From the time we learn to speak we are taught to tell the truth. The problem these days is that many companies (and countries) do not want to face and in many cases tell the truth. Why on earth would companies and governments want to be less than forthright? The answer is simply self-preservation. Investing is hard enough and it gets infinitely harder when dealing in half-truths and lies.
Examples
A few weeks back the Financial Times newspaper was reporting that the Chinese were reconsidering the Euro and European bonds as part of their long-term investment strategy. This “rumor” was quickly dismissed by the Chinese government. There is no way that the Chinese government would do anything other than dismiss this report. If the Chinese government were to admit they were reconsidering their investments (or future investments) their current European bond and currency holdings would lose value as everyone would rush to the exit. In a few months we can look at the numbers and will know the truth about China’s investment practices.
How do we know an exodus would happen if China were to say they were going to reconsider their investment in Europe? Last week the vice president of Hungary’s ruling party said that Hungary would be lucky to avoid a a Greek-style crisis. This admission of truth (which the vice president tried to backtrack on) sent shock waves around the globe and took markets for a steep drop. Keep in mind we are talking about Hungary not China.
So, companies and governments face a conflict of interests of either being forthright with the truth and living with the consequences or hiding until the last minute. Waiting until the last minute seems to not work out for investors. Lets look at some of the lies we have been told and how has it affected the markets:
- Bear Stearns and Lehman Brothers denied problems right up to the time they imploded
- Alan Greenspan (former Fed chief) repeatedly claimed there was no problem in the housing markets.
- Countless U.S. government officials on a regular basis. How many Senators denied there were problems with Fannie Mae and Freddie Mac.
- The Greek government for the last 10 years in regard to their debt situation.
- Enron – almost the entire time they were in business.
- Toyota – problems with cars were kept hush hush.
- BP – initial reports were that the leak was not serious or a threat to the coast.
Planning to be lied to
When building a portfolio we are told to diversify to minimize risks. The risks usually referenced are interest rate, currency, political, and single security to name a few. I believe we need to add liars risk. Consider how much damage is caused when lies are found out. So how do you plan for lies? The first step is to use ETFs. ETFs give exposure to a broad basket of companies versus buying one company. You could buy BHP Billiton mining companies stock or your could buy a mining ETF. With a materials ETF you get exposure to the industry you want without the risk of owning one company. Sure mutual funds and ETFs are both diversified but ETF trump mutual funds in that each day you know what you are holding, they are cheaper, and you can trade throughout the day which gives you more control of entry and exit points.
The second step is having a plan to limit your losses. I use the 50 and 200 day exponential moving average as points to look at holdings or in the case of the 200 day moving average as a point to trim holdings. Additionally, trailing stop losses are a good way to limit losses if you are not going to stay on top of your investments. With ETFs trailing stop losses are possible. With conventional mutual funds trailing stop losses are not possible.
Bottom line
In today’s world information travels so fast that an offhand comment across the world can rattle global markets. Living in this reality is causing companies, governments and people to be less than truthful. But, when the truth comes out the markets are not very kind. So, when you are considering your investments you must look through what is said and many times and look at actions or numbers.
