dismiss all other forecasters as inaccurate and lays claim to having the only reliable methodology for making asset allocation decisions. Whew, big call.

This gentleman is modestly forecasting a ‘fair value’ for the Australian market of 3200, not the current 4000 points. He then goes on to suggest the returns that investors can expect from equities over the next seven years.

He also issued a challenge to all who disagree to “feel free”, as long as they can demonstrate the reliability of the methodology they prefer to use, to make their forecasts. This is a big call from someone who declines to elaborate on the detail of his model and gives us the glib assurance that “rocket science is not involved”.

I digress. Whether we see 3200 or not is of little interest. It is just another number. The mindset associated with round numbers is extraordinary. I don’t know whether any of you watch the commentary as we approach a ‘big number’ on the index. Whether it is 10,000 on the S&P or 4000 on the All Ords, we are confronted with the almost daily ‘will we-won’t we’, and once achieved, it becomes “can we sustain it?”

Can anyone remember the first time we went through 1000 points? It was late 1985: All to be forgotten when we went through 2000 points in July1987. This was followed by a correction and we did not pass it again until October 1993. We were bored again until April 1999 when we hit 3000. Now we have the magic 4000 under our belts in December 2004.

All this will then be forgotten until the next ‘big number’ on the index approaches when we will go through the whole sorry process all over again. Unless of course we fall back and then must take another run at the 4000 level. In the meantime, it will be up and down like the proverbial. Trying to look into the future for asset allocation plays is not really part of my investment philosophy.

As I foreshadowed in my last newsletter, it is time for the annual updates, and I have included my ‘mother-ship’ slide.

For those of you unfamiliar with this image, it compares the value and income from cash and industrial shares over the 40 years that the data has been available. Despite the ups and downs over that time, the stability of the dividend stream shines through and it is this that forms the basis of our investment success long term.

The companies pay dividends depending on payout ratios (the yellow bars) and the balance is retained to grow the business (the yellow line). Whilst we are working, we can also reinvest those dividends as well and compounding over time does all the hard ‘yakka’ for those who are patient.

To me, most of the forecasting is just noise. It is mostly contradictory (despite the alchemist’s stone having now been found) and isn’t worth a tuppeny toss. The yellow line will inevitably follow the yellow bars and the short term gyrations around the mean or, volatility, merely reflect attitudes or sentiment at the time. These ups and downs are only really useful as an indicator for me to perhaps increase my purchases whilst prices are low but not much else.

With dividend season again approaching I look forward with mindless anticipation to watching the cheques roll in. It seems like only yesterday that the dividends from the previous reporting period stopped. Laissez Les Bons Temps Rouler.

Knowing that we will repeat the past I remain sanguine about the future. If not, what else is life about?

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