(Photo courtesy of Unsplash)
After my August break, thought it was time to return with periodic blogs.
This article marked my 24th for Grainews. My first article, which appeared in March of 2018, had a quote, “I have a secret for you. Don’t tell anybody else, but it’s all about buying common shares in solid companies, and holding them for a long time.” If you have read all two dozen columns, I hope you are now convinced of the validity of this approach.
Why is this simple strategy shunned by most market participants? Why does Warren Buffett fill an arena for his annual meeting, then when everyone goes home they virtually all ignore his advice and return to their trading ways? The average holding time of a publicly traded company in the US was over five years in the 1970’s and has declined to under eight months today. The average market participant (speculator, trader and investor) turns their portfolio completely over 1.5 times per year. The average market participant also underperforms the market by 4-5%, achieving about half of overall market returns. I’m pretty sure the panickers (sellers) last December are now regretting their panic, given the markets are up about 16-18% this year.
Market participants have taken to heart Mark Twain’s famous quip, “Never let the truth get in the way of a good story.” They continually ignore the facts, a.k.a. statistics, preferring whatever the current short-term story-line is. Currently it is about markets at all-time highs and that valuations are expensive. The first part is clearly true, but what about the second part? I would like to use an example to demonstrate where this story-line may be lacking.
Bank of Nova Scotia and other Canadian banks have fairly consistent earnings, as well as a consistent policy of paying about half their earnings as dividends, making them ideal for this illustration. Ten-year bond rates are a good indication of overall interest rates and a leading investment competitor to stocks. In 1993, Canadian 10-year bond rates were about 8.0% and BNS was paying about a 5.0% making BNS’s dividend rate about 0.63 of the 10-year bond rate.
Today BNS has the same 5.0% dividend rate and 10-year bonds are about 1.3%. Thus BNS is paying an income stream about 3.8 times larger than a key competitive investment product. BNS is valued similarly to 1993 but relative to interest rates it is valued six times better (3.8/0.63). I would far sooner buys shares in a Canadian bank and collect 4-5% dividends that have a habit of doubling every 10-12 years, than lend money to the bank (or government) with a 1-3% static yield. When you deposit money in your bank account or buy a bank GIC you are in fact lending the bank money. When you buy a government bond you are lending them money.
From a broader perspective since 1963 when I was in grade one, the 10-year U.S. bond interest rate has averaged 6.2%. Today it is just 1.6%. Long-term average earnings yield (earnings/price) of U.S. stocks is 6.7%, similar to interest rate averages. Currently the earnings yield is 4.5%, indicating above average stock valuations, but the earnings yield has not declined nearly as dramatically as interest rates (6.7 to 4.5, vs 6.2 to 1.6). As well, historically stocks spend one-third of their time within five percent of all-time highs making the current situation fairly normal.
The Canadian market is cheaper. Our current average earnings yield is about 5.7% and our 10-year bonds are only 1.3%. Higher earnings yield and lower interest rates are indicative of a lack of confidence in our economy, but should support stocks when confidence returns.
Short-term, stocks can move unpredictably either direction, but longer term I would argue against the story-line that stocks are expensive. While stocks might be a little more expensive than average, interest rates are a LOT cheaper than average.
As an amateur investor with a day job (business), I would never have time to research and turnover my portfolio 1.5 times per year. That ridiculous level of activity would drive me crazy. It is akin to a hamster on a running wheel. Running furiously while not moving at all!
The secret to my success and sanity has been ignoring the flavor du jour and the currently touted story-lines, while picking solid companies and holding them for long periods… Have I mentioned that already?
During a 35+ year career in agriculture, Herman VanGenderen became an active investor in stocks and real estate. He writes a monthly newsletter and his book “Stocks for Fun and Profit: Adventures of an Amateur Investor” is available at internet book sites. Visit his website at www.you1stenterprises.com, or email him at firstname.lastname@example.org.