Occam's Razor

I won’t claim to be an economist or financial wizard. I don’t bother to try to time the stock market. I buy in mutual funds in good times and bad times, hoping that general growth in mostly proven funds will mean I won’t eat dog food in retirement. So I was buying in March 2009 when stock indices reached their Great Recession bottom and I am still buying funds today, albeit steadily and incrementally.

That’s one way to make money in the stock market: keep buying in good times and bad and count on general growth for appreciation. That’s the boring and safe way to make money from the market, as long as you do it in the long term and keep plugging away. Hopefully you are not buying crappy stocks, funds and bonds, but ones with decent track records for beating the market.

The other way to make money is to follow the maxim: buy low and sell high. The smart people with capital were doing just this in March 2009. They were fearlessly investing while others were willing to part with their stocks for just about any screwy lowball price others were willing to bid. Oh my God, the world is going to hell. Gotta turn this stock into cash right now and maybe survive the next Great Depression. That was the wisdom of those times, just four years ago. People were chasing their fears and their fears told them to horde cash. As I noted in June 2009, stock in the bluest of blue chips, General Electric, briefly fell below $6 a share that month. GE, like many stocks, was crazily undervalued. Those with cash and nerve should have been telling their brokers to buy GE in bulk. If they had, and I wish I had enough spare cash to buy it, they would be sitting pretty right now. On March 5, 2009 you could buy GE common stock for $5.88 a share. Today four years later it closed at $23.67 a share. That’s an appreciation of 403% in just four years, or 100% appreciation per year, on average. It was, as I said then, a crazily great investment. Granted this is not as high as GE stock has ever gotten. On June 22, 2001 right before the tech sector collapsed GE traded at $51.86 a share. It was crazily overvalued then.

Most likely GE stock and the market in general are suffering now from irrational exuberance as well. Stock prices are inflated, largely because the Federal Reserve is keeping interest rates artificially low. While the Fed has no immediate plans to change this policy, you know it cannot last forever. In fact, some are speculating that even if the Fed continues to keep interest rates low, the market will correct this artificial imbalance through inflation. Inflation happens when too many dollars are chasing too few tangible assets. With nowhere else to put money in hopes that it will grow, people are buying stocks. This tells me that stock prices are inflated. But also I can sense they are inflated. I can tell from the anemic growth in our GDP, the 7.7 percent unemployment rate and median wages that continue to fall. While increasing stock and home prices will help stimulate growth, if it comes it will come much later, and it is likely to only help stocks reach their current valuation, not actually meet their current valuation.

March 2009 was, in retrospect, the time to buy and hold. Arguably, March 2013 is the time to sell and profit. Convert that valuation into cash, while other irrationally exuberant buyers are willing to buy your stock at inflated prices.

Of course if you followed the crowd and sold stocks and funds in 2009 and are buying them now again in 2013, you are guilty of two things. First, you are guilty of being like most everyone else: following the herd. There is some comfort perhaps in that you were not alone because your neighbors were doing the same thing, which is one reason their net worth (and likely yours too) fell. Second, you are being stupid a second time. You are the bottom fish that the bigger fish are about to consume. They are picking your pocket, not the one you have now, but the one you think you will retire on. You are buying what is likely to be overvalued stock in the long term. Why are you doing this? You are probably doing this because you cannot make a decent return for your cash by having them in savings and money market accounts. You are frustrated and you see the stock market surging up 26% in one year and you are thinking, “I deserve a piece of that action”.

And you do, but you are probably chasing an illusion. There is a stock market correction coming. I cannot tell you if it will be this month, this year or five years from now. But it’s not too hard to see that it is coming. Economic growth is anemic and profit depends on growth. Growth also depends on people having more money to spend. While the rich do, they are a tiny part of the populace. People like you and me are probably watching expenses like a hawk.

What do you do if you have been following the herd? My suggestion is to stop buying stock, most of which is dramatically overvalued at the moment, and put that money in a cash account for future investing. You are unlikely to get much appreciation for your investment, but you are likely to lose money buying stocks. Wait for the next market correction, when the stock indexes have lost a third or more of its value. Then steel your nerves and buy, probably in blue chip stocks. Then hold and sell many years later when the signs are clear the market is overvalued again. That’s when you lock in the profit.

If you did buy GE stock in bulk in March 2009, you are probably smart enough to do what you are already doing: selling it and converting it into cash for future buying opportunities. In general, if you have genuine appreciation for your stocks and bonds as a result of buying them low, now is the time to lock in your profit. Profit may also be found in selling your house. In most markets it is a seller’s market and prices have fully recovered from the Great Recession. If this is true in your area, your house is mostly equity, and you want to lock in that wealth, selling your house may make sense. (Of course there may be capital gains and other tax implications from doing this. Consult a financial adviser before doing this.)

Will I be doing any of this? No. As I mentioned, I don’t time the market. I invest regularly and I invest long term. If you are not this kind of investor though, look at your portfolio carefully and note those funds that now are valued significantly more than what you paid for them. Unless there are some special circumstances for these particular stocks and funds for future growth, now is the time to sell them and convert them to cash. Most likely you will find this to be a very profitable experience.