To buy or not to buy
At our core, almost every investor feels like a contrarian at some point in time. It is only natural to see value in something that has fallen significantly in a short period of time. And to be honest, I must have considered buying the leveraged Nasdaq ETF at least 10 times in the last few months as the tech sector fell into another bear market.
Despite this feeling, I never managed to pull the trigger for my own portfolio or recommend that sort of action to clients. The term ‘buy the dip’ has been synonymous with sharemarkets in recent years with nearly every correction of 5 to 10 per cent followed by most global markets quickly reaching all-time highs.
Yet those who sought to do this in early 2022, either on an index or individual stock basis have been badly burned. You only need to look at the performance of companies like Peloton and Robinhood to be reminded that even companies that have fallen 70 per cent can still fall another 30 per cent just as quickly.
There is little doubt that some of these companies will eventually recover, and perhaps deliver returns of more than 100 per cent, it simply doesn’t seem that the time is now. Through much consideration, I’ve come up with five reasons why I’m not quite ready to buy the dip.
The first, and probably most important, is that the outlook isn’t quite a clear year. There is an obvious and growing divergence in how various countries around the world are dealing with supply chain issues and fast-changing trends in consumer and services demand. Whilst it is becoming clear that inflation will be transitory, it is unclear what impact increasing interest rates will have.
In previous hiking cycles, central banks have consistently gone too far, but is a fight against inflation worth the human cost of putting people out of work? Companies are dealing with increasing costs in different ways, with some simply seeking to maintain margins, but are earnings set to fall in 2023? And what happens if the employment boom begins to reverse, as it appears with no few than a dozen tech companies announcing layoffs of as many as 10 per cent of their staff.
The second relates to the outlook for the economy, as it seems we are on the precipice of both a service-driven boom and outright recession. Higher fuel and energy prices will eventually have an impact on spending, at the same time that higher interest rates are impacting debt serviceability. Those in the lower-income cohorts, a key part of consumer spending, are becoming more stretched than ever. If demand destruction comes, there may well be better buying opportunities ahead.
Moving to a higher level, I believe my asset allocation is suited to the current circumstances. That is, I am fully invested in the sectors and companies I believe will deliver compounding returns over multiple decades, not just the next 6 to 12 months. Any buying today, would be tactical at best and required a significant shift of funds.
This relates to the fourth point, being that any move I make today, would likely be sideways. That is, I would be buying an asset to buy a similar asset that has also fallen, with limited net benefit. And given the strong returns of the last five years, I would need to realise capital gains and pay tax on these changes just to shift sideways; not to mention the transaction costs.
Finally, my approach has always been predicated on investing in quality companies, assets and strategies, which fortunately have performed quite well and therefore aren't as cheap as I would like.
