TRADE WARS, BUSINESSES AND SHARES

Investment Perspective – March 2018

“Neither the investing method nor the fundamentals of the business are right or wrong because the mood of the market is favourable or unfavourable toward the “stock”. That is because when you really think about it, “stocks” (shares) are all about the financials and the trading price, the share price…the cash up value. What matters more is the economics of the business” 

Peter Flannery

What will a global trade war mean for the share market?

Volatility

Donald Trump has been working away at his trade tariff campaign for over 12 months.  However, it is only recently that it has really hit the news in a big way. 

Predictably, what we now see is notable commentators and economists predicting ‘trade war Armageddon.’ 

For example, a high profile spokesman at the World Trade Organisation (WTO) warned Donald Trump that his behaviour could lead to the worst global trade war seen since the 1930s (as though Donald Trump is suddenly going to do a 360 degree turn, realise the folly of his ways and change his mind!)

The potential implications of a global trade war are without doubt significant and actually unknown.  That is because we do not know yet how it will all play out, which of course is unsettling for markets. 

This is the type of news that certain investors and the market as a whole just do not like, which of course causes prices to flatten (stop rising) or to decline, sometimes sharply. 

The Share Market

The so-called “share market” is full of what I refer to as ‘speculators’ because their modus operandi is a kind of broad brush approach, whereby they diversify in an attempt to reduce risk or take chances on the latest hot stock. 

Modern portfolio theory and momentum investing is the ‘science’ they use, which provides them, in my view, false comfort that all will be well, even if things get bad and uncertainty prevails or that they might “make a killing” on that one punt.

A global trade war of significance would likely see trading prices of shares decline across the board. 

We saw in 2008 that diversification did not really help much because the whole market declined regardless of where participants were invested. 

Sure, those who adopt a more defensive approach, by investing in defensive assets, such as bonds and fixed interest, did not see the cash up value of that component of their portfolios decline, however nor had they seen that component of their portfolios grow much before hand either. 

Long term investors know that whilst prices bob up and down from time to time, giving up a bit of growth occasionally is actually a good thing because it provides the opportunity for better buying. 

Just saying, this is a different approach to those hopeful investors who are spreading their money around the market place, clinging to the belief that the more they spread it, the greater number of analysts that are crunching numbers on their behalf, somehow the more money they will make. 

Unfortunately, the opposite happens to be true.  That is because, the further you diversify, the more you become the market and of course, it becomes extremely difficult to perform differently to the market when you become the market. 

THE BETTER WAY

First up, let’s not get too excited about what has not happened yet. 

Sure, the potential implications are far reaching for the global economy and many large businesses with global scale.  However, fast forward a year or two and I wonder how many of those businesses you and I will actually be exposed to.

It is too early yet to predict the outcome of Donald Trump’s trade tariffs. 

Next up is the fact that you and I invest in businesses (we are not dabbling or trying to play the sharemarket). 

Sure, the market and market participants that also invests in the same businesses as you and I.   They do not discriminate when it comes to fear and worry.  They can just sell everything and anything, regardless, because they reason that there will be damage to the growth of specific companies and the market overall.

Also, the army of analysts is sitting there with their spreadsheets and computers, working out how much growth may slow and therefore how many billions of dollars this wipes off future profits.  They then apply the discounted cash flow calculation and other financial analysis to conclude that the present value of a particular business is too expensive and therefore should be sold off. 

You and I can easily carry out the same analysis, however when we are investing in a business rather than playing the share market, the value the way they calculate it is not as useful for us. 

Yes, the financials matter, however the economics of a business and the underlying business model matter too – arguably more. 

VOLATILITY: WORRY OR OPPORTUNITY?

You choose.

Are you going to worry about volatility and fret about the security of your portfolio or are you going to wait for prices to decline and then take advantage of better buying? 

Of course, you will need to have the cash available if you are going to take advantage of better buy prices. 

TIP: Instead of worrying about trade wars, why not review the current level of cash in your portfolio and have a think about whether or not you have enough if markets decline by, say, 20% or so. 

“A public opinion poll is no substitute for thought.”

                                                                   Warren Buffett