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John Reese is CEO of Validea.com and Validea Capital, and portfolio manager for the National Bank Consensus funds. Globe Investor has a distribution agreement with Validea.ca, a premium Canadian stock screen service. Try it.
Last Friday's U.S. jobs report sent the markets skyward, and by Monday the Standard & Poor's 500 had returned to a new record high, dulling the memory of the decline that followed the June 23 vote by Britain to exit the European Union. The lesson: Short-term shocks don't necessarily lead to permanent damage.
It is a predictable pattern, but one that jittery investors too often forget. Markets tumble at the hint of bad news, but more often than not they rebound. Look at the 2008 financial crisis to illustrate this point.
The Dow Jones industrial average plunged 777 points in September, 2008, on the day the U.S. Congress initially voted against a proposal to bail out the U.S. banking system. The index would sell-off another 36 per cent during the following half-year. But even the severity of Wall Street's woes couldn't keep stocks down. A little more than one year after hitting their low in March, 2009, the Dow was back to its precrisis level.
Contrarian investor guru David Dreman's research confirms this phenomenon. Out of 11 crises in the United States post-Second World War that he analyzed, the market was up between 22.9 per cent and 43.6 per cent one year later in all but one instance. The average gain was 25.8 per cent. Two years later, the average gain was 37.5 per cent.
In other words, shocks happen, but the wounds heal quickly.
Of course as humans, past traumatic experiences influence us greatly. Even though we are seven years past the bottom of the financial crisis, the fears still run deep. It doesn't help that since then there have been other shocks: the Flash Crash in 2010, Europe's debt crisis in 2011, Greece's financial woes and last year's slump in energy and commodities all weighed on the markets. Each time, investors fled at the sign of trouble.
But uncertainty is at the core of long-term investing, and it explains why the risk premium for owning stocks is higher than for bonds or other investments. Those putting money into the market need to overcome the human impulse to react emotionally and embrace the unknown if they want to benefit from the long-term rewards.
To be sure, Britain leaving the EU adds to those uncertainties. Already the ripple effects of the vote have made their way to the U.S. economy, where the Federal Reserve is unlikely to raise rates in the immediate future, raising a number of questions about how that will affect consumers and investors. But Brexit will be a drawn-out process, and in the interim, it doesn't change the fundamentals of most U.S. companies.
Investors still need to put long-term money to work in the markets. U.S. companies have limited direct exposure to Britain. The S&P 500 sector most exposed is energy, with just more than 6 per cent of revenue, according to FactSet. Information technology is second with 4 per cent. All other sectors are less than 3 per cent exposed.
Part of the problem is investors' tendency to rely on "experts" who may sound authoritative, but can't predict with certainty what the future holds.
Next time something like the Brexit comes up, remember these lessons, think long term and ask yourself whether the event is likely to influence the stocks you own one to three years out. If you have the ability to internalize these issues, you'll most likely be ready to deal with the short-term uncertainty and focus on the long-term benefits of owning equities.
I pick stocks using strategies I developed based on the published approaches of Mr. Dreman, Warren Buffett, and other Wall Street gurus. My "Top 5 Gurus" portfolio has some suggestions for disciplined, long-term investors:
Thor Industries is the Elkhart, Ind., manufacturer of recreational vehicles that recently closed an acquisition of another RV maker, Jayco Corp. My James O'Shaughnessy-based approach likes Thor's 0.86 price-to-sales ratio and good momentum (12-month relative strength of 85); my Peter Lynch-based strategy likes its 0.73 yield-adjusted P/E-to-growth ratio (price-to-earnings ratio divided by the sum of the firm's earnings growth rate and dividend yield).
HP Inc. is the Palo Alto tech company that resulted from the split of Hewlett-Packard. It is the standalone company that makes personal computers and software. My Joel Greenblatt-inspired model approves of HP's 21.7-per-cent earnings yield and 156-per-cent return on capital, while my O'Shaughnessy approach is keen on its 3.8-per-cent dividend and $3.43 (U.S.) cash flow per share.
LG Display makes the crystal displays used on smartphones and televisions. My O'Shaughnessy-based model likes its dirt-cheap 0.36 price-to-sales ratio and 12-month relative strength of 75.