One of the key lessons to learn from investing in the equity markets is that the current level of any share price or index, such as the FTSE 100, is the result of deep analysis by many employed to constantly perform this role in the world’s financial centres. This means that, for the casual investor who reads the weekend press or researches elsewhere, any opinion he or she may have will already have been assessed and priced-in. 
This is also the argument that many passive investors use when they are debunking the belief that active management and the application of apparent investment skill can add value over time. The point that many dismiss is that there are individuals out there who have a talent for reading markets and interpreting business models and can add value consistently over time. However, and this is important, as soon as their apparent skill becomes more widely known due to a commercial asset gathering drive, they often become swamped by new investors and can no longer repeat the results.
Right now, it would be entirely rational for any current investor to conclude that we are facing a challenging second half of 2019 in terms of global growth expectations. This is supported by the dovish comments coming from the central banks and bond market movements which are suggesting that additional stimulus is required to prevent a recession from taking hold. This pre-emptive approach from central banks has been in place ever since the credit crunch in 2008, following the realisation that investor appetite to borrow is highly correlated to confidence in the stability of the banking system. If the central banks can give the impression that they will shore up any development that threatens economic growth, then investors will not panic. The issue today is that the supposedly one-off policy of quantitative easing was used to stop the capitalist system imploding, whereas it now seems to be part of the standard central banker toolkit.
As stories go viral on social media we often see human psychological investor behaviour change at light speed. There is so much competition in the marketplace that, as soon as a doubt emerges over the financial stability of a business, consumers immediately go elsewhere. The barriers to entry are often so low and it is very easy for consumers to switch. If the Bank of England had stood by Northern Rock over 10 years ago, the banking system would probably have largely stayed intact and we would still have Alliance & Leicester, Bradford & Bingley and Royal Bank of Scotland in its previous guise.
However, one of the benefits of a recession is that it is a process of natural commercial selection where the weak fail and the strong survive. Some say there are a plethora of ‘zombie’ businesses which only exist because interest rates are so low, and this contributes to the low productivity of the UK economy. Perhaps there is something in this, although the lack of infrastructure investment since the Brexit vote is also influential as businesses choose to employ more junior level employees than invest in the kit they so desperately need. Doing so requires a five-year payback projection, plus with many senior executives paid on a three-year horizon, with share options to boot, that needs to be considered too. Consequently, it is far safer, and more certain, to simply reinvest profits into buying shares in your own business than go on some investment crusade with huge execution risk.
The US second-quarter earnings season kicks off this week and a key question is whether the subdued growth and outlook, which many suspect lies ahead, will be reported by businesses and sufficiently priced into markets as the US indices hit new highs. Again, psychologically, it is very easy to get sucked into the headlines that a record closing level on an index must mean that markets are expensive. Everyone loves a bargain, but in contrast to buying a car or a sofa, the attractiveness of the product is not constant when it comes to equity investing. For example, if a new car drops in price, buyers sit up, take note and become more likely to make a purchase. When the equity market suddenly becomes 10 per cent cheaper, a very large elephant has just arrived in the room causing investors to sell and run for cover with bearish headlines to boot. You can buy the same assets 10 per cent cheaper, but are they worth that discounted price when considering the reason for the dip?
Market highs never feel like an attractive entry point for a new investor but then again, as stated before, waiting for a 10 per cent correction can mean that the recently emerged elephant scares you off. Time in the market usually always wins over timing the market, so decide on your long-term strategic goal, design an investment phasing strategy and stick to it. Otherwise you will continue to wish you had invested earlier than today. There is a completely different psychological feeling when looking at an investment which has lost money to one which has gained. A 10 per cent fall in a holding that has already risen by 25 per cent leads to an acceptance that this is what happens, and you are still ahead of cash. A 10 per cent fall in a holding which has just been made seems like a huge mistake and a generally depressing outcome. The longer you have exposure, the more profit potential there is and the more likely you will feel comfortable with the inevitable gyrations and catastrophising that goes on.
Greed can influence an investor’s rational approach to taking profit along with a rational approach to taking advantage of a correction, with the latter scenario meaning the investor wants a bigger discount. Many investors like property due to its inherent stability and tangible asset qualities. However, with this comes illiquidity and maintenance whereas the stock market, if invested in wisely, can provide daily liquidity with limited maintenance.
As with all investment opportunities, diversification is key between the liquid and illiquid, higher risk, higher growth opportunities, lower risk, lower return, and everything in between. So, you should consider not having too much in cash. With inflation at 2.5 per cent, £100 loses over half its real value in 30 years if held as cash with no return. The annualised sterling return of the MSCI World index over the same period to date has been 7.8 per cent. The same £100 would be worth around £950, illustrating the effect of compounding over time. Of course, the latter would have endured the technology bubble bursting and the credit crunch, when cash would have seemed an attractive alternative at the time. Both the technology bubble and the credit crisis were very large elephants which caused equity markets to almost halve in value at the time.
It is utterly bizarre that we will readily snap up a car purchase, one of the most highly depreciating assets which we can buy, when it is offered at a 10 per cent discount but shy away from an equity market purchase on a 10 per cent discount, when it is one of the most highly appreciating assets. A message for all those tempted to display their latest purchase which they can’t really afford in the longer term.
Guy Stephens is technical investment director at Rowan Dartington. The views expressed above are his own and should not be taken as investment advice.