Gloom vs. Optimism
When I began writing “The Either/Or Investor”, the world was a different place. For one thing, the prevailing mood was optimism, even though there were already signs of rough spots in the global economy. As those areas of concern have emerged as major events – sub-prime mortgages, collateralized debt obligations, auction rate securities, and commodity speculation – they have encouraged the rise of doom-saying. Perhaps the leading sky-is-falling advocate is Nouriel Roubini, recently profiled in the Sunday New York Times Magazine. As recently as January, the Times was politely dismissing Roubini’s pessimism, as well as that of Morgan Stanley economist Stephen Roach, as just so much fear mongering, but suddenly, with a seemingly endless supply of bad economic news, we are being asked to take these gentlemen seriously.
I’ve met the dour Roubini at the World Economic Forum in Davos, and I’ve appeared on panels with Steve Roach. They are both very thoughtful and intelligent people, and they both believe strongly in their interpretation of the economic evidence and they might even be right at this very moment. But if you’ve been around for a while, you know that there is always someone fighting for the title of Dr. Doom. In the 1970s and 1980s, it was Henry Kaufman, the brilliant economist at Salomon Brothers, who could move markets with an ill-chosen remark. Around the same time, a fellow named Howard Ruff was publishing a newsletter that advised investors to stock up on Kruger Rands, a year’s worthy of groceries and to head for the hills to sit out the coming apocalypse. And, of course, who can forget Dr. Ravi Batra, whose book about the coming depression of 1990 topped the New York Times best seller list for several months. Today, Roubini vies with Mark Faber, the sidekick of investor Jim Rogers, for the Dr. Doom mantle.
But remember: Dr. Doom is just a comic book villain, and only the fourth greatest villain of all time, according to Wizard magazine. As people, we may enjoy scary movies and scary prognostications, but as investors, we have to look at gloom as a useless emotion, and its purveyors, ultimately, as superfluous to the investment process. Why? Let’s ask ourselves, “What is investing?” The answer is, investing is prudent risk taking. When we compare the relative value of one investment to another, we always start with the comparative return versus the risk-free return. How much extra risk are we being asked to take on in return for the possibility of a future reward? That is and should be the basis of all investment decisions. If you take too much risk for an inadequate return, we call that gambling. If we can accurately measure the risk/reward ratio, and make all of our decisions in this manner, we call the diminishing return for additional risk the efficient frontier, and we attempt always to remain on the right side of the frontier’s curve. Our current problems mostly stem from people who took on too much risk for not enough reward – in many cases, individuals at banks and institutions that went looking for just a few extra basis points designed to pump up the appearance of alpha and to plump up bonuses.
Real investors, by nature, are optimists. They are so because they have trained themselves to see opportunity where others see only ruin. As I noted in “The Either/Or Investor”, Warren Buffet had some of his best return years during the 1970s, when stocks were so flat that BusinessWeek wrote its infamous “Death of Equities” cover. Nouriel Roubini and other doom-saying attention seekers may be right on many of the facts – the economy is over-stretched and over-securitized in ways that are potentially dangerous and may yet lead to a much worse outcome – but they are probably very wrong about many things which could impact their predictions. Yes, like some Third World nations, the U.S. has become credit dependent, and therefore dependent upon the goodwill of nations who don’t necessarily have America’s interests at heart. But those nations are also dependent upon our markets, and are likely to tread carefully. The Russians may find it easy to bully the Europeans, but the Chinese are not in the same position vis a vis the U.S., and don’t really want to be. So wobbly credit not withstanding, we are unlikely to see a meltdown coming from the actions of a creditor.
Moreover, despite the enormous potential downside – the figure $1.6 trillion continues to appear – the number is still only a small fraction of a U.S. economy that is still growing despite the gloom and doom-saying. It’s hard for those who gleefully chortle at the possibility of the U.S. economy going into the tank, but the vast majority of Americans continue to get up each morning and go to work, earn meaningful paychecks and spend them on both necessities and disposables. That’s what proved Howard Ruff wrong in the 1970s, and it will prove Nouriel Roubini wrong in the near term.
But where are the good signs, the future investments that will both make careful risk takers wealthy and transform the U.S. and the global economy? One of the themes I see emerging is what might be called intellectual property wildcatting. Here’s why it is important: Right now, the total knowledge pouring out of universities and research labs around the world is doubling every six months. So much information and data is emerging that much of it is essentially left on the side of the road, like ripe fruit that drops from trees. It’s there for anyone to pick up. As I noted in “The Either/Or Investor”, some companies, such as Procter & Gamble, are already becoming adept at harvesting the knowledge of others and turn the inventions of outsiders into profitable new products. But other companies are beginning to get in on the act as well, and smaller venture-funded firms are looking for IP (intellectual property) to develop and sell further up an emerging value chain.
Another sign of change is the attention finally being paid to the environment. Whatever you think of former Vice President Al Gore, his statement that the U.S. can become overwhelmingly reliant on renewable energy by 2020 is accurate and viable, and it will create wholesale direct and indirect investment opportunities – as well as jobs and renewed prosperity – for the entire nation. You don’t need to be a Pollyanna to understand this, just an astute investor willing to put aside the gloom and take a modicum of risk. The only way that the Roubinis of the world will be proved wrong is if investors step up and do what they do best.
When I began writing “The Either/Or Investor”, the world was a different place. For one thing, the prevailing mood was optimism, even though there were already signs of rough spots in the global economy. As those areas of concern have emerged as major events – sub-prime mortgages, collateralized debt obligations, auction rate securities, and commodity speculation – they have encouraged the rise of doom-saying. Perhaps the leading sky-is-falling advocate is Nouriel Roubini, recently profiled in the Sunday New York Times Magazine. As recently as January, the Times was politely dismissing Roubini’s pessimism, as well as that of Morgan Stanley economist Stephen Roach, as just so much fear mongering, but suddenly, with a seemingly endless supply of bad economic news, we are being asked to take these gentlemen seriously.
I’ve met the dour Roubini at the World Economic Forum in Davos, and I’ve appeared on panels with Steve Roach. They are both very thoughtful and intelligent people, and they both believe strongly in their interpretation of the economic evidence and they might even be right at this very moment. But if you’ve been around for a while, you know that there is always someone fighting for the title of Dr. Doom. In the 1970s and 1980s, it was Henry Kaufman, the brilliant economist at Salomon Brothers, who could move markets with an ill-chosen remark. Around the same time, a fellow named Howard Ruff was publishing a newsletter that advised investors to stock up on Kruger Rands, a year’s worthy of groceries and to head for the hills to sit out the coming apocalypse. And, of course, who can forget Dr. Ravi Batra, whose book about the coming depression of 1990 topped the New York Times best seller list for several months. Today, Roubini vies with Mark Faber, the sidekick of investor Jim Rogers, for the Dr. Doom mantle.
But remember: Dr. Doom is just a comic book villain, and only the fourth greatest villain of all time, according to Wizard magazine. As people, we may enjoy scary movies and scary prognostications, but as investors, we have to look at gloom as a useless emotion, and its purveyors, ultimately, as superfluous to the investment process. Why? Let’s ask ourselves, “What is investing?” The answer is, investing is prudent risk taking. When we compare the relative value of one investment to another, we always start with the comparative return versus the risk-free return. How much extra risk are we being asked to take on in return for the possibility of a future reward? That is and should be the basis of all investment decisions. If you take too much risk for an inadequate return, we call that gambling. If we can accurately measure the risk/reward ratio, and make all of our decisions in this manner, we call the diminishing return for additional risk the efficient frontier, and we attempt always to remain on the right side of the frontier’s curve. Our current problems mostly stem from people who took on too much risk for not enough reward – in many cases, individuals at banks and institutions that went looking for just a few extra basis points designed to pump up the appearance of alpha and to plump up bonuses.
Real investors, by nature, are optimists. They are so because they have trained themselves to see opportunity where others see only ruin. As I noted in “The Either/Or Investor”, Warren Buffet had some of his best return years during the 1970s, when stocks were so flat that BusinessWeek wrote its infamous “Death of Equities” cover. Nouriel Roubini and other doom-saying attention seekers may be right on many of the facts – the economy is over-stretched and over-securitized in ways that are potentially dangerous and may yet lead to a much worse outcome – but they are probably very wrong about many things which could impact their predictions. Yes, like some Third World nations, the U.S. has become credit dependent, and therefore dependent upon the goodwill of nations who don’t necessarily have America’s interests at heart. But those nations are also dependent upon our markets, and are likely to tread carefully. The Russians may find it easy to bully the Europeans, but the Chinese are not in the same position vis a vis the U.S., and don’t really want to be. So wobbly credit not withstanding, we are unlikely to see a meltdown coming from the actions of a creditor.
Moreover, despite the enormous potential downside – the figure $1.6 trillion continues to appear – the number is still only a small fraction of a U.S. economy that is still growing despite the gloom and doom-saying. It’s hard for those who gleefully chortle at the possibility of the U.S. economy going into the tank, but the vast majority of Americans continue to get up each morning and go to work, earn meaningful paychecks and spend them on both necessities and disposables. That’s what proved Howard Ruff wrong in the 1970s, and it will prove Nouriel Roubini wrong in the near term.
But where are the good signs, the future investments that will both make careful risk takers wealthy and transform the U.S. and the global economy? One of the themes I see emerging is what might be called intellectual property wildcatting. Here’s why it is important: Right now, the total knowledge pouring out of universities and research labs around the world is doubling every six months. So much information and data is emerging that much of it is essentially left on the side of the road, like ripe fruit that drops from trees. It’s there for anyone to pick up. As I noted in “The Either/Or Investor”, some companies, such as Procter & Gamble, are already becoming adept at harvesting the knowledge of others and turn the inventions of outsiders into profitable new products. But other companies are beginning to get in on the act as well, and smaller venture-funded firms are looking for IP (intellectual property) to develop and sell further up an emerging value chain.
Another sign of change is the attention finally being paid to the environment. Whatever you think of former Vice President Al Gore, his statement that the U.S. can become overwhelmingly reliant on renewable energy by 2020 is accurate and viable, and it will create wholesale direct and indirect investment opportunities – as well as jobs and renewed prosperity – for the entire nation. You don’t need to be a Pollyanna to understand this, just an astute investor willing to put aside the gloom and take a modicum of risk. The only way that the Roubinis of the world will be proved wrong is if investors step up and do what they do best.
