Mr. Market and the corona virus
In school, I was taught that the stock market is a discounting mechanism. Every moment, so the theory goes, thousands of investors carefully weigh potential risks and opportunities as they decide what a particular investment is worth. It’s as if the market were a giant computing machine rationally weighing the facts and coming to an objective conclusion. It’s a beautiful theory. Unfortunately, it’s wrong—especially in the short run. On any given day, the market can react in all sorts of emotional ways.
One of the best illustrations of the emotional nature of stock prices was given by the legendary investor Benjamin Graham. Graham was a pioneer in security analysis and portfolio management and was a celebrated professor of investments at Columbia University in New York. One of his students at Columbia was a young prodigy named Warren Buffett. Here’s an excerpt from Graham’s famous book, The Intelligent Investor. Read it slowly and carefully. It is full of powerful insight:
“Imagine that in some private business you own a small share that cost you $1,000. One of your partners, named Mr. Market, is very obliging indeed. Every day he tells you what he thinks your interest is worth and furthermore offers either to buy you out or to sell you an additional interest on that basis. Sometimes his idea of value appears plausible and justified by business developments and prospects as you know them. Often, on the other hand, Mr. Market lets his enthusiasm or his fears run away with him, and the value he proposes seems to you a little short of silly.
“If you are a prudent investor, will you let Mr. Market’s daily communication determine your view of the value of a $1,000 interest in the enterprise? Only in case you agree with him, or in case you want to trade with him. You may be happy to sell out to him when he quotes you a ridiculously high price, and equally happy to buy from him when his price is low. But the rest of the time you will be wiser to form your own ideas of the value of your holdings….
“The true investor is in that very position when he owns a listed common stock. He can take advantage of the daily market price or leave it alone, as dictated by his own judgment and inclination. …
“Basically, price fluctuations have only one significant meaning for the true investor. They provide him with an opportunity to buy wisely when prices fall sharply and to sell wisely when they advance a great deal. At other times he will do better if he forgets about the stock market and pays attention to his dividend returns and to the operating results of his companies.”
As I mentioned, Warren Buffett was one of Benjamin Graham’s students at Columbia. In the aftermath of the 1987 market crash, Buffett referred to Mr. Market in his annual letter to his Berkshire Hathaway shareholders. He wrote:
“Mr. Market is there to serve you, not to guide you. It is his pocketbook, not his wisdom, that you will find useful. If he shows up some day in a particularly foolish mood, you are free to either ignore him or to take advantage of him, but it will be disastrous if you fall under his influence.”
It is vital that investors remember this principle, especially when Mr. Market shows up on your doorstep in a very bad mood, coughing and wheezing from the corona virus. As the corona virus spreads and key sectors of the world economy slow, things will probably get worse and the market may drop further. But don’t worry. Mr. Market is a very resilient fellow. Eventually he will start to feel better and his mood will improve. For now, stay disciplined and don’t let Mr. Market’s bad mood undermine your confidence or your long-term investment strategy.
Steven C. Merrell MBA, CFP®, AIF® is a Partner at Monterey Private Wealth, Inc., an independent wealth management firm in Monterey. He welcomes questions you may have concerning investments, taxes, retirement, or estate planning. Send your questions to: Steve Merrell, 2340 Garden Road Suite 202, Monterey, CA 93940 or email them to firstname.lastname@example.org.