Photo: Earl53. Source: Morguefile
45 years ago, Joni Mitchell wrote “The Circle Game,” a lyrical epic about a young man’s gradual coming of age. The refrain repeats its central lesson: “We can’t return, we can only look behind from where we came / and go ‘round and ‘round and ‘round in a circle game.”
Circles and cycles are part of investing. The economy cycles through growth and recession every 5 to 10 years; businesses magnify any economic decline into a larger profit downturn; and investors see those business losses and run for cover, bolting for the exits and causing a bear market in the process.
The economy doesn’t decline all that much – typically just 2-4%. We still need to eat, sleep, and heat our homes no matter what our mood. Business leaders can’t afford to get too gloomy, either. They need measure their firms’ progress and manage by the numbers, not their feelings. But there are no checks on the swings of investment sentiment. Investors are classic manic-depressives, alternating between crazy bullishness and depressing despondency, driving market prices along with them. Most investment risk doesn’t come from the economy or the business cycle, but from investor psychology. And that’s where Joni Mitchell comes in.
Joni Mitchell in concert. Photo: Pino D’Amico. Source: Wikipedia
For nine years we’ve heard the gloom-crew tell us to get off the train, batten down the hatches, and look out below. But nine years of successively higher highs and higher lows have the bears in full flight. The painted ponies are moving around the carousel from depression to optimism to exuberance. Because the yields on safe investments like US Treasuries have been so low for so long, folks are taking more and more risk to impove their returns. Maybe it’s time for a little caution.
What the wise do in the beginning, fools do in the end. Nine years ago, it was wise to go against the flow and bet on a recovery. It wasn’t easy. But those bets have paid off. Taking a little money off the table when things look good is equally difficult. But the alternative – another circle game – is usually worse.
Douglas R. Tengdin, CFA