3 Things 9-07-26

 Thing One

If I Could Be Like Mike, Or Clyde, Or Warren

In the lead-up to the 1992 NBA finals, a reporter who was looking for an angle for a story about the opposing superstars asked Clyde Drexler of the Portland Trailblazers what the difference was between him and Michael Jordan of the Chicago Bulls.  Drexler, who fancied himself a shooter, in addition to being a high-flying showman like Jordan, took the bait and said the difference between them was “the three ball”.  Without saying it explicitly, he was implying that he was a better three-point shooter than Jordan.  When Jordan was asked for his reaction to Drexler’s statement, he told the reporter, “Clyde is a better three-point shooter than I choose to be.”  Then, in game 1 of the series, while Drexler struggled to make shots, Jordan put on an all-time show and shooting clinic - first by making five straight three-pointers and then by giving us the iconic “shoulder shrug moment” as he jogged back on defense after making his sixth in a row.

There are equivalent Jordans and Drexlers in the investing world.  People who appear as elite to us and whose investment performances seem to be beyond what we are capable of ourselves.  And while it may be true that we will never be as wealthy as Warren Buffet or any number of other famous investors, there’s nothing preventing us from achieving the same kinds of returns over time and in percentage terms.  If we aren’t doing that, it may fairly be said that they are better investors than we choose to be.  To remedy that, we should learn (or remember) a few things:

Most of our investment returns are based on our asset allocation.  The weighting between “safer” investments like bonds and “less safe” investments like stocks is responsible for most of differences in the gains/losses in a portfolio.  A very conservative investor who tends to lean towards bonds, for instance, and has, say 50% invested that way, won’t make as much money as somebody who has gotten comfortable with the inherent risks of stocks and has gone all-in.

Our most important strategy is diversification.  No matter how good a company or sector is, there will be ups and downs.  The best way to deal with that volatility is to spread our investments out and increase the chances that while some companies or sectors are down, others are up.  Being concentrated certainly increases our upside if our picks pan out but it also leaves us equally exposed to the downside.

There is no strategy that outperforms all the time.  Whatever our benchmark is, there will be periods of time where we are underperforming relative to it.  But, If we’re investing in well-run companies, the likelihood is that over time our investment returns will be positive.  Day to day fluctuations or short-term periods of underperformance should not cause us undue angst or overreactions (like selling).  That is not to say all news should be ignored but rather that it should all be put on the proper time scale.

It's time in the market, not timing the market.  If we want to make money investing, it’s about how much time we are in the market rather than getting in at just the right time.  Missing the best days because we are waiting for just the right time is extremely costly to investment returns as the chart below points out by showing the impact of missing the best days of returns over 1-year, 3-year, and 5-year periods.  As you can see on the 5-year scale, missing the best 10 days represents the difference being up 9.3% or being down .8%.  When it comes to investing, slow and steady is never a bad strategy.

So, how good an investor are you choosing to be?

Thing Two  

Grandpa Gets the Benefits. The Grandson Gets the Bill

Imagine a 75-year-old grandfather receiving Social Security and Medicare. He spent his career paying taxes into those programs and understandably expects the government to honor the promises it made to him. The problem is that the taxes coming into these programs are increasingly insufficient to pay for all the benefits going out.

To illustrate the problem simply, suppose that providing Grandpa's benefits costs $30,000 this year. There are only a few solutions. Grandpa can receive less. Today's workers can pay more. The government can cut something else. Or Washington can borrow whatever it doesn't have.

Politically, borrowing is by far the easiest answer. Nobody has to tell Grandpa his benefits are being reduced, and nobody must tell his 25-year-old grandson that his taxes are going up dramatically today. The government simply borrows the difference.

But the borrowed money didn't disappear. It became debt. Do that year after year and eventually the grandson isn't just paying taxes to support today's retirees while trying to save for his own retirement. He's also paying interest on money the government borrowed years earlier to provide benefits to previous generations.

The demographics make the problem worse. In 1960, there were roughly five covered workers for every Social Security beneficiary. Today there are fewer than three. If supporting Grandpa costs $30,000, five workers sharing the burden would represent $6,000 each. With three workers, it's $10,000 each. The retiree didn't become greedier nor did the workers become less generous. The math simply changed.

And that's where political leadership is supposed to come in. Instead, politicians in both parties have learned that telling older Americans the truth about entitlements is politically dangerous. So they make the easiest promise imaginable: Don't worry. We won't touch your benefits.

That sounds compassionate, but if the money isn't there, somebody else has to pay. We can disguise that transfer by calling it federal borrowing, spread it across millions of taxpayers and push repayment decades into the future. None of that changes what happened. We consumed something today and sent someone else the bill.

This isn't an argument that retirees are villains. Most retirees spent their working lives paying Social Security and Medicare taxes and made retirement decisions based on promises their government made to them. The real indictment is of political cowardice: continually telling older voters that nothing meaningful needs to change while knowing that arithmetic eventually forces change.

And the longer we wait, the more painful the solution becomes. Changes made gradually over 20 or 30 years give younger workers time to prepare. Waiting until the financial pressure becomes unavoidable means much larger tax increases, benefit reductions or both.

The grandfather got the benefit. The politician got the vote. The grandson got the debt. And the grandson wasn't even at the negotiating table.

A grandfather wouldn't walk into a bank, borrow money in his grandson's name, spend it and leave the grandson responsible for repayment. We'd immediately recognize the unfairness of that arrangement. Government borrowing makes essentially the same generational transfer much harder to see.

The old aren't stealing from the young. But our political system is increasingly willing to borrow from the young so it doesn't have to tell the old—or the rest of us—the truth today.

Eventually, the arithmetic will get the final vote.

 Thing Three

Just A Thought  

 “The saddest aspect of life right now is that science gathers knowledge faster than society gathers wisdom" - Isaac Asimov