We want certainty in an uncertain world. We want to know the weather report, and what’s for dinner, and where we’ll spend our vacation, and how our stocks will perform. If given a guaranteed chance of receiving $100 or a 50% chance of receiving $200, most of us will opt for the certain payout of $100.[1]
This past Saturday Saudi Arabia’s Abqaiq oil processing facility was attacked. The world’s largest oil field can produce close to 10 million barrels of oil per day, and this attack could knock out 50% of the kingdom’s production.[2] Because of the attack, West Texas intermediate crude oil spiked 14%.[3] How do you plan for a strategic strike on the world’s largest oil exporter? You can’t.
In 2016 Dennis Gartman said oil would not trade above $44 “in my lifetime.”[4] Crude oil closed at $61.56 on Monday. He was certain in his prediction.
Last year, Jamie Dimon, the CEO of JP Morgan Chase & Co, predicted the 10-year U.S. Treasury would hit 5%. It currently yields 1.79%.[5] He’s now preparing for 0% interest rates. Mr. Dimon has his pulse on the economy as the CEO of the world’s second-largest bank, and if he can’t predict the direction of interest rates, let alone the level, who can?
I feel sorry for analyst and experts who are forced to give price targets or predictions because it’s an impossible task. However, investors and the media want answers. If an analyst provides a price target, they must know something we don’t. But they don’t. It’s an educated guess. It gives us a false sense of security because we want the assurance that somebody somewhere knows something.
I worked for Morgan Stanley for several years, and after Dean Witter merged with Morgan Stanley, I was talking to an analyst about stock research reports. He said institutional clients focus on the depth of the research while retail investors look to the price target. Retail investors are looking for certainty.
Certainty is safety. If you bought a U.S. T-Bill and held it to maturity, you would never lose money because they offer a guaranteed return. T-Bills have generated an average annual return of 2.3% for the past 15 years while inflation averaged 2%. Stock market returns are uncertain and not guaranteed. The S&P 500 has returned 6.8% annually for the past 15 years, despite a 56% drop during the Great Recession. Certainty and lower returns are linked.
How can you plan for certainty in an uncertain world? Here are a few suggestions.
- Financial Plan. Your plan will account for uncertainty, chaos, and disorder. The Monte Carlo simulation outlines several outcomes – some good, some bad. Money Guide Pro financial planning software will run 1,000 different scenarios to provide you with a range of possible results. John Maynard Keynes said, “I would rather be vaguely right than precisely wrong.” A Monte Carlo analysis will give ranges that will be vaguely right.
- Short-term bonds will give you predictability and liquidity. When the world erupts in bedlam, short-term bonds provide a high degree of safety. Bonds and stocks are inversely correlated, so when one rises, the other falls.
- A cash reserve will give you access to your money without having to sell your stocks when they are down and out. Cash levels vary depending on your situation. A recommended amount is three to six months’ worth of your household expenses. If you’re about to retire, I suggest holding three years’ worth of cash in a money market fund or investing in short-term bonds.
- A globally balanced portfolio will give you exposure to thousands of securities scattered around the world.
- Embrace uncertainty. Chaos and disruption allow you to purchase stocks and other risk assets at deep discounts. Buy low and sell high. When others are panic selling, you can buy great companies that should eventually rebound.
The only certainty is uncertainty.
“What you should learn when you make a mistake because you did not anticipate something is that the world is difficult to anticipate. That’s the correct lesson to learn from surprises: that the world is surprising.” ~ Danny Kahneman, Nobel Laurette – Economic Sciences (2002)
September 18, 2019
Bill Parrott, CFP®, CKA® is the President and CEO of Parrott Wealth Management located in Austin, Texas. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process so our clients can pursue a life of purpose. Our firm does not have an asset or fee minimum, and we work with anybody who needs financial help regardless of age, income, or asset level.
Note: Investments are not guaranteed and do involve risk. Your returns may differ than those posted in this blog. PWM is not a tax advisor, nor do we give tax advice. Please consult your tax advisor for items that are specific to your situation. Options involve risk and aren’t suitable for every investor.
[1] https://www.gsb.stanford.edu/insights/why-uncertainty-makes-us-less-likely-take-risks, by Dylan Walsh, June 1, 2017
[2] https://www.cnbc.com/2019/09/16/aramco-saudi-arabia-attacks-on-oil-supply-wipes-out-spare-capacity.html, by Huileng Tan, 9/15/2019
[3] https://www.cnbc.com/2019/09/15/dow-set-to-fall-on-fears-spiking-oil-will-slow-the-global-economy.html, By Fred Imbert, 9/15/2019
[4] https://finance.yahoo.com/news/dennis-gartman-best-contrarian-indicator-165610794.html, By Wayne Duggan, June 8, 2016
[5] https://www.marketwatch.com/story/jamie-dimon-warns-of-5-treasury-yields-but-sees-stock-run-lasting-a-few-more-years-2018-08-06, by Rachel Koning Beals