Market turbulence: Our 8 timeless principles as a guide for stock selection

Note: the information in this post is general in nature only and does not in any way constitute advice.

Individual circumstances differ, so always seek licensed advice before making investment decisions.

Turbulence ahead

We’re living through turbulent times and we have no doubts that the global economy is in for a rough period ahead.

We expect that many companies will not survive. 

We think we’re heading towards a somewhat different world ahead, and this also needs to be considered when looking at investment opportunities.

What looked like a winner 12 or 24 months ago may be so no longer.

Many fund managers have been caught with their pants down, moving to be close to fully invested for fear of ‘missing out’ on gains late in the market cycle.

It may become the best advert you ever get for managing your own money (remember the 3 Cs: cost, choice, and control).

Remember Rule #1: don’t lose money.

Today’s let’s look at how we can use our investment philosophy and the 8 timeless principles as a guide for stock selection. 

Let’s do our usual top down approach.

Opportunities are coming

Much of the world is probably shocked at the ferocious impact of the coronavirus.

And many younger investors will be taken aback by the violent stock market crashes as they unfold all around the world.

We’re not surprised by the crash, because as we said some months ago, valuations were far too high.

But on the positive side we do remain confident that at some stage (we don’t know exactly when) the world will pull together, and eventually we’ll see the coronavirus out the back door. 

Globally stocks have fallen everywhere and there’s a bit of a temptation to become the proverbial kid in a candy store.

When everything looks cheaper it’s important to remember that you need to look at the future…not the past.

What appears to cheap today may still not be a great performer in the future.

For example, we hold some reservations about banks and the finance industry more generally (we’re happy to hear the other side on this point, as always) as we think greater regulation will likely eventuate in order to avoid these hugely volatile swings in asset prices.

Stocks have become somewhat cheaper globally; or at least cheaper than they were. 

As we have seen a few cycles, as ever we recommend sticking to your investment philosophy and process.

Let’s start by looking at the regional level.

Global approach

We know the US market was expensive, and even though the CAPE has fallen from 33 to 22 we expect earnings to fall in tandem, and thus US stocks overall do not look cheap.

This doesn’t mean there are no opportunities; but as always we need to bear in mind the overall valuation of the market.

There will, however, be sectors, countries, and companies that are worthy of further consideration, both inside and outside the US.

Looking at regions we see that some of the emerging markets have become cheap, so there are some suggestions there as well.

Having already taken a knock through the Brexit disruption, UK stocks are now looking relatively good value, and dividend yields much more attractive than they once were.

Locally there will be some opportunities too.

Given the large decline in the Australian dollar to some other currencies (meaning it may not be as beneficial to buy overseas stocks) we may begin looking towards the ASX for some individual stocks, and also some ETFs which we can use to invest in overseas countries etc. (currency hedged may be desirable at this stage). 

To re-cap on the individual principles you can follow the links below:

The 4 thought principles 

(i) Systematic investing – this is the time to take a measured and considered approach.

When markets fall there’s a temptation to buy anything and everything (and yes you can do that with an ETF), but you should remain a disciple to your written investment strategy or plan.

(ii) Personality and decision making – the only folks who aren’t emotional at this stage of the cycle are investing automatons, and probably Warren Buffett…and we’re not even sure about Buffett.

Check back to your Enneagram assessment and your investment map.

Make sure you’re not being too greedy or thinking that every investment must be a ‘no-brainer’.

Because there will be losers you need to be prepared and understand that some companies and investments made today may go pear-shaped.

If you stick to the 8 principles, this will minimise your probabilities of a loss.

(iii) Market cycles and mean reversion – well, yes, we have moved a little closer to the bottom of the global market cycle, but also think about where in the cycle a company may sit.

Market valuations have become somewhat cheaper, but we’re only four weeks from the peak of the market, and there’s going to be lots of fallout ahead.

(iv) Risk hierarchy – in periods of uncertainty, ETFs can often be a safer investment than  a single company.

Yes, you can buy companies, but if you buy low enough then indexes can also deliver very solid returns over the following decade. 

The 4 action principles

(v) Asset allocation – generally speaking we’d probably recommend being conservative at first (for example, you might start with a 20-25% position in stocks).

This way you have a small portfolio already formed and you can simply choose to add to it as the outlook improves.

No, you won’t miss the significant gains by starting with a small position.

There’s a lot of misleading stuff being written by vested interests about the potential for face-ripping rallies, and making sure you don’t miss out on this great opportunity (it was also apparently a great time to invest before the crunch, which immediately negates their point).

Think first and foremost about risk, about what it would be like to lose capital.

There will be ample opportunities to deploy your cash ahead…don’t worry about that.

(vi) Buy low, sell high – this point is inherently pretty obvious.

Simply use our 8 timeless principles and their criteria, and make sure you stick to them.

Don’t try and squeeze in a ‘favourite’ or something that you just ‘know’ (feel) will be a winner.

Stick to your systematic approach as always.

(vii) Diversification – there will be opportunities in markets all around the world since the coronavirus is a global problem.

But remember to use the CAPE ratio as your guide.

We suspect there will be plenty of cheap markets in the period ahead, and therefore it might be a good idea to limit your selections to one company per market if you’re picking individual stocks, and to stick to the larger, proven, profitable, systemic companies.  

Remember adding too many companies in one basket raises your risk levels and probability of losses.

Especially in these volatile times. 

(viii) Rebalancing – given the current state of events, you’re more likely to be rebalancing by adding additional cash into the stock markets, rather than taking profits off the table.

If you aim to buy when markets are very depressed then that should help you to avoid large drops. 

Remember, just one good correction in a global recession combined with some judicious investments can help you to establish a wonderful platform for future wealth generation. 

To find out more about our coaching programs, see here.

Published by petewargent

CEO Next Level Wealth, & AllenWargent Property Buyers, with offices in Sydney, Brisbane, & London. Leading Australian market analyst, & 6-time published finance author. For more see: Qualifications including: B.A. (Hons.) Industrial History, Chartered Accountant (FCA), Diploma Financial Services (Financial Planning), Chartered Secretary, Advanced Diploma Applied Corporate Governance.

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