Author: Chong Ser Jing

A few weeks ago, I finished reading China’s Crisis of Success. The book, authored by Willam Overholt and published in 2018, contained many thought-provoking ideas on China’s past economic successes and future economic development. I summarised the lessons from the book in an article I published on 28 February 2022 titled Lessons From “China’s Crisis Of Success”. From here on, Lessons From “China’s Crisis of Success” will be termed Article 1.  

While writing Article 1, I was also reminded of a piece I published on 4 March 2020 titled China’s Future: Thoughts From Li Lu, A China Super Investor. This article, hereby termed Article 2, is an English translation of investor Li Lu’s review and thoughts in Mandarin on the 2018 book The Other Half of Macroeconomics and the Fate of Globalization written by economist Richard C. Koo.

As I wrote Article 1, I noticed a similar thread in Article 2. In both articles, an important element is that the pace of China’s future economic growth depends heavily on the Chinese government’s willingness and ability to relinquish central-control of the country’s economy.

Here’s the relevant section from Article 1: 

“Xi’s administration [referring to the administration of Xi Jinping, China’s current president]  has a well thought-out plan for economic reform that emphasises market allocation of resources, but there’s still a really strong element of central-control. On political liberalisation, there does not seem to be much signs that Xi’s administration is loosening its grip. How Xi’s administration reacts to China’s need for both political and economic liberalisation will have a heavy influence on how bright or dim China’s future is.”

The relevant passages from Article 2 are:

“In the Golden Era, the crucial players are entrepreneurs and individual consumers. The focus and starting point for all policies should be on the following: (1) strengthening the confidence of entrepreneurs; (2) establishing market rules that are cleaner, fairer, and more standardised; (3) reducing the control that the government has over the economy; and (4) lowering taxes and economic burdens. Monetary policy will play a crucial role at this juncture, based on the experiences of many other developed countries during their respective Golden Eras.

During the first stage of development, China’s main financial policy system was based on an indirect financing model. It’s almost a form of forced savings on a large scale, and relied on government-controlled banks to distribute capital (also at a large scale) at low interest rates to manufacturing, infrastructure, exports and other industries that were important to China’s national interests. This financial policy was successful in helping China to industrialise rapidly. 

At the second stage of development, the main focus should be this: How can society’s financing direction and methods be changed from one of indirect financing in the first stage to one of direct financing, so that entrepreneurs and individual consumers have the chance to play the key borrower role?”

Unfortunately, as I mentioned in Article 1, China’s government appears to have tightened its grip on the country’s economy in recent years:

“Since the publication of China’s Crisis of Success, there are signs that Xi’s administration has moved in the opposite direction of allowing the market to allocate resources. A good example, in my view, would be the well-documented crackdowns on the Chinese technology sector seen over the past year or so.”

Using the frameworks presented in Article 1 and Article 2, the future of China’s economy could be a lot brighter if the government embarks on effective economic liberalisation. But right now, the government appears to be doing the opposite. 

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Disclaimer: The Good Investors is the personal investing blog of two simple guys who are passionate about educating Singaporeans about stock market investing. By using this Site, you specifically agree that none of the information provided constitutes financial, investment, or other professional advice. It is only intended to provide education. Speak with a professional before making important decisions about your money, your professional life, or even your personal life. I do not have a vested interest in any companies mentioned. Holdings are subject to change at any time. 

A few months ago, a friend of mine, who’s an impressive investor working in a multi-billion-dollar fund management company, introduced me to the book, China’s Crisis of Success. The book, published in 2018, is written by William Overholt, Senior Research Fellow at Harvard University. 

Overholt correctly foresaw the rise of China over the past two-plus decades in his aptly-titled 1993 book, The Rise of China. I have investments in a number of Chinese companies, so I was curious to know what I can learn about the potential future of China from Overholt’s 2018 book. Below are the key takeaways I have from his work:

• There are a number of Asian countries – including South Korea, Taiwan, and a few others – that experienced decades of remarkable economic growth beginning in the 1960s. This growth helped to lift large swathes of their populations from poverty and made the countries prosperous. 
• These countries, collectively termed the “Asia Miracles” by Overholt, all had a number of similar traits near the start of their growth spurt. Their respective governments: (a) ruled with an iron fist, with an emphasis on tough implementations of radical economic and social reforms; (b) deeply feared their country’s collapse, a fear shared by their citizens who also harboured a strong sense of shared national identity; and (c) partook in strong central planning of their respective economies.
• As the economies of the Asia Miracles grew over the years, the countries reached an inflection point. The collective fear of societal collapse that gripped their citizenry dissipated. The citizens, now wealthier, more knowledgeable, and more confident of their country’s future, also grew increasingly frustrated with the “rule with an iron fist” approach by their respective governments. The economies meanwhile, became too complex for the governments to control via central planning. 
• Upon reaching their inflection points, the Asia Miracles started liberalising, both politically and economically. Not liberalising would have been a major risk to the Asia Miracles’ future prosperity and continued development. Within the Asia Miracles, a style of governance with much stronger democratic elements emerged, while their economies were increasingly allowed to develop from the bottom-up through the private sector.
• Beginning from Deng Xiaoping’s regime that started in the late 1970s, China embarked on a path of economic and political development that was similar to the Asia Miracles at the start of their growth spurts. As a result, a significant majority of China’s citizens were elevated from the sufferings of poverty in the next few subsequent decades, and the country’s economy grew to become a global behemoth.
• But as China grew over the years, it started reaching its inflection point around a decade or so ago, coinciding with Xi Jinping’s ascension to the foremost political leadership role in the country. Xi’s administration has a well thought-out plan for economic reform that emphasises market allocation of resources, but there’s still a really strong element of central-control. On political liberalisation, there does not seem to be much signs that Xi’s administration is loosening its grip. How Xi’s administration reacts to China’s need for both political and economic liberalisation will have a heavy influence on how bright or dim China’s future is.

I’m not taking China’s Crisis of Success as the authoritative framework for analysing China’s past successes and future growth. The framework may well turn out to be inaccurate. But I think it is a well-written book with thought-provoking ideas that I find to be logical. 

Since the publication of China’s Crisis of Success, there are signs that Xi’s administration has moved in the opposite direction of allowing the market to allocate resources. A good example, in my view, would be the well-documented crackdowns on the Chinese technology sector seen over the past year or so. Meanwhile, on the political front, Xi’s administration does not seem to have introduced any substantial measures to enable a relatively less-repressive political environment to develop (do note: I am far from being well-informed on politics!). Using the framework presented in China’s Crisis of Success and the developments in China that I just mentioned, the country’s long run future seems less bright to me than before I had read the book.

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Disclaimer: The Good Investors is the personal investing blog of two simple guys who are passionate about educating Singaporeans about stock market investing. By using this Site, you specifically agree that none of the information provided constitutes financial, investment, or other professional advice. It is only intended to provide education. Speak with a professional before making important decisions about your money, your professional life, or even your personal life. I do not have a vested interest in any companies mentioned. Holdings are subject to change at any time.

It’s a scary time to be an investor in stocks now. The US government has warned the world that Russia could launch a large-scale invasion of Ukraine at any moment. With the historically frosty relationship between the USA and Russia, any use of military force by Russia against Ukraine could result in the USA stepping in.

War between countries is a painful tragedy, not just for the citizens involved, but for humanity as a whole. Without downplaying the horrors of war, how should stock market investors approach the current tense situation between the USA and Russia?

Thankfully, there’s one classic investing book, Common Stocks and Uncommon Profits, first published in the late 1950s in the USA, that provides a useful framework for thinking about this. The book is written by Phillip Fisher, who’s an excellent investor in his own right, but is perhaps most famous for being an influential figure in Warren Buffett’s own evolution as an investor. Buffett has said that his investing style is 85% Graham and 15% Fisher.

With the current backdrop of Russia’s potential invasion of Ukraine – and the USA’s possible involvement – I thought it would be useful to share Fisher’s passages in Common Stocks and Uncommon Profits that discuss why investors should not fear buying stocks during a war scare. They are found between the two horizontal grey lines below (highlights are mine):

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Common stocks are usually of greatest interest to people with imagination. Our imagination is staggered by the utter horror of modern war. The result is that every time the international stresses of our world produce either a war scare or an actual war, common stocks reflect it. This is a psychological phenomenon which makes little sense financially. 

Any decent human being becomes appalled at the slaughter and suffering caused by the mass killings of war. In today’s atomic age, there is added a deep personal fear for the safety of those closest to us and for ourselves. This worry, fear, and distaste for what lies ahead can often distort any appraisal of purely economic factors. The fears of mass destruction of property, almost confiscatory higher taxes, and government interference with business dominate what thinking we try to do on financial matters. People operating in such a mental climate are inclined to overlook some even more fundamental economic influences.

The results are always the same. Through the entire twentieth century, with a single exception, every time major war has broken out anywhere in the world or whenever American forces have become involved in any fighting whatever, the American stock market has always plunged sharply downward. This one exception was the outbreak of World War II in September 1939. At that time, after an abortive rally on thoughts of fat war contracts to a neutral nation, the market soon was following the typical downward course, a course which some months later resembled panic as news of German victories began piling up. Nevertheless, at the conclusion of all actual fighting – regardless of whether it was World War I, World War II, or Korea – most stocks were selling at levels vastly higher than prevailed before there was any thought of war at all. Furthermore, at least ten times in the last twenty-two years, news has come of other international crises which gave threat of major war. In every instance, stocks dipped sharply on the fear of war and rebounded sharply as the war scare subsided. 

What do investors overlook that causes them to dump stocks both on the fear of war and on the arrival of war itself, even though by the end of the war stocks have always gone much higher than lower? They forget that stock prices are quotations expressed in money. Modern war always causes governments to spend far more than they can possibly collect from their taxpayers while the war is being waged. This causes a vast increase in the amount of money, so that each individual unit of money, such as a dollar, becomes worth less than it was before. It takes lots more dollars to buy the same number of shares in stock. This, of course, is the classic form of inflation. 

In other words, war is always bearish on money. To sell stock at the threatened or actual outbreak of hostilities so as to get into cash is extreme financial lunacy. Actually just the opposite should be done. If an investor has about decided to buy a particular common stock and the arrival of a full-blown war scare starts knocking down the price, he should ignore the scare psychology of the moment and definitely begin buying. This is the time when having surplus cash for investment becomes least, not most, desirable. However, here a problem presents itself. How fast should he buy? How far down will the stock go? As long as the downward influence is a war scare and not war, there is no way of knowing. If actual hostilities break out, the price would undoubtedly go still lower, perhaps a lot lower. Therefore, the thing to do is to buy but buy slowly and at a scale-down on just a threat of war. If war occurs, then increase the tempo of buying significantly. Just be sure to buy into companies either with products or services the demand for which will continue in wartime, or which can convert their facilities to wartime operations. The great majority of companies can so qualify under today’s conditions of total war and manufacturing flexibility.

Do stocks actually become more valuable in war time, or is it just money which declines in value? That depends on circumstances. By the grace of God, our country has never been defeated in any war in which it has engaged. In war, particularly modern war, the money of the defeated side is likely to become completely or almost worthless, any common stocks would lose most of their value. Certainly, if the United States were to be defeated by Communist Russia, both our money and our stocks would become valueless. It would then make little difference what investors might have done. 

On the other hand, if a war is won or stalemated, what happens to the real value of stocks will vary with the individual war and the individual stock. In World War I, when the enormous prewar savings of England and France were pouring into this country, most stocks probably increased their real worth even more than might have been the case if the same years had been a period of peace. This, however, was a one-time condition that will not be repeated. Expressed in constant dollars – that is, in real value – American stocks in both World War II and the Korean period undoubtedly did fare less well than if the same period had been one of peace. Aside from the crushing taxes, there was too great a diversion of effort from the more profitable peace-time lines to abnormally narrow-margin defense work. If the magnificent research effort spent on these narrow-margin defense projects could have been channelled to normal peace-time lines, stockholders’ profits would have been far greater – assuming, of course, that there would still have been a free america in which any profits could have been enjoyed at all. The reason for buying stocks on war or fear of war is not that war, in itself, is ever again likely to be profitable to American stockholders. It is just that money becomes even less desirable, so that stock prices, which are expressed in units of money, always go up. 

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Disclaimer: The Good Investors is the personal investing blog of two simple guys who are passionate about educating Singaporeans about stock market investing. By using this Site, you specifically agree that none of the information provided constitutes financial, investment, or other professional advice. It is only intended to provide education. Speak with a professional before making important decisions about your money, your professional life, or even your personal life. I do not have a vested interest in any companies mentioned. Holdings are subject to change at any time.

What is the right amount of stocks an investor should have in his/her portfolio to achieve diversification? Is it 10? Is it 20? Is it 100?

I currently believe that the right level of diversification is different for each investor. Some investors have an investment process and psyche that suits a highly concentrated portfolio, say, of 10 companies or less. I know I do not belong in this group. I am well-suited for a portfolio that has significantly more companies.

When I was investing for my family, the portfolio had slightly more than 50 companies by the time I liquidated most of its stocks in June 2020 so that the capital could be invested in an investment fund I’m currently running with Jeremy. I was comfortable managing around 50 companies and I could sleep soundly at night. 

Why do I say that the right level of diversification is different for each investor? Let’s consider the case of three legendary US-based investors. 

First there’s Peter Lynch, the manager of the Fidelity Magellan Fund from 1977 to 1990. During his tenure, he produced a jaw-dropping annual return of 29%, nearly double what the S&P 500 did. Toward the end of Lynch’s stint, the Magellan Fund owned more than 1,400 stocks in its portfolio.

Then there’s Walter Schloss, who produced an astonishing return of 15.3% per year from 1956 to 2000; in comparison, the S&P 500’s annualised gain was a little below 11.5%. Schloss typically held around 100 stocks in his portfolio at any given time.

The third investor is Charlie Munger, who achieved an annual return of 13.7% per year when he was managing an investment fund from 1962 to 1975. Over the same period, the Dow was up by just 5.0% per year. At any point in time, Munger’s portfolio would only have a handful of stocks.

Lynch, Schloss, and Munger are all stock market investors with incredible long-term track records (and I consider all of them as my investment heroes!). But their levels of diversification are so different. I think this is the best example of how there’s no magic number when it comes to diversification. You have to first understand your own temperament before you can know what’s the right level of diversification, for you.

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Disclaimer: The Good Investors is the personal investing blog of two simple guys who are passionate about educating Singaporeans about stock market investing. By using this Site, you specifically agree that none of the information provided constitutes financial, investment, or other professional advice. It is only intended to provide education. Speak with a professional before making important decisions about your money, your professional life, or even your personal life. I do not have a vested interest in any companies mentioned. Holdings are subject to change at any time.

During bouts of short-term underperformance and/or significant volatility in stock prices, it’s easy to throw in the towel and get out of them to relieve the psychological stresses that result. I believe that this is the worst thing an investor can do because doing so will cause temporary underperformance and/or losses to become permanent ones. It is difficult to stay the course – I get that. But it is crucial to do so because even the best long-term winners in the stock market can make our stomachs churn in the short run.

Don’t believe me? I’ll show you through a game. All you have to do is to answer two questions that involve two groups of real-life companies. Please note your answers for easy reference when you see the questions (it’ll be fun, trust me!).

Figure 1 below is a chart showing the declines from a recent-high for the S&P 500 and the stock prices of the first group of companies (Company A, Company B, and Company C) from the start of 2010 to the end of 2021. The chart looks brutally rough for the three companies. All of them have seen stock price declines of 20% or more on multiple occasions in that time frame. Moreover, their stock prices were much more volatile than the S&P 500 – the index experienced a decline of 20% or more from a recent high just once (in early 2020). So the first question is, after seeing Figure 1, would you want to own shares of the first group of companies if you could go back in time to the start of 2010?

Table 1 below illustrates the stock price and revenue growth for the second group of companies (Company D, Company E, and Company F) from the start of 2010 to the end of 2021, along with the S&P 500’s gain. The second trio of companies have generated tremendous wealth for their investors, far in excess of the S&P 500’s return, because of years of rapid business growth. The second question: If you could travel to the start of 2010, would you want to own shares of the companies in the second group?

My guess for the majority of responses for the first and second questions would be “No” and “Yes”, respectively. But what’s interesting here is that both groups refer to the same companies! Company A and Company D are Amazon; B and E refer to MercadoLibre, and C and F are Netflix. There’s more to the returns of the three companies from 2010 to 2021. Table 2 below shows that the trio have each: (a) underperformed the S&P 500 in a few calendar years, sometimes significantly; and (b) seen their stock prices and business move in completely opposite directions in some years.

There are two other interesting things about the stock price movements of Amazon, MercadoLibre, and Netflix. 

First, in every single time-frame between the start of 2010 and the end of 2021 that has a five-year or longer holding period (with each time-frame having 31 December 2021 as the end point), there is not a single time-frame where the annualised return for each of the three companies is negative or lower than the S&P 500’s. For perspective, the minimum and maximum annualised returns for the trio and the S&P 500 are given in Table 3. If you had invested in the three companies at any time between 1 January 2010 and 31 December 2016, and held onto them through to 31 December 2021, you would have not only significantly beaten the S&P 500 for any start-date, you would also have earned high annual returns.

Second, the returns for Amazon, MercadoLibre, and Netflix for all the same start-dates as in the data shown in Table 3, but this time for shorter holding periods of 1 year and 2 years, have been all over the place. This is displayed in Table 4. Notice the common occurrence of negative as well as market-losing returns for the three companies for both 1-year and 2-year holding periods.

After sweeping up all the data shown in Figure 1 and Tables 1, 2, 3, and 4, the critical highlights are these:

• By looking at just the long-term returns that Amazon, MercadoLibre, and Netflix have produced, it’s difficult to imagine that their stock prices had to traverse brutally rough terrains to reach their incredible summits. But this is the reality that comes with even the best long-term winners. It’s common for them to have negative and/or market-losing returns over the short-term even as they’re on the path toward fabulous long-term gains. For example, an investor who invested in Amazon on 9 December 2013 would be sitting on a loss of 20.4% one year later while the S&P 500 was up by 16.3%. But someone who invested in Amazon on 9 December 2013, and held on till 31 December 2021, would have earned an annualised gain of 30.7%, way ahead of the S&P 500’s annual return of 15.0% over the same period. In another instance, MercadoLibre’s stock price fell by 20.6% one year after 29 September 2014, even though the S&P 500 inched down by just 2.7%; on 31 December 2021, the compounded returns from 29 September 2014 for MercadoLibre and the S&P 500 were 41.4% and 15.1%, respectively. Meanwhile, an investor buying Netflix’s shares on 3 August 2011 would be facing a massive loss of 79.3% one year later, even as the S&P 500 had gained 10.7%. But Netflix’s annualised return from 3 August 2011 to 31 December 2021 was an impressive 30.7%, nearly twice the 15.9% annual gain seen in the S&P 500. 
• A company’s stock price can exhibit stomach-churning short-term volatility even when its underlying business is performing well. For example, Amazon’s robust 19.5% revenue growth in 2014 came with a 22.2% stock price decline, MercadoLibre’s stock price was down by 10.4% in 2015 despite revenue growth of 17.1%, and Netflix’s 48.2% revenue growth in 2011 was accompanied by a 60.6% collapse in its stock price. Significant short-term deviations between a company’s business performance and stock price is simply a feature of the stock market, and not a bug. 
• Having to suffer through an arduous journey is the price we have to pay (the fee for admission!) to reach the top of the mountain, but it’s a journey that is worth being on. 

Accepting that volatility is a feature of stocks can lead to a healthy change in our mindset toward investing. Instead of seeing short-term volatility as a fine, we can start seeing it as a fee – the price of admission, if you will – for great long-term returns. This is an idea that venture capitalist Morgan Housel (who also happens to be one of my favourite finance writers) once described in a fantastic article of his titled Fees vs. Fines.

Seeing volatility as a fee can also help all of us develop a crucial character trait when dealing with the inevitable ups and downs in the financial markets: Equanimity. Being able to remain calm when stock prices are roiling is important because it prevents us from making emotionally-driven mistakes. Another thing that can help strengthen the equanimity-fibre in our psyche is to focus on business results. Stock prices and business growth converge in the long run. But over the short run, anything can happen. 

It’s never fun to deal with falling stock prices. But as Josh Brown, CEO of Ritholtz Wealth Management and one of my favourite market commentators, wrote in a recent blog post: “Returns only come to those who are willing to bear that volatility when others won’t. The volatility is the point.”

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 Disclaimer: The Good Investors is the personal investing blog of two simple guys who are passionate about educating Singaporeans about stock market investing. By using this Site, you specifically agree that none of the information provided constitutes financial, investment, or other professional advice. It is only intended to provide education. Speak with a professional before making important decisions about your money, your professional life, or even your personal life. Of all the companies mentioned, I currently have a vested interest in Amazon, MercadoLibre, and Netflix. Holdings are subject to change at any time.

One of my favourite investing stories involves one of Warren Buffett’s best – maybe even his best – investment returns. This return came from his 1973 purchase of The Washington Post Company (WPC) shares. Today, WPC is known as Graham Holdings Company. Back then, it was the publisher of the influential US-based newspaper, The Washington Post. 

Buffett did not invest much in WPC, but the percentage-gain is stunning. Through Berkshire Hathaway, he invested US$11 million in WPC in 1973. By the end of 2007, Berkshire’s stake in WPC had swelled to nearly US$1.4 billion, which is a gain of over 10,000%

But the percentage gain is not the most interesting part of the story. What’s interesting is that, first, WPC’s share price fell by more than 20% shortly after Buffett invested, and then stayed in the red for three years. Second, WPC was a great bargain in plain sight when Buffett started buying shares. In Berkshire’s 1985 shareholders’ letter, Buffett wrote (emphasis is mine):

“We bought all of our WPC holdings in mid-1973 at a price of not more than one-fourth of the then per-share business value of the enterprise. Calculating the price/value ratio required no unusual insights. Most security analysts, media brokers, and media executives would have estimated WPC’s intrinsic business value at $400 to $500 million just as we did. And its $100 million stock market valuation was published daily for all to see.

Our advantage, rather, was attitude: we had learned from Ben Graham that the key to successful investing was the purchase of shares in good businesses when market prices were at a large discount from underlying business values.”

Buffett has investing acumen and privileged-access to deals that many of us do not have. But there are also times when common sense and patience are more important traits than acumen in making a great investment. Buffett himself said that no special insight was needed to value WPC back in 1973. What was needed for him to earn a smashing return were simple and attainable things: The right attitude and patience.

How many investors do you think have the patience to hold on through three years of losses? Not many, would be my guess. But Buffett did, and he was eventually well rewarded. 

Not every form of participation in the financial markets requires patience. But for market participants who look at stocks as a piece of a business and are investing on the basis of a business’s underlying value, patience may well be necessary, even if you have purchased shares of the best company at a bargain price. This is why Jeremy and I often talk about the importance of having a long-term investing mindset in this blog.

Buffett’s experience with WPC – of first losing, then winning – is far from an isolated incident. Another of my favourite investing stories has the same element. The story starts on 2 July 1998, when brothers David and Tom Gardner – co-founders of The Motley Fool, and two of my investing heroes – were invited to an American television programme called The View. In the show, the Gardner brothers were asked to name a stock for the programme’s new host to invest in and they happily obliged.

About six weeks later, the Gardners re-appeared in The View. But this time, they were booed by the live audience. David even found out later from his friend, a long-time follower of The View, that no guest had ever been booed on the show prior to this. It turns out that the Gardners’ recommended stock had fallen by a third in value in the six weeks between their first and second appearances in The View. But the brothers still had faith in the investment and urged the host to hold on for the long-term. 

I don’t know if The View’s host ever did invest in the company that the Gardners recommended. But if she did, and had she held on since 2 July 1998, she would likely be very happy today. The stock in question is the global coffee giant, Starbucks. 

In September 1997, Starbucks had less than 1,500 outlets and was mostly a domestic growth story in the USA. Today, it’s a bona fide global company with more than 33,000 stores in many different countries around the world. On 2 July 1998, Starbucks’s share price was US$3.54. About six weeks later (on 14 August 1998), it was US$2.40. A year after 2 July 1998, Starbucks’s share price was US$3.45, lower than when the Gardners first appeared in The View. Today, the coffee powerhouse’s share price is more than US$110. In a similar manner to WPC, Starbucks looked like a loser over the short-term, but turned out to be a world-class winner over the long-term.

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Disclaimer: The Good Investors is the personal investing blog of two simple guys who are passionate about educating Singaporeans about stock market investing. By using this Site, you specifically agree that none of the information provided constitutes financial, investment, or other professional advice. It is only intended to provide education. Speak with a professional before making important decisions about your money, your professional life, or even your personal life. Of all the companies mentioned, I currently have a vested interest in Starbucks. Holdings are subject to change at any time.

The stock market is an incredibly resilient thing. A wonderful example can be seen through some astounding facts I found out earlier this year about Germany’s stock market, courtesy of a blog post from investor Anthony Isola. 

Germany lost World War I, which lasted from 1914 to 1918, and signed the infamous Treaty of Versailles. The peace agreement placed usurious repayment demands on Germany, which resulted in hyperinflation in the country and the ruin of her economy in the 1920s. This paved the way for Adolf Hitler’s rise to power in Germany in the early 1930s. After Hitler’s ascension, he dragged the globe into World War II, starting with his invasion of Poland in 1939. During the war, Germany suffered decimating air raids on its cities conducted by the Allied nations and by 1945 she had lost the war. Here’s how Germany’s stock market did from 1930 to 1950:

Unsurprisingly, German stocks were smashed shortly after World War II ended. But what happened next was remarkable. Germany managed to rebuild, as the victors decided to support the country’s rehabilitation rather than punitively punishing her as they had done in the aftermath of World War I. Germany’s stock market rebounded, and then some. Isola wrote:

“Amazingly despite losing not one but two World Wars, suffering a vicious bout of wealth destruction due to Hyperinflation, experiencing a Great Depression, and living under the rule of a fanatically evil dictatorship,  long-term German investors realized positive returns by 1960. The German market’s real return compounded at an annual rate of 2.4% from 1900-1960. From 1950 to 2000, German stocks posted an annual real return of 9.1%.”

So even after accounting for inflation – and bear in mind that Germany endured hyperinflation in the 1920s because of theTreaty of Versailles – German stocks still generated a return of 2.4% per year from 1900 to 1960. Here’s a chart from Isola’s blog post that shows the performance of Germany stock’s market from 1870 to 1994:

In his blog post, Isola also wrote that “stock markets can be way more resilient than you can imagine. Provided you have the luxury of time to work in your favor.” This is why Jeremy and I are long-term investors. We want time to be on our side.

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Disclaimer: The Good Investors is the personal investing blog of two simple guys who are passionate about educating Singaporeans about stock market investing. By using this Site, you specifically agree that none of the information provided constitutes financial, investment, or other professional advice. It is only intended to provide education. Speak with a professional before making important decisions about your money, your professional life, or even your personal life.I have no vested interest in any company mentioned. Holdings are subject to change at any time.

Note: Data as of 2 November 2021; an earlier version of this article was first published in The Business Times on 10 November 2021

There are 7.9 billion individuals in the global economy today. According to the World Federation of Exchanges, an association for exchanges and clearing houses, there are at least 47,919 companies listed in stock exchanges around the world. Estimates on the number of small/medium enterprises (SMEs) worldwide vary widely, but the ones I’ve seen peg the number at between 213 million to 400 million. 

There is also a litany of problems currently plaguing our globe. The legendary US-based investor, Bill Miller, provided a list of worries in his latest 2021 third-quarter letter: “Today’s worries include, but are not limited to, China’s regulatory actions, high and rising fuel and food prices, labor shortages, inflation or stagflation, the effect of Federal Reserve tapering, disrupted supply chains, potential default due the debt limit standoff and the ongoing dis-function and polarization in Washington.” These are in addition to the ongoing COVID-19 pandemic.

With the statistics and information in the first two paragraphs above, it’s an understatement to say that the business world, and hence the financial markets, involve a lot of moving parts. This is a problem for investors and begets the question: What should investors be watching now?

A walk in the park

There was once a lady who liked to walk her young dog each morning in East Coast Park using a very long leash. The lady would take a 10 kilometre stroll from one point in the park to another, walking at a steady pace of five kilometres per hour.

Her dog was always easily excitable. It would dart all over the place, diving into a bush here, and chasing after something there. You could never guess where the dog would be from one minute to the next.

But over the course of the two hour stroll, you can be certain that the dog is heading east at five kilometers per hour. What’s interesting here is that almost nobody is watching the lady. Instead, their eyes are fixed on the dog. 

The tale of the lady and her dog is actually an analogy about the stock market that I’ve adapted from Ralph Wagner, a highly successful fund manager with an amazing wit who was active from the 1970s to the early 2000s. If you missed the analogy, the dog represents stock prices while the lady represents the stocks’ underlying businesses.

It’s the business

There are many ways to slice the dice when it comes to making money in the stock market. But one way is to watch the lady (businesses) and not the dog (stock prices). No matter where the dog is leaping toward, it will still end up at one point in East Coast Park after two hours, following the lady’s path.

The US-based Berkshire Hathaway is the investment conglomerate of Warren Buffett, who is arguably the best investor the world has seen. In his 1994 Berkshire shareholders’ letter, Buffett shared a long list of problems that the USA and the world had faced over the past three decades: 

“Thirty years ago, no one could have foreseen the huge expansion of the Vietnam War, wage and price controls, two oil shocks, the resignation of a president, the dissolution of the Soviet Union, a one-day drop in the Dow of 508 points, or treasury bill yields fluctuating between 2.8% and 17.4%.”

But in the same period – 1965 to 1994 – Berkshire’s share price was up by 28% annually. This is the dog. What about the lady? Through shrewd investments in stocks and acquisitions of private companies, Buffett grew Berkshire’s book value per share by 23% per year from 1965 to 1994. Over 30 years of numerous geopolitical and macroeconomic problems, a 23% input of business growth had led to a 28% output of share price growth. 

It’s worth pointing out that Berkshire’s share price and book value per share did not move in lock-step. For example, Berkshire’s share price fell by 49% in 1974 despite a 6% increase in its book value per share. In 1985, a 94% jump in the share price was accompanied by book value growth of ‘only’ 48%. In another instance, Berkshire’s share price slid by 23% in 1990 even though the book value was up by 7%.

Berkshire is a great example of how the excitable dog will end up wherever the lady goes, even though it may be leaping all over the place en route. Berkshire is also, by no means, an isolated case.

The Nobel Prize-winning economist Robert Shiller maintains a database on the prices, earnings, and valuations for US stocks going back to the 1870s. From 1965 to 1994, the S&P 500, a broad stock market index in the USA, experienced a 6% annual increase in both its price and earnings, according to Shiller’s data.

At this point, some of you may wonder: Why are there some amazing dog-owners who are able to continue marching forward, despite the many obstacles they face? 

Optimism

One of my favourite pieces of business writing comes from Morgan Housel, a partner at the venture capital firm Collaborative Fund. It’s an article titled “An Honest Business News Update” published in August 2017 on Collaborative Fund’s website. Housel wrote:

“The S&P 500 closed at a new high on Wednesday in what analysts hailed as the accumulated result of several hundred million people waking up every morning hoping to solve problems and improve their lives…

…Fifty-five million American children went to school Wednesday morning, leveraging the compounded knowledge of all previous generations. Analysts expect this to lead to a new generation of doctors, engineers, and problem solvers more advanced than any other in history. “This just keeps happening over and over again,” one analyst said. “Progress for one group becomes a new baseline for the next, and it grows from there.””

This is why there are these amazing dog-owners: Because humanity’s story is one long-arc of progress. The arc is punctuated from time to time by disasters – of the self-inflicted and/or natural variety – but our human resilience and ingenuity helped us to pick up the pieces and move on. It took us only 66 years to go from the first demonstration of manned flight by the Wright brothers at Kitty Hawk in 1903, to putting a man on the moon in 1969. But in between was World War II, a brutal battle across the globe from 1939 to 1945 that killed an estimated 66 million.

At the start of this article, I mentioned that there are 7.9 billion people in the world today. The vast majority of us will wake up every morning wanting to improve the world and our own lot in life – this is ultimately what fuels the global economy and financial markets. This is the lady, walking steadfastly ahead, holding her dog on a long leash. And this is ultimately what investors should be watching.

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Disclaimer: The Good Investors is the personal investing blog of two simple guys who are passionate about educating Singaporeans about stock market investing. By using this Site, you specifically agree that none of the information provided constitutes financial, investment, or other professional advice. It is only intended to provide education. Speak with a professional before making important decisions about your money, your professional life, or even your personal life. I have no vested interest in any company mentioned. Holdings are subject to change at any time.