The world moves in cycles: sports teams go through tough periods, relationships have their ups and downs and of course economies and companies have their boom and bust periods. We cannot deny the cyclical nature of markets, companies and economies, with the 2008/09 global financial crisis being such an example. However, we also have to caution against cognitive bias whereby the brain likes to ‘see’ patterns where none may exist.
Further, cycles are easy to spot in hindsight, but a whole lot harder to call when we’re living them. The 2008/09 crisis is now a no-brainer to spot and even in the lead-up to it, some were forecasting a global crisis, but timing is always the hard part. An even larger number of analysts had been forecasting disaster since just after the dot-com bust in 2000/01.
It was with this in mind that I did some research on something called the Kress Cycles that a reader had asked about. Formulated by Samuel Kress, of the SineScope advisory, this series of cycles starts with a giant 120year cycle, which is then broken down into shorter 60-, 40-, 24-, 12- and six-year cycles. Using these self-named Kress Cycles, his prediction is an expected bottoming-out in 2014, with the result being potential wars and massive economic depression. The questions are simple, is he right and should we be concerned? My answer is equally simple: he may be right, but a 120-year cycle is not something I am going to put much stock in and I am certainly not going to base any investment decisions on a 120year cycle even if it is broken down into smaller more manageable periods.
The bigger picture is that there is always somebody (in fact numerous somebodies) with a theory that makes for compelling reading and sometimes they may even be right, but how do we spot those who’ll be right versus those who will be horribly wrong, in advance? My method is to always keep it simple − the more complex a theory, the less likely it is to be accurate, as complexity can hide realities but also offers far too many areas for error. That said, things are looking rough for emerging markets right now, but we don’t need a 120-year cycle to tell us that.
Staying with cycles, one of the lessons that I have learnt in investing is to largely stay away from cyclical stocks – the construction sector is an excellent example. The very nature of construction is boom and bust and right now we’re in the bust phase. Will it change and revert back to a boom? You bet it will – but when? Taking the cyclical nature of the sector into consideration, I bought construction stocks in 2010, figuring that we had to see the cycle turn up sooner or later. I have long since sold my construction stocks for pretty much the price that they still trade at and when the cyclical turns, I will watch from the more comfortable sidelines because the other problem is that we forget to sell when the cycle gets all frothy.
Back in 2007 when construction stocks were all booming and Murray & Roberts was trading above R100 and on a historic P/E of over 30 times, nobody was warning of the impending bust, which for a cyclical sector, had to be coming. That is the problem − shareholders get caught up in the hype and don’t actually exit at the top. This results in badly-timed entries and even worse-timed exits interspersed with long periods of nothing resulting in sub-par returns over the cycle. So I avoid those and instead invest predominantly into non-cyclical stocks. That said, everything does move in cycles; but financial stocks, retailers and the like tend to have weaker booms and busts, hence producing smoother superior returns. Simon Brown heads justonelap.com, a free resource of financial information and investment education.