The North Star of investing

When it comes to investing, the humble masses are our guiding light, says Bill Bonner.

China is falling apart.

Bond yields are falling.

Copper is sinking.

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Oil is sliding.

US stocks, too, slipped all last week.

Even gold, that old stalwart friend turned its back on us last week, closing the week at $1,585.

Oh, dear, dear reader, everything is giving way. What can we hold fast to?

Can we count on the lumpen, dear reader?

As you know, when it comes to investing or politics, the humble masses are our North Star, our guiding light. We can depend on them to be almost always wrong. They fall for jingoes and jackasses every time.

"Stocks for the long run," was a popular appeal back at the end of the 90s just before the stock market produced its worst returns in 60 years.

"The War on Terror" was another popular flimflam; it helped separate the public from $4trn or so of its money.

And don't forget "change" from the man who changed nothing.

We had given up on stocks. They were too expensive. Besides, as we put it, the stock market had never completed its historic rendezvous with the bottom. Investors hadn't given up. P/E ratios were still over 12 or 15. Dividend yields were below 3%.

We wanted a p/e below eight and then we'd start to consider them. Or, give us a dividend yield over 5%.

Most important, we'll wait until the public is fed up with stocks, convinced that they are a loser's game.

Well, that day may not be far ahead. USA Today reports:

NEW YORK On Main Street these days, investing in the stock market is about as popular as watching a scary movie on a 12-inch black-and-white TV.

Wall Street's long-running story about how stocks are the best way to build wealth seems tired, dated and less believable to many individual investors. Playing the market isn't as sexy as it used to be. Since the 2008-09 financial crisis, the buy-now mentality has been replaced by a get-me-out, wait-and-see, bonds-are-safer line of thinking.

Stocks remain out of fashion even though the stock market has risen more than 100% since the bear market ended three years ago. It's up 25% since October and 9% this year.

Retail investors have yanked more than $260 billion out of mutual funds that invest in U.S. stocks since the end of 2008, says the Investment Company Institute, a fund trade group. In contrast, they have funneled more than $800 billion into funds that invest in less-volatile bonds.

Investors' chronic mistrust of stocks is reigniting fears that an entire generation is unlikely to stash large chunks of cash in the increasingly unpredictable market as they did in the past.

"Investors have suffered a traumatic shock that has caused severe psychological damage and made them more risk-averse," says Carmine Grigoli, chief investment strategist at Mizuho Securities USA. Current worries, such as the USA's swelling deficit, Europe's unresolved debt crisis and slowing growth in China, have done little to ease their anxiety, he adds.

Investors are choosing safe' bond funds. Hmmm...Is it time to dump bonds and buy stocks? Or dump them both?

We faced this question a few days ago. We got a cheque the payout on a deal we did long ago and had since forgotten about.

What to do with it? Cash? Bonds? Gold? Stocks? Real Estate?

We chose cash!

Our guess is that we'll be on our present path, lagging growth, dragging unemployment, sagging yields for a while longer. How much longer? Damned if we know.

But Treasury yields are already near or at all-time lows. How much lower can they go? Houses are already down to their most affordable level ever, how much cheaper can they get?

As for stocks, our bet is that they can get a lot cheaper. Mr Market, should he care to undertake such a mission, could drive the Dow from 12,000 down to 6,000, or even lower. And, if cared to, he could hold prices at that level for years.

So could he push the ten-year Treasury yield all the way to 1% (now about 1.8%) if he wanted to?

Yes, dear reader, there's still room on the downside. A lot of it.

One of the nice things about being a long-term investor is that you can wait a long time before you make your move. As Warren Buffett says, you don't have to swing at every pitch. And there's no penalty, except missed opportunities, for just waiting for the perfect ball to cross the plate.

That's what's so nice about cash. It's a bat. It's in your hands.

And we wouldn't be at all surprised to see Mr Market toss us a powder puff pitch before too long.

And more on US institutions going rogue...

Societies become more complex as they age. Each challenge, or opportunity, is met with a new rig of some sort. A tax. A regulation. An organisational fix.

As time goes by, these fixes act like friction, they slow the machine. They make it hard to move, inflexible and unresponsive. And over time, more people gain access to a fix - each lobbying group and special interest, each with his own bail-out or subsidy and each desperate to hold onto it.

Output is thus shifted to unproductive activities. The real producers are punished with taxes and regulations while unproductive activities are rewarded, with bail-outs, hand-outs and sweetheart deals.

The financial industry was 2.5% of the economy when WWII ended. Now, it is 8.5%. How did it get so big? What does it do for all the money?

The answer to the first question is that it grew as the economy became financialised'. More and more laws were passed granting more and more special favors and protections to the financial industry. Just read the tax code. Go ahead, we dare you! You will find special allowances and deals for the insurance industry on almost every page. And there are rules and regulations for pension funds. And pensions themselves. ERISA. 401k. 501C3. SEC. FDIC. Dodd-Frank. CFPB. Everything is regulated, controlled, protected.

And all of this happened on the back of the biggest expansion of financial instruments in world history. The feds transformed the economy from one that made things at a profit to one that just made money. The money supply in the US increased by 1,300% in the 40 years after Richard Nixon shut the gold window' at the Treasury. That wealth' did not that the form of new factories in New England or new tractors in the Old South. It went mostly into money instruments... funneled through the financial industry to the rich people who owned financial assets.

Every potential new competitor had to comply with such a mountain of rules and regulations that he quickly gave up. Even if approved, he could not hope to provide a new product. Instead, he could only provide the same approved services and products that the big, entrenched players already had in stock.

John Kay, writing in the Financial Times, explains what would have happened had the computer industry been tied in the same knots: "If you needed a licence to enter the US computer business, you can imagine the Computer Regulation Agency interviewing Bill Gates and Steve Jobs in the 1970s. What dutiful regulator would allow someone who had not even completed his Harvard degree to sell software to the public?"

Protected. Coddled. The financial industry went rogue. It was supposed to match investors with worthy investments, helping to bring genuine growth and prosperity to the US. Instead, it matched up most of the new money with itself.

The typical American was impoverished. Forty years after America's money went rogue, he has not a dime's more earning power per hour. And 4.5 times more debt, adjusted for inflation.

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