Investors' terrible timing

By Whitney Tilson

Tuesday, November 23, 2021
A A

In yesterday's e-mail, I argued that holding cash is a better hedge against a market downturn than buying puts, and disclosed that I'm holding around 20% cash in my personal account.

While this may appear quite high, for me, it's about average. I was more than 50% cash going into the market's pandemic crash early last year and then went to less than 10% at the bottom as I took advantage of the once-a-decade buying opportunities.

I didn't keep my views a secret: In my e-mail on March 23, 2020, the day the market bottomed, I wrote, "This is the best time to be an investor in more than a decade." And the next day, my colleague Enrique Abeyta and I hosted a two-hour webinar and sent Empire Investment Report subscribers a special update with our 10 favorite stocks, which are up an average of 125% since that date.

Here's a table with the details – the first five were our conservative picks (up an average of 80%), and the second five recommendations were our aggressive ones (up 170% on average):

Check out Empire Investment Report with a free, no-risk, 30-day trial by clicking here.

I've successfully identified numerous market tops and bottoms – and positioned my portfolio accordingly – going back to the peak of the Internet bubble in March 2000, thanks to a combination of analysis and my "spidey sense," honed by more than two decades of experience.

Unfortunately, most investors do exactly the wrong thing, piling into stocks at market peaks and then panicking and selling when it bottoms.

The financial consequences are disastrous. One study showed that from 1984 through 1995, the average stock mutual fund posted a yearly return of 12.3% (a 302% return for the total time period). But the average investor in a stock mutual fund earned only 6.3% annually (a 108% return for the total duration). In other words, over these 12 years, mutual fund investors would have made nearly three times as much money by simply buying and holding the average mutual fund.

At first glance, you might wonder how this is possible. Isn't it like saying the average airliner flies at 30,000 feet, yet the average passenger flies at 10,000 feet?

The answer, of course, is that investors aren't just invested in stocks – they shift their assets between equities, bonds, cash, real estate, and other assets.

The discrepancy between the 302% return of the average mutual fund and the 108% earned by the average mutual fund investor reflects the fact that investors, feeling optimistic, invested heavily when stocks were high, and did the opposite when markets had sold off and pessimism was rampant.

This self-destructive behavior happens mostly with stocks – much less so for bonds and real estate – because people get emotional about stocks: They watch financial television, listen to management and promoters, and get caught up in sexy growth stories.

The same study showed that over those 12 years, the average bond mutual fund returned 9.7% annually (204% in total), while the average investor in a bond fund earned 8% annually (152%). This much narrower gap reflects that investors, collectively, are more calm and rational when investing in bonds because they're easier to value and not as prone to being overhyped.

So what are investors doing today, with the market 1% away from its all-time high, twelve-and-half years into a long bull market, with speculation running rampant in numerous areas?

Chasing performance, as they've always done...

As you can see in this chart (courtesy of CNBC), Stocks are at a 70-year high as a share of household financial wealth:

And here's a chart my friend Doug Kass of Seabreeze Partners posted, showing that margin debt is at an all-time high and free cash balances are at an all-time low:

To be clear, I'm not calling it a market top. As I wrote yesterday, I'm very bullish on the economy, making me think this bull market still has room to run.

But it's getting long in the tooth, so I'm very happy to be holding quite a bit of cash right now...

Best regards,

Whitney

P.S. I welcome your feedback at [email protected].

Whitney Tilson
Get Whitney Tilson’s Daily delivered straight to your inbox.

About Whitney Tilson

Prior to creating Empire Financial Research, Whitney Tilson founded and ran Kase Capital Management, which managed three value-oriented hedge funds and two mutual funds. Starting out of his bedroom with only $1 million, Tilson grew assets under management to more than $200 million.

Tilson graduated magna cum laude from Harvard College with a bachelor's degree in government in 1989. After college, he helped Wendy Kopp launch Teach for America and then spent two years as a consultant at the Boston Consulting Group. He earned his MBA from Harvard Business School in 1994, where he graduated in the top 5% of his class and was named a Baker Scholar.

Click here for the full bio.