Stockerblog: A timely topic is volatility. In your book, Markets Never Forget, you dedicate a whole chapter to volatility and why volatility isn't necessarily bad. You also discuss volatility in Chapter 4 of your Three Questions book, saying that short-term volatility has nothing to do with long-term returns. So is volatility irrelevant in terms of which stock or sector to invest in?
Fisher: I think volatility is completely misunderstood by the world, and is largely irrelevant, in that, first, the way people tend to thing is when stocks are up it's good and when it's down it's volatile. They don't get the notion that upside volatility and downside volatility are just flipsides of the same coin, duel edge of a knife, however you want to view it. You don't have stocks that go up a lot unless you have volatility. People just like one kind of volatility and they don't think of the other kind as volatility.
The other point that I make quite abundantly in my Markets Never Forget book, which is not so much in The Only Three Questions , is that the way the human memory works is terrible when it comes to investing is normal motifs that you can read over and over again in journalism is that volatility is more than it used to be, worse than it used to be, there's something afoot that's making markets more volatile than they used to be.
Today as we speak, they wouldn't think we are at all time highs in volatility but they think that 2008 and 2009 saw all time highs in volatility. Which is all just nonsense. The fact is, volatility has bounced around for a really long time and the volatility of recent years is not outside the bandwidth of historic volatility that's been reached many times before. In Markets Never Forget, I go through that at some length in several different ways, but the fact of the matter is, the human brain doesn't think that way. The human brain thinks in terms of a recency effect and recent volatility is thought to be more.
This leads people to conclusions, because they don't like volatility, where the presence of volatility tend to make people more bearish and tends to make them miss out on opportunities. They would be better off if they embraced volatility as something necessary for success and that when the markets fall with volatility, not to take it so hard. People just don't simple like declining prices because people have, again what behaviorists define as myopic loss aversion, which is a much bigger hatred for downside volatility than they have love for upside volatility.
Stockerblog: Can you comment on the Facebook IPO?
Fisher: There is one thing about it that nobody has talked about, but other than that one thing, the Facebook offering is archetypal. IPO's on balance lose money, most of them lose money immediately. The history of IPO's has been disastrous overwhelmingly with a small percentage that have paid off and as I wrote in my book, The The Wall Street Waltz, twenty five years ago, IPO should stand for I, It's, P, Probably, O, Overpriced.
The only thing new about the Facebook offering as near as I can tell is that the total market cap was bigger on an inflation-adjusted basis. Other than that, I don't really see a difference here.
Hundreds of IPO's lose money almost immediately. This is a part where people don't remember correctly. IPO's were covered in my Markets Never Forget book and my Three Questions book, as not good things to invest in. The fact is, the IPO is always priced for the issuer, not priced for the buyer. If you went through the long-term history and sprinkled your money out among IPOs, you end up losing money. Not every single time, maybe a third of them pay off, maybe twenty five percent pay off, but much more than half of them lose money. There's nothing different here.
Typically, markets are supposed to be discounters of all known information. What is there about Facebook that any buyer thought they possibly knew that any other person, other than humans in the upper Amazon basin rapidly fleeing humanity, didn't already know.
Why is it that a buyer of Facebook IPO is getting in on a moneymaking deal? What part of finance is that consistent with? None.
Stockerblog: Chapter 6 of your Three Questions book, you discuss pretty thoroughly how government debts and deficits lead to good stock returns, and you did discuss a little about corporate debt. If you look at two stocks, one stock with a lot of debt, another has no debt, does that make a difference to you or not?
That by itself doesn't mean anything. The question is how well the company is able to cover its debt that it has based on its gross operating earnings. Modigliani won a Noble prize in the 1950's demonstrating that, but nobody has ever paid much attention to it, but it is true.
The way the normal human reacts is to react negatively to the increased debt relative to the ability to cover the debt and operating earnings, there should be no difference whatsoever. That's been known and proved for a very long time and yet humans never ever get that.
Stockerblog: In your The Only Three Questions That Still Count , you talk a lot about the P/E ratio and how it is far less useful in analyzing a stock now, and you debunked the theory that the low P/E stocks are better than the high P/E stocks. In your first books, you came up with the price sales ratio, that has become less useful but still useful for comparison purposes. Are there any new ratios that you have come up with that you look at that you would be willing to share?
Fisher: No, there's nothing that I've come up with. I'm an old guy and old guys don't come up with new things. Young people come up with new things. The answer is no, not at all. I have kind of come to the view as time has rolled on that, simply said, valuations sometimes work and also often don't when you think of the issue of something like low P/E. Low P/E stocks do well when all of value does well and low P/E stocks do badly when all value stocks do badly. The way most people think is that they like value stocks or they like growth stocks, or they like this or they like that, and they think it's better for all time, and they run into a long period of under-performance which changes their mind. But low P/E stocks on the one hand, do really well when value does well, although not as well when value does well as the profitless low price sales ratio companies.
The time when value typically does best, and this is typical, not all of the time, but throughout history, the real underpinnings of value are the first third of a bull market in time. The last two thirds of a bull market in time are typically led by growth. So what ends up happening is that if you take out that bounce off the bottom in the beginning of bull markets, the rest of long history growth looks better than value, and with some few exceptions, low P/E stocks don't do so well.
Low P/E stocks are a marvelous thing and low valuation stocks are a marvelous thing when you're bouncing off the bottom of a bear market into the beginnings of a bull market. The scary part about that is if you knew you were there, you would make money all kinds of ways. If you can figure out precisely when the beginning of a bull market is, you don't need low valuations, or this or that, to lever yourself to make more money.
The reason that low valuation stocks typically do well coming off bear markets into bull markets is the tremendous pessimism. Value stocks are typically thought of as lower quality than growth stocks. A Proctor and Gamble is thought of as a higher quality stock than let's say a Dow Chemical. That’s because it is less economically sensitive than the Dow Chemical would be, and so in a bad bear market, as people are afraid that the economy is going to hell in a handbasket, and will never get better, the more economically sensitive things, which are already cheaper, get beaten down even further and then when the world doesn't really do that terribly, maybe badly but not that terribly, they've been oversold and they bounce back more.
So it's those economically sensitive low P/E stocks that get that initial bounce, people like that, at that point in time, but then later, as you move into the later stages of bull markets and people start thinking about the long term and holding stocks for a really long time, they stop wanting those economically sensitive things and they want things that can grow regardless of economic sensitivity and move more towards growth stocks. Maybe not high growth stocks at extreme high rates, but more of a perception of quality, something I could buy and put away for five years when I go to a desert island.
Stockerblog: You mentioned in the same book that you would rather be a little early than a little late as you would miss the upside when the recovery in the market takes place.
Fisher: Yes, the standard line that you hear a lot in bear market type environments, and sometimes other types, is I want to wait for things to be more clear. Things are never more clear.
Stay tuned for Part 2 of the interview.
The books of Ken Fisher are available at Amazon.com.
Neither Stockerblog nor the interviewer nor the interviewee are rendering tax, legal, or investment advice in this interview. All opinions are those of Ken Fisher, and do not represent the opinions of Stockerblog.com or the interviewer.