Let me venture here far beyond my expertise or confidence in an effort to share my views on the gyrating financial markets. I’ll start by saying I have developed my career by building companies and not by predicting markets or selecting stocks. However, it seems we have seen this story unfold before, and it always seems to follow similar patterns which we forget in the madness of the moment. The patterns are:
- The market overreacts in both directions – driven by “irrational exuberance” or doom and gloom.
- These moods of course exacerbate the swings and have the potential to cause panic.
- The tide carries good companies down with the troubled ones, but of course it’s hard to recognize which are which when the tide moves so rapidly.
- As the scenarios unfold, few have the courage of their convictions to buck the trend, and this in itself accentuates the swings.
- The swings usually tend to last longer than anyone predicts.
- The value is ultimately realized as sanity returns and the markets adjust, usually regaining much of the lost ground, or giving up some of the great gain.
In my view the credit markets, buyout values, and stock market were due for adjustment. In fact a few months ago I was quoted in the Washington Post stating that the buyout values were unusually frothy and couldn’t last forever. Some private equity firms were borrowing nine times operating earnings on acquisitions (at Thayer our buyouts average only 3.4 times leverage) which means any bump in the road could sink a company and not allow it to pay its interest, let alone retire debt. Also multiples on real estate had risen to unfound heights (6 percent capitalization rates down from 9 or 10 just a few years ago – cap rates being the inverse of multiples).
So yes, a correction was in order, but not this tidal wave. It is at times like this that he most productive investments can be made. And yes, it does take courage of your convictions to cut against the grain and take the risk. My belief is that the preponderance of evidence suggests that this is a time to take risks!
- The economy is fundamentally sound. We enjoy continued GDP growth, low inflation, and low interest rates. Further, corporate profits continue to increase, even if at a more moderate rate.
- Major deals are still moving forward with some at more reasonable, reduced prices.
- There continues to be great liquidity around the world.
But, we all know the above. What gives me more confidence today are the actions of great institutions and individuals, to wit:
- Bank of America’s $2 billion investment in Countrywide has risk but in my view is one of the smartest investments in recent months.
- One of my closest friends and a true leader in real estate investing is Joe Robert, head of JER Companies. Joe saw the value of his JER Investment Trust (JRT) sink from a high of $18 to $9 or less. This company has no residential exposure and makes mortgage loans on commercial real estate, yet its stock was pounded along with other commercial mortgage REITS. What did Joe do? According to the Washington Post, he personally purchased $8 million of JRT stocks in the last several weeks.
In sum, don’t take my beliefs or take confidence in popular known trends. But do watch what the smart money does. It says, we have seen an overcorrection where solid companies have been punished, and there is opportunity for selective investing and lending.
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