Jeet kune do investing (III) vs. conventional investing

I revealed offline to Mich at Beating the Index how much my portfolio (87%) is weighted towards oil and gas stocks, and only C.J.’s (my wife’s) defined contribution plan is in a balance fund.  He wrote:  “Your portfolio is high risk indeed! I imagined you would have some bonds and more utilities, you surprised me really …”  So I even managed to surprise another junior oil investor with my portfolio.

But let’s consider that conventional styles of investing are too rigid.  They present stereotypical strategies for conventional times.   If Bruce Lee had been a financial advisor, he would have advised his clients to adapt fluidly to the market–to anticipate the market’s moves and to respond in a way suited to each individual.  There are no recommended trades, for each investor is unique, with a unique set of risk tolerances, liquidity and investment goals.

I am an inflationista.  There is no doubt in my mind that Bernanke is creating money faster than the credit bubble is deflating; nor do I have any doubt anymore that the Bernanke Put is for real: no matter how fast credit deflates, Bernanke promises to pump it back up with fiat money.  Now the Bank of Canada wants to create inflation, albeit only 2%, but that they also want desperately  to keep the loonie on par with the greenback; and with these two strategies, governor Mark J. Carney will not be able to control run away inflation in Canada.  Indeed, one could argue that the Canadian housing market has already run away from him.   So now I have been investing for the last two years believing that hyperinflation is our opponent, and my jeet kune do moves must adequately anticipate and respond to that reality.

Consider these conventional strategies and how they cannot possibly succeed in time of hyperinflation:

(1) Get out of debt; (2) maintain a balance portfolio; (3) diversify your portfolio; (4) Subtract your age from 100 and this is the percentage of stocks vs. fixed income; (5) Real estate is always a great investment.

(1) Get out of debt.

Debt is always very bad if it is high interest consumer debt (credit cards, lines of credit). But for many people their mortgage is their best protection against hyperinflation–the currency can lose value much faster than you pay off the debt or interest rates can go up.  Creditors lose in inflationary times, and so it stands to reason that debtors can win, provided that their debt is not spent on frivolous consumer goods.

(2) Maintain a balanced portfolio.

A balanced portfolio puts the emphasis on having stocks for growth and fixed income for safety.  But it is questionable whether stocks in general are a good hedge against inflation.   Warren Buffet wrote an article during the height of the last great inflationary period (1977, Fortune Magazine):  “How inflation swindles the equity investor“.  Fixed income investments are a disaster during hyperinflation, especially today, with the rate of return being so pathetic due to artificially low interest rates.

(3) Diversify your portfolio.

I am not sure that this strategy works in conventional times, supposing that such times ever exist.  Diversification is not the same as not putting all your eggs in one basket.  My portfolio includes debt, real estate, oil and gas, and gold mining companies.  But it doesn’t include anything in aviation because my C.J.’s business is in aviation maintenance.  So you won’t see me investing in Bombardier, Boeing, Air Canada or West Jet, because if one company goes down, it can have a domino effect on the entire industry.  That’s not putting all your eggs in one basket.  But those who advocate diversification suggest that the investor either own an index fund or diversified mutual fund, or a roughly equal number of stocks in each of the major sectors of the economy.  I am pretty sure this will only lead to pretty mediocre results.  I’ve noticed over the years that most investor billionaires are barely diversified, but have made their money in highly concentrated moves:  for example, Warren Buffet is mainly an insurance guy.  John Paulsen shorted sub-prime mortgages then bought gold.  Sometimes it is better to get to know one or two industries really well, and stick to what you know.

(4) Subtract your age from 100 and this is the percentage of stocks vs. fixed income.

This bit of conventional wisdom has cost people a lot of money.  The last two years has provided pathetic yield on fixed income and meanwhile we’ve been in a great bull market.  Hyperinflation is going to wipe out whatever seniors have left and they’ll be saying a final “good bye” to their wealth.  The reason why this strategy is wrong is it has an imaginary understanding of what is a high risk investment.  Stocks are considered high risk and fixed income, low risk.  But in hyperinflation, there is nothing more certain to destroy a portfolio than fixed income investments.

(5) Real estate is always a great investment.

The sub-prime mortgage crisis has done much to destroy this myth.  For me, real estate has been a wash in the last two years.  The rental house we bought is up $70,000; but the commercial building in Texas which I bought with my brother has zero equity, is not breaking even, and $70,000 of my initial investment is basically a write-off.  But many people think that real estate will maintain its value in a time of hyperinflation. Gonzalo Lira trounces that myth in an article demonstrating that during hyperinflation the high interest rates and the unwillingness of creditors to lend out a rapidly devalued currency, destroys real estate prices.

Meanwhile, as of this moment, my concentrated jeet kune do portfolio is 86% above book.  Commodities go up during hyperinflation; so my stocks are nearly all in Canadian commodity companies (oil and gas, gold, and sugar).

5 thoughts on “Jeet kune do investing (III) vs. conventional investing

  1. PW, I agree with all your points, except a minor quibble on real estate. We invested last year in a rural property (house + outbuildings on 9 acres), which I expect will hold its value fairly well. As for the rest, I’m not much for index funds, don’t have any bond funds, don’t have any debt except for a mortage and a modest 401k loan, and don’t believe in the conventional wisdom on diversification. To me, diversification is having 50 mining, oil and gas companies… 🙂

    • Centavos, we bought our house in July, 1997, at the nadir of the Toronto area real estate market. Prices had been going down here for about 10-15 years. But then prices starting going up and by 2010 the value of our house had doubled. Real estate can be a good investment, but it is not always a good investment. Gonzalo Lira’s strong point is having lived through hyperinflation, he can speak about what is likely to happen, and that mortgage rates will skyrocket which will force asset prices down.

      I agree with having several different companies in the same sector. That protects you from the potential BreX or Nortel. Some Nortel employees that I heard of lost their job, and their savings consisted almost entirely of Nortel shares. That was great when it was at $124 but not so good when it dropped below a dollar.

      As for your rural property, you must either live in it, and pay no rent or mortgage elsewhere, or rent it out and create sufficient cash flow to pay the mortgage interest, property tax, upkeep and insurance, otherwise it is an expensive liability. If you can grow food on your 9 acres, well, you have the best weapon against inflation: every inflation that I’ve ever read about has had hyperinflated food prices: sack of potatoes for a grand piano type prices, where nearly 100% of income is used just to stave of starvation.

    • “don’t have any debt except for a mortage and a modest 401k loan” – the mortgage should be sufficient. Usually mortgages are pretty high percentage of net worth, especially of young people. I’m not saying go out and get debt, but merely that a controlled amount of debt may be a great hedge against inflation, provided the investor has no trouble making the payments.

  2. “As for your rural property, you must either live in it” No, it’s only a weekend and vacation place
    “pay no rent or mortgage elsewhere” no, i have a mortgage in town
    “rent it out and create sufficient cash flow to pay the mortgage interest, property tax, upkeep and insurance, otherwise it is an expensive liability.” Nixed again. The property was “cash” deal, partly financed with a 401k loan which will be paid off in couple years. Property taxes and insurance are minimal. We bought it under market, even with the small renovations we’re still OK as far as value goes.
    The property produces only hay and some fruit from the peach and plum trees – at least for now. Eventually, if we move there, there will be more fruit and nut trees that I’ll have planted.

    • Centavos:
      First, thanks for your appreciation of my article and this interaction. I think your property is a great idea; I’d love to have similar property–we bought the house next door and called it our “cottage” but obviously it’s no a get away. Besides, you’ll be able to sell one of your CDN mining companies after its gone up to pay for it in toto. As long as you enjoy it, then you’re doing just fine. Besides, some people are saying now is a good time to buy real estate: Did you see this article?

      C.J. and I have thought also of buying a vacation get away in the Caribbean. But Jonathan Chevreau and Garry Marr at the Financial Post did articles on this subject in September 2010 with which I largely agree: In the end, I think we should invest in what we know, CDN resources, and use the profits to rent vacation homes. Cheers.

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s