The October Pause That Refreshes

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Includes: AAPL, AMGN, AMZN, BIIB, BRK.B, CELG, GE, GILD, GOOGL, GS, INTC, JPM, M, MS, MSFT, REGN, SBUX, T, VRTX
by: Claudio Brocado
Summary

The much-awaited correction is finally here; the question is who will step up to the plate and will actually use it as a long-term buying opportunity.

A long-term investment horizon remains key. I have never been a trader, and do not intend to be. Through time horizon arbitrage, you can look through the cycle.

I expected a challenging 2018, and it is turning out to be so for most investors.

Nothing has changed to alter my long-held belief that the stock market is the best liquid way to create long-term wealth.

I would use the sell-off to make a long-term bet on U.S. blue chips.

Well, here it is! The much-awaited correction, which everybody has been awaiting to finally invest in U.S. equities. Guess what…it will be like it has almost always been (and definitely many times during this, still the most hated/distrusted stock bull market in my memory). Most investors will get too fearful to actually take advantage of the buying opportunities, and almost nobody will catch the proverbial bottom.

It is a fool’s errand to try to time markets and really buy at the bottom and sell at the top. Buy low and sell high is a great aspiration, but buy the absolute low and sell the absolute high, an impossible dream.

I wrote as part of my global asset allocation thoughts for 2018 that I expected this to be a challenging year. For most investors, it has indeed turned out to be so, and most professional fund managers are lagging the S&P 500 in the U.S.. I had been lucky in my personal account, and through the third quarter I was handily beating the S&P 500, which in turn was meaningfully outperforming global stock indices. Let’s see how the full year turns out!

I probably will not be publishing a top picks list for 2019, as I have gained more conviction in my past assertion that having a one-year outlook is fraught with risk of making a fool of oneself. One year is too short a time horizon; endpoint sensitivities result in trying to predict how December 31 of a particular year will close to resemble nothing but a gamble.

I remain 100% committed to the stocks I recommended among my 2018 top picks, intend to provide an end-of-year account, but strongly believe only a five-year result will tell the whole story. I have long advocated having a five-year-plus investment horizon for stocks. Again, nobody should invest even one cent in the equity market that they will need within five years.

As the title of this article indicates, I believe the ongoing sell-off is merely an increasingly-needed pause that refreshes. It is always good to shake off the weak holders. The current market action (like corrections always do) serves as a test for whether you have the stomach to endure the volatility of the stock market. Blue chip public equities will continue to provide one of the best and most liquid ways to create long-term wealth.

The stock market could not possibly provide the long-term wealth creation opportunity it offers, were it not accompanied by volatility (and thus, violent market sell-offs). Again, this is where the key concept of time horizon arbitrage comes in. It allows long-term oriented investors to take advantage of the buying opportunities provided by players in the market with shorter time horizons. So once more: nothing has changed to alter my long-term outlook.

I continue to see U.S. blue chip stocks increasingly becoming the new (relatively) safe haven, but only for investors with long-enough time horizons. Gold remains the ultimate, even longer-term store of real (inflation adjusted) value. The yellow metal, in my view, is neither an investment nor a commodity, but rather, a vehicle to preserve (not create) wealth even on an inter-generational basis.

A few words on cycles and the long-term upside

When asked to name one single tool in my arsenal that would best describe my competitive advantage in investing, I would traditionally come up with contrarianism. Again, if under a hypothetical scenario I had to give up all my investment tools but one, I would resort to keeping a contrarian attitude.

A recent recent slight shift in my thinking nowadays compels me to change my answer towards simply a long-term investment horizon. Thus, if asked to give up all aspects of investing but one, the one I would keep would be the ability to focus on the long term. That is definitely what has helped me most to succeed as an investor to this day.

If you are able to look through economic cycles, you can more easily be a contrarian. Perhaps more importantly, you meaningfully reduce your risk of a negative outcome from equity investing if the time horizon is long enough to benefit from the general rising trend of the market.

The shorter the time horizon, the higher the volatility of returns. For instance, if you ask me whether the market is going to be up or down from today’s levels a month from now, I have absolutely no idea. If you give me the luxury of a 20-year horizon, I can (with substantial confidence, though obviously no certainty) answer that it should be up, at least in nominal terms. There is empirical evidence for such a level of confidence.

A runner-up among the candidates for best single tool in my investment arsenal is the not-unrelated concept of low risk aversion/high threshold for the pain of unrealized losses. Nonetheless, this characteristic too is aided by a long-term investment horizon, thus resulting in me still deciding to name the latter as the most important determinant of my own investment success.

I have in the past used the cliché that ‘history doesn’t repeat itself but it rhymes’. I would now add that history does rhyme, but sort of at a “higher octave.” The lessons of history are indeed important, in my view. Thus, I have been devoting a lot more of my time lately to history books. What I continue to believe, however, is that the lessons of history should be also put in a contemporary context.

I feel too many pundits like to compare current circumstances to some past crises. Not a historical book per se, but one that I very much enjoyed reading recently is Big Debt Crises by Ray Dalio. In this work -- part of Mr. Dalio’s noble effort at this stage of his life to share much of what he has learned in his very successful life as broadly as possible -- Ray teaches us about the very clear patterns that do tend to recur in debt crises through the decades. All the above notwithstanding, one should also look at what is different in current events to what has been seen in previous crises.

Even Mr. Dalio does not say that we are currently at the cusp of another major debt crisis. He does talk a lot about cycles (the larger, secular ones and the smaller ones that take place within a larger cycle). I would add to that the following. The economy has its shorter cycles, which form part of a longer secular one, but in the context of a very long-term uptrend.

Thus, in the very long run economies, like the stock market, have a generally increasing trend. This is what I mean with a “higher octave.” Therefore, I would like to close this section in the midst of this October sell-off in global equities on a positive note. No matter what the setbacks, the future in the long run will always be better than it’s ever been.

Finally, some U.S. blue chips ideas to buy the new secular ‘safe haven’

As a final reminder, all of these recommendations have a five-year-plus investment horizon. I would stick with the names I have long been advocating. The following list is not necessarily all-inclusive, and there is likely to be some debate as to whether some of the individual stocks qualify as “blue chips,” a necessarily subjective denomination.

In no particular order, I would buy or continue to own (on an overweight basis, if you invest against an index): Apple (AAPL), Amgen (AMGN), Amazon (AMZN), Berkshire Hathaway (BRK.B), Alphabet (GOOGL), General Electric (GE), Gilead (GILD), Goldman Sachs (GS), Intel (INTC), Microsoft (MSFT), JPMorgan (JPM), Morgan Stanley (MS), Macy’s (M), Qualcomm (QCOMM), Starbucks (SBUX), AT&T (T), Regeneron (REGN), Biogen (BIIB), Celgene (CELG), and Vertex Pharmaceuticals (VRTX).

Disclosure: I am/we are long AAPL, AMGN, AMZN, BRK.B, GOOGL, GE, GILD, GS, INTC, MSFT, JPM, MS, M, QCOM, SBUX, T, REGN, BIIB, CELG, VRTX.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.