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120 E Constitution St
Victoria, TX 77901

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What The Stock Market Offers

As we sat down for our quarterly endowment meeting Gary said, “Dave, give us some good news. The beginning of the year has not been kind to us.” Albert added he was ready for their companies to return to profitability.

Albert’s statement was an interesting one. Albert, along with many investors, are under the impression that since the price of their stock portfolio had declined that the companies, themselves, were not earning money.

In reviewing their portfolio, they quickly saw their holdings were producing positive earnings and, just as importantly, dividend income was providing significant cash flow to fund gifts.

As this was explained to the board, Albert quizzically asked, “If the companies we own are earning positive money, why are they down?”

It is a great question.

Although the stock market is credited with many things, don’t give the Wall Street gang too much credit. Their job is to offer liquidity—not fair or logical pricing.

Once you recognize this, you will sleep much better at night and take a large step toward achieving long-term goals.

Stock markets do not offer a valuation service. They do not go out and methodically evaluate assets such as buildings, factories, equipment, technology or intellectual property. They do not evaluate the sales or earning ability of a business over a long period of time.

Instead, they give an indication as to what a given business can be sold for at that exact moment. This liquidity mechanism is not much different than the local livestock auction, auto auction or eBay. It is simply a place to buy or sell. That does not mean it is a good place to obtain an informed business appraisal.

Complicating matters, occasionally the markets get lopsided. As with any supply and demand equation, if there are too many sellers at once, the price to sell at that exact minute will drop.

The drop may be because the true earning power of a company has declined. Or, it could be due to flawed and emotional human-beings making “fast” decisions as opposed to prudent, logical or well-informed decisions.

Computerized trading has made the situation worse. Computers trade rapidly causing markets to swing at the drop of a hat. According to Nasdaq CFO Lee Shavel more than 90% of trading volume is computer-driven. However, the computers are still programmed by humans and therefore prone to human error.

Additionally, there is a built-in conflict of interest. The more trading volumes increase, the more the stock markets, investment banks and brokerages make. As such, they love high volume.

If you are intent on trading in and out of the market, good luck. We can’t do it and are up-front with our clients about this. No one else has shown the ability to consistently trade in and out. Furthermore, increased trading increases commissions and taxes which reduces returns. Just because someone makes a fast decision says nothing about how well informed that decision is.

Understanding this, the liquidity offered by the stock market continues to deliver a bumpy ride. Over the past 36 years, the stock market falls by more than 14% intra-year, on average. This is a result of people seeking immediate liquidity—not because the ability of business has truly been impaired.

Knowing this, does anyone honestly think the owners of HEB, Buc-ee’s or Academy would randomly react to a 14% decline in the stock market and dump their prized businesses each year? It is completely illogical for a long-term business owner to accept these terms. Instead, they turn off the news and get back to what creates value—selling goods and services and taking care of customers.

As we finished our endowment meeting it was a good discussion on knowing what the stock market offers. Furthermore, it was important to emphasize that success comes from investing over long time frames—decades. The wise investor maintains this focus which also eliminates the need to seek liquidity at “fire-sale” prices.

Dave Sather is a Victoria certified financial planner and owner of Sather Financial Group. His column, Money Matters, publishes every other week.

Originally published January 29 2016, Victoria Advocate