The Beginning of the End, or the End of the Beginning?


I primarily invest in the ASX market and there has been a lot of talk recently about whether we are in the early phases of a new bull run – or already at the peak.  Is the bull stomping its feet ready for a charge, or have the gains already been made?

I don’t pretend to have any special powers when it comes to predicting the swings of the market.  As a value investor my concern is more about how any gains will impact the ability to buy stocks cheap, or conversely if there is a decline coming, which companies could be about to go on sale.

Over the past 6-9 months I have noticed the difficulty of finding these diamonds in the rough (or cigar butts in the street) has increased.  In mid 2012 my investing partner and I reviewed all ASX listings with a market cap below 250m.  At the time it was relatively easy to find small caps with modest PEs, solid balance sheets, and growth potential.  Looking back on this same list today the ‘top 5%’ small caps we identified at the time have already increased an average of 28%.  The ASX 200 in the same time has also increased 21%.  No matter which way you look at it – the opportunities for a value investor are getting thinner on the ground.  It is enough to make some very astute investors consider sitting this one out.  The market after all is already up almost 60% from its 2009 lows.

ASX200 1999-2013

But having to put in more work to find undervalued stocks is quite different from moving completely to cash and battening down the hatches.

What gives pause to conservative investors is when it appears that the lunatics have overrun the asylum and the bull is about to jump out the window.  There are some signs that the ‘unsophisticated money’ is waking up and wanting a piece of the action:

This from the Wall Street Journal:

“Individual investors are doing more stock trading. Mutual-fund companies are seeing money being put to work in both stocks and bonds. Advisers say they are hearing from investors who had been hunkered down for years but now are feeling more comfortable that another big meltdown isn’t lurking around the corner.

That doesn’t mean greed has completely replaced fear. But as the worries that have dogged investors since the financial crisis finally begin to ease”

Or, put more directly here:

“This is when all the people who have been reluctant and hesitant to invest in the stock market start realizing this isn’t the New York City subway system,” said Birinyi, president of research and money management firm Birinyi Associates. “There’s not going to be another train coming so they better get on board.”

“When we see that everyone is bullish and is able to articulate it, we know the top is near,” said Birinyi. “People are positive, but not quite bullish yet. Wall Street is forecasting a gain of 8% or 9% this year, not 15% or 20%.”

Last week The Australian ran an article “Margin Lending Soars as Stocks Lift” that indicated the bull may be getting started.  Margin lending has is the past often been a coincident or slightly leading indicator of stock market performance.  So lets take a closer look at the current margin lending numbers to put them in perspective.  The Reserve Bank has helpfully kept quarterly figures on the level of margin lending activity in Australia since 1999.  Below we can see that the growth in the total margin lending amount closely mirrored the ASX increases that we saw in the chart above.  The first decline in margin lending in Q3 2007 could have given pause for thought.  But by March 2008 margin calls per thousand customers per day had more than quadrupled, while the total amount of margin lending had fallen by $6bn AUD from one quarter to the next.

Margin Lending Australia v1

In this context the December quarter does not look so precarious.  To be fair, the article in The Australian is talking about activity in the new year, and we won’t see the quarterly numbers for a while.  But if margin lending volume is a somewhat reliable proxy for market sentiment then it does not appear that we are facing a feverish market place just yet.

If we should, as Warren Buffett says, “Be greedy when others are fearful and fearful when others are greedy” then perhaps right now a slightly understated version is apt.  Be brave when others are cautious, and cautious when others are brave.

As usual, we should let the best opportunities decide when and where to invest.  A disciplined value investor will naturally be less exposed to an overvalued market as less opportunities are found.  On the other hand, if you find an investment that is already excellent value, waiting a couple of weeks or months ‘until the market falls’ to purchase is a dangerous game.  You may soon find that the march of progress has left you behind.


One thought on “The Beginning of the End, or the End of the Beginning?

  1. Pingback: ASX Margin Lending Update | SoloThink

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