By LEWIS JOHNSON – Co-Chief Investment Officer | April 6, 2016 Frequent readers have come to expect that each edition of our research publication, “Trends and Tail Risks,” is invariably filled with how we think about the markets. This typically includes our views on the markets, the opportunities as we see them, and tools to invest and overcome the challenges we foresee.
Today’s edition is different. Today I explain the why that lies behind the how – why I chose the field of investment, what drives me to improve my craft, and why my focus always begins with preservation of capital. Sometimes in the flurry of hectic and volatile markets it’s easy to lose sight of first principles, but frankly, those are the times during which they are most needed.
My father was killed in a car accident on April 26, 1988. My father left for the gym every day in the dark of the early morning. One morning, during an unusually deep fog that shrouded the highway that spring morning in Alabama, he ran into the back of a large truck hauling sand that was sitting on the side of the road. The state trooper that came to my family’s house, hat in hand, to give us the news told me that it was quick. I walked the trooper to his car, shook his hand, and told him that my mother and I would be fine. It was important to me that he not leave thinking his news had crushed us. I knew we would survive. Still though, the course of my life and my mother’s changed that day.
I would learn later that day that my father had planned ahead for us. Proceeds from his life insurance were substantial. There was even enough for me to go onto college and complete my education. I had just been admitted into Emory University, an expensive school even then. A frequent topic of my conversations with my father had been his worry about how we could pay for college. I was for forging ahead and finding a way to make it work, a youthful aspiration he supported, but still, the worry of the expense laid heavy upon him. He was a worrier. He had wanted to do more. His death, of course, changed all that, and literally paid my way through college. I would have preferred to keep my father and do without the education, but that choice was not up to me.
My mother and I were fortunate at this time to have a trusted family friend as an investment advisor. He took up the management of my father’s insurance money. He invested it wisely. I, a dedicated student for obvious reasons, was able to graduate from Emory with no debt. My mother got to keep the family home and even had enough left over to pay for a trip, every now and then, to Paris. We were lucky to have the luxury of mourning without poverty. Many are not as fortunate. We focused on the jobs at hand and, day after day, the burden of loss became more manageable. The earth kept turning. Time did what it always does: it moved on.
Enter Wharton: Formal Investment Education Begins
After six years in the workforce, I was thrilled to gain admission into the MBA program of the Wharton School of Business at the University of Pennsylvania. Investing had become my hobby and Wharton was the means of making that hobby my profession. The idea of making a difference to a family, in the very real way that my mother’s advisor had made to my own family, was never far from my thoughts.
At Wharton, I would not only learn the tools of the trade but also get in front of employers who could help me land a job in the intensely competitive world of investment management. Nationwide there were really only about forty openings per year at what we considered to be the handful of premier investment institutions of the day. Only at a school like Wharton could I get in front of these companies where I could best perfect the craft of investing and learn from the best and brightest in the industry.
In the summer of 1999, I was fortunate to be one of two MBA students nationwide to land an internship at Capital Research and Management, the investment advisory company that now manages $1.4 trillion behind the American Funds and its associated managers. Capital was founded in 1932 and has an exceptional long term track record. It was literally a life-changing opportunity for me.
I must have worked a hundred hours per week that summer on the 54th floor in downtown Los Angeles where Capital is headquartered. My learning curve was exponential – starting from what was admittedly a low base. The good people at Capital made every resource available to me. I traveled the country, questioning CEOs about their business strategies and CFOs about their financials. My experience solidified my confidence that investment management would be my calling. I will always be grateful to Capital for giving me my first break into the investment management business.
The Internet Boom – and Subsequent Crash
As 1999 was drawing to a close, I was back at Wharton for my second year. There was a lot to be worried about in the markets. At least I was worried. The technology heavy NASDAQ was going parabolic, trading at valuations that had never been seen before, driven by blind faith in the internet revolution. People were throwing caution to the wind. Making money in the markets seemed easy. I argued endlessly with many of my classmates about how unsustainable the markets were becoming, and how dangerous. Few listened in the heady excitement of the day.
The last day of the millennium brought a full-time offer from T. Rowe Price, now the manager of $763 billion. I was excited about the opportunity to learn and our new home on the Chesapeake Bay, on the Eastern Shore of Maryland. My time at Wharton had been well-spent. I finally had the opportunity for which I had fought for so long. I was a long way from Montgomery. I was ready.
The once heady tech sector began to crash in 2000 and kept on crashing for the next two years. The “good” tech stocks fell 85%. The worst went to zero – a lot of them. It was an incredible financial disaster for many unsuspecting investors. Thankfully, T. Rowe had been a faithful steward for its clients and therefore safeguarded investors’ wealth through these treacherous times. Again I was surrounded by great people and unbounded resources. Again my learning was exponential, this time albeit starting from a higher base of knowledge.
The Why of Investing
One day stands out in my mind about the why of investing. It brings into sharp focus what this job is really about. I returned home in 2002 after a long day’s work to find our neighbor, a widow, crying at the beach next to our house on the Chesapeake Bay. She has since passed away, so I don’t mind telling the story.
Her situation was not that different from that of my mother. She and her husband had bought their dream home on the shores of the Chesapeake and looked forward to a happy retirement. Her husband died suddenly and unexpectedly. Like my father, he had the foresight to provide for her through his life insurance. Catastrophe was averted, or so she thought. That’s where the similarities with my mother ended.
My widowed neighbor was crying on the beach, staring over the water, clutching a piece of paper. I asked her what was wrong, and she showed me the paper. It was her brokerage statement. Her financial advisor had thoughtlessly invested her husband’s life insurance money in internet stocks. With losses of 90%, she was ruined.
We, and all of our neighbors, did what we could for her over time. She coped as best she could. To save money she shut off her air conditioning and slept with the windows open. She ate a lot of peanut butter and jelly sandwiches. Her house fell slowly into disrepair. Her social world shrank, despite the support from her neighbors. Still though, she fought hard and found a way to keep the house. A determined lady, she lost her fight with cancer several years ago. I think about her often, and the financial advisor whose thoughtlessness had stolen her peace and nearly bankrupted her.
By what narrow margin my mother avoided my neighbor’s fate I will never know. Surely it was less than I would comfortably contemplate. The only difference was that my mother had a competent advisor who cared enough about her to have the dedication and skill to safely invest her money.
I wanted to share this personal story because it helps to explain what must be obvious by now to long-term readers: that I strive to be the voice of caution. I worry – a lot. My first goal is preservation of capital. This is why.
The tools that we use to achieve this goal are the selection of individual securities and our willingness to change our asset allocation to reflect our views about where we are in the cycle. Once we are satisfied that we have controlled the risks that we take, we try to insure that we are taking those risks at the appropriate time. Exactly what those risks are will change over time as different opportunities present themselves. Change is part of the nature of cycles. This is why we invest opportunistically across the globe and across asset classes.
In a surging and dangerous market our focus on safety may lead us to underperform for a while in the waning days of the boom. I am fine with that. Our commitment to ourselves is to deliver performance when people need it most, when the markets are troubled, and we believe that wealth may be facing great risk.
This is the why behind the how. Investing is not a game. It’s true that investing is about numbers, but much more importantly than that, investing is first and foremost about people. Real people, like my widowed mother or my widowed neighbor, whose money is hard fought, money that – invested poorly – can be a source of untold sorrow, but invested wisely – can literally make dreams come true or at least provide some comfort from the storm: a welcome bit of protection in a time of crushing personal loss, an education for a son who had lost his father, and a cherished family home to keep.
This is why we study the markets and why we use these pages to explain the tools we use and the risks we have identified. So, if sometimes, I seem to focus on the things that could go wrong and worry even when the sky seems clear and blue, I hope that you will now understand where I am coming from and understand my sense of purpose and mission – to keep our clients safe.