Tuesday, June 19, 2007

Hooray! It's a bear market!

Well, OK. Maybe not.

After an impressive four-year run, the TSX appears to be in some sort of sideways holding pattern of late, where every three-digit gain in a trading session is often followed by a three-digit loss. I realize it's a fairly small sample size (and doesn't the stock market always swoon in the summer?) but I really can't shake the feeling I have that we've had it too good for too long, and the times are about to get a little bit tougher. If it happens (and please understand I'm not necessarily saying it will -- I'm just some putz with an investing blog) it will a watershed moment for me in my investing life. Thanks to my young age (27) I've only really gotten serious about investing for the past 3-4 years, since I've been out of school and have finally had a bit of money to play with. The only investing reality I've known is this one, where gold, financials, trusts, REITs, energy and now, commodities have taken turns driving the TSX to record highs.

To be frank, all I've ever known is this bull. And don't get me wrong -- I love the bull. I hope the bull lives a long and happy life before keeling over in about 90 years, surrounded by his loved ones. I'm just naturally cautious enough to know that the bull won't last forever. Mr. Bear is going to show up at some point. It may as well be now.

As investors, we're generally supposed to love bull markets and loathe bears, but for the last few days, I've been kicking around a few reasons I can think of for why I wouldn't mind a bear market.

1 - It's a learning opportunity. It's all well and good to say you have a "plan" and boast about your 48-page excel spreadsheet with your ideal asset allocation strategy. But it's amazing what a 25% drop in the markets will do to make you change course and question your plan. Maybe you're not diversified enough. Maybe you've crafted the ideal portfolio for weathering out the storm. Maybe you’ve' guessed right. Hell, maybe you really are better off putting it all into gold. I don't know. But a downward market seems like an excellent litmus test to me. I'm still something of a na├»ve investor, so a new environment to work in -- where money isn't free and gains are only found by doing your homework -- would a good thing going forward. I think it's the kind of thing I'll appreciate in 40 years. After all, I'd rather lose it all to my own stupidity in my 20s then do it when I'm 50 and have a mortgage to pay and kids to feed. Anything that makes me a better, more disciplined, savvy investor down the line is a good thing. Even if it costs me a bit on paper now.

2 - More ammo in the active vs. passive debate. Regular readers know my distaste for high-fee mutual funds, and a financial industry that I think preys on ignorance and laziness. Generally, active-management advocates like their strategy because not only does it allegedly maximize gains in a bull market, but a shrewd managers can supposedly steer around the icebergs when the market as a whole heads south. I'm skeptical that's the case, and that all but a select few people can ever hope to outsmart Mr. Market. Maybe it's true, but I doubt it. I've known too many turkey mutual funds to buy in. In short, if people haven't been convinced that it's a waste of time to pay somebody to "beat the market" (remember the oft-quoted "80% of all mutual funds" statistic) then maybe paying somebody to lose money for them will convince them to see the light for once and for all. Hey, if I'm wrong, so be it. Maybe the Canadian mutual fund industry is worth what it gets paid. I think changing the rules and eliminating the easy money is an excellent way to find out just who's right.

3 - It's hard to be a downer in an up market. A personal story. My girlfriend's company has an incredibly generous employee-stock purchase plan which encouraged her to sign up for. I think she was skeptical at first, but as soon as she saw the discount she gets, and the direction the stock has headed since (straight up) she's now a believer. The problem? Her company's stock has done so well that I think she should sell off some and use the gains for something else. No matter the news -- good, bad, whatever, the stock chugs higher and higher. It's uncanny. But she won't listen. To her, "More company stock = more good". I try to preach the mantra of diversification, but when the only investment she's ever known has done nothing by go up for her, it's hard to convince her of the virtues of a low-cost, diversified ETF. I hate to say it, but maybe a 20% portfolio haircut will show her the light. Unless, of course, it turns her off investing altogether. That's not what I'm trying to accomplish.

4 - Slow the train down, and let me get on. This one's a bit of a stretch, but generally, when the stock market does poorly, the Bank of Canada likes to slash interest rates to make borrowing easier to stimulate the economy back up again. After a prolonged period of crazy-low rates, the Bank appears to be leaning toward rate hikes to slow the economy down. That's bad news for mortgage-owners, or people like me looking to jump into real estate. A bear market would mean I would feel better about keeping my money in secure GIC's and high-interest savings, and also mean I'd have a larger downpayment to jump into a cooler real estate market in a few years' time.

Anything I've missed? I realize it's hard to celebrate the bad times, but can you think of any advantages of a stock market that's headed into a prolonged downward direction?


Thicken My Wallet said...

Bear markets also tend to eliminate the gamblers from the markets and re-focuses people on fundamentals and not wild gambles.

Mr. Cheap said...

Here's a story for your girlfriend: I have an uncle who worked at Nortel (upto and through the boom and bust). He was a good company man, bought his employee stock at a discount, and accumulated a nice portfolio (of all Nortel stock, since that's where he worked and that's what he loved).

At one point he was showing everyone who would look his million dollars of Nortel stock. If anyone suggested diversifying he'd just laugh and say "its still going up".

Now he still has a portfolio of all Nortel stock, its limping along (he doesn't show it to people any more). If anyone asks him, he assures us "its going to go up again!".

If he'd diversified on his way up (sold a fraction of his Nortel and bought ETFs as it climbs as you suggest) he might still be a millionaire.

Buying at a discount is good. Holding because you bought at a discount is silly.

FourPillars said...

One of the things I've read in many books is that you are better off starting your investing career in a bear market because you'll get better values.