What a bummer. I was hoping the stock market would go up, but not this soon.
Having just finished Warren Buffett's 900-page biography "Snowball," the main recurring theme is the extent to which he made most of his money by buying stocks when they were down, in many cases, really down.
Early in his career, this investment strategy was referred to as "picking up cigar butts." Then, we learn the extent to which Buffett managed to fold his tent when stocks in general were overpriced. There have been times when his annual stockholders' letter bemoaned the fact that he saw no values out there. This would have been when the rest of us were basking in the euphoric glow of irrational exuberance.
Well, "this time it will be different," for me at least. I have kept on investing methodically in stock-oriented mutual funds right through the downturn. I like the fact that the 401(k) deposits I made on Feb. 28th and March 15th, for example, were settling into mutual funds that were reflecting values of General Electric at $6 a share and Citibank at about $1. Citi has since tripled in a few weeks and GE has almost doubled. Stocks like that explain why many 401(k) accounts gained about 20 percent in just two weeks' time.
Hopefully, this isn't the beginning of another great bull market. I want the opportunity to keep buying in at these fabulous prices so I can reduce the average cost of all the mutual fund shares I own. The longer share prices stay down, the more I get to feel like a like some Warren Buffett clone.
A rule of thumb, if the last five crashes mean anything, is that the first few weeks of a major market updraft are critical. They make up a large part of what has been an average 38 percent increase in the first 12 months following the bottom of a crash. We have just seen what can happen in two weeks' time for those who need a reminder.
For many reasons, the rebound this time around could be explosive and substantial. Unlike the '80s when interest rates and inflation were in the double digits, our current situation offers rates at 3-4 percent and inflation is in the negative.
We have unemployment figures that are rising, but some of this number reflects a record number of people who are leaving the workforce for retirement. Most companies were overstaffed (especially financial services firms) during the recent fat years. Going forward, companies still in business after this unpleasant economic experience will have undergone much profitable course correcting.
For one thing, their CEOs will probably not be paid as much, and this has the effect of lowering compensation expectations all the way down the management food chain.
It may take until 2013 before we actually reach the equivalent of 2007's peak, but what's magic about that number? In 2007, it represented the product of a 10 percent annual average return over a 20-year period, but we may not need that much going forward.
Stocks generally yield about 7 percent more than the rate of inflation, and inflation at an average of 3 percent contributes to that magic 10 percent. If inflation is next to nothing, we only need a 7 percent "risk premium" to meet inflation, adjusted retirement goals.
But here's where the Warren Buffett magic comes into play. If stocks (mutual funds) in our 401(k) plan remain at half their 2007 prices for about two years and then slowly start returning to "full price" by 2013, our annual 401(k) deposits will be investing in cheap stocks with a weighted average cost of about two thirds the 2013 recovery price. The difference between two thirds and full price is a 50 percent return.
Meanwhile, our original Sept. 30, 2007, account balance that we all remember so fondly will have returned to its original value, plus five years of reinvested dividends (about 4% per year) that we had completely forgotten about.
If the market snaps back, we'll feel better sooner, but let's be careful about what we wish for. After all, a little foot-dragging on the part of what Buffett calls "Mister Market" would make us a lot richer by the time we really need the money.