How to Invest Into an Unknowable Future
Danish physicist, Niels Bohr, is reputed to have quipped that “It is very hard to predict, especially the future.” And never has this been more so than right now. Amid a confluence of events for which there are no precedents, it is impossible to make perfectly informed investment decisions. However, even with this extreme level of uncertainty, I believe there are principles investors can use to help guide their decisions.
According to Howard Marks and history, the US has just experienced the greatest pandemic since the Spanish Flu hit in 1918, the greatest economic spasm since the Great Depression more than 80 years ago, the greatest oil-price decline ever, and the greatest central bank/government intervention for just as long.
While biases and experiences will at best provide a flawed view of both what the future holds, and what our abilities to discern it to be, we must nevertheless make investment decisions into the unknowable.
The greater good versus the economy
The near 20 per cent rally in markets since its lows on 23 March 2020 reflects a majority view that a V-shaped recovery is the most likely result of the measures governments and central banks have taken to simultaneously stop the spread of the virus and support the economy.
The most confounding decision to soon confront governments will be the one that requires them to decide how the greater good is best served. Is it best served by saving all lives or is it best served by allowing some to die in order that the majority may get back to generating economic units of output? Minimising virus deaths and restarting the economy is also the most vexing question for investors.
I believe however that question is already being answered in the public domain. A staged return to work is not only inevitable but I currently believe likely to begin sooner than previously indicated.
One of the predictions I did make recently was that, after Easter, the narrative would turn to questioning the wisdom of long-term economic shutdowns. A community movement to unlock the lockdowns would commence. This is indeed the case. Even lauded value investor Howard Marks has quoted renowned investor Edward Lampert’s April 6 New York Sun column in his latest memo:
“We need to get America back to work quickly. Businesses and individuals can adapt dynamically to intelligently guard their interests, seek opportunities, and make trade-offs. The government can provide the traffic signals and the safety standards. That approach to public health is consistent with a free and economically vibrant country, rather than in conflict with it. It’s tested on our highways every day.”
Of course, Lampert’s suggestion that governments send people to their death each day by allowing them to drive is a flawed argument but that isn’t the point. The narrative is quickly changing direction and shifting up the gears.
Obviously, if something hasn’t previously occurred in my lifetime I cannot claim to be an expert on what happens next, but I can make a behavioural guess based on the pressure I know that governments feel from their voting citizens.
Where to for Australia?
On the basis that the Australian Prime Minister has accrued some local credits, and international plaudits, for his government’s handling of the outbreak here, he can spend some of that political capital on being populist with the next decision. That probably means laying the groundwork for a staged return to work and economic activity.
Indeed, the implementation of an Australian tracking app is a very clear step in that direction.
“It is impossible to make perfectly informed investment decisions... we must nevertheless make investment decisions into the unknowable”
As an aside, I cannot tell whether the market falls in a second heap over the damage to the economy and the length of time it takes to recover to pre-COVID-19 levels, but I can make a bet-worthy assumption that we go back to work earlier than originally anticipated.
And while there is indeed a risk that everything turns to pot economically or takes longer to recover, the market appears to be well aware of those risks. Indeed, vision of the world’s busiest cities empty with tumbleweed blowing across the streets, and the IMF forecasting a 3 per cent contraction is all we need to know the economy is shot. Everyone can see that, so it has already been weighed and assessed by the market.
But the IMF is also forecasting a 5.8 per cent rebound the following year, the US Federal Reserve announced they’d be buying junk bonds last Friday, and Apple sales in China are surging.
Chinese government data reveals a strong rebound in iPhone sales with Apple shipping an estimated 2.5 million iPhones in March, up from approximately 500,000 units in February. While approximately 20 per cent lower than March 2019 levels, the V-shaped experience in China may be a precursor to experiences in western democracies once the virus is contained, and a staged return to activity gains some momentum.
Taking the next step of forecasting individual company revenues and profits is still a step too far but it is also worth appreciating running valuation models today could actually be a waste of time. It is impossible to know what revenues and profits will be in a year or two, and in any case, it is extremely risky to invest on such a short-term basis.
Far less risky is it to invest with a five, ten or even twenty-year horizon in mind. On that basis you could argue that the sharply lower prices delivered by the COVID-19 outbreak have been a gift. And remembering the Fed’s recent announcement that it would begin supporting the junk bond market, ‘Don’t fight the Fed’ may be a very handy, if not ultimately profitable, aphorism.
Roger Montgomery, Founder and Chief Investment Officer, Montgomery Investment Management