Straight Lines? They Only Exist in Text Books
My granddaughter Lucy lives in Brooklyn, and we drive down to visit her a couple of times a year. As the crow flies, the distance is about 350 miles, but we aren’t crows and we aren’t flying. We have to deal with Lake Ontario, the U.S. – Canada border, a couple of mountain ranges and the Hudson River. As the car drives, the journey is 480 miles, or almost 40% more than a straight line. But life is like that. Very few things in life are linear, moving smoothy and precisely from point A to point B. So it bemuses me when our clients are surprised that the market value of their portfolios, and the prices of the individual stocks and bonds they own, go up and down.
Statistics Canada reported last week that Canada’s GDP fell in the 2nd quarter of the year. There was less activity in the housing and construction markets (which, given the substantial increase in interest rates should not surprise anyone) and the horrible wildfires in the west and the north affected operations for forestry, mining, and rail transportation. The fall was minor, almost a statistical rounding error, but nonetheless, the persistent fears about an impending recession, which have been a sort of subliminal murmur for most of the summer, suddenly gained in volume.
Recessions are a normal part of economic life. It would be very strange if the economy simply grew every year, regardless of what else is happening, be it climate change, war, or labour disruptions. The fact that we view recessions as unusual is one of the great triumphs of the macroeconomists who have been working since the Great Depression, which began about 90 years ago. We have learned a lot about how to remove some of the potholes and detours in the path of the economy, but it will never be a completely smooth road. We would be foolish to believe otherwise. So perhaps we will have a recession this fall. Should we worry about it, and if so, what should we do about it? In our view, the answer to these questions is: no and nothing.
In a recession there is less economic activity, so naturally less revenue will be earned by corporations as a whole. Some companies will do better, some worse, but in general, the earnings of stocks will decline. It would not be surprising if stock prices went down in concert with earnings, and this is often the case. When the recession ends and the economy rebounds, earnings improve, and usually, so do stock prices. If we knew exactly how much the decline would be, and how long it would last, selling would make sense. But we do not and cannot know either of those things. As we have often noted, to get this equation right you must not only sell at the right time, but you also must buy back in at the right time. The odds are against doing both.
Study after study has shown that the more active the investor, the worse the results over time. It is well known that most owners of mutual funds and ETFs experience returns that are less than those reported by those products. That is because most people tend to buy high and sell low. When the markets rise, they are confident and buy more; when the markets sag, they become pessimistic and sell, often just at the wrong time. Since none of us can tell the future, we are much more likely to perform as well as the market, or an index, or a mutual fund, if we simply buy it and leave it alone.
Among my favorite thoughts from Warren Buffett is his observation that when the tide goes out, you find out who is swimming without a bathing suit. In other words, sometimes you need to have bad times to really understand which companies are high quality, and which are not. This is most particularly the case when the market has been ebullient, as has been the tech sector in the first half of 2023.
We monitor our portfolio companies and their sectors of the economy constantly and carefully. We believe that every company we have purchased for our clients is high quality, resilient, and provides a better than average likelihood of a solid return over time. Will this stop the prices of these stocks from falling during a recession? Absolutely not. During the market drop last year, Apple fell from $176 to $129, or 26%, even though many investment professionals view Apple as the best company in the world. Anyone who sold into that drop and did not repurchase missed the fast climb to the current price of $189. The same is true for many of the companies in our portfolios.
If a recession leads to a drop in interest rates this will, in the end, be very positive for the Canadian economy. If during that time we see weakness in some of our stocks, that is the price we pay to be invested in the markets. Over time, it is a price well worth paying.
Chairman
David Baskin
Media Appearances
Barry Schwartz on BNN Market Call – August 21, 2023
Long Term Investing Podcast with Barry Schwartz
Interesting Reads
What Metro’s strike could mean for Canada’s grocery industry – Retail Insider
