Benjamin Graham.
Frank Jasper is a member of ASB’s investment committee.
OPINION
Benjamin Graham, author of one of the earliest books on fundamental investing, introduced the idea of Mr Market in the 1940s. Mr Market is a moody, irrational individual swinging from dark pessimism to exuberant optimism. This is a great description of how the sharemarket works, at least day to day. As investors we can either get caught up in Mr Market’s moods or plot our own path, focusing on long-term fundamentals and building wealth slowly but surely.
There’s a daily deluge of financial data. Share prices are up, down or sideways, company profit results come and go, talking heads shout at us, recommending this stock or that. Behind it all lurks the spectre of Mr Market, Graham’s fictional irrational character swinging from fear to greed and back again.
It makes the sharemarket a sometimes terrifying, always thrilling adventure but unfortunately not always a profitable one. There is a better way.
In my view, there are three steps to take towards taming Mr Market and using his mood swings to your advantage.
The sharemarket, with the right mindset, the right research and a good coach can truly be your friend.
Ben Graham was great for his pithy quotes. Along with the idea of Mr Market he noted that “in the short term the Market is a voting machine and that in the long term it is a weighing machine”.
This idea captures the importance of research and long-term fundamentals well.
In the short term, day to day, it is the balance of buyers and sellers, the mood of the market, the response to noise that determines whether a share price closes lower or higher. This is the world of recommendations from your friends, Reddit posts and rumours. As Graham puts it, it is the daily voting machine and the domain of Mr Market.
Over time this noise dissipates and long-term fundamentals dominate. This is the weighing machine. What is being weighed? It’s the true drivers of business value. Ultimately it is how profitable a firm is, and can become, and how much cashflow it generates. This is where careful research pays off. Does a company pay a healthy and growing dividend stream to its shareholders? What is its competitive position? Does it serve its customers well? Is management incentivised to grow shareholder value? Is it in a growing industry?
By focusing on these longer-term fundamentals we can start to use Mr Market as our ally. If a business has good long-term fundamentals but Mr Market is in an irrational, pessimistic mood putting those fundamentals on sale, it’s time to buy. If Mr Market is over-exuberant it might be time to sit on the sidelines and do nothing, a very powerful discipline in investing, the power of doing nothing!
Of course, it’s often easier said than done. There is a powerful drive for us as humans to get caught up in stories and to get caught up in Mr Market’s moods. Awareness is part of the cure but building systems to protect yourself as market mood changes is important.
A sound knowledge of the fundamentals helps and having a clear idea of what a business is worth is also useful as prices gyrate, but most important is managing our own emotions. Don’t buy a stock until you have done your own research (those Redditt recommendations might not have your best interests at heart), maybe wait for a day or two before you buy or sell to give your emotions time to settle if markets are volatile and genuinely adopt a long term mindset.
I have always found writing down why I am transacting helps to manage both my thoughts and feelings as well as providing a record that I can use later on to evaluate decisions. That really helps learning.
It takes a team to win. Financial coaching can help us become better investors. Part of that is from your KiwiSaver investment manager or from any managed funds you have. Your manager will share the why - the logic underpinning any changes they are making in your portfolio. This is a good source of information and learning.
Getting a good adviser can also be valuable. Here I think adopting a coach/player dynamic is useful. A good adviser will share their knowledge and provide a good sounding board, empowering you to become a better investor.