You’re The Only Sane Person In the Room

There is no such thing as unconflicted financial advice. Which should come as no surprise. Too many trillions of dollars are out there bidding for attention, and regulators never seem to catch up.

You already know about some of the obvious conflicts – somehow the SEC still lets mutual funds pay your advisor 12b-1 fees to ‘help’ his analysis (“Keep it fair! Keep it fair!”) – but something as unmanageable as career risk can make it hard for your advisor to follow sound independent analysis when that analysis conflicts with the market’s herd mentality.


Think of how difficult it was for investment advisors to raise cash in early 2008. Market PEs were ridiculously high, and the mortgage industry was already admitting that private debt levels were unsustainable – the market was saying “get out!” but most advisors were telling their clients to stay put. They were following a herd of their peers, and with good reason.

Think of who leads your advisor’s herd – thousands of fund managers, analysts and others who earn their livings from keeping investors in the game. No surprise that most were saying through most of 2008, “I don’t think the heavy stuff’s gonna come down for quite a while”. These herd leaders generate the core market information that investment advisors and journalists rely on. These conflicted folks are your advisors’ plausible deniability when the stuff hits the fan.

Your advisor would have risked serious damage to his career by bucking the happy herd in early 2008. Imagine if he had sold half your holdings and then the market had recovered: His clients wouldn’t have cared about the soundness of his analysis; they would have seen a guy who lost their money by ignoring benchmark financial institutions in favor of a hunch. They would have deserted him in droves. He could have lost his job and his home. So he probably raised faint objections to cover himself, and let the money ride. When the market tanked later in the year, at least he was in good company. He probably didn’t lose many clients, even from those who saw investment values drop by 25% or more.

If your advisor had told you to sell everything in early 2008 would look like a hero today, but for how long? People would remember his courage and prescience for maybe 18 months. He would attract more assets, make more money, but then he would be looking at the same risky decision again – follow the herd and be safe, or risk big on another unsupported recommendation. Eventually the odds will catch up to him.


Keep your advisor’s incentives in mind as the herd leaders start broadcasting their forecasts for a rapid market recovery. His difficult position is part of why Don Putnam says that, these days, “Clients are the only sane people in the room.”

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Brown Shoots

  • WSJ on 5/11 – The S&P 500 is priced at 14.7 times trailing 12-month earnings.
  • WSJ today – US consumers spent 0.4% (MTM) less in April.

With all due respect to David Swensen, nobody should be buying S&P index funds these days.

First, a 14.7 PE is over historical average. Second, trailing 12-month earnings should be stronger than forward 12-month earnings. Official unemployment numbers started with 5’s from April through June of 2008. When wallets snapped shut in October the official number was still only 6.5%. We’re over 8.5% now and still climbing. Credit is tighter. Europe and Asia are significantly weaker than they were last year.

And yet we have been reading for the past few weeks that the recession has hit bottom, or that we’ll see recovery by the end of 2009. Don’t believe it.

Every one of the experts quoted in major papers knows more than I do about markets and our economy. Unfortunately, they all really need markets to recover, a conflict which makes their advice nearly useless. They want you to put your money back into the market. They need the layoffs to stop and bonuses to resume. When they tell you they see good news, forget that they’re Phi Beta Kappa folks steeped in market history – see them instead as Dorothy, clicking her heels together and repeating, “There’s no place like home.” Only without the magic slippers.

US consumers were spending somewhere around 103% of their income when the credit markets fell apart. Worse than saving nothing for retirement or a rainy day, they were pulling cash out of their homes for jet-skis, iPods, vacations and boob jobs.

Compare this to 1970, when Americans saved over 8% of their income, before we had massive consumer debt (under water mortgages, credit cards maxed out to keep homes and cars, etc.) to work off. And then imagine that American consumers save not 8%, but 7% for the next few years. Their spending would go from 103% to 93% of income, a 10% swing.

This reasonable (even likely) scenario would knock 7% off the top of US GDP (since consumer spending has been around 70% of US GDP lately). It wouldn’t be just a temporary dip, something we could recover from in a year – it would be the new starting point for the US economy, over $1 trillion lower than 2007’s GDP.

Unemployment, debt and other write-offs only compound the problem. Maybe GDP drops by 10% temporarily, before resuming growth at 91-93% of its 2007 level.

In the Monty Python version a prone S&P 500 would say, “Not live yet!” There may be great deals in the rubble, but don’t buy the market right now.