“What the wise man does in the beginning, the fool does in the end.” That’s how Howard Marks of Oaktree Capital began his talk at the 2013 Value Investor Conference last week. He explained what he sees as being the three stages of a bull market.
The first happens when a few people begin to believe that things will get better. The second comes when most investors realise that improvement is actually underway, and the third when everyone is sure that “things will get better forever”.
This last one – think the second quarter of 2007 – is characterised by the “extreme brevity of financial memory” and so by the same silly justifications over and over again. “This time it is different” people say, usually just before they point you to an investment that “is so good that the price doesn’t matter” – when in fact, all that matters is the price.
The key to success is getting in during the first stage and out during the last. How? As ever, it is simple, but not remotely easy. If you want to prevent yourself being the fool, you have no choice but to be consistently contrarian, to build “uncomfortably idiosyncratic portfolios” and, as Mark Twain said, to remember that “whenever you find yourself on the side of the majority, it is time to reform”.
So where are we now? With markets knocking around all-time nominal highs, is it time to reform? Not yet, says Marks. The “existence of improvement is generally accepted”, but is neither particularly widespread or overdone. He reckons we are in stage two – “somewhere in the middle”.
Marks has a similar set of three stages for bear markets. The first stage comes when just a few investors recognise that, despite the prevailing bullishness, things won’t always be rosy. The second comes when most investors realise things are deteriorating, and the third when “everyone’s convinced that things can only get worse” (as in early 2009).
I was thinking about this as I looked at the numbers out from the housing market this week. We saw stage one of a property bear market post-2007. And it felt like we entered stage two as well. But look at the data and you’ll see stage three never quite arrived.
The latest RICS residential market survey shows that surveyors as a whole feel happier about prices and sales. The Council of Mortgage Lenders tells us that the number of first-time buyers jumped by 20% in March. And Land Registry data show prices across Britain rose 5.5% year-on-year in the first quarter of 2013.
So is it all over? Are we back to somewhere in the middle for the housing market too? We’d like to think so (we are mostly reluctant homeowners at MoneyWeek), but history doesn’t offer many examples of bear markets that skip the bit where asset prices actually hit fair value on the way down. So despite the happy numbers and the wall of government-sponsored money being chucked into housing, we aren’t yet convinced.