2/29/2012 7:12 PM ET|
10 lessons from a legendary investor
Money manager Jeremy Grantham offers common-sense rules that can help investors avoid everyday mistakes and meet their financial goals.
Warren Buffett has said that if you look around the poker table and can't spot the patsy, you're it. In that spirit, another famed investor, Jeremy Grantham, is trying to deal investors a stronger hand.
Grantham, the chief investment strategist for institutional money manager GMO in Boston, doesn't mince words. In his view, outlined in a quarterly letter published Feb. 24, those who have launched into the market have embarked on "dangerous investment voyages" that threaten to separate them from their money. They hear the tempting call of countless stock-market sirens -- self-interested cheerleaders and barkers who promise that it's different this time, and that you must buy now or miss the boat.
Making the journey even more perilous is that stocks around the world are either fairly priced or nearly so, he says. Investors who buy now can expect meager returns over the next seven years. GMO forecasts that after figuring for 2.5% annualized inflation, U.S. large-cap stocks -- namely the Standard & Poor's 500 Index ($INX) -- are poised to give slightly less than 1% yearly, while U.S. small caps will lose 1.5% annualized over that time.
The best part of the U.S. market will be high-quality stocks, reflecting about 25% of the S&P 500, with an expected 5% yearly gain, according to GMO. In that case, Grantham points out, the remaining 75% of the index would post a slightly negative return.
Expected returns are more respectable outside of the United States, GMO predicts. Annualized gains from large-cap international stocks could be 5.2%, and 5.6% from emerging markets. Small caps lag overseas as well, with a 3.8% forecasted return.
All bonds, in turn, are money-losers after inflation over the next seven years, with the exception of bonds in emerging markets, GMO predicts.
Standing at this high-stakes table, Grantham has dealt investors 10 fresh cards, each with a piece of common-sense advice for today's investment climate. The wisdom hearkens to another important list for investors from Bob Farrell, a veteran equity strategist, whose "10 market rules to remember" is required reading.
Sure, some of these chestnuts may seem like platitudes, but only the foolhardy would wager that Grantham is bluffing:
1. Believe in history
The S&P 500 closed Feb. 24 at its highest level since June 2008. The Dow Jones Industrial Average ($INDU), meanwhile, is crisscrossing 13,000. After a dismal 2011, small-cap stocks are leading the U.S. market. If it seems like the worst is over, don't believe it, according to Grantham.
"All bubbles break; all investment frenzies pass," he says. "The market is gloriously inefficient and wanders far from fair price, but eventually, after breaking your heart and your patience . . . it will go back to fair value. Your task is to survive until that happens."
2. 'Neither a lender nor a borrower be'
Never borrow to invest. Period.
"Leverage reduces the investor's critical asset: patience," Grantham says. But excessive debt is even more insidious. "It encourages financial aggressiveness, recklessness and greed."
Debt has ruined countries, communities, corporations and consumers. "It has proven so seductive that individuals en masse have shown themselves incapable of resisting it, as if it were a drug," he writes.
3. Don't put all of your treasure in one boat
Obvious, yes, but worth repeating. Diversification isn't about returns, after all. It's about resilience, Grantham says. "The more investments you have and the more different they are, the more likely you are to survive those critical periods when your big bets move against you."
4. Be patient and focus on the long term
"Wait for the good cards," he says. When you find something to buy, you don't have to act immediately. Wait for it to hit your price range. As Grantham explains, "this will be your margin of safety."
Now comes the hard part: handling the pain of investment losses. But often the suffering is worth it. As Grantham notes, "individual stocks usually recover, entire markets always do. . . . Outlast the bad news."
5. Recognize your advantages over the professionals
Patience is one of the key advantages individuals have over traders and money managers. Yet many people squander that edge, reacting to day-to-day events and chasing the latest hot stock or sector. "The individual is far better positioned to wait patiently for the right pitch while paying no regard to what others are doing."
Such a luxury is "almost impossible" for professionals, Grantham says. Wall Street professionals, he adds, worry about their jobs, careers, bonuses and the like, and needing to look busy (read: costly, frequent trading) to earn their keep.
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Debt has ruined countries, communities, corporations and consumers. "It has proven so seductive that individuals en masse have shown themselves incapable of resisting it, as if it were a drug,"
Pretty scary when you consider that all of the money we use is essentially debt too.
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