Keeping one's head

As I write this lines, we are witnessing extreme volatility in both equity and debt markets. Just yesterday saw the largest single day rise in Spanish stock market history, up over 14%, only to be followed by today’s steep drop of 5%. At times like this, it’s all too easy to lose one’s nerves or worse, one’s head. Lest not forget, this comes after a 14 month rally of gigantic proportions which in turn follows the largest index-wide equity price drop in developed markets since the 1930s.

Remaining a committed long-term investor in these circumstances requires an almost heroic sense of perseverance. Not surprisingly some of Wall’s Street’s most famous sayings point in the opposite direction. “Don’t’ fight the tape” and “the trend is your friend” are popular mantras in the capital markets and are held dear by most participants.

Notice however that I said “most participants” and not “most successful participants”. My own experience, entering the equity markets via the allocation of a very significant portion of my entire net worth in mid-2007, has served to reinforce my belief on the undeniable benefits of a clear conviction and a cool head. Since that time I have seen the price of my holdings decline by almost 50%, literally decimating my hard-earned savings only to subsequently rise again above the original price paid, and thus earning a considerable “paper” gain.

Throughout this experience I restrained myself from the temptation to “cut my losses” by focusing on the value of the businesses I invested in and not on the random pricing offered by desperate and cash strained sellers of stocks.

For sure it has not been fun!. Many a times I’ve had to explain to others and sometimes even to myself that what matters in investing is not price but value. Convinced as I was that value had not been impaired I only wished I had additional cash at the time to further buy into great bargains. Along this tortuous period I also took considerable comfort from the alignment of my views with those of true experts boasting long and successful investing track records and for whom the ’07-’09 market dislocation was a merely a re-run of previous crises…

Along these lines, Seth Klarman of Baupost Group fame (over 20% annual returns for 25 years) was quoted as saying:

“We at Baupost prefer lost opportunity to lost capital”

Which I think highlights the rationale for avoiding the euphoria that characterizes long-running bull markets. On a similar note, Jean-Marie Eveillard of First Eagle funds defended his below-benchmark returns in ’97-’99 as he refused to buy high P/E tech stocks by stating:

“I would rather lose half my clients than half my client’s money”.

As it happens, Mr. Eveillard almost stood alone in his conviction and indeed lost half of his clients and very nearly closed his fund. However, vindication came as for the next 10 years , First Eagle delivered over 138% gross return while the overall market remained flat!.

Amidst the turbulence, wild price oscillations and often catastrophic macroeconomic predictions touted by analysts and journalists alike, there remains room for the calm, cold and reflective business appraisers out there.

And it’s not just me saying this!.