While most of the retail investor's time is (hopefully not) spent watching CNBC propaganda spouted by wannabe traders (mostly asset gatherers as opposed to real return seekers) who sell their $29.95 books on how to be rich in 30 seconds trading the TVIX; some might prefer to listen to the original thoughtful value investor - Seth Klarman. The man whose book 'Margin of Safety' sells for over $1000 (and whose acumen extends for decades) just released Baupost's (his fund) quarterly letter and makes what should be a critical statement for any and every investor to consider when next they hear of quantitative easing prognostications. In two short sentences, Klarman states: "We will not be tempted into making investments based on such absurdly short-term thinking, which sadly still dominates Wall Street. We focus solely on fundamentals. We are comfortable missing out on potentially major rallies if they are based purely on money flows or government action; the risks of engaging in this sort of speculative activity are simply too high."
Reminiscent of the reaction to Ben Bernanke’s Jackson Hole speech in August 2010, where he made the case for Quantitative Easing, the financial markets--desperate for even the thinnest reed of good news--rallied strongly in the face of these palliatives. Since this enthusiasm is grounded in temporary phenomena (e.g., government actions that will be ended and reversed eventually), this latest speculative surge could follow the same path as the 2010 rally, which ended in tears as the stock market almost completely reversed by early summer of 2011. Indeed, equity markets declined during the first part of April, as softer employment news in the U.S. and renewed fears over Spain’s weak economy and heavy debt load weighed on investors.
The same low interest rate, deficit-spending driven, leverage-friendly economic policies that fueled the unsustainable conditions that led to the 2008 collapse are with us still. These days, they are touted as the cure for our woes. But we cannot reconcile how the policies that led to the problem can also lead to its resolution.
One great irony of investing is that when fears subside and financial markets rise substantially, investors should actually become more skeptical. Risks grow when prices rise ahead of fundamentals. It is at precisely such times--when risk premia are shrinking--that investors cease to be rewarded adequately for the incurrence of risk.
The fact that this strong rally has been spurred by government policy--low interest rates forcing investors into risky instruments in search of yield--makes it riskier still. Government interventions in markets can be ephemeral, subject to the vicissitudes of politics, and at the mercy of market action that can force the government’s hand. The government is winking to investors that the coast is clear, that speculation should commence and will be rewarded. That is the kind of message that only a short-term trader can love. In a sense, investors are once again treating all news as good. Signs of strength are greeted with exuberant rallies. Signs of weakness are met with a few days of decline, followed by yet another rally as investors anticipate further government intervention.
We will not be tempted into making investments based on such absurdly short-term thinking, which sadly still dominates Wall Street. We focus solely on fundamentals. We are comfortable missing out on potentially major rallies if they are based purely on money flows or government action; the risks of engaging in this sort of speculative activity are simply too high.
...and here are some excellent notes from Redfield, Blonsky & Co LLP, on Klarman's Margin Of Safety book:
